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June 6, 2022

The disallowance under Section 14A is not significant for calculating Book Profit

by CA Shivam Jaiswal in Income Tax

The disallowance under Section 14A is not significant for calculating Book Profit

Facts and issues of the case

GROUND NO. 1: The Ld. TPO/ Ld. DRP have erred by computing a charge payable by Tega Holdings Pte Limited, Singapore (Tega Singapore) for corporate guarantee received from the Appellant on loans taken from Axis Bank, Singapore, for acquisition of entities in Australia and Chile. In doing so, the Ld. TPO/Ld. DRP failed to appreciate the fact that, the debt leveraged acquisition structure arising out of corporate guarantee provided by the Appellant has actually benefited the Appellant. The Ld. TPO/Ld. DRP have erred in not appreciating that the corporate guarantee  provided by the Appellant to Tega Singapore was in the nature of ‘shareholder service’, as no third party would be willing to pay for its own basic capital formation. The Ld. TPO/Ld. DRP have erred in not giving due cognizance to the order pronounced by the Hon’ble Kolkata Tribunal in the Appellant’s own case for AY 2008-09, wherein it has been held that the transaction of corporate guarantee by the Appellant to its wholly owned subsidiary for the purposes of acquisition is in nature of shareholder activity thereby meriting no charge.The Ld. TPO / Ld. AO / Ld. DRP ought to have appreciated that provision of corporate guarantee being in the nature of shareholder’s activity, total income should have been reduced, in light of the CBDT Circular No. 14 (XL-35) dated 11.4.1955 which binds the Income-tax Authorities to grant legitimate tax reliefs to which the taxpayer is entitled, but has omitted to claim for one reason or another. Without prejudice to above, consequent to the directions issued by the Hon’ble DRP with respect to the provision of the corporate guarantee, the returned income of the Appellant will reduce thereby resulting into refund which the Ld. AO failed to give effect to, in gross violation of the CBDT Circular No. 14 (XL-35) dated 11.4.1955.

GROUND NO. 2: DISALLOWANCE UNDER SECTION 14A READ WITH RULE 8D

On the facts and in the circumstances of the case and in law, the Ld. AO / Ld. DRP has grossly erred in determining the disallowance under section 14A of the Act read with Rule 8D without appreciating that Appellant has suo moto disallowed Rs. 2,76,296/-. In doing so, the Ld. AO / Ld. DRP failed to appreciate that invocation of rule 8D is not automatic and recording of satisfaction and establishing a direct nexus between the expenditure incurred and the exempt income u/s 10 is a sine qua non. Without prejudice to the above, the Ld. AO / Ld. DRP failed to consider that the Appellant had sufficient owned funds to acquire investments producing exempt income and that presumption ought to be made that such investments were made from interest-free funds. Without prejudice to the above, on the facts and in the circumstances of the case and in law, while computing disallowance under Rule 8D, the Ld. AO / Ld. DRP grossly erred in not considering interest expenditure on net basis i.e. after setting off interest income Excluding investments capable of earning exempt income as well as investments from which no exempt income has been earned during the year. Without prejudice to the above, the Ld. AO / Ld. DRP has committed certain errors while determining disallowance under section 14A read with rule 8D.

GROUND NO. 3: ADDITION OF DISALLOWANCE MADE UNDER SECTION 14A READ WITH RULE 8D WHILE DETERMINING BOOK PROFIT UNDER SECTION 115JB:

 On the facts and in the circumstances of the case and in law, the Ld. AO / Ld. DRP grossly erred in adding the amount of disallowance computed under section 14A read with rule 8D of the Act while determining book profit under section 115 JB without appreciating that for the purpose of section 115 JB, there cannot be an automatic disallowance of amount computed under section 14A in absence of specific expenditure incurred to earn such exempt income. The Ld. AO has failed to acknowledge that section 115JB, being a self-sustained code, is operative only to the extent of the deeming fiction created therein. The Ld. AO ought to have appreciated that section 14A and section 115JB are mutually exclusive and there ought not to be any disallowance of amount disallowed under section 14A while computing the book profit under section 115JB. At the outset, ld. counsel for the assessee requested for not pressing Grounds  No.  1. 1 to  1.5  and  additional  ground  of  appeal  raised  on 22. 08.2018. No objection was raised by  the  ld.  D.R.  Therefore,  all these grounds are dismissed as not pressed. The only issue remains is with regard  to  the  Grounds  No.  2 & 3, through which the assessee has raised the following two issues:-
No interest disallowance under section 14A of the Act should have been made;
Ld. Assessing Officer erred in adding the disallowance under section 14A of the Act for determining the book profit under section 115JB of the Act Ld. Counsel for the assessee submitted that as per the audited financial statement, the assessee- company has sufficient capital and interest- free reserves & surplus to cover up the investment made in equity shares fetching exempt income. It was thus contended that interest  disallowance  of  Rs. 11.34  lakhs  computed  under  Rule 8D(2)( ii) of the Act may be deleted.

Observation of the court

Court had heard the rival contentions and perused the relevant material available on record. We find that the assessee is a Limited Company and earned exempt dividend income of Rs.1. 95 crores during the year. Ld. Dispute Resolution Panel (DRP) confirmed  the disallowance at Rs. 53. 37 lakhs.
Before Court, short controversy is  in  regard  to  interest  disallowance  of Rs.11. 34 lakhs. Hon’ble Bombay High Court in the  case  of  CIT  – vs.- Reliance Utilities & Power Limited ( 2009) 313 ITR  340  ( Bom.) has  held that “ if there were funds available both interest-free and Overdraft and/or loans taken, then  the  presumption would arise  that  investments would be out of interest- free funds generated or available with the Company, if the interest-free fund was sufficient to  meet the investment and, therefore, no part of interest on the borrowings would be disallowed on the basis that, investments were out of interest bearing funds” .Examining the facts of the instant case in  the light of  above judgment, Court found that in the audited balance-sheet placed at page 10 of the paper book dated 22.08.2014, shareholders funds comprising of share capital and Reserves & Surplus as  on  31.03.2013 is  Rs.386.60 crores (approx.) and as on 31.03. 2014 is Rs.441. 78 crores. The shareholders fund is interest- free fund. Now looking towards the investment fetching exempt income, the same  are  shown in  Schedule 14  under the  head “Non- Current Assets”. As on 31. 03. 2013 it is Rs.161.76 crores and as on 31. 03.2014 it is Rs.193.42 crores It is further brought to our  notice  that  out  of  the  non- current assets of Rs.193.42 crores as on 31.03. 2014, a sum of Rs. 168. 62 crores is investment in unquoted shares of subsidiary  companies.  So  the investment in other/ listed equity shares  are  to  the  tune  of  Rs. 24.8 crores. As against this figure of Rs.24.8 crores of the investment,  the assessee has interest- free fund of Rs.441. 78 crores, which is more than sufficient to cover up the investments giving rise to exempt income. Therefore, the  ratio laid down by  the  Hon’ble Bombay High Court in  the case  of  Reliance Utilities & Power Limited ( supra)  is  squarely  applicable on the facts and circumstances of the case.

Court  therefore, inclined to  hold  that  no  interest disallowance of Rs. 11. 34 lakhs is called for as per Rule 8D( 2)(ii) of  the  Act  for computing the disallowance under section 14A of the  Act.  To this  extent, the relevant grounds raised in Grounds No. 2 are allowed. As regards the Ground No. 3, through which the assessee has contended that disallowance under section 14A ought not to have been considered for  computing the book profit under section 115JB of  the  Act, we find merit in the  assessee’s  contention.  Special  Bench  of  Delhi Tribunal in the case of ACIT – vs.- Vireet Investment Pvt. Limited (165 ITD 27) as well as the  judgment of  the  Hon’ble Karnataka High  Court in  the case  of  Sobha  Developers  Ltd.   – vs.-   DCIT  ( ITA   No.   203/2015  dated 04. 01.2021), wherein it has been held that adjustment of disallowance under section 14A could not be made while computing book profit under section 115JB of the Act. Therefore, under the given facts  and  settled judicial precedence as referred above, we direct the Assessing Officer to compute the book profit without considering disallowance under section 14A of the Act. Thus Ground No. 3 raised by the assessee is allowed.

Conclusion

The Appeal was disposed off by the court and ruled partly in the favor of assessee.

Tega-Industries-Limited-Vs-DCIT-ITAT-Kolkata.

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