2018 (10) TMI 786 - AT - Income Tax

Disallowance u/s 14A - working out of deduction - Held that - We find that during the year under consideration the gross interest expense was ₹ 97,24,941/- and gross interest receipt was ₹ 65,00,064/-. Thereby the net interest expenditure was ₹ 32,24,877/-. This net expenditure in our considered view was relatable to earning dividend, derived from investments acquired out of borrowed funds. Accordingly we hold that the interest dis allowable under Section 14A should be ₹ 32,34,877/- instead of ₹ 89,46,546/-. As regards amount disallowance under Rule 8D(2)(iii), we agree with assessee s contention that in working out the common business establishment expenses the AO should have excluded the expenditure debited by way of interest bad debts written off & provision for NPA. Excluding these three items, the common business expenses which could be considered for disallowance under Rule 8D(2)(iii) amounted only to ₹ 16,86,399/-. This expenditure was much below ₹ 61,78,722/- worked out by the AO by applying the formula under Rule 8D(2)(iii). We therefore find that mechanical application of Rule 8D(2)(iii) in the present case leads to absurd results. The expenses inter alia included items such audit fees, ROC expenses etc. which were required to be incurred to maintain corporate identity of the appellant. Such expenses were required to be incurred irrespective whether tax free or taxable income was earned. It would be inappropriate to conclude that the entire expenditure of ₹ 16,86,399/- was relatable only to earning tax free income. To hold so would mean that the other taxable income was earned by the appellant without incurring even a single rupee expenditure and such conclusion would be anomalous. We find merit in the assessee s submissions that the disallowance out of common establishment expenses should be made in proportion of dividend income to gross receipts credited to P&L A/c. This methodology was also upheld by the coordinate Bench of this Tribunal in the case of Dy.CIT Vs S.G. Investment & Industries Ltd 2003 (5) TMI 198 - ITAT CALCUTTA-C as affirmed by in the case of ISG Traders Ltd Vs CIT 2011 (9) TMI 58 - CALCUTTA HIGH COURT . Applying the said pro-rata calculation, we find that the amount disallowable out of common administrative expenses works out to ₹ 8,74,170/-. - Decided partly in favour of assessee.

Issues Involved:
1. Disallowance of expenses under Section 14A of the Income Tax Act read with Rule 8D of the Income Tax Rules.
2. Computation of net interest expenditure for disallowance under Rule 8D(2)(ii).
3. Determination of administrative expenses for disallowance under Rule 8D(2)(iii).

Detailed Analysis:

1. Disallowance of Expenses under Section 14A and Rule 8D:
The main grievance of the assessee was against the disallowance of expenses under Section 14A of the Income Tax Act, 1961, read with Rule 8D of the Income Tax Rules, 1962. The assessee, a non-banking financial company, derived exempt income from shares and securities amounting to ?70,04,061/- and had offered a disallowance of ?3,500/- under Section 14A. The Assessing Officer (AO) rejected this and made a disallowance of ?1,26,51,029/- by invoking Rule 8D(2). The AO's rationale was that it was inconceivable that only demat expenses of ?3,500/- were incurred to earn tax-free dividends. The AO computed the disallowable amount under Rule 8D(2) to be ?1,51,28,768/-, but restricted the disallowance to ?1,26,51,029/- as per the expenses debited in the P&L account.

2. Computation of Net Interest Expenditure for Disallowance under Rule 8D(2)(ii):
The assessee argued that the net interest expenditure should be considered for disallowance under Rule 8D(2)(ii). The gross interest expense was ?97,24,941/-, and the gross interest receipt was ?65,00,064/-, resulting in a net interest expenditure of ?32,24,877/-. The assessee cited the judgment of the Hon'ble Gujarat High Court in Pr.CIT Vs Nirma Credit & Capital Pvt Ltd, which supported the netting off of interest received against interest paid. The Tribunal agreed with this view, stating that only the net interest expenditure could be considered for disallowance under Rule 8D(2)(ii). Accordingly, the interest disallowable under Section 14A was held to be ?32,24,877/- instead of ?89,46,546/-.

3. Determination of Administrative Expenses for Disallowance under Rule 8D(2)(iii):
The assessee contended that the AO should have excluded certain expenditures, such as interest, bad debts written off, and provision for NPA, from the common business establishment expenses considered for disallowance under Rule 8D(2)(iii). The Tribunal agreed, noting that the common business expenses amounted to ?16,86,399/- after excluding these items. The Tribunal also acknowledged that some expenses were necessary to maintain corporate identity and comply with regulatory requirements, which should not be disallowed merely because the mathematical formula under Rule 8D(2)(iii) suggested a higher amount. The Tribunal directed that the disallowance out of common establishment expenses should be made in proportion to the dividend income relative to the gross receipts credited to the P&L account. The amount disallowable under Rule 8D(2)(iii) was thus determined to be ?8,74,170/-.

Conclusion:
The Tribunal concluded that the total amount disallowable under Rule 8D(2) was ?41,02,547/- [?3,500 + ?32,24,877 + ?8,74,170]. For the assessment year 2010-11, the Tribunal held that the AO was not justified in disallowing ?26,37,064/- under Rule 8D(2)(iii) when the actual common administrative expenditure was only ?8,35,898/-. The AO was directed to disallow ?2,65,561/- instead of ?26,37,064/-. Both appeals were partly allowed.

Order Pronouncement:
The order was pronounced in the open court on 5th September 2018.

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