Advances made from Mixed Funds will be presumed as Utilization of it’s own Funds

The Delhi High Court in the case of held CIT vs. M/s. DD Industries Ltd. that when the assessee is possessed of mixed funds which include its own funds in sufficient quantity, a presumption that its own funds were utilized for the advances is to be drawn

Brief of the case

The Delhi High Court in the case of held CIT vs. M/s. DD Industries Ltd. that when the assessee is possessed of mixed funds which include its own funds in sufficient quantity, a presumption that its own funds were utilized for the advances is to be drawn, where the Assessee gave interest free advances to its associate company.

Facts of the Case

The assessee is engaged in manufacturing and trading of auto components and dealership business, leasing business. The objects of the company also include dealing in real estate. During assessment for AY 2007-2008, it was noticed from the return of income that the assessee paid interest on borrowed capitals. At the same time, the assessee gave interest free advances to its associate company against future township project. As advance has been made for the purpose other than the business, the assessee was asked to explain why the proportionate interest on this amount be not disallowed. The assessee also responded in writing, to the following effect that the advance was made for booking of space for an additional showroom for the expanding business of the assessee company. The allotment has not yet been made by the said company, and thus it cannot be said to have crystallized and as such the interest cannot be capitalized. Thus till the allotment is made, the interest paid is of revenue nature and as such has to be allowed as expenditure of business. The AO was of the opinion that in all these assessment years, borrowed funds had been used for booking of a property which was to be used as a show room of the company in future years and it could not establish nexus between the money borrowed and sum advanced and that only borrowed funds were utilized to buy a show room i.e., an asset to be used by the company for its future business. 

Contention of Revenue

According to Revenue, for the claim of interest, it is necessary that, firstly, the money must have been borrowed by the assessee, secondly, it must have been borrowed for the purpose of business and thirdly, the assessee must have paid interest on borrowed capital. The expression “for the purpose of business” occurring in section 36(1)(iii) specifies that deduction under this section is admissible only when capital ¡s borrowed directly “for the purpose of business” of the assessee. The proportionate amount of interest is needed to be added back, as the assessee during the course of the assessment proceedings has itself submitted that it has advanced the loans to its associate company for the purpose of acquiring a show room. This clearly meant “extension of existing business or profession”.

Contention of Assessee

The assessee, on the other hand, contends that the ITAT’s decision is entirely fact based, as it had the benefit of looking into the records. It is urged that in fact, for the assessment years in question, no advances were made to the assessee’s sister concern. Having accepted the amounts lent during previous years, it was not open for the revenue to now change its opinion when there was no material in that regard. The assessee had provided further material disclosing that the loans taken were for specific purposes from different financial institutions such as purchase of cars, stocks, raw materials etc to support its contentions that adequate funds were available during the assessment years and that since in the past the Revenue had accepted the assessee’s plea in this regard and not brought the amounts to tax under Section 36 (1) (iii), there was no question of its being brought to tax for the three assessment years in question. 

Held by CIT(A)

From the evidences the ld. CIT(A) was of the conclusion that interest bearing funds from Bank have been given to the associate Company. In such an event when there is a direct payment from the Bank on which interest is being paid by the appellant, then how the appellant claims that the payment made to its associate Companies from his own funds and from interest free funds Hence in view of the above, the ld. CIT(A) hold that there is a direct nexus between the payments made to associate Company out of the interest, bearing funds taken from Bank and thus the appellant is wrong in claiming that the payment to associate Company has been made from interest free funds.

Held by ITAT

The ITAT cited Dy. CIT vs. Core Health Care Ltd. (SC) (2008) 298 ITR 194 for the proposition that the dichotomy inherent in the use of borrowed funds, i.e borrowing itself does not create an asset, but the use of that borrowing to create an asset, which results in it. 

Held by Hon’ble High Court 

The Hon’ble High Court in the present case noticed that the ITAT held against the Revenue. The ITAT noted the terms of the Memorandum of Understanding (MOU) dated 28.05.2005 entered, where it had been agreed to invest money in the project by way of advance. The relevant document had not been rejected either by the AO or the CIT (A). The balance sheet of a sister concern was also considered by the ITAT which disclosed that as on 31.03.2006 it had inventories in the form of land to the extent of Rs. 32.4 crores. Also the Hon’ble High Court while affirming the Judgment of ITAT and relying on its own Judgment in the case of Commissioner of Income Tax v Bharti Televenture [2011] 331 ITR 502 (Del)  in which it was observed that at the relevant time the assessee was found to be having an adequate non-interest bearing fund by way of share capital and reserves. Even otherwise, the advances were found to be made to the subsidiaries for business considerations which is nothing but the commercial expediency of the assessee. That being the factual position reflected from the record of the assessee, the onus that laid on it stood discharged. Accordingly, the Hon’ble High Court held in the favour of Assesee by observing that a presumption that its own funds were utilized for the advances is to be drawn, where there are mixed fund in sufficient quantity. 

Categories: Income Tax


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