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PER PAWAN SINGH, JUDICIAL MEMBER; 1. These cross appeal are directed against the order of ld. Commissioner of Income-Tax (Appeals)-15, Mumbai [the ld. CIT(A)] dated 30.01.2012, which arises from the assessment order passed under section 143(3) on & 2286 Mum 2012-M/s. Mercator Ltd. 31.01.2011. The revenue in its appeal has raised the following grounds of appeal:
(1) "Whether on the facts, circumstances and in the law, the Ld, CIT(A) was justified in restricting the addition/adjustment to 0.25% from 0.50% on account 07 upfront fees and 'deleting the addition/adjustment made on account of administrative chargers made by the TPO/A.O without appreciating the facts that the terms and conditions/securities offered by the SBI, were not known and further adopting the fees, charged by DBS Bank as ALP without examining the terms St' conditions of the loan granted by DBS Bank or the security offered to the DBS Bank?" The appellant prays that the-order of the Ld. (CIT(A) be set aside and the order of the A.O be restored.
The assessee in its cross appeal has raised the following grounds of appeal ( revised grounds of appeal dated 31.05.2013 filed on 25.06.2013):
Transfer pricing 1. The learned CIT(A) has erred in upholding transfer pricing adjustment of Rs 7,03,48,212 to the income of the Appellant. A) Interest on loans/quasi equity given by the Appellant to its AEs On the facts and circumstances of the case, the learned CIT(A) has: 2. erred in confirming the rejection of the economic analysis undertaken by the Appellant in its transfer pricing study report to benchmark the aforesaid transaction. 3. erred in upholding the rejection of Transactional Net Margin Method as the most appropriate method to justify the arm's length nature of the aforesaid transaction and applying Comparable Uncontrolled Price ('CUP') as the most appropriate method. 4. erred in confirming the action of the AO that interest of Rs 47,55,918 should have been charged by the Appellant from its Associated Enterprise CAE') - Mercator Offshore Limited ('MOL') as against NIL charged by the Appellant from MOL. 5. erred in confirming the action of the AO that interest of Rs 18,37,94,251 should have been charged by the Appellant from its AE - Mercator Lines 2 & 2286 Mum 2012-M/s. Mercator Ltd.
Singapore Pte Limited ('MLS') as against Rs 13,68,29,245 charged by the Appellant from MLS. 6. erred in confirming the action of the AO that interest of Rs 1,03,93,334 should have been charged by the Appellant from its AE - MLS as against NIL charged by the Appellant from MLS. 7. erred in enhancing the action of the AO that interest of Rs 3,39,117 should have been charged by the Appellant from its AE - Mercator International Pte Limited ('MIL') as against NIL charged by the Appellant from MIL. 8. erred in considering the all in cost ceiling External Commercial Borrowings CECB') rates issued by Reserve Bank of India CRBI') as CUP for the purpose of benchmarking the transaction.
Without prejudice to the above, has erred in not considering that no cost was incurred by the Appellant and hence this should have been considered as internal CUP and thereby no adjustment is required under transfer pricing.
10. Without prejudice to the above, has erred in not considering NIL rate of interest on FCCB - zero cupon bonds issued by MLS as appropriate rate for the purpose of making the adjustment.
11. Without prejudice to the above, has erred in not considering the rate of interest of 2.5 percent on convertible bonds issued by MLS as appropriate rate for the purpose of making the adjustment.
12. Without prejudice to the above, has erred in not considering the average rate of interest i.e 2.91 percent paid by MLS to third parties as appropriate rate for the purpose of making the adjustment.
13. Without prejudice to the above, has erred in not providing the benefit of the variation of 5 percent from the arithmetic mean as provided in the Proviso to Section 92C(2) of the Act, while making the adjustment to the value of international transactions of the Appellant. 8) Upfront fees and administrative charges on loans given by the Appellant to its AEs B) On the facts and circumstances of the case, the learned CIT(A) has: 14. erred in upholding adjustment of Rs 78,94,837 on account of upfront fees and administrative charges on loans granted by the Appellant to its AEs.
& 2286 Mum 2012-M/s. Mercator Ltd.
Without prejudice to the above, erred in carrying on adjustment of 0.25 percent despite considering all-in-cost ceiling ECB rates issued by RBI as CUP for the purpose of benchmarking interest on loans. The above revised and modified grounds of appeal
are without prejudice and are alternative to each other.
3. The assessee vide application dated 11.05.2013 (filed on 26/05/2013) has raised the following additional ground of appeal:
16. Failed to appreciate that the transfer pricing regulations does not apply to the extent of operations carried out through operating qualifying ships, being company registered under the Tonnage Tax Scheme (TTS) provided under the Act and income is computed as per the said scheme. 4. Brief facts of the case are that the assessee is a company engaged in the business of shipping and cargo handling services. The assessee-company filed its return of income for Assessment Year 2007-08 on 29.10.2007 declaring total income at Rs. 13,62,32,257/-. Along with the return of income, the assessee furnished report under Form 3CEB and reported international transaction with its Associates Enterprises (AEs) in the following manner:
S.No. Nature of Transactions FY 2006-07 Method FY 2005-06 adopted by the assessee 1 Providing vessels on voyage 22,25,55,236 TNMM 7,90,22,750 charter basis to AE (fees received from AEs). 2 Availing vessels on voyage 45,48,88,369 TNMM 20,22,26,410 charter basis from AE (fees paid to AEs) 3 Providing loans to AEs (paid 76,21,08,121 CUP/TNMM 273,36,75,000 to AEs) 4 Receipt of interest from AEs 13,68,29,245 CUP/TNMM 14,70,27,397 4 & 2286 Mum 2012-M/s. Mercator Ltd.
5 Reimbursement of expenses 4,51,40,408 Actual 5,95,31,499 (received from AEs) Total 162,15,21,379 322,14,83,056
Consequent upon reporting international transaction, the Assessing Officer made reference to the Transfer Pricing Officer (TPO) for determining the Arms Length Price (ALP) with regard to international transaction with its AEs about the loan granted to its AE in Singapore. The assessee granted the said loan to its AE for purchase of vessel. The assessee adopted a Transaction Net Margin Method (TNMM) as most appropriate method.
During the Transfer Pricing assessment, the TPO asked the assessee as to why no interest has been charged on the loan provided to AE. The assessee submitted that the AE suffered losses and its commercial operation had not started, thus, the AEs were not in a position to pay the interest. The assessee has set up AE in Singapore to expand its business operation abroad and sustaining its overseas subsidiaries and managed financial difficulties and have achieved the said purpose, the assessee has provided loan. The assessee also contended that the activity is a shareholder activity and not charging of interest was justified. The loan is provided from assessee is internal accrual and no cost is incurred in providing the said fund. The contention of assessee was not accepted by the TPO. The TPO held that the assessee has not proved that the internal accrual was used to provide the loan. The alternative plea of assessee about the loan availed by AE in Singapore from independent third party should be considered as an internal 5 & 2286 Mum 2012-M/s. Mercator Ltd. CUP for the purpose of benchmarking was also disregarded by TPO. The TPO made the adjustment of Rs. 7.29 crore on account of interest on loan by assessee by adopting 7.35% rate of interest being SBI Prime Lending rate. The TPO also noted that the assessee has not charged upfront fee and administrative charges on loan given to AE. The assessee in its reply stated that the upfront fees and administrative charge are charged by the Bank to cover certain cost incurred to provide the loan viz. fees paid for professional valuer for obtaining valuation certificate, fees paid for export for review of financial statement, fees paid for rating agencies for obtaining credit rating or for documentation etc. It was further stated that a lot of function are performed/efforts are put in by bankers for providing loan and hence upfront fees and administrative charges are charged by them. The assessee has not carried out any function performed by Bank and earned upfront fees and administrative charges are not charged. The assessee in alternative contention submitted that in case of adjustment and upfront fees is made; the same should be restricted to .25% of the loan amount, being the rate at which the DBS Bank charged upfront fees from assessee. The contention of assessee was not accepted by TPO. The TPO held that in assessee’s case, the SBI charged upfront fees of .75% on loan amount and DBS Bank had charged fees .25%, thereby the TPO considered .50% as upfront fees on the said amount thereby the TPO worked out the upfront fees and administrative charges at Rs. 4.32 crore in its order dated 27.10.2010. The TPO passed the 6 ITA No. 2190 & 2286 Mum 2012-M/s. Mercator Ltd. rectification order and reduced the upfront fees and administrative charges to Rs. 3.15 crore vide its order dated 09.12.2010. On service of draft assessment order, the assessee filed its response and contended that the assessee would exercise its option to file appeal before CIT(A) and requested to pass final assessment order. Accordingly, the assessing officer passed final assessment order dated 31.01.2011 under section 143(3) rws 144C(13).
On appeal before the ld. CIT(A), the assessee was granted partial relief to the assessee by directing the Assessing Officer to compute the ALP on interest on loan granted by assessee to its AE by adopting the rate prescribed by RBI for External Commercial Borrowing (ECB) i.e. six month libor + 200 basic point for loan with average maturity period and six month libor +300 basic point for loan with average maturity purpose more than five years. The ld. CIT(A) further restricted the upfront fees to .25% and the administrative charges on loan to AE was deleted.
Thus, further aggrieved both the parties have filed their respective appeal by raising the grounds of appeal
as narrated above. The Revenue has challenged the order of ld CIT(A) in restricting the rate of upfront fee @ 0.25% of loan amount and in deleting the addition of administrative charges. Similarly the assessee has files its appeal against the order of ld CIT(A) in by adopting the rate prescribed by RBI for External Commercial Borrowing (ECB) i.e. six month libor + 200 basic point for loan with 7 & 2286 Mum 2012-M/s. Mercator Ltd. average maturity period and six month libor +300 basic point for loan with average maturity purpose more than five years.
8. We have heard the submission of ld. Authorized Representative (AR) of the assessee and ld. Departmental Representative (DR) for the revenue and perused the material available on record. No submissions were made with regard to Ground No.16 (additional ground), thus, additional ground of appeal was treated as not pressed and resultantly dismissed.
9. Ground No. 2 to 13 relates to adjustment on account of interest on loan/quasi equity by assessee. The ld. AR of the assessee submits that during the relevant period, the assessee granted interest bearing and interest free loans to its AE for the purpose of vessel, purchase of rig and enabling the assessee to raised funds through IPO. The details of loan were provided to the lower authorities. The assessee adopted TNMM method as most appropriate method and compared the operating margin on operating income earned by assessee with that of comparable companies and justified internal transaction for granting interest free loan. The TPO made the adjustment of Rs. 7.29 crore on account of interest by adopting 7.75% to SBI Prime Lending rate. Before the ld. CIT(A), the assessee stated that internal CUP is available. The ld. CIT(A) upheld the order of TPO and also observed that granting of loan to AE cannot be considered as shareholder activities and that no documentary evidence has been furnished by assessee and held that no part of those loan have been converted into equity at all. 8 ITA No. 2190 & 2286 Mum 2012-M/s. Mercator Ltd.
However, the ld. CIT(A) granted part relief to the assessee by directing the Assessing Officer to compute the ALP on interest on loan granted by assessee to its AE by adopting the rate prescribed by RBI for External Commercial Borrowing (ECB) i.e. six month libor + 200 basic point for loan with average maturity period and six month libor +300 basic point for loan with average maturity purpose more than five years. The ld. AR of the assessee submits that the ld. CIT(A) erroneously used ECB rate as per the RBI Circular. RBI Circular is applicable to the ECB and trade credit availed by residents, whereas the assessee has provided loan to its non-resident AE and thus, the RBI Circular relied by ld. CIT(A) is not applicable.
In support of his submissions the ld AR for the assessee relied on the decision of Bombay High Court in CIT Vs Tata Autocomp System Ltd 374 ITR 516 (Bom), wherein it was held that the arm’s length rate of interest in the case of loans advanced to the AEs would be determined on the basis of rate of interest charged in the countries where loan is received/consumed.
In other alternative submission, the ld. AR of the assessee submits that the interest rate of an uncontrolled transaction (internal CUP) is available for the purpose of benchmarking of international transaction, provision of interest free loans. The ld. AR of the assessee submits that the bench may consider to adopt internal CUP rate available ( i.e. @6.22% ) for the purpose of benchmarking of the transaction of provision of interest free loans to AEs ,the details of which is available at page No. 384/385 of the paper book(PB). 9 & 2286 Mum 2012-M/s. Mercator Ltd.
On the other hand the ld DR for the revenue supported the order of ld CIT(A).
We have considered the submissions of the parties and have gone through the orders of the lower authorities. During the transfer pricing adjustment the TPO indentified the following transaction for determination of ALP;
Sr Name of AE Purpose of loan Amount of loan Rate of period No. (Rs.) interest 1 Mercator Purchase of Rig 11,58,73,522/- Nill 21.06.2006 to offshore Ltd, 31.03. 2007 Singapore 2 (a)Mercator Enabling raising funds 122,71,30,741/- 7.75% 01.04.2006 to Lines Singapore through IPO 31.03.2007 Pte Ltd 116,86,95,944/- 7.75% 01.04.2006 to 30.09.2006 01.10.2006 to 116,86,95,944/- Nill 31.03.2007 (b)Mercator Purchase of vessel 61,88,70,000/- Nill 06.01.2007 to Lines Singapore 31.03.2007 Pte Ltd Singapore 3 Mercator Downstream 2,73,64,599/- Nill 07.02.2007 to International Ltd investment 31.03.2007 Singapore
During the Transfer Pricing assessment, the TPO asked the assessee for justification as to why no interest is charged on the loans provided to AE.
The assessee filed its detailed reply and contended that the AE suffered losses and its commercial operation had not started, thus, the AEs were not in a position to pay the interest. The assessee has set up AE in Singapore to expand its business operation abroad and sustaining its overseas subsidiaries and managed financial difficulties and have achieved the said purpose, the & 2286 Mum 2012-M/s. Mercator Ltd. assessee has provided loan. It was also contended that the activity is a shareholder activity and not charging of interest was justified. The loan is provided from assessee is internal accrual and no cost is incurred in providing the said fund. The explanation furnished by the assessee was not accepted by the TPO. The TPO concluded that the assessee has not proved that the internal accrual was used to provide the loan. The alternative plea of assessee about the loan availed by AE in Singapore from independent third party should be considered as an internal CUP for the purpose of benchmarking was also disregarded by TPO. The TPO made the adjustment of Rs. 7.29 crore on account of interest on loan by assessee by adopting 7.35% rate of interest being SBI Prime Lending rate.
15. Before ld. CIT (A) the assessee again filed detailed submissions as submitted before us. The ld CIT (A) after considering the contention of the assessee directed the Assessing Officer to compute the ALP on interest on loan granted by assessee to its AE by adopting the rate prescribed by RBI for External Commercial Borrowing (ECB) i.e. six month libor + 200 basic point for loan with average maturity period and six month libor +300 basic point for loan with average maturity purpose more than five years.
Before us the ld. AR for the assessee vehemently submitted that ECB rate as
per the Reserve Bank of India (RBI) Circular is applicable to the ECB and trade credit availed by residents, whereas the assessee has provided loan to its non-resident AE and thus, the RBI Circular relied by ld. CIT(A) is not 11 & 2286 Mum 2012-M/s. Mercator Ltd. applicable. We find convincing force in the submissions of the ld. AR for the assessee. We are conscious of the fact that the arm’s length rate of interest in the case of loans advanced to the AE’s is to be determined on the basis of rate of interest charged in the countries where loan is received/ consumed. The ld AR for the assessee in alternative submissions also submitted that internal CUP is available, for the purpose of benchmarking of transaction of interest free loan as the AEs also availed loan from DBS Bank Singapore and the documents evidencing the interest rate at 6.22% charged by DBS Bank is filed on record vide page No. 384/385 of PB. Considering the submissions of the ld. AR for the assessee, we direct the AO/TPO to consider internal CUP of 6.22% for the purpose of benchmarking of international transaction of provision of interest free loans and recompute the arm’s length price afresh. Needless to direct that before making fresh calculation/ computation the AO/TPO shall grant opportunity of hearing to the assessee.
In the result these grounds of appeal
are allowed for statistical purpose.
18. Ground No. 14 & 15 and the Ground of appeal raised by the revenue are interconnected, thus, taken together for discussions and adjudication. The ld AR for the assessee submits that an adjustment of Rs. 3,15,79,348/- on account of upfront fee cost and administrative expenses on loan given to foreign AEs was made by TPO, however, on appeal the ld CIT(A) directed the TPO/AO to workout adjustment by taking consolidated rate of 0.25% of 12 ITA No. 2190 & 2286 Mum 2012-M/s. Mercator Ltd. upfront fee for loan granted by assessee and deleted the addition of administrative charges. The ld AR for the assessee further submits that generally upfront fees and administrative charges are generally charged by the banks to recover certain costs incurred in providing loans, viz fees paid to professional valuer for obtaining valuation certificate, fees paid to experts for review of financial statements, fees paid to rating agencies for obtaining credit rating of the borrower, fees paid to professional for vetting the documents submitted by the borrower, the commission paid to agents/ financial intermediaries if any, expenses incurred for managing the loans account, they work monthly stock statements, dated statements and interim financial statements etc. Further, banks also prepare/vet the financial projections of the borrower, carry out due allegiance and prepare a report on the financial viability before providing loans. The assessee is not in the business of financing. The assessee has not incurred any expenses while granting loan to its associated enterprises. The learned CIT(A) himself agreed that the charging of upfront fees or administrative fee by assessee akin to the banks would not be appropriate. The finding of learned CIT(A) are contradictory in its own. The learned AR of the assessee further submits that providing of loan by assessee to its AEs is not akin to providing of loan by banks calling for any loan processing fees. The learned AR prayed for deleting the entire additions. & 2286 Mum 2012-M/s. Mercator Ltd.
19. On the other hand the ld. DR for the revenue supported the order of TPO/ AO. The ld DR would submits that the ld CIT(A) granted relief to the assessee by directing the assessing officer to adopt .25% of upfront fee on adhoc basis. The ld DR prayed to restore the order of TPO/AO and to set aside the order of ld CIT(A).
We have considered the rival submissions of the parties and have gone through the orders of the lower authorities. During the Transfer Pricing adjustment proceedings, TPO took his view that the assessee has not charged upfront fee and administrative charges on loan given to AE. Show cause notice was issue to the assessee. The assessee filed its reply and stated that the upfront fees and administrative charge are charged by the Bank to cover certain cost incurred to provide the loan viz. fees paid for professional valuer for obtaining valuation certificate, fees paid for export for review of financial statement, fees paid for rating agencies for obtaining credit rating or for documentation etc. It was further stated that a lot of function are performed/efforts are put in by bankers for providing loan and hence upfront fees and administrative charges are charged by them. The assessee has not carried out any function performed by Bank and earned upfront fees and administrative charges are not charged. The assessee in alternative contention submitted that in case of adjustment and upfront fees is made; the same should be restricted to .25% of the loan amount, being the rate at which the DBS Bank charged upfront fees from assessee. The contention of 14 & 2286 Mum 2012-M/s. Mercator Ltd. assessee was not accepted by TPO. The TPO held that in assessee’s case, the SBI charged upfront fees of .75% on loan amount and DBS Bank had charged fees .25%, thereby the TPO considered .50% as upfront fees on the said amount thereby the TPO worked out the upfront fees and administrative charges at Rs. 4.32 crore in its order dated 27.10.2010. The TPO passed the rectification order and reduced the upfront fees and administrative charges to Rs. 3.15 crore vide its order dated 09.12.2010. Before learned CIT(A) the assessee made similar submission as made before TPO/AO as well as before this bench. The learned CIT(A) after considering the submission of assessee restricted the upfront fees to .25% of the loan amount and the administrative charges on loan to AE was deleted. 21. In our view while benchmarking international transaction, an element of income, expenses, or in apportionment of any contribution to any cost, must be embedded in it. In case of lending or borrowing of money, the determination of arm and spice is made on the basis of income, expenses, interest, allocation or apportionment or any contribution to any cost element is rooted in the transaction which may have bearing on the profit or loss of the assessee. In our humble view, in case of capital financing the usual element is the interest earned or incurred. We have noted that the case of assessee throughout the proceeding is that the loans were provided from assessee’s own fund and that no expenses were incurred. The TPO has not brought on record that while granting loan the assessee to its assessee has 15 & 2286 Mum 2012-M/s. Mercator Ltd. incurred, recovered or earned any expenses on account of upfront fees or administrative charges. Considering the aforesaid factual discussion, we direct the AP/TPO to delete the entire upfront fees and administrative charges. In the result the ground No. 13 & 14 of appeal of assessee are allowed. Resultantly the grounds of appeal
raised by revenue are dismissed.
22. In the result, appeal of the assessee is partly allowed and the appeal of the revenue is dismissed.
Order pronounced on 16/06/2020 as per Rule 34(5) of ITAT
Rules, 1963.