South India Bank Ltd. v. Commissioner of Income-tax
[Citation -2021-LL-0909-1]

Citation 2021-LL-0909-1
Appellant Name South India Bank Ltd.
Respondent Name Commissioner of Income-tax
Relevant Act Income-tax
Date of Order 09/09/2021
Judgment View Judgment
Keyword Tags shares held as stock-in-trade • apportionment of expenditure • disallowance of expenditure • administrative expenditure • proportionate disallowance • disallowance of interest • administrative expenses • suo moto disallowance • earning exempt income • retrospective effect • benefit of deduction • proportionate amount • tax free securities • tax free dividend • exempted income • question of law • dividend income • tax free income • surplus funds • income earned

[REPORTABLE] IN SUPREME COURT OF INDIA CIVIL APPELLATE JURISDICTION CIVIL APPEAL NO. 9606 OF 2011 SOUTH INDIAN BANK LTD. APPELLANT(S) VERSUS COMMISSIONER OF INCOME TAX RESPONDENT(S) WITH CIVIL APPEAL NO. OF 2021 [Arising out of SLP(C) No. 32761 OF 2018] CIVIL APPEAL NO. 9609 OF 2011 CIVIL APPEAL NO. 9610 OF 2011 CIVIL APPEAL NO. 9611 OF 2011 CIVIL APPEAL NO. 9615 OF 2011 CIVIL APPEAL NO. 9608 OF 2011 CIVIL APPEAL NO. 9612 OF 2011 Signature Not Verified Digitally signed by CIVIL APPEAL NO. 9614 OF 2011 DEEPAK SINGH Date: 2021.09.09 19:20:53 IST Reason: CIVIL APPEAL NO. 9613 OF 2011 CIVIL APPEAL NO. 9607 OF 2011 Page 1 of 22 CIVIL APPEAL NO. 3367 OF 2012 CIVIL APPEAL NO. 2963 OF 2012 J U D G M E N T Hrishikesh Roy, J. 1. Leave granted in SLP(C) No. 32761/2018 for analogous consideration with related appeals. 2. question of law to be answered in present batch of appeals is on interpretation of Section 14A of Income Tax Act (for short Act ) and same reads as follows: Whether proportionate disallowance of interest paid by banks is called for under Section 14A of Income Tax Act for investments made in tax free bonds/ securities which yield tax free dividend and interest to assessee Banks when assessee had sufficient interest free own funds which were more than investments made 3. While common arguments have been advanced by learned counsel for parties, to place legal issues in appropriate perspective, relevant facts are adverted from Civil Appeal No. 9606 of 2011 (South Page 2 of 22 Indian Bank Ltd. Vs. CIT, Trichur), for purpose of this judgment. 4. assessees are scheduled banks and in course of their banking business, they also engage in business of investments in bonds, securities and shares which earn assessees, interests from such securities and bonds as also dividend income on investments in shares of companies and from units of UTI etc. which are tax free. 5. Chapter IV of Act provides for Heads of Income for computation of Total Income. In Section 14, various incomes are classified under Salaries, Income from house property, Profit & Gains of business or profession, Capital Gains & Income from other sources. Section 14A relates to expenditure incurred in relation to income which are not includable in Total Income and which are exempted from tax. No taxes are therefore levied on such exempted income. Section 14A had been incorporated in Income Tax Act to ensure that expenditure incurred in generating such tax exempted income is not allowed as deduction while calculating total income for concerned assessee. 6. Section 14A was introduced to Income Tax Act by Finance Act, 2001 with retrospective effect from 01.04.1962. Page 3 of 22 new section was inserted in aftermath of judgment of this Court in case of Rajasthan State Warehousing Corporation Vs. CIT1. said Section provided for disallowance of expenditure incurred by assessee in relation to income, which does not form part of their total income. As such if assessee incurs any expenditure for earning tax free income such as interest paid for funds borrowed, for investment in any business which earns tax free income, assessee is disentitled to deduction of such interest or other expenditure. Although provision was introduced retrospectively from 01.04.1962, retrospective effect was neutralized by proviso later introduced by Finance Act, 2002 with effect from 11.05.2001 whereunder, re-assessment, rectification of assessment was prohibited for any assessment year, up-to assessment year 2000-2001, when proviso was introduced, without making any disallowance under Section 14A. earlier assessments were therefore permitted to attain finality. As such disallowance under Section 14A was intended to cover pending assessments and for assessment years commencing from 2001-2002. It may be noted that in present batch of appeals, we are concerned with 1 [(2000) 242 ITR 450 SC] / (2000) 3 SCC 126. Page 4 of 22 disallowances made under Section 14A for assessment years commencing from 2001-2002 onwards or for pending assessments. 7. At outset it is clarified that none of assessee banks amongst appellants, maintained separate accounts for investments made in bonds, securities and shares wherefrom tax-free income is earned so that disallowances could be limited to actual expenditure incurred by assessee. In other words, expenditure incurred towards interest paid on funds borrowed such as deposits utilized for investments in securities, bonds and shares which yielded tax-free income, cannot conveniently be related to separate account, maintained for purpose. situation is same so far as overheads and other administrative expenditure of assessee. 8. In absence of separate accounts for investment which earned tax free income, Assessing Officer made proportionate disallowance of interest attributable to funds invested to earn tax free income. assessees in these appeals had earned substantial tax-free income by way of interest from tax free bonds and dividend income which also is tax free. It is manifest that substantial Page 5 of 22 expenditure is incurred for earning tax free income. Since actual expenditure figures are not available for making disallowance under Section 14A, Assessing Officer worked out proportionate disallowance by referring to average cost of deposit for relevant year. CIT (A) had concurred with view taken by Assessing Officer. 9. ITAT in Assessee s appeal against CIT(A) considered absence of separate identifiable funds utilized by assessee for making investments in tax free bonds and shares but found that assessee bank is having indivisible business and considering their nature of business, investments made in tax free bonds and in shares would therefore be in nature of stock in trade. ITAT then noticed that assessee bank is having surplus funds and reserves from which investments can be made. Accordingly, it accepted assessee s case that investments were not made out of interest or cost bearing funds alone. In consequence, it was held by ITAT that disallowance under Section 14A is not warranted, in absence of clear identity of funds. 10. decision of ITAT was reversed by High Court by acceptance of contentions advanced by Revenue in their appeal and accordingly Assessee Bank is before us Page 6 of 22 to challenge High Court s decision which was against assessee. 11. Since, scope of Section 14A of Act will require interpretation, Section with sub-clauses (2) and (3) along with proviso is extracted hereinbelow: - 14A. Expenditure incurred in relation to income not includible in total income - (1) For purposes of computing total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by assessee in relation to income which does not form part of total income under this Act. (2) Assessing Officer shall determine amount of expenditure incurred in relation to such income which does not form part of total income under this Act in accordance with such method as may be prescribed, if Assessing Officer, having regard to accounts of assessee, is not satisfied with correctness of claim of assessee in respect of such expenditure in relation to income which does not form part of total income under this Act. (3) provisions of sub-section (2) shall also apply in relation to case where assessee claims that no expenditure has been incurred by him in relation to income which does not form part of total income under this Act: Provided that nothing contained in this section shall empower Assessing Officer either to reassess under section 147 or pass Page 7 of 22 order enhancing assessment or reducing refund already made or otherwise increasing liability of assessee under section 154, for any assessment year beginning on or before 1st day of April, 2001. 12. sub-Section (2) and (3) were introduced to main section by Finance Act, 2006 with effect from 01.04.2007. 13. question therefore to be answered is whether Section 14A, enables Department to make disallowance on expenditure incurred for earning tax free income in cases where assessees like present appellant, do not maintain separate accounts for investments and other expenditures incurred for earning tax-free income. 14. We have heard Mr. S. Ganesh, Mr. S.K. Bagaria, Mr. Jehangir Mistri and Mr. Joseph Markose, learned Senior Counsel appearing for appellants. Also heard Mr. Vikramjit Banerjee, learned Additional Solicitor General and Mr. Arijit Prasad, learned Senior Counsel on behalf of respondent/Revenue. 15. appellants argue that investments made in bonds and shares should be considered to have been made out of interest free funds which were substantially more than Page 8 of 22 investment made and therefore interest paid by assessee on its deposits and other borrowings, should not be considered to be expenditure incurred in relation to tax free income on bonds and shares and as corollary, there should be no disallowance under Section 14A of Act. On other hand, counsel for revenue refers to reasoning of CIT(A) and of High Court to project their case. 16. As can be seen, contention on behalf of assessee was rejected by CIT(A) as also by High Court primarily on ground that assessee had not kept their interest free funds in separate account and as such had purchased bonds/shares from mixed account. This is how proportionate amount of interest paid on borrowings/deposits, was considered to have been incurred to earn tax-free income on bonds/shares and such proportionate amount was disallowed applying Section 14A of Act. 17. In situation where assessee has mixed fund (made up partly of interest free funds and partly of interest- bearing funds) and payment is made out of that mixed fund, investment must be considered to have been made out of Page 9 of 22 interest free fund. To put it another way, in respect of payment made out of mixed fund, it is assessee who has such right of appropriation and also right to assert from what part of fund particular investment is made and it may not be permissible for Revenue to make estimation of proportionate figure. For accepting such proposition, it would be helpful to refer to decision of Bombay High Court in Pr. CIT v. Bombay Dyeing and Mfg. Co. Ltd2 where answer was in favour of assessee on question, whether Tribunal was justified in deleting disallowance under Section 80M of Act on presumption that when funds available to assessee were both interest free and loans, investments made would be out of interest free funds available with assessee, provided interest free funds were sufficient to meet investments. resultant SLP of Revenue challenging Bombay High Court judgment was dismissed both on merit and on delay by this Court. merit of above proposition of law of Bombay High Court would now be appreciated in following discussion. 2 I.T.A. No.1225 of 2015 Page 10 of 22 18. In above context, it would be apposite to refer to similar decision in Commissioner of Income Tax (Large Tax Payer Unit) Vs. Reliance Industries Ltd3 where Division Bench of this Court expressly held that where there is finding of fact that interest free funds available to assessee were sufficient to meet its investment it will be presumed that investments were made from such interest free funds. 19. In HDFC Bank Ltd. Vs. Deputy Commissioner of Income Tax4, assessee was Scheduled Bank and issue therein also pertained to disallowance under Section 14A. In this case, Bombay High Court even while remanding case back to Tribunal for adjudicating afresh observed (relying on its own previous judgment in same assessee s case for different Assessment Year) that, if assessee possesses sufficient interest free funds as against investment in tax free securities then, there is presumption that investment which has been made in tax free securities, has come out of interest free funds available with assessee. In such situation Section 14A of Act would not be applicable. Similar views have been expressed 3 (2019) 410 ITR 466 SC/ (2019) 20 SCC 478. 4 (2016) 383 ITR 529 (Bom) / 2016 SCC Online Bom 1109 Page 11 of 22 by other High Courts in CIT Vs. Suzlon Energy Ltd.5, CIT Vs. Microlabs Ltd.6 and CIT Vs. Max India Ltd.7 Mr. S Ganesh learned Senior Counsel while citing these cases from High Courts have further pointed out that those judgments have attained finality. On reading of these judgments, we are of considered opinion that High Courts have correctly interpreted scope of Section 14A of Act in their decisions favouring assessees. 20. Applying same logic, disallowance would be legally impermissible for investment made by assessees in bonds/shares using interest free funds, under Section 14A of Act. In other words, if investments in securities is made out of common funds and assessee has available, non-interest-bearing funds larger than investments made in tax- free securities then in such cases, disallowance under Section 14A cannot be made. 21. On behalf of Revenue Mr. Arijit Prasad, learned Senior Advocate refers to SA Builders v. CIT8 where this Court ruled on issue of disallowance in relation to funds lent to sister concern out of mixed funds. issue in SA 5 (2013) 354 ITR 630 (Guj)/ 2013 SCC Online Guj 8613 6 (2016) 383 ITR 490 (Karn)/ 2016 SCC Online Kar 8490 7 (2016) 388 ITR 81 (P & H) / 2016 SCC Online P&H 6788 8 [(2007) 1 SCC 781] Page 12 of 22 Builders is pending consideration before larger bench of this Court in SLP (C) No. 14729 of 2012 titled as Addl. CIT v. Tulip Star Hotels Ltd. counsel therefore, argues that there is no finality on issue of disallowance, when mixed funds are used. On this aspect, since issue is pending before larger Bench, comments from this Bench may not be appropriate. However, at same time it is necessary to distinguish facts of present appeals from those in SA Builders/Tulip Star Hotels Ltd. In that case, loans were extended to sister concern while here Assessee- Banks have invested in bonds/securities. factual scenario is different and distinguishable and therefore issue pending before larger Bench should have no bearing at this stage for present matters. 22. High Court herein endorsed proportionate disallowance made by Assessing Officer under Section 14A of Income Tax Act to extent of investments made in tax-free bonds/securities primarily because, separate account was not maintained by assessee. On this aspect we wanted to know about law which obligates assessee to maintain separate accounts. However, learned ASG could not provide satisfactory answer and instead relied upon Page 13 of 22 Honda Siel Power Products Ltd. v. DCIT9 to argue that it is responsibility of assessee to fully disclose all material facts. cited judgment, as can be seen, mainly dealt with re-opening of assessment in view of escapement of income. contention of department for re-opening was that assessee had earned tax-free dividend and had claimed various administrative expenses for earning such dividend income and those (though not allowable) was allowed as expenditure and therefore income had escaped assessment. On this, suffice would be to observe that action in Honda Siel (supra) related to re-opening of assessment where full disclosure was not made. assessee definitely has obligation to provide full material disclosures at time of filing of Income Tax Return but there is no corresponding legal obligation upon assessee to maintain separate accounts for different types of funds held by it. In absence of any statutory provision which compels assessee to maintain separate accounts for different types of funds, judgment cited by learned ASG will have no application to support Revenue s contention against assessee. 9 [(2012) 12 SCC 762] Page 14 of 22 23. It would now be appropriate to advert in some detail to Maxopp Investment Ltd. v. CIT10. This case interestingly is relied by both sides counsel. Writing for Bench, Justice Dr. A.K. Sikri noted objective for incorporation of Section 14A in Act in following words: - 3 . purpose behind Section 14-A of Act, by not permitting deduction of expenditure incurred in relation to income, which does not form part of total income, is to ensure that assessee does not get double benefit. Once particular income itself is not to be included in total income and is exempted from tax, there is no reasonable basis for giving benefit of deduction of expenditure incurred in earning such income .. following was written explaining scope of Section 14-A(1): 41. In first instance, it needs to be recognised that as per Section 14-A(1) of Act, deduction of that expenditure is not to be allowed which has been incurred by assessee in relation to income which does not form part of total income under this Act . Axiomatically, it is that expenditure alone which has been incurred in relation to income which is includible in total income that has to be disallowed. If expenditure incurred has no causal connection with exempted income, then such expenditure would obviously be treated as not related to income that is exempted from tax, and such expenditure would be allowed as business expenditure. To put it differently, such 10 (2018) 15 SCC 523 Page 15 of 22 expenditure would then be considered as incurred in respect of other income which is to be treated as part of total income. Adverting to law as it stood earlier, this Court rejected theory of dominant purpose suggested by Punjab & Haryana High Court and accepted principle of apportionment of expenditure only when business was divisible, as was propounded by Delhi High Court. Finally adjudicating issue of expenditure on shares held as stock-in-trade, following key observations were made by Justice Sikri: 50. It is to be kept in mind that in those cases where shares are held as stock-in-trade , it becomes business activity of assessee to deal in those shares as business proposition. Whether dividend is earned or not becomes immaterial. In fact, it would be quirk of fate that when investee company declared dividend, those shares are held by assessee, though assessee has to ultimately trade those shares by selling them to earn profits. situation here is, therefore, different from case like Maxopp Investment Ltd. [Maxopp Investment Ltd. v. CIT, 2011 SCC OnLine Del 4855 : (2012) 347 ITR 272] where assessee would continue to hold those shares as it wants to retain control over investee company. In that case, whenever dividend is declared by investee company that would necessarily be earned by assessee and assessee alone. Therefore, even at time of investing into those shares, assessee knows that it may generate dividend income as well and as and when such dividend income is Page 16 of 22 generated that would be earned by assessee. In contrast, where shares are held as stock- in-trade, this may not be necessarily situation. main purpose is to liquidate those shares whenever share price goes up in order to earn profits . learned Judge then considered implication of Rule 8D of Rules in context of Section 14-A(2) of Act and clarified that before applying theory of apportionment, Assessing Officer must record satisfaction on Suo Moto disallowance only in those cases where, apportionment was done by assessee. following is relevant for purpose of this judgment: 51. .It will be in those cases where assessee in his return has himself apportioned but AO was not accepting said apportionment. In that eventuality, it will have to record its satisfaction to this effect. . 24. Another important judgment dealing with Section 14A disallowance which merits consideration is Godrej and Boyce Manufacturing Company Ltd. V. DCIT11. Here assessee had access to adequate interest free funds to make investments and issue pertained to disallowance of expenditure incurred to earn dividend income, which was not forming part 11 [(2017) 7 SCC 421. Page 17 of 22 of total income of Assessee. Justice Ranjan Gogoi writing opinion on behalf of Division Bench observed that for disallowance of expenditure incurred in earning income, it is condition precedent that such income should not be includible in total income of assessee. This Court accordingly concluded that for attracting provisions of Section 14A, proof of fact regarding such expenditure being incurred for earning exempt income is necessary. relevant portion of Justice Gogoi s judgment reads as follow: 36. what cannot be denied is that requirement for attracting provisions of Section 14-A (1) of Act is proof of fact that expenditure sought to be disallowed/deducted had actually been incurred in earning dividend income . 25. Proceeding now to another aspect, it is seen that Central Board of Direct Taxes (CBDT) had issued Circular no. 18 of 2015 dated 02.11.2015, which had analyzed and then explained that all shares and securities held by bank which are not bought to maintain Statutory Liquidity Ratio (SLR) are its stock-in-trade and not investments and income arising out of those is attributable, to business of banking. This Circular came to be issued in aftermath of Page 18 of 22 CIT Vs. Nawanshahar Central Cooperative Bank Ltd.12 wherein this Court had held that investments made by banking concern is part of their banking business. Hence income earned through such investments would fall under head Profits & Gains of business. Punjab and Haryana High Court, in case of Pr. CIT, vs. State Bank of Patiala13 while adverting to CBDT Circular, concluded correctly that shares and securities held by bank are stock in trade, and all income received on such shares and securities must be considered to be business income. That is why Section 14A would not be attracted to such income. 26. Reverting back to situation here, Revenue does not contend that Assessee Banks had held securities for maintaining Statutory Liquidity Ratio (SLR), as mentioned in circular. In view of this position, when there is no finding that investments of Assessee are of related category, tax implication would not arise against appellants, from said circular. 27. aforesaid discussion and cited judgments advise this Court to conclude that proportionate disallowance of interest is not warranted, under Section 14A of Income 12 [(2007) 15 SCC 611] / [(2007) 160 TAXMAN 48 (SC)] 13 2017 (393) ITR 476 (P&H) Page 19 of 22 Tax Act for investments made in tax free bonds/ securities which yield tax free dividend and interest to Assessee Banks in those situations where, interest free own funds available with Assessee, exceeded their investments. With this conclusion, we unhesitatingly agree with view taken by learned ITAT favouring assessees. 28. above conclusion is reached because nexus has not been established between expenditure disallowed and earning of exempt income. respondents as earlier noted, have failed to substantiate their argument that assessee was required to maintain separate accounts. Their reliance on Honda Siel (Supra) to project such obligation on assessee, is already negated. learned counsel for revenue has failed to refer to any statutory provision which obligate assessee to maintain separate accounts which might justify proportionate disallowance. 29. In above context, following saying of Adam Smith in his seminal work Wealth of Nations may aptly be quoted: tax which each individual is bound to pay ought to be certain and not arbitrary. time of payment, manner of payment, quantity to be paid ought all to be clear and plain to contributor and to every other person. Page 20 of 22 Echoing what was said by 18th century economist, it needs to be observed here that in taxation regime, there is no room for presumption and nothing can be taken to be implied. tax individual or corporate is required to pay, is matter of planning for tax payer and Government should endeavour to keep it convenient and simple to achieve maximization of compliance. Just as Government does not wish for avoidance of tax equally it is responsibility of regime to design tax system for which subject can budget and plan. If proper balance is achieved between these, unnecessary litigation can be avoided without compromising on generation of revenue. 30. In view of forgoing discussion, issue framed in these appeals is answered against Revenue and in favour of assessee. appeals by Assessees are accordingly allowed with no order on costs. J. [SANJAY KISHAN KAUL] J. [HRISHIKESH ROY] NEW DELHI Page 21 of 22 SEPTEMBER 09, 2021 Page 22 of 22 South India Bank Ltd. v. Commissioner of Income-tax
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