Latest Transfer Pricing: Finance Ministry Press Release Reg Safe Harbour Rules

The Ministry of Finance has issued a press release stating that the Safe Harbour Rules have been finalized after considering the comments of various stake holders. The significant aspect is that in case of transactions in the nature of routine ITES and ITS activities the earlier ceiling of Rs 100 crore has been removed. Transactions upto Rs. 500 crore have been provided safe harbour margin of 20% and transaction above Rs.500 crore have been provided safe harbour margin of 22%. 

 Similarly, the ceiling of Rs. 100 crore provided for transactions in the nature of corporate guarantee has been removed. Also, the rules provide for a time bound procedure for determination of the eligibility of the assessee and the international transactions. Any rejection of the option exercised by the assessee shall be by way of a reasoned order passed after hearing the assessee. The assessee shall have a right to file an objection with the Commissioner against adverse finding regarding the eligibility. The Commissioner shall thereafter decide about the validity of the option exercised by the assessee.

Sec. 147: Despite Sanction Reopening Void If Satisfaction Not Recorded: ITAT Mumbai

Amarlal Bajaj vs. ACIT (ITAT Mumbai)

S. 147/ 151: Merely writing “approved” in the sanction form without recording satisfaction renders the reopening void
The AO issued a notice u/s 147 and reopened the assessment on the ground that the assessee was the beneficiary of hawala entries in the form of loans, expenses & gifts. He alleged that the assessee had deposited unaccounted cash and received cheques in the form of loans, expenses, gifts. The CIT granted sanction u/s 151 to the reopening by writing the words “approved”. The assessee challenged the reopening on the ground that as satisfaction was not recorded by the CIT the sanction was without application of mind and void. HELD by the Tribunal allowing the appeal:

S. 147 and 148 are a charter to the Revenue to reopen earlier assessments and are, therefore protected by safeguards against unnecessary harassment of the assessee. They are sword for the Revenue and shield for the assessee. S. 151 guards that the sword of S. 147 may not be used unless a superior officer is satisfied that the AO has good and adequate reasons to invoke the provisions of S. 147. The superior authority has to examine the reasons, material or grounds and to judge whether they are sufficient and adequate to the formation of the necessary belief on the part of the assessing officer. If, after applying his mind and also recording his reasons, howsoever briefly, the Commissioner is of the opinion that the AO’s belief is well reasoned and bona fide, he is to accord his sanction to the issue of notice u/s 148 of the Act. In the instant case, we find from the perusal of the order sheet which is on record, the Commissioner has simply put “approved” and signed the report thereby giving sanction to the AO. Nowhere the Commissioner has recorded a satisfaction note not even in brief. Therefore, it cannot be said that the Commissioner has accorded sanction after applying his mind and after recording his satisfaction (Chhugamal Rajpal 79 ITR 603 (SC) & United Electrical Co 258 ITR 317 (Del) followed)

See also The Central India Electric Supply Co Ltd 51 DTR 51 (Del HC)

S. 32: Lease transactions by Banks are in the nature of loans/ advances. Transaction of sale & lease back of railway assets cannot be treated as genuine

State Bank of India vs. DCIT (ITAT Mumbai)

S. 32: Lease transactions by Banks are in the nature of loans/ advances. Transaction of sale & lease back of railway assets cannot be treated as genuine

The assessee, a Bank, entered into a sale and lease back transaction with Konkan Railway Corporation pursuant to which it bought assets like railway tracks, rails, sleepers etc for a consideration of Rs. 25 crore and leased it back for a period of 84 months for a monthly lease rental. The AO & CIT(A) disallowed the claim for depreciation on the ground that the sale and lease back transaction was in the nature of a financial transaction and that it was given the shape of a lease transaction only in order to enable the assessee-bank to claim depreciation and reduce its taxable income. On appeal by the assessee to the Tribunal HELD dismissing the appeal:

The real object of the entering into the sale and lease back transaction so far as Konkan Railway is concerned is to raise funds. The transaction of sale of the asset to the assessee bank and its lease back to Konkan Railway cannot be separated. It was not possible for Konkan Railway to sell out the railway system. Thus, the sale transaction was merely on paper and to facilitate the financial arrangement by the assessee to Konkan Railway without involving any real intention of transfer of the assets. The terms of the lease agreement are only to secure the interest of the bank till the recovery of the full amount along with the interest. The assessee cannot exercise the real and actual ownership over the asset keeping in view the facts and circumstances and nature of the asset in question. Further, under the Banking Regulation Act, 1949 read with RBI circular dated 19.2.1994, banking companies can undertake the activities of equipment leasing but these are required to be treated on par with loans and advances. Therefore, the activity of equipment leasing permitted by the RBI is only in the nature of finance lease. The terms and conditions specified by the RBI for income recognition of lease transactions are also on par with the manner in which a loan transaction is treated. In view of the said circular, there is no scope for treating the instant lease agreement as that of an operating lease (IndusInd Bank 135 ITD 165 (Mum) (SB) followed; ICDS 350 ITR 527 (SC) distinguished on the basis that the lease there was not by a Bank but by a NBFC).

See also Hathway Investments (ITAT Mumbai) where a similar view was taken. But also see Development Credit Bank (ITAT Mum) where a contrary view was taken and it was held that IndusInd Bank 135 ITD 165 (Mum)(SB) is no longer good law following Cosmo Films 338 ITR 266 (Del)

Mumbai ITAT explains distinction between Software supplied with Hardware and otherwise

DDIT vs. Reliance Infocom Ltd/ Lucent Technologies (ITAT Mumbai)

Consideration for supply of software which is not embedded in equipment is taxable as “royalty”

The assessee, Reliance Infocomm Ltd, wanting to establish a wireless telecommunications network in India, entered into a contract with Lucent Technologies for supply of software required for the telecom network. The assessee claimed, relying on Tata Consultancy Services 271 ITR 401 (SC), Ericson AB 343 ITR 370 (Del), Nokia Networks OY 25 taxmann.com 225 & Motorola 270 ITR (AT) (SB) 62, that the amount paid by it to Lucent for acquiring the software was for purchase of a “copyrighted article” and “goods” and that it was not assessable to tax as “royalty” u/s 9(1)(vi) or Article 12(3) of the India-USA DTAA. The claim was upheld by the CIT(A). On appeal by the department to the Tribunal HELD allowing the appeal:

There is a distinction between a case where the software is supplied along with hardware as part of the equipment and there is no separate sale of the software and a case where the software is sold separately. Where the software is an integral part of the supply of equipment, the consideration for that is not assessable as “royalty”. However, in a case where the software is sold separately, the consideration for it is assessable as “royalty”. On facts, the assessee had acquired the software independent of the equipment. It had received a license to use the copyright in the software belonging to the non-resident. The non-resident supplier continued to be the owner of the copyright and all other intellectual property rights. As there was a transfer of the right to use the copyright, the payment made by Reliance to Lucent was “for the use of or the right to use copyright” and constituted “royalty” under s. 9(1)(vi) and Article 12(3) of the India-USA DTAA.

Finance Lease Is A Sham Transaction For Depreciation Claim: ITAT Mumbai

Hathway Investments Pvt. Ltd vs. ACIT (ITAT Mumbai)

S. 32: A finance lease designed as a sale-and-lease back has to be treated as a sham transaction

The assessee, an investment company, bought electric meters from the Gujarat State Electricity Board (GSEB) which were leased back to GSEB simultaneously. The assessee claimed 100% depreciation on the purchase cost of the meters. The AO and CIT(A) rejected the claim on the ground that the circumstances like no physical possession of the meters given etc showed that the transaction of ‘sale and lease-back’ was a “sham” and that it was one merely of giving finance and that the assets were held as a security for the finance given. On appeal by the assessee to the Tribunal HELD:

A distinction between an ‘operating lease’ and a ‘finance lease’ has been made by the Special Bench in IndusInd Bank 135 ITD 165 (Mum) (SB) on the basis of which it can be said that a ‘finance lease’ is a ‘sale’ which is given the colour of a ‘lease’ by the parties for their mutual benefit and to avoid tax. In such transactions, it has to be seen whether the sale transaction is a real transaction or a sham transaction with the object of enabling the alleged purchaser to claim himself as the owner of the goods, which are further claimed to be leased back to the original owner of the goods. In a sham transaction of sale and lease back the ownership of the goods is not transferred to the alleged lessor, but is shown to be done, so as to enable the purchaser to claim ownership for the goods for the purpose of tax relief. On facts, the ‘sale and lease back’ transaction is a sham transaction done with the object to facilitate the benefits of depreciation to a person who otherwise is not eligible to claim the same. The intention of the parties was not that of sale or lease but was a loan transaction. The rates of interest/ rental have been fixed taking into consideration that the equipments are eligible for 100% depreciation and it is provided that if the claim of depreciation is changed, the rental in the shape of interest will accordingly change. Such clauses cannot be a part of any lease agreement but finance agreement only because in a normal lease agreement, the lessee is not concerned as to what benefits are available to the owner/ lessor under the Income-tax Act. The contention that as the transaction is with a State Government undertaking, it would be highly improper to impute any collusiveness or colourable nature of the transaction is misconceived. The argument that there is no bar for the assessee for making tax planning so as to reduce its taxes, provided it is within the framework of the law, is also not acceptable as u/s 23 of the Indian Contract Act, even if the consideration or object of an agreement may not be expressly forbidden by law, but if it is of such a nature that, if permitted, it would defeat the provisions of law, the same will not be lawful. Engaging in sham transactions with the object of reducing tax liability cannot be said to be a case of tax avoidance but is one of tax evasion (ICDS 350 ITR 527 (SC), IndusInd Bank 135 ITD 165 (Mum)(SB) & Development Credit Bank referred)

Contrast with ICDS 350 ITR 527 (SC) where it was held that even a “financier” satisfies the “ownership” & “user” test for depreciation and with Development Credit Bank (ITAT Mumbai) (the AM was common) where it was held that IndusInd Bank 135 ITD 165 (Mum)(SB) is no longer good law

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