Power purchase agreement fixed capacity charges in power generation receipts held eligible for s.80IA deduction; appeal dismissed

Deduction under s.80IA was denied by the AO to the extent receipts comprised fixed cost charges under a power purchase agreement (PPA), on the premise that only profits from actual generation/supply qualify. The ITAT held that where the undertaking's sole business is generation of electricity, all receipts inextricably linked to assured capacity and supply obligations under the PPA, including annual fixed charges and related variable charges, are "derived from the business" of generation and supply; non-correlation with actual offtake cannot restrict the deduction. The Revenue's plea that the PPA was a colourable device attracting s.80IA(10) failed because the specified domestic transactions were accepted at arm's length and the PPA had been accepted in earlier years. Revenue appeal dismissed.

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ISSUES PRESENTED AND CONSIDERED

1. Whether receipts under long-term power purchase arrangements, including annual fixed/capacity charges recovered from buyers irrespective of actual off-take in the year, constitute profits "derived from" the eligible business of generation and supply of electricity for purposes of deduction under section 80IA(4).

2. Whether section 80IA(10) could be invoked to deny or restrict section 80IA deduction on the basis that the arrangement with closely connected buyers yielded "more than ordinary profits" or was a "colourable device", where the same transactions were subjected to specified domestic transaction transfer pricing and were accepted at arm's length price under section 92CA(3).

ISSUE-WISE DETAILED ANALYSIS

Issue 1: Eligibility of annual fixed/capacity charges under the PPA as profits "derived from" the eligible business for section 80IA

Legal framework (as discussed by the Court): The Court examined section 80IA(1) read with section 80IA(4)(iv) requiring that deduction be available on "profits and gains derived" by an eligible undertaking "from any business" of generation or generation and distribution of power. The Court focused on whether the receipts had a close and direct nexus with the eligible business.

Interpretation and reasoning: The Court held that the assessee's sole business was generation and supply of electricity and it earned revenue under a continuing long-term PPA that allocated capacity to buyers and provided for recovery of annual fixed charges (including return on equity, interest, depreciation, and O&M) based on allocated capacity, with variable charges linked to fuel sourcing circumstances. The Court accepted that fixed charges were part of the tariff mechanism tied to keeping the plant in a state of readiness and providing assured supply capacity, and that such recovery was aligned with industry practice and consistent with the regulatory tariff structure referred to in the record. The Court rejected the proposition that deduction must be confined only to profits strictly corresponding to actual units supplied in the year; the mismatch between off-take and revenue under the agreed tariff structure did not sever the nexus with the eligible business.

Conclusions: Entire receipts towards annual fixed charges under the PPA were held to emanate from, and be "derived from", the business of generation and supply of electricity; consequently, the related profits qualified for deduction under section 80IA.

Issue 2: Applicability of section 80IA(10) (close connection/more than ordinary profits/colourable device) in light of transfer pricing determination of ALP for specified domestic transactions

Legal framework (as discussed by the Court): The Court examined section 80IA(10) permitting recomputation of profits where, due to close connection and business arrangement, the assessee earns more than ordinary profits. The Court also noted that from the relevant year, specified domestic transactions covering transactions referred to in section 80IA(10) were subjected to transfer pricing, and a proviso to section 80IA(10) required the "more than ordinary profits" comparison to be made having regard to arm's length price as defined for transfer pricing purposes.

Interpretation and reasoning: The Court found it undisputed that the assessee's specified domestic transactions for sale of power/charges to associated entities were referred to the Transfer Pricing Officer and, after examination, were accepted at arm's length price with no adjustment. In these circumstances, the Court held that invoking section 80IA(10) to dislodge or deny the deduction on allegations of excess profits or a colourable device could not be sustained, because the statutory mechanism for testing "ordinary" versus "excess" profits in such related-party arrangements stood addressed through the ALP determination. The Court also considered that the PPA terms remained unchanged from earlier years in which similar claims were allowed, reinforcing that the arrangement could not be treated as a sham on the same facts.

Conclusions: Section 80IA(10) was held not to justify denial or restriction of deduction where the relevant specified domestic transactions were accepted to be at arm's length price under section 92CA(3); allegations of colourable device/excess profits failed on the Court's findings. The disallowance was therefore not sustainable and the deduction under section 80IA was to be allowed.

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