2017 (1) TMI 683 - AT - Income Tax

Addition u/s 40A - interest paid @ 18% in relation to the borrowing made from the persons specified u/s 40A(2)(b) - unreasonable and excessive expenditure - disallowing the interest paid in excess of 12% - Held that - There is a Co-ordinate Bench decision in ACIT vs. M/s. Navjivan Roller Flour & Pulse Mills P. Ltd 2011 (5) TMI 1049 - ITAT AHMEDABAD holding that the payment of interest @ 18% cannot be said to be excessive or unreasonable for the purposes of Section 40A(2)(b) of the Act. In any event, the rate at which banks are lending advances to it borrowers cannot be treated as a benchmark for loans taken by the assessee from individuals who are not carrying on the business of banking. Essentially, a loan taken from the bank not only involves furnishing of securities and documentation but also is advanced after safeguarding the interest of the lenders in a robust manner. Quite unlike such transactions/borrowings from individuals are much less organized and without the cumbersome requirements of documentation and collateral securities etc. In our considered view, the very action of the Assessing Officer in holding that the borrowings from the specified persons at a rate higher than the rate at which bank would lend its loans to the borrowers, would be excessive and unreasonable and the disallowance made by the Assessing Officer was, therefore, devoid of legally sustainable basis. Once there was categorical findings by the Tribunal that 18% per annum interest was reasonable the CIT(A) ought to have followed the same. Thus we are of the considered view that the impugned disallowance u/s 40A(2)(b) in respect of interest paid in excess to 12% per annum deserves to be deleted - Decided in favour of assessee

Summary

Issues:
- Disallowance of interest paid at 18% in relation to borrowing made from specified persons under Section 40A(2)(b) of the Income-tax Act.
- Justifiability of disallowance of interest paid in excess of 12% per annum.

Analysis:
1. The appeals involved a common issue where the assessee contested the disallowance of interest paid at 18% from specified persons under Section 40A(2)(b) of the Income-tax Act. The Assessing Officer argued that payments should be restricted to 12% per annum, similar to market rates from banks. The assessee explained the interest rate was based on negotiation and market rates, distinct from bank loans that involve additional requirements. The Assessing Officer deemed the interest excessive without valid justification, leading to disallowances.

2. The assessee appealed to the CIT(A), who upheld the disallowance, citing contrary decisions from High Courts. Despite Co-ordinate Bench rulings favoring the assessee's position, the CIT(A) disagreed, referring to judgments from the Kerala and Allahabad High Courts. The CIT(A) justified the disallowance under Section 40A(2)(b) of the Act.

3. The matter was further appealed before the ITAT. Despite the absence of the assessee, the Tribunal reviewed the case and referred to a Co-ordinate Bench decision supporting the assessee's stance. The Tribunal emphasized that the rate of interest from individuals should not be benchmarked against bank rates, considering the informal nature of such transactions. The Tribunal found the Assessing Officer's disallowance legally unsustainable.

4. The Tribunal noted that despite Co-ordinate Bench decisions supporting the reasonableness of 18% interest per annum, the CIT(A) disregarded them based on High Court judgments. However, the High Courts' decisions did not contradict the Co-ordinate Bench rulings. The Tribunal criticized the CIT(A) for superficially rejecting the Co-ordinate Bench decisions.

5. Additionally, the Tribunal highlighted that the tax rate on interest income for recipients was the same, following a jurisdictional High Court judgment. The Tribunal emphasized that the disallowance under Section 40A(2) could not be justified. Given the findings and precedents, the Tribunal directed the Assessing Officer to delete the disallowance of interest paid in excess of 12% per annum.

6. Consequently, the Tribunal allowed all six appeals, emphasizing the reasonableness of the interest rate and the lack of legal basis for the disallowance. The judgment was pronounced on December 26, 2016, in favor of the assessee.