2024 (11) TMI 487 - AT - Income Tax

Disallowing interest expenditure claimed u/s 36(1)(iii) - Verification of assessee-firm have interest-free funds and the amount overdrawn by the partners - HELD THAT - The assessee-firm have interest-free funds to the tune and the amount overdrawn by the partners was such fact is duly verifiable from audited accounts, copy furnished before us, therefore, the observation of CIT (A) with regard to the availability of interest-free funds with the assessee-firm is supported with the corroborative evidence. According to the findings of the co-ordinate Bench of this Tribunal in its own case wherein the decisions of Beekay Engineering Corporation 2010 (4) TMI 387 - CHHATTISGARH HIGH COURT order of the hon'ble Bombay High Court in the case of CIT v. Reliance Utilities and Power Ltd. 2009 (1) TMI 4 - BOMBAY HIGH COURT are referred to along with certain other case law. In terms of observations of the hon'ble courts in the said case laws referred to, the settled position of law emerges is that, if there is availability of sufficient interest-free funds with the assessee and to the extent of such interest-free funds are advanced without charging of interest, then the disallowance u/s 36(1)(iii) on such advances on account of notional interest is not justifiable. Apropos, the facts of the present case, admittedly, it is a proved fact apparent from the audited accounts of the assessee that the assessee had sufficient interest-free funds, as rightly observed by CIT(Appeals), also such interest-free funds are adequate to cover the amounts overdrawn by the partners, therefore, the addition made by AO u/s 36(1)(iii) apprehending that the assessee had utilised the interest-bearing funds for over withdrawal of capital by the partners, can be construed as misreading of the facts by the AO, leading to an adverse inference. No merit in the ground raised by the Revenue in the present appeal, which cannot be substantiated by way of any cogent explanation or evidence, contrary to the documented facts furnished by the assessee. Decided in favour of assessee.

Summary

Issues Involved:

1. Disallowance of interest expenditure under Section 36(1)(iii) of the Income-tax Act, 1961.
2. Verification of the availability of interest-free funds to cover the overdrawn capital by partners.

Issue-wise Detailed Analysis:

1. Disallowance of Interest Expenditure under Section 36(1)(iii):

The core issue revolves around the disallowance of interest expenditure claimed by the assessee under Section 36(1)(iii) of the Income-tax Act, 1961. The Assessing Officer (AO) disallowed an amount of Rs. 6,07,99,913, attributing it to the interest-bearing funds allegedly overdrawn by the partners without any interest. The AO's contention was based on the failure of the assessee to provide a fund flow statement or sufficient evidence to demonstrate that the overdrawn capital was utilized for business purposes. The AO presumed that the interest-bearing funds were routed through a company where the partners were directors, thus presenting it as the capital contribution of the company to the assessee-firm.

Upon appeal, the Commissioner of Income-tax (Appeals) found that the disallowance was unjustified, noting that the assessee had sufficient interest-free funds to cover the overdrawn capital. The appellate authority observed that the AO's disallowance was based on an incorrect presumption that the interest-bearing funds were used for personal purposes by the partners. The appellate authority deleted the addition, stating that the interest-free funds were adequate to meet the overdrawn amount, and no disallowance was warranted under Section 36(1)(iii).

2. Verification of Interest-free Funds:

The appellate proceedings focused on verifying whether the assessee-firm had sufficient interest-free funds to cover the overdrawn amount by the partners. The assessee argued that it had Rs. 88.94 crores of interest-free funds, which were sufficient to cover the partners' overdrawn amount of Rs. 52.80 crores. The assessee submitted that the funds consisted of partners' capital accounts, partners' current accounts, and advances from customers. The appellate authority accepted this contention, noting that the AO did not dispute the availability of interest-free funds.

The appellate authority relied on various judicial precedents, including the Supreme Court's judgment in CIT v. Reliance Industries Ltd., which established that when interest-free funds are sufficient to meet investments, it can be presumed that such investments are made from interest-free funds. The appellate authority concluded that the assessee had adequately demonstrated the availability of interest-free funds to cover the overdrawn capital, and therefore, the disallowance of interest was unwarranted.

3. Conclusion:

The Income-tax Appellate Tribunal (ITAT) upheld the decision of the Commissioner of Income-tax (Appeals), agreeing that the assessee had sufficient interest-free funds to cover the overdrawn amount by the partners. The ITAT found that the AO's presumption of utilizing interest-bearing funds for overdrawn capital was factually incorrect and unsupported by evidence. Consequently, the ITAT dismissed the Revenue's appeal, affirming that the disallowance of interest expenditure under Section 36(1)(iii) was not justified, and the addition made by the AO was vacated. The ITAT's decision was based on a proper appreciation of facts and legal precedents, reinforcing the principle that interest-free funds should be presumed to cover interest-free advances in the absence of contrary evidence.