2024 (10) TMI 523 - AT - Income Tax

Disallowance u/s 14A - Assessee made the investment in tax free bonds - as submitted Assessee had sufficient free reserves and interest free capital - HELD THAT - The Supreme Court of India in the case of South Indian Bank Ltd. 2021 (9) TMI 566 - SUPREME COURT has upheld the contention that if the Assessee has sufficient interest free funds, no disallowance under 14A can be made. Moreover, in subsequent AYs 2005-06 to 2007-08 (i.e., until Rule 8D Method for determining amount of expenditure in relation to income not includible in total income of the Rules was introduced), the CIT(A) deleted the ad hoc disallowance under section 14A of the Act made by the learned AO and held in favour of the Assessee (that no disallowance is warranted under section 14A of the Act), and the AO has not filed an appeal against the CIT(A) order on this ground. Without prejudice, the Assessee submitted that the disallowance cannot exceed 1% of the total exempt income earned during the year, as determined by the Tribunal in AY 2002-03 and 2003-04. Thus, consistent with the past precedence, we hold that disallowance of 1% of the total exempt income is justified for the purpose of disallowance u/s 14A. Accordingly, this ground is partly allowed. Depreciation towards the compensation for vacating the premises towards Gillanders - HELD THAT - Here in this case, the Tribunal as noted above has already held that expenditure incurred by the assessee for vacating the premises given to the tenant is business expenditure and allowable as Revenue expenditure as paying compensation to the tenant for vacating premises cannot be capital expenditure. Since ITAT has allowed similar amount as revenue expenditure, therefore, consistent with the same we allow same as revenue expenditure. Accordingly, this ground is allowed in favour of the assessee. Deferred guarantee commission - guarantee commission was received in respect of the period for which the guarantee was issued and assessee had spread the guarantee commission over the period for which it is issued - as stated that under the accrual method of accounting, such commission was required to be spread over the validity period of the guarantee - HELD THAT - We agree with the contention of the assessee that no adjustment is required to be made to the total income in respect of the guarantee commission received in advance, which has been rightly recognized as income over the life of the guarantee and not at the time when the guarantee is issued. The sample copies of the guarantees placed before us evidence that, with respect to big relationship customers, the Bank refunds a portion of the guarantee commission relating to the unexpired period after obtaining special internal approvals if a guarantee were to be revoked before its maturity date. The deferred guarantee commission did not accrue or arise in the year in which guarantee agreements were entered. Accordingly, we hold that the guarantee commission should be spread over the period to which it relates and should not be taxed upfront in the year of receipt. Thus we hold that no adjustment can be be made to its total Income in respect of the guarantee commission received in advance, which is rightly recognized as income over the tenure of the guarantee and not in the year in which the guarantee is issued. This ground is thus allowed. Expenditure incurred on separation/ termination of employees - HELD THAT - We hold that expenditure is fully deductible u/s 37 since the expenditure is incurred wholly and exclusively for its business and the rationalization was not a part of voluntary separation scheme and, as such, was not covered by the provisions of Section 35DDA of the Act. Accordingly, this ground is allowed. Salary to deputed employee for global role - addition of 50 per cent of total salary and perquisites - Ashok Bhatia was employed by HSBC Asia Holdings BV as the Chief Information Officer of India, Middle East and Africa located in the HSBC Software Development Centre, India as deputed to the Indian branch of the Assessee for three years. As a part of his global role, he spent 50 per cent of his time rendering services to the Indian branch of the Assessee and the balance of 50 per cent of time was spent rendering services to the overseas associated enterprise ( AE') of the Assessee - HELD THAT - In view of the fact that Ld. CIT (A) has directed the AO to disallow 50 per cent of the total salary and perquisite, in respect of the perquisite component of the off shore salary, therefore, no disallowance can be made as the said amount has not been claimed as a deduction in the return of income; and secondly we agree with the contention of the Ld AR that the disallowance of 50 per cent of both onshore salary and offshore salary (cash component) should be restricted proportionately to 11 months only and not the entire year. Accordingly, this ground is allowed partly. Salary pertaining to Mr. C. Trench and Mr. Peter E. Davies - It is not in dispute that a nominal time of 3 days and 12 days, respectively, was spent on internal audit work for overseas branches. As a part of their global role in a multinational group, these expatriate employees were required to undertake certain co-ordination work for overseas branches. The Tribunal in the Assessee own case for AY 2002-03 and 2003-04 has held that; These are mere incidental activities carried out by the employees, which acquire group wise liaising and coordination and the same need not be required to be compensated. Given the nominal amount of time spent on the same, the portion of the salary paid to these employees continues to relate to the Assessee's India operations, and that has been claimed as a deduction by the Assessee in its books of accounts, in our opinion ought not to be disallowed. Accordingly this ground of the revenue is dismissed. Expenses incurred for mobilization of deposits from Non-resident Indians (NRIs) - AO held that the expenditure could not be allowed u/s 37 of the Act and should be considered part of head office expenditure under section 44C - HELD THAT - ervices to customers. It is not in the nature of general administration expenses and is also not in the nature of common expenditures allocable to the branches. The expenses incurred and the benefit derived is directly attributable to the Indian branch of the Assessee, and therefore, such expenditure cannot be held to be covered under section 44C of the Act. The Assessee has also furnished the details of expenditure incurred which is duly supported by Independent accountants certificates and expenses statement. We find that, the Tribunal in Assessee's own case (including that of the British Bank of Middle East now merged / amalgamated with the Assessee) from AY 1992-93 to AY 2003-04 has held in favor of the Assessee. Disallowance on increased provision made towards pension fund - Assessee had made a provision towards funding of overall deficit in the pension fund, which has arisen on account of changes in annuity rates as based on an independent actuarial report - HELD THAT - As relying on Surat District Coop. Bank Ltd. 2023 (7) TMI 1448 - ITAT SURAT we allow that a deduction of the said expenditure u/s 37 of the Act as it is not a 'contribution credited to any individual account of any employee', and hence, not covered under the provisions of section 36(1)(iv) of the Act but allowable under section 37 of the Act. TP Adjustment - Correspondent Banking Activity - HELD THAT - The issue is covered in favor of the Assessee by order of the Hon'ble Tribunal in the Assessee's own case for AY 2002-03 and 2003-04 2020 (1) TMI 443 - ITAT MUMBAI wherein the Hon'ble Tribunal has deleted the TP adjustment as there is no international transaction identified by the Ld. TPO, no Associated Enterprises identified by the Ld. TPO, no search process identified by the Ld. TPO, and no comparable identified by the Ld. TPO. Hence, no adjustment on account of corresponding banking activity is warranted. Services provided by employees of the Assessee to overseas' AE's - Respectfully following the above order of the Tribunal in assessee s case 2020 (1) TMI 443 - ITAT MUMBAI AY 2002-03 and 2003-04, we delete the adjustment made by the TPO. Furthermore, the Assessee has voluntarily disallowed a proportionate salary for certain employees in relation to services rendered to foreign AEs. Given the fact that the primary banking transactions have been accepted at ALP, then separately benchmarking the incidental activities is not feasible. As held by the Tribunal, the oversight role provided by the employees at the group level is part of the functions of the employees in a multinational group. These employees (other than Mr Bhatia, who has been dealt with separately) are not functioning on a day-to-day basis for any group entity. Hence, it cannot be considered as a separate international transaction as the liaison and coordination services provided by the employees at the group level cannot be regarded as distinct transactions. Accordingly, this ground is decided in favour of the assessee following the past precedent. Marketing/support services as regards ECB transactions - As original ECB transactions with the associated enterprise have been transfer-priced and accepted at arm's length. Therefore, there cannot be any further attribution towards the said transaction. This finding has not been contradicted by the Revenue. In the subsequent years, the Assessee does not assume any risk nor conduct any services except for the credit appraisals, which the Assessee conducts from time to time for their local business. Marketing of Derivatives Services - Assessee primarily interacts with Indian customers to understand their requirements and communicates this information to the overseas AE. Subsequently, the overseas AE may directly engage in transactions with Indian customers - As Counsel submitted that the actions of the Ld. TPO are contrary to the provisions of the Act and the provisions of transfer pricing. The Ld. TPO has not followed any method and disregarded his own show cause notice and relied upon undisclosed secret comparables in respect of controlled transactions. Thus he submitted that the Ld. CIT (A) findings ought to be upheld, especially since the pricing policy of the Assessee of 30% of the NNBV is a globally accepted practice, followed by the HSBC group. Further, the Ld. TPO has accepted the same in AY 2002- 03 and AY 2003-04. Hence, the CIT (A) order should be upheld and the adjustment deleted. Nature of expenses - Expenditure incurred on separation/ termination of employees - HELD THAT - As the amount has been paid by the Assessee to such employees, representing lump sum compensation on account of separation. Appropriate taxes have been deducted on such amounts paid to employees, and the taxes were deposited to the central government. The details of employees, along with sample copies of the termination letter, were handed over to the Bench during the course of the hearing. The said termination was not part of any Voluntary Retirement Scheme (VRS); hence, the provisions of section 35DDA are not applicable. We have already given our finding in A.Y. 2004-05 and accordingly, in the finding given above, this issue is allowed in favour of the assessee. Addition of overfunding of Employees Gratuity Fund (Income Tax Approved Fund) - HELD THAT - As been submitted that oonce the payment has been made to the employees' gratuity fund and there is no provision in the Trust Deed for refunds, the Assessee neither obtained nor received any amount from the Trust nor has the Trust agreed to refund any amount to the Assessee. Furthermore, by making these payments, the Assessee did not obtain any benefit regarding liability remission or cessation, nor did it write off any liabilities in its accounts. Hence, the unilateral credit to the Profit Loss A/c. did not amount to any cessation of liability that could be taxed. Also it has been submitted that the excess funds have been adjusted against the contribution of liability payable to the gratuity fund in AY 2006-07 - CIT(A) in AY 2006-07 has not allowed the deduction as the same has been allowed in AY 2005-06. If assessee has recongnised the excess contribution as asset in its books and credited to profit and loss account and has been reduced their contribution payable for A.Y. 2006-07 as it was already discharged in A.Y. 2005-06. Then it has been allowed in this year because in A.Y. 2006-07 ld. CIT(A) has not allowed deduction of this amount on the ground that same has been allowed in A.Y. 2005-06. Even if we agree with the ld. AO that it should be disallowed in this year, then the same has to be allowed in A.Y. 2006-07. Decided against revenue. Addition on account of loss on certain security transactions undertaken by the Assessee - HELD THAT - We held that the liability to pay has accrued and quantified in current year and hence the deduction is allowed in this year. Addition on account of interchange income received by the offshore (non-India) branches of the Assessee is to be deleted. Allowance of expenditure to an extent of 5 per cent on adjusted total income - HELD THAT - For the purpose of allowing deduction u/s 44C, the amount equal to 5 per cent of adjusted total income or the expenditure or the amount incurred and attributable to the India branch (i.e., 98,98,69,000) is to be considered. The amount of Rs. 35,36,04,000 debited to the Profit Loss A/c is irrelevant. We do not find any infirmity in the order of the ld. CIT(A) directing to allow expenditure to the extent of 5% of adjusted total income. Accordingly, ground No.10 raised by the Revenue is dismissed. TP Adjustment - interest received from HSBC Bank USA - Assessee maintains an account with HSBC USA denominated in USD, which is used for settling dollar clearance - HELD THAT - The assessee has benchmarked the transaction using CUP method thereby various Indian banks have applied similar services from HSBC USA which have also been incorporated above. Assessee stated that Best Efforts are based on similar marketing conditions and the best effort rate has been lower than the generally committed rates. Thus, assessee is not at disadvantage compared to transaction between HSBC USA and unrelated banks, therefore, we agree with the ld. Counsel that the transaction between the Assessee and HSBC USA is at an arm's length price. The ld. AO has applied ALP at LIBOR 15 basis points based on the borrowing rate of the assessee on a USD loan taken from HSBC London. Such approach is not correct because LIBOR rate cannot be applied on the US loan taken from HSBC USA. The ld. TPO ought to have considered the Fed Fund which is a target interest rate that is fixed by the Federal Open Market Committee ('FOMC') for implementing the USA's monetary policies, plus the relevant geographic market funds is the USA, for which the Fed Fund rate used should be the most appropriate for the purposes of benchmarking rather than taking LIBOR rates. Accordingly, we agree with the contention of the ld. Counsel. Accordingly, we hold the order of the ld. CIT(A) and accordingly, the ground raised by the Revenue is dismissed.

Summary

Issues Involved:

1. Tax-free income and disallowance under Section 14A.
2. Depreciation claims related to tenant compensation.
3. Deferred guarantee commission.
4. Expenditure on employee separation/termination.
5. Salaries of expatriate officers.
6. Expenses for mobilization of NRI deposits.
7. Disallowance of various expenses (canteen subsidy, holiday home subsidy, etc.).
8. Pension fund contribution and overfunding.
9. Transfer pricing adjustments related to correspondent banking activity, services to overseas AEs, ECB transactions, and derivative services.

Detailed Analysis:

1. Tax-Free Income and Disallowance Under Section 14A:

The Assessee claimed tax-free income from interest on bonds and dividends. The AO disallowed a portion of the interest expense under Section 14A, arguing that borrowed funds were used for tax-free investments. However, the ITAT found that the Assessee had sufficient interest-free funds, aligning with the Supreme Court's decision in South Indian Bank Ltd., and thus, disallowance under Section 14A was not warranted. The ITAT upheld a consistent disallowance of 1% of the exempt income based on past decisions.

2. Depreciation Claims Related to Tenant Compensation:

The Assessee's claim for depreciation on compensation paid to tenants for vacating premises was dismissed as infructuous, as the ITAT had already treated such payments as revenue expenditure in prior years. The ITAT allowed the claim as revenue expenditure, consistent with its earlier rulings.

3. Deferred Guarantee Commission:

The ITAT agreed with the Assessee that guarantee commission should be spread over the period of the guarantee, not taxed upfront, following past Tribunal decisions and the Calcutta High Court's ruling in CIT v. Bank of Tokyo.

4. Expenditure on Employee Separation/Termination:

The ITAT ruled that the expenditure on employee separation was deductible under Section 37, as it was not part of a voluntary retirement scheme and thus not covered by Section 35DDA. This decision was consistent with the ITAT's earlier rulings in similar cases.

5. Salaries of Expatriate Officers:

The ITAT found that salaries paid to expatriate officers, who worked exclusively for the Indian operations, were not head office expenses under Section 44C. The Tribunal upheld the Assessee's claim for deduction under Section 37, consistent with its rulings in previous years.

6. Expenses for Mobilization of NRI Deposits:

The ITAT ruled that expenses incurred for mobilizing NRI deposits were not head office expenses and were deductible under Section 37, as they were incurred exclusively for the Indian branch. This decision was consistent with past Tribunal and Bombay High Court rulings.

7. Disallowance of Various Expenses:

The ITAT upheld the Assessee's claim for deductions on expenses related to canteen subsidies, holiday home subsidies, and others, as these were incurred wholly and exclusively for business purposes. The Tribunal followed its previous decisions in the Assessee's favor.

8. Pension Fund Contribution and Overfunding:

The ITAT ruled that contributions to the pension fund, which were not credited to individual employee accounts, were deductible under Section 37, not Section 36(1)(iv). This decision aligned with the Supreme Court's ruling in Sugauli Sugar Works (P) Ltd.

9. Transfer Pricing Adjustments:

- Correspondent Banking Activity: The ITAT deleted the TP adjustment, finding the Assessee's global network beneficial and adequately compensated, consistent with past Tribunal decisions.

- Services to Overseas AEs: The ITAT found that the services provided by the Assessee's employees to overseas AEs were incidental and not separate international transactions requiring benchmarking.

- ECB Transactions: The ITAT upheld the CIT(A)'s decision to delete the TP adjustment, as the Assessee did not assume any risk in these transactions, consistent with earlier Tribunal rulings.

- Derivative Services: The ITAT found the Assessee's remuneration policy of 30% of NNBV consistent with global practices and deleted the TP adjustment, rejecting the TPO's use of secret comparables.

The Tribunal's decisions were largely in favor of the Assessee, following precedents and legal principles established in previous cases.