METTUR MUNICIPALITY,SALEM vs. ITO (TDS), SALEM

The brief facts of the case are that the assessee Municipality is a local body functioning under the Government of Tamil Nadu and dependent on the funds and grants issued by the State Government. In order to implement welfare schemes for the general public under its jurisdiction, the assessee also borrowed loans from Tamil Nadu Urban Finance and Infrastructure Development Corporation (TUFIDCO) after approval of the Director of Municipal Administration.

During the impugned periods, Interest payments were made to TUFIDCO out of State Finance Commission Proceeds by making deductions from the grants given by the Government of Tamil Nadu to the assessee.

On perusal of the submissions, the AO passed Orders u/s.201 of the Act dated 26/11/2024, by not accepting the reply filed and treating the assessee as “Assessee-in-Default”. The AO observed that other local bodies were deducting TDS on payments made to TUFIDCO and also that the case of the assessee is not covered by any of the exemptions u/s.194A of the Act.

Aggrieved by the Order dated 26/11/2024 and received on 27/11/2024, the assessee preferred an appeal before the First Appellate Authority on 24/12/2024, assailing the action of the AO on various grounds including non-consideration of material factors including nature and composition of TUFIDCO and the complete Government Control present in it and also that the provisions of Section 194A(3)(iii)(f) and 196 were not considered, especially in light of Chennai Tribunal decision in the case of TUFIDCO itself holding that interest received from local bodies do not represent the income of TUFIDCO.

During the course of first appeal proceedings, the Additional/Joint Commissioner of Income Tax (Appeals)-2, Mumbai issued a single hearing notice dated 06/01/2025 granting time till 21.01.2025. In response, the assessee filed an elaborate reply with supporting documents and the case laws relied on 19.01.2025 for AY 2023-24 [Ack No. 831031261190125] and on 20.01.2025 for AY 2024-25 [Ack No. 831068711200125].

The Addl/JCIT(A)-2, Mumbai observed that the shareholding of TUFIDCO shows that it is not 100% owned by the Government, unlike KUIDFC. As such, the Notification dated 22/10/1970 cited by the assessee would not apply. In fact, the Central Government has not separately notified TUFIDCO u/s.194A(3)(iii)(f) of the Act.

The Addl/JCIT(A)-2, Mumbai observed that the decision of Bangalore ITAT also did not apply to the instant case for that reason. The decision of Chennai ITAT in the case of TUFIDCO itself was held to be inapplicable, as the Tribunal was dealing with the question of whether interest receipts of TUFIDCO constituted its income or not.

Without giving any finding as to the application of the provisions of Section 196 of the Act and the decision of the Kolkata ITAT and the State Finance Commission Proceedings relied upon by the assessee, the Ld.CIT(A) dismissed the appeal filed. 13. Aggrieved, the assessee preferred an appeal before us, raising the grounds of appeal.

The ld.AR for the assessee filed a paper-book before us, [Paper-book for AY 2023-24 containing 196 pages; Paper-book for AY 2024-25 containing 264 pages] annexing copies of Written Submissions filed before the First Appellate Authority, State Finance Commission Proceedings, Loan Assistant Document, ITAT Chennai, Kolkata, Bangalore and Jammu and Kashmir HC Orders, Central Government Notifications dated 22/10/1970 and 20/03/2019 and Board Composition Details and RTI Manual about functioning of TUFIDCO.

The ld.AR submitted twofold arguments stating that ld.CIT(A) erred in not appreciating the arguments raised as under:

In support of the first argument, the Learned First Appellate Authority erred in failing to consider the purpose of incorporation of TUFIDCO itself – to provide financial assistance and act as implementing agency for government schemes [Page No.15 of both paperbooks];

The Learned First Appellate Authority also failed to appreciate that Board of Directors of TUFIDCO were fully IAS Officers of Tamil Nadu State Government, ensuring that there is Complete Government Control on its functioning [Page No.17 of both paperbooks];

The Learned First Appellate Authority erred in not considering the Share- holding pattern of TUFIDCO, where, according to the Appellant, all shares are held by Government only. The First Appellate Authority might have been concerned with shareholding of HUDCO of 0.625% of total shares of the assessee;

The Learned First Appellate Authority lost sight of the fact that HUDCO is also a Central Government Undertaking, falling within the definition of Government and also that it has also been specifically exempt under Section 194A(3)(iii)(f) vide Government Notification No.S.O.1399 (E) [No.26/2019 (F.No.275/15/2018-IT(B))] dated 20/03/2019. [Page No. 195 of Paper-book for AY 2023-24 and 263 of Paper- book for AY 2024-25];

Further, the Learned First Appellate Authority also erred in observing that there was no specific Notification issued by the Central Government under Section 194A(3)(iii)(f) of the Act, specifically exempting TUFIDCO. This observation is directly contrary to the ratio of Jammu and Kashmir High Court in and 11 of 2016 dated 14/07/2023, where it was held that there is no specific notification needed for each individual entity, when the nature of the entity is in line with any of the class specified in Notification dated 22/10/1970 [High Court Order in Page Nos. 183 to 192 of Paper-book for AY 2023-24, Page Nos. 251 to 259of Paper-book for :-7-: ITA. No:758 & 759/Chny/2025 AY 2024-25] [Government Notification in Page No.137 of Paper-book for AY 2023- 24, Page No.205 of Paper-book for AY 2024-25];

Further, the Learned First Appellate Authority erred in not applying the Bangalore ITAT Order rendered in the context of KUIDFC to the context of TUFIDCO, holding that the case is distinguishable. In this context, it may be noted that the Appellate Authority failed to consider that the Chennai ITAT in TUFIDCO’s own case followed Karnataka High Court’s Order in the case of KUIDFC only. Thus, when the Jurisdictional Tribunal has found the context to be the same, the Learned Appellate Authority erred in not applying it;

Further, the Learned First Appellate Authority also erred in not considering the Right to Information Manual of TUFIDCO filed during First Appeal, where several details on the functioning of TUFIDCO including the schemes undertaken by it are mentioned. [Page Nos. 19 to 62 of both Paper-books];

With respect to the second argument of the assessee claiming applicability of Section 196 of the Act, the First Appellate Authority did not consider the submission and made any adjudication at all. The Appellate Order stands as a testimony for this claim;

The Right to Information Manual about TUFIDCO was once again referred, where it is clearly mentioned as to how TUFIDCO would disburse funds for specific schemes of the Central or State Government. For instance, if we take Urban Infrastructure Development Scheme for Small and Medium Towns (UIDSSMT), the shares of the Central and State Governments are 80% and 10% respectively, with the remaining 10% representing shares of the Urban Local Bodies itself. In this context, TUFIDCO only disburses 90% of the total expenditure needed for that particular scheme with the 10% to be met by the concerned Urban Local Body itself [Page No.49 of both Paper-books];

As such, TUFIDCO is only a nodal agency of the Government acting with the object of disbursing the funds of the Government on soft terms to local bodies under given specific schemes and heads as per policy of the Government, which itself

In the instant case, the subject interest payments were made to TUFIDCO on account of Loan Assistance given under the Special Road Programme of the State Government. On proposal made from four corporations, loan assistance was provided by TUFIDCO after approval from the State Government; Copies of the relevant Government Order and correspondences from and with TUFIDCO were attached in the paper-books filed [Page Nos.63 to 80 of both Paper-books];

In this context, the Learned First Appellate Authority erred in not considering that the Appellant relied on the Jurisdictional ITAT Decision in case of TUFIDCO itself [ITA Nos. 5, 6, 79 & 80/Mds/2010 dated 11/09/2012 reported in [2013] 33 taxmann.com 612 (Chennai - Trib.)], where the ITAT dismissed the appeal of the Revenue by following the decision of the Karnataka High Court in the case of KUIDFC itself reported in [2006] 282 ITR 582 [Karnataka], both of which decisions categorically reiterated the fact that TUFIDCO is a nodal agency of the Government for disbursing funds to local bodies for the purpose of carrying out developmental projects from time to time [Page Nos.139 to 146 of Paper-book for AY 2023-24, Page Nos.207 to 214 of Paper-book for AY 2024-25];

In fact, it may be noted that these decisions have gone to the extent of observing that even interest income earned from funds parked in the bank account by the nodal agency was not subject to income tax, as, ultimately, the funds in question belong to government;

Section 196 uses the words ‘any sums payable to the Government, where such sum is payable to it by way of -

In this regard, apart from referring to the Loan Assistant Document, the assessee would also refer to State Finance Commission Devolution Proceedings before the Director of Municipal Administration, Chennai, which clearly mention about the interest and loan dues to TUFIDCO deducted from the grants made by the State Government and are clearly marked under the head – ‘SRP’, representing Special Road Programme [Page Nos.131 to 136 of Paperbook for AY 2023-24, Page Nos.81 to 204 of Paperbook for AY 2024-25];

The Learned First Appellate Authority erred in not considering that in support of this contention also, reliance was placed on the Bangalore ITAT decision dated 21/11/2014, which highlighted ‘Doctrine of Over-Riding Title’, that is, although a property may be nominally owned by a person for particular purpose or time being, another person would have a complete say in the manner of holding and disposing the property;

Applying such doctrine, the Bangalore ITAT invoked the provisions of Section 196 of the Act and held that KUIDFC was only a nodal agency of the State Government and that the funds ultimately belonged to Government of Karnataka and as such, the Appellant in that case had no obligation to deduct TDS [Page Nos.163 to 182 of Paper-book for AY 2023-24, Page Nos.231 to 250 of Paper-book for AY 2024-25];

The Bangalore ITAT discussed the shareholding of KUIDFC only in so far as applicability of Section 194A(3)(iii)(f) and Notification dated 22/10/1970 was concerned and not in the context of applicability of Section 196 or the Doctrine of Over-riding Title;

Even if the Learned First Appellate Authority is presumed to be right in distinguishing the facts of that decision on the aspect of share-holding of TUFIDCO and KUIDFC, the decision is fully applicable in the context of Section 196 viz-a-viz

Further, the First Appellate Authority erred in not considering that in the same context only, the assessee relied on decision of Kolkata ITAT in & 280/Kol/2016 dated 08/09/2017, where the ITAT on similar circumstances held that the Appellant was not liable to deduct TDS in respect of payment to Gujarat Enviro Protection and Infrastructure Limited [GEPIL], as the funds ultimately belonged to the State Government of West Bengal [Page Nos.147 to 162 of Paper-book for AY 2023- 24, Page Nos.215 to 230 of Paper-book for AY 2024-25];

As such, as interest income earned by TUFIDCO out of funds disbursed on soft terms to local bodies at the behest of the State Government for implementation of welfare scheme is not its income, as supported by the findings made by the Chennai ITAT in the case of TUFIDCO itself, the argument of the assessee that the interest on loan funds is ultimately payable to the Government not warranting deduction of TDS as per Section 196 becomes fortified;

Further, as stated even before the AO, the Interest Payments were not made by the assessee Municipality to TUFIDCO directly. Rather, it was deducted by the State Government itself through SFC Proceedings conducted by the Director of Municipal Administration. Copies of SFC Proceedings were placed in the Paper- books filed;

The assessee did not have control over the mode of the interest payments itself, as the deductions were done as per the loan terms agreed upon by the State Government and TUFIDCO itself, as mentioned in Loan Assistant Document attached in the respective Paper-books;

The State Finance Commission Devolution Proceedings attached as part of the Paper-books reveal that the assessee was only provided with the Net Amount by the Government, after making deductions towards Interest Dues towards TUFIDCO. Thus, in reality, the assessee did not have any control over the amount paid to the credit of TUFIDCO and the assessee stands in the debit side only for nomenclature

As such, the Commissioner of the assessee Municipality cannot be termed as “Person responsible for paying” as per Section 194A(1) of the Act, which is a pre- condition for deeming the Appellant to be an Assessee-in-Default in the first place. Thus, casting liability on the Appellant in the first place and treating it as an Assessee-in-Default is totally arbitrary and unjust.

In this regard, it may also be noted that making the assessee responsible for deducting TDS on payments not actually made by it amounts to requiring the assessee to have performed the impossible. Law always presumes impossibility of performance as an excuse for the obligations laid down and necessarily discharges the person required under law from their performance [lex non cogit ad impossibilia]. As such, the AO and the Learned First Appellate Authority erred in treating the assessee as an ‘assessee-in-default’ for not performing something, which could not have been performed in the first place.

Per contra the ld.DR submitted that the recipient of the interest income i.e. TUFIDCO does not fall in the exception given u/s.194A(3)(iii)(f) and hence there is no mistake in the order of the ld.CIT(A) and hence prayed for confirming the same.

We have heard the rival submissions perused the material placed on record, paper book filed along with submissions and case laws relied upon. Admittedly the facts of the case are not in dispute. The only issue is whether the assessee is liable to deduct tax on interest payable to TUFIDCO for the impugned assessment years. On perusal of the records, we note that the interest income earned by TUFIDCO out of funds disbursed on soft terms to local bodies at the behest of the State Government for implementation of welfare scheme is not its income, as supported by the findings made by the Chennai Tribunal in the case of TUFIDCO itself as referred supra, the argument of the assessee that the interest on loan funds is ultimately payable to the Government. Therefore, once the receipt is not an income of the :-12-: ITA. No:758 & 759/Chny/2025 recipient, the liability of TDS does not arise as per section 194A of the Act. The relevant paras of the decision of the coordinate bench in the case of Nos.5, 6, 79 & 80/Mds/2010 dated 11.09.2012 is given below:

Therefore, we do not find any error in the conclusion reached by the Tribunal that there was no income earned by way of interest by the assessee :-13-: ITA. No:758 & 759/Chny/2025 and setting aside the order of AO which is affirmed by the first appellate authority. The finding given by the Tribunal is purely a question of fact. We do not find any substantial question of law involved in this appeal and therefore, this appeal is liable to be dismissed at the stage of admission itself.”

On the other hand, the D.R. has placed reliance on the order of the Tribunal in assessee’s own case relevant to the assessment year 2004-05 in decided on 8.2.2008. In the aforementioned case, the issue involved was with regard to claim of the assessee to treat its entire income as expenditure under section 10(23G) of the Income Tax Act and has also claimed deduction under section 36(1)(viii) of the Act to the extent of 40% of the business income without approval from CBDT. We are of the considered opinion that the controversy involved in the present case is different from the one which has been decided by the Tribunal in relevant to the assessment year 2004-05. However, the present case of the assessee is squarely covered by the Division Bench judgement of the Hon’ble Karnataka High Court, wherein it has been held that since interest earned is again utilized for implementation of the mega-city Scheme, the same cannot be treated as income of the assessee. The interest is earned out of the money given by the Government of India for the purpose of implementation of mega-city Scheme.

Therefore, in the light of the peculiar facts and by respectfully following the coordinate bench decision, we are of the considered view that the interest expenses claimed by the assessee which is paid to TUFIDCO is not an income in the hands of the recipient. Further, Interest Payments were not made by the assessee to TUFIDCO directly. We find that it was deducted by the State Government itself through SFC Proceedings conducted by the Director of Municipal Administration. (Copies of SFC Proceedings Paper-books filed). Thus, the assessee did not have any control over the mode of the interest payments itself, as the deductions were done as per the loan terms agreed upon by the State Government and TUFIDCO itself, as mentioned in Loan Assistant Document attached. The State Finance Commission Devolution Proceedings attached as part of the Paper-books reveal that the assessee was only provided with the Net Amount by the Government, after making deductions towards Interest Dues payable to TUFIDCO. Therefore, the assessee did not have any control over the amount paid to the credit of TUFIDCO and the assessee stands in the debit side only for nomenclature and the entire transaction is carried out by the State Government as per terms of the loan assistance. Therefore, as per Section 194A(1) of the Act, casting liability on the assessee by treating it as an assessee-in-default is not warranted.

In the result both the appeals of the assessee are allowed.