Section 36(1)(iii) – Averting Interest Expenditure on Loans to Sister Concerns

The present petition desired by the assessee Hero cycle (p) Ltd is relevant to the Assessment Year 1988-1989. Income tax return filed by the assessee for the aforesaid Assessment year 1988-1989, the assessee, and so on, claimed deduction under the provisions of section 36(1)(iii) of the income tax Act the interest paid on sum borrowed from Bank. The above mentioned deduction was disallowed by the Assessing Officer vide his Assessment Order dated 26.03.1991 on the following two cases:

• According to the Assessing Officer, the assessee had borrowed a loan for the purpose of business from the bank and paid interest and taken as business expenditure deduction, but The loan amount was averted by giving advance to its subsidiary company well-known as M/s. Hero Fibers Limited and this advance did not charge any interest
• The assessee Hero cycles (p) Ltd had also given loans to its directors on which the assessee charged interest from the directors at the rate of 10 %, while the interest payable on the loan from the Bank charged interest at the rate of 18 %. At that point, the Assessing Officer held that alleging the interest at the rate of 10 % from the directors of the company and paying the interest at higher rate, i.e., at the rate of 18 % on the loan borrowed by the assessee will not be treated for the purposes of business.

The assessee passed the matter in petition to the Commissioner of Income Taxes. The CIT (Appeals) set aside the order of the Assessing Officer holding that the interest paid by the assessee of whom deduction was claimed, according to facts, the loan taken was for business purposes, so the entire interest paid by the assessee should have been allowed as business expenditure. The case was appealed in front of tribunal by the CIT (appeals) then tribunal espoused the aforesaid view of the CIT (Appeal) and dismissed the appeal preferred by the Revenue.

Then again appeal to high court and next to Supreme Court by assessee. It is held that businessman cannot be bound to maximize his profit in the view of income tax for reducing the payment of tax by claiming disallowed deductions of business expenditure. Applying the facts of case , we have seen that the advance provided to its subsidiary company by taking loan from bank is repaid by assessee with interest so the and with assumption that it provided surplus margin to M/s. Hero Fibers Limited for the purpose of the working capital to cover any cash loses.

As witnessed by the CIT (Appeal), the company was having surplus almost of 15 crores and, therefore, the assessee could utilize those funds for giving advance to its Directors. Thus the order of the High Court was rejected and decision of the Income Tax Appellate Tribunal is considered.