CELESTIAL AVIATION TRADING 100 LIMITED,IRELAND vs. ACIT INT. TAX. CIRCLE 1(2)(1) NEW DELHI, NEW DELHI

The assessee in appeal has inter alia assailed findings of the AO in making addition of Rs.74,37,77,694/- by re-characterizing the nature of lease agreement between assessee and Indigo as financial lease as against assessee's claim of operating lease. The assessee in appeal has raised as many as six grounds with sub grounds. The ground no. 1, 3, 4, 5 are in respect of addition made by the AO on merits. In ground no. 2 of appeal, the assessee has assailed the validity of final assessment order on the ground of limitation and in ground no. 6 of appeal, the assessee has assailed levy of interest u/s. 234B of the Act and initiation of penalty u/s. 270A r.w.s. 274 of the Act. The ld. Counsel for the assessee at the outset made statement at Bar that he is not pressing ground no. 2 of appeal.

In respect of grounds of appeal

The ld. Counsel pointed that all the above conditions set out in the ASLA clearly indicate that it is a case of operating lease, where the ownership of the aircraft remains with the assessee and the aircraft is handed over to Indigo only for the limited purpose of operations. There is no covenant in the agreement which lays down the condition that the ownership of the aircraft at the end of lease period or at any point of time shall be transferred to the lessee i.e. Indigo.

The ld. Counsel further pointed that as per Reserve Bank of India Circular No. 24 dated 01.03.2002 (at page 234 of the paper book) there are different conditions for remittance of payment of lease where the such payments are made in respect of operating lease basis. Wherever, financial lease transactions are undertaken prior approval from the RBI is mandatory. The ld. Counsel further referred to Aircraft Lease Common Terms Agreement (in short CTA) entered into between GE Commercial Aviation Services Ltd. and Indigo. The said agreement is at page 534 to 635 of the paper book. He pointed that as per Common Terms 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) Agreement, the expression owner means the persons identified in the ASLA as owner or subject to Clause 14.3, such other person as Lessor may notify Lessee from time to time. Thus, on the joint reading of ASLA and Common Terms Agreement it would be clear that owner of the aircraft is the lessor i.e. the assessee. He further referred to Clause 8.4 of the Common Terms Agreement, which restricts the Lessee to sub lease, wet lease or otherwise give possession of aircraft to any other person except under certain conditions. The primary being prior return consent of lessor. Likewise, he referred to various other conditions in the Common Terms Agreement to substantiate that Lessor is the owner of the aircraft and not the lessee during the currency of lease period and at no point of time, the ownership in the aircraft is passed on to the lessee.

The ld. Counsel for the assessee further referred to the definition of ‘Financial Lease’ as defined under the Securitization and Reconstruction of Financial Assets and Enforcement Security Interest, Act (SARFAESI) 2002. He pointed that the definition of ‘Financial Lease’ is defined u/s. 2(ma) of the SARFAESI Act. He pointed that as per the said definition the lessor is under an obligation to transfer rights of ownership to the Lessee after the expiry of lease term or on payment of an agreed residual amount. He submitted that in the instant case at no point of time the ownership in the aircraft is transferred to the Lessee. In fact at the end of lease term either the lease agreement is further extended or the aircraft is returned back to the lessor. To further buttress his argument the ld. Counsel referred to the definition of financial lease as defined u/s. 2(ha) of the Act of the Recovery of Debts and Bankruptcy Act, 1993. He asserted that, even the said definition imposes a condition of transfer of ownership of leased assets at the expiry of lease term to the lessee.

The ld. Counsel finally placed reliance on the decision of Special Bench in the case of Inter Globe Aviation Ltd.(Indigo) vs. ACIT reported as 2021 TIOL 1607, ITAT-Del-SB. The ld. Counsel submitted that the issue for consideration before the Special Bench was whether the credit received by Indigo from Equipment Manufactures is a Capital or Revenue receipt. While examining this issue the Special Bench examined Lease Agreements. The Special Bench after considering the purchase assignment agreement executed between Indigo and Howth Aircrafts Leasing Ltd. came to the conclusion that the lease agreement is in the nature of operating lease and not financial lease.

Per contra, Ms. Prajna Paramita representing the department vehemently defended the impugned order. The ld. DR referred to Purchase Agreement Assignment between Indigo and the assessee dated 20.11.2020 at page 633 of the paper book. The ld. DR pointed that the recital of the said agreement would show that Indigo/assigner and Airbus have entered into the purchase agreement. Subsequently, the assigner i.e. Indigo with the consent of Airbus assigned rights to the assignee (the assessee) for purchase of aircraft. In fact, the real transaction is 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) the assessee had entered into an agreement with OEM i.e. Airbus for purchase of aircraft. Thereafter, an agreement was entered into between Indigo, and the assessee, as per said agreement the assessee would make payment for aircraft and thereafter would lease aircraft to Indigo. This circuitous transaction is in the nature of Financial Lease, where the aircraft is purchased by the Indigo and purchase consideration is paid by the assessee. The ld. DR submitted that the operating lease is a make believe arrangement, in fact the lease agreement and period of lease has characteristics of Financial Lease. She pointed that the aircraft was leased for substantial period of its Economic Life to Indigo with a further condition to extend the period of lease. She prayed for examining the transaction considering substance over form. The ld. DR in particular referred to findings of the AO in para 9 of the assessment order. Referring to the Aircraft Bill of sale, the ld. DR submitted that the title in the aircraft was subsequently transferred to the Lessor.

We have heard the submissions made by both sides in extenso, perused the orders of authorities below and have considered the documents and decisions referred to during the course of submissions by the rival sides. The assessee in appeal has primarily assailed the addition of Rs.74,37,77,694/- on account of interest income taxable at the rate of 10% holding lease rentals received by the assessee out of Financial Lease. Undisputedly, the assessee is tax resident of Ireland and is engaged in the business of Leasing of Aircrafts. During the period relevant to assessment year under appeal, the assessee leased out three aircrafts bearing MSN 10689, 9382 and 9561 to Indigo. The case of the assessee is that the lease entered into between the assessee and Indigo is operating lease. Hence, the lease rentals received by the assessee from said lessee are not exigible to tax in India. The AO has re-characterized the nature of lease agreement and has held 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) the lease to be finance lease and the lease rentals received by the assessee in the nature of interest taxable at the rate of 10% in accordance with Article 11 of India-Ireland DTAA.

To begin with, it would be relevant to refer to the Lease Agreement entered into between the assessee, the lessor and Indigo, the lessee. The assessee has placed on record Aircraft Specific Lease Agreement (in short 'ASLA) dated 15.04.2021 at page 162 to 209 of the paper book in respect of aircraft bearing MSN 10689. The assessee has also placed on record a copy of Aircrafts Lease Common Terms Agreement (CTA) dated 20.06.2006 entered into between GE Commercial Aviation Services Ltd. and Indigo. To understand the issue, both agreements have to be read together. Aircraft Specific Lease Agreement as the name suggests is in respect of a particular aircraft, whereas, the terms and conditions spelled out in Aircraft Lease Common Terms Agreement is the standard agreement which would be applicable to all the aircrafts taken on lease by Indigo. A perusal of ASLA would show that the assessee is the Lessor and Indigo is the Lessee. The duration of agreement is for a period of 120 months extendable at the option of Lessee to be conveyed in writing to the Lessor before the expiry of 18 months prior to the original scheduled expiry date. Clause 3 of ASLA specifically states that the owner of the aircraft shall be the ‘Lessor’. In the entire ASLA there is no covenant which refers to the condition that after the end of duration of lease term, the ownership in aircraft shall be transferred to the lessee or the lessee at any point of time can exercise option to purchase the aircraft. Clause 10 of ASLA requires the Lessee to pay deposit in cash or in the form of Letter of Credit prior to delivery of aircraft. The Lessor shall return such deposit to the Lessee upon occurrence of the events specified in ASLA which 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) includes, ‘on completion of the Return Occasion. “Return Occasion” is defined in Schedule-I of CTA as: “Return Occasion means the date on which the Aircraft is redelivered to Lessor in accordance with Clause 12”. Clause 12 of CTA reads as under: “12. RETURN OF AIRCRAFT 12.1 RETURN On the Expiry Date or redelivery of the Aircraft pursuant to Clause 13.2 or termination of the leasing of the Aircraft under the Lease, Lessee will, unless an Event of Loss has occurred, redeliver the Aircraft and the Aircraft Documents and Records at Lessee's expense to Lessor at the Redelivery Location, in accordance with the procedures and in compliance with the conditions set out in Schedule 6, free and clear of all Security Interests (other than Lessor Liens) and in a condition suitable for immediate operation under FAR Part 121 or as otherwise agreed by Lessor and Lessee and, in any case, qualifying for and having a valid and fully effective certificate of airworthiness issued by the Air Authority. If requested by Lessor, Lessee shall thereupon cause the Aircraft to be deregistered by the Air Authority Lessor shall reasonably cooperate (and shall procure that the Owner reasonably cooperates) with the Lessee in order to effect such deregistration.” The above clause makes it unambiguously clear that at the end of Lease period, Lessee is under obligation to return aircraft to the lessor. And on the return of aircraft the lessor shall refund the deposit.

From perusal of above terms and conditions it can be deduced that the ownership in the aircraft vest with the assessee/lessor at all the time during the period of lease. From conjoint reading of the terms and conditions of CTA and ASLA it emerges that there is no change in the ownership of the aircraft during the currency of lease agreement and at the end of agreement, the lessor 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) continues to be the owner and the Lessee shall pay lease rentals to the assessee/lessor during lease period.

Now to understand the difference between financial lease and operating lease, we need to refer to the definition of ‘Financial Lease’ under other Acts as the expression financial lease and operating lease are not defined under the Income Tax Act. Section 2(ma) of the SARFAESI Act, 2002 defines ‘financial lease’ as under:- “financial lease” means a lease under any lease agreement of tangible asset, other than negotiable instrument or negotiable document, for transfer of lessor's right therein to the lessee for a certain time in consideration of payment of agreed amount periodically and where the lessee becomes the owner of the such assets at the expiry of the term of lease or on payment of the agreed residual amount, as the case may be” The Recovery of Debts & Bankruptcy Act, 1993 defines financial lease as under:- ““financial lease" means a lease under a lease agreement of tangible asset, other than negotiable instrument or negotiable document, for transfer of lessor's right therein to the lessee for a certain time in consideration of payment of agreed amount periodically and where lessee becomes the owner of the such assets at the expiry of the term of lease or on payment of the agreed residual amount, as the case may be” From the aforesaid definitions a subtle trait of financial lease can be identified i.e. "At the end of the lease period, lessee becomes the owner of the leased asset."

In the instant case although the AO and the DRP have characterized the nature of lease as financial lease but both the authorities have ignored the fact 1477, 1478, 1493 & 1616/Del/2025 (AY 2022-23) that at no point of time, ownership in the asset i.e. aircraft is transferred to the lessee, which is the hallmark of financial lease.

The assessee has drawn our attention to RBI Circular No. 24 dated 01.03.2002 at page 234 of the paper book which deals with Import of Aircraft/Aircraft engine/Helicopter on lease basis. A perusal of RBI Circular No. 24 dated .01.02.2022 would show that there are separate conditions to be satisfied for acquiring aircraft on operating lease basis and under financial lease. For the sake of ready reference relevant excerpts from the said Circular are reproduced herein below:- “To All Authorized Dealers in Foreign Exchange Madam/Sirs, Import of Aircraft/Aircraft Engine/ Helicopter on lease basis Authorised dealers are aware that the Reserve Bank is considering applications from airline companies and air taxi operators for payment of the lease rentals for import of aircraft/aircraft engine/helicopter on lease basis, based on the approval issued by the Director General of Civil Aviation (DGCA), Government of India.

It has been decided that authorised dealers may allow remittance of payment of lease rentals, opening of letter of credit towards security deposit etc. in respect of import of aircraft/aircraft engine/helicopter on operating lease basis, after verifying documents to show that necessary approval from the appropriate authorities, like Ministry of Civil Aviation/Director General of Civil aviation, Government of India has been obtained. In this connection attention is also invited to paragraph 8 of Annexure I to A.D.(M.A. Series) Circular No.11 dated May 16, 2000.

It is clarified that financial lease transaction i.e. the lease transaction containing option to purchase the asset at the end of the lease period will continue to require prior approval from the Reserve Bank of India.”

Further, the ld. Counsel for the assessee has drawn our attention to the observations of the DRP in para 17.3 (ii) of the Directions, where the DRP has determined economic life of the Aircraft as 8 years. Referring to DGCA Circular issued in 1993 the DRP concluded that since lease of the aircraft covers substantial commercial life, therefore, the lease should be termed as financial lease. We find above observations of the DRP contrary to the facts on record and the DGCA Circular. The DGCA vide its communiqué dated 29.07.1996 (at pages 231 to 233 of the paper book) has prescribed economic life of an aircraft as 20 years or 60,000 landings/pressurization cycles. In the instant case the lease agreement has been entered between the parties for a period of 120 months i.e. for 10 years, in other cases the lease period is for lesser period i.e. 72 months as is in the case of MSN 9382 (at page no. 210 to 275 of the paper book) and for MSN 9561 (at pages 276 to 341 of the paper book). Substantial economic life of the aircraft is still left after the end of lease period. Therefore, observations of the DRP on Economic Life of the aircraft being utilized under lease agreement is without any basis, hence, the conclusion to re-characterize nature of lease agreement is erroneous.

While answering the aforesaid questions the Special Bench took note of the agreement between Indigo and Howth Aircraft Leasing Ltd., assignee and observed that Indigo is not the owner of Aircraft and the Revenue failed to demonstrate that the lease is in the nature of operating lease. The Special Bench further observed that the lower authorities have admitted the fact that ownership of the aircraft is with the lessor and depreciation on these aircraft is claimed by the lessor. The relevant extracts of findings of the Special Bench on this issue are reproduced herein below:-

Before the Special Bench in the case of Indigo, the Revenue had vehemently argued that the lease rentals paid by Indigo to the lessee are in the nature of interest, hence, the provisions of Article 11 of India-Ireland DTAA would operate. The Special Bench negating the arguments of the Revenue held that the lease rentals paid by Indigo are in the nature of rent and not interest as the Revenue has failed to demonstrate that the nature of lease is finance lease and not operating lease. Hence, the payments made by lessee are not in the nature of interest. Thus, in light of findings of the Special Bench, we hold that the provisions of Article 11 of India-Ireland DTAA would not operate in the present case.

In ground no. 2 of appeal, the assessee has assailed validity of assessment order. The ld. Counsel for the assessee made statement at Bar that he has not pressing ground no. 2 of appeal. Thus, in light of statement made by ld. Counsel for the assessee, ground no. 2 of appeal is dismissed as not pressed.

In ground no 6 of appeal, the assessee has assailed charging of interest u/s. 234B of the Act. The charging of interest under section 234B of the Act is consequenital, hence, ground no. 6 of appeal is dismissed.

In ground no. 6.1 of appeal, the assessee has assailed initiation of penalty proceedings u/s. 270A r.w.s. 274 of the Act. Challenge to penalty proceedings at this stage is premature, hence, ground no. 6.1 is dismissed as premature.

In the result, appeal of the assessee is partly allowed. 1477, 1493 & 1616/Del/2025 AY 2022-23 Both sides unanimously stated that the issues raised by the assessees in 28. these appeals germinate from identical set of facts and the grounds of appeal