THE questions before the Bench are - Whether for invoking the provisions
of section 14A read with rule 8D a proximate connection between the
expenditure incurred and income earned is sine-qua-non; Whether burden
of proving the proximate nexus between the exempt income and expenditure
incurred is on Revenue;
Whether any disallowance under section 14A can
be made without proving the proximate nexus; Whether expenses which are
not directly related to the exempt income can be disallowed merely
because rule 8D permits to do so; Whether for invoking the provisions of
rule 8D the "satisfaction" of the AO about the inaccuracy of accounts
and also to correctness of expenses suo-motto disallowed is a condition
precedent; Whether Revenue can sit in the arm chair of a businessmen and
decide what expense is necessary; Whether once it is proved that an
expense is bonafide and has been incurred wholly and exclusively for the
purpose of business any disallowance can be made by checking the
necessity of the expense; Whether necessity behind an expense is an
alien if the expense is incurred in the interest of business; Whether
any disallowance under section 40(a)(ia) can be made on account of
payment of commission to foreign residents and Whether education cess is
revenue expense. And the verdict partly goes in favour of the assessee.
Facts of the case
Assessee
Company filed its ROI declaring substantial income. The same was
selected for scrutiny and assessment under section 143(3) was made-
During the course of assessment proceedings the AO observed that the
assessee has earned huge dividend income, the AO was of the view that
disallowance of expenses in the light of the provisions of section 14A
and rule 8D is required to be made, the AO while disallowing expenses as
per the provisions of section 14A ignored that the assessee had
suo-motto disallowed certain expenses- Beside this the AO also
disallowed certain business expenses which were in the shape of payment
of commission to Foreign Agents, the AO has disallowed these payments on
the ground that assessee had not deducted TDS while making the
remittance The AO further observed that the assessee has claimed the
payment of education cess as revenue expense, the AO disallowed the same
on the ground that the same is part of income tax and hence cannot be
claimed as revenue expense- CIT(A) affirmed the order of the AO in
respect of first ground i.e of 14A however in relation to second ground
he held that provisions of section 40(a)(ia) are not applicable however
the payments which the assessee had made were not necessary for the
purpose of business- Matter reached to the ITAT wherein the AR of the
assessee vehemently argued the matter at length.
After hearing the parties the ITAT held that,
++
Rule 8D was inserted by gazette notification dated 24/3/2008 in view of
the power conferred under sub-sec (2). This Rule prescribes the method
for computing the expenditure incurred in relation to the income not
forming part of the total income;
++ Bombay High Court in the
case of Godrej & Boyce Mfg. Co. Ltd. Vs DCIT
(2010-TIOL-564-HC-MUM-IT) therefore at page-28 has clearly laid down
that there must be proximate cause based on the relationship of the
expenditure that tax exempt income is established, only then a
disallowance would have to be effected u/s 14A of the IT Act. Therefore,
in view of the decision of the jurisdictional High Court and the
decision of the Hon'ble Supreme Court, we are of the view that sec.14A
cannot be applied unless there is a proximate cause for disallowance;
++
the onus to establish that there is proximate cause based on the
relationship of the expenditure with the exempt income in our opinion is
on the Revenue. Thus, the application of the provisions of sec. (2)
& (3) of Sec.14A and Rule 8D is not automatic in each and every
case, where there is income not forming part of the total income;
++
therefore, it is necessary for the AO first to ascertain whether there
is proximate connection between the expenditure incurred and the income
not forming part of the total income, if such proximate connection is
established with the exempt income, the AO would be justified in
applying the provisions of sub-sec (2) & (3) of sec.14A and Rule 8D
of the IT Act, 1961. The expenditure incurred u/s 14A would include
direct and indirect expenditure, but relationship with exempted income
must be proximate;
++ before making any disallowance u/s 14A, the
AO is required to record a satisfaction, having regard to the accounts
of the assessee, that claim of assessee that expenditure incurred is not
related to the income forming part of the total income is incorrect.
Such satisfaction must be arrived at on the objective basis. He is also
required to record the reasons for arriving at such satisfaction. The
assessing officer in this case, we noted is not satisfied with the
correctness of the disallowance made by the assessee even though he has
accepted the explanation of the assessee that no interest is incurred
with regard to exempt income. He rejected the explanation of the
assessee that no administrative expenditure incurred on earning dividend
income considering the magnitude of the investments and dividend income
received and the disallowance according to him made by the assessee u/s
14A towards administrative expenditure is very less. The assessing
officer nowhere pointed out the proximate connection of other expenses
not apportioned by the assessee for the earning of the dividend income.
He merely observed that the administrative expenses disallowed by the
assessee is very less but how they are less and how the other expenses
incurred by the assessee related to the dividend income has not been
brought on record;
++ no discrepancy in the claim of the assessee
was pointed out. The assessing officer in our opinion in view of the
jurisdictional High Court decision is bound to record satisfaction as to
how the expenses claimed by the assessee have been incurred on earning
dividend income were not sufficient and correct. We have already held
that the onus to prove in this regard lies on the assessing officer;
++
in view of our aforesaid discussion and respectively following the
decision of the jurisdictional High Court in the case of Godrej &
Boyce Mfg. co. Ltd. Vs. DCIT & another (2010-TIOL-564-HC-MUM-IT), we
delete the disallowance made u/s 14A r.w. Rule 8D;
++ the
expression "wholly and exclusively" used in section 37(1) does not mean
"necessarily". Ordinarily, it is for the assessee to decide whether any
expenditure should be incurred in the course of its or his business.
Such expenditure may be incurred voluntarily and without any necessity,
and if is incurred for promoting the business and to earn profits, the
assessee can claim deduction therefore under section 37(1) even though
there was no compelling necessity to incur such expenditure. The Supreme
Court, in the case of CIT Vs Malayalam Plantation, held that it is not
only expenditure which directly results in benefit or advantage to the
assessee's business that is entitled to deduction, but also any
expenditure which is incurred with a view to facilitating the carrying
on of the business;
++ once doubt arise about the bonafide nature
of the payment, it is necessary to look into the necessary
circumstances such as relationship of the payee to the assessee, the
general standard of similar expenditure in comparable business, the true
worth of the services or goods in question and so forth. It is also
open to the A.O. to question the reality of the expenditure i.e., the
true nature of the payment, the true consideration for it and so forth.
Once the A.O. considers the payment and the purpose to be bonafide, it
is not open for him to substitute his own judgment what is the
reasonable quantum of expenditure for the assessee;
++ if we
apply the principles of the law as enunciated in the various judgments,
we are of the opinion that once the A.O. finds that the assessee has
bonafidely incurred the expenditure for the business, the A.O. cannot
decide the quantum of the expenditure to be incurred by the assessee. In
this case before us the assessing officer has disputed the fact that
commission has been paid for the purpose of the business and also
disallowed the said expenditure by applying the provisions of sec.
40(a)(i) as well as on the basis of the genuineness of the expenditure
incurred;
++ CIT (A) while holding that the assessee was not
liable to deduct tax in respect of the commission payment made to the
non-resident agents took the view that the assessing officer was not
justified in disallowing the commission payment by invoking the
provision of sec. 40(a)(i). The CIT(A), however, disallowed the
commission paid by the assessee to the foreign non-resident agents by
applying the provisions of sec. 37 as according to him the assessee had
not able to substantiate the claim for payment of commission to
non-resident agents by adducing specific and tangible evidence to
demonstrate that the services were rendered by the sales agents to
justify the commission payment as claimed by the assessee;
++
there is no law which mandates that a middleman is entitled to his
commission only for the first time when he introduces both the parties
to each other. We agree with the ld. AR that in fact, it is a normal
business practice all over the world that after the parties are
introduced the actual work of a commission agent starts. Here in the
instant case of the assessee, the buyers had been introduced by the said
agents in the past. The emails exhibit that the agents were deeply
involved with the buyers vis-a-vis the assessee in actual transportation
of goods and securing payments to the assessee. Emails show that the
agent was confirming vessel nomination from the buyer, which was later
accepted by the assessee. Other emails show the assessee's request to
the agent for opening of LC and subsequently requesting the agent for LC
amendments and LC acceptances;
++ the assessee is not getting
any benefit or services in return by making the payment towards the
education cess and secondary higher education cess. Therefore, it cannot
be said that it is an expenditure incurred wholly and exclusively for
the purpose of the business and is not part of tax. We do not find any
infirmity or illegality in the order of the CIT(A) while confirming the
disallowance made by the assessing officer in this regard. Thus,
disallowance of Rs.19,72,00,814/- is hereby confirmed. Thus, this ground
stand dismissed.