When a case is selected for ‘limited scrutiny’ to verify the disallowance made u/s 14A of the Act and AO makes disallowance u/s 14A in the assessment order passed u/s 143 of the Act then the CIT(A) cannot travel beyond the issue selected under ‘limited scrutiny’ and makes disallowance u/s 36(1)(iii) of the Act while deleting disallowance u/s 14A.
FULL TEXT OF THE ORDER OF ITAT MUMBAI
This appeal by the assessee is directed against the order of Commissioner of Income Tax (Appeals)-20, Mumbai [in short ‘the CIT(A)’] dated 20/06/2016 for the assessment year 2016-17.
2. The assessee has assailed the order of CIT(A) by raising following grounds in appeal:
“1. The Commissioner of Income Tax (Appeals) – 20, Mumbai [hereinafter referred to as CIT(A)] erred in not adjudicating the disallowance of Rs. 5,87,421/- made u/s 14A of the Income Tax Act, 1961 (Act) r.w. Rule 8D(2)(iii) of the Income Tax Rules, 1962 (Rules).
2. (a) The CIT(A) erred in bringing new source of income by disallowing Rs. 17,34,520/-under section 36(l)(iii) of the Act.
(b) The CIT(A) erred in holding that the Appellant failed to point out any error in the working of above interest disallowed.”
3. Shri Ravikant Pathak appearing on behalf of the assessee submitted that while making disallowance under section 14A of the Income Tax Act, 1961 (in short ‘the Act’) r.w. Rule 8D(2) made disallowance of interest expenditure Rs.31,95,254/- and disallowance on average value of investments Rs.5,87,421/-. The assessee in appeal before the CIT(A) inter alia assailed disallowance made by the Assessing Officer u/s.14A r.w.r.8D(2) of the Act. The CIT(A) directed the Assessing Officer to delete disallowance of interest made under Rule 8D(2)(ii). However, the CIT(A) did not give any finding on disallowance made under Rule 8D(2)(iii). The Assessing Officer erred in computing disallowance on entire investments of the assessee, irrespective of the fact whether the investments have yielded any tax free income or not. The issue raised by the assessee in ground No.1 is squarely covered by the decision of the Special Bench in the case of ACIT vs. Vireet Investments Pvt. Ltd., 58 ITR (Trib.) 313 (Del).
4. The ld. Authorized Representative for the assessee submitted that in ground No.2 of appeal, the assessee has assailed enhancement made by CIT(A) on new source of income. The ld. Authorised Representative for the assessee made two fold submissions. The first contention of the ld. Authorised Representative is that the CIT(A) after deleting disallowance of interest expenditure under Rule 8D(2)(ii) invoked the provisions of section 36(1)(iii) of the Act. It was a case of limited scrutiny to examine disallowance of interest expenditure u/s.14A of the Act, therefore, the CIT(A) could not have made disallowance u/s. 36(1)(iii) which was not subject of limited scrutiny. The second contention of the ld. Authorized Representative for the assessee is that the CIT(A) has no jurisdiction to enhance taxable income by discovering a new source of income. The Assessing officer in limited scrutiny assessment proceedings made addition/disallowance only under section 14A of the Act. The CIT(A) could not have enhanced taxable income of the assessee by making disallowance/addition from a source other than what was the subject matter of assessment. The ld. Authorized Representative for the assessee to support his contentions placed reliance on following decisions:
i. CIT vs. Rai Bahadur Hardutroy Motilal Chamaria, 66 ITR 443(SC);
ii. Lokenath Tolaram vs. CIT, 161 ITR 82 (Bom.); and
Without prejudice to the primary contentions made in respect of ground no.2, the ld. Authorized Representative for the assessee submitted that if at all disallowance under section 36(1)(iii) of the Act is to be made, it should be on the correct amount. The ld. Authorized Representative for the assessee referred to computation at page-25 of the Paper Book.
5. On the other hand, Ms. Smita Verma representing the Department vehemently defended the impugned order. The ld. Departmental Representative (DR) submitted that the Assessing Officer has made disallowance under section 14A r.w. Rule 8D in accordance with the provisions of the Act. As regards enhancement made by CIT(A) invoking provisions of section 36(1)(iii) of the Act, the ld. Departmental Representative submitted that the CIT(A) has not made disallowance on new source of income. The assessee in appeal had raised the issue of disallowance of interest u/s.14A made by the Assessing Officer. Therefore, the enhancement made by CIT(A) on the issue of interest expenditure is in accordance with law. The ld. DR contended that without prejudice to the first argument, the CIT(A) has inherent power u/s.251 of the Act to enhance an assessment. To support her submissions, the ld. DR placed reliance on following decisions:
i. Jute Corporation of India Ltd. vs. CIT, 1991 com 30 (SC);
ii. HDFC Bank Ltd. vs. DCIT, 383 ITR 529 (Bom.);
iii. S D Traders vs. CIT, 111 com 93 (All.);
iv. Gurinder Mohan Singh Nindrajog vs. CIT 18 com 176 (Del.); and
6. Submissions made by rival sides heard, orders of authorities below examined and the decisions on which respective sides have placed reliance considered. In ground No.1 of appeal, the limited prayer of the assessee is that while computing disallowance under Rule 8D(2)(iii) only those investments should be considered on which the assessee has earned exempt income. The Assessing Officer while computing disallowance u/s. 14A rwr 8D(2)(iii) has included all investments without considering whether the assessee has earned any interest income on the investments or not. The CIT(A) while adjudicating ground No.2 raised in First Appellate proceedings has overlooked the contentions of the assessee on this aspect. The Special Bench of Tribunal in the case of Vireet Investments Pvt. Ltd. (supra) has held that only those investments that yield exempt income during the year are to be considered for computing average value of investments. I find merit in ground No.1 of the appeal raised by the assessee. The Assessing Officer is directed to re-compute disallowance under section 14A r.w. Rule 8D(2)(iii) only on those investments on which the assessee has earned exempt income during the relevant period. The Ground No.1 of appeal is allowed, accordingly.
7. In ground No.2 of appeal, the assessee has assailed enhancement made by the CIT(A) by disallowing interest expenditure under section 36(1)(iii) of the Act. A perusal of the assessment order shows that the case of the assessee was selected under ‘limited scrutiny’ category on the basis of ITS information to examine interest expenses relatable to exempt income under section 14A of the Act. The Assessing Officer during assessment proceedings made limited enquiries in line with the mandate of ‘limited scrutiny’ and made addition accordingly. In First Appellate proceedings, the CIT(A) made disallowance of interest expenditure Rs.17,34,520/-under section 36(1)(iii) of the Act. The contention of the assessee is that the CIT(A) has enhanced assessment by invoking provisions of section 36(1)(iii) of the Act, not covered by ‘limited scrutiny’.
8. The provisions of Section 251(1)(a) of the Act empowers the CIT(A) in first appellate proceedings to confirm, reduce, enhance or annul the assessment or set aside the assessment and refer the case back to the Assessing Officer for making a fresh assessment. The Hon’ble Apex Court in the case of Jute Corporation of India Ltd. vs. CIT, [supra] has held:
“5. ……. The declaration of law is clear that the power of the AAC is co-terminous with that of the ITO, if that be so, there appears to be no reason as to why the appellate authority cannot modify the assessment order on an additional ground even if not raised before the ITO. No exception could be taken to this view as the Act does not place any restriction or limitation on the exercise of appellate power. Even otherwise an appellate authority while hearing appeal against the order of a subordinate authority has all the powers which the original authority may have in deciding the question before it subject to the restrictions or limitations, if any, prescribed by the statutory provisions. In the absence of any statutory provision the appellate authority is vested with all the plenary powers which the subordinate authority may have in the matter.”
The Hon’ble Supreme Court of India, thus, in an unambiguous manner held that the powers of CIT(A) are coterminous with that of the Assessing Officer. In other words, what an Assessing Officer can do, a CIT(A) can do and the same applies in the reverse i.e. what an Assessing Officer cannot do, a CIT(A) cannot do. The First Appellate authority has power to enhance assessment u/s 251 of the Act, but such powers of enhancement are not unfettered.
9. In cases selected under ‘limited scrutiny’, the Assessing Officer cannot exceed the latitude of limited scrutiny unless the scope of scrutiny is expanded or the case is converted from ‘limited scrutiny’ to ‘complete scrutiny’ with the approval of authority, as specified by the CBDT in Instructions No.5 of 2016 dated 14/7/2016. The said Instructions in an explicit manner states that in assessment proceedings the Assessing officer shall confine his enquiries/investigations etc. only to the issue selected under ‘Limited Scrutiny’. It is only after conversion of case to complete scrutiny by following the due procedure, the Assessing Officer can travel beyond the scope of limited scrutiny. The same restrictions apply to the CIT(A) in respect of cases falling under ‘limited scrutiny category’. If the CIT(A) is allowed to make addition on any issue not covered under limited scrutiny, the very purpose of selecting the case under ‘limited scrutiny category’ will be defeated. In the present case, no document has been furnished by the Department/respondent to show that ‘limited security’ was converted to ‘complete scrutiny’. Ergo, the CIT(A) overstepped his jurisdiction in invoking the provisions of section 36(1)(iii) of the Act for making disallowance in First Appellate proceedings in a case selected for ‘limited scrutiny’ to examine disallowance of interest expenditure u/s 14A of the Act.
10. In the case of Amit Kumar Dey vs. DCIT in ITA No. 5526/Del/2018 for AY 201516 decided on 30/3/2021, the case was selected for limited scrutiny, the Assessing Officer completed the assessment by making enquiries etc. only on the issue covered by limited scrutiny, in First Appellate proceedings the CIT(A) made addition/adjustment on issue other than covered by limited scrutiny and at no point of time limited scrutiny was converted into complete scrutiny, the Division Bench of Tribunal after referring to CBDT Instructions (supra) held as under:
“10. Now we come to the issue of the enhancement made by the CIT (Appeals). Firstly, on perusal of the above facts, we hold that when the case of the assessee was selected for limited scrutiny, the ld. CIT (Appeals) can make enhancement only with the aspect of issues that were part of the limited scrutiny. Otherwise, it may happen that the ld. Assessing Officer may pass an order on the issues related to limited scrutiny and the ld. CIT (Appeals) may enhance the income of the assessee on issues other than limited scrutiny issues. This will amount to bypassing the above quoted instructions of the CBDT. It also shows that if that happens then without obtaining the approval of Commissioner of Income Tax and CCIT, the whole assessment of the assessee remains open, despite the fact that the learned assessing officer has looked into the issues contained in the limited scrutiny notice. We do not find such an intention of the CBDT in issuing the instructions of limited scrutiny case. On this score, we do not approve the enhancement made by the ld. CIT (Appeals) on issues, which were not part of limited scrutiny.”
Thus, from the above decision it is evident that the CIT(A) in the case of limited scrutiny assessments cannot travel beyond the issue, selected under ‘limited scrutiny’.
11. The argument of Revenue is that the CIT(A) has not enhanced assessment on a new source. The disallowance of interest expenditure was subject matter of dispute at assessment stage albite under section 14A of the Act. Reference was made to the decisions rendered in the case of HDFC Bank Ltd. (supra) to draw parity between Section 14A and Section 36(1)(iii) of the Act, for disallowance of interest expenditure. The ld. DR placed reliance on the case of HDFC Bank Ltd. wherein disallowance of interest expenditure u/s. 14A r.w.r. 8D(ii) was deleted by applying the same principle as was laid down in the case of Reliance Utilities & power Ltd. (supra) for deleting disallowance of interest expenditure u/s. 36(1)(iii) of the Act.
I have given a thoughtful consideration to the analogy drawn by the ld. DR to support the impugned order. In my considered view, the argument made by ld. DR is not sustainable. The Hon’ble High Court has not drawn any parity between the two sections. The only principle that has been borrowed from the case of Reliance Utilities & power Ltd. and applied in the case of HDFC Bank Ltd. is that where the assessee is having mixed bag of funds comprising of interest bearing funds and own interest free funds and where own funds and other non-interest bearing funds were more than the investment in the tax-free securities, the presumption would be that the investments made by the Assessee would be out of the interest-free funds available with the Assessee. Apart from above principle, there is nothing common in section 14A and section 36(1)(iii) of the Act. Both these sections operate in different situations and circumstances. These sections cannot be interchangeable applied or are substitute for each other. Therefore, the analogy drawn by the ld. DR is untenable, hence, rejected. The other case laws relied by the ld. DR are distinguishable on facts and hence, does not support the cause of Revenue.
12. Taking into consideration the facts of the case and the decisions discussed above, I find that the CIT(A) has travelled beyond his jurisdiction to make disallowance on an issue not covered by ‘limited scrutiny’. Thus, the impugned order is liable to be set aside. I hold and direct, accordingly. The assessee succeeds on ground No.2 of the appeal.
13. In the result, appeal of the assessee is allowed.
Order pronounced in the open Court on Friday the 02nd day of July, 2021.