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2015 (12) TMI 1423 - DELHI HIGH COURT

2015 (12) TMI 1423 - DELHI HIGH COURT - TMI - Disallowance under Section 14A - whether the ITAT was correct in affirming the order of CIT(A) which had confined the disallowance under Section 14A - whether the ITAT could read down Rule 8D (2)(ii) of the Income Tax Rules 1962 and whether that was beyond the jurisdiction of the ITAT? - Held that:- In the case in hand, in Note 4 of the computation of income submitted by the Assessee, the total interest debited to the profit and loss account was S .....

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efore, correctly observed in the present case "no portion of interest really survives for allocation under Rule 8D (2) (ii)". However, as rightly pointed out by the ITAT, since the Assessee did not challenge the order of the CIT (A) to the extent it restricted the disallowance, that part of the order of the CIT (A) remained.

The point concerning Rule 8D (2) (iii) does not appear to have been urged by the Revenue before the ITAT and therefore not considered by it. In any event that doe .....

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T Dr. S. Muralidhar, J. 1. This appeal by the Revenue under Section 260A of the Income Tax Act, 1961 ('Act') is directed against the order dated 23rd March 2015 passed by the Income Tax Appellate Tribunal ('ITAT') in ITA No. 460/Del/2013. 2. The question sought to be urged before this Court is whether the ITAT was correct in affirming the order of the Commissioner of Income Tax (A) ['CIT(A)'] which had confined the disallowance under Section 14A of the Act to ₹ 30,2 .....

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2008 declaring loss of ₹ 16,07,22,655. The income was revised on 16th December 2009, at a loss of ₹ 13,93,37,943. The revision of the amount of loss was pursuant to the scheme of arrangement approved by the High Court with effect from 1st October 2007. 5. The return was picked up for scrutiny. It was observed by the Assessing Officer ('AO') that the Assessee had shown dividend income of ₹ 89, 02,540 out of which ₹ 68, 44,790 was claimed as exempt under Section 10 .....

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ready been disallowed on account of indirect expenditure incurred in earning such income. The AO was, however, of the view that all expenses connected with the exempt income have to be necessarily disallowed regardless of whether they were direct or indirect, fixed or variable, and managerial or financial. The claim of the Assessee that it had incurred 10% of the exempt income as expenditure was rejected. The AO then re-worked the disallowance by taking into account the interest which was not di .....

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rrectness of the claim of expenditure made by the Assessee. According to the Assessee there was no such recording of satisfaction to justify the invoking of Rule 8D. It was pointed out that the AO had disallowed against exempt income of ₹ 68,44,790, a sum of ₹ 41,37,781 as expense attributable under Section 14A of the Act, and that this mismatch of the disallowance and non-taxable income indicated that it was unreal and had no nexus to the exempt income. It was submitted that "T .....

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the AO had not recorded the reasons for rejecting the claim of the Assessee regarding disallowance 10% of the exempt income as expenditure. The CIT (A) proceeded to observe that during appeal proceedings, it was found that "actually the amount of interest attributable to the earning of dividend income should have been taken at proportion of ₹ 83 lacs for the purpose of applying Rule 8D and not ₹ 5,52,83,131 as adopted by the AO". The disallowance was therefore re-worked at .....

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rcial Co. Ltd., (2012) 139 ITD 108 , which in turn referred to the decision of the Bombay High Court in Godrej & Boyce Mfg. Co. Ltd (supra) and held that for the purposes of Rule 8D (2) (ii), the amount of interest not attributable to the earning of any particular item of income, i.e., 'common interest expenses' that was required to be allocated would have to exclude both expenditures, i.e., interest attributable to tax exempt income as well as that attributable to taxable income. Th .....

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that the Assessee did not file any appeal. 9. It is urged by Mr. P. Roy Chaudhary, learned Standing counsel for the Revenue, that the ITAT could not have read down Rule 8D (2)(ii) of the Rules as it was a Tribunal of limited jurisdiction. It is further submitted that the ITAT erred in ignoring the provisions of Rule 8D (2) (iii) thereby deleting the disallowance of ₹ 41,37,781 made by the AO under the said clause. 10. Mr. Arvind Kumar, learned counsel for the Assessee, submitted that on a .....

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n the only possible interpretation was that adopted by the ITAT. He further submitted that although the Assessee was not in appeal before the ITAT, or before this Court, he would still like to urge the issue concerning the AO not having recorded any satisfaction about untenablility of the claim of the Assessee as to what constituted the legitimate expenditure incurred for earning the exempt income. 11. As regards the last submission of learned counsel for the Assessee, this Court is not inclined .....

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re incurred by the Assessee in relation to "income which does not form part of the total income under this Act". Rule 8D of the Rules sets out the "method for determining amount of expenditure in relation to income which does not form part of income". Rule 8D reads as under: "8D. (1) Where the Assessing Officer, having regard to the accounts of the assessee of a previous year, is not satisfied with- (a) the correctness of the claim of expenditure made by the assessee; or .....

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which does not form part of total income; (ii) in a case where the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income or receipt, an amount computed in accordance with the following formula, namely: A x B/C Where A = amount of expenditure by way of interest other than the amount of interest included in clause (i) incurred during the previous year ; B = the average of value of investment, income from which does .....

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see, on the first day and the last day of the previous year. (3) For the purposes of this rule, the "total assets" shall mean, total assets as appearing in the balance sheet excluding the increase on account of revaluation of assets but including the decrease on account of revaluation of assets." 14. As far as Rule 8D (2) (i) is concerned, the AO has necessarily to record that he is not satisfied with the correctness of the claim of the expenditure made by the Assessee in relation .....

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ll not arise. 15. Nevertheless, the ITAT has had to interpret Rule 8D (2) (ii) since the AO applied it and the CIT (A) had to decide whether that interpretation was correct. That is how this Court too is called upon to decide whether the ITAT was right in its interpretation of that provision. The methodology set out under Rule 8D for determining the amount of expenditure in relation to the exempt income corresponds to Section 14 A (2) of the Act. Section 14A (3) clarifies that Section 14A (2) wo .....

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the expenditure in relation to income which is exempt shall be the aggregate of (i) the expenditure attributable to tax exempt income, (ii) and where there is common expenditure which cannot be attributed to either tax exempt income or taxable income then a sum arrived at by applying the formula set out thereunder. What the formula does is basically to "allocate" some part of the common expenditure for disallowance by the proportion that average value of the investment from which the .....

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so exclude interest relatable to taxable income. This is precisely what the ITAT has pointed out in Champion Commercial (supra). There the ITAT said that by not excluding expenditure directly relatable to taxable income, Rule 8D (2) (ii) ends up allocating "expenditure by way of interest, which is not directly attributable to any particular income or receipt, plus interest which is directly attributable to taxable income." This is contrary to the intention behind Rule 8D (2) (ii) read .....

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tes to the taxable income. The interest expenditure which is "not directly attributable to any particular receipt or income" is thus only ₹ 10,000. However, in terms of the formula in Rule 8D(2) (ii), allocation of interest which is not directly attributable to any particular income or receipt will be for ₹ 90,000 because, as per formula the value of A (i.e. such interest expenses to be allocated between tax exempt and taxable income) will be "A = amount of expenditure .....

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its earlier decision in Champion Commercial (supra) which in turn followed the decision of the Bombay High Court in Godrej & Boyce Mfg. Co. Ltd. (supra). The ITAT did not on its own read down rule 8D (2) (ii). Rather, it went by the stand taken by the Revenue before the Bombay High Court in Godrej & Boyce Mfg. Co. Ltd. (supra) in countering the challenge to the constitutional validity of Rule 8 D (2). The stand of the Revenue was that variable A in the formula in Rule 8D (2) (ii) would .....

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R.8D(2) (ii) that since funds are fungible, it would be difficult to allocate the actual quantum of borrowed funds that have been used for making tax-free investments. It is only the interest on borrowed funds that would be apportioned and the amount of expenditure by way of interest that will be taken (as 'A' in the formula) will exclude any expenditure by way of interest which is directly attributable to any particular income or receipt (for example- any aspect of the assessee's b .....

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