Benchmarking interest on rupee-denominated CCDs issued to non-resident affiliate: PLR applies, foreign rates rejected; TP adjustment deleted.

The dominant issue was the appropriate benchmark rate for determining the arm's length price of interest paid on Indian rupee-denominated compulsorily convertible debentures issued to a non-resident AE. The ITAT, applying the ratio in a coordinate bench decision, held that where the CCDs are denominated in Indian currency, benchmarking must be done using domestic prime lending rate (PLR) and not foreign currency benchmarks. Consequently, the TP adjustment/addition made by the AO/TPO on account of ALP of such interest was held to be unjustified and was deleted, and the appeal was allowed.

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1. ISSUES PRESENTED AND CONSIDERED

(i) Whether, for determining the arm's length price of interest paid on compulsorily convertible debentures that are denominated in Indian currency, the benchmarking should be done by applying domestic prime lending rate (PLR) (as against LIBOR or other foreign-currency benchmarks), and whether the consequential transfer pricing adjustment on interest is sustainable.

2. ISSUE-WISE DETAILED ANALYSIS

Issue (i): Benchmark for arm's length interest on INR-denominated CCDs and sustainability of TP adjustment

Legal framework (as discussed in the judgment): The Court proceeded on the basis that the impugned adjustment was made under the transfer pricing provisions for determining arm's length price of an international transaction, specifically the computation of ALP in relation to interest on CCDs under the mechanism involving reference to the transfer pricing authority and corresponding adjustment in assessment.

Interpretation and reasoning: The Court treated the determinative factor as the currency denomination of the CCDs and the related interest payment. It accepted and applied the principle that where CCDs are denominated in Indian currency, the interest payment is to be benchmarked with reference to interest rates prevailing in the domestic market for similar rupee-denominated debt instruments. The Court expressly followed the adopted reasoning that such CCDs cannot be benchmarked on the same footing as foreign currency loans, and that LIBOR-based rates, being reflective of international market rates for foreign currency lending, are not appropriate for benchmarking interest on rupee-denominated CCDs. On that basis, the appropriate benchmark was held to be the PLR.

Conclusions: Applying the above approach, the Court held that interest paid on CCDs denominated in Indian currency must be benchmarked by applying PLR rates. Since the impugned adjustment had been computed without applying this standard, the transfer pricing addition on account of ALP relating to interest on CCDs was held to be unjustified and was deleted.

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