Rule 8D Disallowance cannot be made by ‘Change of Opinion’

Full Text of the High Court Judgment / Order is as follows:-

We with the consent of the parties have heard the arguments and the writ petitions are taken up for final disposal.2. M/s. Samvardhana Motherson International Ltd. (formerly known as Samvardhana Finance Ltd.) has filed the present writ petitions impugning two notices dated 30^th March, 2015, issued by the Additional Commissioner of Income Tax, Circle 22(1), New Delhi under Section 148 of the Income Tax Act, 1961 (‘the Act’ for short) relating to Assessment Years (‘AY’) 2010-2011 and 2011-2012.

3. The Petitioner has also placed on record a copy of the order dated 16^th December, 2015 passed by the Assessing Officer (‘AO’) disposing of objections of the Petitioner against reopening of assessments under Section 147/148 of the Act on the ground of `change of opinion’.

4. The undisputed position is that the Petitioner company is engaged in the business of establishing subsidiaries, making majority or minority investments and/ or to promote technical collaborations and to act as a holding company. The Petitioner in paragraph 4 of the petition has stated that the Petitioner company makes strategic investments.

Original Assessment proceedings for AY 2010-11.

5. For the AY 2010-2011, the return filed by the Petitioner company had disclosed dividend income of Rs. 20,48,37,585/- which it claimed as exempt from tax under Section 10(34) of the Act. The Assessee had disallowed expenditure amounting to Rs. 9,75,26,937/- for earning the exempt income under Section 14A of the Act for AY 2010-11.

6. The return was taken up for scrutiny assessment after issue of notice under Section 143(2) of the Act. In terms of notice dated 16^th May, 2012 under Section 142(1) of the Act, the Petitioner was required to furnish several details, including details of dividend income received, and details of expenses attributable for earning of this income. The aforesaid notice was followed by another notice dated 18^th October, 2012 by which the Petitioner was asked to give a detailed calculation of the dis allowance under Section 14A of the Act read with Rule 8D of the Income Tax Rules, 1962 (‘the Rules’ for short).

7. In response to the first notice, the Petitioner filed a reply dated 12^th June, 2012 stating that it had received dividend income of Rs. 20,48,37,585/- which was claimed as exempt under Section 10(34) of the Act. In its subsequent reply dated 11^th February, 2013, the Petitioner submitted calculation of dis allowance under Section 14A read with Rule 8D of the Rules and computation of the dis allowance made by them. For the sake of convenience, since counsels for both parties rely on the same, we would like to reproduce the aforesaid computation, which reads as under:

Samvardhana Mother son Finance Limited

Expenditure in relation to Dividend Income

Working

Interest expense allocated

Interest Cost Allocated = Interest * Average Value of Investment

——————————————————-

Average of Total Assets

Interest

Average of Total Assets

8. After examining the aforesaid information and details, the assessment order for AY 2010-11 dated 18th February, 2013 was passed under Section 143(3) of the Act, accepting the returned income of the Assessee of Rs. 88,56,759/-.

Original assessment proceedings for AY 2011-1 2

9. For the AY 2011-12, the return filed by the Petitioner company had disclosed dividend income of Rs. 28,55,09,111/-, which it claimed as exempt from tax under Section 10(34) of the Act. The Assessee had disallowed expenditure amounting to Rs. 12,44,11,096/- for earning the exempt income under Section 14A of the Act for the AY 2011-12.

10. The case was taken up for scrutiny. During the course of the assessment proceedings, the Assessing Officer (AO) issued a questionnaire, enclosed as Annexure 3 to the writ petition, which had required the Petitioner to file detailed computation of dis allowance made under Section 14A of the Act, in the computation of the total income.

11. In response to the aforesaid questionnaire, the Petitioner filed its reply dated 29^th January, 2014, enclosed therewith as Annexure 16, enclosing detailed computation of dis allowance under Section 14A of the Act. For the sake of convenience, since counsels for both the parties rely on the same, we would like to reproduce the aforesaid computation, which reads as under:

Samvardhana Motherson Finance Limited

Annexure to Form 3 CD

Clause 17(1)

Expenditure in relation to Dividend Income

Working

Interest expense allocated

Interest Cost Allocated = Interest * Average Value of Investment

Average of Total Assets

Interest

Average Value of Investment  

12. Vide assessment order dated 28th February, 2014, the AO assessed the income of the Assessee for the assessment year 2011-12 at Rs. 3,59,35,409. The dis allowance made by the Assessee of Rs. 12,44,11,096/- under Section 14A of the Act was accepted.

Reassessment proceedings; Reasons to believe

13. To examine the contention of the Petitioner and the respondent on the question of change of opinion, we would like to reproduce the reasons to believe recorded by the AO for AY 2010-11 and 2011-12. The relevant portions have been underlined.

Reasons recorded for initiating proceedings u/s 14 7/148 AY 2010-2011

“In this case, the assessment proceedings u/s 143 (3) of the I. T. Act,1961 for the A.Y. 2010-11 was completed on 18.02.2013 at an income of Rs. 88,56,759/-. On scrutiny of records it was found that an amount of Rs. 2,68,94,092/- has escaped assessment on account of incorrect computation of dis allowance u/s 14A of the I. T. Act, 1961.  It was noticed that the assessee had claimed deduction of Rs. 20,48,37,585/- on account of Dividend income and disallowed expenditure amounting to Rs. 9,75,26,937/- u/s 14A. Further scrutiny revealed that the assessee had major income from Dividend and had investments of Rs. 8,92,38,21,953/-(as on 31.03.2009) and Rs. 11,52,90,17,479/- (on 31.03.2010) respectively. The total  dis allowance u/s 14A r/w Rule 8D should be amounted to  Rs. 12,44,21,029/-, however assessee restricted it to Rs.9,75,26,937/-  in contravention to Section 14A of the I. T. Act, 1961. Hence it resulted in under assessment of income Rs. 2,68,94,092/- (Rs.12,44,21,029- Rs. 9, 75,26,93 7).

In this case, it has also been observed that the assessee had itself calculated dis allowance u/s 14A amounting to Rs. 12,44,21,029/- but restricted the same to Rs. 9,75,26,967 /-. As Section 14A of the I. T. Act, 1961 r/w Rule 8D does not permit any restriction in this regard and therefore the whole amount of Rs. 12,44,21,029/-, should have been disallowed.

In view of the above mentioned facts, it is clear that the assessee company has not disclosed fully and truly all material facts before the A. O. resulting in under assessment of income. Hence, I have reasons to believe that a sum of Rs. 2,68,94,092/- has escaped assessment in the case of assessee relevant to A. Y. 2010-11, within the meaning of Section 147 of the IT Act.”

Reasons recorded for initiating proceedings u/s 147/148 forAY  2011-2012.

“In this case, the assessment proceedings u/s 143 (3) of the I. T. Act, 1961 for the A.Y. 2011-12 was completed on 28.02.2014 at an income of Rs.3,59,35,409/-. On scrutiny of records it was found that an amount of Rs. 5,00,95,760/- has escaped assessment on account of incorrect computation of dis allowance u/s 14A of the I. T. Act, 1961. It was noticed that the assessee had claimed deduction of Rs. 28,55,09,111/- on account of Dividend income and disallowed expenditure amounting to Rs. 12,44,11,096/- u/s 14A. Further scrutiny revealed that the assessee had major income from Dividend and had investments of Rs. 11,52,90,1 7,479 (as on 31.03.2010) and Rs. 11,35,93,10,551/- (as on 31.03.2011) respectively. The total dis allowance u/s 14A r/w Rule 8D should be amounted to Rs. 17,45,06,856/-, however assessee restricted it to Rs. 12,44,11,096/- in contravention to section 14A of the I.T. Act, 1961. Hence it resulted in under assessment of income of Rs. 5,00,95,760/- (Rs. 17,45,06,856- Rs. 12,44,11,096).

In this case, it has also been observed that the assessee had itself calculated dis allowance u/s 14A amounting to  Rs. 17,38,07,331/- but restricted the same to Rs. 12,44,11,096/-. As  section 14A of the I. T. Act, 1961 r/w Rule 8D does not permit any  restriction in this regard and therefore the whole amount of Rs.  17,45,06,856/-, should have been disallowed.

In view of the above mentioned facts, it is clear that the assessee company has not disclosed fully and truly all material facts before the A. O. resulting in under assessment of income. Hence, I have reasons to believe that a sum of Rs. 5,00,95,760/- has escaped assessment in the case of assessee relevant to A. Y. 2011-12, within the meaning of Section 147 of the IT Act.”

(emphasis supplied)

 Analysis and Findings:

14. The contention of the respondent-Revenue is that this is not a case of change of opinion because the Assessee had made an incorrect or wrong calculation which was accepted by the AO. In particular, reliance is placed upon the computation charts submitted by the Petitioner in response to the questionnaire/queries raised, which have been reproduced above. Hence, it is the Revenue’s submission that in the present case the assessment proceedings have been validly initiated under the provisions of Section 147 read with Section 148 of the Act and the judgment of the full Bench of the Delhi High Court in the case of Commissioner of Income Tax v. Usha International, (2012) 348 ITR 485 (Del) (hereafter ‘Usha International’) would support the case of Revenue and not the case of the Petitioner.

15. There could not be a more clear and obvious case of change of The AO doing the original assessment had focused himself and examined the question of appropriateness of the expenditure which was disallowed by the Assessee under Section 14A of the Act. The AO was aware of the difference between the dis allowance of expenditure made by the Assessee in its computation under Section 14A of the Act, and dis allowance if made by applying Rule 8D of the Rules. The AO not only raised a specific query but did so twice in respect of the dis allowances for the AY 2010-11. The details called for in the two notices/questionnaires for AY 2010-11 read as under:

“Notice dated 16.5.2012:

21. Details of dividend received, if any. Also give details of expenses attributable for earning this income.”

“Notice dated 18.1 0.2012:

-Calculation of dis allowance U/s 14A read with Rule 8D.”

In AY 2011-12, the AO had asked for the details vide questionnaire dated NIL as under:

“Questionnaire dated NIL:

45. Detailed computation of Dis-allowance made u/s 14A of the Act as per the Computation of Total Income.”

16. From the queries raised during the course of assessment proceedings and the replies thereto, there can be no doubt that the AO specifically examined and went into the question of dis allowance of expenditure under Section 14A of the Act as the Assessee had declared substantial dividend income, which was exempt from tax. The AO was certainly conscious and aware of the nature of business activities undertaken by the Petitioner as a strategic investor in shares, making majority or minority investments.

17. In the aforesaid circumstances, principle of change of opinion as enunciated in Usha International (supra) would be applicable. The majority opinion in Usha International (supra) holds:-

“12. It is, therefore, clear from the aforesaid position that:

(1) Reassessment proceedings can be validly initiated in case return of income is processed under Section 143(1) and no scrutiny assessment is undertaken. In such cases there is no change of opinion;

(2) Reassessment proceedings will be invalid in case the assessment order itself records that the issue was raised and is decided in favour of the assessee. Reassessment proceedings in the said cases will be hit by principle of “change of opinion”.

(3) Reassessment proceedings will be invalid in case an  issue or query is raised and answered by the assessee in original assessment proceedings but thereafter the Assessing Officer does not make any addition in the assessment order. In such situations it should be accepted that the issue  was examined but the Assessing Officer did not find any ground or reason to make addition or reject the stand of the assessee.  He forms an opinion. The reassessment will be invalid because  the Assessing Officer had formed an opinion in the original assessment, though he had not recorded his reasons.

13. In the second and third situation, the Revenue is not without In case the assessment order is erroneous and prejudicial to the interest of the Revenue, they are entitled to and can invoke power under Section 263 of the Act. This aspect and position has been highlighted in CIT vs. DLF Powers Limited, ITA 973/2011 decided on 29th November, 2011 and BLB Limited vs. ACIT Writ Petition (Civil) No. 6884/2010 decided on 1st December, 2011. In the last decision it has been observed:

13. Revenue had the option, but did not take recourse to Section 263 of the Act, in spite of audit objection. Supervisory and revisionary power under Section 263 of the Act is available, if an order passed by the Assessing Officer is erroneous and prejudicial to the interest of the Revenue. An erroneous order contrary to law that has caused prejudiced can be correct, when jurisdiction under Section 263 is invoked.

14. Thus where an Assessing Officer incorrectly or erroneously  applies law or comes to a wrong conclusion and income  chargeable to tax has escaped assessment, resort to Section  263 of the Act is available and should be resorted to. But initiation of reassessment proceedings will be invalid on the  ground of change of opinion.”

(emphasis supplied)

18. The Supreme Court recently in Godrej and Boyce Manufacturing Company Limited v. Deputy Commissioner of Income Tax, Mumbai & Anr., (2017) 7 SCC 421 on the question of dis allowance under Section 14A of the Act and the effect of Rule 8D of the Rules has held as under:

“37. We do not see how in the aforesaid fact situation a different view could have been taken for Assessment Year 2002-2003. Sub-sections (2) and (3) of Section 14-A of the Act read with Rule 8-D of the Rules merely prescribe a formula for determination of expenditure incurred in relation to income which does not form part of the total income under the Act in a situation where the assessing  officer is not satisfied with the claim of the assessee. Whether such  determination is to be made on application of the formula  prescribed under Rule 8-D or in the best judgment of the assessing  officer, what the law postulates is the requirement of a satisfaction in  the assessing officer, what the law postulates is the requirement of a  satisfaction in the assessing officer that having regard to the  accounts of the assessee, as placed before him, it is not possible to  generate the requisite satisfaction with regard to the correctness of the claim of the assessee. It is only thereafter that the provisions of Sections 14-A(2) and (3) read with Rule 8-D of the Rules or a best  judgment determination, as earlier prevailing, would become  applicable.

38. In the present case, we do not find any mention of the reasons which had prevailed upon the assessing officer, while dealing with Assessment Year 2002-2003, to hold that the claims of the assessee that no expenditure was incurred to earn the dividend income cannot be accepted and why the orders of the Tribunal for the earlier assessment years were not acceptable to the assessing officer, particularly, in the absence of any new fact or change of circumstances. Neither any basis has been disclosed establishing a reasonable nexus between the expenditure disallowed and the dividend income received. That any part of the borrowings of the assessee had been diverted to earn tax free income despite the availability of surplus or interest free funds available (Rs 270.51 crores as on 1 -4-2001 and Rs 280.64 crores as on 31-3 -2002) remains unproved by any material whatsoever. While it is true that that the principle of res judicata would not apply to assessment proceedings under the Act, the need for consistency and certainty and existence of strong and compelling reasons for a departure from a settled position has to be spelt out which conspicuously is absent in the present case. In this regard, we may remind ourselves of what has been observed by this Court in Radhasoami Satsang v. CIT (1992) 1 SCC 659: (1992) 193 ITR 321.

“16. We are aware of the fact that strictly speaking res judicata does not apply to income tax proceedings. Again, each assessment year being a unit, what is decided in one year may not apply in the following year but where a fundamental aspect permeating through the different assessment years has been found as a fact one way or the other and parties have allowed that position to be sustained by not challenging the order, it would not be at all appropriate to allow the position to be changed in a subsequent year.”

(emphasis supplied)

19. The chronology of events leading up to the passing of the orders under Section 143(3) of the Act, clearly shows that the AO was `satisfied with the claim of the assessee’ while passing the original orders. Rule 8D is triggered only in a case where the AO is not satisfied with the deduction made by the Assessee. The reasons to believe assume and are predicated on the belief that the AO should not have accepted the Petitioner’s deduction as explained and justified, albeit should have applied Rule 8D. Thus, the view and opinion formed by the AO, while passing the original assessment orders is doubted as erroneous. This is obviously a case of change of opinion.

20. In view of the aforesaid position, we allow the present writ petition and quash the reassessment notices dated 30^th March, 2015 in the case of the Petitioner for the AYs 2010-11 and 2011-12. In the facts of the case, there will be no order as to costs.