Hero Cycles (P) Ltd. vs Commissioner Of Income Tax (Central)

'REPORTABLE' IN THE SUPREME COURT OF INDIA CIVIL APPELLATE JURISDICTION

CIVIL APPEAL NO. 514 OF 2008

HERO CYCLES (P) LTD. ... Appellant

VERSUS

COMMISSIONER OF INCOME TAX (CENTRAL), LUDHIANA ... Respondent

J U D G M E N T

A. K. SIKRI, J.

The present appeal preferred by the assessee pertains

to the Assessment Year 1988-1989. In the income tax return

filed by the assessee for the aforesaid Assessment year, the

assessee, inter alia, claimed deduction of interest paid on

borrowed sums from Bank under the provisions of Section

36(1)(iii) of the Income Tax Act (hereinafter referred to as

'Act'). The aforesaid deduction was disallowed by the

Assessing Officer vide his Assesssment Order dated

26.03.1991 on the following two points: -

(1) The assessee had advanced a sum of

Rs.1,16,26,128/- to its subsidiary company known as M/s.

Hero Fibers Limited and this advance did not carry any

interest. According to the Assessing Officer, the

assessee had borrowed the money from the banks and paid

Signature Not Verified interest thereupon. Deduction was claimed as business Digitally signed by ASHWANI KUMAR Date: 2015.11.24 16:20:20 IST Reason: expenditure but substantial money out of the loans taken

from the Bank was diverted by giving advance to M/s. Hero

C.A. No. 514/2008 1 Fibres Limited on which no interest was charged by the

assessee. Therefore, he concluded that money borrowed on

which interest was paid was not for business purposes and

no deduction could be allowed.

(2) In addition, the assessee had also given advances to

its own directors in the sum of Rs. 34 lakhs on which the

assessee charged from those directors interest at the

rate of 10 per cent, whereas interest payable on the

money taken by way of loans by the assessee from the

Banks carried interest at the rate of 18 per cent. On

that basis, the Assessing Officer held that charging of

interest at the rate of 10 per cent from the above

mentioned persons and paying interest at much more rate,

i.e., at the rate of 18 per cent on the money borrowed by

the assessee cannot be treated for the purposes of

business of the assessee.

We may note here that the assessee had claimed

deduction of interest in the sum of Rs.20,53,120/-. The

Assessing Officer, after recording the aforesaid reasons,

did not allow the deduction of the entire amount and

re-calculated the figures, thereby disallowed the aforesaid

claim to the extent of Rs.16,39,010/-.

The assessee carried the matter in appeal before the

Commissioner of Income Tax (Appeals). The CIT (Appeals) set

aside the order of the Assessing Officer holding that the

interest paid by the assessee of which deduction was

C.A. No. 514/2008 2 claimed, on the facts of this case, was for business

purposes and, therefore, the entire interest paid by the

assessee should have been allowed as business expenditure.

It would be pertinent to mention that insofar as the

advance given to M/s. Hero Fibres Limited is concerned, the

case put up by the assessee even before the Assessing

Officer was that it had given an undertaking to the

financial institutions to provide M/s. Hero Fibres Limited

the additional margin to meet the working capital for

meeting any cash loses. It was further explained that the

assessee company was promotor of M/s. Hero Fibres Limited

and since it had the controlling share in the said company

that necessitated giving of such an undertaking to the

financial institutions. The amount was, thus, advanced in

compliance of the stipulation laid down by the three

financial institutions under a loan agreement which was

entered into between M/s. Hero Fibres Limited and the said

financial institutions and it became possible for the

financial institutions to advance that loan to M/s. Hero

Fibres Limited because of the aforesaid undertaking given by

the assessee. It was also mentioned that no interest was to

be paid on this loan unless dividend is paid by that

company.

On that basis, it was argued that the amount was

advanced by way of business expediency. CIT (Appeals)

accepted the aforesaid plea of the assessee.

C.A. No. 514/2008 3 Insofar as the loan given to its own Directors is

concerned at the rate of 10 per cent is concerned, the

explanation of the assessee was that this loan was never

given out of any borrowed funds. The assessee had

demonstrated that on the date when the loan was given that

is on 25.03.1987 to these directors, there was a credit

balance in the account of the assessee from where the loan

was given. It was demonstrated that even after the

encashment of the cheques of Rs. 34 lakhs in favour of those

directors by way of loan, there was a credit balance of

Rs.4,95,670/- in the said bank account. The aforesaid

explanation was also accepted by the CIT (Appeal) arriving

at a finding of fact that the loan given to the Directors

was not from the borrowed funds. Therefore, interest

liability of the assessee towards the Bank on the borrowing

which was taken by the assessee had no bearings because

otherwise, the assessee had sufficient funds of its own

which the assessee could have advanced and it was for the

Assessing Officer to establish the nexus between the

borrowings and advancing to prove that expenditure was for

non-business purposes which the Assessing Officer failed to

do.

The Department/ Revenue challenged the order of the

CIT(Appeal) before the Income Tax Appellate Tribunal

(hereinafter referred to as 'ITAT'). The ITAT upheld the

aforesaid view of the CIT(Appeal) and thus, dismissed the

C.A. No. 514/2008 4 appeal preferred by the Revenue.

Further appeal of the Revenue before the High Court

filed under Section 260A of the Income Tax Act, however, has

been allowed by the High Court vide impugned judgment dated

06.12.2006. Challenging that judgment, special leave

petition was filed in which leave was granted and that is

how the present appeal comes up for hearing.

A perusal of the order passed by the High Court would

reveal that the High Court has not at all discussed the

aforesaid facts which were established on record pertaining

to the interest free advance given to M/s. Hero Fibres

Limited as well as loans given to its own Directors at

interest at the rate of 10 per cent.

On the other hand, the High Court has simply quoted

from its own judgment in the case of 'Commissioner of Income

Tax-I, Ludhiana v. M/s. Abhishek Industries Limited,

Ludhiana' [ITA No. 110/2005 decided on 04.08.2006]. On that

basis, it has held that when loans were taken from the banks

at which interest was paid for the purposes of business, the

interest thereon could not be claimed as business

expenditure.

We are of the opinion that such an approach is clearly

faulty in law and cannot be countenanced.

Insofar as loans to the sister concern / subsidiary

C.A. No. 514/2008 5 company are concerned, law in this behalf is recapitulated

by this Court in the case of 'S.A. Builders Ltd. v.

Commissioner of Income Tax (Appeals) and Another' [2007

(288) ITR 1 (SC)]. After taking note of and discussing on

the scope of commercial expediency, the Court summed up the

legal position in the following manner: -

“26. The expression “commercial expediency” is an expression of wide import and includes such expenditure as a prudent businessman incurs for the purpose of business. The expenditure may not have been incurred under any legal obligation, but yet it is allowable as a business expenditure if it was incurred on grounds of commercial expediency.

27. No doubt, as held in Madhav Prasad Jatia v. CIT [1979 (118) ITR 200 (SC)], if the borrowed amount was donated for some sentimental or personal reasons and not on the ground of commercial expediency, the interest thereon could not have been allowed under section 36(1)(iii) of the Act. In Madhav Prasad's case [1979 (118) ITR 200 (SC)], the borrowed amount was donated to a college with a view to commemorate the memory of the assessee's deceased husband after whom the college was to be named, it was held by this court that the interest on the borrowed fund in such a case could not be allowed, as it could not be said that it was for commercial expediency.

28. Thus, the ratio of Madhav Prasad Jatia's case [1979 (118) ITR 200 (SC)] is that the borrowed fund advanced to a third party should be for commercial expediency if it is sought to be allowed under section 36(1)(iii) of the Act.

29. In the present case, neither the High Court nor the Tribunal nor other authorities have examined whether the amount advanced to the sister concern was by way of commercial expediency.

30. It has been repeatedly held by this court that the expression “for the purpose of business” is wider in scope than the expression “for the purpose of earning profits” vide CIT v. Malayalam Plantations Ltd. [1964 53 ITR 140 (SC), CIT v. Birla Cotton Spinning and Weaving Mills Ltd. [1971 82 ITR 166 (SC)], etc.”

C.A. No. 514/2008 6 In the process, the Court also agreed that the view

taken by the Delhi High Court in 'CIT v. Dalmia Cement (B.)

Ltd.' [2002 (254) ITR 377] wherein the High Court had held

that once it is established that there is nexus between the

expenditure and the purpose of business (which need not

necessarily be the business of the assessee itself), the

Revenue cannot justifiably claim to put itself in the

arm-chair of the businessman or in the position of the Board

of Directors and assume the role to decide how much is

reasonable expenditure having regard to the circumstances of

the case. It further held that no businessman can be

compelled to maximize his profit and that the income tax

authorities must put themselves in the shoes of the assessee

and see how a prudent businessman would act. The

authorities must not look at the matter from their own view

point but that of a prudent businessman.

Applying the aforesaid ratio to the facts of this case

as already noted above, it is manifest that the advance to

M/s. Hero Fibres Limited became imperative as a business

expediency in view of the undertaking given to the financial

institutions by the assessee to the effect that it would

provide additional margin to M/s. Hero Fibres Limited to

meet the working capital for meeting any cash loses.

It would also be significant to mention at this stage

that, subsequently, the assessee company had off-loaded its

C.A. No. 514/2008 7 share holding in the said M/s. Hero Fibres Limited to

various companies of Oswal Group and at that time, the

assessee company not only refunded back the entire loan

given to M/s. Hero Fibres Limited by the assessee but this

was refunded with interest. In the year in which the

aforesaid interest was received, same was shown as income

and offered for tax.

Insofar as the loans to Directors are concerned, it

could not be disputed by the Revenue that the assessee had a

credit balance in the Bank account when the said advance of

Rs. 34 lakhs was given. Remarkably, as observed by the CIT

(Appeal) in his order, the company had reserve/surplus to

the tune of almost 15 crores and, therefore, the assessee

company could in any case, utilise those funds for giving

advance to its Directors.

On the basis of aforesaid discussion, the present

appeal is allowed, thereby setting aside the order of the

High Court and restoring that of the Income Tax Appellate

Tribunal.

......................., J.

[ A.K. SIKRI ]

......................., J.

[ ROHINTON FALI NARIMAN ]

New Delhi;

November 05, 2015.

C.A. No. 514/2008 8

ITEM NO.105 COURT NO.12 SECTION IIIA

S U P R E M E C O U R T O F I N D I A RECORD OF PROCEEDINGS

Civil Appeal No. 514/2008

HERO CYCLES (P) LTD. Appellant(s)

VERSUS

COMMISSIONER OF INCOME TAX (CENTRAL), LUDHIANA Respondent(s)

(With appln. (s) for permission to place addl. documents on record, interim relief and office report)

Date : 05/11/2015 This appeal was called on for hearing today.

CORAM :

HON'BLE MR. JUSTICE A.K. SIKRI HON'BLE MR. JUSTICE ROHINTON FALI NARIMAN

For Appellant(s) Mr. S. Ganesh, Sr. Adv.

Mr. Satyen Sethi, Adv.

Mr. Arta Trana Panda, Adv.

Mr. Rameshwar Prasad Goyal, Adv.

For Respondent(s) Mr. K. L. Janjani, Adv.

Ms. Shweta Garg, Adv.

Mr. B. V. Balaram Das, Adv.

UPON hearing the counsel the Court made the following O R D E R

The appeal is allowed in terms of the signed reportable judgment.

In view thereof, applications pending, if any, stand disposed of.

(Nidhi Ahuja) (Renu Diwan) COURT MASTER COURT MASTER

[Signed reportable judgment is placed on the file.]

C.A. No. 514/2008 9