2025 (5) TMI 1776 - AT - Income Tax

Revision u/s 263 - CIT(A) setting aside the order passed by NFAC - As alleged AO failed to examine the issue of disallowance of interest pertaining to the interest bearing loans used for the purpose of advancing interest free loans by the assessee AND disallowance of legal and professional fees. HELD THAT - Assessee had submitted that all its interest bearing loans had been utilized for business purpose and for legal and professional fees the assessee had clarified that the amount reflected in the tax audit report included the heads like audit fees connectivity charges etc. which were not included in the legal and professional fees shown in the profit loss account but were shown separately in the books of the assessee. Pr.CIT reproduced the explanation of the assessee but without considering the same and without deliberating as to how he found no merit in the explanation of the assessee he still goes on to hold that the assessment order was erroneous causing prejudice to the Revenue for the reason for which he assumed jurisdiction under section 263 of the Act i.e. in the case of disallowance of interest as per the Ld.Pr.CIT the AO should have disallowed the interest and in the case of legal and professional charges since there was a difference in the amounts of expenditure as reflected in the profit loss account and the tax audit report the AO ought to have made the addition of the difference under section 69C of the Act. It is patently clear that despite the assessee furnishing an explanation with respect to both the issues before it the ld.Pr.CIT has completely ignored the same and has not given any reason therefor for rejecting such explanation of the assessee and passed order under section 263 of the Act holding the assessment order passed by the AO to be erroneous causing prejudice to the Revenue. DR before us was unable to point out from the entire order of the ld.Pr.CIT as to where and how he had dealt with the contention of the assessee; nor he was able to point out any blatant infirmity in the explanation of the assessee. Assessee appeal allowed.

Summary

The core legal questions considered by the Tribunal in this appeal under section 263 of the Income Tax Act, 1961 ("the Act") include:

1. Whether the order passed by the Principal Commissioner of Income Tax (ld.Pr.CIT) under section 263 of the Act, setting aside the assessment order passed by the Assessing Officer (AO) and directing a fresh assessment, is valid or void ab initio.

2. Whether the ld.Pr.CIT was justified in invoking the revisionary jurisdiction under section 263 of the Act on the grounds that the AO failed to examine the disallowance of interest on borrowed funds used for advancing interest-free loans and the discrepancy in legal and professional fees reported by the assessee.

3. Whether the ld.Pr.CIT properly considered and dealt with the explanations submitted by the assessee before passing the revisionary order under section 263.

Issue-wise Detailed Analysis

Issue 1: Validity of the ld.Pr.CIT's order under section 263 of the Act

Relevant legal framework and precedents: Section 263 of the Income Tax Act empowers the Commissioner to revise any order passed by an AO if such order is prejudicial to the interests of the Revenue. However, the exercise of this power is circumscribed by principles of natural justice and requires that the Commissioner must record reasons and consider the assessee's explanations before setting aside an order.

Court's interpretation and reasoning: The Tribunal noted that the ld.Pr.CIT assumed jurisdiction under section 263 on the basis that the AO's assessment order was erroneous and prejudicial to Revenue because the AO allegedly failed to disallow interest expenses related to funds diverted for non-business purposes and failed to examine discrepancies in legal and professional fees.

Key evidence and findings: The ld.Pr.CIT observed that the assessee had borrowed Rs. 26.19 crores with interest expense of Rs. 2.05 crores claimed and allowed, while simultaneously advancing interest-free loans of Rs. 5.39 crores. The ld.Pr.CIT concluded that there was diversion of interest-bearing funds for non-business purposes. Additionally, a difference of Rs. 13.12 lakhs was noted between legal and professional fees reported in the tax audit report and the profit & loss account, which the AO allegedly did not verify.

Application of law to facts: The ld.Pr.CIT held that these failures rendered the assessment order erroneous and prejudicial to Revenue, justifying revision under section 263.

Treatment of competing arguments: The assessee contested the jurisdiction of ld.Pr.CIT, arguing that the revisionary order was void as the explanations submitted were ignored.

Conclusions: The Tribunal found that the ld.Pr.CIT did not properly consider the assessee's explanations and thus the order under section 263 was unjustified.

Issue 2: Examination of the assessee's explanations regarding interest disallowance and discrepancy in legal and professional fees

Relevant legal framework and precedents: The principles of natural justice require that before setting aside an order under section 263, the Commissioner must consider the assessee's explanations and record reasons if rejecting them. The burden lies on the Commissioner to demonstrate why the AO's order is erroneous despite the explanations.

Court's interpretation and reasoning: The Tribunal carefully examined the explanations submitted by the assessee:

• Regarding interest disallowance, the assessee contended that no fresh interest-bearing funds were obtained during the year and that sufficient own interest-free funds (Rs. 18.19 crores) were available to advance interest-free loans. The assessee asserted that all interest-bearing loans were utilized for business purposes.
• Regarding the discrepancy in legal and professional fees, the assessee explained that the higher figure in the tax audit report included other expenses such as audit fees and connectivity charges, which were separately accounted for in the books. A detailed breakup was submitted to substantiate this explanation.

Key evidence and findings: These explanations were recorded by the ld.Pr.CIT in his order but were not dealt with substantively or rejected with reasons.

Application of law to facts: The Tribunal found that the ld.Pr.CIT failed to engage with the assessee's explanations and did not provide any rationale for rejecting them. The mere reproduction of explanations without analysis or reasoned rejection violates natural justice.

Treatment of competing arguments: The ld.DR was unable to point out any specific infirmity in the assessee's explanations or how the ld.Pr.CIT considered and rejected them.

Conclusions: The Tribunal held that ignoring the assessee's explanations and passing the revisionary order was a gross violation of principles of natural justice and rendered the section 263 order unsustainable.

Issue 3: Whether the AO's assessment order was erroneous and prejudicial to Revenue

Relevant legal framework and precedents: An order can be revised under section 263 only if it is erroneous and prejudicial to Revenue. The Commissioner must demonstrate that the AO failed to apply the law correctly or ignored relevant material facts.

Court's interpretation and reasoning: The ld.Pr.CIT opined that the AO erred in not disallowing interest expenses related to funds diverted for non-business purposes and in not verifying the discrepancy in legal and professional fees.

Key evidence and findings: The assessee's explanations, supported by records, showed that interest-bearing loans were fully utilized for business purposes and that the discrepancy in legal fees was due to classification differences, not unaccounted expenditure.

Application of law to facts: The Tribunal found no basis to conclude that the AO's order was erroneous or prejudicial, as the AO had considered the facts and explanations furnished by the assessee.

Treatment of competing arguments: The Tribunal rejected the ld.Pr.CIT's view due to lack of any reasoned analysis or evidence showing error in AO's order.

Conclusions: The Tribunal concluded that the AO's assessment order was not erroneous or prejudicial to Revenue.

Significant Holdings

"The impugned order passed is grossly unjustified, against all principles of natural justice for the reason that the ld.Pr.CIT has completely ignored the explanation furnished by the assessee before him in support of its contentions... and without dealing with the same, has gone on to pass the order under section 263 of the Act."

"Despite the assessee furnishing an explanation with respect to both the issues before it, the ld.Pr.CIT has completely ignored the same, and has not given any reason therefor for rejecting such explanation of the assessee, and passed order under section 263 of the Act, holding the assessment order passed by the AO to be erroneous causing prejudice to the Revenue."

"The order passed by the ld.Pr.CIT under section 263 of the Act is quashed."

Core principles established include:

• The Commissioner's power under section 263 is discretionary and must be exercised after giving due consideration to the assessee's explanations.
• Ignoring explanations without reasoned analysis violates principles of natural justice and renders the revisionary order invalid.
• The AO's order cannot be set aside merely on the basis of suspicion or incomplete examination if the assessee has provided plausible explanations supported by records.

Final determinations on each issue:

• The ld.Pr.CIT's order under section 263 was void as it ignored the assessee's explanations without any reasoned rejection.
• The AO's assessment order was not erroneous or prejudicial to Revenue.
• The revisionary jurisdiction under section 263 was wrongly invoked.
• The appeal filed by the assessee was allowed and the section 263 order was quashed.