Commissioner Of Income Taxmadurai v. M/S.balika Finance Co. Ltd.madurai

IN THE HIGH COURT OF JUDICATURE AT MADRAS DATED: 26.02.2007 CORAM: THE HONOURABLE MR.JUSTICE P.D.DINAKARANand THE HONOURABLE MRS.JUSTICE CHITRA VENKATARAMAN T.C. (Appeal) No.15 of 2004 Commissioner of Income TaxMadurai... Appellant versus M/s.Balika Finance Co. Ltd.Madurai... Respondent PRAYER: Tax Case Appeal filed under Section 260A of the Income TaxAct, 1961, against the order dated 18.6.2003 in ITA No.234/Mds/95on the file of the Income Tax Appellate Tribunal, Madras 'A' Benchagainst the letter dated 5.10.1994 in P.A.No.49-003-CV-0339 ITappeal No.833/93-94 from the Commissioner of Income Tax (Appeals I)and letter dated 22.10.1993 in P.A.NO.49-003-CV-0339/92-93/IT fromthe Deputy Commissioner of Income Tax special Range-I, Madurai- 625001. For appellant :Mrs.Pushya SitaramanSenior Standing Counsel forIncome TaxFor respondent :Mr.Venkatnarayananrepresenting M/s.Subbaraya Iyer JUDGMENT (Judgment of the Court was delivered by CHITRA VENKATARAMAN,J.) This appeal is by the Revenue on the following substantialquestions of law: (i) Whether in the facts and circumstances of the case, theTribunal was right in holding that the interest on the borrowedmoney utilised for the investment in shares cannot be set offagainst the dividend income under Section 80M of the Income TaxAct? https://hcservices.ecourts.gov.in/hcservices/ (ii) (ii)Whether in the facts and circumstances of the case, theTribunal was right in granting investment allowance when it wasnever claimed at any earlier stage? 2. The assessee is a non banking finance company. In respectof the assessment year 1992-93, it declared a net income ofRs.22,89,090/-. 3. In the assessment for the assessment year 1992-93, theassessing authority worked out the relief under Section 80-M of theAct by making pro-rata allocation of the interest liability tofunds invested in shares; thereby reduced the net dividend incomeavailable for deduction under Section 80-M of the Act. 4. The assessing officer viewed that the borrowed moneys wereused in making investments in units and shares. He held that thenotional amount relatable to such borrowing was treated as notrelatable to business expenditure, but could be considered onlywith reference to income from other sources. Thus, the officerviewed that in the absence of any nexus shown in the investmentbetween the borrowed money and the investment made in the units andshares, notional interest was attributed to the borrowed capitalused for investments in interest share and thereby allocated it tothe dividend income, the officer held that no portion of theinterest on borrowed funds could be excluded while computing theincome from business. Aggrieved of the same, the assessee filed anappeal before the Commissioner of Income Tax (Appeals). TheCommissioner of Income Tax (Appeals) held that there was noproximate connection between the appellant's business interest,liability and investment of funds in shares. The appellateauthority held that working out the notional interest andallocation it to the dividend income could not be accepted and ithad the effect of unfairly reducing the appellant's eligiblededuction under Section 80-M. The Appellate Authority, followingthe decision of the Gujarat High Court reported in 125 ITR 227(ADDL. C.I.T. v. LAXMI AGENTS P. LTD) and 131 ITR 99 (CIT Vs.COTTON FABRICS LTD.), allowed the appeal, directing the assessingauthority not to bifurcate the interest admissible under Section 36(1)(iii) while computing the appellant's business incomeand the income from other sources and thus allowed the deductionunder Section 80-M on the gross dividend without taking intoaccount any such notional interest. 5. The Revenue preferred an appeal before the AppellateTribunal challenging the view of the appellate authority that theborrowed funds were used in making investments in units and shares;hence, interest relatable to the borrowed capital could not beallowed in full that notional amount relating to such borrowing wasto be treated as not relatable to business expenditure, but could be considered only with reference to income from other sources. TheTribunal noted that it had considered a similar claim of theassessee for the earlier assessment year 1989-90 and viewed thatthe investments were made only to obey the directions of theReserve Bank of India. Accordingly, it came to the conclusion thatthe amount invested by the assessee would therefore form part ofthe business activity, and accordingly upheld the order of theCommissioner of Income Tax. Thus, the Tribunal dismissed theRevenue's appeal. 6. As regards the question of investment allowance, theTribunal noted that for the immediate earlier year, it had allowedthe claim, following the decision of the Supreme Court reported in251 ITR 308 (CIT Vs. SHAAL FINANCE (P) LTD.) that if the lessee hadcarried on the manufacturing activity with the use of leasedmachinery, it would be in sufficient compliance of Section 32-A.Accordingly, the Tribunal allowed the relief. 7. Aggrieved by this view, the Revenue has preferred thisappeal before this Court. 8. Learned Senior Standing Counsel appearing for the Revenuesubmitted that the grant of relief under Section 80-M on the viewthat the investments in units were made to obey the directions ofthe Reserve Bank of India would not make the interest on theborrowed capital, to be taken as business expenditure as thedividend from shares would fall for consideration as income fromother sources. She further pointed out that the amendmentintroduced under Section 14-A of the Finance Act, 2001, isretrospective from 1.4.1962; hence no deduction could be allowed inrespect of the expenditure referable to the income, which would notform part of the business income. On the question of investmentallowance, the Revenue submitted that it was not an issue at allbefore the Commissioner of Income Tax (Appeals). Consequently, theTribunal ought not to have granted the relief without seeingwhether such a claim was part of the assessment considered. 9. Considering the decision reported in 155 ITR 120(DISTRIBUTORS (BARODA) P. LTD. Vs. UNION OF INDIA (S.C.) and havingregard to the provisions of Section 80AA, learned Standing counselfor Income Tax submitted that the Tribunal committed an error inits view that the interest on the borrowed money utilised for theinvestment in shares could not be disallowed against the dividendincome under Section 80 M. 10. In the decision reported in 155 ITR 120 (DISTRIBUTORS(BARODA) P. LTD. Vs. UNION OF INDIA (S.C.), the Apex Court heldthat as far as Section 80-M(1) of the Income Tax Act is concerned,the deduction required to be allowed under that provision is liable to be calculated with reference to the amount of dividend computedin accordance with the provisions of the Act and forming part ofthe gross total income. The Apex Court further held that the reliefgranted under Section 80-M is with reference to the dividendcomputed in accordance with the provisions of the Act. 11. In the decision reported in 131 ITR 99 (CIT Vs. COTTONFABRICS LTD.), the Gujarat High Court dealt with the similarquestion where the assessee, a dealer in shares in the previousyear, borrowed the amount which were used for the purpose ofinvestment in shares. The deduction for the purpose of Section 80-Mwas to be on the basis of the computation done in accordance withthe provisions of Sections 56 and 57 of the Act. The Gujarat HighCourt in 131 ITR 99 (C.I.T. v. COTTON FABRICS LTD) at 104 heldthat, 11. In the decision reported in 131 ITR 99 (CIT Vs. COTTONFABRICS LTD.), the Gujarat High Court dealt with the similarquestion where the assessee, a dealer in shares in the previousyear, borrowed the amount which were used for the purpose ofinvestment in shares. The deduction for the purpose of Section 80-Mwas to be on the basis of the computation done in accordance withthe provisions of Sections 56 and 57 of the Act. The Gujarat HighCourt in 131 ITR 99 (C.I.T. v. COTTON FABRICS LTD) at 104 heldthat, "..... Under section 36 of the IT Act, the interestpaid by an assessee for the purpose of carrying on itsbusiness is deducted in its entirety while computingprofits and gains of the business and, therefore, it isnot possible to allocate a portion of that interest asagainst income from dividends by stating that thatinterest had to be paid for the purpose of investing inshares held by the assessee" The Gujarat High Court further held that, "........when the income from other sources iscomputed in accordance with the provisions of Sections 56and 57, there is no deduction to be made by way ofinterest paid in respect of the income from the dividendsbecause the interest is paid by the assessee company forthe purpose of carrying on its business and the entireinterest is deductible under Section 36(1)(iii) of theAct. Therefore, the entire amount of dividend, call itgross or call it gross minus nil, will be the amount withreference to which the relief under Section 80 M willhave to be computed." The Gujarat High Court further held that the borrowing was for thepurpose of business of the company. Consequently, the interestcannot be apportioned as between the business requirements and themonies borrowed for the purpose of investment in shares. TheGujarat High Court further held that no apportionment is possiblewhen the shares held by the assessee are for the purpose ofbusiness and was assessable as such on profits and gains ofbusiness carried on by the assessee. 12. Learned counsel appearing for the respondent submittedthat the investment in units and shares were made only to complywith the directions of the Reserve Bank of India. Once it wasestablished that the amount principally borrowed was for a business purpose and the interest on borrowed capital was considered fordeduction under Section 36(1)(iii) then it is not possible tobifurcate that interest for the purpose of working out the reliefunder Section 80-M. Hence, it being part of the businessactivity, the deduction was rightly allowed after deducting theinterest on the borrowed funds under Section 36(1)(iii). Hence heprayed that the decision of the tribunal is in accordance with lawand be accepted. 12. Learned counsel appearing for the respondent submittedthat the investment in units and shares were made only to complywith the directions of the Reserve Bank of India. Once it wasestablished that the amount principally borrowed was for a business purpose and the interest on borrowed capital was considered fordeduction under Section 36(1)(iii) then it is not possible tobifurcate that interest for the purpose of working out the reliefunder Section 80-M. Hence, it being part of the businessactivity, the deduction was rightly allowed after deducting theinterest on the borrowed funds under Section 36(1)(iii). Hence heprayed that the decision of the tribunal is in accordance with lawand be accepted. 13. It may be noted that no material is placed before thisCourt as regards the contention that the investment made were outof pure business compulsion to comply with the directions of theReserve Bank of India. Except for a mere assertion and there beingno details to support this contention with the necessary directionof the Reserve Bank of India, we do not accept this plea of thelearned counsel for the respondent. The investments wereadmittedly out of the funds borrowed for business purposes. Theamount eligible for deduction under Chapter VI is only the netamount after the deduction of the expenses. The deduction underSection 80-M has to be with reference to the amount of dividendcomputed in accordance with the provisions of the Act forming partof the gross total income, i.e., after deducting the interest paidon the money borrowed for earning that income and interest withreference to the gross dividend received by the assessee. In thecase on hand, there are no materials to hold that the dividendincome was earned on an incidence to the business income. Thefacts in the decision of the Gujarat High Court reported in 131 ITR99 (CIT Vs. COTTON FABRICS LTD.) is totally distinguishable fromthe facts of the present case. In fact, the view of the GujaratHigh Court has not been accepted by this Court in the decisionreported in 249 ITR 540 (COMMISSIONER OF INCOME TAX Vs. CHEMICALHOLDINGS LTD.). The decision of the Apex Court reported in 155 ITR120 (DISTRIBUTORS (BARODA) P. LTD. Vs. UNION OF INDIA (S.C.) fullycover the issue in that, the deduction under Section 80-M(1) has tobe calculated with reference to the amount of dividend comprised inaccordance with the provisions of the Act forming part of the grosstotal income i.e., after deducting the interest paid on the moniesborrowed for earning such income and not with reference to thegross dividend received. 14. Dealing with the question of deduction of interest on themoney borrowed for investment in shares, this Court considered thequestion of interest deduction in the computation of the dividendthat goes for consideration under Section 80-M. In the decisionreported in 249 ITR 540 (COMMISSIONER OF INCOME TAX Vs. CHEMICALHOLDINGS LTD.), while considering the said question, this Courtheld as follows: 14. Dealing with the question of deduction of interest on themoney borrowed for investment in shares, this Court considered thequestion of interest deduction in the computation of the dividendthat goes for consideration under Section 80-M. In the decisionreported in 249 ITR 540 (COMMISSIONER OF INCOME TAX Vs. CHEMICALHOLDINGS LTD.), while considering the said question, this Courtheld as follows: " The income from dividend is regarded as incomefrom other sources and forms a different headof income. This head of income is differentfrom the head "profits and gains of business orprofession". Where an assessee has income fromother sources such as dividends, and also hasincome from the business or profession, and thededuction allowable under the respective headsis to be made in relation to the incomerealised under those heads, the expenditurelaid out exclusively for the purpose of earningdividend income cannot, for the purpose ofclaiming a larger benefit under section 80M, beignored and that amount excluded under section37(3) in cases where an assessee has incomefrom dividends as also from business, althoughsection 37 provides for the deduction of theamount of interest paid in respect of thecapital borrowed for the purpose of business orprofession. To the extent the interest chargedis capable of being regarded as expenditurelaid out or expended wholly and exclusively forthe purpose of making or earning dividendincome, the interest so paid must be deductedunder section 57(iii) before computing thebenefit under section 80M. " 15. This Court further pointed out that dividend could havebeen earned only after investments were made. The net dividend hasto be calculated after deducting the expenditure as provided forunder Section 57. This Court dissented the view expressed in thedecision reported in [1981] 131 ITR 99 (Guj.), (CIT Vs. COTTONFABRICS LTD.) by the Gujarat High Court, taking the view that therecould not be an allocation of interest as against the income fromdividend where the borrowing was for business purpose, the interestpaid being a business expenditure qualified for deduction underSection 37. In the light of the said decision of this Courtreferred to above, we do not agree with the reasoning of the orderof the Tribunal. 16. The computation insofar as dividend are concerned is to bemade in accordance with Section 57. Clause (i) of Section 57states that in the case of dividends or interest on securities, thesum paid by way of commission or remuneration of a banker or anyother person for the purpose of realising the dividend or interestto be deducted. Apart from this, any other expenditure not beingin the nature of a capital expenditure laid out or expended whollyand exclusively for the purpose of making or earning dividendincome is also deducted as per Section 57(iii). Considering the above-said provision, all that it goes for deduction is not thegross dividend but a net dividend arrived at in terms of theprovisions given therein. 17. We hold that in the light of the decision of the SupremeCourt reported in 155 ITR 120 (DISTRIBUTORS (BARODA) P. LTD. Vs.UNION OF INDIA (S.C.) and this Court in the decision reported in249 ITR 540 (COMMISSIONER OF INCOME TAX Vs. CHEMICAL HOLDINGSLTD.), net dividend alone can be taken in for consideration underSection 80-M Where the assessee does not prove the actualexpenditure incurred and the money borrowed for business purposeshas been diverted for purchase of shares and units, certainly, theamount of interest relating to the amount used for the purpose ofinvestment has to be taken in for the purpose of working out thenet deduction under Section 80-M. 18. Learned standing counsel referred to the amendment broughtforth by introducing Section 14-A by the Finance Act, 2001. We donot find any relevance of this provision to the issue on hand. 18. Learned standing counsel referred to the amendment broughtforth by introducing Section 14-A by the Finance Act, 2001. We donot find any relevance of this provision to the issue on hand. 19. It may be noted that the computation for the purpose ofdeduction under Section 80-M is required to be made in accordancewith Section 80-AA, which provides that before allowing deductionunder Section 80-M, computation of income by way of dividend befirst made in accordance with the provisions of the Act. Thecomputation as regards dividend income is to be made in accordancewith Section 56 and 57. 20. Under similar circumstances, the Bombay High Court, in thedecision reported in 236 ITR 456 (C.I.T. Vs. MAGAN CHHAGANLAL (P.)LTD.), applying the decision of the Apex Court reported in 155 ITR120 (DISTRIBUTORS (BARODA) P. LTD. Vs. UNION OF INDIA (S.C.), heldthat where the main business of the assessee was not of dealing inshares and stocks but were engaged in the business of manufactureof drums and barrels, the assessee would be entitled to a deductionof interest proportionate to the capital investment on shares onthe dividend earned to earn the relief under Section Section 80-M. 21. In the circumstances, we allow the appeal of the Revenueand set aside the order of the Tribunal. Sd/-Asst. Registrar. /true copy/ ksv Sub Asst. Registrar. To:1. The Commissioner of Income TaxMadurai.2. The Assistant RegistrarIncome Tax Appellate TribunalIII Floor, Rajaji Bhavan, Besant Nagar, Chennai-90.3. The Commissioner of Income Tax (Appeals-1) Madurai4. The Income Tax Appellate Tribunal Bench A, Madurai.5. The Deputy Commissioner of Income Tax,Special Range I, Madurai. T.C. (Appeal) No.15 of 2004SSV (CO)kk 14/9