Per K.C. Singhal, Vice President. - The Hon’ble President, ITAT, vide order dated 4-7-2007 has constituted the Special Bench in the case of M/s. Daga Capital Management Pvt. Ltd., Mumbai to adjudicate upon the following issue :

"Whether, in the facts and in the circumstances of the case and in law, the provisions of section 14A of the Income-tax Act, 1961, are applicable with respect to dividend income earned by the assessee engaged in the business of dealing in shares and securities, on the shares held as stock-in-trade and when earning of such dividend income is, therefore, incidental to trading in shares?"

as well as to dispose of the appeal on merits.

2. Subsequently, the Hon’ble President vide order dated 17-10-2007 has directed the Bench to dispose of the following appeals also :

3. The facts in the case of M/s. Daga Capital Management Pvt. Ltd. are hereby narrated. The assessee-company was engaged in the business of dealing in shares in the year under consideration which declared loss of Rs. 12,87,780. It was noted by the Assessing Officer that assessee had claimed expenditure by way of interest amounting to Rs. 9,58,325 on borrowed funds while computing the income as well as the losses incurred in dealing in shares and securities amounting to Rs. 2,86,240. It was also noted by him, that assessee had received dividend income of Rs. 1,78,163 which was claimed as exempt from taxation under section 10(33) of the Income-tax Act, 1961 (‘the Act’). The assessee was therefore asked to explain as to why the expenses incurred in relation to exempted dividend income should not be disallowed, under section 14A. The explanation of the assessee in this behalf was - (i) that the business of assessee was to purchase and sell the shares and securities and not to make any investments in shares on long-term basis, (ii) that the assessee was engaged in the business of dealing in shares and securities. The purchase and sale of shares were not shown separately in the Profit & Loss Account but were shown under the head ‘Investments’ but on that account, no adverse inference could be drawn since the entire sales had always been offered to tax as revenue receipts in the earlier years, (iii) the intention of the assessee has always been to hold the shares as stock-in-trade and dividend income was only the by-product of the trading activity and therefore, there was no relation between the expenditure by way of interest and the exempted income. The explanation of the assessee was rejected by the Assessing Officer by observing "the borrowed funds were mainly used for making investments in shares and securities of other companies with long-term perception in mind to earn lump sum dividend without contributing anything to the exchequer on account of income-tax. During the year, the assessee has not done any business in shares and securities except for few transactions and only income earned during the year is dividend income."

In view of these observations, it was held by the Assessing Officer that provisions of section 14A of the Act became applicable. Consequently, the deduction of Rs. 9,58,325 in respect of interest payment was disallowed by the Assessing Officer. It may also be mentioned that loss of Rs. 2,86,240 in dealing of shares was however accepted by the Assessing Officer after considering the necessary details filed by the assessee. As a result thereof, loss of Rs. 3,29,455 was determined vide order dated 25-2-2003.

4. The assessment made