Shri Arumugam Olaganathan12/A, Spartan Nagar, Mugappair, Chennai – 600 050 v. Commissioner Of Income Tax 1Chennai

IN THE HIGH COURT OF JUDICATURE AT MADRAS DATED: 08.10.2020 CORAM : THE HON'BLE DR.JUSTICE VINEET KOTHARI ANDTHE HON'BLE MR.JUSTICE M.S.RAMESH TAX CASE (APPEAL) NO.355 OF 2017 Shri Arumugam Olaganathan12/A, Spartan Nagar, Mugappair, Chennai – 600 050... Appellant -vs- Commissioner of Income Tax 1Chennai. .. Respondent PRAYER: Tax Case Appeal filed under Section 260A of Income Tax Act,1961, against the order of the Income Tax Appellate Tribunal 'B'Bench,Chennai,dated12.05.2016passedinITANos.1563/Mds/2015, for the Assessment Year 2010-2011. Against the order of the Commissioner of Income Tax(Appeals)-11, Chennai in ITA.No.508/13-14/A-1, New NoITA.No.236/CIT(A)-1/2013-14, dated 24.03.2015 and against theAssessment order of the Deputy Commissioner of Income TaxCompany Circle – 1(1), Chennai, in GIR/PAN.703-0, dated06.02.2013 for the Assessment year 2010-11. For Appellant: Ms.N.V.Lakshmi for Mr.N.V.Balaji For Respondent: Ms.R.Hemalatha Senior Standing Counsel (Judgment of the Court was made by Dr. VINEET KOTHARI, J.) This Tax Case Appeal has been filed by the Assessee,challenging the order passed by the Income Tax AppellateTribunal, 'B' Bench, Chennai, dated 12.05.2016, for the https://hcservices.ecourts.gov.in/hcservices/ Assessment Year 2010-11, by raising the following substantialquestions of law:“1.Whetherunderthefactsandcircumstances of the case, the Income TaxAppellate Tribunal was right in upholding thedisallowance made under Section 14A of theIncome Tax Act? 2.Whether under the facts and circumstancesof the case, the Tribunal could have concludedthat the appellant had incurred expenditure inrelation to income not includable in the totalincome warranting application of the Section 14Aread with Rule 8D? 3.Whether under the facts and circumstancesof the case, the disallowance under Section 14Acould be made without any satisfaction that theappellant had incurred expenditure in relationto the income not includable in the totalincome? 4.Whether under the facts and circumstancesof the case, the disallowance under Section 14Acould exceed the income not includable in thetotal income? 5.Whether based on materials availablebefore the Income Tax Appellate Tribunal, thetribunal could have concluded that theexpenditure incurred by the appellant is inrelation to income not includable in totalincome? 6.Whether under the facts and circumstancesof the case, the Income Tax Appellate Tribunalwas right in not following the order of thecoordinate bench in the appellant's case on thesame issue for the earlier year?” 2.Both the learned counsel submitted that the issuesraised in the present appeal filed by the Assessee is covered bya recent Division Bench judgment of this Court to which one ofus [Dr.Vineet Kothari, J.] is a Party in the case of M/S. MARGLIMITED VS. COMMISSIONER OF INCOME TAX, CHENNAI [TCA NOS.41 TO43 OF 2017 DECIDED ON 30.09.2020]. The Division Bench of thisCourt in the aforesaid judgment has held as under: 6.Whether under the facts and circumstancesof the case, the Income Tax Appellate Tribunalwas right in not following the order of thecoordinate bench in the appellant's case on thesame issue for the earlier year?” 2.Both the learned counsel submitted that the issuesraised in the present appeal filed by the Assessee is covered bya recent Division Bench judgment of this Court to which one ofus [Dr.Vineet Kothari, J.] is a Party in the case of M/S. MARGLIMITED VS. COMMISSIONER OF INCOME TAX, CHENNAI [TCA NOS.41 TO43 OF 2017 DECIDED ON 30.09.2020]. The Division Bench of thisCourt in the aforesaid judgment has held as under: “13. The provisions of Section 14Athemselves are very clear and withoutrecording satisfaction by the AssessingAuthority that the expenditure incurred toearn exempted income, as computed by theAssessee is not acceptable for the specifiedreasons, the Assessing Authority cannot evenresort to computation of such disallowanceunder Rule 8D of the Rules. Despite this beingthe position of law crystal clear and therebeing no other contrary view from any otherHigh Court, one fails to understand how theTribunal in the impugned order could stilltake a view contrary to this legal positionand uphold the disallowance under Rule 8D readwith Section 14A of the Act, much beyond thequantum of exempted income of dividend earnedby the Assessee in this year. Themisconception of the Assessing Authority aswell as Tribunal appear to have arisen becausethey have read Rule 8D providing forcomputation method of disallowance inisolation, as if it were an island provisionor stand alone charging provision and theyassumed that the disallowance as computedunder Rule 8D is to be taxed as a notionalincome of the Assessee. This is absolutelyimpermissible in law. The reach of computationprovision, namely Rule 8D cannot be readbeyond the parent provision of Section 14Aitself, which itself is not a chargingprovision, but a restriction on allowance ofexpenditure incurred to earn exempted income.The Assessing Authority has to mandatorilyrecord his satisfaction with regard to theproportionate disallowance of expenditureunder Section 14A of the Act as made by theAssessee that it is not satisfactory for suchcogent reasons as specified and therefore, thesame is liable to be rejected and therefore,the computation method under Rule 8D can beinvoked as a legislative way out to computethe quantum of disallowance. Unfortunatley,the Revenue Authority and the Tribunal haveread Rule 8D without context and as anindependent provision of disallowance, as ifit was an island provision of law and thedisallowance computed as per Rule 8D of theRules can go beyond the exempted income itselfand can be added as a taxable income in the hands of the Assessee. Such an interpretationput by Revenue Authorities is pathetic, to saythe least. 14. It is well settled that the Rulecannot go beyond the main parent provision.Therefore, what has been provided ascomputation method in Rule 8D cannot go beyondthe roof limit of Section 14A itself under anycircumstances. The Courts have time and againreiterated this correct, reasonable and clearposition of law. But, merely to somehow makemore disallowance and impose tax on thehypothetical income of the Assessee, incontrast to the concept of "real income" to betaxed as per Section 5 of the Income Tax Act,the authorities under the Income Tax Act keepon adopting such absurd procedures. Thedisallowance to this extent, if it was to haveits way, will constitute a hypothetical'income' taxable in the hands of the Assessee,which could never be the intention of Section14A of the Act, providing for a proportionatedisallowance of expenditure incurred to earnthe exempted income. 15. The expenditure incurred to earn anyincome has to be always below the extent ofincome itself and bear a reasonable proportionthereto, as the commercial prudence does notpermit any one to spend more and earn less.The investment in shares of which dividend isearned and dividend being exempted income, theexpenditure incurred for earning such dividendin the form of interest on the borrowed funds,which are employed to buy such shares canobviously be not more than the dividend itselfand even if the interest paid on such borrowedfunds is more than the actual dividend earnedduring the year in question, the disallowanceof interest cannot go beyond the amount ofdividend itself. As such, interest paid onborrowed funds by the Assessee does notconstitute 'income of Assessee for that year'.Section 14A has been introduced not to allowexpenditure incurred to earn such exemptedincome in the form of dividend as an allowableexpenditure against the exempted income of theAssessee and therefore, obviously the disallowance too cannot exceed the extent ofdividend itself. The Tribunal itself in manysuch cases has upheld the disallowance underSection 14A only to the extent of 2% of theDividend income or other exempted income evenif Assessee claimed that no expenditure wasincurred to earn such Dividend income and evenappeals filed by the Assessee against such 2%disallowance have been dismissed by thisCourt. Therefore, such an inconsistentapproach on the part of the Tribunal cannot besustained. 16. The contention raised on behalf ofthe Revenue by Mr.Karthik Ranganathan thateven if the dividend income is not earned inthe present year, since the investment is madefor the strategic purposes to have controlover the subsidiary companies, whenever infuture a huge dividend can be declared, itwill be earned by the Assessee and in thatfuture year, the Assessee will not haveincurred any expenditure to earn that incomeand therefore, a larger disallowance underRule 8D should be allowed, is only aningenuity of argument covered by the absurditythereof. The disallowance of expenditureincurred for the year in question only can beconsidered under Section 14A of the Act and nosuch hypothetical earning in future as againstno expenditure incurred for that, is envisagedunder Section 14A of the Act. 17. With respect to the learned counselfor the Revenue, we cannot accept suchunfounded and imaginary situtations andsubmissions. The nature of investment hasnothing to do with Section 14A of the Act. Itis the exempted income in the form of dividendwhich forms the cap or roof limit fordisallowance. Firstly, the Assessee has toapportion the expenditure incurred in the formof interest on borrowed funds if any or theexpenditure incurred by him to earn suchdividend income, which is exempt from tax andif at all the Assessing Authority is notsatisfied with that declaration of theassessee, after recording such reasonable andcogent satisfaction only, he can resort to thecomputation method under Rule 8D of the Rules 17. With respect to the learned counselfor the Revenue, we cannot accept suchunfounded and imaginary situtations andsubmissions. The nature of investment hasnothing to do with Section 14A of the Act. Itis the exempted income in the form of dividendwhich forms the cap or roof limit fordisallowance. Firstly, the Assessee has toapportion the expenditure incurred in the formof interest on borrowed funds if any or theexpenditure incurred by him to earn suchdividend income, which is exempt from tax andif at all the Assessing Authority is notsatisfied with that declaration of theassessee, after recording such reasonable andcogent satisfaction only, he can resort to thecomputation method under Rule 8D of the Rules and compute such disallowance with a caveatthat under no circumstances, the disallowancecan exceed the amount of dividend incomeearned, received or accrued to the Assessee inthe present year, which was taxable but forthe exemption as per the provisions of theAct. If no dividend income is declared by theinvestee company or subsidiary company as thecase may be, the disallowance computed underRule 8D cannot be taxed as a "hypotheticalincome" of the Assessee, by providing anegative figure beyond the dividend incomeearned during that year, to be added to thetaxable income of the Assessee. That will makethe mockery of the concept of "real income" ofthe Assessee being taxed and it is the bedrockof the Income Tax Act itself. 18. The computation of disallowance made bythe Assessing Authority and upheld by theTribunal, as given in paragraph 6 of itsimpugned order, are quoted below for readyreference: "6. We have heard both the parties andperused the material on record. The assesseemade total investment in the assessment year2009-10 as follows: 6.1. For the assessment year 2010-11, thetotal investment is as follows: 6.3. In this case, the assessee made averageinvestment which yields no income or exemptedincome is as follows: The AO disallowed 0.5% of the average investmentas follows: The assessee divident income received and claimedas exempt for these assessment years are asfollows: 19. Obviously such disallowance has farexceeded the exempted income in the form ofdividends even though computed at the rate of0.5% of the average investment made by theAssessee. In our opinion, the same is notpermissible at all, because this averagedisallowance as computed under Rule 8D could bedisallowed only if Assessee had actually earnedDividend income in excess of such amount ofdisallownace, that too after recording reasonsfor rejecting the apportionment of expenditureso incurred or claim that no such expenditurewas incurred to earn that much of Dividendincome was validly rejected by the AssessingAuthority. We do not find any such reasons evenrecorded by the Assessing Authority in thepresent case.” 3.The learned counsel for the Assessee Ms.N.V.Lakshmi,also urged that the Assessing Authority in the assessment orderAY 2009-10 has recorded the reasons for invoking Section 14-A ofthe Income Tax Act, 1961 (Shortly “the Act”) which do not makesany sense. The Assessee is only a Proprietorship concern,whereas the Assessing Authority has sought to disallow even theDirectors' remuneration under Section 14-A of the Act, which isnot even the fact situation of the legal jurisprudence. 4.We have perused the order of the Assessing Authority.The relevant extract of the same is quoted below: 3.The learned counsel for the Assessee Ms.N.V.Lakshmi,also urged that the Assessing Authority in the assessment orderAY 2009-10 has recorded the reasons for invoking Section 14-A ofthe Income Tax Act, 1961 (Shortly “the Act”) which do not makesany sense. The Assessee is only a Proprietorship concern,whereas the Assessing Authority has sought to disallow even theDirectors' remuneration under Section 14-A of the Act, which isnot even the fact situation of the legal jurisprudence. 4.We have perused the order of the Assessing Authority.The relevant extract of the same is quoted below: The assessee accounted an amount ofRs.1,21,166/- as dividend during the year andclaimed the same as exempt u/s 10(34). As perthe provisions of section 14A of the Income TaxAct, 1961, no deduction shall be allowed inrespect of expenditure incurred in relation tosuch income which does not form part of thetotal income. The assessee was asked to clarifyas to why the disallowance shall not be madeu/s.14A. The assessee has made submissions thatno expenditure has been made for earning thesaid divided income. The contention of theassessee is not acceptable for the followingreasons: i.It is logical to conclude that a portionof the routine expenditure to maintain itsestablishment and administration can beattributable towards the activity of makinginvestments to earn dividend. Further, it is afact that the managerial staff and the Directorsare involved in making decisions on investments.Hence, a portion of this managerial remunerationand Directors remuneration definitely beattributable towards earning such exempt income.ii.Reliance is placed on the decision ofthe Bombay High Court in the case of Godrej &Boyce Vs. DCIT, wherein it has been held thatdisallowance under Sec.14A r.w. Rule 8D is “fairand reasonable”. To determine the expensesattributable to earning such exempt income, theFinance Act, 2006 had brought in the provisionsof Section 14A(2) which requires the AssessingOfficer to determine the expenses relating toexempt income in accordance with Rule 8D. iii.For the reasons stated above, theundersigned is satisfied that without anyambiguity and with certainty, it can be stated that the assessee would have definitely incurredexpenses towards earning exempt income. iv.As there is no direct expense relatableto the exempted income and no interest expensesrelatable to direct income, ½% of averageinvestments as provided in the 3[rd] limb of Rule8D worked out as under is disallowed u/s.14A andadded back to income under the head “income frombusiness or profession”: ½% OF AVERAGE INVESTMENTS YIELDING EXEMPT INCOME986841INVESTMENTS AS ON 31.3.2010212191624INVESTMENTS AS ON 31.3.2009182544674AVERAGE INVESTMENTS 197368149DISALLOWANCE U/S 14A986841 “ 5.We find some force in the submission of the learnedcounsel for the Assessee. 6.However, since both the learned counsel are agreeingthat the matter should go back to the Assessing Authority fordeciding the case again on the aspect of Section 14-A of the Actin accordance with the Division Bench judgment of this Court inM/s.Marg (cited supra), the appeal is accordingly disposed of,by answering the questions of law in favour of the Assessee andagainst the Revenue and the matter is remitted back to theAssessing Authority for passing fresh orders on the limitedissue under Section 14-A of the Act, by complying with thedirections of this Court in the aforesaid judgment with regardto the satisfaction, for invoking Section 14A read with Rule 8Dalso, in accordance with law. 7.The Tax Case Appeal is accordingly disposed of. No Sd/- Assistant Registrar(CS IX) //True Copy// Sub Assistant Registrar TK To 1.The Commissioner of Income Tax 1Chennai. Chennai. 2.The Income Tax Appellate Tribunal,Madras 'B' Bench, Chennai.Madras 'B' Bench, Chennai. 3.The Deputy Commissioner of Income Tax,Company Circle I(1), Chennai.Company Circle I(1), Chennai. 7.The Tax Case Appeal is accordingly disposed of. No Sd/- Assistant Registrar(CS IX) //True Copy// Sub Assistant Registrar TK To 1.The Commissioner of Income Tax 1Chennai. Chennai. 2.The Income Tax Appellate Tribunal,Madras 'B' Bench, Chennai.Madras 'B' Bench, Chennai. 3.The Deputy Commissioner of Income Tax,Company Circle I(1), Chennai.Company Circle I(1), Chennai. +1cc to Mr.N.V.Balaji, Advocate, S.R.No.33635+1cc to Mr.T.Ravikumar, Advocate, S.R.No.33394+1cc to Mr.T.Ravikumar, Advocate, S.R.No.33394 TAX CASE (APPEAL) NO.355 OF 2017 SS(CO)CS/07/12/2020