2025 (7) TMI 609 - HC - Income Tax

TP Adjustment - MAM selection - important factor in determining the comparability under the CUP method - interpretation of the term arm s length price vis- -vis open market value and the CUP comparison undertaken under different market conditions - determine the Arm s Length Price (ALP) for sale of power by Captive Power Plant (CPP) to non-eligible units in accordance with the provision of the Act read with the Income Tax Rules - CIT(A) held that the methodology followed and bench marking performed by the assessee was legally justified and that the intent and purpose of setting up of the Captive Power Plant (CPP) is markedly different from that of the power generation units as well as the State Electricity Board to which units supplied electricity and undisputedly the CUP method was of the most appropriate method in the assessee s case to determine ALP and it was correct and more appropriate to use the Internal CUP method rather than External CUP for the reason that former was more robust and reliable method for determining the Arm s Length Price (ALP) as well as for the fact that reliable internal data was readily available in the assessee case Validity of order of ITAT upholding the method adopted by the assesse to benchmark the transaction wherein average annual landed cost of electricity purchased by the consuming unit from SEB is taken as Market Value whereas as per explanation to section 80IA(8) of the Act market value in relation to any goods or services means price that such goods or services would ordinarily fetch in the open market or the arm s length price as defined in clause (ii) of section 92F where the is a specified domestic transaction referred to in section 92BA . HELD THAT - It is not in dispute that the main business of the assessee is not generating power to sell the same to distribution companies/SEBs. It is also not in dispute that the Captive Power Plants (CPPs) were established by the assessee for its own need i.e. for supply of uninterrupted power to its manufacturing units as well as to save the cost of power purchased from SEBs. If such be the factual position the Arm s Length Price cannot be determined by taking the average market rates of power supply units to distribution companies as the assessee is not in the business of selling power to distribution companies. Therefore the Arm s Length Price has to be determined bearing in mind the reason behind establishment of the CPPs namely to ensure uninterrupted power and to save on cost of electricity which otherwise has to be paid to the State Electricity Board. It would be relevant to take note of the Electricity Act 2003. Section 2(8) of the Act defines Captive Generating Plant to mean a power plant set up by any person to generate electricity primarily for its own use and includes its power plant set up by any cooperative society or association of persons for generating electricity primarily for use of members of such cooperative society or association. Section 9 of the Act deals with Captive Generation. Subsection 1 of Section 9 commences with a non obstante clause and states that notwithstanding anything contained in the Electricity Act 2003 a person may construct maintain or operate a Captive Generating Plant and dedicated transmission lines. The first proviso states that the supply of electricity from Captive Generating Plant through grid can be regulated in the same manner as the generating station of a generating company. The second proviso states that no license shall be required under the Electricity Act for supply of electricity generated from Captive generating plant to any licensee in accordance with the provisions of the Act and the Rules and Regulations made thereunder and to any consumer subject to Regulations made under Sub Section 2 of Section 42. Sub Section 2 of Section 9 states that every person who has constructed a Captive Generating Plant and maintains and operates such plant shall have the right to open access for the purpose of carrying electricity from his Captive Generating Plant to the destination of his use. Section 42 of the Act deals with duties of the distribution licensees and open access. Thus the scheme of the Act is that a person may construct maintain or operate a Captive Generating Plant and dedicated transmission lines and captive plants will have the right to open access for the purpose of carrying electricity from captive plants to the destination of its use and no surcharge is leviable in case open access is provided to captive units by the central or state transmission utility or the transmission licensee involved in the distribution/transmission of power. Further the provision make it clear that there is no embargo to other power generating companies to directly sell the power to such consumer at mutually agreed rate. This being not the legal position when the decision in ITC Limited was rendered the said decision could not have been relied upon by the TPO/assessing officer. We concur with the views expressed by the learned tribunal that the consumer/contracting parties will certainly desire to purchase electricity at lesser rate than the rates offered by State Electricity Board whereas the Captive Power Plants/generating companies would desire to get maximum rate on the sale of power in unregulated and uncontrolled transaction and both the parties would settle at mutually agreed rates irrespective of the rates at which the State Electricity purchases power from other generating units. Tribunal in the case of Star Paper Mills Limited 2021 (11) TMI 1 - ITAT KOLKATA held that where the assessee company engaged in business of manufacturing and sale of paper had set up Captive Power Plant (CPP) to meet its requirements of its paper manufacturing units which also availed power from State Electricity Board the said transaction being in nature of specified domestic transaction transfer price of power supplied by CPP was to be bench marked at annual average of landed cost at which power was being purchased by manufacturing units from State Electricity Board. The revenue carried the matter on appeal before this court and the appeal filed by the revenue was dismissed and the said decision is reported in 2025 (2) TMI 833 - CALCUTTA HIGH COURT . Hon ble Supreme Court in ITC Limited 2015 (7) TMI 450 - CALCUTTA HIGH COURT after taking note of the relevant provisions of the Income Tax Act and in particular Section 80IA held that the market value of the power supplied by State Electricity Board to the Industrial consumers should be construed to be the market value of electricity and it should not be compared with the rate of power sold to or supply to the State Electricity Board since the rate of power to a supplier cannot be the market rate of power sold to a consumer in the open market. It was further held that the State Electricity Boards rate when it supplies power to the consumer have to be taken as market value for computing the deduction under Section 80IA of the Act. Thus applying the decision of the Hon ble Supreme Court in Jindal Steel and Power 2023 (12) TMI 417 - SUPREME COURT and in the light of the reasoning given in the preceding paragraphs we hold that the learned tribunal rightly dismissed the appeals filed by the revenue.

Summary

The core legal questions considered by the Court in these appeals filed by the revenue under Section 260A of the Income Tax Act, 1961, primarily revolve around the determination of the arm's length price (ALP) for transfer pricing adjustments related to electricity supplied by Captive Power Plants (CPPs) to non-eligible units within the same undertaking. The issues include:

(a) Whether the Income Tax Appellate Tribunal (ITAT) was justified in relying on the Apex Court's decision in Jindal Steel and Power Limited despite factual distinctions;

(b) Whether the ITAT erred in not applying the statutory provisions mandating "market value" to be equated with "arm's length price" as defined under transfer pricing provisions;

(d) Whether the Transfer Pricing Officer (TPO) erred in not applying the external Comparable Uncontrolled Price (CUP) method and whether the ITAT failed to discuss the appropriateness of the method chosen;

(e) Whether the ITAT failed to appreciate key factual and legal aspects including the nature of CPPs, tariff distinctions between generation and distribution, and applicability of regulatory provisions such as Rule 10B(2)(d) of the Income Tax Rules, 1962;

(f) Whether the ITAT was justified in upholding the assessee's method of benchmarking using the average annual landed cost of electricity purchased from State Electricity Boards (SEBs) as market value;

(g) Whether the ITAT erred in not appreciating that a manufacturer cannot claim benefits based on distribution licensee rates and ignoring the essential comparability factors of functions, assets, and risks as per Rule 10B(2)(b).

These issues are interrelated and primarily focus on the correct methodology for determining the arm's length price for power supplied by CPPs to related non-eligible units and the applicability of regulatory and judicial precedents in this context.

Issue-wise Detailed Analysis:

1. Reliance on Apex Court Decision in Jindal Steel and Power Limited

The revenue challenged the ITAT's reliance on the Supreme Court's decision in Jindal Steel and Power Limited, contending that the facts and circumstances in the present case are distinguishable. The Court examined the factual matrix and noted that the Jindal Steel decision clarified that the market value of electricity supplied by CPPs to industrial units should be computed by reference to the rate at which SEBs supply power to industrial consumers in the open market, not by the rate at which power is sold to the SEBs by generators.

The Court observed that the Jindal Steel ruling is binding and directly addresses the issue of market value computation for power supplied by CPPs. The Court rejected the revenue's contention of factual distinction, holding that the principles laid down in Jindal Steel squarely apply as the present case involves similar transactions between CPPs and manufacturing units within the same undertaking.

2. Statutory Provisions and Transfer Pricing Framework

The Court analyzed the relevant statutory provisions, particularly Section 80IA(8) of the Income Tax Act, which defines "market value" in relation to goods or services to mean either the price ordinarily fetched in the open market or the arm's length price as defined in Section 92F read with Section 92BA for specified domestic transactions. The Court also examined Rule 10B of the Income Tax Rules, 1962, which prescribes the CUP method as one of the methods for determining ALP, emphasizing the need for strict product comparability and similar contractual and economic conditions.

The Court noted that the TPO had rejected the assessee's benchmarking on the ground that the landed cost of power purchased from SEBs (distribution entities) cannot be equated with the generation tariff applicable to CPPs, and that the appropriate CUP should be the rate at which distribution companies procure power from generating companies. However, the Court found that this approach ignored the specific context of captive generation and supply within the same undertaking and the regulatory framework under the Electricity Act, 2003.

3. Choice of Methodology: Internal CUP vs External CUP

The CIT(A) and ITAT accepted the assessee's contention that the Internal CUP method was the most appropriate method since the non-eligible manufacturing units purchased power both from CPPs and SEBs, providing reliable internal comparable data. The Court endorsed this view, noting that the Internal CUP method compares prices charged in controlled transactions with prices charged in comparable uncontrolled transactions by the same or associated enterprises, provided the product and conditions are similar.

The Court held that the product "power" is homogeneous and comparable whether supplied by CPPs or SEBs, and that the availability of reliable internal data made the Internal CUP method more robust and appropriate than the External CUP method. The TPO's insistence on external benchmarking with distribution companies' procurement rates was rejected as less relevant to the facts.

4. Regulatory Framework and Impact on Market Value Determination

The Court extensively examined the Electricity Act, 2003, which defines Captive Generating Plants and grants them rights to generate electricity primarily for their own use, including open access provisions. The Court noted that the regulatory environment post-2003 differs significantly from the pre-2003 era when the ITC Limited decision was rendered. The Electricity Act allows captive plants to supply power to their own manufacturing units without being subject to the same tariff structures applicable to distribution companies.

The Court observed that the tariff rates fixed by State Electricity Regulatory Commissions for generation and distribution are distinct, reflecting different functions, risks, and costs. The Court agreed with the assessee that the purpose of CPPs is to ensure uninterrupted power supply and cost savings for manufacturing units, which justifies benchmarking the transfer price with the rates at which manufacturing units purchase power from SEBs rather than generation-to-distribution tariffs.

5. Treatment of Competing Arguments and Precedents

The Court considered the revenue's reliance on the ITC Limited decision and the TPO's arguments regarding the inapplicability of the landed cost method. It distinguished the ITC Limited decision on the basis of changed regulatory regime and market conditions post-2003. The Court also examined other High Court decisions relied upon by the assessee, including Gujarat Alkalis and Chemicals Limited and Reliance Industries Limited, which supported the use of internal CUP and benchmarking against SEB supply rates to industrial consumers.

The Court found that the CIT(A) and ITAT had properly appreciated the facts, regulatory framework, and judicial precedents, and had correctly applied the law to the facts, rejecting the revenue's contentions as untenable.

6. Conclusions on Each Issue

The Court concluded that:

• The ITAT was justified in relying on the Apex Court's decision in Jindal Steel and Power Limited.
• The statutory provisions mandate that "market value" for specified domestic transactions can be equated with arm's length price, and the Internal CUP method adopted by the assessee met this requirement.
• The TPO's rejection of the Internal CUP method and insistence on External CUP using distribution company procurement rates was legally unsustainable.
• The regulatory framework under the Electricity Act, 2003, supports the assessee's approach of benchmarking transfer prices with SEB supply rates to industrial consumers rather than generation-to-distribution tariffs.
• The CIT(A) and ITAT correctly distinguished earlier precedents and applied relevant legal principles and comparability factors including functions, assets, and risks.
• The revenue's appeals were rightly dismissed, affirming the correctness of the transfer pricing adjustment methodology adopted by the assessee.

Significant Holdings:

The Court preserved the following crucial legal reasoning verbatim from the Apex Court's decision in Jindal Steel and Power Limited:

"28. Thus, the market value of the power supplied by the assessee to its industrial units should be computed by considering the rate at which the State Electricity Board supplied power to the consumers in the open market and not comparing it with the rate of power when sold to a supplier, i.e., sold by the assessee to the State Electricity Board as this was not the rate at which an industrial consumer could have purchased power in the open market. It is clear that the rate at which power was supplied to a supplier could not be the market rate of electricity purchased by a consumer in the open market. On the contrary, the rate at which the State Electricity Board supplied power to the industrial consumers has to be taken as the market value for computing deduction under section 80-IA of the Act."

"30. Thus on a careful consideration, we are of the view that the market value of the power supplied by the State Electricity Board to the industrial consumers should be construed to be the market value of electricity. It should not be compared with the rate of power sold to or supplied to the State Electricity Board since the rate of power to a supplier cannot be the market rate of power sold to a consumer in the open market. The State Electricity Board's rate when it supplies power to the consumers have to be taken as the market value for computing the deduction under section 80-IA of the Act."

"31. That being the position, we hold that the Tribunal had rightly computed the market value of electricity supplied by the captive power plants of the assessee to its industrial units after comparing it with the rate of power available in the open market, i.e., the price charged by the State Electricity Board while supplying electricity to the industrial consumers. Therefore, the High Court was fully justified in deciding the appeal against the Revenue."

Core principles established include:

• The market value for transfer pricing purposes in transactions involving captive power supply should be benchmarked with the rate at which SEBs supply power to industrial consumers.
• The Internal CUP method is appropriate where reliable internal comparable data exists, especially when the product is homogeneous and the tested party is properly chosen.
• The regulatory framework and tariff distinctions under the Electricity Act, 2003, must be considered in transfer pricing analysis, particularly the rights and functions of CPPs versus distribution companies.
• Judicial precedents predating the Electricity Act, 2003, must be carefully scrutinized and distinguished if market and regulatory conditions have materially changed.

Final determinations on each issue decisively favored the assessee, affirming the correctness of the transfer pricing methodology adopted and rejecting the revenue's challenges. The appeals were dismissed accordingly.