SHRI. SHANKARLAL GILADA vs. THE INCOME TAX OFFICER,

1 IN THE HIGH COURT OF KARNATAKA KALABURAGI BENCH DATED THIS THE 22ND DAY OF JANUARY, 2020 PRESENT THE HON’BLE MR.JUSTICE G.NARENDAR AND THE HON’BLE MR.JUSTICE M.NAGAPRASANNA ITA No.200002 OF 2018 BETWEEN: SHRI SHANKARLAL GILADA, H.NO.1-10/5, KHOOBA PLOTS, GULBARGA – 585 002.

... APPELLANT (BY SRI G. VENKATESH, ADVOCATE FOR SRI A. SHANKAR AND SRI MANJUNATH MALLAYYA SHETTY, ADVOCATES) AND: THE INCOME TAX OFFICER, WARD 3(1) (2), BMTC BUILDING, 6TH BLOCK, KORAMANGALA, BENGALURU – 560 095.

... RESPONDENT (BY SRI AMEET KUMAR DESHPANDE, ADVOCATE)

2 THIS INCOME TAX APPEAL IS FILED UNDER SECTION 260A OF THE INCOME TAX ACT, 1961, PRAYING TO FORMULATE THE SUBSTANTIAL QUESTIONS OF LAW STATED ABOVE AND ANSWER THE SAME IN FAVOUR OF THE APPELLANT; ALLOW THE APPEAL AND SET ASIDE THE FINDINGS THEREIN TO THE EXTENT AGAINST THE APPELLANT IN THE ORDER PASSED BY THE INCOME-TAX APPELLATE TRIBUNAL IN SMC-C BENCH, BENGALURU IN ITA Nos.1534 & 1535/BANG/2016 DATED 24.08.2017 REFERRED TO AS ANNEXURE A RELATING TO THE ASSESSMENT YEARS 2012-13 AND 2013-14 ETC., THIS INCOME TAX APPEAL COMING ON FOR ADMISSION,

NAGAPRASANNA J., DELIVERED THE FOLLOWING:- JUDGMENT Aggrieved by the order dated 24.8.2017 passed in ITA Nos.1534 & 1535/BANG/2016 by the Income Tax Appellate Tribunal, whereby the Tribunal has dismissed the appeal of the assessee, affirming the order of the Assessment Officer, the instant Income Tax Appeal is filed.

3 2. The appellant is an assessee and has been assessed for tax under various heads namely, house property, captive income and income from other sources for the assessment year 2013-14. The appellant filed return of income on 23.10.2013 declaring his total income of Rs.10,35,060/- for the assessment year 2013-14. His statement of computation of tax was also enclosed to the return that was filed. 3. It is the case of the appellant that he earned the business income from various partnership firms, in which he is a partner as also, from a proprietorship concern by name Vishal Concrete Works. The appellant also submitted audited financial statement of Vishal Concrete Works for the assessment year 2013-14 as also, a personal balance sheet drawn as on 31.3.2013. 4. The return of income of the appellant was taken up for scrutiny and the statutory notices were issued to the

4 appellant under Sections 143(2) and 142(1) of the Income Tax Act, 1961 (hereinafter referred to as ‘the Act’ for short). The appellant appeared and furnished all the details. The Assessing Officer concluded the proceedings under Section 143(3) of the Act and passed an order on 17.11.2015 making one addition which was disallowance under Section 14A of the Act read with Rule 8D of Income Tax Rules, 1962, (hereinafter referred to as ‘the Rules’ for short) which resulted in assessing the income of the appellant at Rs.11,41,690/- as against the return of income filed at Rs.10,35,060/-. 5. The appellant, aggrieved by the aforementioned assessment of the Assessing Officer, filed a statutory appeal in ITA No.55/W-3(1)(3)/CIT(A)/BNG-3/2015-16 before the Commissioner of Income Tax (Appeals)-3, Bengaluru, the Appellate Authority. The Appellate Authority, by his order dated 22.6.2016, dismissed the appeal confirming the order passed by the Assessing Officer. Aggrieved by the order

5 passed by the Appellate Authority, the appellant filed ITA Nos.1534 & 1535/Bang/2016 before the Income Tax Appellate Tribunal, Bengaluru, (hereinafter referred to as ‘the Tribunal’ for short) on the following grounds: “1. The learned Commissioner of Income- tax(A) erred in passing the order in the manner he did. 2. The learned Commissioner (A) further ought to have appreciated that no part of borrowed fund were utilized in making investment and further AO having not established the nexus between borrowed fund and investment, ought to have deleted the addition in toto. 3. The learned Commissioner (A) erred in confirming the addition u/s 14A r. w. Rule 8D of the Rules where no expenditure is incurred for earning exempt income. 4. The learned Commissioner (A) further ought to have appreciated that the AO has made an addition without recording satisfaction with regard

6 to the claim of the appellant and hence ought to have deleted the addition in toto. 5. Without prejudice, the addition is excessive, arbitrary and unreasonable and liable to be deleted in toto. 6. For these and other grounds that may be urged at the time of hearing of the appeal the appellant prays that the appeal may be allowed.” 6. The Tribunal, by its order dated 24.8.2017, dismissed the appeal filed by the appellant for the assessment years 2012-13 And 2013-14. Being aggrieved by the order passed by the Tribunal, in the aforementioned appeal, the assessee has filed the instant appeal. 7. We have heard Sri G. Venkatesh, learned Counsel appearing for Sri A. Shankar and Sri Manjunath Mallayya Shetty, learned counsels for the appellant, Sri. Ameet Kumar Deshpande, learned Counsel appearing for the respondent.

7 8. The only issue that arises for our consideration, in the present appeal, is concerning the disallowance made by the Assessing Officer for the assessment years 2012-13 and 2013- 14. 9. The appellant has contended that he has made investments in the shares of companies, which were the tax exempt investments, and the appellant has not earned any tax exempt incomes during the relevant years, namely, 2012-13 and 2013-14, from any of the tax exempt investments. The disallowance made by the Assessing Officer under Section 14A of the Act read with Rule 8D of the Rules for the assessment year 2012-13 is to the tune of 2,49,694/- and in view of the disallowance made, the appellant has incurred the interest expenditure of Rs.32,09,672/- on the borrowed funds, which according to him, is attributable to the investments he has made in the shares of various companies, which are the tax exempt investments.

8 10. The appellant contends that the Assessing Officer has computed the income erroneously and disallowed an amount of Rs.1,16,664/- and Rs.1,33,030/- for the respective years. The Assessing Officer has completely misconstrued and misdirected himself on facts, as the disallowance of any amount under Section 14A of the Act would not arise to the facts of the case at all. 11. Learned counsel appearing for the revenue would seek to justify the orders passed by the Assessment Officer and that of the Tribunal and would submit that the issue that is formed for consideration before this Court stands completely covered by the judgment of the Apex court in the case of Maxopp Investment Ltd. v. Commissioner of Income Tax, New Delhi reported in (2018) 15 SCC 523.

9 12. We have given our anxious consideration to the submissions made by the learned counsel appearing for the parties and have perused the material on record. 13. The appellant borrowed money from various sources and such interest bearing funds were utilized for making investment in shares, which according to the appellant, is the income which is exempt from tax. It is to be noticed that by the act of the appellant the exempt investments have increased from Rs.2,12,07,696/- for financial year 2010-11 to Rs.3,20,04,328/- for financial years 2011-12. The factum of borrowing money from various sources which bears interest and utilising the same in making investment in shares is not disputed by the appellant before the authorities, before the Tribunal or before this Court. The submission is that when the borrowed money is utilised for making investment in shares and the income derived from such investments being exempt from tax, the disallowance under Section 14-A by the Assessing Officer is contrary to law. This submission of the

10 learned counsel appearing for the appellant is unacceptable to us as the Apex Court in the case of Maxopp Investment Ltd. v. Commissioner of Income Tax, New Delhi reported in (2018) 15 SCC 523, considering the judgments rendered by various High Courts interpreting Section 14-A of the Act and holding that disallowance under 14-A can be invoked only if there is nexus between the borrowed funds which bear interest and investment from the borrowed funds to the extent of such investment made from the borrowed funds. The Apex Court at paragraphs 40 to 50 has held as follows: “40. We have given our thoughtful consideration to the arguments of the counsel for the parties on both sides, in the light of various judgments which have been cited before us, some of which have already been taken note of above. 41. In the first instance, it needs to be recognised that as per Section 14-A(1) of the Act, deduction of that expenditure is not to be allowed which has been incurred by the assessee “in

11 relation to income which does not form part of the total income under this Act”. Axiomatically, it is that expenditure alone which has been incurred in relation to the income which is includible in total income that has to be disallowed. If an expenditure incurred has no causal connection with the exempted income, then such an expenditure would obviously be treated as not related to the income that is exempted from tax, and such expenditure would be allowed as business expenditure. To put it differently, such expenditure would then be considered as incurred in respect of other income which is to be treated as part of the total income. 42. There is no quarrel in assigning this meaning to Section 14-A of the Act. In fact, all the High Courts, whether it is the Delhi High Court on the one hand or the Punjab and Haryana High Court on the other hand, have agreed in providing this interpretation to Section 14-A of the Act. The entire dispute is as to what interpretation is to be given to the words “in relation to” in the given scenario viz. where the dividend income on the shares is earned, though the dominant purpose for subscribing in

12 those shares of the investee company was not to earn dividend. We have two scenarios in these sets of appeals. In one group of cases the main purpose for investing in shares was to gain control over the investee company. Other cases are those where the shares of investee company were held by the assessees as stock-in-trade (i.e. as a business activity) and not as investment to earn dividends. In this context, it is to be examined as to whether the expenditure was incurred, in respective scenarios, in relation to the dividend income or not. 43. Having clarified the aforesaid position, the first and foremost issue that falls for consideration is as to whether the dominant purpose test, which is pressed into service by the assessees would apply while interpreting Section 14-A of the Act or we have to go by the theory of apportionment. We are of the opinion that the dominant purpose for which the investment into shares is made by an assessee may not be relevant. No doubt, the assessee like Maxopp Investment Ltd. may have made the investment in order to gain control of the investee company. However, that does not appear

13 to be a relevant factor in determining the issue at hand. Fact remains that such dividend income is non-taxable. In this scenario, if expenditure is incurred on earning the dividend income, that much of the expenditure which is attributable to the dividend income has to be disallowed and cannot be treated as business expenditure. Keeping this objective behind Section 14-A of the Act in mind, the said provision has to be interpreted, particularly, the word “in relation to the income” that does not form part of total income. Considered in this hue, the principle of apportionment of expenses comes into play as that is the principle which is engrained in Section 14-A of the Act. This is so held in Walfort Share and Stock Brokers (P) Ltd. [CIT v. Walfort Share and Stock Brokers (P) Ltd., (2010) 8 SCC 137 : (2010) 326 ITR 1] , relevant passage whereof is already reproduced above, for the sake of continuity of discussion, we would like to quote the following few lines therefrom: (SCC p. 151, paras 34 & 36) “34. … The next phrase is, “in relation to income which does not form part of total income under this Act”. It means that if an

14 income does not form part of the total income, then the related expenditure is outside the ambit of the applicability of Section 14-A. *** 36. The theory of apportionment of expenditures between taxable and non- taxable (sic income) has, in principle, been now widened under Section 14-A.” 44. The Delhi High Court, therefore, correctly observed that prior to introduction of Section 14-A of the Act, the law was that when an assessee had a composite and indivisible business which had elements of both taxable and non-taxable income, the entire expenditure in respect of the said business was deductible and, in such a case, the principle of apportionment of the expenditure relating to the non-taxable income did not apply. The principle of apportionment was made available only where the business was divisible. It is to find a cure to the aforesaid problem that the legislature has not only inserted Section 14-A by the Finance (Amendment) Act, 2001 but also made it

15 retrospective i.e. 1962 when the Income Tax Act itself came into force. The aforesaid intent was expressed loudly and clearly in the Memorandum explaining the provisions of the Finance Bill, 2001. We, thus, agree with the view taken by the Delhi High Court, and are not inclined to accept the opinion of the Punjab and Haryana High Court which went by dominant purpose theory. The aforesaid reasoning would be applicable in cases where shares are held as investment in the investee company, may be for the purpose of having controlling interest therein. On that reasoning, appeals of Maxopp Investment Ltd. as well as similar cases where shares were purchased by the assessees to have controlling interest in the investee companies have to fail and are, therefore, dismissed. 45. There is yet another aspect which still needs to be looked into. What happens when the shares are held as “stock-in-trade” and not as “investment”, particularly, by the banks? On this specific aspect, CBDT has issued Circular No. 18/2015 dated 2-11-2015.

16 46. This circular has already been reproduced in para 27 above. This circular takes note of the judgment of this Court in Nawanshahar case [CIT v. Nawanshahar Central Coop. Bank Ltd., (2007) 15 SCC 611 : (2007) 289 ITR 6 : (2007) 160 Taxman 48] wherein it is held that investments made by a banking concern are part of the business or banking. Therefore, the income arising from such investments is attributable to business of banking falling under the head “profits and gains of business and profession”. On that basis, the circular contains the decision of the Board that no appeal would be filed on this ground by the officers of the Department and if the appeals are already filed, they should be withdrawn. A reading of this circular would make it clear that the issue was as to whether income by way of interest on securities shall be chargeable to income tax under the head “income from other sources” or it is to fall under the head “profits and gains of business and profession”. The Board, going by the decision of this Court in Nawanshahar case [CIT v. Nawanshahar Central Coop. Bank Ltd.,

17 (2007) 15 SCC 611 : (2007) 289 ITR 6 : (2007) 160 Taxman 48] , clarified that it has to be treated as income falling under the head “profits and gains of business and profession”. The Board also went to the extent of saying that this would not be limited only to cooperative societies/banks claiming deduction under Section 80-P(2)(a)(i) of the Act but would also be applicable to all banks/commercial banks, to which the Banking Regulation Act, 1949 applies. 47. From this, the Punjab and Haryana High Court pointed out that this circular carves out a distinction between “stock-in-trade” and “investment” and provides that if the motive behind purchase and sale of shares is to earn profit, then the same would be treated as trading profit and if the object is to derive income by way of dividend then the profit would be said to have accrued from investment. To this extent, the High Court may be correct. At the same time, we do not agree with the test of dominant intention applied by the Punjab and Haryana High Court, which we have already discarded. In that event, the question is as to on

18 what basis those cases are to be decided where the shares of other companies are purchased by the assessees as “stock-in-trade” and not as “investment”. We proceed to discuss this aspect hereinafter. 48. In those cases, where shares are held as stock-in-trade, the main purpose is to trade in those shares and earn profits therefrom. However, we are not concerned with those profits which would naturally be treated as “income” under the head “profits and gains from business and profession”. What happens is that, in the process, when the shares are held as “stock-in-trade”, certain dividend is also earned, though incidentally, which is also an income. However, by virtue of Section 10(34) of the Act, this dividend income is not to be included in the total income and is exempt from tax. This triggers the applicability of Section 14-A of the Act which is based on the theory of apportionment of expenditure between taxable and non-taxable income as held in Walfort Share and Stock Brokers (P) Ltd. case [CIT v. Walfort Share and Stock Brokers (P)

19 Ltd., (2010) 8 SCC 137 : (2010) 326 ITR 1] . Therefore, to that extent, depending upon the facts of each case, the expenditure incurred in acquiring those shares will have to be apportioned. 49. We note from the facts in State Bank of Patiala case [CIT v. State Bank of Patiala, (2017) 391 ITR 218 (P&H)] that the AO, while passing the assessment order, had already restricted the disallowance to the amount which was claimed as exempt income by applying the formula contained in Rule 8-D of the Rules and holding that Section 14-A of the Act would be applicable. In spite of this exercise of apportionment of expenditure carried out by the AO, CIT(A) disallowed the entire deduction of expenditure. That view of the CIT(A) was clearly untenable and rightly set aside by ITAT. Therefore, on facts, the Punjab and Haryana High Court has arrived at a correct conclusion by affirming the view of ITAT, though we are not subscribing to the theory of dominant intention applied by the High Court.

20 50. It is to be kept in mind that in those cases where shares are held as “stock-in-trade”, it becomes a business activity of the assessee to deal in those shares as a business proposition. Whether dividend is earned or not becomes immaterial. In fact, it would be a quirk of fate that when the investee company declared dividend, those shares are held by the assessee, though the assesseehas to ultimately trade those shares by selling them to earn profits. The situation here is, therefore, different from the case like Maxopp Investment Ltd. [Maxopp Investment Ltd. v. CIT, 2011 SCC OnLine Del 4855 : (2012) 347 ITR 272] where the assessee would continue to hold those shares as it wants to retain control over the investee company. In that case, whenever dividend is declared by the investee company that would necessarily be earned by the assessee and the assessee alone. Therefore, even at the time of investing into those shares, the assessee knows that it may generate dividend income as well and as and when such dividend income is generated that would be earned by the assessee. In contrast, where the shares are held as stock-in-trade, this may not be necessarily a

21 situation. The main purpose is to liquidate those shares whenever the share price goes up in order to earn profits. In the result, the appeals filed by the Revenue challenging the judgment of the Punjab and Haryana High Court in State Bank of Patiala [CIT v. State Bank of Patiala, (2017) 391 ITR 218 (P&H)] also fail, though law in this respect has been clarified hereinabove.” The Apex Court has considered every facet and parameters of disallowance in terms of Section 14-A of the Act. The Tribunal on re-appreciation of the entire material has held as follows:

“6. Regarding disallowance of interest in A.Y.2012-13 of Rs.116,664/- out of interest expenditure, this is the contention of the learned AR of the assessee that interest free fund available on 31.03.2012 in the form of capital is Rs.632.88 Lacs as against investment on that date of Rs.320.04 lacs and therefore, no disallowance out of interest is called for u/s 14A. In this regard, I find that as per Rule 8D, in the case of Mixed funds as in the present case, if the assessee established that investment is having direct nexus with interest

22 free funds than to the extent of such investment, no disallowance out of interest expenditure is called for. Similarly, if the assessee establishes direct nexus between interest bearing fund and its use for earning taxable income than also, interest on such borrowings is to be disregarded for proportionate disallowance out of interest expenditure. Similarly, if the AO establishes direct nexus between interest bearing borrowed funds and investment than to that extent, entire interest expenditure is to be disallowed and not proportionate interest. But in respect of the interest bearing borrowed funds, for which direct nexus is not established by the AO with investment or by assessee with taxable income, proportionate disallowance has to be made as per Rule 8D. In the present case, no side has established any direct nexus and therefore, proportionate disallowance made by the AO as per Rule 8D is justified and no interference is called for on this aspect also.” The Tribunal, on consideration of the rival submissions clearly notices that the Assessing Officer has established that there is

23 direct nexus between the borrowed funds which bear interest and investment made out of those borrowed funds and to that extent, the entire interest expenditure is to be disallowed. 14. In the light of the law laid down by the Apex Court in the afore-stated case which is interpreting the very provisions that are called in question in the case at hand, which is rendered after considering all the judgments of various High Courts on the same issue, we find that the Assessing Officer, the Appellate Authority and the Tribunal have considered all the relevant records and on facts have arrived at a correct conclusion. Therefore, no interference is called for, more particularly, when the orders passed by the Assessment Officer as affirmed by the Appellate Authority and the Tribunal are just and proper. No substantial question of law arises for our consideration in this appeal.

24 Accordingly, the appeal fails and the same stands dismissed. Sd/- JUDGE Sd/- JUDGE bkp