PRINCIPAL COMMISSIONER OF INCOME TAX VADODARA-1 V. GUJARAT STATE FERTILIZERS AND CHEMICALS LTD.

TAXAP/100/2019

AI Insights

The case revolves around a dispute between the Principal Commissioner of Income Tax, Vadodara - 1 and Gujarat State Fertilizers and Chemicals Ltd. concerning the disallowance of interest expenses under Section 14A of the Income Tax Act, 1961. The Revenue challenged the Tribunal's decision which had upheld the CIT(A)'s deletion of the disallowance made by the Assessing Officer. The main legal contention was whether the Tribunal erred in its application of Section 14A in light of the Supreme Court's decision in Maxopp Investment Ltd. & others v. CIT, which addressed the issue of disallowance of expenditure incurred in relation to income not forming part of the total income. The High Court, referencing various precedents, including its own earlier decisions, affirmed the Tribunal's decision, emphasizing the need for the Assessing Officer to record satisfaction regarding the inapplicability of the assessee's suo moto disallowance before applying Rule 8D.

• Counselvise Citation: [2019] 140 COUNSELVISE.COM (IT) 741643 (HC-GUJARAT)
• Appeal Type: Others
• Pronouncement Date: 18-06-2019
• Assessment Year: misc
• Other Referred Cases: Maxopp Investment Ltd. & others v. CIT, PCIT-II v. Shreno Limited, S.A.Builders Limited v. CIT, Principal Commissioner of Income Tax v. Shreno Limited, Principal Commissioner of Income Tax v. Gujarat State Financial Services Limited
• Laws Referred To: Income Tax Act, 1961
• Result in Favour of: Others
• Court: HIGH COURT
• Department Lawyers: MANISH SHAH
• Assessee Lawyers: VARUN PATEL
• Keywords: Disallowance; Exempt income; Interest expenses; Mixed funds; Tax appeal
• Section: 14A; 260A; 8D

Judgement Text

"C/TAXAP/100/2019 JUDGMENT IN THE HIGH COURT OF GUJARAT AT AHMEDABAD R/TAX APPEAL NO. 100 of 2019 FOR APPROVAL AND SIGNATURE: HONOURABLE MR.JUSTICE J.B.PARDIWALA Sd/- and HONOURABLE MR.JUSTICE A.C. RAO Sd/- ============================================================================== 1 Whether Reporters of Local Papers may be allowed to see the judgment ? NO 2 To be referred to the Reporter or not ? NO 3 Whether their Lordships wish to see the fair copy of the judgment ? NO 4 Whether this case involves a substantial question of law as to the interpretation of the Constitution of India or any order made thereunder ? NO ============================================================================== PRINCIPAL COMMISSIONER OF INCOME TAX VADODARA - 1 Versus GUJARAT STATE FERTILIZERS AND CHEMICALS LTD. ============================================================================== Appearance: MR VARUN K.PATEL for the Appellant(s) No. 1 MR MANISH SHAH for the Opponent(s) No. 1 ============================================================================== CORAM: HONOURABLE MR.JUSTICE J.B.PARDIWALA and HONOURABLE MR.JUSTICE A.C. RAO Date : 18/06/2019 ORAL JUDGMENT (PER : HONOURABLE MR.JUSTICE J.B.PARDIWALA) 1. This Tax Appeal under Section 260A of the Income Tax Act, 1961, is at the instance of the Revenue and is directed against Page 1 of 12 C/TAXAP/100/2019 JUDGMENT the order passed by the Income Tax Appellate Tribunal dated 1st August 2018 in the ITA No.1413/AHD/2014 for the Assessment Year 2010-11. 2. The Revenue has proposed the following substantial questions of law in its memorandum of the Tax Appeal : “(a) Whether on the facts and in circumstances of the case and in law the learned ITAT has erred in upholding the relief of Rs.583.70 lacs u/s.14A of the Act on account of interest expenses, without appreciating that the assessee was maintaining mixed funds and has failed to establish that it has its own surplus funds for investment in dividends and the same fact is reiterated in recent decision by the Hon'ble Apex Court in Maxopp Investment Ltd. & others v. CIT (in CA Nos.104-109 of 2015 dated 12.02.2018) ? (b) Whether on the facts and in circumstances of the case, the learned ITAT has erred in law and on facts in not deciding the ground of appeal raised by the appellant department in respect of disallowance of membership fees ?” 3. Mr.Varun Patel, the learned standing counsel appearing for the Revenue, submitted that the Tribunal committed a serious error in upholding the relief of Rs.583.70 lakh under Section 14A of the Act on account of the interest expenses without appreciating the fact that the assessee was maintaining mixed funds and failed to establish that it had its own surplus funds for the purpose of investment in dividends. According to Mr.Patel, this aspect has been well dealt with by the Supreme Page 2 of 12 C/TAXAP/100/2019 JUDGMENT Court in its recent pronouncement in Maxopp Investment Limited and others v. Commissioner of Income Tax, New Delhi, (2018)402 ITR 640. Mr.Patel submitted that the Tribunal, while passing the impugned order with respect to the disallowance under Section 14A, has referred to and relied on the decision of a coordinate bench in the assessee's own case in the ITA No.339/AHD/2012 for the Assessment Year 2008-09. Mr.Patel clarified that in this regard the department has preferred the Tax Appeal No.900 of 2018 before this Court. He further pointed out that the Tax Appeal No.900 of 2018 has been admitted by this Court. He further clarified that, however, the question relating to the disallowance under Section 14A has not been entertained by this Court in the order dated 31st July 2018, i.e. the order admitting the Tax Appeal No.900 of 2018. 4. Mr.Patel clarified that against the order passed by this Court dated 31st July 2018 in the Tax Appeal No.900 of 2018 for the Assessment Year 2008-09, an SLP has been preferred (Diary Nos.1563 and 2752 of 2019 respectively) on the very same issue relating to Section 14A. 5. Mr.Patel submitted that the Assessing Officer rightly made the disallowance under Section 14A of the Act. He submitted that in a recent decision in the case of Maxopp Investment Limited (supra), the Supreme Court has reiterated that the purpose behind Section 14A of the Act is not to permit deduction of the expenditure incurred in relation to the income which does not form part of the total income. It is to ensure that the assessee does not get double benefit. Page 3 of 12 C/TAXAP/100/2019 JUDGMENT 6. He further submitted that this Court, in the case of PCIT-II v. Shreno Limited, (2018)409 ITR 401 (Gujarat), has referred to the decision of the Supreme Court in the case of S.A.Builders Limited v. CIT, (288)ITR 1 and observed that the exposition of law made by the Supreme Court in the case of S.A.Builders Limited (supra) and the observations made therein have been applied by this Court on various occasions particularly in connection with the disallowance to be made under Section 14A of the Act and it has been held that if the assessee can demonstrate the availability of the surplus interest free funds for making the investment generating tax free income, the disallowance under Section 14A of the Act would not be justified. 7. Mr.Patel submitted that the decision of the Supreme Court in S.A.Builders Limited (supra) is not applicable to the issue involved in the present case as the decision in the case of S.A.Builders Limited (supra) is with respect to Section 36(i)(iii) of the Income Tax Act, whereas in the present case the issue is with regard to the disallowance under Section 14A read with Rule 8D in the context of the assessee having mixed funds, i.e. interest free as well as interest bearing funds. In the case of S.A.Builders Limited (supra), the relevant assessment years were Assessment Years 1990-91 and 1991-92, i.e. prior to the insertion of Rule 8D in the Income Tax Rules by the Income Tax (Fifth Amendment) Rules, 2008 w.e.f. 24th March 2008. It is also submitted that Section 14A has been inserted in the Income Tax Act by the Finance Act, 2001, with retrospective effect from 1st April 1962. 8. It is further submitted that after the insertion of Rule 8D, in all the cases of mixed funds, i.e. interest free as well as Page 4 of 12 C/TAXAP/100/2019 JUDGMENT interest bearing funds, the subsequent decision of the Supreme Court in the case of Maxopp Investment Limited (supra), more particularly para 42 regarding the case of M/s.Avon Cycles Limited, would be applicable for disallowance under Section 14A and such disallowance is required to be assessed as per the provisions of Rule 8D only. The decision of this Court in the case of Shreno Limited, which is based on the prior decision of the Supreme Court in the case of S.A.Builders Limited (supra) is, therefore, not applicable to the cases of mixed funds. 9. On the other hand, this Tax Appeal has been vehemently opposed by Mr.Manish Shah, the learned counsel appearing for the respondent – assessee. Mr.Shah submitted that the decision of the Supreme Court in the case of Maxopp Investment Limited (supra) should not be understood as clinching the issue with regard to the interpretation of Section 14A of the Act and Rule 8D of the Rules. He submitted that in the case of Maxopp Investment Limited (supra), the question before the Supreme Court was, whether the disallowance of expenditure under Section 14A of the Act would be applicable in a case where shares or stocks of a company were purchased for the purpose of gaining control over the said company and incidentally tax free dividend income was generated. He would submit that such an issue does not arise in the present case so as to make the dictum of Maxopp Investment Limited (supra) applicable to the case on hand. He submitted that Maxopp Investment Limited (supra) should not be understood as laying down a proposition of law that the requirement of sub-rule (1) of Rule 8D of the satisfaction to be arrived at by the Assessing Officer before applying the formula given in sub-rule (2) of Rule 8D is done away. He submitted that the decision of the Supreme Court in Page 5 of 12 C/TAXAP/100/2019 JUDGMENT Maxopp Investment Limited (supra) does not lay down a proposition that the moment it is demonstrated that the assessee had availed of mixed funds, i.e. interest free as well as interest bearing funds, and utilized them for making investments into securities earning tax free income and the rest applicability of Section 14A read with Rule 8D would be automatic. 10. In such circumstances referred to above, Mr.Shah prays that there being no merit in this Tax Appeal, the same may not be admitted. He would submit that the question proposed cannot be termed as a question of law, much less a substantial question of law. ANALYSIS : 11. Having heard the learned counsel appearing for the parties and having gone through the materials on record, the only question that falls for our consideration is, whether the Tribunal committed any error in passing the impugned order. 12. It appears that the Assessing Officer made the disallowance of Rs.8,40,91,000=00, out of which, Rs.5,83,15,000=00 pertained to the disallowance of interest expenditure under Section 14A read with Rule 8D. On addition being made by the Assessing Officer, the assessee preferred the Appeal challenging the disallowance made under Section14A of Rs.5,83,15,000=00 disallowing the presumed interest expenditure for earning exempt income. 13. The CIT(A), in the Tax Appeal preferred by the assessee, accepted the contentions canvassed on behalf of the assessee after taking into consideration the ITAT order in the assessee's Page 6 of 12 C/TAXAP/100/2019 JUDGMENT own case for the Assessment Years 2008-09 and 2009-10 on the very same issue. The CIT(A) also considered many decisions of this Court on the very same issue and deleted the addition made by the Assessing Officer of Rs.5,83,15,000=00 under Section14A read with Rule 8D. The Tribunal, in the appeal preferred by the Revenue, passed a consolidated order taking up the issue of disallowance under Section 14A read with Rule 8D. The Tribunal, ultimately, dismissed the appeal. The Tribunal, while dismissing the appeal preferred by the Revenue, took notice of the fact that the spare interest free funds in the form of share capital, reserve and surplus were much more than the investments made for earning tax free income. The Tribunal further observed that the Assessing Officer had failed to establish that the borrowed funds were utilized for making investment to earn exempt income. The Tribunal, following the orders of the previous years as well as the decision of this Court in the assessee's own case, ultimately dismissed the appeal of the department. 14. We only need to deal with the principal argument canvassed on behalf of the Revenue that once there are mixed funds, Rule 8D would be attracted mandatorily in view of the decision of the Supreme Court in the case of Maxopp Investment Limited (supra) and, therefore, the disallowance of Rs.5,83,15,000=00 made by the Assessing Officer could be said to be legal and proper. 15. In Maxopp Investment Limited (supra), the Supreme Court has clarified that the satisfaction has to be recorded by the Assessing Officer to show that the voluntary disallowance of the expenditure made by the assessee on the expenditure incurred Page 7 of 12 C/TAXAP/100/2019 JUDGMENT for earning exempt income is not in order. The Assessing Officer, in such circumstances, is obliged to assign reasons for he not being satisfied having regard to the accounts maintained by the assessee and the suo motu disallowance made by the assessee under Section14A of the Act. We may reproduce the relevant observations of the Supreme Court in this regard thus : “Having regard to the language of Section 14A(2) of the Act, read with Rule 8D of the Rules, before applying the theory of apportionment, the Assessing Officer needs to record satisfaction that having regard to the kind of the assessee, suo moto disallowance under Section 14A was not correct. It will be in those cases where the assessee in his return has himself apportioned the expenditure but the Assessing Officer did not accept the assessee's apportionment. In that eventuality, he will have to record its satisfaction to this effect. Further, while recording such a satisfaction, the nature of the loan taken by the assessee for purchasing the shares or making the investment in shares is to be examined by the Assessing Officer.” 16. We also refer to and rely upon a decision of this Court in the case of Principal Commissioner of Income Tax v. Shreno Limited, reported in (2018)409 ITR 401 (Gujarat), more particularly paragraphs 16 and 17, which read thus : “16. The primary question which the Supreme Court considered in case of Maxopp Investment Ltd., (Supra) was whether disallowance of expenditure under Section 14A of the Act would be applicable in a case where shares or Page 8 of 12 C/TAXAP/100/2019 JUDGMENT stocks of a company were purchased for the purpose of gaining control over the said company and incidentally tax free dividend income was generated. The assessee had contended that the dominant intention for purchasing the shares was not for earning the dividend but to gain control over the business in the company in which the shares were purchased. The Supreme Court held that the purpose for which the shares were purchased was inconsequential. As long as such investment generated tax free income, disallowance of expenditure for making such investment would be justified. This issue does not arise in the present case. However, it is true that while disposing of bunch of appeals by the said judgment the Supreme Court also considered the correctness of the view of the Punjab & Haryana High Court in case of Avon Cycles Ltd. It was the case in which the Assessing Officer had invoked Section 14A read with Rule 8D and apportion the expenditure between investments made for earning tax free income and the rest. The CIT (Appeals) had deleted the entire disallowance upon which in the appeal filed by the Revenue the Tribunal restored portion of the disallowance observing that the funds utilized by the assessee being mixed funds, the disallowance is confirmed in view of the provisions under Rule 8D(2) of the Rules. This decision of the Tribunal was challenged before the High Court. The Court held that the funds utilized by the assessee were mixed funds and the interest paid by the assessee is also an interest on the investments made, was the finding of fact and Page 9 of 12 C/TAXAP/100/2019 JUDGMENT therefore, no substantial question of law arises. This judgment was carried in appeal by the assessee. The Supreme Court dismissed the appeal confirming the decision of the High Court. 17. We do not find that this portion of the judgment of the Supreme Court in case of Maxopp Investment Ltd., can be seen as fundamentally changing the understanding and interpretation of Section 14A and Rule 8D of the Rules adopted by this Court and various Courts, noted above. This judgment does not lay down a proposition that the requirement of sub-rule (1) of Rule 8D of the satisfaction to be arrived by the Assessing Officer before applying the formula given in sub-rule (2) of Rule 8D is done away with. In other words, the judgment in case of Maxopp Investment Ltd., does not lay down a proposition that the moment it is demonstrated that the assessee had availed of mixed funds i.e. interest free as well as interest bearing funds and utilized them for making investments into securities earning tax free income and the rest applicability of the Section 14A read with Rule 8D would be automatic. We are conscious that neither in M/s. Max India Ltd., Punjab & Haryana nor in Gujarat State Fertilizer and Chemicals case, this High Court had noticed the judgment of the Supreme Court in case of Maxopp Investment Ltd. Nevertheless in view of the discussion above, in our opinion the situation would not change on account of the said judgment of the Supreme Court. ” Page 10 of 12 C/TAXAP/100/2019 JUDGMENT 17. This Court, in Shreno Limited (supra), has taken the view that Maxopp Investment Limited (supra) cannot be seen or understood to be fundamentally changing the understanding and interpretation of Section 14A and Rule 8D. It went on to hold that the judgment of the Supreme Court does not lay down the proposition that, the requirement of sub-rule (1) of Rule 8D of recording the satisfaction by the Assessing Officer before applying the formula given in sub-rule (2) of Rule 8D is done away with. It clarifies that the judgment in the case of Maxopp Investment Limited does not lay down a proposition that the moment it is demonstrated that the assessee had availed of mixed funds and utilized them for making investment into securities earning tax free income, Section 14A read with Rule 8D would be attracted automatically. The assessee has further relied on the judgment in the case of Principal Commissioner of Income Tax v. Gujarat State Financial Services Limited in the Tax Appeals Nos.1252, 1253 and 1255 of 2018 decided on 15th August 2018, which has followed the decision in the case of Shreno Limited (supra) dealing with the same issue and also an identical argument taken by the department. 18. The language of Section 14A of the Act is plain and clear. Before invoking Rule 8D, the Assessing Officer is obliged to indicate that having regard to the accounts of the assessee, he is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to the income which does not form part of the total income under the Act. To put it in other words, the condition precedent of recording the requisite satisfaction which is a safeguard provided in Section 14A should not be overlooked before going to Rule 8. In such circumstances we are not impressed by the submission canvassed on behalf of Page 11 of 12 C/TAXAP/100/2019 JUDGMENT the Revenue that once there are mixed funds, Rule 8 would be attracted automatically. 19. In the overall view of the matter, we are convinced that no error, not to speak of any error of law, could be said to have been committed by the Tribunal in passing the impugned order. 20. We are of the view that the question of law proposed cannot be termed as the substantial question of law. 21. In the result, this Appeal fails and is hereby dismissed. (J. B. PARDIWALA, J.) (A. C. RAO, J.) /MOINUDDIN Page 12 of 12 "