THE issue before the Bench is - Whether share trading or banking activity can be said to have an inherent quality of producing both regular banking income as well as dividend income, to qualify as a condition for apportionment of expenses u/s 14A. YES is the answer.
Facts of the case
The assessee is a bank. During the concerned year, the assessee had an income of Rs.581.23 lacs by way of interest on tax-free bonds and dividend on shares and units of mutual funds. Consequent to filing of assessee's return, the AO disallowed a sum of Rs.366 lacs u/s.14A r/w Rule 8D during assessment. The assessee contended that since its investments yielding tax-free income, being funded by the assessee’s own capital, no disallowance of interest, i.e., on a proportionate basis, would arise in terms of Rule 8D(2)(ii). The Revenue’s contention, on the other hand, was that the capital raised by the assessee was specifically meant to meet the capital adequacy norms and, therefore, could not be presumed or inferred as having been invested in shares, including preference shares and PSU bonds, so as to be excluded while reckoning the disallowance under rule 8D.
Having heard the parties, the Tribunal held that,
Interest on tax fee bonds
++ it is seen that funds from various sources are tapped from time to time as well as get generated through and in the course of its business, and together go to form a common pool of funds, to be applied on need basis, for the purpose of its business by the assessee-bank from time to time. To therefore appropriate a particular liability toward a particular asset would, therefore, be wholly incorrect, without factual basis and, rather, inconsistent with the manner in which the funds are normally accessed, generated and deployed in business. We can understand if the funds, raised from a particular source or falling under a particular class, have to be necessarily deployed in the business in a particular manner, as where the capital is required to be invested, to a particular extent, in specified securities. However, where the legal requirement is only towards maintaining liquid assets at a prescribed percentage of the capital or liabilities, it would only imply that the funds of the business are invested in a composite manner. The specification with reference to capital is only to work out the quantum of such investment. It is seen that the Apex Court in the case of Indian Bank Ltd., held that it was impermissible under the scheme of the Act for the AO to look behind the expenditure and to determine as to whether it had the quality of producing taxable income. Further, the jurisdictional High Court in case of Godrej & Boyce, explains the genesis of section 14A, also expounding on its scope, clarifying that the basic principle of taxation is that it is only the net income, i.e., gross income less expenditure, which is taxable. The said principle, i.e., of only the net income as being liable to tax is axiomatic in tax jurisprudence and that, therefore, section 14A was curative and declaratory of the intent of the Parliament. That it represented the first serious attempt on its part to ensure that the tax incentive to certain incomes is not used to reduce the tax payable on the taxable income, i.e., by debiting the expenditure incurred to earn the non-taxable income against taxable income;
++ in fact, the High Court in Godrej & Boyce case goes to the extent of stating that the fact that the assessee has utilized its own funds in making the investments would not be dispositive of the question of whether the assessee has incurred the expenditure in relation to earning such (tax-free) income. Even if, therefore, it had utilized its own funds for making investment which had resulted in income not forming part of the total income under the Act, the expenditure which is incurred in earning the income would have to be disallowed. In our view, it was incumbent on the parties to have brought its’ decision in the case of Godrej & Boyce to the notice of the Court in HDFC Bank Ltd. We are conscious that we are deciding an appeal in the case of the same assessee. So, however, we are deciding a purely legal issue, i.e., whether, in view of the statutory presumption cast by section 14A, a non obstante provision, a presumption on facts could obtain, or that the assessee shall have to establish the same with reference to its accounts, in terms of section 14A(2) r/w s. 14A(3), leading to a satisfaction or otherwise of the AO, arrived at objectively, only to find the earlier decision in Godrej & Boyce as having addressed the said issue;
Tax free investments held as stock-in-trade of the business
++ in-as-much as dividend is earned on shares or units held as stock-in-trade, i.e., where so, it is a direct fall out of such holding, an incidence of business, which thus yields both taxable and non-taxable incomes. Rather, as apparent, it is only to mitigate and transcend issues relating to attribution (of expenditure) that the provision of section 14A, followed by the mandatory rule 8D, has been brought in place, where one composite indivisible business gives rise to more than one stream of income, of which (at least) one does not form part of the total income, as clarified in case of Godrej & Boyce. Dividend income arises from the same shares held as stock-in-trade which give rise to the share trading income in the case of a share trader, or the banking income of a bank, as the assessee, i.e., business income, generally speaking. Now, the shares and securities giving rise to dividend income, even assuming to be held as stock-in-trade of the business, form an integral part thereof, which represents a source giving rise to both types of income, the share trading or the regular banking income, which is taxable, and the dividend income, which is not. Share trading or the banking activity can thus be said to have an inherent quality of producing both these incomes, a qualifying condition for apportionment of expenses, contemplated u/s.14A. How could, then, one may ask, interest expenditure in relation to such business, or in fact any expenditure of the said business, be said to be incurred either wholly and exclusively for either the regular share trading (banking) income or the dividend income. Dividend income, being tax-exempt, would thus warrant an apportionment of expenses. In fact, but for the provision of section 56(2)(i), dividend or tax-free interest income in such a case would stand classified as business income, even as it could yet be tax-exempt. The taxability or otherwise of a particular income is independent of its classification, which, rather, is required to be only for the income forming part of the total income, for the purpose of its computation u/s 14. As such, being tax-exempt, expenses would require being apportioned in respect of such tax-exempt income/s. This is precisely the purport of the decision in Godrej & Boyce case. We have already clarified that no case on facts has been made out by the assessee in the present case. In fact, there is even no claim, much less finding of the shares and securities under reference as representing stock-in-trade of the assessee’s business. On the contrary, the assessment order states of the investment being in government securities, i.e., to meet the SLR requirements as stipulated by the RBI, so that the same would qualify as investments;
++ the sole premise of section 14A is to effectuate the basic postulate of taxation that it is only the net income, i.e., net of all expenditure incurred in relation thereto, that is to be subject to tax. It contemplates and seeks to put in place an effective mechanism for apportionment of expenditure where a composite business or activity yields both taxable and non taxable incomes. This is made abundantly clear by the jurisdictional High Court in Godrej & Boyce case, by answering the question in affirmative i.e., "Whether section 14A is attracted in case of dividend income received from shares and income from mutual funds". It is therefore immaterial whether the shares are held as investment or stock-in-trade, both being assets of a composite business giving rise to two sets of income. As regards the claim of adequacy of capital or interest-free funds, we have already clarified of there being no finding of fact qua the specific source/s of financing, even as the High Court has in Godrej & Boyce case clarified that even the fact that the assessee has utilized its own funds in making the investments would not be dispositive of the question as to whether the assessee has incurred expenditure in relation to earning of such income. Even if, therefore, as explained by it, the assessee had utilized its own funds for making investments which have resulted in income which does not form part of the total income under the Act, the expenditure which is incurred in the earning of that income would have to be disallowed, which is to be determined by the A.O. Accordingly, we uphold the application of section 14A r/w rule 8D in the facts and circumstances of the case;
Amortized ESOP expenses
++ the decision rendered by the special bench of the Tribunal in the case of Biocon Ltd vs. Dy. CIT, is binding on this Tribunal. No decision taking a contrary view by any higher appellate forum has been brought to our notice. The tribunal, per the same, explains that the discounted sum, i.e., which could be realized by the company on shares issued under ESOP, stands foregone by it only with a view to retain the employees, allowed by way of compensating them for their services. The extent of the amortized expense that could be allowed, i.e., with reference to time, stands also discussed by the tribunal per its said order, i.e., on a straight line basis over the vesting period, unless of course the vesting is not uniform. In fact, it goes further to explain the subsequent adjustment to the discount deductible, i.e., in view of the exercise or the lapse of options, and again in terms of the scheme. However, we observe that though thereby the tribunal approves of deduction of the discount (on ESOP shares) in principle, it does not mandate the discount to be worked out in a particular manner, which, i.e., the quantum of the discount, and as would be apparent, is even otherwise a purely factual matter. True, the tribunal in that case has confirmed the working of the discount with reference to the market value of the shares. This, as apparent from its reading, is for the reason that that was the only value against which the issue price of shares under ESOP was benchmarked, representing the value which the shares would otherwise fetch for the company. In the present case, however, the assessee-bank has issued shares to the public at large as well; the ESOP shares being in fact a mere fraction of the total shares issued during the year. Clearly, therefore, it is the difference between the issue price of the shares to the two segments, i.e., to the public and its’ employees, which would mark or signify the extent of the value foregone or the discount allowed by the assessee on the latter issue;
++ the AR, on this being expressed by the Bench, would, while admitting that this aspect of the matter was not in controversy in Biocon Ltd., submit that the subscription price of the shares issued to the public is wholly irrelevant, for what has been foregone by the assessee-bank is the value it could have realized, i.e., the price at which the shares are traded on the bourses. We are wholly in disagreement. Put succinctly, a company does not incur any expenditure when it issues shares to the public at less than their going market price, an exercise aimed at raising capital from the market, at terms best suited to its interests and prospects, given the obtaining facts and circumstances. The question of the expenditure being incurred for business purpose thus just does not arise. The share issue to the employees under ESOP would therefore have to be considered as a segment of this issue, i.e., as a part/species of the public identified as its employees and, therefore, entitled to a discount on the regular price. It may be argued, as was indeed before us, as to what if there is no public issue. The question is misconceived. What, for instance, if the shares are not traded in the market, as where this is the first public offering by the company. The issue, it needs to be appreciated, is not whether the shares are or are not traded, but which ‘difference’ could be said to represent or be considered as a discount allowed by the company in the facts and circumstances of the case. We have in this regard clarified that it is the purpose for which the value, capital in nature, is foregone, which enables it to assume the character of a revenue expense, besides defining its business purpose, so as to be admissible u/s. 37(1). In evidence of the value foregone, a public issue of shares at the relevant time, or even in proximity, provides an unimpeachable basis in the form of a comparable transaction, for determining the same, i.e., the value foregone or the discount allowed. We are, in fact, fully supported by the decision in Biocon Ltd. in-as-much as in that case the market price of shares was taken as a surrogate measure of the value at which the shares could be issued to or made available to the public by the company. In view of the foregoing, we direct the allowance of the discount on the shares issued to the employees, as held by the larger bench of the Tribunal in Biocon Ltd., subject to the same being reckoned with reference to issue price of the shares issued to the public during the relevant year.