Amounts diverted to funds by NABARD not taxable

DCIT Vs National Bank for Agriculture & Rural Development (ITAT Mumbai)

ITAT Mumbai held that NABARD has acted as nodal or implementing agency for the schemes framed by GOI. Hence the amounts transferred to Tribal Development Fund/Watershed Development Fund are diverted at source itself and hence not taxable in the hands of the assessee.

Facts-

The assessee claimed a sum of Rs.2872.36 crores as interest expenditure. The AO noticed that the above said amount included a sum of Rs.682.55 crores which has been credited to Tribal Development Fund (TDF) account in the liability side of the Balance Sheet, i.e., the AO noticed that the said sum of Rs.682.55 crores was not payable to any bank or any other person, but the same has been claimed as expenditure. The AO also noticed that the assessee has credited a sum of Rs.4.88 crores to another fund named “Watershed Development Fund”.

AO rejected the submissions of the assessee and took a view that entire surplus amount is income of the assessee and the amount transferred to TDF is only a provision made for the future expenses.

Accordingly, the AO held that the amount transferred to RIDF is only application of income. Accordingly, he assessed the above said sum of Rs.682.55 crores as income of the assessee. The assessee also administered another scheme named “Short term Co-operative Rural Credit fund (STCRC). The excess amount to the tune of Rs.4.88 crores was transferred from this scheme to WDF. On almost identical reasoning, the AO assessed the amount of Rs.4.88 crores as income of the assessee.

CIT(A) allowed the appeal of the assessee. Being aggrieved, revenue has preferred the present appeal.

Conclusion-

The AO has taken the view that, since the assessee did not keep the funds pertaining to TDF/WDF in separate bank accounts and used it for its own business purposes, the amount so transferred to these funds would constitute income of the assessee. We notice that the manner of keeping funds is not the criteria for determining whether there is diversion of funds by overriding title.

Held that we are of the view that the assessee has acted as nodal or implementing agency for the schemes framed by GOI. Hence the amounts transferred to TDF/WDF are diverted at source itself and hence, the same does not belong to the assessee. Accordingly, the amounts so diverted to TDF/WDF cannot be brought to tax in the hands of the assessee.

FULL TEXT OF THE ORDER OF ITAT MUMBAI

These cross appeals are directed against the order dated 26th February, 2016 passed by Ld CIT(A)-8, Mumbai and they relate to the assessment year 2010-11.

2. The assessee is a Government of India undertaking formed as an autonomous body by an Act of Parliament in 1982. It is popularly called as “NABARD”. The assessee is engaged in development of agricultural and rural development activities. It is providing and regulating credit to agricultural and rural areas, providing grants, subsidies and other facilities for the promotion and development of agriculture, small scale industries, cottage and village industries, rural infrastructure, handicrafts and other rural crafts and other allied economic activities in rural areas with a view to promote integrated rural development. The assessee filed its return of income for the year under consideration declaring a total income of Rs.1817.68 crores. The assessing officer completed the assessment determining total income of the assessee at Rs.2534.50 crores by making certain additions. The appeal filed by the assessee before Ld CIT(A) was partly allowed. Aggrieved by the order passed by Ld CIT(A), both the parties have filed these appeals on the issues decided against each of them.

3. We shall first take up the appeal filed by the revenue. The grounds of appeal urged by the assessee give rise to the following two issues:-

(a) Relief granted in respect of interest receipts of Rs.628.55 crores transferred to Tribal development fund (TDF).

(b) Relief granted in respect of interest receipt of Rs.4.88 crores transferred to Short term co-operative rural credit Fund (STCRC)/Watershed Development Fund (WDF).

4. The facts relating to both the issues are identical in nature and are being discussed in brief. The assessee claimed a sum of Rs.2872.36 crores as interest expenditure. The AO noticed that the above said amount included a sum of Rs.682.55 crores which has been credited to Tribal Development Fund (TDF) account in the liability side of the Balance Sheet, i.e., the AO noticed that the said sum of Rs.682.55 crores was not payable to any bank or any other person, but the same has been claimed as expenditure. The AO also noticed that the assessee has credited a sum of Rs.4.88 crores to another fund named “Watershed Development Fund”.

5. The contention of the assessee was that the above said amounts of Rs.682.55 crores and Rs.4.88 crores do not belong to it. The facts relating to the above said claim are stated in brief. The RBI/GOI had directed all scheduled commercial banks to lend at least 18% of net bank credit to agricultural and rural sector. In order to ensure that the banks earmark minimum amount prescribed by GOI/RBI for giving loans to agricultural and rural sector, a new scheme was announced by GOI, i.e., A fund called “Rural infrastructure development fund” (RIDF) was established by the Honourable Finance Minister of India in his Budget Speech given on 15t^h March, 1995 and it was announced that the same will be established with in NABARD for giving loans to the various State Governments and State owned corporations for quick completion of on-going process. If any of the banks does not reach the prescribed limit of 18%, then the short fall amount shall be deposited by them to RIDF announced by the Honourable Finance Minister. The maturity period of the deposit will be up to 5 years from the date of each deposit. These funds shall be used by the assessee to give advances to various State Governments and also to “National Rural Road Development Agency” (NRRDA) in order to enable them to carry out various activities in agriculture and rural development.

5.1 The assessee shall grant interest to the banks on the deposits made by it at the rate prescribed by RBI in this behalf. In turn, the assessee would collect interest from State Governments and NRRDA @ 6.50%, which rate has also been fixed by RBI/GOI. It was submitted that, out of the difference between interest received/receivable from State Governments/NRRDA and interest payable to commercial banks, the assessee is allowed to retain 0.50% as its fees for acting in this manner. The “surplus amount” in excess of the margin of 0.50% was also called as “Relative margin”. It was submitted that the assessee has been directed to credit this surplus amount/relative margin to a separate fund called “Tribal Development Fund” (TDF). It was submitted that the above said amount of Rs.682.55 crores represents the surplus amount of relative margin. It is the contention of the assessee that it does not have right over the above said surplus amount or relative margin, as the RIDF amount itself is administered by it as per the directions given by GOI/RBI. Accordingly, the assessee has transferred the surplus amount/relative margin to TDF account by debiting “interest expenses” account. In support this submission, the assessee placed its reliance on various circulars issued by RBI from time to time, which has been tabulated by AO as under in the assessment order:-

Accordingly, the assessee submitted that it has acted as a “nodal agency” or as banker to RBI for mobilizing deposits from commercial banks in respect of shortfall in priority sector lending and disbursing the same as loan to State Governments/ NRRDA. It was further submitted as under:-

“Here we would also like to clarify that the amounts lying in the “Tribal Development Fund” is not NABARD’s own money and is the money of RBI spent/require to be spent as per the directions of RBI. To substantiate the same, we invite your attention to the following:-

a. While computing the Net Worth/Net owned fund of NABARD, the funds lying in Tribal Development Fund are excluded.

b. The RBI has at times issued directions to pay back the commercial banks the interest rate differentials on RIDF deposits (i.e., interest payable to commercial banks at flat rate of 6% and not linked with the shortfall in the priority sector lending).

In view of the foregoing, it is submitted and it will be appreciated that—

–   We are merely acting as a Banker/agent of RBI/GOI for mobilization and disbursement of RIDF deposits;

– We are entitled to a margin of only 0.5% as fixed/regulated by the RBI/GOI.

–   The interest rate differential/excess or surplus funds remaining with us is not NABARD’s own money and is the money of RBI spent/required to be spent as per the directions of RBI in this regard and

– Hence, the excess/surplus funds lying with us credited to Tribal Development Fund (as per the directions of the RBI/GOI) represents funds belonging to the RBI/GOI and the same is not/cannot be treated as forming part of our income.”

With regard to the amount credited to Watershed Development Fund (WDF), it was submitted that the facts are identical in nature except that this fund is generated out of another scheme, viz., Short term Co-operative Rural Credit Funds (STCRC) announced by the Government of India. Under this scheme also, the assessee is entitled to a margin of o.50% only and the surplus amount is transferred to Watershed Development Fund.

6. The AO, however, did not accept the submissions made by the assessee. The AO took the view that the entire surplus amount is income of the assessee and the amount transferred to TDF is only a provision made for future expenses. The view taken by the AO is summarized as under by him in the assessment order:-

“7.23 On the basis of analysis in the para-7 above, the following conclusion emerges:

(a) A sum of Rs.628,55,00,785/- is neither paid nor payable to any commercial bank as interest payment, but this amount is wrongly debited to P&L account for calculation of profit from business.

(b) RBI’s direction allowed NABARD to generate income with a precondition that certain part of the income would be utilized in a manner specified by RBI. Thus, RBI had specified conditions only for application of income by NABARD.

(c) This amount has been credited to “Tribal Development Fund”, which is according to section 45 of NABARD Act. Tribal Development Fund has been established under section 45 of the NABARD Act which allows transfer of fund to the Tribal Development Fund out of annual profit of NABARD, Thus, any contribution to Tribal Development Fund from the NABARD can only be out of NABARD annual profit. Thus, contribution amounting to Rs.628,55,00,785/- can only be out of NABARD annual profit not prior to determining the annual profit.

(d) At the time of establishing Tribal Development Fund, contribution from the NABARD was made out of its post-tax profit. Therefore, assessee’s stand of debiting the P/L Account for contribution to Tribal Development Fund is incorrect.

(e) Thus, a fund of Rs 628,55,00,785/- have been transferred to Tribal Development Fund without having brought to the ambit of tax

(f) Tribal Development Fund is established & operated by NABARD, substantial portion of Tribal Development Fund was available to NABARD in its common pool of funds and these funds were utilized for NABARD for its own business purposes.

(g) As Tribal Development Fund continues to be treated as assessee’s own funds; no income/interest/service-charges have been credited to Tribal Development Fund.

(h) As per the Tribal Development Fund’ document, the ownership of Tribal Development Fund’ is vested only with NABARD and not with RBI or GOL

(i) The assessee has failed to file any clarification from RBI despite of the repeated opportunities given to them. The assessee could not file any supporting documents which can substantiate assessee’s contention that the funds transferred to Tribal Development Fund are actually the RBI’s income/RBI’s Funds and not the income of NABARD. Further, there has been no clarification from RBI or any supporting evidence from the RBI/assessee to prove that the Tribal Development Fund’ is RBI’s money which is being held by NABARD on behalf of the RBI.

(j) In the absence of any clarification/confirmation from RBI, despite of the repetitive opportunities provided to the assessee; assessee’s stand that this is not a real income of NABARD and NABARD is playing a mere a role of Trustee is considered as incorrect. The amount transferred to Tribal Development Fund’ was the real income of NABARD, application of which has taken place as per the instructions of RBI.

(k) Tribal Development Fund’ remained under effective control of NABARD and no interest has been credited on these funds. A very small amount has been utilized out of these funds for tribal development and most of the funds have been utilized for NABARD’s own income generating activities. In effect, the sum transferred to Tribal Development Fund’ is like a provision made for expenditure to be incurred for tribal development. Such provision would not be an allowable expenditure while computing the income of the assessee.

(l) The funds were transferred to TDF only after the close of the F.Y. The funds meant for TDF were effectively available with NABARD for the entire financial year and were only transferred to the TDF A/c. after the close of F.Y. as application of funds. For the entire year NABARD continued to derive benefits from this amount as the same was in its effective operational control and therefore, it requires to be treated as income of NABARD.

(m) In nutshell, RBI created a mechanism, by which NABARD is allowed to make certain income; a part of which was to be utilized for NABARD’s developmental purposes related to Tribal development. However, NABARD only utilized small portion of this income for Tribal development and remaining was utilized for NABARD’s own purposes for generating further income. In substance, the entire amount credited to Tribal development Fund is therefore income of NABARD.”

Accordingly, the AO held that the amount transferred to RIDF is only application of income. Accordingly, he assessed the above said sum of Rs.682.55 crores as income of the assessee. The assessee also administered another scheme named “Short term Co-operative Rural Credit fund (STCRC). The excess amount to the tune of Rs.4.88 crores was transferred from this scheme to WDF. On almost identical reasoning, the AO assessed the amount of Rs.4.88 crores as income of the assessee.

7. The Ld CIT(A), however, accepted the submissions of the assessee and held that the impugned amount of Rs.682.55 crores does not fall under the definition of income as per section 2(24) of the Act. He held that the margin of 0.50% retained by the assessee alone shall constitute income of the assessee. Accordingly, he deleted the addition of Rs.682.55 crores made by the assessing officer. On similar reasons, he deleted the addition of Rs.4.88 crores also. The revenue is aggrieved by this decision.

8. The Ld D.R submitted that the assessee is placing reliance on the directions given by RBI with regard to transfer of surplus funds to TDF/WDF. However, the said RBI directions only suggest the manner of utilization of surplus/relative margin and hence it cannot be considered as diversion of income by overriding title. Hence these directions will not determine or bar the taxability of the surplus or relative margin under the Income tax Act. The Ld D.R submitted that the assessee has not kept the funds transferred to TDF account in separate bank account, i.e., it has put the funds in common hotchpots and was freely using them in its regular business activities. Accordingly, the Ld D.R submitted that the assessee is the owner of the funds and is in actual control of it. Further, section 45 of NABARD Act permits the assessee to create Reserve Funds or any other fund by transferring funds from out of annual profits and also out of any other receipts like gifts, grants, donations or benefaction, which the assessee may receive. Accordingly, the Ld D.R submitted that the TDF & WDF belong to such kinds of reserve funds created by the assessee in terms of sec. 45 of NABARD Act. He submitted that the law is clear that, if there is diversion of funds by overriding title, then the same cannot be assessed as income of recipient, since the legal right over the income is diverted before it reaches the hands of the assessee. However, if the amount is given after acquiring legal right over the income, then it is a case of mere application of income and hence the said income is liable to be assessed in the hands of the assessee. He submitted that, in the present case, the assessee has merely applied or appropriated income for some future purposes and hence the AO as rightly rejected the claims of the assessee holding it as mere appropriation of income. Accordingly, the AO has rightly assessed the impugned amount of Rs.628.55 crores as income of the assessee. The Ld D.R relied upon following case laws in respect of the proposition on diversion of income by overriding title:-

(a) CIT vs. Sunil J Kinerivala (126 Taxman 161)(SC)

(b) CIT vs. Travancore Sugars & Chemicals Ltd (88 ITR 1)(SC)

(c) CIT vs. Sithaldas Tirathdas (41 ITR 367)(SC)

(d) Provat Kumar Mitter vs. CIT (41 ITR 624)(SC)

9. The Ld A.R, however, submitted that the RIDF/STCRC are schemes framed by the Government of India and it has appointed the assessee as implementing agency. He submitted that, as per the scheme, the scheduled commercial banks would deposit money with the assessee equivalent to the short fall in the priority sector lending and the said money was credited to RIDF account. The assessee is directed to lend this amount to State Governments /NRRDA for carrying out various rural development schemes. The rate of interest to be given to the banks on the deposits made by them and the rate of interest to be collected on the loan given by the assessee are fixed by GOI/RBI. Out of the net surplus between interest collected and interest paid, the assessee is allowed to retain a margin of 0.50% only and the remaining amount has been directed by GOI/RBI to be credited to TDF/WDF account. The Ld A.R further submitted that the assessee is only a nodal agency for implementing the above said scheme of Government of India. As per the directions given by GOI/RBI, it has transferred the surplus fund/relative margin to TDF account and held the said funds as trustee of GOI. Accordingly, the Ld A.R submitted that the surplus amount or relative margin cannot constitute income in the hands of the assessee. In support of these submissions, the Ld A.R invited our attention to the Budget Speech given by the Finance Minister on 15t^h March, 1995, wherein the Hon’ble Finance Minister has announced establishment of “Rural Infrastructure Development Fund” within NABARD (the assessee herein). He also invited our attention to the guideline issued by RBI with regard to establishment of TDF/WDF. He further submitted that the Department of Financial Services under Ministry of Finance, vide its letter dated 20t^h February, 2013 has clarified that the assessee is only a trustee of these funds and interest under these funds do not count as income of the assessee. The Ld A.R accordingly submitted that it is a clear case of diversion of income by overriding title. The Ld A.R placed his reliance on the following case laws:-

(a) CIT vs. New Horizon Sugar Mills (P) Ltd (2000)(244 ITR 738)(Mad), wherein the amount set apart for construction of molasses storage tank as required by Molasses Control Order, which is required to be spent as per the directions of Government was held to be excluded as there is diversion of income at source.

(b) DCIT vs. M/s National Commodity & Derivatives Exchange Ltd (ITA No.1423/Mum/2011 & others dated 09-08-2017, wherein amount transferred to “Investors Protection Fund” as per the guidelines issued by Forward Market Commission was held not to constitute income of the assessee.

(c) CIT vs. Sitaldas Tirathdas (1961)(41 ITR 367)(SC) on the principle of Diversion of income by overriding title.

The Ld A.R also invited our attention to the circular issued by RBI for crediting the surplus amount to TDF and also the directions issued on manner of utilization of amounts so credited to WDF.

10. In the rejoinder, the Ld D.R submitted that the opinion expressed an Under Secretary in Department of Financial services cannot override the provisions of the Act. Hence, his opinion that the assessee is only trustee of funds cannot bind the revenue. The Ld D.R reiterated his earlier contentions.

11. We have heard rival contentions and perused the record. We notice that the Finance Minister, in pursuance of policy of the Government of India to promote investment in agricultural sector/rural infrastructure has announced the scheme in his Speech. The relevant portion of announcement is extracted below:-

“12. Inadequacy of public investment in agriculture is today a matter of general concern. This is an area which is the responsibility of the States, but many States have neglected investment in infrastructure for agriculture. There are many rural infrastructure projects, which have started but are lying incomplete for want of resources. They represent a major loss of potential income and employment to rural population. To encourage quicker completion of projects in rural infrastructure, I propose to establish a new Rural Infrastructural Development Fund within the National Bank for Agriculture and Rural Development (NABARD) from April, 1995. The fund will provide loans to State Governments and State owned Corporations for completing ongoing projects relating to medium and minor irrigation, soil conservation, watershed management and other forms of rural infrastructure. The loans will be on a project specific basis with repayment interest guaranteed by concerned State Government. Priority will be assigned to projects which can be completed within the least time period. Resources for the Fund will come from commercial banks which will be required by Reserve Bank of India (RBI) to contribute an amount equivalent to a bank’s shortfall in achieving the priority sector target for agricultural lending, subject to a maximum of 1.5 per cent of the bank’s net credit. This is expected to create a corpus of about Rs.2,000 crore for completion of rural infrastructure projects.”

We notice that the Government of India has devised a scheme for increasing investment in Agricultural and rural infrastructure projects and accordingly, proposed to establish a new “Rural Infrastructural Development Fund” within NABARD, the assessee herein. It is also stated that the commercial banks shall contribute funds as per the directions given by RBI.

12. The Ld A.R submitted that the RBI has issued circulars in this regard from time to time. In this regard, he invited our attention to Circular No. CO. Plan 3113/04.09.49/2009-10 dated September 18, 2009. This circular lists out the rate of interest payable to banks on the deposits contributed by them and also prescribes the rate of interest payable by the State Governments/NRRDA on the loans taken by them out of this fund. Following portions of the circular are relevant here:-

“7. Further, the relative margin available to NABARD in excess of 0.5 per cent in respect of deposits placed by banks in RIDF XV and the separate window under RIDF XV for rural roads component under Bharat Nirman will be credited to the Tribal Development Fund.”

As per circular dated 30t^h April, 2021, following instructions was given by RBI:-

“2. As per the announcement made by the Finance Minister in the Budget, the State Governments will be charged interest at 10.50 percent on loans from RIDF – VII. Keeping in view the above interest rate structure, the margin available to NABARD will be in excess of the usual margin of 0.5 percent. It is suggested that the margin in excess of 0.5 percent in this case may be credited to the Watershed Development Fund.”

In Circular dated August 6, 2003, it was instructed as under:-

“6. As in the case of RIDF VIII, the relative margin available to NABARD

in excess of 0.5 per cent in respect of RIDF IX deposits will be credited to the Watershed Development Fund.”

13. We also notice that the assessee has issued guidelines in respect of Watershed Development Fund. In our view, following discussions made in the guidelines are relevant here:-

“II PROGRAM PERSPECTIVES AND APPROACH

1. Genesis

1.1 The Union Finance Minister, in his budget speech for 1999-2000 had announced the creation of a Watershed Development Fund (WDF) with the National Bank for Agriculture and Rural Development (NABARD) with broad objectives of utilization of multiplicity of watershed development programmes into a single national initiative through involvement of village level institutions and PFAs.

1.2 In pursuance thereof WDF has been created in NABARD with a contribution of Rs.100 crore each by MoA, Government of India (GOI) and NABARD.”

The Guidelines further lists out the manner of utilization of WDF. The Ld A.R submitted that similar guidelines should be available for TDF also.

14. We notice that the Government of India has devised schemes for promotion of investments in agriculture and rural development. As per the scheme the banks were directed to deposit “shortfall amounts in giving priority sector lending by banks” with the assessee herein, which in turn, would lend the said money to State Governments to carry out various schemes of agriculture and rural development. The net surplus between the interest income and interest expenditure under this scheme was directed to be appropriated as under:-

(a) The assessee herein should take 0.50% as its income.

(b) The excess amount of surplus over and above 0.50% referred above shall be transferred to TDF/WDF.

(c) The funds credited to TDF/WDF should also be used for specified purposes only.

We noticed earlier that WDF was established with the assessee and the initial corpus has been contributed by the MOA, GOI and the assessee. The objective of the schemes is promotion of investment in agriculture and rural development.

15. The AO has taken the view that, since the assessee did not keep the funds pertaining to TDF/WDF in separate bank accounts and used it for its own business purposes, the amount so transferred to these funds would constitute income of the assessee. We notice that the manner of keeping funds is not the criteria for determining whether there is diversion of funds by overriding title. The criteria stated by Hon’ble Supreme Court in the case of CIT vs. Sitaldas Tirathdas (supra) is extracted below:-

“……. In our opinion, the true test is whether the amount sought to be deducted, in truth, never reached the assessee as his income. Obligations, no doubt, there are in every case, but it is the nature of the obligation which is the decisive fact. There is a difference between an amount which a person is obliged to apply out of his income and an amount which by the nature of the obligation cannot be said to be a part of the income of the assessee. Where by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow. It is the first kind of payment which can truly be excused and not the second. The second payment is merely an obligation to pay another a portion of one’s own income, which has been received and is since applied. The first is a case in which the income never reaches the assessee, who even if he were to collect it, does so, not as part of his income, but for and on behalf of the person to whom it is payable……….. ”

16. Before us, the Ld A.R placed his reliance on certain case laws in support of his submissions that the assessee cannot be considered to be owner of the income transferred to TDF/WDF. The first case law relied upon the Ld A.R is the decision rendered by Hon’ble Madras High Court in the case of New Horizon Sugar Mills (P) Ltd. In this case, the assessee was carrying on the business of manufacture and sale of sugar. The assessee set apart certain amount for the construction of molasses storage tank. As required by Molasses Control Order, the assessee had no power to spend the amount as per its wishes, but was to be spent as per the directions of Government. Accordingly, the assessee claimed that the amount so set apart should not be treated as income. The Hon’ble Madras High Court noticed that an identical issue was adjudicated by it earlier in the case of CIT vs. Salem Co-operative Sugar Mills Ltd (1998)(229 ITR 285). The relevant discussions made by Hon’ble Madras High court are extracted below:-

“11. The Tribunal allowed the appeal. On a reference, a Division bench of this Court held that even before collection of the amount as directed by Central Government under the Molasses Control (Amendment) Order, the assessee was directed to keep this amount under a separate account under the head “Molasses storage fund”. Though the assessee collected this amount under the statutory obligation, it did not belong to the assessee, but to the molasses storage fund. The assessee could not utilize the amount in the said fund for any other purpose. The fund had to be utilized for the purpose of constructing a storage tank in accordance with the specifications given by the Central Government. If the assessee failed to collect such amount as directed by the Molasses Control (Amendment) Order, the Central Government would construct a molasses storage tank and recoup the construction charges from the assessee. Therefore, there was diversion of title at the source of the income collected under the directions given under the Molasses Control (Amendment) Order. The sum in question was not includible in the assessee’s total income.

12. In the face of the decision in the case of Salem Cooperative Sugar Mills Ltd (supra), it goes without saying that the Tribunal was right in holding that the amount set apart towards molasses storage reserve fund should be excluded from its total income as revenue expenditure. This question is, therefore, answered against the Revenue and in favour of the assessee.”

It was brought to our notice that the revenue challenged above said decision rendered by Hon’ble Madras High Court by filing appeal before Hon’ble Supreme Court. However, the appeal of the revenue has been dismissed by the Hon’ble Apex Court following the decision rendered by it in the case of CIT vs. Ambur Co-op Sugar Mills Ltd (2004)(269 ITR 398)(SC). The decision of Hon’ble Supreme Court rendered in the case of New Horizon Sugar Mills (P) Ltd has been reported in (2004)(141 taxman 254)(SC).

17. The Mumbai bench of Tribunal has examined an identical issue in the case of M/s National Commodity Derivatives Exchange Ltd (supra). The assessee herein has collected penalty amounts from its members as per the direction given by Forward Market Commission. The amount so collected as transferred to “Investors Protection Fund”. It was held by the Tribunal that the amount so collected and transferred to investor protection fund got diverted at source and consequently it cannot be assessed as the common of the above said assessee.

18. In our view, the above said cases support the claim of the assessee that the amounts transferred to these funds do not belong to it. The assessee has also submitted that the amounts available in TDF/WDF are excluded while computing Net worth/Net owned fund of the assessee. Hence, the assessee is conscious of the fact that the amounts credited to TDF/WDF do not belong to it.

20. From the facts and circumstances of the case, we notice that

(i) the Government of India has framed the scheme for promotion of investment in Agricultural and Rural sector.

(ii) The scheme has been set up within the assessee herein.

(iii) Initial corpus fund for WDF has been contributed by the assessee, MoA and GOI. The details of contribution made for TDF is not available. Contribution by MoA and GoI by way of corpus to the WDF should mean that the WDF is considered as a separate fund by the GOI within the assessee.

(iv) The GOI/RBI has devised schemes for getting funds for the WDF/TDF. The RBI has given guidelines on receipt of deposit amount from banks, interest to be given thereon, manner of advancing loans to State Governments, the interest to be collected thereon, the manner of utilization of gains arising on such activities.

(v) Most pertinent point to be noted is that the assessee is not allowed to take entire surplus as its income, i.e., the assessee was allowed to take only 0.50% as its income. The excess amount has been directed to be credited to TDF/WDF.

(vi) Guidelines have been issued on the manner of utilization of the funds so credited.

From the foregoing discussions, we are of the view that the assessee has acted as nodal or implementing agency for the schemes framed by GOI. Hence the amounts transferred to TDF/WDF are diverted at source itself and hence, the same does not belong to the assessee. Accordingly, the amounts so diverted to TDF/WDF cannot be brought to tax in the hands of the assessee. Accordingly, we affirm the order passed by Ld CIT(A) in respect of amount of Rs.628.55 crores transferred to TDF/WDF. For identical reasons, we uphold the order passed by Ld CIT(A) in respect of amount of Rs.4.88 crores transferred to WDF/STCRC fund.

21. We shall now take up the appeal filed by the assessee. Following issues arise out of the grounds urged by the assessee:-

(a) Disallowance of expenditure incurred on promotional activities.

(b) Treating the Service charges not accrued as income of the assessee.

(c) Claim for deduction of Education Cess.

22. The first issue relates to the disallowance of expenditure incurred on promotional activities. The AO noticed that the assessee has incurred expenses for promotional activities out of various funds created by it in the past for different kinds of promotional purposes. These funds were created by appropriating profits from the Profit and Loss Appropriation Account. The details of amount spent out of various funds are given below:-

The assessee has recouped these expenses by debiting the Profit and Loss account and thus claimed above expenses as deduction.

23. The assessee submitted that these expenses have been incurred to achieve the objects and purposes authorized by the Act under which the assessee was established. The AO noticed that, under the provisions of sec. 36(1)(xii), such kind of expenses are allowable as deduction only if the corporation or body corporate is notified by the Central Government in the official gazette for the purposes of this Act. Further, the AO also took the view that the expenses incurred out of funds appropriated from Profit and Loss appropriation account cannot be claimed as deduction under the Act. Accordingly, he disallowed the claim.

24. Before Ld CIT(A), the assessee submitted that it has since been notified vide CBDT Notification no.25/2014 dated 29^th April, 2014. Since the notification was not available for the year under consideration, the Ld CIT(A) confirmed the disallowance on the ground that the assessee is not a notified u/s 36(1)(xii) of the Act during the year.

25. The Ld A.R submitted that the assessee has been notified subsequently, vide Notification no.25/2014 dated 29^th April, 2014. He submitted that the provisions of sec. 36(1)(xii) requires that the assessee should be notified and it does not state that such notification should be persisting in the year in which the deduction is claimed. Accordingly, he submitted that even if the assessee is notified for the purposes of sec.36(1)(xii) subsequently, the same would comply with the requirements of that section and hence the deduction claimed by the assessee should be allowed. He reiterated that merely for the reason that the notification has been issued subsequent to the closure of the assessment year, the assessee’s claim should not be rejected. In support of this contention, the Ld A.R placed his reliance on the following decisions:-

(a) Maruti Suzuki India Ltd vs. Union of India (2017)(84 com 45(Delhi)

(b) Banco Products (India) Ltd vs. DCIT (2018)(95 com 132)(Guj).

The Ld A.R submitted that both these decisions have been rendered in the context of sec.35(2AB) of the Act. However, the ratio of the said decisions would equally apply for this issue also.

26. The Ld D.R submitted that the CBDT has issued notification recognizing the assessee from AY 2013-14 onwards only. Hence the assessee cannot be considered to be a recognized entity during the year under consideration.

27. We heard rival contentions and perused the record. We have also gone through the decision rendered in the above said two cases, which have been in the context of sec.35(2AB) of the Act. Under the provisions of sec.35(2AB), the expenditure incurred in an “in house research and development facility” as approved by the prescribed authority is granted weighted deduction. Under sec.36(1)(xii), the corporation itself should be notified for the purposes of sec.36(1)(xii) of the Act. Hence, while interpreting the provisions of sec.35(2AB) of the Act, the Honourable High Courts have held that the date of approval of scientific research facility is not relevant. On the contrary, for availing deduction u/s 36(1)(xii) of the Act, the assessee itself should have been notified by the Central Government. Hence it is a question as to whether the assessee is a notified entity or not. In our view, there is vast difference between approval of a facility and notification of the assessee itself.

28. The assessee has been notified only subsequently in April, 2014, the copy of which is placed at page 204 of the paper book. Paragraph 2 of the said notification is relevant here:-

“2. This notification shall be applicable with effect from Assessment year 2013-14 onwards, relevant to F Y 2012-13 in which the application seeking notification u/s 36(1)(xii) of the Income tax Act, 1961 was filed.”

It can be noticed that the Central Government has notified the assessee from AY 2013-14 onwards, meaning thereby, the assessee was not notified for the year under consideration. It is the contention of the assessee that the above said not notification should be read as applicable to the years prior to AY 2013­14 also. However, the CBDT, being the authority issuing notification, has itself stated that the assessee is recognized u/s 36(1)(xii) of the Act from AY 2013-14 onwards.

29. In the decisions relied on by the assessee, it was the assessing officer, who had disallowed the claim for non-approval of scientific research facility. Hence it was a question of interpretation of the provisions of sec.35(2AB) of the Act. That is the not the case here. When the notifying authority itself has mentioned that the assessee is being notified from AY 2013-14 onwards, we are of the view that the assessee cannot be deemed to have been notified in the year under consideration, being AY 2010-11. Accordingly, we confirm the disallowance made by the AO.

30. In view of the discussions made by us while adjudicating the issues urged by the revenue, one more fact has come to our notice, though the same has not been examined by the AO. From the list of expenses incurred from various funds, we notice that the assessee has spent a sum of Rs.44.70 crores out Watershed Development Fund. In the preceding paragraphs, we have held that the amounts transferred to Watershed Development Fund (WDF) is a case of diversion of income by overriding title. We have also held that the assessee is not the owner of funds so transferred WDF. If the above said amount of Rs.44.70 crores have been spent out of the funds so transferred to WDF as per the directions issued by GOI/RBI, the assessee could not claim such expenditure incurred out of WDF, held as not belonging to assessee, as deduction.

31. The next issue relates to the assessment of service charges on accrual basis. The assessee has been following accounting policy of accounting “Service charges on loans out of Micro Finance Development and Equity Fund, Watershed Development Fund” on receipt basis. The AO called for the details of “Service charges accrued but not received”, which amounted to Rs.4,92,922/-. The AO assessed the same as income of the assessee. The Ld CIT(A) confirmed the same, but directed the AO to exclude the service charges, which have been offered to tax on “receipt basis” in order to avoid double taxation of same income.

32. We heard the parties on this issue. The ld A.R submitted that the total income declared by the assessee for this year was Rs.1817.68 crores. Further, the assessee has been following the accounting policy of offering service charges on receipt basis. He submitted that this accounting policy is being followed on the basis of past experiences on account of uncertainty of recovery of service charges. Considering the amount of total income offered by the assessee and consistent accounting policy followed by the assessee, the Ld A.R prayed for the deletion of this addition. The Ld D.R, on the contrary, supported the order passed by Ld CIT(A).

33. There is no dispute with regard to the fact that the assessee has been following consistent accounting policy to recognize income by way of Service charges on receipt basis. The assessee submitted that there was uncertainty in recovering service charges. There should not be any dispute that an income can be recognized under mercantile system of accounting also, only if there is certainty of its recovery. Considering the past consistent practice followed by the assessee, we are of the view that this addition is not justified. Accordingly, we set aside the order passed by Ld CIT(A) on this issue and direct the AO to delete this addition.

34. The last issue urged by the assessee relates to the claim for deduction of Education cess as allowable expenditure. In view of the retrospective amendment brought in by Finance Act, 2022 in the Income tax Act, the claim of the assessee is not allowable. Accordingly, we reject the same.

35. In the result, the appeal of the revenue is dismissed and the appeal of the assessee is partly allowed.

Order pronounced in the open court on 24.08.2022.