Section-14A: Expenditure in relation to Exempt income not deductible under income tax

AO is empowered to determine the amount of expenditure incurred in relation to such income which does not form part of the total income in accordance with such method as me be prescribed.

Rule 8D of the income tax rules provides the method to be used by the AO regarding   disallowability of the such expenditure if he is not satisfied with :

1.     Correctness of the claim made

2.     Claim made by the assessee that no expenditure has been incurred in relation to exempt income for such P.Y

He shall determine amount of expenditure in relation to such exempt  income as follows :

      1.  Expenditure  directly related to the exempt income             =       ****

      2.   interest not directly attributable to any income/ receipt   =      ****

 [ interest not directly related × Av. Value of investment of Exempt income]

   Av. Value Of total asset as appearing in Balance Sheet(exclude any increase due to revaluation but include any decrease due to revaluation)

3.     0.5% of AV. Value of investment of exempt income   =                    ****

          Total addition to be made L 1+2+3                                                       ****

Note: Actual receipt of exempt income is not necessary. Therefore, if interest is paid on loan taken for purchase of shares, such interest can’t be allowed in computing total income even if no exempt income/ dividend have actually been earned.