'REPORTABLE' IN 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. present appeal preferred by assessee pertains to Assessment Year 1988-1989. In income tax return filed by assessee for aforesaid Assessment year, assessee, inter alia, claimed deduction of interest paid on borrowed sums from Bank under provisions of Section 36(1)(iii) of Income Tax Act (hereinafter referred to as 'Act'). aforesaid deduction was disallowed by Assessing Officer vide his Assesssment Order dated 26.03.1991 on following two points: - (1) assessee had advanced 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 Assessing Officer, assessee had borrowed money from banks and paid interest thereupon. Deduction was claimed as business expenditure but substantial money out of loans taken from Bank was diverted by giving advance to M/s. Hero C.A. No. 514/2008 1 Page 1 Fibres Limited on which no interest was charged by 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, assessee had also given advances to its own directors in sum of Rs. 34 lakhs on which assessee charged from those directors interest at rate of 10 per cent, whereas interest payable on money taken by way of loans by assessee from Banks carried interest at rate of 18 per cent. On that basis, Assessing Officer held that charging of interest at rate of 10 per cent from above mentioned persons and paying interest at much more rate, i.e., at rate of 18 per cent on money borrowed by assessee cannot be treated for purposes of business of assessee. We may note here that assessee had claimed deduction of interest in sum of Rs.20,53,120/-. Assessing Officer, after recording aforesaid reasons, did not allow deduction of entire amount and re-calculated figures, thereby disallowed aforesaid claim to extent of Rs.16,39,010/-. assessee carried matter in appeal before Commissioner of Income Tax (Appeals). CIT (Appeals) set aside order of Assessing Officer holding that interest paid by assessee of which deduction was C.A. No. 514/2008 2 Page 2 claimed, on facts of this case, was for business purposes and, therefore, entire interest paid by assessee should have been allowed as business expenditure. It would be pertinent to mention that insofar as advance given to M/s. Hero Fibres Limited is concerned, case put up by assessee even before Assessing Officer was that it had given undertaking to financial institutions to provide M/s. Hero Fibres Limited additional margin to meet working capital for meeting any cash loses. It was further explained that assessee company was promotor of M/s. Hero Fibres Limited and since it had controlling share in said company that necessitated giving of such undertaking to financial institutions. amount was, thus, advanced in compliance of stipulation laid down by three financial institutions under loan agreement which was entered into between M/s. Hero Fibres Limited and said financial institutions and it became possible for financial institutions to advance that loan to M/s. Hero Fibres Limited because of aforesaid undertaking given by 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 amount was advanced by way of business expediency. CIT (Appeals) accepted aforesaid plea of assessee. C.A. No. 514/2008 3 Page 3 Insofar as loan given to its own Directors is concerned at rate of 10 per cent is concerned, explanation of assessee was that this loan was never given out of any borrowed funds. assessee had demonstrated that on date when loan was given that is on 25.03.1987 to these directors, there was credit balance in account of assessee from where loan was given. It was demonstrated that even after encashment of cheques of Rs. 34 lakhs in favour of those directors by way of loan, there was credit balance of Rs.4,95,670/- in said bank account. aforesaid explanation was also accepted by CIT (Appeal) arriving at finding of fact that loan given to Directors was not from borrowed funds. Therefore, interest liability of assessee towards Bank on borrowing which was taken by assessee had no bearings because otherwise, assessee had sufficient funds of its own which assessee could have advanced and it was for Assessing Officer to establish nexus between borrowings and advancing to prove that expenditure was for non-business purposes which Assessing Officer failed to do. Department/ Revenue challenged order of CIT(Appeal) before Income Tax Appellate Tribunal (hereinafter referred to as 'ITAT'). ITAT upheld aforesaid view of CIT(Appeal) and thus, dismissed C.A. No. 514/2008 4 Page 4 appeal preferred by Revenue. Further appeal of Revenue before High Court filed under Section 260A of Income Tax Act, however, has been allowed by 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 present appeal comes up for hearing. perusal of order passed by High Court would reveal that High Court has not at all discussed aforesaid facts which were established on record pertaining to interest free advance given to M/s. Hero Fibres Limited as well as loans given to its own Directors at interest at rate of 10 per cent. On other hand, High Court has simply quoted from its own judgment in 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 banks at which interest was paid for purposes of business, interest thereon could not be claimed as business expenditure. We are of opinion that such approach is clearly faulty in law and cannot be countenanced. Insofar as loans to sister concern / subsidiary C.A. No. 514/2008 5 Page 5 company are concerned, law in this behalf is recapitulated by this Court in 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 scope of commercial expediency, Court summed up legal position in following manner: - 26. expression commercial expediency is expression of wide import and includes such expenditure as prudent businessman incurs for purpose of business. expenditure may not have been incurred under any legal obligation, but yet it is allowable as 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 borrowed amount was donated for some sentimental or personal reasons and not on ground of commercial expediency, interest thereon could not have been allowed under section 36(1)(iii) of Act. In Madhav Prasad's case [1979 (118) ITR 200 (SC)], borrowed amount was donated to college with view to commemorate memory of assessee's deceased husband after whom college was to be named, it was held by this court that interest on borrowed fund in such case could not be allowed, as it could not be said that it was for commercial expediency. 28. Thus, ratio of Madhav Prasad Jatia's case [1979 (118) ITR 200 (SC)] is that borrowed fund advanced to third party should be for commercial expediency if it is sought to be allowed under section 36(1)(iii) of Act. 29. In present case, neither High Court nor Tribunal nor other authorities have examined whether amount advanced to sister concern was by way of commercial expediency. 30. It has been repeatedly held by this court that expression for purpose of business is wider in scope than expression for 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 Page 6 In process, Court also agreed that view taken by Delhi High Court in 'CIT v. Dalmia Cement (B.) Ltd.' [2002 (254) ITR 377] wherein High Court had held that once it is established that there is nexus between expenditure and purpose of business (which need not necessarily be business of assessee itself), Revenue cannot justifiably claim to put itself in arm-chair of businessman or in position of Board of Directors and assume role to decide how much is reasonable expenditure having regard to circumstances of case. It further held that no businessman can be compelled to maximize his profit and that income tax authorities must put themselves in shoes of assessee and see how prudent businessman would act. authorities must not look at matter from their own view point but that of prudent businessman. Applying aforesaid ratio to facts of this case as already noted above, it is manifest that advance to M/s. Hero Fibres Limited became imperative as business expediency in view of undertaking given to financial institutions by assessee to effect that it would provide additional margin to M/s. Hero Fibres Limited to meet working capital for meeting any cash loses. It would also be significant to mention at this stage that, subsequently, assessee company had off-loaded its C.A. No. 514/2008 7 Page 7 share holding in said M/s. Hero Fibres Limited to various companies of Oswal Group and at that time, assessee company not only refunded back entire loan given to M/s. Hero Fibres Limited by assessee but this was refunded with interest. In year in which aforesaid interest was received, same was shown as income and offered for tax. Insofar as loans to Directors are concerned, it could not be disputed by Revenue that assessee had credit balance in Bank account when said advance of Rs. 34 lakhs was given. Remarkably, as observed by CIT (Appeal) in his order, company had reserve/surplus to tune of almost 15 crores and, therefore, assessee company could in any case, utilise those funds for giving advance to its Directors. On basis of aforesaid discussion, present appeal is allowed, thereby setting aside order of High Court and restoring that of Income Tax Appellate Tribunal. ......................., J. [ A.K. SIKRI ] ......................., J. [ ROHINTON FALI NARIMAN ] New Delhi; November 05, 2015. C.A. No. 514/2008 8 Page 8 HERO CYCLES (P) LTD. v. COMMISSIONER OF INCOME TAX (CENTRAL), LUDHIANA