No Section 271(1)(c) penalty for failure to disallow u/s 14A

ITA No. 3805(Del)/2010 Assessment year: 2005- 06

Deputy Commissioner of Income-tax Vs. Nalwa Investments Ltd.

ORDER

PER K.G. BANSAL : AM

This appeal emanates from the order of Commissioner of Income-tax (Appeals)-XVI, New Delhi, passed on 03.05.2010 in appeal no. 19/2009-10. The corresponding penalty order was framed by the Deputy Commissioner of Income-tax, Circle 13(1), New Delhi, on 30.3.2009 under the provisions of section 271(1)(c) of the Income-tax Act, 1961.

2. The facts of the case are that the assessee had filed its return of income on 25.10.2005 declaring total loss of ‘ 1,01,17,371/-. The return was accompanied by audited accounts and the tax audit report. Assessment u/s 143(3) was completed on 24.08.2007 computing the total income at ‘6,16,980/-. The major reason for the difference in returned and assessed income is on account of dis allowance u/s 14A. The AO disallowed interest expenditure of ‘ 95,63,346/- as relatable to the dividend income. Further, he disallowed a sum of ‘ 11,70,941/- out of other expenses attributed to earning of the dividend income on proportionate basis, the proportion being decided on the basis of the composition of the total income. The reasons mentioned in respect of dis allowance of interest are as under:-

“I have carefully considered the contentions of the assessee and not find the same as acceptable. The assessee is a non-banking finance company engaged in the business of advancing loans and has also made investments to earn dividend. All the funds are being utilized either for investment in shares or for lending the funds. Moreover, a perusal of the balance-sheet showing details filed by the assessee shows that out of total funds of Rs. 47.74 Crs. Assessee has Rs. 33.29 Crs. As borrowed fund and assessee has investments in shares/securities to the tune of Rs. 37.46 Crs. which are generating mainly dividend income exempt from tax u/s 10(34) of the I.T.Act, 1961. Moreover, assessee itself is showing the profits from share transactions under the head capital gains. Details of dividend received for the year under consideration show that the assessee has made substantial investments in other companies also, and is receiving dividend income from these companies. During the year under consideration assessee has earned interest income of Rs. 14,38,977/- and paid interest amounting to Rs. 1,10,02,323/-. Even if it is assumed that assessee has advanced loans out of the borrowed funds at the same rate of interest at which it has borrowed these funds, then the total interest paid by the assessee should not exceed the amount of interest earned by it. Therefore, the excess of interest paid by the assessee over the interest earned by it pertains to funds borrowed for investments yielding dividend income and long term capital gains exempt from tax. The wordings of section 14A of the I.T. Act also clear that no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income. In view of the facts of the case discussed and clear provision of the law difference of interest received and paid i.e., Rs. 1,10,02,323/– Rs. 14,38,977= Rs. 95,63,346/- is disallowed u/s 14A of the IT Act and added back to the income of the assessee company.”

2.1 Penalty proceedings were also initiated in the course of assessment proceedings. These proceedings were disposed off on 30.3.2009, levying a penalty of ‘ 39,27,976/-, being the minimum penalty leviable. It was inter-alia held that the assessee did not furnish any satisfactory explanation for not attributing expenses to tax-free income and, therefore, the provision contained in Explanation-1 to section 271(1)(c) is applicable. It was also held that since the loss declared by the assessee has not been accepted and total income has been computed at ‘ 6,16,980/-, the provision contained in Explanation-4    to section 271(1)(c) is also applicable.

2.2 Aggrieved by this order, the assessee filed an appeal before the CIT(Appeals), who deleted the penalty by holding that the dis allowance made by the AO is contentious in nature. Thus, the penalty was deleted.

2.3 Aggrieved by this order, the revenue is in appeal before us. Five grounds have been taken in the appeal, the sum and substance of which is that the ld. CIT(A) erred in deleting the penalty of ‘ 39,27,965/- by holding that the matter is debatable and it involves difference in opinion.

3. Before us, the ld. DR relied on the order of the AO and contended that the failure of the assessee to attribute any amount to earning of dividend income amounted to furnishing inaccurate particulars of income as explanation in regard thereto was found to be not bona-fide by the AO. Therefore, it was strongly urged that the order of the ld. CIT(A) is required to be set aside and that of the AO to be restored.

4. In reply, the ld. counsel for the assessee submitted that it had furnished all particulars showing the manner in which claim of various expenses was admissible. Thereafter, the question as to whether any amount was dis allowable u/s 14A was to be decided by the AO. Any dis allowance in this regard will not lead to the inference of concealment of income or furnishing inaccurate particulars of income for the reason that various claims and composition of income were clearly indicated in the return and the accompanying documents.4.1 In order to support the aforesaid contention, it was submitted that section 14A was inserted in the Act by Finance Act, 2001, retrospectively from 1.4.1962. The section was amended by Finance Act, 2006 with effect from 1.4.2007 providing for mode and method of dis allowance to be made under this section. Finally, Rule 8D was framed in the year 2008, prescribing the method to arrive at the amount to be disallowed under this provision. Thus, till the date of filing the return of income of this year, there was no rule prescribed to arrive at the amount to be disallowed. In such a situation, there could be a genuine difference of opinion between the assessee and the AO as to whether any amount was to be disallowed at all and, if yes, the mode and method of computation of the amount.

4.2 The ld. counsel placed reliance on the decision of Hon’ble Madras High Court in the case of CIT Vs., Late G.D. Naidu & Others (1987) 165 ITR 63. In this case, the Tribunal came to the conclusion that the compensation paid by the firm consists of three components- (a) share in the assets, (b) share in the goodwill, and (c) restrictive covenant in terms of section 3 6(2) of the Partnership Act. In view thereof, the payments in respect of items (a) and (b) above were held to be not deductible as the payments were on capital account. However, the amount at (c) was deductible as the firm did not acquire any asset or advantage of enduring nature by securing the covenant. These findings were upheld by the Hon’ble Court. Coming to the question of levy of penalty, it was held that the same may not arise at all for consideration. In this connection, it was mentioned that there was no contumacious conduct calling for any penal action in the matter. All the facts have been placed on record before the authorities. Therefore, there was no question of levy of penalty u/s 271(1)(a) of the Act.

4.3 Further, reliance was placed on the decision of Hon’ble Calcutta High Court in the case of CIT Vs. Calcutta Credit Corporation (1987) 166 ITR 29. In that case, the cash credit appearing in the books of the assessee was added to the total income from other sources. The claim of interest paid on the credit was also disallowed. The AAC deleted the addition but the Tribunal partly restored the addition. The finding of the court was that two opinions were possible on the facts of the case and, therefore, penalty was not leviable.

4.4 Reliance was also placed on the decision of Hon’ble Punjab & Haryana High Court in the case of CIT Vs. Ajaib Singh & Company (2002) 253 ITR 630. It was held that dis allowance of expenditure does not by itself lead to the inference of furnishing inaccurate particulars of income. The penalty can be levied when there is a conscious effort on the part of the assessee to evade payment of tax.

4.5 Reliance was also placed on the decision of Hon’ble Rajasthan High Court in the case of CIT Vs. Harshvardhan Chemicals & Minerals Ltd. (2003) 259 ITR 212. In that case, the assessee revised the return of income with a view to claim higher deduction under sections 80HH and 80I. The claims were rejected and penalty was also levied. It was held that since it was an arguable case, the penalty could not be levied.

4.6 Reliance was also placed on the decision of Hon’ble Supreme Court in the case of T. Ashok Pai Vs. CIT (2007) 292 ITR 11. The ratio of the case is that if a bona fide explanation has been furnished for a mistake committed by the assessee in a return of income, then, penalty cannot be imposed. In that case, the claim was made on the wrong legal advice. The Hon’ble Supreme Court mentioned that the proceedings are quasi-criminal in nature and the burden lies on the department to establish that the assessee concealed his income.

4.7 The grounds of appeal had made a mention about the decision of Hon’ble Delhi High Court in the case ofCIT v. Zoom Communication (P.) Ltd. [2010] 191 Taxman 179. It was submitted that the issue of non-deduction of income-tax is well settled in as much as the tax paid is not expenditure incurred for earning the income but it is appropriation of income. Such, however, is not the case in respect of dis allowance u/s 14A. The dis allowance is contentious in nature particularly before introduction of Rule 8D in the Income-tax Rules, 1962. The ground had also referred to the decision of Hon’ble Supreme Court in the case of CIT Vs. Reliance Petro Products Pvt. Ltd. (2010) 322 ITR 158. It was submitted that this decision goes in favor of the assessee. The decision is that if all  particulars regarding a claim have furnished and no falsity is found therein, then the dis allowance of the claim does not lead to inference of furnishing inaccurate particulars of income.

5. We have considered the facts of the case and submissions made before us. The facts of the case are that the assessee claimed payment of bank interest and charges amounting to ‘1,10,02,323/-. Certain other expenses were also claimed. Besides interest income of ‘14,38,977/-, the assessee earned dividend income on investment in shares. Such investment amounted to ‘1,19,90,011/-. The dividend income was not liable to be taxed in view of the provisions contained in section 10(34) of the Act. The AO was of the view that the net interest of ‘ 95,63,346/-, demat charges of ‘ 60/- and proportionate expenses amounting to ‘ 11,70941/- were not deductible in computing the total income by dint of the provision contained in section 14A, as such expenses related to earning of tax-free income. The explanation of the assessee was two-fold –(i) the assessee was primarily holding shares in selected companies of Jindal group with the intention to acquire and retain controlling stake in them, and (ii) the computation of dis allowance u/s 14A involves considerable debate and two views are always possible. On careful consideration of various cases relied upon by the assessee, it is found that three major propositions arise therefrom –(a) penalty proceedings are quasi-criminal in nature and, therefore, it is for the revenue to establish contumacious conduct on the part of the assessee; (b) if all facts in respect of a claim have been furnished fully and correctly and no falsity is found therein, then, the claim made on the basis of such facts does not lead to inference of concealment of income and (c) the penalty is not leviable when there is honest difference of opinion between the assessee and the authorities in respect of admissibility of a claim.

5.1 In so far as proposition at (a) above is concerned, the same stands displaced by the decision of Hon’ble Supreme Court in the case of Union of India Vs. Dharmendra Textile Processors (2008) 306 ITR 277. It has been held in this case that the penalty is levied for compensating the revenue on account of a wrong claim made by the assessee and it is civil in nature. Coming to the proposition at (b) above, claim of interest and expenditure finds a mention in the profit and loss account. As such no further facts have been furnished. No computation of dis allowance was made u/s 14A as no dis allowance was made in the return of income. However, the accounts have been audited and the return was accompanied by the tax audit report. The latter did not suggest any dis allowance u/s

14A. Therefore, it can be inferred that all expenses were claimed in full as the auditors did not suggest dis allowance of any part of the expenditure relating it to the dividend income. Thus, it can be concluded that the claim was made on the basis of tax audit report. There is no allegation by the AO that there was any collusion between the auditor and the assessee to enhance the loss in the return of income by ignoring the provision contained in section 14A. Therefore, it can be said that the assessee has furnished an explanation which is bona fide. In regard to proposition at (c) above, the finding of the ld. CIT(A) is that the dis allowance is disputable. The section, as it existed at the time of filing the return, does contain a provision for dis allowance of expenditure which is related to non-taxable income. Therefore, it is expected of any assessee to attempt at segregating expenditure which is related to such a claim. No attempt has been made in this behalf. However, it is also a fact that such segregation is beset with lot of problems as the issue has finally been laid to rest by introduction of Rule 8D in the Income-tax Rules in the year 2008. The assessee did not have benefit of this rule when it filed the return of income. Therefore, even in absence of any attempt on the part of the assessee, it can be said that questions of dis allowance and its quantification are quite disputable and can lead to bona fide difference in opinion between the assessee and the authorities. In such a situation, the levy of penalty will not be justified.

6. In the result, the appeal is dismissed.

The order was pronounced in the open court on 29th October, 2010.