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Income Tax Appellate Tribunal, MUMBAI BENCH “J”, MUMBAI
Before: AMIT SHUKLA & MS. PADMAVATHY S.
O R D E R PER : MS PADMAVATHY S. (AM)
This appeal of the Revenue and the Cross Objection by the Assessee are against the order of the Commissioner of Income-tax (Appeals)-57, Mumbai [in short, ‘the Ld.CIT(A)] 04/08/2022 for the Assessment Year 2014-15. The grounds raised by the Revenue and the cross objections of the assessee are as under:- “1. Whether the Ld.CIT(A) erred in allowing the foreign exchange gain of Rs.4,23,32,112/- on account of reinstatement of outstanding balances at the year and treating the same as notional interest.
2. The appellant prays that the order of the Ld CIT(A) be set aside and the order of the AO be restored.
3. The appellant craves leave to amend or alter any ground or add any other grounds which may be necessary.”
Cross Objections “1. On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in upholding the transfer pricing addition of notional interest of Rs. 5,58,33,8787- on account of advances given to subsidiary company M/s M Pallonji Shipping Singapore Pte Ltd.
2. Without prejudice to above the CIT(A) erred in upholding the order of Transfer Pricing Officer to make addition of notional interest at a spread of 500 bps, whereas that a spread of 200 bps was held to be reasonable, hence, the addition if any may be restricted to spread of 200 bps.
The learned CIT(A) erred in holding that the notional foreign exchange gain was taxable the year of actual realization without appreciating fact that notional foreign exchange gain was account of the capital, hence capital receipts not taxable.
4. The learned CIT(A) erred in holding that the Assessing Officer was entitled to change his stand in taxation of foreign exchange gain from year to year.”
The assessee is engaged in the business of shipping owners, charter of ships and allied activities. The assessee company is a holding company of M. Pallonji
3 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd Shipping Singapore Pte Ltd. The assessee filed a return of income for the assessment year 2014-15 on 24/11/2014 declaring total income of Rs.46,24,340/-. The case was selected for scrutiny and accordingly notices under section 143(2) and 142(1) of the Act were duly served on the assessee. During the year under consideration, the assessee company has shown the income of Rs.17,41,14,591/- from the shipping business and since the assessee is covered under tonnage tax, it has offered income at Rs.46,09,336/- under Chapter XIIG of the Income-tax Act , 1961. During the course of assessment proceedings, the Assessing Officer noticed that the assessee has entered into international transactions with its Associated Enterprise (AE) exceeding Rs.15 crores and therefore, a reference was made to the Transfer Pricing Officer (in short, ‘the TPO’)for computing the arm’s length price (ALP) of the international transaction. The TPO vide order dated 30/06/2017 passed under section 92CA(3) of the Act, has made a TP adjustment of Rs.5,58,33,878/- in respect of notional interest on advances given by the assessee to its Singapore AE. The assessee made a claim before the AO to allow deduction u/s.57 of interest paid to the HDFC Bank which has been used for giving advance to the AE but the same is not accepted for the reason that the claim has not been made by way of filing revised return of income. The Assessing Officer, while passing the assessment order, besides the TP adjustments also made an addition in respect of foreign exchange gain to the tune of Rs.4,23,32,112/- which has arisen out of the re-instatement of loans given to the AE.
3. Aggrieved, the assessee filed appeal before the CIT(A). With respect to the notional interest charged on advances to the AE, the Ld.CIT(A) gave relief to the assessee by allowing the interest paid by the assessee to HDFC bank and accordingly, the adjustment was reduced to Rs.85,60,514/-. With regard to the 4 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd addition of foreign exchange gain, the Ld. CIT(A), though did not accept the contention of the assessee that the gains were not part of tonnage profits, deleted the addition on the ground that the gain is entirely coming out of notional interest and that the gain is not realized. The Revenue and the assessee are before the Tribunal against the said order of the Ld.CIT(A).
We will first consider the appeal filed by the Revenue with regard to the addition made towards foreign exchange gain deleted by the Ld.CIT(A). The Assessing Officer, during the course of assessment proceedings observed that the assessee has earned a foreign exchange gain of Rs.4,23,32,112/- in respect of loan given to its foreign subsidiary. The assessee submitted before the Assessing Officer that the gain is a notional gain which has arisen on account of re- instatement of loan amounts as at the end of the financial year in accordance with Accounting Standard-11 (AS-11). The assessee also submitted that the said gain is unrealised and is net of the losses arising on the re-instatement of loan taken by the assessee in foreign currency. The assessee also submitted that since the gain is a notional income and not a real income, the same has not been offered to tax. The assessee quoted another reason for not offering the income to tax as assessee is not in the business of giving loans and the transaction including the balances lying in the loan account are investments in capital field. Therefore the assessee submitted that the gain also should be part of the capital and accordingly not chargeable to tax. The Assessing Officer did not accept the submissions of the assessee and made an addition towards the foreign exchange gain by holding that – “5.4 The business activity of assessee company is shipping. Assessee company is not a Non-Banking Financial Company. Since the business activity of the company is not money lending, hence, loan amount given to either subsidiary or any other company is not its core activity. It
5 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd would not amount under Tonnage Tax Scheme as per the provisions of IT Act 1961. The. income and loss generated from exchange gain fluctuation does not come within the ambit of core shipping income as well as incidental activities. The assessee company has incurred a gain of Rs 4,23,32,112/-. There is a net gain of Rs. 4,23,32,112/- on account of loan given to subsidiary company, which cannot be part of Tonnage Tax Scheme. 5.5 The provisions of Section 115V-1 provides method of computation and defines the shipping income of a tonnage tax company as profit form core and incidental activity. As discussed above, exchange gain / loss does.not fall either in core activity or incidental activity pertaining to loan given-to subsidiary company. Therefore, the amount of foreign exchange gain of Rs. 4,23,32,112/- is not considered :as part of Shipping income and thereafter the same is hereby-added separately to the total income of the assessee. Penalty .proceedings 'u/s 271(l)(c) of the Act are initiated separately for submitting inaccurate particulars of income.”
Before the Ld.CIT(A), the assessee submitted that the loan extended to the AE has been used by the AE for purchase of ship and, therefore, the gain arising out of re-instatement of the said loan is also capital in nature. The assessee also submitted that the assessee is not in the business of money lending and the loan given to the AE is not its core activity. Accordingly, the assessee prayed that the foreign exchange gain ought to be treated as non tonnage income. The assessee in this regard relied on the following decisions:-
(1) Sutlej Cotton Mills Ltd vs CIT (19 79) 116 ITR 1 (SC) (2) CIT vs Woodward Governor India P Ltd (2009) 312 ITR 254 (SC) (3) CIT vs Dempo & Co P Ltd (994) 206 ITR 291 (SC)
6 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd
The Ld.CIT(A) called on the assessee to furnish the break-up of the net foreign exchange gain as computed by the assessee and the assessee submitted the following details in this regard:- Particulars Amount (Rs.) Notional foreign exchange gain on restatement of amounts 9,36,26,800/- receivable from M Pallonji Shipping Singapore Pte Ltd Realized foreign exchange gain on repayment of loans and 1,54,30,599/- receipt of funds from subsidiary company Less : Realized foreign exchange loss on repayment f loans and (2,48,51,954/-) receipt of funds from subsidiary company Less : Notional foreign exchange loss on restatement of loan (4,18,73,333/-) availed from HDFC Bank of USD 16 million. Net foreign exchange gain 4,23,32,112/-
The Ld.CIT(A), after considering the various submissions of the case laws relied on by the assessee did not accept the contention that the issue is covered by the decision of the co-ordinate bench in assessee’s own case for A.Y. 2013-14. The relevant extract of the CIT(A)’s order is as given below:- “6.3.4 The.assessee has argued that identical addition of foreign exchange gain was made by the Id Assessing Officer in Assessment Year 2013-14. The assessee.challenged the draft Assessment.Order before the DRP which upheld the stand of the Assessing Officer. The assessee challenged the order of the DRP before Hon'ble ITAT Mumbai. The Murnbai ITAT has passed order for Assessment Year 2013-14 (ITA 5875/M/2017) dated 28.06.2022 and has set-aside the issue-to the file of the Assessing Officer with the following directions : The assessee'is not in the business of finance and the ban was utilized towards purchase, of ships and not for any working capital necessity. The loan given to the subsidiary was disclosed in the Balance Sheet as a non-current asset and the ships are disclosed in the Balance Sheet of the subsidiary as Plant & Machinery. There is no consistency of taxing of foreign exchange gain by the Revenue.
7 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd
6.3.5 It is seen that the Mumbai ITAT has not allowed this ground of appeal but has merely set aside the issue to the file of the Assessing Officer. Hence, the Mumbai ITAT order cannot form the.basis of allowing relief to the assessee on this ground. 6.3.6 The assessee submits that during Assessment Year 2008-09 it had earned foreign exchange gain on loan taken for purchase of ships. The assessee had considered the gains as a part of tonnage profits and had claimed exemption. The Assessing Officer was of the view that the gains were not a part of tonnage profits and hence taxed the same as business income. The Tribunal noted that for subsequent Assessment Year, the Assessing Officer noted that the gains were a part of tonnage profits. On Department appeal, the Bombay High Court held that: Chapter XII-G contains special provisions relating to income of shipping companies. Sub-section (2) of section 115VI lists the core activities of the-tonnage tax company which includes its activities from operating .qualifying ships. In instant case, the assessee's act of acquiring the ships was closely connected, interlinked and integral to its core activities of operating qualifying ships. !f realizing gain "on account of foreign exchange fluctuations on account of purchase of ships to be treated as shipping income, there is no reason as to why notional gain on account of foreign' exchange liabilities on account of - purchase of ships should also not been given the same treatment. Thus the appeal of the Department was dismissed. 6.3.7 I am not inclined to accept the arguments of the assessee. The issue before the Hon'ble Bombay High Court was whether foreign exchange gain is regarded as a tonnage item or a non-tonnage item. The Bombay High Court has not given a finding that such foreign exchange gain is a capital receipt. Moreover the fact of assessee's Case are entirely different in current year, during Assessment Year 2008-09 it had .earned foreign exchange gain 'on loan, taken for purchase of ships whereas in current year the loan was taken to advance the same to its AE . 6.3,8.The assessee further argued that in some-years the AO has taxed the foreign exchange gain and in some years the AO has not taxed the .foreign exchange gain. Thus, the stand of the AO is not consistent. In this regard one may refer to Hon'ble Supreme .Court's judgement in'.the case of RadhasoajmLSatsang v. C1T.(1992)
60. Taxman 248 (SC),
8 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd wherein it was held that principle of res judicata is hot applicable to income tax proceedings. Therefore The AO is free to take independent stand depending on the facts of the case.”
The Ld CIT(A) however deleted the addition after the perusal of the detailed breakup of the forex gain submitted by the assessee by stating that - “6.3.14 An analysis of the above shows that the net realized foreign exchange loss is Rs 0.94 Crores (ie Rs 2.48 Cr realized foreign exchange loss LESS Rs 1.54 Crores realized foreign exchange gain). The net notional foreign exchange gain is Rs 5.18 Crores (ie Rs 9.36 Crores notional foreign exchange gain LESS Rs 4.18 Crores notional foreign exchange loss). Thus, the net foreign exchange gain of Rs 4.23 Crores can be considered as entirely coming out of notional interest. There was no realized (net) foreign exchange gain. Rather, there was a (net) realized foreign exchange loss. 6.3.15 Various judicial precedents have held that notional foreign exchange gain cannot be taxed. Moreover the basic principal of accountancy provides that all anticipated losses/expenditure should be accounted for whereas all anticipated gains/income should be accounted for on actual realisation only. I am of the view that the net gain of Rs 4.23 crores is entirely coming out of notional interest. As the / entire gain is notional, the same cannot be taxed in the hands of the assessee in the current year. The AO can tax the same in the year of actual realisation .In view of the foregoing, the addition of foreign exchange gain of Rs 4,23,32,112/- is directed to be deleted. 6.3.16 While deciding the issue I have also gone through Sec 43AA of the act which provides that any gain or loss arising on account of any foreign exchange rates shall be treated as income or loss. This section was introduced by Finance Act 2018 w.e.f. 1-4- 2017 and the same is not applicable in current assessment year.”
Before us the ld DR supported the order of the Assessing Officer and reiterated that the Ld CIT(A) is not correct in deleting the addition stating that the same is notional.
We heard the parties and perused the material on record. We notice that a similar issue has been considered by the coordinate bench of the Tribunal in assessee’s own case where the Tribunal has held that – “11. On the second disputed issue, with respect to foreign exchange gain, where the DRP has erred in holding foreign exchange gain on account of loan given to MPS Singapore, which was used for the purpose of capital asset. The contention of the Ld. AR that their
9 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd cannot be any foreign exchange gain on these transactions and further substantiated with the ledger accounts and the assessment orders for the earlier years and subsequent years. The Ld.AR referred to the financial statements and details in the paper book and emphasized that these facts play a vital role in determination of ALP. The A.O has observed that the assessee has earned foreign exchange gain in respect of loan given to foreign subsidiaries in foreign currency. We found that the assessee has obtained the loan from HDFC Bank for the purpose of onward lending to its subsidiary M/s. Pallonji Singapore PTE Pvt Ltd and the main business of the assessee is shipping and the assessee has provided the loan in the course of regular business transactions and not in money lending. Therefore the income and loss has to be generated based on this information and the submissions that the assessee’score business is shipping but not the lending. The fact remains that the assessee has provided the loan for the purposes of capital asset to its subsidiary which is on record.
The assessee is not in the business of finance, and the loan was utilized for purchase of ships and not for any working capital necessity. The loan given to the subsidiary was disclosed in the balance sheet as a non current asset and the ships are disclosed in the balance sheet of the subsidiary as plant &machinery. We are of the opinion that the facts are not emerging out of the assessment order or draft assessment order where the assessee has submitted the various details but the AO has only considered the fact that the assessee is not a money lending business and is not a NBFC and it cannot be part of the business transaction. ”
The reason as given in the above order of the Hon’ble Tribunal for remitting the issue is that the AO has not considered the various details submitted. However in the year under consideration, the CIT(A) has analysed the facts of the case in detail and has given a finding based on facts. The CIT(A) has deleted the addition after analyzing the facts on the ground that the forex gain is arising on notional basis and not a real gain. We tend to agree with the decision of the CIT(A) since the gain has arisen out of reinstatement of the loan as of the financial year end as per the Accounting Standards. We therefore uphold the decision of the CIT(A) accordingly. The appeal of the revenue is accordingly dismissed.
10 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd CO No.15/Mum/2022 12. The Cross Objection filed by the assessee is with regard to the notional interest charged on the advances given by the assessee to its AE. The TPO by computing the notional interest has done a benchmarking analysis using the data from Bloomberg. The working done by the TPO while calculating interest is as given below:- Loan Date Amount Balance Interest Rate Days Total (INR) Grand Total Amount (INR) (INR) (INR) 16M$ 04/04/2013 543,899,998 5.81% 2 175,559 02/04/2013 36,173,334 507,726,664 31 2,540,185 02/05/2013 6,947,752 500,778,912 62 5,010,849 02/07/2013 42,191,683 458,587,229 31 2,294,337 01/08/2013 2,398,424 456,188,805 34 2,503,209 03/09/2013 2,398,424 453,217,205 29 2,121,182 01/10/2013 15,954,645 437,262,560 94 6,633,516 02/01/2014 41,246,667 396,015,893 89 5,688,218 31/03/2014 -44,717,438 440,733,331 0 29,967,056 23.5M$ 01/04/2013 745,596,248 5.81% 32 3,850,590 02/05/2013 745,596,248 3,850,590 Own 01/04/2013 409,018,878 5.81% 365 23,763,997 Fund 02/04/2013 36,173,334 36,173,334 2.30% 183 417,133 01/10/2013 15,954,645 52,127,979 2.30% 94 308,769 02/01/2014 41,246,667 93,374,646 2.30% 88 517,782 31/03/2014 42,332,112 135,706,758 2.3% 1 8551 25,016,232 TOTAL Grand Total 5,58,33,878 The plea of the assessee to allow the expenditure towards interest paid which is used for providing the loan to the AE was not allowed for the reason that the said claim is not made by the assessee by filing a revised return.
Before the Ld.CIT(A), the assessee submitted that the loans should be benchmarked on the basis of LIBOR (+) 2% as against 5.81% applied by the TPO. The assessee also submitted that the company did not have sufficient own funds and, therefore, a portion of the amount funded to the AE was through borrowals made from HDFC Bank. It is, therefore submitted that the deduction of interest of Rs.316,22,164/- and unwinding charges of Rs.1,56,51,200/- paid to HDFC Bank
11 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd should be allowed as a deduction. The assessee in this regard relied on the decision of the Hon’ble Supreme Court in the case of Goetze India Ltd vs CIT 284 ITRE 323 (SC) to submit that a claim cannot be denied for the reason that same is not made through a revised return. The Ld.CIT(A), after considering the submissions of the assessee held that the assessee is entitled to make fresh claim of interest and unwinding charges during the assessment proceedings. With regard to the rate of interest, the Ld.CIT(A) held that – “5.3.3 In the present case, the assessee has availed loan from HDFC Bank in past years which was advanced to its AE in Singapore. Considering that the assessee itself was sanctioned loans from HDFC Bank at LIBOR plus a spread of 400BPS (during Financial Year 2009-10) and LIBOR plus a spread of 435BPS (during Financial Year 2010-11) the spread cannot be less than 4%. Thus, the spread adopted by the TPO of approximately 5% is reasonable. Further, the Hon'ble Dispute Resolution Panel for Assessment Year 2013-14 has vide Order passed u/s 144C(5) of the Act dated 30.06.2017 has upheld the spread of 5% adopted by the TPO as reasonable. Since the bulk of loans given to the AE were borrowed from HDFC Bank at a spread in excess of 4%, the spread adopted by the TPO of approximately 5% is considered reasonable and therefore upheld.”
Accordingly, the Ld.CIT(A) reduced the notional interest to Rs.85,60,514/- after allowing the interest paid on unwinding charges against interest charged by the TPO.
We heard the parties and perused the material on record. The facts of the assessee’s case is that the assessee has utilized own funds as well as borrowed funds towards lending loans to its AE and that the assessee has not charged any interest on the said loan. The assessee has borrowed loan from HDFC bank and is paying interest at the rate of LIBOR + 400 bps. Therefore, we see merit in the findings given by the CIT(A) as extracted above that notional interest rate of LIBOR + 500 bps charged by the TPO on the loans to AE is reasonable. We also see that the TPO has charged interest at the rate 2.31% on the own funds which in our view is reasonable given the facts of the 12 ITA 2981/Mum/2022 M. Pallonji Shipping Pvt Ltd present case. It is further notice that the CIT(A) has allowed the interest paid by the assessee as a deduction. Given these facts we see no reason to interfere with the decision of the CIT(A) and accordingly uphold the decision of the CIT(A) on this issue. The cross objections filed by the assessee in this regard is dismissed.
In result the appeal of the revenue and the cross objections of the assessee are dismissed.