Income Tax, Issue Update

Interest paid on borrowed funds: Deduction under section 36(1)(iii)

Case: Sudhir Chandra Datt vs Addl. CIT, Jabalpur ITAT

This case deals with the deduction of interest on borrowed funds under section 36(1)(iii).

The Revenue went off tangent, questioning the commercial expediency of the interest-free advances, without there being any claim by the Assessee toward the same. Not only that, it made part disallowance of bank commission, i.e., on proportionate basis, even as it, being unrelated to the interest on borrowed capital, was deductible under section 37(1) and not under section 36(1)(iii). The borrowed capital comprised bank secured loans. The availability of secured assets could itself establish the end-use of the borrowed capital to that extent, i.e., allowing for the margin stipulated.

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Facts

  • During the assessment proceedings, the Assessing Officer disallowed interest expenditure under section 36(1)(iii) of the Act to the tune of Rs.15.74 lakhs.
  • The basis for the same was the interest-free advances (at Rs.114.02 lacs) by the Assessee-proprietor to his close relatives (Rs.98.08 lacs) and to an associate concern (at Rs.15.94 lacs). The Assessee having incurred interest expenditure, in the main on bank borrowings (Rs.14.41 lacs), at Rs.21.60 lacs, the Assessing Officer (AO) disallowed interest on borrowed capital under section 36(1)(iii) to that extent by inferring the application of the borrowed capital (Rs.156.46 lacs) towards the said interest-free advance.

Key points

  • The Assessee’s case was that it had sufficient interest-free capital, i.e., at Rs.131.03 lacs (as on 31.3.2009), as against interest-free advances at Rs.114.02 lacs. No disallowance, accordingly, was to be called for. Further, the Assessing Officer had, in working the amount of disallowance, also included bank charges (Rs.6.68 lacs). The same was charged by the bank for non-fund based facilities or other banking services provided by it, and had nothing to do with the interest on borrowings.
  • It was observed by the Tribunal that this case of sufficient interest-free capital to fund the admitted non-business (purpose) advances, made on interest-free basis, was not stated, much less substantiated before the Revenue’s authorities, who had also not applied themselves. How could they appreciate, much less counter, the Assessee’s case without being informed of the same. The issue under reference was wholly factual, i.e., whether the borrowed funds, on which interest was claimed as a business expense, was utilized by the Assessee in whole for the purposes of his business during the relevant year, and if not, the extent of non-utilization.
  • It was further observed that the Revenue went off tangent, questioning the commercial expediency of the interest-free advances, without there being any claim by the Assessee toward the same. Not only that, it made part disallowance of bank commission, i.e., on proportionate basis, even as it, being unrelated to the interest on borrowed capital, was deductible under section 37(1) and not under section 36(1)(iii). There was no examination, much less appreciation of facts. The borrowed capital comprising, as it appeared, bank secured loans in the main, the availability of secured assets could itself establish the end-use of the borrowed capital to that extent, i.e., allowing for the margin stipulated. A disallowance was not to be made for the sake of it, but based on clear and definite findings of fact based on the evidences on record, which the Tribunal observed as completely missing.
  • The matter, accordingly was remitted to the file of the Assessing Officer to allow the Assessee an opportunity to present his case. The Assessing Officer was directed to decide the issue in accordance with law, issuing definite findings of fact based on material on, or to be brought on, record. In view of the matter being factually indeterminate, the reference to case law by either side, made during the hearing, was inapposite and, in any case, of little consequence.

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