2025 (5) TMI 804 - AT - Income Tax

Disallowance u/s 14A read with Rule 8D - assessee suo moto disallowed as expenditure incurred in relation to earning of exempt income - HELD HAT - The claim of the assessee is that the suo moto disallowance was made by the assessee of Rs. 13, 355/- should be curtailed to Rs. 3929/- in view of the decision of M/s Jas Toll Road Company 2024 (2) TMI 1436 - CALCUTTA HIGH COURT wherein it has been held that the disallowance should not exceed the amount of exempt income. Accordingly we direct the ld. AO to restrict the disallowance the amount of dividend income earned during the year. Addition on notional/ hypothetical income being the annual letting value of unsold units under the head profit and gains of the business - HELD THAT - We note that the consequent to insertion sub-section 5 to section 23 of the Act by Finance Act 2017 w.e.f. 01.04.2018 whereby the notional annual letting value of the property/ part of the property held as stock-in-trade has been brought to tax subject to the conditions specified in the newly inserted sub- section. The said provisions are substantive in nature and hence would be effective prospectively. Assessee stated that the said provisions have no applicability in the instant assessment year and no addition on account of notional rental value of flats held as stock-in-trade by the assessee could be made by the ld. AO. The case of the assessee is squarely covered by the decision of co-ordinate Bench in the case of Tata Housing Development Company Ltd. 2020 (9) TMI 1128 - ITAT MUMBAI for A.Ys. 2015-16 2014-15 respectively wherein the case, under similar facts and circumstances has been decided in favour of the assessee. Accordingly the ground is allowed and the ld. AO is directed to delete the addition. Disallowance under the head proportionate interest expenses - CIT(A) confirmed the order of the ld. AO on the ground that the segmental accounts of the assessee were not reliable and basis of allocation of interest was done in manner to reduce the taxable income - HELD THAT - We note that the ld. AO had considered the gross interest expenses without netting which in our opinion is wrong and so has been done by the CIT(A). Therefore in our opinion net interest needs to be apportion in various segments. Accordingly we are of the view that the issue needs to be examined at the level of the ld. AO to consider the allocation of net interest after setting all the interest income i.e. only to the interest was to be apportioned between various segments and the interest relating to the real-estate segment has to be added to the WIP of the assessee. Addition u/s 69C - HELD THAT - As confronted with these differences the assessee furnished the re- conciliation statement with revised details and evidences which the AO did not consider and added the difference u/s 69C we are of the view that the issue requires re-examination at the end of the AO in the light of the fresh evidences and reconciliation statement furnished by the assessee. Accordingly we restore the file of the AO with a direction that the re-conciliation along with the revised details may be taken into account and the issue be decided accordingly. Appeal of the assessee is allowed for statistical purposes.

1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered by the Tribunal in this appeal are:

Whether the disallowance under section 14A read with Rule 8D of the Income Tax Rules, 1963, can exceed the amount of exempt income earned by the assessee;
Whether the notional annual letting value of unsold stock-in-trade units can be assessed as income under the head "Profits and Gains of Business or Profession" or under "Income from House Property" for the assessment year prior to the insertion of sub-section 5 to section 23 of the Income Tax Act, 1961;
The correctness of the disallowance of proportionate interest expenses made by the Assessing Officer (AO) and confirmed by the Commissioner of Income Tax (Appeals) [CIT(A)], particularly the method of allocation of interest expenses between leasing and real estate segments and the failure to net interest income against interest expenses before allocation;
The validity of the addition under section 69C of the Act on account of unexplained expenditure, specifically relating to discrepancies in payments made to a contractor and the adequacy of reconciliation and evidence furnished by the assessee.

2. ISSUE-WISE DETAILED ANALYSIS

Issue 1: Disallowance under section 14A read with Rule 8D

Legal framework and precedents: Section 14A of the Income Tax Act disallows expenditure incurred in relation to income which does not form part of total income (exempt income). Rule 8D prescribes the manner of computing such disallowance. The principle that disallowance should not exceed the exempt income earned has been upheld in various judicial pronouncements, including a recent decision of the Hon'ble Calcutta High Court in PCIT, Kolkata Vs. M/s Jas Toll Road Company.

Court's interpretation and reasoning: The assessee earned exempt dividend income of Rs. 3,929 and made a suo moto disallowance of Rs. 13,355. The AO disallowed Rs. 4,03,502, which was deleted by the CIT(A). The assessee contended that disallowance should be restricted to the amount of exempt income as per the Calcutta High Court decision.

Application of law to facts: The Tribunal directed the AO to restrict the disallowance to Rs. 3,929, the amount of exempt dividend income earned during the year, thereby aligning the disallowance with the exempt income amount.

Conclusion: The grounds challenging the excess disallowance under section 14A read with Rule 8D were allowed.

Issue 2: Taxability of notional annual letting value of unsold stock-in-trade units

Legal framework and precedents: Section 22 and 23 of the Income Tax Act govern income from house property. The Finance Act, 2017 inserted sub-section 5 to section 23, effective from 01.04.2018, to tax notional annual letting value of property held as stock-in-trade under certain conditions. Prior to this insertion, such notional income was not expressly taxable under income from house property.

Court's interpretation and reasoning: The AO assessed the notional annual letting value of unsold flats under the head "Income from House Property." The CIT(A) held it assessable under "Profits and Gains of Business or Profession." The Tribunal observed that the statutory amendment is substantive and applies prospectively from AY 2018-19 onwards, thus not applicable to AY 2014-15 under consideration.

The Tribunal relied on the coordinate Bench decision in Tata Housing Development Company Ltd., where similar facts led to the deletion of such addition for AY 2014-15 and 2015-16.

Application of law to facts: Since the statutory provision taxing such notional income was not in force during the assessment year, the addition made by the AO was held unsustainable.

Conclusion: The addition on account of notional annual letting value was deleted and the grounds were allowed.

Issue 3: Disallowance of proportionate interest expenses and method of allocation

Legal framework and precedents: Interest expenses attributable to income earning activities are deductible under section 36(1)(iii), but interest relating to exempt income or non-business income is not deductible. The principle of apportionment of interest expenses between different business segments is well recognized. Netting of interest income against interest expense for determining allowable deduction is also a recognized approach.

Court's interpretation and reasoning: The AO disallowed Rs. 3,32,64,589 of interest expenses by reallocating interest between leasing and real estate segments based on asset values, without netting interest income. The CIT(A) confirmed this disallowance, questioning the reliability of segmental accounts and alleging that allocation was done to reduce taxable income.

The Tribunal noted that the assessee earned substantial interest income of Rs. 3,65,41,376, which was credited to profit and loss account. The AO and CIT(A) erred in considering gross interest expenses without netting off interest income.

Application of law to facts: The Tribunal held that net interest expense (gross interest expense less interest income) should be apportioned between the segments. Only net interest expenses are relevant for disallowance or capitalization. The issue was restored to the AO for fresh examination considering net interest expense and proper allocation.

Treatment of competing arguments: While the CIT(A) questioned the segmental accounts' reliability, the Tribunal emphasized the principle of netting and proper allocation, directing reassessment rather than outright confirmation of disallowance.

Conclusion: Grounds relating to interest disallowance were allowed for statistical purposes and remanded for fresh consideration.

Issue 4: Addition under section 69C on unexplained expenditure

Legal framework and precedents: Section 69C empowers the AO to make addition to income where any expenditure is found to be incurred but the source of payment is not satisfactorily explained. The AO must verify the genuineness of transactions and the correctness of the claimed expenses.

Court's interpretation and reasoning: The AO noted discrepancies between payments claimed by the assessee to M/s Bright Construction (Rs. 1,30,78,197) and payments admitted by the party (Rs. 64,80,762). The AO added the difference under section 69C. The assessee furnished reconciliation statements and fresh evidence which the AO did not consider.

Application of law to facts: The Tribunal observed that the issue required re-examination in light of the reconciliation and fresh evidence. It restored the matter to the AO with directions to consider the revised details and evidence before making a final determination.

Conclusion: Grounds challenging the addition under section 69C were allowed for statistical purposes and remanded.

3. SIGNIFICANT HOLDINGS

On the disallowance under section 14A read with Rule 8D, the Tribunal held:

"We direct the ld. AO to restrict the disallowance to Rs. 3,929/-, the amount of dividend income earned during the year."

On the taxability of notional annual letting value of unsold stock-in-trade units, the Tribunal held:

"The said provisions are substantive in nature and hence, would be effective prospectively. In other words, the said provisions have no applicability in the instant assessment year and no addition on account of notional rental value of flats held as stock-in-trade by the assessee could be made by the ld. AO."

On the disallowance of proportionate interest expenses, the Tribunal observed:

"We note that the ld. AO had considered the gross interest expenses without netting which in our opinion is wrong... net interest needs to be apportioned in various segments... the issue needs to be examined at the level of the ld. AO to consider the allocation of net interest after setting all the interest income."

On the addition under section 69C, the Tribunal stated:

"The issue requires re-examination at the end of the ld. AO in the light of the fresh evidences and reconciliation statement furnished by the assessee."

The Tribunal's final determinations were to allow the appeal for statistical purposes, restrict disallowance under section 14A to exempt income, delete addition of notional rent for unsold stock-in-trade for the relevant year, remit the interest disallowance issue for reconsideration after netting interest income, and remit the unexplained expenditure issue for fresh verification with reconciled evidence.

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