Excessive or unreasonable salary, is a sine qua non in invoking the provision of Sec 40A(2)(b): ITAT Ahmedabad


Excessive or unreasonable salary, is a sine qua non in invoking the provision of Sec 40A(2)(b): ITAT Ahmedabad



M S Hostel verses Deputy Commissioner of Income Tax

Case Number: I.T.A. No. 614/Ahd/2023


  1. During the assessment proceeding, it was found that the appellant has shown salary payment of Rs.4,20,000/- to the administrative head, and deducted TDS of Rs.43,260/-. Upon deduction of the same, the remaining amount has been shown as an unsecured loan obtained.
  1. A show cause notice was issued since the administrative head filed no return of income. The assessee submitted a reply which the AO rejected on the premise the administrative head is a relative of the partner and stands covered within the purview of Section 40A(2)(b) of the Income Tax Act. Furthermore, by claiming this particular expenditure, the appellant has got a benefit of 30% as per its taxation rate being a partnership firm.
  1. Hence, in the view of the AO, this is a collusive transaction to evade payment of tax. Apart from that, the administrative head has immediately given back the same amount as an interest-free unsecured loan to the appellant particularly when the same was neither made through a bank account nor by any other means the transaction is a paper/sham transaction to claim excess expenditure.
  1. The amount debited by the appellant was found to be bogus salary expenses in the P&L account and the same has been disallowed u/s 40A(2)(b).

ITAT Ahmedabad held as below:

  1. The payment of salary and granting of interest free loan are two different transactions and there is no scope of clubbing the same to attract the provision of Section 40A(2)(b).
  1. The same salary would have been given to any other person recruited by the appellant for the said post. Thus, question of diversion of funds or routing of funds does not and cannot arise as these two transactions i.e. payment of salary as well as loan is through journal entry and the amounts stands payable, on the other hand, in the form of creditor or lender as rightly pointed out by the appellant.
  1. As Smt. Palak A Shah did not withdraw salary, the amount was lying as unsecured loan as per normal accounting principle. Had the interest been paid the Revenue would have at loss because the appellant firm attracts 30.9% tax whereas Smt. Palak A shah, an employee falls under 20.6% tax slab.
  1. Since none of the orders passed by I-T Authorities doubted the services so rendered by the administrative head nor alleged to have paid excessive or unreasonable salary, which is a sine qua non in invoking the provision of Section 40A(2)(b) of the Income Tax Act, the deduction u/s 40A(2)(b) is hereby allowed.

The copy of the order is as under:


1711022826 ITA No 614 Ahd 2023 M S Hostel vs DCIT