BISNAUTH INVESTMENTS LTD,KOLKATA vs. DCIT, CIRCLE-6, KOLKATA, KOLKATA

The main grievance of the assessee in both these appeals is against the action of Ld. CIT(A) in computing the expenses disallowable u/s. 14A of the Income Tax 1961(herein after the Act) read with Rule 8D of the Income Tax. Rules, 1962( herein after the Rules). Briefly stated the facts of the case are that the appellant is a non-banking financial company, which is engaged in the business of money lending. Apart from the foregoing, the appellant also invests in shares of its group / associate companies. During the relevant year the assessee derived exempt income of Rs.70,04,061/- from the shares & securities, against which disallowance of Rs.3,500/- was offered u/s 14A of the Act. The AO sought clarification from the assessee as to why Rule 8D should not be applied. After considering the appellant’s submissions, the AO however rejected the assessee’s explanations and made the disallowance of Rs.1,26,51,029/-

2 & 681/Kol/2017 Bisnauth Investments Ltd., AYs 2009-10 & 2010-11 by invoking Rule 8D(2). The AO held that for earning tax free dividend of Rs.70,04,061/- it was inconceivable to accept that only demat expenses of Rs.3,500/- were incurred. In AO’s opinion the administrative expenses incurred by the appellant were attributable to earning dividend income, as held by the coordinate Bench of this Tribunal in the case of Dy.CITVs S.G. Investments & Industries Ltd (89 ITD 44). Accordingly the AO computed the amount disallowable as per Rule 8D(2) at Rs.1,51,28,768/- but since the interest & expenses debited in the P&L A/c and claimed in the return were Rs.1,26,51,029/-, the AO restricted the disallowance u/s 14A to Rs.1,26,51,029/-. Aggrieved by the AO’s order, the assessee preferred appeal before the CIT(A). The Ld. CIT(A) however dismissed the assessee’s appeal against which the assessee is in appeal before us.

We have heard the rival submissions and perused the material on record. At the time of hearing the Ld. AR submitted that during the relevant year the appellant carried on only two activities viz., granting of loans and making investment in shares. The assessee’s business funds were utilized in these two activities. He submitted that save & except the foregoing two activities the appellant did not conduct any other business activity, nor any income received from any other source. Drawing attention to the appellant’s financial statements, the Ld. AR pointed out that from the said two activities the appellant derived income in form of interest amounting to Rs.65,00,064/- and dividend of Rs.70,04,061/-. The Ld. AR further pointed out that in connection with earning the foregoing income the appellant had paid interest of Rs.97,24,941/-. Netting off the interest paid against interest received, the net interest expenditure which the AO could have considered for disallowance under Rule 8D(2)(ii) was only Rs.32,24,877/- as opposed to Rs.89,46,546/-, disallowed by the AO in the impugned order. The Ld. AR therefore submitted that the interest disallowance u/s 14A could not exceed Rs.32,24,877/-. In support of the proposition for netting off interest received against interest paid for the purpose of making disallowance u/s 14A read with Rule 8D(2)(ii), the Ld. AR relied on the judgment of the Hon’ble Gujarat High Court in the case of Pr.CIT Vs Nirma Credit & Capital Pvt Ltd (300 CTR 286).

As regards disallowance under Rule 8D(2)(iii), the Ld. AR drew our attention to the fact that the total expenditure debited to P&L A/c was Rs.1,62,34,321/-, which inter alia 2

Per contra, the Ld. DR appearing on behalf of the Revenue fully supported the order of the lower authorities. He submitted that since the appellant had himself offered only Rs.3,500/- as the sum disallowable under Section 14A which was clearly not supported by any logic, the AO was left with no other alternative but to make the disallowance in conformity with Rule 8D(2) and in that view of the matter the authorities below were justified in making 3

After considering the submissions of both the parties, we find merit in the Ld. AR’s submissions. It is evident from the audited financial accounts that during the relevant year the assessee carried on only two activities viz., granting loans & advances and investment in shares. Admittedly the appellant held both interest and non-interest bearing funds which were routed through common bank accounts and as such it was not possible to identify the precise source from which investments were made and loans & advances were granted. In the circumstances the only proper course to be adopted in arriving at the interest amount disallowable for the purposes of Rule 8D(2)(ii) was to net off the interest receipt against the interest payment and only the net interest expenditure could be considered for the purpose of making disallowance Rule 8D(2)(ii). In this regard, we find support in the observations made in the decision of the Hon’ble Gujarat High Court in the case of Pr.CITVsNirma Credit & Capital Pvt Ltd (supra). The relevant extracts of the judgment are as follows: “10. formula under clause (ii) of sub-rule (2) of Rule 8D is Ax5 B/C, where ‘A’ represents the amount of expenditure by way of interest other than the amount of interest included in clause (i) incurred during the previous year, 'B' represents the average of value of investment, income from which does not form part of the total income, as per the balance sheet on the first and the last day of the previous year and 'C' is the average of total assets as per the balance sheet again on the first and the last day of the previous year. As per this formula therefore, interest expenditure to be disallowed would be the total interest expenditure which is in proportion of assessee's average value of investment not forming part of the total income to the average total assets. The legislature has therefore provided that whenever it is not possible to correlate with precision a certain interest expenditure for the purpose of earning income not forming part of the total income, disallowance of such expenditure would be in the proportion of assessee's average investment earning income not forming part of the total income, to the average value of assessee's total assets. 11. It is in this context that the computation of factor 'A' in the said formula assumes significance. In plain terms, 'A' represents the amount of expenditure by way of interest ignoring the interest expenditure already included in clause (i). The expression used by the legislature is "amount of expenditure by way of interest". When the legislature has therefore, used this expression "amount of expenditure", the said term shall have to be interpreted in the manner that will bring about the correct legislative intent and equitable application thereof. As in case on hand, when the assessee pays interest on borrowings as also earns taxable interest on investments made by him during a particular year, his interest expenditure has to be considered as one which is the net of interest paid minus interest earned. Any other view would give the unintended computation of factor 'A' provided in clause (ii) of sub-rule (2) of Rule 8D which will in turn distort the computation of disallowable expenditure under the said clause. It is true that the legislature has not given any further indication as to how such amount of expenditure would be ascertained. We would 4

Applying the ratio laid down in the above judgment to the facts of the appellant’s case, we find that during the year under consideration the gross interest expense was Rs.97,24,941/- and gross interest receipt was Rs.65,00,064/-.Thereby the net interest expenditure was Rs.32,24,877/-. This net expenditure in our considered view was relatable to earning dividend, derived from investments acquired out of borrowed funds. Accordingly we hold that the interest disallowable under Section 14A of the Act should be Rs.32,34,877/- instead of Rs.89,46,546/-.

As regards amount disallowable under Rule 8D(2)(iii), we agree with the Ld. AR’s contention that in working out the common business establishment expenses the AO should have excluded the expenditure debited by way of interest bad debts written off & provision for NPA totaling to Rs.1,45,47,922/-. Excluding these three items, the common business expenses which could be considered for disallowance under Rule 8D(2)(iii) amounted only to Rs.16,86,399/-. This expenditure was much below Rs.61,78,722/- worked out by the AO by applying the formula under Rule 8D(2)(iii). We therefore find that mechanical application of Rule 8D(2)(iii) in the present case leads to absurd results. We also find force in the Ld. AR’s submissions that the expenses inter alia included items such audit fees, ROC expenses etc. which were required to be incurred to maintain corporate identity of the appellant. Such expenses were required to be incurred irrespective whether tax free or taxable income was 5

In result, the amount disallowable under Rule 8D(2) is confirmed to the extent of Rs.41,02,547/- [3,500 + 32,24,877 + 8,74,170]. Accordingly these grounds are partly allowed.

In all the grounds taken up in this appeal, the appellant has objected to the disallowance of Rs.42,67,044/- made by the AO under Section 14A of the Act. At the time of hearing the Ld. AR however restricted his arguments only in respect of disallowance of Rs.26,37,064/- made out of administrative expenses under Rule 8D(2)(iii). The arguments of the Ld. AR were identical with that of AY 2009-10. The Ld. AR pointed out that the expenditure debited in P&L A/c for the FY 2009-10 was Rs.1,77,81,539/-, which inter alia included interest of Rs.55,35,341/-, considered for disallowance under Rule 8D(2)(ii) and Rs.1,14,10,300/- being provision for NPA disallowed by the appellant separately. Excluding these two items, the common business expenses which could be considered for disallowance under Rule 8D(2)(iii) amounted to Rs.8,35,898/-. The Ld. AR therefore submitted that on pro rata basis, the amount disallowable should be worked out.

In the result, both the appeals are partly allowed.