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Everest Kanto Cylinder Ltd. Versus Deputy Commissioner of Income-tax (LTU) , Mumbai

2012 (11) TMI 1099 - ITAT MUMBAI

Disallowance u/s 14A - when the assessee was having sufficient non-interest bearing funds for making investments during the year, then there is no reason to make addition - Arms Length Price (ALP) under Section 92CA by the TPO - NO upward adjustment in ALP in relation to charging of guarantee commission. - ITA NO. 542 (MUM.) OF 2012 - Dated:- 23-11-2012 - B. RAMAKOTAIAH, ACCOUNTANT MEMBER AND AMIT SHUKLA, JUDICIAL MEMBER For the Appellant: Rajan Vora for the Appellant. For the Respondent: Aj .....

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g officer disallowing ₹ 20,27,896/- u/s. 14A of the I.T. Act. 2. The learned Commissioner of Income Tax (Appeal) has erred in law and on the facts of the case in sustaining the order of the Assessing Officer disallowing ₹ 28,50,353/- u/s. 92CA of the I.T. Act. 2. The assessee company is engaged in the business of manufacturing of high pressure seamless gas cylinder services and compressed natural gas cylinders. In the year under consideration, the assessee had filed its return of inc .....

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that most of the investments in the equity shares and mutual funds were made out surplus funds received during the financial year 2005-06 from the Initial Public Offer (in short 'IPO'), which has been accepted by the appellate orders in the assessment year 2006-07, wherein it was held that the funds raised from IPO were utilized for making the investments. It was further submitted that without prejudice if any disallowance is called for then the same should be made out of the balance fun .....

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The assessee has not maintained any separate bank accounts for the investments and other assets and all the funds are mixed with the business fund and the assessee was unable to demonstrate the flow of funds separately for investments and other activities. Accordingly, he applied Rule 8D, which though came into statute w.e.f. A.Y. 2008-2009 and worked out the disallowance at ₹ 20,27,896/- as per working given in para 4.3 of the Assessment Order. 4. Learned CIT (A) relying upon the decision .....

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reiterated the same submissions and heavily relied upon the fact that in the earlier assessment year, it has been categorically held by the CIT(A) that investment made out of funds collected by way of IPO, cannot be held for disallowance under Section 14A and such a decision of CIT(A) has now been affirmed by the ITAT, wherein the departmental appeal has been dismissed. The learned CIT(A), however, held that the assessee despite specific show-cause notice has not submitted its reply for quantum .....

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uch interest which would be directly attributable to any particular income or receipt. If the appellant has invested the proceeds of IPO into the investment earning exempt income and there is no interest cost of such funds then in the given situation disallowance of interest would only relate to such other investments which are other than from the funds of IPO and from such interest costs which are not directly relatable to any income or receipt. viii. The appellant has also relied upon on certa .....

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n disallowed by the appellant under section 14A and it is not the case that there is no such expenditure which has been incurred in relation to the earning of such income which does not form part of total income. Accordingly, such decision relied upon by the appellant only supports the case of the AO. As far as the case law in the case of CIT v. Raheja Corporation Pvt. Ltd. (Supra) is concerned, it is mentioned that in the facts of the case under consideration the AO in his order has observed th .....

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the AO clearly leads to the conclusion that there are indirect interest expenses which ahs been incurred by the appellant towards the earning of exempt income. Accordingly the case law relied upon is distinguishable on facts as in that case the AO could not point out as to how interest on borrowed funds was attributable to earning dividend income. As far as the decision of Hon'ble Delhi High Court in the case of CIT v. Tin Box Co. 260 ITR 637 is concerned, it is mentioned that the same is no .....

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submitted that even though the CIT(A) has held that Rule 8D is applicable from the AY 2008-09, however, has confirmed the disallowance made by the AO, which was worked out on the basis of working given in Rule 8D, which is completely in violation of the judgment of the Hon'ble jurisdictional High Court in the case of Godrej Boyce Mfg. Co. (supra). He further submitted that the investments of the assessee company are to be segregated into three parts viz. (i) investment made prior to assessm .....

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tments made in various years. From this, he submitted that the investments as on 31st March, 2005, were to the tune of ₹ 2.12 crore, whereas the assessee's interest free funds were to the tune of ₹ 41.67 crore which included the accumulated profits of ₹ 29.69 crore. Regarding investments made in the AY 2006-07, he submitted that the assessee had made investments of ₹ 11.09 crore and during the same year, the assessee had gone for public issue (IPO), wherein it has rai .....

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ssment year 2007-08 i.e the year under consideration, he submitted that the investments of ₹ 41.83 crore, were mostly made in foreign subsidiaries and associates of the assessee company and the dividend income from such shares of the foreign companies are taxable and, therefore, no disallowance under Section 14A can be made under law. He, thus, concluded that if the entire investment vis-à-vis surplus funds and investment in foreign subsidiaries are taken into consideration, then th .....

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on of case laws. 6. On the other hand, learned CIT DR strongly relied upon the reasonings and the conclusion drawn by the CIT(A) and submitted that even though the Rule 8D is not applicable in this year, however, some reasonable estimate of the disallowance has to be made. It cannot be held that no expenditure is attributable to earning of exempt income, specifically when the assessee has a huge interest liability and administrative cost. She submitted that on the facts of the case some reasonab .....

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held in foreign companies are taxable and, therefore, the provisions of 14A will not get attracted. Therefore, no disallowance can be made under Section 14A on this amount. Out of the balance amount, sum of ₹ 11.09 crore which has been invested in the assessment year 2006-07, it has been held to be made out of the funds raised by way of IPO for sums aggregating to ₹ 90 crore to the interest free funds by the CIT(A). The said order of the CIT(A) has now been affirmed by the Tribunal v .....

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he records that the assessee has huge surplus funds, specifically out of accumulated profits and reserve surplus. In such a situation and in view of the decision of the Hon'ble Bombay High Court in the case of Reliance Utilities & Power Ltd. (supra), the normal presumption is that investment must have been made out of the surplus funds, unless contrary is brought on record. Thus, from the fund flow statement and as per our finding given above, there is hardly any scope for upholding the .....

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ction 14A, which will take care of any kind of possible expenses, which can be said to be attributable to earning of the exempt income. Accordingly, ground No.1 is treated as partly allowed. 8. Ground No.2, relates to adjustment of ₹ 28,50,353/- made on account of Arms Length Price (ALP) under Section 92CA by the TPO. 9. The relevant facts as noted by the TPO, to whom reference was made under Section 92CA(1) by the Assessing Officer are that the assessee is a largest domestic and one of th .....

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,24,837 CUP VI Sale of Inventories of Dubai Branch 14,56,79,123 Cost Plus Total 66,58,75,507 Out of the above international transactions except for 'guarantee commission', all the transactions were held to be at arms length. It was only with respect to 'guarantee commission' charged from its subsidiary company that the TPO held that same was not at ALP and adjustment is required to be made. 10. The brief facts which led to the ALP adjustment made by the TPO are that the assessee .....

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anch, which agreed to provide term loans for the working capital and capital expenditure to said subsidiary company. In order to enable the ICICI Bank, Bahrain branch to provide loans to EKC Dubai, the assessee company provided a corporate guarantee to the said bank by way of two Deeds of guarantee, one for the working capital facilities up to USD 15 million and another for capital expenditure up to USD 5 million. For providing such guarantee to the Bank in Bahrain for loan given to subsidiary, .....

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he TPO observed that the assessee is a prominent and reputed industrial company and on account of its financial strength has tie up with many large banks. The bank guarantee provided by the assessee to its AEs provides a benevolent advantage to them in obtaining credit facilities from the banks on better terms. Apparently the assessee may not have incurred any cost, but there is an inherent cost in the overall sanction of credit limits to the group itself. Overall risk exposure of the assessee c .....

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sidering the enterprise risk. In support of his observation, he referred to a case of General Electric Capital Canada Inc. v. Her Majesty The Queen 2009 TCC 563. 12. Before the TPO, the assessee had not benchmarked the guarantee commission. It had taken the ALP of the said transaction at 'Nil' as it had contended that no cost has been incurred in providing the bank guarantee for its AE. The TPO issued a detailed show cause notice to the assessee on the following grounds :- "A. The r .....

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d the administrative work etc. only. D. That such a guarantee (or corporate guarantee) did not cost anything to the assessee is of no consequence. The fact remains that the taxpayer had undertaken the risk on behalf of its AEs which in any third party situation he would not have undertaken or would have charged a consideration for the same. E. An argument that no cost has been incurred by the assessee and, therefore, there was nothing to recover, is of no consequence as the assessee (also) refer .....

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ity such as your AE. Therefore, a mark-up which is indicative of risk involved needs to have been charged by you from your AE. A widely used method for risk evaluation is by comparing the bank rate and the PLR rate. The Bank rate is the rate at which the Reserve Bank of India lends money to the banks and PLR represents the rate at which Banks lend their money to customers. Lending to customers entails a great deal of risk. It is a logical standard inference that the difference between the rate a .....

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public company with limited liability in which 51% stake was held by the Dutch State, FMO (Nederlands Financierings -Maatschappij Voor Ontwikkelingslanden N.V) has charged Z5% for furnishing guarantee in the case of RAbo India Finance Pvt.Ltd. Forbes Bldg, 2' floor, Charanjit Rai Marg, Fort, Murnbai-400 001. The FMO and Rabo India Finance Pvt. Ltd are not related entities. I. The above example shows that the banks and companies are charging rates upto 3% for providing the guarantees. The co .....

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proposed to benchmark the ALP for the guarantee commission at the rate of 3% of the amount of the guarantee. 13. The assessee in response had filed its detailed submissions and the objections to the proposed show-cause notice on each and every account which has been elaborately discussed at page 6 to 8 of the TPO's order. The TPO rejected the assessee's said contentions and gathered information from the various banks to ascertain how much banks are charging for furnishing of the bank gu .....

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ions, which have been summarized in para 6.3 of the CIT(A), reading as under :- "6.3 In respect of this ground of appeal the submission of the appellant are summarized as under: i. During the year, the assessee had a subsidiary': company in Dubai namely EKC International FZE. Earlier the subsidiary company was a branch of the assessee company. The subsidiary company is also engaged in the business of manufacture of cylinders. ii. The subsidiary co. needed funds for working capital requi .....

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w cause notice dt. 05.10.2010 has given the reasons for adopting bank guarantee @ 3%. The appellant submitted that Assessing Officer was not correct in his approach to benchmark the guarantee commission due to the following : (a) That the assessee company has charged commission @0.5% based on the rate which would have been charged if the same was obtained from a bank. The assessee company is holding 100% equity of the subsidiary company. Hence all the assets unless exclusively charged or mortgag .....

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ource Central Bank of UAE). During the said period AE has borrowed at the rate of LIBOR + 0.8 3% or term loan and LIBOR + 0.5% for working capital purpose. Prevailing LIBOR rates where ranging around 5.3% thus making effective rate of borrowing @ 6.13% for term loan and 5.8% for working capital loan, which is in line with the normal rates prevailing in AE country during the said period. Thus, there have been no benefit of interest rate derived by AE in connection with corporate guarantee furnish .....

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said loan without third party interferences from Bank at the prevailing market prices (d) That AE has obtained loan from its bankers based on first charge towards the fixed asset and further hypothecation of inventories and book debts and that AE had gross fixed asset base of USD 13 million and not fixed asset base of USD 12.6 million. Further as at 31.03.2007 AE had inventories valued at cost worth USD 7.6 million. Book Debts of 5.4 million and cash and bank balance of USD 1.8 million. In a nut .....

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with regard to international transactions. The assessee company relies on the following decisions: (a) ITAT Bench A Chennai in the case of Siva Industries & Holdings Ltd. v. (b) ITAT Mumbai Bench E in the case of DCIT v. Tech Mahindra Ltd. 46 SOT 141 (MUM) (c) ITAT Hyderabad A Bench in the case of M/s. Four Soft Ltd. v. DCIT (f) That the Assessing Officer has benchmarked the rate by drawing comparisons of the rate charged by Allahabad Bank and the rate charged by Rabo India Finance Ltd; tha .....

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@ 0.5% charged by the assessee company was fair and reasonable.." 15. Finally, the Ld. CIT(A) rejected the said submissions after detail discussion appearing at para 6.4 from pages 15 to 19 of the appellate order, by which he confirmed the reasoning and the action of the TPO and also held that the assessee has not benchmarked this transaction of guarantee commission and, therefore, 3% of the commission for benchmarking the guarantee commission transaction would be at ALP. The comparables o .....

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sessee only to provide for corporate comfort, has given the corporate guarantee to the said Bank. The subsidiary company had hypothecated its assets and no cost was incurred by the assessee for providing the guarantee to the bank for loan to its subsidiary. He further pointed out that the assessee had independent sanction of credit arrangement with the ICICI Bank India, wherein the guarantee fee of 0.6% per annum was paid, whereas the assessee has charged a guarantee commission of 0.5% from its .....

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done by the subsidiary only. Even though the assessee was not required to recover the guarantee commission from its subsidiary being wholly a business strategic decision, still it had charged 0.5%. 16.1 His other limb of argument was that there is no method prescribed under the statute to benchmark such a transaction of guarantee commission and in such a case, the entire charging provisions under Section 92B gets failed. Even the comparables given by the TPO would not be applicable as the same .....

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rt in the form of guarantee for which assessee has not incurred any real cost. In support of his contentions that application of 3% rate of guarantee commission cannot be upheld in the assessee's case, he has relied upon the decision of Mumbai Bench of ITAT in the case of Asian Paints Ltd. v. CIT ITA 408/Mum/2010, vide order dated 31-10-2011, wherein it was held that charging of guarantee commission at the rate of 3% on the basis of rates available on the website of Allahabad Bank, HSBC Bank .....

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ission as international transaction, which is evident from its TP Study Report available at page 31 of the Paper Book. The assessee has shown Cost Plus Method (CPM) for benchmarking this transaction. Therefore, the contention of the learned AR, firstly, it is not an international transaction and secondly, no method can be applied for benchmarking this transaction, is not correct. The only method which can be applied in a transaction like this is, CUP method, which has been done by the TPO. There .....

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based on detail reasoning for taking these comparables, he has rightly benchmarked at the rate of 3%, which is generally accepted rate in the cases of guarantee commission. 18. In the rejoinder, learned Senior Counsel submitted that even if the guarantee commission has been brought within the purview of international transaction, however, the method prescribed under the relevant rules cannot be made applicable in the case of guarantee commission. The only provisions which can be said to be appl .....

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f the assessee and why not 0.15% as rates available in the external CUP ranges between 0.15% to 3%. In case of the assessee, no risk has been taken while providing guarantee for its subsidiary and, therefore 0.5% charged by it should be considered at ALP. Further, the assessee is not a banking company, therefore, the examples given by the TPO are not applicable. 19. We have carefully considered the rival submissions, perused the material on record and gone through the orders of the CIT(A) as wel .....

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ing the term loan for working capital and capital expenditure. The assessee has provided a corporate guarantee to ICICI Bank Bahrain Branch by two deals of guarantee - one for working capital facility (USD 15 million) and another for capital expenditure (USD 5 million). The assessee has charged 0.5% as guarantee commission from its subsidiary in favour of the guarantee provided to the said bank. From the records, it is also seen that the assessee had an independent sanction letter of credit arra .....

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see has undertaken a risk on behalf of its AE which in any case of third party situation, the same would not have been undertaken or would have charged a huge consideration for the same. For risk evaluation, he has compared the bank rate based on the PLR rate and worked out the rate of return for bearing the risk around 4.5%. Thus, on this premise, he went for external comparables and found that various banks have been charging rate of around 3% like HSBC Ltd Mumbai was charging rate of 0.15% to .....

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s and conditions and circumstances, the banks have been charging guarantee commission at the rate of 3%. The charging of a guarantee commission depends upon transaction to transaction and mutual understanding between the parties. There may be a case where the bank may not charge any guarantee commission, depending upon its evaluation of relationship with a particular client. Even otherwise also the TPO himself has noted that guarantee commission ranges between 0.15% to 3% in case of HSBC. The un .....

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by its subsidiary nor has undertaken any kind of risk, as it was the subsidiary company which has hypothecated its assets against the loan, the TPO has not brought anything on the record to controvert the same. He has proceeded on the premise that there is always a risk in providing the guarantee and some kind of security is needed for giving a guarantee. Such a premise of the Assessing Officer is without basis or material on record. Thus, applying the rate of 3% on the guarantee commission base .....

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ection 92B. Payment of guarantee fee is included in the expression 'international transaction' in view of the Explanation i(c) of Section 92B. Once the guarantee fee falls within the meaning of 'international transaction', then the methodology provided in the rules also becomes applicable. Here in this case, it is undisputed that the assessee in its T.P.Study Report and also the TPO, have accepted that it is an international transaction and CUP is the most appropriate method for .....

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