ITAT Mumbai rules in favor of assessee on transfer pricing adjustments and business deductions

ITAT Mumbai held in favor of the assessee on multiple transfer pricing and tax issues. The tribunal ruled no TP adjustment was warranted for correspondent banking activities, finding services were reciprocal in nature with no markup required. For marketing support services relating to ECBs, no adjustment was needed as commission income was already accepted at arm's length. The tribunal upheld CIT(A)'s deletion of derivative marketing adjustments and interest benchmarking corrections. Employee separation expenses were allowed as business deductions under section 37. The tribunal partially allowed tax-free income issues, restricting disallowance to 1% of exempt income, and confirmed Nostro account maintenance charges were not subject to TDS provisions.

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Issues Involved:

1. Transfer Pricing Adjustments: Correspondent Banking Activities, Marketing and Support Services, Marketing of Derivatives, Interest from Overseas Branches, Transition Support Services.
2. Domestic Issues: Expenditure on Employee Separation/Termination, Depreciation Claim, Expenses for Mobilization of Deposits, Overfunding of Employee Gratuity and Pension Funds, Provision for Unfunded Pension Liability, Interchange Income, Employee Share Scheme, Tax-Free Income, Canteen and Other Subsidies, Nostro Account Maintenance Charges.

Detailed Analysis:

Transfer Pricing Adjustments:

1. Correspondent Banking Activities:
- The Tribunal addressed the transfer pricing adjustment of Rs. 2,72,81,846/- for Correspondent Banking Activities. The issue, similar to previous years, was resolved by considering that the Indian entity and overseas branches of HSBC derived reciprocal benefits, thus no transfer pricing adjustment was warranted. The Tribunal followed earlier decisions where it was held that no markup should be applied to costs attributed to incidental marketing activities.

2. Marketing and Support Services for External Commercial Borrowings (ECB):
- The adjustment of Rs. 3,49,53,287/- for ECB services was contested. The Tribunal found that the Debt Syndication Fees received were already at arm's length, and HSBC India did not assume risks for continuing ECBs. Thus, no further adjustment was necessary, aligning with prior decisions.

3. Marketing of Derivatives:
- An adjustment of Rs. 7,11,74,284/- was challenged. The Tribunal noted that the derivative contracts were between Indian customers and overseas AEs, with all risks borne by the latter. The Assessee earned a marketing fee of 30% NNBV, which was deemed appropriate, and thus, no further adjustment was justified.

4. Interest from Overseas Branches:
- Interest received from HSBC USA, Hongkong, Singapore, and Japan was reviewed. The Tribunal agreed with the CIT(A) that the transactions were at arm's length, rejecting the application of LIBOR rates by the AO, as the Fed Fund rate was more appropriate for benchmarking.

5. Transition Support Services:
- The Tribunal upheld the use of single-year data by the Transfer Pricing Officer for determining the arm's length markup at 20.47%, dismissing the Assessee's appeal for using multiple-year data.

Domestic Issues:

1. Expenditure on Employee Separation/Termination:
- The Tribunal allowed the deduction of expenses incurred on employee separation under Section 37, as they were not part of a voluntary separation scheme covered by Section 35DDA.

2. Depreciation Claim:
- The claim related to Gillanders Arbuthnot and Company Ltd. was deemed infructuous, as it had been allowed as revenue expenditure.

3. Expenses for Mobilization of Deposits:
- The Tribunal upheld the deletion of additions related to expenses for mobilizing deposits from Non-resident Indians, consistent with earlier decisions.

4. Overfunding of Employee Gratuity and Pension Funds:
- The Tribunal dismissed the revenue's grounds concerning overfunding, following previous rulings that allowed adjustments based on actuarial valuations.

5. Provision for Unfunded Pension Liability:
- The Tribunal noted that the CIT(A) had decided this issue against the Assessee, and the revenue's ground was dismissed as it was already in their favor.

6. Interchange Income:
- The Tribunal upheld the deletion of additions related to interchange income received by offshore branches, following consistent past decisions.

7. Employee Share Scheme:
- The Tribunal followed the decision in HSBC Data Processing Electronic (India) Pvt. Ltd., allowing the Assessee's claim, consistent with the Biocon Limited case.

8. Tax-Free Income:
- The Tribunal directed a 1% disallowance of administrative expenses related to tax-free income, acknowledging sufficient interest-free funds for investments.

9. Canteen and Other Subsidies:
- The Tribunal upheld the deletion of disallowances related to canteen and other subsidies, consistent with past rulings.

10. Nostro Account Maintenance Charges:
- The Tribunal confirmed that these charges were not subject to tax deduction at source, aligning with prior decisions that classified them as bank charges not requiring TDS.

In conclusion, the appeals were partly allowed, with the Tribunal largely following precedent cases and upholding the CIT(A)'s decisions. The additional ground regarding the validity of the assessment was dismissed as not pressed.

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