No addition under Section 14A can be made if no exempt income is earned

Section 14 specifies five heads of income which are chargeable to tax. In order to be chargeable, an income has to be brought under one of the five heads. Section 14A of the Income Tax Act, pertains to expenditure incurred in relation to income not includible in total income. According to Section 14A, 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.

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.

The basic reason for insertion of section 14A of the Act was that certain incomes are not includible while computing total income as these are exempt under certain provisions of the Act and hence the relatable expense should not be allowed as deduction. In other words, section 14A clarifies that expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income.

Let us refer to the case of DCIT Vs Asset Auto India Pvt. Ltd (ITAT Mumbai), where an appeal was filed by the revenue against the order passed by the Commissioner of Income Tax (Appeals) [CIT(A)] which arose out of assessment completed u/s. 143(3) of the Income Tax Act, 1961 pertaining to disallowance under Section 14A.

Facts of the Case:

The assessee filed its return of income for AY 2013-14 and during the course of assessment proceedings, the Assessing Officer (AO) made a disallowance under section 14A read with Rule 8D of the Income-tax Rules, 1963.

Proceedings of CIT(A):

Aggrieved by the order of the AO, the assessee filed an appeal before the CIT(A). Since no exempt income was earned by the assessee during the year under consideration, the CIT(A) directed the AO to delete the above addition with the following observations:

Since no exempt income has been earned by the appellant during the year, no disallowance can be made under section 14A of the IT Act.
Reliance was placed on the decision of Delhi High Court in the cases of CIT v. Holcim India (P) Ltd [2015] and Pr. CIT Vs. IL & FS Energy Development Company Ltd [2017] (Delhi) where it was held that there can be no disallowance u/s 14A in the absence of exempt income.
Similar view has been taken in Redington (India) Ltd v. Addl CIT [2017] (Mad), CIT v. Lakhani Marketing Inc. [2014] (Mag), CIT v. Winsome textile Industries Ltd [2009], CIT v. Shivam Motors (P) Ltd [2015] and Quantum Advisors (P) Ltd Vs. DCIT [2016] (Mumbai Trib)
Supreme Court had also dismissed the SLP against decision of Madras High Court in the case of CIT v. Chettinad Logistics (P) Ltd [2017] (Mad) wherein it was held that that section 14A cannot be invoked where no exempt income was earned by assessee in relevant assessment year.
Aggrieved with the order of CIT(A), Revenue appealed before the Income Tax Appellate Tribunal (ITAT) where the appellant prayed that the order of the CIT(A) be set aside and that of the Assessing Officer be restored.

Observations of ITAT

The fact remained that no exempt income was earned by the assessee during the year under consideration.
The CIT(A) rightly followed the judgement of the Delhi High Court in Holcim India (P) Ltd (supra), IL & FS Energy Development Company Ltd (supra), where it was held that there can be no disallowance under section 14A in the absence of exempt income.
The CIT(A) rightly referred to the SLP dismissed by the Supreme Court against the order of the Madras High Court in CIT v. Chettinad Logistics (P.) Ltd [2017], wherein it was held that section 14A cannot be invoked where no exempt income was earned by the assessee in the relevant assessment year.
In view of the above position of the law, ITAT upheld the order of the CIT(A) and dismissed the appeal filed by the revenue.

In conclusion, no addition under Section 14A can be made if no exempt income is earned in the relevant year.

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