ITAT Mumbai Rules on Section 14A Disallowance and Capital Receipt Treatment in Sanjay Kothari (HUF) v. National Faceless Assessment Centre

Tribunal restricts Section 14A disallowance to actual expenditure and confirms capital receipt status of refund between HUF and Karta, altering significant tax liability.

The Income Tax Appellate Tribunal (ITAT) Mumbai's "B" Bench, comprising Accountant Member Shri. Vikram Singh Yadav and Judicial Member Shri. Sandeep Singh Karhail, delivered a pivotal judgment in the case of Sanjay Kothari (HUF) v. National Faceless Assessment Centre on November 17, 2025. This case addressed critical issues concerning the disallowance of expenditure under Section 14A read with Rule 8D of the Income Tax Act, 1961, and the taxability of a refund treated as a capital receipt.

The appellant, Sanjay Kothari (HUF), challenged the confirmation of income by the Commissioner of Income Tax (Appeals) at Rs. 3,32,05,810 against a declared return of Rs. 1,98,98,240, disputing additions made under Section 14A and Section 143(3). The Tribunal addressed two primary issues: the disallowance of Rs. 6,74,600 under Section 14A read with Rule 8D and the addition of Rs. 1,26,32,970 as taxable income.

In its judgment, the Tribunal clarified that disallowance under Section 14A, aimed at expenses incurred to earn exempt income, cannot exceed the total expenditure claimed by the assessee in the profit and loss account. The Tribunal directed that the disallowance be restricted to Rs. 69,455, the actual expenditure claimed by the assessee, following verification. This decision aligns with the proviso to Rule 8D(2) of the Income Tax Rules, ensuring that disallowance reflects genuine expenses incurred.

Moreover, the Tribunal addressed the addition of Rs. 1,26,32,970 related to the refund of advances between the HUF and its karta, Mr. Sanjay Kothari, in his individual capacity. The Tribunal upheld the assessee's claim that the excess refund was a capital receipt, not taxable, emphasizing the distinct taxpayer status of an HUF and its karta under Indian law. This decision was based on the nature of the transactions, which were deemed capital advances, not income-generating transactions.

The Tribunal's decision, referencing the Supreme Court ruling in Godrej & Boyce Manufacturing Company Ltd. v. DCIT, underscores the necessity of satisfaction in disallowance claims and the nature of income for taxation purposes. By restricting disallowance to actual expenditure and recognizing the capital nature of refunds, the Tribunal provided relief to the assessee, setting a precedent for similar future cases.

The appeal was partly allowed for statistical purposes, marking a significant interpretation of tax provisions concerning disallowance limits and capital receipt treatment.

Bottom Line:

Income Tax - Disallowance under Section 14A read with Rule 8D cannot exceed the total expenditure claimed by the assessee, as per proviso to Rule 8D(2). Refund of advance received between HUF and its karta treated as a capital receipt and not taxable.

Statutory provision(s): Income Tax Act, 1961 Section 14A, Rule 8D, Section 143(3), Section 10(38), Section 10(34), Section 144B

Sanjay Kothari (HUF) v. National Faceless Assessment Centre, (ITAT)("B" Bench, Mumbai) : Law Finder Doc Id # 2810697