VENA ENERGY PATAN POWER PRIVATE LIMITED,BANGALORE vs. DEPUTY COMMISSIONER OF INCOME TAX, CENTRAL CIRCLE- 2(2), BANGALORE

Per Padmavathy S., Accountant Member These are appeals by four different assessees against the final assessment order passed by the AO u/s. 143(3) r.w.s. 144C(13) of the

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Income-tax Act, 1961 [the Act] dated 17.02.2022 pertaining to assessment year 2017-18. All these appeals were heard together and disposed of by this common order for the sake of convenience and brevity.

The common issues that arise in all the appeals are with respect 2. to:-

(i) Transfer Pricing adjustment towards interest on issue of Non-Convertible Debentures (NCD) & Rupee Denominated Bonds ("RDBs") (ii) Disallowance of depreciation on capitalized salary cost brought forward from AY 2016-17 (iii) Disallowance of depreciation on capitalized pre-operative cost brought forward from AY 2016-17 (iv) Disallowance under section 40(a)(ia) - 30% of salary cost charged to P&L (v) Disallowance of depreciation on capitalized salary cost, travel cost & Other Cost

We will first take up IT(TP)A Nos.254/Bang/2022 for 3. adjudication. The brief facts pertaining to this assessee are that the assessee is a private limited company and is the wholly owned subsidiary of Energon Renewable Pte. Ltd (AE). The assessee is principally engaged in the business of generation and sale of power generated from renewable sources of energy. The assessee filed return of income on 30.11.2017 declaring a total income of Nil after setting of

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brought forward loss of Rs.3,16,64,653 under the regular provisions of the Act and negative book profit of Rs.20,11,07,559 u/s. 115JB of the Act. The case was selected for scrutiny under CASS. The assessee had international transactions with its AE and therefore a reference was made to the TPO. During the TP proceedings, the TPO made an adjustment of Rs.20,07,90,532 towards interest on Non-Convertible Debentures (NCD) issued to the AE. The AO passed the draft assessment order incorporating the TP adjustment and also made the following other additions:-

a. Disallowance of salary expenses & Service fees u/s. 40(a)(ia) of the Act – Rs.1,01,14,572. b. Disallowance of depreciation of capitalized salary cost & service fees – Rs.26,17,865. c. Disallowance of depreciation of capitalized Travel cost – Rs.2,36,705 d. Disallowance of depreciation of capitalized Other cost – Rs.68,25,634 e. Disallowance of depreciation on capitalized salary cost brought forward from AY 2016-17 – Rs.31,30,405 f. Disallowance of depreciation on capitalized pre-operative cost brought forward from AY 2016-17 – Rs.8,72,579 Against the draft assessment order, the assessee filed objections 4. before the DRP, which confirmed the TP adjustments. In pursuance of the directions of the DRP, the AO passed the final assessment order. Aggrieved, the assessee is in appeal before the Tribunal.

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TP adjustment towards interest on issue of NCD During the year under consideration the assessee made a 5. payment towards interest on NCD to its AE @ 14.70% amounting to Rs.54,85,28,406. The interest payment was made towards unsecured NCD that were subscribed by the AE redeemable at par after 25 years from the availability period as defined in the NCD Trust Deed. The NCD is having a face value of Rs.62,50,000 each, partly paid up and carried an interest @ 14.70% p.a. In the TP study, the assessee has chosen Comparable Uncontrollable Price [CUP] method as the most appropriate method (MAM) for determination of the arm’s length price [ALP]. Accordingly, the assessee applied certain filters to arrive at the comparable companies. The assessee selected a range of 10% (35th percentile) to 17.5% (65th percentile) as arm’s length range with the median of 16.53% and since the interest paid by the assessee to its AE is at 14.70%, the assessee concluded that the interest is at arm’s length.

The TPO rejected the comparables of the assessee stating that 6. the filters applied by the assessee are not appropriate and rejected the CUP taken by the assessee that MAM. The TPO applied fresh filters to choose difference comparables to arrive at the median coupon rate of 9.32%. Therefore, the TPO made an adjustment for the difference in interest rate [14.7 – 9.32 = 5.38%] and computed the TP adjustment towards excess interest payment amounting to Rs.20,07,90,532.

The assessee raised objections before the DRP with regard to the 7. filters applied by the TPO for choosing the comparables and also

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rejecting the internal CUP method and the regulatory rate. The DRP upheld the various filters applied by the TPO and the comparables thus arrived at by the TPO. With regard to the TPO rejecting the internal CUP and regulatory rate, the DRP held that the CUP method requires strict comparability in terms of products of services. In the instant case, the instrument involved is NCD, whereas the proposed comparable under CUP method is bank loan or loan from third party. The rate of interest charged in the case of debenture is decided by the borrower and the amount is required to be paid at maturity. The debenture is an instrument tradeable in the open market and is a hybrid instrument which could be treated as a debt as well as equity. On the other hand, loan is issued by the bank and periodic payment of principal and interest is required to be made. Hence, the internal CUP method was rejected and the DRP held that arm’s length interest rate of NCD is required to be computed in the manner prescribed u/s. 92C of the Act. The assessee took an alternate plea before the DRP stating that according to section 194LD(2) of the Act the maximum allowable rate of interest for a rupee denominated bond of an Indian company cannot exceed SBI base rate on the date of issue plus 500 basis points which works out in assessee’s case to 14.85% and therefore no TP adjustment is warranted. The DRP rejected this contention stating Section 194LD(2) of the Act does not provide any guidelines for determination of ALP interest rate in the case of NCD. Aggrieved, the assessee is in appeal before the Tribunal.

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Before us, the ld. AR submitted that coordinate bench of the 8. Tribunal in assessee’s own case has considered the same issue and has deleted the TP adjustment. The ld AR also submitted that the international transaction entered by the Assessee with respect to payment of interest on NCDs is governed by the same agreement for both, AY 2016-17 and AY 2017-18 and there are no changes in the nature of transaction. Accordingly, the ld.AR submitted that the subject issue is a fully covered issue, the adjustment for AY 2017-18 ought to be deleted. The ld DR supported the order of the lower authorities.

We have considered the rival submissions and perused the 9. material on record. We notice that the coordinate bench of the Tribunal in assessee’s own case (IT(TP)A Nos.195 to 198/Bang/2021 dated 07/07/2022) have considered the same issue and held that

(i) As per clause 2.1 of the Debenture Subscription Agreement dated 01/05/2015, the debentures issued are unlisted, unrated, unsecured and redeemable non-convertible and having the nominal value in INR (Page 356 of paper book). (ii) The Debenture Trust Deed dated 01/05/2015 contains the definition of ‘Interest Rate’ for the purpose of the agreement as annual coupon rate of SBI Base Rate + 500 bps , ‘SBI Base Rate’ as the base rate as advised by State Bank of India on its website as on the Effective Date and ‘Redemption Date’ means the date on the 25th anniversary of the date of expiry of the availability period. (Page 381 to page 383 of paper book),

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(iii) As per clause 5.7 of the Debenture Trust Deed all the payment to the debenture holder is to be done in INR (page 390 of paper book). 11. The summary of inference from the above is that the assessee has issued unsecured non-convertible debentures in INR to its AE that are redeemable after 25 years carrying interest rate of 14.70%. The assessee in the TP study has taken the comparables applying various filters including the transactions having duration equal to or greater than 15 years whereas we notice that this filter is not applied for the comparables selected by the TPO. One of contentions of the ld AR was that the longer the duration of the loan, the interest rate will be directly proportional to the same more so when the loan is unsecured. The TPO has did not consider this filter stating that the same is yielding few comparables (Page 12 of order u/s.92CA) and this reason is upheld by the DRP. In the given case the debentures are unsecured with a repayment period of 25 years and in our considered view duration of the debt / loan is a significant factor in the determination of interest rate given that the debentures are unsecured and the reason quoted by the TPO/DRP for not applying this filter is not right.

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interest is charged between 11.05% to 12.50%. This contention of the assessee has merits as the assessee has taken loan in the form of non- convertible unsecured debentures which has a higher risk factor as it is unsecured. Even applying the contention of the of the TPO that debenture has repayment on maturity and loan has periodical repayment justifies higher rate of interest charged for debenture in the commercial sense.

8.6.2 The Hon’ble Delhi High Court in the case of CIT v Cotton Naturals (I) Pvt. Ltd. (supra) had held that the interest rate should be the market determined interest rate applicable to the currency concerned in which the loan has to be repaid. The relevant finding of the Hon’ble High Court reads as follows:-

“39. The question whether the interest rate prevailing in India should be applied, for the lender was an Indian company/assessee, or the lending rate prevalent in the United States should be applied, for the borrower was a resident and an assessee of the said country, in our considered opinion, must be answered by adopting and applying a commonsensical and pragmatic reasoning. We have no hesitation in holding that the interest rate should be the market determined interest rate applicable to the currency concerned in which the loan has to be repaid. Interest rates should not be computed on the basis of interest payable on the currency or legal tender of the place or the country of residence of either party. Interest rates applicable to loans and deposits in the national currency of the borrower or the lender would vary and are dependent upon the fiscal policy of the Central bank, mandate of the Government and several other parameters. Interest rates payable on currency specific loans/ deposits are significantly universal and globally applicable. The currency in

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which the loan is to be repaid normally determines the rate of return on the money lent, i.e. the rate of interest. Klaus Vogel on Double Taxation Conventions (Third Edition) under Article 11 in paragraph 115 states as under:-

"The existing differences in the levels of interest rates do not depend on any place but rather on the currency concerned. The rate of interest on a US $ loan is the same in New York as in Frankfurt-at least within the framework of free capital markets (subject to the arbitrage). In regard to the question as to whether the level of interest rates in the lender's State or that in the borrower's is decisive, therefore, primarily depends on the currency agreed upon (BFH BSt.B 1. II 725 (1994), re 1 § AStG). A differentiation between debt claims or debts in national currency and those in foreign currency is normally no use, because, for instance, a US $ loan advanced by a US lender is to him a debt-claim in national currency whereas to a German borrower it is a foreign currency debt (the situation being different, however, when an agreement in a third currency is involved). Moreover, a difference in interest levels frequently reflects no more than different expectations in regard to rates of exchange, rates of inflation and other aspects. Hence, the choice of one particular currency can be just as reasonable as that of another, despite different levels of interest rates. An economic criterion for one party may be that it wants, if possible, to avoid exchange risks (for example, by matching the currency of the loan with that of the funds anticipated to be available for debt service), such as taking out a US $ loan if the proceeds in US $ are expected to become available (say from exports). If an exchange risk were to prove incapable of being avoided (say, by forward rate fixing), the appropriate course would be to attribute it to the economically more powerful party. But, exactly where there is no 'special relationship', this will frequently not be possible in dealings with such party. Consequently, it will normally not be possible to review and adjust the interest rate to the extent that such rate depends on the currency involved. Moreover, it is

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questionable whether such an adjustment could be based on Art. 11 (6). For Alt. 11 (6), at least its wording, allows the authorities to 'eliminate hypothetically' the special relationships only in regard to the level of interest rates and not in regard to other circumstances, such as the choice of currency. If such other circumstances were to be included in the review, there would be doubts as to where the line should be drawn, i.e., whether an examination should be allowed of the question of whether in the absence of a special relationship (i.e., financial power, strong position in the market, etc., of the foreign corporate group member) the borrowing company might not have completely refrained from making investment for which it borrowed the money.

8.6.3 In the instant case, admittedly, the CCDs are issued in INR, interest is paid in INR and CCD’s are repaid also in INR. Therefore, placing reliance on the judgment of the Hon’ble Delhi High Court in the case of CIT v. Cotton Naturals (I) Pvt. Ltd. (supra), we hold that the TP study of the assessee to justify the interest rate by arriving at

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average rupee cost and comparing the same with SBI prime lending rate is correct. It is ordered accordingly.

Name of Entity Date ITA No. Tenure Face Rate of Issue Coupon Adjustment of (in value interest size rate as (Amt in issue years) (in (Coupon (in per TP INR) INR rate) INR order lacs) cr.) 06/05 252/Bang/20 25 50.00 14.85% 500 9.32% 26,47,62,461 Vena Energy 2015 22 Fatanpur Power Private Limited Vena Energy MH 31/12 253/Bang/20 25 40.00 15.00% 260 10.24% 10,59,52,823 2014 22 Wind Power Private Limited Vena Energy Patan 24/12 255/Bang/20 25 50.00 14.85% 500 9.32% 6,66,68,445 Power Private Pvt Ltd 2013 22

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Corporate tax issues 17. The brief facts of the issue are that a search u/s. 132 of the Act was conducted in the premises of Vena Energy Power Resources Private Limited (“VEPRPL”) (earlier known as Energon Power Resources Private Limited), which is one of the group company of the assessee. During the course of search proceedings, a statement dated 21.08.2018 of Mr Subrahmanya Srinivas Sista (Country Head) was recorded according to which, certain capitalized expenses recorded in the books of accounts were allegedly stated to be not necessarily and completely demonstrated or attributable to the respective project SPVs (Q68 and Q69 of the statement). Based on the said statement, the AO issued a show cause notice requiring the assessee to show cause as to why the aforementioned sums should not be disallowed. In response, the assessee emphasised the fact that the statement of Mr. Subrahmanya Srinivas Sista recorded at the time of search proceedings stood retracted 14.9.2018 and that such expenses can be substantiated on the basis of available documentation. It also furnished documentation in support of its claim during the course of the said proceedings. However, the AO concluded that while the letter of withdrawal / retraction was filed on 14.9.2018, no such evidence in support of the expense claims or in support of the retraction was furnished until the time of submission under the subject assessment proceedings (i.e.04.12.2019). Therefore, the AO held the retraction to not to be a valid retraction per se.

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Disallowance/additions towards salary cost & Service fees u/s.40(a)(ia) and depreciation 21. During the year under consideration the assessee has paid a total of Rs.5,31,61,917 towards salary cost to VEPRPL as a reimbursement and service fees to Vena Energy Infrastructure Services Private Limited ("Vena Infra"). Out of this a sum of Rs.1,94,46,675 was capitalized and the balance of Rs.3,37,15,242 was debited to the P&L account. In addition to

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the submissions made with regard to the retraction of statement made by Mr.Subramanya, the assessee on merits submitted that these payments include salary payments that are cost to cost reimbursements to the sister concerns who deploy the manpower to render services for the assessee and also for the service fees paid to Vena Infra TDS is done u/s.194J. With regard to service fees paid to Vena Infra the assessee submitted that TDS was done u/s.194J at 10% up to 04/10/2016 and after that TDS was done at 5% on the basis of lower withholding of tax certificate submitted by Vena Infra u/s.197.

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by the assessee to VEPRPL. We notice that the Karnataka High Court in the case of Kalyani Steels Ltd [2018] 91 taxmann.com 359 (Karnataka) has held that there cannot be a TDS on the reimbursement since there was no ‘income’ element. The salary cost which is paid by VEPRPL to the employees has already been tax deducted and therefore the amount reimbursed by the assessee is only on a cost to cost basis cannot be subject to TDS under 194C / 194J. In view of the above discussion we hold that the salary cost paid by the assessee to VEPRPL cannot be disallowed u/s.40(a)(ia). 25. The coordinate bench of the Tribunal is assessee’s own case has relied on the decision of the Hon’ble Karnataka High Court in the case of Kalyani Steels Ltd (supra) to hold that there cannot be a TDS on the reimbursement since there was no ‘income’ element and that the amount reimbursed by the assessee is only on a cost to cost basis cannot be subject to TDS. Respectfully following the decision of the decision of the Hon’ble Tribunal we hold that no disallowance towards depreciation on capitalized salary cost and disallowance u/s.40(a)(ia) towards salary cost debited to the P&L is warranted.

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lower deduction of tax issued u/s.197 have also been not factually verified. In view of this we remit the issue relating to the service fee disallowance u/s.40(a)(i) and the depreciation disallowance done towards capitalized service fees to the AO with the direction to verify the facts and allow the claim in accordance with law after allowing reasonable opportunity of being heard to the assessee. The assessee is directed to submit the necessary evidences substantiating the claim before the AO and cooperate with the proceedings. It is ordered accordingly.

Disallowance of depreciation on Travel cost & Other Cost 28. The assessee had incurred a sum of Rs.15,78,033 towards travel cost and Rs.455,04,226 towards other cost and these expenses have been capitalized. The AO disallowed the depreciation of the capitalized amount @ 15% and arrived at a disallowance of Rs.2,36,705 for travel cost and Rs.68,25,634 for other cost. The DRP doubted the genuineness of the said expense based on the statement of Mr. Subramanya Srinivas.

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Disallowance of depreciation on capitalized salary cost & pre- operative cost brought forward from AY 2016-17

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Total disallowance made Total disallowance made by Sl Particulars by Assessing Officer in the Assessing Officer in the Final No Final Assessment Order Assessment Order

Vena Energy Fatanpur Vena Energy Patan Power Power Private Limited Private Limited Disallowance on 1 capitalized salary 64,90,293 17,87,792 cost brought forward Disallowance on capitalized pre- 2,68,948 2 2,04,600 operative cost brought forward

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and the TP adjustment made in this regard is deleted. This issue is allowed in favour of the assessee.

Pronounced in the open court on this 26th day of July, 2022..

Sd/- Sd/- ( GEORGE GEORGE K. ) ( PADMAVATHY S. ) JUDICIAL MEMBER ACCOUNTANT MEMBER

Bangalore, Dated, the 26th July 2022.

/Desai S Murthy /

Copy to:

By order

Assistant Registrar ITAT, Bangalore.