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Facts
The assessee, Aadharshilla Contractors Private Limited, appealed against the CIT(A)'s order confirming an ad-hoc addition of notional interest. The Revenue appealed against the CIT(A)'s deletion of additions related to interest expenses and cessation of liability.
Held
The Tribunal held that income-tax is a levy on real income, not notional income, and that the unilateral write-off of debt by a creditor does not amount to cessation of liability for the assessee under Section 41(1) of the Income Tax Act, 1961. The assessee's appeal was allowed, and the Revenue's appeal was dismissed.
Key Issues
Whether notional interest can be taxed and whether a creditor's unilateral write-off of debt constitutes cessation of liability for the assessee under Section 41(1).
Sections Cited
37(1), 41(1), 28(iv), 40(a)(ia)
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Income Tax Appellate Tribunal, DELHI BENCH ‘A’: NEW DELHI
PER S.RIFAUR RAHMAN, ACCOUNTANT MEMBER :
The assessee has filed appeal against the order of ld. Commissioner of Income-tax (Appeals)/National Faceless Appeal Centre (NFAC), Delhi [hereinafter referred to as ‘ld. CIT (A)] dated 15.07.2024 for Assessment Year 2017-18 and the Revenue has filed against the order of CIT(A)/NFAC, Delhi dated 14.07.2024 for AY 2018-19.
Since the issues are common and the appeals are connected, therefore, the same are heard together and being disposed off by this common order. 3. First we take up assessee’s appeal being for AY 2017-18 wherein the assessee has taken the following grounds of appeal :-
1. That on the facts and circumstances of the case, the appellate order passed by the learned Commissioner of Income Tax (Appeals) [hereinafter referred as "CIT(A)”] is bad both in the eyes of law and on facts.
2. That on the facts and in the circumstances of the case. the learned CIT(A) erred both in law and on fact in confirming ad-hoc estimated addition of Rs.4,13,28,508/- made by the AO on account of notional interest at the rate of 12% on loan & advance given of Rs.40,23,94,230/- as against interest earned of Rs.69,58,719/- without giving any basis for such estimation.
3. That on the facts and in the circumstances of the case, the learned CIT(A) erred both in law and on facts in confirming adhoc estimated addition of Rs.4,13,28,508/- on account of notional interest at the rate of 12% on loan & advance given of Rs.40,23,94,230 by disregarding the settled proposition of law that: (a) income tax is to be levy only on real income and not on notional income and (b) no businessman can be compelled to maximize its profit and the income tax authorities must put themselves in the shoes of the assessee and see how a prudent businessman would act.
4. That on the facts and in the circumstances of the case, the learned CIT (A) erred both in law and on facts in confirming adhoc estimated addition of Rs.4,13,28,508/- on account of notional interest at the rate of 12% on loan & advance given of Rs.40,23,94,230/- merely on the basis of various redundant and irrelevant grounds.
5. That the grounds of appeal are independent and without prejudice to each other.”
4. Brief facts of the case are, during assessment proceedings, the assessing officer observed that the assessee has given loan advances and has not charged any interest on the same. He proceeded to calculate the notional interest @12% on the amount of Rs. 40,23,94,230/- and determined the interest of Rs. 4,13,28,508/- and added to the income of the assessee after reducing the interest earned during the year under consideration of Rs 69,58,799/- , which was shown in the return of income. He further observed that the assessee has earned interest @ of 1.72%, which is very low, he determined the same as he calculated average rate of interest earned @ 1.72% i.e. Rs 69,58,799/- divided the same by total loan & advances given of Rs 40,23,94,230/-.
In appeal, the Ld. CIT(A) has sustained the addition made by AO. Aggrieved, the assessee is in appeal before us.
At the time of hearing, Ld AR submitted that AO has made addition of notional interest of Rs 4,13,28,508/- by estimating the same @ 12% on total loan & advances given during the year under consideration of Rs 40,23,94,230/- which comes out of Rs 4,82,87,307/-less interest earned of Rs 69,58,799/- shown in return of income. The Ld AR has also submitted that there is no provision in the Income tax Act, 1961 to bring to tax notional interest income and only real income could be taxed. The Ld AR has relied on the case law compilation submitted before us wherein it is held that there is no provision in Income Tax Act, 1961 to tax notional income.
On the other hand Ld. DR has relied upon the order of CIT(A).
Considered the rival submissions and material placed on record. We observed that the AO has made addition of notional interest of Rs 4,13,28,508/- by estimating it @ 12% on loan & advances given of Rs 40,23,94,230/- during financial year 2016 – 17 which comes to Rs 4,82,87,307/-less interest of Rs 69,58,799/- declared as income in return of income. In any event, there is no provision in the Act to bring to tax notional interest income. It is trite law that only real income could be taxed and reliance in this regard is placed on the decision of Hon'ble Supreme Court in the case of CIT v. Shoorji Vallabhdas & Co. reported in [1962] 46 ITR 144 (SC) wherein it was held as under: "Income-tax is a levy on income. No doubt, the Income-tax Act takes into account two points of time at which the liability to tax is attracted, viz., the accrual of the income or its receipt, but the substance of the matter is the income. If income does not result at all, there cannot be a tax, even though in book-keeping, an entry is made about a "hypothetical income", which does not materialise. Where, however, the income can be said not to have resulted at all, there is obviously neither accrual nor receipt of income."
Respectfully following the above decision and the decision to charge interest lies with the assessee, he may choose not to charge interest because of business necessity, the businessman knows best how to run its business. In view of the aforesaid observations and respectfully following the judicial precedent relied upon hereinabove, we have no hesitation to delete the addition made of Rs 4,13,28,508/- towards interest income on notional basis. Accordingly, the ground raised
by the assessee is allowed.
10. In the result, the appeal filed by the assessee is allowed.
11. Coming to the Revenue’s appeal for AY 2018-19 (ITA No 4208/Del/2024), the revenue has raised following grounds of appeal:
1. On the facts and circumstances of the case, the ld.CIT (A) has erred in deleting the addition on account of disallowance of interest of Rs.35,06,436/- under section 37(1) of the Act without appreciating the fact that the interest was never paid by the assessee.
2. On the facts and circumstances of the case, the ld.CIT (A) has erred in deleting addition of loan and interest amounting of Rs.4,83,18,516/- under s3ection 41(1) r.w.s. 28(iv) of the Act, 1961 without appreciating the facts that creditor, M/s. GFSPL has written off the debts of Rs.4,83,18,516/- as bad debts in its books as on 01.04.2017 and hence, assessee’s liability towards M/s. GFSPL ceases to exist.”
12. The relevant facts of the case are, the assessee has debited interest expense of Rs 50,09,195/- on loan taken from M/s Gurudev Financial Services Pvt Ltd. out of which the assessee has already disallowed an amount of Rs.15,02,759/- u/s 40a(ia) of the Act since the tax deducted at source on such interest expense was not deposited into the government account. In order to verify the same, the AO has issued the notice u/s 133(6) of the Act to M/s Gurudev Financial Services Pvt Ltd. and in response it has provided copy of ledger account of the assessee as appearing in their books of account for financial years 2016-17 & 2017-18 (reproduced on Page No 5 & 6 of the assessment order). On perusal of the ledger account for the relevant previous year i.e. FY 2017-18, the AO observed that M/s Gurudev Financial Services Pvt Ltd. has written off the balance outstanding in the account of the assessee amounting to Rs 4,83,18,516/- as ‘bad debt’. Since, M/s Gurudev Financial Services Pvt Ltd. has written off the debt of Rs 4,83,18,516/- as on 01.04.2017 as ‘bad debt’, the A.O. observed that the assessee is not liable for interest payment of Rs.50,09,195/-, hence, he disallowed the net interest expenses claimed by the assessee to the extent of Rs 35,06,436/- (considering the disallowance of Rs.15,02,759/- made by the assessee u/s 40(a)(ia) of the Act.
The Assessing Officer observed that As stated in the earlier para, M/s Gurudev Financial Services Pvt Ltd. has written off debt amounting to Rs.4,83,18,516/- in their books which is evident from the account extract submitted by them. The same has also been categorically mentioned in the return of income filed by M/s Gurudev Financial Services Pvt Ltd. for AY 2018–19. However, the assessee company is still showing a liability of Rs.5,22,14,897/- as on 31.03.2018 in its financials which includes outstanding interest expenses of Rs.50,09,195/- debited to the P& L Account by the assessee company less the tax stated to have been deducted.
Further, the AO has proceeded to make the addition of outstanding balance in the books of M/s Gurudev Financial Services Pvt Ltd. which was written off the debts by them for the amount of Rs.4,83,18,516/- in its books as on 01.04.2017. He observed that since the liability was written off, there is no liability towards M/s Gurudev Financial Services Pvt Ltd in the books of the assessee as on 31.03.2018, which according to him, is chargeable to tax u/s 41(1) r.w.s. 28 of the Act on account of cessation of liability for the year under consideration.
In appeal, the Ld CIT(A) has deleted the addition made by AO of Rs.50,09,195/- and Rs.4,83,18,516/- by giving his findings at Para Nos.5.2.1 to 5.2.4 on Page No 32 to 34 and in Paras 6.2.1 to 6.2.12 on Page Nos.35 to 40 respectively in his impugned order dated 14.07.2024.
Aggrieved, the Revenue is in appeal before us.
At the time of hearing, Ld DR brought to our notice the relevant facts on record and findings of the Ld CIT(A) at pages 32 to 34 and pages 35 to 40 of the order. He objected to the relief granted to the assessee. He submitted that the facts are very clear that Gurudev Financial Services Pvt Ltd has already claimed the debts as bad debts and there is existence of the liability in the hands of the assessee. He prayed that the findings of the AO may be sustained.
On the other hand, the Ld AR heavily relied on the findings of Ld. CIT(A) and submitted that it has debited interest expenses of Rs.50,09,195/- @ 10.50% per annum in respect of loan taken from said company on which tax at source was deducted but not deposited before the due date of filing of return of income, therefore, the assessee has duly added back interest expenses of Rs.15,02,759/- (i.e. 30% of Rs.50,09,195/-) as per the provisions of section 40(a)(ia) of the Act. He submitted that the contention of the assessee is also corroborated from the letter dated 11.07.2018 given by M/s Gurudev Financial Services Pvt Ltd. to the assessee confirming gross interest accrued in its books of account along with rate of interest charged, in which it has accrued interest of Rs.50,09,195/- for the financial year 2017–18. The same is also corroborated from the balance confirmation given by M/s Gurudev Financial Services Pvt Ltd. to the assessee dated 01.04.2018 duly signed and stamped for the FY 2017-18 showing closing balance of Rs.5,22,14,897/- as on 31.03.2018 and Rs.4,77,06,622/- as on 01.04.2017 and they confirmed interest charged @ 10.5% of Rs.50,09,195 for the financial year under consideration, the same was reproduced at Page No 4 of Assessment Order. The Ld. AR of the assessee has also submitted that from confirmation of account dated 01.04.2018 for the FY 2017-18 and letter dated 11.07.2018 issued by M/s Gurudev Financial Services Pvt Ltd. requesting the assessee to pay outstanding gross interest, hence, it is ample clear that M/s Gurudev Financial Services Pvt Ltd. has not written off the loan and Interest receivable as appearing in the ledger account given to assessing officer, therefore disallowance of Interest expense of Rs.35,06,436/- (i.e. Rs.50,09,195 – Rs.15,02,759) is bad in law and is liable to be allowed.
The Ld. AR further argued that the AO has made disallowance of interest without making any enquiry and confronting the confirmation of account of M/s Gurudev Financial Services Pvt Ltd. dated 01.04.2018 and Letter dated 11.07.2018 issued by M/s Gurudev Financial Services Pvt Ltd. directing the assessee to pay outstanding gross interest amounting to Rs.2,38,21,789/- accumulated for the FYs 2013-14 to 2017-18 including interest of Rs.50,09,195/- for the FY 2017-18 to M/s Gurudev Financial Services Pvt Ltd., which is bad in law.
The Ld AR of the assessee has also argued that it is the unilateral decision of M/s Gurudev Financial Services Pvt Ltd to write off the amount outstanding in their account, which might be in the interest of M/s Gurudev Financial Services Pvt Ltd to reduce tax liability of the relevant year by claiming bad debts. The Ld AR has also argued that there is no document on record which shows the waiver/settlement of loan, therefore the action of M/s Gurudev Financial Services Pvt Ltd in writing off the loan outstanding and claiming it as bad debts is unilateral decision.
With regard to Ground of Appeal No.2 raised by the Revenue, he heavily relied upon the order of CIT(A) and submitted that addition of principal amount of loan of Rs.3,00,00,000/- and interest payable of Rs.1,83,18,516/- aggregating to Rs.4,83,18,516/- was made under section 41(1) r.w.s. 28(iv) of the Act merely on the basis of unsigned ledger account sent by lender in response to notice u/s 133(6) wherein loan amount and interest receivable as on 01.04.2017 was unilaterally written off by the lender in its books of account without considering the fact that cessation of liability has not been made by the assessee company which is sine qua non for invoking provisions of Section 41(1) of the Act.
The ld. AR further argued that it has not written off the liability of Rs.4,83,18,516/- in respect of M/s Gurudev Financial Services Pvt Ltd. in its books of account during the financial year under consideration, therefore cessation of liability has not been made by the assessee which is sine qua non for invoking provisions of Section 41(1) of the Act.
The ld, AR of the assessee further argued that M/s Gurudev Financial Services Pvt Ltd. has never communicated to assessee company in respect to its intention to waive the loan and interest payable by assessee company nor M/s Gurudev Financial Services Pvt Ltd. has signed any waiver agreement with assessee company for waiver of its right in respect of amount receivable. Therefore, there is no reason with the assessee for cessation of said liability in its books of account which can be disputed any time by the said party in the court and hence, unilateral reversal of entries by one party will not amount to cessation of liability u/s 41(1) of the Act. The ld. AR of the assessee further contended that it is settled law that mere unilateral reversal of entries by one party will not amount to cessation of liability and in support of its contention has relied upon the following judicial pronouncement of Supreme Court :- Commissioner of Income-tax vs. Sugauli Sugar Works (P.) Ltd. [1999] 102 Taxman 713 (SC)
The ld. AR of the assessee further argued that the company was not carrying on business of obtaining loans and that the remission of such loans by the creditors of the company was not a benefit arising from such business. Hence, provisions of section 28(iv) of the Act does not apply in the present case since the cessation of liability of loan are not in the nature of cash or money.
Considered the rival submissions and material placed on record. We observe that in the present case, during the course of assessment proceedings, AO has made enquiries with M/s Gurudev Financial Services Pvt Ltd by issue of notice u/s 133(6) of the Act and on verification of the ledger account of the assessee in the books of accounts of M/s Gurudev Financial Services Pvt Ltd submitted, the AO observed that M/s Gurudev Financial Services Pvt Ltd has already written off the debts and claimed the same in their books of account as bad debts as on 01.04.2017 of Rs.4,83,18,516 as bad debts and also no interest/interest receivable of Rs.50,09,195/- is shown for the financial year 2017- 18.
Therefore, the AO observed that the assessee is not liable for interest payment of Rs.50,09,195/- and hence made a disallowance of Rs.35,06,436/- after considering the disallowance of Rs.15,02,759/- made by the assessee u/s 40(a)(ia) of the Act. The AO has also held that the liability of the assessee towards payment of this outstanding amount of Rs.4,83,18,516/- to M/s Gurudev Financial Services Pvt Ltd ceases to exist as on 31.03.2018 and therefore the same was brought to tax u/s 41(1) r.w.s. 28 of the Act.
After considering the facts on record, in our considered view, unilateral writing off of outstanding balance of loan and interest receivable by M/s Gurudev Financial Services Pvt Ltd in their books of accounts does not amount to cessation of liability in the hands of assessee which is a sine qua non for invoking provisions of section 41(1) of the Act, this is also supported by the Hon’ble Supreme Court decision in the case of Sugauli Sugar Works (P.) Ltd. (supra). It is a fact on record that the assessee has not written off its liability of outstanding payable to M/s Gurudev Financial Services Pvt Ltd standing in its books of accounts. Further M/s Gurudev Financial Services Pvt Ltd has provided two different accounts one is signed & stamped confirmation in which balance of Rs.5,22,14,897/- is shown outstanding as on 31.03.2018 and one is unsigned ledger in which M/s Gurudev Financial Services Pvt Ltd had declared the balance outstanding of Rs.4,83,18,516/- as on 01.04.2017 as shown to have written off as bad debt. M/s Gurudev Financial Services Pvt Ltd has also given a letter dated 11.07.2018 requesting the assessee to pay outstanding gross interest amounting to Rs.2,38,21,789/- accumulated for the FY 2013-14 to 2017-18 including interest of Rs.50,09,195/- for the FY 2017-18 to it. The actions of the creditor are not trustworthy, they have submitted two different scenario, one to the assessee and another before the AO. Further, the AO failed to bring on record any agreement for waiver of outstanding loan & interest by M/s Gurudev Financial Services Pvt Ltd with assessee. The AO has also not made any further enquiry with M/s Gurudev Financial Services Pvt Ltd regarding the two different confirmations / ledger provided by it. The AO has also not made any enquiry as to whether any letter /communications made /court case filed by M/s Gurudev Financial Services Pvt Ltd regarding recovery of outstanding balance of interest receivable from assessee before taking the action of unilateral reversal of amount receivable from the assessee.
Therefore, we find force in the argument of the AR of the assessee and the very fact that the assessee has recognized liability in its books of accounts as payable to M/s Gurudev Financial Services Pvt Ltd and loan amount of Rs.3.00 crore is a capital liability payable, it is not in the nature of any loss, expense or trading liability, the same cannot be brought to tax u/s 41(1) of the Act. Further, the AO has also relied on the decision of Hon’ble Supreme Court in the case of CIT v Mahindra & Mahindra that creditors or his successor may exercise the right of waiver unilaterally to absolve the debtor from his liability to repay and after such exercise the debtor is absolved from the liability of repayment of loan subject to conditions of waiver. In the given, the issue is the debtor has written off without communicating such a decision and also makes a claim, which is contrary to the claim made by the debtor., it is clearly distinguishable from the facts of case Mahindra & Mahindra (supra) as there are no waiver conditions imposed by M/s Gurudev Financial Services Pvt Ltd. upon the assessee while unilaterally writing off the liability as ‘bad debt’. Since the balance outstanding of Rs.5,22,14,897/- as on 31.03.2018 is appearing in the books of accounts of assessee including interest debited of Rs 50,09,195/- of M/s Gurudev Financial Services Pvt Ltd for FY 2017-18, it cannot be said that interest expenditure of Rs 50,09,195/- is not incurred by the assessee during the FY 2017-18.
In view of the above findings, we are of the considered view that M/s Gurudev Financial Services Pvt Ltd has provided two different accounts one is signed & stamped confirmation in which balance of Rs.5,22,14,897/- is shown as outstanding as on 31.03.2018 and one is unsigned ledger in which M/s Gurudev Financial Services Pvt Ltd in which balance outstanding of Rs.4,83,18,516/- as on 01.04.2017 was shown as written off as bad debt.
Further, it has also issued a letter dated 11.07.2018 requesting the assessee to pay outstanding gross interest amounting to Rs.2,38,21,789/- accumulated for the FYs 2013-14 to 2017-18 including interest of Rs.50,09,195/- for the FY 2017-18. Therefore, we do not see any reason to disturb the clear findings of Ld CIT(A). In the result, the grounds raised by the Revenue are dismissed.
30. In the result, appeal filed by the Revenue is dismissed
31. To sum up : the appeal filed by the assessee is allowed and the appeal filed by the Revenue is dismissed. Order pronounced in the open court on this 6th day of August, 2025.