JUDGMENT

Sanjiv Khanna, J.

1. Revenue by this appeal, which pertains to the Assessment Year 2006-07, impugns findings recorded by the Income Tax Appellate Tribunal (`tribunal', for short) in their order dated 8th April, 2010 on the question of disallowance under Section 14A of the Income Tax Act, 1961 (`Act', for short).

2. The respondent-assessee is a cooperative society and comes within the administrative control of the Department of Fertilizers, Ministry of Agriculture and Co-operation, Government of India. The principal business of the assessee is manufacture of urea and ammonia. It is also engaged in marketing of fertilizers and purchase and processing of seeds. It earns interest income from banks, financial institutions, cooperatives etc. and earns service charges from Hazira Ammonia Extension Project etc.

3. For the assessment year in question, in the return filed on 30th October, 2006, the respondent-assessee had declared total income of Rs.2,82,50,91,480/- .

4. As per the return filed, the assessee had claimed deduction under Section 80P(2)(d) on dividend of Rs.2,00,006/- received from Nafed and Karnataka State Cooperative Apex Bank Limited and interest of Rs.10,20,75,013/- on deposits made with cooperative banks. The Assessing Officer did not disturb the said claim/deduction under Section 80P(2)(d) but relying upon Section 14A held that the aforesaid incomes were not included in the total income of the assessee and, therefore, expenditure under the head "interest" amounting to Rs.1,15,45,579 and 1/8 of the employee benefits and remuneration should be disallowed. He observed that the aforesaid expenditure had been incurred for earning of income under Section 80P(2)(d) of the Act and, therefore, has to be disallowed under Section 14A.

5. The assessee succeeded in the first appeal and before the tribunal. We may notice that in the first appeal, the assessee had raised several contentions on merits as to the quantum of disallowance of the expenditure under the head "interest" and had pointed out that the entire disallowance made of Rs.1,15,45,579/- was erroneous and contrary to law. The CIT(Appeals) has extensively quoted the aforesaid contention of the assessee but has not dwelled and answered the same as he had relied upon his earlier order.

6. By the order dated 1st September, 2011, the following two substantial questions of law were framed:

"A. Whether the ITAT was correct in law in holding that no disallowance can be made against income which is not specifically exempt under the Act?

B. Whether the ITAT was correct in distinguishing between deduction and exemption, which does not find any support in the language of Section 14A?"

7. We may only record that the appellant-Revenue had raised certain other aspects/questions, but these have not been framed in view of order passed in ITA No. 1406/2010 on the same date, i.e., 1st September, 2011.

8. In order to appreciate the controversy, we have to refer to Section 2(45), Section 14A, Section 80A(1) & (2), Section 80AB and Section 80B(5), which for the sake of convenience are reproduced below in seriatim:

"2. Definitions. In this Act, unless the context otherwise requires,

(45) total income means the total amount of income referred to in section 5, computed in the manner laid down in this Act ;

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14A. Expenditure incurred in relation to income not includible in total income. For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act.

Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning on or before the 1st day of April, 2