Adani Infrastructure Services ... vs Department Of Income Tax

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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IN THE INCOME TAX APPELLATE TRIBUNAL AHMEDABAD "A" BENCH, AHMEDABAD [Coram: Pramod Kumar AM and S.S. Godara JM]

ITA No.1943/Ahd/2012 Assessment Year: 2009-10

Income Tax Officer, ....................Appellant Ward - 1(1), Ahmedabad

Vs.

Adani Infrastructure Services Pvt. Ltd., ................Respondent Adani House, Nr. Mithakhali ix Roads, Navrangpura, Ahmedabad.

[PAN: AACCA 5063 C]

C.O. No.44/Ahd/2013 (Arising out of ITA No.1943/Ahd/2012) Assessment Year: 2009-10

Adani Infrastructure Services Pvt. Ltd., .....................Appellant Adani House, Nr. Mithakhali ix Roads, Navrangpura, Ahmedabad.

[PAN: AACCA 5063 C]

Vs.

Income Tax Officer, ...................Respondent Ward - 1(1), Ahmedabad

Appearances by:

Subhash Bains, for the Revenue S.N. Soparkar, for the Assessee

Date of concluding the hearing : April 27, 2015 Date of pronouncing the order : July 17,2015

O R D E R

Per Pramod Kumar:

1. This appeal filed by the Assessing Officer, as also cross objection filed by the assessee, are directed against the order dated 11th July, 2012, passed by the learned ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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CIT(A) in the matter of assessment under section 143(3) of the Income Tax Act, 1961 (hereinafter referred to as 'the Act'), for the assessment year 2009-10.

2. In the appeal filed by the Assessing Officer, the following grievances are raised:

"1. That the ld. CIT(A) has erred in law and on facts in deleting the addition of Rs.23.77 crores made u/s 14A(2) r.w.r. 8D(2)(ii) despite the fact that the assessee had no business income and had not maintained separate accounts for earning exempt income and the funds were composite in nature. The total income includes only exempt income (Rs.79.38 crores from dividend and share of profit) and interest income (Gross Rs.26.08 crores).

2. It was also found that during the year there was fresh investments/transfer in/of shares and interest free advances of Rs.33.78 crores were given to group concerns. The entire interest expenses were thus, not directly attributable to earning any particular income as envisaged in Rule 8D(2)(ii).

3. Thus, section 14A(2) r.w.r. 8D(2)(ii) was rightly invoked by the AO considering the intricate facts of the case which are thoroughly discussed in the assessment order.

On the fact and in the circumstances of the case and in law, the ld. CIT(A) ought to have upheld the order of the Assessing Officer to the extent mentioned above since the assessee has failed to disclose his true income/book profit.

3. In the cross objection filed by the assessee, the following grievances are raised:

1. On the facts and in the circumstances of the case the learned CIT(A) erred in upholding disallowance u/s 14A for Rs.20,15,150/- being other expenses debited in books of account and disallowed as per rule 8D(iii).

2. On the facts and in the circumstances of the case, disallowance of proportionate interest expenditure of Rs.23,77,67,259/- made by Assessing Officer as per rule 8D(ii) r.w.s. 14A is uncalled for on the ground that appellant has sufficient interest free funds available with it to make investment in shares/securities and partnership firms from which exempt income is earned.

3. On the facts and in the circumstances of the case, disallowance of proportionate interest expenditure made by the Assessing Officer is uncalled for even on the ground that interest income earned during the year and taxed as income from business & profession is much more than interest expenditure claimed as expenditure in Profit & Loss account.

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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4. As all these grievances, raised in the appeal as also in the cross-objection, are interconnected, we will take them up together.

5. Briefly stated, the relevant material facts are like this. During the course of the assessment proceedings, the Assessing Officer noticed that the assesse has earned dividend income of Rs 79,20,56,505, received profit from partnership firm amounting to Rs 18,38,067 and received interest amounting to Rs 26,08,28,104. Out of these three items, so far as dividend income and partnership profits are concerned, the same are not includible in income liable to be taxed in view of the provisions of Section 10(36) and 10(2A). As for interest receipts, it was noted that the assesse set off the same against the interest expenses of Rs 25,77,86,144. The Assessing Officer also noted that the investment in the shares of Mundra Port & Special Economic Zone Limited had gone up from 576.12 crores to 933.27 crores, whereas the assesse ceased to hold shares in Adani Enterprises Limited which were valued at Rs 701.12 crores in the beginning of the year. On the basis of the facts so noted, the Assessing Officer proceeded on the basis that entire business activity of the assesse was centred around earning tax exempt income from dividend and share of profits from the partnership firm. He also noted that the assesse has incurred expenses of Rs 25,77,86,144 for interest, Rs 6.93.000 for salaries, Rs 1,98,000 for professional charges and Rs 3,01,746. The AO also noted that the assesse has not maintained separate books of accounts for exempt and taxable incomes and, therefore, the disallowance under section 14A must be computed by taking into account all these expenses including interest. The assessee's contention, that interest expenditure was a back to back transaction in the sense whatever has been spent as interest on borrowing from IDFC has been recovered from Adani Infrastructure & Developers Ltd (AIDL) and whatever borrowing was made from IDFC has been passed on to AIDL too, was brushed on the ground that since all the funds are routed through a common bank account, which is used for taxable as also exempt incomes, usage of funds cannot be segregated. It was in this backdrop that the Assessing Officer proceeded to compute disallowance under ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

Page 4 of 10 section 14A r.w.r 8D which included disallowance of Rs 23,77,67,259 in respect of proportionate interest, under rule 8D(2)(ii), expenses which is the issue in dispute before us. The disallowance included Rs 7,26,15,653, under rule 8D2(iii), but then subsequently it was rectified by the Assessing Officer himself and was thus reduced to Rs 20,15,150. The matter rests there and there is no controversy about the same. Coming back to the disallowance of Rs 23,77,67,259, when the matter was carried in appeal before the CIT(A), he deleted the same on the ground that the interest expenditure of Rs 25,77,86,144, out of which Rs 23,77,67,259 was allocated to tax exempt income, was exclusively incurred for earning a taxable interest income of Rs 25,77,86,144 inasmuch as interest payment and receipt was a back to back transaction. The net figure was thus Nil. On this basis, this component of the 14A disallowance was deleted. Revenue is aggrieved of the relief so granted by the CIT(A) and is in appeal before us. The assesse has also filed a cross objection against this order.

6. We have heard the rival contentions, perused the material on record and duly considered facts of the case in the light of the applicable legal position.

7. We find that in the case of Morgan Stanley India Securities Ltd Vs ACIT (ITA Nos 5072/Mum/2005 and 6774/Mum/2008; order dated 13 th April 2011), a co-ordinate bench of this Tribunal has held that for the purpose of disallowance under section 14A what is to be taken into account is net amount debited in the profit and loss account and not the gross interest debited to the profit and loss account. Same was the view of another coordinate bench in the case of DCIT Vs Trade Investments Ltd (ITA No. 1277/Kol/2011; order dated 30 th March 2012). Viewed thus, the action of the CIT(A) was fully justified in taking into account only the net figure which was nil in this case.

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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8. There is another approach to this issue which also leads to the same conclusion. In the case of ACIT Vs Champion Commercial Co Ltd [(2012) 139 ITD 108 (Kol)], it has been held that under rule 8D(2)(ii) what can be allocated as expense incurred for earning tax exempt and taxable income is the net figure of expenses after reducing expenses incurred exclusively for earning tax exempt income as also expenses incurred exclusively for earning taxable income. In effect thus only expenses common to taxable and exempt income can be allocated under this rule. While holding so, the coordinate bench has observed as follows:

9. The next issue is whether the computation of disallowance, as reworked by the learned CIT(A), is correct. On the face of it, based on a plain reading of rule 8 D, the computation of disallowance may be viewed incorrect inasmuch as one of the variables in formula sect out in rule 8 D (2)(ii) seems to have been wrongly adopted as 'interest paid in the relevant previous year which cannot be directly related to any of the asset' in the place of 'amount of interest paid in the relevant previous year, other than interest included in direct expenses incurred for earning tax exempt income', but, for the reasons we will now set out, in our considered view, this action of the CIT(A) is, even if somewhat serendipitously, in accordance with the correct legal position.

10. We find that in terms of the provisions of section 14 A (2), "(t)he Assessing Officer shall determine the amount of expenditure incurred in relation to such income which does not form part of the total income under this Act in accordance with such method as may be prescribed..." and rule 8 D prescribes this method as follows:

Method for determining amount of expenditure in relation to income not includible in total income. --

(1) .......................

(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;

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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(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 clause (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."

(3) For the purposes of this rule, the 'total assets' shall mean, total assets as appearing in the balance sheet excluding the increase on account of revaluation of assets but including the decrease on account of revaluation of assets.

11. There is no dispute about working of this method so far as rule 8D(2)(i) and (iii) is concerned. It is only with regard to the computation under rule 8D(2)(ii) that the Assessing Officer and the CIT(A) have different approaches. This provision admittedly deals with a situation in which "the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income or receipt". Clearly, therefore, this sub clause seeks to allocate 'common interest expenses' to taxable income and tax exempt income. In other words, going by the plain wordings of rule 8D(2)(ii) what is sought to be allocated is "expenditure by way of interest.............which is not directly attributable to any particular income or receipt" and the only categories of income and receipt, so far as scheme of rule 8 D is concerned, are mutually exclusive categories of 'tax exempt income and receipt' and 'taxable income and receipt'. No other classification is germane to the context in which rule ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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8 D is set out, nor does the scheme of Section 14 A leave any ambiguity about it.

12. Ironically, however, the definition of variable 'A' embedded in formula under rule 8D(2)(ii) is clearly incongruous inasmuch while it specifically excludes interest expenditure directly related to tax exempt income, it does not exclude interest expenditure directly related to taxable income. Resultantly, while rule 8D(2)(ii) admittedly seeks to allocate "expenditure by way of interest, which is not directly attributable to any particular income or receipt" it ends up allocating "expenditure by way of interest, which is not directly attributable to any particular income or receipt,plus interest which is directly attributable to taxable income" (emphasis by underlining supplied by us). This incongruity will be more glaring with the help of following simple example:

In the case of A & Co Ltd, total interest expenditure is Rs 1,00,000, out of which interest expenditure in respect of acquiring shares from which tax free dividend earned is Rs 10,000. Out of the balance Rs 90,000, the assessee has paid interest of Rs 80,000 for factory building construction which clearly relates to the taxable income. The interest expenditure which is "not directly attributable to any particular receipt or income" is thus only Rs 10,000.

However, in terms of the formula in rule 8 D (2) (ii), allocation of interest which is not directly attributable to any particular income or receipt will be for Rs 90,000 because, as per formula the value of A (i.e. such interest expenses to be allocated between tax exempt and taxable income) will be " A = amount of expenditure by way of interest other than the amount of interest included in clause (i) [ i.e. direct interest expenses for tax exempt income] incurred during the previous year".

Let us say the assets relating to taxable income and tax exempt income are in the ratio of 4:1. In such a case, the interest disallowable under rule 8 D(2)(ii) will be Rs 18,000 whereas entire common interest expenditure will only be Rs 10,000.

13. The incongruity arises because, as the wordings of rule 8D(2)(ii) exist, out of total interest expenses, interest expenses directly relatable to tax exempt income are excluded, interest expenses directly relatable to taxable income, even if any, are not excluded.

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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14. The question then arises whether we can tinker with the formula prescribed under rule 8D(2)(ii) of the Income Tax Rules, or construe it any other manner other than what is supported by plain words of the rule 8 D (2)(ii).

15. We find that notwithstanding the rigid words of Rule 8D(2)(ii), the stand taken by the revenue authorities about its application, as was before Hon'ble Bombay High Court in the case of Godrej & Boyce Mfg Co Ltd Vs DCIT (328 ITR 81) when constitutional validity of rule 8 D was in challenge, is that " It is only the interest on borrowed funds that would be apportioned and the amount of expenditure by way of interest that will be taken (as 'A' in the formula) will exclude any expenditure by way of interest which is directly attributable to any particular income or receipt (for example--any aspect of the assessee's business such as plant/machinery etc.)". Therefore, it is not only the interest directly attributable to tax exempt income, i.e. under rule 6D(2)(i), but also interest directly relatable to taxable income, which is to be excluded from the definition of variable 'A' in formula as per rule 6D(2)(ii), and rightly so, because it is only then that common interest expenses, which are to be allocated as indirectly relatable to taxable income and tax exempt income, can be computed. This is clear from the following observations made by Their Lordships of Hon'ble Bombay High Court in the case of Godrej & Boyce (supra):

60. In the affidavit-in-reply that has been filed on behalf of the Revenue an explanation has been provided of the rationale underlying r. 8D. In the written submissions which have been filed by the Addl. Solicitor General it has been stated, with reference to r. 8D(2)(ii) that since funds are fungible, it would be difficult to allocate the actual quantum of borrowed funds that have been used for making tax-free investments. It is only the interest on borrowed funds that would be apportioned and the amount of expenditure by way of interest that will be taken (as 'A' in the formula) will exclude any expenditure by way of interest which is directly attributable to any particular income or receipt (for example--any aspect of the assessee's business such as plant/machinery etc.)..........The justification that has been offered in support of the rationale for r. 8D cannot be regarded as being capricious, perverse or arbitrary. Applying the tests formulated by the Supreme Court it is not possible for this Court to hold that there is writ on the statute or on the subordinate legislation perversity, caprice or irrationality.

There is certainly no 'madness in the method'.

ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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16. Once the revenue authorities have taken a particular stand about the applicability of formula set out in rule 8 D(2)(ii), and based on such a stand constitutional validity is upheld by Hon'ble High Court, it cannot be open to revenue authorities to take any other stand on the issue with regard to the actual implementation of the formula in the case of any assessee. Viewed thus, the correct application of the formula set out in rule 8D(2)(ii) is that, as has been noted by Hon'ble Bombay High Court in the case of Godrej and Boyce (supra), " amount of expenditure by way of interest that will be taken (as 'A' in the formula) will exclude any expenditure by way of interest which is directly attributable to any particular income or receipt (for example--any aspect of the assessee's business such as plant/machinery etc.)". Accordingly, even by revenue's own admission, interest expenses directly attributable to tax exempt income as also directly attributable to taxable income, are required to be excluded from computation of common interest expenses to be allocated under rule 8D(2)(ii).

17. To the above extent, therefore, we have to proceed on the basis that rigour of rule 8 D (2)(ii) is relaxed in actual implementation, and revenue authorities, having taken that stand when constitutional validity of rule 8 D was in challenge before Hon'ble High Court, cannot now decline the same. Ideally, it is for the Central Board of Direct Taxes to make the position clear one way or the other either by initiating suitable amendment to rule 8D(2)(ii) or by adopting an interpretation as per plain words of the said rule, but even on the face of things as they are at present , in our humble understanding, revenue authorities cannot take one stand when demonstrating lack of 'perversity, caprice or irrationality' in rule 8D before Hon'ble High Court, and take another stand when it comes to actual implementation of the rule in real life situations. Therefore, even as we are alive to the fact that the stand of the learned Departmental Representative is in accordance with the strict wording of rule 8D(2)(ii), we have to hold that, for the reasons set out above, this rigid stand cannot be applied in practice.

9. In the light of the above analysis, the interest expenditure will have to be excluded from the expenses to be allocated under rule 8D(2)(ii) for the reason that the interest expenditure is no way relatable to exempt income. The entire ITA No.1943/Ahd/2012 and C.O. No.44/Ahd/2013 Assessment year: 2009-10

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borrowing by the assesse, as we have seen on the facts of this case, has been passed on the AIDL and entire interest on this borrowing has been received from the AIDL. It is completely a back to back transaction and the material on record clearly demonstrates that. Just because it is routed through the same bank account, it cannot be presumed that the money is out of the common funds. Such a presumption, as has been strenuously argued before us by the learned Departmental Representative, will be contrary to the clearly established facts on record. For this reason also, and in the light of the coordinate bench decision in the case of Champion Commercial Co Ltd (supra), the relief granted by the CIT(A) was quite justified.

10. As for the cross objection filed by the assesse, learned counsel did not press the same. It is treated as not pressed and dismissed as such.

11. In the result, the appeal as also the cross objection are dismissed. Pronounced in the open court today on 17 th day of July, 2015

Sd/- Sd/-

S. S. Godara Pramod Kumar

(Judicial Member) (Accountant Member)

Ahmedabad, the 17 th day of July, 2015

Copies to: (1) The appellant (2) The respondent (3) Commissioner (4) CIT(A) (5) Departmental Representative (6) Guard File By order etc

Assistant/Deputy Registrar Income Tax Appellate Tribunal Ahmedabad Benches, Ahmedabad