Section 14 a of i tax act


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Section 14 a of i tax act

  1. 1. By Deepika Mevadi (CA Final)
  2. 2. TOPICS COVERED  Background of Section 14A  Rationale of Section 14A  Objective  Method of Allocating Expenditure relating to Exempt Income  Computation of Disallowance  Judicial Decisions (Rule 8D)  Decision to Section 14A  Recent Developments  Special Bench Decision (SB)  Implication of SB
  3. 3.  Brought onto the statute by the Finance Act, 2001  Provides for disallowance of expenditure incurred in relation to income which is not included in the total income of the assessee  Proviso to the Section was added by the Finance Act, 2002 w.e.f. 11-5-2001.
  4. 4. No deduction for expenditure Incurred in respect of exempt income Against taxable income Tax incentive given by way of Exemptions to certain categories of income Used to reduce also the tax payable on the non-exempt income Incurred to earn the exempt income against taxable income. Exemption is also in respect of the net income Expenses incurred can be allowed Only to the extent they are relatable To the earning of taxable income
  5. 5. To prevent tax payers from setting off expenses To earn tax free income Against other income which is taxable
  6. 6. To earn such tax free income Tax payer must Have tax free income & Have actually incurred expenses To quantify such expenses ensure that the same are not claimed by assessee as a deduction against any other income
  7. 7. METHOD FOR ALLOCATING EXPENDITURE IN RELATION TO EXEMPT INCOME Assessing officer is satisfied with the correctness of claim not satisfied with the correctness of claim
  8. 8. No expenditure has been incurred for • Such exempt income No further action is required • By the Assessing Officer in this regard
  9. 9. Correctness of the claim of expenditure The claim made by the assessee that no expenditure has been incurred For that Rule 8D lays down the computation mechanism for this purpose
  10. 10.  Introduction of RULE 8D  Formula laid down in the said Rule is  Highly unfair and does not take into cognizance the facts of any case.  It merely lays down an arithmetical method of arriving at a disallowance.  This disallowance often comes to much more than the entire expenses debited to the Profit and Loss Account by the tax payer.
  11. 11. COMPUTATION OF DISALLOWANCE aggregate of (i) amount of expenditure directly relating to income which does not form part of total income
  12. 12. COMPUTATION OF DISALLOWANCE aggregate of (ii) interest on borrowed funds not directly attributable to any particular income or receipt
  13. 13. FORMULA FOR DISALLOWANCE = A X B C • Amount of interest other than directly attributable to the exempt incomeA • average of value of investment • income from which does not or shall not form part of the total income B • average of total assets as appearing in the balance sheet • on the first day and the last day of the relevant accounting year C
  14. 14. COMPUTATION OF DISALLOWANCE aggregate of (iii) ½ % of the average of the value of investment income from which does not or shall not form part of the total income as appearing in the balance sheet on the first day and the last day of the relevant accounting year
  15. 15. RULE 8D PROVIDES
  16. 16. [Godrej & Boyce Manufacturing Company Limited vs. DCIT (2010) 194 Taxman 203 (Bom.)] Rule 8D shall not be applicable for assessment year prior to assessment year 2008-09 Applicable to all pending cases even prior to notification of rule 8D
  17. 17. [ K.V. Trading Co. Limited vs. DCIT (supra) ] Section 14A prevails over other general law due to Special Provision Special Law
  18. 18. [CIT vs. Hero Cycles Limited 323(2010) ITR 518 (P&H)]
  19. 19. [Dy. CIT vs. Maharashtra Seamless Limited (2011) 16 97 (Del.) No Disallowance of Interest on borrowed funds if Assessing officer does not show Between Borrowed funds & NEXUS Tax free investment
  20. 20. Morgan Stanley India Securities (P) Limited vs. ACIT (2011) 55 DTYR (Mub) (Trib) 177 Disallowance of Net Interest or Gross Interest
  21. 21. [ Varun Shipping Company Limited vs. Addl CIT (2012) 134 ITD 339 (Mum) ] Separate Disallowance under Presumptive Tax Scheme? - All the expenses allowed in relation to taxable income No scope for separate disallowance
  22. 22. K. V. Trading Co. Limited vs. DCIT (supra) Consequences where composite expenditure is incurred on earning income, which is partly taxable and Partly exempt Where assessee maintain composite account of expenditure Assessee have to prove that Expenditure incurred by him is in relation to For both the exempted income and non exempted income Non exempted income as it is the assessee which is claiming deduction
  23. 23. State Bank of Travancore vs. ACIT (2009) 318 ITR (AT) 171 (Coach) Investment in Tax free Bonds by Bank Assessee Not for Earning Tax free Income but for Meeting The Statutory Obligation of Maintaining SLR Ratio No Disallowance u/s 14A
  24. 24. Daga Capital Management P Ltd [312 ITR 1 ] & ACIT vs Cheminvest Ltd case [124 TTJ 577] No Disallowance u/s 14A if Dividend Incidental to Business
  25. 25. CIT vs. New India Investment Corporation Limited (1978) 113 ITR 778 (Cal.) Rule 8D Stock- in- Trade Not Applicable
  26. 26. [CIT vs. Kribhco (2012) 75 DTR 265 (Del.) • Income entitled to deduction under section 80P(2)(d) • Relating to co-operative society No disallowance • Exempt income • Deduction under chapter VI-A Disallowance
  27. 27. Gillette Group India (P.) Limited vs. ACIT 12(1)
  28. 28. TO SECTION 14A No Disallowance Exemption is granted Exemption is given u/s.10(38) Not as an incentive In respect of long term capital gains on which STT is paid But because the tax is levied at source
  29. 29. TO SECTION 14A e.g. Dividend Distribution tax, Tax payable by firms, etc
  30. 30. TO SECTION 14A Disallowance u/s.14A Agricultural Income Haryana Land Reclamation & Development Corp. v. CIT, 159 Taxman 271 (P & H) Dividend on shares and units of mutual funds Wallfort Shares & Stock Brokers Ltd. v. ITO, 96 ITD 1 (Mum.) (SB) Share of Profit from Firm SudhirDattara mPatil v. DCIT, 2 SOT 678 (Mum.) Tax Free Bonds Punjab National Bank v. DCIT, 103 TTJ 908 (Del.) Chapter VIA Income Punjab State Co-operative Milk Producers Federation Ltd. v. ITO, 104 ITD 408 (Chand)
  31. 31. TO SECTION 14A New Rule 8D prescribed by CBDT working of the amount disallowable u/s.14A adhoc basis was being adopted notional amount will be disallowed
  32. 32. RECENT DEVELOPMENTS  Once the Rule 8D was notified sometime in early 2008, the tax officers have been mechanically applying the said Rule to all pending assessments.  In most cases, they have been rejecting the working prepared by the tax payer and huge disallowances have been made under section 14A based on the irrational computational mechanism laid down in the Rule.
  33. 33. RECENT DEVELOPMENTS  However, the latest development has made matters even worse now.  Recently, the Income-tax Appellate Tribunal had occasion to decide on the issue of applicability of the section in those cases,  Where a tax payer had invested money in investments, the income from which, as and when received, would be tax free in the hands of the tax payer.  In view of conflicting decisions of various Tribunals in the matter, it was decided to constitute a SPECIAL BENCH. This Special Bench at Delhi has given its decision vide its consolidated order dated 5th August, 2009 in the case of ITA Nos. 87/Del/2008, 4788/Del/2007 and 233/Ahd/2006
  34. 34. SPECIAL BENCH DECISION Relevance was Work out the expenditure In relation to the exempt income & Not to examine whether the expenditure incurred by the assessee Has resulted into exempt income or taxable income
  35. 35. SPECIAL BENCH DECISION Gist of the Special Bench decision Section 14A would be applicable Where the tax payer has not earned any income which is tax free But has invested funds in investments which When they start yielding income Such income would be tax free
  36. 36. SPECIAL BENCH DECISION Disallowance Irrespective of Whether the income is Earned by the assessee or not
  37. 37. SPECIAL BENCH DECISION Decisions of the Supreme Court in the case of Maharashtra Sugar Mills and Rajasthan State Warehousing One indivisible business Entire expenditure is allowable No application after the introduction of section 14A
  39. 39. IMPLICATIONS OF THE DECISION Even if the investments are long term and/or strategic ones & No income actually accruing or received during a year Disallowance of part of the interest paid