Citation Codes

Equivalent Citations

citation codes

Case Number

I.T. Appeal No. 7160 (Mum.) of 2002

Advocates

S.N. Inamdar

Judges

Sunil Kumar YadavD.K. SRIVASTAVA

Acts

section 14A w.r.e.f. 1-4-1962 in the Income-tax Act by the Finance Act, 2001
sub-sections (2) and (3) of section 14A of the Income-tax Act.
SECTION 11 FINANCE ACT 2001
SECTION 7 FINANCE ACT 2006
provisions of sub-section (2)/(3) of section 14A
section 119(2)(a) of the Income-tax Act.25.4
INCOME TAX ACT 1961
rule 46A of the Income-tax Rules, 1962
SECTION 10 FINANCE ACT 2002
Finance Act, 2001, a new section 14A
sub-section (2)/(3) of section14A
provisions of sub-section (2)
FINANCE ACT 2001
FINANCE ACT 2002
FINANCE ACT 2006
sub-section (2)/(3)
INCOME TAX ACT

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Smart Summary

Structured Summary of the Opinion (Tribunal — D.K. Srivastava, Accountant Member)

Factual and Procedural Background

The assessee filed an appeal against the order of the Commissioner of Income-tax (Appeals) [CIT(A)] for assessment year 1999-2000. The assessee replaced original grounds with concise grounds of appeal. During assessment proceedings the Assessing Officer (AO) noted that the assessee received exempt dividend income of Rs. 42,98,500 under section 10 but had not allocated any expenditure for earning that dividend. Relying on section 14A of the Income-tax Act, the AO disallowed Rs. 2,00,000 as attributable to earning the exempt dividend income. The CIT(A) confirmed the disallowance. The assessee appealed to the Tribunal challenging, among other things, (i) the ad hoc disallowance of Rs. 2,00,000 under section 14A, (ii) disallowance out of interest paid of Rs. 19,78,127, (iii) assessment of capital gain on sale of shares with a disputed sale consideration (Rs. 1.25 crores v. Rs. 1 crore), and (iv) disallowance of share issue expenses of Rs. 1,26,524. The Tribunal heard parties, considered statutory amendments to section 14A and several judicial authorities, and pronounced its decision.

Legal Issues Presented

Whether the provisions of section 14A of the Income-tax Act empower the Assessing Officer to make proportionate allocation of expenditure in respect of expenditure incurred in relation to exempt income (dividend income) and thereby disallow such expenditure against taxable income.
Whether the mechanism for computing allocation of such expenditure as provided in sub-sections (2) and (3) of section 14A (inserted by Finance Act, 2006) is procedural and therefore applies to pending matters (i.e., matters before the Tribunal arising prior to assessment year 2006-07) or applies only prospectively.
Whether the Assessing Officer's addition of interest (Rs. 19,78,127) should stand having regard to prior decisions in the assessee’s own case for earlier assessment years (i.e., whether the issue is covered by earlier rulings).
Whether subsequent events (post-agreement crystallization of sale consideration) can be considered in determining the correct sale consideration for computation of capital gains for the year under assessment.
Whether share issue expenses of Rs. 1,26,524 were correctly disallowed (issue raised but the assessee accepted that Supreme Court authority covered against the assessee).

Arguments of the Parties

Assessee's Arguments

The rule of proportionality of expenses was not applicable under section 14A; hence the ad hoc disallowance of Rs. 2,00,000 should be deleted.
The assessee relied on a set of judicial decisions (including CIT v. General Insurance Corpn. of India; Commissioner of Income-Tax v. United Collieries Ltd.; CIT v. Central Bank of India; Rajasthan State Warehousing Corpn. v. CIT) in support of its submissions.
On the capital gains issue, the assessee contended that the sale consideration was a variable amount subject to a ceiling of Rs. 1.25 crores and that the parties ultimately agreed in April 2001 to a consideration of Rs. 1 crore; the return was filed earlier (showing Rs. 1.25 crores) before crystallization and therefore the correct taxable consideration should be Rs. 1 crore.
On ground 2 (interest disallowance) the assessee's counsel conceded that the issue was covered against the assessee by Tribunal orders in the assessee’s own case for earlier assessment years.
On the share issue expenses, counsel accepted that the issue was covered against the assessee by the Supreme Court decision in Brooke Bond (I) Ltd. v. CIT.

Departmental Representative's Arguments

Section 14A bars deduction of any expenditure incurred by the assessee in relation to income which does not form part of the total income; therefore the AO was correct to disallow expenses related to exempt dividend income.
The assessee received dividend income of Rs. 42,98,500 without allocating any expenditure for earning such receipts; the AO was justified in attributing a proportionate amount (Rs. 2 lakhs) to the earning of this dividend income.
It was submitted that it was implausible that a person would earn substantial dividend income without incurring any expenditure; the decisions cited by the assessee were said to be rendered in contexts different from that arising under section 14A.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
CIT v. General Insurance Corpn. of India [2002] 254 ITR 203 (Bom.)	The provided opinion records that the assessee relied on this decision; the opinion does not state the specific rule or principle attributed to this precedent.	The opinion notes the case was relied upon by the assessee; no further application-specific detail is stated in the opinion.
Commissioner Of Income-Tax v. United Collieries Ltd. [1993] 203 ITR 857 (Cal.)	The provided opinion records that the assessee relied on this decision; the opinion does not state the specific rule or principle attributed to this precedent.	Cited by the assessee; the opinion does not further describe how the Tribunal applied or distinguished it.
CIT v. Central Bank of India [2003] 264 ITR 522 (Bom.)	The provided opinion records that the assessee relied on this decision; the opinion does not state the specific rule or principle attributed to this precedent.	Referenced as relied upon by the assessee; no detailed application recorded in the opinion.
Rajasthan State Warehousing Corpn. v. CIT [2000] 242 ITR 450 (SC)	The provided opinion records that the assessee relied on this decision; the opinion does not state the specific rule or principle attributed to this precedent.	Cited by the assessee; the Tribunal’s opinion does not specify further application in this matter.
Taparia Tools Ltd. v. Joint Commissioner Of Income-Tax [2003] 260 ITR 102 (Bom.)	The matching principle of accountancy: revenue and expenses must be matched on an accrual basis to compute net (taxable) income; book profits are the basis of computation under mercantile accounting.	The Tribunal quoted this decision to explain and support the view that expenses must be matched to the income to which they relate, reinforcing the need to allocate expenses between exempt and taxable incomes.
Southern Petro Chemical Industries v. Dy. CIT [2005] 93 TTJ (Chennai) 161	Held that investment decisions involve top management and therefore proportionate management expenses are required to be deducted while computing exempt dividend income.	Used by the Tribunal as supportive authority for the proposition that management/administrative expenses are connected with earning dividend income and thus require allocation.
Harish Krishnakant Bhatt v. ITO [2004] 91 ITD 311 (Ahmedabad Bench)	Held that interest on capital borrowed for acquisition of shares yielding dividend cannot be allowed by operation of section 14A.	Cited by the Tribunal as an authority supporting disallowance of interest attributable to acquisition of dividend-yielding investments.
Dy. CIT v. SG Investments & Industries Ltd. [2004] 89 ITD 44 (Kolkata Bench)	Two propositions: (i) pro rata expenses on account of interest relatable to investments earning exempt dividend are to be disallowed; (ii) "expenditure incurred ... in relation to" has a wide meaning including direct and indirect relationships.	Relied upon to support the wider interpretation of "expenditure ... in relation to" and to justify disallowance of pro rata expenses attributable to exempt income.
CIT v. United General Trust Ltd. [1993] 200 ITR 488 (SC)	The Supreme Court decision was followed by the Calcutta Bench in concluding that interest paid attributable to money borrowed for making investments yielding dividend can be regarded as expenditure in relation to dividend income.	The Tribunal relied on the principle (as followed by co-ordinate Benches) that interest and other expenses attributable to investments yielding exempt dividend are expenditures "in relation to" such dividend income for purposes of disallowance under section 14A.
Everplus Securities & Finance Ltd. v. Dy. CIT [2006] 102 TTJ (Delhi) 120	Held that non-earning of dividend from specific investments does not preclude the application of section 14A to those investments.	Cited to support the proposition that section 14A may apply even if dividend was not actually earned from particular investments.
Asstt. CIT v. Premier Consolidated Capital Trust (I) Ltd. [2004] 4 SOT 793 (Mumbai Bench)	Held that the Assessing Officer is justified in attributing part of financial and administrative expenses as expenditure incurred in relation to exempt income and disallowing the same under section 14A.	Used by the Tribunal to show judicial support for attributing a portion of administrative/financial expenses to exempt income for disallowance.
W.H. Cockerline & Co. v. IRC [1930] 16 TC 1 (CA)	Distinction between charging provisions (which impose the liability) and machinery/procedural provisions (which provide the mechanism to quantify/enforce the liability); machinery provisions constitute "machinery only".	Quoted to support the Tribunal's view that sub-sections (2) and (3) of section 14A are procedural/machinery provisions and therefore apply to pending matters.
Kesoram Industries & Cotton Mills Ltd. v. CWT [1966] 59 ITR 767 (SC)	Observation that certain valuation provisions are machinery for ascertaining the tax charge; included to illustrate charging vs machinery distinction.	Cited by the Tribunal in the discussion distinguishing charging provisions from machinery/procedural provisions to justify retrospective application of procedural rules.
Associated Cement Co. Ltd. v. CTO [1981] 48 STC 466 (SC)	Settled law that courts distinguish between charging provisions (construed strictly) and machinery provisions (construed to avoid defeating the charge to tax).	Relied upon to reinforce that procedural (machinery) provisions are construed to apply in a manner that does not defeat the charging provision and may apply to pending matters.
Jose Da Costa v. Bascora Sadashiva Sinai Narcornin AIR 1975 SC 1843	Explained principles: procedural provisions may be given retrospective effect, whereas provisions affecting existing rights are not to be applied retrospectively absent express intention.	Quoted to support the general principle that procedural changes are presumed to apply to pending matters unless text shows otherwise.
Delhi Cloth & General Mills Co. Ltd. v. ITC AIR 1927 PC 242	Referred to within Jose Da Costa as authority for the proposition on non-retrospectivity of provisions affecting rights; included as background within the quoted passage.	Appears in the opinion's citation chain supporting the distinction between procedural provisions and those affecting substantive rights.
Garikapati Veeraya v. N. Subbiah Choudhry & Others AIR 1957 SC 540	Referred to as authority illustrating exceptions where substantive rights may be affected by later enactments; cited within the discussion of rules on retrospectivity.	Used in the chain of authorities explaining exceptions to preservation of substantive appellate rights; included in the Tribunal’s reasoning on procedural provisions.
Colonial Sugar Refining Co. Ltd. v. Irving [1905] AC 369 (PC)	Referred to as part of authorities illustrating exceptions to the preservation of appellate rights; included in the textual quotation.	Used within the cited jurisprudence to illustrate legal principles on retrospective application and exceptions; forms part of the Tribunal's support for procedural retrospective application.
CWT v. Sharvan Kumar Swarup & Sons [1994] 210 ITR 886 (SC)	The Supreme Court cited and approved many of the observations concerning procedural provisions and retrospective application; used to support the Tribunal's conclusion on procedure.	Cited by the Tribunal as approving the principles distinguishing charging and machinery provisions and as support for applying procedural changes to pending matters.
Brooke Bond (I) Ltd. v. CIT [1997] 225 ITR 798 (SC)	The opinion records that the assessee conceded the share-issue-expense issue was covered against the assessee by this Supreme Court decision; the specific principle from the case is not set out in the opinion.	The Tribunal dismissed Ground No. 4 because the assessee accepted that the issue was covered by this Supreme Court decision.

Court's Reasoning and Analysis

The Tribunal's reasoning proceeded in logical steps closely following the material in the record and statutory amendments:

Statutory framework and amendments: The Tribunal set out the history of section 14A — inserted by Finance Act, 2001 with retrospective effect from 1-4-1962, amended by Finance Act, 2002, and further amended by Finance Act, 2006 which inserted sub-sections (2) and (3). The text of section 14A(1)-(3) (as amended) was reproduced in the opinion.
Substance of section 14A(1): The Tribunal observed that section 14A clearly distinguishes exempt income from taxable income and prohibits deduction of expenditure incurred in relation to income not includible in total income; the underlying object is correct computation of exempt and taxable income by allocating expenditure to the income to which it relates to avoid artificial inflation/deflation of incomes.
Meaning of "expenditure" and "in relation to": The Tribunal referred to dictionary meanings (Black’s Law Dictionary and The New Shorter Oxford English Dictionary) and concluded that "expenditure" is wide enough to cover direct and indirect, fixed and variable, management and financial expenses — any expense that has some connection with exempt income falls within the scope of section 14A.
Commercial/accounting principle (matching): The Tribunal relied on the matching principle (as explained in Taparia Tools Ltd.) to underline that expenses must be matched to the income they relate to, supporting the allocation of expenses between exempt and taxable incomes.
Survey of coordinate Bench decisions: The Tribunal surveyed several Tribunal/High Court decisions (Southern Petro, Harish Bhatt, SG Investments, United General Trust as followed, Everplus, Premier Consolidated) which supported the proposition that interest and management/administrative expenses connected to investments yielding exempt dividend income are expenditures "in relation to" such exempt income and are therefore not deductible against taxable income.
Procedural vs. substantive distinction: The Tribunal examined authorities (W.H. Cockerline; Kesoram; Associated Cement; Jose Da Costa; Bennion; Halsbury; and CWT v. Sharvan Kumar Swarup & Sons) to draw the distinction between charging provisions (substantive) and machinery/procedural provisions. It noted the established principle that procedural provisions can apply retrospectively and to pending matters unless the text indicates otherwise.
Conclusion on sub-sections (2) and (3): Relying on the above, the Tribunal concluded that sub-sections (2) and (3) of section 14A (which prescribe the method for determination of expenditure attributable to exempt income) are procedural/machinery provisions and therefore apply to all pending matters. Consequently, the AO cannot make an ad hoc disallowance based on his discretion; he is required to compute the disallowance in accordance with the method prescribed by sub-sections (2) and (3).
Remand for fresh computation: The Tribunal set aside the orders of the CIT(A) and the AO on the ad hoc disallowance matter, and restored the issue to the Assessing Officer for a fresh decision in the light of section 14A including sub-sections (2) and (3), giving the assessee an opportunity of hearing.
Ground 2 (interest disallowance): The assessee's counsel conceded the issue was covered against the assessee by the Tribunal's earlier orders for earlier assessment years; accordingly the Tribunal dismissed Ground No. 2.
Ground 3 (capital gains — sale consideration): The Tribunal found that subsequent events (final agreement in April 2001 fixing consideration at Rs. 1 crore) could be relevant and that it was not an inflexible rule that subsequent events could never be considered. The Tribunal directed that the matter be remitted to the AO for fresh consideration after giving reasonable opportunity of hearing; Ground No. 3 was treated as allowed for statistical purposes (i.e., remanded).
Ground 4 (share issue expenses): The assessee conceded this issue was covered against it by the Supreme Court decision in Brooke Bond (I) Ltd. v. CIT; accordingly Ground No. 4 was dismissed.

Holding and Implications

Core Holdings:

The Tribunal held that sub-sections (2) and (3) of section 14A are procedural/machinery provisions and therefore apply to pending matters.
The Assessing Officer cannot make ad hoc or discretionary disallowances under section 14A; he is statutorily required to compute disallowance in accordance with the method provided in sub-sections (2) and (3).
On the appeal outcome, the Tribunal recorded that the appeal filed by the assessee is partly allowed.

Implications and immediate consequences:

The order of the CIT(A) and the Assessing Officer concerning the ad hoc disallowance of Rs. 2,00,000 under section 14A is set aside and the matter is remitted to the Assessing Officer for a fresh decision applying sub-sections (2) and (3) of section 14A (with opportunity of hearing to the assessee).
Ground No. 2 (disallowance out of interest paid) was dismissed because the issue was covered against the assessee by its own earlier Tribunal orders; accordingly that addition stands.
Ground No. 3 (capital gains — determination of sale consideration) was remitted to the Assessing Officer to consider subsequent events and decide afresh after giving the assessee a reasonable opportunity of hearing; the ground was treated as allowed for statistical purposes.
Ground No. 4 (share issue expenses) was dismissed in view of the Supreme Court authority relied upon by the Department and conceded by the assessee.
The Tribunal's conclusion that sub-sections (2) and (3) are procedural and apply to pending matters means that for other pending assessments where section 14A issues arise, Assessing Officers must apply the computation methodology in those sub-sections rather than make ad hoc allocations. (This statement summarizes the tribunal's reasoning as stated in the opinion; the opinion itself remitted the specific matter before it for recomputation.)

Disposition: Appeal partly allowed.

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Kalpataru Construction Overseas (P.) Ltd. v. Deputy Commissioner of Income-tax, Range 3(2), Mumbai

D.K. Srivastava, Accountant Member. - The assessee has filed the present appeal against the order of the CIT(A) for assessment year 1999-2000. The assessee has substituted original grounds of appeal by concised grounds of appeal.

2. Ground No. 1 taken by the assessee in the concised grounds of appeal read as under :

"1. Ad hoc disallowance out of administrative expenses of Rs. 2,00,000.

The Hon’ble Commissioner of Income-tax (A) erred in upholding the ad hoc disallowance of Rs. 2,00,000 under section 14A of the Income-tax Act, 1961 out of administrative expenses on the ground that there is a direct connection between administrative expenses and dividend income."

3. In the course of the assessment proceedings, the Assessing Officer noticed that the assessee had received dividend income of Rs. 42,98,500 which was exempt from tax under section 10. The Assessing Officer also noticed that the assessee had not shown any expenditure for earning the aforesaid dividend income. The Assessing Officer took note of section 14A of the IT Act and allocated a sum of Rs. 2 lakhs for earning the aforesaid dividend income. In other words, he disallowed a sum of Rs. 2 lakhs on the ground that it was attributable to earning of dividend income under section 14A of the I.T. Act. The disallowance so made by the Assessing Officer was confirmed by the CIT(A).

4. In support of appeal, the ld. counsel for the assessee submitted that the rule of proportionality of expenses was not applicable under section 14A of the IT Act and hence the impugned disallowance confirmed by the CIT(A) should be deleted. In support of his submissions, the ld. counsel relied on the decisions in CIT v. General Insurance Corpn. of India [2002] 254 ITR 203¹, 204 (Bom.); Commissioner Of Income-Tax v. United Collieries Ltd. [1993] 203 ITR 857 (Cal.); CIT v. Central Bank of India [2003] 264 ITR 522 ² (Bom.) and Rajasthan State Warehousing Corpn. v. CIT [2000] 242 ITR 450³ (SC).

5. In reply, the ld. Departmental Representative supported the orders passed by the Departmental authorities and submitted that section 14A barred deduction of any expenditure incurred by the assessee in relation to income which did not fall part of the total income under the IT Act. He submitted that the assessee had received dividend income of Rs. 42,98,500 without allocating any expenditure for earning such receipts. According to him, it was a clear case of inflating income from dividend without allocating any proportionate expenditure for earning that dividend. He submitted that it was unbelievable that a person would earn dividend income of Rs. 42,98,500 without incurring any expenditure. According to him, the decisions referred to by the ld. counsel for the assessee were rendered in contexts different from the one arising under section 14A of the IT Act.

6. We have heard both the parties and considered their submissions including the judicial authorities cited by them. Short issue in the matter before us is whether the provisions of section 14A empower the Assessing Officer to make proportionate allocation in respect of the expenditure incurred in relation to exempt income and consequentially take the same into account for computing the exempt income and, if so, whether the mechanism for computing allocation of such expenditure as provided in sub-section (2)/(3) of section14A (inserted by the Finance Act, 2006) would apply to all pending matters or would apply to matters arising with effect from assessment year 2006-07.

7. Section 14A has been inserted in the Income-tax Act by section 11 of the Finance Act, 2001, with retrospective effect from 1-4-1962, i.e., for and from assessment year 1962-63. Section 14A has been amended by section 10 of the Finance Act, 2002 and again by section 7 of the Finance Act, 2006. Section 14A as so amended reads now as under :

"14A. Expenditure incurred in relation to income not includible in total income.—(1) For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act.*

(2) The Assessing Officer shall determine the amount of expenditure incurred in relation to such income which does not form part of the total income under this Act in accordance with such method as may be prescribed if the Assessing Officer, having regard to the accounts of the assessee, is not satisfied with the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income under this Act.**

(3) The provisions of sub-section (2) shall also apply in relation to a case where an assessee claims that no expenditure has been incurred by him in relation to income which does not form part of the total income under this Act.**

Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning or before the 1st day of April, 2001.***

[*Inserted as section 14A (without numbering) in the IT Act by the Finance Act, 2001 w.r.e.f. 1-4-1962. **Inserted by the Finance Act, 2006 and consequently all the clauses of section 14A were numbered.*** Inserted by the Finance Act, 2002.]

8. In the matter before us, we are not concerned with the Proviso to section 14A. We are concerned with sub-section (1) [as originally inserted (without numbering of the sub-section) by the Finance Act, 2001 with retrospective effect from 1-4-1962 and sub-section (2)/(3) (inserted by the Finance Act, 2006 with consequential numbering of the clauses of section 14A] of section 14A. The scope and effect of the insertion of section 14A w.r.e.f. 1-4-1962 in the Income-tax Act by the Finance Act, 2001 have been explained in para 25 of Circular No. 14 of 2001 issued by the Central Board of Direct Taxes, which reads as under :

"25. No deduction for expenditure incurred in respect of exempt income against taxable income.

25.1 Certain incomes are not includible while computing the total income, as these are exempt under various provisions of the Act. There have been cases where deductions have been claimed in respect of such exempt income. This in effect means that the tax incentive given by way of exemptions to certain categories of income, is being used to reduce also the tax payable on the non-exempt income by debiting the expenses incurred to earn the exempt income against taxable income. This is against the basic principles of taxation whereby only the net income, i.e., gross income minus the expenditure, is taxed. On the same analogy, the 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.

25.2 Through Finance Act, 2001, a new section 14A has been inserted so as to clarify the intention of the Legislature since the inception of the Income-tax Act, 1961, that no deduction shall be made in respect of any expenditure incurred by the assessee in relation to income which does not form part of the total income under the Income-tax Act.

25.3 Vide Circular No. 11/2001, dated 23rd July, 2001, a direction was issued by the Central Board of Direct Taxes that the assessments where the proceedings have become final before the first day of April, 2001 should not be re-opened under section 147 of the Act to disallow expenditure relatable to the exempt income by applying the provisions of section 14A of the Act. This circular has been issued by the Board by exercising its powers to issue beneficial circular under section 119(2)(a) of the Income-tax Act.

25.4 This amendment takes effect retrospectively from 1st April, 1962 and accordingly, applies in relation to the assessment year 1962-63 and subsequent assessment years."

9. Section 14A clearly makes a distinction between exempt income and taxable income. It treats both of them as separate classes for computation of income after allocation of expenditure relating thereto and mandates that no deduction in respect of any expenditure shall be allowed against taxable income which is incurred in relation to exempt income. The underlying object is to compute both the exempt income and taxable income correctly, which is possible only after the expenditure incurred in relation thereto is allocated to them. In other words, section 14A bars the deduction of expenditure incurred in relation to exempt income out of taxable income, as this would have the effect of artificially inflating the exempt income and thereby deflating the taxable income.

10. The prohibition for allowing the deduction under section 14A for and from assessment year 1962-63 is "in respect of expenditure incurred by the assessee in relation to income" which does not fall part of the total income. The term "expenditure" has been defined at page 598 of Black’s Law Dictionary (Seventh Edition) thus : "1. The act or process of paying out; disbursement. 2. A sum paid out." The term "expense" has been defined at the same page of the aforesaid dictionary as follows : "n. An expenditure of money, time, labour, or resources to accomplish a result; esp., a business expenditure chargeable against revenue for a specific period. - expense, vb. Cf. COST (1)." The "expense" has many forms, namely, accrued expense, administrative expense, business expense, capital expense, capitalized expense, current expense, deferred expense, educational expense, entertainment expense, extraordinary expense, fixed expense, funeral expense, general administrative expense, medical expense, moving expense, operating expense, ordinary and necessary expense, organisational expense, put of pocket expense, prepaid expense, travel expense. The term "expenditure" occurring in section 14A would thus take in its sweep not only direct expenditure but also all forms of expenditure regardless of whether they are fixed, variable, direct, indirect, administrative, managerial or financial. The term "incur" has been defined at page 771 of the aforesaid dictionary as follows : "incur, vb. To suffer or bring on oneself (a liability or expense)." One of the meanings given to the word "relate" under the head "Law" at page 2534 in "The New Shorter Oxford English Dictionary" (1993 Edition) is "Have some connec- tion with, be connected to. The phraseology used in section 14A prohibiting the deduction in respect of expenditure incurred by the assessee in relation to exempt income is thus wide enough to cover all forms of expenses provided they have some connection with the exempt income. This is based on the principle that expenses must be allocated to that income to which they are connected to avoid distortions in the computation of both taxable as well as exempt income. This is also achieved by the matching principle of accountancy. In Taparia Tools Ltd. v. Joint Commissioner Of Income-Tax [2003] 260 ITR 102¹ (Bom.), the Hon’ble jurisdictional High Court has explained the matching principle as under :

"The mercantile system of accounting is based on accrual. Basically, it is a double entry system of accounting. Under the mercantile system of accounting, profits arising or accruing at the date of the transaction are liable to be taxed notwithstanding the fact that they are not actually received or deemed to be received under the Act. Under the mercantile system of accounting, therefore, book profits are liable to be taxed. The profits earned and credited in the books of account constitute the basis of computation of income. The system postulates the existence of tax insofar as monies due and payable by the parties to whom they are debited. Therefore, under the mercantile system of accounting, in order to determine the net income of an accounting year, the revenue and other incomes are matched with the cost of resources consumed (expenses). Under the mercantile system of accounting, this matching is required to be done on accrual basis. Under this matching concept, revenue and income earned during an accounting period, irrespective of actual cash in-flow, is required to be compared with expenses incurred during the same period, irrespective of actual out-flow of cash. In this case, the assessee is following the mercantile system of accounting. This matching concept is very relevant to compute taxable income. . . ."

11. It is difficult to accept the hypothesis that one can earn substantial dividend income without incurring any expenses whatsoever including management or administrative expenses. By same logic, it is equally difficult to accept that the only expenses involved in earning the dividend income are those incurred on collection of dividend or on encashing a few dividend warrants. A company cannot earn dividend without its existence and management. Investment decisions are very complex in nature. They require substantial market research, day-to-day analysis of market trends and decisions with regard to acquisition, retention and sale of shares at the most appropriate time. They require huge investment in shares and consequential blocking of funds. It is well-known that capital has cost and that element of cost is represented by interest. Besides, investment decisions are generally taken in the meetings of the Board of Directors for which administrative expenses are incurred. It is therefore not correct to say that dividend income can be earned by incurring no or nominal expenditure. This aspect of the matter has also received careful attention of Chennai Bench of this Tribunal in Southern Petro Chemical Industries v. Dy. CIT [2005] 93 TTJ (Chennai) 161 . After comprehensive consideration of all the relevant aspects of the case including the provisions of law, the Chennai Bench has held that investment decisions are very strategic decisions in which top management is involved and therefore proportionate management expenses are required to be deducted while computing the exempt income from dividend. In Harish Krishnakant Bhatt v. ITO [2004] 91 ITD 311 , the Ahmedabad Bench of this Tribunal has held that, the dividend income being exempt under section 10(33), the interest on capital borrowed for acquisition of relevant shares yielding such dividend cannot be allowed deduction by operation of section 14A. In Dy. CIT v. SG Investments & Industries Ltd. [2004] 89 ITD 44 , the Kolkata Bench of this Tribunal has laid down two propositions: one, in view of section 14A inserted in the Income-tax Act with retrospective effect from 1-4-1962, pro rata expenses on account of interest relatable to investment in shares for earning exempt income from dividend are to be disallowed against taxable income and only the net dividend income is to be allowed exemption after deducting the expenses; and two, the expression "expenditure incurred by the assessee in relation to income which does not form part of the total income" in section 14A has to be given a wider meaning and would include both direct and indirect relationship between expenditure and exempt income. Following the decision of the Hon’ble Supreme Court in CIT v. United General Trust Ltd. [1993] 200 ITR 488 , the Calcutta Bench of the Tribunal has also held that the interest paid by the assessee being attributable to the money borrowed for the purpose of making the investment which yielded the dividend and other expenses incurred in connection with or for making or earning the dividend income can be regarded as expenditure incurred in relation to dividend income. In Everplus Securities & Finance Ltd. v. Dy. CIT [2006] 102 TTJ (Delhi) 120 , the Delhi Bench of this Tribunal has held that merely because the assessee did not earn the dividend out of investment in certain shares does not imply that the provisions of section 14A would not apply to that extent. In Asstt. CIT v. Premier Consolidated Capital Trust (I) Ltd. [2004] 4 SOT 793 , the Mumbai Bench of this Tribunal has held that the Assessing Officer is justified in attributing a part of the financial and administrative expenses as expenditure incurred in relation to exempt income and disallowing the same in view of the provisions of section 14A.

12. Keeping in view the provisions of section 14A as also the aforesaid decisions of the co-ordinate Benches of this Tribunal, we hold that all expenses connected with the exempt income have to be disallowed under section 14A regardless of whether they are direct or indirect, fixed or variable and managerial or financial in accordance with law. In this connection, the provisions of sub-section (2)/(3) of section 14A inserted by the Finance Act, 2006 deserve to be noted.

13. The procedure for computation of disallowance has now been provided in sub-sections (2) and (3) of section 14A of the Income-tax Act. It is no longer open to the Assessing Officer to apply his discretion in computing the disallowance or make ad hoc disallowance under section 14A. Substantive provisions are contained in sub-section (1) of section 14A prohibiting deduction in respect of expenditure incurred in relation to exempt income while procedural provisions regarding computation of the aforesaid disallowance are contained in sub-sections (2) and (3) thereof. Sub-sections (2) and (3) seek to achieve the underlying object of section 14A(1) that any expenditure incurred in relation to exempt income should not be allowed deduction. It is fairly well-settled by a catena of decisions that procedural provisions apply to all pending matters and that the rule against retrospectivity does not hit them.

14. In W.H. Cockerline & Co. v. IRC [1930] 16 TC 1 (CA) at 19, Lord Hanworth quoted with approval the following passage from the judgment of Sargant L.J. : "The liability is imposed by the charging section, namely, section 38, the words of which are clear. The subsequent provisions as to assessment and so on are machinery only. They enable the liability to be quantified, and when quantified to be enforced against the subject, but the liability is definitely and finally created by the charging section and all the materials for ascertaining it are available immediately." In Halsbury’s Law of England (Fourth edition, Vol. 23, paragraph 29), referring to the machinery provisions, it is stated: "It is important to distinguish between charging provisions, which impose the charge to tax, and machinery provisions, which provide the machinery for the quantification of the charge and the levying and collection of the tax in respect of the charge so imposed. Machinery provisions do not impose a charge or extend or restrict a charge elsewhere clearly imposed." In Kesoram Industries & Cotton Mills Ltd. v. CWT [1966] 59 ITR 767 (SC) at 793, Hon’ble Mr. Justice Shah observed : "Section 7(2) merely provides machinery in certain special cases for valuation of assets; and it is from the aggregate valuation of assets that the net wealth chargeable to tax may be ascertained. This is an artificial rule adopted with a view to avoid investigation of a mass of evidence which it would be difficult to secure or, if secured, may require prolonged investigation." Though the aforesaid observation was part of the minority opinion, there is, however, nothing said to the contra in the majority view. In Associated Cement Co. Ltd. v. CTO [1981] 48 STC 466, the Hon’ble Supreme Court has held : "It is settled law that a distinction has to be made by courts while interpreting the provisions of a taxing statute between charging provisions which impose the charge to tax and machinery provisions which provide the machinery for the quantification of the tax and the levying and collection of the tax so imposed. While charging provisions are construed strictly, machinery sections are not generally subject to a rigorous construction. The courts are expected to construe the machinery sections in such a manner that a charge to tax is not defeated." Bennion’s Statutory Interpretation (First edition, page 446, paragraph 191) lays down as follows : "Because a change made by the legislator in procedural provisions is expected to be for the general benefit of litigants and others, it is presumed that it applies to pending as well as future proceedings." At page 447, it is stated: "Procedure and practice is the mere machinery of law enforcement. As Ormrod L.J. said : ‘The object of all procedural rules is to enable justice to be done between the parties consistently with the public interest’." In Jose Da Costa v. Bascora Sadashiva Sinai Narcornin AIR 1975 SC 1843; the Hon’ble Supreme Court has held at page 1849 of AIR 1975 SC : "Before ascertaining the effect of the enactments aforesaid passed by the Central Legislature on pending suits or appeals, it would be appropriate to bear in mind two well-established principles. The first is that ‘while provisions of a statute dealing merely with matters of procedure may properly, unless that construction be textually inadmissible, have retrospective effect attributed to them, provisions which touch a right in existence at the passing of the statute are not to be applied retrospectively in the absence of express enactment or necessary intendment’ (See Delhi Cloth & General Mills Co. Ltd. v. ITC AIR 1927 PC 242). The second is that a right of appeal being a substantive right the institution of a suit carries with it the implication that all successive appeals available under the law then in force would be preserved to the parties to the suit throughout the rest of the career of the suit. Their are two exceptions to the application of this rule, viz., (i) when by competent enactment such right of appeal is taken away expressly or impliedly with retrospective effect; and (ii) when the court to which appeal lay at the commencement of the suit stands abolished (Garikapati Veeraya v. N. Subbiah Choudhry & Others AIR 1957 SC 540, and Colonial Sugar Refining Co. Ltd. v. Irving [1905] AC 369 (PC)." Halsbury’s Laws of England (Fourth edition, Vol. 44, paragraph 925) states : "The presumption against retrospection does not apply to legislation concerned merely with matters of procedure or of evidence; on the contrary, provisions of that nature are to be construed as retrospective unless there is a clear indication that such was not the intention of Parliament." All the aforesaid observations have been cited, with approval, by the Hon’ble Supreme Court in CWT v. Sharvan Kumar Swarup & Sons [1994] 210 ITR 886¹ .

15. In view of the aforesaid, we hold that the provisions for quantification of disallowance as contained in sub-sections (2) and (3) of section 14A are procedural and therefore apply to all pending matters. It is no longer open to the Assessing Officer to make disallowance according to his own discretion or on ad hoc basis. He is statutorily required to compute the disallowance in the manner provided by sub-sections (2) and (3) of section 14A. We therefore set aside the orders passed by the CIT(A) and the Assessing Officer in this behalf and restore the matter to the Assessing Officer for a fresh decision in the light of the provisions of section 14A including sub-sections (2) and (3) thereof.

16. Ground No. 2 of the concised grounds of appeal read as under :

"2. Disallowance out of interest paid Rs. 19,78,127

(a )The Hon’ble CIT(A) erred in upholding the addition of Rs. 19,78,127 out of interest paid made by the Assessing Officer on the ground that this is covered against the appellant by the order of CIT(A) in appellant own case for the assessment year 1995-96.

(b)He further erred in not considering the argument of the appellant that the facts of the case are distinguishable with the facts of the earlier years is as much as during the year, the finance activity of the appellant has generated a net interest income of Rs. 1.07 crores."

17. The ld. counsel for the assessee fairly agreed that the issue was covered against the assessee by the order of the Tribunal in the assessee’s own case for assessment years 1994-95, 1995-96, 1996-97 and 1997-98. Ground No. 2 is dismissed.

18. Ground N. 3 reads as under :

"3. Capital gain on sale of shares of Rs. 25,00,000

(a )The Hon’ble CIT(A) erred in upholding the assessment of sales consideration of investment sold at Rs. 1.25 crores.

(b)He failed to appreciate and ought to have held that :

(i )The appellant was grieved by the assessment order is as much as the Assessing Officer had failed to consider evidence filed before him in the course of assessment proceedings.

(ii)The reference to rule 46A of the Income-tax Rules, 1962 was irrelevant in applicable inasmuch as the evidence produced before the CIT(A) had already been produced by the appellant during the course of assessment proceeding before the Assessing Officer.

(iii)The correct amount of consideration received on which capital gains was chargeable under the provisions of the Act was the sum of Rs. 1 crore, and not the amount of Rs. 1.25 crores.

(c )The appellant prays that the capital gains be assessed with reference to the consideration of Rs. 1 crore and not Rs. 1.25 crores."

19. The facts of the case are that the assessee had agreed to sell its subsidiary company, namely, Neo Pharma Private Ltd., which was carrying on pharmaceuticals business to M/s. Treva Health Care Private Ltd. by agreement dated 10-7-1998 by selling the entire equity shares held by the assessee in the aforesaid subsidiary company. The sale was made on the condition that the liabilities pertaining to the period prior to 30-6-1998 and the current assets stated in the books of account were all realizable at the amounts stated in the books. In other words, in case the actual liabilities prior to 30-6-1998 exceeded the amounts provided for in the books of account, or if the debtors and other current assets stated in the accounts could not be realized, the assessee, in terms of the agreement, would be responsible for the same and the amount of consideration would stand modified accordingly. It was the case of the assessee before the Departmental authorities that the agreed consideration was a variable amount subject to the ceiling of Rs. 1.25 crores. It was further pointed out that the amount of consideration was finally agreed upon between the parties in April 2001 at Rs. 1 crore on account of various unrealized/unrealizable current assets and then provided liabilities which was also confirmed by the parties in writing vide assessee’s letter dated 2-4-2001 addressed to M/s. Teva Health Care Private Ltd. According to the assessee, the consideration was shown at Rs. 1.25 crores in the return of income as it was filed before its crystallization in April 2001. The case of the assessee before the Assessing Officer was that the amount of consideration should be taken at Rs. 1 crore. The Assessing Officer, however, treated the sum of Rs. 1.25 crores as consideration instead of taking the actual consideration of Rs. 1 crore. On appeal, the ld. CIT(A) rejected the plea of the assessee on the ground that subsequent events could not be considered for deciding the matter for earlier years.

20. We have heard the parties. It cannot be laid down as inflexible rule that subsequent events can never be considered for deciding a matter under dispute. It is the duty of the assessee to pay correct amount of tax on its income chargeable to tax. It is the right of the department to realize tax from the assessees on their income chargeable to tax. Subsequent events in the case before us would relate back to the assessment year under consideration. In our view, the matter should go back to the Assessing Officer with the direction to consider and decide the matter afresh in accordance with law after giving reasonable opportunity of hearing to the assessee. Ground No. 3 is treated as allowed for statistical purposes.

21. Ground No. 4 reads as under :

"4. Disallowance of share issue expenses of Rs. 1,26,524

The Hon’ble CIT(A) erred in upholding the addition of Rs. 1,26,254 out of share issue expenses."

22. We have heard the parties. The ld. counsel for the assessee fairly submitted that the issue was covered against the assessee by the decision of the Hon’ble Supreme Court in Brooke Bond (I) Ltd. v. CIT [1997] 225 ITR 798¹. Ground No. 4 is therefore dismissed.

23. In view of the aforesaid, the appeal filed by the assessee is partly allowed.

Kalpataru Constructi... v. Deputy Commissioner...