TMI Blog2022 (9) TMI 1413X X X X Extracts X X X X X X X X Extracts X X X X ..... other context such as allowability of interest on such debentures during pre-conversion period or regarding payment of dividend on such convertible debentures during pre-conversion period or regarding granting of voting rights to the holders of such convertible debentures before the date of conversion. The same principle will apply to the other corporate laws cited by the DRP in its directions. Whether on the basis of book entries by which the interest was not debited in the profit and loss account but claimed in the computation of income, the disallowance can be sustained? - On this aspect, the law is well settled and laid down in the case of Kedarnath Jute Mfg. Co. Ltd. [ 1971 (8) TMI 10 - SUPREME COURT] wherein it was held that, the way in which entries are made by an assessee in his books of account is not determinative of the question whether the assessee has earned any profit or suffered any loss. It is undisputed that the assessee has deducted TDS on the entire interest expenditure. The assessee while benchmarking interest payment to Associated Enterprise for the purpose of Sec.92 has benchmarked the entire interest amount of Rs.6.09 Crores. Thus, looked at from any p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y the assessee against the final Order of Assessment dated 27.01.2022 passed by the National Faceless Assessment Centre, Delhi, under section 143(3) r.w.s. 144C(13) read with section 144B of the Income Tax Act, 1961 (hereinafter called the Act ), relating to Assessment Year 2017-18. 2. Ground No.1 raised by the assessee is general in nature and calls for no adjudication. Ground No. 2 raised by the assessee relates to the addition made to the total income of the assessee on account of determination of Arm s Length Price (ALP) in respect of an international transaction entered into by the assessee with its Associated Enterprise (AE). The assessee has also raised additional ground No.14 which is nothing but a facet of the argument of the assessee in connection with the determination of ALP viz., companies with high turnover cannot be taken as a comparable company for comparing profit margins of the assessee. The specific contention in this regard is that the lower authorities erred in not applying an upper limit of turnover upto INR 200 crores for selection of comparable companies for benchmarking. At the time of hearing, learned Counsel for the assessee submitted that if some of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... OP/OC. The assessee chose 11 comparable companies and the median of the profit margin of those comparable companies was 10.89%. The assessee therefore claimed that the profit margin of the assessee was comparable with that of the comparable companies and therefore the price received in the international transaction has to be regarded as at arm s length. 6. The Transfer Pricing Officer (TPO) to whom the AO made a reference for determination of ALP u/s.92CA of the Act, did not accept the TP study of the assessee. The TPO chose 13 comparable companies and the median profit margins of those companies was 24.37% as per the following details: Sl. No. Name of the Company Weighted Avg. OP/TC* (%) 1. Sundaram Business Services Ltd 2.08 2. Jindal Intellicom Ltd 7.41 3. Fuzen Software Pvt Ltd 15.93 4. Microland Ltd 17.53 5. Tech Mahindra Business Services Ltd 22.37 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... OR 64.45.04.000 Shortfall being adjustment ALP-OR 5,28,38,590 20.4.2 The above shortfall of Rs.5,28,38,590/- is treated as transfer pricing adjustment u/s 92CA in respect of IT enabled servicesegment of the taxpayer's international transactions. 8. The AO passed a Draft Assessment Order wherein he incorporated the addition suggested by the TPO of Rs.5,28,38,590/- on account of determination of ALP. The assessee filed objections before the DRP against the Draft Order of Assessment. The DRP gave the following directions : i. Consider bank charges as operating in nature while computing the Profit Level Indicator ( PLI ) margin of the comparables; ii. Verify margin computation of the following comparable companies, namely, Sundaram Business Services Limited, Fuzen Software Private Limited, Vitae International Accounting Services Private Limited and Manipal Digital Systems Private Limited; iii. Include Crystalvoxx Ltd and Suprawin Technologies Limited in the set of comparable companies used for benchmarking analysis; and iv. Exclude Ultramarine and Pigment Limited in th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on ble Delhi High Court in the case of Chryscapital (supra) and the decision to the contrary in the case of CIT Vs. Pentair Water India Pvt. Ltd., Tax Appeal No.18 of 2015 dated 16.9.2015 wherein it was held that high turnover is a ground to exclude a company from the list of comparable companies in determining ALP, held that there were contrary views on the issue and hence the view favourable to the assessee laid down in the case of Pentair Water (supra) should be adopted. The following were the conclusions of the Tribunal in the case of Dell International (supra): 41. We have given a very careful consideration to the rival submissions. ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010, relying on Dun and Bradstreet s analysis, held grouping of companies having turnover of Rs. 1 crore to Rs.200 crores as comparable with each other was held to be proper. The following relevant observations were brought to our notice:- 9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 96 Taxmann.com 263 (Banglore-Tribunal), took note of all the conflicting decision on the issue and rendered its decision and in paragraph 17.7. of the decision held as that high turnover is a ground for excluding companies as not comparable with a company that has low turnover. The following were the relevant observations: 17.7. We have considered the rival submissions. The substantial question of law (Question No.1 to 3) which was framed by the Hon'ble Delhi High Court in the case of Chryscapital Investment Advisors (India) Pvt.Ltd., (supra) was as to whether comparable can be rejected on the ground that they have exceptionally high profit margins or fluctuation profit margins, as compared to the Assessee in transfer pricing analysis. Therefore as rightly submitted by the learned counsel for the Assessee the observations of the Hon'ble High Court, in so far as it refers to turnover, were in the nature of obiter dictum. Judicial discipline requires that the Tribunal should follow the decision of a non-jurisdiction High Court, even though the said decision is of a non-jurisdictional High Court. We however find that the Hon'ble Bombay High Court in the case of CIT V ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eady held that the decision rendered in the case of Chriscapital Investment (supra) is obiter dicta and that the ratio decidendi laid down by the Hon ble Bombay High Court in the case of Pentair (supra) which is favourable to the Assessee has to be followed. Therefore, the decisions cited by the learned DR before us cannot be the basis to hold that high turnover is not relevant criteria for deciding on comparability of companies in determination of ALP under the Transfer Pricing regulations under the Act. For the reasons given above, we uphold the order of the CIT(A) on the issue of application of turnover filter and his action in excluding companies by following the ratio laid down in the case of Genisys Integrating (supra). 13. In view of the aforesaid discussion, we hold that the following 3 companies whose turnover is more than Rs.200 Crores as listed in the chart below should be excluded from the list of the comparable companies. (Amounts in INR Crores) S.No. Company Turnover 1. Tech Mahindra Business Services Ltd. 707.60 2. Infosys ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee submitted that the average interest rate is 9%. During the F.Y.2015- 16, the assessee incurred interest expense of Rs 4,52,61,650/- and the same was charged to the P/L Account and claimed as deduction which was allowed by the AO. The interest payable during the Year 2016-17 on these CCDs was Rs 6,09,40,660/-. Out of the said interest payable on CCD s, the assessee debited to the profit and Loss Account only a sum of Rs 1,56,29,455/- and the remaining sum of Rs 4,53,11,205 was shown in the Balance Sheet by way of reducing the same from the outstanding amount on CCDs. Since the sum of Rs.4,53,11,205 was not debited to the profit and loss account, this sum was claimed as deduction in the computation of total income while computing income from business. The assessee explained before the AO that the entire sum of Rs.6,09,40,660/- was deductible interest expenditure and has to be allowed as deduction and the accounting treatment adopted by the assessee was in compliance with the Indian Accounting Standards(IndAS) and that will not be a bar to claim deduction of an expenditure which is otherwise to be allowed as deduction in law. The assessee pointed out that CCDs are recognized as deb ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... CCD s are in the nature of Equity, no deduction is permissible for return paid on equity instruments. According to the DRP, as per Thin Capitalization Rules, debt instruments can be treated as equity. The DRP also observed that RBI treated the CCDs as Equity under the Foreign Direct Investment (FDI) policy. The RBI's FDI Policy was guided by the requirement to control future repatriation obligations of the country in convertible foreign currency. Since in the case of CCDs, there is repatriation obligation in foreign currency, as the debentures would at a defined time be converted into equity, the same is being treated as equity by the RBI for the purposes of FDI policy. On the reliance by the assessee on the decision of the ITAT Bangalore Bench in the case of CAE Flight Training (supra), the DRP distinguished the said decision by pointing out that the facts in the aforesaid case were that the CCD holders prior to conversion into equity shares did not have voting rights and dividend pay out. Hence in that case, the Tribunal concluded that CCDs cannot be treated as equity under the Act. The DRP went on further to explain that CCDs, as the name suggests, are debentures which are ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 39;Capital instruments' have been defined under Regulation 2(v) to mean equity shares, 'debentures', preference shares and share warrants issued by an Indian company. The Explanation further provides that the expression 'Debentures' means fully, compulsorily and mandatorily convertible debentures. Thus, the CCDs, which are fully and mandatorily convertible into equity, are considered as 'capital instruments' being at par with equity shares. Accordingly, investment in the CCDs by a non-resident would be subject to sectoral caps or the investment limits for equity investments. As fully, compulsorily and mandatorily convertible debentures alone are regarded as capital instruments, optionally convertible or partially convertible debentures are treated as debt instruments under the FEMA Regulations. These rules which do not fall within the ambit of 'capital instruments' would have to conform to the guidelines on External Commercial Borrowings, i.e. Foreign Exchange Management (Borrowing and Lending in Foreign Exchange) Regulations, 2000. The DRP therefore concluded that compulsorily convertible Debentures are to be regarded as equity rather than debt. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... io is highly skewed as it makes the investment debt very risky. In CCDs the principal amount is never received back as entire funds are converted into Equity. Therefore, once the conversion option is exercised, it becomes an equity investment. Since the conversion is compulsory, it shall be treated as equity rather than debt. As the CCDs are hybrid instruments, they do not come under ECB guidelines and hence they are to be treated as equity. For the above reasons, the DRP upheld the action of treating CCDs as equity. The DRP also held that the case laws relied by the assessee are different in facts and law and are not applicable in the present case. 20. Aggrieved by the directions of the DRP, assessee has preferred ground No.10 before the Tribunal. 21. We have heard the rival submissions. Learned Counsel for the assessee reiterated submissions made before the revenue authorities. It was submitted that it has been judicially a well settled proposition that CCDs constitute debt and interest payable thereon is a deductible expenditure till the time the same are converted into equity. In this regard, reliance was placed on the decision of the Coordinate Bench of this Tribunal for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ness has to be allowed as a deduction u/s. 36(1)(iii) of the Act. In this regard, we find that the ITAT Bangalore 'A' Bench in the case of ACIT v. M/s. CAE Flight Training (I) Pvt. Ltd. in IT(TP)A No.2060/Bang/2016 dated 25.7.2017 has exhaustively dealt with the issue and addressed all the issues raised by the DRP in it s directions. The DRP has disregarded the said decision on the ground that facts in the aforesaid case were that the CCD holders prior to conversion into equity shares did not have voting rights and dividend payout. From the offer letter dated 26.6.2015 copy of which is at page 358 of the assessee s paper book it is clear that the CCD in the case of the Assessee did not have voting rights prior to its conversion into equity nor were dividend payable on the CCD s and only interest at 9.75% p.a was payable. Therefore the very basis on which the DRP distinguished the decision in the case of CAE Flight Training (supra) is unsustainable. The issue for consideration in the aforesaid case of CAE Flight Training (supra)decided by the Bangalore Bench was with regard to the interest paid on CCDs. The contention of the revenue was that though the nomenclature CCD is us ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fore ins conversion can have voting rights? Whether dividend can be paid on CCDs before its conversion? In our considered opinion, the reply to these questions is a BIG NO. On the same logic, in our considered opinion, till the date of conversion, for allowability of interest u/s 36 (1) (iii) of Income tax Act also, such CCDs are to be considered as Debt only and interest thereon has to be allowed and it cannot be disallowed by saying that CCDs are equity and not debt. We hold accordingly. This issue is decided. 24. After examining the applicability of the Tribunal order rendered in the case of Besix Kier Dabhol, SA vs. DDIT (supra), we now examine the applicability of the decision of Special Bench of the Tribunal rendered in the case of Ashima Syntex Ltd. Vs. ACIT as reported in 100 ITD 247 (Ahd.) (SB) on which reliance has been placed by ld. DR of revenue in the written submissions filed by him as reproduced above. From the facts noted by the Tribunal in this case, it is seen that in that case the assessee issued convertible debentures for subscription at the rate of Rs. 75 per debenture and these were in two parts; Part-A of Rs. 35 to be compulsorily converted into one equ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... issions as reproduced above has mainly reiterated the same arguments which are adopted by the TPO in its order i.e. regarding RBI Master Circular on Foreign Investment in India dated 02.07.2007 and 01.07.2008. We would like to observe that such circular in the context of FDI policy of RBI is in a different context i.e. regarding future re-payment obligations in convertible foreign currency and to have control over such future repayment obligations, the RBI is exercising strict and control so that such future re-payment obligations does not go beyond a point and since in the case of fully convertible debentures, there is no future repayment obligation, the same was considered as equity for the purpose of FDI policy. In our considered opinion, any definition of any term is to be considered keeping in mind the context in which such definition was given. This definition of convertible debentures given by RBI is in the context of FDI policy to exercise control on future re-payment obligations in convertible foreign currency. In our considered opinion, such definition of the term convertible debentures cannot be applied in other context such as allowability of interest on such debentures ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ile benchmarking interest payment to Associated Enterprise for the purpose of Sec.92 of the Act has benchmarked the entire interest amount of Rs.6.09 Crores. Thus, looked at from any perspective, the claim of the assessee for deduction of the sum of Rs.4,53,11,205 deserves to be accepted. The disallowance of the said sum of interest expenses and the consequent addition to the total income is therefore deleted. The relevant ground of appeal of the assessee i.e., Ground No.10 is accordingly allowed. 25. Ground No.11 raised by the assessee reads as follows: 11. Disallowance of actual RSU cost recharge made to the holding company on account of allotment of its shares to the employees of the Company That on the facts and circumstances of the case, the Learned AO / DRP erred in disallowing an amount of INR 10,60,575 incurred towards cross-charge of Restricted Stock Units ( RSU ) allotted to the employees of the Company by its ultimate holding Company alleging that (a) no expenditure has been incurred by the Appellant and (b) the expenditure is notional, disregarding the payment by the Appellant to its group entity in relation to RSU. The learned AO has erred in obse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e heard the rival submissions. The learned counsel for the assessee submitted that the assessee had incurred expense by way of payment to its parent company which has in-turn issued shares to the employees of the assessee. He placed reliance on decision of the decision of the Hon ble Jurisdictional Karnataka High Court decision in the case of Biocon Ltd. 430 ITR 151(Karn.) which upheld the decision rendered by the Jurisdictional Special Bench1 in the case of BIOCON 25 ITR (Tribunal) SB Bangalore. The Hon ble High Court had observed that: 10. From perusal of section 37(1), which has been referred to supra, it is evident that an assessee is entitled to claim deduction under the aforesaid provision if the expenditure has been incurred. The expression 'expenditure' will also include a loss and therefore, issuance of shares at a discount where the assessee absorbs the difference between the price at which it is issued and the market value of the shares would also be expenditure incurred for the purposes of section 37(1) of the Act. The primary object of the aforesaid exercise is not to waste capital but to earn profits by securing consistent services of the employees and th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... een the fair market value of the shares of the parent company on the date of issue of shares and the price at which those shares were issued by the assessee to its employees, was reimbursed by the assessee to its parent company. This sum so reimbursed was claimed as expenditure in the profit loss account of the assessee as an employee cost. The law by now is well settled by the decision of the Special Bench of the ITAT Bangalore in the case of Biocon Ltd. in ITA No.248/Bang/2010, A.Y. 2004-05 and other connected appeals, by order dated 16.07.2013, wherein it was held that expenditure on account of ESOP is a revenue expenditure and had to be allowed as deduction while computing income. The Special Bench held that the sole object of issuing shares to employees at a discounted premium is to compensate them for the continuity of their services to the company. By no stretch of imagination, we can describe such discount as either a short capital receipt or a capital expenditure. It is nothing but the employees cost incurred by the company. The substance of this transaction is disbursing compensation to the employees for their services, for which the form of issuing shares at a discount ..... X X X X Extracts X X X X X X X X Extracts X X X X
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