2018 (9) TMI 214 - AT - Income Tax

Disallowance of expenses relatable to exempt income u/s 14A r.w.r. 8D to the extent of dividend income earned from Mutual Funds - disallowance to the extent of dividend income earned from Mutual Funds only - Held that - Disallowance of interest pertaining to investment in PGL deleted by the CIT(A) on the ground that section 14A does not apply in respect of strategic investment. We find that the CIT(A) excluded the strategic investment made by assessee in PGL to the extent of ₹ 5.16 crores and expenses relating to this investment i.e. interest under Rule 8D(2)(ii). The assessee agreed that the relief granted by the CIT(A) as regards to the disallowance pertaining to investment in PGL shall be reversed in the light of the decision of the Hon ble Supreme Court in the case of Maxopp Investment Ltd. vs. CIT (2018 (3) TMI 805 - SUPREME COURT OF INDIA). Disallowance to exempt income earned by the assessee to the extent of dividend income earned from mutual fund - Held that - We find that this issue is squarely covered in favour of the assessee by the decision of Cheminvest Ltd. vs. CIT (2011 (11) TMI 267 - DELHI HIGH COURT) the expression does not form part of the total income in Section 14A of the envisages that there should be an actual receipt of income, which is not includible in the total income, during the relevant previous year for the purpose of disallowing any expenditure incurred in relation to the said income. In other words, Section 14A will not apply if no exempt income is received or receivable during the relevant previous year. CIT(A) has rightly decided the issue that the disallowance under section 14A read with Rule 8D of the Rules cannot exceed the amount of exempt income and respectfully following the Hon ble Delhi High Court, we affirm the order of CIT(A) on this issue. Disallowance of interest expense - Held that - We find that the AO has computed the disallowance as is clear from the above chart, which clearly shows that this is double disallowance of interest for the reason that once the entire interest expense is disallowed in respect of investment in PGL, the AO cannot disallowed the part of the same interest in respect of dividend earned on mutual funds. It is settled law that for the purpose of disallowance of interest expense under Rule 8D(2)(ii) of the Rules, the interest expenses is to be taken as net interest and not gross interest. We direct the AO to restrict the disallowance to the extent of net interest only. The AO recompute the disallowance - Appeal of Revenue is partly allowed.

Summary

Issues Involved:
- Disallowance of expenses relatable to exempt income under section 14A of the Income Tax Act read with Rule 8D of the Income Tax Rules.
- Exclusion of strategic investment from the purview of disallowance under section 14A.
- Disallowance of interest expenses pertaining to investments in Mutual Funds.

Analysis:

Issue 1: Disallowance of Expenses Relatable to Exempt Income
The Revenue appealed against the CIT(A)'s decision to restrict the disallowance of expenses related to exempt income to the extent of dividend income earned from Mutual Funds. The AO initially disallowed a significant amount under Rule 8D of the Rules. However, the CIT(A) limited the disallowance to the dividend income earned from Mutual Funds only, citing a decision by the Hon'ble Delhi High Court. The ITAT upheld the CIT(A)'s decision, stating that the disallowance under section 14A cannot exceed the amount of exempt income.

Issue 2: Exclusion of Strategic Investment
The CIT(A) had excluded the strategic investment made by the assessee in a particular company from the purview of disallowance under section 14A. However, upon reference to a Supreme Court decision, the ITAT decided to reverse this exclusion and allowed the Revenue's appeal, directing the AO to disallow the interest expenses incurred on the strategic investment.

Issue 3: Disallowance of Interest Expenses
The AO had made a double disallowance of interest expenses, which was deemed incorrect by the ITAT. Citing decisions by the Hon'ble Gujarat High Court and the Hon'ble Bombay High Court, the ITAT directed the AO to restrict the disallowance to the extent of net interest only, emphasizing that interest expenses should be considered on a net basis. The ITAT partially allowed the Revenue's appeal in this regard.

In conclusion, the ITAT partially allowed the Revenue's appeal, directing the AO to recompute the disallowances in accordance with the rulings and decisions discussed in the judgment.