Deduction of interest on borrowings invested in capital of firm allowed against interest on capital

Deduction of interest on borrowings invested in capital of firm allowed against interest on capital under the head profit and gains from business or professions.

In a recent judgment, ITAT Mumbai has allowed deduction of interest on borrowings invested in capital of the firm from which the assessee has earned interest on capital though inadvertently assessee claimed it u/s 57 of the Act.

ABCAUS Case Law Citation:
4810 (2025) (10) abcaus.in ITAT

In the instant case, the assessee had challenged the order passed by the CIT(A) / NFAC in confirming the disallowance made by Assessing Officer (AO) in respect of interest expenses incurred claimed as deduction under section 57 of the Income Tax Act, 1961 (the Act) for earning interest income from capital contribution in partnership firm.

The return of the appellant assessee was selected for scrutiny assessment and accordingly statutory notices were issued and served upon the assessee. While scrutinizing the return of income, the AO noticed that the assessee had claimed a deduction u/s 57 of the Act.

During the assessment proceedings, the AO noticed that there was no nexus with the income from other sources and disallowed the claim of interest. The assessee strongly contended that the interest expenses should alternatively be allowed u/s 36(1)(iii) of the Act as interest has been paid on the borrowings invested in the capital of the firm from which the assessee has earned interest on capital under the head “profit and gains from business or professions”.

The contention of the assessee was dismissed by the AO and his appeal was also dismissed by the CIT(A).

The Tribunal observed that it was true that the assessee had paid interest on borrowings which were in turn contributed in the capital of the partnership firm from which the assessee has earned interest which has been returned under the head profit and gains from business or profession.

In view of the above, the ITAT opined that the interest paid on borrowings deserved to be allowed from the business income. Even if inadvertently the assessee has claimed as deduction under section 57 under the head income from other sources but the claim u/s 36(iii) of the Act was made during the assessment proceedings itself which was rubbished by the AO but should have been allowed.

Therefore, considering the facts of the case in totality, the ITAT directed the AO to allow the interest under section 36(iii) of the Act as deduction from profit and gains from business and profession.

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