pri TP: Redeemable preference shares cannot be treated as equivalent to interest free loans & advances TP: Redeemable preference shares cannot be treated as equivalent to interest free loans & advances

Case Law Details

Case Name : Pr. CIT Vs M/s. Aegis Limited (Bombay High Court)
Appeal Number : ITA No. 1248 of 2016
Date of Judgement/Order : 28/01/2019
Related Assessment Year : 2009-10

Pr. CIT Vs M/s. Aegis Limited (Bombay High Court)

Conclusion: Transaction of purchase and sale of redeemable preference shares could not be regarded as being equivalent to interest free loans advanced by assessee to the AE & charge notional interest thereon as the apparent transaction could not be disregarded and substituted without any material or exceptional circumstances pointing out that assessee had tried to conceal the real transaction. Thus, TPO could not question the commercial expediency of assessee entered into such transaction.

Held:

Assessee had subscribed to redeemable preferential shares of its Associated Enterprises (“AE”) and redeemed some of its shares at par. TPO held that the preference shares were equivalent to interest free loans advanced by assessee and accordingly charged interest on notional basis. Tribunal deleted the addition observing transaction of secured loans on the ground that TPO could not disregard the apparent transaction and substitute the same without any material of exceptional circumstances pointing out that assessee had tried to conceal the real transaction or that the transaction in question was sham. Tribunal observed that TPO could not question the commercial expediency of assessee entered into such transaction.  It was held nothing was brought on record by Revenue to suggest that the transaction of purchase and sale of shares was sham. In absence of any material on record, TPO could not have treated such transaction as a loan and charged interest thereon on notional basis.

FULL TEXT OF THE HIGH COURT ORDER / JUDGEMENT

1. The Revenue has filed this Appeal challenging the judgment of the Income Tax Appellate Tribunal. The following questions were pressed before us :

“1. Whether on the facts and circumstances of the case and in law, the Income Tax Appellate Tribunal erred in not considering the fact that the assessee had actually advanced/lent money to its AE in the garb of preference shares leading to attraction of provisions relating to Transfer Pricing in the ease of the assessee in view of Section 92B of the Act, without appreciating the  fact that these preferential shares do not carry any dividend and are beyond scope of any capital appreciation ?

2. Whether on the facts and circumstances of the case and in law, the Income Tax Appellate Tribunal erred in deleting an adjustment made u/s. 36(1)(iii) towards interest on interest free loans advanced to the companies under the same management, relying on the decision of Hon’ble Bombay High Court decision in the case of M/s. Reliance Utilities and Power Ltd. ignoring the fact that the facts of the case are clearly  distinguishable as the Assessing Offcer in the assessment order has clearly brought out that the interest free funds of the assessee were invested in share investment and fxed assets and the assessee failed to prove the utilization of borrowed funds for its own business ?

2. Whether on the facts and circumstances of the case and in law, the Income Tax Appellate Tribunal erred in deleting an adjustment made u/s. 36(1)(iii) towards interest on interest free loans advanced to the companies under the same management, relying on the decision of Hon’ble Bombay High Court decision in the case of M/s. Reliance Utilities and Power Ltd. ignoring the fact that the facts of the case are clearly distinguishable as the Assessing Officer in the assessment order has clearly brought out that the interest free funds of the assessee were invested in share investment and fixed assets and the assessee failed to prove the utilization of borrowed funds for its own business ?

2. The respondent-assessee is a Company registered under the Companies Act. For the Assessment Year 2009- 10, the assessee was subjected to transfer pricing regime. Question no.1 arises out of the action of the Revenue to tax notional interest in the hands of the assessee through transfer pricing. The facts are that, during the period relevant to the assessment year in question, the assessee had subscribed to redeemable preferential shares of its Associated Enterprises (“AE” for short) and redeemed some of its shares at par. The Transfer Pricing Officer (“TPO” for short) held that the preference shares were equivalent to interest free loans advanced by the assessee and accordingly charged the interest on notional basis. The Tribunal by the impugned judgment, deleted the addition observing transaction of suecured loans. The inter-alia on the grounds that the TPO cannot disregard the apparent transaction and substitute the same without any material of exceptional circumstances pointing out that the assessee had tried to conceal the real transaction or that the transaction in question was sham. The Tribunal observed that the TPO cannot question the commercial expediency of the assessee entered into such transaction.

3. We are broadly in agreement with the view of the Tribunal. The facts on record would suggest that the assessee had entered into a transaction of purchase and sale of shares of an AE. Nothing is brought on record by the Revenue to suggest that the transaction was sham. In absence of any material on record, the TPO could not have treated such transaction as a loan and charged interest thereon on notional basis. No question of law arises.

4. Question no.2 relates to the act of the assessee of making interest free advances to an AE. The Tribunal came to the conclusion that the assessee had suffcient interest free loans out of which subject advances are made. The Tribunal referred to and relied upon the decision of this Court in the case of Commissioner of Income-tax V/s. Reliance Utilities and Power Ltd. reported in [2009] 313 ITR 340 (Bom) and deleted the disallowances. In subject judgments, this Court had held and observed as under :

“9. The Revenue being aggrieved by the order preferred an appeal to the Tribunal. Before the Tribunal, it was sought to be contended that the shareholders funds of Rs. 172,10,88,000 were utiised for the purchase of fixed assets shown in schedule D in terms of the balance-sheet as on March 31, 1999. It was submitted that the assessee had not reserve or own funds for making the investments in the sister concern and, therefore, borrowed funds had been utiised and interest on these investments are for non-business purposes and hence rightly disallowed by the Assessing officer. 

10. On the other hand on behalf of the assessee the learned counsel relied on the  order of the Commissioner of Income-tax (Appeals) and submitted that the assessee had total interest-free fund of Rs.398 crores.”

5. No question of law in this respect arises.

6. Question no.3 arises out of the additions made by the TPO in connection with the corporate guarantee given by the assessee in favour of its AE. The Tribunal restricted subject addition to 1% guarantee commission relying upon other decisions of the Tribunal along similar lines. The TPO had, however, added 5% by way of commission.

7. The learned Counsel for the assesseee drew our attention to a judgment of this Court in the case of Commissioner  of Income-tax, Mumbai v. Everest Kento Cylinders Ltd. Reported in [2015] 58 taxmann.com254 and submitted that there is a substantial difference between a bank guarantee and a corporate guarantee. He pointed out, that this Court in the said judgment in the case of  Everest Kento Cylinders Ltd. (supra) has recognised that in view of inherent differences between the two lines of guarantee, rate of commission to be charged in each cases would be different. We may reproduce the relevant portion of the judgment of this Court :

“10. Having considered submissions of Mr. Malhotra for the revenue and Mr. Pardiwalla for the assessee, we are of the view that the order of the Tribunal as regards disallowance under section 14A and restricting the same to Rs.1 lac was justified in view of the material before the Tribunal. Furthermore, having considered the fact that a sum of Rs.4,47,649/- was not conceded in the return but was adhoc acceptance during the course of assessment, the assessee could not be bound by it. The Tribunal as the second fact finding authority had gone into factual aspects in great detail and therefore having interpreted the law as it stood on the relevant date the order passed cannot be faulted. In the matter of guarantee commission, the adjustment made by the TPO were based on instances restricted to the commercial banks providing guarantees and did not contemplate the issue of a Corporate Guarantee. No doubt these are contracts of guarantee, however, when they are Commercial banks that issue bank guarantees which are treated as the blood of commerce being easily encashable in the event of default, and if the bank guarantee had to be obtained from Commercial Banks, the higher commission could have been justifed. In the present case, it is assessee company that is issuing Corporate Guarantee to the effect that if the subsidiary AE does not repay loan availed of it from ICICI, then in such event, the assessee would make good the amount and repay the loan. The considerations which applied for issuance of a Corporate guarantee are distinct and separate from that of bank guarantee and accordingly we are of the view that commission charged cannot be called in question, in the manner TPO has done. In our view the comparison is not as between like transactions but the comparisons are between guarantees issued by the commercial banks as against a Corporate Guarantee issued by holding company for the beneft of its AE, a subsidiary company. In view of the above discussion we are of the view that the appeal does not raise any substantial question of law and it is dismissed. There will be no order as to costs.”

8. It can thus be seen that, the Tribunal applied a lower percentage of commission in the present case considering that, what the assessee had provided was a corporate guarantee and not a bank guarantee. No question of law arises.

9. The Income Tax Appeal is therefore dismissed.

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