Interest expense on Interest-Free loan given to director disallowed by ITAT

The brief facts of the case is that the assessee is closely held company engaged in the business of service provider; providing services of goods transport agency and business support services, transportation of heavy vehicle chassis by road. During the assessment proceedings, the ld.AO noticed that there was transaction of loans and advances between the assessee-company and one of its director, Shri Kamal Deshraj Dogra who was having 50% share holding in the assessee-company. The AO also noticed that the assessee had claimed interest expenses of Rs.38,95,633/- on unsecured loans, but it had given interest free advance to Shri Kamal Deshraj Dogra for non-business purpose. The assessee has extended that substantial amount of Rs.5.97 crores as loan to Shri Kamal Deshraj Dogra during the financial year, and not charged interest on the loan amount, which is contrary to section 36(1)(iii) of the Income Tax Act, 1961 (the Act). Therefore, show cause notice was issued to the assessee as to why proportionate interest on the interest free loans given to Shri Kamal Deshraj Dogra should not be disallowed.

In response to the same, the assessee stated that loans were given for business purpose, and for purchase of the land on behalf of the assessee-company. This reply was not accepted by the AO and therefore disallowed interest expense.

Aggrieved against the addition, the assessee filed appeal before the ld.CIT(A). The ld. CIT(A) held that the assessee failed to establish commercial expediency, and thereby dismissed ground raised by the assessee. Aggrieved against the order of the ld.CIT(A) the assessee is before the Tribunal.

Before tribunal, assessee submitted that no disallowance of interest could be made when interest free advance has been given out for commercial expediency.

The ld.DR appearing for the Department submits that the assessee’s arguments that the payment was made for business expediency, however, the assessee has not able to demonstrate exigency for advancing interest free loans. Initially, the assessee stated that loan was advanced for purchase of land for the company, but the director, Shri Kamal Deshraj Dogra himself u/s 133(6) proceedings admitted that the land was not purchased and no money was given. Further, no evidence has been furnished to establish that Shri Shankar Lal Kabra is the owner of the land. Thus, documents and agreement submitted are only to camouflage to protect the provisions of section 2(22)(e) which is an after-thought story made by the assessee and therefore, the ld.DR pleaded that the ground raised by the assessee is to be dismissed.

ITAT observed that though the assessee’s claim that payment made to the Director, Shri Kamal Deshraj Dogra was for business expediency, but the assessee could not prove before us the nexus between the assessee-company with its subsidiary company in the nature of trade and business. Further, ITAT in its order relied on judgement of Punjab & Haryana High Court in the case of C.R. Auluck & Sans P.Ltd., where it was held disallowance made u/s 36(1)(iii) of the Act on the ground that the assessee has failed to establish commercial expediency in doing the financial transactions. Thus, ITAT upheld the order of the CIT(A).

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