2012 (10) TMI 24 - AT - Income Tax

Dis-allowance u/s 14A - application of Rule 8D - AY 08-09 - assessee challenges the very application of Section 14 A in absence of AO recording a specific satisfaction to the effect that claim of the assessee, i.e. no expenditure is incurred on earning the tax exempt dividend, is incorrect - Held that - A plain reading of the statutory provisions of Section 14A(2) and (3) shows that when assessee offers a dis-allowance u/s 14A, the provisions of Section 14A(2) read with rule 8 D cannot be invoked unless the AO is satisfied about incorrectness of the dis-allowance so offered, but when assessee does not offer any dis-allowance under section 14 A on his own, the provisions of section 14A(2) read with rule 8 D can be invoked without there being any need to express satisfaction about incorrectness of such a claim. In view of aforesaid, provisions of Section 14 A r.w.r. 8 D were rightly invoked on the facts of this case - Decided against assessee. Dispute regarding computation of dis-allowance under rule 8D(2)(ii) - Held that - Rule 8D(2)(ii) allocates expenditure by way of interest ..which is not directly attributable to any particular income or receipt and the only categories of income and receipt, so far as scheme of rule 8 D is concerned, are mutually exclusive categories of tax exempt income and receipt and taxable income and receipt . However, the definition of variable A embedded in the formula under Rule 8D(2)(ii) refers only to interest expenditure directly related to tax exempt income but not to interest expenditure directly related to taxable income. Resultantly, while rule 8D(2)(ii) admittedly seeks to allocate expenditure by way of interest, which is not directly attributable to any particular income or receipt it ends up a llocating expenditure by way of interest, which is not directly attributable to any particular income or receipt, plus interest which is directly attributable to taxable income . This is clearly incongruous. In Godrej & Boyce Mfg Co Ltd (2010 (8) TMI 77 - BOMBAY HIGH COURT), the department took the stand, to defend the constitutional validity of Rule 8 D, that both, interest directly attributable to tax exempt income as well as interest directly relatable to taxable income would be excluded from the definition of variable A in the Rule 8D(ii) formula. Once the Revenue has taken a particular stand about the applicability of the formula in Rule 8 D(2)(ii) based on which the constitutional validity of Rule 8D is upheld, it is not open to the Revenue to take any other stand on the issue with regard to the actual implementation of the formula in the case of any assessee. Accordingly, the correct application of the formula set out in Rule 8D(2)(ii) is, as noted in Godrej and Boyce, that interest expenses directly attributable to tax exempt income as also directly attributable to taxable income have to be excluded from the computation of common interest expenses to be allocated under Rule 8D(2)(ii) - Plea raised by the Assessing Officer is thus rejected in principle but the matter is remitted to the file of the Assessing Officer for verification of factual elements

Issues Involved:
1. Justification of CIT(A)'s restriction of disallowance under Section 14A.
2. Validity of the addition confirmed by CIT(A) under Section 14A read with Rule 8D.
3. Correctness of the application of Section 14A(2) and Rule 8D by the Assessing Officer.
4. Proper computation of disallowance under Rule 8D.

Detailed Analysis:

1. Justification of CIT(A)'s Restriction of Disallowance under Section 14A:
The Assessing Officer (AO) disallowed Rs 30,81,503 under Section 14A, which was restricted to Rs 3,71,687 by the CIT(A). The AO's grievance was that the CIT(A) did not apply the formula as per Rule 8D correctly. The CIT(A) recomputed the disallowance, considering the assessee's arguments that the investments were made out of interest-free funds and that there was no proximate link between the expenditure and the exempt income.

2. Validity of the Addition Confirmed by CIT(A) under Section 14A read with Rule 8D:
The assessee argued that the CIT(A) erred in confirming the addition of Rs 3,71,687 under Section 14A read with Rule 8D, as there was no direct expenditure related to the exempt income and no satisfaction recorded by the AO. The Tribunal found no substance in this plea, emphasizing that Section 14A(3) allows disallowance even when the assessee claims no expenditure was incurred for earning exempt income.

3. Correctness of the Application of Section 14A(2) and Rule 8D by the Assessing Officer:
The Tribunal highlighted that Section 14A(2) and (3) provide that the AO can determine the amount of expenditure incurred in relation to exempt income if not satisfied with the assessee's claim. The Tribunal noted that when the assessee does not offer any disallowance, the AO can invoke Section 14A(2) read with Rule 8D without needing to express satisfaction about the incorrectness of the claim. The Tribunal cited the jurisdictional High Court's decision in Dhanuka & Sons Vs CIT, supporting the AO's invocation of Section 14A.

4. Proper Computation of Disallowance under Rule 8D:
The Tribunal observed discrepancies in the computation of disallowance under Rule 8D by both the AO and CIT(A). The AO included interest directly attributable to taxable income in the common interest expenses, which was incorrect. The Tribunal referred to the Bombay High Court's decision in Godrej & Boyce Mfg Co Ltd Vs DCIT, which clarified that interest directly attributable to taxable income should also be excluded from the computation under Rule 8D(2)(ii).

Conclusion:
The Tribunal upheld the principle that interest expenses directly attributable to both tax-exempt and taxable income should be excluded from the computation of common interest expenses under Rule 8D(2)(ii). The matter was remitted to the AO for fresh adjudication, ensuring that only common interest expenses are allocated as per the correct legal position. The revenue's appeal was allowed for statistical purposes, and the assessee's cross-objection was dismissed.

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