1. By Deepika Mevadi
(CA Final)

2. TOPICS COVERED
 Background of Section 14A
 Rationale of Section 14A
 Objective
 Method of Allocating Expenditure relating
to Exempt Income
 Computation of Disallowance
 Judicial Decisions (Rule 8D)
 Decision to Section 14A
 Recent Developments
 Special Bench Decision (SB)
 Implication of SB

3.  Brought onto the statute by the Finance Act,
2001
 Provides for disallowance of expenditure
incurred in relation to income which is not
included in the total income of the assessee
 Proviso to the Section was added by the
Finance Act, 2002 w.e.f. 11-5-2001.

4. No deduction for
expenditure
Incurred in
respect of exempt
income
Against taxable
income
Tax incentive
given by way of
Exemptions to
certain categories
of income
Used to reduce
also the tax
payable on the
non-exempt
income
Incurred to earn
the exempt income
against taxable
income.
Exemption is
also in respect of
the net income
Expenses
incurred can be
allowed
Only to the extent
they are relatable
To the earning of
taxable income

5. To prevent tax
payers from
setting off
expenses
To earn tax
free income
Against other
income which
is taxable

6. To earn such
tax free
income
Tax payer
must
Have tax free
income &
Have actually
incurred
expenses
To quantify
such expenses
ensure that the
same
are not
claimed by
assessee
as a deduction
against any
other income

7. METHOD FOR ALLOCATING EXPENDITURE IN
RELATION TO EXEMPT INCOME
Assessing
officer is
satisfied
with the correctness of
claim
not satisfied
with the correctness
of claim

8. No
expenditure
has been
incurred for
• Such exempt
income
No further
action is
required
• By the Assessing
Officer in this
regard

9. Correctness of the claim of
expenditure
The claim made by the assessee
that no expenditure has been
incurred
For that
Rule 8D lays down the computation
mechanism for this purpose

10.  Introduction of RULE 8D
 Formula laid down in the
said Rule is
 Highly unfair and does
not take into
cognizance the facts of
any case.
 It merely lays down an
arithmetical method of
arriving at a
disallowance.
 This disallowance often
comes to much more than
the entire expenses
debited to the Profit and
Loss Account by the tax
payer.

11. COMPUTATION OF DISALLOWANCE
aggregate of
(i) amount of expenditure
directly relating
to income
which does not
form part of total
income

12. COMPUTATION OF DISALLOWANCE
aggregate of
(ii) interest on borrowed funds
not directly
attributable to
any particular
income or
receipt

13. FORMULA FOR DISALLOWANCE
= A X B
C
• Amount of interest other than directly
attributable to the exempt incomeA
• average of value of investment
• income from which does not or shall not
form part of the total income
B
• average of total assets as appearing in the balance sheet
• on the first day and the last day of the relevant
accounting year
C

14. COMPUTATION OF DISALLOWANCE
aggregate of
(iii) ½ % of the average of the value of
investment
income from which does
not or shall not form part
of the total income
as appearing in the
balance sheet on the first
day and the last day of the
relevant accounting year

15. RULE 8D PROVIDES

16. [Godrej & Boyce Manufacturing Company Limited vs.
DCIT (2010) 194 Taxman 203 (Bom.)]
Rule 8D shall not be applicable
for assessment year prior to
assessment year 2008-09
Applicable to all
pending cases even
prior to notification
of rule 8D

17. [ K.V. Trading Co. Limited vs. DCIT (supra) ]
Section 14A prevails over other
general law due to
Special Provision
Special
Law

18. [CIT vs. Hero Cycles Limited 323(2010) ITR 518 (P&H)]

19. [Dy. CIT vs. Maharashtra Seamless Limited (2011)
16 Taxman.com 97 (Del.)
No Disallowance of Interest on
borrowed funds
if Assessing officer
does not show
Between
Borrowed
funds &
NEXUS
Tax free
investment

20. Morgan Stanley India Securities (P) Limited vs. ACIT
(2011) 55 DTYR (Mub) (Trib) 177
Disallowance
of
Net
Interest
or
Gross
Interest

21. [ Varun Shipping Company Limited vs. Addl CIT (2012) 134
ITD 339 (Mum) ]
Separate Disallowance under
Presumptive Tax Scheme?
- All the expenses
allowed in relation to
taxable income
No scope for
separate
disallowance

22. K. V. Trading Co. Limited vs. DCIT
(supra)
Consequences where composite expenditure is
incurred on earning income, which is partly
taxable and Partly exempt
Where assessee maintain composite
account of expenditure
Assessee have to
prove that
Expenditure incurred
by him is in relation
to
For both the
exempted income
and non exempted
income
Non exempted
income as it is the
assessee which is
claiming deduction

23. State Bank of Travancore vs. ACIT (2009) 318 ITR (AT) 171
(Coach)
Investment in Tax free Bonds by
Bank Assessee
Not for Earning Tax free Income
but for
Meeting The Statutory Obligation
of Maintaining SLR Ratio
No Disallowance u/s 14A

24. Daga Capital Management P Ltd [312 ITR 1 ]
&
ACIT vs Cheminvest Ltd case [124 TTJ 577]
No Disallowance u/s
14A
if Dividend Incidental
to Business

25. CIT vs. New India Investment Corporation Limited
(1978) 113 ITR 778 (Cal.)
Rule
8D
Stock-
in-
Trade
Not
Applicable

26. [CIT vs. Kribhco (2012) 75 DTR 265 (Del.)
• Income entitled to deduction
under section 80P(2)(d)
• Relating to co-operative
society
No
disallowance
• Exempt income
• Deduction under
chapter VI-A
Disallowance

27. Gillette Group India (P.) Limited vs. ACIT 12(1)

28. TO SECTION 14A
No Disallowance
Exemption is
granted
Exemption is
given u/s.10(38)
Not as an
incentive
In respect of
long term capital
gains on which
STT is paid
But because
the tax is
levied at
source

29. TO SECTION 14A
e.g. Dividend Distribution tax, Tax payable
by firms, etc

30. TO SECTION 14A
Disallowance u/s.14A
Agricultural
Income
Haryana Land
Reclamation &
Development
Corp. v. CIT,
159 Taxman
271 (P & H)
Dividend on
shares and
units of
mutual
funds
Wallfort
Shares &
Stock Brokers
Ltd. v. ITO, 96
ITD 1 (Mum.)
(SB)
Share of
Profit from
Firm
SudhirDattara
mPatil v. DCIT,
2 SOT 678
(Mum.)
Tax Free
Bonds
Punjab
National
Bank v.
DCIT, 103
TTJ 908
(Del.)
Chapter VIA
Income
Punjab State
Co-operative
Milk
Producers
Federation
Ltd. v. ITO,
104 ITD 408
(Chand)

31. TO SECTION 14A
New Rule 8D
prescribed by CBDT
working of the
amount disallowable
u/s.14A
adhoc basis was
being adopted
notional amount will
be disallowed

32. RECENT DEVELOPMENTS
 Once the Rule 8D was notified sometime in
early 2008, the tax officers have been
mechanically applying the said Rule to all
pending assessments.
 In most cases, they have been rejecting the
working prepared by the tax payer and huge
disallowances have been made under section
14A based on the irrational computational
mechanism laid down in the Rule.

33. RECENT DEVELOPMENTS
 However, the latest development has made matters even
worse now.
 Recently, the Income-tax Appellate Tribunal had occasion
to decide on the issue of applicability of the section in
those cases,
 Where a tax payer had invested money in investments,
the income from which, as and when received, would be
tax free in the hands of the tax payer.
 In view of conflicting decisions of various Tribunals in the
matter, it was decided to constitute a SPECIAL BENCH.
This Special Bench at Delhi has given its decision
vide its consolidated order dated 5th August, 2009 in the
case of ITA Nos. 87/Del/2008, 4788/Del/2007 and
233/Ahd/2006

34. SPECIAL BENCH DECISION
Relevance was
Work out the expenditure
In relation to the exempt income &
Not to examine whether the expenditure
incurred by the assessee
Has resulted into exempt income or
taxable income

35. SPECIAL BENCH DECISION
Gist of the Special
Bench decision
Section 14A would be applicable
Where the tax payer has not earned
any income which is tax free
But has invested funds in
investments which
When they start yielding income
Such income would be tax free

36. SPECIAL BENCH DECISION
Disallowance
Irrespective of
Whether the income is
Earned by the assessee or not

37. SPECIAL BENCH DECISION
Decisions of the Supreme Court in the case of
Maharashtra Sugar Mills and Rajasthan State
Warehousing
One indivisible
business
Entire expenditure is allowable
No application after the introduction of
section 14A

38. DECISION OF SPECIAL BENCH

39. IMPLICATIONS OF THE
DECISION
Even if the investments are
long term and/or strategic ones
&
No income actually accruing
or received during a year
Disallowance of part of the
interest paid

40. IMPLICATIONS OF THE
DECISION

41. IMPLICATIONS OF THE
DECISION