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Judgment
The appeal by the assessee arises from a decision of the Tribunal at Lucknow Dt. 31st Jan., 2014. The assessment year to which the appeal relates is asst. yr. 2008-09. Out of a total disallowance of Rs. 67.75 lacs made by the AO under s. 14A of the IT Act. 1961, the Tribunal has deleted a disallowance of Rs. 66.79 lacs and has confirmed disallowance of the balance of Rs. 96,000. The assessee is to that extent in appeal. The following questions of law have been formulated by the assessee:
"(i) Whether Tribunal was justified in determining the disallowance of Rs. 0.96 lac on account of other expenditure to the extent of 0.5 per cent of average value of investment, when the AO had not brought any material or evidence on record to establish that any expense was incurred to earn any tax-free income and had also not recorded any satisfaction to the effect that the claim of the assessee that no such expenditure had been incurred was not correct; and
(ii) Whether Tribunal is justified in adding the proportionate disallowance of Rs. 0.96 lac under s. 14A in computing the book profit when the AO has neither discussed nor mentioned any reason or justification for making such addition."
The AO, in an order of assessment under s. 143(3) of the Act. observed that the assessee had invested a certain amount of its funds in shares and the dividend received or as was receivable on these investments did not form a part of the total income. However, the assessee had claimed certain expenses on account of interest, etc., which were directly attributable to the exempt income. Since the exempt income did not form a part of the total income, the expenditure which was directly related to this income, it was held, could not be debited to the P&L a/c in view of the provisions of s. 14A of the Act. The AO, accordingly, applied the provisions of r. 8D of the IT Rules, 1962 and made a total disallowance of Rs. 67.75 lacs which was computed as follows:
The assessee filed an appeal before the CIT(A). By an order Dt. 26th May, 2011, the CIT(A) deleted the disallowance. In appeal, the Tribunal affirmed the deletion of the disallowance to the extent of Rs. 66.79 lacs (out of a disallowance of Rs. 67.75 lacs made by the AO under s. 14A) but confirmed the disallowance to the extent of Rs. 96,000.
The Tribunal has observed that the entire borrowed funds on which interest was paid were used for business purposes and no portion was used for making investments. Hence, the amount of interest expenditure could not be considered for proportionate disallowance under r. 8D of the Rules. On this ground, the disallowance of Rs. 66.79 lacs out of interest expenditure was to that extent deleted. The balance of the disallowance of Rs. 96,000 was on account of other expenditure incurred by the assessee and which, as noted above, has been confirmed by the Tribunal.
The submission of the assessee is that under s. 14A(2), the AO can quantify the disallowance, if he is not satisfied with the correctness of the claim of the assessee having regard to the accounts of the assessee. In the present case, it has been submitted that no such satisfaction was recorded by the AO and, hence, the disallowance could not have been made.
Sub-s. (1) of s. 14A provides that for the purpose of computing the total income under Chapter IV, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under the Act. Consequently, where an assessee has an income which does not form part of the total income under the Act, no deduction can be made in respect of expenditure which is incurred by the assessee in relation to such income. Sub-s. (2) of s. 14A allows the AO to determine the amount of expenditure which is incurred in relation to such income which does not form part of the total income under the Act in accordance with such method as may be prescribed, if the AO. having regard to the accounts of the assessee, is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income under the Act.
Rule 8D of the Rules provides for method which is to be used for determining the amount of expenditure in relation to income not includible in the total income. Rule 8D provides as follows:
"8D. (1) Where the AO. having regard to the accounts of the assessee of a previous year, is not satisfied with:
(a) the correctness of the claim of expenditure made by the assessee; or
(b) the claim made by the assessee that no expenditure has been incurred, in relation to income which does not form part of the total income under the Act for such previous year, he shall determine the amount of expenditure in relation to such income in accordance with the provisions of sub-r. (2).
(2) The expenditure in relation to income which does not form part of the total income shall be the aggregate of following amounts, namely:
(i) the amount of expenditure directly relating to income which does not form part of total income;
(ii) in a case where the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income or receipt, an amount computed in accordance with the following formula, namely:
A x B/C
Where A = amount of expenditure by way of interest other than the amount of interest included in cl. (i) incurred during the previous year;
B = the average of value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year;
C = the average of total assets as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year;
(iii) an amount equal to one-half per cent of the average of the value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of the assessee, on the first day and the last day of the previous year."
Now at this stage, it would be necessary to note that to determine the amount of expenditure incurred in relation to such income which does not form part of the total income under the Act, by applying the method which is prescribed in r. 8D, the AO must not be satisfied with the correctness of the claim of the assessee, having regard to the accounts of the assessee. The same provision is contained in sub-r. (1) of r. 8D which stipulates that the AO, if he is not satisfied, having regard to the accounts of the assessee with the correctness of the claim of the expenditure made by the assessee or the claim of the assessee that no expenditure has been incurred, shall determine the amount of expenditure in relation to such income in accordance with the provisions of sub-r. (2) of r. 8D. In the present case, the submission is that there is nothing in the order of the AO to indicate that the AO was not satisfied with the correctness of the claim of the assessee.
Now both under sub-s. (2) of s. 14A and under sub-r. (1) of r. 8D, the AO is empowered to apply the method as prescribed in the rules if, having regard to the accounts of the assessee, he is not satisfied with the correctness of the claim of the assessee in respect of that part of the expenditure which is incurred in relation to income which does not form part of the total income. Whether or not, the AO is not satisfied with the correctness of the claim of the assessee has to be deduced from the assessment order and there is no straight jacket formula requiring the AO to use any particular language or form. So long as the order of AO indicates that he is not satisfied with the correctness of the claim of the assessee or the claim of the assessee that no expenditure has been incurred, the AO has to proceed in the manner indicated by r. 8D(2).
In the present case, the AO has noted that the assessee had invested a certain amount of its funds in shares and that the dividend which has been received or receivable did not form part of the total income. The AO noted that there were certain expenses on account of interest etc. which were directly attributable to the exempt income. The assessee had debited the entire expenditure to the P&L a/c. The AO noted that since the exempt income does not form part of the total income, the expenditure which is directly related to income which does not form part of the total income could not be debited to the P&L a/c in view of the provisions of s. 14A of the Act. This, in our view, constituted a clear fulfilment of the requirement in sub-s. (2) of s. 14A as well as sub-r. (1) of r. 8D that the AO was not satisfied with the correctness of the claim of the assessee, on the basis of the accounts of the assessee. The AO has applied his mind to the accounts of the assessee as is ex facie apparent from the order of assessment under s. 143(3).
In this view of the matter, the order of the Tribunal to the extent to which it confirms the disallowance to the extent of Rs. 96,000 is unexceptionable. The Tribunal has, as we have already noted earlier, deleted the disallowance to the extent of Rs. 66.79 lacs on the ground that on this aspect the borrowed funds were used for business purposes and no part thereof was used for making investment and, hence, the interest expenditure could not be considered for proportionate disallowance under r. 8D. The remaining disallowance of Rs. 96,000 was on account of other expenditure. In making this disallowance, representing 0.5 per cent of the average value of the investment, the AO had applied the provisions of r. 8D(iii). The disallowance which was made in the aforesaid terms of Rs. 96,000 has been confirmed by the Tribunal. The Tribunal has relied upon an earlier decision. The position, however, is that the disallowance under r. 8D(iii) which was made by the AO was entirely in consonance with the prescribed method and was, therefore, correctly affirmed by the Tribunal. The computation of book profits under s. 115JB of the Act is consequential.
In view of this position, the appeal will not give rise to any substantial question of law. It is, accordingly, dismissed. There shall be no order as to costs.