1989 PLP (Trib (PTD)

MIAN ABDUL KHALIQ (JUDICIAL MEMBER).--For the charge years 1982-83 and 1983-84 the Department feels aggrieved of the combined order of the learned CIT (A) Faisalabad dated 17-5^ 1987, In both these departmental appeals, the common grievances are as under:-- (i) The learned C.I.T. (Appeals) was not justified to delete the addition made under Section 12 (7) of the Income Tax Ordinance, 1979. The advancement of loan by the company to its Directors without charging any interest is not understandable when the company itself obtained loan from the bank and claimed interest thereon. (ii) The learned C.I.T. (Appeals) was not justified to' cancel the assessment made under Section 62/65 and restore the original assessment. The reopening of assessment under Section 65 was quite justified as the company failed to fulfil its obligation to declare National income in the terms of Section 12(7) of the Income-tax Ordinance, 1979 on the amount of loan advanced to its directors.'

2. The facts are that the assessee, a Private Limited Company derived income from printing and dyeing business. As the assessee Company's case qualified for immunity from detailed scrutiny for both the years declared income at Rs.3,77,038 and Rs.4,75,730 was accepted under Section 59 (1) of the Income- /tax Ordinance, 1979 (hereinafter referred to as the Ordinance) on 27-2-1983 and 25-1-1984. Subsequently on examination of record, the I-T.O. gathered that the assessee company had advanced loans to its Directors to the extent of Rs.8,40,552 and Rs.4,28,179 in these years without charging any interest. The I-T.O. also gathered that the assessee company had paid interest to the bank in the respective years under review at Rs.1,02,136 and Rs. 1,50,495 on account of loan obtained from Muslim Commercial Bank against equitable mortgage of assets at Rs.8,29,000 and Rs.15,00,000 on 1-7-1981 and 3-11-1982 respectively. On this basis the I-T. O. was of the opinion that the assessee had concealed notional income and as such with the prior approval of the learned IAC notice under Section 65 of the Ordinance was issued on 8-6-1985. In response thereto the assessee filed return declaring income as before. Before the I-T.O. the assessee took exception to the issuance of notice under Section 65 of the Ordinance as there did not exist any material to establish any concealment of income. On behalf of the assessee it was pleaded that the case for both the years being fully qualified for immunity from detailed scrutiny, notice under Section 65 of the Ordinance could not be issued on the ground that no interest was charged on the loan advanced to the Directors. It was stated before the I.T.O. that loans were advanced to the Directors free of any interest and no income was derived from that source as the Directors had made investment in purchase of agricultural land. In the notice issued under Section 62 of the Ordinance the I.T.O. neither pointed out any defect in the assessee's books of accounts nor sought any explanation on quantum of assessments. The notice pertained to advancing of loans to the Directors without any interest for which detailed reply was filed by the assessee. Simultaneously the assessee unsuccessfully agitated the matter before the learned Regional Commissioner regarding reopening of assessments under Section 65 of the Ordinance in the disguise of non-declaring of any interest under Section 12(7) of the Ordinance on the loans advanced to the Directors. The I.T.O. discarded the assessee's plea holding that after issuance of notice under Section 65 of the Ordinance, there did not exist any bar to reassess the income on quantum of assessment. The assessee's declared receipts at Rs.96,84,806 and Rs.1,04,83,340 were accepted because it evolved ratio of 8.71 and 7.27 times of Sui gas consumption in rupees at Rs.11,11,110 and Rs.14,41,794 for these years. By applying G.P. rate of 20% and 35% to the declared dyeing and printing receipts, the I-T.O. made addition of Rs.92,349 and Rs.10,866 to the declared gross profit. A sum of Rs.1,00,866 and Rs.51,381 was added as notional income under Section 12(7) of the Ordinance for the respective years. After making add backs under various heads of profit and loss account expenses, the I-T.O. determined the assessee company's net income at Rs.6,71,543 and Rs.7,10,940.

3. On appeal the first appellate authority cancelled the reassessments holding that as neither any interest under Section 12 (7) of the Ordinance was chargeable on the sums advanced to the Directors nor there existed any material for issuance of notice under section 65 of the Ordinance.

4. Before entering into discussion of the contentions of the representatives of the' parties, we deem it appropriate to bring on record the facts pertaining to obtaining of loan by the assessee company from Muslim Commercial Bank, its utility and details of advancing of loans to its Directors. The assessee company had obtained loans on the following dates:- 24-5-1979 Rs.5,00,000.00 21-10-1980 Rs.5,00,000.00 29-11-1982 Rs.2,40,000.00 9-12-1982 Rs.9,58,500.00 Total:-- Rs.21,98,500.00 These loans were obtained in regular course of business and the assessee company obtained machinery for bleaching, washing and dyeing, shining, calendaring and stretching. The loan facility was available to the assessee company as far back as on 24-5-1979 and it had received four instalments of loan from 24-5-1979 to 9-12-1982. The details of loans advanced to the Directors are as under: Assessment year 1982-83: Name of the Director Amount of loan (1) Haji Muhammad Ishaque Rs.81,696.00 (2) Mian Maqsood Ahmad Rs.2,98,037 (3) Mst. Sarwar Begum Rs,2,82,713.00 (4) Mst. Saleema Begum Rs.1,78,105.00 Total: Assessment year 1983-84: Name of the Director Amount of loan (1) Haji Muhammad Ishaque Rs.36,605.00 (2) Mian Maqsood Ahmad Rs:2,25,383.00 (3) Mst. Sarwar Begum Rs.1,37,965.00 (4) Mst. Saleema Begum Rs.28,224.00 Total:

5. The first submission of the D.R. was that the learned C.I.T. (A) erred in cancelling the reassessments made under Section '65 of the Ordinance on the ground that non-charging of notional interest under Section 12 (7) of the Ordinance on the loans made to the Directors was an erroneous basis. This grievance of the D.R. is unfounded. Under Section 65 of the Ordinance the assessment as a whole can be reopened if definite information is available with the I.-T.O. regarding escaped assessment, under assessment and concealment of, income. In the facts and circumstances of this case no definite information or material was available with the I.-T.O. for under-assessment or escaped assessment. Even in the notice issued under Section 62 of the Ordinance, the I-T.O. had neither pointed out any defect nor sought any explanation of the assessee on quantum of assessment. Immunity available to the assessee company for both the years from detailed scrutiny could not be withdrawn without establishing under assessment, escaped assessment or concealment of income. That being so, the only issue requiring determination is whether on the pretext of non-declaring of any interest under section 12 (7) of the' Ordinance on the loans advanced to the Directors' notice under section 65 of the Ordinance could be issued. Admittedly the assessee company had obtained loans from Muslim Commercial Bank for the purposes of importing machinery required for modernising the company's business. This loan facility was partly availed by the assessee company much earlier than advancing of loan to its Directors. As per wealth statement as on 30-6-1982 and 30-6-1983 interest free loan obtained by the Directors was invested in purchase of agricultural land. Loans received by the Directors were neither utilized in any business or profession nor channellised for investment in securities or shares. It is fully established that the Directors had not purchased Defence Saving Certificates or other securities out of the loan obtained from the company. Under Section 16 (2) (e) of the Ordinance employee has been defined as; "Employee," in relation to a company, includes a managing director or ay other director or other individual, who, irrespective of his designation, performs any duties or functions 'in connection with the management of the affairs of the company." Under sub-clause (a) of subsection (7) of Section 12 of the Ordinance a specific bar was provided by the legislature for non-application of the provision for charging of interest on any loan or advance made by the assessee to an employee in accordance with the terms and conditions of his employment and for such purpose or purposes. The Central Board, of Revenue clarified the position regarding charging of interest on loan advanced by a company vide S R O 750 (i)/81 dated 23-8-79 which was amended by S R O 197(i)/81 dated 7-3-1981. Original clause (c) was as follows:-- (c) any other person not being a person carrying on any business or profession by whom the loan or advance is used directly or indirectly for purposes of such business or profession or for investment in securities, stocks and shares, debentures, deposit certificates issued by, or accounts maintained with banks (including Cooperative Banks, Post Office Savings Banks, National Savings Centres, and investment, credit, holding or financial institutions or funds)." This clause excluded the loans made to (a) all persons not carrying on any business or profession; (b) all persons carrying on a business or profession provided such persons do not utilize the loans directly or indirectly in business or for investment in securities, shares etc. Under C.B.R. Circular dated 7-3-1981, it has been explained that the provision of Section 12 (7) of the Ordinance are only applicable if the amount has been directly or indirectly used for investment in business or shares securities etc. Since the amounts advanced by the assessee company to its four Directors in both the years were not used by them for business purposes, provisions of section 12 (7) of the Ordinance were not applicable. The I.-T.O: s observation that the assessee company itself having obtained loan from the bank was not in a position to advance interest-free loan to its directors is not only fallacious but against the established facts. Borrowing of money by way of loan from a bank for boosting up and betterment of business activities is an independent facility available to a trader and it cannot be co-related with advancing of loan by a company to its Directors. Mere fact that the assessee company itself was paying interest to the bank on the obtained loan could not operate as a bar for advancing of loan to the Directors within four corners of law. In the instant case the loans obtained by the company from the bank were mainly was utilizes purchase of machinery earlier than advancing of loan to its Directors. We are fortified in this view by a decision reported as 1986 S C M R 968 (SC Pak). Facts of that case were quite identical to that of the assessee. Therein the company had paid interest on the borrowed capital invested in business and interest free loan was advanced to the Managing Director. The I.-T.O. disallowed the interest paid by the .company to the banks and made additions thereby. The Tribunal deleted the additions. The High Court and Supreme Court maintained the Tribunal's order. Matter was being dealt with in that case as per parallel provisions of the repealed Income-tax Act. It was concluded: "It seems that according to the above provision an assessee is free to carry on a business with his own capital or from money borrowed from any bank or other financial institution and it is only in case where the assessee chooses to run lus business with borrowed capital that he would be entitled to deduction in respect of amount paid for and on account of interest. Thus the only eventuality, which might disentitle an assessee to claim deduction of the whole or any part of interest is where the amount is not shown to have been used as capital in the business carried on by the assessee. In this case the entire amount included in the cash books and the bank accounts were before the I.-T.O. who completed the assessment under subsection (3) of Section 23 but he failed to show that any part of the borrowed money was not used in business and was diverted to the personal use of the Managing Director." The facts of the case under review fully establish that the borrowed capital was utilized by the assessee company in purchase of machinery and the borrowed capital had no relation with the loans advanced to its Directors. The fact of payment of interest on the borrowed capital thus has no relevance towards grant of interest free loan to the Directors. Under sub-clause (e) of Section 16 (2) of the Ordinance, the Directors were employees of the company irrespective of designation and as such no interest was chargeable on the loans advanced to them under proviso to sub section (7) of Section 12 unless the I: T.O. could establish that as per terms and conditions the Directors were not entitled for obtaining of interest free loan.

6. In these circumstances we maintain the impugned order holding that non-charging of interest under Section 12 (7) of the Ordinance on the loans 1 advanced to the Directors did not come within the ambit of concealment entitling the I.-T.O. to reopen the assessments completed under section 59 (1) of the Ordinance. On merits of the case the I-T.O. being not in possession of any definite information or material for under-assessment or escaped assessment, the immunity available to the assessee company was erroneously withdrawn by issuance of notice under Section 65 of the Ordinance. There being no material for issuance of that notice, the reassessments as made by the I-T.O. under Section 65/62 of the Ordinance on 30-6-1986 for the years under -review were rightly cancelled. The impugned order does not suffer from any illegality. Both the departmental appeals being devoid of any merits are dismissed M.BA.647/T Appeals dismissed.