DCIT, CENTRAL CIRCLE - 1, KOLKATA , KOLKATA vs. M/S. ROHIT FERRO TECH LTD., , KOLKATA

Before the Ld. TPO, the appellant has contended that the sums advanced to SKPOP & RPMI were in the nature of trade advance given in the course of business for supply of goods and therefore the same could not be equated with a 'loan' and hence no benchmarking exercise was carried out in this regard. On examination of the transfer pricing order, it is noted that the Ld. TPO was not in agreement with the contention put forth by the appellant, The Ld. TPO observed that the interest rate on the loans advanced to the AEs should be priced at the cost of funds in the hands of the appellant and appropriate adjustment should be made for the credit risk being borne by the appellant, having regard to the borrower's independent credit rating. From the financials of the appellant, the ld. TPO computed the average cost of funds at 14.5olo. After determining the cost of funds, the Ld. TPO further computed an appropriate spread to cover the risks involved for lending to such vulnerable & low rated AEs. This spread was determined by the Ld. TPO at 550& 750 bps for SKPOP & RPMI respectively, The ld. TPO aggregated the cost of funds and credit spread and determined the ALP interest rate at 20% / 22% in respect of the loans advanced. Accordingly the ld.TPO proposed upward adjustment of Rs.15,60,246l- with reference to the loans/advances given by the appellant to its AEs.

In the appellate proceedings, the Ld. AR of the appellant reiterated the submissions which were made before the Ld. TPO and contended that the &263/K/2018 A.Ys. 2009-10 & 2010-11 Rohit Ferro Tech Ltd. Page 3 advances were given to AEs in the course of trade and therefore it could not be equated with a 'loan' or a financing arrangement. Alternatively the ld, AR contended that the TPO erred in presuming that the advances were given out of appellant's borrowings which carried average interest rate of L4.5%. According to Ld. AR, the appellant had sufficient own funds to advance borrowings to its AEs and therefore the cost of funds advanced to AEs was NIL. The Ld. AR of the appellant also submitted that the loans/advances given to AEs should be benchmarked at the relevant currency denominated LIBOR rate, for which it placed reliance on several judgments including the Hon'ble jurisdictional ITAT, Kolkata.

After giving due consideration to appellant's submissions and TPO's order, the initial argument of the Ld, AR that the advances were given in course of business and therefore could not be benchmarked under the transfer pricing provisions is found to be untenable in law and on facts. Apart from making a sweeping statement, no tangible material was put forth by the appellant to justify this contention. In my considered view therefore the Ld. AO was justified in benchmarking the advances given by the appellant to its AEs under the transfer pricing laws,

As regards the calculation of ALP of interest on loans at 20o/o / 22o/oi I find considerable force in the appellant's submissions that the Ld, TPO was not justified in presuming that it was only the domestic borrowings obtained by the appellant carrying interest rate of 14.5o/o; which was utilized to advance loans to AEs. No material was brought on record by the ld. TPO to justify this proposition or establish a direct link between the loans borrowed by appellant and the loans advanced to AEs. It is apparent from the appellant's balance sheet that substantial portion of its own surplus funds have been deployed in making investments in shares of other bodies corporate as also loans & deposits. In the circumstances the Ld. TPO's calculation of "cost of funds" as the interest rate paid on domestic borrowings obtained by the appellant was not justifiable. From the balance sheet it is apparent that the advances were made from mixed account and therefore the ld. TPO calculation of "cost of funds" was unsustainable. Further one also needs to factor in the currency in which the funds were borrowed or funds were lent, so as to remove the dissimilarities, I further note that even the calculation of credit spread at 650 bps / 750 bps is not based on any logical reasoning. In my considered view therefore the methodology adopted by the Ld. TPO for computing ALP of the loans, suffered from infirmities in as much as the premises on which the working of cost of funds was made was inherently inappropriate and incorrect.

The question involving manner & methodology of benchmarking inter- corporate loans& advances is a vexed issue and has been debated by various High Courts & Benches of the Income-tax Tribunal. From the judicial precedents which are available in the public domain, I find that the settled view is that the foreign currency denominated loans advanced to AEs should be benchmarked against the relevant currency denominated LIBOR rate. The relevant judicial precedents in this regard are as follows:

In view of the above and respectfully following the judgments of the Hon'ble High Courts & Income-tax Appellate Tribunal, I hold that the ALP determined by the TPO in his order u/s 92CA(3) was wholly inappropriate and excessive. I further hold that the most appropriate method to be adopted in the facts & circumstances of the appellant's case was to benchmark the respective loans/advances at the relevant currency denominated benchmark LIBOR rate i.e, LIBOR USD & LIBOR EURO, prevailing in the relevant year. The Ld. AO/TPO is thus directed to compute the ALP of loans as explained in the foregoing. Ground No. 1 is therefore partly allowed.

However, it has also to be examined whether the Corporate Guarantee is an international transaction at all, and as a corollary amenable to benchmarking. I find that there has been a certain presumption on the part of the Ld. AO/ TPO in so far as observing that the corporate guarantee provides a certain benefit to the AE and being in the nature of a service it constitutes an international transaction. It is also to be said that as has been pleaded by the appellant, Hon'ble Courts have held that corporate guarantees do not fall within the purview of international transactions. The main reasons for advancing such argument by the appellant is that there are no costs to the assessee in issuing of corporate guarantee, especially in a situation where the assessee could not have realized any money by giving the same to some other assessee during the course of business, and that such an assistance or accommodation does not have any bearing on the profits / losses or assets and as such would not fall within the ambit of any international transaction u/s 92B. It has been argued that a "bare benefit" does not tantamount to an international transaction, as such. It has been argued that the transactions have no bearing or impact upon the profits, income, loss or assets of the AE, and that even after the law was amended with retrospective effect the effect should also be such as to have a bearing on profits, incomes. Losses or assets of the enterprise. It has also been argued that the impact of the impugned Corporate Guarantee should be on a real basis and not on any contingent or hypothetical basis, and that the onus is upon the Ld. AO to demonstrate that that the transaction has a bearing on the profits, income, loss or assets of the enterprise, and that there has to be cogent material on record to indicate that intra AE international transaction has some impact on the profits, incomes, losses or assets. Most importantly, it has been argued that the Hon'ble ITAT, Delhi, in a ruling in the case of M/s. Bharti Airtel Limited Vs Addl. CIT(2014) 64 SOT 50 (URO) / 43 taxmann.com 50(Delhi) adjudicated on transfer pricing issues arising from the issuance of a Corporate Guarantee to associated enterprises among others. In this case, the taxpayer, an Indian company, provided a guarantee to a third-party bank on behalf of its &263/K/2018 A.Ys. 2009-10 & 2010-11 Rohit Ferro Tech Ltd. Page 6 foreign subsidiary for which it did not charge a fee. The taxpayer contended as it did not incur any costs in providing the guarantee, there was no requirement for it to charge a fee to the subsidiary under the transfer pricing provisions, During assessment proceedings, the AO imputed an arm's length guarantee fee by applying the CUP method and considered the commission charged by independent banks as a benchmark, The Hon'ble ITAT, considering the facts of the case, held that the corporate guarantee provided by the Taxpayer, which does not involve cost to the Taxpayer, does not have a bearing on profits, incomes, losses or assets of the Taxpayer and hence the transaction does not fall within the ambit of the amended definition of "international transaction". It would be significant to note that, the Hon'ble ITAT took cognizance of variations brought in under the amended definition and held that the precondition of a transaction having bearing on profit/ losses or assets of an enterprise cannot dispensed with even after the explanation was added to the definition of international transaction by the Finance Act of 2012 since such explanation was merely a clarification. The Hon'ble Tribunal further held that the onus was on the Income Tax Authorities to demonstrate the transaction has a "bearing on profits, income, /losses or assets" of the enterprise. Such an impact on profits, income, losses or assets has to be on a real basis, whether in the present or in the future, and not on a contingent or hypothetical basis. Furthermore, there has to be some evidence on record to indicate, even if not to fully establish, that an international transaction has some impact on profits, income, losses or assets. Taking into consideration the facts of the case, the Hon'ble Tribunal held that such conditions were not satisfied. The Hon'ble ITAT accordingly ruled that under the facts of the case, transfer pricing provisions did not apply to the provision of guarantee and therefore the TP adjustment imputing an arm's length guarantee fee is not warranted, This judgement seems to be a departure from the OECD's approach in the sense that the shareholder incurring a cost would not normally be considered in determining whether a service has been provided or not. The fact that would need to be considered is whether the activity provides a respective group member with economic or commercial value to enhance its commercial position. This can be determined by considering whether an independent enterprise in comparable circumstances would have been willing to pay for the activity if performed for it by an independent enterprise or would have performed the activity in-house for itself. Therefore, from the perspective of the recipient, if it were not something that he would have paid for, the activity should normally not be considered as an intra-group service under the arm's length principle. Given that Indian TP law differs from the OECD's approach in certain aspects with respect to the application of the arm's length principle, it &263/K/2018 A.Ys. 2009-10 & 2010-11 Rohit Ferro Tech Ltd. Page 7 would not be out of place to state that this judgment highlights one of them.

Be the case, as it may, it has to be said that the Hon'ble jurisdictional ITAT in the case of M/s Tega Industries Vs DCIT in [Reported as [2O16] 76 taxmann.com(Kolkata-Trib] has adjudicated the matter and held that where the assessee has provided corporate guarantee to the Bank to fund its subsidiary for acquiring a company(ies) on behalf of the assessee, since assessee's expectation from loan was that of a Shareholder, and the intention was to protect its investment interest, no T.P adjustment on account of Corporate Guarantee was to be made. In this case, the Hon'ble ITAT, based on the facts of the case has adjudicated that if the intention of the assessee is not to earn interest or guarantee fees by providing loan or guarantee, no TP adjustments could be made. The facts of the case were that the assessee is engaged in the business of manufacturing and specializing in the designs, production and application of water resistant rubber lining. During FY 2006-07, the assessee had set up an AE/subsidiary as a special purpose vehicle in Bahamas for acquiring two South Africa based companies. The assessee had provided interest-free loan and corporate guarantee to its AE, and used comparable uncontrolled price ('CUP') as the most appropriate method for measuring the transaction at ALP. The assessee had suo-motto offered interest on such loan at LIBOR+ 100 bps. However, the Ld. TPO disregarded the contentions of the assessee, preferred cost plus method ('CPM') and made upward adjustments for the same, Aggrieved by the order, the assessee filed application before the Ld. Dispute Resolution Panel ('DRP'), which confirmed the order of the Ld, TPO, Further aggrieved, the assessee filed an appeal before the Hon'ble Tribunal. The Hon'ble ITAT inter-alia decided that the assessee had injected loan to its subsidiary and provided guarantee for commercial expediency as the assessee had merged to expand its foreign operations; thus, the loan injected by the assessee was a kind of quasi-equity i.e. in the form of equity Further, the Hon'ble Tribunal preferred internal CUP or external CUP as the most appropriate method for applying in such transactions, it may be relevant to quote the necessary portion of the order of the Hon'ble ITAT as follows: "As the Assessee's expectation from provision of loan and guarantee are not that of a lender or guarantor i.e. to earn a market share of interest or guarantee fee, rather, the expectation was that of a shareholder – to protect its investment interest, help it to achieve acquisition of TegaBruce for furtherance of its own business and get returns in terms of appreciation of value and dividends,,,. therefore in the present case the guarantee is a &263/K/2018 A.Ys. 2009-10 & 2010-11 Rohit Ferro Tech Ltd. Page 8 shareholder activity hence no TP adjustment on account of corporate guarantee should be required. Accordingly, we direct the Ld. DRP/ TPO to delete the addition,"

I have also carefully considered the Ld. A.R's submissions for the appellant-company in the matter rebutting and challenging the action of the Ld. AO/TPO. The appellant has been able to draw and demonstrate similarity in the factual and legal matrix in the case of Tega Industries and its own case. It has been pleaded that the contention of Tega Industries Ltd is similar to that of the appellant. The objective of Rohit Fer.ro Tech Ltd, i.e. the appellant to set up SKPOP as a nodal vehicle which was to invest in operating companies in Indonesia with a view to acquire coal mines and source raw materials for its factory at Bishnupur & Jaipur. The subsidiary thus represented an extended arm of the appellant company itself. I further find merit in the contention of the appellant that in the course of raising funds for investment via the equity/quasi-equity route, an arrangement was employed till the time such arrangement would be subsequently replaced by equity funds generated by Rohit Ferro Tech Ltd. The stand of the appellant is that the loans may have been granted to AE by the Bank, but the same was in substance a loan granted to Rohit Ferro Tech Ltd. for enabling it to expand operations by setting up subsidiary abroad. I therefore find substantial force in the ld. AR's submission that the assessee's expectation from the guarantee provided for the third-party borrowings of AE, was never to earn a guarantee fee. From the facts it is thus clear that the intention of the Appellant for guaranteeing the AEs was that of an investor and not a guarantor. In light of the same, it would be appropriate to classify the guarantee provided to infuse third party funds as a shareholder service meriting no monetary consideration. Therefore, in view of the judgment of the ITAT, there is legal merit in the contention of the appellant that the international transaction pertaining to the provision of corporate guarantee on behalf of the AE is a pure shareholder service and hence merits no charge.

Overall considering the facts and circumstances and for the reasons set out above, I find that the Ld. AO/TPO was not justified in working out the total guarantee commission at Rs. 23,36,190/-. The said adjustment of Rs. 23,36,190/- is accordingly ordered to be deleted. Ground No. 2 of appeal therefore stands allowed.”