Balaji Services , Karnal vs Assessee

Appellant by : Sh. Sh. Ved Jain & Sh. Ashish Goel, CAs Respondent by : Sh. Amit Jain, Sr. DR.

Date of Hearing : 09.06.2015 Date of Pronouncement : 31.07.2015

ORDER

PER N.K. SAINI, A.M.

These two appeals by the assessee are directed against the separate orders dated 02.12.2011 and 31.05.2012 of the ld.CIT(A), 2 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

Karnal for the assessment year 2008-09 and 2009-2010 respectively.

2. Main issue involved is common in these appeals which heard together, so, these are being disposed off by this consolidated order for the sake of convenience and brevity.

3. First, we will deal with the appeal in ITA No. 1194/Del/2012 for the assessment year 2008-09. Following grounds have been raised in this appeal:

" 1. On the facts and circumstances of the case, the order passed by the ld. Commissioner of Income Tax (Appeals) [(CIT(A)] is bad both in the eye of law and on facts.

2. On the facts and circumstances of the case, the ld. CIT(A) has erred both on facts and in law in confirming the action of the AO in making disallowance of an amount of Rs. 14,04,000/- on account of interest.

3. That while confirming the said disallowance the learned CIT(A) has erred both on facts and in law in misinterpreting the agreement entered into between the assessee and North West Paper Kraft Private Limited.

4. That the disallowance has been confirmed ignoring the explanation and evidences brought on record by the assessee.

5. The appellant craves leave to add, amend or alter any of the grounds of appeal."

4. From the above grounds it would be clear that only grievance of the assessee in this appeal relates to the confirmation of addition amounting to Rs. 14,04,000/- made by the AO on account of disallowance of interest. The facts related to this issue in brief are that assessee e-filed the return of income on 28th September, 2008 declaring an income of Rs. nil which was processed u/s 3 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

143(1) of the Income Tax Act, 1961(hereinafter referred to as the Act) on 09.02.2010, later on the case was selected for scrutiny.

5. During the course of assessment proceedings the AO noticed that the assessee had advanced Rs. 1.17 crores to M/s North West Paper Craft Pvt. Ltd. but no interest had been charged, however, on the other hand the assessee had incurred interest liability to the tune of Rs. 1,24,12,153/- on interest bearing loans. The AO asked the assessee to explain as to why proportionate amount of interest as debited to P & L a/c be not disallowed in view of specific judgement of the Hon'ble Jurisdictional Punjab and Haryana High Court in the case of CIT vs. Abhishek Industries Ltd. In response the assessee submitted that it had entered into an agreement with M/s North West Paper Craft P. Ltd. for the sale of their plant and machinery and for this purpose the assessee firm submitted a copy of agreement entered into between the assessee and M/s North West Paper Craft Pvt. Ltd. Kaithal Road, Karnal. The AO observed that the said agreement revealed that it was entered between the said parties for the purpose of purchase of plant and machinery by the assessee and sale by the other party. He also observed that some payments were paid through cheques and the agreement has to be effected upto 31.12.2010. The AO asked the assessee to furnish following documents/details :-

" i) Proof of land purchased where the proposed paper manufacturing Unit was proposed to be set up alongwith complete details of land purchased, where located, in whose name it stands alongwith copy of relevant revenue papers/registration deed etc.

ii) If the land has been purchased in the name of the assessee firm, then sources thereof and where reflected in the books of accounts.

Also, fate of agreement i.e. if all the plant and machinery stand purchased or not? If not, then reason thereof? If yes, then complete details thereof?

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iii) Complete details of proposed loacation/location selected and infrastructure erected thereupon and where the expenses thereof have been booked/reflected (with supporting documentary evidences)."

The AO observed that the assessee did not offer any explanation or supporting documentary evidences with reference to the queries raised. He therefore, inferred that the assessee had nothing to say in the matter and charged and worked out the interest @ 12% on the interest free advance of Rs. 1.17 crore, parallel to the interest paid by the assessee to banks and to the others loans. Accordingly a sum of Rs. 1404000/- was reduced from the interest liability which resulted in an addition of Rs. 1404000/- .

6. Being aggrieved the assessee carried the matter to the ld. CIT(A) and reiterated the submissions made before the AO, it was further submitted that advance was given for the purchase of plant and machinery since the assessee was interested to set up a paper manufacturing plant. It was stated that no interest was charged by the partners on their capital which was Rs. 92.34 lakhs as on 31.3.2008 and no interest was paid on unsecured loans. It was further stated that the partners of the assessee firm had taken sufficient land in Uttarpradesh (U.P) for installation of plant & machinery and the infrastructure of the paper mill was developed along with plant and machinery. It was also stated that the AO had not doubted the genuineness of the agreement submitted and had nowhere held that the advance was not made for business consideration. Therefore, the disallowance of interest was not called for. The assessee furnished copy of account of M/s Northwest Paper Crafts P. Ltd. for the financial year 2006-07 relevant to the preceding assessment year 2007-08.

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From the above said account the Ld. CIT(A) found that there were inflow and outflow of funds through out the financial year 2006-07 and that the assessee paid Rs. 1,97,49,114/- and received Rs. 59,81,076/- , as such there was closing Debit balance of Rs. 1,37,68,038/- as on 31.03.2007 which was carried forward to the next year. The Ld. CIT(A) point out that the agreement was undated on a plain paper and it had not been registered specifically in view of the fact that the agreement was for the purchase of Plant & Machinery worth Rs. 3 crores. The Ld. CIT(A) also pointed out that the first payment as per this agreement was of Rs. 2,90,000/- per cheque dated 30.05.2006 and the final payment was to be made by 31.12.2010. The Ld. CIT(A) observed that the execution of this agreement was to be done in more than 4 years time which itself raised doubt about the genuineness of this agreement since in such a long span of time even the technology becomes absolete. He also pointed out that normally in an agreement, in case of non execution of the agreement, some penal clause is used to be there, whereas in this case there was no such penal clause and as per this agreement in case of non execution of the terms of agreement by the company, the amount of advance was to be returned and that too without any interest. The Ld. CIT(A) inferred that the entire exercise had been carried out by the assessee to show that the advance was made for business purposes to prevent the disallowance out of claim of interest for making this interest free advance. The ld. CIT observed that from the bank statement furnished by the assessee it was difficult to ascertain/ verify the exact source of making the said advancement to M/s Northwest Crafts Pvt. Ltd. He also observed that the assessee had taken secured loans of Rs. 8.30 crores on which interest liability of Rs. 1.24 crores was claimed and had those interest free advances been not made to M/s North West Paper Craft (P) Ltd, the same would be available with the assessee for use 6 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

of business which in turn would reduce the interest liability of the assessee substantially. The Ld. CIT(A) did not accept this contention of the assessee that no interest was paid on the capital of the partners by observing that the same was not available for making this interest free advance. He accordingly confirmed the disallowance made by the AO. Now the assessee is in appeal.

7. The ld. Counsel for the assessee reiterated the submissions made before the authorities below and further submitted that the amount of Rs. 1.17 crore was given to M/s North West Paper Crafts Pvt. Ltd. as an advance, it was a business transaction for the purpose of purchase of Plant & Machinery, as the assessee entered into an agreement for purchasing Plant & Machinery. It was further stated that the assessee furnished all the details to the AO as well as the Ld. CIT(A) and explained that there was no nexus in the interest free advance and the interest bearing loans. Therefore, the disallowance made by the AO and confirmed by the Ld. CIT(A) was not justified. The reliance was placed on the following case laws :-

• CIT vs. Rockman Cycle Industries Ltd. (2009) 176 Taxmann 21 (P&H) • CIT vs. Amrit Soap Co. (2009) 308 ITR 287 (P&H) • Munjal Sales Corporation vs. CIT (2008) 298 ITR 298(SC) • S.A. Builders vs. CIT(2007) 288 ITR 1 (SC)

8. In his rival submissions. Ld. DR reiterated the observations made by the authorities below and strongly supported the impugned order passed by the Ld. CIT(A).

9. We have considered the submissions of both the parties and carefully gone through the material available on the record. In the present case it is 7 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

noticed that the assessee entered into an agreement with M/s North West Paper Crafts Pvt. Ltd. for purchase of the Plant & Machinery for a sum of Rs. 3 crore, copy of the said agreement is placed at page no. 25 and 26 of the assessee's paper book. So the amount paid by the assessee was an advance to purchase the Plant & Machinery and it was not an interest free loans given by the assessee to M/s North West Paper Crafts Pvt. Ltd. which was paid through cheque. The AO considered this amount as interest free advance and made the impugned disallowance on account of notional interest worked out @ 12% for the reasons that the assessee was paying interest on the borrowings. However no nexus was established in between the interest bearing funds and the advance given by the assessee for purchase of the Plant & Machinery. In the present case, on the perusal of ledger account of M/s North West Paper Craft Pvt. Ltd. placed at page no. 27 to 30 of the assessee's paper book, it would be clear that apart from the advance given to the said party there were many other transactions and some times, there was credit balance in the account of said party. In the present case, it is not the case of the department that the borrowed funds were not used for the business purpose and in the absence of nexus between the interest bearing borrowed funds and the advance given by the assessee for purchase of Plant & Machinery, the disallowance made by the AO, was not justified. In the present case, it is also noticed that the partners of the assessee firm were having opening balance of Rs. 24,07,594.88 in their capital account and added Rs. 81,19,857/- during the year under consideration, on the said amount, the partners were not charging any interest. The said amount was available to the assessee for giving an advance to M/s North West Paper Craft Pvt. Ltd. As such the disallowance made by the AO and sustained by the ld. CIT(A) was not justified.

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10. On a similar issue their lordship of Punjab & Haryana High Court in the case CIT vs. Rockman Cycle Industries Ltd. 176 Taxman 21 (Supra) has observed in para 5 as under :

"5. After hearing the counsel for the parties, we do not find any substance in the arguments raised by the Counsel for the revenue. As per section 36(1)(iii) of the Act, the amount of interest paid in respect of capital borrowed for the purposes of the business or profession has to be allowed as a deduction in computing the income under section 28 of the Act. Once a finding of fact has been recorded that the interest paid in respect of the advances was for business consideration, then the deduction has to be allowed to the assessee while computing the income. Merely because the interest-free loan has been advanced to the sister concerns, no such inference can be drawn that the said advances were not for any business connection or purpose. The Supreme Court in S.A.Builders Ltd.'s case (Supra) has held that when the assessee borrowed the fund from the bank and lent some of it to its sister concerns as an interest-free loan, then the real test to allow the interest as deduction under section 36(1)(iii) of the Act is whether this was done for commercial expediency or not. Similar view has been taken by the Supreme Court in Munjal Sales Corpn.'s case (Supra)."

11. In the present case also the interest was paid by the assessee on the amount borrowed for the purposes of business so it was to be allowed u/s 36(1)(iii) of the Act and once it is established that the interest paid was for the business consideration than the deduction has to be allowed to the assessee while computing the income u/s 28 of the Act and no disallowance can be made merely on this basis that interest free advance had been given by the assessee. Moreover, the advance given in the present case was for purchase of Plant & Machinery and the partners were having interest free capital in the credit of their account. We, therefore considering the totality of the facts are of the view that the disallowance made by the AO and sustained by the Ld. CIT(A) was not justified. Accordingly the same is deleted.

9 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

Now we will deal with the appeal in ITA No. 4463.Del.2012 :

12. Following grounds have been raised in this appeal :-

"1. On the facts and circumstances of the case, the order passed by the ld. Commissioner of Income Tax (Appeals) [(CIT(A)] is bad both in the eye of law and on facts.

2(i) On the facts and circumstances of the case, the ld. CIT(A) has erred both on the facts and in law in confirming the action of the AO in making disallowance of an amount of Rs. 13,24,585/- on account of interest.

(ii) That while confirming the said disallowance the learned CIT(A) has erred both on facts and in law in misinterpreting the agreement entered into between the assessee and North West Paper Kraft Pvt. Ltd.

(iii) That the disallowance has been confirmed ignoring the explanation and evidences brought on record by the assessee.

3. On the facts and circumstances of the case, the learned CIT(A) has erred both on facts and in law in confirming the action of the AO in disallowing an amount of Rs. 4,39,764/- on account of interest expenditure incurred during the year by invoking the provisions of section 40(a)(ia) of the Act.

4(i) On the facts and circumstances of the case, the learned CIT(A) has erred both on facts and in law in confirming the disallowance of an amount of Rs. 1,45,570/- on account of challans and penalty.

(ii) That the above disallowance has been confirmed despite the fact that the expenses were incurred wholly and exclusively for the purposes of business.

5. On the facts and circumstances of the case , the learned CIT(A) has erred both on facts and in law in confirming the addition of Rs. 55,000/- made by AO on account of disallowance of interest by applying an adhoc rate of interest @ 12% per annum.

6. On the facts and circumstances of the case, the learned CIT(A) has erred both on facts and in law in confirming the adhoc disallowance of an amount of Rs. 1,00,000/- made by AO on account of various expenses.

7. The appellant craves leave to add, amend or alter any of the grounds of appeal."

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13. Ground no. 1 and 7 are journal in nature while ground no. 4 was not pressed, so these grounds do not require and any comments our parts. Ground no. 2 relates to the disallowance made by the AO on account of notional interest on the advance given to M/s North West Paper Crafts (P) Ltd. for the purchase of Plant & Machinery.

14. The facts related to this issue are identical to the facts involved in Ground no. 2 of the assessee's appeal in I.T.A. No. 1194/Del/2012 for the A.Y. 2008-09 and even the rival submissions were similar. Therefore our findings given in former part of this order vide paras 9 to 11 shall apply mutatis mutandis. In that view of the matter, the impugned addition is deleted.

15. Vide Ground no. 3 the grievance of the assessee relates to the disallowance of Rs. 4,39,764/- made by the A.O. on account of interest by invoking the provisions of Sec. 40(a)(ia) of the Act. The facts related to this issue in brief are that the AO during the course of assessment proceedings noticed that the assessee had paid interest to the tune of Rs. 4,39,764/- to M/s TML Financial Services Ltd. on account of secured loan of Rs. 24,84,090/-. The AO further observed that the detail of interest as well as copy of account of M/s TML Financial Services Ltd. revealed that the assessee had not deducted tax at source while making the payment of interest which was required to be deducted u/s 40(a)(ia) read with Chapter XXVII(b) of the Act. He therefore disallowed a sum of Rs. 4,39,764/-

16. It is noticed that the assessee had not challenged this addition while filing the 1st appeal before the Ld. CIT(A) and there is no discussion in the impugned order on this issue. The issue raised by the assessee vide G. No. 3 is neither arising out of the impugned order nor the assessee has filed any 11 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

additional ground. Therefore, this issue raised vide ground no. 3 deserves to be dismissed. We order accordingly.

17. Vide ground no. 5 the grievance of the assessee relates to the confirmation of addition of Rs. 55,000/- made by the AO on account of disallowance of interest. The facts related to this issue in brief are that the AO during the course of assessment proceedings noticed that the assessee had advanced a loan of Rs. 5,00,000/- to Sh. Rakesh Khanna but no interest had been charged on the said amount of advance. The AO observed that the assessee had borrowed the funds from the bank on which interest was being paid which was allowable deduction u/s 36 (1)(iii) of the Act but the amount of Rs. 5,00,000/- had been given as a friendly interest free loan out of borrowed funds. He worked out the interest @ 12 % amounting to Rs. 55,000/- and disallowed the same.

18. Being aggrieved the assessee carried the matter, Ld. CIT(A) and submitted as under :-

"That the assessee firm has paid a sum of Rs. 5,00,000/- to Sh. Rakesh Khanna on 03.05.2008 as advance for purchase of suitable land for paper mill. The advance was given for giving token money to the prospective seller of the land. Since the partners of the assessee firm has wide experience of running paper mills, therefore, they were keen to develop the business of the firm, hence advance was made for purchase of second hand machinery from another company. The suitable land near a drain could not be located during the year, hence the advance remains outstanding. It is also pertinent to mention here that the assessee firm has obtained only term loan from banks/financial institutions which are disbursed directly to the vendors of the vehicle manufacturers. Hence there is no diversion of any fund for personal gain of the partners or its stake holders at the expense of the firm. The assessee has also not obtained any working 12 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

capital funds from any bank or financial institution. Further no interest has been paid to any unsecured loans. The advance to Mr. Rakesh Khanna was advanced against purchase of their assets and was made for the business expediency. In view of above, it is submitted that the assessee has not made any advances which is not linked with business activity, therefore, no disallowance of interest be made."

That the reliance of the Ld. AO on the above judgement of Abhishek Industries Limited is also misplaced. The facts of the case of the assessee is clearly distinguishable as specified in the judgement of Hon'ble Punjab and Haryana High Court in Abhishek Industries Limited. The advance made to Sh. Rakesh Khanna by the assessee was for business considerations only, and this fact has not been negated by the ld. AO. Hence, the ratio of judgement relied upon by the A.O. is squarely not applicable. Reliance in the case of assessee is placed on the judgement of Hon'ble Supreme Court in the case of S.A.Builders vs. CIT(2007) 288 ITR 1 (SC)., Munjal Sales Corporation vs. CIT (2008) 298 ITR 298 (SC)., Commissioner of Income Tax vs. Amrit Soap Co. (2009) 308 ITR 287 (P&H) and Commissioner of Income Tax vs. Rockman Cycle Industries Limited (2009) 176 Taxmann 21 (P&H). Wherein the hon'ble Supreme Court and Punjab and Haryana High Court has held that advances made for commercial expediency does not cover under the ambit of section 36(1)(iii). Hence no disallowance can be made. It is therefore, prayed that the disallowance made by the AO of Rs. 0.55 lacs may kindly be deleted."

19. The ld. CIT(A) after considering the submissions of the assessee confirmed the addition made by the AO by observing in para 2.03 of the impugned order as under :-

"The issue is examined. From the balance sheet enclosed by the appellant it is noted that the appellant has taken secured loans and unsecured loans as on 31.03.2009 at Rs. 5,41,56,761/- and Rs. 3,66,000/- respectively and claimed payment of interest thereon at Rs. 1,36,25,546/- . On the other, the appellant made interest free advance of Rs. 5 lac to one Sh. Rakesh Khanna on 03.05.2008, i.e. during the year under consideration. The appellant claimed that the advance was made for purchase of land for paper mill and hence claimed that the 13 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

advance was made for business referred to in para 2.2 of the written submissions reproduced above. The appellant, however, could not bring on record any evidence in support of its claim that the said advance was made for business purposes. Hence case laws relied upon by the appellant is of no help rather ratio laid down by the Hon'ble Punjab & Haryana High Court in the case of Abhishek Industries, 286 ITR 1 is squarely applicable to the facts of the case of the appellant and hence disallowance out of interest made by the AO is hereby confirmed."

Now the asessee is in appeal.

20. The ld. Counsel for the assessee reiterated the submissions made before the authorities below and further submitted that the assessee had given an advance to Sh. Rakesh Khanna for purchase of suitable land for paper mill and the advance was given as a token money to the prospective seller of the land. It was further stated that since the suitable land could not be obtained during the year, the advance remained outstanding but there was no diversion of any fund for personal gain . It was also stated that the advance was given to Sh. Rakesh Khanna against the purchase of asset for business expediency. Therefore, disallowance made by the AO and sustained by the Ld. CIT(A) was not justified. In his rival submissions. The ld. DR strongly supported the orders of the authorities below.

21. After considering the submissions of both parties and the material on record it is noticed that the facts of the present issue are similar to the facts involved in the issue raised vide ground no. 2, even the rival submissions were also similar. Therefore, our findings given in respect of ground no. 2 in former part of this order shall apply mutatis mutandis for this issue. In that view of the 14 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

matter the addition of Rs. 55,000/- made by the AO and sustained by the ld. CIT(A) is deleted.

22. The last issue vide ground no. 6 relates to the confirmation of adhoc disallowance of Rs. 1,00,000/-, made by the A.O. out of the various expenses. The facts related to this issue in brief are that the AO during the course of assessment proceedings noticed that the assessee had claimed various expenses as per following details :-

Expenses Amount Miscellaneous Exp. 97,543/- Printing & Stationery 1,91,518/- Salary 74,31,171/- Staff Welfare 15,372/- Toll tax & Parking 2,75,471/-

The AO asked the assessee to produce original bill/ vouchers in respect of the aforesaid expenses. The AO test checked those vouchers and found that some of the vouchers/ receipts were not properly maintained vis-à-vis somewhere there were no signature on salary receipts and in some, dates and signature were not appended on the vouchers. According to the A.O the assessee could not give any plausible explanation in this regard. The AO specifically mentioned that the assessee agreed for a disallowance of Rs. 1,00,000/- out of above expenditure. Accordingly the AO made the addition of Rs. 1,00,000/-.

15 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

23. Being aggrieved the assessee carried the matter to the Ld. CIT(A) and submitted that the AO made the above addition on adhoc basis without giving any reason thereto. It was also stated that the addition made by the AO was erroneous and excessive.

24. The ld. CIT(A) after considering the submissions of the assessee observed that the disallowance was made on agreed basis and hence no interference was called for in order of the AO. Accordingly disallowance made by the AO was confirmed. Now the assessee is in appeal.

25. The ld. Counsel for the assessee reiterated the submissions made before the authorities below and further submitted that the disallowance made by the AO and sustained by the Ld. CIT(A) was highly excessive. However he could not controvert this fact that the assessee agreed for the said addition and thereafter AO did not make any further inquiry. In his rival submissions, the ld. DR strongly supported the orders of the authorities below further submitted that the assessee himself agreed for the impugned addition only when the AO pointed out specific discrepancies in the vouchers maintained by the assessee for various expenses. Therefore, the ld. CIT(A) rightly confirmed the addition made by the AO.

26. We have considered the submissions of both the parties and gone through the material available on the record. In the present case it is noticed that the AO pointed out some discrepancies in the vouchers maintained by the assessee for various expenses and the explanation given by the assessee was not found to be plausible, therefore, the assessee itself agreed for addition of Rs.

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1,00,000/- out of various expenses. In the present case since the assessee agreed for the addition, we, therefore, do not see any valid ground to interfere with the findings given by the ld. CIT(A) on this issue. Accordingly we do not see any merit in this ground of the assessee's appeal.

27. In the result appeal of the assessee is partly allowed. (Order Pronounced in the Court on 31/07/2015).

Sd- Sd/- (George George K) (N. K. Saini) JUDICIAL MEMBER ACCOUNTANT MEMBER Dated: 31 /07/2015 *B.Rukhaiyar* Copy forwarded to: 1. Appellant 2. Respondent 3. CIT 4. CIT(Appeals) 5.DR: ITAT ASSISTANT REGISTRAR 17 ITA No.1194, 4463/Del/2012 Balaji Services, Karnal

Date Initial 1. Draft dictated on 28/07/2015 PS 2. Draft placed before author 29/07/2015 PS 3. Draft proposed & placed before the JM/AM second member 4. Draft discussed/approved by Second JM/AM Member. 5. Approved Draft comes to the Sr.PS/PS PS/PS 6. Kept for pronouncement on PS 7. File sent to the Bench Clerk PS 8. Date on which file goes to the AR 9. Date on which file goes to the Head Clerk. 10. Date of dispatch of Order.