2021 (2) TMI 169 - AT - Income Tax

Disallowance of interest expenditure in the hands of partner - Whether it is in relation to business of the assessee - assessee claimed deduction of interest on funds borrowed for the purpose of investment as capital in the business of the partnership firm - Assessing Officer however held that no income has accrued to the assessee from the partnership business during the financial, expenses do not have any nexus with the other source of income under the head PGBP i.e., vehicle hire, consultancy or commissioner expense. Hence, the interest expense was proposed to be disallowed u/s 37 as the expenses were 'not laid out wholly and exclusively for the purpose of business or profession' - HELD THAT - Since the funds were borrowed from external sources, interest was payable by the assessee to its unsecured lenders. The partner claimed the deduction which it was entitled u/s 36(1)(iii) and 37 with income earned from other sources of income under the same head i.e. Vehicle hire, Commission Income and Consultancy income. This resulted in a loss arising from one source under the head business which was set-off with another source of income under the head of PGBP in terms of section 70. Interest, salary, bonus, commission or remuneration received or receivable from the firm by the partners shall be assessable in the hands of the partners as income from business or profession under section 28 of the Act. The partner shall be entitled to all expenditure which is incurred to earn such income or for purposes of the said business. Other deductions as admissible in law can also be claimed by the partner against such income. Under the old provisions, section 67(3) entitled a partner to claim deduction in respect of any interest paid by a partner on capital borrowed by him for the purposes of investment in the firm from the share income. Absence of earning any interest income on capital from the firm is no bar to claim the interest paid on borrowings for the purpose of contributing capital to the firm by the assessee as deductible expenditure. In such an event there would be loss under the head PGBP subhead interest, salary from the partnership firm and the assessee is entitled to set off the said loss against other income under the same head PGBP . Reasoning of the CIT(A) that the interest expense would be expenditure incurred for the purpose of earning income from the partnership firm in the form of share income and therefore the expenditure would be not allowable in terms of Sec.14A of the Act. This reasoning of the CIT(A) is incorrect because admittedly the firm incurred loss and the assessee did not receive any exempt income in the form of share of profits from the firm. - Decided in favour of assessee.

Summary

Issues:
- Disallowance of interest expenditure claimed by the assessee.

Analysis:
1. The only issue in this appeal is whether the Revenue authorities were justified in disallowing a sum of ?23,23,496 claimed as interest expenditure related to the assessee's business.

2. The assessee, an individual, filed the Income tax return for AY 2016-17, declaring Total Income of ?8,01,860. The dispute revolves around the deduction of interest of ?23,23,496 on borrowed funds for investment as capital in the partnership firm's business.

3. The assessing officer disallowed the interest expense under section 37 of the Income Tax Act, stating it was not wholly and exclusively for business purposes. The CIT(A) upheld this decision, citing Sec.14A, despite the firm incurring losses and the assessee not receiving any share of profits.

4. The Tribunal considered that the partnership firm suffered losses in the relevant year, making it unable to pay interest on capital. The partners mutually agreed to delay interest withdrawal until profits were made. The interest expense was incurred due to borrowing from external sources, and the deduction was rightfully claimed under sections 36(1)(iii) and 37.

5. The Tribunal referred to legal precedents, emphasizing that partners are entitled to deductions for expenses incurred to earn income from the firm, even if no interest income was received. The absence of interest income does not bar claiming interest paid on borrowings for contributing capital to the firm as deductible expenditure.

6. Ultimately, the Tribunal directed the Assessing Officer to allow the assessee's claim, as the interest expense was legitimate and allowable. The appeal by the assessee was allowed, overturning the decisions of the Revenue authorities.

7. In conclusion, the Tribunal's decision favored the assessee, highlighting the legitimate nature of the interest expenditure claimed and emphasizing the entitlement of partners to deductions for expenses incurred in relation to the partnership firm's business.