2024 (10) TMI 1682 - AT - Income Tax

Disallowance u/s 14A r.w.r. 8D - shares are held as stock-in-trade - assessee is a non- banking financial company engaged mainly in business of investing in shares and securities financing and granting loans and advances against the shares - HELD THAT - Whether disallowance u/s 14A of the Act can be made in the case of shares held as stock-in-trade was considered in the case of Maxopp Investment Ltd. 2018 (3) TMI 805 - SUPREME COURT direct the AO to exclude the shares held as stock-in-trade for the purpose of computation of disallowance u/s 14A of the Act and recompute the disallowance. Further we find that the Special Bench in the case of Vireet Investments 2017 (6) TMI 1124 - ITAT DELHI has held that only those investment have to be considered which yield exempt income therefore respectfully following the same we direct the AO to consider only those investments for the purpose of disallowance u/s 14A r.w.r. 8D which yielded exempt income. With the above directions we restore the issues to the file of the AO for re-computation of disallowance and for deciding the issues afresh as per the relevant provisions of law and settled precedents.

Summary

The core legal question considered by the Tribunal relates to the applicability and extent of disallowance under Section 14A read with Rule 8D of the Income Tax Rules, specifically whether disallowance under Section 14A is warranted in respect of shares held as stock-in-trade by the assessee, a non-banking financial company, and the quantum of such disallowance in the context of exempt income earned.

The Tribunal examined whether expenditure incurred in relation to exempt income arising from dividend on shares held as stock-in-trade is liable to be disallowed under Section 14A, and if so, how the disallowance should be computed, particularly in light of the distinction between shares held as investments and shares held as stock-in-trade.

Another issue considered was the applicability of precedents and circulars issued by the CBDT, and whether the disallowance should be confined only to those investments that yield exempt income.

Regarding the first issue, the Tribunal relied heavily on the authoritative pronouncements of the Hon'ble Supreme Court in Maxopp Investment Ltd. vs. CIT and South Indian Bank Ltd. vs. CIT, which clarified the scope of Section 14A and the treatment of shares held as stock-in-trade versus investments.

The Supreme Court in Maxopp Investment Ltd. emphasized that Section 14A disallowance is premised on the theory of apportionment of expenditure between taxable and non-taxable income. It held that where shares are held as stock-in-trade, the primary purpose is to trade and earn profits, and any dividend income arising incidentally is exempt under Section 10(34). However, the expenditure incurred in acquiring such shares must be apportioned accordingly. The Court rejected the "dominant intention" test previously applied by some High Courts, instead focusing on the nature of the business activity and the relationship between expenditure and exempt income.

The Court noted that in cases where shares are held as stock-in-trade, the income earned, including dividends, is attributable to business profits and gains and not investment income, and therefore, Section 14A disallowance should be applied only to the extent of expenditure related to exempt income.

Further, the Supreme Court in South Indian Bank Ltd. reiterated these principles and clarified that disallowance under Section 14A is warranted only when expenditure is incurred in relation to exempt income, and that the Assessing Officer must record satisfaction before making a suo moto disallowance, especially where the assessee has already made an apportionment in the return.

The Tribunal also referred to the CBDT Circular No. 18/2015, which distinguished shares held as stock-in-trade from investments for banks, clarifying that income from shares held as stock-in-trade is business income and not investment income, thereby excluding such shares from the purview of Section 14A disallowance.

The Delhi High Court's decision in PCIT vs. Punjab National Bank was cited, which upheld the view that shares held as stock-in-trade by banks are not subject to Section 14A disallowance, as the main purpose is trading and earning profits rather than earning dividend income.

Regarding the quantum of disallowance, the Tribunal directed the Assessing Officer to exclude shares held as stock-in-trade from the computation of disallowance under Section 14A and Rule 8D, and to consider only those investments which actually yielded exempt income for disallowance purposes, following the Special Bench decision in ACIT vs. Vireet Investment Pvt. Ltd.

The Tribunal carefully examined the facts of the case, noting that the assessee held certain shares as stock-in-trade, and the Assessing Officer had made disallowance under Section 14A. The assessee contended that no disallowance should be made in respect of shares held as stock-in-trade, and disallowance should only be in respect of investments yielding exempt income.

After considering the submissions and the settled legal position, the Tribunal concluded that the Assessing Officer must recompute the disallowance excluding shares held as stock-in-trade and limiting disallowance to investments yielding exempt income, thereby restoring the matter for fresh adjudication in accordance with the law and precedents.

The Tribunal rejected the Revenue's contention supporting the full disallowance made by lower authorities, holding that the entire expenditure cannot be disallowed where shares are held as stock-in-trade and the expenditure is not incurred in relation to exempt income.

In summary, the Tribunal held that:

1. Section 14A disallowance applies only to expenditure incurred in relation to exempt income.

2. Shares held as stock-in-trade are part of business activity, and expenditure relating to such shares cannot be disallowed under Section 14A merely because dividend income is exempt.

3. Disallowance under Section 14A read with Rule 8D must be computed by excluding shares held as stock-in-trade and considering only those investments that yield exempt income.

4. The Assessing Officer must record satisfaction before making suo moto disallowance where the assessee has already apportioned expenditure.

5. The principle of apportionment of expenditure between taxable and non-taxable income as laid down by the Supreme Court and followed by High Courts and Tribunals is the correct approach.

The Tribunal summarized the legal position with the following verbatim excerpts from the Supreme Court judgments:

"The purpose behind Section 14-A of the Act, by not permitting deduction of the expenditure incurred in relation to income, which does not form part of the total income, is to ensure that the assessee does not get double benefit."

"In those cases where shares are held as 'stock-in-trade', it becomes a business activity of the assessee to deal in those shares as a business proposition. Whether dividend is earned or not becomes immaterial."

"It is a condition precedent that such income should not be includible in total income of assessee. For attracting provisions of Section 14A, the proof of fact regarding such expenditure being incurred for earning exempt income is necessary."

"The Assessing Officer must record its satisfaction to this effect before making suo moto disallowance where the assessee in his return has himself apportioned but the AO was not accepting the said apportionment."

Accordingly, the Tribunal allowed the appeals for statistical purposes, directing the Assessing Officer to recompute the disallowance under Section 14A excluding shares held as stock-in-trade and considering only investments yielding exempt income, in line with the settled legal principles and precedents.