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Income Tax Appellate Tribunal, “C” BENCH : BANGALORE
Before: SHRI N.V. VASUDEVAN & SHRI ABRAHAM P. GEORGE
O R D E R Per N.V. Vasudevan, Judicial Member
This is an appeal by the assessee against the order dated 14.9.2012 of the ACIT, Circle 11(4), Bangalore passed u/s. 143(3) r.w.s. 144C of the Income-tax Act, 1961 [“the Act”].
IT(TP)A No.1504/Bang/2012 Page 2 of 15
The assessee is a company engaged in rendering pharma services. In this appeal, we are concerned with only one issue viz., determination of arm’s length price (ALP) u/s. 92 of the Act in respect of an international transaction entered into by the assessee with its AE.
During the financial year 2007-08, the assessee charged interest to the tune of Rs.6,716,992 for the loans give to its AEs as follows:-
Associated Enterprise Amount (Rs.) ILSL Holdings Inc 56,44,934 Indegene Fareast Pte Ltd. 507,115 Indegene Australia Pte Ltd. 564,943 The assessee had transferred funds to Indegene US and Indegene Singapore (borrowers) between period April 2005 to March 2006 for their capital investment and business development. For the funds transferred the assessee has made a loan agreement with the said subsidiaries on 30th March 2006. The terms and conditions of the loan agreement are as follows:-
• The amount of loan to Indegene Inc. is USD 1,278,900 and to Indegene Singapore is SGD 185,000 • The rate of interest is 10% per annum. • The agreement would be in force from the date of the agreement and shall be renewed at the end of three years and the parties are free to extend it for a longer period upon mutual written agreement between them. • The Applicant(borrower) has the option to convert these funds to preference stock as per conditions to be specified in Shareholder’s agreement as mutually decided at any time in future. • Initial tenor for the repayment will be three years and further expansion by mutual decision thereafter.
IT(TP)A No.1504/Bang/2012 Page 3 of 15
• Indegene US and Indegene Singapore shall promptly pay all present or future tax, fees, charge or duties assessed or imposed by the Government of India or agency thereof with respect to the loans. Any withholding tax due to be paid shall be withheld by the said entities and paid to the appropriate authorities.
The assessee had also funded the finance requirements for capital investment and business development of Indegene Australia. For this purpose the assessee has entered into a loan agreement with Indegene Australia on 4th July 2006. The terms and conditions of the agreement are as follows:-
• The Assessee agreed to fund AUD 500,000 to Indegene Australia. Indegene Australia can request and use the funds in trances any time as per its requirements. • The agreement would be in force and effective from the date of the agreement and shall be renewed at the end of three years and the parties are free to extend it for a longer period upon mutual written agreement between them. • The Applicant(borrower) has the option to convert these funds to preference stock as per conditions to be specified in Shareholders’ Agreement as mutually decided at any time in future. • The rate of interest is 10% per annum. • Initial tenor for the repayment will be three years and further expansion by mutual decision thereafter. • Indegene Australia shall promptly pay all present or future tax fees, charge or duties assessed or imposed by the Government of India or agency thereof with respect to the loans. Any withholding tax due to be paid shall be withheld by the said entity and paid to the appropriate authorities.
Accordingly, Indegene Australia had availed a loan of AUD 4,000/- in FY 2006-07 and AUD 210,000/- in FY 2007-08. Indegene Australia has repaid a portion of the said loan during the FY 2007-08.
IT(TP)A No.1504/Bang/2012 Page 4 of 15
Since the loan transaction between the Assessee and the aforesaid entities was an international transaction between two associated enterprises, the rate of interest charged for the loan has to pass the arm’s length test as laid down in Sec.92 of the Act. The TPO to whom the question of determination of Arm’s Length Price (ALP) was referred to considered corporate bonds issued by the companies in India as against the government bonds for the comparability of the interest rate earned. The TPO was of the view that the government bonds carries only interest risk and no credit risk wherein the corporate bonds have elements of both the risk embedded in them. The TPO further relied upon the safety level of the corporate bonds based on the grading issued by CRISIL and considered the loans given by the Assessee similar to corporate bonds falling within the grade of BB to D. The TPO was of the view that the risks in the loans given are too high for the Company and have considered the same to be in the grade of BB and corresponding interest rate was computed at 17.26%.
7. In this regard the Assessee submitted that the loans were provided to the 100% subsidiaries of the Company situated outside India. Given that the AEs are a subsidiary of the lender entity the rationale for allocating the various risks as prevalent in the context of third party lending as stated by the TPO would not arise. Further, it was submitted that as outlined by the TPO, the health of the subsidiary companies to whom the loans were forwarded was not in good condition. The Assessee contended that the IT(TP)A No.1504/Bang/2012 Page 5 of 15 TPO failed to appreciate business and commercial expediency in relation to the loans forwarded to the subsidiaries. It was highlighted that the said loans were provided for business reason to infuse funding to the operations of the overseas subsidiaries and the subsidiaries were 100% subsidiaries of Indegene India and the loan agreement carried a clause that the same is convertible into equity as may be mutually decided by the parties. The loans were in fact provided to meet the business objectives of the Group as a whole and were towards achieving the Global business model as proposed to be implemented by the Company. Further it was pointed out that the loans were provided from the excess cash surplus and Indegene India has not borne any interest cost on the same. The Assessee relied on the decisions of Tribunal in the case of Four Soft Limited vs DCIT, 2011- TII-92-ITAT-HYD-TP and M/s Siva Industries & Holdings Ltd., 2011-TII-67- ITAT-MAD-TP. In the aforesaid decision it has been held that that the ALP is to be determined for the international transaction, that is, on international loan and not for the domestic loan. Hence, the comparable, in respect of foreign currency loan in the international market, is to be LIBOR based which is internationally recognized and adopted. It was argued that the TPO failed to appreciate the geographic differences between the associated enterprises and the comparables selected viz., the geographic and economic dissimilarity between the loans provided in India and outside India and also no suitable adjustment were made. It was also submitted that assuming though not admitting that in case the interest as charged by IT(TP)A No.1504/Bang/2012 Page 6 of 15 Indegene India shall be considered with corporate bonds in view of the risks as stated by the TPO, the interest rate of comparison should be with the corporate bonds rate prevailing in the countries in which the loan is given. In this regard attention of the DRP was invited to the following interest rates during the year 2007 & 2008 in the respective geographies as under:-
Geography Bonds Type Interest Rate Interest Rate 2007 2008 USA AAA 5.56% 5.63% BAA 6.48% 7.44% PLR 8.05% 5.09% Singapore PLR 5.33% 5.38% Australia Term Loans Unsecured 12.35% 14.00%
It was submitted that in view of the above, it can be seen that for the loan given to US and Singapore the Company has charged interest more than the prevailing lending rates in the respective geographies. In relation to loan given to Indegene Australia though the interest rates are lower than lending rates on term loans, however the loans forwarded to Indegene Australia was for short term and the same was duly repaid.
It was also submitted that the Foreign Exchange Monitoring Authority in India being the Reserve Bank of India has specified LIBOR/ EURO UBOR/EURIBOR to be considered for the computation of interest rate on export credit in foreign currency extended to exporters. The IT(TP)A No.1504/Bang/2012 Page 7 of 15 assessee further submitted the LIBOR rate for the FY 2007 and 2008 were as under:-
LIBOR 2007 2008 USD 5.22% 2.48625% AUD 6.7075% 8.08%
In view of the same, it was submitted that considering the above rates as per the judicial precedent, the assessee has charged higher rate of interest from its subsidiaries. In view of the same the interest charged by the Company shall be considered to be at arm’s length.
The TPO to whom the question of determination of ALP was referred to by the AO was of the view that adoption of LIBOR rates for the purpose of determining the ALP in respect of loan given in foreign currency has advocated in the decisions rendered by the ITAT Chennai Bench and Hyderabad Bench in the case of Siva Industries & Holdings (supra) and Foursoft Ltd. (supra) cannot be accepted as those decisions have not attained finality. The TPO thereafter determined the ALP by applying 17.26% rate of interest for the following reasons:-
“ Thus the yield on BB rated bonds can be taken as 20% more than the BBB rated bond (120% of 14.39% = 17.26%). Further, the yield on ‘B’ rated bonds can be taken as 20% more than the BB rated bond (120% of 17.26% = 20.72%). An unsecured loan is like an unrated bond and the risk is very high in such circumstances and so on.
IT(TP)A No.1504/Bang/2012 Page 8 of 15
The issue to be decided now is to determine as to where the case of the taxpayer falls in the grading range of BB to D, which as mentioned above, is for the cases where, either there is no safety or the safety is inadequate. Although, tile taxpayer’s risk is very high, however, to be reasonable and fair to the assessee as well as its AE, it is proposed to apply the yield rates for ‘BB’ to the case of the taxpayer. As per the calculations made above on the basis of information supplied by CRISIL, the annnua1 average yield for ‘BB’ rated bond for 5 year or more term is calculated at 17.26%.”
The ALP was determined by applying the aforesaid rate on the monthly closing balance. A chart in this regard is given at page 7.4 of the TPO’s order. The TPO finally determined the ALP as follows:-
Arm’s Length Interest Rate 17.26% p.a. ALP @ 17.26% p.a. on the monthly Rs.1,15,01,312 outstanding balances Price received vis-à-vis the Arm’s Length Price
The price charged by the tax payer at Rs.67,16,992/- in the form of interest to its Associated Enterprise is compared to the Arm’s Length Price or interest as under:
Arm’s Length Interest Rs.1,15,01,312 Interest Received Rs.67,16,992 Shortfall being adjustment u/s. 92CA Rs.47,84,320
The above amount of Rs.47,84,320 is treated as adjustment u/s. 92CA. The other international transactions are treated at Arm’s Length in absence of any adverse inference based on the submissions made by the taxpayer before the TPO and material available on record.”
IT(TP)A No.1504/Bang/2012 Page 9 of 15
The AO thereafter passed a fair assessment order incorporating the addition consequent to determination of ALP in the final order of assessment, against which the assessee has preferred the present appeal before the Tribunal. The Assessee filed objections before the DRP to the proposal of the TPO. The DRP however confirmed the order of the TPO and hence this appeal by the Assessee before the Tribunal.
The learned counsel for the Assessee, apart from reiterating the submissions as made before the AO, submitted that the DRP did not deal with the application of LIBOR rate of exchange and did not deal with the decisions referred to by the assessee in this regard. He pointed out that the DRP in this regard had merely expressed the view that the method of computation done by the TPO was correct and did not call for any interference. It was further contended that the Honorable Dispute Resolution Panel, erred in confirming the order of the Ld. Transfer Pricing Officer which did not consider the interest rate of corporate bonds prevailing in the countries in which the loans were given by the Assessee, i.e., in the United States of America, Singapore and Australia. It was contended that the Honorable Dispute Resolution Panel, erred in confirming the order of the Ld. Transfer Pricing Officer which did not consider the proposition of the Appellant to use the LIBOR / EURO LIBOR / EURIBOR for the computation of interest rate on export credit in foreign currency extended to exporters. It was argued that the authorities below have not followed the decisions of the Tribunal referred to by the ld.
IT(TP)A No.1504/Bang/2012 Page 10 of 15 counsel for the assessee for the reason that those decisions had not attained finality. The learned DR relied on the order of the DRP.
We have considered the rival submissions. In the case of Siva Industries & Holdings Ltd. (supra), identical issue was considered by the Tribunal. In fact, the ITAT Bangalore Bench in the case of TTK Prestige Ltd. v. ACIT, for A.Y. 2005-06, has also dealt with an identical issue and following the decision of the Mumbai Bench of the Tribunal in Tata Autocomp Systems Pvt. Ltd. v .ACIT, ITA No.7354/Mum/2011, dated 30.4.2012, held that in the matter of determination of ALP in respect of a loan transaction, LIBOR rate of interest should be the interest rate applied for determining the ALP. Following are the relevant observations of the Tribunal:-
“37. On the quantum of interest percentage that has to be added, we find the Mumbai Bench of the ITAT in the case of Tata Autocomp Systems Ltd. (supra) held as follows: “18. On the issue as to what is quantum of addition that has to be made, we will proceed to examine the issue on the basis that CUP is the most appropriate method for determining ALP in the present case. It has been the argument on behalf of the Assessee that the TPO has adopted the interest rate charged by a domestic bank as comparable rate ignoring the fact that the Assessee is not in the business of granting loans. It has further been submitted that in a situation where an international loan was granted to an AE, a EURIBOR based interest rate would have been the most appropriate comparable uncontrolled rate. The working of the EURIBOR rate at 4.15% has already been set out in the earlier part of this order and is not being repeated. The contention of the Assessee in this regard finds support from the following rulings of the Tribunal VVF Ltd. VS. DCIT (supra), M/S.
IT(TP)A No.1504/Bang/2012 Page 11 of 15
Siva Industries & Holdings Ltd. Vs. ACIT (Supra), DCIT Vs. Tech Mahindra Ltd. (supra) and M/S. Four Soft Ltd. VS. DCIT (supra). The Mumbai Tribunal in the case of Tech Mahindra (supra) held that the arm’s length price in case of interest on extended credit period granted to an Associated Enterprise shall be determined on the basis of USD LIBOR and not on any other currency denominated loan rate. The Mumbai Bench of the Income-tax Appellate Tribunal (the Tribunal) in case of Tech Mahindra Limited (the taxpayer) for Assessment Year (AY) 2004-05, held that the arm’s length price in case of interest on extended credit period allowed to an Associated Enterprise (AE) based in USA shall be determined on the basis of USD London Inter Bank Offer Rate (LIBOR) instead of applying the rate of interest pertaining to EURO denominated loan charged to AE based in Germany since the AE was based in USA. The facts of the case were that the Assessee in that case was a joint venture between Mahindra & Mahindra Limited (Indian company) and British Telecommunications (UK Company), was engaged in rendering of software services relating to telecommunication, internet technology and engineering etc. During the previous year , the taxpayer had extended credit beyond the stipulated credit period to its AE based in USA without charging any interest on such extended credit period. During the assessment proceedings, the Transfer Pricing Officer (TPO) rejected taxpayer’s arguments and determined the arm’s length interest for such extended credit period to US AE at the rate of 10 percent per annum. The TPO determined this rate based on the rate of interest charged by the taxpayer on Euro denominated loan granted to its German AE. The resultant transfer pricing adjustment amounted to INR 1.87 crores. The Assessing Officer (AO) adopted the adjustments made by the TPO. Aggrieved by the decision of the AO, the taxpayer filed objections before the Commissioner of Income Tax (Appeals) [CIT(A)]. The CIT(A) confirmed the transfer pricing adjustment, however, restricted the same to 2 percent based on the USD LIBOR rate plus 80 basis point mark-up. Aggrieved by the order of the CIT(A), that AO filed an appeal before the Tribunal. The Tribunal had that the TPO made an error in selecting the transaction of charging of interest to German AE on loan granted at the rate of 10 percent per annum as internal comparable. Following the position settled in case Skoda Auto India and Rule 10B(1)(a) of the IT(TP)A No.1504/Bang/2012 Page 12 of 15
Income-tax Rules, 1962, to be an internal comparable under the Comparable Uncontrolled Price (CUP) method, the transaction needs to occur between the taxpayer and an independent party. Even assuming that the adjustment for extended credit was necessary, USD LIBOR is more appropriate basis than the rate of interest on Euro denominated loan considering the fact that the AE is based in USA and commercial principles and practices related to USD denominated extended credit. The Tribunal has also made a crucial point that the arm’s length interest rate should be taken from the country of the borrower/debtor, i.e. the rate of interest to be used for benchmarking shall be the rate of interest in respect of the currency in which the underlying transaction has taken place in consideration of economic and commercial factors around the specific currency denominated interest rate. The aforesaid ruling was followed by the Chennai Bench of ITAT in the case of M/S. Siva Industries & Holdings Ltd. (supra), wherein the Tribunal held as follows: “We have considered the rival submissions. A perusal of the order of the TPO clearly shows that the assessee had raised the funds by way of issuance of 0% optional convertible preferential shares. Thus it is noticed that the funds raised by the assessee company for giving the loan to India Telecom Holdings Ltd., Mauritius, which is its Associated Enterprises and which is the subsidiary company, is out of the funds of the assessee company. It is not borrowed funds. The assessee has given the loan to the Associated Enterprises in US dollars. The assessee is also receiving interest from the Associated Enterprises in Indian rupees. Once the transaction between the assessee and the Associated Enterprises is in foreign currency and the transaction is an international transaction, then the transaction would have to be looked upon by applying the commercial principles in regard to international transaction. If this is so, then the domestic prime lending rate would have no applicability and the international rate fixed being LIBOR would come into play. In the circumstances, we are of the view that it LIBOR rate which has to be considered while determining the arm’s length interest rate in respect
IT(TP)A No.1504/Bang/2012 Page 13 of 15 of the transaction between the assessee and the Associated Enterprises. As it is noticed that the average of the LIBOR rate for 1.4.2005 to 3 1.3.2006 is 4.42% and the assessee has charged interest at 6% which is higher than the LIBOR rate, we are of the view that no addition on this count is liable to be made in the hands of the assessee. In the circumstances, the addition as made by the Assessing Officer on this count is deleted.”
In the present case the AE is a German company. Eurobior rates are based on the average interest rates at which a panel of more than 50 European banks borrow funds from one another. There are different maturities, ranging from one week to one year. These rates are considered to be the most important rate in the European money market. The interest rates do provide the basis for the price and interest rates of all kinds of financial products like interest rate swaps, interest rate futures, saving account and mortgages. We find that the RBI in respect of export credit to exporters at internationally competitive rates under the scheme of pre-shipment credit in foreign currency (PCFC) and Rediscounting of Export Bills abroad (EBR), has permitted banks to fix the rates of interest with reference to ruling LIBOR, EURO LIBOR or EURIBOR, wherever applicable and thereto appropriate percentage ranging from 1% to 2%. The reference to the said circular is at page -80 of the Assessee’s paper book. In our view the claim of the Assessee to adopt EURIBOR rate as stated before the TPO is reasonable and deserves to be accepted. Following the ruling of the tribunal in the aforesaid cases, we are of the view that the claim made by the Assessee in this regard has to be accepted. The AO is directed to work out the TP adjustment accordingly. Gr.No.1 to 4 are thus partly allowed.”
Following the aforesaid decision of the Mumbai ITAT we direct the AO to work out the TP adjustment as directed in the Tribunal’s order referred to above. Gr.No.2A is thus partly allowed to the extent indicated above.”
IT(TP)A No.1504/Bang/2012 Page 14 of 15
It is clear from the aforesaid decision that the ALP is to be determined for the international transaction, that is, on international loan and not for the domestic loan. Hence, the comparable, in respect of foreign currency loan in the international market, is to be LIBOR based which is internationally recognized and adopted. In the present case, it is not disputed by the Revenue that the interest rate charged by the assessee in the international transactions was much higher than the LIBOR rates. It is also not in dispute before us that the decisions rendered by the Chennai Bench of the Tribunal in the case of Siva Industries & Holdings Ltd. (supra) has not been overruled or any other contrary decision has been taken on the issue by any Benches of the Tribunal. In such circumstances, we are of the view that the stand taken by the AO for rejecting the plea of the assessee referred to above is unsustainable. In view of the above conclusions, we are of the view that the interest charged in the loan transaction in question has to be held to be as at arm’s length. We hold accordingly and allow the appeal of the assessee.
In view of the above conclusion, we do not deem it fit and appropriate to deal with the other issues raised by the assessee in its grounds of appeal.
IT(TP)A No.1504/Bang/2012 Page 15 of 15
In the result, the appeal by the assessee is allowed.
Pronounced in the open court on this 29th day of June, 2015.