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Facts
The Assessee, a Non-Banking Finance Company (NBFC), claimed dividend income as exempt. The Assessing Officer disallowed a portion of interest expenses under Section 14A read with Rule 8D, arguing that investments were not solely funded by own funds. The CIT(A) upheld this disallowance.
Held
The Tribunal held that the Assessee's investments were sourced from its own funds and internal accruals, and the interest cost was a normal business expenditure. Consequently, no disallowance under Section 14A was warranted.
Key Issues
Whether interest expenses incurred by an NBFC are disallowable under Section 14A and Rule 8D when investments are made from own funds, not borrowed funds, for earning exempt income.
Sections Cited
14A, 143(3), 263, 250, 8D, 10(34), 10(35)
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Income Tax Appellate Tribunal, “K (SMC
Appearance For the Appellant/Assessee : Ms. Vasanti Patel & Shri M.A.Gohel For the Respondent/Department : Shri Bhagirath Ramawat Date Conclusion of hearing : 16.07.2025 Pronouncement of order : 25.08.2025 O R D E R [ Per Rahul Chaudhary, Judicial Member: 1. The present appeal preferred by the Assessee is directed against the order, dated 31/03/2025, passed by the Additional/Joint Commissioner of Income Tax (Appeals) – 4, Delhi [hereinafter referred to as ‘the CIT(A)’] under Section 250 of the Income Tax Act, 1961 [hereinafter referred to as ‘the Act’] whereby the Ld. CIT(A) had dismissed the appeal against the Assessment Order, dated 25/05/2021, passed under 143(3) read with Section 263 of the Act for the Assessment Year 2015-2016.
The Assessee has raised following grounds of appeal : “I. DISALLOWANCE UNDER RULE 8D READ WITH SECTION 14A OF THE ACT RS.15,86,094/-.
1.1. On the facts and in the circumstances of the case and in law, the learned Commissioner of Income Tax (Appeals) [CIT(A)] erred in confirming the disallowance for a sum of Rs.15,86,094/- computed by the learned Assessing Officer under Section 14A of the Act read with Rule 8D of the Income Tax Rules, 1962. 1.2. It is submitted that the learned CIT(A) and the learned Assessing Officer erred in disallowing legitimate business/establishment expenditure and proportionate interest as expenditure directly relating to Dividend Income. It is submitted that no part of interest expenditure is required to be disallowed as it has direct nexus with interest income. It is submitted that the disallowance under Section 14A of the Act computed by the learned Assessing Officer is excessive, unreasonable and unwarranted. 1.3. The learned CIT(A) and the learned Assessing Officer failed to appreciate the explanations offered and the claims and contentions raised by the Appellant in this behalf. 1.4. It is submitted that the learned CIT(Appeals) and the learned Assessing Officer failed to appreciate that the own funds (Interest-free funds) held by the Appellant were fare in excess of Investments from which Dividend Income has been earned. Hence, the rule of law laid down by the Hon’ble Supreme Court in the case of Reliance Industries Ltd. (2021) 410 ITR 466 (SC) is squarely applicable and no part of Interest expenditure can be disallowed under Rule 8D(2)(ii). In view of the above, the appellant prays that the entire disallowance made by the learned Assessing Officer by invoking the provisions of Section 14A of the Act be deleted.”
The relevant facts in brief are that the Assessee filed return of income for the Assessment Year 2015-2016 on 28/09/2015 which was selected for regular scrutiny. During the course of assessment proceedings the Assessing Officer noted that the Assessee was a Non-Banking finance Company (NBFC) engaged in the business of finance. In the return of income, the Assessee had claimed dividend of INR.86,04,222/- as exempt. The Assessing Officer noted that the interest expenses of INR.40,84,496/- were debited to the Profit & Assessment Year 2015-2016 Loss Account. However, no disallowance under Section 14A of the Act was made by the Assessee in respect of the same. Therefore, the Assessee was asked explain why disallowance under Section 14A read with Rule 8D of the Income Tax Rules, 1962 [for short ‘IT Rules’] should not be made. In response, the Assessee filed written submission on 27/06/2017, contending, inter-alia, that the main sources of income are interest on loans, inter-corporate deposits & dividend; and that the Assessee had made investments in tax-free securities from own funds & internal accruals. In support the Assessee placed reliance upon its Balance Sheet [as on 31/03/2015]. It was contended that the borrowed funds were directly utilized for earning interest income and which was more than interest expenditure, it is submitted before the Assessing Officer that no part of interest expenditure could be disallowed under Section 14A read with Rule 8D of the IT Rules. Further, the investments under consideration were made long back and the same did not require monitoring, review or any specific efforts on regular basis since the same were made in group companies. Therefore, on a without prejudice basis, it was contended that for the purpose of computing disallowance under Section 14A of the Act read with Rule 8D(2)(ii) of the IT Rules the investments in shares of group companies was not required to be considered. However, the Assessing Officer was not convinced. According to the Assessing Officer the funds available with the Assessee for the purpose of making the investments as on 31/03/2015 stood at INR.6,46,68,297/- (INR.7,76,35,297 minus INR.1,29,67,000/-) as against INR.7,76,35,297/- computed by the Assessee. According to the Assessing Officer the reserved fund of INR.1,29,67,000/- created by the Assessee under Section 45-IC of the Reserve Bank of India Act, 1934 was not available for the Assessee for the purpose of making investments and therefore, the same could not have been considered as own funds available with the Assessee for the purpose of making investments in tax free Assessment Year 2015-2016 securities. The Assessing Officer noted that the investments held by the Assessee as on 31/03/2015 amounting to INR.7,47,84,062/- were in excess of the surplus funds available and therefore, the Assessing Officer concluded that the judgment of the Hon’ble Bombay High Court in the case of Commissioner of Income Tax Vs. HDFC Bank Ltd. 366 ITR 505 and HDFC Bank Ltd. Vs. Commissioner of Income Tax 383 ITR 529 did not applicable to the facts of the present case. The Assessing Officer, further, noted that investments of INR.3,45,50,677/- were made during the relevant previous year on which the Assessee had earned exempt dividend income of INR.16,68,000/-. In view of the aforesaid the Assessing Officer rejected the contention of the Assessee to exclude investments made in Group Companies for the purpose of computing of the disallowance of interest expenditure under Section 14A read with Rule 8D(2)(ii) of the IT Rules. The Assessing Officer computed an amount of INR.15,01,955/- to be disallowed under Section 14A read with Rule 8D(2)(ii) of the Act, and vide Order dated, 12/09/2017, passed under Section 143(3) of the Act made disallowance of the same amount under Section 14A of the Act in the hands of the Assessee.
Being aggrieved, the Assessee challenged addition/disallowance made by the Assessing Officer under Section 14A read with Rule 8D(2)(ii) of the Act. However, the CIT(A) agreed with the Assessing Officer and dismissed the appeal preferred by the Assessee vide Order, dated 31/03/2025, observing as under:
“5.1.5. The submission of the appellant during the proceedings have been examined. The appellant could not factually establish that after considering the need for reserve fund created as per the requirements of RBI Act 1934, the funds available with the appellant are adequate for investments. Thus, the need for interest bearing funds for investments. Once, it is established that the appellant has utilized interest bearing funds for
6. In view of the above discussion the ground of appeal is dismissed and the disallowance made by the assessing officer is confirmed.”
5. The above order of the CIT(A) has been impugned by the Assessee by way of the present appeal.
We have heard both the sides and have perused the material on record. We have also taken into consideration the written submissions filed by the Learned Departmental Representative and the documents placed before us as part of the Paper Book by the Learned Authorized Representative for the Assessee.
On perusal of the Financial Statements and computation of income of the Assessee pertaining the relevant previous year we observe as under:
(a) Assessee-Company is registered non-deposit taking Non- Banking Financial Company (NBFC) engaged in the business of investing and lending activities. As per statement of Profit and Loss the Assessee-Company had aggregate revenue from operation of INR.1,58,98,364/- which consisted of the following: As at As at 31-March-2015 31-March-2014 (INR.) (INR.) Reserve from Operations Interest on loans/ICDs (Gross) 72,94,142 1,76,11,054 Dividend on Shares held as Stock-in-Trade 16,862 20,957 Other Operation Income Dividend on Long Term Investments 83,85,100 74,30,800 Dividend on Current Investments 2,02,260 2,42,506 Total 1,58,98,364 2,53,05,317 For the relevant previous year the aggregate finance cost incurred during the previous year was INR.40,84,496/- (as (a) On perusal of computation of income we find that dividend income aggregating to INR.86,04,222/- [INR.16,862 + INR.83,85,100 + INR.2,02,260/-] was claimed by the Assessee to be taxable under the head Income from Other Sources. After disallowing INR.3,333/- under Section 14A of the Act from the aforesaid income, the Assessee claimed that the balance amount of INR.86,88,009/- was exempt under Section 10(34)/(35) of the Act.
(b) Perusal of Balance Sheet shows that as on 31/03/2014 the short term borrowings of the Assessee by way of Inter Corporate Deposits (taken from related parties) stood at INR.16.50 Crores. At the same time, Long Term Loans and Advances given by the Assessee stood at INR.18.89 Crores. This supports the contention of the Assessee (an NBFC engaged in financing activity) that the borrowed funds were effectively utilized for the purpose of granting loans and advances in normal course of business for earning interest income.
(c) On perusal of Cash Flow Statement for the relevant previous year we find that the Assessee had generated Cash from Operations amounting to INR.3,49,57,200/-. There was net cash outflow from Investing Activities amounting to INR.3,52,02,936/-. Thus, there was a net cash outflow of INR.2,45,736/-. Since the Assessee had opening cash/cash equivalent of INR.4,04,354/-, after adjusting the net cash outflow, the Assessee had closing cash/cash equivalent balance of INR.1,58,618/-. Thus, The investments of INR.3,45,50,677/- made by the Assessee during the relevant previous year were out of own funds and internal accruals.
(d) As on balance sheet date (i.e., 31/03/2015), while the investment continues to be reflected in the Financial Statements at INR.7,47,84,062/-, the Borrowed Funds stood reduced to ‘Nil’ (relevant extract of balance sheet reproduced herein below). As at 31-March-2015 As at 31-March-2014 (INR.) (INR.) 4 Long Term Provisions Contingent Provisions against Standard - 4,73,000 Assets (Refer Note No.20) - 4,73,000 5. Short Term Borrowings Unsecured Loans - - ICD from Related parties - 16,50,00,000 - 16,50,00,000 8. In view of the above factual observations, and taking note of the fact that the Assessee is a NBFC engaged in finance business, we accept the both the contention of the Assessee that (a) investments were sourced out of own funds & internal accruals and (b) the interest cost of INR.40,84,496/- debited to the Profit & Loss Account is normal business expenditure incurred the Assessee for earning business income during the relevant previous year. Our view draws support from the admitted factual position that, as on balance sheet date (i.e., 31/03/2015), while the investment continues to be reflected in the Financial Statements, the Borrowed Funds stood reduced to ‘Nil’. Further, we note that the Assessee-Company is registered non-deposit taking Non-Banking Financial Company (NBFC) engaged in the business of investing and lending activities. Section 45IC of the Reserve Bank of India Act, 1934 does not provide an absolute bar on utilization of reserve fund created by NBFC. As per the financial statements of the Assessee-Company, it had intimated its intention to Reserve Bank of India to convert itself into Core Investment Company and was in the process of complying with the relevant requirements.
In view of the above, we hold that no disallowance of interest was Assessment Year 2015-2016 warranted in the case of the Assessee under Section 14A of the Act in respect of interest expenses of INR.40,84,496/- debited to the Profit & Loss Account for the previous year relevant to the Assessment Year 2015-2016. Accordingly, we overturn the decision of the Assessing Officer and the CIT(A) and delete the disallowance of INR.15,01,955/- made by the Assessing Officer under Section 14A of the Act invoking provisions of Rule 8D(2)(ii) of the IT Rules. Thus, Ground No. 1.1, 1.3 and 1.4 raised by the Assessee are allowed while Ground No. 1.2 is dismissed as having been rendered infructuous.
In result, in terms of paragraph 7 above, the appeal preferred by the Assessee is allowed.
Order pronounced on 25.08.2025.