2019 (10) TMI 987 - AT - Income Tax

Disallowance u/s. 14A - HELD THAT - AO has not recorded any satisfaction as to why there shall be any expenditure for earning dividend income more so when the assessee has received 99% of its dividend income only from its group Company Reliance Industries Limited. Therefore, what could have been disallowed was only that part of expenditure attributable for earning the dividend income only out of administrative expenses. The direct expenses incurred for earning dividend income i.e. demat charges were already disallowed by the Assessing Officer. The Assessing Officer has not given any justification and satisfaction for invoking the provisions of Rule 8D but applied mechanically Assessing Officer shall find out the expenditure attributable for earning exempt income with reference to the submissions made by the assessee that it has not incurred any expenditure for earning dividend income. The assessee shall furnish the necessary details of expenditure incurred as the assessee itself admits that a very small quantum of expenditure can be attributable the general administrative expenditure and in the absence of any suomoto disallowance by the assessee. This issue is restored to the file of the assessing officer for re-quantification of disallowance only from out of general administrative expenditure where a decision making has happened for making investments. We also direct the Assessing Officer to exclude investments on which no exempt income was earned following the decision of ACIT v. Vireet Investments Private Limited 2017 (6) TMI 1124 - ITAT DELHI . We also direct the Assessing Officer to exclude investment in Foreign Companies income from which is taxable and they should be excluded while calculating the average value of investments. This ground is partly allowed. Disallowance made u/s. 35(2AB) OR 37(1) - Assessee claimed to have incurred an expenditure for in-house research facility - HELD THAT - As observed from the Assessment Order that the assessee in the course of the assessment proceedings vide letter dated 17.01.2011 revised its claim u/s. 35(2AB) of the Act and assessee itself claimed expenditure on clinical trials u/s. 37(1) we allow the claim of the assessee that the said expenditure should be allowed u/s. 37 of the Act - identical issue arouse for the A.Y. 2007-08 and the Tribunal allowed the alternative claim of the assessee that expenditure incurred on clinical trials outside the in-house facility of the assessee is allowable as deduction u/s. 37(1). Thus, the Assessing Officer is directed to allow this expenditure u/s. 37 (1) of the Act. This Ground is allowed. Transfer pricing adjustment - determining arm s length interest chargeable in respect of interest free loan advanced - CIT(A) failed to appreciate that no interest was charged on the above referred loan since the same loan was an optionally convertible into share capital at a fair value to be determined at the time of Conversion - HELD THAT - It is an undisputed fact that the assessee advanced optionally convertible loans to its AE i.e. RLSI. It is not in dispute that the OCL has been converted into Equity in subsequent years before the due date and before the prescribed date as agreed in the agreement. Assessee has charged no interest on OCL for the reason that RLSI was setup for developing global business opportunities in the field of pharmaceutical and bio-pharmaceutical, clinical research services and research and development activities. The assessee intended to fulfill its own objective of gaining majority control in such overseas acquisitions made through AE, for this reason assessee did not charged any interest on the investment made in its AE in the form of OCL. We also observe that as on 31.03.2011 RLSI has converted the entire loan amount outstanding in its books into paid in equity capital and this can be verified from the CPA certificate TPO while charging interest at the rate of 6% compared another AE of the assessee namely RLSBV which is a controlled transaction with that of the RLSI for benchmarking the transaction. Following the decisions of the Hon ble Bombay High Court in the case of the CIT v. Lever India Exports Ltd . 2017 (2) TMI 120 - BOMBAY HIGH COURT and CIT v. Merck Ltd. 2016 (8) TMI 561 - BOMBAY HIGH COURT , we hold that arm s length price cannot be determined on the basis of another controlled transaction as was done by the TPO. Therefore, respectfully following the above decisions, we hold that no interest ought to have charged on the OCL advanced to payee RLSI and thus we direct the Assessing Officer to delete the adjustment made towards interest. Interest charged on the amount paid towards subscription to share capital of AE s - HELD THAT - The TPO has recharectersied the transaction of investment of preference shares into loan which is not permissible in view of the judgments of the Hon ble Bombay High Court in M/S. CONCENTRIX SERVICES (I) PVT. LTD. 2019 (10) TMI 760 - BOMBAY HIGH COURT . Thus, respectfully following the above decisions, we direct the Assessing Officer to delete the adjustment made towards interest on subscription to share capital of AE s. Determining the arm s length price of net interest chargeable in respect of outstanding balances of the AE M/s. Reliance Genemedix RGMX - Non charging interest from both AE's and non-AE'S for the outstanding receivables - HELD THAT - Assessee has not charged any interest on its receivables from non-AE's i.e. third party business transactions. Assessee has not paid any interest on payables to non-AE's. Further, we observe during the year under consideration assessee has neither charged interest on its receivable nor has paid any interest on its payables to its AE RGMX. Therefore, we observe that there is complete uniformity in the act of the assessee in not charging interest from both AE's and non-AE'S for the outstanding receivables. In such circumstances the ratios of the above decisions relied on by the assessee are squarely applicable to the facts of assessee. Thus, we hold that no interest can be charged on amounts due from AE RGMX and consequently the adjustment made by the TPO is directed to be deleted. This ground of appeal is allowed.

Summary

Issues Involved:
1. Disallowance under Section 14A of the Income Tax Act.
2. Disallowance under Section 35(2AB) of the Income Tax Act.
3. Transfer pricing adjustment regarding interest-free loans to associated enterprises (AEs).
4. Transfer pricing adjustment regarding subscription to share capital of AEs treated as deemed loans.
5. Transfer pricing adjustment regarding outstanding balances with AEs.

Issue-wise Detailed Analysis:

1. Disallowance under Section 14A of the Income Tax Act:
The Assessing Officer (AO) disallowed ?3,36,78,061 under Section 14A read with Rule 8D, which was sustained by the CIT(A). The AO did not record any satisfaction for invoking Rule 8D, and the disallowance was made mechanically. The Tribunal observed that 99% of the dividend income was from group companies, and no expenditure was incurred for earning this income. The Tribunal directed the AO to re-quantify the disallowance only from general administrative expenses and exclude investments on which no exempt income was earned, following the decision in ACIT v. Vireet Investments Private Limited.

2. Disallowance under Section 35(2AB) of the Income Tax Act:
The AO disallowed ?49,24,573 incurred on clinical trials outside the R&D facilities, which was claimed under Section 35(2AB). The CIT(A) sustained the disallowance. The Tribunal, following the decision in CIT v. Cadila Healthcare Ltd., allowed the alternative claim under Section 37(1) as the expenditure was revenue in nature and not capital.

3. Transfer Pricing Adjustment Regarding Interest-Free Loans to AEs:
The AO, based on the Transfer Pricing Officer (TPO)'s recommendation, made an adjustment of ?1,75,70,642 for interest-free loans to Reliance Life Sciences Inc. (RLSI) by applying a 6% interest rate. The Tribunal observed that the loan was optionally convertible into equity and was converted into equity before the due date. The Tribunal held that no interest should be imputed as the transaction was quasi-capital and not a routine loan. The Tribunal also noted that benchmarking against another controlled transaction was inappropriate.

4. Transfer Pricing Adjustment Regarding Subscription to Share Capital of AEs Treated as Deemed Loans:
The AO treated the subscription to share capital of RLSI and RLSBV as deemed loans and charged interest, which was sustained by the CIT(A). The Tribunal held that recharacterization of the transaction was not permissible, following the decisions in DIT v. Besix Kier Dabhol SA and Pr CIT v. Aegis Ltd. The Tribunal directed the AO to delete the adjustment.

5. Transfer Pricing Adjustment Regarding Outstanding Balances with AEs:
The AO treated outstanding balances with Reliance Genemedix (RGMX) as loans and charged interest at 12% p.a., which was sustained by the CIT(A). The Tribunal observed that the assessee had a consistent policy of not charging interest on receivables/payables from both AEs and non-AEs. Following the decisions in CIT v. Indo American Jewellery Ltd. and CIT v. Livingstones, the Tribunal held that no interest should be charged on outstanding balances with AEs and directed the AO to delete the adjustment.

Conclusion:
The Tribunal allowed the appeals partly, directing the AO to re-quantify disallowances and delete certain adjustments, emphasizing adherence to legal principles and established precedents.