J V HOLDINGS PRIVATE LIMITED,BANGALORE vs. DCIT, CENTRAL CIRCLE-1(3), BANGALORE

Briefly stated facts are that, the assessee is a private limited company and engaged in the business of real estate development and related investments. The assessee had made an investment of ₹ 50,000 in the shares of Golflink Embassy Business Park Management Services Private Limited during the financial year 2008-09. Against this investment, the assessee earned dividend income of ₹ 2.50 crores in the year under consideration which is more than 500 times of the actual investment. The assessee had suo motu disallowed ₹ 125,000 against this exempt income, contending that the dividend was received as a single receipt through the banking channel and without human intervention. Thus, the disallowance made under section 14A of the Act was reasonable. However, during the assessment proceedings, the AO observed: i. The dividend income of ₹ 2.50 crores constituted 40.22% of the assessee’s total income. ii. There was a substantial increase in investments, more than 20.87% compared to the preceding year. iii. There was an increase in non-current liabilities by 17.80% and an increase in interest expenses by 79.15% over the previous year. 4. Based on these observations, the AO concluded that a disallowance under section 14A read with Rule 8D was warranted. Accordingly, the disallowance computed by the AO under Rule 8D amounted to ₹ 2,39,13,930.00 from which the suo motu disallowed amount of ₹ 125,000 was reduced, resulting in an effective disallowance Page 3 of 5

Aggrieved, the assessee preferred an appeal before the learned CIT(A), who confirmed the AO’s order. Being aggrieved by the order of Ld. CIT-A, the assessee is in appeal before us.

The learned Authorized Representative (AR) before us filed written submissions and raised various contentions, including that the assessee had already made a suo motu disallowance of ₹ 125,000, against which no specific infirmity was pointed out by the AO. Further, the ld. AR contended that no satisfaction had been recorded under section 14A read with Rule 8D for rejecting the assessee’s computation.

Alternatively, the learned AR submitted that the disallowance should be restricted only to the investment that actually yielded dividend income. As per the AR, the dividend income of ₹ 2.50 crores was earned from the investment of ₹ 50,000 made in 2008-09, and thus only this investment should be considered for the purpose of disallowance.

On the other hand, the learned Departmental Representative (DR) vehemently argued that there was a substantial increase in investments as well as interest-bearing loans, leading to higher interest expenses. Therefore, it was beyond reasonable doubt that the borrowed funds were utilized for investments that either yielded exempt income or were capable of yielding exempt income. Hence, the interest expenses could not be allowed against the taxable income. The ld. DR vehemently supported the order of the authorities below. Page 4 of 5

We have heard the rival contentions of both the parties and perused the materials available on record. Admittedly and apparently, it appears to us that there is made investment, capable of generating exempt income, out of interest-bearing borrowed funds. Thus, such interest should be considered for the purpose of disallowance. However, the question arises whether such interest can be disallowed under section 14A read with Rule 8D of the Income Tax Rules. As far as the provisions of Rule 8D are concerned, it is the settled position that the amount of disallowance must be calculated in the manner prescribed therein. In other words, while making disallowance under the provisions of section 14A read with Rule 8D, only the investments that have actually yielded dividend income should be considered. Undeniably, in that situation, the disallowance computed is much lower than the suo motu disallowance made by the assessee.

Without prejudice to the above, we clarify that the amount of interest on borrowed funds can be allowed as a deduction under sections 36(1)(iii) of the Act, provided it has been incurred for the purpose of business. However, the authorities below have not invoked the provisions of sections 36(1)(iii) of the Act. Therefore, we are not inclined to look into the disallowance of interest expenses under this section, as the issue at hand strictly relates to section 14A read with Rule 8D of Income Tax Rules. In view of the above, we are of the considered opinion that the disallowance under section 14A read with Rule 8D must be calculated strictly in the manner prescribed, i.e., by considering only the investments that have actually yielded exempt income. In such scenario, such a disallowance is going to be lower than the suo motu Page 5 of 5

In the result, the appeal filed by the assessee is allowed.

The Applicant 2. The Respondent 3. The CIT 4. The CIT(A) 5. The DR, ITAT, Bangalore. 6. Guard file