TMI Blog2016 (5) TMI 283X X X X Extracts X X X X X X X X Extracts X X X X ..... Held that:- In view of the decision of Godrej & Boyce Co. Ltd., (2010 (8) TMI 77 - BOMBAY HIGH COURT ) Rule 8D has no application for the assessment year 2004-05. However, reasonable disallowance should be made towards expenditure attributable for earning exempt income. It is the submission of the Ld. Counsel that in the case of DDIT Vs Development Bank of Singapore (2013 (8) TMI 175 - ITAT MUMBAI), 2% of dividend income is held to be reasonable for earning exempt income. Respectfully following the above decision, we hold that 2% of dividend income will be reasonable expenditure for earning exempt income - Decided in favour of assessee partly TDS u/s 195 - Disallowance u/s 40(a)(i) - Non deduction of tds on interest paid by the assessee to its Head Office/overseas branch - Held that:- The said interest, however, cannot be taxed in India in the hands of assessee bank, a foreign enterprise being payment to self which cannot give rise to income that is taxable in India as per the domestic law. Even otherwise, there is no express provision contained in the relevant tax treaty which is contrary to the domestic law in India on this issue. This position applicable in the case of inter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essment years 2004-05 to 2006-07. ITA No. 3760/M/12 is filed by the Revenue and the cross objection is filed by the assessee against the order of the Ld. CIT(A)-10, Mumbai for assessment year 2006-07. All the appeals by the assessee Revenue cross objection by the assessee were heard together and disposed of by this common order for the sake of convenience and brevity. ITA No. 4926/M/2009-A.Y. 2004-05 2. The first ground raised by the assessee is in respect of Transfer Pricing (i) in restriction the deduction for head office expenses by applying the provisions of Sec. 44C of the Act as against the assessee s claim that the entire expenses allocated to the Indian branches should be allowed as deduction as per the provision of Article 7(3) of the convention between the Government of U.A.E. and the Government of India and (2) Upholding the Assessing Officer s action of not allowing the claim of the assessee that the tax rate applicable to its business income is 35% and not 40% being the rate applicable to foreign companies for the year under appeal. 3. At the very outset, the Ld. Counsel for the assessee submits that this issue is decided in favour of the assessee in asses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... applicable in computing the amount of expenditure alleged to have been incurred in relation to exempt income thereby disallowing interest and expenses amounting to ₹ 2,28,01,012/- and ₹ 14,98,250/- respectively. 7.1. The Ld. Counsel for the assessee submits that the Assessing Officer disallowed interest at ₹ 2,28,01,012/-. In other words, the Assessing Officer out of gross exempt income of ₹ 3,01,12,220 deducted expenditure of ₹ 2,71,08,030/- and arrived at exempt income at ₹ 30,04,990/-. The Ld. Counsel submits that the Ld. CIT(A) however applied Rule 8D and determined the expenditure attributable for earning exempt income at ₹ 2,42,99,262/-. He further submits that for the assessment year 2004-05, the provisions of Rule 8D have no application in view of the decision of the Jurisdictional High Court in the case of Godrej Boyce Co. Ltd., Vs CIT (328 ITR 81). The Ld. Counsel further submits that there is no nexus between the borrowed funds and investments and these investments were old and were made during the years 1997 and 2000. The Ld. Counsel further submits that similar issue has been decided in favour of the assessee by the Co-ord ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessment year 2005-2006 is partly allowed. 15. Ground No. 3 4 is that the Ld. CIT(A) erred in upholding the action of the Assessing Officer in applying provisions of Sec. 40(a)(i) to interest paid by the assessee to its Head Office/overseas branch. 16. The Ld. Counsel for the assessee submits that the issue is covered in favour of the assessee by the Special Bench decision in the case of Sumitomo Mitsui Banking Corporation Vs DDIT (136 ITD 66). On the other hand, the Ld. Departmental Representative placed his reliance on the decision of Co-ordinate Bench in the case of Oman International Bank SAOG reported in 35 CCH 207 (Mum). The Ld. Counsel for the assessee submits that Oman International Bank is in the contest of the provisions of Sec. 14A and not u/s. 40(a)(i) of the Act and therefore the decision is factually distinguishable. On a reading of the order of the Special Bench, we find that the Special Bench decided the issue in favour of the assessee holding that interest paid by the Indian Branch of the assessee bank to its head office and other branches outside India is not chargeable to tax in India, therefore provisions of Sec. 195 could not be attracted and there bei ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tax interest income arising in that State to the non resident or to the resident of the other State by making specific provision to that effect in the domestic law. In the present context, there is no such provision made in the Indian Income-tax Act, 1961 to bring to tax in India interest payable by the Indian PE to the foreign GE of which it is a part, which otherwise is not taxable being payment to self. 65. Shri Girish Dave has contended before us that the deeming fiction created in article 7(2) of the treaty treating the PE in India as separate and independent entity should be extended to article 11 to the treaty. According to him, if the PE in India and the head office abroad are treated as two separate entities, there will be no difficulty in bringing to tax interest paid by Indian PE as income of the GE in India as per article 11(2). Before we deal with this argument relating to the extension of deeming fiction created in article 7(2) and application thereof to article 11 also as sought by Shri Girish Dave, we consider it proper to first deal with article 11 (6) of the Indo-Japanese treaty which has been referred to by both the sides in different context and in differe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n that case, paragraph 4 relieves the State of source of the interest from any limitation under the Article. The foregoing explanations accord with those in the Commentary on Article 7. 25.1 A debt-claim in respect of which interest is paid will be effectively connected with a permanent establishment, and will therefore form part of its business assets, if the economic ownership of the debt-claim is allocated to that permanent establishment under the principles developed in the Committee's report entitled Attribution of Profits to Permanent Establishments (see in particular paragraphs 72-92 of Part I of the report) for the purposes of the application of paragraph 2 of Article 7. In the context of that paragraph, the economic ownership of a debt-claim means the equivalent of ownership for income tax purposes by a separate enterprise, with the attendant benefits and burdens (e.g. the right to the interest attributable to the ownership of the debt-claim and the potential exposure to gains or losses from the appreciation or depreciation of the debtclaim). 67. Keeping in view the purpose and scope of article 11(4) of the OECD Model Convention, the provisions of which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd if the same are read together in harmonious manner, we are of the view that it becomes clear that the profits attributed to the PE are the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar condition and dealing wholly independently with the enterprise of which its PE. The said fiction, in our opinion, therefore, is applicable only for the purpose of determining the profits attributable to the PE and this limited application contemplated in the treaty cannot be extended and applied to compute the income of the GE. It is no doubt true that if the accounts of two entitles are prepared symmetrically and the methods of attributing profits or expenses applied are the same, such accounts are more acceptable to the tax authorities having jurisdiction over both these entities because the same will result in the deduction allowed in the hands of one entity as income in the hands of other entity. The relationship between a PE and the GE of which the said PE is part, however, is entirely different and the effects of article 7 should be considered keeping in view this peculiar relations ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ures of HO and PE will be ₹ 100 crores as the interest payable by PE and receivable by HO will get squared of. In so far as taxation is concerned, the profit attributable to PE will be ₹ 2 crores on which the PE State will impose tax as business profit. The remaining amount of ₹ 98 crores will be taxed in the hands of GE State i.e. resident State. Suppose we take another situation where the only difference is that HO has advanced the sum to a third party in the other State i.e. PE State on which it has received interest of ₹ 3 crores, while the PE has taken a loan from third party on which interest of ₹ 3 crores has been paid. In such a case, the profit attributable to the PE will remain the same at ₹ 2 crores on which the PE State will impose tax. The profit of GE which represents the consolidated figure of HO and PE will also remain unchanged at ₹ 100 crores as the interest received from third party of ₹ 3 crores will be credited to the consolidated profit loss account and the interest paid by PE to third party amounting to ₹ 3 crores will be debited in the consolidated profit loss account. The total profit of the GE thus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e in their tax treaties provisions according to which charges for internal dealings should be recognized for the purposes of article 11. It is, however, cautioned that the tax will be levied in accordance with such provisions of the treaty only to the extent provided for under domestic law. We have already noted that no such provisions are made either in the Indo- Japanese treaty or even in the domestic law i.e. Income-tax Act, 1961 to expressly provide for taxation of interest payable by the PE in India to the GE of which it is a part which constitutes a payment to self. 73. The OECD commentary 'Model Tax Convention on income and on capital (condensed version)' released in July, 2010 has also considered in paragraph no. 28 the effect of the separate and independent enterprise fiction that is mandated by article 7(2). It is stated in this context that the said fiction is restricted to the determination of profits that are attributable to a Permanent Establishment and it does not extend to create notional interest income for the enterprise which a contracting State could tax as such under its domestic law by arguing that such income is covered by another article of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... w as already held by us, the same cannot be brought to tax by way of a board circular. 76. As regards the decision of Hon'ble Calcutta High Court in the case of ABN Amro Bank NV (supra) relied upon by the learned representatives of the assessees, Shri Dave and Shri Srivastava have mainly raised two fold contentions. According to them, the said decision being the decision of non jurisdictional High Court, is not binding on this Special Bench. Secondly, they have made an attempt to demonstrate that the said decision is per incurim keeping in view that many relevant and vital aspects are not considered while holding that interest receivable by a foreign bank from its Indian branch was not taxable in the hands of foreign bank in India. Shri Dave has also made an attempt to invite our attention to the various findings and observations recorded by the Hon'ble Calcutta High Court in its judgment delivered in the case of ABN Amro Bank NV (supra) which according to him, are self contradictory and inconsistent. The learned counsels for the assessee, Shri Pardiwala and Shri Dastur, on the other hand, have contended that the decision of Hon'ble Calcutta High Court being ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... submitted that the Indo- Japanese treaty having been entered into by the Government of India in exercise of the powers conferred by section 90 of the Income-tax Act, 1961, the same has become a part of domestic law and as per article 23 of the said treaty, the issue relating to taxability of the Japanese Bank in India has to be decided as per the provisions of the treaty even though the same is contrary to the provisions of the domestic law. We have already discussed and considered the effect of article 23 of the Indo-Japanese treaty. As held by us, the said provision of the treaty cannot be relied upon to bring to tax certain income in the hands of foreign enterprise in India which otherwise is not taxable as per the domestic law. In this regard, we have referred to the provisions of section 90(2) of the Indian Income-tax Act which provide that the provisions of the domestic law override and prevail over the provisions of treaty if the same are beneficial to the assessee. We have also relied on the decision of Hon'ble Supreme Court in the case of Azadi Bachao Andolan (supra) wherein it was held that treaty cannot impose tax which is otherwise not provided in the domestic law. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ave purchased it instead. It was held relying on the relevant provisions of domestic Law that the taxpayer could only have claimed depreciation for the use of the specialized equipment against the income of its Canadian PE. The Federal Court of Appeal did not find any error in the finding of fact recorded by the lower court and keepinq in view the said finding, Roberston J.A., who wrote the leading judgement, upheldthe decision of the lower court. The other Judge McDonald, J.A. also reached the same conclusion but discussed the issue of deductibility of notional expenses in more details. It was held by him in this context that deduction of notional rent was not allowable as deduction also for the reason that the amount of such notional rent was never included as income in the hands of head office. It was held by him that to allow deduction in this circumstance would mean that the tax was being avoided on rental income both in Canada and in United States. The facts involved in the case of Cudd Pressure (supra) thus were entirely different from the facts of the present case. Moreover, the present case is not a case where there is avoidance of tax by the assessee in both the countries ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... office and with other foreign branches, is taxable in India or not. In this regard, the doctrine of mutuality was pressed into service on behalf of the assessee in support of its case that such internal dealings between the Indian branch office of a foreign bank and its head office and other foreign branches being the transactions with self, no income could be said to have arisen that is chargeable to tax in India. The same, however, was not accepted by the Division Bench for the reasons elaborately given in its order befpre finally concluding the issue in paragraph No. 71 of the order as under: For all these reasons, we are not persuaded by the learned counsel's arguments that since no one can be expected to make profits out of transactions with himself, intra organization transactions are to be ignored for the purpose of computing profits accruing or arising, to an Indian PE of a foreign company, under section 5(2)(b) of the Act. In our understanding, for the purposes of computing profits of a PE, the intra organization transactions are to be taken into account as long as these transactions are real and bona fide transactions. It is not the assessee's case that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f 'income accruing or arising in India' under section 5(2)(b) and, therefore, there is no question of any fetters of the earlier decisions. It was in this backdrop that the matter was decided by us on merits. This decision, therefore, should only be treated as an authority for the issue actually decided by us. Subject to these observations and for the reasons set out above, the plea of the assessee is rejected. 83. In the case of American Express Bank Ltd. (supra) cited by Shri Pardiwala, the issue that arose before the Division Bench of this Tribunal was whether the interest received by the assessee from its non resident branches could be taxed in India and on this issue, reliance was placed on behalf of the assessee on the decision of Kolkatta Special Bench of ITAT in the case of ABN Amro Bank NV(supra) while the Revenue relied on the decision of Division Bench in the case of Dredsner Bank Ltd (supra). The Division Bench in its order passed in the case of American Express Bank Ltd. took note of the ratio laid down by the Special Bench in the case of ABN Amro Bank (supra) as well as by the decision of the coordinate bench in the case of Dredsner Bank (supra) and fou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tax in India. We have already considered this aspect of the matter. As noted by us, the GE alone is the taxable entity in India and the Indian PE which is a part of that GEis not a separate and distinct taxable entity in India as per the domestic law. The GE and the PE which is a part of that GE thus is one and the same entity for the purpose of taxation in India and as held by the Hon'ble Supreme Court in the case of Kikabhai Premchand (Sir) (supra), the interest payable by PE to GE cannot give rise to any income which is taxable in India since one cannot make profit out of himself. As rightly contended by Shri Dastur, the basic principle which is to be kept in mind in this context is that nobody can make profit from himself and the income accrues or arises only when there is a deal with some third person and not from the deal with himself. 85. As regards the arguments raised by Shri Srivastava relying on the provisions of article 11 (2) of the treaty, it is observed that the same is mainly a reiteration of what has been argued by Shri Girish Dave and we have already dealt with the submissions made by Shri Girish Dave elaborately before finally rejecting the same. As reg ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... aling with the argument of Shri Girish Dave. As held by us, article 11(6) of the Indo-Japanese treaty is not applicable in the present context for the various reasons given by us. Shri Srivastava has also contended that the entire interest income arising in India is taxable in the hands of GE in India irrespective of whether the funds fetching the said interest are advanced by GE in India directly or through Indian PE. In the present case, the funds, however, are not advanced by the GE to a third party and the same having been advanced directly to the PE, it is a transaction between the two parts of the same entity and the interest paid by PE to GE being payment to self, no income can be said to have arisen or accrued which is chargeable to tax 'in India. 87. Shri Srivastava has submitted before us that article 7(2) of the treaty lays down the procedure for apportionment of income between Head Office and Indian Branch. According to him, as per the said scheme of apportionment, what can be allowed as deduction is the actual cost of funds to the Head Office. He has contended that if there is no such cost incurred at HO level, interest paid by the branch to the HO will be on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h of a foreign bank to its branch offices abroad as the same stands on the same footing as the payment of interest made to the Head Office. At the time of hearing before us, the learned representatives of both the sides have also not made any separate submissions on this aspect of the matter specifically. Having held that the interest paid by the Indian branch of the assessee Bank to its head office and other branches outside India is not chargeable to tax in India, it follows that the provisions of section 195 would not be attracted and there being no failure to deduct tax at source from the said payment of interest made by the PE, the question of disallowance of the said interest by invoking the provisions of section 40(a)(i) does not arise. Accordingly we answer question No. referred to this Special Bench in the negative i.e. in favour of the assessee and question No.2 in affirmative i.e. again in favour of the assessee . Respectfully following the Special Bench decision, we allow ground No. 3 4 raised by the assessee. ITA No. 4928/M/2009 A.Y. 2006-07 17. The first ground relates to the deduction for head office expenses by applying the provisions of Sec. 44C of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... challenging the order of the Ld.CIT(A) in deleting the penalty levied u/s. 271(1)(c) of the Act for the Assessment Year 2006-07. 26. The Ld. Departmental Representative submits that the Assessing Officer levied penalty on the disallowance of head office expenses and on the addition made towards interest paid to head office. The Ld. Departmental Representative referring to the penalty order submits that in the return of income, assessee claimed head office expenses disregarding the provisions of Sec. 44C and he states that head office expenses are only to the extent of 5% of the adjusted total income can be claimed. He submits that such expenses were claimed in the earlier years also and the ITAT decided the issue against the assessee and the matter is in appeal before the Hon ble High Court. It is the contention of the Ld. Departmental Representative that in the computation of income of the branch as per the domestic laws, the interest would have been allowable as deduction from computation of income but the same is not allowable u/s. 40(a)(i) because assessee failed to deduct tax on payment of interest to overseas branch of the head office. The Ld. Departmental Representative ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er authorities. The Assessing Officer levied penalty for the reason that the assessee has claimed head office expenses and also the claim made by the assessee that interest paid to head office is not taxable. In any case, it is the contention of the assessee that TDS was made on the interest paid to head office therefore there is no escapement of tax. On reading of the orders of the Assessing Officer as well as the First Appellate Authority, we find that assessee has made claim in the return of income and it is a full disclosure of the assessee in respect of the expenses as well as the claim towards interest paid to head office. We do not see concealment of income or furnishing of inaccurate particulars in respect of these two disallowances/additions made by the Assessing Officer. It is only a difference of opinion as to whether these claims can be allowable or not and the issues are debatable. It is the finding of the Ld. CIT(A) that the assessee has made full disclosure of all the facts regarding claim towards head office expenses. It is also the finding of the Ld. CIT(A) that in the note filed alongwith the computation of income, assessee has referred to the relevant article of ..... X X X X Extracts X X X X X X X X Extracts X X X X
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