Bombay High Court: Interest Expenditure Cannot be Disallowed under Income Tax Act under Any Circumstances

Bombay High Court: Interest Expenditure Cannot be Disallowed under Income Tax Act under Any Circumstances

The Bombay High Court while upholding the order passed by the Commissioner of Income Tax (Appeals) (in short CIT[A]) and Income Tax Appellate Tribunal (ITAT) observed that, the interest expenditure cannot be disallowed under Section 14A of the Income Tax Act, 1961 read with Rule 8D(2)(ii) under any circumstances.

The respondent/assessee- Godrej & Boyce Manufacturing Co. Ltd filed its income tax return, declaring total income under normal provisions and book profit under Section 115JB of the Income Tax Act (hereinafter referred to as the 'Act').

The return was processed under Section 143(1) of the Act 23.03.2012. The case was selected for scrutiny and notice under Section 143(2) of the Act was issued to the assessee on 01.08.2012. The Assessing Officer (AO) made various additions/disallowances - which includes disallowances under Section 14A read with Rule 8D amount to Rs. 5,11,85,000 The AO completed assessment vide order dated 03.03.2014.

Being aggrieved by order dated 03.03.2014, the assessee company filed an appeal before the CIT(A). The Ld. CIT (A) by his order dated 17.04.2015 partly allowed the assessee company's appeal. Being aggrieved by order dated 17.04.2015, the Assessee company and the Revenue filed an appeal before the Hon'ble ITAT. The ITAT vide order dated 05.04.2017, allowed the appeal of the Assessee company and dismissed the appeal filed by the Revenue.

The appellant submitted that the AO had clearly mentioned that setting off interest costs of dividend income against other taxable income is against the matching concept of income and expenditure. There was no need to rely on any presumption of own funds on account of the changed law that came into force in 2007–08, followed by the introduction of Rule 8D in 2008–09, which provides for a method of calculation.

According to the appellant, the ITAT erred in endorsing CIT(A)'s order, which raised the presumption of owning interest-free funds. The appellant contended that the ITAT ought not to have deleted the addition of interest disallowed by the AO in the absence of any evidence that indicated that borrowed funds were not used for the purpose of making investments that yielded exemption. Lastly, the appellant asserted that the ITAT should not have considered interest when calculating disallowance under Section 14A read with Rule 5D because the assessee did not keep a separate account for the investment related to exempt income.

On the other hand, the respondent/assessee argued that with respect to payments made out of a mixed fund, it is the assessee who has such a right of appropriation and also the right to assert from what part of the fund a particular investment is made, and it may not be permissible for the department to make an estimation of a proportionate figure.

The Court noted that the assessee claimed that the disallowance made under Section 14A was as per the books of account attributable to earning of exempt income. On a perusal of the assessment order, the Court found that there was no discussion by the AO with regard to the computation of inadmissible expenditure made by the assessee forming part of the return of income.

Further it was noted by the Court that AO had not recorded any satisfaction that the working of inadmissible expenditure u/s14A is incorrect with regard to the books of account of the assessee.

The Court observed, "the provision u/s 14(2) does not empower the AO to apply Rule 8D straightaway without considering the correctness of the assessee's claim in respect of expenditure incurred in relation to the exempt income. We agree with the view of the ITAT that in the present case the AO has neither examined the claim in respect of expenditure incurred in relation to exempt income of the assessee nor has recorded any satisfaction with regard to the correctness of assessee's claim with reference to the books of account. Consequently, the disallowance made by applying the Rule 8D is not only against the statutory mandate but contrary to the legal principles laid down."

Therefore, the Court concluded that the ITAT had rightly deleted the disallowance made by the AO. Consequently, the interest expenditure cannot be disallowed under Section 14A read with Rule 8D(2)(ii) under any circumstances.