Income Tax Appellate Tribunal - Mumbai
Everest Kanto Cylinder Ltd, Mumbai vs Assessee
IN THE INCOME TAX APPELLATE TRIBUNAL "K", BENCH MUMBAI BEFORE SHRI B.RAMAKOTAIAH, AM & SHRI AMIT SHUKLA, JM IT A No.542/Mum/2012 (Assessment Year :2007-2008) M/s Everest Kanto Cylinder DCIT (LTU), Mumbai Ltd., 204, Raheja Centre, Vs. Free Press Journal Marg, Nariman Point, Mumbai-400
021.
PAN No. : AAAC E 0836 F
(Appellant) .. (Respondent)
Assessee by : Mr. Rajan Vora
Revenue by : Mr.Ajeet Kumar Jain
& Ms. Sasmita Mishra
सुनवाई कȧ तारȣख / Date of Hearing : 5th Nov., 2012
घोषणा कȧ तारȣख/Date of Pronouncement : 23rd Nov.,2012
आदे श / O R D E R
PER BENCH :
This appeal has been preferred by the assessee against the impugned order dated 12-12-2011, passed by CIT(A)-15, Mumbai in relation to the quantum of assessment passed under Section 143(3) r.w.s. 144C of the Act, for the assessment year 2007-08. In this appeal, the assessee has raised following two grounds :-
"1. 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 Rs.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 Rs.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 2 ITA No.542/2012 compressed natural gas cylinders. In the year under consideration, the assessee had filed its return of income declaring total income of Rs.71,90,77,156/- under the normal provisions of the Income Tax Act and Rs.70,18,79,265/- under Section 115JB of the Act.
3. The brief facts apropos ground No.1 are that the assessee had shown a dividend income of Rs.31,98,330/- and has claimed the same as exempt from tax u/s. 10(33). In response to the show cause notice during the course of the assessment proceedings as to why disallowance under Section 14A should not be made, the assessee submitted 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 fund only. Learned Assessing Officer rejected the contention of the assessee and observed that the total investment in shares and securities as on 31st March, 2007 was around Rs.54.30 lakhs, out of which investment in shares was at Rs.43.03 lakhs and mutual funds was at Rs.11.26 lakhs. The assessee's total assets as on 31st March, 2007 were Rs.386.75 lakhs (including current liabilities and provisions). Thus, investments in shares and mutual funds were 3 ITA No.542/2012 14.04% of total assets. 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 Rs.20,27,896/- as per working given in para 4.3 of the Assessment Order.
4. Learned CIT (A) relying upon the decision of Godrej Boyce Mfg.
Co.Ltd. Vs. DCIT, 328 ITR 81 (Bom), though held that Rule 8D is applicable from AY 2008-09, however, as per the said decision only, the Assessing Officer is bound to determine the expenditure which has been incurred in relation to the income which do not form part of the total income on a reasonable basis. Learned CIT(A) accordingly issued a show cause notice to the assessee to furnish the details to work out the amount of disallowance. The assessee 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 4 ITA No.542/2012 quantum of disallowance, he, therefore, confirmed the entire addition after observing and holding as under :-
"vii. As far as the appellant's submission in respect of its investments from proceeds of IPO and decision of CIT(A) for AY. 2006-07 is concerned, it is mentioned that the method proposed by this office clearly provide of consideration of interest expenses which were only directly related to investments and further to exclude such interest expenses from the purview of the computation such interest which would be directly attributable to any particular income or receipt. If the appellant has invested the proceeds of IPO in to 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 certain case laws and ruling of Hon'ble ITAT. The decision in the case of Balrampur Chini is in respect of the position that section 14A and Rule 8D can be only invoked when the O is not satisfied with regard to the accounts of the assessee that the claim of expenditure made by the assessee is not correct and the claim made by the assessee that no expenditure has been made in relation to income which does not form part of total income under the Act. In the facts of the case no expenditure has been 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 Vs. 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 that the appellant has sold and purchased shares & securities during the year and the appellant has not maintained any separate books of accounts for investments & other assets. It has been further observed that in so far as funds from IPO are concerned, the funds have been mixed with the business of the appellant and the appellant has not been able to show how in the year under consideration, the flow of funds is separate fro investments and other activities. Accordingly, the observation of 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 5 ITA No.542/2012 attributable to earning dividend income. As far as the decision of Hon'ble Delhi High Court in the case of CIT Vs Tin Box Co. 260 ITR 637 is concerned, it is mentioned that the same is not in respect of section 14A of the Act.
ix. In the set of facts of the case that the appellant has not submitted information and details which was considered necessary to arrive at the figure of disallowance u/s. 14A and has further not replied specifically to the show cause notice issued to the appellant, the disallowance reached by the AO is considered justified and the disallowance made by him is therefore upheld."
5. Before us, learned Senior Counsel, Shri Rajan Vora, first and foremost 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 assessment year 2006-07; (ii) investment made during the assessment year 2006-07 and (iii) investment made during the year 2007-08. He drew our attention to yearwise fund flow statement appearing at page 46 of the paper book and pointed out the details of interest free fund available with the assessee right from the assessment year 2004-05 to the assessment year 2008-09 which were far more than the aggregate investments made by the assessee. He also provided us the chart giving bifurcation of the investments made in various years. From this, he submitted that the investments as on 31st 6 ITA No.542/2012 March, 2005, were to the tune of Rs.2.12 crores, whereas the assessee's interest free funds were to the tune of Rs.41.67 crores which included the accumulated profits of Rs.29.69 crores. Regarding investments made in the AY 2006-07, he submitted that the assessee had made investments of Rs.11.09 crores and during the same year, the assessee had gone for public issue (IPO), wherein it has raised Rs.90 crores and the said funds were used for investments in shares and mutual fund during that year. This fact has been accepted by the CIT(A) in the said year, who has held that investments made from IPO are its own funds, hence, no disallowance should be made under Section 14A. This order as pointed by him, has now been affirmed by the Mumbai Bench of the ITAT in ITA No.5985/Mum/2010, copy of which has been given in the paper book at pages 27 to 29. For the investment made in the assessment year 2007-08 i.e the year under consideration, he submitted that the investments of Rs.41.83 crores, 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 there would hardly be any scope for making any disallowance under Section 14A. In support of his contention that, if the investments are made out of surplus funds 7 ITA No.542/2012 or interest free fund available, no disallowance under Section 14A can be made, he relied upon the decision of the Hon'ble Bombay High Court in the case of CIT Vs. Reliance Utilities and Power Limited, 313 ITR 340 and host of other decisions, which have been enumerated at pages 56 & 57 of the separate compilation 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 reasonable disallowance is definitely called for.
7. We have carefully considered the rival submissions, perused the material placed on record and the also the findings given by the AO as well as the CIT(A). From the records, it is borne out that the assessee has made aggregate investments of Rs.54.30 crores upto 31st March, 2007, out of which sum of Rs.41.03 crores have been invested in the equity shares of foreign subsidiaries in UAE. Under the Income Tax Act, the dividend income from the shares 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 8 ITA No.542/2012 amount. Out of the balance amount, sum of Rs.11.09 cores 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 Rs.90 crores to the interest free funds by the CIT(A). The said order of the CIT(A) has now been affirmed by the Tribunal vide order dated 21- 10-2011, wherein it has been held that when the assessee was having sufficient non-interest bearing funds for making investments during the year, then there is no reason to deviate from the findings of the CIT(A). Thus, this amount also cannot be taken into consideration for making any kind of disallowance under Section 14A. Now, the remaining balance amount of investment [i.e 54.30 - (41.03+11.09) = 2.18], which was invested prior to assessment year 2006-07, it is seen from the 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 (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 view of the CIT(A) and A.O. that the assessee has made all the investment out of interest bearing funds. However, there are huge administrative cost incurred by the assessee and it cannot be said that no cost can be attributable to the earning of exempt income. Therefore, looking to the 9 ITA No.542/2012 fact that some administrative cost may be attributable for making of investment and earning of exempt income, therefore, a fair estimate of sum of Rs.1 lakh is upheld for the purpose of disallowance under Section 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 Rs.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 the largest international manufacturer of high pressure seamless gas cylinders. During the relevant year, the assessee had shown following international transactions in its TP Study Report :-
Sl. Nature of Transaction Amount Method
No.
I Purchase of Raw Materials 13,76,83,652 Cost Plus
II Sale of Finished Goods 2,35,14,425 CUP
III Sale of Trading Item (Spares, 7,95,24,820 CUP
Consumables etc)
IV Guarantee Commission on 6,48,650 Cost
Guarantee Given Plus
V Sale of Fixed Assets of Dubai Branch 27,88,24,837 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 10 ITA No.542/2012 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 formed a wholly owned subsidiary company in Dubai, namely, EKC International FZE. Earlier, this subsidiary company was a branch of the assessee company and during the year it had sold all the fixed assets of its branch in Dubai to its wholly owned subsidiary EKC Dubai. The subsidiary company is also engaged in the similar business of manufacture of cylinders. It needed funds for working capital requirements and capital expenditure, for which the said company approached the ICICI Bank, Bahrain branch, 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 upto USD 15 million and another for capital expenditure upto USD 5 million. For providing such guarantee to the Bank in Bahrain for loan given to subsidiary, the assessee has charged 0.5% as guarantee commission from its subsidiary. The assessee also had an independent sanction letter of credit arrangement between ICICI Bank, India Branch, where a guarantee fee of 0.6% p.a is to be paid by the assessee company to 11 ITA No.542/2012 ICICI Bank India for the bank guarantee provided by the said Bank in India in favour of the assessee. On the other hand, the assessee company has charged guarantee commission of Rs.6,48,650/- @ 0.5% from its subsidiary company.
11. The 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 company becomes high by the amount of guarantee, which becomes more leveraged to that extent, thereby increasing the debt equity ratio which will ultimately affect the cost of borrowing. The subsidiary in Dubai, which was newly formed and unknown, had a low credit rating and as such the lending rate to the same if there were willing lenders would have been much higher. But for the guarantee by the assessee, ICICI Bank would not have lent the money, or might have given it at a much higher rate considering the enterprise risk. In support of his observation, he referred to a case of General Electric Capital Canada Inc. Vs. Her Majesty The Queen, reported in 2009 TCC 563.
12ITA No.542/2012
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 rate of interest charged from the AE would have been far higher had the assessee not given its guarantee. B. In fact, without the guarantee being provided by the assessee, the loan giver (i.e. the third party lender) would not even have given the loan at all.
C. The clerkage charges/ fee (or whatever be the nomenclature) by a loan giver should not be confused with the risk element borne by the assessee in giving such a guarantee for the AE. The clerkage charges etc. is merely for the paperwork and 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) referred to as the taxpayer) has borne risks. There is an inherent cost in giving such a guarantee (or corporate guarantee or letter of comfort or any similar assurance).
F. The AE with its resources and economic position had a very low credit rating, on a standalone basis. If at all, the AE were to be granted a loan by a third party, the loan-giver would have charged at the prime lending rate (besides the fee etc). This is because of the very high risk involved in giving loan by any lender to an entity 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 at which the banks borrow and at which they lend shows the risk perception of the banks. Therefore, the difference 13 ITA No.542/2012 between the bank rate and PLR rate does show the return for bearing risk. The Bank rate during the relevant year was 6% during the relevant year while the average PLR rate was 11.35%. This was that the return for bearing the risk was around 535 %.
C. The website of Allahabad Bank also shows that they charge rate of 0.75% per quarter i.e, 3% per annum.
H. It has also been found that a 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 cost of risk undertaken is not reflected in this rate because these guarantors secure themselves fully while furnishing the guarantees. These rates are quoted after obtaining adequate security for covering the risk involved in the guarantee. In the present case the assessee has not obtained any security from its AE. It has just provided a blanket guarantee. Therefore, the Arm's Length Compensation should be much more than the rate charged by the banks for their commission."
He, therefore, 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 guarantees, so that CUP method could used to benchmark this transaction. From the information gathered, he found that guarantee rates ranges from 0.15% to 3%, 14 ITA No.542/2012 however, held that 3% of the amount of guarantee would be appropriate and for this he has taken various instances of the banks giving such kind of guarantee. He, accordingly, worked out the ALP at 3% of commission at Rs.34,99,003/- and made upward adjustment of Rs.28,50,353/-.
14. Before the CIT(A), the assessee made detail submissions, 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 requirements. The subsidiary company approached ICICI Bank, Bahrain branch and the said bank agreed to provide working capital requirements to the subsidiary company. In terms of the sanction, corporate guarantee had to be given by he assessee company.
iii. The assessee company has given the corporate: guarantee and charged guarantee commission iv. The assessing officer has benchmarked the arm's length price for the bank guarantee @ 3% of the amount of guarantee. The assessing officer in his show cause notice dt. 05.10.2010 has given the reasons for adopting b ink 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 o the subsidiary company. Hence all the assets unless exclusively charged or mortgaged belongs to the holding company. Further, guarantee given to the bank have a clause that the said guarantee can be invoked only after the charged assets have been liquidated. In other words the guarantee can be invoked on) y after the charged assets have been liquidated. Hence, there is no real financial burden on the assessee company for giving the guarantee.15 ITA No.542/2012
b) That AE has borrowed money as per prevailing market rate in AE country. The prevailing rates in AE country were around 5.5 % p.a. (Source Central Bank of UAE). During the said period AE has borrow rd at the rate of LIBOR + 0.8 3% or term loan and LIBOR + 0.5% for working m:aptal 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 ca ,ital 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 furnished by assessee to the bankers ) of AE.
c) That AE had capital base in form of Equity of USD 4.70 million, against the said equity base the banks have funded USD 10 ml lion (debt to equity ratio of 2.13:1) well below the accepted norms of long term lending of 4:1. Further by end of March 2007, AE had Net worth of USD 12.4 million vis-à-vis bank funding of USD 10 million, giving debt to equity ratio of 0.80:1.
Based on the equity commitment by management, any company could have availed the 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 nutshell against the loan outstanding as at 3 1.03.2007 of USD 10 million, Assets available in case of any default was to the tune of USD 27.4 million. From above it can be deduced that the said loan for which corporate guarantee was issued was secured by 2.7 times o 'the loan value, thus categorizing the said loan at the least risk loan:
e)That the corporate guarantee given by the assessee was an international transaction and hence the transaction would have to be looked upon the principles 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. Vs
b) ITAT Mumbai Bench E in the case of DCIT Vs Tech Mahindra Ltd. 46 SOT 141 (MUM)
c) ITAT Hyderabad A Bench in the case of MIs. Four Soft Ltd. Vs DCIT 16 ITA No.542/2012
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; that the rate charged by Allahabad Bank is Indian rate and cannot apply to international transactions. In respect of guarantee commission charged by Rabo India FiIlan.2e Ltd., the said company is a finance company and the rate charged by the finance company depends on various factors like financial position of the borrower, net worth etc. Hence, the rate is not comparable also. Besides, the said transaction is also an Indian transaction.
v. Accordingly it was submitted that the guarantee commission @ 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 of various banks charging 3% guarantee commission was held to be justified.
16. Learned Senior Counsel Shri Rajan Vohra, submitted that earlier the assessee had a branch in Dubai and from 1st November, 2006, a subsidiary company was set up and all the fixed assets of its erstwhile branch was owned by its subsidiary company. Since the subsidiary company needed funds for working capital requirements and capital expenditure, it has approached ICICI Bank Bahrain branch for providing term loan. The assessee only to provide for corporate 17 ITA No.542/2012 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 subsidiary company. The difference of 0.1% was towards strategic business interest of the assessee company. Relying upon the decision of the Hyderabad Bench of the ITAT in the case of M/s Four Soft Ltd. Vs. DCIT, reported in (2011) 62 DTR (Hyd)(TRIB) 308, he submitted that transaction of giving corporate guarantee to a bank is not an international transaction. He further reiterated that there is no detriment to the assessee while giving guarantee as it has incurred no cost as entire hypothecation of assets was 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 are instances of 18 ITA No.542/2012 independent dealing of the banks directly with the clients. The other plank of argument was that in such type of transaction, one has to see the economic and business interest also because such kind of corporate comfort by the assessee for its wholly owned subsidiary is a strategic investment for increasing the volume of the business, sales and profit, which is in the nature of business interest and no benchmarking is required for determining the ALP in providing corporate comfort 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 Limited Vs. CIT, passed in 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 and ICICI Bank, cannot be upheld.
17. On the other hand, learned CITDR submitted that at the time when TPO was making the assessment, the law was not clear whether the guarantee commission is an international transaction or not, however, in view of the amendment brought by the Finance Act, 2012 with retrospective effect from 1-4-2012, by way of Explanation to Section 92B, guarantee commission is now considered to be an international transaction. The assessee itself has shown this guarantee 19 ITA No.542/2012 commission 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 can be an internal CUP or external CUP in such cases and the TPO has taken external CUP for benchmarking the ALP on transaction of guarantee commission, which is legally and factually correct and the data which has been taken is based on public domain. The assessee itself has charged 0.5% guarantee commission from its subsidiary and the issue before the TPO was that whether such charging of guarantee commission is at ALP or not. In these circumstances, the TPO has taken external comparables and 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 applicable, if 20 ITA No.542/2012 at all, has been brought in rule 10AB with effect from May, 2012, which cannot be held to be applicable for this year. Regarding applicability of CUP method, he submitted that in case of the assessee, internal CUP was available i.e. ICICI Bank India was charging the rate of 0.6% of guarantee commission from the assessee, then there was no need for looking at the external CUPs. IN CUP method, one has to see likie to like and there is no reason as to why 3% is being applied in the case of 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 well as the TPO. The only issue before us is the upward adjustment of arms length price in relation to corporate guarantee given by the assessee to the ICICI Bank, Bahrain Branch for loan taken by its subsidiary in Dubai. Earlier the assessee carried out its business through its branch at Dubai, which was later on taken over by wholly owned subsidiary company of the assessee for carrying out the business of manufacturing of cylinders. The said subsidiary company has 21 ITA No.542/2012 hypothecated its assets for getting 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 arrangement with ICICI Bank India, wherein under a guarantee scheme commission of 0.6% per annum is paid by the assessee for the bank guarantee provided by the ICICI Bank India in favour of the assessee. The TPO found that charging of 0.5% of guarantee commission by the assessee from its subsidiary is not at ALP as without the guarantee provided by the assessee the bank either would not have given the loan at all or would have charged higher rate of interest from its AE. As per the TPO, the assessee 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 3%, Allahabad Bank is charging 0.75% 22 ITA No.542/2012 per quarter i.e. 3% p.a.; Exim Bank USA which has provided a guarantee to Boeing Co. of USA against Hire Purchase Agreement for purchase of Aircrafts by Jet Airways India, has charged a commission of 3% plus commitment charges. Accordingly, he has benchmarked the ALP for bank guarantee at the rate of 3% for the amount of guarantee.
20. While applying these external comparables of the Banks, the TPO has not brought anything on the record that under which terms 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 universal application of rate of 3% for guarantee commission cannot be upheld in every case as it is largely dependent upon the terms and conditions, on which loan has been given, risk undertaken, relationship between the bank and the client, economic and business interest are some of the major factors which has to be taken into consideration. In the present case, when the assessee has specifically stated that neither it has incurred any cost for providing the guarantee to the bank for loan taken by its subsidiary nor has undertaken any kind of risk, as it was the subsidiary company 23 ITA No.542/2012 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 based on external comparables and that to be on naked quote given in the website, is uncalled for in the present case.
21. So far as the learned Senior Counsel's contention that guarantee commission is not an international transaction and there could not be any method for evaluating the ALP for the guarantee commission, we do not find any merit in the said contention in view of the amendment brought by the Finance Act, 2012 with retrospective effect from 1-4- 2002 by way of Explanation added in Section 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 benchmarking the charging of guarantee fee. We also do not agree with the contention of 24 ITA No.542/2012 the learned counsel that there could not be any cost or charge of guarantee fee by providing corporate guarantee to its subsidiary because there is an always element of benefit or cost while providing such kind of guarantee to AE. However, in this case, the assessee has itself charged 0.5% guarantee commission from its AE, therefore, it is not a case of not charging of any kind of commission from its AE. The only point which has to be seen in this case is whether the same is at ALP or not. We have already come to a conclusion in the foregoing paras that the rate of 3% by taking external comparable by the TPO, cannot be sustained in facts of the present case. We also find that in an independent transaction, the assessee has paid 0.6% guarantee commission to ICICI Bank India for its credit arrangement. This could be a very good parameter and a comparable for taking it as internal CUP and comparing the same with the transaction with the AE. The charging of 0.5% guarantee commission from the AE is quite near to 0.6%, where the assessee has paid independently to the ICICI Bank and charging of guarantee commission at the rate of 0.5% from its AE can be said to be at arms length. The difference of 0.1% can be ignored as the rate of interest on which ICICI Bank, Bahrain Branch has given loan to AE (i.e. subsidiary company) is at 5.5%, whereas the assessee is paying interest rate of more than 10% on its loan taken with ICICI Bank in India. Thus, such a minor difference can be on account of differential rate of interest. Thus, on these facts, we do not 25 ITA No.542/2012 find any reason to uphold any kind of upward adjustment in ALP in relation to charging of guarantee commission. Hence, the addition of Rs.28,50,353/- on account of TP adjustment on guarantee commission is hereby deleted and the order of the CIT(A) is set aside. Accordingly, ground No.2 is treated to be allowed.
22. Resultantly, appeal filed by the assessee is partly allowed.
Order pronounced in the open court on this 23rd day of Nov.,2012.
Sd/- Sd/-
(B.RAMAKOTAIAH) (AMIT SHUKLA)
ACCOUNTANT MEMBER JUDICIAL MEMBER
Mumbai; Dated : 23rd Nov./ 2012.
ू.कु.िम/pkm, िन.स/ PS
Copy of the Order forwarded to :
1. The Appellant
2. The Respondent.
3. The CIT(A)-X, Mumbai.
4. CIT
DR, ITAT, Mumbai
5.
6. Guard file.
//True Copy//
BY ORDER,
(Dy./Asstt. Registrar)
ITAT, Mumbai