RAJESH AGRAWAL,RAIPUR vs. DEPUTY COMMISSIONER OF INCOME TAX, RAIPUR-1(1), RAIPUR

आदेश / ORDER

PER RAVISH SOOD, JM:

“1. That, the Learned Commissioner of Income-tax (Appeals) erred in law as well as on facts by upholding the disallowance of interest made by the Income Tax Officer and thereby, making addition of Rs.7,56,000/-. The same is unjust & unfair and it be allowed in full as claimed. 2. That the appellant reserves the rights to add, alter or modify any ground of appeal at the time of hearing.”

3 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur of a gift that was given to his nephew, viz. Shri Brijesh Agrawal. The A.O. observed that the aforesaid amount of Rs.21 lacs was, thereafter, received by the assessee as an unsecured loan from the aforesaid donee, viz. Shri Brijesh Agrawal (supra) at an interest of 18% P.A. The A.O. further observed that the aforesaid done, viz. Shri Brijesh Agrawal was also a lender/creditor with an outstanding balance of Rs.26,71,016/- (Cr) on 01.04.2009 in the books of accounts of the assessee. Referring to the aforesaid loan of Rs.21 lacs (supra) received from Shri Brijesh Agrawal (supra), the A.O observed that the same had resulted in increasing the outstanding closing balance of loan/credit a/c of Shri Brijesh Agrawal to Rs.54,98,559/- (Cr.) on 31.03.2010. On a perusal of the records, it was observed by the A.O. that the assessee had paid interest of Rs.3,78,000/- (i.e. @18% P.A on Rs.21 lacs) to Shri Brijesh Agarwal.

5. The A.O. holding a conviction that the assessee had in the garb of the ingenuine gift transactions to his aforesaid nephews, viz. S/shri Brijesh Agrawal and Kamal Agrawal had reduced his taxable income by raising a bogus claim for 4 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur deduction of interest paid on the respective loans that were received from them, thus, disallowed an amount of Rs.7,56,000/- (i.e., Rs.3.78 lacs each) u/s. 36(1)(iii) of the Act. The A.O in order to fortify his aforesaid conviction was of the view that now when the assessee was already heavily burdened with interest-bearing loans of Rs.10.51 crore as of 01.04.2009, which included the outstanding interest-bearing loan/credit on 01.04.2009 of Rs. 26,71,016/- from Shri Brijesh Agrawal, it was, thus, beyond comprehension that instead of squaring up the outstanding loan of Shri Brijesh Agrawal (supra) by repayment/part-repayment of his outstanding loan/credit, he would have gifted an amount of Rs.21 lacs to him, which in turn, and then receive back the said amount as an interest-bearing loan. Accordingly, the A.O. held the gift transaction as ingenuine and, being of the view that the assessee had diverted his interest-bearing funds for a purpose other than business, disallowed the assessee’s claim for deduction of corresponding interest expenditure of Rs.7,56,000/- u/s. 36(1)(iii) of the Act.

5 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur

“5. Decision: The records and the submission filed by the appellant have been perused. Brief facts of this case are that the appellant is the proprietor of M/s Chhattisgarh Steel Traders, engaged in the business of Iron & Steel Trading. The appellant filed his return of income for AY 2010-11, declaring total income at Rs.1,12,97,780/-. The assessment has been completed u/s 143(3) vide order dated 28.03.2013 determining total income of Rs. 1,20,53,780/-. The AO has made disallowance of Rs 7,56,000/-u/s 36(1)(iii) of the Act on account of interest paid on unsecured loans taken from Shri Brijesh Agarwal and Shri Kamal Agarwal. Aggrieved by the assessment order, appellant is in first appeal. 5.2 The AO has noted that the nephew of the appellant, Sh. Brijesh Agarwal was a creditor in the appellant's books of account and his opening credit balance was Rs.26,76,016/- as on 01.04.2009. On 02.04.2009, the appellant transferred an amount of Rs. 21,00,000/- through banking channel in form of Gift to Sh. Brijesh Agarwal. However, on the same day i.e., 02.04.2009, appellant received the same amount from Sh. Brijesh Agarwal as unsecured loan on which interest @ 18% per annum has been paid and claimed as deduction. The appellant already had interest bearing fund of Rs. 10.51 crores as on 01.04.2009. The AO has further noted that the appellant has diverted interest bearing funds to the family members. Instead of repayment of existing loan, the appellant has first given money in form of gift to Sh. Brijesh Agarwal and thereafter, accepted the same amount as loan. The AO has observed that there was no business purpose/business expediency to perform this transaction that the exercise has been undertaken to reduce tax liability. He has held that the gift is not genuine as it lacks the necessary condition of being voluntary in nature and has treated the same as repayment of loan and as a result disallowed the interest of Rs. 3,78,000/- u/s 36(1)(iii) of the Act. The appellant has also entered into transaction of similar nature with another nephew named Sh. Kamal Agrawal. The interest of Rs. 3,78,000/- paid to Sh. Kamal Agrawal has also been disallowed on the same lines. 5.3 During the course of appellate proceedings, the appellant has submitted that to fulfill the financial needs of the business, the appellant preferred to take unsecured loans over the secured loan in view of various difficulties faced while obtaining secured loans such as legal formalities, collateral securities, brokerage etc. He, therefore, obtained the unsecured loans from relatives as per the need of business. It was further submitted that funds borrowed, and interest paid on it are wholly and exclusively for the purpose of business. The appellant has relied on various judgements and contended that it is not for the Income-tax Department to examine whether there was no need to borrow money because he had ample fund of his own. He has further submitted that his relatives are already paying highest tax on such interest income and the disallowance is uncalled for. 5.4 At this juncture, it is relevant to reproduce the section 36(1)(iii) of the Act:

6 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur

"Other deductions. 36. (1) The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28— …… iii) the amount of the interest paid in respect of capital borrowed for the purposes of the business or profession:" From perusal of section 36(1)(iii) of the Act, it is evident that 3 conditions must be complied with namely, money must have been borrowed by the assessee, it must have been borrowed for the purpose of business and the assessee must have paid the interest on the aforesaid amount and claimed it as deduction. In the instant case, genuineness of the transaction claiming that it is for the purpose of business is in question. This phrase "for the purpose of business", as held by many legal pronouncements, is the most important yardstick for the allowability of deduction under Section 36(1)(iii) of Act. While explaining the meaning of this phrase the Hon'ble Supreme Court in the case of S. A. Builders Ltd. Vs. CIT(A), Chandigarh [2007] 158 Taxman 74 (SC) has used the word "commercial expediency". The Supreme Court has defined commercial expediency as "an expression of wide import and includes such expenditure as a prudent businessman incurs for the purpose of business. The expenditure may not have been incurred under any legal obligation, but it is allowable as a business expenditure, if it was incurred on grounds of commercial expediency". 5.5 Further, following the above judgment of Hon'ble Supreme Court, the High Court of Delhi, in the case of Punjab Stainless Steel Inds. Vs. CIT [2011] 196 Taxman 404, has held that: "The commercial expediency, in our view, would include such purpose as is expected by the assessee to advance its business interest and may include measures taken for preservation, protection or advancement of its business interests. The business interest of the assessee has to be distinguished from the personal interest of its directors or partners, as the case may be. In other words, there has to be a nexus between the advancing of funds and business interest of the assessee firm. The appropriate test in such a case would be as to whether a reasonable person stepping into the shoes of the directors/partners of the assessee firm and working solely in the interest of the assessee firm/company, would have extended such interest free advances. Some business objective should be sought to have been achieved by extending such interest free advance when the assessee firm/company itself is borrowing funds for running its business. It may not be relevant as to whether the advances have been extended out of the borrowed funds or out of mixed funds which included borrowed funds. The test to be applied in such cases is not the source of the funds but the purpose for which the advances were extended."

7 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur

5.6 In the instant appeal, the money was first diverted by the appellant from his business disguising it as gift to the two nephews and thereafter the same money was taken back from them as unsecured loans on which interest@18% was paid and claimed as deduction. Therefore there is no actual/genuine borrowing of capital. Further, instead of repaying existing loans taken from the creditors including the nephews Shri Brijesh Agarwal and Shri Kamal Agarwal, the appellant first chose to give an amount of Rs.42 lakhs as gift to both the nephews of Rs. 21 lakhs each and then took loan of said amount on the same day from them paying interest @18%. In place of paying existing loan and reducing interest burden, appellant increased his interest burden thereby reducing taxable income. No businessman will gift money when he himself is in need of it. No prudent businessman will enhance his interest liability as done by the appellant in the instant case. The appellant has tried to give the whole arrangement a colour of business expediency though the real interest is to reduce tax liability. The appellant's contention that it preferred to have unsecured loans over the secured loans and the same was for the purpose of business is far from the truth. Therefore, this transaction cannot be held to have been entered into for purpose of business since there was no business expediency to enter into the said transaction. In fact it is an illusionary, colourable and non genuine transaction entered into with the main motive of reduction of tax liability. 5.7 The decision of Hon'ble Gujarat High Court in the case of Jayesh Raichand Shah V ACIT Tax appeal No. 705 of 202 July 2, 2013 [2015] 55 taxmann.com 108 (Gujarat) is squarely applicable to the facts of the case. In this case the assessee made gift of certain amount to three persons, and immediately thereafter three persons placed same amount in the hands of the assessee on which interest was claimed as deduction by the assessee. The Court held that entire series of transactions were illusory, colourable and not genuine and, therefore, assessee was not entitled to deduction under section 36(1)(iii). Relevant extracts of the decision of Hon'ble High Court of Gujarat are reproduced as under: "4 While disallowing the aforesaid claim and making addition of the aforesaid amount of Rs.7,46,965 to the total income, the Assessing Officer observed as under: "Here it is important to mention that business exigency and prudency are the two basic parameters to determine the allowability of any expenditure. Therefore, no prudent businessman will gift his money when there is certain exigency of money. In the instant case, it is seen that the assessee has made gift of Rs. 20,00,000 to each to Shri Bhavik J. Shah, Shri Tejas Shah and Shri Jignesh Shah on June 19, 2007, June 19, 2007, and June 16, 2007, respectively, and almost the same amount is received as loan from these persons just after 3 days that is on June 22, 2007. This action of the assessee

8 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur clearly transpires that business exigency was over looked and unreasonable interest was paid to the above persons. Therefore, the interest paid to the above persons on the amount gifted is not allowable as per section 40A(2)(b) of the Income-tax Act. Accordingly, I calculate the excessive payment of interest on the amount gifted as under:

The same came to be deleted by the Commissioner of Income-tax (Appeals) and in appeal the Income-tax Appellate Tribunal reversed the order of the Commissioner of Income-tax (Appeals) and confirmed the addition made by the Assessing Officer. While restoring order passed by the Assessing Officer, the Income-tax Appellate Tribunal in the impugned order has observed and held as under (emphasis added): "17. We have heard both the parties. Observations made in the assessment order indicate that Rs. 60,00,000 were diverted by the assessee from his business in favour of three persons, namely, Shri Bhavik J. Shah, Shri Tejas R. Shah and Shri Jignesh R. Shah allegedly by way of gift. After the so-called gift, the assessee got back the same money from all the aforesaid three persons on which the assessee chose to pay interest at 16 per cent. which aggregated to Rs. 7,46,965. None of the aforesaid persons could have got interest at 16 percent as the rate of interest given by the bank and financial institutions even on fixed deposit was not as high as 16 per cent in the year under appeal. The assessee claims that Shri Bhavik J. Shah alone was related to the assessee within the meaning of section 40A(2) (b) and remaining two persons were not related to the assessee within the meaning of section 40A(2). It is, however, not in dispute that all the three persons were related to the assessee which may or may not be covered by section 40A(2)(b).

9 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur there is no borrowing of capital and, therefore, the requirement of section 36(I)(iii) is not fulfilled. Without prejudice to the aforesaid, the entire series of transactions are illusory, colourable and not genuinely for the purpose of the business. In this view of the matter, the assessee is not entitled to deduction under section 36(I)(iii). The order of the Assessing Officer making the impugned disallowance is, therefore, restored(emphasis added).

held that the assessing officer has rightly disallowed the interest of Rs. U/s 36(1)(iii) of the Act. I uphold the addition of Rs.7,56,000/- made by the Assessing Officer. The grounds of appeal

No.2 and 3 are dismissed.

6. Ground No. 1 and 4 are general in nature and do not require specific adjudication.

7. In the result, appeal is dismissed.”

11 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur further, the Ld. AR had taken us through the “capital account” of the assessee with M/s. Chhattisgarh Steel Traders, Raipur, Page 4 of APB, which revealed an “Opening balance” of Rs.37.63 lacs (approx.) on 01.04.2009. The Ld. AR further submitted that the assessee had during the year generated a profit of Rs.1.14 crore (approx.); and as a result, the capital account of the assessee on 31.03.2010 amounted to Rs.1.51 crore (approx.). Backed by the aforesaid facts, the Ld. A.R submitted that now, when the assessee had sufficient interest-free/self-owned funds available with him both by way of the opening balance of capital and profit garnered during the year, which sufficed to source the gifts transactions in question, therefore, the disallowance of the assessee’s claim for deduction of interest expenditure made by the A.O on a presumption that the interest bearing funds were diverted/utilized for a non-business purpose was absolutely incorrect and based on misconceived facts. He further submitted that as the disallowance u/s.36(1)(iii) of the Act of Rs.7,56,000/- made by the A.O. was ill-founded, therefore, the same could not be sustained and was liable to be vacated.

“4. We do not agree. In the case at hand, as recorded by the ITAT, undisputedly the assessee's own funds and other non-interest bearing funds were more than the investment in the tax free securities. The ITAT therefore held that there was no basis for deeming that the Assessee had used the borrowed funds for investment in tax free

13 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur securities. On this factual aspect, the ITAT did not find any merit in the contention raised by the Revenue and therefore, accordingly answered the question in favour of the Assessee. On going through the order of the CIT (Appeals) dated 28th March 2005 as well as the impugned order, we do not find that the CIT (Appeals) or the ITAT erred in holding in favour of the Assessee. In this regard, the submission of Mr Mistry, the learned Senior Counsel appearing on behalf of the Assessee, that this issue is squarely covered by a judgment of this Court in the case of Commissioner of Income Tax v/s Reliance Utilities and Power Ltd., reported in (2009) 313 ITR 340 (Bom) is well founded. The facts of that case were that the Assessee viz. M/s Reliance Utilities and Power Ltd. had invested certain amounts in Reliance Gas Ltd. and Reliance Strategic Investments Ltd. It was the case of the Assessee that they themselves were in the business of generation of power and they had earned regular business income therefrom. The investments made by the Assessee in M/s Reliance Gas Ltd. And M/s Reliance Strategic Investments Ltd. were done out of their own funds and were in the regular course of business and therefore no part of the interest could be disallowed. It was also pointed out that the Assessee had borrowed Rs.43.62 crores by way of issue of debentures and the said amount was utilised as capital expenditure and inter-corporate deposit. It was the Assessee's submission that no part of the interest bearing funds (viz. Issue of debentures) had gone into making investments in the said two companies. It was pointed out that the income from the operations of the Assessee was Rs.313.53 crores and with the availability of other interest free funds with the Assessee the amount available for investments out of its own funds were to the tune of Rs.398.19 crores. In view thereof, it was submitted that from the analysis of the balance-sheet, the Assessee had enough interest free funds at its disposal for making the investments. The CIT (Appeals) on examining the said material, agreed with the contention of the Assessee and accordingly deleted the addition made by the Assessing Officer and directed him to allow the same under the provisions of the Income Tax Act, 1961. The Revenue being aggrieved by the order preferred an Appeal before the ITAT who upheld the order of the CIT (Appeals) and dismissed the Appeal of the Revenue. From the order of the ITAT, the Revenue approached this Court by way of an Appeal. After examining the entire factual matrix of the matter and the law on the subject, this Court held as under :- "If there be interest-free funds available to an assessee sufficient to meet its investments and at the same time the assessee had raised a loan it can be presumed that the investments were from the interest-free funds available. In our opinion, the Supreme Court in East India Pharmaceutical Works Ltd. v. CIT (1997) 224 ITR 627 had the occasion to consider the decision of the Calcutta High Court in Woolcombers of India Ltd. (1982) 134 ITR 219 where a similar issue had arisen. Before the Supreme Court it was argued that it should have been presumed that in essence and true character the taxes were paid out of the profits of the relevant year and not out of the overdraft account for the running of the business and in these circumstances the appellant was entitled to claim the deductions. The Supreme Court noted that the argument had considerable force, but considering the fact that the contention had not been advanced earlier it did not require to be answered. It then noted that in Woolcombers of India Ltd.'s case (1982) 134 ITR 219 the Calcutta High Court had come to the conclusion that the profits were 14 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur sufficient to meet the advance tax liability and the profits were deposited in the over draft account of the assessee and in such a case it should be presumed that the taxes were paid out of the profits of the year and not out of the overdraft account for the running of the business. It noted that to raise the presumption, there was sufficient material and the assessee had urged the contention before the High Court. The principle, therefore, would be that if there were funds available both interest-free and over draft and/or loans taken, then a presumption would arise that investments would be out of the interest-free funds generated or available with the company if the interest- free funds were sufficient to meet the investment. In this case this presumption is established considering the finding of fact both by the Commissioner of Income-tax (Appeals) and the Income-tax Appellate Tribunal." (emphasis supplied) 5. We find that the facts of the present case are squarely covered by the judgment in the case of Reliance Utilities and Power Ltd. (supra). The finding of fact given by the ITAT in the present case is that the Assessee's own funds and other non-interest bearing funds were more than the investment in the tax-free securities. This factual position is not one that is disputed. In the present case, undisputedly the Assessee's capital, profit reserves, surplus and current account deposits were higher than the investment in the tax-free securities. In view of this factual position, as per the judgment of this Court in the case of Reliance Utilities and Power Ltd (supra), it would have to be presumed that the investment made by the Assessee would be out of the interest-free funds available with the Assessee. We therefore, are unable to agree with the submission of Mr Suresh Kumar that the Tribunal had erred in dismissing the Appeal of the Revenue on this ground. We do not find that question (A) gives rise to any substantial question of law and is therefore rejected.”

“17. One aspect needs to be mentioned during the AY 1995- 96, apart from the loan given in August/September 1991, the assessee advanced interest free loan to its sister concern amounting to Rs.5 lacs. According to the Tribunal, there was nothing on record to show that the loans were given to the sister concern by the assessee-firm out of its Own Funds and, therefore, it was not entitled to claim deduction under Section 36(1)(iii). This finding is erroneous. The Opening Balance as on 1.4.94 was Rs.1.91 crores whereas the loan given to the sister concern was a small amount of Rs.5 lacs. In our view, the profits earned by the assessee during the relevant year were sufficient to cover the impugned loan of Rs.5 lacs.” (emphasis supplied by us) 14. Backed by the aforesaid facts, we are of the considered view that as the self- owned funds available with the assessee as the “opening balance” of his capital on 01.04.2009, along with the “net profit” of Rs. 1.14 crore (approx.) earned by him during the year under consideration, which, therein, aggregated to Rs.1.51 crore, was sufficient to source the gifts of Rs.42 lacs to the aforesaid donee’s, viz. S/shri Brijesh Agrawal and Kamal Agrawal, therefore, it can safely be presumed that the said self-owned funds/ profit generated during the year by the assessee was utilized

16 Rajesh Agrawal Vs. DCIT, Raipur-1(1), Raipur for making gifts under consideration and no part of the interest-bearing funds were diverted for the said purpose. Accordingly, we are unable to concur with the view taken by the lower authorities who have disallowed the assessee’s claim for deduction of interest expenditure of Rs. 7.56 lac (supra) on the presumption that the interest-bearing funds were utilized by the assessee for making gifts to his nephews, and, thus, vacate the said disallowance so made/sustained by them u/s.36(1)(iii) of the Act.