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2020 (11) TMI 942 - AT - Income TaxExcess rent paid to the related party - Scope of the term Relative - Disallowance invoking the provision of section 40A(2)(b) - Whether expenditure incurred by the assessee is purely for the purpose of business and payment of Rent has not been found to be excessive or unreasonable? - HELD THAT - As assessee has contended that the recipient at Serial No.(1) and (3) namely Alka Bajaj and Preeti Bajaj are sister-in-law of the assessee and therefore do not fall in the definition of relative as provided u/s 2(41). This fact is not disputed by the Revenue and therefore, the payment to these two persons would not fall in the ambit of provisions of section 40A(2) when the transaction is not with the relative of the assessee as provided u/s 40A(2)(b)(i) -There is no dispute that the definition of the term relative provided u/s 2(41) of the Income Tax Act. Therefore the sister-in-laws of the assessee are not included in the said definition of relative u/s 2(41) of the Income Tax Act. Since this definition provided u/s 56(2) is only for the said clause of section 56(2) therefore, the same cannot be applied in respect of provisions of section 40A(2) when a general definition of term relative is provided u/s 2(41) of the Act. Hence, the provisions of section 40A(2) cannot be invoked in respect of transaction of payment of rent to Alka Bajaj and Preeti Bajaj who are not falling in the definition in term of relative provided u/s 2(41) . Excess /unreasonable payment to the specified person - Quantum of rent cannot be considered in absolute terms as to whether it is excess or unreasonable without considering the rate of rent paid by the assessee in terms of per square feet or per square meter. Further the comparison of the rent paid by the assessee is also depends upon various factors being the locality of the each property if the same are not situated at one place and therefore there cannot be a standard criteria of fair market rent to be applied for all the properties without considering the criteria such as locality, nature of property and other advantage or disadvantage attached to a particular property. Hence, the fair market rent required to be determined by considering all these factors and by bringing on record the comparable cases for each of the property as per their location, category and advantage or disadvantage attached to them. The AO failed to conduct the minimum enquiry to ascertain the fair market rent of these properties. Once the transaction of payment of rent is not found to be bogus or ingenuine then the disallowance of the expenditure u/s 40A(2)(b) is not warranted in the absence of a definite finding that the payment made by the assessee is excessive or unreasonable in comparison to the fair market rent. When the AO has not conducted any enquiry to determine the fair market rent so as to hold that the payment made by the assessee on account godown/shop rent is excessive or unreasonable, the disallowance made by the AO is contrary to the provisions of section 40A(2) - Decided in favour of assessee.
Issues Involved:
1. Legality of the addition made by the Assessing Officer (AO) by disallowing expenditure incurred by the assessee under the head "Rent". 2. Determination of whether the expenditure incurred by the assessee is for the purpose of business. 3. Consideration of the consistency in the acceptance of rent expenditure by the Revenue in previous assessments. 4. Legality of determining the rate of rent by applying an average rent rate. 5. Examination of whether the impugned order is arbitrary and based on conjectures. Issue-wise Detailed Analysis: 1. Legality of the Addition Made by the AO by Disallowing Expenditure Incurred by the Assessee under the Head "Rent": The AO disallowed ?6,26,811/- on account of excess rent paid to related parties by invoking the provision of section 40A(2)(b) of the Income Tax Act. The AO compared the rent paid by the assessee in the preceding year and found that the rent paid for the current year exceeded the reasonable enhancement of 10%. The Tribunal noted that the AO did not determine the fair market rent of the properties in question. The Tribunal emphasized that for disallowance under section 40A(2)(b), the AO must first determine the fair market value/price and then compare it with the actual expenditure incurred. The AO failed to conduct this necessary verification, making the disallowance arbitrary and contrary to the provisions of section 40A(2). 2. Determination of Whether the Expenditure Incurred by the Assessee is for the Purpose of Business: The Tribunal observed that the assessee provided a detailed explanation for the rent expenditure, including factors such as the proximity of the shop from home, the need for a nearby bank and food establishment, the nearness of the target market, and other logistical advantages. It was judicially settled that revenue authorities cannot sit in judgment over the business acumen of an assessee to decide upon the commercial/business expediency or relevancy of expenditure. The Tribunal found that the AO did not bring any material on record to prove that the expenditure was not for business purposes. 3. Consideration of the Consistency in the Acceptance of Rent Expenditure by the Revenue in Previous Assessments: The Tribunal noted that the Revenue had accepted the rent expenditure in the previous assessment year. The business turnover of the assessee increased significantly during the current assessment year, demonstrating business expediency in incurring the additional rent. The Tribunal found that the authorities did not consider the explanation furnished by the assessee regarding the increased rent expenditure. 4. Legality of Determining the Rate of Rent by Applying an Average Rent Rate: The Tribunal held that determining the rate of rent by applying an average rent rate is patently illegal and unknown to law. Rent is determined upon negotiations between the transacting parties and is based on evidence in the shape of a Rent Agreement/Contract. The authorities were not justified in ignoring evidence and substituting it with hypothetical calculations. The Tribunal emphasized that suspicion, no matter how strong, cannot substitute evidence. 5. Examination of Whether the Impugned Order is Arbitrary and Based on Conjectures: The Tribunal found that the disallowance made by the AO was arbitrary and based on conjectures. The AO did not conduct any enquiry to determine the fair market rent of the properties. The Tribunal cited the decision of the Hon'ble Jurisdictional High Court in the case of CIT vs. Modi Xerox, which held that the AO must prove by any comparable case or market rate that the amount paid by the assessee was excessive or unreasonable. The Tribunal concluded that the disallowance made by the AO was contrary to the provisions of section 40A(2) of the Income Tax Act. Conclusion: The Tribunal allowed both appeals of the assessee, holding that the disallowance made by the AO was not justified. The Tribunal emphasized the need for the AO to determine the fair market rent and bring on record comparable cases before making any disallowance under section 40A(2)(b). The Tribunal's decision was based on the principles of law and the facts of the case, ensuring that the assessee's business expenditure was duly recognized and not arbitrarily disallowed.
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