SECTION 14  - EXPENDITURE INCURRED IN RELATION TO INCOME NOT INCLUDIBLE IN TOTAL INCOME

Input For Presentation To Appellate Authorities

BY A. K. JAIN

14A. (1) For the purposes of computing the total income under this Chapter, 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 under this Act.

(2) The Assessing Officer shall determine the amount of expenditure incurred in relation to such income which does not form part of the total income under this Act in accordance with such method as may be prescribed1, if the Assessing Officer, having regard to the accounts of the assessee, is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income under this Act.

(3) The provisions of subsection (2) shall also apply in relation to a case where an assessee claims that no expenditure has been incurred by him in relation to income which does not form part of the total income under this Act:

Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning on or before the 1st day of April, 2001.

Method for determining amount of expenditure in relation to income not includible in total income.

8D. (1) Where the Assessing Officer, having regard to the accounts of the assessee of a previous year, is not satisfied with-

(a) the correctness of the claim of expenditure made by the assessee; or

(b) the claim made by the assessee that no expenditure has been incurred, in relation to income which does not form part of the total income under the Act for such previous year, he shall determine the amount of expenditure in relation to such income in accordance with the provisions of sub-rule (2).

(2) The expenditure in relation to income which does not form part of the total income shall be the aggregate of following amounts, namely :-

(i) the amount of expenditure directly relating to income which does not form part of total income;

(ii) in a case where the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income or receipt, an amount computed in accordance with the following formula, namely :-

A ×B/C

Where A = amount of expenditure by way of interest other than the amount of interest included in clause (i) incurred during the previous year ;

B = the average of value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year;

C = the average of total assets as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year;

(iii) an amount equal to one-half per cent of the average of the value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year.

(3) For the purposes of this rule, the “total assets” shall mean, total assets as appearing in the balance sheet excluding the increase on account of revaluation of assets but including the decrease on account of revaluation of assets.]

1. In the assessment order, the Ld. Assessing Officer has recorded that, “on examining the annual accounts of the assessee for the A.Y. under consideration it is seen that, the assessee has made investments, resulting income from which, is exempt under the provision of Income Tax Act thus, the provision of section 14A are applicable in the case of the assessee”.

The Assessing officer has also further noted that, “ for the purpose of computing the total income under this Chapter 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 under this act”

2. The company has invested a sum of Rs. 2,000,00,000/- into the share of some other companies. However, in the year under assessment, the company has not received any dividend or any tax free income. Section 14A of the Income Tax Act deals with, “expenditure incurred in relation to income not includible in total income”. As the company has not earned any income which is not includible in total income, this section cannot be applied.

3. The applicability of section 14A has been subject of litigation in various Tribunals and High Courts. Bombay High Court, Allahabad High Court, Gujarat High Court, Punjab & Haryana High Court have all discussed the applicability of section 14A in detail and uniformly pronounced that, this section is not applicable where the assesse company has not earned income exempt u/s 10.

Some of the Reference Judgments

(A) LG Chemical India (P) Ltd., ... VS Assessee on 5 December, 2014

PER A. T. VARKEY, JUDICIAL MEMBER Appeal preferred by the assessee company against the order of the ld CIT(A), VIII, New Delhi dated 30.10.2012.

2. The grounds raised by the assessee are as follows:-

"1. The CIT(A) has erred in sustaining the addition of Rs.63,16,000/- being the disallowance u/s 14A r.w. Rule 8D.

4. Apropos ground No.1 relates to disallowance of Rs.63,16,000/- u/s 14A of the Income Tax Act, 1961 (herein after 'the Act') read with Rule 8D of the Income Tax Rules, 1962 (herein after 'the Rules).

5. The AO noted that assessee was holding investments of Rs.126.33 crores and therefore held that intention of inserting Rule 8D is to allow the AO to estimate expenses in situations where no expense can be directly attributed to investments which may lead to tax free income. Before the ld CIT(A), the assessee contended that the investments were made in its wholly owned subsidiary company M/s. L.G. Polymers India Pvt. Ltd, which did not earn any exempt income. It was submitted that no expenditure has been incurred for earning exempt income. The ld CIT(A), however, rejected the contention of the assessee and confirmed the disallowance made by the AO, observing as under:-

"I have considered the submissions of the appellant, the findings of the AD and the facts on record. A company cannot earn dividend without its existence and management. Investment decisions are generally complicated requiring daily analysis of market trends, research and analysis. Decisions relate to acquisition holding period and redemption of investment at the opportune time. These decisions are generally taken in the meetings of Board of Directors, for which administrative expenses are incurred.

The Hon'ble Bombay High Court in the case of Godrej & Boyce Manufacturing Co. Ltd. vs. DCIT 328 ITR 81 has held that rule 8D is applicable from AY 2008-09. Rule 8D considers three circumstances under which disallowance is required to be made which are as under:- (I) The amount of expenditure directly relating to income which does not form part of total income;

(II) Secondly, proportionate disallowance of interest which is not directly attributable to any particular income or receipt, and; (III) Thirdly, an amount equal to one-half percent of the average of the value of the investment, income from which does not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year.

Disallowance has been made by the AO in terms of clause (iii) on account of indirect expenses. The contention of the appellant that no disallowance can be made since no exempt income has been earned does not hold good in view of the decision of the Hon'ble Special bench of the ITAT Delhi in the case of M/s Cheminvest Ltd in ITA NO. 87/DEL/2008 which has clearly held that disallowance u/s 14A has to be made even if no exempt income has been earned by the appellant. In the instant case, since expenditure had been incurred by the appellant for earning of exempt income therefore, the disallowance made by the AO under the provisions of section 14A read with rule 8D is as per law. This ground of appeal is dismissed."

6. Aggrieved by the aforesaid order of the ld CIT(A), the assessee is before us.

7. The ld AR relied upon the decision of the Delhi High Court in the case of CIT Vs. Holcim India Ltd and submitted that since there is no exempt income, disallowance by applying Rule 8D does not arise. He also referred to the ITAT Mumbai Bench in the case of J. M. Financial Ltd, (2014-TIOL-202-ITAT-Mum) which has followed the judgement of Delhi High Court in Oriental Structure dated 15.01.2013 (2013-TIOL-97-H.C. Delhi-IT) wherein it was held that in respect of investment made in subsidiary companies, on account of commercial expediency no expenses can be attributable for disallowance u/s 14A read with Rule 8D. He also referred to the decision of the Delhi Bench of this Tribunal in the case of International Travel House (2014-TIOL-402-ITAT Del). Ld DR supported the order of the authorities below.

8. We have heard both the parties and have perused the records of the case. In the case of CIT Vs. Holcim India Ltd the Hon'ble Delhi High Court ITA No.486/2014 & ITA No.299/2014 has held as follows:-

"14. On the issue whether the respondent-assessee could have earned dividend income and even if no dividend income was earned, yet Section 14A can be invoked and disallowance of expenditure can be made, there are three decisions of the different High Courts directly on the issue and against the appellant-Revenue. No contrary decision of a High Court has been shown to us.

The Punjab and Haryana High Court in Commissioner of Income Tax, Faridabad Vs. M/s. Lakhani Marketing Incl., ITA No. 970/2008, decided on 02.04.2014, made reference to two earlier decisions of the same Court in CIT Vs. Hero Cycles Limited, [2010] 323 ITR 518 and CIT Vs. Winsome Textile Industries Limited, [2009] 319 ITR 204 to hold that Section 14A cannot be invoked when no exempt income was earned.

The second decision is of the Gujarat High Court in Commissioner of Income Tax-I Vs. Corrtech Energy (P) Ltd. [2014] 223 Taxmann 130 (Guj).

The third decision is of the Allahabad High Court in Income Tax Appella No.88 of 2014, Commissioner of Income Tax (ii) Kanpur, Vs. M/s. Shivam Motors (P) Ltd. decided on 05.05.2014. In the said decision it has been held:

"As regards the second question, Section 14A of the Act provides that for the purposes of computing the total income under the Chapter, 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 under the Act. Hence, what Section 14A provides is that if there is any income which does not form part of the income under the Act, the expenditure which is incurred for earning the income is not an allowable deduction. For the year in question, the finding of fact is that the assessee had not earned any tax free income. Hence, in the absence of any tax free income, the corresponding expenditure could not be worked out for disallowance.

The view of the CIT(A), which has been affirmed by the Tribunal, hence does not give rise to any substantial question of law. Hence, the deletion of the disallowance of Rs.2,03,752/- made by the Assessing Officer was in order" .

15. Income exempt under Section 10 in a particular assessment year, may not have been exempt earlier and can become taxable in future years. Further, whether income earned in a subsequent year would or would not be taxable, may depend upon the nature of transaction entered into in the subsequent Assessment Year. For example, long term capital gain on sale of shares is presently not taxable where security transaction tax has been paid, but a private sale of shares in an off market transaction attracts capital gains tax. It is an undisputed position that respondent assessee is an investment company and had invested by purchasing a substantial number of shares and thereby securing right to management. Possibility of sale of shares by private placement etc. cannot be ruled out and is not an improbability. Dividend may or may not be declared. Dividend is declared by the company and strictly in legal sense, a shareholder has no control and cannot insist on payment of dividend. When declared, it is subjected to dividend distribution tax."

9. The facts of the instant case are in Pari-materia with the facts of the aforesaid case, in as much as, no exempt income has been earned by the assessee from the investment made in the subsidiary.

Therefore respectfully following the binding precedent, we hold that the ld CIT(A) erred in confirming the order of the AO. So we direct the deletion of Rs.63,16,000/- added u/s 14A read Rule 8D.

18. In the result the appeal of the assessee is allowed and the appeal of the revenue is dismissed. Order pronounced in the open court on 05.12.2014.

(B) Rds Project Ltd., New Delhi vs Assessee on 31 October, 2014 ITAT, DELHI

PER J.SUDHAKAR REDDY, ACCOUNTANT MEMBER This is an appeal filed by the revenue directed against the order of Ld.CIT(Appeals) Faridabad dt. 24.8.2012 for the Assessment Year 2009-10 on the following grounds :-

1. "Because the Ld. CIT(A) has erred in confirming the disallowance of Rs. 24,68,942/- under section 14A of the Income Tax Act, 1961 read with Rule 8D of the Income Tax Rules, 1962.

2. Because the Ld. CIT(A) erred in appreciating the fact that the assessee had sufficient self owned funds in the shape of capital and free reserves.

3. Because the Ld. CIT(A) erred in not appreciating the fact that the investments in share capital of other companies (Rs. 8.98 crores) was made by the assessee out of share holders ITA No. 5486/Del/2012 AY 2009-10 M/s. RDS Project Ltd. Vs. ACIT funds standing at Rs. 48.95 crores as per books of accounts of the company.

4. Because the Ld. CIT(A) erred in not accepting the fact that sufficient self owned funds being available with the assesee, borrowed funds had not been utilized for making the investments and as such no expenditure was incurred towards interest by the assessee liable to be disallowed u/s 14A of the Act.

5. Because the Ld. CIT(A) has erred in not appreciating the fact that the AO applied the provisions of rule 8D of the Income Tax Rules, 1962 without giving any cogent reason as to why he was not satisfied with the appellant''s submissions that no expenditure was incurred by the assessee for making the investments under question.

6. Because the Ld. CIT(A) erred in not accepting the contention of the assessee that the Assessing Officer having not established any nexus between the borrowed funds and the investments made, no addition u/s 14A was called for.

7. Because in case of mixed funds it could not always be said that the assessee had incurred out of borrowed funds.

8. Because the Ld. CIT(A) erred in holding that to earn any income some expenditure must have been earned, therefore the disallowance u/s 14A was rightly made.

9. Because the Ld. CIT(A) erred in holding that even if no income was earned by the assessee during the year which was claimed exempt under the Income Tax Act yet u/s 14A was called for."

2. We have heard Dr. Rakesh Gupta, Ld. Counsel for the assessee and Shri Shameer Sharma, Sr. Departmental Representative on behalf of the revenue.

3. On a careful consideration of the facts and circumstances of the case and on perusal of the papers on record and the orders of the authorities below we hold as follows :-

ITA No. 5486/Del/2012 AY 2009-10 M/s. RDS Project Ltd. Vs. ACIT The undisputed fact is that the assesee has no income which is exempt from tax under the Income Tax Act. The issue as to whether disallowance u/s 14A can be made, when there is no dividend income earned by the assesee which is exempt from tax is settled by the judgment of the Jurisdictional High Court in the case of CIT vs. Holcim India P. Ltd. and ITA Nos. 486/2014 and 299/2014 dated 5th September, 2014 wherein the decision of the special bench of the Tribunal in the case of Cheminvest Ltd. vs. ITO 317 ITR (AT) 86 (Delhi) has been reversed. The Hon'ble High Court held as follows :-

"14. On the issue whether the respondent-assessee could have earned dividend income and even if no dividend income was earned, yet Section 14A can be invoked and disallowance of expenditure can be made, there are three decisions of the different High Courts directly on the issue and against the appellant-Revenue. No contrary decision of a High Court has been shown to us. The Punjab and Haryana High Court in Commissioner of Income Tax, Faridabad Vs. M/s. Lakhani Marketing Incl., ITA No. 97012008, decided on 02.04.2014, made reference to two earlier decisions of the same Court in CIT Vs. Hero Cycles Limited, [2010] 323 ITR 518 and CIT Vs. Winsome Textile Industries Limited, [2009] 319 ITR 204 to hold that Section 14A cannot be invoked when no exempt income was earned. The second decision is of the Gujarat High Court in Commissioner of Income Tax-I Vs. Corrtech Energy (P.) Ltd. [2014] 223 Taxmann l30 (Guj.). The third decision is of the Allahabad High Court in Income Tax Appeal No. 88 of 2014, Commissioner of Income Tax (Ii) Kanpur, Vs. M/s. Shivam Motors (P) Ltd. decided on 05.05.2014. In the said decision it has been held:

"As regards the second question, Section J 4A of the Act provides that for the purposes of computing the total income under the Chapter, 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 under the Act. Hence, what Section 14A provides is that if there is any income which does not form part of the income under the Act, the expenditure which is incurred for earning the income is not an allowable deduction. For the year in question, the finding of fact is that the ITA No. 5486/Del/2012 AY 2009-10 M/s. RDS Project Ltd. Vs. ACIT assessee had not earned any tax free income. Hence, in the absence of any tax free income, the corresponding expenditure could not be worked out for disallowance. The view of the CIT(A), which has been affirmed by the Tribunal, hence does not give rise to any substantial question of law. Hence, the deletion of the disallowance of Rs.2,03, 752/- made by the Assessing Officer was in order" .

15. Income exempt under Section 10 in a particular assessment year, may not have been exempt earlier and can become taxable in future years. Further, whether income earned in a subsequent year would or would not be taxable, may depend upon the nature of transaction entered into in the subsequent assessment year. For example, long term capital gain on sale of shares is presently not taxable where security transaction tax has been paid, but a private sale of shares in an off market transaction attracts capital gains tax. It is an undisputed position that respondent assessee is an investment company and had invested by purchasing a substantial number of shares and thereby securing right to management. Possibility of sale of shares by private placement etc. cannot be ruled out and is not an improbability. Dividend mayor may not be declared. Dividend is declared by the company and strictly in legal sense, a shareholder has no control and cannot insist on payment of dividend. When declared, it is subjected to dividend distribution tax.

16. What is also noticeable is that the entire or whole expenditure has been disallowed as if there was no expenditure incurred by the respondent-assessee for conducting business. The CIT(A) has positively held that the business was set up and had commenced. The said finding is accepted. The respondent-assessee, therefore, had to incur expenditure for the business in the form of investment in shares of cement companies and to further expand and consolidate their business. Expenditure had to be also incurred to protect the investment made. The genuineness of the said expenditure and the fact that it was incurred for business activities was not doubted by the Assessing Officer and has also not been doubted by the CIT(A).

17. In these circumstances, we do not find any merit in the present appeals. The same are dismissed in limine."

ITA No. 5486/Del/2012 AY 2009-10 M/s. RDS Project Ltd. Vs. ACIT

4. Following the binding judgment of the Jurisdictional High Court we delete the disallowance made u/s 14A and allow this case of the assessee.

5. In the result appeal of the assessee is allowed.

(C) CIT VS Delite Enterprises, Judgment dated 26.2.2009 of Bombay HC

This is a decision of a high court where the question arose whether the provisions of section 14A could be invoked where the assessee had not earned any income not forming part of total income. In this case, the assessee was partner of a firm wherein it invested capital out of borrowed funds on which it was entitled to interest which was taxable under the Act. However no share of profit, exempt u/s 10(2A), was received from the firm. The AO disallowed interest paid by assessee by invoking the provisions of section 14A in respect of asst. years 2001-02 & 2002-03 since income from the firm was exempt u/s 10(2A). It is to be noted that in first year, there was loss and therefore the assessee had not even received the interest in terms of partnership deed.

On appeal, the CIT(A) held that the interest was allowable u/s 36(1)(iii) as the expenditure was incurred for the purpose of earning taxable income and non receipt of income could not be a ground for disallowing such expenditure in AY 2001-02. For the similar reason, he deleted the disallowance in AY 2002-03. Aggrieved by the same, the revenue preferred appeals before the hon’ble tribunal.

The Hon’ble tribunal opined that in the absence of exempted income u/s 10(2A), the provisions of section 14A could not be invoked.

On appeal by the revenue, the Hon’ble Bom high court refused to answer the question since there was no profit received by the assessee from the firm. The order of the tribunal stood confirmed impliedly. It is to be noted that one can argue that such decision does not lay down any preposition of law since the court refused to answer the question. However such view expressed by the tribunal stands fortified by other decisions.

(D) CIT VS Winsome Textile Industries Ltd. [2009] 319 ITR 204 (PH)

This is a decision of PH High Court, where it has been expressly observed that the provisions of section 14A cannot be invoked where the assessee had not earned any income not forming part of total income. In this case, the assessee was engaged in manufacture and sale of cotton yarn. During assessment proceedings, the Assessing Officer disallowed interest on the amount of investment in shares on the ground that since dividend income is exempt from tax u/s 10, the provisions of section 14A were applicable. Before the CIT(A), it was contended by the assessee that it had not claimed any income to be exempt from taxation and therefore, the provisions of section 14A cannot be invoked by the AO. However, the CIT(A) found that investment in shares was made in earlier years out of its own funds and therefore deleted the disallowance u/s 14A. The tribunal affirmed the order of the CIT(A) since there was no nexus between borrowed funds and the investment made in shares.

On further appeal by the revenue, the Hon’ble high court also affirmed the finding of the Tribunal considering the facts. But it is interesting to note the legal observations made by the High Court in the last para of its decision “In the present case, admittedly, the assessee did not make any claim for exemption. In such a situation, section 14A could have no application.” Though these observations were obiter dicta yet are important as it gave food for thought for the appellate authorities as well as other High Courts.

It is important to note that various benches of the Hon’ble Tribunal have followed the above obiter dicta and allowed the appeals.

(E) CIT VS Corrtech Energy (P.) Ltd. [2014] 45 Taxmann.com 116 (Gujarat)

In this case, the assessee had acquired shares by way of investment out of its own as well as borrowed funds. The assessee claimed interest as deduction but the AO disallowed proportionately by invoking the provisions of section 14A read with Rule 8D. On appeal, it was the stand of the assessee before the Commissioner (Appeals) that no such disallowance could be made since it had not earned any dividend on such investments. However, the CIT(A) confirmed such disallowance by observing that the assessee made investment in shares which would result only in dividends which would be exempt from tax and that not receiving any exempt income during current year would not entitle assessee to claim expenses related to investments. On second appeal, the Tribunal held that where the assessee had not claimed any exempted income u/s 10 in this year, the provisions of section 14A could have no application. In coming to this conclusion, the Tribunal relied on the decision of the Hon’ble Punjab and Haryana High Court in case of CIT v.Winsome Textile Industries Ltd. [2009] 319 ITR 204 wherein the Court had observed that where the assessee did not make any claim for exemption, section 14A could have no application.

On further appeal by the revenue, the Hon’ble High Court observed as under:-

We however, notice that sub-section(1) of section 14A provides that for the purpose of computing total income under chapter IV of the Act, 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 under the Act. In the present case, the tribunal has recorded the finding of fact that the assessee did not make any claim for exemption of any income from payment of tax. It was on this basis that the tribunal held that disallowance under section 14A of the Act could not be made. In the process tribunal relied on the decision of Division Bench of Punjab and Haryana High Court in case of CIT v Winsome Textile Industries Ltd. 319 ITR 204 in which also the Court had observed as under.

“We do not find any merit in this submission. The judgement of this court in Abhishek Industries Ltd (2006) 286 ITR 1 was on the issue of allow ability of interest paid on loans given to sister concerns, without interest. It was held that deduction for interest was permissible when loan was taken for business purpose and not for diverting the same to sister concern without having nexus with the business. The observations made therein have to be read in that context. In the present case, admittedly the assessee did not make any claim for exemption. In such a situation section 14A could have no application. We do not find any question of law arising, Tax Appeal is therefore dismissed.”

Thus, the Hon’ble Guj. High Court has endorsed the view taken by the Hon’ble Pb. & Hr. High Court to the effect that section 14A cannot be invoked where the assessee has not earned income not forming part of total income.

(F) CIT-vs-Shivam Motors-judgment dated 5.5.2014 of Allahabad High Court

In this case also, the assessee had acquired shares of a finance company against which no dividend was received. However, the AO disallowed the expenditure by way of interest by invoking the provisions of section 14A. The issue before the tribunal was whether such disallowance could be made by the AO. One of the contentions raised by the assessee was that no disallowance u/s 14A could be made in the absence of income not forming part of the total income. This contention found favour with the tribunal and therefore upheld the order of CIT(A) deleting the disallowance by observing as under:-

“Having heard the rival submissions and from a careful perusal of the record in the light of the relevant provisions of the Act, we find that as per the provisions of Section 14A, 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 under this Act. Meaning thereby the basic condition precedent for invoking the provisions of section 14A is that there should be income, which does not form part of the total income under this Act. Thus, wherever the assessee earned the interest free income, the corresponding expenditure incurred in earning that income is to be disallowed. In the absence of any interest free income, there cannot be any disallowance as no corresponding expenditures were incurred to earn a particular tax free income.”

On further appeal, the Hon’ble Allahabad High Court has affirmed the order of the tribunal by observing as under: “As regards the second question, Section 14A of the Act provides that for the purposes of computing the total income under the Chapter, 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 under the Act. Hence, what Section 14A provides is that if there is any income which does not form part of the income under the Act, the expenditure which is incurred for earning the income is not an allowable deduction. For the year in question, the finding of fact is that the ssessee had not earned any tax free income. Hence, in the absence of any tax free income, the corresponding expenditure could not be worked out for disallowance.”

(G) CIT VS Lakhani Marketing - Judgment dated 02.04.14 of Pb & Hr HC

In this case, the assessee acquired shares out of borrowed funds but no dividend was received on such shares. However, the AO disallowed the expenditure by way of interest by invoking the provisions of section 14A but the CIT(A) allowed the appeal and deleted the disallowance. On appeal by the revenue, the tribunal opined that following conditions must be satisfied before invoking the provisions of section 14A of the Act:-

• That there must be income taxable under the Act;

• That this income must not form part of the total income;

• That there must be expenditure incurred by the assessee, and

• That the expenditure must have a relation to the income which does not form part of the total income under the Act.

The tribunal found that the assessee had not earned any income by way of dividend income not forming part of the total income under the Act. Hence, the order of CIT(A) was confirmed.

On further appeal by the revenue, the Hon’ble High Court has affirmed the order of the tribunal following its earlier decision in case of Winsome Textile Industries (supra).

It is clear from all the above decisions that uniform view have been expressed by the Hon’ble High Courts of Pb. & Hr., Bombay, Gujarat and Allahabad to the effect that the provisions of section 14A cannot be invoked by the tax authorities where the assessee has not earned the income not forming part of the total income.

Logically, it follows that earning of exempted u/s 10 is the condition precedent for disallowance u/s 14A of the Act. There is no contrary view of any High Court on this issue.

Therefore, no disallowance can be made u/s 14A in respect of expenditure where no income has been earned in relation to the investment.

(H) Joint Investment Pvt. Ltd VS CIT, Delhi High Court

The Delhi High Court in the case of Joint Investment Pvt. ltd. (the taxpayer) held that disallowance under section 14A of the income Tax Act 1961 (Act) cannot exceed the tax exempt income the High Court held that section 14A Rule 8D of the Income Tax Rules, 1962 ( the Rules) cannot be interpreted so as to mean that the entire tax exempt income is to be disallowed. The Window for disallowance is indicated in section 14A of the Act, and is only to the extent of disallowing expenditure." incurred by the assessee in relation to the tax exempt income.

The Delhi High Court held that, section 14A of Rule 8D of the rules cannot be interpreted so as to mean that, the entire tax exempt income is to be disallowed. The disallowance under section 14A of the act is to be restricted to the tax exempt income.

In the present case, the accounts of the taxpayer had not been scrutinized by the AO. The same aspect was not noticed by the CIT (A) and the tribunal. The Delhi High Court in the case of Maxopp Investment Ltd. observed that the AO has to first reject the claim of the taxpayer with regard to the extent of expenditure by considering the accounts of the taxpayer, and such rejection must be for disclosed cogent reason. It is only then the question of determination of disallowance of expenditure under section 14A would arise.

Dated : 17th August, 2015

 Maxopp Investment Ltd vs. CIT (Supreme Court)
( 12TH FEB. 2018 )

S. 14A / Rule 8D - Applicability to shares held for controlling interest or as stock-in-trade: The argument that S. 14A & Rule 8D will not apply if the "dominant intention" of the assessee was not to earn dividends but to gain control of the company or to hold as stock-in-trade is not acceptable. S. 14A applies irrespective of whether the shares are held to gain control or as stock-in-trade. However, where the shares are held as stock-in-trade, the expenditure incurred for earning business profits will have to be apportioned and allowed as a deduction. Only that expenditure which is "in relation to" earning dividends can be disallowed u/s 14A & Rule 8D. The AO has to record proper satisfaction on why the claim of the assessee as to the quantum of suo moto disallowance is not correct .      

The first and foremost issue that falls for consideration is as to whether the dominant purpose test, which is pressed into service by the assessees would apply while interpreting Section 14A of the Act or we have to go by the theory of apportionment. We are of the opinion that the dominant purpose for which the investment into shares is made by an assessee may not be relevant. No doubt, the assessee like Maxopp Investment Limited may have made the investment in order to gain control of the investee company. However, that does not appear to be a relevant factor in determining the issue at hand. Fact remains that such dividend income is non-taxable. In this scenario, if expenditure is incurred on earning the dividend income, that much of the expenditure which is attributable to the dividend income has to be disallowed and cannot be treated as business expenditure. Keeping this objective behind Section14A of the Act in mind, the said provision has to be interpreted, particularly, the word ‘in relation to the income’ that does not form part of total income. Considered in this hue, the principle of apportionment of expenses comes into play as that is the principle which is engrained in Section 14A of the Act .

-------------------------------------------------------------------------------------------------

Note: Information placed here in above is only for general perception. This may not reflect the latest status on law and may have changed in recent time. Please seek our professional opinion before applying the provision. Thanks.