2025 (7) TMI 1927 - AT - Income Tax

Assessee not liable for guarantee commission; Finance Act 2022 held prospective; s.14A disallowance limited to exempt income

ITAT PUNE - AT held that the assessee was not obliged to charge guarantee commission because an independent bank expressly prohibited the guarantor from ... TP adjustment - international transaction of corporate guarantee - HELD THAT:- Bank of Baroda had imposed a specific condition that Guarantor shall not receive any commission from the borrower. In order to obtain the loan, Assessee had to comply conditions imposed by the Bank. The Bank of Baroda is an independent entity and cannot be regarded as related to the assessee. Therefore, Assessee was right in not charging any Guarantee Commission. As relying on B.G. Shirke Construction Technology P. Ltd. [2019 (11) TMI 357 - ITAT MUMBAI] we hold that no guarantee commission needs to be charged. Accordingly, we direct the AO/TPO to delete the addition. Disallowance u/s. 14A r/w Rule 8D - whether Section 14A disallowance can be more than the exempt income and whether amendment brought by Finance Act, 2022 will be applicable to A.Y. 2020-21 or not? - HELD THAT:- ITAT Pune Bench in the case of Deepak Pandurang Gadre [2023 (11) TMI 1406 - ITAT PUNE] categorically held that the amendment brought by Finance Act, 2022 is prospective in nature and hence will not be applicable for earlier years. Accordingly, we hold that amendment brought by the Finance Act, 2022 providing that the disallowance u/s. 14A would be called-for notwithstanding non-receipt of exempt income during the year, is prospective in nature and not applicable to A.Y. 2020-21 in the case of the Assessee. As decided in Ajit Ramakant Phatarpekar [2020 (11) TMI 70 - BOMBAY HIGH COURT] held that disallowance under section 14A of the IT Act cannot be more than the exempt income earned by the Assessee during the assessment year in question. Thus, we direct the AO to restrict the disallowance u/s. 14A to exempt income/Rs. 4,50,000/- only and delete the remaining disallowance. ISSUES PRESENTED AND CONSIDERED 1. Whether a corporate guarantee provided by an Indian parent for loans of its associated enterprise abroad constitutes an 'international transaction' under Chapter X (sections 92-92F) and, if so, whether a guarantee commission must be imputed when the loan sanction letter expressly prohibits the guarantor from receiving any commission. 2. Whether an arm's length price for a corporate guarantee can be fixed at an ad hoc rate (0.50%) relying on precedents (e.g., Everest Kanto) without a fact-specific benchmarking analysis under section 92C and Rule 10AB/Rule 10B series. 3. Whether charging a guarantee commission would attract the proviso to section 92(3) (i.e., whether the transaction is to be treated as between independent enterprises given cost-plus/support arrangements between the parties). 4. Whether disallowance under section 14A read with Rule 8D can exceed the exempt income earned in the assessment year, and whether the Explanation/amendment introduced by Finance Act, 2022 (making disallowance irrespective of receipt of exempt income) applies retrospectively to the assessment year under consideration. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Characterisation of corporate guarantee as an international transaction and effect of bank condition prohibiting commission Legal framework: Chapter X of the Income Tax Act (sections 92-92F) defines 'international transaction' and requires ALP determination for specified transactions between related parties; transfer pricing principles apply to corporate guarantees provided to associated enterprises. Precedent treatment: Tribunal decisions have examined situations where bank-imposed conditions restrict charging commission; some judicial pronouncements (referred by parties) held that where non-charging flows from arm's-length third-party conditions, no imputation is warranted. Interpretation and reasoning: The Tribunal examined the deed of corporate guarantee and found clause expressly stating the guarantor 'shall not receive any security or commission from the Borrower.' The bank is an independent third party; compliance with its condition was necessary to obtain the loan. The Tribunal held that non-receipt of commission resulted from an independent bank's contractual condition and therefore the parent's decision not to charge did not reflect a non-arm's-length benefit transfer requiring imputation. Ratio vs. Obiter: Ratio - where a third-party lender's enforceable contractual condition prohibits charging a guarantee commission, non-receipt of commission need not be treated as an international transaction for which ALP must be imputed. Obiter - general observations about shareholder activity and expectation of future benefits not relied upon as primary basis. Conclusion: Corporate guarantee treated as not attracting an addition for omitted guarantee commission when non-charging is compelled by an independent bank's contractual stipulation; addition deleted. Issue 2 - Validity of adopting a benchmarked fixed rate (0.50%) without case-specific benchmarking Legal framework: Section 92C and Rule 10AB/Rule 10B require ALP determination using comparability analysis and prescribed methods; transfer pricing adjustments must be founded on fact-specific benchmarking and consideration of Rule 10B/10C (and relevant factors in Rule 10B/10BA/10BB/10BC etc.). Precedent treatment: High Court and Tribunal pronouncements (including Everest Kanto) have been referred to for fixing guarantee commission rates; however, such precedents are fact-sensitive and not automatically transferrable. Interpretation and reasoning: The Transfer Pricing Officer and DRP applied an ad hoc rate of 0.50% without disclosing a benchmarking exercise or explaining application of comparability factors. The Tribunal found that the rate was arbitrarily adopted and that the precedent relied upon (Everest Kanto) is distinguishable on facts because that decision concerned different transactional circumstances (comparison with commercial bank guarantees and absence of a bank-imposed prohibition). The Tribunal emphasized that transfer pricing is a facts-based exercise and rates from other cases cannot be mechanically applied without Rule 10B/Rule 10AB analysis. Ratio vs. Obiter: Ratio - an ad hoc ALP rate cannot be imposed without a documented benchmarking exercise considering the factors in the transfer pricing rules; precedent rates are not universally applicable. Obiter - commentary on the need to consider credit rating, financial strength, country risk, and other factors when benchmarking guarantees. Conclusion: The ad hoc adoption of 0.50% as ALP without benchmarking is unjustified and, given the contractual prohibition on charging commission and factual distinctions from cited precedent, the addition cannot stand. Issue 3 - Whether corporate guarantee falls within shareholder services or is otherwise outside Chapter X (and effect of cost-plus arrangement / proviso to section 92(3)) Legal framework: Transactions between associated enterprises that have bearing on profits, income, losses or assets are within Chapter X; proviso to section 92(3) treats certain intra-group recharges/support arrangements on cost basis for transfer pricing. Precedent treatment: Authorities have recognized instances where shareholder-type activities may not attract separate charge if they are genuine shareholder services or where bank conditions make charging impossible; proviso to section 92(3) can apply to recharges where parties are engaged in pre-arranged support on cost-plus basis. Interpretation and reasoning: The assessee advanced arguments that the guarantee was in the nature of shareholder activity, incurred no cost, and was meant to secure future benefits; also asserted that subsidiary operated as a cost-plus entity so that any recharge would fall under proviso to section 92(3). The Tribunal did not rely on shareholder-activity characterization as the primary ground; instead it rested its decision on the bank's prohibition and the absence of an arm's-length commission under the contractual terms. The Tribunal did not need to determine whether section 92(3) proviso applied since the bank condition alone warranted deletion of the adjustment. Ratio vs. Obiter: Obiter - observations that shareholder services and prospective benefit arguments were not dispositive in light of the bank's contractual restriction; no conclusive ratio on applicability of proviso to section 92(3) was laid down. Conclusion: The question whether the transaction is shareholder activity or falls under proviso to section 92(3) was not decided as necessary; deletion of TP adjustment was directed on the contractual prohibition ground. Issue 4 - Quantum and applicability of disallowance under section 14A read with Rule 8D (limit by exempt income and prospectivity of Finance Act, 2022 amendment) Legal framework: Section 14A disallows expenditure in relation to income not includible in total income; Rule 8D provides formulae to compute the disallowance. Finance Act, 2022 introduced an Explanation altering the law by providing disallowance even where exempt income is nil. Precedent treatment: Supreme Court and High Court precedents have held that disallowance under section 14A cannot exceed the exempt income for the year (pre-amendment). Subsequent decisions have treated the 2022 amendment as prospective, not retrospective, and thereby not applicable to earlier assessment years. Interpretation and reasoning: The Tribunal examined the assessment year's figures (exempt income Rs. 5,70,807; assessee's voluntary disallowance Rs. 4,50,000; AO's disallowance higher at Rs. 46,40,245). Reliance on earlier Tribunal and High Court rulings led the Tribunal to hold that the Finance Act, 2022 amendment is prospective and does not apply to the assessment year under consideration. By applying the pre-amendment jurisprudence, the Tribunal held that the disallowance cannot exceed exempt income and directed restriction of the disallowance to the amount voluntarily disallowed by the assessee (Rs. 4,50,000), deleting the excess disallowance. Ratio vs. Obiter: Ratio - pre-2022 law restricted section 14A disallowance to the amount of exempt income; Finance Act, 2022 amendment is prospective and not applicable to earlier assessment years. Obiter - none significant beyond applying existing precedents. Conclusion: Disallowance under section 14A for the year under consideration is restricted to the exempt income/amount voluntarily disallowed (Rs. 4,50,000); the additional disallowance is deleted and the 2022 amendment held prospective. Overall Conclusion The Tribunal deleted the transfer pricing adjustment for guarantee commission (grounded on the bank's express prohibition on charging commission and the distinguishability of cited precedent) and restricted the section 14A disallowance to the amount commensurate with the exempt income for the assessment year, holding the 2022 amendment prospective; appeal allowed.