Notional interest

IN THE INCOME TAX APPELLATE TRIBUNAL, MUMBAI BENCH "G", MUMBAI
BEFORE SHRI P.M.JAGTAP (A.M) & SHRI N.V.VASUDEVAN(J.M)

ITA NO.591/MUM/07(A.Y. 2003-04)

The DCIT 5(1),Vs. M/s. Gagan Trading Co. Ltd.
ITA NO.678/MUM/07(A.Y. 2003-04)
M/s. Gagan Trading Co. Ltd.Vs. The DCIT 5(1),
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ORDER

PER N.V.VASUDEVAN, J.M,

ITA No.678/Mum/07 is an appeal by the assessee while ITA No.591/M/07 is an appeal by the revenue. Both these appeals are directed against the order dated 8/11/2006 of CIT(A)-V, Mumbai relating to assessment year 2003-04.

2. First we shall take up for consideration the appeal by the revenue. The ground of appeal raised by the revenue reads as under:
"On the facts and in the circumstances of the case and as per law, the ld. CIT(A) erred in deleting the notional interest taxed by AO on deposits received while calculating income from house property."

3. The assessee is owner of the commercial premises know as Jindal Mansion situate at Peddar Road, Mumbai. The assessee let out the premises to two tenants since 1987 namely Jindal Steel Ltd. and Jindal Iron & Steel Ltd. for a monthly rent of Rs. 5000/- & 6500/- respectively. In respect of the area occupied by them in the F.Y.95-96 relevant to A.Y. 96-97, the assessee had reconstructed the property and thereafter the property consisted of ground plus five upper floors. The assessee has let out the property to the following companies 1) Jindal Steel Ltd. 2) Jindal Thermal Power Co. Ltd. 3)Jindal Iron & Steel Co. Ltd. 4) Jindal Vijay Nagar Ltd., on a monthly rent of Re.1/- per sq.ft. and collected security deposit totalling to 85 crores from them. The deposits so collected were interest free deposits and they do not carry any interest as per terms of these agreement. The total area so let out was 26,200/- sq.ft. According to the AO, the Assessee has used the interest free deposit to make investment in equity shares of group companies. In this background, the AO called upon the Assessee to show cause as to why interest on such security deposit should not be taken as indirect rent for purpose of determining the Annual Value for the purpose of determining income under the head "income from house property". According to the AO, the assessee filed its explanation and the same has been placed on the records.

4. Thereafter, the AO has observed in the order of assessment that similar issue has been discussed in assessment order for A.Y 1996-97 to 2002-03 and in view of the detailed discussion contained in those orders, he was of the view that the motive of the assessee in collusion with group company was to reduce the tax liability by showing nominal rate and accepting huge deposit carrying no interest. The Assessee pointed out that the in the earlier years the Hon'ble ITAT Mumbai, had held that notional interest on interest free security deposit cannot be added cannot be added to the rent received to arrive at the Annual Value for determining income under the head "Income from House Property". The AO however observed that the department has not accepted the decision of the Hon'ble ITAT and on this issue and has filed an appeal under section 260A before the Hon'ble Bombay High Court. For the reasons stated above and to keep the issue alive as per the assessment orders of his predecessor a notional interest @18% was worked out on the interest free deposit and the same was considered for determining ALV in order to determine income from house property. The AO accordingly determined income under the head "Income from House Property as follows:
The Annual Area of the Property is computed as under:-
Total notional interest on deposit of Rs.85 Crores @ 18% Rs.15,30,00,000
Add: Actual rent received Rs. 26,200
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Gross Annual value Rs.15,30,26,200
Less: Deduction u/s. 24(1)
i) ¼ repair and collection charges Rs. 3,82,56,550
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Rs.11,47,69,650

Income from House Property Rs.11,47,69,650/-

5. On appeal by the assesse, the CIT(A) following the decision of the ITAT in assessee's own case for A.Y 1999-2000 held that notional interest of interest free security deposit cannot be added to the actual rent received while determining the annual value for the purpose of determining the annual value for the purpose of determining income from house property.

6. Aggrieved by the order of the CIT(A) the revenue has preferred the present appeal before the Tribunal.

7. We have heard the rival submission. The ld. D.R while admitting that similar issue has been decided in favour of the assessee by the ITAT in A.Y 1999-2000 relied on the order of AO. The ld. counsel for the assessee relied on the order of the Tribunal in assessee's own case for A.Y 1999-2000.

8. We have considered the rival submissions. The very same issue was considered and decided in favour of the assessee by the Tribunal in ITA NO.3799/Mum/99 for A.Y 1999-2000 in assessee's own case. For the reasons given in the said order, we uphold the order of CIT(A) and dismiss the appeal by the revenue.

9. Now we will take up for consideration ITA No.678/M/07, the appeal of the assessee. Ground raised by the Assessee reads as follows:

"The learned Assessing erred in disallowing set off of brought forward losses of Rs. 43,48,809/- against dividend income of Rs.43,48,809/- earned on the shares held in stock in trade."

10. We have already seen that the Assessee is in the business of purchase and sale of shares, debentures and earning dividend income. The Assessee had suffered a loss under the head business and profession in A.Y.95-96. That loss could not be set off in that year against any head of income in accordance with the provisions of section 71 of the Income Tax Act, 1961 (the Act). It was accordingly carried forward for the following Assessment year to be set off in accordance with the provisions of Section 72 of the Act. The loss so carried forward for being so set off remained unabsorbed till A.Y.03-04. In A.Y.03-04, the Assessment Year to which this appeal relates to, the Assessee had income under the head "Income from other sources" viz., Dividend Income of Rs.43,48,809. There is no dispute that the dividend income was in respect of shares held by the Assessee as stock-in-trade of its business of trading in shares. The Assessee made a claim for set off of carried forward business loss in A.Y.95-96 to the extent of dividend income which was assessable under the head "Income from other sources". The claim of the Assessee was that the business of the Assessee was purchase and sale of shares and the nature of the dividend income is income from business, though the same is assessed under the head "Income from other sources. The Assessee relied on the decision of the Hon'ble Supreme Court in the case of CIT Vs. Cocanada Radhaswmi Bank 57 ITR 306 (SC) wherein it was held that though income in the form of interest earned by an Assessee from its business of banking is assessed under the head "Interest on Securities", the same is nevertheless profits and gains of business and therefore carried forward business loss of earlier years can be set off against interest income. The Assessee also relied on the decision of the Hon'ble Calcutta High Court in the case of CIT Vs. New India Investment Corporation Ltd. 130 ITR 778 (Cal) laying down identical proposition.
11. The AO however rejected the claim of the Assessee for the reason that the decision of the Hon'ble Supreme Court was in relation to AY 49-50 and 63-64 when dividend income was treated as Interest on securities. According to the AO, from AY 91-92 the Act was amended and dividend income is being brought to tax under the head "Income from other Sources vide Sec. 56 (2)(i) of the Act, even though they are held as stock in trade of business by an Assessee. Hence the claim of the Assessee for set off was rejected by the AO.
12. Before CIT(A), the Assessee reiterated its stand as was made before AO and further relied on the decision of the Hon'ble Delhi High Court in the case of Excellent Commercial Enterprises and Investments Ltd. 197 CTR 187 (Del) in which similar claim made in relation to A.Y. 96-97 was directed to be allowed. The CIT(A) however held that the decision in the case before the Ho'ble Delhi Court related to a case where dividend income was taxed as business income and therefore Sec.72(1)(i) and 72(1)(ii) of the Act applied and set off was allowed. Whereas in the case of the Assessee, dividend income was offered to tax by the Assessee as income from other sources and was assessed as such and therefore prohibition u/s.72 of the Act clearly applied. He therefore confirmed the action of the AO. Hence, the appeal by the Assessee before the Tribunal.
13. We have heard the rival submissions. The learned counsel for the Assessee reiterated the stand of the Assessee as was put forth before the Revenue authorities. The learned D.R. relied on the orders of the Revenue authorities.
14. We have considered the rival submissions. The issue that arises for our consideration is as to whether the claim of the Assessee for set off of carried forward business loss against income in the form of dividend which was assessed under the head "Income from other sources", can be set off. The relevant provision under the which the Assessee made a claim for such set off was Sec.72(1)(i) of the Act, which is as follows:
"Sec.72(1) Where for any assessment year, the net result of the computation under the head "Profits and gains of business or profession" is a loss to the assessee, not being a loss sustained in a speculation business, and such loss cannot be or is not wholly set off against income under any head of income in accordance with the provisions of section 71, so much of the loss as has not been so set off or, where he has no income under any other head, the whole loss shall, subject to the other provisions of this Chapter, be carried forward to the following assessment year, and - (i) It shall be set be off against the profits and gains, if any, of any business or profession carried on by him and assessable for that assessment year:"
15. The Hon'ble Supreme Court had an occasion to consider the question as to whether set off the business loss brought forward from the preceding year against interest income which was assessed under the head "interest on securities" could be allowed in the case of Cocanada Radhaswamy Bank (supra). The interest income arose on securities held by the Assesse in its business of banking. The said interest income, was however assessed under the head "Interest on securities". The question arose in the context of the Income Tax Act, 1922 (1922 Act) the relevant provisions equivalent to Sec.72 of the Act under the 1922 Act was Sec.24 of the 1922 Act and it read as follows:
"24. (1) Where any assessee sustains a loss of profits or gains in any year under any of the heads mentioned in section 6, he shall be entitled to have the amount of the loss set off against his income, profits or gains under any other head in that year............
(2) Where any assessee sustains a loss of profits or gains in any year, being a previous year not earlier than the previous year for the assessment for the year ending on the 31st day of March, 1940, in any business, profession or vocation, and the loss cannot be wholly set off under sub-section (1), so much of the loss as is not so set off or the whole loss where the assessee had no other head of income shall be carried forward to the following year and set off against the profits and gains, if any, of the assessee from the same business, profession or vocation for that year; and if it cannot be wholly so set off, the amount of loss not so set off shall be carried forward to the following year...........".
The Hon'ble Supreme Court held:

"While sub-section (1) of section 24 provides for setting off of the loss in a particular year under one of the heads mentioned in section 6 against the profits under a different head in the same year, sub-section (2) provides for the carrying forward of the loss of one year and setting off of the same against the profits or gains of the assessee from the same business in the subsequent year or years. The crucial words, therefore, are "profits and gains of the assessee from the same business", i.e., the business in regard to which he sustained loss in the previous year. The question, therefore, is whether the securities formed part of the trading assets of the business and the income there from was income from the business. The answer to this question depends upon the scope of section 6 of the Act. Section 6 of the Act classified taxable income under the following several heads: (i) salaries; (ii) interest on securities; (iii) income from property; (iv) profits and gains of business, profession or vocation; (v) income from other sources; and (vi) capital gains. The scheme of the Act is that income-tax is one tax. Section 6 only classifies the taxable income under different heads for the purpose of computation of the net income of the assessee. Though for the purpose of computation of the income, interest on securities is separately classified, income by way of interest from securities does not cease to be part of the income from business if the securities are part of the trading assets. Whether a particular income is part of the income from a business falls to be decided not on the basis of the provisions of section 6 but on commercial principles. To put it in other words, did the securities in the present case which yielded the income form part of the trading assets of the assessee? The Tribunal and the High Court found that they were the assessee's trading assets and the income there from was, therefore, the income of the business. If it was the income of the business, section 24(2) of the Act was immediately attracted. If the income from the securities was the income from its business, the loss could, in terms of that section, be set off against that income.
A comparative study of sub-sections (1) and (2) of section 24 yields the same result. While in sub-section (1) the expression "head" is used, in sub-section (2) the said expression is conspicuously omitted. This designed distinction brings out the intention of the legislature. The Act provides for the setting off of loss against profits in four ways. To illustrate, take the head "profits and gains of business, profession or vocation". An assessee may have two businesses. In ascertaining the income in each of the two business, he is entitled to deduct the losses incurred in respect of each of the said businesses. So calculated, if he has loss in one business and profit in the other both falling under the same head, he can set off the loss in one against the profit in the other in arriving at the income under that head. Even so, he may still sustain loss under the same head. He can then set off the loss under the head "business" against profits under another head, say "income from investments", even if investments are not part of the trading assets of the business. Notwithstanding this process he may still incur loss in his business. Section 24(2) says that in that event he can carry forward the loss to the subsequent year or years and set off the said loss against the profit in the business. Be it noted that clause (2) of section 24, in contradistinction to clause (1) thereof, is concerned only with the business and not with its heads under section 6 of the Act. Section 24, therefore, is enacted to give further relief to an assessee carrying on a business and incurring loss in the business though the income there from falls under different heads under section 6 of the Act."

16. We are of the view that the aforesaid decision of the Hon'ble Supreme Court will squarely apply to a claim of set off u/s.72(1)(i) of the Act, by the Assessee in the present case. In this regard, we find the provisions of the 1922 Act and the Act i.e., 1961 Act, to be identical, as can be seen from the chart given below:

1922 Act
Section 24 of the Income Tax Act, 1922:
"24. (1) Where any assessee sustains a loss of profits or gains in any year under any of the heads mentioned in section 6, he shall be entitled to have the amount of the loss set off against his income, profits or gains under any other head in that year............
(2) Where any assessee sustains a loss of profits or gains in any year, being a previous year not earlier than the previous year for the assessment for the year ending on the 31st day of March, 1940, in any business, profession or vocation, and the loss cannot be wholly set off under sub-section (1), so much of the loss as is not so set off or the whole loss where the assessee had no other head of income shall be carried forward to the following year and set off against the profits and gains, if any, of the assessee from the same business, profession or vocation for that year; and if it cannot be wholly so set off, the amount of loss not so set off shall be carried forward to the following year...........".
1961 Act
Section 72 of the Income Tax Act, 1961.
CARRY FORWARD AND SET OFF OF BUSINESS LOSSES.
(1) Where for any assessment year, the net result of the computation under the head "Profits and gains of business or profession" is a loss to the assessee, not being a loss sustained in a speculation business, and such loss cannot be or is not wholly set off against income under any head of income in accordance with the provisions of section 71, so much of the loss as has not been so set off or, where he has no income under any other head, the whole loss shall, subject to the other provisions of this Chapter, be carried forward to the following assessment year, and - (i) It shall be set be off against the profits and gains, if any, of any business or profession carried on by him and assessable for that assessment year :
Provided that the business or profession for which the loss was originally computed continued to be carried on by him in the previous year relevant for that assessment year; and
(ii) If the loss cannot be wholly set off, the amount of loss not so set off shall be carried forward to the following assessment year and so on

In the earlier part of Sec.72(1) the expression used is "under the head "Income from business and profession", while in clause (i) of Sec.72(1) the expression used is "the profits and gains, if any, of any business or profession carried on by him and assessable for that assessment year. Though for the purpose of computation of the income, dividend is classified as "Income from other Sources", income by way of Dividend was very much part of the income from business, because the shares on which dividend income was earned was stock in trade of business of trading in shares carried on by the Assessee and they formed part of the trading assets.

17. Under the 1922 Act, the question whether dividend income should be assessed under the head "income from Business" or "Income from other Sources" had come up before Hon'ble Courts for consideration. The view expressed in decided cases was that where the shares, on which dividend income is earned, if held as stock-in-trade, would be "business income". Otherwise it was assessed as "Income from other Sources". The Revenue has always been contending that merely holding of investments which yield dividend income can never be said to be carrying on "Business". The 1922 Act was therefore Amended by Finance Act, 1955, whereby Dividend Income was to be assessed as "income from other sources". Therefore dividend income even though it relates to shares held as stock-in-trade of business by an Assessee had necessarily to be assessed under the head "Income from business". Though for the purpose of computation of the income, dividend is separately classified, income by way of dividend does not cease to be part of the income from business, because the shares on which dividend income was earned were admitted part of the trading assets. Whether a particular income is part of the income from a business falls to be decided not on the basis of the provisions of section 14 of the Act, but on commercial principles.
18. The argument of the learned D.R. was that the decision of the Hon'ble Supreme Court in the case of Cocanada Radhaswamy Bank(supra) was rendered in the context of interest income which was assessed under the head "Interest on Securities" and w.e.f. 1-4-1989, Chapter IV of the Act, dealing with "Interest on Securities" was omitted and therefore the same analogy cannot be applied to "Dividend" income which is treated as "Income from other sources". In this regard, we find that by the Finance Act, 1988 w.e.f. 1-4-1989, "Interest on Securities" as a separate head of income enumerated u/s.14 of the Act, was omitted as a measure of rationalisation to treat all interest income as "Income from other sources". Prior to the above rationalisation, interest on securities held as investment was treated as "Income from other sources" and those held as stock-in-trade were treated as "Income from Business". It is thus seen that the reason for the change in law both for interest and dividend income are one and the same. Therefore there can be no basis to say that the decision in the case of cocanada Radhaswamy Bank(supra), will apply only in the context of interest income being treated as "Income from other sources".
19. Another argument of the learned D.R. was that Section 14 of the Act provides that "Save otherwise provided by this Act, all income shall, for the purpose of charge of income tax and computation of total income, be classified under the following heads of income.....". According to him, the corresponding provision in Sec.6 of the 1922 Act, did not contain such provision. We are afraid, the contention is without merit. Sec.6 of the 1922 Act, reads "Save as otherwise provided by this Act, the following heads of income, profits and gains, shall be chargeable to income-tax in the manner hereinafter appearing namely.....". The provisions of Sec.6 of the 1922 Act and the provisions of Sec.14 of the Act, in our view mean the one and the same thing viz., classification of different heads of income for the purpose of computation of total income. Another argument was that whatever a company does can be considered as business under the Companies Act, 1956 and that cannot hold good for the purposes of the Act. This argument runs contrary to the finding of the AO. The AO has not disputed that the shares which yielding dividend income formed part of the stock in trade of the Assessee.

20. For the reasons given above, we hold that the Assessee is entitled to the set off of its carried forward business loss against dividend income as claimed by it. The appeal of the Assessee is accordingly, allowed.

21. In the result, appeal of the revenue is dismissed while appeal of the Assessee is allowed.
Order pronounced in the open court on the 18th day of February 2011.