Tega India ("the taxpayer") had set up Tega Investment
Ltd., Bahamas, an associated enterprise ("AE")
("TIL") as a special purpose vehicle for undertaking
acquisition of Beruc equipment Pty Limited and Bentod Manufacturing
Limited. In order to acquire the aforementioned companies,
the taxpayer provided a interest free shareholder loan to TIL and a
corporate guarantee to ICICI Bank UK to fund the taxpayer's AE
(i.e. TIL). The Transfer Pricing Officer ("TPO"),
during the assessment proceedings, proposed upward adjustment by
levying interest on interest free loan advanced by taxpayer to its
AE and determining a charge @2.5% towards the for providing
Aggrieved, the taxpayer challenged the orders of the TPO before
the Dispute Resolution Panel ("DRP"). The DRP
upheld the orders of the TPO. Subsequently, the taxpayer
challenged the actions of DRP before Income Tax Appellant Tribunal
The Tribunal's Ruling
1 On interest free inter-Corporate loan
contentions: The taxpayer contended that it
had benchmarked the captioned transaction using Comparable
Uncontrolled Prices ("CUP") method and determined the
interest rate of LIBOR plus 100 bps as the arm's length rate
("ALP"). The taxpayer suo-moto offered to tax such
notional income on interest free loan to TIL and to its other
AEs. However, the TPO, by downgrading the credit rating of
the Australian and US AEs of the taxpayer, arrived at 300 bps as
credit spread to make TP adjustment. The taxpayer argued that
the loan was provided as a substitute to equity funding to TIL for
furthering its own intent of acquiring the two South African
entities and hence, it should be classified as loan
performing shareholder function, thus, warranting no
charge. The Taxpayer reiterated the fact that it never had an
expectation to earn interest income from its subsidiary but to
benefit itself. The taxpayer further stated that the funds
were provided as a means to mitigate its own risks vis-à-vis
infusion of additional funds in the form of equity and hence they
were quasi- equity in nature.
The Tribunal's Findings: The ITAT
agreed that the loan was advanced by the taxpayer to its subsidiary
company on account of commercial expediency i.e. in order to expand
its business globally. Also, since TIL had a low capital,
therefore, without injecting funds, it was not possible for it to
run the business for benefit of the taxpayer. The Tribunal
also found merit in taxpayer's submissions and pointed out that
the loan granted was indeed a kind of quasi-equity.
The ITAT further stated that the mechanism adopted by TPO to
determine the credit rating of the taxpayer and its AEs is
erroneous and held that the captioned issue required fresh
examination. Accordingly, the matter was restored to TPO in
order to determine the ALP of the loan.
2 On Corporate Guarantee
The taxpayer's contentions: The
taxpayer ingeminated that his expectations from the corporate
guarantee provided were never to earn a guarantee fee but to
benefit itself. This was evident from the skewed debt-equity
ratio of TIL since no other independent entity would have lent any
funds to it. Thus, it was clear that the intent of the
taxpayer was that of the investor and not that of a lender.
The Tribunal's Findings: The
Tribunal was completely in agreement with the taxpayer's
contentions and stated that the taxpayer opted for providing a
guarantee tête-à-tête blocking its own funds to
facilitate furtherance of its own business and get return in terms
of appreciation in value and dividends. The ITAT also
supported the taxpayer relying on judicial precedents wherein it
was held that corporate guarantee by an Indian entity to its
overseas subsidiary is a shareholder's activity and hence, no
TP adjustment is required. Based thereon, the ITAT ordered to
delete TP addition on account of subject
ITAT ruling confirms that providing corporate guarantee in
respect of a loan extended to an AE cannot be covered under the
ambit of TP provisions without placing emphasis upon the aim of the
guarantor. If the intent of the taxpayer is furtherance of
his own business objective, it will be wise to classify it as a
Source: Tega Industries Ltd. Vs DCIT
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