NM Agro Food Products Pvt. Ltd. Vs ACIT (ITAT Jaipur)
Own Funds, Own Choice: ITAT Rejects Interest Disallowance and Notional Loan Benchmarking
Substantial Relief on Three Disputed Adjustments
The Jaipur Tribunal granted substantial relief to an agricultural commodities trading company by deleting a transfer pricing adjustment of ₹3,64,380, an interest disallowance of ₹2,20,086 under Section 14A, and a disallowance of ₹24,73,296 under Section 36(1)(iii). However, it sustained ₹72,277 towards expenditure relating to exempt income, making the appeal partly allowed.
The company had filed its return declaring income of ₹50,31,660. The assessment included several additions, of which three remained disputed before the Tribunal. The decision addresses both the proper benchmarking of related-party borrowings and the presumption applicable when interest-free own funds exceed investments and advances.
An Alleged Agreement Cannot Close the Appellate Door
The first dispute concerned interest paid on unsecured loans from related parties. The Transfer Pricing Officer adopted the State Bank of India’s average prime lending rate of 9.83%, added 300 basis points, and arrived at an arm’s length rate of 12.83%. Interest exceeding that rate was adjusted.
The CIT(A) declined to examine the merits because the assessment order stated that the assessee had agreed to the addition.
The Tribunal found that neither the relevant note sheet nor any written concession was before it. The assessee had contested the rate before the TPO and promptly appealed against the assessment.
More fundamentally, Section 92CA(4) required the AO to compute income in conformity with the TPO’s determination. An alleged consent in those circumstances could not foreclose the assessee’s statutory right to challenge the underlying determination in appeal.
CUP Requires an Uncontrolled Transaction
On merits, the Tribunal held that the Comparable Uncontrolled Price method requires identification of an actual comparable uncontrolled transaction, with adjustments for material differences.
The TPO’s bank rate plus a risk premium was an estimate, rather than the price of an identified transaction. His reliance on interest paid to other related parties at 6% and 12% as an “internal CUP” was also misplaced: a controlled transaction cannot serve as an uncontrolled comparable.
The assessee’s own borrowings provided more relevant evidence. Its secured Axis Bank loan carried interest of 13.10%, while unsecured loans from 15 unrelated lenders carried rates of 15% or 18%.
Against these facts, the disputed related-party rates of 13.25% and 15% were not excessive. The Tribunal therefore deleted the ₹3,64,380 adjustment.
Sufficient Own Funds Defeat Proportionate Interest Disallowance
Under Section 14A, the AO had disallowed ₹2,20,086 towards interest and ₹72,277 towards other expenditure. The CIT(A) upheld the interest component because the company had not produced a specific fund-flow or cash-flow statement.
The company’s shareholders’ funds stood at ₹8.35 crore at the beginning of the year and ₹8.87 crore at year-end, against average investments of approximately ₹1.45 crore. Its own funds were therefore more than five times the investments.
Following South Indian Bank Ltd. v. CIT [2021] 438 ITR 1 (SC) and CIT v. UTI Bank Ltd. [2022] 142 taxmann.com 136 (SC), the Tribunal applied the presumption that investments from mixed funds were made out of available interest-free funds.
The Revenue had produced nothing to rebut that presumption. Insistence on a separate cash-flow statement was contrary to the principles recognised in those decisions. The interest disallowance was deleted.
Administrative Expenditure Survived
The Tribunal separately sustained ₹72,277 under Rule 8D(2)(iii).
The company had earned exempt agricultural income of ₹80,000, agricultural land formed part of the investments considered, and the AO had recorded dissatisfaction with the claim after examining the accounts. The assessee had also alternatively submitted that the disallowance could be restricted to ₹72,277.
Thus, sufficient own funds protected the interest component, but did not eliminate the separate expenditure disallowance.
Interest-Free Advances Require Evidence of Borrowed-Fund Diversion
The AO had also disallowed ₹24,73,296 under Section 36(1)(iii) because the company gave interest-free advances aggregating to approximately ₹3.11 crore.
The Tribunal observed that own funds exceeded those advances substantially. The AO identified no particular borrowing diverted to the advances. Further, his computation—12% of a stated total-interest figure—bore no relationship to the advances or any identified borrowing.
Following CIT v. Reliance Industries Ltd. [2019] 410 ITR 466 (SC) and Hero Cycles (P.) Ltd. v. CIT [2015] 379 ITR 347 (SC), the Tribunal deleted the disallowance.
It distinguished S.A. Builders Ltd. v. CIT (Appeals) [2007] 288 ITR 1 (SC) because borrowed-fund nexus was established there. In the present facts, commercial expediency could not substitute for first establishing diversion of borrowed funds.
Author’s Comments
The ruling offers a practical defence against interest disallowances based merely on the absence of a fund-flow statement or linking chart. Demonstrably sufficient own funds attract a presumption that the Revenue must rebut with evidence.
It also reinforces that transfer pricing requires credible comparables, rather than an unsupported benchmark constructed from a bank rate and an estimated premium.
Practitioners should nevertheless distinguish the components carefully. The own-funds presumption protects interest deductions; it does not automatically extinguish expenditure attributable to exempt income. Equally, actual evidence tracing borrowed funds to non-business advances may materially change the result.
Cases Discussed
- South Indian Bank Ltd. v. CIT (Supreme Court); [2021] 438 ITR 1 (SC) — followed for the presumption that where mixed funds exist and sufficient interest-free own funds exceed investments, investments are presumed to have been made from interest-free funds.
- CIT v. UTI Bank Ltd. (Supreme Court); [2022] 142 taxmann.com 136 (SC) — followed on the principle governing Section 14A interest disallowance where sufficient interest-free own funds are available.
- CIT v. Reliance Industries Ltd. (Supreme Court); [2019] 410 ITR 466 (SC) — followed for the presumption that investments or advances are made from available interest-free funds where such funds are sufficient.
- Hero Cycles (P.) Ltd. v. CIT (Supreme Court); [2015] 379 ITR 347 (SC) — relied upon in relation to Section 36(1)(iii) and sufficiency of own funds.
- S.A. Builders Ltd. v. CIT (Appeals) (Supreme Court); [2007] 288 ITR 1 (SC) — distinguished because the advances in that case had been made from an overdrawn cash-credit account and nexus with borrowed funds stood established.
FULL TEXT OF THE ORDER OF ITAT JAIPUR
1. This appeal by the Assessee is directed against the order of the learned Commissioner of Income Tax (Appeals) [hereinafter referred to as “the learned CIT(A)”], Jaipur-4, dated 26.09.2025 passed under section 250 of the Income Tax Act, 1961 (hereinafter referred to as “the Act”), arising out of the assessment order dated 29.12.2017 passed by the Assessing Officer (hereinafter referred to as “the AO”) under section 143(3) of the Act for the assessment year 2014-15.
2. The grounds of appeal raised by the Assessee before us in the memorandum of appeal in Form No. 36 read as under:
“1. The Ld. CIT(A) has erred on facts and in law in confirming the disallowance of Rs.3,64,380/- in respect of interest paid to related party by stating that it is above the Arm Length Price and also mentioning that the addition is agreed upon by the appellant.
2. The Ld. CIT(A) has erred on facts and in law in confirming the disallowance of Rs.2,92,363/- u/s 14A of the Act w.r.t interest of Rs.2,20,086/- and expenses of Rs.72,277/- by holding that there is lack of evidence/data to prove that the interest free funds were utilized for making investment in agricultural land & equity shares and no specific cash flow statement in this regard has been submitted by the appellant.
3. The Ld. CIT(A) has erred on facts and in law in confirming the disallowance of interest expenses of Rs.24,73,296/- u/s 36(1)(iii) by holding that neither during the course of assessment proceeding nor during the appellate proceeding the assessee has filed linking chart of advance given with the interest free funds.
4. The appellant craves to alter, amend & modify any ground of appeal.
5. Necessary cost be awarded to the assessee.”
3. Briefly stated, the facts of the case are that the Assessee, a private limited company trading in agricultural commodities at Sri Ganganagar, filed its return of income on 30.11.2014 declaring a total income of Rs 50,31,660. The AO completed the assessment under section 143(3) of the Act at a total income of Rs 82,62,500, besides agricultural income of Rs 80,000, by making four additions, namely,
(i) a transfer pricing adjustment of Rs 3,64,380 in respect of interest paid to related parties, based on the order of the Transfer Pricing Officer (hereinafter referred to as “the TPO”) dated 30.06.2017 under section 92CA(3) of the Act,
(ii) a disallowance of Rs 2,92,363 under section 14A of the Act read with rule 8D of the Income Tax Rules, 1962 (hereinafter referred to as “the Rules”),
(iii) a disallowance of interest of Rs 24,73,296 under section 36(1)(iii) of the Act, and
(iv) a disallowance of Rs 1,00,800 under section 24 of the Act.
The learned CIT(A) deleted the last of these and confirmed the other three. The three additions confirmed are before us in the present appeal.
4. Ground No. 1 relates to the transfer pricing adjustment of Rs 3,64,380. During the year the Assessee paid interest on unsecured loans from four related parties, namely, Manoj Traders at 6 per cent, N.M. Exports at 12 per cent, Nand Lal Naresh Kumar at 13.25 per cent (Rs 1,14,17,460) and Nirmal Kumar Bansal at 15 per cent (Rs 17,060). The TPO adopted the average prime lending rate of the State Bank of India for the year of 9.83 per cent, added 300 basis points for the unsecured nature of the loans and risk, and held the arm’s length rate to be 12.83 per cent. The Assessee’s reply that unsecured loans from the market carried interest of 15 per cent to 18 per cent and could not be compared with a bank rate was rejected. The TPO observed at paragraphs 5.6 and 5.7 of his order:
“5.6 The assessee has claimed that interest was paid on market loans ranging from 15% to 18% but failed to demonstrate the same. But it is seen that the assessee has paid interest to related parties @6% namely to Manoj Traders and @12% to M/s N.M. Exports. Therefore, even internal CUP was available to the assessee.
5.7 On the basis of these facts it is held that the interest paid to the related parties was not held at Arm’s Length Price. The assessee has paid interest in excess of market rate. For benchmarking this transaction CUP has been applied. …”
The excess over 12.83 per cent was computed at Rs 3,61,912 in the case of Nand Lal Naresh Kumar and Rs 2,468 in the case of Nirmal Kumar Bansal. All other specified domestic transactions of the Assessee, including the interest at 6 per cent and 12 per cent and the purchases from related parties, were accepted at arm’s length (paragraph 7 of the TPO’s order). The AO recorded at paragraph 3 of the assessment order that a show cause was issued by a note sheet entry dated 29.11.2017 “to ensure the addition of Rs. 3,64,380/- as determined in the above order” and that “the assessee agreed on this determination”. The learned CIT(A) held at paragraph 4.2 of the impugned order that “since, this is an agreed addition by the appellant, hence the appeal against this addition is infructuous”, and did not examine the Assessee’s submissions that its secured loan from Axis Bank carried interest at 13.10 per cent and that fifteen unrelated lenders had been paid interest at 15 per cent or 18 per cent during the year.
5. The learned Authorised Representative (hereinafter referred to as “the learned AR”) submitted that the Assessee had contested the arm’s length rate in writing before the TPO and never conceded it; that the note sheet entry was not confronted to the Assessee; and that the AO was in any case bound to compute the income in conformity with the order of the TPO, so that the alleged agreement was of no consequence. On merits, he submitted that the TPO had constructed a notional rate instead of identifying a comparable uncontrolled transaction, that the rates paid to other related parties could not serve as an internal comparable, and that the Assessee’s own uncontrolled borrowings showed that 13.25 per cent and 15 per cent were within the arm’s length range. The learned Departmental Representative (hereinafter referred to as “the learned DR”) supported the orders of the authorities below and submitted that the Assessee, having agreed to the addition, could not be aggrieved by it, and that the TPO had reasonably allowed a premium of 300 basis points over the bank rate.
6. We have heard the rival contentions and perused the material on record. The only material for the finding that the addition was agreed is the sentence in the assessment order referring to the note sheet entry dated 29.11.2017. The note sheet is not before us and no written concession has been placed on record. The Assessee had contested the rate before the TPO (paragraph 5.3 of the TPO’s order) and filed its first appeal on 23.01.2018, within a month of the assessment, disputing this very addition. More importantly, under section 92CA(4) of the Act the AO “shall proceed to compute the total income of the assessee under sub-section (4) of section 92C in conformity with the arm’s length price as so determined by the Transfer Pricing Officer”. The AO had no discretion in the matter and the show cause was issued, in his own words, “to ensure the addition”. A consent recorded in such circumstances was neither necessary for the addition nor capable of altering it, and cannot foreclose the statutory right of the Assessee to question in appeal the determination on which the addition rests. The learned CIT(A) erred in treating the ground as infructuous. Since the facts are on record, we decide the ground on merits.
7. The comparable uncontrolled price method under rule 10B(1)(a) of the Rules requires the price charged in a comparable uncontrolled transaction to be identified and adjusted for material differences. The TPO identified no uncontrolled transaction. A prime lending rate is the rate at which a bank lends to its most creditworthy borrowers on secured terms; the addition of 300 basis points to it is an estimate, not the price of any transaction. The reliance at paragraph 5.6 on the interest paid to Manoj Traders and N.M. Exports as an “internal CUP” is misplaced, since those payments were themselves specified domestic transactions with related parties and a controlled transaction cannot serve as a comparable uncontrolled transaction. On the other hand, the record contains uncontrolled borrowings of the Assessee itself in the same year: a secured loan from Axis Bank at 13.10 per cent, stated before the TPO and the learned CIT(A) and not controverted by the authorities below, and unsecured loans from fifteen unrelated lenders at 15 per cent or 18 per cent, tabulated at pages 5 and 6 of the impugned order. The TPO’s remark that the Assessee “failed to demonstrate” these rates preceded the furnishing of these details, and the learned CIT(A) did not examine them. Measured against these, interest of 13.25 per cent on an unsecured loan is marginally above the secured bank rate, and 15 per cent is at the lower end of the range paid to unrelated lenders on unsecured loans. We therefore hold that the interest paid to the two related parties did not exceed the arm’s length price. The AO is directed to delete the addition of Rs 3,64,380. Ground No. 1 is allowed.
8. Ground No. 2 relates to the disallowance of Rs 2,92,363 under section 14A of the Act. The AO noted that the Assessee held investments in equity shares of private companies and in agricultural land. Rejecting the Assessee’s reply dated 04.12.2017 that its interest income exceeded its interest expenditure and that its shareholders’ funds far exceeded the investments, the AO recorded at paragraph 4.3 of the assessment order that, having regard to the accounts of the Assessee, he was not satisfied with the correctness of its claim, and computed the disallowance under rule 8D(2) of the Rules at Rs 2,20,086 under clause (ii) [interest of Rs 1,46,28,527 apportioned in the ratio of average investments of Rs 1,44,55,498 to average total assets of Rs 96,08,17,751] and Rs 72,277 under clause (iii). Against the interest figure the AO himself noted that “interest is being received in excess of payment”. The learned CIT(A) sustained the disallowance at paragraph 5.2 of the impugned order on the ground that the Assessee “has not given any evidence of the fund flow and the utilization of the interest paid and interest free capital” and that “no specific cash flow statement in this regard has been submitted”.
9. The learned AR submitted that the audited balance sheet shows shareholders’ funds of Rs 8,35,18,454 as on 01.04.2013 and Rs 8,87,23,804 as on 31.03.2014 against average investments of Rs 1,44,55,498, so that the investments are presumed to have been made out of own funds and no interest can be disallowed. He relied on CIT v. UTI Bank Ltd. [2022] 142 taxmann.com 136 (SC), which followed South Indian Bank Ltd. v. CIT [2021] 438 ITR 1 (SC), and on CIT v. Reliance Industries Ltd. [2019] 410 ITR 466 (SC). In the alternative, he submitted that the only exempt income earned was agricultural income of Rs 80,000 and that the disallowance could at the most be restricted to Rs 72,277. The learned DR supported the orders of the authorities below.
10. We have considered the rival submissions. The figures are not in dispute. The own funds of the Assessee were more than five times the average investments, and the interest received exceeded the interest paid. In South Indian Bank Ltd. (supra), the Hon’ble Supreme Court, answering the question whether a proportionate disallowance of interest is called for under section 14A of the Act when the assessee has interest free own funds in excess of the investments, held at paragraph 17:
“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. …”
At paragraph 22 the Hon’ble Supreme Court rejected the argument that the assessee must demonstrate the source of the investments, observing that “there is no corresponding legal obligation upon the assessee to maintain separate accounts for different types of funds held by it”. The judgment was followed in UTI Bank Ltd. (supra). The insistence of the learned CIT(A) on a fund flow or cash flow statement is contrary to this law. Once the own funds exceeded the investments, the presumption arose and the AO brought nothing on record to rebut it. Respectfully following the above judgements, we direct the AO to delete the disallowance of interest of Rs 2,20,086.
11. The disallowance of Rs 72,277 under rule 8D(2)(iii) of the Rules stands on a different footing. The Assessee earned agricultural income of Rs 80,000 during the year, which does not form part of its total income, and the agricultural land is one of the investments considered by the AO. The Assessee offered no disallowance in its return, the AO recorded his dissatisfaction having regard to the accounts, and the amount is within the exempt income earned. The Assessee itself submitted before the learned CIT(A), as recorded at page 12 and 13 of the impugned order, that “the disallowance at the most can be restricted to Rs.72,277/-“. We accordingly sustain this part of the disallowance. Ground No. 2 is partly allowed.
12. Ground No. 3 relates to the disallowance of interest of Rs 24,73,296 under section 36(1)(iii) of the Act. The AO noted that the Assessee had given interest free loans and advances aggregating to Rs 3,10,71,362 to Choudhary Brothers (Rs 66,39,891), Stock Holding Corporation of India Limited (Rs 90,328) and Sourabh Agrotech Private Limited (Rs 2,43,41,143). He rejected the Assessee’s explanation that the advances were for business purposes and that its interest income of Rs 3,43,44,158 exceeded its interest expenditure of Rs 1,46,28,527, holding that “the onus was on the assessee to prove that only the interest free funds were utilized for giving interest free loans and advances to various parties but no specific cash flow statement in this regard has been submitted” (paragraph 5 of the assessment order), and disallowed “an amount of Rs. 24,73,296/- (i.e. at the rate of 12% of the total interest expenditure of Rs. 2,06,10,805/-)”. The learned CIT(A) confirmed the disallowance at paragraph 6.2 of the impugned order because the Assessee had not filed a “linking chart of advance given with the interest free funds” and had “not linked the same with the business”.
13. The learned AR submitted that the own funds of the Assessee of more than Rs 8.35 crore far exceeded the advances of Rs 3.10 crore, that the AO had identified no borrowing diverted to the advances, and that the presumption laid down in Reliance Industries Ltd. (supra) applies. He pointed out that the disallowance was computed as a percentage of total interest without reference to the advances, and on a figure of total interest that does not match the interest of Rs 1,46,28,527 adopted by the AO himself for section 14A of the Act. The learned DR relied on S.A. Builders Ltd. v. CIT (Appeals) [2007] 288 ITR 1 (SC) and submitted that interest on borrowed funds advanced without interest to third parties is allowable only if the advance is shown to be a measure of commercial expediency, which the Assessee had not established.
14. We have considered the rival submissions. A disallowance under section 36(1)(iii) of the Act on account of interest free advances can be made only where the capital borrowed on interest is shown to have been diverted to the advances. The undisputed position is that the Assessee had shareholders’ funds of Rs 8,35,18,454 at the beginning of the year and Rs 8,87,23,804 at its end against advances of Rs 3,10,71,362, and that its interest income exceeded its interest expenditure. The AO identified no borrowing utilised for the advances, and the disallowance, being 12 per cent of total interest, bears no relation to the advances or to any borrowing. The AO’s own formulation of the proposition on which he relied, that the presumption of sufficiency of own funds cannot be invoked “when department established the fact of diversion of borrowed fund for non-business purposes”, presupposes that diversion has first been established. That precondition is absent.
15. In Reliance Industries Ltd. (supra), where the AO had disallowed interest on the view that interest would not have been payable to banks if funds had not been provided to subsidiaries, the Hon’ble Supreme Court held:
“7. Insofar as the first question is concerned, the issue raises a pure question of fact. The High Court has noted the finding of the Tribunal that the interest free funds available to the assessee were sufficient to meet its investment. Hence, it could be presumed that the investments were made from the interest free funds available with the assessee. The Tribunal has also followed its own order for Assessment Year 2002-03.
8. In view of the above findings, we find no reason to interfere with the judgment of the High Court in regard to the first question. Accordingly, the appeals are dismissed in regard to the first question.”
In Hero Cycles (P.) Ltd. v. CIT [2015] 379 ITR 347 (SC), a case under section 36(1)(iii) of the Act, the Hon’ble Supreme Court allowed the interest relatable to a concessional loan to directors on the sole ground of sufficiency of own funds, observing that “the company had reserve/surplus to the tune of almost 15 crores and, therefore, the assessee company could in any case, utilise those funds for giving advance to its Directors”. The same presumption was reiterated in South Indian Bank Ltd. (supra) at paragraph 18.
16. S.A. Builders Ltd. (supra) does not assist the Revenue. There the advances to the sister concern had admittedly been made out of an overdrawn cash credit account, so that the nexus with borrowed funds stood established (paragraphs 4, 11 and 12), and it was in that setting that the Hon’ble Supreme Court held at paragraph 21 that “the test, in our opinion, in such a case is really whether this was done as a measure of commercial expediency”. The question of commercial expediency thus arises only after borrowed funds are shown to have been advanced; where own funds are far in excess of the advances and no nexus is established, the presumption in Reliance Industries Ltd. (supra) applies.
17. The “linking chart” required by the learned CIT(A) is of the same nature as the requirement of separate accounts rejected in South Indian Bank Ltd. (supra) at paragraph 22. Where own funds are demonstrably sufficient, it is for the Revenue to displace the presumption by showing that borrowed funds were in fact used for the advances, and no such material has been brought on record. Respectfully following the above referred judgements, we direct the AO to delete the disallowance of Rs 24,73,296. Ground No. 3 is allowed.
18. Ground No. 4 is general in nature and requires no separate adjudication. Ground No. 5 seeks an award of costs. No material has been placed before us to warrant an award of costs under section 254(2B) of the Act, and this ground is dismissed.
19. In the result, the appeal filed by the Assessee is partly allowed.
Order pronounced in the open Court 28.09.2026.
