DCIT (IT) -1(2)(1), MUMBAI vs. THE BANK OF NOVA SCOTIA, MUMBAI

11. In upholding the learned TPO's action of determining that the functions performed and the risks assumed by the Appellant in respect of guarantee services provided to domestic third parties is comparable to administrative support services provided by the Appellant to its overseas branches and in upholding that the rates charged to domestic third parties in respect of guarantee services should be considered as the benchmark rates for benchmarking the transaction of provision of administrative support services in relation to IBI services.

12.Without prejudice to the above, in disregarding the requirement for risk adjustment, where transactions' entered into by the Appellant with domestic customers are treated as comparable to the international transaction entered into with the HO/ overseas branches”

5. The ld. Counsel for the assessee submits that the aforesaid grounds raised

in the present appeal are identical to grounds of appeal No.9 to 13 in appeal by the assessee in for Assessment Year 2008-

09. The appeal of assessee for Assessment Year 2008-09 has been heard by the Bench comprising of same combination of Members on 17/01/2024. He further submitted that the issue in appeal is squarely covered by the decision of the Tribunal in the case of Australia and New Zealand Banking Group Ltd. vs. DCIT, 140 taxmann.com 574 (Mum-Trib). The facts in impugned assessment year are identical.

4 The Bank of Nova Scotia

6. Shri Anil Sant representing the Department fairly stated that the issue raised in ground No.8 to 12 of appeal by the assessee is similar to the one raised in appeal by the assessee for Assessment Year 2008-09.

“34. Heard both the sides and perused the material on record. During the year BNS Overseas Branches executed interbank indemnities against which the BNS India issued guarantee on behalf of the clients of the overseas branches and vice-versa. BNS India received a commission of USD 125 per transactions for guarantee issued by it on behalf of its overseas branches and paid commission of USD 100 for the guarantees issued by the overseas branches on its behalf. Before us the ld. Counsel referred the various submission made before the lower authorities and stating that the assessee bank has not faced any risk as the guarantees issued was fully secured by back to back interbank indemnity issued by overseas branches. The assessee has benchmarked this transaction after following the TNMM and comparability analysis showed an arithmetic mean margin (operating profit to operating cost) of 15.28%. However, the TPO has applied internal CUP method and computed an upward adjustment of Rs.40,58,558/-. In the TP study report the assessee has given the analysis of the aforesaid transactions that Inter-Bank indemnity is a financial arrangement wherein a bank branch will be compensated for any financial liability that it incur on behalf of its co-branch. The issuance of these arrangement is standard practice in international banking service. The assessee explained that by issuing a guarantee on behalf of the clients of BNS overseas branches, the assessee did not fall under any default/credit risk as it is secured by a back to back inter-bank indemnity issued by overseas BNS branches to the assessee. In a reverse scenario where the associated enterprises of the assessee issues guarantees on behalf of the assessee, the remuneration charges by them to the assessee was only the administrative services provided by them and not based on the rates that would have been charged to third parties. After perusing the material placed on record we find in the case of BNS India no public information on third party to third party transaction of similar

5 The Bank of Nova Scotia or identical services was found that reflects the characterstics of the services provided by BNS India. Further as per provision of Rule 10B of the I.T Rules comparables for provision of interbank indemnity services would have to be companies which provide same or similar services as BNS India, and are comparable in terms of function performed, risk assumed and asset utilized. As per the information provided by BNS India it had earned operating margin of 25.41% on operating cost which was higher than the arm’s length margin of 15.28% on operating cost. The lower authority has not brought on record any relevant material to contrary to the material facts as discussed supra in this order.

We have gone through the decision of ITAT in the case of Australia & New Zealand Banking Group Ltd. Vs. DCIT (2022) 140 taxmann.com 574 (Mum Trib) wherein it is held that where TPO observed that assessee had earned processing fees for issuing guarantees on behalf of its associated enterprises and rejected TNMM adopted by the assessee and proceeded to benchmark guarantee transaction using external CUP method, since data under CUP method was not available and data margins under TNMM was readily available and held that it would be appropriate to apply TNMM as most appropriate method. In the aforesaid decision it is held that TNMM method would be the most appropriate method in the facts and circumstances of the case and CUP could not be applied because of non-availability of data. The relevant operating part of the decision is reproduced as under:

“3.6 Hence, from the aforesaid modus operandi, it could be concluded that assessee acts as a beneficiary bank Je issue guarantee in India on behalf of clients of overseas branches of ANZ based on the counter guarantee issued by such overseas ANZ branches. Since assessee is acting as the beneficiary, the entire risk of discharging the bank guarantees is borne by overseas ANZ branch issuing the counter guarantee. The assessee merely provides support service in connection with processing of the guarantees, typing out the guarantee agreement hased on swift message received and issuing the said agreement to the beneficiary The aforesaid functions performed by the assessee are not disputed by the lower authorities. When assessee is fully protected by overseas counter guarantee, we are unable to comprehend ourselves as to how CUP method could be applied therem as it would be impossible to make adjustment for the differences as per rule 10B(1)(a) of the Income- tax Rules In effect, we find that assessee is merely providing secretarial services or which can be loosely called as carrying out administrative functions. It is not in dispute that the assessee does not bear any risk in its books as it is fully protected by overseas counter guarantee/indemnity In fact even assessee would not have to face the foreign exchange risk in view of the fact that whenever assessee is called upon to discharge the guarantee on behalf of the overseas branches, the assessee would first receive the monies from overseas branch because of the existing counter guarantee, and then discharge the same. The assessee is receiving processing fees from its AEs in foreign currency and the said fee is received immediately after the invoice is raised for the same, thereby the risk of exchange fluctuation would be very very negligible due to reduced time span involved therein. Given these undisputed facts, it would be appropriate to consider assessee as the tested party as it would be the least complex

6 The Bank of Nova Scotia entity and its profitability could be reliably ascertained Admittedly, the transaction which requires to be benchmarked is the receipt of processing fees by the assessee for the guarantees issued by rendering the aforesaid secretarial services Hence, what is to be looked into is under similar terms and conditions and under similar circumstances what is the guarantee fee charged by the third party comparables from the AEs. This is what precisely assessee has done in the instant case. The assessee had taken into account the third party comparable margins and compared the same with its margins using Transactional Net Margin Method. For this purpose, the assessee had taken the third party comparables which are engaged in providing liasoning services, managerial services, marketing services, administrative services and information services. Effectively all these services could be loosely termed as business support services. Hence, when the data under CUP method is not available and data of margins under TNMM is readily available, then it would be appropriate to apply TNMM method as the Most Appropriate Method (MAM) in the facts and circumstances of the instant case.

3.7 We find that assessee had explained the entire transactions and the modus operandı applied by it in respect of the guarantee transactions before the Id TPO which are evident vide letter dated 9-10-2015 together with the fee charged for each type of services tendered by it. These details are enclosed in pages 316 to 322 of the paper book filed before us. We also find the assessee vide its letter dated 28-10-2015 had filed a detailed annexure enclosed in pages 328-331 of the paper book listing the guarantees issued by it based on counter guarantee received from overseas branches of ANZ The assessee also furnished the sample documents enclosing the copy of swift message received from ANZ New York advising the assessee to issue guarantee to Indian beneficiaries like Reliance Infrastructure Ltd., and providing counter guarantee.

3.8 The assessee also placed on record the copy of the swift message from assessce to ANZ New York confirming that guarantee has been issued to Reliance Infrastructure Ltd, confirming that guarantee has been Issued by ANZ Mumbai. By all these documents, the Id. AR was vociferous in driving home the point that the entire risk of discharging the bank guarantees is borne by the overseas ANZ branch issuing the counter guarantees wherein the assessee merely provides support services in connection with processing of the guarantees The Id AR also referred to page 380 of the paper book containing various swift messages received The assessee also placed on record the reply letter dated 18-12-2015 filed before the Id TPO in response to show-cause notice as to why 1% guarantee fee charged by thud party Indian banks should not be considered as the arm's length price, placed reliance on the decision of the Mumbai Tribunal in the case of Addl. CIT V. Asian Paints Ltd [2014] 44 taxmann com 422 wherein specifically in the context of guarantee fees, this Tribunal had deleted the adjustment made as the said judgement was rendered simply relying on certain data from the market. The facts of the case before us squarely fit into the facts prevailing in the case of Asian Paints Ltd (supra).

7 The Bank of Nova Scotia

3.9 The assessee before the Id. DRP made an alternative submission that the fee of 1% proposed by the Id TPO may be applied in respect of fresh guarantees issued during the year. The details of fresh guarantees issued during the year were also furnished before the Id. DRP in pages 577-579 of the paper book vide letter dated 27- 4-2016 But we find that the Id DRP had merely brushed aside the same and grossly erred in stating that no details were filed by the assessee. 3.10 In view of the aforesaid observations, we hold that INMM method would be the Most Appropriate Method in the facts and circumstances of the instant case and CUP could not be applied herein because of non availability of data. In any case in respect of adjustment made simply relying on 133(6) information from the market had been deleted by this Tribunal in the case of Asian Paints Ltd, referred to supra. It is also prudent to note that the same transactions were accepted by the Id. TPO upto A Y2012-13 in the case of the assessee Hence, even going by the rule of consistency as has been held by the Hon'ble Supreme Court in the case of Radhasoami Satsang v. CIT [1992] 60 Taxman 248/193 ITR 321, there is no need for the Id. TPO to take a divergent stand when there is no change in the facts and circumstances during the year with that of earlier years Hence, we direct the Id TPO to delete the adjustment made in respect of guarantee fees in the sum of Rs. 10,94,55,035/. Accordingly, the ground Nos 1 & 2 raised by the assessee are allowed.” We have also perused the decision of ITAT Delhi in the case of Bank of Tokyo Mitsubishi UFJ Ltd. Vs. The DDIT (IT), Circle 1(1) vide wherein identical issue on similar fact was decided in favour of the assessee. Considering the facts and judicial pronouncements as discussed supra in this order the issue in the appeal is squarely covered by the decision of the ITAT Mumbai therefore, the decision of ld. CIT(A) in sustaining the arm’s length price addition made by the assessing officer is not justified. Accordingly, ground nos. 9 to 13 are allowed.” Since, both sides have unanimously admitted that the facts germane to the issue in the impugned assessment year are identical to ground 9 to 13 of the appeal for A.Y 2008-09, the grounds of appeal 8 to 12 in the instant appeal are allowed for parity of reasons.

(A.Y.2010-11)- REVENUES APPEAL:

9. The Revenue in appeal for Assessment Year 2010-11 has raised following grounds:

8 The Bank of Nova Scotia

“1. "Whether on the facts and circumstances of the case and in law, the Ld. CIT(A) erred in holding that the interest income earned on foreign currency loan advanced by the assessee to Indian concerns is to be taxed as per section 115A of the Income Tax Act and not as per normal rates without appreciating the fact that the assessee is in the business of lending and borrowing money and the foreign currency loan arrangements entered into by the assessee bank with its Indian customers is part of its regular business activity". 2. "Whether on the facts and circumstances of the case and in law, the Ld. CIT(A) erred in allowing the assessee's claim of deduction under section 44C of the Income Tax Act 1961, for an amount of Rs.7,80,15,828/- being the total of the claim made by the assessee less the amount allowed in the assessment order without appreciating the fact that such expenses were not even shown as paid or payable as per the audited books of the Indian branch of the assessee bank?"

3. "Whether on the facts and circumstances of the case and in law, the Ld. CIT(A) erred in allowing the assessee's claim of deduction under section 44C of the Income Tax Act 1961 on account of its alleged transactions with its Head Office beyond the amount disclosed by the assessee before the Transfer Pricing Officer (TPO) and held by him to be at arm's length?"

4. "Whether on the facts and circumstances of the case and in law, the Ld. CIT{A) erred in allowing the assessee's claim of deduction under section 44C of the Income Tax Act 1961, for an amount of Rs.7,80,15,828/- being the total of the claim made by the assessee less the amount allowed in the assessment order ignoring the fact that such expenses were not in the nature of executive and general administrative expenses and also the assessee failed to substantiate its claim in this regard by way of evidences?"

5. Whether on the facts and circumstances of the case and in law, the Ld. CIT(A) was correct in directing the inclusion of the comparable M/s Allianz Securities Limited for comparability purposes with the assessee, ignoring the fact that the nature of products marketed by the two entities is quite different and would necessarily involve different functions, skills and intensities of marketing, particularly when the CIT(A) has rejected the assessee's comparable India Infoline Limited, stating that the insurance distribution activity is not functionally similar?” 10. The ld. Counsel for the assessee submitted at the outset that the issue in ground No.1 of appeal by the Department relates to taxability of interest income earned on foreign currency loans granted to Indian concerns @40% under normal provisions of the Act instead of 20% under section 115A of the Act. This issue is recurring. The CIT(A) starting from Assessment Year 2000-

9 The Bank of Nova Scotia 01 has been consistently holding that interest earned on foreign currency loans is liable to tax @20%. The CIT(A) held so following order of Tribunal in assessee's own case in for Assessment Year 1997-98. The CIT(A) in the impugned order followed the decision of his predecessor in Assessment Year 2008-09 holding such interest income taxable @20%.

(i) CIT vs. Emirates Commercial Bank Ltd. 262 ITR 55(Bom) (ii) Doha Bank QSC vs. DCIT, 124 taxmann.com 70 (Mum) (iii) ADIT vs. Antwerp Diamond Bank NV Engg. Centre, 44 taxmmann.com 175(Mum)

“11. “……….. On a perusal of sec.44C, we find, that the same therein contemplates a ceiling on the allowability of the head office expenditure insofar the same is attributable to the business in India, while computing the income of an assessee, being a non-resident, under the head profits and gains of business or profession. Under the said statutory provision the allowability of the expenditure is to be restricted to viz. (i) an amount equal to five percent of the adjusted total income; or (ii) the amount of so much of the expenditure in the nature of head office expenditure incurred by the assessee as is attributable to the business or profession of the assessee in India; whichever is less. As observed by us hereinabove, the lower authorities held a conviction that from the details filed by the assessee it was not clear as to whether or not the expenses incurred by the assessee were in respect of its Indian branch. Accordingly, drawing support from sub-section (c) to sec.44C, the A.O had concluded that no amount of expenditure was allowable as deduction to the assessee under the said statutory provision. On the contrary, it was the claim of the assessee that working of the Central Administrative expenditure attributable to the Indian branch on the basis of the revenue of the Indian branch in proportion to the revenue of the bank as a whole, therein revealed, that the claim of deduction raised by the assessee @ 5% of the "adjusted total income" was substantially lower than the actual amount of H.O expenditure incurred by the assessee as was attributable to its business in India. We have given a thoughtful consideration to the aforesaid issue before us, and are persuaded to subscribe to the claim of the ld. A.R that the existence or absence of entries in the books of accounts would not be decisive or conclusive to determine the assessee's claim for deduction insofar Sec.44C of the Act is concerned. In fact, we are of a strong conviction that the deduction of H.O expenditure (attributable to the business of the assessee in India) is allowable in accordance with provisions of sec. 44C, irrespective of the fact, whether or not any amount is debited in the books of accounts. In this context, it would be relevant to point out that sec. 44C of the Act was introduced by the Finance Act, 1976, w.e.f 1-6-1976 wherein the purpose of insertion of 12 The Bank of Nova Scotia the said statutory provision was explained by the CBDT Circular No. 2002, which reads as under: "25.1 Non-residents carrying on any business or profession in India through their branches are entitled to a deduction, in computing the taxable profits, in respect of general administrative expenses incurred by the foreign head offices in so far as such expenses can be related to their business or profession in India. It is extremely difficult to scrutinize and verify claims in respect of such expenses, particularly in the absence of account books of the head office, which are kept outside India. Foreign companies operating through branches in India sometimes try to reduce the incidence of tax in India by inflating their claims in respect of head office expenses. With a view of getting over these difficulties, the Finance Act has inserted a new section 44C in the Income-tax Act laying down certain ceiling limits for the deduction of head office expenses in computing the taxable profits in the case of non-resident taxpayers." Accordingly, we are of the considered view, that the legislature in all its wisdom had provided a basis for attributing a part of the head office expenses incurred by an assessee, a non- resident, to the business of the assessee in India. On a perusal of the purpose for making available of the aforesaid statutory provision i.e Sec. 44C on the statute, we find, that the same was backed by the reason that it was extremely difficult to scrutinise and verify the veracity of the claims of the non-resident assessee's carrying on any business or profession in India, as regards their head office expenses attributable to such business or profession in India. We are unable to concur with the view taken by the lower authorities that the absence of the head office expenses attributable to its business in India, in the audit report or the notes to accounts of the Indian branch would therein render it ineligible to claim the deduction under sec. 44C of the Act. In our considered view the assessee had rightly claimed deduction of 5% of the "adjusted total income", as the same is lower than the amount of the head office expenditure incurred by the assessee as is attributable to its business in India. We thus, in terms of our aforesaid observations not finding favour with the view taken by the lower authorities, therein 'set aside' the order of the CIT(A) and direct the A.O to allow the assessee's claim for deduction under Sec. 44C of the Act.” [Emphasized by us] No contrary material is brought before us by the Department to controvert the findings of the CIT(A) or the decision cited by the ld. Counsel for the assessee. In view of above, we see no infirmity in the findings of CIT(A) on this issues. Consequently, ground No.2,3 and 4 of the Department’s appeal are dismissed.

13 The Bank of Nova Scotia ground No.5 of the appeal is decided in favour of the Department, hence, allowed.

In so far as ground No.8 to 12 of the appeal are concerned, the findings given while adjudicating appeal of the assessee in Assessment Year 2010-11 would mutatis mutandis apply to the present set of grounds. Hence, ground No.8 to 12 are allowed in the similar terms.

14 The Bank of Nova Scotia

In so far as ground No.8 to 12 of appeal are concerned, the findings given while adjudicating the appeal of the assessee in Assessment Year 2010- 11 would mutatis mutandis apply to the present set of grounds. Hence, ground No.8 to 12 are allowed in the similar terms.

15 The Bank of Nova Scotia - (A.Y.2013-14)-ASSESSEE’S APPEAL:

(i) DIT vs. Credit Agricole Indosuez , 377 ITR 101(Bom)

(ii) Ansaldo Energia SPA vs CIT, 384 ITR 312 (Mad)

The ld.Counsel for the assessee submitted that the decision rendered by Hon'ble Jurisdictional High Court in the case of DIT vs. Credit Agricole Indosuez (supra) was cited before the CIT(A) . The CIT(A) instead of following the decision of Hon'ble Jurisdictional High Court referred to the decision of Hon’ble Uttarakhand High Court in the case of B.J. Services Co. Middle East Ltd. vs. ACIT, 60 taxmann.com 246. He pointed that the decision in the case of B.J.Services Co. Middle East Ltd. is distinguishable on facts. The said decision was in respect of DTAA between India and UK. In India-UK DTAA the provisions of Article-12 dealing with “Interest” are not similar to that of India-Canada DTAA. Hence, the ratio laid down in the aforesaid decision would not apply in the facts of assessee’s case.

17 The Bank of Nova Scotia business through its Indian branches i.e. PE in India. The profits and gains of business operations in India is attributable to the branches. Thus, income tax refund is effectively connected with the PE of the assessee. Hence, the intertest on such refund is taxable as business income because of its effective connection.

ARTICLE 11 INTEREST “1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State.

18 The Bank of Nova Scotia Contracting State; or (iii) the interest is paid to an agency or instrumentality (including a financial institution) which may be agreed upon in letters exchanged between the competent authorities of the Contracting States. (b) (i) interest arising in India and paid to a resident of Canada shall be taxable only in Canada if it is paid in respect of a loan made, guaranteed or insured, or a credit extended, guaranteed or insured by the Export Development Corporation; or (ii) interest arising in Canada and paid to a resident of India shall be taxable only in India if it is paid in respect of a loan made, guaranteed or insured, or a credit extended, guaranteed or insured by the Export-Import Bank of India (Exim Bank).

7. Where, by reason of a special relationship between the payer and the beneficial owner or between both of them and some other person, the amount of the interest, having regard to the debt-claim for which it is paid, exceeds the amount which would have been agreed upon by the payer and the beneficial owner in the absence of such relationship, the provisions of this Article shall apply only to the last- mentioned amount. In such case, the excess part of the payments shall remain taxable according to the law of each Contracting State, due regard being had to the other provisions of this Agreement”.

19 The Bank of Nova Scotia Clause (3)(a)(i) of Article 11 carves out an exception, wherein the interest income would be exempt from tax where interest is paid by the Government of Contracting State to Non-Resident entity.

One of the question of law for consideration before Hon'ble Jurisdictional High Court in the case of DIT vs. Credit Agricole Indosuez (supra) was:

“2. At the hearing Mr. Tejveer Singh, learned counsel for the Revenue urges the following questions of law for consideration. (1)……… (2)…….. (3)……. (4) Whether, on the facts and in the circumstances of the case and in law, the ITAT has erred in directing the A.O to tax the interest received u/s. 244A at the rate prescribed in Article 12 of DTAA between India and France?” The Hon’ble Court dismissed the said question by observing as under:

“6.Regarding Question 4 : ( (a) The Tribunal by the impugned order restored the issue of the rate at which interest is to be charged to tax on income-tax refund received under Section 244A of the Act to the Assessing Officer to be decided in the light of Indo-France DTAA and the decision of the Special Bench of the Tribunal in the matter of Asstt. CIT v. Clough Engg. Ltd. [2011] 130 ITD 137/11 Taxman 70 (Delhi). ( (b) The grievance of the Revenue is with the impugned order following the decision of the Special bench in Clough Engg. Ltd. (supra). ( (c) However we find that the decision in Clough Engg. Ltd. (supra) of the Special Bench had been followed by the Tribunal in DHL Operations B.V. v. Dy. DIT [IT Appeal No. 183 (Mum.) of 2010]. The issue before the Tribunal was the rate of tax on which Income tax refund is to be taxed i.e. on the basis of the Articles of DTAA or under the Act. The Tribunal on examination of the DTAA in the above case concluded that interest on income tax refund is not effectively connected with the PE (Permanent Establishment) either on asset test or activity test. Therefore, taxable under the Article 11(2) of Indo-Netherlands tax treaty. The Revenue carried the aforesaid decision of DHL Operations B.V. (supra) in appeal to this Court, being Income Tax Appeal No.431 of 2012. This Court by order dated 17 July 2014 refused to entertain the appeal. In the circumstances no fault can be found with the impugned order of the Tribunal in restoring the issue to the Assessing officer to determine/adopt the rate of 20 The Bank of Nova Scotia tax on refund in the light of the relevant clauses of Indo-France DTAA and the decision of Special Bench in Clough Engg. Ltd. (supra). Accordingly, question 4 does not raise any substantial question of law so as to be entertained.” The above decision answers the objection raised by the ld. Departmental Representative. The Hon’ble High Court affirmed the view of Special Bench in Asstt.CIT vs. Clough Engg.Ltd, 11 taxmann.com 70 (Delhi –SB) that interest on income tax refund is not effectively connected with the PE. The Hon’ble High Court further clarified that such interest is taxable under Article 11(2) of Indo- Netherlands tax treaty.

“(i)Whether under the facts and circumstances of the case, the Income Tax Appellate Tribunal was right in holding that interest under Section 244A of the Act on refund of income tax is not covered within the term 'interest' under Article 12(4) and accordingly, the same is not outside the purview of taxation by India as provided in Article 12(3)(a) of the Double Taxation Avoidance Agreement between India and Italy?”

The Hon’ble Court after examining the provisions of Article 12 relating to “Interest” held that, “What was due as a refund and what was payable as interest on such refund are debt claims within the meaning of Article 12.4. As a consequence, they satisfy the parameters of Article 12.3(a).”. The treaty under reference in the said case was India-Italy DTAA. On reading of Article 12 of the aforesaid treaty which deals with “Interest”, we find that provisions of clause (3) are pari-materia to clause (3) of Article 11 of India Canada-DTAA. Hence, the ratio decidendi in the case of Ansaldo Energio SPA (supra) would apply to the instant ground of appeal.

21 The Bank of Nova Scotia

Order pronounced in the open court on Wednesday the 28th day of February, 2024.