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Before: Shri Amit Shukla & Shri L.P. Sahu
ORDER Per L.P. Sahu, A.M.: This is an appeal filed by the assessee against the order passed by the A.O. dated 31.12.2016 u/s. 143(3)/144C/92CA(4) of the Income-tax Act, 1961 on the following grounds :
Transfer Pricing (‘TP’) Matter That on the facts and circumstances of the case, and in law; 1. The Assessment Order passed by the Learned Assessing Officer (‘Ld. AO’) in pursuance of the directions issued by the Hon’ble Dispute Resolution Panel (‘DRP’) is a vitiated order as the Hon’ble DRP erred in confirming the arbitrary transfer pricing adjustment made by the Ld. AO/Learned Transfer Pricing Officer (‘Ld. TPO’) to the international transaction pertaining to payment of interest on Fully and Compulsory Convertible Debentures (‘FCCDs’) by Appellant to its Associated Enterprise (‘AE’).
2. The Hon’ble DRP erred in confirming the addition to income of the Appellant to the extent of INR 34,800,183 by holding that the Appellant’s international transaction pertaining to payment of interest of FCCDs does not satisfy the arm’s length principle envisaged under the Act. In doing so, the Hon’ble DRP has grossly erred in confirming the Ld. AO/Ld. TPO’s action of: 2.1. not appreciating that none of the conditions set out in section 92C(3) of the Act are satisfied in the present case; 2.2. not providing reasonable opportunity of being heard to Appellant to contest the erroneous approach for determination of arm’s length interest of the international transaction of payment of interest on FCCDs, in contravention to the principle of natural justice; 2.3. rejecting, without reason, the quantitative and qualitative screens/filters applied and set of comparables arrived at by the Appellant, following a detailed and robust search methodology carried out in the Transfer Pricing ('TP') documentation (also referred to as ‘TP Study’ or ‘TP Report’) maintained by it in terms of section 92D of the Act read with Rule 10D of the Income-tax Rules, 1962 (‘Rules’);, and proceeding to arrive at the fresh comparables set by applying certain arbitrarily selected filters and arriving at his own comparables set instead; 2.4. benchmarking the interest rate paid by the Appellant on FCCDs issued to its AE using the fresh search, by applying insufficient filters and ignoring critical factors necessary to determine arm’s length rate of interest; 3. Without prejudice to the other grounds, the Ld. TPO/ Ld. AO erred in ignoring spread while calculating arm’s length rate of interest on FCCDs.
4. Without prejudice to the other grounds, the Appellant should be allowed to consider spread mentioned in the safe harbour rules to determine arm’s length rate of interest.
The brief facts of the case are that the assessee filed return of income on 28.11.2012 declaring income of Rs.54,73,95,930/-. The case was selected for scrutiny and statutory notices were issued. During the year, the assessee was engaged in business of promoting the development and construction of housing projects. Red Fort Shahjahan is a subsidiary of Red Fort India Real Estate I Shahjahan, Mauritius. It was noticed by the AO that the assessee had entered into international transactions. Therefore, the matter was referred to the TPO. The TPO noticed that the assessee had undertaken international transactions relating to interest paid on loan (FCCDs) which it has entered as under :
Sl. No. Nature of transaction Method used by Amount in INR assessee 1. Interest on fully and CUP 9,75,08,116 compulsory convertible debentures(FCCDs) paid to Ti-Themba Investment Ltd. The ld. TPO further noticed that the assessee had taken loan from its Associate enterprises by issuing of FCCDs and the total loans taken by the assessee in the following three years are as under : Particulrs Terms & Conditions Year of FY 2007-08 FY 2009-10 FY 2010-11 issue Issuer Red Fort Shahjahan Red Fort Red Fort India Ltd. Shahjahan India Shahjahan Ltd. India Ltd. Subscriber Ti-Themba Cyprus Ti-Themba Ti-Themba Cyprus Cyprus No. of 6,22,100 10,771 15,407 FCCDs Issued Face value INR 1000 INR 1000 INR 1000 per FCCD Issue price INR 1000 INR 1000 INR 1000 Total value INR 62,21,00,000 INR 1,07,71,000 INR of FCCDs 1,54,07,000 Interest 15% 15% 15% rate From the above table the TPO noticed that the assessee had paid interest @ 15% on the loan taken as noted above. Therefore, the TPO calculated Arm’s length price of the interest paid and keeping in view the prevailing market rate of interest and selecting some comparables, made adjustment as under : Particular FY 2007-08 FY 2009-10 FY 2010-11 Bonds Issued (Numbers) 650 880 1000 9.65 % 8.99 % 9-35% Average Rate of interest Based on these interest rates the TPO made adjustment as under:
S. Amount Assessee’s Arm’s length Difference Adjustment rate of interest F.Y No Invested Rate of in determined by Amount Ld. TPO INR interest Percentage A B C D= B-C E = D*A 1 2007-08 62,21,00,000 15% 9.65 % 5-35% 3,32,82,350 2 2009-10 1,07,71,000 15% 8.99% 6.01% 6,47,337 3 2010-11 1,54,07,000 15% 9-35% 5.65% 8,70,496 Total 3,48,00,183
The AO further noticed that the assessee had paid legal and professional charges. The AO asked the assessee to furnish the details of such expenses incurred for more than Rs.10.00 lacs with supporting evidence. In response, the assessee submitted details of such payments made to following four parties as under: Sl. Name of party Amount (INR) Taxes Supporting documents No. withheld 1 R.S. Gill 17,50,000 1,75,000 Copy of bills and withholding tax certificate. 2 S. Sathiavageeswaran 20,33,336 2,03,336 Copy of agreement and withholding tax certificate. 3 Vishal Behl 79,41,600 7,94,160 Copy of agreement and withholding tax certificate. 4 Arjun Dev Huria 52,49,393 5,24,997 Copy of agreement and withholding tax certificate.
Since the assessee could not furnish the bills/invoices of aforesaid parties except R.S. Gill, the AO disallowed the expenses in respect of remaining three parties amounting to Rs.1,52,24,329/-. The AO, accordingly, passed draft order on 21.03.2016 by making adjustment of Rs. 3,48,00,183/- on international transactions and made disallowance of expenses of Rs.1,52,24,329/- as noted above. The assessee filed objections before the DRP on 21.04.2016. The ld. DRP after considering the objections of the assessee, upheld the adjustment made on international transactions amounting to Rs.3,48,00,183/- . In respect of professional and legal charges, the assessee also filed the invoices of all the parties as additional evidence. Same were forwarded to the AO. The AO tried to verify the payments received by three parties from their ITRs and found them non-verifiable. The summons issued to them also stood un-responded and the assessee also failed to produce the parties in the remand proceedings. Accordingly, the AO doubted the payments made by the assessee to those parties. Keeping all these facts in view and considering the additional evidence including affidavits of the parties submitted before it, the ld. DRP enhanced the disallowance of payments made to all the four parties amounting to Rs.1,69,74,329/-. Accordingly, the AO passed final order dated 31.12.2016. Aggrieved, the assessee is in appeal before the Tribunal.
The learned AR of the assessee, relying on the submissions made before the lower authorities, submitted at the outset that the learned Authorities below were not justified in making adjustment on the rate of interest paid on FCCDs at 15%. In support, the ld. AR has filed before us, additional evidences in the form of new comparables. The contentions made by the ld. AR can be seen from the following application for admission of additional evidence :
“1. We, under the instructions and on behalf of the Appellant would like to submit that, the Appellant had filed an appeal against the final assessment order dated December 31,2016 passed by the ACIT u/s 143(3)/ 144C/92CA(4) of the Income Tax Act, 1961 (‘the Act’)- The final assessment order was passed pursuant to the directions issued by the Hon’ble Dispute Resolution Panel (‘DRP’) on December 06, 2016 u/s 1440(5) of the Act.
2. With respect to the captioned appeal, the Appellant by way of this application is seeking leave of Hon’ble Members of the Bench to raise the following additional evidence: In respect of the admission of additional evidence, the Appellant would like to submit that the Ld. Transfer Pricing Officer (‘Ld. TPO’) in his order has grossly erred in selecting bonds/debentures issued during the relevant years, without applying appropriate and sufficient screening filters. Therefore, the Appellant would like to submit an additional search before the Hon’ble Bench Members as a rebuttal to the search conducted by the Ld. TPO and upheld by the Hon’ble DRP. The Hon’ble Bench Members would appreciate that this evidence would play a significant role in determining the correct outcome of the matter. We hereby pray for admission of additional evidence as per Rule 29 of the Income-tax (Appellate Tribunal) Rules. 1963. with respect to Objection 2.4 of the Grounds of Objections related to transfer pricing issues filed before the Hon’ ble Bench Members. In view of the above and in the interest of time, the Assessee company hereby requests the Hon’ble Bench Members to admit the additional evidence in the below submission and annexures and consider the same on merits.
Our Submission: In the impugned order, the Ld. TPO has stressed upon market based approach for identification of comparable companies. For the purposes of the same, the Ld. TPO has used a search using Bloomberg database. The Ld. TPO has identified interest rates on bonds and debenture which are greater than 0%. However, the Ld. TPO has not applied any screening criteria to bring about closer comparability. As a result of the same, the Ld. TPO identified 650 comparable agreements for FY 2007-08, 880 comparable agreements for FY 2010-11. In this regard, we would like to submit that the Ld. TPO has failed to appreciate the fact that factors such as country filter, industry- filter, taxability filter, issuer filter etc. have to be taken into account while determining the cost of funds. Instead the Ld. TPO has taken the mean of entire subset available in Bloomberg of INR denominated bonds and debenture for respective years. Accordingly, the Ld. TPO has not screened the comparable debentures for the mentioned criteria. Further, the search was never shared with the Appellant for the Appellant to filter the agreements thereby denying the principles of natural justice. Therefore, the Ld. TPO s approach is flawed 011 the following counts: • The Ld. TPO has failed to appreciate the primary differentiating factor between the debentures which is their nature i.e. convertible or non- convertible debentures. The debentures issued by the Assessee are fully and compulsorily convertible. However, the Ld. TPO has selected all the debentures without filtering if these debentures are convertible or not; • The Ld. TPO has failed to appreciate the fact that industry plays a critical role in determination of interest rate at which debentures are issued primarily because investors undertake industry analysis to identify industries that offer the highest potential for investment returns on a risk- adjusted basis; • The Ld. TPO has not taken into cognizance if the debentures are secured/not or whether any guarantee has been provided; • The Ld. TPO has failed to appreciate the fact that seniority of the debt (i.e. debentures) also plays a critical role in determination of interest rate since an investor would charge additional risk premium if the securities they are holding are junior to other debt instruments of the investee; • The Ld. TPO has failed to filter out the debentures based on frequency of interest payments and in doing so has ignored one of the key terms of the debenture certificates that ought to be considered for comparability purposes. • The Ld. TPO has not taken into cognizance if these debentures were a private issue, bonus issue, rights issue or private placement;
• The Ld. TPO has not considered if interest on these debentures are taxable or non- taxable. For a good comparability, taxable debenture should have been considered; • The Ld. TPO has failed to filter out debentures issued in the Indian Territory and considered the INR denominated loans which could have been issued outside India. Such an approach should be discarded as it flouts norms of comparability as envisaged under Rule 10 of the Income Tax Rules, 1962 (‘the Rules’). Accordingly, the Appellant has undertaken fresh analysis in the National Securities Depositories Limited (NSDL) website, considering the above mentioned aspects. The Appellant requests the Hon’ble Bench Members to consider the same for the purpose of analysis.
NSDL website NSDL, the first and largest depository in India, was established in August 1996 and promoted by Institution of national stature responsible for economic development of the country has since established a national infrastructure of international standards that handles most of the securities held and settled in dematerialized form in the Indian capital market. There is an available list of bonds and debentures from this source. The information was analyzed to review any possible comparables for which credit rating information might be available. The NSDL database is more reliable than the search conducted by the Ld. TPO in the Bloomberg database in the following ways: • There is a clear distinction between bonds and debentures; • Filters such as taxability, mode of issue, date of issue, ownership etc. can be easily ascertained; • Industry filter can be applied to the comparable debentures viz. real estate filter in the Appellant's case; and • 'The debentures can be differentiated between convertible and non-convertible debentures. The Appellant submits below the search process in brief for the additional analysis carried out using the NSDL database: 'The Fully and Compulsorily Convertible Debentures (‘FCCDs’) were issued in FY 2007-08, IT7 2009-10 and FY 2010-11. Having analyzed the terms of debenture certificate of FCCDs issued by RFSPPL, an analysis was carried out to determine the arm’s length interest rates which should be applied to the FCCDs issuance considering their terms and conditions.
The issuances obtained from the NSDL website were screened and narrowed down based on the following criteria:
1. 1. Type of Instrument The debt instruments obtainable from the NSDL website were classified as debentures and bonds. For the present analysis only compulsorily convertible debentures or FCCDs were considered.
2. Category of Issue The debt instruments obtainable from the NSDL website were classified as taxable and non- taxable issuances. For the present analysis only taxable issuances were considered.
3. Type of issuer- Ownership Non-PSU have been considered, as typically, issuances by public sector undertakings are considered to have lower coupon rate, and have additional features (tax free etc.) which have a direct impact 011 their coupon rate.
4. Type of issuer-nature Issuer in the nature of Banks and NBFCs were excluded for the purpose of analysis. “Other” issuers were considered for the purpose of analysis.
5. Instrument Security Status Only active securities were considered since securities which nave matured and are cancelled do not accurately capture market sentimats with respect to interest rates.
6. Date of Allotment As per the Indian Regulations, the data to be used in an uncontrolled transaction with an international transaction shall be the data relating to the financial year in which the international transaction has been entered into. Considering the same, comparable debentures issuances during the same years in which the debenture terms were amended, were considered for the analysis.
8. Business Sector The Debentures in the real estate sector were considered for the purpose of analysis.
9. Secured /unsecured Since the Appellant's debentures are unsecured in nature, only unsecured debentures were considered for the purpose of analysis.
10. Whether guarantee provided not Since the Debentures issued by the Appellant, only those debentures were considered for the purpose of analysis where no guarantee had been provided.
Seniority of the debt Since the Appellant's debentures are junior to any other secured loans raised by the Appellant, only those debentures were considered for the purpose of analysis which were junior to all other debts.
Frequency' of interest payment As the interest on Appellant’s debentures is accrued annually, only those debentures were considered for the purpose of analysis where interest was paid annually (i.e. once a year).
The above search resulted in the following arm’s length results (Please refer Annexure 1 to this application for detailed search methodology): Table l: Arm’s Length Results for FY 2007-08 (Debentures issued in FY 2007-08) S.No. Name of the Issuer Data Source Date of Coupon Allotment Rate 1 Sare Shelters Project Private Limited NSDL 28/12/2007 15.00% 2 Sare Samaag Realty Private Limited NSDL 18/06/2007 15.00% 3 Sare Samaag Realty Private Limited NSDL 10/08/2007 15.00% 4 Sare Samaag Realty Private Limited NSDL 19/10/2007 15.00% 5 Impact Sare Realty Private Limited NSDL 17/12/2007 15.00% Mean 15.00% Ta e 2: Arm’s Length Results for FY 2009-10 (Debentures issued in FY 2009-10)
S. Name of the Issuer Data Date of Coupon Allotment No. Source Rate 1 Sare Samaag Realty Private Limited NSDL 17/05/2009 15.00% 2 Sare Samaag Realty Private Limited NSDL 13/08/2009 15.00% 3 Sare Samaag Realty Private Limited NSDL 16/02/2010 15.00% Mean 15.00% Table 3: Arm’s Length Results for FY 2010-11 (Debentures issued in FY 2010-11)
S. Name of the Issuer Data Source Date of Coupon Allotment No. Rate (%) 1 Sare Realty Projects Private Limited NSDL 19/01/2011 15.50% 2 Sare Realty Projects Private Limited NSDL 19/01/2011 15.50% 3 Sare Shelters Project Private Limited NSDL 28/04/2010 15.00% 4 Sare Shelters Project Private Limited NSDL 30/06/2010 15.00% 5 Sare Shelters Project Private Limited NSDL 30/07/2010 i 15.00% Mean 15.20%
Table 4: Arm's Length Analysis – Arithmetic mean of comparable companies: Particulars Arm’s Length Rate of Result Range interest(for Particulars the subject Result international transaction)
Interest on FCCDs issued in FY 2007- At Arm’s Length Mean - 15.00% 15.00% 08 Price Particulars Result Arm’s Length Rate of interest(for Range the subject international transaction) Mean - Interest on FCCDs issued in FY At Arm’s 15.00% 15.00% 2009-10 Length Price Mean - Interest on FCCDs issued in FY At Arm’s 15.00% 15.20% 2010-11 Length Price
Our analysis shows that the arithmetic mean of the coupon rates of comparable agreements is 15.00% during FY 2007-08. Accordingly for FY 2007-08, the effective rate of accrual of interest by RFSPPL that achieves a rate of 15.00% or lower would meet the arm's length standard required under the Indian Regulations as per the third proviso to section 920(2) of the Act read with Rule 1oCA(4) of the Rules. Our analysis shows that the arithmetic mean of the coupon rates of comparable agreements is 15.00% during FY 2009-10. Accordingly for FY 2009-10, the effective rate of accrual of interest by RFSPPL that achieve a rate of 15.00% or lower would meet the arm's length standard required under the Indian Regulations as per the third proviso to section 920(2) of the Act read with Rule 1oCA(4) of the Rules. Our analysis shows that the arithmetic mean of the coupon rates of comparable agreements is 15.20% during FY 2010-11. Accordingly for FY 2010-11, the effective rate of accrual of interest by RFSPPL that achieve a rate of 15.20% or lower would meet the arm's length standard required under the Indian Regulations as per the third proviso to section 920(2) of the Act read with Rule 1oCA(4) of the Rules. The financial results of RFSPPL indicate that the Appellant has an accrued interest at the rate of 15.00% during the years under consideration. This indicates that the international transaction of RFSPPL was in accordance with the arm's length standard as required under the Indian Regulations for the FCCDs issued in FY 2007-08, FY 2009-10 and FY 2010-11. Accordingly, the adjustment proposed by the Ld. TPO should be deleted. Our Prayer In view of the foregoing discussions, it is respectfully prayed before the Hon’ble Bench Members that the aforementioned documents being vital evidences for deciding the matter may kindly be acknowledged in the interest of justice and give such directions that may be necessary in the circumstances of the case and render justice.”
On the other hand, the ld. DR relying on the orders of the lower authorities and submitted that fresh search cannot be carried out because the assessee was given ample opportunity before the lower authorities. He, therefore, objected to admission of additional evidence.
We have heard the rival submissions and have gone through the entire material available on record. As far as the adjustment towards interest paid on international transactions, as noted above, is concerned, we feel that the additional evidences produced before us are of vital importance so as to adjudicate the issue and therefore, we feel it appropriate to admit the same on record for consideration. Keeping in view the nature of the evidence, the AO/TPO are required to make fresh calculation of Arm’s length price of the international transactions noted hereinabove. We, therefore, restore this issue to the file of AO/TPO to examine and calculate the ALP of the international transactions after considering the additional evidences furnished by the assessee before us. The assessee is directed to produce the same before the AO/TPO. Needless to say, the assessee shall be given reasonable opportunity of being heard. Accordingly, the grounds involving this issue are allowed for statistical purposes.
As far as the second issue pertaining to disallowance of legal and professional charges is concerned, we find that the ld. DRP has disallowed the same on the premise that copy of agreements of the parties were not produced by the assessee and that it is not clear from the invoices as to what types of services were rendered to the assessee and whether the services so rendered were for the purpose of assessee’s business or not. The contention of the assessee has been that all the documentary evidences including agreements and invoices were submitted before the ld. DRP, which go to show the nature of services rendered by the service provider. It is, however, pertinent to note that in the remand proceedings, the AO had tried to make extensive inquiry to verify the impugned payments to the aforesaid professionals. It is also notable that the AO had issued summons to the parties which returned un-served with postal remarks as noted in the remand report. It is further to note that the AO requested the assessee to produce the parties to whom the payment was made, as the impugned payments could not be got verified from the returns of their income. But the assessee has not shown any interest or made efforts to get the impugned payments verified or to produce any of the parties to whom said payments were made. In presence of these facts, only filing of affidavits of the parties, in our opinion, would not be sufficient to accept the claim of assessee. Once, the assessee has been claiming these expenditure, it is incumbent upon the assessee to get them verified to the satisfaction of the AO. We, accordingly, think it appropriate to restore this issue too to the file of AO for deciding it afresh after making proper verification as to the nature, purpose and genuineness of the expenditure claimed by the assessee. The Assessee is directed to cooperate with the AO in the matter. Needless to say, the assessee shall be given reasonable opportunity of being heard. Accordingly, grounds involving this issue are also allowed for statistical purposes.
In the result, the appeal is allowed for statistical purposes.
Order pronounced in the open court on 25.03.2019.