ATHARVA FOUNDRIES PRIVATE LIMITED,PUNE V. ASSISTANT COMISSIONER OF INCOME TAX, CIRCLE 1(1) , PUNE

ITA 113/PUN/2025

AI Insights

The case involves Atharva Foundries Private Limited, which appealed against the disallowance of penal interest of Rs.5,54,598 by the Assistant Commissioner of Income Tax. The interest was charged by Janata Sahakari Bank for overdrawing a cash credit facility. The Assessing Officer disallowed the interest as a deductible expense, considering it a penalty. The Tribunal, however, found that the interest was compensatory for a breach of contractual obligation with the bank and not a penalty for an illegal act. The Tribunal's decision was based on the interpretation of sections 36(1)(iii) and 37(1) of the Income Tax Act, 1961, and relevant judicial precedents.

• Counselvise Citation: [2025] 140 COUNSELVISE.COM (IT) 708503 (ITAT-PUNE)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 17-07-2025
• Appeal Filed By: Assessee
• Order Result: Allowed
• Assessment Year: 2016-2017
• Other Referred Cases: Dy. CIT Vs. M/s. Nipro Medical India Private Limited, CIT Vs Prasad and Co., S.A. Builders Ltd. Vs. CIT(Appeals)
• Laws Referred To: Income Tax Act, 1961
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: RAMNATH P. MURKUNDE
• Assessee Lawyers: R.C. DOSHI
• Keywords: Set aside; Additional evidence; Business expenditure; Capital expenditure; Earning of tax free income
• Section: 143(3); 142(1); 37; 37(1)

Judgement Text

" आयकर अपीलीय अधिकरण “ए” न्यायपीठ पुणे में । IN THE INCOME TAX APPELLATE TRIBUNAL “A” BENCH, PUNE BEFORE SHRI R.K. PANDA, VICE PRESIDENT AND MS. ASTHA CHANDRA, JUDICIAL MEMBER आयकर अपील सं. / ITA No.113/PUN/2025 धििाारण वर्ा / Assessment Year : 2016-17 Atharva Foundries Private Limited, 1102/A2, Rahul Towers Indira Shankar Nagari, Paud Road, Kothrud, Pune-411038 PAN : AAGCA8157K Vs. Assistant Commissioner of Income Tax, Circle – 1(1), Pune अपीलार्थी / Appellant प्रत्यर्थी / Respondent Assessee by : Shri R.C. Doshi Department by : Shri Ramnath P. Murkunde Date of hearing : 07-05-2025 Date of Pronouncement : 17-07-2025 आदेश / ORDER PER ASTHA CHANDRA, JM : The appeal filed by the assessee is directed against the order dated 30.12.2024 of the Ld. Additional/Joint Commissioner of Income Tax (Appeals)-4, Kolkata [“Addl./JCIT(A)”] pertaining to Assessment Year (“AY”) 2016-17. 2. The assessee has raised the following grounds of appeal : “On the facts of and in law 1. The Commissioner of income Tax (Appeals) erred in confirming disallowance of Penal Interest of Rs.5,54,598/- made by the Learned Assessing Officer on the ground that the said penal interest is penalty notwithstanding the well accepted legal position that Explanation 1 to section 37 covers only penalties levied for any purpose which is an offence or prohibited by law. He further failed to understand that over drawings of any facility limit provided by any Bank is neither an offence nor prohibited by any law. 2. The appellant request for admission of additional evidences if any requires in support of above grounds of appeal. 3. The appellant craves, leave to add alter, amend or delete any of the grounds of appeal.” 2 ITA No.113/PUN/2025, AY 2016-17 3. Briefly stated, the facts of the case are that the assessee is domestic company in which public is not substantially interested and engaged in the business of manufacturing of automobile and auto parts. For AY 2016-17, the assessee filed its return of income on 16.10.2016 declaring total income of Rs.4,77,25,360/-. The return was processed u/s 143(1) of the Income Tax Act, 1961 (the “Act”) accepting the income returned by the assessee. Subsequently, the case was selected for limited scrutiny for the following reasons: (i) large any other amount allowable as deduction claimed in schedule BP of return; (ii) large increase in investment in unlisted equities during the year (Part A-BS of ITR) and (iii) high interest expenses relatable to exempt income (u/s 14A) (investment in balance sheet, interest expense in P&L account and exempt income in Schedule EI of ITR). Statutory notice(s) u/s 143(2) and 142(1) of the Act along with questionnaire were accordingly issued and served upon the assessee. In response thereto, the assessee furnished certain details such as copy of ITR, computation of income, audit report, P&L account and balance sheet etc. The assessee also furnished its response to the questionnaire and other details called upon by the Ld. Assessing Officer (“AO”) during the assessment proceedings. The Ld. AO completed the assessment at assessed income of Rs.4,83,62,210/- u/s 143(3) of the Act vide order dated 05.12.2018 by making addition of - (i) Rs.82,250/- denying the exemption claimed by the assessee u/s 10(34) of the Act in respect of dividend received from Janta Sahakari Bank and (ii) Rs.5,54,598/- on account of disallowance of penal interest claimed as an allowable expense u/s 36(1)(iii) of the Act for the reason that as the expense is penal in nature, the same cannot be allowed as deduction. 4. Aggrieved, the assessee challenged the disallowance of penal interest of Rs.5,54,598/- made by the Ld. AO. The Ld. Addl./JCIT(A) dismissed the appeal of the assessee observing as under : “Ground No 1: The ITR, Order u/s. 143(3), Form No. 35, grounds of appeal and the SOF, notices issued by this office and the replies with Annexures furnished by the Appellant have been carefully perused. The provisions of the Sections and the decisions mentioned are also carefully perused. I find that the Appellant has failed to upload the Interest Statement from M/s Janata Sahakari Bank Ltd with break-up of Interest charged duly certified though specifically asked. The Appellant has not furnished any Interest Statement from Bank to show the nature of such Penal Interest of Rs. 5,54,598/-. From the submission of the Appellant, it is apparent that the Appellant has admitted that the Interest charged by the Bank of Rs. 3 ITA No.113/PUN/2025, AY 2016-17 5,54,598/- is not a normal Interest but a penal Interest. The Appellant has further furnished that the Penal Interest has been charged over and above the normal Interest charged over the loan (as in Para G1 above – Para 1 of the submission of the Appellant). The Appellant has claimed that Penal Interest is not a penalty. But, if the Penal Interest is charged over and above the normal Interest on loan, it is always a penalty. I find that the Ld. AO has not added the Interest charged on the overdrawn cash credit facility. But the disallowance has been made only on Penal Interest which has been charged over and above the normal Interest on overdrawn cash credit above the limit as per Sanction Order / Agreement with the Bank. The provision of Penal Interest only comes into effect when there is some breach of law and breach of the provisions of cash credit facility allowed by the Bank. The Appellant has not furnished any evidence to show that it has tried to enhance the credit limit and if any such application was there why such enhancement was not allowed by the Bank. So, even if it is assumed that the penal interest is for availing the credit over the limit as furnished only in narrative way, it is purely a penalty for breach of provisions / rules of the bank. Hence, it is always a penalty in nature, which is not an allowable expenditure. The Appellant has relied on the decision of Madhav Prasad Jatia. I find that this decision is related to the Interest on loan and not the Penal Interest which has been charged over and above the normal Interest on loan. Hence, the decision is not applicable in this case. The Appellant has also relied on the decision of the CIT Vs Prasad and Co. I find that this case is related to penalty paid to NSE and BSE for day to day functioning of late deposit of any margin money or violation of timely delivery etc. But here in the case of the Appellant, the Penal Interest has been charged over and above the normal Interest on loan. Hence, it is apparent that there is some violation of the agreement / contract / Rules with the bank for availing the loan facility, not penalty for late deposit of any margin money or violation of timely delivery etc. Hence, the above decision is not applicable in this case. In view of the above, the Ground No. 1 is DISMISSED.” 5. Dissatisfied, the assessee is in appeal before the Tribunal and all the grounds of appeal relate thereto. 6. The Ld. AR submitted that the assessee had overdrawn cash credit facility for which the bank charged additional interest over and above the normal interest and cannot be treated as penalty. He submitted that since the assessee has taken loans for the purposes of its business the interest expenses including the penal interest paid by the assessee is an allowable expense u/s 36(1)(iii) of the Act. There is no provision in section 36(1)(iii) of the Act disallowing any interest on money borrowed for working capital purpose. He also raised an alternate contention that the penal interest paid by the assessee cannot be disallowed u/s 37(1) read with Explanation 1 as the expenses has not been incurred by the assessee for any purpose which is an offence or which is prohibited by law. He submitted that 4 ITA No.113/PUN/2025, AY 2016-17 overdrawing of cash credit facility cannot be considered as an offence or prohibited by law and hence interest expense incurred in relation thereto cannot be considered as expenditure incurred for the purpose which is an offence or which is prohibited by law. Drawing our attention to the legislative intent behind the insertion of Explanation 1 to section 37(1) of the Act in Memorandum to Finance Bill, 1998, the Ld. AR submitted that it is only unlawful expenses such as protection money, extortion, hafta, bribes etc. which are not allowable deduction u/s 37(1) of the Act. In support of his contention, the Ld. AR placed reliance on the decision of the Hyderabad Bench of the Tribunal in the case of Dy. CIT Vs. M/s. Nipro Medical India Private Limited in ITA No. 1410/Hyd/2019 for AY 2016-17, dated 15.12.2022. 6.1 The Ld. AR also submitted a certificate from the Janata Sahakari Bank Ltd. confirming the interest charged on cash credit account of the assessee which includes the impugned penal interest charged for overdrawing of cash credit facility. He also submitted the summary of total interest paid giving loan account-wise details for each loan taken by the assessee (Pages 24 to 28 of the paper book refers). Since, these documents are additional evidences and were not earlier produced before the lower authorities but goes to the root of the matter, the same are being admitted by us in light of the decision of the Hon’ble Supreme Court in the case of NTPC Vs. Commissioner of Income Tax reported as 229 ITR 383 (SC). 7. The Ld. DR supported the order of the Ld. AO and Addl./JCIT(A). He submitted that the impugned issue may be set aside to the file of the Ld. Addl./JCIT(A)/AO for re-examination in light of the decision of the Hon’ble Supreme Court in the case of S.A. Builders Ltd. Vs. CIT(Appeals) reported in (2007) 288 ITR 1, dated 14.12.2006. 8. We have heard the Ld. Representatives of the parties, perused the material available on record and the paper book filed on behalf of the assessee as well as various judicial precedents relied upon by the Ld. AR and Ld. DR. The facts of the case are not in dispute. The Ld. AO disallowed the penal interest of Rs.5,54,598/- u/s 36(1)(iii) of the Act paid by the assessee to Janata Sahakari Bank charged for overdrawn cash credit facility. Undisputedly, the assessee has taken the cash credit facility 5 ITA No.113/PUN/2025, AY 2016-17 from the said bank for the purpose of its business. The Ld. AO disallowed the claim of the assessee holding the expense to be penal in nature. The Ld. Addl./JCIT(A) has confirmed the addition/disallowance made by the Ld. AO for the reasons stated in the preceding paragraphs. 8.1 Section 36(1)(iii) of the Act reads as under : 36(1). The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28- (i) ….. (ii) ….. (iii) the amount of the interest paid in respect of capital borrowed for the purposes of the business or profession: Provided that any amount of the interest paid, in respect of capital borrowed for acquisition of an asset for extension of existing business or profession (whether capitalized in the books of account or not); for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction. 8.2 Meaning of “Interest”- The definition of \"interest\" provided u/s 2(28A) of the Act means \"interest payable in any manner in respect of any moneys borrowed or debt incurred (including a deposit, claim or other similar right or obligation) and includes any service fee or other charge in respect of the moneys borrowed or debt incurred or in respect of any credit facility which has not been utilised”. 8.3 Before us, the Ld. AR has also made an alternate submission that the disallowance of penal interest cannot be made u/s 37(1) of the Act read with Explanation 1 thereto which reads as under : Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head \"Profits and gains of business or profession\". Explanation 1. - For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.” 6 ITA No.113/PUN/2025, AY 2016-17 8.4 From perusal of the above stated provisions, in our considered view, no disallowance can be made u/s 36(1)(iii) of the Act as the assessee has fulfilled all the requisite conditions stipulated therein viz. - (a) the money must have been borrowed by the assessee, (b) It must have been borrowed for the purpose of business and (c) the assessee must have paid interest on the borrowed amount i.e. the assessee has shown the same as an item of expenditure. From the definition of the term interest provided u/s 2(28A) of the Act interest means interest payable in any manner in respect of moneys borrowed or debt incurred. Going by the plain reading of this definition, in our view, the term interest would therefore include even the penal interest in respect of moneys borrowed by the assessee. 8.5 Further, we also find force in the alternate argument advanced by the Ld. AR that the assessee’s claim of expense cannot be disallowed under the provisions of section 37(1) read with Explanation 1 thereto as well. It is only when in any expenditure incurred by the assessee for any purpose which is an offence or which is prohibited by law shall be deemed to be not incurred for the purpose of business calling for disallowance u/s 37(1) of the Act. It is undisputed fact that the penal interest has been paid on capital/money borrowed for the business of the assessee. The assessee paid the penal interest for overdrawing the credit facility which, in our considered view, is not an offence or which is prohibited by law. The said expense, in our view, is compensatory in nature and has been paid towards breach of contractual obligation with the bank. The Memorandum to Finance Bill, 1998 also clarifies that the disallowance u/s 37(1) covers the cases of payments on account of protection money, extortion, hafta, bribes, etc. as business expenditure which is certainly not the case of the assessee under dispute. Therefore, the payment of penal interest cannot be regarded as payment for infraction of law and disallowed being the penal in nature. The reliance placed by the Ld. DR in the case of S.A. Builders (supra) is misplaced as the present case in hand is distinguishable on facts. 8.6 Considering the factual matrix of the case and the relevant provisions of the Act and legal position enumerated above, we are of the considered view that order of the Ld. Addl./JCIT(A) is not sustainable. Accordingly, the order of the Ld. Addl./JCIT(A) is set aside and the Ld. AO 7 ITA No.113/PUN/2025, AY 2016-17 is directed to modify the assessment allowing the claim of expense of penal interest of Rs.5,54,598/- to the assessee. We hold and direct accordingly. Ground Nos. 1 and 2 raised by the assessee are accordingly allowed. 9. In the result, the appeal of the assessee is allowed. Order pronounced in the open court on 17th July, 2025. Sd/- Sd/- (R.K. Panda) (Astha Chandra) VICE PRESIDENT JUDICIAL MEMBER पुणे / Pune; दिन ांक / Dated : 17th July, 2025. रदि आदेश की प्रधिधलधप अग्रेधर्ि / Copy of the Order forwarded to : 1. अपील र्थी / The Appellant. 2. प्रत्यर्थी / The Respondent. 3. The Pr. CIT concerned. 4. दिभ गीय प्रदिदनदि, आयकर अपीलीय अदिकरण, “ए” बेंच, पुणे / DR, ITAT, “A” Bench, Pune. 5. ग र्ड फ़ इल / Guard File. //सत्य दपि प्रदि// True Copy// आिेश नुस र / BY ORDER, िररष्ठ दनजी सदचि / Sr. Private Secretary आयकर अपीलीय अदिकरण ,पुणे / ITAT, Pune "