2022 (8) TMI 944 - AT - Income Tax

Disallowance u/s. 36(1)(iii) - computing proportionate interest expenditure incurred on borrowed capital corresponding to interest free advance given - as argued the appellant had adequate pool of interest free funds by way of share capital and reserves, which were far in excess of impugned interest free advance - HELD THAT - If there are funds available, both, interest-free and overdraft and/or loans taken, then a presumption would arise that investments would be out of interest-free funds generated or available with company, provided said funds are sufficient to meet investments. Again ITAT in the case of Assetz Infrastructure 2020 (12) TMI 117 - ITAT BANGALORE held that since the interest free funds available with the assessee is more than the interest free loans given to subsidiaries, it should have to be presumed that the loans have been given out of interest free funds. As in the case of CIT vs. HDFC Bank Ltd 2014 (8) TMI 119 - BOMBAY HIGH COURT held that if the own funds and interest free funds available with the assessee is more than the investment in tax free securities, then it should be presumed that the said investments have been made out of interest free funds available with the assessee. In view of the consistent position taken by the Gujarat High Court and other Courts/ Tribunals discussed above, as applied to the facts of the instant case, in our considered view, no disallowance is called for in respect of interest expenses on account of being interest expenses for non-business purpose, when the assessee is having sufficient interest-free funds at the disposal in excess of amount given as interest free advances. Appeal of the assessee is allowed.

Summary

Issues:
1. Disallowance of interest expenses under section 36(1)(iii) of the Income Tax Act, 1961.
2. Business expediency of interest-free advances.
3. Application of judicial precedents in determining disallowance of interest expenses.

Issue 1: Disallowance of interest expenses under section 36(1)(iii) of the Income Tax Act, 1961:
The case involved an appeal for the assessment year 2014-15 regarding the disallowance of Rs. 13,36,622/- under section 36(1)(iii) of the Act. The Assessing Officer disallowed the interest expenses after observing that the assessee had advanced interest-free loans to a related party. The AO concluded that the interest-free advances were not justified based on the quantum of business transactions and the financial position of the assessee. The CIT(A) upheld the assessment order, emphasizing the lack of business expediency in the interest-free advances. However, the ITAT Rajkot, considering the facts and legal precedents, held that no disallowance was warranted as the assessee had sufficient interest-free funds exceeding the amount given as interest-free advances. The tribunal cited various judgments by the Gujarat High Court and other authorities to support its decision.

Issue 2: Business expediency of interest-free advances:
The dispute also revolved around the business justification for the interest-free advances made by the assessee. The AO contended that the interest-free advances were not adequately explained by the assessee and were not supported by the surplus funds and capital available. The CIT(A) concurred with this view, highlighting the mismatch between the interest-free advances and the available funds. However, the ITAT, after analyzing the financial position of the assessee and legal precedents, found that the surplus funds and reserves were indeed sufficient to cover the interest-free advances. The tribunal referred to multiple cases where courts held that if interest-free funds exceeded investments or loans given, no disallowance should be made. Based on this reasoning, the ITAT allowed the appeal of the assessee.

Issue 3: Application of judicial precedents in determining disallowance of interest expenses:
The ITAT extensively relied on judicial precedents, especially those set by the Gujarat High Court and other tribunals, to establish the legal framework for deciding on the disallowance of interest expenses. The tribunal cited cases where courts ruled in favor of the assessee when interest-free funds surpassed investments or loans given. By aligning the facts of the present case with these legal principles, the ITAT concluded that no disallowance was warranted in this scenario. The tribunal emphasized the importance of assessing the adequacy of interest-free funds in relation to the interest-free advances made by the assessee to determine the business expediency of such transactions.

In conclusion, the ITAT Rajkot, in its judgment dated 27-07-2022, allowed the appeal of the assessee, ruling against the disallowance of interest expenses under section 36(1)(iii) of the Income Tax Act, 1961. The tribunal based its decision on the sufficient availability of interest-free funds exceeding the interest-free advances made by the assessee, as supported by legal precedents and the financial position of the company.