ORDER

M.V. Nayar, AM. :

These two appeals filed by the assessee company came up for hearing before us and since the issues involved for both the assessment years are common, they are disposed of by this common and consolidated order for the sake of convenience. The appeals were heard by the Bench on several occasions and both the parties were allowed the opportunities more than once. The Authorised Representative of the assessee had filed a written submission, which was considered by this Bench. The Bench had raised certain queries, especially on the issue relating to book profit arising from currency swap and had directed the Authorised Representative to file written submissions and explain the factual aspects relating to the swap transaction. On compliance on the part of the Authorised Representative, the Departmental Representative was given an opportunity to file his replies in writing. Thereafter, the Authorised Representative had filed a written rejoinder. The written submissions filed by both the parties were also carefully considered by us while disposing this common order.

ITA No. 724/Kol/2007; Asst. yr. 2002-03

Ground Nos. 1 and 2

2. In the computation of income-tax, the assessee company has excluded Rs. 1,26,46,298 under the head "Notional gain on foreign currency swap". During the course of the assessment proceedings, the AO called for the explanation for such exclusion. The assessee submitted that it had taken a loan of Rs. 85 crores, which, along with interest payable was swapped with the Japanese yen, based on the prevailing rupee-yen spot rates as on the days of such swap transaction. The liability on account of the said loan was revalued on 31st March, 2002 and based on such revaluation, it was found that the liability on account of rupee loan was decreased by Rs. 1.26 crores. It was clarified that the gain was merely notional since the actual liability of the assessee shall depend on the cross-currency rate as on the maturity of the transaction and should not be recognized as income for tax purposes. However, the AO relied on the decision of the Hon'ble Supreme Court in the case of Sutlej Cotton Mills Ltd. v. CIT 1978 CTR 155 (SC) : [1979] 116 ITR 1 (SC) and had considered the gain of Rs. 1,26,46,298 as taxable. On appeal, the learned CIT(A) had confirmed the decision of the AO.

3. The assessee company is now on appeal before us. We note that the assessee had entered into an agreement for term loan to finance its working capital requirements with ICICI Bank aggregating to Rs. 850 millions. The rupee loan and the interest payable thereon were subsequently swapped in Japanese yen with Deutsche Bank for equivalent amount of JPY 2,279,527,984 as detailed below :

(A) INR 400,000,000 equal to JPY 1,058,692,390 with the date of termination on 15th Oct., 2005.
(B) INR 450,000,000 equal to JPY 1,220,835,594 with the date of termination on 15th Oct., 2005.

4. The assessee company had submitted that the notional liability on account of the principal loan was revalued in terms of Indian rupee at the prevailing exchange rate as on 31st March, 2002 i.e. the last day of the relevant previous year and the difference on realignment was accounted for in the books of accounts as again. Since, this realignment was done only to comply with the statutory provisions i.e. the provisions of the Companies Act read with the Accounting Standards issued by the ICAI and not an actual/realized gain, such gain, so computed on the last day of the relevant year, was a mere notional gain and hence according to the assessee was not a taxable income. The Authorised Representative of the assessee had submitted that the decision of Sutlej Cotton Mills Ltd. (supra) is not applicable in the case of the assessee company, since the gain is notional and not realized. In the case of Sutlej Cotton Mills Ltd. (supra), the foreign currency gain/loss was settled and had actually accrued in the hands of the assessee, while it is not so in the present case. The assessee had also relied on the following decisions :

(i) CIT v. Ferozepur Finance (P.) Ltd. [1980] 18 CTR 227 (P&H) : [1980] 124 1TR 619 (P&H) SLP filed against has been dismissed by the Supreme Court as reported in [1983] 144 ITR (St) 50;
(ii) Jwala Prasad Radha Kishan v. Commissioner Of Income-Tax, U.P [1992] 107 CTR 1 (All.) : [1992] 198 ITR 415 (All.); and
(iii) Anup Engineering Ltd. v. CIT [2001] 165 CTR 21 (Guj) : [2001] 247 ITR 457 (Guj).

The Authorised Representative further submitted that similar revaluation of the foreign currency loan was made in the subsequent financial years, i.e., financial years ending on 31st March, 2003 and 31st March, 2004. A chart, indicating the gain/loss on such revaluation and its treatment in the computation was furnished before us. On perusal, we note that while the assessee disclosed a gain of Rs. 1,32,17,395 in the asst. yr. 2003-04, it incurred a loss of Rs. 4,33,16,405 in asst. yr. 2004-05, which was offered to tax in the computation. The AO in his assessment order for asst. yr. 2004-05 had also considered the same as taxable. A copy of the said order was filed before us. Consequently, we note that the Revenue while considering the book income from currency swap as taxable, is not allowing the book loss incurred in the subsequent year as tax deductible and thus is blowing hot and cold.

5. The assessee had confirmed that it has offered to tax the realized gain of currency swap and only the notional gain has been considered as non- taxable. In its written submissions, the assessee has filed that out of the term loan principal amount of Rs. 850 million, the principal amount of Rs. 450 million was restructured with the Deutsche Bank on 15th Jan., 2002. The bank was pleased to extend the maturity period and there was a resetting of the loan liability based on the spot rate of that day. In the process, the company had actually realized a gain of Rs. 25.50 million, which was credited to the P&L a/c and suo motu offered to tax. The assessee company further submitted that it has also accounted for the adjustment on account of currency swap relating to interest amounting to Rs. 6,75,95,137 which was also offered to tax. In short, the assessee contended that the gain in resetting of the extended currency swap amounting to Rs. 2.55 crores as well as the interest on actual adjustment were offered to tax; the notional gain of Rs. 1,26,46,298 is not taxable during the year and therefore, gain did not represent real income, subject to income-tax. According to the Authorised Representative of the assessee, the yearly gain/loss was purely notional because such gain/loss was neither realized nor actual but had to be computed based on the year ending exchange rate and as is evident from the chart filed before the Bench, certain years showed gain while certain years reflected loss on account of the same transaction based on the exchange rates as applicable on the last day of the relevant previous years.

6. In his reply, the Departmental Representative had accepted the fact that the assessee has rightly offered to tax the realized income on resetting of the swap transactions. However, he relied on an earlier decision of the Supreme Court reported in 31 ITR 1 (sic) and has submitted that following the principles of mercantile system of accounting, such gain as shown in the accounts should be considered as taxable. In his submissions, the Departmental Representative had contended that the gain as computed based on the relevant year under consideration was an actual income and not a notional income, since rupee liability of the assessee towards the term loan from ICICI Bank as on last date of the accounting year had decreased. On the other hand, the Authorised Representative has argued by filing a rejoinder to the submissions of the Departmental Representative. As per the rejoinder, the assessee company submitted that its liability of INR 850 million remained, even after the swap. Even, the balance sheet as on 31st March, 2002 had shown the same liability. However, as per the arrangement with the Deutsche Bank, its INR liability was converted into JPY liability based on the currency conversion rate of the date on which the swap was effected. The swap transaction actually extended for a number of years and the final profit or loss arising because of the swap can only be established as and when the payments are made towards the rupee loan liability of ICICI Bank, which will reflect the realized gain or loss and accordingly be treated for tax purposes. The assessee submitted that the rates considered as on 31st March of the relevant previous years are not the actual rates at which the JPY were converted into INR to liquidate the assessee's liability towards ICICI Bank. In response to Departmental Representative's submissions, the assessee company had stated that it was not proper to comment that the entire liability of Rs. 85 crores was swapped into JPY. The original loan liability in any case remains and is reflected in the balance sheet, which cannot be denied. The swap has been effected by the assessee company with foreign currency with an intention to gain from currency fluctuations also. Ultimately, it may so happen that the assessee company may have to pay more than original rupee liability depending on the cross-currency rate of JPY vis-a-vis INR at the end of the loan period. In between the accounting periods, the assessee company had to account for the notional gains/loss only to comply with the statutory liabilities. It may so happen that while in certain years the accounting treatment on swap transaction may disclose book income while the ultimate effect over the years may result in net loss. Hence, earlier adjustments carried out do not represent a real income but only a notional adjustment. Therefore, as per the assessee company, such notional adjustment carried on year-to-year basis should be ignored for tax purposes, since it does not represent a real gain/loss.

7. We agree with the view of the Authorised Representative of the assessee. In our view, the decision of the Supreme Court in the case of Sutlej Cotton Mills Ltd. (supra) should not apply, since the gain in question does not represent the realized one. We also note that the assessee had accounted for the realized income arising from the swap transaction and the dispute lies only in respect of the notional gains reflected in the balance sheet. The Departmental Representative has cited plethora of decisions and has submitted that in case of mercantile system of accounting, earlier adjustments made in the books of accounts should be recognized and accordingly taxed. However, in our view, under the mercantile system of accounting, the Revenue can tax an income, which is only a 'real income and not otherwise'. In our view, the principles laid down by the jurisdictional High Court in the case of CIT v. Method Trading & Investment Ltd. [2001] 165 CTR 541 (Cal) : [2000] 246 ITR 588 (Cal) should be applied. In that case the Hon'ble Calcutta High Court has held, "It is the income which has really accrued or arisen to the assessee that is taxable. Whether the income has really accrued or arisen to the assessee must be judged in the light of reality of the situation". In coming to the conclusion of this case the Hon'ble Court has held, "It is thus clear on a perusal of the aforesaid decisions that the principles of real income have not been overruled by the Supreme Court in the case of State Bank Of Travancore v. Commissioner Of Income Tax, Kerala [1986] 50 CTR 290 (SC) : [1986] 158 ITR 102 (SC) and the income cannot be assessed only because an assessee is following mercantile system of accounting and theoretically or nationally income accrue".

8. In the case before us, it is not true that the assessee had actually realized any income because of the fluctuation of foreign exchange rates as is apparent from the chart before us. We also note that while there is a book gain of Rs. 1.26 crores in asst. yr. 2002-03 and Rs. 1.32 crores in asst. yr. 2003-04, the assessee company incurred a book loss of Rs. 4.33 crores in asst. yr. 2004-05. This clearly proves that what the Revenue wanted to tax in the case of the assessee company, was a contingent income and not a real income. Moreover, we note that the AO while completing the assessment for asst. yr. 2004-05 did not deduct the notional loss arising from currency swap. It is also true that the gain shown in the books in asst. yrs. 2002-03 and 2003-04 is not an actual gain but was reflecting a trend as is evident from the loss incurred in asst. yr. 2004-05 due to reverse cross-currency trend. Consequently, following the decision of the jurisdictional High Court, we are of the view that the assessee need not pay tax merely because it is following the mercantile system of accounting ignoring the fact whether such book income is real income or not. Consequently, we are of the considered view that the gain of Rs. 1,26,46,298 arising in the books and not ultimately realized or actually received the benefit, is not a real income and hence is not taxable while computing the total income of the assessee for asst. yr. 2002-03.

Ground Nos. 3 and 4

9. At the time of the assessment, the assessee company had filed the details of other expenses from which it was revealed that an amount of Rs. 1,41,148 was debited under the head "Project office".

10. According to the assessee, such expenses were incurred for its hotels in Agra, Jaipur and Udaipur. However, the AO had disallowed the claim of the assessee for the alleged reason that the expenditure in question represents pre-operative in nature and hence capital in nature. The CIT(A) had confirmed the decision of the AO on the ground that no evidence was placed on records in support of the contention of the assessee that the expenses in question are allowable under s. 37(1) of the IT Act. The assessee has filed before us the details of expenses and evidences that the expenses were incurred in connection with the hotels, which are already in operation. Since the details were not filed before the lower authorities, we are of the opinion that the issue should be restored back to file of the AO. We direct the AO to consider the claim of the assessee as per law after giving due opportunity to the assessee of being heard. However, while examining the claim of the assessee, he should bear in mind that the assessee had already commenced its hotel business and accordingly should dispose of its claim.

Ground Nos. 5, 6 and 7

11. These grounds deal with the disallowance made by the AO under s. 14A of the Act and are dealt with together.

12. The Authorised Representative of the assessee company had submitted that the AO has earned tax-free dividend of Rs. 3,46,046 and in the process the AO had applied the provisions of s. 14A of the Act. According to the Authorised Representative, the ad hoc disallowances made were Rs. 32,30,630 allegedly as interest and a further amount of Rs. 20,00,000 as management expenses. According to the Authorised Representative it is completely absurd that the AO had added back more than Rs. 52 lakhs under s. 14A, whereas the dividend earned and claimed tax-free amounted to Rs. 3,46,630. He alleged that the AO had applied a thumb rule method in computing the alleged disallowance. It was further submitted that no new investment was made during the relevant previous year. On the other hand, a part of the investments were liquidated during the year. He had argued that the relevant investments were made in the earlier years and that too out of its own fund. There was no finding in those years that the investments were made by utilizing the borrowed funds. The funds utilized were from mixed accounts where the sale receipts were accounted for. During the hearing he also relied on the decision of the Calcutta High Court in Commissioner Of Income-Tax v. Britannia Industries Ltd. [2005] 198 CTR 426 (Cal) : [2006] 280 ITR 525 (Cal.) and had argued that the AO cannot merely assume that that borrowed funds were utilized even if the mixed bank account showed a credit balance on the date of investment. Moreover, the Authorised Representative had further contended that the investments were mainly trade investments and invested in its subsidiary company for various commercial considerations and not merely to earn annual tax-free dividends. He had relied on the balance sheet, which formed part of the paper book to justify his contentions. The Authorised Representative during the hearing had also relied on the Third Member decision of the Hon'ble Delhihihi Tribunal in the case of Wimco Seedlings Ltd. v. Dy. CIT [2007] 109 TTJ 462 (Delhi)(TM) : [2007] 107 ITD 267 (Delhi)(TM) and also on the earlier decision of the Delhihihi Bench in the case of Maruti Udyog Ltd. v. Dy. CIT [2005] 92 TTJ 987 (Delhi) : [2005] 92 ITD 119 (Delhi) . The Hon'ble Delhihihi Bench has taken a view that no disallowance under s. 14A of the Act can be inflicted, unless there is a clear finding by the AO to prove that such disallowance is necessary. Further, in the following decisions, the Hon'ble Tribunals have held that the AO is statutorily required to compute disallowance in the manner provided in sub-ss. (2) and (3) of s. 14A of the Act. He had also relied on the decisions in Dy. CIT v. Smita Conductors Ltd. [2007] 16 SOT 251 (Mumbai) and Dhanlakshmi Bank Ltd. v. Asstt. CIT [2007] 12 SOT 625 (Coch) and vehemently argued that no disallowance should be called for. The Authorised Representative had finally submitted that since no expenditure has been incurred to earn the tax-free dividend, the entire disallowance made under s. 14A should be Delhihieted.

13. On the other hand, the Departmental Representative had strongly relied on the decisions of the lower authorities. In his submissions the Departmental Representative had tried to justify that the investments were made from the borrowed funds. However, there had been no clear findings that the investments, which were made in the earlier years were out of borrowed funds.

14. We note that on appeal the CIT(A) had reduced the total disallowance under s. 14A by Rs. 5,00,000, out of the total disallowance made by the AO.

15. We have considered the rival contentions put forward both by the Authorised Representative and the Departmental Representative. While considering the Revenue's contention that the disallowance has been made under s. 14A mainly on assumptions that the assessee had incurred huge management expenses and paid interest on borrowed funds, on the other hand, we agree with the contentions and the case references cited by the Authorised Representative. However, we do not agree with the Authorised Representative that there was no expenditure incurred in connection with the earning of the dividend. Considering the relevant facts of the case we feel that in the interest of justice the addition under s. 14A should be restricted to 1 per cent of the dividend received, which has been claimed as tax-free.

Ground No. 8

16. The AO has disallowed Rs. 6,46,970 on repairs, renewals, replacements and advertisement on an ad hoc basis. The AO had alleged that the assessee company had not filed the details and hence made an ad hoc 2 per cent disallowance. On the other hand, the assessee company had contended that necessary details were filed during the assessment proceedings, though not in the desired format. The learned CIT(A) had confirmed the disallowance. While confirming the disallowance, he has stated that the assessee company did not file further details as called for by the AO.

17. We have considered the rival contentions and also perused the details filed before the lower authorities. While it is true that the assessee company had filed certain primary details, it is true that the same was not strictly according to the statutory format as provided by the AO.

18. Under the circumstances, we tend to agree with the AO that non- business expenses cannot be totally ruled off. It is true that the assessee had filed certain details pertaining to the expenditure claimed. It is also true that the lower authorities have restricted the disallowance to only 2 per cent of the total expenditure. Considering this background we do not want to interfere with the orders of the lower authorities and confirm the disallowance to 2 per cent of the aggregate repairs, renewals, replacements and advertisement expenses. Hence, the appeal of the assessee company fails.

Ground Nos. 9 to 11

19. In this case, the assessee has given interest-free advances against issue of share capital aggregating to Rs. 19,81,50,000 in favour of its subsidiary company, Island Hotel Maharaj Ltd. In response to a query from the AO regarding the source of finance of the said advance, the assessee had submitted details relating to Rs. 1,47,50,000, which was introduced during the relevant previous year. The said fund was received out of the proceeds from redemption of IDBI Mutual Fund. The AO had assumed that the balance amount of Rs. 18,34,00,000 i.e. the opening balance was partly financed out of interest bearing loans. The AO had further assumed that 46 per cent of the said opening balance was out of borrowed fund and he had applied interest @ 5.95 per cent on such amount, which was considered as borrowed fund. In the process, the AO had disallowed Rs. 50,19,658 out of the total interest claim of the assessee. The learned CIT(A) had confirmed the disallowance made by the AO.

20. The Authorised Representative during the course of the hearing had argued that the assessee company had made investments in its subsidiary company in the earlier years only out of its own fund. He had submitted that the conclusion of the AO is not based on any cogent findings but on assumptions. The learned Authorised Representative had also relied on a recent decision of the jurisdictional Calcutta High Court in the case of Commissioner Of Income-Tax v. Britannia Industries Ltd. (supra). At p. 533, the Hon'ble High Court has noted, "if there is surplus and the advance is made out of the mixed funds, in that event, it cannot be said that the amount borrowed as capital from the bank was advanced, in order to deny the benefit of s. 36(1)(iii). In the present case, if it is established that the payment was made from the mixed accounts and the assessee had sufficient funds, then it is to be presumed that the payment was made out of assessee's own fund and that the borrowed capital was not siphoned out". In fact, the jurisdictional High Court has held that even if the overdraft account had a debit balance, the earlier conclusion should not have been different. In coming to this conclusion, the Hon'ble High Court had relied on a plethora of decisions held by the same Court earlier, such as, in 132 ITR 219 (sic) , Reckitt & Colman of India Ltd. v. CIT [1982] 26 CTR 24 (Cal) : [1982] 135 ITR 698 (Cal) , Indian Explosives Ltd. v. CIT [1983] 35 CTR 244 (Cal) : [1984] 147 ITR 392 (Cal) and Alkali & Chemical Corporation of India Ltd. v. CIT [1986] 50 CTR 139 (Cal) : [1986] 161 ITR 820 (Cal) . It was argued by the Authorised Representative that the advances were made out of mixed bank accounts where the receipts out of current sales were credited. The Authorised Representative had also submitted that apart from showing the years in which the advances were made, which were earlier to the previous year relevant to the assessment year under appeal it was submitted that such advances were made out of own funds. In fact, the Revenue never raised this issue in the past while holding that the opening balance has been funded out of the borrowed funds and that too without any analysis and ignoring the principles laid down by the Hon'ble High Court. Hence, following the decision of the Hon'ble jurisdictional High Court, the Authorised Representative argued that the advance against share capital made to the sister concern did not call for any disallowance out of the total interest claim of the assessee.

21. At the time of hearing, the Authorised Representative of the assessee company had further contended that the amount advanced was to a subsidiary company of the assessee and such advance was made against the issue of share capital. He had also confirmed that the subsidiary company, to whom such advance was made, had actually issued the share capital in a subsequent year. The necessary details relating to such share issue in favour of the appellant i.e. extract from the board meeting of the subsidiary company allotting shares to the assessee company were also filed before the Hon'ble Bench. The Authorised Representative had contended that it was not a case of a normal loan but an introduction of share capital to its subsidiary company. Consequently, the assessee did not charge any interest from the subsidiary company, since it had contributed towards its share capital.

22. The Authorised Representative of the assessee company had also contended that the assessee company had introduced funds to its subsidiary company from time-to-time to protect its original investment. The subsidiary company was not doing well commercially during that period and needed financial support from the parent company, which is also evident from the annual accounts of the subsidiary company, which form part of the paper book filed by the assessee company. He further relied on the decision of the Hon'ble Supreme Court in the case of S.A. Builders Ltd. v. CIT [2006] 206 CTR 631 (SC) : [2007] 288 ITR 1 (SC) , wherein the Hon'ble Supreme Court had held that in case an amount is advanced to a sister concern as a measure of commercial expediency, the claim for deduction on account of interest cannot be denied merely because such advance was made out of borrowed fund. The Hon'ble apex Court had further held that once it is established that there was nexus between the expenditure and the purpose of the business (which need not necessarily be the business of the assessee itself), the Revenue cannot justifiably claim to put itself in the armchair of the businessman or in the position of board of directors and assume the role to decide however which is reasonable expenditure having regard to the circumstance of the case. No businessman can be compelled to maximize its profit. The IT authorities must put themselves in the shoes of the assessee and see how a prudent businessman would act. The authorities must not look at the matter from their own point of view but that of a prudent businessman. According to the Hon'ble Court, one should see the transfer of the borrowed funds to a sister concern from the point of view of commercial expediency and not from the point of view whether the amount was advanced for earning profits. According to the Authorised Representative, the assessee company had (sic -not) advanced the money out of borrowed funds but from its own sources for which no interest was claimed as a deduction. Even assuming but not admitting that a part of the advance against the share capital was made out of borrowed funds, it is beyond doubt that such introduction of funds was made out of commercial expediency and following the decision of the Supreme Court, no disallowance out of the interest claim should be called for.

23. At this point, the Hon'ble Bench had directed the Authorised Representative to prove that the advance was made as a measure of commercial expediency, since, in the said decision, the Hon'ble Supreme Court had also said that it is not the case that in each and every issue, interest on borrowed loan should be allowed, if advances are made to a sister concern. For instance, if directors of a sister concern utilized the amount advanced to it by the assessee for their personal benefit, obviously, it cannot be said that such money was advanced as a measure of commercial expediency. The Authorised Representative of the assessee had again relied on the said decision of the Supreme Court, wherein it is stated "however, where it is obvious that a holding company has a deep interest in its subsidiary, and hence if the holding company advances the borrowed money to a subsidiary and the same is used by the subsidiary for some business purposes, the assessee would in our opinion, ordinarily be entitled to deduction of interest on its borrowed monies". The Authorised Representative further relied on the annual accounts of the sister concern i.e. Island Hotel Maharaj Ltd. which were placed on record and form part of the paper book. It was noted by Hon'ble Bench that the subsidiary company had an accumulated loss of Rs. 17,97,33,271 till 31st March, 2002 i.e. the last day of the relevant previous year. On a scrutiny of the loans and advances, appearing in its annual accounts, it was also apparent that advances were mainly given for running the business, security deposits and income-tax payments. It is noted from the audit report (p. 26 of the paper book) that no loan or advance was given to any of the directors or to any company/firm, in which the directors were interested, which is prejudicial to the interest of the company. On a query from the Bench, it was clarified that the assessee company was holding approx. 88 per cent shares in the sister concern to which the advances were made.

24. Hence, according to the Authorised Representative, the advance against share capital was made to safeguard its original investment, since the subsidiary company was not doing well commercially and the funds introduced were utilized by the subsidiary company to carry on its day-to-day operations and servicing of its interest liability.

25. On the other hand, the learned representative for the Revenue had contended that the judgments relied upon by the Authorised Representative of the assessee cannot be applied, since the facts of the assessee's case appear to be different.

26. Having carefully considered the arguments of both sides and going through the written submissions filed from time-to-time, it is noted that the assessee company had, in fact, introduced the funds to its subsidiary company from time-to-time according to its requirements. Moreover, the assessee company held approx. 88 per cent shares of the said subsidiary company. The amount invested by the assessee company till 31st March, 2002 was Rs. 11.35 crores. It is also noted that from the annual accounts of the subsidiary company that till 31st March, 2002 (p. 39 of the paper book) the financial figures were as under :

Position of mobilization and deployment of funds (amount in Rs. 000)

27. On a perusal, it is apparent that the sister concern to which the funds were introduced had huge accumulated loss and was dependent on the holding company for its day-to-day operations and to pay interest on substantial amount of secured loans.

28. Considering the sizeable investments made, the assessee company had no other option but to make additional investment in order to protect its financial interest. There is no finding by the lower authorities that any fund was siphoned off by the sister concern. Moreover, from the annual accounts of the sister concern, it is evident that no loan was given to any of the directors or to any firm/company in which such director was interested. In fact, it was reported by the auditors of the recipient company, i.e. Island Hotel Maharaj Ltd., that it did not advance any sum to any of its directors or any other firm/company in which such director is interested. Having said this and relying on the decision of S.A. Builders Ltd. ( supra), we agree with the Authorised Representative that the advance in question was towards equity and given from time-to-time out of pure commercial expediency and to protect its own financial interest.

29. Even otherwise, we note that the advances given by the assessee company from time-to-time were against the issue of share capital. It has been placed on record that the assessee was actually allotted shares in a subsequent year out of the advances paid. Hence, it is not the case that the funding was for a temporary adjustment and hence should not be equated with a normal loan. If that be so, there should not be any question of interest payable on a permanent fund introduced by the assessee company forming part of the capital of the sister concern. In the balance sheet of the sister concern also, the amount has been shown as forming part of the shareholders' fund.

30. Even regarding the source of funds, we disagree that the action of the AO who has made an ad hoc allocation and came to a conclusion that part of the total advances was funded out of borrowed capital and ignoring the decision of jurisdictional Calcutta High Court in the case of Britannia Industries Ltd. ( supra).

31. Having considered all these factors, we are of the view that the disallowance made by the AO had no reasonable basis and should be Delhihieted in full.

Ground No. 12

32. The AO has made an ad hoc disallowance of Rs. 5 lacs, out of the total claim made by the assessee under the head "Staff welfare expenses". The assessee had contended that since the details required to be filed were voluminous, it had filed certain details though not according to the statutory form given by the AO. The learned CIT(A) had confirmed such disallowance since no further details were filed before him. After hearing the contentions of the rival parties, we feel that in the interest of natural justice, the issue should be restored back to the file of the AO. The AO is directed to allow the assessee company an opportunity of being heard and dispose of all the claims according to law.

33. In the event, the assessee's appeal is partly allowed.

ITA No. 725/Kol/2007; Asst. yr. 2003-04

Ground Nos. 1 and 2

34. The issue involved is common to ground Nos. 1 and 2 of the earlier appeal. In this case the assessee has again challenged the addition of Rs. 1,32,17,395 made by the AO and confirmed by the CIT(A), which was claimed by the assessee as not taxable, being a notional income arising from currency swap. This issue has been discussed in detail while passing the order for asst. yr. 2002-03, relating to ITA No. 724/Kol/2007. Following the said order, we hold that the book income of Rs. 1,32,17,395 is not a real income but only a notional income and hence is not taxable while computing the income for asst. yr. 2003-04.

Ground Nos. 3 and 4

35. This issue is relating to the disallowance of professional and legal expenses amounting to Rs. 2,55,947. While disposing of the ground Nos. 3 and 4 of the earlier appeal for asst. yr. 2002-03, we have already held that the matter should be remanded back to the file of the AO for fresh examination with an opportunity to the assessee for being heard. Following the said order we remand this issue back to the file of the AO for re-examination in the light of the direction as given in ITA No. 724/Kol/2007.

Ground Nos. 5 and 6

36. In this case, the assessee had challenged the disallowance of Rs. 24,12,096 and is similar to the ground Nos. 5 and 6 of the assessee's appeal for asst. yr. 2002-03, i.e., ITA No. 724/Kol/2007. We note that the AO has made the disallowance following the same basis as applied in asst. yr. 2002-03 and has not agreed with the contention of the assessee that negligible expenses were incurred while earning the dividend income of Rs. 83,223. It was confirmed that no new investments were made during the year, whereas investments other than trade investments and Government securities were disposed of. We have already decided while dealing with the assessee's appeal for asst. yr. 2002-03 that ad hoc disallowance under s. 14A of the IT Act should be restricted to 1 per cent of the dividend received. Following the same principle in this case also we direct the AO to restrict the disallowance to 1 per cent of the dividend received during the year and claimed tax-free.

Ground Nos. 7, 8 and 9

37. This issue is common to ground Nos. 9 to 11 for asst. yr. 2002-03 and involves disallowance of Rs. 42,56,000 out of the total interest claim of the assessee on the ground that interest-free advances were provided by the assessee to its subsidiary company. We have examined the issue in detail while dealing with the appeal for asst. yr. 2002-03 and have already held that no disallowance is called for since the advances against shares were provided to the subsidiary company out of commercial consideration. Following the same order, we hold that the disallowance of Rs. 42,56,000 made by the AO should be Delhihieted and the assessee is allowed relief to that extent.

Ground No. 10

38. In this ground the assessee had challenged the ad hoc disallowance of Rs. 7,78,744, being 10 per cent on advertising expenses. This ground is more or less similar to the ground No. 8 of the earlier year, i.e., ITA No. 724/Kol/2007. The AO had made the disallowance on the allegation that full details were not provided by the assessee while Authorised Representative had contended that details were filed though not in the same format as directed by the AO. We had already held in the order for the earlier year that non-business expenses cannot be totally ruled out and had held the issue in favour of the Revenue and against the assessee. However, in that year the AO had made the ad hoc disallowance @ 2 per cent, while this year without any additional reason had increased the disallowance to 10 per cent. Following the order for asst. yr. 2002-03, we hold the issue in favour of the Revenue. However, the disallowance should be restricted to 2 per cent of the advertising expenses.

Ground No. 11

39. In this issue the assessee company had challenged the ad hoc disallowance of Rs. 5,00,000 under the head staff welfare expenses. This is identical to ground No. 12 for asst. yr. 2002-03. Following our order for asst. yr. 2002-03, we restore this issue back to the file of the AO for further examination after allowing the assessee an opportunity of being heard.

40. In the result, the appeal of the assessee for the asst. yr. 2003-04, is also allowed in part.