CNI RESEARCH LTD,MUMBAI vs. DCIT 5(1), MUMBAI

आदेश / O R D E R

Per Joginder Singh (Judicial Member) The assessee is aggrieved by the impugned order dated

22/04/2014 of the Ld. First Appellate Authority, Mumbai.

The only ground raised in the present appeal pertains to

making disallowance of Rs.4,61,358/- u/s 14A of the

Income Tax Act, 1961 (hereinafter the Act).

Shri Bhupendra Shah, contended that no expenses were

incurred by the assessee for earning exempt income,

therefore, no disallowance is to be made. Our attention was

invited to pages 27 and 30 of the paper book by placing

reliance upon the decision in the case of Iqbal M. Chagla (67

SOT 123)(Mum), Godrej & Boyce 328 ITR 81(Bom.), Walfort

Share & Stock Broker 326 ITR 1 (SC), Maxoop Investment

Ltd. 347 ITR 272 (Del.) and Hero Cycles Ltd. 323 ITR 518 (P

& H). On the other hand, Shri V. K. Agarwal, ld. DR,

defended the disallowance/addition made by the ld.

Assessing Officer and confirmed by the Ld. Commissioner of

Income Tax (Appeal).

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2.1. We have considered the rival submissions and

perused the material available on record. The facts, in brief,

are that the assessee is engaged in the business of research

of equity shares of listed companies declared income of

Rs.1,01,81,799/- in its return filed on 24/09/2010. The ld.

Assessing Officer, during assessment proceedings, noticed

that the assessee has earned Rs.1,74,668/- as dividend

income, therefore, the assessee was asked to explain as to

why disallowance should not be made u/s 14A of the Act

read with Rule 8D of the rules. The assessee explained that

Rule 8D is not applicable as there is interest cost on the

investment as the assessee is not in the business of

purchasing and selling of shares. However, the ld. Assessing

Officer worked out the disallowance at Rs.4,61,358/- u/s

14A of the Act and added to the total income. The assessee

preferred appeal before the Ld. Commissioner of Income Tax

(Appeal), wherein, the stand taken in the assessment order

was affirmed. The assessee felt aggrieved and is in appeal

before this Tribunal.

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2.2. If the observation made in the assessment order,

leading to addition made to the total income, conclusion

drawn in the impugned order, material available on record,

assertions made by the ld. respective counsel, if kept in

juxtaposition and analyzed. The stand of the assessee is that

no expenses were incurred by the assessee for earning the

exempt income. We find that before the Ld. Commissioner

of Income Tax (Appeal) vide explanation dated 21/11/2013

(page-27 of the paper book), the assessee has specifically

furnished the profit & loss account, details of expenses

debited to the account, claiming that no expenses were

claimed for earning such profit and further the expenses

were not with respect to investment of the assessee. This

factual matrix was not contradicted by the Revenue. The

assessment year involved is 2010-11, therefore, Rule-8D is

applicable, however, the same cannot be invoked

mechanically. Since the assessee has not claimed any

expenditure in earning the exempt income, therefore, onus

is upon the assessee to prove that particular expenditure

was incurred for earning such income. Our view find

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support from the decision of the Mumbai Bench of the

Tribunal in ACIT vs Iqbal M. Chagla (2014) 52 taxman.com

94 (Mum. Trib.), Maxoop Investment Ltd. 347 ITR 272 (Del.)

and Walfort Share & Stock Broker 326 ITR 1 (SC) and also

the decision in Hero Cycles 323 ITR 518 (P & H).

2.3. Before we go into the questions at hand it would

be appropriate to not only examine the provisions of section

14A of the said act but also to notice its legislative history.

Section 14A was inserted into the said Act by the Finance

Act, 2001 with retrospective effect from 01/04/1962. For the

purposes of computing the total income under this Chapter,

no deduction shall be allowed in respect of expenditure

incurred by the assessee in relation to income which does

not form part of the total income under this Act. By virtue of

the Finance Act, 2002, the following proviso was inserted in

section 14A and was deemed to have been inserted with

effect from 11/05/2001:-

“Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any

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assessment year beginning on or before the 1st day of April, 2001.” As a result of the insertion of the said proviso, Section 14A

was as follows:-

“Expenditure incurred in relation to income not includible in total income. 14A. For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act. Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning on or before the 1st day of April, 2001.” Then, by the Finance Act, 2006, Section 14A was numbered as sub-section (1) thereof and after sub-section (1) as so numbered, the following sub-sections were inserted, with effect from 01/04/2007:- “(2) The Assessing Officer shall determine the amount of expenditure incurred in relation to such income which does not form part of the total income under this Act in accordance with such method as may be prescribed, if the Assessing Officer, having regard to the accounts of the assessee, is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income under this Act. (3) The provisions of sub-section (2) shall also apply in relation to a case where an assessee claims that no expenditure has been incurred by him in relation to

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income which does not form part of the total income under this Act.” 2.4. Consequent upon the Finance Act, 2006, section

14A as it now stands is as under:-

“Expenditure incurred in relation to income not includible in total income .

14A. (1) For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act.

(2) The Assessing Officer shall determine the amount of expenditure incurred in relation to such income which does not form part of the total income under this Act in accordance with such method as may be prescribed, if the Assessing Officer, having regard to the accounts of the assessee, is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income under this Act.

(3) The provisions of sub-section (2) shall also apply in relation to a case where an assessee claims that no expenditure has been incurred by him in relation to income which does not form part of the total income under this Act.

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Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning on or before the 1st day of April, 2001.”

2.5. By Notification No.45/2008 dated 24/03/2008,

the Central Board of Direct Taxes (CBDT), in exercise of its

powers under section 295 of the said Act read with sub-

section (2) of section 14A of the said Act, made the “Income-

tax (Fifth Amendment) Rules, 2008” to further amend the

said Rules (i.e., the Income-tax Rules, 1962) by introducing

Rule 8D therein. Clause 1(2) of the Income-tax (Fifth

Amendment) Rules, 2008 clearly stipulated that the rules

would come into force from the date of publication in the

Official Gazette. The said Rule 8D is as under:-

“Method for determining amount of expenditure in relation to income not includible in total income.

8D.(1) Where the Assessing Officer, having regard to the accounts of the assessee of a previous year, is not satisfied with— (a) the correctness of the claim of expenditure made by the assessee; or

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(b) the claim made by the assessee that no expenditure has been incurred, in relation to income which does not form part of the total income under the Act for such previous year, he shall determine the amount of expenditure in relation to such income in accordance with the provisions of sub-rule (2). (2) The expenditure in relation to income which does not form part of the total income shall be the aggregate of following amounts, namely :— (i) the amount of expenditure directly relating to income which does not form part of total income; (ii) in a case where the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income or receipt, an amount computed in accordance with the following formula, namely:—

Where A = amount of expenditure by way of interest other than the amount of interest included in clause (i) incurred during the previous year ; B = the average of value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year ; C = the average of total assets as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year ; (iii) an amount equal to one-half per cent of the average of the value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year. (3) For the purposes of this rule, the “total assets” shall mean, total assets as appearing in the balance sheet

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excluding the increase on account of revaluation of assets but including the decrease on account of revaluation of assets.”

The law prior to insertion of Section 14A

2.6. Prior to the introduction of section 14A in the

said Act, the position in law was as laid down by the

Supreme Court in CIT v. Maharashtra Sugar Mills Ltd: 82

ITR 452 (SC) and Rajasthan State Warehousing Corporation

v. CIT: 242 ITR 450 (SC). In Maharashtra sugar Mills Ltd

(supra) the assessee’s business comprised of two parts,

namely, (1) cultivation of sugar cane and (2) the

manufacture of sugar. The revenue had contended that as

the income from the cultivation of sugar cane, being the

result of an agricultural operation, was not exigible to tax,

therefore, any expenditure incurred in respect of that

activity was not deductible. The Supreme Court repelled this

contention in the following manner:-

"This contention proceeds on the basis that only expenditure incurred in respect of a business activity giving rise to income, profit or gains taxable under the Act can be given deduction to and not otherwise. We see no basis for this contention. To find out whether the deduction claimed is permissible under the Act or not, all that we have to do is to examine the relevant provisions of the Act. Equitable considerations are wholly out of place in construing the provisions of a taxing statute. We have to take the provisions of

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the statute as they stand. If the amount claimed is permissible under the Act then the same has to be deducted from the gross profit. If it is not permissible under the Act, it has to be rejected. As mentioned earlier, it is not disputed that the cultivation of sugar- cane and the manufacture of sugar constituted one single and indivisible business. Section 10(2) says that profits under section 10(1) in respect of a business should be computed after deducting the allowances mentioned therein. One of the allowances allowed is that mentioned in section 10(2)(xv) which says that any expenditure laid out or expended wholly an exclusively for the purpose of such business shall be deducted as an allowance. The mandate of section 10(2) (xv) is plain and unambiguous. Undoubtedly, the allowance claimed in this case was laid out or expended for the purpose of the business carried on by the assessee. The fact that the income arising from a part of that business is not exigible to tax under the act is not a relevant circumstance." 2.7. In Rajasthan State warehousing Corporation (supra),

the Supreme Court after, inter alia, considering its earlier

decisions in CIT v. Indian bank Ltd: 56 ITR 77 (SC) and

Maharashtra Sugar Mills Ltd (supra) laid down the following

principles:-

"(i) if income of an assessee is derived from various heads of income, he is entitled to claim deduction admissible under the respective head whether or not computation under each head results in taxable income; (ii) if income of an assessee arises under any of the heads of income but from different items, e.g., different house properties or different securities, etc., and income from one or more items alone is taxable whereas income from the other item is exempt under the Act, the entire permissible expenditure in earning the income from that head is deductible; and (iii) in computing "profits and gains of business or profession" when an assessee is carrying on business in various ventures and some among them yield taxable income and the others do not, the question of allowability

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of the expenditure under section 37 of the Act will depend on: (a) fulfillment of requirements of that provision noted above; and (b) on the facts whether all the ventures carried on by him constituted one indivisible business or not; if they do, the entire expenditure will be a permissible deduction but if they do not, the principle of apportionment of the expenditure will apply because there will be no nexus between the expenditure attributable to the venture not forming an integral part of the business and the expenditure sought to be deducted as the business expenditure of the assessee." 2.8. Thus, prior to the introduction of section 14A in

the said 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. However,

where the business was divisible, the principle of

apportionment of the expenditure was applicable and the

expenditure apportioned to the ‘exempt’ income or income

not exigible to tax, was not allowable as a deduction.

2.9. The object behind the insertion of section 14A in

the said Act is apparent from the Memorandum explaining

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the provisions of the Finance Bill 2001 which is to the

following effect:-

"Certain incomes are not includable while computing the total income as these are exempt under various provisions of the Act. There have been cases where deductions have been claimed in respect of such exempt income. This in effect means that the tax incentive given by way of exemptions to certain categories of income is being used to reduce also the tax payable on the nonexempt income by debiting the expenses incurred to earn the exempt income against taxable income. This is against the basic principles of taxation whereby only the net income, i.e., gross income minus the expenditure is taxed. On the same analogy, the exemption is also in respect of the net income. Expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income. It is proposed to insert a new section 14A so as to clarify the intention of the Legislature since the inception of the Income - tax Act, 1961, that no deduction shall be made in respect of any expenditure incurred by the assessee in relation to income which does not form part of the total income under the Income-tax Act. The proposed amendment will take effect retrospectively from April 1, 1962 and will accordingly, apply in relation to the assessment year 1962-63 and subsequent assessment years." 2.10. As observed by the Supreme Court in the case of

CIT v. Walfort Share and Stock Brokers P Ltd: 326 ITR 1

(SC), the insertion of section 14 A with retrospective effect

reflects the serious attempt on the part of Parliament not to

allow deduction in respect of any expenditure incurred by

the assessee in relation to income, which does not form part

of the total income under the said act against the taxable

income. The Supreme Court further observed as under:-

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".. In other words, section 14 A clarifies that expenses incurred can be allowed only to the extent that they are relatable to the earning of taxable income. In many cases the nature of expenses incurred by the assessee may be relatable partly to the exempt income and partly to the taxable income. In the absence of section 14A, the expenditure incurred in respect of exempt income was being claimed against taxable income. The mandate of section 14A is clear. It desires to curb the practice to claim deduction of expenses incurred in relation to exempt income against taxable income and at the same time avail of the tax incentive by way of an exemption of exempt income without making any apportionment of expenses incurred in relation to exempt income…” “..Expenses allowed can only be in respect of earning taxable income. This is the purport of section 14A. In section 14A, the first phrase is "for the purposes of computing the total income under this Chapter" which makes it clear that various heads of income as prescribed in the Chapter IV would fall within section 14A. The next phrase is, "in relation to income which does not form part of total income under the Act". It means that if an income does not form part of total income, then the related expenditure is outside the ambit of the applicability of section 14A..” (Emphasis supplied)

2.11. The Supreme Court also clearly held that in the

case of an income like dividend income which does not form

part of the total income, any expenditure/deduction

relatable to such (exempt or non-taxable) income, even if it

is of the nature specified in sections 15 to 59 of the said Act,

cannot be allowed against any other income which is

includable in the total income. The exact words used by the

Supreme Court are as under:-

"Further, section 14 specifies five heads of income which are chargeable to tax. In order to be chargeable, an

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income has to be brought under one of the five heads. Sections 15 to 59 lay down the rules for computing income for the purpose of chargeability to tax under those heads. Sections 15 to 59 quantify the total income chargeable to tax. The permissible deductions enumerated in sections 15 to 59 are now to be allowed only with reference to income which is brought under one of the above heads and is chargeable to tax. If an income like dividend income is not a part of the total income, the expenditure/deduction though of the nature specified in sections 15 to 59 but related to the income not forming part of the total income could not be allowed against other income includable in the total income for the purpose of chargeability to tax. The theory of apportionment of expenditure between taxable and nontaxable has, in principle, been now widened under section 14 A." (emphasis supplied)

2.12. Sub-section (1) of section 14A clearly stipulates

that for the purposes of computing total income under

Chapter IV (Computation of Total Income), no deduction

shall be allowed in respect of expenditure “incurred” by the

assessee “in relation to” income which does not form part of

the total income under the said Act. A lot of emphasis was

laid on the expressions “incurred” and “in relation to”. It was

contended by Mr Ajay Vohra, who appeared on behalf of

most of the assesses, that the word “incurred” must be

taken literally in the sense that the expenditure must have

actually taken place. Moreover, the expenditure must also

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have taken place in relation to income which does not form

part of total income. Mr Vohra contended that the

expression “in relation to” implies that there must be a

direct and proximate connection with the subject matter. In

other words, according to Mr Vohra, only that actual

expenditure which is made directly and for the object of

earning exempt income (in the present appeals – dividend

income) could be disallowed under section 14A. He

submitted that if the dominant and main objective of

spending was not the earning of ‘exempt’ income then, the

expenditure could not be disallowed under section 14A

provided it was otherwise allowable under sections 15 to 59

of the said Act. Mr Satyen Sethi and Dr Rakesh Gupta, who

appeared for some of the assesses, also adopted the

arguments of Mr Vohra and emphasized that the

expenditure must be actual and cannot be computed on the

basis of some formula as stipulated under Rule 8D read with

sub-sections (2) & (3) of section 14A.

2.13. Let us examine the expression “in relation to”. Mr

Vohra had referred to the Supreme Court decision in

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Madhav Rao Scindia v. Union of India: AIR 1971 SC 530

where, in paragraph 134, it is observed as under:-

".. The expression "provisions of this Constitution relating to" in article 363 means provisions having a dominant and immediate connection with: it does not mean merely having a reference to." 2.14. In Doypack Systems Pvt Ltd v. Union of India:

AIR 1988 SC 782, the Supreme Court observed that the

expressions "pertaining to", "in relation to" and "arising out

of", used in the deeming provision, are used in the expansive

sense. The Supreme Court further observed as under:-

"49. The expression "in relation to" (so also "pertaining to"), is a very broad expression which presupposes another subject matter. These are words of comprehensiveness which might both have a direct significance as well as an indirect significance depending on the context…" "… In this connection reference may be made to 76 Corpus Juris Secundum at pages 620 and 621 where it is stated that the term "relate" is also defined as meaning to bring into association or connection with. It has been clearly mentioned that " relating to" has been held to be equivalent to or synonymous with as to "concerning with" and "pertaining to". The expression "pertaining to" is an expression of expansion and not of contraction." (emphasis supplied) 2.15. Hon’ble Punjab & Haryana High Court in the case

of CIT-II v. Hero Cycles Ltd., decided on 4/11/2009,

observed that:-

“Disallowance under Section 14A requires finding of incurring expenditure where it is found that for earning exempted income no

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expenditure has been incurred, disallowance under Section 14A cannot stand.” 2.16. We are of the view that unless and until

there was actual expenditure for earning the exempted

income, there could not be any disallowance under section

14A. While we agree that the expression “expenditure

incurred” refers to actual expenditure and not to some

imagined expenditure we would like to make it clear that the

‘actual’ expenditure that is in contemplation under section

14A(1) of the said Act is the ‘actual’ expenditure in relation

to or in connection with or pertaining to exempt income. The

corollary to this is that if no expenditure is incurred in

relation to the exempt income, no disallowance can be made

under section 14A of the said Act.

2.17. So far as, scope of Sub-section (2) of Section 14A of

the Act, is concerned, it provides the manner in which the

Assessing Officer is to determine the amount of expenditure

incurred in relation to income which does not form part of

the total income. However, if we examine the provision

carefully, we would find that the Assessing Officer is

required to determine the amount of such expenditure only

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if the Assessing Officer, having regard to the accounts of the

assessee, is not satisfied with the correctness of the claim of

the assessee in respect of such expenditure in relation to

income which does not form part of the total income under

the said Act. In other words, the requirement of the

Assessing Officer embarking upon a determination of the

amount of expenditure incurred in relation to exempt

income would be triggered only if the Assessing Officer

returns a finding that he is not satisfied with the correctness

of the claim of the assessee in respect of such expenditure.

Therefore, the condition precedent for the Assessing Officer

entering upon a determination of the amount of the

expenditure incurred in relation to exempt income is that

the Assessing Officer must record that he is not satisfied

with the correctness of the claim of the assessee in respect

of such expenditure. Sub-section (3) is nothing but an

offshoot of sub-section (2) of Section 14A. Sub-section (3)

applies to cases where the assessee claims that no

expenditure has been incurred in relation to income which

does not form part of the total income under the said Act. In

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other words, sub-section (2) deals with cases where the

assessee specifies a positive amount of expenditure in

relation to income which does not form part of the total

income under the said Act and sub-section (3) applies to

cases where the assessee asserts that no expenditure had

been incurred in relation to exempt income. In both cases,

the Assessing Officer, if satisfied with the correctness of the

claim of the assessee in respect of such expenditure or no

expenditure, as the case may be, cannot embark upon a

determination of the amount of expenditure in accordance

with any prescribed method, as mentioned in sub-section (2)

of Section 14A of the said Act. It is only if the Assessing

Officer is not satisfied with the correctness of the claim of

the assessee, in both cases, that the Assessing Officer gets

jurisdiction to determine the amount of expenditure

incurred in relation to such income which does not form

part of the total income under the said Act in accordance

with the prescribed method. The prescribed method being

the method stipulated in Rule 8D of the said Rules. While

rejecting the claim of the assessee with regard to the

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expenditure or no expenditure, as the case may be, in

relation to exempt income, the Assessing Officer would have

to indicate cogent reasons for the same.

2.18. As we have already noticed, sub-section (2) of

Section 14A of the said Act refers to the method of

determination of the amount of expenditure incurred in

relation to exempt income. The expression used is – “such

method as may be prescribed”. By virtue of Notification

No.45/2008 dated 24/03/2008, the Central Board of Direct

Taxes introduced Rule 8D in the said Rules. The said Rule

8D also makes it clear that where the Assessing Officer,

having regard to the accounts of the assessee of a previous

year, is not satisfied with

(a) the correctness of the claim of expenditure made by the

assessee; or

(b) the claim made by the assessee that no expenditure has

been incurred in relation to income which does not form part

of the total income under the said Act for such previous

year, the Assessing Officer shall determine the amount of

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the expenditure in relation to such income in accordance

with the provisions of sub-rule (2) of Rule 8D. We may

observe that Rule 8D(1) places the provisions of Section

14A(2) and (3) in the correct perspective. As we have already

seen, while discussing the provisions of Sub-sections (2) and

(3) of Section 14A, the condition precedent for the Assessing

Officer to himself determine the amount of expenditure is

that he must record his dissatisfaction with the correctness

of the claim of expenditure made by the assessee or with the

correctness of the claim made by the assessee that no

expenditure has been incurred. It is only when this

condition precedent is satisfied that the Assessing Officer is

required to determine the amount of expenditure in relation

to income not includable in total income in the manner

indicated in sub-rule (2) of Rule 8D of the said Rules.

2.19. It is, therefore, clear that determination of the

amount of expenditure in relation to exempt income under

Rule 8D would only come into play when the Assessing

Officer rejects the claim of the assessee in this regard. If one

examines sub-rule (2) of Rule 8D, we find that the method

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for determining the expenditure in relation to exempt income

has three components.

(i) The first component being the amount of expenditure

directly relating to income which does not form part of the

total income.

(ii) The second component being computed on the basis of

the formula given therein in a case where the assessee

incurs expenditure by way of interest which is not directly

attributable to any particular income or receipt. The formula

essentially apportions the amount of expenditure by way of

interest [other than the amount of interest included in

clause (i)] incurred during the previous year in the ratio of

the average value of investment, income from which does not

or shall not form part of the total income, to the average of

the total assets of the assessee.

(iii) The third component is an artificial figure – one

half percent of the average value of the investment, income

from which does not or shall not form part of the total

income, as appearing in the balance sheets of the assessee,

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on the first day and the last day of the previous year. It is

the aggregate of these three components which would

constitute the expenditure in relation to exempt income and

it is this amount of expenditure which would be disallowed

under Section 14A of the said Act. It is, therefore, clear that

in terms of the said Rule, the amount of expenditure in

relation to exempt income has two aspects – (a) direct and

(b) indirect. The direct expenditure is straightaway taken

into account by virtue of clause (i) of sub-rule (2) of Rule 8D.

The indirect expenditure, where it is by way of interest, is

computed through the principle of apportionment, as

indicated above. And, in cases where the indirect

expenditure is not by way of interest, a rule of thumb figure

of one half percent of the average value of the investment,

income from which does not or shall not form part of the

total income, is taken.

2.20. So far as, applicability of sub-section (2) and (3)

of section 14A and Rule-8D is concerned, while examining

the legislative history of Section 14A and Rule 8D, we have

already noted that Section 14A, as introduced by virtue of

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the Finance Act, 2001, was with retrospective effect from

01.04.1962. The proviso was inserted by virtue of the

Finance Act, 2002 and it was made clear that nothing in

Section 14A empowered the Assessing Officer to either re-

assess under Section 147 or pass an order enhancing the

assessment or reducing the refund already made or

otherwise increasing the liability of the assessee under

Section 154, for any assessment year beginning on or before

the first day of April, 2001. Thus, in respect of all the

assessment years prior to the assessment year beginning on

or before the 1st day of April, 2001, concluded assessments

could not be disturbed despite the fact that Section 14A had

been expressly made retrospective with effect from

01.04.1962. The provisions of Section 14A, which were

retrospective with effect from 01.04.1962 are now

encapsulated in sub-section (1) of Section 14A. It is also

clear that sub-sections (2) and (3) of Section 14A were

introduced subsequently by virtue of the Finance Act, 2006

and were introduced with effect from 01.04.2007. However,

although sub-sections (2) and (3) had been introduced with

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effect from 01.04.2007, they remained empty shells

inasmuch as the expression “such method as may be

prescribed” got meaning only by the introduction of Rule 8D

by virtue of the Income-tax (Fifth Amendment) Rules, 2008

which was notified by the Central Board of Direct Taxes by

its notification No.45/2008 dated 24/03/2008.

2.21. We are of the view that Rule 8D would operate

prospectively, because, if the said Rule were to have

retrospective effect, nothing prevented the Central Board of

Direct Taxes from saying so, particularly, in view of the fact

that it had the power to make a rule retrospective by virtue

of Section 295(4) of the said Act. Instead of making Rule 8D

retrospective, clause 1(2) of the Income-tax (Fifth

Amendment) Rules, 2008 made it clear that the rules would

come into force from the date of their publication in the

Official Gazette. It is, therefore, clear that Rule 8D, which

was introduced by virtue of the Notification No.45/2008

dated 24.03.2008, was prospective in operation and cannot

be regarded as being retrospective. We may also point out

that we have had the benefit of the decision from Hon’ble

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jurisdictional High Court in Godrej and Boyce Mfg. Co. Ltd v

DCIT: (2010) 328 ITR 81 (Bom), wherein it has, inter alia,

been held that the provisions of Rule 8D of the said Rules

has prospective effect and shall apply with effect from

assessment year 2008-09 onwards.

2.22. Insofar as sub-sections (2) and (3) of Section 14A

are concerned, they have also been introduced by virtue of

the Finance Act, 2006 with effect from 01.04.2007. This is

apparent, first of all, from the Notes on Clauses of the

Finance Bill, 2006 [Reported in 281 ITR (ST) at pages 139-

140]. The said Notes on Clauses refers to clause 7 of the Bill

which had sought to amend Section 14A of the said Act. It is

specifically mentioned in the said Notes on Clauses that:-

“This amendment will take effect from 1st April, 2007 and will, accordingly, apply in relation to the assessment year 2007-08 and subsequent years.” This is apparent, first of all, from the Notes on Clauses

of the Finance Bill, 2006 [Reported in 281 ITR (ST) at pages

139-140]. The said Notes on Clauses refers to clause 7 of the

Bill which had sought to amend Section 14A of the said Act.

It is specifically mentioned in the said Notes on Clauses

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that:- “This amendment will take effect from 1st April, 2007

and will, accordingly, apply in relation to the assessment

year 2007-08 and subsequent years.

2.23. Furthermore, in the Memorandum explaining the

provisions in the Finance Bill, 2006 [281 ITR (ST) at pages

281-281], it is once again stated with reference to clause 7

which pertains to the amendment to Section 14A of the said

Act that:-

“This amendment will take effect from 1st April, 2007 and will, accordingly, apply in relation to the assessment year 2007-08 and subsequent years.” 2.24. We may also refer to the CBDT Circular

No.14/2006 dated 28.12.2006 and to paragraphs 11 to 11.3

thereof. Paragraph 11 dealt with the method for allocating

expenditure in relation to exempt income and paragraphs

11.1 and 11.2 explained the basis and logic behind the

introduction of sub-section (2) of Section 14A of the said Act.

Paragraph 11.3 specifically provided for applicability of the

provisions of subsection (2) and it clearly indicated that it

would be applicable “from the assessment year 2007-08

onwards”.

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It is, therefore, clear that sub-sections (2) and (3) of

Section 14A were introduced with prospective effect from the

assessment year 2007-08 onwards. However, sub-section (2)

of Section 14A remained an empty shell until the

introduction of Rule 8D on 24.03.2008 which gave content

to the expression “such method as may be prescribed”

appearing in Section 14A(2) of the said Act. Thus, it is clear

that, in effect, the provisions of subsections (2) and (3) of

Section 14A would be workable only with effect from the

date of introduction of Rule 8D. This is so because prior to

that date, there was no prescribed method and sub-sections

(2) and (3) of Section 14A remained unworkable.

2.25. So far as, as to how Section 14A to be worked for

the period prior to the introduction of Rule 8D, is concerned.

Sub-section (2) of section 14A, as we have seen, stipulates

that the Assessing Officer shall determine the amount of

expenditure incurred in relation to income which does not

form part of the total income “in accordance with such

method as may be prescribed”. Of course, this determination

can only be undertaken if the Assessing Officer is not

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satisfied with the correctness of the claim of the assessee in

respect of such expenditure. This part of section 14A(2)

which explicitly requires the fulfillment of a condition

precedent is also implicit in section 14A(1) [as it now stands]

as also in its initial avatar as section 14A. It is only the

prescription with regard to the method of determining such

expenditure which is new and which will operate

prospectively. In other words, section 14A, even prior to the

introduction of sub-sections (2) & (3) would require the

assessing officer to first reject the claim of the assessee with

regard to the extent of such expenditure and such rejection

must be for disclosed cogent reasons. It is then that the

question of determination of such expenditure by the

assessing officer would arise. The requirement of adopting a

specific method of determining such expenditure has been

introduced by virtue of sub-section (2) of section 14A. Prior

to that, the assessing was free to adopt any reasonable and

acceptable method. So, even for the pre-Rule8D period,

whenever the issue of section 14A arises before an Assessing

Officer, he has, first of all, to ascertain the correctness of the

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claim of the assessee in respect of the expenditure incurred

in relation to income which does not form part of the total

income under the said Act. Even where the assessee claims

that no expenditure has been incurred in relation to income

which does not form part of total income, the assessing

officer will have to verify the correctness of such claim. In

case, the assessing officer is satisfied with the claim of the

assessee with regard to the expenditure or no expenditure,

as the case may be, the assessing officer is to accept the

claim of the assessee insofar as the quantum of disallowance

under section 14A is concerned. In such eventuality, the

assessing officer cannot embark upon a determination of the

amount of expenditure for the purposes of section14A(1). In

case, the assessing officer is not, on the basis of objective

criteria and after giving the assessee a reasonable

opportunity, satisfied with the correctness of the claim of the

assessee, he shall have to reject the claim and state the

reasons for doing so. Having done so, the assessing officer

will have to determine the amount of expenditure incurred

in relation to income which does not form part of the total

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income under the said Act. He is required to do so on the

basis of a reasonable and acceptable method of

apportionment.

2.26. In view of the foregoing discussion, since, no

expenses were incurred by the assessee for earning the

exempt income, therefore, there is no question of making

any disallowance. Even otherwise, no disallowance can be

made by the Assessing Officer more than the exempt

income, thus, appeal of the assessee is allowed. The

Assessing Officer is directed to delete the disallowance.

Finally, the appeal of the assessee is allowed.

This order was pronounced in the open court in the

presence of Ld. representatives from both sides at the

conclusion of the hearing on 17/05/2016.

Sd/- Sd/- (Rajendra) (Joginder Singh) लेखा सद�य / ACCOUNTANT MEMBER �या�यक सद�य / JUDICIAL MEMBER मुंबई Mumbai; �दनांक Dated :18/05/2016

f{x~{tÜ? P.S/.�न.स.

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आदेश क� ��त�ल�प अ�े�षत/Copy of the Order forwarded to : 1. अपीलाथ� / The Appellant 2. ��यथ� / The Respondent. 3. आयकर आयु�त(अपील) / The CIT, Mumbai. 4. आयकर आयु�त / CIT(A)- , Mumbai 5. �वभागीय ��त�न�ध, आयकर अपील�य अ�धकरण, मुंबई / DR, ITAT, Mumbai 6. गाड� फाईल / Guard file.

आदेशानुसार/ BY ORDER, स�या�पत ��त //True Copy//

उप/सहायक पंजीकार (Dy./Asstt. Registrar) आयकर अपील�य अ�धकरण, मुंबई / ITAT, Mumbai