2015 (1) TMI 551 - AT - Income Tax

Tribunal Adjusts Loan Interest Rates & Guarantee Commission to Align with Comparable Transactions

The tribunal partly allowed the appeal, directing the AO to rework the interest on loans at LIBOR + 2.75% and to adopt a 0.53% rate for the guarantee ... Arm's length price - international transaction - associated enterprise - guarantee fee - use of money - comparable uncontrolled price (CUP) principleArm's length price - international transaction - associated enterprise - comparable uncontrolled price (CUP) principle - Adjustment in respect of interest-free loans/advances provided to associated enterprises and the appropriate rate of interest for transfer pricing purposes - HELD THAT: - The Tribunal held that providing loans or credit (including initial expenditure recoverable as reimbursement) to an associated enterprise constitutes an international transaction under the transfer pricing provisions and, accordingly, is amenable to adjustment. The assessee's contention that commercial considerations preclude such adjustments was rejected: in principle the loan/advance attracts TP scrutiny. However, the Tribunal found that the Assessing Officer/TPO erred in adopting a later-year internal rate as a CUP for the year under consideration and accepted that the rate must reflect the actual third-party borrowing available to the AE in the relevant period. Noting that the AE (SST North America) had borrowed from ICICI Bank, UK at LIBOR + 2.75%, the Tribunal directed that this rate be treated as the arm's length interest for recalculation of the adjustment on the loan to SST North America. Further, for loan to another AE (Arsin Corporation), the Tribunal directed recomputation of interest at LIBOR + 2.75% instead of the higher rate adopted by the AO/TPO. These directions constitute approval in principle of the adjustments but require recomputation by the AO/TPO in accordance with the specified rate. [Paras 5]Adjustment on loans/advances upheld in principle; interest to be recomputed by the AO at LIBOR + 2.75% for SST North America and Arsin Corporation.International transaction - guarantee fee - arm's length price - use of money - Whether corporate guarantees given to enable third party borrowing or to secure deferred consideration are international transactions attracting guarantee fee and the appropriate ALP for such guarantee fees - HELD THAT: - The Tribunal concluded that corporate guarantees provided by a parent to improve the creditworthiness of an associated enterprise fall within the scope of 'international transaction' following the retrospective amendment to section 92B (Explanation relating to capital financing), and therefore require determination of arm's length consideration. The Tribunal rejected the submission that no service/risk arises merely because commercial agreements may prohibit charging commission to the borrower or because the guarantee substitutes for equity funding. Recognising that the TPO's flat 2% rate was not appropriate, the Tribunal referred to precedents and chose a lower ALP rate adopted by other Benches in comparable cases. Consequently, while upholding the levy of guarantee fee in principle, the Tribunal directed the TPO to adopt 0.53% as the arm's length rate for the guarantee for recomputation of the adjustment. [Paras 6, 8]Guarantee commission adjustment upheld in principle; TPO directed to adopt 0.53% as the arm's length rate and recompute the adjustment.Final Conclusion: The appeal is partly allowed: adjustments in respect of loans/advances to associated enterprises are sustained in principle but interest is to be recomputed at LIBOR + 2.75% (directions to AO/TPO), and adjustments for corporate guarantees are sustained in principle but the guarantee fee is to be recomputed by the TPO adopting 0.53% as the arm's length rate. Issues Involved:1. Transfer Pricing (T.P.) adjustment on interest-free loans and advances to subsidiary.2. Levy of guarantee commission on corporate guarantees provided by the assessee.Issue-wise Detailed Analysis:1. Transfer Pricing Adjustment on Interest-Free Loans and Advances to Subsidiary:The assessee, a global software solutions company, acquired JYACC Inc. USA through a Special Purpose Vehicle (SPV) named SST North America Inc. USA. The acquisition involved a cash consideration and a deferred purchase consideration. The cash consideration was partially funded by loans from ICICI Bank, UK, with SSTL providing a corporate guarantee. The Transfer Pricing Officer (TPO) noted that the assessee did not charge interest on loans and advances to its subsidiary nor a guarantee commission on the guarantees provided. Consequently, the TPO made an adjustment of Rs. 29,61,576 for the loans and Rs. 2,37,83,633 for the guarantee fee, totaling Rs. 2,67,45,209. The Dispute Resolution Panel (DRP) largely upheld the TPO's findings.The assessee argued that no service was provided to its SPV and that the corporate guarantees and loans should not be treated as international transactions for the purpose of arm's length price (ALP) determination. The assessee referenced the Australian Taxation Officer's view that guarantees compensating for a subsidiary's inadequate financial position should remain with the parent company. The assessee also contended that the advances were cost-to-cost expenses and not loans or advances for ALP determination.The tribunal agreed that providing loans to an associated enterprise (AE) is an international transaction under TP provisions and warrants adjustment. However, it found the TPO's rate of interest (LIBOR + 4.75 BPS) inappropriate, favoring the rate at which the AE borrowed from ICICI Bank (LIBOR + 2.75%). The tribunal directed the AO to rework the interest at this rate for loans to SST North America and Arsin Corporation.2. Levy of Guarantee Commission on Corporate Guarantees Provided by the Assessee:The TPO levied a 2% guarantee fee on the corporate guarantees provided by the assessee for loans taken by SST North America from ICICI Bank and for the deferred purchase consideration to JYACC shareholders. The assessee argued that the corporate guarantee did not involve any cost or risk to the shareholders and should not be considered an international transaction under the amended section 92B of the Income Tax Act.The tribunal noted that providing guarantees inherently involves risk and enhances the creditworthiness of the AE, thus constituting a service. The tribunal referenced the Hyderabad Tribunal's decision in Four Soft P. Ltd., which held that corporate guarantees fall within the scope of international transactions post the retrospective amendment to section 92B. However, the tribunal found the TPO's 2% rate excessive and directed the TPO to adopt a rate of 0.53%, as considered arm's length in other cases.Conclusion:The tribunal partly allowed the appeal, directing the AO to rework the interest on loans at LIBOR + 2.75% and to adopt a 0.53% rate for the guarantee commission. The adjustments were upheld in principle, but the rates were modified to align with comparable transactions. The tribunal emphasized the inherent risk in providing guarantees and the need for ALP determination under TP provisions. The decision reflects a balanced approach, considering both the retrospective amendment to section 92B and the commercial realities of the transactions.