2024 (7) TMI 343 - AT - Income Tax

Deduction u/s 80P(2)(a)(i)/80P(2)(d) - interest received on its investments with Cooperative Banks and Scheduled Banks - AO held that principle of mutuality is missing in assessee s case, therefore denied deduction u/s. 80P(2)(a)(i) - claim of expenditure towards earning of interest income u/s 57 of the Act on the interest income on its investments - HELD THAT - The ratio of Hon ble Apex Court in the case of Mavilayi Service Cooperative Bank Ltd. 2021 (1) TMI 488 - SUPREME COURT is very much applicable for computing the income attributable to the business of the assessee among the members and non-members. The assessee is governed by Karnataka Co-operative Societies Act, 1959 and assessee has to follow section 18 (amended) Act of 2014 and bye-laws of the society. AO as observed that nominal members do not have a right in share of profits of the assessee. The AO has to examine with the by-laws of the Society in regard to classification of members, their rights, sharing of profits of the society among the members (Regular/Nominal). In the event it is found that thee nominal/associate members are not members and they are not entitled from share of profits earned by the assessee, then the proportionate deduction u/s 80P(2)(a)(i) to be granted in terms of the judgment of Mavilayi Service Co-operative Bank Ltd., (supra) on such income. The assessee is directed to produce the quantum of interest income received from all the categories of members for AO to carry out necessary verification - Accordingly this issue is partly allowed for statistical purpose. Deduction u/s 80P(2)(d) - Section 80P(2)(d) describes that if the assessee has received interest/dividend from the co-operative society, then the assessee is eligible for claim of deduction on such interest/dividend, however we note that the assessee has received interest from co-operative bank but it is not clear whether the interest payer (co-operative bank) is a bank and registered with Reserve Bank of India and holding licence from RBI for carrying out banking business as per RBI Act. In addition, the judgment of Kerala State Co-operative Agricultural and Rural Development Bank Ltd. KSCARDB 2023 (9) TMI 761 - SUPREME COURT in which it has been discussed in detail the definition of co-operative banks and co-operative society. If the payer bank falls under the definition of co-operative bank in the light of the judgment of Hon ble Apex Court then the assessee is not eligible to get deduction u/s. 80P(2)(d) on such interest income received from cooperative banks, therefore this issue is also remitted back to the AO for verification of interest received from co-operative bank in above terms. If AO finds that the co-operative bank is carrying its banking business activities in the light of the above judgment, the deduction u/s. 80P(2)(d) on such interest income should not be granted. Claim of expenditure towards earning of interest income u/s 57 - While calculating the income, the net income should be considered as taxable income after reducing the expenditure incurred towards earning of such income. Therefore relying on the judgment of Totgars Cooperative Sales Society Ltd. 2015 (4) TMI 829 - KARNATAKA HIGH COURT (Karnataka), the assessee is eligible for claim of its cost of funds on the interest income received from banks. Reliance is also placed on the judgment of The West Coast Paper Mill Employees Souharda Credit Co-op. Ltd. 2023 (8) TMI 1110 - ITAT BANGALORE Accordingly, the assessee is directed to provide the details of cost of funds before the assessing officer. Therefore for allowing cost of funds, we are remitting this issue to the assessing officer for determining the cost of funds for earning entire interest income from bank (co-operative bank and scheduled bank). Appeal of the assessee is partly allowed for statistical purposes.

Summary

Issues Involved:
1. Deduction under Section 80P(2)(a)(i) of the Income Tax Act.
2. Deduction under Section 80P(2)(d) of the Income Tax Act.
3. Classification of interest income as business income or income from other sources.
4. Allowance of expenditure under Section 57(iii) of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Deduction under Section 80P(2)(a)(i):
The assessee filed a return of income for AY 2017-18 claiming a deduction under Section 80P(2)(a)(i) on gross total income. The AO disallowed the deduction, citing that the principle of mutuality was violated because the society had both regular and nominal members, with nominal members not enjoying the same rights as regular members. The AO relied on the judgment of the Hon'ble Apex Court in Citizen Co-operative Society Ltd. The CIT(A) upheld this decision, also relying on the Citizen Co-operative Society Ltd. and Karnataka High Court judgment in the case of Totgars Co-op. Sale Society.

The assessee argued that the society provided credit facilities exclusively to its members and that nominal members should be considered under Section 2(f) of the KCS Act. The ITAT noted that the assessee is governed by the Karnataka Co-operative Societies Act, 1959, and that the AO must examine the classification of members and their rights. The ITAT referred to the judgment in Mavilayi Service Co-op. Bank Ltd., which allows proportionate deduction for income from credit facilities to members but not non-members. The issue was remitted back to the AO for fresh consideration and verification.

2. Deduction under Section 80P(2)(d):
The assessee claimed a deduction under Section 80P(2)(d) for interest income earned from investments in co-operative banks. The CIT(A) denied this deduction, relying on judgments from the Karnataka High Court and the Hon'ble Apex Court. The assessee argued that the investments were a statutory requirement under the Karnataka Co-operative Societies Act and should be considered business income under Section 28 of the Income Tax Act.

The ITAT noted that the interest income from investments in co-operative banks is not attributable to the main business of providing credit facilities to members. The ITAT referred to the judgment in Totgar's Co-operative Sales Society, which states that deduction under Section 80P is available only for income attributable to business operations. The issue was remitted back to the AO to verify if the co-operative bank is registered with the RBI and carries out banking business. If so, the deduction under Section 80P(2)(d) should not be granted.

3. Classification of Interest Income:
The revenue authorities classified the entire interest income as income from other sources under Section 56, including interest received from co-operative banks. The ITAT held that the net income should be considered taxable after reducing the expenditure incurred towards earning such income. The ITAT relied on the judgment of the Karnataka High Court in Totgar's Cooperative Sales Society Ltd. and directed the AO to determine the cost of funds for earning the interest income.

4. Allowance of Expenditure under Section 57(iii):
The ITAT noted that no expenses under Section 57(iii) were allowed to the assessee for earning the interest income. The ITAT directed the assessee to provide details of the cost of funds before the AO and remitted the issue back to the AO for determining the cost of funds for earning the entire interest income from both co-operative and scheduled banks.

Conclusion:
The appeal was partly allowed for statistical purposes, with the issues remitted back to the AO for fresh consideration and verification. The AO is directed to grant deductions and classify income as per the principles laid down in relevant judgments and statutory provisions. The judgment was pronounced in the open court on July 3, 2024.