FCCDs are debt till it is converted into equity- ITAT allows Benchmarking by applying LIBOR plus 200 points

Watermarke Residency Limited Vs DCIT (ITAT Hyderabad)

In the present case, the TPO had benchmarked the transaction after treating the FCCDs as debt. This finding of TPO was based on Terms of issuance of FCCD and balance-sheets/ financials of the assessee as well as of it’s A.E, where both had mentioned FCCD as debt. We agree with the finding of lower authority that FCCD is a debt, as holder had a right to recover the debt and had a right to receive the interest on the debt from the payee. Further assessee during the hearing had also agreed that the FCCD are debt instrument till its conversion. Further assessee had capiatlised the interest, being prior period expenses, however it was admitted that the interest was allowable expenditure as per section 36 r/w 2(28A) of the Income Tax Act 1961. In view thereof, we find no fault in the finding returned by the TPO/ld.CIT(A).

 In the present case, the issue involved is benchmarking of interest to be paid or payable of FCCDs before its conversion to equity. As mentioned elsewhere in the order, there would be no occasion for the assessee to repay the loan to it’s A.E (on account of the nature of FCCD), therefore, the currency in which loan was taken or to be paid would not be relevant for the purpose of determining the interest rate.

Even as per the assessee, the FCCDs are debt till it is converted into equity. Hence, there is no recharacterization by the Assessing Officer/TPO. Assuming the case of the assessee that FCCDs are equity then we must look into the substance over the form of the instrument, which can be ascertained by looking into its terms and conditions of allotment. As discussed hereinabove, the terms and conditions clearly show that the FCCDs are debt till its conversion. Yet another reason to above conclusion is that there is no recharacterization of the instrument by the Assessing Officer as there is no concept of paying the interest on the equity by the company to its holder under the Companies Act or under Income Tax Act or under the Accounting standards. The reliance of the assessee on the RBI policy for the non- convertible debenture is not relevant. In view of the above, we do not find any substance in the argument of the assessee that the Assessing Officer has recharacterized the nature of transaction.

Accordingly, we hold that FCCDs are debt, therefore, the benchmarking done by the learned lower authorities are correct by applying LIBOR plus 200 points, which is in consonance with the RBI guidelines issued for the purposes of FDI.

FULL TEXT OF THE ORDER OF ITAT HYDERABAD

The captioned appeals filed by the assessee are against the separate orders passed by the learned Commissioner of Income Tax (Appeals), Hyderabad for the above-mentioned assessment years.

2. Here the assessee M/s. Watemarke Residency Limited, Hyderabad is a subsidiary company of M/s. Fairfield Development Limited, Hyderabad.

3. The assessee has raised the following grounds in ITA 740/Hyd/2019 for A.Y. 2013-14:

“1. The Order of CIT (A) is erroneous and contrary to the facts of the case and law on point.

2. The Learned CIT(A) has erred in sustaining the action of Ld. TPO/Assessing officer in proposing to compute the interest payable on fully convertible debentures of the assessee at by proposing a downward adjustment to the tune of Rs. 12,63,75,549/- to the international transactions, being expenditure incurred by the assessee in the nature of Interest on Fully Compulsory Convertible Debentures paid/payable by the assessee company to its associated enterprise.

3. The Learned CIT(A) has erred in sustaining the action of Ld. TPO/Assessing officer in going beyond the scope to re-characterize the Compulsory Convertible Debentures (‘CCD’) as loan for benchmarking the international transaction of interest payments on CCD.

4. The Learned CIT(A) has erred in sustaining the action of Ld. TPO/Assessing officer in proposing to benchmark the interest rate on Fully Compulsory Convertible Debentures at LIBOR+200 basis points ignoring that the Fully Compulsory Convertible debentures were denominated in INR and interest for the same is appropriately benchmarked to SBI Prime lending Rate.”

4. Brief facts of the case :

The assessee has mentioned the following international transactions as per 3CEB / TP document :

A.E.	Nature of transaction	Amount (Rs.)
Fairfield Developments Ltd, Cyprus	Interest @ 15.75% on 8811 Fully Compulsorily Convertible Debentures of Rs.1,00,000/-each for entire year.	133559610
Fairfield Developments Ltd, Cyprus	Interest @ 17.75% on 1335 Fully Compulsorily Convertible Debentures	149385800

As per Page 9 of the T.P. Study filed by the assessee before the TPO, the terms of debenture are as under :

1. Debentures would be compulsorily converted into equity shares at the end of 120 months from the date of allotment. Still, they may be converted at any time before the conversion date at the option and sole discretion of its holder.

2. Debentures would convertible into equity shares between the period from 8t^h September, 2017 to 21st Jan 2023 ad and when due, on the basis of the actual date of issue.

3. These debentures would carry a rate of interest which shall be the aggregate of benchmark and spread. Benchmark means prime lending rate (PLR) of State Bank of India prevailing on the date of the meeting of the Board of Directors of the Company at which the fully convertible debentures are issued. Spread means 3% per annum.

5. The assessee has benchmarked the interest on the debentures at a coupon rate of 17.75% based on prime lending rate of the SBI prevailing on the board meeting date at which the fully convertible debentures were issued at + 3% per annum. (Page 18 of the T.P.Study Report).

6. The TPO had examined the T.P.Study of the assessee and had rejected the TPO Study. Thereafter, the TPO benchmarked the interest rate paid by the assessee by taking the Libor Plus 200 basic points. Paras 7.2 to 7.4 of the TPO order are as under :

“7.2 The contention of the taxpayer is not acceptable. The documents and replies given by the taxpayer are perused. The taxpayer paid an interest of 15.75% on opening balance and 17.75% on FCCDs issued to its AE during the F.Y. under consideration as interest on compulsory convertible debentures (CCDs). As per the RBI guidelines the CCDs are in the nature of loans. In various decisions, the Hon’ble ITAT have clearly held that on international loans, LIBOR is appropriate for benchmarking. The Hon’ble ITAT decision in the case of Foursoft Ltd., Market Tools, Aurobinda Pharma Ltd. and Dr. Reddy Laboratories et., have upheld the use of LIBOR.

7.3 Further, it is seen from the financial statements of the company, the taxpayer has earned better revenues and also better profit margin. Thus, the creditworthiness of the taxpayer is much better. However, considering the duration of the loan and the nature of the transaction being CCDs, LIBOR plus 200 points is appropriate.

7.4 For the reasons mentioned above, the TPO adopts LIBOR plus 200 basis points. The average 1 year LIBOR during the year is 0.483%. Thus, the total interest payable works out to 2.483% as arm’s length interest. The excess amount paid being the adjustment u/s 92CA calculated as under :

7. The assessee had filed the appeal before ld.CIT(A), and ld.CIT(A) had also confirmed the order passed by the Assessing Officer / TPO and the finding of the ld.CIT(A) is given at Para 4.2 which is to the following effect.

“4.2. The only issue involved in this case is what is the Arms Length Price in respect of the interest paid on fully compulsorily convertible debentures issued to Associate Enterprise (AE). The TPO found that the taxpayer paid an interest at 15.75% on opening balance and 17.7% on FCCDs issued to its AE during financial year under consideration as interest on compulsorily convertible debentures. The TPO and Assessing Officer have observed that FCCDs are in the nature of loans and LIBOR is the appropriate for bench marking and relied on various decisions of ITAT. Considering the financial statement of the company and creditworthiness of the tax payer, the TPO determined LIBOR + 200 points is the appropriate rate for benchmarking. The average one year LIBOR during the year was 0.483%. The total interest payable worked out to 2.483% as Arms Length Interest. The excess amount paid was determined at Rs.13,40,14,403/ -. The contention of the AR of the appellant was that the interest rate should be benchmarked to the interest rate payable on the currency in which the loan is denominated. The contention of the Assessing Officer was that LIBOR is the internationally accepted method for determining Arms Length Price. I have considered the submissions of the appellant and findings of the Assessing Officer in the assessment order, order of the Transfer Pricing Officer (TPO) carefully. The prime lending rate of State Bank of India prevailing + 3% p.a adopted by the tax payer cannot be treated as Arms Length Price. The LIBOR is the rate applicable in the transactions between the banks which is accepted internationally. In the following cases LIBOR was accepted as appropriate rate for bench marking purposes :

1. Aurionpro Solutions Ltd. Vs. ACIT in ITA No.7872 (Mum) of 2011 dt.12.04.2013.

2. Foursoft Limited Vs. DCIT in ITA No.1495/Hyd/2010 dt.09.09.2011.

3. Aurobindo Pharma Ltd. Vs. ACIT in ITA No.1096/Hyd/2011 dt.31.01.2014.

4. Reddy’s Laboratories Ltd. Vs. ACIT in ITA No.1739/Hyd/2017 dt.13.06.2018.

5. Reddy’s Laboratories Ltd. Vs. ACIT in ITA No.2229/Hyd/2011 & 85/Hyd/2013 dt.02.01.2017.”

8. ITA No.1590/Hyd/2019 for A.Y. 2014-15

Aggrieved with the order of ld.CIT(A), the assessee is now in appeal before the Tribunal by raising the following grounds :

1. The Order of CIT (A) is erroneous and contrary to the facts of the case and law on point.

2. The Learned CIT(A) has erred in sustaining the action of Ld. TPO/Assessing officer in proposing to compute the interest payable on Fully Compulsory Convertible Debentures of the assessee by proposing a downward adjustment to the tune of Rs 13,98,41,656/- to the international transactions, being expenditure incurred by the assessee in the nature of Interest on Fully Compulsory Convertible Debentures paid/payable by the assessee company to its associated enterprise.

3. The Learned CIT (A) has erred in sustaining the action of Ld. TPO/Assessing Officer in going beyond the scop to re-characterize the Compulsory Convertible (CCD) as loan for benchmarking the international transaction of interest payments on CCD.

4. The Learned CIT (A) has erred in sustaining the action of the learned TPO/Assessing Officer in proposing to the interest rate on Fully Compulsory Debentures at LIBOR+200 basis points ignoring that the Fully Compulsory Convertible debentures were denominated in INR and interest for the same is appropriately benchmarked to SBI Prime lending Rate.

ITA No.1591/Hyd/2019 for A.Y. 2015-16

In this appeal, assessee has raised similar grounds as in ITA No.1591/Hyd/2018 for A.Y. 2015-16 mentioned hereinabove, except the amounts involved in.

9. The brief facts of the case are that the assessee is engaged in the business of real estate, including procurement, development and sale of land and buildings of residential, commercial, retail and industrial nature. During the assessment year under consideration, the assessee filed a Form 3CEB report along with the return of income disclosing that the assessee has entered into international transactions to it’s Associated Enterprise (A.E.). Therefore, the case of the assessee was referred to the Transfer Pricing Officer (TPO) to determine the Arm’s Length Price (ALP). The international transactions reported by the assessee as per From 3CEB read as under :

A.E.	Nature of transaction	Amount (Rs.)
Fairfield Developments Ltd, Cyprus	Interest on 8,811 FCCDs	13,87,73,250
Fairfield Developments Ltd, Cyprus	Interest on 10,415 FCCDs	2,84,57,918
Fairfield Developments Ltd, Cyprus	Issue of FCCDs	2,69,00,000

After receiving a reference from the Assessing Officer, the TPO issued a show cause notice. The assessee company has carried out economic analysis of international transactions for A.Y. 2014-15. For that purpose, the assessee has chosen to CUP method as the most appropriate method (MAM) for benchmarking the ALP for international transactions.

9.1 It was the contention of the assessee that the interest paid by the assessee to it’s A.E. was chargeable with the interest rate prescribed under Rule 10TD of I.T. Rules and even otherwise, the SBI base rate as on 30.06.2013 was 14.45% which means that interest upto 17.45% would be the safe harbour limit. As against 17.45% interest rate, the assessee had only paid interest at 16.17%. The assessee contended that the interest paid by the assessee was within the ALP and no addition was required to be made in the hands of the assessee. The learned TPO had examined the T.P. Study of the assessee company, however, after examining the T.P.Study Report, had rejected the same at Page 7 in Para 11 wherein the TPO mentioned it as under :

“11. Rejection of TP study of assessee company :

However TP study conducted by assessee company is rejected for following reasons. Independent study conducted by TPO using step wise procedure given by assessee to arrive at comparable companies from database www.bseindia.com showed that only following 23 companies out of 78 companies selected by assessee are available in concerned link of bse India which are as follows :

S. No.	Company
1	Ansal Phalak Infrastructure Pvt Ltd
2	ARUN EXCELLO HOMES PRIVATE LIMITED
3	Ashiana Landcraft Real Private Limited
4	Ashoka Buildcon Limited
5	Bellona Estate Developers Limited
6	Ca den Developers Private Limited
7	Centu Real Estate Holding Pvt Ltd
8	Chalama Infraaproperties Private Limited
9	Emaar MGF Land Limited
10	GOODTIME REAL ESTATE DEVELOPMENT PRIVATE LIMITED
11	HAAMID REAL ESTATES PRIVATE LIMITED
12	Hazel Real Private Limited
13	Ka stone Constructions Private Limited
14	Hoary Real Limited
15	Marvel Omega a Builders Private Limited
16	Marvel Zeta Developers Private Limited
17	ORRIS INFRASTRUCTURE PRIVATE LIMITED
18	Parinee Real Private Limited
19	Parsvnath Estate Developers Private Limited
20	Phoenix Living Spaces Private Limited
21	Rohan Builders & Developers Pvt Ltd
22	Suncity Constructwell Private Limited
23	Unishire Promoters Pvt Ltd

Further while arriving at comparable companies assessee has not applied ‘Related party transaction filter’. While conducting transfer pricing analysis the related party transaction undertaken by the assessee is to be compared with the uncontrolled transactions undertaken by the comparable and thus arrive at a conclusion as to whether the transaction is benchmarked at arm’s length or not. But if the comparable selected itself has undertaken significant controlled transaction then the comparable company, though functionally comparable, having entered into international transactions beyond a particular percentage with the related parties, it is quite possible that its overall profit may have been distorted due to such transactions.

Thus related party transactions entered into by comparable company renders it as incomparable. That is why, this filter is applied to make certain that a company sought to be considered as comparable should have its profit uninfluenced by the impact of the related party transactions.

Further FCCDs information on Bseindia website do not contain details such as date of issue of debentures which is a very relevant factor for comparison of interest rate. No details regarding nature of debentures whether secured/unsecured which has considerable impact on coupon rate is not available.

Interest rate also depends upon credit rating of company issuing debentures, period of maturity, frequency of interest payment, nature of scrip whether NCD/CCD/OFCD, turnover of company, expected rate of return on equity shares etc which are not at all considered by assessee.

No adjustments have been made to interest rate on account of above factors. In view of all factors mentioned above TP study conducted by assessee company is rejected u/s 92 C (3) of1T Act.

As FCCDs on which interest is paid by the assessee company are basically instruments, amount for FCCDs has come in the form of Foreign Currency from Fairfield Development, the company was asked to show cause why this transaction can’t benchmarked using LIBOR plus 200 basis points by issuing show cause notice dated 04-10­2017.”

9.2 Thereafter, the TPO had issued a show cause notice with a view to benchmark the international transactions and sought to benchmark by charging LIBOR plus 200 base points by issuing show cause notice. The assessee had raised the following objections :

“12. Objections raised by assessee company :

In response assessee company filed reply on 11.10.2017 in which following arguments are put forward.

1. Compulsorily Convertible Debentures (CCDs) can’t be categorized as loans. Reliance placed on Sahara India Real estate Corpn. Ltd, CIT v. EKL Appliances Ltd., Sun Pharmaceuticals Ind. Ltd. v. Asst. CIT, ADAMA India (P.) Ltd. v. Deputy Commissioner of Income-Tax, circle-1(1), Hyderabad.

2. FCCDs are issued in Indian currency, denominated in Indian currency. They are convertible into equity and interest is payable in Indian rupees. Interest should not be computed on the basis of interest payable on the currency or legal tender of the place. The rate of interest to be applied is the rate prevailing in the country where the loan has been consumed. Once the tested transaction is in INR denominated debt, then interest rate must necessarily be based on economic and market factors effecting the Indian currency. Reliance is placed on following cases.

3. In case of M/S Fair field Development Vs DDIT(IT)-I for assessment year 2011-12, Commissioner ( Appeals) has accepted benchmarking study of company wrt interest received on debentures. Hence principles of Res judicata applies as there is no change in facts of case.

4. Judgment rendered by ADAMA India (P) Ltd Vs DCIT, Hyderabad (2017) 78 taxmann@com 75 is binding on the assessing officer as per judicial discipline.

9.3 However, the objections raised by the assessee were rejected by the TPO. In the T.P.Study Report, TPO had mentioned in Para 13 that as per Balance-Sheet dt.31.03.2013, the assessee company had acknowledged FCCDs (Fully Compulsorily Convertible Debentures) as loans in its financials and it was also mentioned that FCCDs should continue to be recognized till the said CCDs into equity by the assessee. TPO held that there was no re-characterization of the transactions, and further in Para 14 of the TPO, it was mentioned as under :

“14. Suppose a loan is taken from X by a person ‘p’ for a period of 10 years. Every year fixed amount of interest is paid to x by ‘p’ for 10 years. At the end of 10 years lump sum amount is paid by ‘P’ to ‘X’ to square off entire loan. The lump sum amount paid consists of principal plus interest amount. Similarly in the present case investor of CCDs i.e., Fair field development is a creditor and M/S Water mark residency issued FCCDs is a debtor. Watermark Residency is paying interest at fixed interest rate. At the time of conversion of FCCDs into equity, assessee company squares off its debt by issuing shares. That’s like repayment of debt in Kind. The payment in kind consists of repayment of principal and payment of interest. The interest paid is FMV of equity shares issued minus book value of CCD. Conversion of CCD into equity share is plainly speaking repayment of debt with interest. Therefore FCCDs are very much in the nature of debt till the time it is converted into FCCDs.”

9.4 Thereafter, the learned TPO had held that FCCD is not equity as claimed by the assessee. In the order it was mentioned as under :

“18. Therefore clarification regarding nature of CCDs is for the purpose of FDI policy only and in order to keep a track on FDI flows into the country. Further as mentioned above Hon’ble Apex court itself clarified in Sahara India Real estate case that CCDs are debt instruments till date of conversion.

19. Further it is also noticed from Financials of ‘Fair Fields Developments Limited’ for Financial years 2009-10 & 2010-11 that company itself categorized amounts advanced to Water mark residency as loans. Relevant extract of financial is reproduced as under.

12. Non current receivables

	The Company	The Company
	2010	2009
	US$	US$
Loans to subsidiaries	36,614,770	32,572,277
	36,614,770	32,572,277

Loans receivable for the company from subsidiaries represent amounts due from Watermarke Residency Private Ltd ($ 26,175,617) and Watermarke Villas Private Ltd ($ 10,439,153). The loan due from WRPL carries interest of 15.75% (9% until 31 March 2010). The loan from WVPL carries interest of 3% (9% until 31 March 2010). Both loans have no set repayment date and are denominated in Indian Rupees. Included in the above balance is accrued interest of $8,911,132. The interest receivable for the year amounts to US$2,966,608 (see note 5).

20. When both debtor( water mark) and creditor ( fair field) have categorized the transaction as loan in their respective financials there is no question of TPO artificially characterizing it as loan. In view of detailed discussion made above argument of assessee that CCDs are equity instruments is rejected.

9.5 Thereafter, in Pars 21 to 24, TPO had mentioned as under :

“21. In the present case investment for FCCDs is flown into India in the form of foreign currency. In the present case Fairfield Developments Limited is not maintaining any bank account in India to deposit foreign currency, convert the amount in Indian rupees and invest in FCCDs. Amount has been directly deposited in US dollars in account of M/s Watermarke residency. However it is a fact that FCCDs are issued in Indian currency denomination. Regarding payment of interest on FCCDs though it is stated that it is paid in No Indian actual rupees, payment actually has been assessee made. company Financial statements is simply debiting filed by the assessee interest as in well its as books. Fair field development for various financial years prove this fact.

In books of Watermarke residency:              

Assessment Year	2012-13	2013-14	2014-15	2015-16
Int payable on FCCDs	48,45,97,015	61,59,20,67 9	66,64,04,34 5	68,61,54,73 3

In books of Fairfeild Development Limited.

Assessment Year	2011-12	2012-13	2013-14	2014-15
FCCDs outstanding ($)	26202418	27839079	27656639	14092437
FCCDs outstanding ($) from Watermarke residency:	17388020	27785126	27646945	13012790

22. It can be seen from financial statements filed by assessee company year after year that the company is not remitting entire interest amount to Fair field Development. Very nominal amounts are remitted to Fairfield towards interest payment which are as follows.

Assessment Year	2012-13	2013-14	2014-15	2015-16
Outflow of Foreign Exchange ($)	NIL	91777	787035	42846

23. Further financial extracts of Fair field Developments supra shows that initially interest on loans were charged only at the rate of 9% in case of water mark residency (p) Ltd Subsequently interest rate has been enhanced to 15.75%. It can be seen that whatever amount remitted towards interest is also being remitted in the form of foreign currency. In page 19 of Study report filed by assessee while discussing about foreign exchange fluctuation risk of assessee company it is mentioned as under :

24 “Currency risk is the risk of any adverse fluctuation in exchange rates, which would eventually have an impact on the profitability. Watermarke pays interest in Indian currency for interest on FCCD. Accordingly, it bears no foreign exchange risks. Similarly FDL receives in foreign currency for debentures. Accordingly, it bears normal foreign exchange risks.

10. Feeling aggrieved by the order of Assessing Officer, assessee carried the matter before ld.CIT(A). The ld.CIT(A) had confirmed the order passed by the holding as under :

“5. Decision :

In this case, it was seen that the appellant’s international transactions during the previous year exceeded Rs. 15 crores and accordingly the case was referred to Transfer Pricing Officer for determination of Arm’s Length Price. The TPO vide order dated 31.10.2017 determined the ALP at Rs.2,73,89,512/-whereas the total interest paid as per Form 3CEB is Rs.16,72,31,168/- and accordingly held that the excess interest of Rs. 13,98,41,656/- should be added back to the total income of the appellant.

The AO completed the assessment u/ s 143(3) r.w.s. 92CA(3) of IT Act, 1961 dated 30.01.2018 by making an addition on account of TP adjustment of Rs.13,98,41,656/-.

All the grounds of the appeal pertain to disallowance of interest by the AO/TPO. The grounds are identical to the appeal preferred by the appellant in its own case for AY 2013-14. It is seen that in appellant’s own case for the AY 2013-14, the

Hyderabad in Appeal No.089/CIT(A)-7/2018-19 dated 12.03.2019 while adjudicating on the similar addition, held as under:

‘4.2 The only issue involved in this case is what is the Arms Length Bice in respect of the interest paid on fully compulsorily convertible debentures issued to Associate Enterprise (AE). The TPO found that the tax payer paid an interest at 15.75% on opening balance and IZ 7% on FCCDs issued to its AE during financial year under consideration as interest on compulsorily convertible debentures. The TIO and Assessing Officer have observed that FCCDs are in the nature of loans and LIBOR is the appropriate for bench marking and relied on various decisions of ITAT. Considering the financial statement of the company and creditworthiness of the tax payer, the Tall) determined LIBOR + 200 points is the appropriate rate for benchmarking. The average one year LIBOR during the ear was 0.483%. The total interest payable worked out to 2.483% as Arms Length Interest. The excess amount paid was determined at Rs. 13,40,14,403/-. The contention of the AR of the appellant was that the interest rate should be benchmarked to the interest rate payable on the currency in which the loan is denominated. The contention of the Assessing Officer was that LIBOR is the internationally accepted method for determining Ams Length Price. 1 have considered the submissions of the appellant and findings of the Assessing Officer in the assessment order, order of the Transfer Pricing Officer (TPO) carefully. The prime lending rate of state Bank of India prevailing + p.a adopted by the tax payer cannot be treated as Arms Length Price. The LIBOR is the rate applicable in the transactions between the banks which is accepted internationally. In the following cases LIBOR was accepted as appropriate rate for bench marking purposes:

1. Aurionpro Solutions Ltd. vs Addl.CIT in ITA No.7872 (Mum) of 2011, dated 12-4-2013.

2. Foursofi Limtied vs DCITin ITA No. 1495/Hyd/2010, dated 9-9-2011.

3. Aurobindo Pharma Ltd., vs Addl. CIT ITA No.1096/Hyd/2011, dated 31-1-2014.

4. Dr.Reddy’s Laboratories Ltd. vs ACITin ITA No.1739/Hyd/2017, dated 13-6-2018.

5. Dr.Reddy’s Laboratories Ltd. vs Addl.crr in ITA No.2229/Hyd/2011 & 85/Hyd/2013, dated 2-1­2017.

1.2.1 Respectfully following the ratio of the decisions cited supra, the contentions raised by the AR of the appellant are rejected. Therefore, I confirm the addition made by the Assessing Officer.

1.3 The other grounds of appeal were not pressed by the AR of the appellant during the course of appellate proceedings, hence, the same are not adjudicated.

5. In the result, the appeal is treated as DISMISSED.”

11. Feeling aggrieved with the order of ld.CIT(A), assessee is now in appeal before us for A.Y. 2013-14, 2014-15 and 2015­16.

12. The ld.AR for the assessee has submitted that the interest paid by the assessee on FCCDs were to be benchmarked on the basis of SBI base rate as on 30.06.2013 plus 300 basic points. It was also the contention of the ld.AR that the FCCDs is a hybrid instrument basically categorized as equity in nature and no repayment was to be made in foreign currency. It was also the contention of the ld.AR that the interest on FCCDs is payable in INR and are required to be compulsorily converted into equity. It was also the contention of the ld.AR that FCCDs are quasi equity in nature and cannot be compared with ECB. It was the contention of the ld.AR that the rate of interest to be applied is the rate prevailing in the country where the loan has been consumed and that the interest rate must be based on the economic and market factors affecting the Indian currency and data available for debt issuance in India or INR denominated rather than foreign currency rate and for that purpose, the ld.AR relied upon the decision of Hon’ble Delhi High Court in the case of CIT Vs. Cotton Naturals (P) Ltd. [2015] 55 taxmann.com, Hon’ble Bombay High Court’s decision in the case of CIT Vs. Tata Autocomp System Ltd. and also the decision of ITAT, Hyderabad Bench in case of ADAMA India (P) Ltd. Vs. DCIT reported in (2017) 78 taxmann.com 75.

13. Since the FCCDs were issued in INR, therefore, the relevant country for the purpose of benchmarking would be India. Hence, the interest rate prevailing in India should be considered for the purpose of benchmarking the international transactions. It was submitted that the assessee has rightly benchmarked by taking the interest rate of SBI PLR plus 300 basic points and infact the interest rate of the assessee was far below than the SIB PLR, as mentioned hereinabove.

14. It was submitted by the ld.DR that as per the balance-sheet of the assessee as well as it’s A.E., the nature of transaction has been mentioned as loan only, therefore, the TPO was right in benchmarking the transactions as loan on the basis of the LIBOR Plus 200 points.

“4.6.1.7. Foreign exchange fluctuation risk:

Currency risk is the risk of any adverse fluctuation in exchange rates, which would eventually have an impact on the profitability. Watermarke pays interest in Indian currency for interest on FCCD. Accordingly, it bears no foreign exchange risks.

Similarly FDL receives in foreign currency interest on FCCD and pays in foreign currency for debentures. Accordingly, it bears normal foreign exchange risks.”

15. Our attention was also drawn by ld.DR to Paras 28 to 31 of that TPO order which is to the following effect :

“28. Further M/S Fair Field Developments Limited has invested its funds (foreign currency) in India which otherwise would have fetched it interest basing on LIBOR rate in foreign market It is also seen that Fair field Developments Limited in case of FCCDs issued by another Indian Subsidiary company M/s Watermarke Villas Pvt Ltd which is also in real estate business is in receipt of only 3% of interest which is more or less LIBOR plus 200 basis points against average Interest rate of 16.17% paid by assessee company.

29. Assessee company stated that in case of M/S Fair field Development for assessment year 2011-12, Assessing officer benchmarked the interest payment made by the company at a lower interest rate. On appeal by assessee, Commissioner (Appeals) deleted the adjustment made by the assessing officer, up held ALP arrived by the assessee. Hence it is the argument of assessee that this issue has already reached finality. Principles res judicata apply. But as argued by assessee company, issue has not reached finality. Department has preferred appeal against order of Commissioner (Appeals) which is pending for adjudication. Further argument of assessee that there is no change in facts also can’t be accepted. That decision pertains to assessment year 2011-12. But Watermarke Residency Ltd had issued huge quantity of FCCDs during assessment year 2012-13 Rs. Assessment year 2013-14 Rs. and Assessment year 2014­15 Rs. 2,69,00,000/-. Interest charged on these FCCDs is 17.75% against 15.75% adjudicated by Commissioner (Appeals) in that case. Therefore argument of assessee that principles of res judicata applies is not accepted.

30. Coming to final argument of assessee that as per Rule 10 TD provide for Safe harbor interest rate for intra group loans at Base rate of SBI as on 39th June of relevant year plus 300 basis points.As on 30-06-2013 SBI base rate was at 14.45% which means interest up to 17.45% would be safe harbor limit , the same can’t be accepted. Safe Harbour Rules e not applicable in general to every assessee but to only eligible assessee’s who have entered into eligible transactions that too only if option exercised by assessee is no held to be invalid under Rule IOTE. In the present case assessee is not eligible assessee Further safe harbor rule has given rate in case of loan amount less than 50 Crores but not above. Assessee company issued FCCDs amounting more than 100 Crores. Further FCCDs are received in different years, so uniform rate of 14.45% can’t be ma applicable as claimed by assessee even if it is considered for argument sake safe harbor interest rate is applicable. Hence this argument of assessee is also not accepted.

31. As mentioned in the preceding paragraph, interest rate chargeable on all debentures is not uniform. But it is SBI PLR date + 3% agreed on the date of Board meeting of directors issuing FCCDs to Fairfield developments as per terms and conditions mentioned in debenture documents. However, it is noticed from financials of assessee company that it has charged uniform interest rate of 15.75% in case of debentures issued prior to financial year 2010-11 & 17.75% interest rate on debentures issued afterwards. However correct working of interest rate taking SBI PLR dates on date of issuing of each bunch of FCCDs shows that assessee debited its P&L A/c with excess interest of Rs. 1,43,518/- for A.Y 2014-15. However, in view of detailed discussion made in preceding paragraphs Libor + 200 basis points is considered more appropriate CUP. Hence, this difference is ignored.

In view of detailed discussion made, Libor plus 200 basis points is considered more appropriate CUP to determine ALP in case of Interest paid on FCCDs to Fair field Developments Limited.”

16. Lastly, ld.DR submitted that the assessee is shifting the profits from India to Cyprus which is a low tax jurisdiction by benchmarking the interest payable to it’s A.E. at Cyprus by applying the SBI PLR rate Plus 300 points.

17. Ld.DR had also filled the written submissions in support of stand of revenue. In written submissions it was mentioned as under:-

“2.The following submissions are made wrt twin grounds of appeal of assessee i.e Recharactarisation of CCDs as Loan transaction and non applicability of LIBOR + 200 basis points applied by TPO/AO to compute ALP of Interest paid on CCDs.

3. It is the contention of assessee that it is in correct on part of TPO’ to recharacterize FCCDs as loan for benchmarking international transaction of Interest payment on CCDs. In this connection it to submit that assessee company itself categorized CCDs as ‘long term borrowings’ in its books. Further assessee’s Cyprus parent Fairfiels Developments Ltd also treats them as ‘loans given to subsidiaries’ in its books. Thus, assessee itself characterized the transaction as loans in its books. Even if nature of FCCDs is looked at independently irrespective of accounting treatment given by assessee in its books, it can be seen that FCCDs are basically debt instruments on which interest is payable till the date of maturity. Only on maturity date, they get converted into equity. Further reliance of assessee on supreme court decision in M/s Shara Real Estate Ltd CA No 9833 of 2011 stating that Hon’ble Court in that case held OFCDs to be pure equity is misplaced as question before Hon’ble supreme court was whether OFCDs come under definition of Securities or not and consequently do they come under purview of SEBI or not. ln that case finally Hon’ble Supreme court held that they come under definition of debentures there by fall under definition of securities. Hon’ble apex court held that OFCDs are hybrid securities encompassing element of indebtedness and element of equity stock as well. Thus Sahara real estate case,- no where conclude OFCDs to be equity in the interregnum period. Categorisation of FCCDs as FDI by RBI also can’t be treated as comment on nature instruments that CCDs are . While framing such guidelines RBI was only looking at as to Investment in what kind of CCDs can be allowed through automatic route and what other types are to be allowed with approval.

4. Reliance is placed on decision of Authority for Advance Rulings in case of LMN India LTD in Re (2008) 307 ITR 40. In this case question involved was whether TDS on Interest paid on CCDs to foreign company to be made or not. While answering that question Hon’ble AAR held interest payment on CCDs up to date of conversion to be nothing but interest paid on money advanced and such interest payment gets covered under Section 2(28) of Income Tax. Hon’ble authority also held that interest payment on FCCDs can in no way be treated as dividend since till the date of maturity CCDs holders do not become shareholders. Vide para 10 of same ruling it was held that in case there is failure on part of company in issuing shares on maturity date for some reason like company has wounded up etc, bondholders right to claim or recover debt still survives. Thus Hon’ble Authority concludes that CCDs are basically debt instruments till the date of conversion.

5.Coming to Objections of assessee wrt LIBOR+ 200 basis points applied by TPO to compute ALP, It is the argument of assessee that interest paid to its cyprus based parent on FCCDs is to be benchmarked taking SBI PLR since FCCDs are rupee denominated, interest is also to be paid in Indian currency. For this assessee heavily relied on Hon’ble Delhi High court Ruling in case of CIT Vs Cotton Naturals (I) Pvt Ltd ITA 233/2014 dated 27-03-2015 where Hon’ble court has held that interest rate is not to be determined basing on resident country of lender or Borrower but the currency in which loan is to be repaid because interest rate is market driven. Normally currency in which loan is to be repaid determines rate of return on money borrowed/lent ALP is to be determined basing on currency in which loan and interest is to be repaid/paid. All other case laws relied on by assessee have been rendered basing on Ruling of Deli HC in Cotton naturals .

6.It is humbly submitted that cotton naturals ruling can’t be applied in a straitjacketed manner to the facts of present case especially without considering observations made by court in para 36 of its order. Relevant extract of para 36 of the case reads as “question may arise whether the case would fall under the second exception mentioned in the case of E.K.L. Appliances (supra), when an AE has the right to recall and ask for repayment of loan. These aspects have not been considered and applied by the TPO, DRP and the Assessing Officer. Neither has this ground been argued before us on behalf the Revenue. We, therefore, would not proceed to examine the said aspect and leave the question open. Similarly, we have not expressed any opinion on the issue or question of —thin capitalization which does not arise for consideration in the present case.

“Hon’ble Delhi High court as mentioned above has clearly stated that ruling in that case is being given without considering the angle of 1. ” Thin Capitalisation” and also 2. ‘presence of Second circumstance mentioned in EKL Appliances Ltd case where International transaction can be recharacterized by TPO as per OECD guidelines ‘ as Since no arguments wrt either of them have been taken up by revenue. Thus Hon’ble Delhi High court has kept the window of non applicability of the ratio of its decision open in cases where either Thin capitalisation is involved or where recharacterization is permitted where, while the form and substance of the transaction are the same, the arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner and the actual structure practically impedes the tax administration from determining an appropriate transfer price the character of the transaction in circumstances mentioned above may derive from the relationship between the parties rather than be determined by normal commercial conditions as may have been structured by the taxpayer to avoid or minimize tax. In such cases, the totality of its terms would be the result of a condition that would not have been made if the parties had been engaged in arm’s length dealings.

6.Coming to facts of present case, Even though investment is made in Indian denominated bonds using foreign currency received through AD bank, it was made by a foreign company and assessee has neither paid back the debentures amount nor interest but claimed interest on accrual basis and debentures amount was converted into shares. Thus there is no payment in any currency, let alone in INR so as to claim higher rate of interest on the basis of domestic PLR. Since the amount was invested by the holding company being a non resident company it is required to see had the non resident company invested the same in international money market how much interest it would have received. Obviously at a much lower rate than the rate of interest claimed than SBI PLR and actually would have received interest in tune with internationally approved LIBOR plus basis points. Similarly had the assessee company borrowed the same from international market, it would have paid LIBOR rate only. Even in Indian Market it would have borrowed at a much lesser rate than 15 -17.5% claimed by the assessee.

7.Thus the purpose of this investment is profit shifting (by way of higher interest rates consequent reduction of taxable income in assessee hands( thin capitalisation i.e investing in the form of debt rather than equity)) to lower tax jurisdiction i.e cyprus. In the present case share capital of assessee company for the year is Rs 50,00,000/- against debt in the form of CCDs’ on which interest payable is Rs 106,26,00,000/- establishing it to be a clear cut case of Thin capitalisation where debt in the form of FCCDs is 207 times share capital of the company in ‘this context it is important to discuss tax rates in Cyprus as AE of assessee is located in that country.

8.Coming to taxability rate of interest on FCCDs in the hands of Fairfields Developments Ltd it is taxed at mere 10%. Even Dividends, if any earned from foreign investments are exempt from CIT in Cyprus, with the exception of dividends that are deductible for tax

9. Coming back to fact of case had the investment by, the holding company was in the form of share capital, the Indian company wind not have Clal*Medany excienses and in fact paid return ‘on Investment in the form of Dividend rather than interest and thereby It would have suffered tax in the shaim.00DT. thus by adopting debt financing through debentures, the assessee had not only Inflated the interest expenditure but also avoided payment of Dividend . On the other hand, the holding company tried.to reduce-tax liability duc.to low tax regime of it’s country of residence i.e cyprus

10. The beneficial owner/ultimate holding company (located in high tax jurisdiction ) out the transaction is routed through Cyprus route in order to shift ‘profits. Adjustment was not made., in the case. of foreign, company only in view of section 92(3) of the Act that does, not mean that the transaction is, considered to be at ALP.

11. In view Of above it is ‘humbly submit cotton naturals case is, not applicable to facts of present case because present case involve thin capitalisaiton and also calls for recharacterization since arrangements made in relation to the transaction, if yielded, in their totality, differ from those which: would haye been adopted by independent enterprises behaving in a commercially rational manner both ‘of which were not considered by Hon’ble HC while rendering above judgement as has been clearly mentioned in that Judgement.

2. Finally it is humbly submitted that one of the Sister company of assessee Water villas Pvt Ltd has also issued FCCDS to Fairfields developments Ltd on which is paying only 3% interest to the parent company which roughly works out to LIBOR + 200 basis points against interest payment in the range of 15-17.5% made by the assessee.”

18. Per contra, the ld.AR has rebutted all the allegations and submitted that there was no issue of shifting of profits as argued by the ld.DR and further submitted that it is not appropriate on the part of the TPO or on the part of ld.DR to recharacterize the instrument of FCCD. The ld.AR relied upon the decision of Hon’ble Supreme Court in the case of S.A.Builders reported in 288 ITR 1 and E.K.L Appliances reported in 345 ITR 241 (Delhi) [TS-206-HC-2012(DEL)-TP] to buttress his argument. It was the contention of the assessee that the AO / TPO cannot sit in the arm-chair of the assessee and change the nature of the transaction. It was submitted that the FCCD was a hybrid instrument and was considered to be an equity document by virtue of RBI Circular and therefore, the characteristic of this instrument cannot be considered either as a debt or a loan by the Revenue. Further, the ld.AR had submitted that the decision on which the lower authorities have relied upon are not applicable to the facts of the case in all the transactions. There were outward remittance of amount in all these cases whereas in the present case, there was inwards receipt of amount through the FDI route in the form of FCCD in India by the A.E. of the assessee. Therefore, the decision relied upon by the TPO / ld.DR are not applicable to the facts of case on hand.

19. We have heard the rival submissions and perused the material on record. We have also examined the various decisions. Before we deal with the issue, it is necessary to understand the nature of the instrument and the competing law in this regard. As per Para 7 (supra) of TPO’s order reproduced hereinabove, the assessee company required funds for its business operations in India and for that purpose, the assessee had issued unsecured FCCDs to its holding company, the assessee had mentioned the said transactions in his T.P. Study for the assessment year 2013­14 and for the assessment year 2014-15.

A.E.	Nature of transaction	Amount (Rs.)
Fairfield Developments Ltd, Cyprus	Interest @ 15.75% on 8811 Fully Compulsorily Convertible Debentures of Rs.1,00,000/-each for entire year.	133559610
Fairfield Developments Ltd, Cyprus	Interest @ 17.75% on 1335 Fully Compulsorily Convertible Debentures	149385800

International transactions during the assessment year 2014-15 :

A.E.	Nature of transaction	Amount (Rs.)
Fairfield Developments Ltd, Cyprus	Interest on 8,811 FCCDs	13,87,73,250
Fairfield Developments Ltd, Cyprus	Interest on 10,415 FCCDs	2,84,57,918
Fairfield Developments Ltd, Cyprus	Issue of FCCDs	2,69,00,000

20. The assessee company had issued FCCDs valued at Rs.2.69 crores to M/s.Fairfield Development Limited. The terms and conditions of issuance of debentures as per debenture certificate vide Para 8 of the TPO order was reproduced below :

“8. …..

Allotment :- The debenture are allotted on

Conversion Date :- 120 (one hundred twenty) months from the date of allotment.

Interest Rate :- (Benchmark + Spread) % per annum, where Benchmark means prime lending rate (PLR) of State Bank of India prevailing on the date of the meeting of the Board of Directors of the company at which the FCD is issued; and Spread means 3% per annum.

Interest Payment Frequency :- Annually on 31st March of Each Year

Conversion on Conversion Date :- Each Debenture would be compulsorily fully convertible into Equity Shares at a price per Equity Share that is mutually agreed upon by the company and the FCD Holder on the Conversion Date, subject to the company meeting with the minimum capitalization criteria prescribed under the applicable Law.

Conversion Option before Conversion Date :- At any time during or before the conversion date, each FCD may at the option and sole discretion of its holder be convertible into Equity Share at a price per Equity share that is mutually agreed upon by the Company and the FCD Holder on the Conversion Date, subject to the Company meeting with the minimum capitalization criteria prescribed under the applicable law.

Security :- The Debentures are unsecured.

Ranking :- Upon conversion of FCDs into equity shares, the same shall rank pari passu with the existing equity shares of the company.”

21. The notable points are that

1) The debentures were issued for a period of 120 months (10 years),

2) The interest rate payable was PLR of SBI Plus 300 basic points.

3) Debentures would be compulsorily converted into equity at a price that is mutually agreed.

4) The A.E. of the assessee has an option to convert FCCD into equity at a price mutually agreed before the stipulated conversion date.

5) The debentures are unsecured.

6) The debentures after upon conversion of FCCD into equity, would be equal to the shares of the company.

7) There is no clarity as applicable foreign currency rate i.e whether rate prevalent at the time of conversion would be taken into account or the rate the time of issuance of FCCD.

22. The uncontroverted finding recorded by the TPO was that as per the RBI Guidelines the CCDs are in the nature of loans. The ld.AR for the assessee has not brought to our notice any guidelines / regulation issued by the RBI treating the CCD / FCCD as equity. On the contrary, the assessee has mentioned the FCCD as debt and thereafter has selected the comparable company which had received loan on the basis of debt instrument.

23. Undoubtedly, FCCDs are debt when these were issued, and it would continue to be debt till such time it is compulsorily converted into equity in terms of issuance. Further, after FCCD would be converted into equity then the holder of the equity shall have a right to receive dividend from the company, also have a right to vote in the affairs of company and also have other incidental rights as available under the Companies Act, 2013. As per our understanding, FCCD, do not have the above noted attributes of equity. Moreover, claim of the assessee, to treat FCCD as equity is unsustainable for the simple reason that payment of interest on equity is not an allowable expenditure under the Income Tax Act, 1961.

5. However, if we examine terms of issuance of FCCD for A.Y. 2013-14 and 2014-15 then it is amply clear that the assessee itself had treated the FCCD as debenture and claimed payment of interest as an allowable expenditure. In the documents, the terms of debenture were mentioned as under :-

“Terms of Debenture are

1. Debentures would be compulsorily converted into equity shares at the end of 120 months from the date of allotment, but may be converted at any time before the conversion date at the option and sole discretion of its holder.”

25 . In the present case, the TPO had benchmarked the transaction after treating the FCCDs as debt. This finding of TPO was based on Terms of issuance of FCCD and balance-sheets/ financials of the assessee as well as of it’s A.E, where both had mentioned FCCD as debt. We agree with the finding of lower authority that FCCD is a debt, as holder had a right to recover the debt and had a right to receive the interest on the debt from the payee. Further assessee during the hearing had also agreed that the FCCD are debt instrument till its conversion. Further assessee had capiatlised the interest, being prior period expenses, however it was admitted that the interest was allowable expenditure as per section 36 r/w 2(28A) of the Income Tax Act 1961. In view thereof, we find no fault in the finding returned by the TPO/ld.CIT(A).

26. Assessee before the ld.CIT(A) had stated in reply dated 15/6/2017 that FCCD are in the nature of equity instruments and are denominated in INR and interest is payable in INR. Thus the assessee had changed its stand before ld.CIT(A), which is contrary to terms of issuance of FCCD, its financials and TP study, which is not permissible. Assessee had not given any reason for claiming the FCCD as equity. In our view the assessee cannot change the nomenclature of instrument from debt to equity for the purposes of bench marking the interest paid by its to AE, which would result into shifting of profit of assessee to its AE, in low tax jurisdiction. No prudent person like assessee having strong fundamentals and financials would pay such interest to its AE at the rate of 17-to 18% on debt instrument. As per Chart filled by assessee, no interest was actually paid upto financial year 2011­12 and only paltry sum was paid in F.Ys. 2012-13 to 2015-16. The details of which filed by the assessee are as under :

Statement of FCCDs issued, Interest Cost on INR denominated FCCDs, TDS, and Interest payments made
		Details of Interest on INR denominated FCCDs
Financial	Value of	Interest	TDS	Net payable	Payment of
Year	FCCDs	expenditure of INR value	deducted	Interest	Interest
	INR received	of FCCDs
2007-08	61,91,00,000 18,76,00,000	3,22,03,097	33,99,842	2,88,03,255
2008-09		12,70,55,250	1,34,13,858	11,36,41,392
2009-10	1,74,00,000 46,00,000 20,00,000	10,17,52,231	1,07,42,492	91,10,09,739
2010-11	1,29,00,000 60,00,000	13,33,87,526	1,40,82,388	11,93,05,138
2011-12	30,00,000 6,00,000 2,01,00,000 24,00,000 69,00,000 12,00,000	13,70,92,389	1,44,73,529	12,26,18,860
2012-13	1,44,00,000 13,00,000 3,92,00,000 18,00,000 77,00,000 18,00,000 6,60,00,000 13,00,000	14,93,85,800	1,56,94,472	13,36,91,328	50,00,000
2013-14	2,69,00,000	16,72,31,168	7,23,44,203	9,48,86,965	4,65,43,559
2014-15		3,74,48,500	1,57,37,358	2,17,11,142	25,75,000

27. The ld.AR for the assessee has drawn our attention to the judgment of the Hon’ble Bombay High Court in the case of PCIT Vs. India Debt Management reported in (2019) 106 Taxmann.com (Bom) 55, whereby the Hon’ble Bombay High Court had decided the issue in para 3 and 6 as under :

“3. Having heard learned Counsel for the parties and having perused the materials on record, we are broadly in agreement with the view of tribunal. The significant features of the assessee’s case were that the assessee was mainly engaged in identifying the companies in financial distress whose products were otherwise viable and taking over or financing of such companies. The business of the assessee was thus froth with inherent risks. Its credit rating therefore was relatively low of ‘BBB-‘. The assessee was raising funds for such investments through issuance of debentures to its AEs. The tribunal even on comparison found that the average rate of interest of 11.30% paid by the assessee to its AEs was not excessive and was in any case lower than in the comparable instances. The tribunal rejected the transfer pricing adjustment comparing the rate of return for the assessee’s US based AE. This later conclusion of the Tribunal is supported by following decisions.

4. Division Bench of Delhi High Court in case of CIT v. Cotton Naturals (I) (P.) Ltd. [2015] 55 taxmann.com 523/231 Taxman 401, had held and observed as under;

“39. The question whether the interest rate prevailing in India should be applied, for the lender was an Indian company/assessee, or the lending rate prevalent in the United States should be applied, for the borrower was a resident and an assessee of the said country, in our considered opinion, must be answered by adopting and applying a commonsensical and pragmatic reasoning. We have no hesitation in holding that the interest rate should be the market determined interest rate applicable to the currency concerned in which the loan has to be repaid. Interest rates should not be computed on the basis of interest payable on the currency or legal tender of the place or the country of residence of either party. Interest rates applicable to loans and deposits in the national currency of the borrower or the lender would vary and are dependent upon the fiscal policy of the Central bank, mandate of the Government and several other parameters. Interest rates payable on currency specific loans/deposits are significantly universal and globally applicable. The currency in which the loan is to be re-paid normally determines the rate of return on the money lent, i.e. the rate of interest. Klaus Vogel on Double Taxation Conventions (Third Edition) under Article 11 in paragraph 115 states as under:-

“The existing differences in the levels of interest rates do not depend on any place but rather on the currency concerned. The rate of interest on a US $ loan is the same in New York as in Frankfurt-at least within the framework of free capital markets (subject to the arbitrage). In regard to the question as to whether the level of interest rates in the lender’s State or that in the borrower’s is decisive, therefore, primarily depends on the currency agreed upon (BFH BSt. B1. II 725 (1994), re. 1 AStG). A differentiation between debt-claims or debts in national currency and those in foreign currency is normally no use, because, for instance, a US $ loan advanced by a US lender is to him a debt-claim in national currency whereas to a German borrower it is a foreign currency debt (the situation being different, however, when an agreement in a third currency is involved). Moreover, a difference in interest levels frequently reflects no more than different expectations in regard to rates of exchange, rates of inflation and other aspects. Hence, the choice of one particular currency can be just as reasonable as that of another, despite different levels of interest rates. An economic criterion for one party may be that it wants, if possible, to avoid exchange risks (for example, by matching the currency of the loan with that of the funds anticipated to be available for debt service), such as taking out a US $ loan if the proceeds in US $ are expected to become available (say from exports). If an exchange risk were to prove incapable of being avoided (say, by forward rate fixing), the appropriate course would be to attribute it to the economically more powerful party. But, exactly where there is no ‘special relationship’, this will frequently not be possible in dealings with such party. Consequently, it will normally not be possible to review and adjust the interest rate to the extent that such rate depends on the currency involved. Moreover, it is questionable whether such an adjustment could be based on Art. 11 (6). For Art. 11(6), at least its wording, allows the authorities to ‘eliminate hypothetical’ the special relationships only in regard to the level of interest rates and not in regard to other circumstances, such as the choice of currency. If such other circumstances were to be included in the review, there would be doubts as to where the line should be drawn, i.e., whether an examination should be allowed of the question of whether in the absence of a special relationship (i.e., financial power, strong position in the market, etc., of the foreign corporate group member) the borrowing company might not have completely refrained from making investment for which it borrowed the money.” “

5. Similarly this Court in case of CIT v. Tata Autocomp Systems Ltd. [2015] 374 ITR 516/230 Taxman 649/56 taxmann.com 206, had observed as under;

“7. We find that the impugned order of the Tribunal inter alia has followed the decisions of the Bombay Bench of the Tribunal in cases of VVF Ltd. v. Dy. CIT (supra) and Dy. CIT v. Tech Mahindra Ltd. (supra) to reach the conclusion that ALP in the case of loans advanced to AEs would be determined on the basis of rate of interest being charged in the country where the loan is received/consumed. Mr. Suresh Kumar the learned counsel for the Revenue informed us that the Revenue has not preferred any appeal against the decision of the Tribunal in VVF Ltd. v. Dy. CIT (supra) and Dy. CIT v. Tech Mahindra Ltd. (supra) on the above issue. No reason has been shown to us as to why the Revenue seeks to take a different view in respect of the impugned order from that taken in VVF Ltd. v. Dy. CIT (supra) and Dy. CIT v. Tech Mahindra Ltd. (supra). The Revenue not having filed any appeal, has in fact accepted the decision of the Tribunal in VVF Ltd. v. Dy. CIT (supra) and Dy. CIT v. Tech Mahindra Ltd. (supra). “

6. Before closing this issue we may note that the tribunal in the impugned judgment has made certain observations suggesting that the identification of the “tested party” is imperative while applying other methods from comparison for transfer pricing and not while applying CUP method. Our non-consideration of the revenue’s Appeal in the present case, should not be seen as putting our seal on such observations of the tribunal. In other words, we keep such question open to be examined in an appropriate case. In the present case, independent of such observations of the tribunal, we find that the conclusions arrive at, are based on evidence on record which conclusions call for no interference.”

28. In our view, the decision of Hon’ble Bombay High Court as well as Delhi High Court are not applicable to the facts of the present case as both the Hon’ble Courts had not examined the issue of whether the FCCDs were in the nature of debt or equity and hence, there was no occasion to bench mark the interest payable on FCCD. In the present case, the issue involved is benchmarking of interest to be paid or payable of FCCDs before its conversion to equity. As mentioned elsewhere in the order, there would be no occasion for the assessee to repay the loan to it’s A.E (on account of the nature of FCCD), therefore, the currency in which loan was taken or to be paid would not be relevant for the purpose of determining the interest rate. Therefore also, the decision in the case of Cotton Natural (supra) is not applicable to the present set of unique facts.

29. The next judgment relied upon by the assessee was ADAMA India (P) Ltd. Vs. DCIT reported in (2017) 78 taxmann.com 75 is not applicable to the facts of the present case. As the coordinate bench had decided the issue based on the above two noted decisions of Hon’ble High Courts without discussing and deciding the nature of CCD. In our view, this decision is also distinguishable on account of the fact that the Bench has not examined the real nature of the CCD and therefore, this decision is not applicable to the facts of the case.

30. Similarly, the decision of Delhi Tribunal in the case of Assotech Moonshine Urban Developments (P.) Ltd Vs. DCIT reported in (202) 121 taxmann.com 220 is also not applicable to the present case as the Bench has not examined the nature of the instrument issued by the assessee to it’s A.E. The decision of Bangalore Bench of the Tribunal in the case of Praxair India (P) Ltd. Vs. ACIT reported in (20220 138 taxmann.com 67 is also not applicable as the Tribunal without examining the nature of CCDs has benchmarked it applying the decision of the Cotton Naturals.

31. For our above said finding of FCCD is debt in nature , we draw support from the decision of NCLT in the case of SGM Webtech Pvt. Ltd Vs. Boulevard Projects Pvt. Ltd MANU/NC/2636/2020 dt.31.01.2020 wherein it was held as under :

“By looking at the agreement entered into between the parties, this money has been shown as money paid towards fully and compulsorily convertible debentures for the value mentioned therein, it is not the case of the Corporate Debtor that this money has not come into the account, indeed it is the case of the Corporate Debtor until before this case is filed that this is a long term borrowings as per the balance sheet of the Company and it is also the case of the Corporate Debtor that TDS has been deducted on the interest accrued against the compulsorily convertible debentures held by the applicant.

When a party admits a factual aspect stating that applicant is a creditor, debentures are lying in its name and the debt is shown as long term borrowing, then such party cannot take out diametrically opposite stand stating that the debt being shown as capital under FEMA or under some other Regulations, therefore it is not a debt.

As to civil rights are concerned, as long as such rights are not prohibited under any law, a rule or definition given in some provision of some other civil law, cannot change the rights agreed between the parties. Here in this case, this Corporate Debtor all through mentioned and shown this claim as a debt in the books of it. In view of the same, today this Corporate Debtor by relying upon some FEMA Regulations cannot say that it is not a debt, it is an equity invested by the applicant.

As to this aspect, the applicant counsel has stated that the submission of the debtor counsel saying that this money is shown as equity in the Form filed before RBI is factually incorrect, because debt and equity are separately shown in the said Form.

As to the judgment refereed by the Resolution Professional counsel, to our understanding, this ratio has been decided with regard to the Guideline IV (i) r/w IV (ii) of the Guidelines for Issue of Cumulative Convertible Preference Shares and Guideline No. 8 and 11 of the Employees Stock Option Guidelines. These Guidelines being in relation to Employees Stock Option Guidelines and Issue of Cumulative Convertible Preference Shares, this ratio cannot be extended to say that debentures also fall under this category. Therefore, we believe that the ratio decided in Narendra Kumar Maheshwari (supra) is not applicable to the present facts of the case.

Moreover, since Insolvency and Bankruptcy Code, 2016 has overriding effect over other enactments, the debentures being treated as debt under IBC, this value of debentures shall be treated as debt, not as equity. In any event, since it is not the case of this Corporate Debtor that it is not a debt as per its books, the debtor counsel cannot come out with a new argument saying that these debentures shall be treated as equity.

Another argument advanced by the Resolution Professional counsel is that the nature of investment being compulsorily convertible debentures, the applicant cannot claim the value of the investment except to the extent of interest. As to this point, if a company is a running company and regularly paying interest, it is understandable that this RP Counsel can come with this argument to say that it is not repayable to the claimant because over a period of time these debentures would be converted into equity. This situation wil arise when this debt is converted into equity as on the date of admission. But as on the date of admission, when the debentures are not matured for conversion and the debtor already defaulted paying interest, where is the question of treating it as equity. Assuming this RP counsel argument is correct, when a Company has become insolvent, the only right available to the debentures holder is to claim his money from the proceeds of the Corporate Debtor, that being the situation, today this Corporate Debtor cannot say that since a clause is not there for repaying the principal amount to the applicant, it cannot be treated as debt and it has to be treated as equity.

Basically, we do not find any sense in this argument because when a company is in the process of winding up or company has become insolvent, as on the date of admission, whatever is shown as debt in the books of the Corporate Debtor, such debt shal continue as debt. Whoever is shown as shareholder, he/she/it wil continue as shareholder, in this case, as on the date of admission of the petition, this is shown as debt.

It is true that in the agreement, that after 15 years, these debentures would become equity, but until such time the Corporate Debtor shall pay fixed returns to this applicant. The RP merely by showing this, the RP Counsel cannot come with an argument to say that this is to be treated as equity for redemption of debentures has not been envisaged in the agreement. At the time of winding up or admission of a case under IBC, if the debentures are not matured and not convertible for the period for redemption is not complete, they shal be treated as debentures and the consequence is, it will remain as debt. Same is the case here, debentures are not matured for conversion, interest shall be paid through coupons periodically. That has also not complied with.

In view thereof, this application is hereby allowed directing the Resolution Professional to admit the claim as Financial Debt as envisaged under Section 5(8) (c) of the Insolvency and Bankruptcy Code, 2016. Accordingly, this application is allowed.

32. Further, we may fruitfully rely upon the decision of the Tribunal in the case of ACIT Vs. CAE Fright Training (India) Pvt. Ltd. IT(TP)A 63/Bang/2015, had held CCD as debt, whereby it was held as under :

“7.1. Core theme and arguments of the Transfer Pricing Officer is nonexistent Thin Capitalization concept in Indian context. Towards this objective the Transfer Pricing Officer has re- characterized the Compulsory Convertible Debentures (debt) in to equity as has been seen in discussion above. For this the Transfer Pricing Officer also makes reference to the Foreign Direct Investment (FDI) Policy and the Reserve Bank of India (RBI) Policy in respect of fund infusion from foreign sources in to Indian economy. Misplaced understanding of the Government Policy and its purpose has only created a smokescreen of confusion hiding the truth and reality of the matter. (Kindly refer, Para- 3.1. to 3.6. on Page- 10 to 12 of the Transfer Pricing Order for AY: 2009-10).

7.2. Even though statutorily the Transfer Pricing Officer was not entitled to delve in to anything else other than determination of arm’s length price of the given transactions, it should have been understood that the needs requirements and purpose under the Income Tax Act and those of the FDI and RBI Policies do not stand opposite to each other or contradict each other. However, they just need to be understood in their respective contexts.

7.3. The purposes of the FDI and RBI Policies are aimed at controlling fund inflow from abroad in the form of debt. They have no problem if the infusions of funds are in the form of equity. In order to ensure this, these policies just declared that Optionally or Partially Convertible Debentures and other Hybrid Instruments, because their conversion in to equity at a future appointed date remains an uncertainty being non compulsive in nature, shall be treated as debt and not equity. This was just to prevent such non compulsive instruments to be used for fund infusion that the Government brought in clarity in this regard.

7.4. As far as Compulsory Convertible Debentures are concerned, the Government Policy accepted and allowed it to be used for fund inflow from abroad even as a debt, as at a later appointed date it will compulsorily and unambiguously be converted in to equity. Therefore the Government clarified that till such time its conversion in to equity happens and till such time it continues its identity as a debenture, it shall continue to be a valid form of fund infusion from abroad. The Government Policy only defined non-admissibility and non-validity of Optionally or Partially Convertible Debentures and other Hybrid Instruments as means of fund infusion vis a vis admissibility and validity of Compulsory Convertible Debentures as an instrument and means of fund infusion from abroad. This was the need and requirement in a Regulatory environment and for Regulatory purposes. Nowhere did the Government Policy redefined or re- characterized the nature of a Compulsory Convertible Debenture as equity.

7.5. As far as need and requirement under the Income Tax Act is concerned it is enough to understand that the Government nowhere said in the given situation that a Compulsory Convertible Debenture is equity even at the time of its inception and during its continuity as a debenture prior to its compulsory and actual conversion in to equity at the appointed date. That being the case, purposes of Income Tax Act just requires to determine the nature of receipt and expense and decide the taxability of the resultant income. Thus, in the case of a Compulsory Convertible Debenture the nature of its value is that of a debt and once it is converted into equity at the appointed date, its value is that of an equity. The resultant expense therefore correspondingly will be that of an interest and a dividend, in that sequence. Reading anything more in to the Government’s Policy through RBI and FDI Policies is not only misleading but also purposive.

33. During the course of argument, the ld.AR had submitted that the TPO cannot recharacterize the nature of FCCD as equity to loan. In this regard, we have already mentioned that as per the assessee, FCCDs are debt in nature till its conversion into equity. Therefore, there is no recharacterization of the transaction by the TPO / Assessing Officer. Further, the TPO/Assessing Officer cannot act as a silent spectator and accept the nature of transaction as claimed by the assessee, though there were contradiction on the characterisation by assessee with that of terms and conditions of issuance of the instrument. The economic substance of the document is different than what had been claimed by the assessee. This is in tune with the decision of the Hon’ble Delhi High Court in the case of EKL Appliances (supra) wherein it was noted as under:-

“17. The significance of the aforesaid guidelines lies in the fact that they recognize that barring exceptional cases, the tax administration should not disregard the actual transaction or substitute other transactions for them and the examination of a controlled transaction should ordinarily be based on the transaction as it has been actually undertaken and structured by the associated enterprises. It is of further significance that the guidelines discourage re-structuring of legitimate business transactions. The reason for characterization of such re-structuring as an arbitrary exercise, as given in the guidelines, is that it has the potential to create double taxation if the other tax administration does not share the same view as to how the transaction should be structured.

18. Two exceptions have been allowed to the aforesaid principle and they are (i) where the economic substance of a transaction differs from its form and (ii) where the form and substance of the transaction are the same but arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner.”

34. Even as per the assessee, the FCCDs are debt till it is converted into equity. Hence, there is no recharacterization by the Assessing Officer/TPO. Assuming the case of the assessee that FCCDs are equity then we must look into the substance over the form of the instrument, which can be ascertained by looking into its terms and conditions of allotment. As discussed hereinabove, the terms and conditions clearly show that the FCCDs are debt till its conversion. Yet another reason to above conclusion is that there is no recharacterization of the instrument by the Assessing Officer as there is no concept of paying the interest on the equity by the company to its holder under the Companies Act or under Income Tax Act or under the Accounting standards. The reliance of the assessee on the RBI policy for the non- convertible debenture is not relevant. In view of the above, we do not find any substance in the argument of the assessee that the Assessing Officer has recharacterized the nature of transaction.

35. Accordingly, we hold that FCCDs are debt, therefore, the benchmarking done by the learned lower authorities are correct by applying LIBOR plus 200 points, which is in consonance with the RBI guidelines issued for the purposes of FDI.

36. We may also draw support from the decision of co-ordinate Bench of the Tribunal in the case of Maanaveeya Development & Finance P. Ltd. in ITA Nos.134/Hyd/2017 and others dt.14.12.2021 wherein at Para 6 it was held as under :

“6. Learned counsel has quoted a catena of case law regarding adoption of interest rate going by currency involved in the international transactions. We note that the same are not relevant to this instant issue since we have already held that the currency involved herein is not “Euro” only. The alleged “safe harbor” rules (supra) also do not pertain to these four assessment years. We thus affirm the TPO’s identical action in all these four assessment years adopting “LIBOR + 200” interest rate coming to 2.9% as against that claimed @ 11% at assessee’s behest. These four taxpayer appeals in ITA Nos.134 & 565/Hyd/2017 for A.Ys 2011- 12 and 1507 and 1682/Hyd/2018 for the A.Ys 2013-14 and 2014-15; respectively, are dismissed. The Revenue’s former two cross appeals in ITA Nos.149/Hyd/2017 and 1506/Hyd/2018 for A.Ys 2011-12 and 2013-14 raising in the instant sole ground are accepted.”

37. In view of our above discussion, we do not find any merits in the arguments of the learned counsel for the assessee. Accordingly, order of ld.CIT(A) is upheld and the grounds raised by the assessee are dismissed.

38. In the result, the appeals of the assessee vide ITA Nos. 740/Hyd/2019 and 1590/Hyd/2019 are dismissed.

39. As the facts of other appeal bearing no. 1591/Hyd/2019 is similar to the facts of ITA 740/Hyd/2019 and ITA 1590/Hyd/2019, therefore, respectfully following the foregoing decision, we hereby dismiss appeal i.e. ITA No.1591/Hyd/2019 also.

40. To sum up, all the appeals of the assessee are dismissed.

Order pronounced in the Open Court on 21st September, 2022.