TMI Blog2012 (6) TMI 623X X X X Extracts X X X X X X X X Extracts X X X X ..... for subscribing to the share capital of its subsidiary company, in my considered opinion the addition cannot be sustained. - Decided in favor of assessee. - Third member bench decision. - ITA No. 7138 (Mum) of 2010 - - - Dated:- 15-9-2011 - R. S. Syal (Accountant Member) (As a Third Member), Pramod Kumar (Accountant Member) And R. S. Padvekar (Judicial Member) For the Petitioner : Ashok Rao, Tasneem Varawala For the Respondent : Subachan Ram, V. V. Shastri ORDER R. S. Padvekar (Judicial Member) In this appeal the assessee has challenged the impugned order of the Ld. CIT (A) -20 Mumbai dated 23.8.2010 for the A.Y. 2007-08. The assessee has taken the following grounds:- 1. On the facts and in the circumstances of the case, the Ld. Commissioner of Income-tax (Appeals) -20, was not justified in deleting only an amount of'Rs. 64,28,273/- (wrongly mentioned in the order as ₹ 1,54,34,285/-out of the disallowance of interest made by the A.O. to the extent ₹ 3,22,23,048/-. 2. On the facts and in the circumstances of the case, the Ld. Commissioner of Income-tax (Appeals) -20, was not justified in deleting interests of ₹ 43,98,254/- a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 3,22,23,048 * 15,37,61,606.50 X 5,72,07,891 / 22,52,66,122.50 = 3,22,23,048 4. The A.O. disallowed ₹ 3,22,23,048/- out of the total interest expenditure claimed by the assessee which was ₹ 4,72,07,891/- and made the addition to the total income of the assessee. The assessee carried the issue before the Ld. CIT (A). The assessee pleaded before the CIT (A) that it has advanced ₹ 13.02 crores in the financial year 2005-06 and ₹ 0.36 crore prior to that in the financial year relevant to the A.Y. 2007-08 the assessee used the funds towards the share application money to its wholly owned subsidiary company. According to the assessee total sums advanced stood at ₹ 16.66 crores as on 31.3.2007. The assessee also pleaded that the said investments are made out of the surplus money and fresh capital fusion as the assessee received fresh capital of ₹ 4.60 crores during the current year. Whereas, advances made for the share application money was to the tune of ₹ 2.68 crores. The assessee also pleaded that net cash generated from the operations of ₹ 24.45 crores and out of the said f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n proved by the assessee that the investment in the share application money is made out of the non-borrowed funds. He, further, argues that the assessee has nowhere established the commercial expediency that the investment in the share application money was for commercial purpose. The Ld. D.R. relied on the order of the Ld. CIT (A). 7. We find that while making the disallowance, the A.O. has considered the balance as on 31.3.2006 in respect of the investment made by the assessee in the share application money instead of: considering the actual investment made by the assessee in the financial year 2006-07 relevant to the A.Y. 2007-08. As pleaded by the assessee advance made in the share application is made to the extent of ₹ 13.62 crores in the financial year 2005-06 and 0.36 crores prior to that and only the investment to tune of ₹ 2.62 crores is made in the current financial year. It is further seen that the assessee has also made the investment to the extent of ₹ 5,71,000/-. In our opinion, if at all the disallowance is to be made that should be restricted to the funds utilized in the current assessment year ₹ 2.68 crores + ₹ 5,71,000/-. The AO ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hort issue requiring adjudication in this appeal is whether or not the CIT(A) was justified in sustaining the interest disallowance of ₹ 64,28,273. 12. The relevant material facts are like this. During the course of assessment proceedings, the Assessing Officer noted that the assessee has claimed deduction, on account of interest expenses, amounting to ₹ 4,72,07,891. While the assessee had incurred this expenditure on account of interest on borrowings, the assessee also had also made investment, by way of share application money, amounting to ₹ 16,66,31,589, and investment, in other shares, amounting to ₹ 5,71,000. It was in this backdrop, that the Assessing Officer apparently required the assessee to show cause as to why this interest not be disallowed, as the assessee has used borrowed funds for no-business purposes. By way of letter dated 17th December 2009 ( a copy of which was placed at pages 87-88 of the paper-book), the assessee, inter alia, submitted as follows: Investments in share application money The assessee has, during the year, remitted ₹ 2.69 crores towards additional share application money to its wholly owned subsidiary Visen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... year's remittance of ₹ 2.68 crores is out of the same. (ii) The cash flow statement for financial year 2005-06 shows that the net cash flow from operating activities is ₹ 24.44 crores and the investment in share application money of 03.62 crores made last year is out of the operating funds. In fact the cash flow from financing activities in financial year 2005-06 is only ₹ 86.13 lakhs whereas the investment is 13.62 crores. Therefore, obviously the investments have been made out of funds from operations and not out of borrowed funds. (iii) Also as per the terms of sanction of loan of the banks the funds are advanced for working capital purpose and as such cannot be used for making investments. (iv) The assessee's funded loans are as follows: Sr. No. Name of the Bank Account No. Opening balance Transaction Closing balance (A) Term loan (i) The Hongkong Shanghai Bankin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... wed funds is 26.25% and own funds is 73.75%. Applying the same ratio, of the total amount invested in share application money of ₹ 16.66 crores apportionment of borrowed funds can at the most be made of 4.30 crores. The major interest costs paid by the assessee are on account of bills factoring and buyers credit facility wherein the rate of interest averages @ 5% -7%. (vi) The interest apportionment working is submitted at your request without prejudice to the assessee's contention that no borrowing costs can be attributed to the investment funds in view of the fact that the same has been invested out of the assessee's own funds and there is no nexus at all between the investments made and the borrowed funds. 14. None of these submissions, however, impressed the Assessing Officer. He proceeded to make disallowance of interest by observing as follows: 4. The assessee has claimed huge interest expenses, amounting to ₹ 4,72,07,891. However, the assessee has diverted funds totalling ₹ 16,66,31,589 by way of share application money for making investment in shares. Further, the assessee has made investments totalling ₹ 5,71,000. The issue of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (f) disallowable int. [(e)X(c)/(d) 32223048 *153761606.5047207891 = 32223048 / 225266122.50 15. Aggrieved, assessee carried the matter in appeal before the CIT(A) but without complete success. The CIT(A) upheld the disallowance in principle but reduced the quantum of disallowance. In his brief operative portion of the order, which dealt with the computation of disallowance rather than fundamental justification for the disallowance, the CIT(A) observed as follows: I have considered the issue. It is seen from the audited financial statements that the appellant had secured borrowed fund from banks aggregating to ₹ 16,84,57,084 at the end of last year which rose to ₹ 28,20,75,161 during the current year. This included fresh loans of ₹ 13,12,86,634 from two new banks during the current year. It is seen from the cash flow statement that though it had net cash generated from operations of ₹ 24.45 crores at the end of last year the same was offset by investment in fixed assets of ₹ 11.79 crores and repayment of borrowings of ₹ 6.44 crores besides interest o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 44,838. There is no dispute on this elementary factual position. In this backdrop, let us take a look at following observations made by Hon'ble jurisdictional High Court had to say in the case of Reliance Utilities Power Limited (supra) : 10. If there be interest-free funds available to an assessee sufficient to meet its investments and at the same time the assessee had raised a loan it can be presumed that the investments were from the interest-free funds available. In our opinion the Supreme Court in East India Pharmaceutical Works Ltd.'s case (supra) had the occasion to consider the decision of the Calcutta High Court in Woolcombers of India Ltd.'s case (supra) where a similar issue had arisen. Before the Supreme Court it was argued that it should have been presumed that in essence and true character the taxes were paid out of the profits of the relevant year and not out of the overdraft account for the running of the business and in these circumstances the appellant was entitled to claim the deductions. The Supreme Court noted that the argument had considerable force, but considering the fact that the contention had not been advanced earlier it did not require ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing with the former situation, and not the latter situation. In any case, Their Lordships did not leave it at that, and, relying upon Hon'ble Supreme Court's judgment in the case of East India Pharmaceutical Ltd v. CIT [1997] 224 ITR 627 /1 91 Taxman 185 and Hon'ble Calcutta High Court's judgment in the case of Woolcombers of India Ltd. v. CIT [1982] 134 ITR 219/[1981] 60 Taxman 188, Their Lordships proceeded to lay down a general proposition as to what inference should be taken about the source of funds when interest free as also interest bearing funds are available to the assessee. It is this proposition which is ratio decidendi of the judgment, and which the assessee seeks to invoke. I , therefore, see no basis for learned Judicial Member's view that in the said (i.e. Reliance Utilities) case, the assessee has demonstrated that the investments are made out of surplus funds and hence Tribunal accepted the plea of the assessee on the facts, and the same was confirmed by Their Lordships . He rejects the plea of the assessee, seeking to invoke the principle about inference being drawn up that interest free funds are used in the investments, by observing that H ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ry for its business purposes will be deemed to be for the purposes of business of the assessee, and deduction under section 36(l)(iii) will have to be allowed. Their Lordships, inter alia, observed that, ...where it is obvious that a holding company has a deep interest in its subsidiary, and hence if the holding company advances borrowed money to a subsidiary and the same is used by the subsidiaryfor some business purposes, the assessee would, in our opinion, ordinarily be entitled to deduction of interest on its borrowed loans. On the facts of this case, in which investments have been made in a subsidiary and the assessee clearly has a deep interest in the subsidiary inasmuch as it is a wholly owned subsidiary, even if one is to come to conclusion that investments have been made out of borrowed funds, and unless there is a finding that funds so invested in the subsidiary have not been used by the subsidiary for any of its business purposes, the disallowance cannot be made. The directions to the Assessing Officer about commercial expediency of assessee's making investment in the subsidiary, as have been given by the learned Judicial Member, are thus wholly unnecessary and u ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld. Brothers in their respective opinions. Still, it would be prudent to succinctly recapitulate the factual matrix of the case as follows. The assessee is engaged in the business of manufacturing of emulsion polymers, adhesive and textile chemicals. According to the AO, the assessee claimed deduction of interest amounting to ₹ 4,72,07,891/-. It was observed that the assessee had diverted funds totalling ₹ 16,66,31,589/- by way of share application money for making investment in shares of its overseas subsidiary company. Apart from that, the assessee had also made other investments totalling ₹ 5,71,000/-. Since the diversion of funds for share application money of its subsidiary company was made by the assessee, the AO held that it was a non-business application of borrowed funds because the utilization of borrowed funds was made not for routine or day to day trading in shares but for investment/strategic purposes. Secondly, the advantage accruing to the assessee from this investment was found to be of enduring nature. The assessee was called upon to justify the deduction of interest expenditure and also furnish computation of disallowable portion of interest with ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the current year. It was opined that if, at all, any disallowance of interest was to be made, that should be restricted to the funds utilized in the current assessment year, i.e., ₹ 2.68 crores + ₹ 5.71 lakhs. Eventually, the matter was restored by him to the AO for examining the facts as to whether such investment was made out of surplus funds. The alternative plea raised by the assessee on the strength of the judgment of the Hon'ble Supreme Court in S.A. Builders Ltd. ( supra) that investment in share application money was by way of commercial expediency and hence deduction should be allowed on that ground, was also restored to the AO for a fresh examination. The ld. Accountant Member, vide his dissenting opinion, held that no disallowance was called for on the ground that the assessee had interest free funds far in excess of investments made. Regarding the alternative plea about business purpose in the light of judgment in S.A. Builders Ltd. ( supra), the ld. Accountant Member held that the commercial expediency of assessee in making investments in its subsidiary was established because of the assessee having deep interest in the subsidiary. That is how the matt ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tionate interest relating to the said amount, out of the total interest paid by that assessee to the Bank, was disallowed. The CIT(A) allowed partial relief but the Tribunal restored the action of the AO in sustaining complete disallowance of interest. The High Court dismissed the appeal filed by the assessee. When the matter came up before the Hon'ble Supreme Court, the assessee contended that interest was to be allowed in full as making of investment in subsidiary company is a business purpose. The Hon'ble Supreme Court appreciated the ambit of the expression for the purpose of business used in section 36(l)( iii) and held that the same should not be confused with the narrower expression for the purpose of earning income, profits or gains . In the light of such observation, the Hon'ble Apex Court remitted the matter to the Tribunal for a fresh decision by considering deductibility or otherwise of interest after examining whether the funds advanced by the assessee holding company to its subsidiary company were used by the subsidiary company for some business purpose or not. 5.3 From the above judgment, it can be noticed that the ratio decidendi of the judgment is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g it and then taking final decision. That is why it categorically observed : We wish to make it clear that it is not our opinion that in every case interest on borrowed loan has to be allowed if the assessee advances it to a sister concern. It all depends on the facts and circumstances of the respective case . Thereafter, it has been observed that : For instance, if the directors of the sister concern utilize the amount advanced to it by the assessee for their personal benefit, obviously, it cannot be said that such money was advanced as a measure of commercial expediency . The gist of the judgment for allowing deduction on account of interest in the hands of holding company is the user of funds by the subsidiary for some business purpose . Unless business purpose is proved, the deduction cannot be allowed. That appears to be the sole reason for the Hon'ble Supreme Court to remit the matter to the file of the Tribunal for considering the commercial expediency or business purpose in the hands of the subsidiary company. If the mere fact of advancing loan by holding company to subsidiary company had been sufficient enough for granting deduction of interest to the holding comp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... subsidiary. Apart from that, the assessee also needs to objectively show that the subsidiary company utilized such funds for its business purpose. In the absence of the assessee having led even an iota of evidence to prove that the subsidiary company utilized the funds received from the assessee company for its business purpose, in my considered opinion, the assessee failed to garner any support from the above referred Hon'ble Supreme Court judgment in its favour on the question of allowing deduction of interest on this count. I, therefore, agree with the ld. Judicial Member on this issue. II. SCOPE OF PROCEEDINGS U/S 255(4) 6.1 The ld. D.R. contended that in this case the assessee invested by way of subscribing to the share capital of its subsidiary and it was not a case of advancing loan simpliciter. Accentuating that the advancing of loan and subscribing to the share capital are two distinct things, he submitted that whereas the former is always given on supposition that it would be returned later on, the later is ordinarily not returned during the life time of the company. In his opinion the case of S.A. Builders Ltd. (supra) is based on the facts in which loan was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... jority, but if the members are equally divided, they shall state the point or points on which they differ, and the case shall be referred by the President of the Appellate Tribunal for hearing on such point or points by one or more of the other members of the Appellate Tribunal, and such point or points shall be decided according to the opinion of the majority of the members of the Appellate Tribunal who have heard the case, including those who first heard it. (Emphasis supplied) 6.4 A bare perusal of this provision indicates that on a difference of opinion between the members of a Division Bench on a point, they shall state the point of difference to the President, who, in turn, shall appoint a third member. On rendering of opinion by the third member, such point of difference is decided as per majority opinion of the third member and the members who first heard the case. It is obvious that at the stage of passing the confirmatory order, the majority opinion can be found only when there are two opinions on one side (including that of the third member) and one on the other (that is 2:1). It is manifest that there can be no majority, which is the prescription of section 255(4), ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as been proved. Now accepting this contention of the ld. DR would amount to canvassing a third opinion, diverse from those expressed by the two members earlier. It is palpable that the formation of third view on the point of difference is inconceivable in the scheme of section 255(4) of the Act. As such, I refrain from considering this point of view put forth by the ld. DR before me for the first time. III : WHETHER INVESTMENT OUT OF INTEREST FREE FUNDS ? 7.1 From the facts recorded above, it is observed that out of the balance amount totalling ₹ 16.66 crores as at the end of the year in the name of the subsidiary company, the AO held that interest on the entire such amount was disallowable at ₹ 3.22 crores. The Id. CIT(A) allowed part relief by holding that the interest capitalized amounting to ₹ 1.54 crores should not have been included by the AO in the interest figure of ₹ 4.72 crores for the purpose of computing disallowance amounting to ₹ 3.22 crores. As per the calculation made by the assessee, the relief granted by the ld. CIT(A) works out at ₹ 64,28,273/- resulting into sustenance of the disallowance at ₹ 2,57,94,775/-. The ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... it was argued that the borrowed funds had been utilized for the purpose of making investment in the sister concern and the disallowance of interest was rightly called for. The Tribunal, on appreciation of facts, recorded a finding that the assessee had sufficient funds of its owns for making investment without using the interest bearing funds. Accordingly, the order of CIT(A) was upheld. When the matter came up before the Hon'ble jurisdictional High Court, it was contended by the Department that the shareholders' funds stood utilized in the purchase of fixed assets and hence could not be construed as available for investment in sister concern. Repelling this contention, the Hon'ble High Court observed that : In our opinion, the very basis on which the Revenue had sought to contend or argue their case that the shareholders 'fund to the tune of over ₹ 172 crores was utilized for the purpose of fixed assets in terms of the balance-sheet as on March 31, 1999, is fallacious. In upholding the order of the Tribunal, the Hon'ble High Court held that : If there be interest free funds available to an assessee sufficient to meet its investment and at the same time ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nds and/or other interest free advances are more than the investment, then it has to be presumed that the investments came out of interest free funds available with the assessee. The balance-sheet of the assessee company is available at page 6 of the paper book, from where it can be seen that the shareholders' fund comprising of share capital, reserve and surplus is ₹ 48.57 crores. As against that, the total investment made by the assessee with its subsidiary company in the shape of share application money is ₹ 16.66 crores, which includes the fresh investments made during the year at ₹ 2.68 crores. Even if other interest free advances available at the assessee's disposal are ignored and the position is considered as on the date of balance-sheet, it is abundantly clear that the amount of investment made with the subsidiary company is around l/3rd of the shareholders' fund. In such a situation, the presumption, as per Reliance Utilities Power Ltd. (supra), would squarely apply that the investments were made from interest free funds available and no disallowance of interest can be made. 7.5 This issue can be examined from another angle as well, bein ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an overdraft account with the bank. The assessee paid advance-tax which increased the overdraft balance. The ITO held that the payment of advance-tax could not be treated as business expenditure and he, therefore, disallowed the proportionate interest. The Tribunal sustained the addition. When the matter came up before the Hon'ble High Court, it was observed that though the assessee had taken money from overdraft account for payment of tax, but it had sufficient profits which were also banked. It was observed that such funds would easily meet the advance-tax liability. Finally, it was held that the addition sustained on account of proportionate interest was not justified as the payment of advance-tax was not relatable to the overdraft as the assessee had, in fact, drawn moneys out of overdraft account both for business purposes and for tax. 7.8 In the case of East India Pharmaceutical Works Ltd. (supra), the question was about deductibility or otherwise of interest on money borrowed for payment of income-tax. An additional plea was raised on behalf of the assessee for the first time before the Hon'ble Supreme Court that the assessee having deposited the entire profits in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a 13.4 of his opinion. The first category indicates the term loans taken by the assessee from the Honkong Shanghai Banking Corporation, Bank of India and State Bank of India. Term Loans are extended for the purpose of acquisition of fixed assets viz., land, building, plant and machinery for setting up of new industrial units or expansion/modernization of existing units. To put it simply, if a borrower wants to install machinery worth ₹ 100/-, he will approach a bank for loan. The bank will provide term loan of, say, ₹ 75/- with a margin of ₹ 25/- to be contributed by the borrower. The term loan cannot be utilized for any other purpose. In the present case, the assessee utilized the term loan for building machinery of the factory at Silvassa and also for Jammu Chennai units under construction. Obviously, term loan could not have been used for any other purpose including advancing of funds to the subsidiary company. If that is the position, then the interest on such term loans can also not be considered for a non-business purpose. The second category is Buyer's Credit . This credit facility has been availed against import of goods. The opening balance of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed were interest free or interest bearing. Section 36(l)(iii) categorically provides that the amount of interest paid in respect of capital borrowed for the purpose of business or profession is deductible. I am not concerned with the prescription of the proviso to sec. 36(l)(iii). So long as the interest bearing funds are used for the business purpose, whether for investment in fixed or circulating capital, the amount of interest shall be allowed as deduction. If answer to stage (a) turns out to be in negative, only then the question of examining the stage (b) arises as to whether investment for non-business purpose was made out of interest free funds. If such investment for non-business purposes is out of interest free funds, then there cannot be disallowance of interest and vice versa. The second stage arises for consideration on the assessee's failure to succeed in the first. As in the instant case, the assessee failed to amply prove the business purpose in terms of S.A. Builders Ltd. (supra), but succeeded in proving that interest free funds were utilized for subscribing to the share capital of its subsidiary company, in my considered opinion the addition cannot be sustaine ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
