CBDT release a Tax Alert which summarizes a recent Circular No. 5/2014 dated 11 February 2014 (circular), issued by the Central Board of Direct Taxes (CBDT), clarifying that expense disallowance for exempt income is warranted even if, in a particular tax year, no exempt income is actually earned.
The Circular clarifies that the legislative intent is to allow only that expenditure which is relatable to earning of income and it, therefore, follows that the expenses which are relatable to earning of exempt income have to be considered for disallowance, irrespective of whether any such income has been earned during the financial year or not.
The Circular represents the “Departmental View” (i.e., the Tax Authority’s view) on the controversial issue of disallowance of related expense in a year in which no exempt income is earned. Based on the CBDT’s Office Memorandum dated 28 August 2012 for setting up an institutional mechanism to formulate a “Departmental View”’ on contentious legal issues, the “Departmental View” will not be binding in the area falling within the jurisdiction of a High Court which takes a view contrary to the “Departmental View”. However, the Tax Authority shall take steps to file further appeal to the Supreme Court or consider whether some legislative amendment is required. Taxpayers will, therefore, need to wait and watch for further developments on the controversy. It may be clarified that the subject controversy does not arise in a case where the taxpayer establishes to the Tax Authority’s satisfaction or to higher appellate authorities that either no expenditure was incurred in relation to exempt income and/or disallowance voluntarily made by the taxpayer in relation to exempt income is correctly quantified.
The Circular clarifies that the legislative intent is to allow only that expenditure which is relatable to earning of income and it, therefore, follows that the expenses which are relatable to earning of exempt income have to be considered for disallowance, irrespective of whether any such income has been earned during the financial year or not.
The Circular represents the “Departmental View” (i.e., the Tax Authority’s view) on the controversial issue of disallowance of related expense in a year in which no exempt income is earned. Based on the CBDT’s Office Memorandum dated 28 August 2012 for setting up an institutional mechanism to formulate a “Departmental View”’ on contentious legal issues, the “Departmental View” will not be binding in the area falling within the jurisdiction of a High Court which takes a view contrary to the “Departmental View”. However, the Tax Authority shall take steps to file further appeal to the Supreme Court or consider whether some legislative amendment is required. Taxpayers will, therefore, need to wait and watch for further developments on the controversy. It may be clarified that the subject controversy does not arise in a case where the taxpayer establishes to the Tax Authority’s satisfaction or to higher appellate authorities that either no expenditure was incurred in relation to exempt income and/or disallowance voluntarily made by the taxpayer in relation to exempt income is correctly quantified.
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