The Tax Publishers2020 TaxPub(DT) 4870 (Mum-Trib)


Section 57 Section 11(2)

As there was a nexus between borrowed funds and investments in term deposits the interest paid on the borrowed funds was, therefore, to be allowed out of the interest earned by the assessee on term deposits.

Income from other sources - Deduction of interest expenditure - Interest earned on term deposits -

Assessee was a notified person under the Special Court (Trial of Offences relating to Transactions in Securities) Act, 1992 and all her assets, including bank accounts were attached and vested in the hands of the Custodian appointed under the said Act. After considering submission of assessee, AO observed that assessee had earned interest income on term deposits of Rs. 12,66,861 and claimed interest on loan at Rs. 2,20,45,030. During the assessment proceedings, it was asked to the assessee to furnish the basis of the provisions of interest expenditure made in their accounts along with the written contract including the terms and conditions between the creditors and the assessee. However, assessee has relied on certain claims made before the Special Court. As there was no specific order from the Special Court, this claim was rejected. Accordingly, AO rejected the contention of assessee and passed assessment order under section 143(3) by making disallowances on account of interest expenses on loans and personal household expenses. CIT(A) after considering the submission of assessee, partly allowed the appeal of the assessee. The assessee pointed out that the liability in the present case was accrued on account of purchases of shares and securities by the assessee which were sold in terms of the directions of the Special Court in subsequent years and the sale proceeds so received were invested in term deposits with the banks and accordingly the assessee has claimed interest expenditure against the interest earned on term deposits. Held: Disallowance of interest claimed by assessee cannot be made merely because in the opinion of the AO the corresponding interest income had not been offered by the recipients. The interest can be allowed on the basis of method of accounting followed by the assessee. Since assessee as well as recipients were notified entities under the Special Court Act unless the Court directs for distribution of the assets towards existing liabilities under section 11(2) of the Special Court Act, the assessee cannot make the payment to these creditors. Even otherwise, since the existence of liability towards interest had accrued especially when the assessee is following the mercantile system of accounting the interest is to be allowed. There was a nexus between borrowed funds and investments in term deposits. Therefore, the interest paid on the borrowed funds had to be allowed out of the interest earned by the assessee on term deposits. In view of aforesaid discussion the order of the CIT(A) was set aside and the AO was directed to allow deduction in respect of said interest accrued and calculated at 12% per annum after disallowing proportionate interest in respect of the investment in shares.


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