MSC CREWING SERVICES P.LTD,MUMBAI vs. DCIT CIR 8(2), MUMBAI

PER G.S.PANNU,A.M:

These are cross-appeals filed by the assessee and the Revenue pertaining to A.Y. 2010-11 and are directed against the order of the DCIT, 8(2) (in short the Assessing Officer ) passed under section 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961 ( in short the Act) dated 30/10/2014, which is in conformity with the direction of the Dispute Resolution Pannel-2, Mumbai dated 08/10/2014

Assessee’s Grounds of Appeal:

“ 1. On the facts and circumstances of the case, and in law, the Assessment Order passed in pursuance to the directions issued by the Dispute Resolution Panel ("DRP”) is without jurisdiction and bad-in-law and is, therefore, liable to be quashed. 2. Without prejudice, the Assessing Officer ('AO')/DRP/Transfer Pricing Officer ('TPO') erred in law and in facts in making/confirming/proposing a transfer pricing adjustment of Rs.13.54 crores to the income of the Appellant. The Appellant submits that the entire transfer pricing addition of Rs. 13.54 crores (Rs. 0.58 crores for the issue of equity shares and Rs.12.95 crores for the notional interest on alleged receivables arising out of issue of equity shares) ultimately made by the AO pursuant to the directions of DRP is bad-in-law and without jurisdiction and, hence, ought to be deleted.

3 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 (d) Even otherwise, transfer pricing provisions do not apply to a transaction of such kind; and (e) The transaction of issue of shares is not an international transaction. 4. Without prejudice to the above, on the facts and in the circumstances of the case and in law, the AO/DRP/TPO erred in: a) holding that the Appellant has extinguished / relinquished a right under Section 2(47)(i) and Section 2(47)(ii) of the Act to receive fair market value of shares and such extinguishment / relinquishment is a 'transfer' for the determination of capital gain, without appreciating that by issuance of equity shares rights are created, not transferred; b) considering the issue of shares as a 'transfer giving rise to capital gains' by simply referring the provisions of Section 47(v), Section 47(vi) and Section 47 (vid) of the Act without explaining how these provisions are applicable; c) drawing erroneous analogy from the provision of Section 56 (viia) and 56(viib) of the Act without considering the applicability of the provisions of these Section in case of Appellant; d) considering share premium as a income taxable under the Act by drawing erroneous analogies from Section 56 (viib) and Section 68 of the Act; and e) in Confirming the taxability of the alleged notional receivables without specifying the relevant heads of income and considering the Chapter X as a separate code itself and Section 92 of the Act is separate charging provisions. 5. Without prejudice to the above, the Assessing Officer/TPO/DRP erred in law and in facts in making/confirming/proposing secondary transfer pricing adjustment of Rs. 12.95 crores [(Rs. 12.93 crores for the Financial Year ('FY') 2008-09 and Rs. 0.02 crores for the FY 2009-10)] by imputing interest on the alleged notional receivables arising out of issue of equity shares by the Appellant to its Associated Enterprises in the FY 2008-09 and FY 2009-10. The AO/TPO/DRP failed to appreciate that the secondary adjustment is not permissible in the Income Tax Act, 1961. 6. Without prejudice to the above, the AOITPO/DRP erred in rejecting the Appellant's valuation of shares and further erred in holding that the DCF method was the proper method for valuation of the shares. Furthermore, the AO/TPO/DRP erred in incorrectly applying the DCF method for valuation of the shares and, as a result, significantly overvaluing the fair value of the shares. 7. The Appellant craves leave to add to, amend or withdraw all or any of the aforesaid grounds of appeal at or before the hearing of the appeal. The Appellant prays that the entire transfer pricing adjustment of Rs. 13.54 crores be deleted.” Revenue’s Grounds of Appeal:-

4 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 1. "Whether on the facts and circumstances of the case and in law, the Hon'ble DRP erred in directing the TPO/ Assessing Officer to charge interest at the rate of return from fixed deposits by adding mark up of 3% for risk factors without appreciating the fact that the TPO "had adopted well accepted yield method based on BBB( - ) rated Corporate Bond from CRISIL Ltd. to benchmark interest rate on a deemed loan/receivables from the AE." 2. "The appellant prays that the order of the DRP on the above ground be set aside and that of the AO be restored". 3. At the time of hearing, it was a common point between the parties that the rival Grounds in the captioned cross appeals are fully governed by the decision of the Tribunal in the assessee’s own case for assessment year 2009- 10 dated 11/12/2014 vide appeal No.1666/Mum/2014. So however, in order to impart completeness to the order following discussion is relevant. The assessee before us was found to have issued 77400 equity shares of the face value of Rs.10/- at a premium of Rs.15/- on 27/11/2009 to its overseas holding company MSC Ship Management (Hongkong) Ltd. The Transfer Pricing Officer however, came to conclude that the issue price of the equity shares was undervalued and according to him the arm’s length issue price of the shares ought to be at Rs.100.997 per shares and as a consequence, the difference between the arm’s length issue price and the actual issue price was worked out at Rs.58,80,078/- Further, the Transfer Pricing Officer noted that such additional amount, which was not received by the assessee from its associated enterprise entailed loss of interest. Secondly, the Transfer Pricing Officer noted that in the earlier assessment year 2009-10 also an addition of Rs.114,93,15,931/- was made representing additional amount receivable from the associated enterprise on account of issue of shares below arm’s length issue price. The Transfer Pricing Officer noted that such amount was also outstanding for recovery. As a consequence, on a total amount of Rs.115,51,96,009/- ( i.e. Rs.58,80,078/- + Rs.114,93,15,931/-), the Transfer

5 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 Pricing Officer observed that the assessee ought to have compensated @ 12.28%, which worked out to Rs.14,13,81,303/-. As a consequence, he determined a total adjustment of Rs. 14,13,81,303/- on this account and accordingly, the Assessing Officer passed a draft order dated 10/02/2014. While dealing with the objections raised by the assessee, the DRP confirmed the determination of adjustment in relation to the issue price of shares at Rs.58,80,078/- but with regard to the compensation to be received for the amounts lying with the associated enterprise, the rate of interest was scaled down. The DRP directed that the compensation be calculated by charging interest at the rate derived by adding a markup of 3% for the risk factors on the secured rate of return from fixed deposits in bank. Accordingly, the adjustment proposed by the Transfer Pricing Officer on account of the compensation for the amounts with the credit of the associated enterprise was scaled down to Rs.12,95,22,774/- and accordingly total addition was retained at Rs.13,54,02,852/- in the final assessment order as per directions of the DRP.

6 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 Departmental Representative. The relevant discussion in the order of the Tribunal dated 11/12/2014 is as under:-

“3.At the time of hearing before us, the Authorised Representative of the assessee stated that the issue of share premium has been decided by the Hon’ble Bombay Court in the case of Vodafone India Services Private Limited(VISPL)in WP.871of 2014 on 23.07.2014.Department - al representative (DR)fairly conceded that the issue is decided in favour of the assessee by the said judgment of the Hon’ble jurisdictional High Court. We have heard the rival submissions and perused the material before us. We find that identical issue had arisen in the case of VISPL(supra).Briefly stated in the case of VISPLit was found that it was a wholly owned subsidiary of a non-resident company, Vodafone Tele Services(India)Holdings Limited(VTIHL). It required funds for its telecommunication services project in India from it holding company i.e. from VTIHL during the AY.2009-10.On 21.08. 2008,the assessee issued 2,89,224 equity shares of the face value of Rs.10/- each on a premium of Rs.8,509/- per share to VTIHL.This resulted in the assessee receiving a total consideration of Rs.246.38 crores from the holding company on issue of shares between August and November 2008.The fair market value of the issue of equity shares at Rs.8,519/- per share was determined by it in accordance with the methodology prescribed by the Government of India.According to the AO and Transfer Pricing Officer (TPO), the assessee ought to have valued each equity share at Rs.53,775/- as against the aforesaid valuation done under the Capital Issues (Control) Act, 1947 at Rs. 8,519/- and on that basis shortfall in premium to the extent of Rs.45,256/- per share resulted into total shortfall of Rs. 1308.91 crores.Both the AO and the TPO on application of the Transfer Pricing provisions of the Act held that this amount of Rs.1308.91 crores was income. As a consequence of the above,said amount of Rs.1308.91 crores was required to be treated as deemed loan given by the assessee to VTIHL and periodical interest thereon was to be charged to tax as interest income of Rs.88.35 crores in the AY.2009-10.According to the assessee, the Act did not tax inflow of capital into the country nor did it create any legal fiction to treat such alleged shortfall in capital receipt on issue of equity shares by an Indian company to its non-resident holding company,as income.It was also argued that there could be no question of treating the alleged shortfall as a deemed loan or taxing the alleged deemed interest on a deemed loan. It was contended that that provisions of chapter X had no application in cases where no income was arising from an International Transaction,that the issue of equity shares by the assessee to VTIHL did not give rise to any income from International Transaction,that arising of income on account of International Transaction was a condition precedent for application of Chapter X of the Act. Deciding the writ petition,the Hon’ble Court held as follow: “24.A plain reading of Section 92(1) of the Act very clearly brings out that income arising from a International Transaction is a condition precedent for application of Chapter X of the Act. This has already been so held by the order dated 29 November 2013 of this Court in Vodafone-III. We could have straight way held that the issue of examining the jurisdiction to apply Chapter X of the Act stands concluded by the order in Vodafone- III. 25.But we have examined the issue afresh.The word income for the purpose of the Act has a well understood meaning as defined in Section 2(24) of the Act. This even when the definition in Section 2(24) of the Act is an inclusive definition. It cannot be disputed that income will not in its normal meaning include capital receipts unless it is so specified, as in Section 2(24) (vi) of the

7 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 Act. In such a case, Capital Gains chargeable to tax under Section 45 of the Act are, defined to be income. The amounts received on issue of share capital including the premium is undoubtedly on capital account. Share premium have been made taxable by a legal fiction under Section 56(2)(viib) of the Act and the same is enumerated as Income in Section 2(24)(xvi) of the Act. However, what is bought into the ambit of income is the premium received from a resident in excess of the fair market value of the shares. In this case what is being sought to be taxed is capital not received from a non-resident i.e. premium allegedly not received on application of ALP. Therefore, absent express legislation, no amount received, accrued or arising on capital account transaction can be subjected to tax as Income. This is settled by the decision of this Court in Cadell Weaving Mill Co. vs. CIT 249 ITR 265 was upheld by the Apex Court in CIT vs. D.P. Sandu Bros. Chember (P) Ltd. 273 ITR 1. This Court has in Cadell Weaving Mills Co. (supra) inter alia, observed as under:- " It is well settled that all receipts are not taxable under the Income tax Act. Section 2(24) defines "income". It is no doubt an inclusive definition. However, a capital receipt is not income under section 2(24) unless it is chargable to tax as capital gains under Section 45. It is for this reason that under section 2(24)(vi) that the Legislature has expressly stated, inter alia, that income shall include any capital gains chargeable under section 45. Under Section 2(24)(vi), the Legislature has not included all capital gains as income. It is only capital gains chargeable under Section 45 which has been treated as income under Section 2(24). If the argument of the Department is accepted then all capital gains whether chargeable under section 45 of not, would come within the definition of the word "income" under section 2(24). Further, under section 2(24)(vi) the Legislature has not stated that "any capital gains" will be covered under the word income. On the contrary, the Legislature has advisedly stated that only capital gains which are chargeable under Section 45 of the Act could be treated as income. In other words, capital gains not chargeable to tax under section 45 fall outside the definition of the word "income" in section 2(24) of the Act. It is true that section 2(24) of the Act is an inclusive definition However, in this case, we are required to ascertain the scope of Section 2(24)(vi) and for that purpose we have to read the sub section strictly. We cannot widen the scope of sub section by saying that the definition as a whole is inclusive and not exhaustive. In the present case, the words "chargeable under section 45" are very important. They are not being read by the Department. These words cannot be omitted. In fact, the prior history shows that capital gains were not chargeable before 1946. They were not chargeable between 1948 and 1956. Therefore, whenever an amount which is otherwise a capital receipt is to be charged to tax, section 2(24) specifically so provides." In view of the above, we find considerable substance in the assessee's case that neither the capital receipts received by the assessee on issue of equity shares to its holding company, a non resident entity, nor the alleged short-fall between the so called fair market price of its equity shares and the issue price of the equity shares can be considered as income within the meaning of the expression as defined under the Act.(Emphasis by us.) We find that the facts of the case under consideration are similar to the fact of VIHPL .Hon’ble Bombay High Court has held that the capital receipts received by the assessee on

8 ITA No.7110&7678/Mum/2014 (Assessment Year 2010-11 issue of equity shares to its holding company cannot be considered income. Respectfully, following the above judgment,we hold that adjustment made by the AO on account of ‘share premium’ and ‘interest charged on account of under charged premium amount cannot be endorsed.We also hold that TP provisions are not applicable to such transaction. Effective ground of appeal in favour of the assessee.” 5.1 In view of the aforesaid precedent, which had been rendered under identical circumstances, it has to be held that the impugned adjustments made by the income tax authorities on account of under issuance of the shares and interest chargeable on account of such undercharged premium cannot be brought to tax following the judgment of the Hon'ble Bombay High Court in the case of Vodafone India Services Pvt. Ltd. (surpa). As a consequence, the stand of the assessee is allowed and Revenue fails in its appeal.

Order pronounced in the open court on 11 /01/2017

Sd/- Sd/- ( RAVISH SOOD ) (G.S. PANNU) JUDICIAL MEMBER ACCOCUNTANT MEMBER Mumbai, Dated 11/01/2017 Vm, Sr. PS Copy of the Order forwarded to : 1. The Appellant , 2. The Respondent. 3. The CIT(A)- 4. CIT 5. DR, ITAT, Mumbai 6. Guard file. BY ORDER, //True Copy// (Dy./Asstt. Registrar) ITAT, Mumbai