DCIT 3(2)(1), MUMBAI vs. THE NATIONAL BANK FOR AGRICULTURE AND RURAL DEVELOPMENT, MUMBAI

The National Bank For Agriculture And Rural Development 3. Whether, on the facts and in the circumstances of the case and in law, the Ld. CIT(A) is right in holding that the transfer to RIDF, WIF, FPF as diversion of income at source by overriding title without appreciating that the surplus income arising out of interest receipts as netted by interest payment were shown in P & L A/c by crediting and debiting interest receipts and payment respectively and therefore, this surplus reached the hands of the assessee and transfer to RIDF, WIF, FPF is only application of surplus profit ?"

“11. We have heard rival contentions and perused the record. We notice that the Finance Minister, in pursuance of policy of the Government of India to promote investment in agricultural sector/rural infrastructure has announced the scheme in his Speech. The relevant portion of announcement is extracted below:-

“12. Inadequacy of public investment in agriculture is today a matter of general concern. This is an area which is the responsibility of the States, but many States have neglected investment in infrastructure for agriculture. There are many rural infrastructure projects, which have started but are lying incomplete for want of resources. They represent a major loss of potential income and employment to rural population. To encourage quicker completion of projects in rural infrastructure, I propose to establish a new Rural Infrastructural Development Fund within the National Bank for Agriculture and Rural Development (NABARD) from April, 1995. The fund will provide loans to State Governments and State owned Corporations for completing ongoing projects relating to medium and minor irrigation, soil conservation, watershed management and other forms of rural infrastructure. The loans will be on a project specific basis with repayment interest guaranteed by concerned State Government. Priority will be assigned to projects which can be completed within the least time period. Resources for the Fund will come from commercial banks which will be required by Reserve Bank of India (RBI) to contribute an amount equivalent to a bank’s shortfall in achieving the priority sector target for agricultural lending, subject to a maximum of 1.5 per cent of the bank’s net credit. This is expected to create a corpus of about Rs.2,000 crore for completion of rural infrastructure projects.”

We notice that the Government of India has devised a scheme for increasing investment in Agricultural and rural infrastructure projects and accordingly, proposed to establish a new “Rural Infrastructural Development Fund” within NABARD, the assessee herein. It is also

“7. Further, the relative margin available to NABARD in excess of 0.5 per cent in respect of deposits placed by banks in RIDF XV and the separate window under RIDF XV for rural roads component under Bharat Nirman will be credited to the Tribal Development Fund.”

As per circular dated 30th April, 2021, following instructions was given by RBI:-

“2. As per the announcement made by the Finance Minister in the Budget, the State Governments will be charged interest at 10.50 percent on loans from RIDF – VII. Keeping in view the above interest rate structure, the margin available to NABARD will be in excess of the usual margin of 0.5 percent. It is suggested that the margin in excess of 0.5 percent in this case may be credited to the Watershed Development Fund.”

In Circular dated August 6, 2003, it was instructed as under:-

“6. As in the case of RIDF VIII, the relative margin available to NABARD in excess of 0.5 per cent in respect of RIDF IX deposits will be credited to the Watershed Development Fund.”

“II PROGRAM PERSPECTIVES AND APPROACH

The National Bank For Agriculture And Rural Development with the National Bank for Agriculture and Rural Development (NABARD) with broad objectives of utilization of multiplicity of watershed development programmes into a single national initiative through involvement of village level institutions and PFAs.

1.2 In pursuance thereof WDF has been created in NABARD with a contribution of Rs.100 crore each by MoA, Government of India (GOI) and NABARD.”

The Guidelines further lists out the manner of utilization of WDF. The Ld A.R submitted that similar guidelines should be available for TDF also.

(a) The assessee herein should take 0.50% as its income.

(b) The excess amount of surplus over and above 0.50% referred above shall be transferred to TDF/WDF.

(c) The funds credited to TDF/WDF should also be used for specified purposes only.

We noticed earlier that WDF was established with the assessee and the initial corpus has been contributed by the MOA, GOI and the assessee. The objective of the schemes is promotion of investment in agriculture and rural development.

The National Bank For Agriculture And Rural Development In our opinion, the true test is whether the amount sought to be deducted, in truth, never reached the assessee as his income. Obligations, no doubt, there are in every case, but it is the nature of the obligation which is the decisive fact. There is a difference between an amount which a person is obliged to apply out of his income and an amount which by the nature of the obligation cannot be said to be a part of the income of the assessee. Where by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow. It is the first kind of payment which can truly be excused and not the second. The second payment is merely an obligation to pay another a portion of one’s own income, which has been received and is since applied. The first is a case in which the income never reaches the assessee, who even if he were to collect it, does so, not as part of his income, but for and on behalf of the person to whom it is payable……………”

“11. The Tribunal allowed the appeal. On a reference, a Division bench of this Court held that even before collection of the amount as directed by Central Government under the Molasses Control (Amendment) Order, the assessee was directed to keep this amount under a separate account under the head “Molasses storage fund”. Though the assessee collected this amount under the statutory obligation, it did not belong to the assessee, but to the molasses storage fund. The assessee could not The National Bank For Agriculture And Rural Development utilize the amount in the said fund for any other purpose. The fund had to be utilized for the purpose of constructing a storage tank in accordance with the specifications given by the Central Government. If the assessee failed to collect such amount as directed by the Molasses Control (Amendment) Order, the Central Government would construct a molasses storage tank and recoup the construction charges from the assessee. Therefore, there was diversion of title at the source of the income collected under the directions given under the Molasses Control (Amendment) Order. The sum in question was not includible in the assessee’s total income.

It was brought to our notice that the revenue challenged above said decision rendered by Hon’ble Madras High Court by filing appeal before Hon’ble Supreme Court. However, the appeal of the revenue has been dismissed by the Hon’ble Apex Court following the decision rendered by it in the case of CIT vs. Ambur Co-op Sugar Mills Ltd (2004)(269 ITR 398)(SC). The decision of Hon’ble Supreme Court rendered in the case of New Horizon Sugar Mills (P) Ltd has been reported in (2004)(141 taxman 254)(SC).

(ii) The scheme has been set up within the assessee herein.

(iii) Initial corpus fund for WDF has been contributed by the assessee, MoA and GOI. The details of contribution made for TDF is not available. Contribution by MoA and GoI by way of corpus to the WDF should mean that the WDF is considered as a separate fund by the GOI within the assessee.

(iv) The GOI/RBI has devised schemes for getting funds for the WDF/TDF. The RBI has given guidelines on receipt of deposit amount from banks, interest to be given thereon, manner of advancing loans to State Governments, the interest to be collected thereon, the manner of utilization of gains arising on such activities.

(v) Most pertinent point to be noted is that the assessee is not allowed to take entire surplus as its income, i.e., the assessee was allowed to take only 0.50% as its income. The excess amount has been directed to be credited to TDF/WDF.

(vi) Guidelines have been issued on the manner of utilization of the funds so credited.

From the foregoing discussions, we are of the view that the assessee has acted as nodal or implementing agency for the schemes framed by GOI. Hence the amounts transferred to TDF/WDF are diverted at source itself and hence, the same does not belong to the assessee. Accordingly, the amounts so diverted to TDF/WDF cannot be brought to tax in the hands of the assessee. Accordingly, we affirm the order passed by Ld CIT(A) in respect of amount of Rs.628.55 crores transferred to TDF/WDF. For identical reasons, we uphold the order passed by Ld CIT(A) in respect of amount of Rs.4.88 crores transferred to WDF/STCRC fund.”

The National Bank For Agriculture And Rural Development 8. The issue in appeal is squarely covered by the decision of ITAT as referred supra in this order, therefore, we do not find any merit in the grounds of appeal filed by the Revenue. Therefore, all the grounds of appeal filed by the Revenue are dismissed.

(Assessee Appeal) “1. Disallowance of expenditure incurred on promotional activities vis-à- vis Producers Organisation Development Fund (PODF) amounting to Rs. 2,60,59,516/- claimed u/s 36(1)(xii) of the Act.

5.5 We notice that an identical issue of claim for deduction of expenditure incurred on Promotional activities was examined by the co-ordinate bench of Tribunal in AY 2010-11, i.e, “Pre-notification” period. The claim of the ITA No.2522/Mum/2024 The National Bank For Agriculture And Rural Development assessee was rejected on the reasoning that the assessee became notified entity with effect from AY 2013-14 only. However, the alternative contention of the assessee that the relevant expenses should be allowed u/s 37(1) of the Act was accepted by the Tribunal and the matter was restored to the file of the AO for examining the alternative contention. The initial order was passed by the Tribunal for AY 2010-11 on 24.8.2022 in and in that order, identical issue was adjudicated. Subsequently, the assessee filed a miscellaneous application pointing out that there are mistakes apparent from record in the order passed on the issue of disallowance of expenses incurred on promotional activities u/s 36(1)(xii) of the Act. It was also pointed out that the Tribunal did not adjudicate the alternative ground raised by the assessee for allowing the claim u/s 37(1) of the Act. The above said miscellaneous application was numbered as M A No.292/Mum/2022 and the same was disposed of by the Tribunal on 15.6.2023. Hence the decision taken by the Tribunal in AY 2010-11 on this issue, as modified by the M A order, referred above, are extracted below:-

“27. We heard rival contentions and perused the record. We have also gone through the decision rendered in the above said two cases, which have been in the context of sec.35(2AB) of the Act. Under the provisions of sec.35(2AB), the expenditure incurred in an “in house research and development facility” as approved by the prescribed authority is granted weighted deduction. Under sec.36(1)(xii), the corporation itself should be notified for the purposes of sec.36(1)(xii) of the Act. Hence, while interpreting the provisions of sec.35(2AB) of the Act, the Honourable High Courts have held that the date of approval of scientific research facility is not relevant. On the contrary, for availing deduction u/s 36(1)(xii) of the Act, the assessee itself should have been notified by the Central Government. Hence it is a question as to whether the assessee is a notified entity or not. In our view, there is vast difference between approval of a facility and notification of the assessee itself.

“2. This notification shall be applicable with effect from Assessment year 2013-14 onwards, relevant to F Y 2012-13 in which the application seeking notification u/s 36(1)(xii) of the Income tax Act, 1961 was filed.”

It can be noticed that the Central Government has notified the assessee from AY 2013-14 onwards, meaning thereby, the assessee was not notified for the year under consideration. It is the contention of the assessee that the above said not notification should be read as applicable to the years prior to AY 2013-14 also. However, the CBDT, being the authority issuing notification, has itself stated that the assessee is recognized u/s 36(1)(xii) of the Act from AY 2013-14 onwards.

The order passed in the miscellaneous application is extracted below:-

“8. We heard rival submissions and perused the record. With regard to various submissions made by the assessee, we hold as under:-

(a) With regard to the paragraph 30 of the order passed by the Tribunal, we notice that the Tribunal has made the observation out of context without correctly appreciating the facts, as submitted by the Ld A.R. As contended by him, it is nobody’s case that the promotional expenditure claimed by the assessee u/s 36(1)(xii) is attributable to Government’s contribution. Accordingly, the observations made in paragraph 30 constitutes mistake apparent from record. Accordingly, we omit paragraph 30 of the order.

(c) With regard to the contention of the Ld A.R that the notification issued u/s 36(1)(xii) shall have retrospective application, we notice that the Tribunal has passed a detailed order and has expressed a view on this issue. Hence the plea of the assessee would result in review of the order so passed by the Tribunal, which is not permitted u/s 254(2) of the Act. Accordingly, we reject this contention of the assessee.

(d) With regard to the alternative contention raised that the said expenditure is allowable u/s 37(1) of the Act, we notice that the Tribunal has not adjudicated the same. Accordingly, following paragraph shall be inserted as paragraph no.30 in the impugned order:-

“30. The assessee has raised an alternative contention that the expenditure claimed u/s 36(1)(xii) of the Act is allowable u/s 37(1) of the Act. Since the AO has not examined this issue under the provisions of sec. 37(1) of the Act, we restore this issue to the file of AO for examining the same.”

5.6 Since the facts are identical, following the decision rendered by the Tribunal in AY 2010-11, we reject the contentions of the assessee to allow deduction u/s 36(1)(xii) of the Act in AY 2011-12 and 2012-13, since it was held by the Tribunal in AY 2010-11 that the notification issued by the CBDT recognizing the assessee from AY 2013-14 cannot be applied retrospectively. However, we admit the alternative contentions of the assessee for these two years that the expenditure incurred on promotional activities may be allowed as deduction u/s 37(1) of the Act and restore the same to the file of AO for examining the alternative claim in AY 2011-12 and 2012-13.

5.7 In respect of AY 2014-15 is concerned, we noticed earlier that the AO had disallowed the claim on multiple reasons. The first reasoning is that the assessee is not a notified entity, which was factually incorrect, since the assessee has been notified from AY 2013-14 onwards. This has been addressed by Ld CIT(A) accordingly. However, other reasoning given by the AO were not addressed by Ld CIT(A). The AO has stated that the expenses incurred are developmental in nature and hence they cannot be considered as having been incurred wholly and exclusively for the purposes of business. We notice that the AO has not given any reason or basis for arriving at such a conclusion. We notice that the assessee exists for so many years and the very object of establishing the assessee is for promotion of rural and agricultural development. Further, the provisions of sec.36(1)(xii) specifically allow the promotional expenses. Hence, we are of the view that the promotional expenses should be considered to have been incurred wholly and exclusive for the purposes of its business only. Hence this reasoning also fails.

The National Bank For Agriculture And Rural Development 5.8 The last reasoning given in AY 2014-15 is also given in AY 2015-16 and 2019-20. It is that the promotional expenses are related to various funds created by the assessee and the said funds were created by appropriating profits from the Profit and Loss account of earlier years and hence the promotional expenses should have been debited to the relevant funds and not to the Profit and Loss account. We noticed earlier that, in AY 2019-20, the Ld CIT(A) has confirmed part of disallowance, i.e., the expenditure relatable to “Producers Organisation Development Fund” (PODF) on the reasoning that the assessee is not the owner of PODF and hence the expenditure relating to the same cannot be claimed as deduction by the assessee.

5.9 We heard the parties on this issue. Earlier, we have held that the income attributable to the funds held by the assessee in fiduciary capacity would get diverted at source. Hence, we are of the view that the said principle should be applied in respect of expenditure also. However, it is possible that various funds might have been set up by combining contributions from assessee and Government. Hence, this issue needs to be examined by following certain principles. In our view, following principles may be followed in examining the claim for deduction of promotional expenses u/s 36(1)(xii) of the Act:-

(a) if a fund has been created entirely out of the funds given by/belonging to the Government and it is held in fiduciary capacity by the assessee, then if the promotional expenditure has been incurred by the assessee out of the said fund as per the requirement of/direction given by the Government, then the same cannot be considered as business expenditure of the assessee and accordingly, the same cannot be claimed as deduction by the assessee. This is for the reason that the expenditure has been incurred by the assessee on behalf of the real owner of funds, i.e., GOI. On the contrary, if there is no such requirement/direction, then, in our view, the promotional expenses and the fund cannot be linked together and hence the entire expenses is allowable as deduction u/s 36(1)(xii) of the Act.

(b) if the fund has been created exclusively out of the funds appropriated from the Profit and Loss account of the assessee, then the entire promotional expenses claimed by the assessee is allowable as deduction u/s 36(1)(xii) of the Act. This is for the reason that the entire funds belong to the assessee, even though different names might have been given to The National Bank For Agriculture And Rural Development various funds, since those funds might have been created for the convenience of the assessee or as per statutory requirements. The question of diversion of funds at source will not arise to these types of funds created by appropriating part of profits of the assessee. In any case, the fact would remain that those funds are used for the purposes of business of the assessee only. Hence, under these set of facts, entire promotional expenses is allowable as deduction u/s 36(1)(xii) of the Act.

(c) if the fund has been created both out of the contributions made by the Government and assessee (either by way of contribution or appropriation of profits), then the promotional expenses attributable to the assessee’s contribution is allowable as deduction u/s 36(1)(xii) of the Act. In respect of contribution by Government, the discussion made in clause (a) would apply.

We notice that the facts relating to the relevant funds have not been brought on record. Hence, in our view, this issue requires fresh examination at the end of the AO in the light of principles discussed above. The AO may also examine the claim for deduction u/s 37(1) of the Act, if required. Accordingly, we set aside the order passed by Ld CIT(A) on this issue in AY 2014-15, 2015-16 and 2019-20 and restore the same to the file of AO for examining it afresh in the light of principles discussed above.”