Application of provision of section 14A r.w. Rule 8D without recording satisfaction cannot be upheld

Issue before Court:

Whether CIT(A) was right in confirming the disallowance of Rs.39,40,500/- made by AO under Section 14A read with Rule 8D(2)(iii) of the Income Tax Rules without recording any satisfaction to the effect that the disallowance u/s 14A as computed by appellant was incorrect.

Brief Facts:

• Assessee-company provides custodial & depository services to institutional investors, mutual funds and retail investors. Assessee filed its ROI at Rs. 85,72,598/-. Assesee showed book profit of 82,71,41,992/- under section 115JB of the Act.
• During the year under consideration assessee earned dividend income of Rs. 7,81,80,792/-, which it claimed as exempt income under section 10(34) of the Act and claimed deduction of Rs.19,72,280/- under section 14A of the Act.
• AO without recording any satisfaction that disallowance u/s 14 A as computed by appellant was incorrect made addition of Rs. 39,40,500/-.
• On appeal CIT (A) confirmed the order passed by the AO without looking into the legal aspect the case.

Contention of the revenue:

• The claim of deduction under section 14A was not as per Rule 8D of the Income Tax Rules.
• where the assessee had not applied provisions of Rule 8D and in view of the ratio laid down by the Hon’ble Bombay High Court in the case of M/s. Godrej & Boyce Mfg. Co. Ltd. vs. DCIT reported in (2010) 328 ITR 81 (Bom.) provisions of Rule 8D are applicable from assessment year 2008-09 onwards. Therefore, the attributable expenditure for earning exempt income had to be computed as per the procedure mentioned in the said rules.

Contention of the assessee:

• The AO has not recorded any satisfaction as to why the disallowance made by the assessee under the said provisions should not be accepted.
• Assessee was maintaining separate treasury department and the percentage of tax free income was 28% as against the percentage of taxable income which was 72% and hence the percentage of 28% was applied to the total expenses incurred by the assessee, in order to compute the disallowance under Rule 8D of the I.T. Rules.
• Section 14A lays down additional jurisdiction upon the AO and where he does not record satisfaction then the disallowance worked out by the AO under section 14A of the Act needs to be cancelled. In this regard the learned A.R. for the assessee relied upon the observation of the Hon’ble High Court in the case of Godrej & Boyce Mfg. Co. Ltd. (Supra) and further reliance was placed upon the ratio laid down by the Hon’ble Delhi High Court in the case Maxopp Investment Ltd. vs. CIT reported in (2012) 347 ITR 272 (Delhi) and CIT vs. Taikisha Engineering India Ltd. reported in (2015) 370 ITR 338 (Delhi).
• In the preceding years ITAT did not accept the contention of the assessee that AO did not record satisfaction for disallowance u/s 14 A.

Held by the tribunal:

• The AO has to first record his satisfaction that the claim of the assessee in respect of the expenditure relatable to exempt income is not correct and after recording such satisfaction the AO is to determine the amount of expenditure which is to be excluded while assessing the income in the hands of the assessee, which is exempt from the provisions of the Act. Such non-fulfillment of recording satisfaction in turn is held to vitiate the order of the AO in disallowing expenditure under the provisions of section 14A of the Act.
• The Hon’ble Bombay High Court in Godrej & Boyce Mfg. Co. Ltd. (supra) and The Hon’ble Delhi High Court in the case Taikisha Engineering India Ltd. and Maxopp Investment Ltd. held that before applying the provisions of Rule 8D of the I.T. Rules, the AO was duty bound to record his dissatisfaction that the working of the disallowance made by the assessee under section 14A of the Act was incorrect.
• A perusal of the assessment order reflects that no such dissatisfaction was recorded by the AO and in view thereof the provisions of section 14A(2) of the Act had not been applied and accordingly we find no merit in the disallowance made by the AO under section 14A(2) of the Act read with Rule 8D without recording dissatisfaction that the working made by the assessee vis-à-vis the expenditure which is to be disallowed under section 14A of the Act was incorrect.

Conclusion:

It is a trite law as per provision of section and various judicial pronouncement that AO must record satisfaction regarding to non-correctness of the claim of the assessee u/s 14 A. He must ensure that there is an error in calculation of expenditure relating to the income which relates to the exempted income.