SHRI AMRIK SINGH,AMRITSAR vs. INCOME TAX OFFICER WARD-4 (1), AMRITSAR

ORDER Per: Anikesh Banerjee, JM: The instant appeal of the assessee was filed against the order of the ld. Commissioner of Income Tax (Appeals)-5, Ludhiana, (in brevity ‘the CIT (A)’) order passed u/s 250 (6) of the Income-tax Act, 1961 (in brevity the Act) for assessment year 2012-13. The impugned order was emanated from the order of the ld. ITO, Ward-4(1), Amritsar, (in brevity the ld. AO) order passed u/s 147/144 of the Act.

“1. The Learned CIT (A) has erred in law and facts and circumstances of the case in making addition of Rs. 5,47,836/- towards disallowance of interest u/s 36(l)(iii)

2. The Learned CIT (A) has erred in law and facts and circumstances of the case by making addition on grounds entirely different from grounds on which assessment was reopened and also without making any addition on grounds on which assessment was reopened.

3. The Learned CIT (A) has erred in law and facts and circumstances of the case by making the disallowance on entire Interest Free Advance outstanding as on Balance Sheet date ignoring the opening outstanding balances of Advances.

4. The Learned CIT (A) has erred in law and facts and circumstances of the case by making disallowance of interest inspite of the fact that the interest free advance was given out of the interest free funds raised and internal accruals.

5. That the appellant craves leave to add, alter, amend or vary the grounds of appeal here in above at or before hearing of appeal.”

Aggrieved assessee filed an appeal before the ld. CIT(A). The ld. CIT(A) after considering the submission of the assessee allowed the assessee’s appeal and quash the addition amount of Rs.79,63,000/-. But the ld. CIT(A) had made an addition by contravening section 36(1)(iii) of the Act. The ld. CIT(A) calculated the interest on the interest free advance amount to Rs.45,65,300/- @ 12% of interest which works out to Rs.5,47,836/-. Being aggrieved on this enhancement made by the ld. CIT(A), the assessee filed an appeal before us.

“5.4 Enhancement of Income on account of disallowance u/s 36(l)(iii)

During the year under consideration, interest free advances to the tune of Rs. 45,65,300/- were outstanding against the names of BS Bhullar Gas Industry (Rs. 40,39,300/-), Sh. Ajit Singh (Rs. 1,50,000/-), Smt. Surinder Kaur (Rs. 1,50,000) and Sh. Ramandeep Singh (Rs. 2,26,000/-). Also, the assessee had incurred financial cost (bank charges, interest CC account, interest car loan) to the extent of Rs. 9,42,418/- on borrowings. The AR was asked to justify as why proportionate disallowance of interest may not be made u/s 36(l)(iii) on account of interest free advances given.

The AR has argued that the advances were given out of interest free funds available with the assessee and to substantiate his claim, the AR made calculations of the net profit earned during the year to show that the internal accruals are more than the advances outstanding. It needs to be pointed out here that generalized calculation of internal accruals will not help the cause of the assessee as assessee did not establish the fact that the said funds were not sourced from borrowed money. The assessee should have submitted the evidence in the nature of bank transactions showing the origin of source of money to establish whether the same was from borrowed funds or internal accruals.

It is important to emphasize here that the object of the provisions under section 36(l)(iii) is not to enable an assessee to make a large borrowing and create a liability for payment of interest thereon not only in the year in which the borrowing was made, but also in the subsequent years as well, keep the loan outstanding and, thereafter, divert the amount borrowed by taking it out of the business by giving it interest-free to others, but continue to pay interest out of the income of the business and claim the amount of interest paid as a business expenditure. The payment of interest on the amount not used in the business cannot be regarded as business expenditure as the business does not derive any benefit from the outgoing by way of interest on an amount which is no longer used in the business, but had been diverted from the business. This provision, therefore, cannot be construed as enabling an assessee to burden the business with interest even while taking the amount initially borrowed for the business, but subsequently taken out of the business by diverting it as interest-free loans to others. It is also relevant to point out here that the amount borrowed for the business remains a liability for the business till its discharge. The fact that the amount borrowed may have been invested in the purchase of machinery or utilized as working capital or used in any other way does not in any way affect the liability for repayment of the amount borrowed. So long as the money borrowed is used in the business, interest paid on such borrowing is a proper charge on the business and is allowable as expenditure. Under section 36(l)(iii), of the Act, amounts diverted not being used for the purposes of the business, interest relating to the amount diverted out of the business cannot be treated as a permissible deduction in the computation of income. The legislative language of section 36(l)(iii) is very clear as expression "borrowed for the purpose of the business" is used. Any view to the contrary would not in the least sub- serve the object of the legislative provision, but it would only open the gates for the assessees to borrow merrily and after ostensibly using it in the business for a short period and at a subsequent point of time divert the funds in whole or part, for non-business purposes and continue to claim the interest on the borrowing as a deductible item of expenditure. The objects of the section would not in any way be advanced by the adoption of such a view. If a business for which the interest paid is claimed as a deduction has not benefited during the year from the capital borrowed by such borrowed amount being used in the business, such interest cannot be regarded as expenditure for the purposes of the business.”

5.1 The ld. DR further invited our attention about power of ld. CIT(A) which is mentioned in the CIT(A)’s order. The relevant parts of the CIT(A) page 17 & 18 are reproduced as below:

“POWERS OF CIT(A)

The Hon'ble Supreme Court in the case of CIT vs. Kanpur Coals Syndicate [1964] 53 ITR 225 has held that "the appellate Commissioner has plenary powers in disposing of an appeal. The Hon'ble Court further held that the scope of the power of CIT(A) is coterminous with the AO."

The Hon'ble High Court of Karnataka in the case of CIT vs. K. S. Dattatreya [2011] 197 taxman 151 has held that "as a revisional authority commissioner appeals can revise not only the ultimate computation arrived at but every process which lead to the ultimate computation or assessment".

The Hon'ble Kerala High Court in the case of V. Subramonia Aiyr vs. CIT [1978] 113 ITR 685 held that "the power conferred on Appellate Authority by Section 246 which is exercised in accordance with procedure with Section 250 indicate and amplitude and width which is no less wide than that of an ITO and the Appellate Authority could substitute the order of the ITO by one of his own.".

From the above, it is very clear that the powers of CIT(A) are coterminous with that of the AO. In view of the above discussion and also the factual & legal position discussed above, disallowance of interest to the extent of 12% of interest free advances given i.e. Rs. 5,47,836/- (i.e. 12% of Rs. 45,65,300/-) is made and added to the income of the assessee u/s 36(l)(iii).”

Order pronounced in the open court on 13.09.2023