Case Law Details
Court: Mumbai bench of the Income Tax Appellate Tribunal
Citation: Godrej Agrovet Ltd Vs. ACIT [2010-TIOL-616-ITAT-MUM] (Judgement Date:- 17 September 2010 Assessment Year: 2005- 06)
Brief: ITAT Mumbai held in above case that that since there was no sale, discarding, demolition or destruction of an asset, no adjustment can be made to the Written Down Value (WDV) of the block of assets. Accordingly, the depreciation on goodwill and non- compete fees has to be allowed since these assets already formed part of the block of assets.
Further, the Tribunal held that since the investment in shares was made by the taxpayer out of its own funds, the dis allowance of interest expenses under Section 14A of the Income Tax Act, 1961 (the Act) was not justified.
Facts of the case
• The taxpayer company had earned dividend income of INR 30 million which was claimed as exempt under Section 10(34) of the Act.
• The A.O. (Assessing Officer) disallowed the interest as well as administrative expenses incurred by the taxpayer which were attributable to earning of the dividend income as per the provisions of section 14A of the Act.
• Commissioner of Income-tax (Appeals) [CIT(A)] upheld the action of the A.O. However, the CIT (A) applied Rule 8D of the Income Tax Rules, 1962 for quantifying the dis allowance.
• Further, the taxpayer claimed depreciation on goodwill and non-compete fees which was also disallowed by the AO.
Taxpayer’s contentions
• The total investment made in shares during Assessment Year (AY) 2005-06 was INR 300 million. The taxpayer had own funds to the extent of INR 640 million which were utilized for making investment in shares.
• Out of the total borrowed funds of INR 320 million, a sum of INR 216 million was availed in the earlier years. The A.O. in the assessment proceedings for the earlier years verified the relevant records and accepted the fact that the said amount was entirely utilized by the taxpayer for the purpose of its business and was not utilized for making any investment which fetched the dividend income. The remaining sum of INR 104 million borrowed by the taxpayer in the A.Y. 2005-06 was also entirely utilized for the business purpose.
• A separate current account was opened and operated wherein surplus funds were deposited for making the investment in shares. Accordingly, the interest expenditure incurred by the taxpayer company was not at all attributable to earning of dividend income and no dis allowance out of the said expenditure under Section 14A of the Act could be made.
Tax department’s contentions
• The taxpayer had enough surplus funds therefore it could have utilized the said funds for repaying the borrowings instead of making the investment in shares.
• The taxpayer has indirectly diverted borrowed funds for making investment in shares so as to earn dividend income. Since dividend income was exempt from tax, interest attributable to the borrowed funds utilized for making investment in shares was liable to be disallowed under Section 14A of the Act.
Tribunal’s ruling
Application of section 14A and Rule 8D
• The Bombay High Court in the case of Godrej & Boyce Mfg Co. Ltd. Vs. DCIT [2010] 328 ITR 81(Bom) has held that Rule 8D is applicable only prospectively i.e. from A.Y. 2008- 09. Since the assessment year involved in the present case is 2005- 06, the CIT(A) was not justified in applying Rule 8D to quantify the dis allowance under Section 14A of the Act.
• The borrowed funds to the extent of INR 216 million were availed by the taxpayer in the earlier year and the A.O. had accepted, after verification of the relevant record, that the borrowed funds to that extent were utilized by the taxpayer company for the purpose of its business and the investment in shares was made by it out of its own funds.
• Even the investment in shares in the year under consideration was made by the taxpayer company from a separate current account where the surplus funds generated in that year were deposited.
• Sufficient evidence was brought on record by the taxpayer company to establish that investment in shares was made by it out of its own funds and the borrowed funds were entirely utilised for the purpose of its business.
• The Punjab and Haryana High Court in the case of CIT v. Hero Cycles Ltd. [2009] 323 ITR 518 (Punj & Haryana) held that since the investment in shares and funds was made by the taxpayer out of the dividend proceeds and not out of borrowed funds, dis allowance under Section 14A of the Act was not sustainable. Relying on the above decision, the Tribunal held that since the investment in shares was made by the taxpayer out of its own funds, the dis allowance made by the A.O. out of interest expenses under Section 14A of the Act was not justified.
Depreciation on goodwill and know how
. Similar issues were involved in taxpayer’s own case Godrej Agrovet Ltd. v. ACIT [ITA No. 6807/Mum/06 AY 2003-04] [ITA No. 6223/Mum/07 A.Y. 2004- 05]
, for the earlier years wherein the Tribunal held that:
o Goodwill and non-compete fees already formed part of block of assets and depreciation had been allowed on the same in the past. Section 43(6)(c)(B) of the Act states that WDV of block asset can be reduced only in the case of sale, discarding or demolition or destruction of an asset forming part of block of assets.
o During the previous year, there was no sale, discarding, demolition or destruction of the same. In such circumstances the AO was not justified in making adjustment to the WDV of the block of assets.
o Even on the principle of consistency claim allowed to the taxpayer in the past should not be denied in the later year when the facts and circumstances or the law has not changed.
o The action of the tax department in disallowing depreciation in respect of goodwill and non-compete fee was not proper.
• Since the issues involved as well as all the relevant material facts in A.Y. 2005-06 were similar to the years for which the above referred order was passed, the Tribunal allowed the taxpayer’s claim for depreciation on goodwill and non-compete fees.
Our comments
This is a welcome ruling by the Mumbai Tribunal where it has been held that since the investment in shares was made by the taxpayer out of its own funds, the dis allowance of interest expenses under Section 14A of the Act was not justified.
It is pertinent to note that the taxpayer had maintained robust documentation and was able to prove beyond doubt that the funds used for investment in shares were its own surplus funds and that the borrowed funds were utilized for business purpose.
