Case Law Details
PCIT Vs Morgan Stanley India Capital Pvt. Ltd. (Bombay High Court)
Bombay High Court Rejects Section 14A Disallowance Because Investments Were Made From Own Funds; Bombay HC Says Mixed Funds Cannot Automatically Trigger Rule 8D Interest Disallowance; Section 14A Addition Deleted Because Loans Were Taken After Investments Were Made: Bombay HC; Bombay High Court Upholds ITAT Order Deleting Rule 8D and Section 40(a)(ia) Additions.
The Bombay High Court heard an appeal filed by the Revenue challenging the order dated 11.10.2017 passed by the Income Tax Appellate Tribunal (ITAT) for Assessment Year 2009-10. The Revenue raised three substantial questions of law relating to disallowance under Section 14A read with Rule 8D(2)(ii), deletion of disallowance under Section 40(a)(ia), and applicability of the Supreme Court decision in Avon Cycles Ltd. regarding mixed funds.
The assessee had filed its return declaring nil income. During scrutiny assessment under Section 143(3), the Assessing Officer assessed income at Rs. 2.60 crore by making additions and disallowances. The Assessing Officer disallowed Rs.16.45 lakh under Section 14A read with Rule 8D, including disallowance under Rule 8D(2)(ii) and Rule 8D(2)(iii). The Assessing Officer also disallowed expenses of approximately Rs.17.64 crore under Section 40(a)(ia) on the ground that tax had not been deducted at source on certain payments.
On appeal, the CIT(A) partly allowed the assessee’s appeal. The CIT(A) upheld the disallowance under Rule 8D(2)(iii) but deleted the disallowance under Rule 8D(2)(ii), holding that investments were made from the assessee’s own funds and no interest expenditure was attributable to exempt income. The CIT(A) also deleted the disallowance under Section 40(a)(ia), observing that there was only a short deduction of TDS because tax had been deducted under Section 194C. Reliance was placed on the Calcutta High Court decision in CIT vs. S.K. Tekriwal. The ITAT dismissed the Revenue’s appeal, following which the Revenue approached the High Court.
The High Court examined the issues relating to Section 14A and Rule 8D(2)(ii). It noted that the controversy was squarely covered by the Bombay High Court judgment in HDFC Bank Ltd. and the Supreme Court judgment in South Indian Bank Ltd. Both decisions held that where an assessee’s own funds and non-interest-bearing funds exceed investments in tax-free securities, a presumption arises that such investments were made out of interest-free funds.
The Court reproduced portions of the Supreme Court decision in South Indian Bank Ltd., where it was held that in cases involving mixed funds, investments should ordinarily be presumed to have been made out of interest-free funds available with the assessee if those funds are sufficient to cover the investments. The Supreme Court had also observed that the Revenue cannot estimate a proportionate disallowance under Section 14A where sufficient non-interest-bearing funds are available.
Applying these principles, the High Court noted that the assessee had made investments of Rs.28.72 crore in Financial Year 2007-08 at a time when no loans had been taken. In Financial Year 2008-09, the assessee had only minimal investments of Rs.200, whereas loans were taken during that later year. The Court therefore held that the Assessing Officer could not have concluded that investments made in FY 2007-08 were financed out of loans taken in FY 2008-09. Consequently, the Court held that no substantial question of law arose regarding the deletion of disallowance under Rule 8D(2)(ii).
On the issue of Section 40(a)(ia), the Court noted that both the CIT(A) and ITAT relied upon the Calcutta High Court judgment in S.K. Tekriwal, which held that where there is only short deduction of TDS due to difference of opinion regarding the applicable provision, disallowance under Section 40(a)(ia) cannot be invoked, though the assessee may still be treated as an assessee in default under Section 201.
FULL TEXT OF THE JUDGMENT/ORDER OF BOMBAY HIGH COURT
1. The above Appeal is filed by the Revenue challenging the order dated 11th October 2017 passed by the Income Tax Appellate Tribunal (ITAT) under which the Appeal preferred by the Revenue was dismissed by the ITAT. The assessment year in question is A.Y.2009-10. According to the Revenue, the impugned order of the ITAT gives rise to the following three questions of law:-
(i) Whether on the facts and the circumstances of the case and in law, the Hon’ble ITAT was right in directing to delete the disallowance made under Rule 8D(2)(ii) of the I.T. Act without appreciating the fact that the assessee failed to establish the nexus of investment with own funds and no borrowed funds have been utilized for investments?
(ii) Whether on the facts and circumstance of the case and in law Hon’ble ITAT was right in directing to delete the addition made under Section 40(a)(ia) of the I.T.Act without appreciating the fact that the assessee failed to deduct tax at source as per provisions contained in chapter XVIIB of the I.T. Act?
(iii) Whether on the facts and in the circumstances of the case whether the Hon’ble ITAT was correct in law in deleting the disallowance made under Rule 8D(2)(ii) in view of the recent decision of the Hon’ble Supreme Court in the case of Avon Cycles Ltd (Civil Appeal No.1423/2015) wherein the disallowance under Rule 8D(2)(ii) in case of mixed use of funds was upheld?
2. To see whether the aforesaid questions as projected by the Revenue in fact gives rise to any substantial question of law, it would be necessary to refer to some facts. In the present case, the Respondent Assessee filed its return of income on 23rd September 2009 declaring a total income of Rs.Nil. Thereafter, the Assessee’s case was taken up for scrutiny and the Assessing Officer passed an order under Section 143(3) on 13th December 2011 assessing the income of the Respondent Assessee at Rs.2,60,11,645/- by making certain additions/disallowances. To put it in a nutshell, the Assessing Officer made an addition of Rs.16,45,014/–by applying the provisions of Section 14A read with Rule 8D(2)(ii) [Rs.9,26,982/-] and Rule 8D(2)(iii) [Rs.7,18,031/-]. Additionally, since the Assessing Officer was of the view that TDS had not been deducted by the Assessee for certain payments made, he disallowed expenses of approximately Rs.17.64 Crores under Section 40(a)(ia) of the Income Tax Act, 1961.
3. Being aggrieved by the Assessment Order, the Respondent Assessee preferred an Appeal before the CIT (Appeals). The CIT (Appeals), by his order dated 31st January 2013, partly allowed the Appeal of the Assessee. By the said order, the CIT (Appeals) upheld the action of the Assessing Officer in respect of disallowance under Section 14A read with Rule 8D(2)(iii) for Rs.7,81,031/-. However, in respect of disallowance as per the Rule 8D(2)(ii), the CIT (Appeals) adjudicated the same in favour of the Assessee by upholding that the investments made by the Assessee were out of its own funds and there was no interest expenditure which can be directly or indirectly attributed to the exempt income.
4. As far as the disallowance of expenses under Section 40(a) (ia) is concerned, the CIT (Appeals) deleted the disallowance by upholding that this is merely a short deduction of TDS because the Assessee has deducted the TDS under Section 194C of the Act. The CIT (Appeals), whilst deleting this disallowance relied upon a decision of the Calcutta High Court in the case of Commissioner of Income Tax V/S S.K. Tekriwal [2012 SCC Online Cal 13210].
5. Aggrieved by the order of the CIT (Appeals) the Revenue preferred an Appeal before the ITAT. The ITAT also dismissed the Revenue’s Appeal for the reasons stated in the impugned order. Hence, the Revenue is before us in the present Appeal contending that the impugned order gives rise to the three substantial questions of law as reproduced by us earlier.
6. As far as the question Nos.(i) and (iii) are concerned we find that the issue is squarely covered not only by a decision of this Court in the case of Commissioner of Income-tax-2, Mumbai V/S HDFC Bank Ltd [(2014) 49 com 335 (Bombay)] but also a judgment of the Hon’ble Supreme Court in the case of South Indian Bank Ltd V/S Commissioner of Income-tax [(2021) 130 taxmann.com 178 (SC)]. In both these judgments it has been clearly held that where the assessee’s own funds and other non-interest bearing funds, were more than the investment made in tax free securities, it would be presumed that the investment made by the assessee would be from its interest free funds. For the sake of convenience the relevant portion of the decision of the Hon’ble Supreme Court in South Indian Bank Ltd (supra) [on this issue] is reproduced hereunder:-
“14. We have heard Mr. S. Ganesh, Mr. S.K. Bagaria, Mr. Jehangir Mistri and Mr. Joseph Markose, learned Senior Counsel appearing for the appellants. Also heard Mr. Vikramjit Banerjee, learned Additional Solicitor General and Mr. Arzjit Prasad, learned Senior Counsel on behalf of the respondent/Revenue.
15. The appellants argue that the investments made in bonds and shares should be considered to have been made out of interest free funds which were substantially more than the investment made and therefore the interest paid by the assessee on its deposits and other borrowings, should not be considered to be expenditure incurred in relation to tax-free income on bonds and shares and as a corollary, there should be no disallowance under section 14A of the Act. On the other hand, the counsel for the revenue refers to the reasoning of the CIT(A) and of the High Court to project their case.
16. As can be seen, the contention on behalf of the assessee was rejected by the CIT(A) as also by the High Court primarily on the ground that the assessee had not kept their interest free funds in separate account and as such had purchased the bonds/shares from mixed account. This is how a proportionate amount of the interest paid on the borrowings/deposits, was considered to have been incurred to earn the tax-free income on bonds/shares and such proportionate amount was disallowed applying section 14A of the Act.
17. In a situation where the assessee has mixed fund (made up partly of interest free funds and partly of interest-bearing funds) and payment is made out of that mixed fund, the investment must be considered to have been made out of the interest free fund. To put it another way, in respect of payment made out of mixed fund, it is the assessee who has such 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 Revenue to make an estimation of a proportionate figure. For accepting such a proposition, it would be helpful to refer to the decision of the Bombay High Court in Pr. CIT v. Bombay Dyeing & Mfg. Co. Ltd. [IT Appeal No. 1225 of 2015, dated 28-11-20171, where the answer was in favour of the assessee on the question, whether the Tribunal was justified in deleting the disallowance under section 8oM of the Act on the presumption that when the funds available to the assessee were both interest free and loans, the investments made would be out of the interest free funds available with the assessee, provided the interest free funds were sufficient to meet the investments. The resultant SLP of the Revenue challenging the Bombay High Court judgment was dismissed both on merit and on delay by this Court. The merit of the above proposition of law of the Bombay High Court would now be appreciated in the following discussion.
18. In the above context, it would be apposite to refer to a similar decision in CIT v. Reliance Industries Ltd.[2019] 102 com 52/261 Taxman 165/410 ITR 466 (SC), where a Division Bench of this Court expressly held that where there is finding of fact that interest free funds available to assessee were sufficient to meet its investment it will be presumed that investments were made from such interest free funds.
19. In HDFC Bank Ltd. v. Dy. CIT [2016] 67 com 42/383 ITR 529 (Born.), the assessee was a Scheduled Bank and the issue therein also pertained to disallowance under section 14A. In this case, the Bombay High Court even while remanding the case back to Tribunal for adjudicating afresh observed (relying on its own previous judgment in same assessee’s case for a different Assessment Year) that, if assessee possesses sufficient interest free funds as against investment in tax-free securities then, there is a presumption that investment which has been made in tax-free securities, has come out of interest free funds available with assessee. In such situation section 14A of the Act would not be applicable. Similar views have been expressed by other High Courts in CIT v. Suzlon Energy Ltd. [2013] 33 taxmann.com 157/215 Taxman 272/354 ITR 630 (Guj.), CIT v. Microlabs Ltd. [2017179 taxmann.com 365/[2016] 383 ITR 490 (Kar.) and CIT v. Max India Ltd. [2016] 75 taxmann.com 268/388 ITR 81 (Punj. & Har.). Mr. S Ganesh the learned Senior Counsel while citing these cases from the High Courts have further pointed out that those judgments have attained finality. On reading of these judgments, we are of the considered opinion that the High Courts have correctly interpreted the scope of section 14A of the Act in their decisions favouring the assessees.
20. Applying the same logic, the disallowance would be legally impermissible for the investment made by the assessees in bonds/shares using interest free funds, under section 14A of the Act. In other words, if investments in securities is made out of common funds and the assessee has available, non-interest-bearing funds larger than the investments made in tax-free securities then in such cases, disallowance under section 14A cannot be made.
(emphasis supplied)
7. This apart, in the facts of the present case, we find that in fact when the investment of Rs.28,72,12,364/- was made by the Respondent Assessee in F.Y. 2007-08, the Assessee had taken absolutely no loans. In F.Y. 2008-09, the investments were only Rs.2oo/- as the Assessee had divested it’s investments made in the previous financial year. It is in this year (i.e. F.Y.2oo8-09) that the Assessee had taken a loan of Rs.512,43,51,193/-. We, therefore, fail to understand how the Assessing Officer could have come to the conclusion that the investments were made by the Respondent Assessee in the F.Y.2o07-08 from the loans taken in the F.Y.2oo8-09. In view of the aforesaid discussion, we find that questions (i) and (iii) do not give rise to any substantial question of law that requires an answer by this Court.
8. This now leaves us to deal with question (ii). Question No. (ii) is whether the ITAT was right in upholding the order of the CIT (Appeals) in directing the deletion of the disallowance made under 4o(a)(ia) of the IT Act. The CIT (Appeals) as well as the ITAT ordered deleting this disallowance by relying upon a decision of the Calcutta High Court in the case of K. Tekriwal (supra). In the facts before the Calcutta High Court also, the Assessee had deducted tax under Section 194C(2) and not under Section 194-I. In other words there was a short deduction of TDS. The Calcutta High Court inter alia held that in such a case, if there is any shortfall due to the difference of opinion as to the taxability of any item, or the nature of payments falling under various TDS provisions, the assessee can be declared as an assessee in default under Section 201, but no disallowance can be made by invoking the provisions of Section 40(a)(ia) of the IT Act. Apart from the fact that we are in agreement with the decision of the Calcutta High Court, we also find that with effect from 1st April 2013 a very important proviso [second proviso to 40(a)(ia)] was inserted by the legislature which stipulated that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum, but is not deemed to be an assessee in default under the first proviso to sub-Section (1) of Section 201, then, for the purpose of sub-clause 40(a)(ia), it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the payee referred to in the said proviso. For the sake of convenience, the relevant proviso is produced hereunder:-
15[Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of section 201, then, for the purpose of this sub-clause, it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the 16[*”] payee referred to in the said proviso.]
9. To put it in a nutshell, what this proviso stipulates is that if the assessee has not been declared as an assessee in default under Section 201(1) and the payee has paid the tax, then it shall be deemed that the assessee has deducted and paid the TDS.
10. We are mindful of the fact that this proviso was inserted with effect from 1st April 2013 and the assessment year in question is 2009-10. However, this Court in the case of Principal Commissioner of Income Tax-5 V/S Perfect Circle India Put Ltd [Income Tax Appeal No.707 of 2016 decided on 7th January 2019] has clearly held that the said proviso, being beneficial to the assessee and curative in nature, would have retrospective effect from 1st April 2005 i.e. the date from when the main proviso to 4o(a)(ia) itself was inserted.
11. Once the aforesaid proviso has been held to have a retrospective effect from 1st April 2005, coupled with the fact that there is no dispute that the persons to whom the payments were made by the assessee (namely it’s group companies) have paid the taxes on these payments, the Assessing Officer could not have invoked the provisions of Section 4o(a)(ia) and disallowed the expenses claimed by the assessee. We are, therefore, clearly of the view that even question (ii) as projected by the Revenue does not give rise to any substantial question of law requiring an answer by this Court.
12. In view of the aforesaid discussion, we find that there is no merit in the above Appeal and it is accordingly dismissed. However, there shall be no order as to costs.
13. This order will be digitally signed by the Private Secretary/ Personal Assistant of this Court. All concerned will act on production by fax or email of a digitally signed copy of this order.
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