Mumbai ITAT: Taxpayer should charge interest on loan given to non resident AEs

In its recent judgment in the case of M/s Tata Autocomp Systems Ltd. vs. ACIT Mumbai bench of Income Tax Appellate Tribunal (‘Mumbai ITAT’) observed that the lending or borrowing money between two associated enterprises comes within the ambit of international transaction and taxpayer should charge interest from its non resident associated enterprise.

Facts of the case:

The taxpayer is a company, involved in the manufacturing of indoor plastic, rendering engineering services, supply chain management services and administrative support for joint venture companies. In order to have better supply chain management and relationship with the customer in Europe, the taxpayer established a manufacturing company TACO Kunstsofftechnik GMBH (‘TKT’) in Germany. During the year under review, in order to assist TKT during start-up phase and because of commercial expediency, the taxpayer granted the interest free loan to TKT.

The case was referred to the transfer pricing officer (‘TPO’). The TPO rejected the interest free pricing of the transaction and re-computed the arm’s length price by considering lending rate equal to 10.25 % based on loans received by the taxpayer from Indian banks. The taxpayer took an alternative stand before the TPO, without prejudice to the its stand of interest free loan, that even if interest isto be charged on the interest free loan provided by the Assessee to TKT, the same should berestricted to 4.15% which is the rate specified in the benchmarking exercise conducted by theassessee for ascertaining the arm's length interest rate.

The taxpayer filed an appeal before the Dispute Resolution Panel (‘DRP’) against the order of the TPO. On review of the appeal, The DRP upheld the order of TPO but arrived at 12% rate ofinterest and directed the AO to recalculate the adjustment adopting rate of interest at 12% perannum instead of the calculation at 10.25% in the TPO's order.

Against the directions issued by the DRP, the taxpayer filed an appeal with the ITAT. The observation of the same are given below

Observations of Mumbai ITAT:

• Interest free loan extended to the associated concerns as at arm's length lending or borrowing money between two associated enterprises comes within the ambit of international transaction and whether the same is at arm’s length price has to be considered.
• The fact that the loan has the RBI's approval does not put a seal of approval on the true character of the transaction from the perspective of transfer pricing regulation as the substance of the transaction has to be judged as to whether the transaction is at arm’s length or not.
• Relying upon the judgment in the cases of DCIT v. M/s Tech Mahindra Ltd.(Mumbai Tribunal) and M/s Siva Industries & Holdings Ltd. v. ACIT ( (Chennai Tribunal), the tribunal ruled that the claim of the taxpayer to adopt EURIBOR rate as stated before the TPO is reasonable and deserves to be accepted. And also observed that the rate of interest to be used for benchmarking shall be the rate of interest in respect of the currency in which the underlying transaction has taken place in consideration of economic and commercial factors around the specific currency denominated interest rate.

Our Comments:

Judgement is in line with the well recognised arm’s length principle and also reinforces the pricing principle that for foreign currency loan one should not consider Indian currency loan rate. 

Happy Reading

CA Gaurav Garg

CA Parul Mittal

JGarg Economic Advisors Pvt. Ltd.

New Delhi, India

+91 98999 94934

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