GAUTAM R. GUPTA,MUMBAI vs. ACIT- 27 (1), MUMBAI

The only issue to be decided in this appeal is as to whether the ld. CIT(A) was justified in confirming the disallowance made in the sum of Rs.19,10,536/- towards interest u/s.36(1)(iii) of the Act in the facts and circumstances of the instant case.

None appeared on behalf of the assessee. We have heard the ld. DR and perused the materials available on record. We find that the assessee is an individual engaged in the business of trading in MS Iron and Steel products. The return of income for the A.Y.2014-15 was electronically filed by the assessee on 26/09/2014 declaring total income of Rs.35,85,410/-. The ld. AO observed that the assessee had debited a sum of Rs. 54,76,819/- as interest paid on bank loans and Rs.19,10,536/- as interest paid to others on unsecured loans. During the year , the ld. AO also observed that assessee is a partner in partnership firm M/s. Ambhe Properties. The ld. AO observed that assessee has capital account balance with the said partnership firm for Rs.1,87,25,503/- on which no interest has been received by the assessee from the firm. The ld. AO show-caused the assessee as to why the interest paid on loans to the extent of amounts invested in the partnership firm as capital contribution should not be disallowed on a proportionate basis u/s.36(1)(iii) of the Act. We find that the authorised representative of the assessee vide letter dated 13/12/2016 submitted before the ld. AO that assessee had invested monies in the partnership firm M/s. Ambhe Properties for smooth running of the business of the partnership firm and this investment was not made with an intention to earn interest income thereon. It was also pointed out to the ld. AO by the assessee that both the partners in the partnership firm had contributed equal amount of investment thereon. It was also pointed out that both the partners had not received any interest from the partnership firm. We find that the ld. AO assumed that the said investment made in partnership firm had been made by the assessee out of borrowed funds. We find that absolutely no nexus of borrowed funds vis-à-vis the amount invested in partnership firm was brought on record by the ld.AO. The ld. AO merely assumed that borrowed funds have been diverted for non-business purposes by way of making investment in capital of a partnership firm from which no interest had been received by the assessee. Accordingly, he proceeded to disallow the interest paid on unsecured loans in the sum of Rs.19,10,536/- as amount allegedly diverted for non-business purposes u/s.36(1)(iii) of the Act. We find that though the Section under which this disallowance made was not mentioned by the ld. AO in his assessment order, the disallowance was made based on the parameters pertaining to Section 36(1)(iii) of the Act. This was further ratified by the ld. CIT(A) while confirming the disallowance u/s.36(1)(iii) of the Act, wherein he categorically mentioned the section as 36(1)(iii) of the Act while confirming the disallowance.

3.1. The ld. DR before us vehemently argued that since assessee was not receiving any interest income from the capital contribution made in the partnership firm, the only income that would be received by the assessee would be share of profit from the partnership firm which would be exempt from tax and hence, interest paid on borrowed funds is not eligible for deduction u/s.36(i)(iii) of the Act and accordingly, the said disallowance was rightly made by the ld. AO and confirmed by the ld. CIT(A). We are unable to persuade ourselves to accept to this proposition of the ld. DR for the following reasons:- a) There is absolutely no nexus of borrowed funds being used for investment in capital contribution of partnership firm which is brought on record by the lower authorities. Hence, Reliance placed by the ld. DR on the decision of the Hon’ble Madhya Pradesh High Court in the case of CIT vs. Sorabji Framji Kerawala reported in 39 ITR 99 would not apply to the facts of the instant case in as much as in the facts of the case before the Hon’ble Madhya Pradesh High Court, there is a clear finding that borrowed funds were used for making investment in partnership firm. Hence, the decision relied upon by the ld. DR would not advance the case of the Revenue. We hold that there cannot be any assumption / presumption that only borrowed funds were used for making investment in capital contribution of partnership firm, unless there is mixed funds (i.e borrowed funds and own funds inextricably mixed in the same bank account). b) In any case, there is no dispute that assessee is a partner in Ambhe Properties (firm). Hence, it is a duty of the assessee in the capacity of a partner to pump in sufficient capital contribution for the smooth running of the business of the partnership firm. This investment is to be considered as an investment made as a measure of commercial expediency. Obviously, the amount contributed by the partner would be certainly a business investment and would be for business purposes. Even if the funds required for the said contribution were received out of borrowed funds, still the business purpose of making the investment and business purpose of utilisation of borrowed funds thereon is proved beyond doubt and cannot be doubted at all. c) For the purpose of allowability of interest on borrowed funds u/s.36(1)(iii) of the Act, what is required is only whether the borrowed funds have been used by the assessee for the purpose of business. It is totally irrelevant and immaterial whether any return on investment has been received in the form of taxable income or exempt income by the assessee out of utilisation of such borrowed funds. Reliance in this regard is placed on the following decisions:- i) Decision of Andhra Pradesh High Court in the case of CIT vs. Gopikrishna Muralidhar reported in 47 ITR 469 ii) Decision of Hon’ble Calcutta High Court in the case of Woolcombers of India Ltd. vs CIT reported in 134 ITR 219 iii) Decision of Hon’ble Supreme Court in the case of SA Builders Ltd., vs. CIT reported in 288 ITR 1 3.2. We have already held hereinabove that amount invested in partnership firm by the assessee partner is certainly for business purpose and hence, there cannot be any disallowance of interest u/s.36(1)(iii) of the Act. In view of the aforesaid observations, the grounds raised by the assessee are allowed.

In the result, appeal of the assessee is allowed.