Interest on Borrowed Funds for Strategic Group Investments Allowed as Business Expense u/s 36(1)(iii)

Overview of the Decision

The Bangalore Bench of the Income Tax Appellate Tribunal in DCIT Vs Pronomz Ventures LLP (ITAT Bangalore) (ITA 1702/BANG/2025, order dated 31/08/2026, AY 2020-21) examined whether interest paid on borrowed capital used for strategic and controlling investments in group entities is deductible under Section 36(1)(iii) of the Income Tax Act 1961.

The dispute arose from the Assessing Officer’s disallowance of interest expenditure of ₹104,622,906, on the allegation that borrowings were diverted to interest-free loans and equity investments in group concerns that did not form part of the assessee’s business activity. The CIT(A) deleted the disallowance, and the Revenue carried the matter in appeal. The ITAT ultimately upheld the CIT(A) and rejected the Revenue’s appeal.

Factual Matrix

Nature of the Assessee and Assessment Background

• The assessee is a limited liability partnership (LLP) engaged in:

  • Financial consultancy
  • Financial and investment advisory services
  • Fund syndication
  • Capital-market advisory and related financial solutions

• For AY 2020-21, the assessee:

  • Filed a return on 09 January 2021
  • Declared total income of ₹211,620,620
  • Reported a business loss of ₹255,800,691

• A search under Section 132 was conducted on 06 November 2019 in the case of Skanray Technologies Private Limited and others; the assessee was covered as part of that action.

• The assessment was completed under Section 143(3) on 30 March 2022.

Borrowings, Investments and Interest Claim

On review of the audited financials, the Assessing Officer recorded the following key figures:

• Short-term borrowings: ₹3,190,512,862
• Loans and advances: ₹2,048,423,826
• Investments: ₹4,117,000,055 (in shares, mutual funds, partnerships, LLPs and other instruments)
• Finance cost (interest): ₹104,622,906

On funds movement, the Assessing Officer noted:

• Sources:

  • Partners’ capital: ₹2,911,938,300
  • Short-term borrowings: ₹3,190,512,862
  • Total: ₹6,109,551,162

• Application:

  • Current investments: ₹4,069,184,124
  • Loans and advances: ₹2,048,423,826
  • Total: ₹6,117,607,950

The assessee had very modest business receipts of ₹494,872 but dividend income of ₹213,137,384. Interest expenditure claimed as business deduction was ₹104,622,906.

AO’s Core Findings

The Assessing Officer concluded:

• Borrowed funds were not used in the assessee’s active business operations.
• Funds had been:
  • Advanced as interest-free loans, or
  • Invested in equity shares and other instruments of group concerns.
• The assessee did not charge interest on such loans and advances.
• The investments were classified in the accounts as current/non-current investments, not as stock-in-trade.
• As per AO, this classification meant that:
  • Investments were treated as capital assets,
  • The assessee was not in the business of share trading or venture capital,
  • Investment activity could not be characterised as the assessee’s business activity.

On this basis, the AO treated the interest as not incurred “for the purposes of business” and disallowed the entire finance cost of ₹104,622,906 under Section 36(1)(iii).

Grounds Before the CIT(A)

The assessee challenged the disallowance and submitted, in substance, the following:

1. Business Profile and Objects

   • The assessee’s partnership deed and conduct showed that it was engaged not only in consultancy and advisory services, but also in:
     • Investment solutions
     • Strategic, promoter-level investments
     • Acquisition and maintenance of controlling stakes in group entities

2. Strategic Investment Activity as Business

   • Major investments in group concerns were made as a promoter to secure and maintain strategic and controlling interests.
   • Such investments and the related funding formed part of the assessee’s core business model.

3. Use of Capital and Borrowings

   • Loans and strategic investments were made using a mix of:
     • Partners’ capital (interest-free funds), and
     • Borrowed capital.
   • Interest paid on such borrowings was claimed as business expenditure under Section 36(1)(iii).

4. Availability of Sufficient Interest-free Funds

   • Loans and advances were around ₹204 crore.
   • Partners’ capital was also approximately ₹204 crore.
   • On this basis, the assessee argued that interest-free advances were funded from interest-free capital, invoking the presumption recognised in:
     • Coffee Day Global Ltd. v. ACIT, 33 ITR 321 (Kar.), and
     • CIT v. Reliance Industries Ltd., 410 ITR 466 (SC).

5. Strategic Business Purpose and Commercial Expediency

   • Investments were held for business/strategic purposes, not as personal or purely investment assets.
   • The assessee relied on judicial precedents including:
     • CIT v. Peninsular Investments Ltd., 29 taxmann.com 422 (AP)
     • CIT v. Srishti Securities Pvt. Ltd., 183 Taxman 159 (Bom)
   • These decisions support that:
     • Investment in shares to obtain controlling interest in group companies may constitute business activity.
     • Interest on capital borrowed for such investments is deductible under Section 36(1)(iii).

6. Compliance With Section 36(1)(iii) Conditions

   • Interest was paid on capital that was:
     • Actually borrowed, and
     • Utilised for the purposes of the business (strategic promoter investments and loans in furtherance of that activity).

7. Consistency in Earlier Assessments and Group Cases

   • Similar interest claims had been:
     • Accepted for AY 2016–17 in scrutiny proceedings under Section 143(3) without disallowance.
   • For a group entity, a proposed disallowance of ₹128,705,772 on similar facts was dropped after examination, accepting that interest was for business purposes.
   • Based on decisions such as:
     • CIT v. Dalmia Cement Co. Ltd., 77 ITR 410
     • CIT v. Neo Poly Pack Pvt. Ltd., 245 ITR 492 (Del.)
   • The assessee contended that the Revenue should not take a contrary stand in the absence of change in facts.

Order of the CIT(A)