M/S.EMPEE CREDIT CORPORATION,CALICUT vs. THE ACIT, CALICUT

Per GEORGE GEORGE K.,JUDICIAL MEMBER:

This appeal, at the instance of the assessee, is directed against the order of the

CIT(A), Kozhikode dated 06/10/2016. The relevant assessment year is 2008-09.

justified in confirming the assessment order disallowing a sum of Rs.3,71,890/-

u/s. 40A(2)(a) of the I.T. Act being excess interest paid to the associate concerns

and related parties.

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The assessee is a firm. It is engaged as an wholesale dealer of cigarettes,

biscuits, etc. For the relevant assessment year 2008-09, the return of income

was filed on 29/08/2009, declaring a total income of Rs.12,35,720/-. The

assessment was completed u/s. 143(3) of the Act vide order dated 14/12/2010.

In the assessment completed, the Assessing Officer had disallowed a sum of

Rs.3,71,890/- by invoking the provisions of section 40A(2)(a). The assessee-

firm had a total loan liability of Rs.235 lakhs. Out of Rs.235 lakhs of total loan

liability, Rs.121 lakhs was loans from scheduled banks which were secured loans

having interest at the rate of 12.5%. The balance loan of Rs.114 lakhs was

raised mainly from a related party HUF for which the assessee was paying

interest at the rate of 16%. The Assessing Officer was of the view that when

loans are available from scheduled banks for 12% interest, the payment of

interest at the rate of 16% to the related parties was unnecessary and excessive.

The Assessing Officer held that interest above 12.5% is to be disallowed.

Accordingly, 3.5% (i.e. 16% - 12.5%) was disallowed on loan taken amounting

to Rs.114 lakhs.

to the first appellate authority. Before the CIT(A), it was contended that the

loans received from banks were secured loans whereas loans from related

parties were unsecured loans which naturally will bear higher rate of interest.

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It was contended that business exigencies would necessitate availing loans on

short notice and the loans are available readily only from related parties. It was

further contended that there cannot be comparison between secured loans and

unsecured loans since the rate of interest for the secured loans will be much

lower than the unsecured loans.

appeal of the assessee. The CIT(A) was of the view that during the current year,

secured loans from the banks was reduced whereas the unsecured loans carrying

a higher rate of interest had increased to the tune of Rs.23 lakhs. The CIT(A)

was of the view that there was no necessity of the assessee to have borrowed

money from the related parties which is carrying a higher rate of interest when

there is no evidence on record to show that the banks had denied loans to the

assessee. The CIT(A) further confirmed the Assessing Officer’s finding that

when interest income is bifurcated between various concerns/individual, they

would get the benefit of non taxable maximum margin and the balance is only

taxed. The relevant finding of the CIT(A) reads as follows:

“8. On going through the balance sheet of the appellant, it is seen that the opening balance of secured loans was Rs.1,37,46,686.54 and the closing balance is Rs.1,20,98,076.19. The average of this amount works out to Rs.1,29,22,381. During this year, the appellant paid interest of Rs.12,33,039/- to the banks, which works out to less than 10%. The opening balance of the unsecured loans loans, i.e., loans from related concerns was Rs.91,95,957.61 while the closing balance is Rs.1,14,02,257.61. The average of this works out to Rs.1,02,99,107/- and on this the appellant paid interest of Rs.16,95,317.54 during the year, which works out to 16.5%.

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8.1 From the above, it is very clear that during the year, the bank loans which were available at cheaper rate was decreased by an amount of Rs.16.5 lakhs while the costlier loans from the related concerns were increased by Rs.23 lakhs. The appellant was not able to furnish any evidence to show that the banks denied loans requested by the appellant firm. As business and profit of the appellant was increasing from year to year, in my opinion, there was no reason to believe that banks were reluctant to give more loans to the appellant.

8.2 From the above facts, it appears that the findings of the Assessing Officer that firm’s partners are also members of the associate concern and undue benefit is given to the relatives and also reduced tax liability of the firm is correct. I also agree with the Assessing Officer that when the interest income is bifurcated to various concerns/individuals, they will get the benefit of non- taxable maximum and balance is only taxed. In view of this, I agree with the Assessing Officer in disallowing this amount as per the provisions of section 40A(2)(a) of the Income Tax Act, 1961. Therefore, the addition is confirmed.”

Tribunal. The Ld. Counsel for the assessee reiterated the submissions before the

Income Tax authorities. He had also given a brief note containing various judicial

pronouncements. The reliance on the judicial pronouncements are essentially

for the proposition that for invoking section 40A(2), necessarily Assessing Officer

has to give a finding that payments made to related parties is in excess of

market value. It was contended by the Ld. AR that in the instant case, the

Assessing Officer did not establish what is the market rate of interest for

unsecured loans.

Officer and the CIT(A).

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assessee-firm had a total loan liability of Rs.235 lakhs, out of which 121 lakhs

w ere secured loans from scheduled Banks carrying a rate of interest @ 12.5%

and balance Rs.114 lakhs were unsecured loans mainly from the related party

HUF. The unsecured loans from related parties were having a rate of interest @

16%. The rate of interest for the secured loans and unsecured loans cannot be

compared. The general trade practice is that unsecured loans carry higher rate of

interest compared to the secured loans, because, the lender in case of secured

loans has more security and chances of recovery of principal and interest are

much more. Business exigencies require taking loans on short notice. On short

notice loans may not be readily available from the scheduled banks. In the

instant case, sanctioned loans from the scheduled banks have been fully utilized

and the Department does not have a case otherwise. The assessee cannot be

compelled to take loans only from the scheduled banks. Availing loans from the

related parties for business exigencies is to be judged from businessman’s point

of view. Therefore, comparison of rate of interest on secured loans with the

interest for unsecured loans is not justified. In the instant case, the Assessing

Officer has not brought anything on record to show that the rate of interest for

unsecured loans @ 16% is excessive of the market rate. Having failed to do so,

invoking provisions of section 40A(2)(a) for the relevant assessment year is not

justified. Therefore, the disallowance of excess interest amounting to

Rs.3,71,890/- is set aside. It is ordered accordingly.

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Pronounced in the open court on 21st-04-2017.

sd/- (GEORGE GEORGE K.) JUDICIAL MEMBER

Place: Kochi Dated: 21st April, 2017 GJ Copy to: 1. M/s. Empee Credit Corporation, Silk Street, 8/189, Calicut-673 082. 2. The Assistant Commissioner of Income-tax, Circle-1(1), Calicut. 3. The Commissioner of Income-tax(Appeals),Kozhikode. 4. The Pr. Commissioner of Income-tax,Kozhikode. 5. D.R., I.T.A.T., Cochin Bench, Cochin. 6. Guard File. By Order

(ASSISTANT REGISTRAR) I.T.A.T., Cochin