The disallowance u/s 14A of Income Tax Act for expense related to earning exempt income like dividend has become wide spread after judgement of special bench of Mumbai Tribunal in Daga Capital Management P Ltd [312 ITR 1 ] case and Delhi Tribunal judgement in ACIT vs Cheminvest Ltd case [124 TTJ 577] . These cases were explained in blog post titled Two Recent Judgments Proving Very Taxing For Assessee . Further bad news followed for assessee when Mumbai High Court in Godrej Boyce Mfg Case affirmed the Daga Capital and Chemiinvest decisions of tax tribunal.
The result of the aforesaid decision can be summarized to say that the disallowance u/s 14A of income tax Act is also done in cases of dividend earning by a person who entirley deasl in share trade and does not invest in shares for the purpose of eaither earning long term gains or dividend income.Thus brokers or share dealers who have stock in trade and some didvidend were earned on such stock-in-trades were also being covered for disallowance u/s 14A of Income tax act.
Relief on Disallowance u/s 14A of Income Tax Act by Karnataka High Court
The brreze of fresh air from a very recent decision by Karnataka High Court in case of CCI Ltd vs JCIT delivered judgment dated 28/02/2012. Briefly facts were that the assesses spent Rs 27.24 Lakhs as brokerage for arranging loans by which assessee bought or paid for shares of Kurlon Ltd on which together with some other shares held as stock-in trade , he earned dividend income o0f Rs 46.67 Lakhs. The A.O held that the expense of Rs 27.24 Lakh was related to earning of exempt income and therefore made disallowance u/s 14A of Income Tax Act.
CIT(A) also confiremd the order of A.O . However, ITAT further increased the stress for assessee by stating that the payment of brokerage was directly related to earning exempt income and A.O should have made further disallowance u/s 14A of Income Tax Act s for indirect exepnse attributable to earning dividend income.
The Assessee approached Karnataka High court against the order of Tax Tribunal and raised following grounds :
Whether the provisions of Section 14A of the Act are applicable to the expenses incurred by the assessee in the course of its business merely because the assessee is also having dividend income when there was no material brought to show that the assessee had incurred expenditure for earning dividend, income which is exempted from taxation?
Karnataka High Court held as
5. When no expenditure is incurred by the assessee, in earning the dividend income no notional expenditure could be deducted from the said income. It is not the case of the assessee retaining any shares so as to have the benefit of dividend. 63% of the shares, which were purchased, are sold and the income derived therefrom is offered to tax as business income. The remaining 37% of the shares are retained. It has remained unsold with the assessee. It is those unsold shares have yielded dividend, for which, the assessee has not incurred any expenditure at all. Though the dividend income is exempted from payment of tax if any expenditure is incurred in earning the said income, the said expenditure also cannot be deducted. But in this case, when the assessee has not retained shares with the intention of earning dividend income and the dividend income is incidental to his business of sale of shares, which remained unsold by the assessee, it cannot be said that the expenditure incurred in acquiring the shares has to be apportioned to the extent of dividend income and that should be disallowed from deductions. In that view of the matter, the approach of the authorities is not in conformity with the statutory provisions contained under the Act. Therefore, the impugned orders are not sustainable and require to be set aside.
Thus , it is clear at that at least one High Court has come forward agreeing with the contention of the assessee that merely because shares are held by assessee , even if same is stock-in-trade – in which case the earning dividend income is not an intention, but incidental to business , the practice of dis-allowance u/s 14A of expenses on proportionate basis is not good law.