High Court of Punjab and HaryanaITA/186/2013dismissed

Commissioner Of Income Tax-I Jalandhar v. M/S Max India Limited

2016-09-06Mr. Justice M.M. Aggarwal,Mr. Justice Avneesh Jhingan19 pages

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Commissioner of Income Tax, JalandharI, Jalandhar .....Appellant versus M/s Max India Limited .....Respondent &+1 23&

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Present:

Mr. Vivek Sethi, Advocate for the appellant Mr. Ajay Vohra, Senior Advocate with Mr. Gaurav Jain, Advocate for the respondent 88888 - 45 0 -:

This is an appeal against the order of the Tribunal allowing the assessee's appeal by deleting the disallowance made by the Assessing Officer. The matter pertains to the assessment year 200203. The Tribunal's order was passed also in ITA No.119 (Asr)/2011 which is the matter relevant to this appeal.

The following substantial questions of law arise in this appeal: "(i) Whether on the facts of the case and in law the Hon'ble ITAT was justified in holding that no expense is attributable to the exempted income as the revenue had failed to establish a direct nexus between the expenses incurred and the income earned ignoring that even indirect expenses are attributable u/s 14A as has been made clear by providing for Rule 8D(2) in subsequent assessment years?

(ii) Whether on the facts of the case the ITAT is right in holding that the legal and professional expenses are allowable ignoring the fact that the assessee has failed to discharge its onus with respect to rendering of services by the payee?"

The assessee are engaged in various activities which they carry on through their different divisions, such as, the packaging, metallise, max foil, pharma, treasury and healthcare divisions. 4.

The assessees filed a return declaring a 'nil' total income under the normal provisions with a brought forward loss and 6,80,27,490/ computed under section 115JB of the Income Tax Act, 1961. A revised return in the same terms was filed except to declare a short term capital gain arising from the sale of one of the divisions. The matter was taken up for scrutiny and a questionnaire was addressed to the assessee.

During the previous year relevant to assessment year 200203, the assessee admittedly earned exempted income by way of interest of which Rs.55 lakhs was interest on Maharashtra State Electricity Bonds and 2,91,97,852/ was earned by way of dividends. The aggregate amount of 3,46,97,852/ was deducted by the assessee being exempted under the Act. The question is whether there was any expenditure relatable to the exempted income for, if there was, the provisions of Section 14A of the Act would apply. Section 14A reads as under:

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The Assessing Officer rejected the assessee's contention that it had not incurred any expenditure for the purpose of earning the exempt income observing that the possibility of the assessee having incurred expenditure relatable to such exempt income could not be ruled out. The Assessing Officer held that on identical facts for the Assessment Year 200102, disallowance relatable to such expenditure incurred for the purpose of earning exempt income was made and on the same basis he made a disallowance of 1.5 crores under Section 14A. The assessee contended that the investment had been made out of its own funds and not from the borrowed funds and, therefore, disallowance was not called for; that the dividend was received as long term investment during the relevant previous year and that no expenditure was attributable towards earning the same as the dividend received was only incidental to the holding of shares; that the dividend was received by single dividend warrants, and therefore,

no expenditure was incurred to earn such dividend; that the assessee had not claimed any expenditure in relation to income which did not form part of the total income; that there was no nexus between the dividend expenditure and the expenses which were sought to be deducted and that the revenue had failed to establish any nexus between the expenditure and the exempt income.

The CIT (Appeals) not only upheld the Assessing Officer's order of disallowance but enhanced the same to about Rs. 4.33 crores. The CIT (Appeals), however, noted as had the Assessing Officer that the assessee had failed to produce the bank statements though called upon to do so. The assessee on the other hand expressed its inability to produce the bank statements in respect of the utilization of the borrowed funds or to show the sources of funds for the investment made on the ground that the bank statements related to an 'old period' and that it was difficult, therefore, to produce the same. The assessment order under Section 143(3) was passed on 30.03.2004 and the order of the CIT (Appeals) is dated 19.01.2006. The same pertain to the assessment year 200203.

The assessee, however, further contended that the positive cash flow and surplus interest free funds available with the assessee during the relevant previous year were sufficient to cover the said interest free investment. The presumption, it was contended, is that the said investments were made from the assesses interest free reserves and, therefore, it was for the department to rebut the presumption by establishing the nexus between the funds borrowed on investment and the said investment. The CIT (Appeals) drew an adverse inference which was one of the main reasons for the order passed by the CIT (Appeals).

into with various lenders to establish that the funds borrowed on interest were utilized for purposes other than the said investment. The CIT (Appeals) analysed each of the documents. It was observed that in the absence of the bank books and bank statements it was not possible to determine whether the assessee had received free funds available at the time when the relevant investment was made or whether the said investment was made out of interest bearing funds and that as the finding about the utilization of funds can be made from a direct study of the books of accounts and the relevant bank statement, a presumption is liable to be drawn against the assessee in this regard. The assessee's contention that the bank statements were not readily available was not accepted.

It was observed that the appellant was otherwise able to produce and submit details of all matters relating to the proceedings in respect of other grounds but had not produced the bank statements or the bank books. It was further observed that the bank statements alongwith bank books were in the exclusive custody of the assessee and could lead to a finding that the assessee utilized borrowed funds for the purpose of making investments. These facts were, therefore, in the special knowledge of the assessee. The documents being in the custody of the assessee and the assessee having failed to produce the same though asked to do so, when a show cause notice was served upon him for enhancement, the CIT (Appeals) drew an adverse inference against the assessee.

The CIT (Appeals) also analyzed the balance sheet and the cash flow statement submitted by the assessee for the relevant period.

We pause here to deal with certain observations made by the CIT (Appeals). It was observed that during the previous financial year i.e.

the financial year 200102, the assessee's borrowings of interest bearing funds, had increased as had its net investments whereas its shareholders funds decreased. The CIT (Appeals) held that a natural presumption, therefore, arises from the balance sheet that the increase in borrowings had gone to fund the increase in investments yielding exempt income. 9.

This presumption is unfounded. Merely because the interest free funds with the assessee have decreased during any period, it does not follow that the funds borrowed on interest were utilized for the purpose of investing in assets yielding exempt income. If even after the decrease the assessee has interest free funds sufficient to make the investment in assets yielding the exempt income, the presumption that it was such funds that were utilized for the said investment remains. There is no reason for it not to. The basis of the presumption as we will elaborate later is that an assessee would invest its funds to its advantage. It gains nothing by investing interest free funds towards other assets merely on account of the interest free funds having decreased. In that event so long as even after the decrease thereof there are sufficient interest free funds the presumption that they would be first used to invest in assets yielding exempt income applies with equal force.

10.

The CIT (Appeals) also observed that since the business of the assessee was mainly in itsoperation, it must be presumed that most of the share capital would go into operational assets like fixed assets before being used for making investments. There is no basis for such a presumption. An assessee would naturally make the investment in a manner most beneficial to itself. It is not required to use its free reserve such as share capital towards operational assets first and then for making investments to yield

exempt income. The natural course of business would suggest that the assessee would utilize the funds to the maximum advantage which in cases such as these would lead to making investments for the operational assets first out of interest bearing funds.

11.

The CIT (Appeals) thereafter analysed various loan agreements. Some of the conclusions were as follows: Though in some cases there are specific covenants about the use or nonuse of funds for investment in shares, there is no such stipulation in respect of many of the other borrowings by the assessee. Some of the repayments were linked to the sale of shares by the assessee which sale proceeds would not be available for the purpose of immediately making fresh investment. The assessee's contention that there was a specific covenant in respect of the loan agreements that the loans could be utilized for business purposes only is not borne out from the documents placed on record. The CIT (Appeals) concluded as under: ,-

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'$ ;';*)=%+ The above conclusion of the CIT (Appeals) is in respect of the utilization of the funds namely the funds borrowed on interest and the interest free funds available with the assessee. The CIT (Appeals) also dealt with the disallowance on account of the administrative expenses. It was contended that the investments were handled only by the treasury division

on which a small part of expenditure on personnel was incurred by the assessee. The CIT (Appeals), however, estimated the administrative expenditure relating to the investment from which exempt income was earned to be 20 lacs during the relevant previous year. Accordingly, the disallowance under section 14A was computed at 4,52,94,905/ which was the sum of 4,32,94,905/ and 20,00,000/ respectively. This, therefore, replaced the disallowance of 1.50 crores made by the Assessing Officer. The Assessing Officer was directed to consider the amounts of disallowance also for computing the income and tax liability under section 115JB of the Act.

12.

The Income Tax Appellate Tribunal, however, setaside the order of the CIT (Appeals) in so far as it disallowed the deduction of 4,52,94,905/ under section 14A on account of interest expenditure. The Tribunal, however, sustained the order in so far as it estimated 20 lacs towards administrative expenditure relating to the investment from which exempt income was earned.

13.

The Tribunal rightly noted that the main thrust of the orders impugned before it was that the assessee had failed to furnish the bank statements and that, therefore, an adverse inference ought to be drawn against it. The Tribunal, however, also observed that the authorities indicated that the presumption as regards the utilization of interest free funds and borrowed funds in a mixed pool ought to be in favour of the assessee. The Tribunal noted that the assessee is a listed company and was required to publish its accounts and submit the same before various statutory authorities such as SEBI, Stock Exchanges as well as to the share holders and financial institutions. In view thereof the Tribunal did not

accept the department's contention that the funds flow statements submitted by the assessee which in turn were prepared on the basis of the audit accounts for the year under consideration were not authentic. 14.

The Tribunal was certainly entitled to draw such an inference. It is a reasonable inference. The Tribunal addressed itself to the correct question, namely, to determine if there was any nexus between the additional investments with the interest free borrowed funds. The following findings of fact of the Tribunal are of vital importance: the assessee had during the relevant time invested an aggregate amount of 152.05 crores out of which an amount of 28.18 crores was made in shares of foreign companies. The dividend from the foreign companies was taxable. This, therefore, left an amount of 123.87 crores which yielded dividends which were exempt from income tax. The assessee realized 117.97 crores from the sale of its investments in the earlier years; 46 crores was generated from the assessee's operating activities; 6.

87 crores was received from sale of fixed assets and there was an opening cash balance of 8.90 crores. The aggregate of surplus funds on which there was no interest burden was 179.74 crores. This amount was available during the relevant previous year. Thus such funds were in excess of the investment of 123.87 crores. In addition thereto the assessee had generated cash from its financing activities of an aggregate amount of 24.24 crores. It had purchased fixed assets aggregating only to 54.62 crores during the relevant period. The findings, therefore, that the assessee had sufficient interest free funds to make the investment yielding tax free returns cannot be faulted.

had sufficient funds available to it on which no interest was payable. This brings us to the legal issue of a presumption to be made when there is a pool of funds which include interest bearing funds and interest free funds. 15.

Mr. Vohra's reliance upon the judgment of the Supreme Court in ! "

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- % ;3EB In that case, the assessee had an over draft account with the bank. It claimed a sum of 28,488/ as an allowable expenditure under section 37(1) of the Act which represented the interest paid on the overdraft amount. The overdraft was for payment of income tax. The authorities as well as the High Court came to the conclusion that the payment of income tax would not fall within the scope of the expression "# $# /$!". It was contended on behalf of the assessee, however, that it had deposited the entire profits in the over draft account and the amount thus deposited being much more than the tax liability, it should have been presumed that the taxes were paid out of the profits of the relevant year and not out of the over draft account for running of the business. The Supreme Court held as under: F 6 1 :

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It may be said that this was a case where the funds were all in a common pool viz. in the overdraft account. It would, however, make no difference even if the funds are in different accounts. The presumption would still apply so long as the interest free funds are available. Our view is supported by the judgment of a Division Bench of the Bombay High Court in )!!# (, ! 0 !

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! + We are in respectful agreement with these observations. There is no reason to restrict the presumption to cases where the funds from different sources are mixed in a common pool. The rational for the presumption is that an assessee would utilize its funds prudently ensuring that it derives the greatest financial advantage. If that be the rational we see no reason for the presumption to be restricted to cases where the different funds are mixed in a common pool. It is, however, only a presumption. 17.

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(6 $ 3)!!# #4,8*2/ 34the petitioner filed its return of income for the assessment year 200809 in which it declared an income of 5.81 crores from the investment and securities which were exempt from tax. It treated these investments as stock in trade. The petitioner had during that year paid interest on borrowed funds and claimed the same as expenditure. The petitioner claimed that the investment in tax free securities

was made out of its own tax free funds and therefore no disallowance could be made under section 14A. The petitioner contended that it was possessed of sufficient interest free funds of 2153 crores as against the investment in tax free securities of 52.02 crores and that there was a presumption that the investment which had been made in the taxfree securities had come out of the interestfree funds available with the petitioner. The Division Bench held: -

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+ We respectfully agree with these observations. While it is only a presumption, it is one which is in the assessee's favour. The Department could have rebutted this presumption by calling for the records from the bank itself. It chose not do so at though the assessee stated that it was not in possession of the records. There was no application either before the Tribunal or before us for an opportunity to lead further evidence in this regard.

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In the circumstances, question No.(i) is answered in favour of the respondentassessee.

21.

The issue in this regard raises essentially a question of fact and not one of law. It required the authorities to appreciate the facts and to take a decision on the basis of balance of probabilities. 22.

According to the assessee it incurred expenditure of about 1.25 crores towards legal and professional charges paid to M/s Max UK Ltd. M/s Max UK Ltd. admittedly is the assessee's associated enterprise. The audit report under section 92E was filed alongwith the return of income. The assessee and M/s Max UK Ltd. entered into an agreement dated 01.07.1999. The relevant provisions thereof as set out in the assessment order read as under: ,F OM

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There is some discrepancy regarding the pound sterling equivalent to the Indian rupees that were paid. This need not detain us as it not relevant for this judgment. The parties proceeded on the basis that the amount paid was 1.25 crores and in respect of which the assessee sought a deduction. On queries raised by the Assessing Officer, the assessee contended that it had also entered into an agreement with M/s Max UK Ltd. for other services and that the amount of 1.25 crores was included in the legal and professional expenses of its corporate office aggregating to about 2.12 crores. In support of his contention that the services were infact rendered and from which the assessee benefited, the assessee relied upon the fact that its total exports were in excess of 29 crores and that it had also benefited in the area of Health Care Services pursuant to the notification received from M/s Max UK Ltd.

24.

The Assessing Officer and the CIT (Appeals) held that the assessee had not furnished any details to establish that the services were infact rendered; that although the agreement provided details of the services to be provided, the assessee was unable to establish that the services were actually provided and that there was no material to establish that M/s Max UK Ltd. was involved in any manner in obtaining export orders for the assessee or in facilitating the exports and that particulars of the information had not been submitted.

25.

The Tribunal on the other hand perceived the facts entirely differently and held in favour of the assessee. The Tribunal found that the nature of the services rendered by M/s Max UK Ltd. was supported by an

invoice. It was further found that the nature of the services provided by M/s Max UK Ltd. were such that it was difficult to provide evidence of the services having actually been rendered. Further, the Tribunal accepted as relevant the assessee's contention that it was infact able to achieve an export turnover of 29 crores and that the same demonstrated primafacie that the services were rendered by M/s Max UK Ltd.

26.

It is not possible to say that the conclusion arrived at by the Tribunal is absurd or perverse. It is a possible view. The services such as of the nature mentioned in the agreement between the assessee and M/s Max UK Ltd. would not necessarily be recorded in writing. Advice, introductions, information may well be communicated orally. The possibility of this is enhanced on account of the fact that these are group companies. Even if each of the facts by itself does not support the Tribunal's conclusion taken together they certainly do. The Tribunal has, therefore, taken a possible view.

27.

Question No. (ii) is, therefore, also answered in favour of the assessee.

28.

The appeal is, accordingly, dismissed.

!"#$ % Whether speaking/reasoned √Yes/No Whether reportable √Yes/No