Aggregation of income to be done before applying section 73
In the case of ITO vs Snow tex Investment Ltd, the Kolkata Tribunal held that the claim of the assesse for set-off of loss from share dealing should be allowed from the profits from F&O in share transactions, the character of the income being the same and before application of the Explanation to section 73, aggregation of the business profit or loss is to be worked out irrespective of the fact whether it is from share delivery transaction or derivative transactions. The tribunal also relied on the decision of its special bench wherein it was held that in deciding the principal business the decisive factor is the nature of the activities of the assessee and not the actual income from such activities during a particular year. Further it was held that no disallowance of interest can be made to the extent interest free funds available with the assessee.
Facts of the Case
1. The assessee was a company involved in trading in shares, securities and derivatives (futures & options – F&O). The assessee claimed share trading loss of Rs.1,71,52,934/-and set off the same against the profit from derivatives trading (F&O) amounting to Rs.2,26,12,179/-. The Learned AO disallowed the claim of set-off made by the assessee treating the same as speculation loss by invoking Explanation to section 73 of the Act. The assessee pleaded before the CIT(A) that the assessee being NBFC also carries business of granting loans & advances as part & parcel of the activities of the business, was not covered by the provision of explanation to section 73 of the Act.
2. The assessee debited a sum of Rs. 62,84,112/- towards interest on loans in its profit and loss account. The Learned AO during the course of assessment proceedings found that the assessee on one hand had made borrowings to the tune of Rs.5.92 crore and suffered interest thereon, whereas on the other hand had advanced Rs.9.58 crore to parties free of interest which is more than the borrowed funds and hence disallowed the entire interest payment of Rs. 62,84,112/- as not being incidental to the assessee’s business activity.
3. The assessee had earned dividend income of Rs. 26,002/- which was exempted. The Learned AO applied the provisions of Section 14A read with Rule 8D and disallowed a sum of Rs. 5,80,018/- applying the various limbs of Rule 8D.
4. On an appeal, the Ld. CIT(A) allowed the appeal of the assessee. Being aggrieved, the revenue filed appeal before the Tribunal on the following ground.
“1. That on the facts and in the circumstances of the case, the ld.CIT(A) has erred by allowing relief to the assessee in respect to treatment of share trading loss of Rs.1,71,52,934/- which was taken as speculation loss by the AO.
“2. That on the facts and in the circumstances of the case, the ld. CIT(A) has erred by deleting disallowance of interest paid of Rs.41,39,871/- out of the disallowance of Rs.62,84,112/- made by the AO being not incidental to the business activity of the assessee.”
“3. That on the facts and in the circumstances of the case, the ld.CIT(A) has erred by deleting disallowance of Rs.1,83,249/- u/s. 14A read with Rule 8D out of disallowance of Rs.5,80,018/- made by the AO in accordance with the provisions of Rule 8D.
Contention of the Revenue
1. The Learned DR argued that the name of the assessee was changed from M/s Satnaliwala Investment Ltd to M/s Snowtex Investment Ltd on 2.1.2006 which was not available in the list of NBFC uploaded in the website by the Ministry of Corporate affairs as well RBI. The assessee has not produced any credit rating in respect of its NBFC business and has also not proved that it complies with the Non-Banking Financial Companies Prudential Norms (Reserve Bank) Directions, 1998.
Further, the assessee has borrowed unsecured loans to the tune of Rs.5.92 crore and had given loans and advances to the tune of Rs.11.32 crores which includes interest free lending to the tune of Rs.9.58 crores. The assessee had declared interest income from loans at Rs.2,21,917/- only which was indicative of the fact that the assessee was not doing a NBFC business of giving loans and advances. The turnover from derivative business and share business was much more than the activity of giving of loans and advances and the assessee was therefore covered under Explanation to Section 73 of the Act.
2. The Learned DR vehemently supported the order of the Learned AO.
3. The Learned DR vehemently supported the order of the Learned AO.
Contention of the assessee
1. The company in the original name of Satnaliwala Investments Ltd had duly registered itself as a NBFC before RBI vide certificate of registration under Sl. No. 05.02942 dt 25.9.98. The assessee company has duly complied with the Prudential Norms of RBI directions regarding NBFC as certified by its auditors and part of the profits have been transferred to General Reserve in pursuance to requirement of RBI for NBFC. Granting of loans and advances was also being carried on by the assessee which was part and parcel of activities of the assessee which brings the assessee outside the ambit of provisions of Explanation to section 73 of the Act. The advances granted were quite high to the tune of Rs. 11.32 crores against the paid up capital and free reserves of Rs. 7.56 crores and other funds whereas the stock of shares was only Rs. 1.29 crores. Such advance clearly indicates its principal activities and in view of substantial investment by way of such advances, it is not hit by the Explanation to Section 73.
The Learned AR further argued that the assessee does not differentiate between its business of share trading of delivery based shares and non-delivery based shares. Alternatively, the assessee submitted that the transactions in F&O have been entered into with a view to hedge against the shares held by the assessee. The Learned AO had invoked Explanation to section 73 to a part of the transaction only i.e only for physical transactions wherein share trading loss of Rs. 1,71,52,934/- was incurred , but whereas the transactions related to F&O are also of the same nature. The Learned AR further argued that even assuming without conceding that the action of the Learned AO in treating the share trading loss as speculative loss is to be accepted as correct, then he ought to have adjusted the said loss with the profits earned in F&O share transactions and hence in any case, there is no loss available with the assessee for invoking the provisions of section 70 to 74A much less section 73 read with its Explanation. The Ld. AR also placed reliance on the following decisions in support of his contentions:-
a) Kolkata Tribunal in DCIT vs Baljit Securities Pvt Ltd in ITA No. 1183 /Kol / 2012 reported in (2014) 41 CCH 0164 held as follows in para 6 of its order:
“6. From the above, it is concluded that both trading of shares and derivative transactions are not coming under the purview of Section 43(5) of the Act which provides definition of “speculative transaction” exclusively for purposes of section 28 to 41 of the Act. Again, the fact that both delivery based transaction in shares and derivative transactions are non-speculative as far as section 43(5) is concerned goes to confirm that both will have same treatment as regards application of the Explanation to section 73 is concerned, which creates a deeming fiction. Now, before application of the said Explanation, aggregation of the business profit/loss is to be worked out irrespective of the fact, whether it is from share delivery transaction or derivative transaction…”
b) [Mumbai Tribunal, Special Bench in CIT vs Concord Commercial Pvt Ltd in (2005) 95 ITD 117 (Mum) (SB)] , wherein it was held that:
“Before considering whether the assessee’s case is hit by the deeming provision of Explanation to Section 73 of the Act, the aggregate of business profit / loss has to be worked out based on the non-speculative profits, either it is from share delivery or from share derivative.”
2. Learned CIT(A) had rightly granted relief to the assessee to the extent of availability of own funds with the assessee. Once interest free funds are available to the company to give interest free advances, no disallowances should be made on interest paid. The assessee company has own funds of Rs.7.56 crore in the form of capital & free reserves. Therefore, the assessee company had deployed a sum of Rs.9.58 crores – 7.56 crores =Rs.2.02 crores as interest free advances out of interest bearing funds of Rs. 5.92 crores. The Learned AR argued that the Learned AO had not disputed the fact that the lending is for the purpose of business of the assessee.
3. The Learned AR supported the order of the Learned CIT(A) by stating that the Learned CIT(A) had rightly granted relief to the assessee by stating that while applying the second limb of Rule 8D , the interest that is already disallowed u/s 36(1)(iii) of the Act should be ignored for the purpose of separate disallowance u/s 14A of the Act in order to avoid double addition.
Held by Tribunal
1. From the provisions of section 43(5)(d) of the Act, it is clear that the definition of ‘speculative transaction’ as contained in section 43(5) of the Act is only for purpose of sections 28 to 41 of the Act. It does not apply to the other sections of the Act. As per the definition of section 43(5) of the Act, trading of shares which is done by taking delivery does not come under the purview of ‘speculative transaction’. Similarly, as per clause (d) of section 43(5), derivative transaction in shares is also not speculation transaction as defined in the said section. Therefore, both profit/loss from all share delivery transactions and derivative transactions have the same meaning as far as Section 43(5) of the Act is concerned. It thus follows that both will have the same treatment as far as application of the said section is concerned. On the other hand, the Explanation to section 73 creates a deeming fiction by which an assessee, who is a company, other than a company whose gross total income consists mainly of income under the heads of “Interest on securities”, “Income from house property”, “Capital Gains” and “Income from other sources”, or where the principal business of the company is the business of banking or of granting loans and advances., dealing with share transaction of other companies, such transaction should be treated as speculative transaction within the meaning of section 73 of the Act notwithstanding the fact that, according to the definition of the speculative transaction in sec 43(5) of the Act, the transaction is not of that nature as there has been actual delivery of the shares. Therefore, aggregation of the share trading loss and profit from derivative transactions should be done before the Explanation to section 73 of the Act, is applied. Now, analyzing the present case in the light of the above explanation, it is submitted that during the relevant assessment year, the assessee arrived at the figure of net business income after setting off the loss incurred in the business of purchase and sale of delivery based shares with income earned for, derivative transactions. Thereafter, the provisions of explanation to section 73 of the act would be applied having no impact in the present case since the net result of the business is a profit. The Tribunal found that the Learned AO has completely ignored the fact that the assesssee being a dealer in shares (which is not disputed) considers the entire business consisting of purchase and sale of shares as one composite business. It was also found that that the Learned AO had completed the scrutiny assessment u/s 143(3) of the Act for the Asst Year 2010-11 on 14.2.2013 wherein the transactions in share trading has not been considered by invoking the Explanation to Section 73 of the Act in view of the fact that the advances have been given by the assessee. This goes to prove that the stand taken by the assessee in the assessment year under appeal, that it is a non banking finance company engaged in the business of granting loans and advances gets further strengthened by the subsequent conduct of the Learned AO. In deciding whether the principal business of the assessee was that of granting of loans and advances, the tribunal placed reliance on the following decision:
(a) Kolkata Tribunal Special bench in the case of DCIT vs Venkateswar Investment & Finance P Ltd (2005) 93 ITD 177 (Kol)(SB), wherein it was held that “the decisive factor is the nature of the activities of the assessee and not the actual income from such activities during a particular year. Merely because the numerical value of the profit/loss in purchase and sale of shares is more than the interest income during the relevant period, does not mean that the principal business of the assessee ceases to be that of granting of loans and advances. What constitutes the principal business will depend on the facts and circumstances of each case. The Memorandum and the Articles of Association of the company past history of the assessee, current and past year’s deployment of the capital of the assessee, break-up of the income earned during the relevant and past years and the nature of activities of the assessee will all help in determining the principal business of the assessee. If any particular year, the assessee has nominal business income and has substantial interest income, it does not imply that the assessee’s principal business is of finance or granting of loans and advances. Similarly the assessee, the principal business of which is the granting of loans and advances, may earn a comparatively high income from other activities in any particular year and still the principal business of the assessee may remain granting of loans and advances. The Explanation to section 73 is in the nature of a deeming provision and as such has to be strictly construed. The decisive factor is the true nature of activities of the company during the relevant period as well as in the past or succeeding periods.”(emphasis supplied)
(b) Mumbai Tribunal, Special Bench in CIT vs Concord Commercial Pvt Ltd in (2005) 95 ITD 117 (Mum) (SB), wherein it was held that “Before considering whether the assessee’s case is hit by the deeming provision of Explanation to Section 73 of the Act, the aggregate of business profit / loss has to be worked out based on the non-speculative profits, either it is from share delivery or from share derivative.”
Accordingly, the ground no. 1 raised by the revenue dismissed.
2. The Tribunal found that the Learned CIT(A) had rightly granted relief to the assessee to the extent of availability of own funds with the assessee. This issue is now settled by the decision of the Bombay High Court in the case of Reliance Utilities and Power Ltd reported in 313 ITR 340 (Bom) wherein it was held that “Where an assessee has his own funds as well as borrowed funds, a presumption can be made that the advances for non-business purposes have been made out of own funds and that the borrowed funds have not been used for this purpose.”
It was further submitted that there is no bar against advancing of loan interest-free or at a low rate of interest. There may be very many considerations, including business considerations, for not charging interest or charging interest at a low rate. whether the assessee charged interest on loan advanced or not is not at all a relevant consideration for determining allowability of interest paid under section 36(1)(iii) of the Act. As already explained, the relevant consideration is whether the moneys have been borrowed for the purposes of business or profession and whether interest paid. In the interest of maintain good business relation, interest-free loans or loans at a low rate of interest may be given to others with whom the assessee has business relation or with whom he expects to establish business connection or with whom he has other business obligations, present or past There is no compulsion that interest should always be charged on any lending, nor there is any requirement that income must be earned by utilizing the capital borrowed with interest so as to be entitled to the deduction under section 36(1)(iii) of the Act
Merely for the reason that interest was not charged or charged at a low rate on the lending, the interest paid for borrowing cannot be disallowed. It is a matter of business prudence and entirely upto the assessee as to how he utilizes the fund in the interest of his business. In view of the aforesaid facts and circumstances and the judicial precedents relied upon the Tribunal found no infirmity in the order of the Learned CIT(A) and accordingly, the ground no.2 raised by the revenue dismissed.
3. The Learned CIT(A) held that interest on borrowed funds that has been subject matter of disallowance u/s 36(1)(iii) of the Act which has been elaborated here in above should not be considered again for the purpose of disallowance u/s 14A of the Act. The Tribunal found that the action of the Learned CIT(A) does not require any interference as consideration of interest which was already disallowed u/s 36(1)(iii) of the Act and again considering the same for section 14A disallowance would only result in double addition. Hence the ground no. 3 raised by the revenue also dismissed.
Aggregation of income to be done before applying section 73
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