2012 (7) TMI 326 - AT - Income Tax

Addition - expenditure incurred on interest paid to specified persons alleged that assessee has diverted interest bearing loans in interest free advances/loans Held that - Where the assessee possessed sufficient interest free funds of its own then a presumption stands that the investment in sister concern were made by the assessee out of interest free funds and therefore no part of interest on borrowing can be disallowed on the ground that investments were made out of interest bearing funds - appeal filed by the revenue is dismissed

Issues:
1. Disallowance of expenditure on interest paid to specified persons.
2. Failure to establish nexus between interest bearing borrowings and interest free advances/loans.
3. Adequacy of interest free funds to give interest free loans.

Issue 1: Disallowance of expenditure on interest paid to specified persons:
The revenue appealed against the order of Ld CIT(A) granting relief of Rs. 19,00,505/- out of expenditure incurred on interest paid to specified persons under Section 40A(2)(b) of the Act. The Assessing Officer added back the interest amount paid to the specified persons as the assessee had not charged any interest on loans given to other family members or sister concerns. The Ld CIT(A) deleted the addition after considering the submissions of the assessee, stating that the interest payment did not relate to fresh loans but to interest-bearing loans from earlier years. The CIT(A) emphasized the need for the Assessing Officer to establish the nexus between interest-bearing funds and interest-free loans for non-business purposes, which was not done in this case. The Ld CIT(A) found that the disallowance of interest was not justified and deleted the addition.

Issue 2: Failure to establish nexus between interest bearing borrowings and interest free advances/loans:
The Ld CIT(A) noted that the Assessing Officer did not investigate the claim that interest-bearing funds were utilized only for business purposes and not for interest-free loans. The CIT(A) highlighted that in the absence of establishing the nexus between borrowed interest-bearing funds and interest-free advances/loans given, the disallowance of interest was not justified. The Ld CIT(A) referred to previous years' assessments and emphasized the requirement for the Assessing Officer to prove the diversion of interest-bearing funds as interest-free loans, which was not done in this case. The CIT(A) held that since the nexus was not established, the disallowance of interest was deleted.

Issue 3: Adequacy of interest free funds to give interest free loans:
The revenue contended that the assessee did not have sufficient capital to provide interest-free loans, arguing that the interest paid on unsecured loans was not warranted as the assessee allegedly diverted interest-bearing funds to interest-free loans. However, the Ld AR provided proof to demonstrate that the assessee had enough interest-free funds to give interest-free loans and advances. The balance sheet analysis showed that the interest-free/own funds exceeded the loans and advances in each year, indicating the ability of the assessee to provide interest-free loans from interest-free funds. The Tribunal, after hearing both parties, upheld the CIT(A)'s decision to delete the addition, citing various judicial pronouncements supporting the view that if the assessee had sufficient interest-free funds, no part of interest on borrowing could be disallowed. Consequently, the appeal of the revenue was dismissed.

In conclusion, the ITAT Delhi upheld the decision of the Ld CIT(A) to delete the addition of interest expenditure paid to specified persons, as the Assessing Officer failed to establish the nexus between interest-bearing borrowings and interest-free advances/loans. The Tribunal found that the assessee had adequate interest-free funds to provide interest-free loans, leading to the dismissal of the revenue's appeal.

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