DCIT 3(1), MUMBAI vs. EDELWEISS CAPITAL LTD, MUMBAI

By the impugned order, CIT(A) deleted the disallowance after observing as under:- “8.2 I have considered the A.O.'s order as well as appellant AR's submission. It is an admitted fact that the appellant has issued 13.5% fully convertible debentures to Lehman Brothers and had advanced these funds, to its wholly owned subsidiaries on interest @ 9% p.a. It is further clear that the funds received on issuance of the 13.5% fully convertible debentures were for a period of 5 years whereas the funds advanced to subsidiary companies were repayable on call & demand. It is further clear the wholly owned subsidiaries are carrying on business activities related to Finance and Capital Markets. In the assessment orders passed u/s. 143(3), in the cases of wholly owned subsidiary companies, there is no finding recorded that the funds borrowed have not been used for business purposes. In the case of S.A. Builders Ltd. v CIT (288 ITR 1)(SC), it has been held on page 10 as under: "However, where it Is obvious that a holding company has a deep interest in its subsidiary, and hence if the holding company advances borrowed money to a subsidiary and the same is used by the subsidiary for some business purposes, the appellant would, in our opinion, ordinarily be entitled to deduction of interest on its borrowed loans." In the case of CIT v Dalmia Cement Bharat Ltd. 330 ITR 595 (Del) it has been held as under. aWe, therefore, answer the reference by ho/ding that the Tribunal was correct in holding that no portion of the interest paid by the assesses on its borrowed funds can be disallowed on the ground that a portion thereof has been diverted to subsidiary company. " The other decisions relied by the A.R.'s also support the claim of the appellant that no disallowance is called for merely for the reason that the 5 year term borrowings from Lehman Brothers have been utilized for giving loans to wholly owned subsidiary companies at a lower rate of interest. 8.3 In the circumstances the disallowance of claim of deduction of interest paid to the extent of the differential rate in between the borrowings made from Lehman Brothers and the interest charged on the short term lending to wholly owned subsidiary companies of Rs.65,09,590/- is deleted. Thus, the appellant this ground of appeal

We do not find any error in the order of the Id. CIT(A). It remains undisputed that the funds are mixed and it is not possible to ascertain as to whether the investment in the tax free bonds was out of the assessee's own funds. The source of investment in the tax free bonds was not identified. The A.O. did not establish any nexus between the borrowed funds and the investments in tax free bonds. The cash flow of the assessee was not seen. Therefore, the Id. CIT(A) is correct in opining that the apportionment on a pro rata basis was improper in the absence of anything brought by the AO to rebut the assessee's stand that the investment in the tax free bonds has been made out of the funds of the shareholders of the AO." Having regard to the aforesaid judicial pronouncements, it is he!d that the onus is on the A.O. to establish that the investments in shares & securities are sourced from the appellants borrowed fund and in the absence of determination of such nexus, it would be incorrect to draw a presumption that the investments in tax free securities / shares have been made out of a common pool of funds in proportion to the borrowed funds and the own funds. 8.16 Alternatively, in case the ratio laid down by the Hon'ble Bench of Mumbai ITAT in the case of Morgan Stanley India Securities Pvt. Ltd. Vs. ACIT (Mum) reported in & 6774/M/2008 for A.Y. 2001-02 & 2004-05 is applied in the facts of the appellant's case, it is seen that the net interest paid is in the negative (i.e. the gross interest received is in excess of interest paid). Once the netting of interest is done, there would be no disallowance u/r.8D(2)(ii) of the IT rules. While coming to the conclusion, I am fortified by the converse principle laid down in the case of Reliance Utilities (supra). In the case of the appellant, the interest paid on borrowing are presumed to be on the utilization of borrowed fund for the purpose of business carried on by the appellant i.e. investment banking and financing. In the facts of the appellant's case, the appellant during the year had sufficient own funds to explain the source of the additional investment made during the year. It is also a fact that the appellant had obtained funds by issuance of securities and borrowing. Thus, the assessee has a mixed set of own funds and borrowed funds. Neither the assessee nor the A.O. has established any nexus in between the borrowed fund and the investment made. In these circumstances, the principles laid down by the Hon'ble Bombay High Court become squarely applicable. For the aforesaid reasons, I find it appropriate to hold that the provisions of Rule 8D(2)(ii) are not applicable in the facts of appellant's case, as the entire expenditure by way of interest is directly attributable to income or receipts which is chargeable to tax as total income under the Income-tax Act. 8.17 Having regard to the aforesaid referred decisions, it is first held that for the purposes of Rule 8D(2)(ii), the A.O. has to determine the interest expenditure not directly attributable to any income or receipt chargeable to tax. Secondly, it is held that deduction u/s.36(1)(iii) is allowable on funds borrowed for the business and entire amount of interest is allowable as deduction since the interest expenditure would be directly attributable to the earning of income chargeable under the head 'Income from Business or Profession". ........ 8.18 As stated in para 8.10 hereinabove, for the purposes of Rule 8D(2)(ii), what is required to be determined is whether the assessee has incurred any expenditure by way of interest and if so to determine whether such interest expenditure is directly attributable to any particular income or receipt. To determine these issues, one would have to be guided by the provisions of the Act and various judicial pronouncements, having regard to facts available on record. The Hon'ble Bombay High Court in the case of Reliance Utilities Ltd. 313 ITR 340 has laid down the principle that where the own funds are in excess of investments made, there would be a presumption that the investments have been made out of the own funds. The natural corollary of this principle would be that the borrowed funds would be presumed to have been utilized for the purposes of business carried on by an assessee, in case the own funds are sufficient to cover the value of investments. This principle, according to me, establishes a direct attribution of own funds to the value of investments made by an assessee. Further, as per provisions of section 36(1)(iii), interest expenditure on amounts borrowed and used for purposes of business is allowable as deduction while computing the total income under the head 'income from business or profession' Hence in case the borrowed funds have been used for the purposes of business, the entire interest expenditure is allowable u/s.36(1)(iii) of the Act, as the interest expenditure is directly attributable to the incomes or receipts assessable under the head Income from Business or Profession'. In the facts of appellants case, the entire interest expenditure has been claimed to be allowed as deduction u/s.36(1)(iii) of the Act. Thus, in the facts of the appellant's case, there can be no denial of the fact that the interest paid on borrowings are directly attributable to the income assessable under the Act. In these facts, and having regard to. the principle laid down by the Hon:ble Jurisdictional High Court in the case of Reliance Utilities (supra), it is held that the entire interest expenditure is directly attributable to business income, which has been duly taxed by the A.O. Hence no disallowance under Rule 8D(2)(ii) can be made as the interest expenditure incurred by the appellant company is an allowable expenditure u/s.36(1 )(iii) of the Act as business expenditure. , 8.19 In summation and in view of the discussion hereinabove, it is held that the disallowance computed by the A.O. under Rule 8D(2)(ii) is incorrect and not justified in aforestated facts in case of appellant company. The entire interest expenditure is directly attributable to the income or receipts chargeable to tax under the head 'Income from Business or Profession1 as it is evident from appellant's submissions as extracted in this order.”

Against the above order of CIT(A) revenue is in further appeal before us.

Ld. DR relied on the order of AO.

It was argued by learned AR that no disallowance under Rule 8D(2)(ii) can be made since own funds of assessee are more than investment. For this purpose, reliance was placed on the following judicial pronouncements.  HDFC Bank Limited vs DOT (383 ITR 529 Bom)  CIT vs HDFC Bank Limited (366 ITR 505 Bom)  C1T vs Reliance Utilities & Power Limited (313 ITR 0340 Bom)  DCIT vs Crossborder Investment Pvt. Ltd [TTA 7658/Mum/2011 ]  Edelweiss Securities Limited vs DCIT pTA 7235/Mum/2Q 11 ]  M/s. Laadki Trading & Investment Ltd vs Addll. CIT [ITA 5493/Mum/2012]  Mrs. Anahaita Nairn Shah vs APT [ITA 7115/Mum/2013] 17. It was further argued that for the purposes of disallowance under Rule 8D(2)(ii) of the I.T. Rules, net interest (interest expenses - interest income) is to be considered. For this purpose reliance was placed on the following judicial pronouncements:-  DCIT vs Better Value Leasing & Finance Limited [ITA 2288/Mum/2014]  ITO vs Kamavati Petrochem Pvt Ltd [TTA 2228/Ahd/20121 18. We have considered rival contentions and carefully gone through the orders of the authorities below. We had also deliberated on the judicial pronouncements referred by lower authorities in their respective orders as well as cited by learned AR and DR during the course of hearing before us in the context of factual matrix of the case. From the record we found that own funds of the assessee i.e., share capital and reserves at the end of the year is Rs.13,49,75,79,368/- however, against this own fund assessee made investment of Rs.10,59,23,39,574/-. Thus, there was extra own funds of Rs.2,90,52,39,794/-. With regard to the interest expenditure, we found that interest expenses during the year was Rs.77,23,08,554/- where as interest income was Rs.93,48,14,787/-. Thus, there was net income of Rs.16,25,06,233/- on account of interest. A clear finding has been recorded by CIT(A) both with respect to availability of own funds in excess of investment and assessee having interest income more than the interest expenditure. Since the interest income was more than the interest expenditure, no disallowance is warranted under Rule 8D (2)(ii). We direct accordingly.

Since the assessee’s own funds were more than the investment, in view of the decision of Jurisdictional High Court in case of HDFC Bank Ltd., and Reliance Utilities and Power Limited, no disallowance of interest is warranted under Rule 8D2(ii) of the IT Act. Accordingly, there is no infirmity in the order of CIT(A) for deleting the disallowance of interest u/s.14A.

Ground No.3 of Revenue’s appeal are same as discussed by us in the Assessment Year 2007-08, following the reasoning given hereinabove, we do not find any infirmity in the order of CIT(A) for deleting disallowance of difference of interest u/s.36(1)(iii). We direct accordingly.

In the Assessment Year 2008-09, in the appeal filed by assessee, ground has been taken with regard to disallowance made by AO u/s.14A r.w.R 8D(2)(iii). The AO has discussed the issue at para 5.5 to 5.21 and page No.13-18. The CIT(A) has discussed the issue at para 8.6 to 8.23 at pages 23-38. It was argued by learned AR that in view of the decision of the Tribunal in the group concern M/s. Edelweiss Financial Services Ltd., in disallowance should be restricted to 5% of the exempt income. He further contended that investment in subsidiaries company have to be excluded for computing disallowance as per rule 8D(2)(iii). For this purpose, reliance was placed on the decision of Mumbai Bench in case of Garware Wallropes Limited (65 SOT 0086 Mum) and JM Financial Ltd., (ITA 4521/Mum/2012). It was also argued by learned AR that only investment giving raise to exempt income has to be considered for disallowance u/s.14A r.w.R. 8D of the IT rules. For this purpose reliance was placed on the following decisions:-  Edelweiss Finance and Investment Private Limited [ITA 6610/Mum/2011]  ACB India Limited vs DCIT (TTA 615/2014 Del HC]  M/s. Edelwiess Securities Limited vs DCIT [ITA 7235/Mum/2011]  Coal India Limited [ITA 1032/Kol/2012]

We have considered rival contentions and found that after excluding the investments on which no exempt income was received, the disallowance works out to be Rs.49,63,387/-, however, assessee himself has offered disallowance at Rs.51,46,120/-. Keeping in view the judicial pronouncements referred above, we restore the matter back to the file of AO and direct the AO to recompute the disallowance under Rule 8D(2)(iii) after excluding the investment on which no exempt income has been earned as well as investment in subsidiary companies. We direct accordingly. Assessment Year 2009-10 23. In this year also AO has made disallowance u/s.14A r.w.R. 8D(2)(iii). In the return of income assessee has offered disallowance of Rs.34,85,813/-. 24. From the record, we found that after excluding investment on which no exempt income was received by the assessee, disallowance works out to be Rs.11,934/- against which assessee has already offered disallowance of Rs. 34,85,813/-, thus, there is an excess offer of disallowance to the tune of Rs.34,73,879/-. 25. Following the reasoning given in the A.Y.2008-09, we restore the matter back to the file of AO and direct the AO to recompute the disallowance after excluding the investment on which no exempt income has been earned as well as investment in subsidiary companies. We direct accordingly. 26. AO has also disallowed corporate membership fees to Bombay Gymkhana. The AO has discussed the issue at para 6 page 98 and the CIT(A) at para 4.3.1 to 4.3.11 page 2 to 7. 27. We have considered rival contentions. The issue under consideration is squarely covered by the following decisions:-  CIT vs United Glass Manufacturing Company [2012-TIOL-102-SC]  Capgemini Business Services (India) Ltd [ITA 7779/Mum/2011]  SAB Miller India Limited [ITA 7123/Mum/2012]  DClTvs HJnduja Global Solution Limited [ITA 1107/Mum/20I4  Clariant Chemicals (I) Ltd vs Addll CIT [ITA 4281/Mum/201 1]  ITO vs Idea Cellular Ltd [ITA 3568/Mum/2008] 28. Respectfully following the proposition of law laid down by the Hon’ble Supreme Court and the Mumbai Tribunal narrated above, we do not find any merit for the disallowance of corporate membership fees paid to be treated as revenue expenditure incurred for business purposes.

In the appeal filed by revenue, the revenue is aggrieved for deleting disallowance made by AO under Rule 8D(2)(ii). The CIT(A) has deleted the disallowance after recording detailed finding at para 2.1 to 2.4 at page 1&2. The CIT(A) has followed his decision for the A.Y.2008-09 dated 07/07/2011, wherein at para 8.18 page 33, it was held that assessee’s own funds were invested in the securities, therefore, no disallowance is warranted.

We have considered rival contentions and found that assessee’s own funds in the form of share capital and reserves were Rs.13,54,82,54,318/- However, investment by the assessee was Rs.12,49,72,61,410/-. Thus, there was an excess own funds of Rs.1,05,09,92,908/-. Since the own funds were more than the investment made, respectfully following the decision of Jurisdictional High Court in case of HDFC Ltd., and Reliance Utilities and Power Ltd., we do not find any infirmity in the order of CIT(A) for deleting disallowance of interest made by AO under Rule 8D(2)(ii) of the IT Act.

Ground No.3 raised by revenue is with regard to deleting disallowance of interest made u/s.36(1)(iii) of the Act being differential interest on loan given to subsidiary companies.

As the facts and circumstances during the year under consideration are same, respectfully following the reasoning given by us in the A.Y.2007-08 vis-à-vis, detailed finding recorded by CIT(A), we do not find any reason to interfere in the order of CIT(A) for deleting disallowance of interest u/s.36(1)(iii).

With regard to the deletion of disallowance made by AO under Rule 8D(2)(ii) and deleted by CIT(A), we found that assessee was having own funds in the form of share capital and reserves amounting to Rs.13,082,410,000/-. However, investment made by assessee was amounting to Rs.11,536,050,000/- thus there was an excess own funds of Rs.1,546,360,000/-. Clear finding to this effect has been given by CIT(A). As the own funds were more than the investment. Following the reasoning given hereinabove, we do not find any infirmity in the order of CIT(A) for deleting disallowance of interest made by AO under Rule 8D (2)(ii).

We also found that during the year, there was interest expenditure of Rs.23,05,53,531/- as against interest income of Rs.78,85,76,438/-. Thus, there was net interest income of Rs.55,80,22,907/-. Since interest income was more than the interest expenditure, no disallowance is warranted under Rule 8D(2)(iii). We direct accordingly.

Assessee is aggrieved for disallowance made by AO under Rule 8D(2)(iii). We have considered rival contentions and gone through the orders of authorities below. Following the reasoning given in the A.Y.2008-09, we restore the matter back to the file of AO and direct the AO to recompute the disallowance after excluding the investment on which no exempt income has been earned as well as investment in subsidiary companies. We direct accordingly. ITA No.315/Mum/2017(A.Y.2009-10) 37. This is an appeal filed by the revenue against the order of CIT(A) for the A.Y.2009-10, in the matter of order passed u/s.143(3) r.w.s. 147 of the IT Act. 38. In this appeal, Revenue is aggrieved for allowing setting of speculation loss from trading in shares out of income from trading in commodities. 39. Rival contentions have been heard and record perused. The brief facts of the case are that after assessment was completed u/s.143(3), the assessee's case was reopened u/s 147 of the Act vide notice dated 27.03.2014 issued u/s 148 of the Act. The AO has declined netting of speculative loss against the income of commodity trading.

By the impugned order, CIT(A) allowed set off of income from commodity trading, against speculation loss incurred by the assessee, after having the following observation:- “6.3.7 On perusal of all the above facts narrated above, it can be concluded that ground no. 2 of the appellant involves two issues - (1), whether the AO had any legal jurisdiction to reopen the case u/s 147 of the I.T.Act, 1961 and (2), even if the case was reopened for the sake of verification of the facts, was it open for the AO to make any changes in income or not In so far as legal jurisdiction of the AO is concerned in reopening the case, in my opinion, the Act provides enough power to the AO to reopen the case. Therefore, this part of the issue (1) is decided in favour of the AO. As regards the second issue involved in this ground is concerned, it forms the question of fact where it is seen that despite reopening of the case the AO has not been able to appreciate the question of facts put up before him by the appellant and has incorrectly relied upon the ratio of judgment in the case of Prasad Agents (P) Ltd vs ITO (2009) 180 taxmann(Bom). In case of Prasad Agents the Hon'ble High Court of Bombay upheld the disallowance of AO because in that case loss on diminution of value of shares and its claim as normal loss by the appellant was rejected by High Court since, the appellant did not claim that there was any loss because of trading in shares rather the claim was with regard to loss in diminution of shares. As against this in the present case the appellant has incurred speculation loss on account of trading in equity segment which appellant itself has treated as speculation loss hence the judgment of Hon'ble High Court in the case of Prasad Agents (supra) is not applicable. As regards facts relating to income of the appellant, it has been explained that the appellant has incurred the speculation loss of Rs 22,52,57,483/- which has been set off against the speculation income of Rs 16,10,90,3477- earned from commodity trading (on unrecognized stock exchange) and remaining loss of Rs 6,41,67,136/- has been carried forward to the subsequent assessment years to be set off against speculation income. The AO has quoted provision of section 43(5)(d) in para 5 of assessment order which says " an eligible transaction in respect of trading in derivatives referred to in clause AC of Section 2 of Securities Contract (Regulation Act) 1956 (42 of 1956) carried out in a recognized stock exchange/' Here it seems that the AO is confused in interpreting this proviso because there is no dispute that the appellant had earned income in commodity trading and which was not on the recognized stock exchange and once this is the fact then the income earned so by the appellant cannot be treated as normal income within the purview of Section 43(5)(d) of the I.T.Act, 1961. The AO has not disproved that the commodity trading income was not out of unrecognized commodity exchange market and as long as when the appellant earned out of unrecognized commodity exchange, the income or loss out of transaction on such unrecognized exchange will remain speculative in nature- the amendment in Sec 43(5)(d) was only to provide benefit to the assessees to treat their losses as non speculative only when such losses were incurred while trading on any recognized stock exchange and not otherwise. This benevolent provisions itself cannot be used against appellant by misinterpreting the same. Further reference can be made to the decision of Hon'ble Delhi High Court in the case of DLF Commercials (2013) 218 Taxman 45 (Delhi), where it has been held as under: - The term 'speculative transaction' has been defined only in section 43(5). At the same time, it is qualified that the scope of the definition is restricted in its application to working out the mandate of sections 28 to 41. In terms of the Explanation to section 73 in the case of a company, business of purchase and sale of shares is deemed to be speculation business. However, certain companies are excluded from this Explanation, which are: (i) a company whose gross total income consists mainly of income which is chargeable under the heads 'Interest on securities', 'Income from house property', 'Capital gains' and 'Income from other sources'. (ii) a company, the principal business of which is the business of banking or the granting of loans and advances. [Para 7] Section 43 defines for the purpose of sections 28 to 41 certain terms. These latter provisions fall in Chapter IV - D, which deal with computation of business income. The said provisions provide for matters relating to computation of such income, rent taxes, insurance of buildings, repairs of plant and machinery, depreciation, reserves for shipping business, rehabilitation fund, expenditure on certain eligible objects or schemes, deductions, amounts not deductible, profits chargeable to tax, etc. The assessee is no doubt correct in contending that the only definition of' derivatives' is to be found in section 43(5), yet the Court cannot ignore or overlook that the definition to the extent it excludes such transactions from the mischief of the expression 'speculative transactions' is confined in its application. Parliamentary intendment that such transactions are also excluded from the mischief of Explanation to section 73, however, is not borne out. [Para 8] It is no doubt tempting to hold that the expression 'derivatives' is defined only in section 43(5) and it excludes such transactions from the odium of speculative transactions, yet the Court would be doing violence to Parliamentary intendment. This is because a definition enacted for only a restricted purpose or objective should not be applied to achieve other ends or purposes. Doing so would be contrary to the statute. Thus contextual application of a definition or term is stressed, wherever the context and setting of a provision indicates an intention that an expression defined in some other place in the enactment, cannot be applied, that intent prevails, regardless of whether standard exclusionary terms (such as 'unless the context otherwise requires1) are used. [Para 10] The stated objective of section 73 apparent from the tenor of its language is to deny speculative businesses the benefit of carry forward of losses. Explanation to section 73 has been enacted to clarify beyond any shadow of doubt that share business of certain types or classes of companies are deemed to be speculative. That in another part of the statute, which deals with computation of business income, derivatives are excluded from the definition of speculative transactions, only underlines that such exclusion is limited for the purpose of those provisions or sections. In the instant case, by all accounts the derivatives are based on stocks and shares, which fall squarely within the Explanation to section 73. Therefore, it is idle to contend that derivatives do not fall within that provision. [Para 11] Therefore, the order passed by the Tribunal was not justified. [Para 12]" To sum up, it is concluded that in so far as the action of the AO with regard to reopening of the case u/s.147 is concerned, the IT Act gives enough scope to give jurisdiction to the AO to reopen the case. Therefore, this part of the action of the AO is to be treated as upheld. However, the later part of the action of the AO with regard to disallowance of adjustment of speculation loss with speculation income of the appellant to the extent of amount discussed above/ is concerned, cannot be held to be justified because of the reasons/analysis of facts given above as well as judicial pronouncements in the case of Bharat Ruia (supra) and DLF Commercials (supra). In the result, this ground of appeal is to be treated as Partly Allowed. 7.1 Ground No. 3(a) and (b) relates to action of AO in treating the income of Rs. 16,10,90,3477- from commodity trading as non-speculative by not allowing set off of speculative loss against thereof. 7.2. The Appellant filed the written submission during the appellate proceeding which is reproduced as under: "3.1 The Appellant submits that in the preceding paragraphs (i.e. 2.2.3 to 2.2.6) it has duly explained that it has incurred the speculation loss of Rs. 22,52,57,483/- which has been adjusted against the speculative income of Rs. 16,10,90,347/- and the remaining loss of Rs. 6,41,67,136/-. The above facts are ignored by the AO. Therefore, the Appellant submits that the AO shall be directed to set off the speculation losses of Rs. 22,52,57,483/- against the speculation income of Rs. I6,10,90,347/- and remaining losses of Rs. 6,41,67,136/- shall be carried forward to the subsequent years for set off against the speculation income." 7.3. I have considered the facts of the case, assessment order passed by the AO and the submission made by the appellant. It has already been explained and discussed in para 6.3 above that the AO did not dispute that appellant carried out commodity trading transaction on unrecognized exchange and it has been held by me above that in this situation the action of the AO to disallow the adjustment of speculation loss and speculation income to the extent indicated there for the reason of facts and judicial pronouncements in the case of Bharat Ruia (supra) and DLF Commercials (supra). The appellant has done the trading in commodities on the unrecognized stock exchange at that point of time, which the appellant explained only after the notification dated 22.05.2009 and 21.12.2009 became recognized exchange and therefore prior to that (i.e. upto FY 2008-09 and for 1 month 22 days of FY 2009-10), any such transactions were to be treated as speculative. Therefore, it is clearly demonstrated by the Appellant that during the financial year 2008-09 relevant to present assessment year 2009-10, which is under consideration, the exchanges were not recognized. Hence, in the light of High Courts decision in the case of Bharat Ruia (supra) and DLF Commercials (supra), I am of the considered view that the transaction in commodities is speculative transaction; thus, the Appellant has correctly set off the speculation loss against such income from the commodity trading. Therefore, the action of the AO in treating the income of Rs. 16,07,83,147/- from commodity trading as non-speculation income is quashed and the AO is directed to delete the amount of RS 16,07,83,147/-. In the result, this ground of appeal is Allowed.