2025 (7) TMI 175 - AT - Income Tax

TP adjustment - Non-consideration of the exponential increase in Demurrage Detention charges as extra-ordinary cost - AR submitted that the TPO has not considered exponential increase in demurrage and detention charges of Rs. 2.57 crores as extra-ordinary cost and hence non-operating in nature - HELD THAT - The demurrage charges paid in earlier years for a turnover of Rs. 19 to 36 crores was Rs. 1.5 lakhs to Rs. 4.05 lakhs only. During the year under consideration the demurrage charges paid were to the tune of Rs. 2.57 Crores. Considering the demurrage charges OP/OC would be 1.35% which would be within the tolerance limit of ALP of 1.78%. These facts are not in dispute. As relying of Transwitch India (P.) Ltd 2012 (5) TMI 314 - ITAT DELHI we hold that the demurrage charges being an extra ordinary cost shall be treated as non-operating in nature. Appeal of the assessee on this ground is allowed. Interest on outstanding receivables - TPO held that the assessee has made sale to AE and has shown outstanding receivable in its financial statements but the same has not been reported in Form 3CEB. The TPO held that the assessee has also not submitted the details of outstanding receivables viz. invoice date credit period due date date of receipt and interest rate etc. even after repeated reminders - HELD THAT - On going through the entire facts specific to the instant case we find that the transactions have been entered with the local parties for and on behalf of the AE and also keeping in view the facts that the local parties have not been paid till date there has been a net receivable of Rs. 10.91 Crores and the assessee being a debt-free company placing reliance on the judgement of M/s Inductis India Pvt. Ltd. 2023 (12) TMI 140 - DELHI HIGH COURT we hold that no interest can be charged on notional basis. Appeal of the assessee on this ground is allowed.

Summary

1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered by the Tribunal in this appeal relate to the correctness of transfer pricing adjustments and associated penalty proceedings under the Income Tax Act, 1961 for the Assessment Year 2021-22. Specifically, the issues are:

• Whether the upward transfer pricing adjustment of INR 2,80,66,728/- on account of benchmarking of export transactions to Associated Enterprises (AEs) was justified, particularly considering the exponential increase in demurrage and detention charges as extraordinary, non-operating costs.
• Whether the adjustment of INR 1,15,16,873/- on account of outstanding receivables from AEs, including the treatment of interest on such receivables as a separate international transaction, was appropriate.
• Whether initiation of penalty under section 271AA on non-reporting of outstanding receivables as a separate international transaction was valid.
• Whether initiation of penalty under section 270A of the Act was justified.

2. ISSUE-WISE DETAILED ANALYSIS

I. Upward Transfer Pricing Adjustment and Treatment of Demurrage & Detention Charges

Relevant Legal Framework and Precedents: The transfer pricing provisions under Sections 92C, 92CA, and related rules require that international transactions between AEs be benchmarked to determine arm's length price (ALP). Extraordinary or non-recurring expenses may be excluded from operating costs for ALP computation. The Tribunal relied on a precedent from a Coordinate Bench of Delhi in Transwitch India (P.) Ltd. vs. DCIT, which recognized that extraordinary expenses such as relocation costs can be treated as non-operating and excluded from transfer pricing adjustments.

Court's Interpretation and Reasoning: The Tribunal examined the exponential increase in demurrage and detention charges amounting to INR 2.57 crores during the relevant year, which was significantly higher than in previous years. This increase was attributed to COVID-19 related lockdowns causing delays in clearing goods. The assessee argued these charges were extraordinary and non-operating in nature and thus should not impact the arm's length price.

Key Evidence and Findings: The record showed demurrage charges in earlier years ranged between INR 1.5 lakhs to INR 4.05 lakhs on turnovers of INR 19 to 36 crores, whereas the current year saw charges of INR 2.57 crores, representing 4.73% of sales. Adjusting for these charges, the operating profit to operating cost (OP/OC) ratio remained within the tolerance limit of ALP at 1.35% compared to 1.78%.

Application of Law to Facts: Following the precedent, the Tribunal held that the demurrage charges were extraordinary costs arising from exceptional circumstances and hence non-operating. Accordingly, these should be excluded from the transfer pricing adjustment calculations.

Treatment of Competing Arguments: The Revenue's contention that the charges were part of normal operating expenses was rejected in light of the unique COVID-19 circumstances and the substantial deviation from historical norms.

Conclusion: The Tribunal allowed the appeal on this ground, holding that the demurrage and detention charges are extraordinary and non-operating, and thus the upward transfer pricing adjustment on this account was not justified.

II. Adjustment on Account of Outstanding Receivables and Interest

Relevant Legal Framework and Precedents: Under Section 92B, outstanding receivables and payables between AEs may constitute international transactions requiring arm's length pricing. The Tribunal considered precedents including McKinsey Knowledge Centre India (P.) Ltd. and Perot System TSI (India) Ltd., which held that interest on deferment of receivables is a separate international transaction. However, the Tribunal also considered the Delhi High Court judgment in Pr. CIT vs. M/s Inductis India Pvt. Ltd., which held that notional interest cannot be charged where the company is debt-free and the net position is negative.

Court's Interpretation and Reasoning: The TPO and DRP held that the outstanding receivables of INR 32.53 crores from AEs were not reported and that interest should be charged as a separate international transaction. The assessee contended that the net receivables after offsetting payables were only INR 10.91 crores, and that the outstanding amounts were due to COVID-19 related financial difficulties, with no actual funds parked with AEs since payables exceeded receivables.

Key Evidence and Findings: The Tribunal noted the detailed tabulation of sales and purchases with AEs and third parties. The sales price to AEs (INR 97.18/kg) was higher than to third parties (INR 87.88/kg). The outstanding receivables largely related to re-exported goods originally imported from AEs, effectively constituting purchase returns due to financial constraints. The assessee was a debt-free entity with a negative net working capital.

Application of Law to Facts: The Tribunal found that since the net outstanding position was negative and the assessee was debt-free, no notional interest could be charged on outstanding receivables. The nature of transactions and the financial position negated the applicability of interest as a separate international transaction.

Treatment of Competing Arguments: The Revenue's reliance on precedents to treat interest on receivables as a separate transaction was countered by the factual matrix showing net payables exceeding receivables and the debt-free status of the assessee. The Tribunal gave precedence to the specific facts and the Delhi High Court ruling.

Conclusion: The Tribunal allowed the appeal on this ground, holding that the interest adjustment on outstanding receivables was unwarranted.

III. Penalty under Section 271AA for Non-reporting of Outstanding Receivables

Relevant Legal Framework: Section 271AA imposes penalty for failure to report international transactions or specified domestic transactions in the prescribed form. The question was whether outstanding receivables constitute a separate international transaction requiring reporting.

Court's Interpretation and Reasoning: Since the Tribunal held that outstanding receivables do not constitute a separate international transaction warranting transfer pricing adjustment, the basis for penalty under section 271AA for non-reporting of such receivables also fails.

Application of Law to Facts and Conclusion: The penalty under section 271AA was not sustainable as the underlying transaction was not recognized as a separate international transaction. The appeal on this ground was allowed.

IV. Penalty under Section 270A

Relevant Legal Framework: Section 270A provides for penalty for under-reporting and misreporting of income. The issue was whether the penalty initiation was justified given the Tribunal's findings on transfer pricing adjustments.

Court's Interpretation and Reasoning: Given that the Tribunal disallowed the transfer pricing adjustments on demurrage charges and interest on receivables, the foundation for penalty under section 270A was undermined.

Conclusion: The penalty proceedings under section 270A were held to be erroneous and not warranted.

3. SIGNIFICANT HOLDINGS

On the treatment of extraordinary expenses, the Tribunal held:

"Following the guidelines given by the above order, we hold that the demurrage charges being an extra ordinary cost shall be treated as non-operating in nature."

On the issue of interest on outstanding receivables, the Tribunal concluded:

"...placing reliance on the judgement of Hon'ble High Court of Delhi in the case of Pr. CIT Vs. M/s Inductis India Pvt. Ltd... we hold that no interest can be charged on notional basis."

On penalty under section 271AA, the Tribunal found:

"Since the outstanding receivables do not constitute a separate international transaction, penalty under section 271AA for non-reporting is not sustainable."

The Tribunal's final determinations were:

• The upward transfer pricing adjustment on account of demurrage and detention charges is not justified as these are extraordinary, non-operating costs.
• The adjustment for interest on outstanding receivables from AEs is unwarranted given the net negative working capital and debt-free status of the assessee.
• Penalties under sections 271AA and 270A are not sustainable in light of the above findings.
• The appeal is allowed in favor of the assessee on all grounds.