ASST CIT CEN CIR 2(4), MUMBAI vs. TWINKLE ENVIRO TECH P.LTD, MUMBAI

ORDER PER N.K. PRADHAN, A.M. This is an appeal filed by the Revenue. The relevant assessment year is 2011-12. The appeal is directed against the order of the Commissioner of Income Tax (Appeals)-48, Mumbai and arises out of the assessment completed u/s 143(3) of the Income Tax Act 1961, (the ‘Act’).

2 5052/Mum/2015

filed by the Revenue is against the order of the Ld. CIT(A) in directing the AO to re-compute the disallowance u/s 14A r.w. Rule 8D by excluding average value of shares of strategic investment made in group concerns.

3. Briefly stated, the facts of the case are that the assessee had earned dividend of Rs.31,00,880/- and claimed it as u/s 10(34). In response to a query raised by the Assessing Officer (AO) to explain why proportionate disallowance u/s 14A r.w. Rule 8D should not be made, the assessee submitted that (i) it has not made any investment with a view to earning exempt income, (ii) the assessee-company as a part of its business activity has acquired a strategic stake in other companies to hold business interest with a view to earning profit, (iii) the assessee-company had sufficient capital, reserves and internal accruals, (iv) the funds borrowed including term loans have been specifically and categorically utilized for specific purpose and not for making investment. Thus the assessee submitted before the AO that no disallowance u/s 14A r.w. Rule 8D should be made. 3.1 However, the AO was not convinced with the above explanation of the assessee and he worked out the disallowance u/s 14A r.w Rule 8D and it comes to Rs.1,01,33,182/-.

4. Aggrieved by the order of the AO, the assessee filed an appeal before the Ld. CIT(A). The Ld. CIT(A) following the order of the ITAT in assessee’s own case i.e. M/s Twinkle Enviro Tech Ltd. vs. DCIT (ITA No. 3 5052/Mum/2015 1752 to 1754/Mum/2013) directed the AO to re-compute the disallowance under Rule 8D by excluding average value of shares of strategic investment made in the group concerns or group companies.

5. Before us, the Ld. DR submits that there is no provision in section 14A r.w Rule 8D to exclude strategic investment while computing the disallowance. Thus he submits that the order of the Ld. CIT(A) be set aside and the one by the AO be restored. There is no compliance by the assessee to the notice issued by the Registry fixing the case for hearing before the Tribunal.

6. We have heard the rival submissions and perused the relevant materials on record. The reasons for our decision are given below. We are of the considered view that strategic stake made by the assessee in other companies to hold business interest as submitted before the AO by the authorized representative of the assessee which are capable of yielding exempt income i.e. by way of dividend which are exempt from tax shall be included while computing disallowance u/s 14A. The Income Tax Act does not grant any exemption to such strategic stake/investment which are capable of yielding exempt income to be excluded while computing disallowance u/s 14A. We are fortified in our decision by the judgment of the Hon’ble Karnataka High Court in the case of United Breweries Ltd. vs. DCIT in vide order dated 31.05.2016.

4 5052/Mum/2015 Now we turn to the relevant decisions on the issue at hand. The rationale for enactment of section 14A was explained by the Hon’ble Bombay High Court in Godrej and Boyce Mfg. Co. Ltd vs. DCIT (2010) 328 ITR 81 (Bom.) as under: “Section 14A was enacted by the Parliament in order to overcome the judgments of the Supreme Court in the cases of CIT v. Indian Bank Ltd. AIR 1965 SC 1473, CIT v. Maharashtra Sugar Mills Ltd. [1971] 82 ITR 452 and Rajasthan State Warehousing Corpn. v. CIT [2000] 242 ITR 450/109 Taxman 145, in which it was held that in the case of a composite and indivisible business, which results in earning of taxable and non-taxable income, it is impermissible to apportion the expenditure between what was laid out for the earning of taxable income as opposed to non-taxable income. The effect of section 14A is to widen the theory of the apportionment of expenditure. Prior to the enactment of section 14A, where the business of an assessee was not a composite and indivisible business and the assessee earned both taxable and non-taxable income, the expenditure incurred on earning non-taxable income could not be allowed as a deduction as against the taxable income. As a result of the enactment of section 14A, no expenditure can be allowed as a deduction in relation to income which does not form part of the total income under the Act. Hence, even in the case of a composite and indivisible business, which results in the earning of taxable and non-taxable income, it would be necessary to apportion the expenditure incurred by the assessee. Only that part of the expenditure, which is incurred in relation to income which forms part of the total income, can be allowed. The expenditure incurred in relation to income which does not form part of the total income has to be disallowed. From this, it would follow that section 14A has within it implicit notion of apportionment. The principle of apportionment which prior to the amendment of section 14A would not have applied to expenditure incurred in a composite and indivisible 5 5052/Mum/2015 business which results in taxable and non-taxable income, must, after the enactment of the provisions, apply even to such a situation. The expression 'expenditure incurred' in section 14A refers to expenditure on rent, taxes, salaries, interest, etc., in respect of which allowances are provided for.” Also in the same judgment their Lordships explained Rule 8D as under: “In the affidavit-in-reply that had been filed on behalf of the revenue, an Explanation has been provided of the rationale underlying rule 8D. It had been stated with reference to rule 8D(2)(ii) that it would be difficult to allocate the actual quantum of borrowed funds that have been used for making tax-free investments. It is only the interest on borrowed funds that would be apportioned and the amount of expenditure by way of interest that will be taken excluding any expenditure by way of interest which is directly attributable to any particular income or receipt (for example - any aspect of the assessee's business such as plant/machinery, etc.). As regards rule 8D(2)(iii), it had been submitted that some mechanism or formula had to be adopted for attributing part of the administrative/managerial expenses to tax-exempt investment income. The administrative expenses attributable to tax-free investment income have a fixed component and a variable component. A view was taken that the disallowance should also be linked to the value of the investment rather than the amount of exempt income. Under Portfolio Management Schemes (PMS), the fee charged ranges between 2 and 2.5 per cent of the portfolio value which would be inclusive of a profit element for the portfolio manager. While the fixed administrative expenses were excluded on the ground that in the case of a large corporate taxpayer they would be spread over a large number of voluminous activities, the variable expenses were computed at one-half per cent of the value of the investment. The justification 6 5052/Mum/2015 that has been offered in support of the rationale for rule 8D cannot be regarded as being capricious, perverse or arbitrary.” 6.1 In Godrej & Boyce Manufacturing Company Ltd. v. DCIT [2017] 81 taxmann.com111 (SC), it is held that the literal meaning of Section 14A, far from giving rise to any absurdity, appears to be wholly consistent with the scheme of the Act and the object/purpose of levy of tax on income. 6.2 In HDFC Bank Ltd. vs. DCIT [2016] 67 taxmann.com 42 (Bom), the Hon'ble Bombay High Court referring to the decision in CIT vs. HDFC Bank Ltd. [2014] 366 ITR 505 (Bom) and CIT v. Reliance Utilities & Power Ltd. [2009] 313 ITR 340 (Bom) held as under : “15. It is clear that for the first time in the case of HDFC Bank Ltd. (supra) that this Court took a view that the presumption which has been laid down in Reliance Utilities & Power Ltd. (supra) with regard to investment in tax free securities coming out of assessee's own funds in case the same are in excess of the investments made in the securities (notwithstanding the fact that the assessee concerned may also have taken some funds on interest) applies, when applying Section 14A of the Act. Thus, the decision of this Court in HDFC Bank Ltd. (supra) for the first time on 23rd July, 2014 has settled the issue by holding that the test of presumption as held by this Court in Reliance Utilities and Power Ltd. (supra) while considering Section 36(1)(iii) of the Act would apply while considering the application of Section 14A of the Act. The aforesaid decision of this Court in HDFC Bank Ltd. (supra) on the above issue has also been accepted by the Revenue in as much as even though they have filed an appeal to the Supreme Court against that order on the other issue therein viz. broken period interest, no appeal has been preferred by the Revenue on the issue of invoking the principles laid down in Reliance Utilities & Power Ltd. (supra) in its application to Section 14A of the Act.”