2025 (5) TMI 1302 - AT - Income Tax

TP adjustment - interest on outstanding receivable from AE - international transaction or not? - TPO re-characterised the delay in receipt of receivables as interest free unsecured loans advanced to the AE and treated the receivables from AE as international transaction in the nature of capital funding - TPO has made adjustment on notional interest computed @ 12.86% (SBI PLR of 9.86 Plus 300 basis points) and proposed adjustment HELD THAT - Adjustment made by the TPO towards interest on receivables which is well within the definition of international transaction. Therefore we are in agreement with the ld. CIT DR to the extent that the interest on outstanding receivables to AE is an international transaction. CIT(A) compared the margin of the assessee and of the comparables selected by AP/TPO and after finding that the margin of the assessee was better had deleted the additions - assessee has been able to demonstrate that after undertaking the economic adjustments of working capital the operating profit margin of the assessee was much higher than the comparables taken by the TPO. As it is clear that the assessee s margin of 31.59% is better than the mean of 14.30% of the comparables taken by AO/TPO thus no adjustment is required. The coordinate bench in case of Ameriprise India (P.) Ltd. 2015 (8) TMI 652 - ITAT DELHI considered the decision of coordinate bench in the case of Kusum Healthcare 2017 (4) TMI 1254 - DELHI HIGH COURT and held that the allowing working capital adjustment in the international transaction of rendering services can have no impact on the determination of ALP of the international transaction of interest on receivables from AEs. Disallowance made u/s 14A - assessee after identifying the direct and indirect expenses allocable to investments having exempt income made disallowance @ 20% of the said expenditures for purpose of section 14A - HELD THAT - We hereby set aside the order of ld. CIT(A) on the issue of deletion of addition made u/s 14A of the Act and direct the AO to recompute the amount of disallowance as per clause (iii) of sub-rule (2) of Rule 8D of the Income Tax Rules 1962 by taking the average value of those investments which yielded exempt income and made the disallowance if the resultant figure is more than the amount of suo-motto disallowance made by the assessee. In the event the resultant figure is less than the suo- motto disallowance made by the assessee no disallowance is required to be made. With these directions the ground of appeal of the Revenue are partly allowed for statistical purposes. TDS u/s 194H - Disallowance made u/s 40(a)(ia) - payment to bank as guarantee commission - HELD THAT - In the instant case the assessee has paid guarantee commission to the banker and though the AO has not specified under which provision assessee is required to make TDS on such payments. However from the nature of payments made by the assessee being guarantee commission it appears that as per AO assessee has violated the provisions of section 194H. For the application of the provisions of section 194H there must exists principal and agent relationship between the payer and payee i.e. the assessee and banker in the instant case. Further such transaction must be for the services rendered or for any services in the course of buying or selling of goods. As observed by ld. CIT(A) while deleting the disallowance no such Principal - Agent relationship existed and thus the payment of guarantee commission to the bank is not in the nature of commission so as to attract provisions of section 194H - order of CIT(A) in holding that the provisions of section 194H are not applicable to the facts of the present case needs no interference. Decided against revenue.

Summary

1. ISSUES PRESENTED and CONSIDERED

The appeal raised the following core legal questions for consideration:

(a) Whether the Commissioner of Income Tax (Appeals) was justified in deleting the addition of Rs. 5,16,73,139/- made on account of interest on outstanding receivables from associated enterprises (AEs), particularly in light of the retrospective amendment to Section 92B of the Income Tax Act, 1961 ("the Act") by the Finance Act, 2012.

(b) Whether interest on outstanding receivables from AEs can be excluded from transfer pricing adjustments if the assessee's profit margin exceeds that of comparable companies after working capital adjustments, despite receivables being outstanding beyond the agreed period.

(c) Whether the deletion of disallowance under Section 14A of the Act amounting to Rs. 78,420/- was justified, considering the mandatory computation under Rule 8D(2) of the Income Tax Rules, 1962.

(d) Whether the deletion of disallowance under Section 14A was appropriate without considering legal principles that allowability or disallowability of expenditure is not conditional upon earning income, as upheld by Supreme Court precedents.

(e) Whether the deletion of disallowance under Section 40(a)(ia) of the Act of Rs. 30,60,074/- on account of non-deduction of tax at source (TDS) on bank guarantee commission was justified, especially in view of Notification No. 56/2012 of the CBDT effective from 1 January 2013.

(f) Whether the Commissioner of Income Tax (Appeals) erred in allowing relief on the basis of earlier orders in the assessee's own case, despite the principle of res judicata not applying to income tax proceedings where each assessment year is separate.

2. ISSUE-WISE DETAILED ANALYSIS

Issues (a) and (b): Transfer Pricing Adjustment on Interest on Outstanding Receivables from AEs

Legal Framework and Precedents: Section 92B of the Income Tax Act defines "international transaction" and was amended retrospectively by the Finance Act, 2012, effective from 1 April 2002, to include capital financing transactions such as advances, payments, deferred payments, or receivables arising during the course of business. Explanation (i)(c) to Section 92B explicitly includes capital financing transactions within the ambit of international transactions. The judicial precedents considered included the decision of the Hon'ble Delhi High Court in CIT vs. Kusum Healthcare Pvt. Ltd., which held that not every receivable automatically qualifies as an international transaction and that working capital adjustments must be considered to avoid distortion.

Court's Interpretation and Reasoning: The Tribunal agreed that interest on outstanding receivables from AEs constitutes an international transaction under the amended Section 92B. However, the Tribunal upheld the Commissioner of Income Tax (Appeals)'s deletion of the addition based on the assessee's higher operating profit margin compared to comparables after working capital adjustment. The Tribunal relied on the principle that if the assessee's margin is better than comparables post-adjustment, no further transfer pricing adjustment is warranted.

Key Evidence and Findings: The assessee demonstrated an operating profit margin of 31.59%, which exceeded the mean margin of 14.30% of the comparable companies after working capital adjustment. The Tribunal noted the consistency with the Kusum Healthcare ruling, which precluded double adjustment for outstanding receivables already factored in working capital.

Application of Law to Facts: The Tribunal applied the retrospective amendment to Section 92B, recognizing the interest on receivables as an international transaction. Nonetheless, it held that the economic reality reflected by the higher margin of the assessee negated the need for an additional notional interest adjustment.

Treatment of Competing Arguments: While the revenue emphasized the retrospective amendment and the TPO's computation of notional interest at 12.86%, the assessee contended that entrepreneurial functions and risks were borne by it and that the outstanding receivables were part of core transactions without separate interest charges. The Tribunal favored the assessee's position, supported by judicial authority.

Conclusion: The Tribunal dismissed the revenue's grounds related to transfer pricing adjustments on interest on outstanding receivables, upholding the deletion of the addition by the Commissioner of Income Tax (Appeals).

Issues (c) and (d): Disallowance under Section 14A of the Act

Legal Framework and Precedents: Section 14A disallows expenditure incurred to earn exempt income. Rule 8D(2) prescribes a method for computing such disallowance. The Supreme Court decisions in CIT vs. Rajendra Prasad Moody and CIT vs. Walfort Share and Stock Brokers P. Ltd. establish that disallowance is not conditional on the earning of income. The Delhi High Court in the assessee's own case held that the onus is on the revenue to prove the incorrectness of the assessee's suo-motu disallowance.

Court's Interpretation and Reasoning: The Tribunal observed that the assessee had made suo-motu disallowance of Rs. 13,41,081/- and the AO computed a higher disallowance of Rs. 14,19,500/- using Rule 8D(iii). The Commissioner of Income Tax (Appeals) deleted the additional disallowance of Rs. 78,420/-. The Tribunal noted that Rule 8D was introduced from AY 2009-10 and that the AO's approach to disallow administrative expenses proportionate to exempt income was consistent with law.

Key Evidence and Findings: The assessee's investments yielding exempt income were financed from interest-free funds, and the AO limited disallowance to administrative expenses allocable to such investments. The Tribunal emphasized that disallowance should be computed only on investments yielding exempt income.

Application of Law to Facts: The Tribunal set aside the Commissioner of Income Tax (Appeals)'s order deleting the disallowance and directed the AO to recompute the disallowance under Rule 8D(2)(iii), considering only exempt income-yielding investments and comparing the resultant figure with the assessee's suo-motu disallowance.

Treatment of Competing Arguments: The revenue argued for restoration of the AO's disallowance, while the assessee relied on prior judicial findings and suo-motu disallowance. The Tribunal balanced these views by directing recomputation rather than outright restoration or deletion.

Conclusion: Grounds relating to Section 14A disallowance were partly allowed for statistical purposes, directing recomputation under Rule 8D(2)(iii).

Issues (e) and (f): Disallowance under Section 40(a)(ia) on Bank Guarantee Commission and Principle of Res Judicata

Legal Framework and Precedents: Section 40(a)(ia) disallows expenditure where tax is not deducted at source as required. Section 194H requires TDS on commission or brokerage payments, which presupposes a principal-agent relationship. Notification No. 56/2012 exempted bank guarantee commissions from TDS effective 1 January 2013. The Tribunal relied on the Mumbai Tribunal decision in Kotak Securities Ltd. v. DCIT, which held that bank guarantee commission is a fee for service and not commission attracting TDS under Section 194H. The principle of res judicata does not apply across different assessment years.

Court's Interpretation and Reasoning: The Tribunal found no principal-agent relationship between the assessee and the bank and held that bank guarantee commission is a fee for service, not commission under Section 194H. The Tribunal noted that the Notification exempted such payments from TDS from 2013 onwards, but payments before that date were questioned by the AO. However, the Tribunal agreed with the Commissioner of Income Tax (Appeals) that TDS provisions under Section 194H do not apply to bank guarantee commission.

Key Evidence and Findings: The Tribunal relied on the detailed reasoning in Kotak Securities Ltd., emphasizing the contextual meaning of "commission or brokerage" and the absence of principal-agent relationship. The Tribunal also noted consistent prior orders in the assessee's own case.

Application of Law to Facts: The Tribunal applied the legal principle that bank guarantee commission is not subject to TDS under Section 194H and upheld the deletion of disallowance under Section 40(a)(ia).

Treatment of Competing Arguments: The revenue urged restoration based on the notification's effective date and non-deduction of TDS. The assessee relied on judicial precedents and the Commissioner of Income Tax (Appeals)'s order. The Tribunal sided with the assessee.

Conclusion: The Tribunal dismissed the revenue's appeal on these grounds, upholding the deletion of disallowance under Section 40(a)(ia).

3. SIGNIFICANT HOLDINGS

"The above explanation clarifies and also justifies the adjustment made by the TPO towards interest on receivables, which is well within the definition of international transaction."

"With the Assessee having already factored in the impact of the receivables on the working capital and thereby on its pricing/profitability vis-a-vis that of its comparables, any further adjustment only on the basis of the outstanding receivables would have distorted the picture and re-characterized the transaction."

"The inclusion in the Explanation to Section 92B of the Act of the expression 'receivables' does not mean that de hors the context every item of 'receivables' appearing in the accounts of an entity, which may have dealings with foreign AEs would automatically be characterized as an international transaction."

"The burden is on the revenue to ascertain the correctness of the suo-moto disallowance made by the assessee."

"The provisions of section 194H cannot be invoked in case of bank charges. The principal-agent relationship is a sine qua non for invoking the provisions of section 194H."

"When bank issues the bank guarantee on behalf of the assessee, all it does is to accept the commitment of making payment of a specified amount to, on demand, the beneficiary, and it is in consideration of this commitment, the bank charges a fees which is customarily termed as 'bank guarantee commission'. While it is termed as 'guarantee commission', it is not in the nature of 'commission' as it is understood in common business parlance and in the context of section 194H."

Core Principles Established:

• Interest on outstanding receivables from associated enterprises is an international transaction under Section 92B, but transfer pricing adjustments are not warranted if the assessee's profit margin after working capital adjustment exceeds comparables.
• Disallowance under Section 14A must be computed in accordance with Rule 8D, considering only investments yielding exempt income, and the revenue must disprove the assessee's suo-motu disallowance.
• Bank guarantee commission payments do not attract TDS under Section 194H due to absence of principal-agent relationship and nature of payment as fee for service.
• The principle of res judicata does not apply across different assessment years in income tax proceedings.

Final Determinations on Each Issue:

(a) The deletion of transfer pricing addition on interest on outstanding receivables was upheld.

(b) The deletion of disallowance under Section 14A was set aside; the matter was remanded for recomputation under Rule 8D.

(c) The deletion of disallowance under Section 40(a)(ia) on bank guarantee commission was upheld.

(d) The reliance on earlier orders for relief was accepted, with the recognition that res judicata does not apply across assessment years.