Income Tax Appellate Tribunal - Ahmedabad
Addl.Cit, Range-5, , Ahmedabad vs Rajratna Metal Industries Ltd.,, ... on 12 May, 2017
IN THE INCOME TAX APPELLATE TRIBUNAL
AHMEDABAD "I" BENCH AHMEDABAD
BEFORE SHRI PRAMOD KUMAR, ACCOUNTANT MEMBER,
AND SHRI S. S. GODARA, JUDICIAL MEMBER.
ITA No. 1050/Ahd/2015
with
CO No.91/Ahd/2015
(Assessment Year: 2010-11)
Add.CIT, Range-5, Ahmedabad Appellant
Vs.
M/s. Rajratna Metal Industries Ltd.,
909, Sakar-III, Nr. Income-tax Circle,
Ashram Road, Ahmedabad 380009 Respondent/Cross Objector
PAN: AAACR9980M
राज व क ओर से/By Revenue : Shri Srinivas Bidari, CIT. D.R.
आवेदक क ओर से/By Assessee : Shri Dhinal Shah & Shri Ankit
Gandhi, A.R.
सन
ु वाई क तार ख/Date of Hearing : 13.02.2017
घोषणा क तार ख/Date of
Pronouncement : 12.05.2017
ORDER
PER S. S. GODARA, JUDICIAL MEMBER
This Revenue's appeal and assessee's cross objection for assessment year 2010-11 arise against the CIT(A)-9, Ahmedabad's order dated ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -2- 12.01.2015 in case no.CIT(A)-XI/447/Addl.CIT.R-5/13-14, in proceedings u/s.144C r.w.s. 143(3) of the Income Tax Act, 1961; in short "the Act".
Heard both sides. Case file perused.
2. We come to Revenue's appeal raising three substantive grounds. Its first grievance is that the CIT(A) has erred in deleting Section 36(1)(iii) interest disallowance / addition of Rs.12,64,738/-; as made in the course of the regular assessment in question framed on 27.02.2014. The Assessing Officer invoked the above disallowance provision in facts of the instant case after noticing the assessee to have created capital work in progress of Rs.3,63,10,080/- without attributing any interest capitalization. He thus quoted assessee's failure in establishing non utilization of interest bearing funds to make the impugned disallowance.
3. The CIT(A) reverses Assessing Officer's findings as under:
"4.2 I have carefully considered the contentions of the appellant. I have also perused the assessment order and the submission made by the Ld. A.R. It is seen that for capitalizing interest as per the provisions of proviso to section 36(1)(iii) following conditions should be fulfilled.
1. Capital Borrowed for acquiring capital assets
2. interest is paid in respect of capital borrowed
3. The acquisition of assets should be for the purpose of expansion of an existing business or profession
4. Interest Liability may or may not be capitalized In the instant case, the Ld. A.O. has not brought anything on record to indicate that capital was borrowed for capital work-in-progress. Secondly, no evidence is there on record to indicate that any interest-bearing funds were utilized to create this capital work-in-progress and hence, no interest was paid in relation to such capital work-in-progress. This way, the first and second conditions for capitalizing interest are not fulfilled. Accordingly, interest is not required to be capitalized as per the provisions of proviso to section 36(1 )(iii).
ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -3-It is well settled law that burden is on the revenue to prove that any part of borrowed funds was diverted to non business use. Reliance in this regard is placed on the following case laws:
i) Shhadiram & Sons v/s. DCIT 92 ITD 22
ii) Modipon Ltd. v/s. Lto 22 TTJ 108
iii) JCIT v/s. Sterisheets Ltd. 106 TTJ 460 It is noticed that the A.O. had miserably failed to discharge his onus and failed to prove that part of interest bearing fund was diverted as non interest bearing funds.
Further, the issue was also concluded in favour of the appellant in A.Y.2009-2010 by my predecessor and since, the facts are identical in this year as it was in A.Y.2009-10, following the order of my Ld. predecessor, this ground of appeal is allowed and capitalization of interest of Rs. 12,64,738 is deleted."
4. Learned Departmental Representative strongly seeks to restore the impugned interest disallowance. It is evident from above extracted lower appellate findings that the CIT(A) has followed his preceding assessment year's reasoning in granting relief to the assessee on identical lines. No distinction on facts has been pointed out in the course of hearing pertaining to the two assessment years. Mr. Dhinal Shah then files before us this tribunal's order in Revenue's appeal ITA No.540/Ahd/2012 decided on 11.06.2015 in preceding assessment year adjudicating the issue in question against the Revenue. Learned co-ordinate bench observes therein that the Assessing Officer has not brought anything on record to indicate interest bearing funds utilized in the capital work in progress. We accordingly adopt the same view herein as well to decline this first substantive ground.
5. The Revenue's second substantive ground pleads that the CIT(A) has erred in deleting excess depreciation disallowance / addition of Rs.12,28,371/- thereby not considering this tribunal's decisions in assessment years 1996-97 and 1998-1999. The Assessing Officer went by case records of the said two assessment years wherein depreciation was allowed on certain ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -4- assets although the assessee had not raised any such claim. He therefore reworked the relevant depreciation figures. The issue travelled up to the tribunal. A co-ordinate bench upheld Assessing Officer's reasoning. He made the same observations herein as well to restrict assessee's depreciation claim from Rs.15,87,03,423/- to Rs.15,74,75,052/-. The differential amount of Rs.12,28,371/- stood disallowed. The CIT(A) follows his order passed in preceding assessment year 2008-09 on the very issue to delete the abovestated disallowance.
6. Shri Bidari vehemently argues that the Revenue deserves to succeed on the instant issue as per tribunal's decisions in the above two assessment years. He then highlights the fact that this tribunal thereafter decides the impugned question in assessee's favour in assessment year 2009-10 without considering its earlier findings. He thus seeks our agreement in following our findings in assessment years 1996-97 and 1998-99 (supra). Shri Dhinal Shah informs the bench that the relevant figures involved in the impugned assessment year qua this depreciation issue are only consequential to those involved and decided in the immediate preceding assessment year since there is no new addition herein. His case therefore is that the preceding assessment years findings not modified in any manner so far shall apply mutatis mutandis herein as well. The Revenue fails to rebut this crucial factual position. We thus find that the CIT(A) has rightly deleted the impugned disallowance. The Revenue's second substantive ground is accordingly rejected.
7. The Revenue's third and last substantive ground pleads that the lower appellate authority has erred in deleting arm's length price adjustment of Rs.16,84,60,644/-; as proposed in Transfer Pricing Officer's order dated ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -5- 21.01.2014 u/s.92CA(3) of the Act and accepted in the abovestated assessment order. Mr. Bidari strongly argues that the CIT(A) ought not to have reversed the impugned adjustment arising from exclusion of foreign exchange / loss; as done by the Assessing Officer. Mr. Dhinal Shah quotes a catina of case law that the issue of exclusion of foreign exchange gain/loss for the purpose of computing arm's length price in transfer pricing proceedings is no more res integra in view of the following judicial precedents:
"1. Fiserv India Pvt Ltd [TS-437-HC-2016(DEL)-TP]
2. Ameriprise India Pvt Ltd [TS-174-HC-2016(DEL)-TP]
3. NEC Technologies India Ltd [TS-221-ITAT-2016(DEL)-TP
4. Subex Ltd [TS-181 -ITAT-201 6(Bang)-TP]
5. Visa Consolidated Support & Services [TS-162-ITAT-2016(Bang)-TP]
6. SAP Labs India Private limited (145 TTJ 521) (Bangalore ITAT)
7. Four Soft Ltd. (ITA No. 1495/HYD/20 10) (Hyderabad ITAT)
8. Trilogy E Business Software India Private Limited vs. DCIT (23 ITR(T)
464) (Bangalore ITAT)
9. M/s Capital IQ Information Systems (India) Private Limited vs. DCIT (ITA No. 1961/HYD/2011) (Hyderabad ITAT)
10. S. Narendra Vs. ACIT ([2013] 32 taxmann.com 196) (Mumbai ITAT)
11. Cordys R & D (India) (P.) Ltd. Vs. DCIT (ITA No. 1092/H YD/2010) (Hyderabad ITAT)
12. Techbooks International Pvt Ltd Vs. ACIT (ITA No. 722/Del/2014) (Delhi ITAT)"
The assessee's case therefore is that the CIT(A) has rightly treated foreign exchange fluctuation gain/loss as an operating item not to be excluded for the purpose of computing arm's length price. The Revenue fails to rebut application of the above extracted judicial pronouncements holding identical foreign exchange fluctuation gains/losses as operating item under the transfer pricing parlance. We thus affirm CIT(A)'s findings on this third issue as well. The Revenue's last substantive ground as well as its appeal ITA No.1050/Ahd/2015 fails. ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -6-
8. We now advert to assessee's CO No.91/Ahd/2015 raising sole substantive ground pleading that the lower authorities have erred in law and facts by not considering its windmill income as an operating income by deleting the above transfer pricing adjustment addition of Rs.16.84 crores (supra). Its case is that it has itself sold its wind power from Section 80IA eligible undertaking to manufacturing division by availing state electricity undertakings wheeling facility instead of selling it in open market, the same is very much in the nature of an operating income to be included in computing arm's length price.
9. We come to facts relevant to the instant issue. The assessee has installed windmill (s) for generating wind power. It thereafter entered into a wheeling agreement with the state electricity undertaking to sell the above generated wind power to its manufacturing division in lieu of payment of transmission cost computed at the rate as is charged by the state undertaking. For example, if the assessee pays one rupee per unit to state undertaking, it has charged the very rate to the windmill division supplying power for captive consumption. It records the very arrangement and rate in its books of accounts. This arrangement resulted in windmill income of Rs.4,16,79,384/- against corresponding expenditure of Rs.2,67,10,508/- .
10. We now advert to assessee's international transactions with its overseas associate enterprises involving gross sum of Rs.54,58,95,740/- representing raw material purchases along with return of packaging material and sale of finished goods. The assessee employed the transaction net margin method as the most appropriate method to benchmark its above transactions. All the lower authorities right from Transfer Pricing Officer to the CIT(A) ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -7- exclude the above windmill income as a non-operating one for the purpose of determining the arm's length price in question.
11. We have given our thoughtful consideration to rival submissions. There does not appear to be any dispute about the fact that assessee's windmill income has nothing to do with its international transactions involving altogether different components of raw material purchases, return of packaging material and sale of finished goods. It only argument is that it has sold its captive power from one division to other as eligible for Section 80IA deduction instead of generating revenue from open market. It highlights the fact that the above windmill income has already been taken as business income for the purpose of computing the corresponding sec. 80IA deduction. We see no reason to concur with this argument as both the abovestated divisions of windmill land and steel manufacturing are altogether separate without having any interwoven element embedded therein. We observe that the mere fact of the above windmill income accepted under the head of business income would not make it as income derived from manufacturing division forming subject matter of the impugned transfer pricing adjustment. We notice in this factual backdrop that hon'ble Delhi high court's decision in MARUBENI INDIA PVT. LTD. vs. DIT ITA No. 1042/2011 dated 25.04.2013 upheld this tribunal co-ordinate bench decision drawing an identical distinction as follows:
"4. The first three questions proposed by the assessee may be now examined. In the course of the assessment proceedings, the assessee's case was referred to the transfer pricing officer ("TPO", for short) as the international transactions with associated enterprises were more than Rs.5 crores. In the report submitted by the TPO under section 92CA (3) of the Act, he proposed an addition of Rs.2,60,49,881/- on the ground that the commission and service fees received by the assessee from MCJ did not represent arm's length price. While doing so, the TPO treated the interest income of Rs.1.72 crores received by the assessee as non- operating income. Because of this treatment accorded to the interest income, the ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -8- profits of the companies which were taken for comparison purposes were found to be more than the profits earned by the assessee and accordingly the addition on account of transfer pricing adjustment was made. It was the conclusion of the TPO that the income earned by way of interest by investing the surplus funds of the assessee in interest bearing instruments cannot be used to offset the assured return on costs.
5. The TPO was further of the view that in respect of the services rendered by the assessee, it should be remunerated on a cost-plus basis and the total costs should be made the basis of computing its earnings and not merely the commission and fixed fees paid to it. According to the TPO the commission rates and the fixed fees were determined by extraneous unascertainable factors which had no bearing with the corresponding costs incurred by the assessee. As the commission was paid on the basis of the value of the transactions put through because of the efforts of the assessee, the assessee is artificially made to bear the risks of the market which it was otherwise not meant to bear. In the proceedings before the TPO in its transfer pricing report which it was required to submit by section 92E of the Act, the assessee chose five comparable companies and the average margin came to 8.37%. The TPO computed the arm's length remuneration in the following manner: -
Personal Exp 83,196,155
Admn. & Other 119,967,293
Depreciation 9,830,666
Total Cost (A) 212,994,114
Cost Plus markup of 8.37% (A) 230,821,721
Amount earned as commission and 204,771,840
service fees (B)
Amount short charged (A-B) 26,049,881
The arm's length price in respect of commission and market research service. fees is therefore, determined at Rs.221,047,646 as against Rs.194,997,765 declared in Form 3CEB."
On this basis the assessing officer made an addition of Rs.2,60,49,881/-.
6. The assessee filed an appeal against the aforesaid addition before the CIT (Appeals) and raised several contentions. In particular, it was contended that the approach of the TPO/ AO in treating the interest income as non-operating income was flawed and it was pointed out that the short term interest of Rs.1.72 crores received by the assessee was on account of a treasury function which represented its core function and, therefore, ought to have been taken as operating income. It was accordingly submitted that excluding the interest revenue from the computation of the arm's length price was not appropriate since the cost for earning the interest income was built into the operating cost of the assessee. It was also submitted that the demonstrative costs also include interest on account of income tax which was non-operating income and should be excluded from the computation of operating profit.
ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 -9-7. The CIT (Appeals) dealt with the assessee's submissions in detail. He noted that the assessing officer/ TPO had treated the interest income earned by the assessee as non-operating income and after doing so it was found by them that the profits of the comparable companies were more than the profits of the assessee which require an adjustment to the price. Thereafter, he framed the following issues which according to him arose for adjudication on this point: -
"i. Whether the interest income of Rs.1.72 crore is part of operating income or not.
ii. Whether loss on sale of fixed assets, interest paid to income tax, office closure cost, amount paid to telephone adalat are abnormal costs and are required to be excluded while computing the operating expenses.
iii. Whether business promotion expenses disallowed by the A.O and admitted by the appellant should also be excluded while computing the operating expenses.
iv. Whether, the appellant is entitled for adjustments to the operating profit, on account of differences in the working capital position and differences in the risks profile, between the appellant and the comparable companies.
v. Whether the appellant is entitled to the benefit of +5% range mentioned in Proviso 92C(2) while computing the Arm's Length Price."
8. The submissions of the assessee before the CIT (Appeals) were mainly these. The parking of the surplus funds in interest bearing securities was an integral part of the assessee's operations, that one of the objects of the company was to invest the surplus funds in securities, deposits, units, shares, bonds, debentures, etc. and that according to its memorandum of association these activities were permitted and thus the business model of the assessee envisaged the utilisation of surplus funds from time to time to generate operating revenue. It was, therefore, contended that it was not proper or appropriate to exclude the interest income from the computation of the arm's length price since the costs for earning the interest income was built into operating costs of the assessee. It was represented that the treasury functions of the assessee included cash management, management of bank accounts, data management, financial planning and foreclosing with cash plus financial management, etc. In the alternative and without prejudice to the contention that the interest income is intrinsically linked to the agency and market research business, it was submitted that if the CIT (Appeals) was not prepared to accept that the interest income was the assessee's operating income, then all costs associated with the earning of such income should be segregated and if that was not done those costs would continue to be part of the agency and market research business which would present an untrue picture of the entire operations.
9. These submissions were considered by the CIT (Appeals) in detail who held that it was a universal practice followed under transfer pricing regulations to ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 - 10 -
exclude interest from the operating revenue for computing the net profit from the operating activity except where the earning of interest itself was the main activity. In this view he held that the interest income cannot be considered as the assessee's operating income. He also found that the interest income in the present case was not so interwoven with the international transaction that it cannot be separated. He also held that the commission rates and the fees by which the assessee was remunerated were in no way related to the interest earnings of the assessee. According to the CIT (Appeals) while evaluating the arm's length price, what was required to be seen was the return on costs; if interest is included as part of the operating revenue, it would amount to computing the return on investment which would be wholly inappropriate. It is also irrelevant, according to the CIT (Appeals) that the interest income was treated as business income in the assessment order. For these reasons, the CIT (Appeals) held that for the purpose of determining the arm's length price in respect of the controlled transaction of the assessee, the interest income of Rs.1.72 crores was to be considered as non- operating income. He thus endorsed the decision of the TPO/AO.
10. The assessee carried the matter in further appeal before the Income Tax Appellate Tribunal. After considering the rival contentions and examining the facts, the Tribunal agreed with the income tax authorities, recording the following findings: -
(a) The purpose of the exercise before the TPO is to determine the arm's length price of the transactions of the assessee with its associates by comparing the same with un-controlled, comparable transactions and in doing so he has to consider all the components of the operating income from which the costs incurred in earning such income have to be deducted;
(b) It was not sufficient to decide whether the interest income fell to be assessed as business income or as income under the residual head for the purpose of making the assessment; it was further necessary to find out whether the interest income forms part of the operating income of the assessee;
(c) The business profile of the assessee, which has been brought out by the income tax authorities and particularly the CIT (Appeals) shows that the earning of interest income was only the result of investment of the surplus funds and was not a primary income-generating activity;
(d) The nature of the services provided by the assessee to its holding company i.e. MCJ and other associate concerns was to render marketing support services and facilitation by providing information on a periodic basis, which activity was altogether a different activity from the activity which generated interest income;
(e) The TPO and the CIT (Appeals) were right in, therefore, segregating the stream of interest income from the other services rendered by the assessee which were its core activities;ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.)
A.Ys. 2010-2011 - 11 -
(f) If interest is included as part of the operating income that would
result in an inappropriate Profit-Level Indicator (PLI) in the case of a service provider, such as the assessee;
(g) Therefore, neither the interest income nor the interest expenditure would be a relevant consideration in the determination of the arm's length price.
11. On the basis of the above findings, the Tribunal took the view that neither the interest income of Rs.1.72 crores nor the interest expenditure of Rs.1.22 crores can be taken into consideration in the computation of the arm's length price.
12. The assessee has framed the first three questions against the aforesaid findings of the Tribunal. It was fairly admitted on behalf of assessee that question No.3 did not arise out of the order of the Tribunal. So far as the first two questions are concerned, we are satisfied that essentially they are questions of fact and do not give rise to any substantial questions of law. Whether a particular activity of the assessee i.e. the interest generating activity in this case, should be taken into consideration in the determination of the ALP is a question which needs to be decided considering the nature of the business of the assessee, which is referred to as "business model" in the transfer-pricing jargon. The Tribunal has rightly noted that the fact that the memorandum of association gave powers to the assessee to earn interest by making investments is relevant only for the purpose of determining the appropriate head of income under section 14 of the Income Tax Act, 1961 under which the interest would fall to be assessed. It has been rightly observed by the Tribunal that such a consideration is not relevant for the purpose of determining the operating income of an assessee for the purposes of transfer pricing regulations. Moreover, the Tribunal has also found as a fact that the interest arose out of investment of surplus funds which were not immediately required for the core business of the assessee. The Tribunal's view that in such circumstances the interest income cannot be considered to be its operating income is essentially a question of fact to be gathered from the nature of the assessee's business and its business profile. All these factors have been rightly kept in view by the Tribunal. We are, therefore, of the opinion that the first three questions are not substantial questions of law meriting scrutiny of this Court."
12. We thus see no reason to disturb learned CIT(A)'s conclusion excluding assessee's windmill income in computing the arm's length price in question. Mr. Dhinal Shah then invites our attention the above extracted portion clause (g) not only excluding the said assessee's interest income but also the corresponding interest expenditure. We find merit in this alternative plea as even the above judicial precedent has adopted the very course of action. The Transfer Pricing Officer is accordingly directed to re-finalize ITA No.1050/Ahd/15 with CO No.91/Ahd/15 (Addl.CIT vs. Rajratna Metal Industries Ltd.) A.Ys. 2010-2011 - 12 -
consequential computation treating both windmill income and expenditure as non operating for computing the arm's length price in question after affording adequate opportunity of hearing to assessee. The instant cross objection is partly accepted for statistical purposes.
13. The Revenue's appeal ITA No.1050/Ahd/2015 is dismissed whereas assessee's cross objection no.91/Ahd/2015 is partly accepted for statistical purposes.
[Pronounced in the open Court on this the 12th day of May, 2017.] Sd/- Sd/-
(PRAMOD KUMAR) (S. S. GODARA)
ACCOUNTANT MEMBER JUDICIAL MEMBER
Ahmedabad: Dated /05/2017
Pronounced at Ahmedabad on 12th May, 2017
Sd/- Sd/-
(MANISH BORAD) (S. S. GODARA)
ACCOUNTANT MEMBER JUDICIAL MEMBER
S.K.SINHA
आदे श क त ल
प अ े
षत / Copy of Order Forwarded to:-
1. राज व / Revenue
2. आवेदक / Assessee
3. संबं धत आयकर आय!
ु त / Concerned CIT
4. आयकर आयु!त- अपील / CIT (A)
5. )वभागीय ,-त-न ध, आयकर अपील य अ धकरण, अहमदाबाद /
DR, ITAT, Ahmedabad
6. गाड3 फाइल / Guard file.
By order/आदे श से,
उप/सहायक पंजीकार
आयकर अपील य अ धकरण, अहमदाबाद ।