Section 14A

 SECTION 14A/INCOME-TAX ACT

[2010] 189 TAXMAN 50 (PUNJ. & HAR.)

HIGH COURT OF PUNJAB & HARYANA

Commissioner of Income-tax-II

v.

Hero Cycles Ltd.*

ADARSH KUMAR GOEL AND GURDEV SINGH, JJ.

IT APPEAL NO. 331 OF 2009 (O&M)†

NOVEMBER 4, 2009

Section 14A of the Income-tax Act, 1961 - Expenditure incurred in relation to income not includible in total income - Assessment year 2004-05 - Whether disallowance under section 14A requires finding of incurring of expenditure and where it is found that for earning exempted income no expenditure has been incurred, disallowance under section 14A cannot stand - Held, yes

The assessee-company was engaged in the manufacturing of cycles and parts of two-wheelers in multiple units. It earned dividend income, which was exempted under section 10(34) and (35). The Assessing Officer made an inquiry whether any expenditure was incurred for earning that income and as a result of the said inquiry made certain addition to the income of the assessee by way of disallowance under section 14A(3). On appeal, the Commissioner (Appeals) partly upheld the addition made by the Assessing Officer. On second appeal, the Tribunal found that the entire investment had been made by the assessee out of the dividend proceeds, sale proceeds of shares, debenture redemption, etc., and said funds were ostensibly without any burden of interest expenditure. The Tribunal held that merely because the assessee had incurred interest expenditure on funds borrowed for the main unit, it would not ipso facto invite the disallowance under section 14A, when there was no evidence to show that such interest bearing funds had been invested in the investments which had generated the ‘tax exempt dividend income’. It, therefore, deleted the entire addition made by way of disallowance under section 14A.

On the revenue’s appeal to the High Court :

                                                                                                                                          HELD

In view of the finding recorded by the Tribunal, it was clear that the expenditure on interest was set off against the interest income and the investment in the shares in question was out of the dividend proceeds. Therefore, the disallowance under section 14A was not sustainable. Whether in the given situation any expenditure was incurred which was to be disallowed, was a question of fact. The contention of the revenue, that directly or indirectly some expenditure is always incurred, which must be disallowed under section 14A, and the impact of expenditure so incurred cannot be allowed to be set off against the business income which may nullify the mandate of section 14A, could not be accepted. Disallowance under section 14A requires finding of incurring of expenditure. Where it is found that for earning exempted income no expenditure has been incurred, disallowance under section 14A cannot stand. In the instant case, finding on that aspect against the revenue was not shown to be perverse. Consequently, disallowance was not permissible. [Para 4]

Therefore, the appeal filed by the revenue was to be dismissed. [Para 5]

CIT v. Winsome Textile Industries Ltd. [IT Appeal No. 504 of 2008, dated 25-8-2009] [Para 4].

Rajesh Sethi for the Appellant.

1. The revenue has preferred this appeal under section 260A of Income-tax Act, 1961 (for short, “the Act”) for the assessment year 2004-05 against the order of Income-tax Appellate Tribunal, Chandigarh Bench ‘B’, passed in ITA No. 247/Chandi./2008 on 4-7-2008, proposing to raise following substantial question of law :—

“(i) Whether on the facts and in law, the Hon’ble ITAT was legally justified in deleting the disallowance of Rs. 3,48,04,375 under section 14A of the Income-tax Act, 1961 by ignoring the evidence relied on by the Assessing Officer and holding that a clear nexus has not been established that the interest bearing funds have been vested for investments generating tax-free dividend income.”

2. The assessee is engaged in manufacturing of cycles and parts of two-wheelers in multiple units. It earned dividend income, which is exempted under section 10(34) and (35). The Assessing Officer made an inquiry whether any expenditure was incurred for earning this income and as a result of the said inquiry addition was made by way of disallowance under section 14A(3), which was partly upheld by the CIT(A). The Tribunal held that there was no nexus with the expenditure incurred and the income generated. The finding recorded are as under :—

“We have perused the same and find that the plea of the assessee that the entire investments have been made out of the dividend proceeds, sale proceeds, debenture redemption etc., is borne out of record. In fact the CIT (Appeals) has also come to a categorical finding that insofar as other units are concerned, none of their funds have been utilized to make the investments in question. One aspect which is evident that the interest income earned by the main unit, Ludhiana, exceeds the expenditure by way of interest incurred by it, thus obviating the application of section 14A of the Act. Even with regard to the funds of the main unit, Ludhiana the funds flow position explained shows that only the non-interest bearing funds have been utilized for making the investments. At pages 3 to 6 of the paper book are placed the details of the Bank accounts, wherein the amount of dividend, sale proceeds of shares, debenture redemption etc. have been received and later on invested in the investments in question. Such funds are ostensibly without any burden of interest expenditure. Thus, on facts we do not find any evidence to show that the assessee has incurred interest expenditure in relation to earning to the tax exempt income in question. We find that all the details in question were produced before the Assessing Officer and the CIT (Appeals) also. The entire evidence in this regard, which is submitted before the lower authorities have been compiled in the paper book, to which we have already adverted to in the earlier part of the order. Therefore, merely because the assessee has incurred interest expenditure on funds borrowed in the main unit, Ludhiana, it would not ipso facto invite the disallowance under section 14A, unless there is evidence to show that such interest bearing funds have been invested in the investments which have generated the ‘tax exempt dividend income’. As noted earlier, there is no nexus established by the revenue in this regard and therefore, on a mere presumption, the provisions of section 14A cannot be applied. Thus, we find that the CIT (Appeals) erred in part sustaining the addition. In fact, in the absence of such nexus, the entire addition made was required to be deleted. We accordingly hold so.”

We have heard learned counsel for the revenue.

3. Learned counsel for the appellant relies upon section 14A(2) and Rule 8D(1)(b) to submit that even where the assessee claimed that no expenditure had been incurred, the correctness of such claim could be gone into by the Assessing Officer and in the present case, the claim of the assessee that no expenditure was incurred was found to be not acceptable by the Assessing Officer and thus disallowance was justified. We are unable to accept the submission.

4. In view of finding reproduced above, it is clear that the expenditure on interest was set off against the income from interest and the investment in the share and funds were out of the dividend proceeds. In view of this finding of fact, disallowance under section 14A was not sustainable. Whether, in a given situation, any expenditure was incurred which was to be disallowed, is a question of fact. The contention of the revenue that directly or indirectly some expenditure is always incurred which must be disallowed under section 14A and the impact of expenditure so incurred



cannot be allowed to be set off against the business income which may nullify the mandate of section 14A, cannot be accepted. Disallowance under section 14A requires finding of incurring of expenditure where it is found that for earning exempted income no expenditure has been incurred, disallowance under section 14A cannot stand. In the present case finding on this aspect, against the revenue, is not shown to be perverse. Consequently, disallowance is not permissible. We have taken this view earlier also in CIT v. Winsome Textile Industries Ltd. [IT Appeal No. 504 of 2008, dated 25-8-2009], wherein it was observed as under :—

“6. Contention raised on behalf of the revenue is that even if the assessee had made investment in shares out of its own funds, the assessee had taken loans on which interest was paid and all the money available with the assessee was in common kitty, as held by this Court in CIT v. Abhishek Industries Ltd. [2006] 286 ITR 1 and therefore, disallowance under section 14A was justified.

7. We do not find any merit in this submission. Judgment of this Court in Abhishek Industries (supra) was on the issue of allowability of interest paid on loans given to sister concerns, without interest. It was held that deduction for interest was permissible when loan was taken for business purpose and not for diverting the same to sister concern without having nexus with the business. Observations made therein have to be read in that context. In the present case, admittedly, the assessee did not make any claim for exemption. In such a situation, section 14A could have no application.”

5. In view of the above, we are of the opinion that no substantial question of law arise.

6. The appeal is dismissed.

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