2012 (11) TMI 1188 - AT - Income Tax

Summary

Issues involved:
The issues involved in the judgment are the disallowance of interest expenses u/s 14A and the treatment of income from shares and units of mutual funds as business income.

Disallowance of interest expenses u/s 14A:
The appellant, engaged in trading of shares, claimed interest expenses on borrowed funds for investing in units of mutual funds as business expenses. However, the Assessing Officer (A.O.) disallowed the interest expenses u/s 14A, stating that they were not allowable deductions. The A.O. issued a show cause notice to the assessee, who argued that as the borrowed funds were used for business purposes, no disallowance should be made. The Commissioner of Income Tax (CIT) upheld the A.O.'s decision, emphasizing that the interest expenditure was directly linked to earning exempted income from dividends and hence covered by section 14A. The CIT dismissed the appeal, stating that the appellant's argument that dividend income was incidental to profit-making was not valid. The Tribunal, considering the appellant's trading activities and relevant case laws, concluded that no disallowance of interest was warranted. Consequently, the disallowance made by the A.O. was deleted, and the appeal of the assessee was allowed.

Treatment of income from shares and units of mutual funds as business income:
The appellant contended that the income from shares and units of mutual funds should be considered as business income, and the interest expenses incurred for their purchase were allowable deductions u/s 36(1)(iii). The Departmental Representative (D.R.) argued that the transactions were pre-ordained, and the interest expenses were incurred to earn exempted dividend income, necessitating disallowance u/s 14A. The Tribunal, citing relevant case laws, held that when borrowed funds were used for trading activities, the purpose of earning dividend income did not alter the nature of the expenditure. It was established that the primary objective of the appellant's trading activities was to earn profits, and any dividend income obtained incidentally did not affect the purpose of the expenditure. Therefore, the Tribunal directed the deletion of the disallowance of interest expenses made by the A.O., allowing the appeal of the assessee.