By TIOL News Service

MUMBAI, MAY 17, 2016: THE ISSUE IS - Whether rent paid by an entity to its directors for leasing out their land in favour of the entity for carrying out agricultural operations, is liable to be disallowed u/s 14A, if it is directly attributable to earning of agricultural/exempt income. YES is the answer.

Facts of the case:

The assessee company is engaged in the business of both ship management as well as in the activity of horse breeding and owning and maintaining of race horses. Consequent to filing of its return, the assessee's case was taken up for scrutiny and the assessment was completed u/s 143(3). The AO examined the declared agricultural income earned from the land taken on lease from three Directors of the assessee company to whom lease rent was paid. He therefore issued show cause notice to the assessee wherein it is stated that 7/12 extracts did not indicate that any agricultural activity were carried on and that the yield of grass disclosed in the 7/12 records is attributable to natural activity. The AO took the view that there was no agricultural activity carried on the lands taken on lease and, therefore, the income claimed to have been earned from agricultural activities had to be treated as Income from 'Other Sources'. Further, he held that expenditure incurred towards the lease rent paid to the directors as disallowable. On appeal, the CIT(A) held that the expenditure incurred for earning agricultural income had to be set off against the income from agricultural operations.

After hearing the parties, the Tribunal had held:

It is seen that under similar circumstances, a coordinate Bench of this Tribunal in the assessee's own case for A.Ys 2007-08 & 2008-09 had held that: "....the CIT(A) has recorded a categorical finding to the effect that the assessee had carried on agricultural operations and earned income of Rs. 8,01,175/-. The grass is paddock grass which is specially planted as it is a feed for the horses. It does not have spontaneous growth and hence, it is an agricultural activity....The CIT(A) also observed that the assessee had sold vegetables & fruits during relevant previous year which constituted the agricultural income which was credited to the P&L account under the head "other income". This finding of CIT(A) was not controverted by the DR by bringing any positive material. Therefore, we find no reason to interfere with the findings recorded by the CIT(A). With regard to lease rent expenditure of Rs. 26,59,140/- incurred by the assessee, the CIT(A) has disallowed the same on the plea that the expenditure was incurred for earning exempt income. We also find that the lease rent was paid to the directors of the assessee company for leasing the lands to the assessee which deserves to be disallowed u/s 14A to the extend attributable to earning of exempt income....". Therefore, following the decision of the Coordinate Bench, findings with respect to earning of agricultural income was confirmed and disallowance of expenditure incurred in form of lease rentals for earning exempt income u/s 14A is upheld.

(See 2016-TIOL-768-ITAT-MUM)