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Facts
The assessee, engaged in buying and selling securities, filed a return declaring a loss. During assessment, the AO noted significant investments and disallowed Rs.40,53,508/- under Section 14A, exceeding the Rs.2,000/- exempt income earned. The CIT(A) confirmed a disallowance of Rs.8,61,197/-.
Held
The Tribunal held that disallowance under Section 14A cannot exceed the exempt income earned. Based on various High Court decisions, it ruled that since the assessee earned only Rs.2,000/- as exempt income, the disallowance should be limited to this amount.
Key Issues
Whether disallowance under Section 14A can exceed the exempt income earned by the assessee.
Sections Cited
14A, Rule 8D, 143(2), 142(1)
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Income Tax Appellate Tribunal, PUNE BENCH “SMC”, PUNE
Before: SHRI R. K. PANDA & SHRI VINAY BHAMORE
This appeal filed by the assessee is directed against the order dated 23.04.2024 of the Ld. CIT(A) / NFAC, Delhi relating to assessment year 2018-19.
The only issue raised by the assessee in the grounds of appeal relates to the order of the Ld. CIT(A) / NFAC in sustaining the addition of Rs.40,53,508/- made by the Assessing Officer u/s 14A of the Income Tax Act, 1961 (hereinafter referred to as ‘the Act’) read with Rule 8D of the Income Tax Rules, 1962 (hereinafter referred to as ‘the Rules’).
Facts of the case, in brief, are that the assessee is a company engaged in the business of buying and selling of government securities. It also does trading in shares (F&O). It filed its return of income on 31.10.2018 declaring total loss of Rs.5,65,783/-. The case of the assessee was selected for complete scrutiny through CASS and accordingly statutory notices u/s 143(2) and 142(1) of the Act were issued and served on the assessee in response to which the AR of the assessee appeared before the Assessing Officer from time to time and filed the requisite details.
During the course of assessment proceedings the Assessing Officer noted from the Balance Sheet that the assessee has made investments in shares and securities amounting to Rs.79,41,01,660/-. The assessee itself has disallowed an amount of Rs.2,000/- u/s 14A. Since the assessee has huge investments and having borrowed funds, the Assessing Officer asked the assessee to explain as to why the provisions of section 14A read with Rule 8D should not be disallowed. The assessee explained that it has earned only Rs.2,000/- as exempt income which the assessee itself has disallowed. Relying on various decisions, it was submitted that the disallowance u/s 14A cannot exceed the exempt income.
5. However, the Assessing Officer was not satisfied with the arguments advanced by the assessee. Applying the provisions of section 14A read with Rule 8D and relying on certain decisions and distinguishing the decisions cited by the assessee, he made the disallowance of Rs.40,53,508/-.
6. In appeal the Ld. CIT(A) / NFAC though noted that the assessee has received the exempt income of only Rs.2,000/-, however, dismissed the grounds raised by the assessee by directing the Assessing Officer to disallow further amount of Rs.8,61,197/-. The relevant observations of the Ld. CIT(A) / NFAC read as under: “Ground No.3: The assessing officer has erred in law and on the facts of the case in disallowing the amount of Rs.40,55,508/- which is in excess of the expenditure incurred in relation to the exempt income. The assessment order and the submission uploaded have been carefully examined and found that it is a fact the appellant had made huge investment in form of shares and securities and investment as capital in the partnership firms, whereas earned exempted income to the tune of Rs 2,000/- to the extent of which has been disallowed by the appellant on its own in the computation of income. It is also observed from the details uploaded that the appellant on its own has disallowed in the computation statement the expenditures to the tune of Rs.11,65,844/-, as against the total expenditure debited to the tune of Rs.20,27,023/-. However, in the submission made on 22/03/2024, the appellant has requested this office to direct the AO to restrict the disallowance u/s 14A r.w Rule 8D for the remaining amount of Rs.8,61,197/-. The submission uploaded has been carefully considered and found that since, there were investments made for earning exempted income, but that was a meager exempted income earned by the appellant. In the given factual matrix, I am of the considered opinion that further disallowance as requested by the appellant should be made by disallowing Rs.8,61,197/-. Accordingly, the AO is directed to disallow Rs.8,61,197/-. Therefore, the ground raised is dismissed.”
7. Aggrieved with such order of the Ld. CIT(A) / NFAC, the assessee is in appeal before the Tribunal.
8. The Ld. Counsel for the assessee referring to the decisions of the Hon’ble Bombay High Court in the case of Nirved Traders Pvt. Ltd. vs. DCIT (2020) 421 ITR 142 (Bom) and in the case of HSBC Invest Direct (India) Ltd. (2020) 421 ITR 125 (Bom) submitted that the Hon’ble Bombay High court in the said decisions has held that the disallowance u/s 14A cannot exceed the exempt income earned. He accordingly submitted that the order of the Ld. CIT(A) / NFAC be reversed and the grounds raised by the assessee be allowed.
9. The Ld. DR on the other hand heavily relied on the orders of the Assessing Officer and the Ld. CIT(A) / NFAC.
10. We have heard the rival arguments made by both the sides, perused the orders of the Assessing Officer and Ld. CIT(A) / NFAC and the paper book filed on behalf of the assessee. We have also considered the various decisions cited before us. It is an admitted fact that the total exempt income received by the assessee during the year is only Rs.2,000/-. This finding of fact was given by the Assessing Officer as well as the Ld. CIT(A) / NFAC and there is no dispute to the same. Under these circumstances, we have to see as to whether the disallowance u/s 14A read with Rule 8D can exceed the exempt income that has been earned by the assessee.
We find the Hon’ble Bombay High Court in the case of PCIT vs. HSBC Invest Direct (India) Ltd. (supra) following the decision of the Hon’ble Delhi High Court in the case of Cheminvest Limited vs. CIT (2015) 378 ITR 33 (Del) and in the case of CIT vs. Holcim India (P) Ltd. in of 2014, order dated 05.09.2014 has held that the disallowance u/s 14A cannot exceed the exempt income earned. Similarly, in the case of Nirved Traders Pvt. Ltd. vs. DCIT (supra), the Hon’ble Bombay High Court has held that the disallowance u/s 14A read with Rule 8D cannot exceed the assessee’s exempt income. The relevant observations of the Hon’ble High Court read as under: “5. Having heard the learned Counsel for the parties and having perused the documents on record, consistently different High Courts in the country have taken a view that the disallowance under Section 14A of the Act read with Rule 8D of the Rules cannot exceed the Assessee's exempt income. The Delhi High Court, in the case of Cheminvest Ltd. Vs. Commissioner of Income Tax 1, has held that when the Assessee has not earned any income which was exempt from tax, disallowance of the expenditure under Section 14A read with 8D of the Rules would not be permissible.
Karnataka High Court, in the case of Pragati Krishna Gramin Bank Vs. Joint Commissioner of Income-tax2, has held that expenditure in relation to income not includable in the total income cannot exceed such income. It was observed as under. "14. We make it clear that the expenditure for earning exempted income has to have a reasonable proportion to the income, so earned, going by the common financial prudence. Therefore, even if the Assessing Authority has to make an estimate of such an expenditure incurred to earn exempted income, it has to have a rational nexus with the amount of income earned itself. Disallowance under Section 14A of Rs.2,48,85,000/- as expenses to earn exempted Dividend income of Rs.1,80,30,965/- is per se absurd and 1 378 ITR 33 2 [2018] 256 Taxman 349 (Karnatama) URS 3 of 7 4 3-ITXA 149-17.odt hypothetical. The disallowance under Section 8D cannot exceed the expenses claimed by assessee under the Proviso to Rule 8D. Therefore, where the assessee claimed that assessee did not incur any such expenditure during the year in question to earn Dividends of Rs.1,80,30,965/-, the burden was upon the assessing authority to compute the interest on such borrowed funds which were dedicatedly used for investment in securities to earn such exempted Dividend income. The disallowance under Section 14A cannot be wild guesswork bereft of ground realities. It has to have a reasonable and close nexus with the factually incurred expenses. It is not deemed disallowance under Section 14A of the act but an enabling provision for assessing authority to compute the same on the given facts and figures in the regularly maintained Books of Accounts. The assessing authority also could not have called upon the Assessee himself to undertake the exercise of computing the disallowance under Section 8D of the Rules. Such abdication of duty is not permissible in law. Since no such exercise has been undertaken by the assessing authority, the case calls for a remand."
Gujarat High Court, in the case of Commissioner of Income-tax-I Vs. Corrtech Energy (P.) Ltd.3, has held and observed as under :
4. Counsel for the Revenue submitted that the Assessing Officer as well as CIT (Appeals) had applied formula of rule 8D of the Income Tax Rules, since this case arose after the assessment year 2009-2010. Since in the present case, we are concerned with the assessment year 2009-2010, such formula was correctly applied by the Revenue. We however, notice that sub-section (1) of section 14A provides that for the purpose of computing total income under chapter IV of 3 [2015] 372 ITR 97 URS 4 of 7 5 3-ITXA 149-17.odt the Act, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under the Act. In the present case, the tribunal has recorded the finding of fact that the assessee did not make any claim for exemption of any income from payment of tax. It was on this basis that the tribunal held that disallowance under section 14A of the Act could not be made. In the process tribunal relied on the decision of Division Bench of Punjab and Haryana High Court in case of CIT v Winsome Textile Industries Ltd. [2009] 319 ITR 204 in which also the Court had observed as under :
7. We do not find any merit in this submission. The judgement of this court in Abhishek Industries Ltd. (2006) 286 ITR 1 was on the issue of allowability of interest paid on loans given to sister concerns, without interest. It was held that deduction for interest was permissible when loan was taken for business purpose and not for diverting the same to sister concern without having nexus with the business. The observations made therein have to be read in that context. In the present case, admittedly the assessee did not make any claim for exemption. In such a situation section 14A could have no application."
5. We do not find any question of law arising. Appeal is therefore dismissed."
Recently, this Court, in a decision dated 4th February, 2019, in the case of The Pr. Commissioner of Income Tax-10 Vs. HSBC Invest Direct (India) Ltd. had observed as under. "4. Having heard learned Counsel for the parties and perused documents on record, we notice that in Cheminvest Ltd. (supra) Delhi High Court had referred to and relied upon its earlier decision in the case of CIT Vs. Holcim India (P) Ltd. (I.T.A. No.486 of 2014, decided on 5th September 2014). we further notice that this Court in Income Tax Appeal No.693 of 2015 by an order dated 21st November, 2017 while dismissing the Revenue's appeal on similar issue had noted that the decision of Delhi High Court in case of Holcim India )P) Ltd. (supra) had adopted the same principles. In the present case, Counsel for the Revenue however, points out that this is not a case where the assessee had earned no income which was exempt from tax. However, in our opinion, the ratio of the above noted decisions in the cases of Cheminvest Ltd. and Holcim India (P) Ltd. (supra) would include a facet where the assessee's income exempt from tax is not NIL but has earned exempt income which is larger than the expenditure incurred by the assessee in order to earn such income. In such a situation that disallowance cannot exceed the exempt income so earned by the assessee during the year under consideration. We do not find any error in the view of the Tribunal. We record that the assessee had offered voluntary disallowance of expenditure of Rs.1.30 crores, which is not been disturbed by the Tribunal.
The tax appeal is dismissed."
In view of such consistent trend of the High Courts, we answer the question in favour of the Assessee. We reverse the decision of the Tribunal to the extent of limiting the disallowance under Section 14A of the Act to a sum of Rs.1,13,72,545/-.
The Appeal is allowed in part and disposed of accordingly.”
Since the assessee in the instant case has admittedly earned the exempt income of only Rs.2,000/-, therefore, the disallowance u/s 14A read with Rule 8D cannot exceed the exempt income. We, therefore, set aside the order of the Ld. CIT(A) / NFAC and direct the Assessing Officer to delete the addition made by him since the assessee has already suo motu disallowed an amount of Rs.2,000/-. The grounds raised by the assessee are accordingly allowed.
In the result, the appeal filed by the assessee is allowed.
Order pronounced in the open Court on 26th May, 2025.