Post on 23-Feb-2016
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SECTION 14A OF THE
INCOME TAX ACT, 1961
By Deepika Mevadi(CA Final)
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
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.
RATIONALE FOR THIS SECTION
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
To prevent tax payers from setting off expenses
To earn tax free income
Against other income which
is taxable
MEANS TO OBJECTIVE
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
METHOD FOR ALLOCATING EXPENDITURE IN RELATION TO EXEMPT INCOME
[Section 14A(2) and Rule 8D]
Assessing officer is
satisfied with the correctness of claim
not satisfied with the correctness of claim
(a) Assessing officer is satisfied
No expenditure has been incurred for• Such exempt
income
No further action is required• By the Assessing
Officer in this regard
(b) Assessing officer is not satisfied with
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
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.
COMPUTATION OF DISALLOWANCE
aggregate of (i) amount of expenditure
directly relating to income
which does not form part
of total income
COMPUTATION OF DISALLOWANCE
aggregate of (ii) interest on borrowed
funds not directly
attributable toany particular
income or receipt
FORMULA FOR DISALLOWANCE
= A X BC
• Amount of interest other than directly attributable to the exempt income A
• average of value of investment• income from which does not or shall
not form part of the total incomeB
• average of total assets as appearing in the balance sheet
• on the first day and the last day of the relevant accounting year
C
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
RULE 8D PROVIDES
Disallowance of
direct expenditure
indirect
expenditur
e
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
[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
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
[ K.V. Trading Co. Limited vs. DCIT (supra) ]
Section 14A prevails over other general law due to
Special Provision
Special Law
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
[CIT vs. Hero Cycles Limited 323(2010) ITR 518 (P&H)]
Borrowed funds
Utilized business purposes & Investment in shares made
out of own fundsDISALLOWANCENOT PERMISSIBLE
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
[Dy. CIT vs. Maharashtra Seamless Limited (2011) 16 Taxman.com 97 (Del.)
No Disallowance of Interest on borrowed funds
if Assessing officer does not show
Between Borrowed funds &
NEXUS
Tax free investme
nt
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
Morgan Stanley India Securities (P) Limited vs. ACIT (2011) 55 DTYR (Mub) (Trib) 177
Disallowance of
Net Interest
or
Gross Interest
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
[ Varun Shipping Company Limited vs. Addl CIT (2012) 134 ITD 339 (Mum) ]
Separate Disallowance under Presumptive Tax Scheme?
No scope for separate disallowance
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
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
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
State Bank of Travancore vs. ACIT (2009) 318 ITR (AT) 171 (Coach)
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
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
JUDICIAL DECISIONS (ISSUES TO RULE 8D)
CIT vs. New India Investment Corporation Limited (1978) 113 ITR 778 (Cal.)
Rule 8D Not
Applicable
JUDICIAL DECISIONS(ISSUES TO RULE 8D)
[CIT vs. Kribhco (2012) 75 DTR 265 (Del.)
No disallow
ance
• Income entitled to deduction under section 80P(2)(d)
• Relating to co-operative society
Disallowance
• Exempt income• Deduction under
chapter VI-A
JUDICIAL DECISIONS(ISSUES TO RULE 8D)
Gillette Group India (P.) Limited vs. ACIT 12(1)
Disallowance
Can’t Exceed
Expenditure Claimed
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
TO SECTION 14A
e.g. Dividend Distribution tax, Tax payable by firms, etc
No Distinction between
Income which is completely
exempt from tax &
Income received after
payment of tax
TO SECTION 14A
Disallowance u/s.14A
Agricultural IncomeHaryana
Land Reclamation
& Development Corp. v. CIT, 159 Taxman 271 (P & H)
Dividend on shares and
units of mutual fundsWallfort
Shares & Stock
Brokers Ltd. v. ITO, 96 ITD
1 (Mum.) (SB)
Share of Profit from
FirmSudhirDattar
amPatil 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)
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
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.
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
SPECIAL BENCH DECISIONRelevance 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
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
SPECIAL BENCH DECISIONDisallowance
Irrespective ofWhether the income is
Earned by the assessee or not
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
DECISION OF SPECIAL BENCH
Even if the tax payer has not earned any tax free income in a year
if funds have been borrowed at a cost
a part of his expenses would necessarily have to
be disallowed under section 14A read with Rule 8D
if the tax payer has investments in shares or
mutual funds
the income from which, when received, would
be tax free
IMPLICATIONS OF THE DECISION
Disallowance of part of the interest paid
IMPLICATIONS OF THE DECISION
Who have borrowings &
Who have invested
In shares &
Mutual funds
IMPLICATIONS OF THE DECISION
That no expenses have been incurred
To earn tax free income
There is no tax free income
No Disallowance