The Mumbai bench of the Income Tax Appellate Tribunal (ITAT) struck down an excessive disallowance made under Section 14A of the Income Tax Act, 1961 as the Assessing Officer (AO) had failed to record any dissatisfaction with the assessee’s claim regarding the expenditure incurred to earn tax-exempt income, which is a mandatory requirement before invoking Rule 8D for disallowance under Section 14A of the Income Tax Act.
In this case, the assessee, Welspun Mercantile Limited, had filed a nil return, showing income from business and short-term capital gains, both of which were adjusted against brought-forward losses for the assessment year 2014-15.
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The AO noted that the assessee had earned a dividend income of Rs. 2.98 crore, which was claimed as exempt under Section 10(34) of the Act. The assessee had voluntarily disallowed Rs. 1,10,711 under Section 14A. Still, the AO, invoking Rule 8D, computed a much higher disallowance of Rs. 84.78 lakh, citing that the assessee had used borrowed funds to make investments in shares.
The assessee, who was aggrieved by the above decision, appealed before the Commissioner of Income Tax (Appeals) [CIT(A)], who partially allowed the appeal by restricting the disallowance to Rs. 1,56,794 under Rule 8D(2)(iii) for administrative expenses and Rs. 76,66,092 under Rule 8D(2)(ii) for interest expenditure.
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Interestingly, both the revenue and the assessee filed cross-appeals before the ITAT in which the revenue has contested the CIT(A)’s reduction of the disallowance, and the assessee has appealed, stating that no disallowance should have been made.
The ITAT, by going through established precedents, held that the AO had not recorded any dissatisfaction with the assessee’s voluntary disallowance, nor had he provided any basis for invoking Rule 8D.
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The bench noted that the AO must first be dissatisfied with the assessee’s claim and record reasons for such dissatisfaction before applying Rule 8D. Since the AO had failed to do so, the ITAT ruled that the disallowance under Section 14A was unjustified and upheld the assessee’s voluntary disallowance of Rs. 1,10,711.
The ITAT, comprising Sunil Kumar Singh (Judicial Member) and Narendra Kumar Billaiya (Accountant Member), dismissed the revenue’s appeal and allowed the assessee’s appeal.
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