M/s Embassy One Developers Private Limited , Bangalore V. Deputy Commissioner of Income Tax Central Circle-2(2), Bangalore

ITA 2239/BANG/2018

• Counselvise Citation: [2020] 110 COUNSELVISE.COM (IT) 2712 (ITAT-BANGALORE)
• Duration Of Justice: 2 year(s) 4 month(s) 3 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 26-11-2020
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: A
• Next Hearing Date: 25-11-2020
• Assessment Year: 2009-2010
• Appeal Filed On: 23-07-2018
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Keywords: Transfer pricing; Search and seizure; Double taxation relief; Opportunity of being heard; International transaction; Date of conversion; Initiation of penalty proceedings; Revenue expenditure; Capital expenditure
• Section: 271(1)(c); 36 (1) (iii); 13; 92CA; 37; 90

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL A BENCH : BANGALORE BEFORE SHRI N. V. VASUDEVAN, VICE PRESIDENT AND SHRI CHANDRA POOJARI , ACCOUNTANT MEMBER ITA NO S . 223 9 AND 2240 /BANG/201 8 ASSESSMENT YEARS : 2009-10, 2010-11 M/S. EMBASSY ONE DEVELOPERS PVT. LTD., LEVEL-4, NO.9, BELLARY ROAD, BENGALURU 560 032. PAN : A ADCE 8281 F VS. DEPUTY COMMISSIONER OF INCOME TAX, CENTRAL CIRCLE 2(2), BENGALURU . APPELLANT RESPONDENT ASSESSEE BY : SHRI. AJAY ROTTI , C A REVENUE BY : SHRI . KANNAN NARAYANAN , J CIT (DR)(ITAT), BENGALURU DATE OF HEARING : 25 . 1 1 .20 20 DATE OF PRONOUNCEMENT : 26.11.2020 O R D E R PER CHANDRA POOJARI, ACCOUNTANT MEMBER THESE TWO APPEALS BY THE ASSESSEE DIRECTED AGAINST THE DIFFERENT ORDERS OF LEARNED CIT(A) FOR THE ASSESSMENT YEAR 2009-10 AND 2010-11. THESE APPEALS ARE HEARD TOGETHER AND DISPOSED OFF TOGETHER BY THIS COMMON ORDER FOR THE SAKE OF CONVENIENCE. THE GROUNDS ARE SAME, THERE IS ONLY CHANGE IN THE FIGURES. WE WILL CONSIDER THE GROUNDS IN ITA NO.2239/BANG/2018 WHICH READS AS FOLLOWS: 1. THE ORDERS OF HON'BLE COMMISSIONER OF INCOME TAX (APPEALS) 11 [LD. CIT(A)] AND THE DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE -2(2) ('LD. AO') ARE BASED ON INCORRECT INTERPRETATION OF LAW AND THEREFORE BAD IN LAW. ITA NOS.2239 AND 2240/BANG/2018 PAGE 2 OF 16 2. THE LD. AO HAS ERRED IN LAW BY REFERRING THE TRANSACTION TO THE DEPUTY COMMISSIONER OF INCOME TAX (TRANSFER PRICING OFFICER) IV ('LD. TPO') WHICH DOES NOT HAVE ANY BEARING ON THE TAXABILITY OF THE INCOME FOR THE RELEVANT AY. 3. DISALLOWANCE OF CAPITALISATION OF INTEREST EXPENDITURE ON CCDS 3.1. THE LD. TPO HAS ERRED IN LAW BY RECHARACTERISING THE CCDS INTO EQUITY SHARES SINCE A TRANSFER PRICING OFFICER ('TPO') DOES NOT HAVE POWERS UNDER THE ACT TO RECHARACTERISE ANY INTERNATIONAL TRANSACTION AND HAS FURTHER ERRED IN LAW BY NOT PROVIDING AN OPPORTUNITY TO THE APPELLANT BEFORE RECHARACTERISING THE COMPULSORILY CONVERTIBLE DEBENTURES (`CCDS') AS EQUITY SHARES AND THEREFORE THE ORDERS OF LD. TPO AND LD. AO ARE BAD IN LAW. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 3.2 THE LD. AO AND LD. TPO HAVE ERRED IN LAW BY RECHARACTERISING THE TRANSACTION RELATING TO COMPULSORILY CONVERTIBLE DEBENTURES ('CCDS') ISSUED BY APPELLANT TO ITS ASSOCIATED ENTERPRISE ('AE') AS EQUITY AND THEREBY NOT ALLOWING INTEREST PAYMENT ON SUCH CODS AS EXPENDITURE. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 3.3. THE LD. AO AND LD. TPO HAVE ERRED IN LAW BY NOT APPRECIATING THAT THE THIN CAPITALISATION RULES ARE NOT PRESENT IN THE INCOME-TAX ACT, 1961 (ACT') FOR THE YEAR IN QUESTION TO DENY ANY INTEREST EXPENDITURE ON DEBT AND TREAT THE DEBT AS EQUITY. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 3.4 THE LD. AO AND LD. TPO HAVE ERRED IN LAW BY NOT APPRECIATING THAT CCDS TILL THE DATE OF CONVERSION IS DEBT INSTRUMENT FOR THE PURPOSE OF THE ACT. 3.5 THE LD. AO, LD. TPO AND LD. CIT(A) HAVE ERRED IN LAW IN APPLYING THE PROVISIONS OF THE FOREIGN EXCHANGE MANAGEMENT ACT, 1999 ('FEMA') AND FOREIGN DIRECT INVESTMENT ('FDI') REGULATIONS WITH RESPECT TO CCDS FOR THE PURPOSE OF ACT. 3.6 THE LD. AO AND LD. TPO HAVE ERRED IN LAW BY HOLDING THAT THE APPELLANT WAS JUSTIFIED IN NOT CLAIMING THE INTEREST EXPENSE AS A DEDUCTION IN THE COMPUTATION OF TOTAL INCOME WITHOUT APPRECIATING THAT THE EXPENSE WAS CAPITALISED BY THE APPELLANT IN ACCORDANCE WITH THE APPLICABLE ACCOUNTING STANDARDS. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 3.7 THE LD. AO AND LD. TPO HAVE ERRED IN LAW BY DISALLOWING THE CAPITALISATION OF INTEREST EXPENDITURE ON CCDS ISSUED BY THE APPELLANT AND DENYING THE CLAIM OF ANY EXPENDITURE OR DEDUCTION ITA NOS.2239 AND 2240/BANG/2018 PAGE 3 OF 16 AGAINST SUCH CAPITALISATION IN FUTURE YEARS. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AOL LD. TPO. 4. DETERMINATION OF ARM'S LENGTH PRICE BY THE LD. TPO 4.1 THE LD. AO AND LD. TPO HAVE ERRED IN LAW AND FACTS BY NOT ACCEPTING THE ECONOMIC ANALYSIS UNDERTAKEN BY APPELLANT IN ACCORDANCE WITH THE PROVISIONS OF THE ACT READ WITH THE INCOME TAX RULES, 1962 (`RULES'), IN CONNECTION WITH THE IMPUGNED INTERNATIONAL TRANSACTION AND HOLDING THAT THE APPELLANT'S INTERNATIONAL TRANSACTION IS NOT AT ARM'S LENGTH. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 4.2 THE LD. AO AND LD. TPO HAVE ERRED IN LAW AND FACTS BY REJECTING THE USE OF MULTIPLE YEAR DATA OF COMPARABLE COMPANIES BY THE APPELLANT FOR DETERMINING THE ARM'S LENGTH PRICE. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AO/ LD. TPO. 4.3 THE LD. AO AND LD. TPO HAVE ERRED IN LAW AND FACTS BY REJECTING COMPARABLE IDENTIFIED BY THE APPELLANT FOR COMPUTING THE ARM'S LENGTH PRICE. THE HON'BLE CIT(A) ERRED IN UPHOLDING THE ACTIONS OF THE LD. AOL LD. TPO. 4.4 THE LD. TPO HAS ERRED IN LAW AND FACT BY NOT UNDERTAKING AN OBJECTIVE ANALYSIS FOR IDENTIFYING THE COMPARABLE TRANSACTION AND CONCLUDING THE ARM'S LENGTH PRICE FOR THE INTERNATIONAL TRANSACTION ENTERED BY AE TO BE NIL. 5. INITIATION OF PENALTY PROCEEDINGS UNDER SECTION 271(1)(C) OF THE ACT 5.1 ON THE FACTS AND IN THE CIRCUMSTANCES OF THE CASE AND IN LAW, THE LD. AO HAS ERRED IN INITIATING PENALTY PROCEEDINGS UNDER SECTION 271(1)(C) OF THE ACT. 6. RELIEF 6 1. THE APPELLANT PRAYS THAT DIRECTIONS BE GIVEN TO GRANT ALL SUCH RELIEF ARISING FROM THE PRECEDING GROUNDS AS ALSO ALL RELIEFS CONSEQUENTIAL THERETO. THE APPELLANT CRAVES LEAVE TO ADD TO OR ALTER, BY DELETION, SUBSTITUTION OR OTHERWISE, ANY OR ALL OF THE ABOVE GROUNDS OF APPEAL, AT ANY TIME BEFORE OR DURING THE HEARING OF THE APPEAL 2. THE FACTS RELATING TO ASSESSMENT YEAR 2009-10 ARE THE ASSESSEE HAS INCURRED AN EXPENDITURE OF RS.21,26,25,004/- BY WAY OF INTEREST ON ITA NOS.2239 AND 2240/BANG/2018 PAGE 4 OF 16 RS. 13,50,00,000/- COMPULSORILY CONVERTIBLE DEBENTURES (CCD'S) WITH A FACE VALUE OF RS.10/- EACH ISSUED TO GREEN BANATELIS LTD, CYPRUS. THIS BEING IN THE NATURE OF AN INTERNATIONAL TRANSACTION, THE AO REFERRED THE ISSUE TO THE TPO, WHO IN HIS REPORT RELYING UPON THE REGULATIONS CONTAINED IN FOREIGN EXCHANGE MANAGEMENT ACT (FEM) TREATED CCD'S AS FOREIGN DIRECT INVESTMENT (FDI). FURTHER, THE TPO IN PASSING HIS ORDER U/S 92CA HAS, APART FROM CONSIDERING THE FACTS OF THE CASE IN DETAIL, HAS RELIED UPON THE RESERVE BANK OF INDIA (RBI) POLICY ISSUED IN 2007 WHICH LAID DOWN THAT FULLY AND MANDATORILY CONVERTIBLE INSTRUMENTS ARE TO BE CONSIDERED AS FDI. THE TPO HAS CONCLUDED IN HIS ORDER THAT THE AMOUNT OF INTEREST ON CCD'S ARE NOT TO BE TREATED AS AN EXPENDITURE AT ALL AND THAT THE SAME IS NEITHER A REVENUE EXPENDITURE AND NOR IS IT A CAPITAL EXPENDITURE AND CAPITALIZATION IN THE BOOKS OF ACCOUNTS BY THE ASSESSEE IS WRONG. THE AO HAS FOLLOWED THE TPO ORDER AND HAS DISALLOWED CAPITALIZATION OF INTEREST ON CCD'S AND FRAMED THE ASSESSMENT ORDER ACCORDINGLY. AGGRIEVED BY THE SAME THE APPELLANT IS IN APPEAL. THE ASSESSEE IN DEFENSE OF ITS CLAIM FOR CAPITALIZATION HAS URGED THAT THE RBI POLICY CANNOT AND SHOULD NOT DETERMINE THE TREATMENT OF PAYMENT OF INTEREST ON CCD'S IN INCOME TAX PROCEEDINGS AND THE TPO AND CONSEQUENTLY THE AO HAVE ERRED IN DISALLOWING THE CAPITALIZATION OF INTEREST. THE ASSESSEE URGES THAT THE PAYMENT MADE IS TO BE CAPITALIZED AS HAS CORRECTLY BEEN DONE BY IT AND ANY OTHER TREATMENT IN, OPPOSED TO LAW. 3. AFTER HEARING BOTH THE PARTIES, WE ARE OF THE OPINION THAT SIMILAR ISSUE WAS CONSIDERED BY THIS CO-ORDINATE BENCH OF THE TRIBUNAL IN IT(TP)A NO.2060/BANG/2016 AND OTHERS IN THE CASE OF M/S. CAE FLIGHT TRAINING (INDIA) PVT. LTD., VIDE ORDER DATED 25.07.2019, WHEREIN THEY HAVE FOLLOWED THE TRIBUNAL ORDER OF THE MUMBAI BENCH BESIX KIER DBHOL, SA VS. DDIT AS REPORTED IN 131 ITD 299 IN PAGE 39 AND OBSERVED THAT AS UNDER: ITA NOS.2239 AND 2240/BANG/2018 PAGE 5 OF 16 22. AS PER ABOVE PARA, IT IS NOTED THAT IT IS NOTED BY CIT (A) THAT AS PER THE TRIBUNAL ORDER OF MUMBAI BENCH RENDERED IN THE CASE OF BESIX KIER DABHOL, SA VS. DDIT AS REPORTED IN 131 ITD 299 IN WHICH THE ISSUE WAS DECIDED IN FAVOUR OF THE ASSESSEE ON THIS BASIS THAT IN THE ABSENCE OF SPECIFIC THIN CAPITALIZATION RULES IN INDIA, RECHARACTERIZATION OF DEBT CAPITAL AS EQUITY CAPITAL AND DISREGARDING OF INTEREST IS NOT IN ORDER. WE REPRODUCE THE RELEVANT PARAS OF THIS TRIBUNAL ORDER I.E. PARA 18 TO 30. 18. THAT TAKES US TO OBJECTION OF THE REVENUE AUTHORITIES TO THE EFFECT THAT THE BORROWINGS BY THE ASSESSEE, ON WHICH INTEREST HAS BEEN CLAIMED AS DEDUCTION, ARE IN FACT PART OF THE CAPITAL OF THE ASSESSEE WHICH IS BROUGHT IN THE GARB OF BORROWINGS PURELY ON TAX CONSIDERATIONS. OUR ATTENTION IS POINTED OUT TO THE FACT THE RATIO OF DEBT TO THE EQUITY IS 248 : 1 WHICH IS UNUSUALLY HIGH BY ANY STANDARD AND THAT SUCH A HIGHLY GEARED COMPANY ONLY SHOWS THAT EQUITY IS BROUGHT IN THE GARB OF DEBT, AND IT IS CONTENDED THAT SINCE WHAT IS TERMED AS BORROWING BY THE COMPANY IS DE FACTO MINIMUM REQUIRED CAPITAL TO CARRY OUT THE BUSINESS IN INDIA, INTEREST CANNOT BE ALLOWED AS A DEDUCTION ON THE SAME. IN OTHER WORDS, REVENUES OBJECTION IS THAT THE ASSESSEE COMPANY IS SO THINLY CAPITALIZED THAT ITS DEBT CAPITAL IS REQUIRED TO RECHARACTERIZED AS EQUITY CAPITAL FOR THE PURPOSE OF EXAMINING CLAIM OF DEDUCTION FOR INTEREST ON SUCH DEBT CAPITAL. 19. THIN CAPITALIZATION REFERS TO A SITUATION IN WHICH CAPITAL OF A BUSINESS IS MADE UP OF GREATER PORTION OF DEBT THAN EQUITY, AND ITS SUCH GEARING OR LEVERAGE RATIO I.E. DEBT EQUITY RATIO, IS TOO HIGH. THE TAX TREATMENT BEING GIVEN TO THE EQUITY CAPITAL AND DEBT CAPITAL BEING FUNDAMENTALLY DIFFERENT, IT IS OFTEN MORE ADVANTAGEOUS IN INTERNATIONAL CONTEXT TO ARRANGE FINANCING OF A COMPANY BY LOAN RATHER THAN BY EQUITY. IT DOES AFFECT THE LEGITIMATE TAX REVENUES OF THE SOURCE COUNTRY IN WHICH BUSINESS IS CARRIED OUT BECAUSE WHILE DIVIDENDS AND INTEREST ARE GENERALLY TAXABLE AT THE SAME RATE IN THE HANDS OF THE RECIPIENT IN THE SOURCE COUNTRY, E.G. UNDER INDIA BELGIUM TAX TREATY WHT RATE ON INTEREST, OTHER THAN BANK INTEREST, AS ALSO DIVIDEND IS AT UNIFORM 15 PER CENT, INTEREST IS TAX DEDUCTIBLE AND THAT RESULTS IN LOWER CORPORATE TAXES IN RESPECT OF PE PROFITS. THESE TAX BENEFITS COULD BE FURTHER OPTIMIZED BY HYBRID FINANCING INSTRUMENTS SUCH AS PROFIT PARTICIPATING LOANS, ITA NOS.2239 AND 2240/BANG/2018 PAGE 6 OF 16 CONVERTIBLE LOANS OR WHERE INSTRUMENT IS TREATED AS DEBT IN THE SOURCE COUNTRY OF THE INCOME (I.E. RESULTING IN TAX DEDUCTIBLE INTEREST) AND AS EQUITY IN THE RESIDENCE COUNTRY OF THE LENDER (I.E. WHERE LENDER MAY CLAIM THE PARTICIPATION EXEMPTION OF INTEREST INCOME BECAUSE OF ITS CHARACTERIZATION AS DISTRIBUTION OF PROFITS). THAT IS HOW TAX CONSIDERATIONS AT TIMES DO RESULT IN A COMPANY BEING TOO THINLY CAPITALIZED, OR, TO PUT IT DIFFERENTLY, FINANCED BY A DISPROPORTIONATE RATIO OF DEBTS. IN ORDER TO PROTECT THEMSELVES AGAINST SUCH EROSION IN THEIR LEGITIMATE TAX BASE, SEVERAL TAX JURISDICTIONS ENACT RULES TO COUNTER THIS VULNERABILITY AND THESE RULES ARE TERMED AS THIN CAPITALIZATION RULES. 20. IT IS FOR THIS BACKGROUND THAT MANY JURISDICTIONS TAKE SEVERAL LEGISLATIVE ANTI- ABUSE MEASURES INCLUDING LIMITING DEDUCTION ON INTEREST WHEN THE COMPANY IS CONSIDERED TO BE TOO HIGHLY GEARED UNDER APPLICABLE TAX REGULATIONS. INDIA HAS WOKEN UP NOW TO NEUTRALIZE THIS KIND OF MANOEUVRING AND THE DIRECT TAXES CODE BILL, 2010, DOES SEEK TO PROVIDE A LEGISLATIVE FRAMEWORK FOR REMEDIAL MEASURES TO COUNTER EROSION OF TAX BASE BY THIN CAPITALIZATION. UNDER S. 123(1)(F) OF THE PROPOSED DIRECT TAXES CODE BILL, 2010 (BILL NO. 11 OF 2010 AS INTRODUCED IN THE PARLIAMENT ON 30TH AUG., 2010) AS A PART OF THE GENERAL ANTI-AVOIDANCE RULE, 'ANY ARRANGEMENT ENTERED INTO BY A PERSON MAY BE DECLARED AS AN IMPERMISSIBLE AVOIDANCE ARRANGEMENT AND THE CONSEQUENCES, UNDER THIS CODE, OF THE ARRANGEMENT MAY BE DETERMINED BY RECHARACTERISING ANY EQUITY INTO DEBT OR VICE VERSA'. THAT IS THE FIRST STEP TAKEN BY THE INDIAS TAX ADMINISTRATION IN THE DIRECTION OF HAVING FORMAL THIN CAPITALIZATION RULES IN INDIA. HOWEVER, IT IS NOT IN DISPUTE THAT AS AT THE MATERIAL POINT OF TIME, INDIA DID NOT HAVE ANY THIN CAPITALIZATION RULES, NOR DOES IT HAVE ANY THIN CAPITALIZATION RULES EVEN AT PRESENT. 21. INTERESTINGLY, HOWEVER, THIN CAPITALIZATION RULES DO EXIST IN BELGIUM WHICH PERHAPS EXPLAINS, FOR THE REASONS WE SHALL NOW SET OUT, THE PECULIAR CAPITAL STRUCTURE MAY HAVE BEEN ADOPTED BY THE ASSESSEE. AS PER THE COUNTRY SURVEY REPORT ON BELGIUM, AS PUBLISHED BY THE INTERNATIONAL BUREAU OF FISCAL DOCUMENTATION, AMSTERDAM (BASED ON INFORMATION AS ON 19TH DEC., 1995) BELGIUM APPLIES TWO SETS OF THIN CAPITALIZATION RULES. FIRSTLY, A 1:1 DEBT/EQUITY RATIO APPLIES TO LOANS GRANTED BY INDIVIDUAL DIRECTORS, SHAREHOLDERS AND NON-RESIDENT CORPORATE DIRECTORS TO THEIR COMPANY [ART. 198(10) IR/WIB]. INTEREST RELATING TO DEBT IN EXCESS OF THIS RATIO IS RECHARACTERIZED INTO A NON- DEDUCTIBLE DIVIDEND. FURTHERMORE, THE INTEREST RATE MAY NOT EXCEED THE MARKET RATE. SECONDLY, A 7:1 DEBT/EQUITY RATIO APPLIES TO DEBT IF ITA NOS.2239 AND 2240/BANG/2018 PAGE 7 OF 16 THE CREDITOR (RESIDENT OR NON-RESIDENT) IS EXEMPT OR TAXED AT A REDUCED RATE IN RESPECT OF THE INTEREST PAID ON THE DEBT. INTEREST RELATING TO DEBT IN EXCESS OF THIS RATIO IS CONSIDERED A NON- DEDUCTIBLE BUSINESS EXPENSE [ART. 198(11) IR/WIB]. IN A 2008 IBFD PUBLICATION 'INTERNATIONAL TAX PLANNING AND PREVENTION OF ABUSE' (BY DR LUC DE BROE : ISBN 978-90-8722-035-08; @ P. 502), THESE THIN CAPITALIZATION RULES ARE SUMMED UP AS FOLLOWS : 'BELGIUM HAS FIVE DOMESTIC LAW PROVISIONS THAT ARE RELEVANT FOR THE DISCUSSION OF THIN CAPITALIZATION, I.E. ART. 26 BITC; ART. 54 BITC; ART. 198, 11 BITC, ART. 18, 4 BITC AND THE BELGIAN GAAR. ARTICLES 26, 54 AND 198 BELONG TO THE FIRST GROUP OF AFOREMENTIONED RULES. THE DEDUCTION OF INTEREST IS DENIED IF THE STATUTORY CONDITIONS FOR DEDUCTIBILITY ARE NOT SATISFIED. ARTICLES 26 AND 54 ARE NOT CONCERNED WITH THE QUESTION WHETHER THE BORROWER IS UNDERCAPITALIZED BUT ONLY WHETHER THE INTEREST CHARGED IS AT ARMS LENGTH. EXCESSIVE INTEREST (I.E. INTEREST CHARGED ABOVE THE PREVAILING MARKET CONDITIONS) IS NOT DEDUCTIBLE. ARTICLE 198, 11 IS CONCERNED WITH UNDERCAPITALIZED COMPANIES. INTEREST IS NOT DEDUCTIBLE IF THE STATUTORY 7 : 1 DEBT/EQUITY RATIO IS EXCEEDED. ARTICLE 18, 4 BITC BELONGS TO SECOND GROUP OF AFOREMENTIONED RULES; IT RECHARACTERIZES CERTAIN INTEREST PAYMENTS INTO DIVIDENDS BOTH FOR CORPORATE TAX PURPOSES OF DEBTOR AND FOR WITHHOLDING TAX PURPOSES, WHILE CURIOUSLY IT DOES NOT RECHARACTERIZE DEBT INTO EQUITY (NEITHER FOR CORPORATE TAX, NOR FOR CAPITAL DUTY PURPOSES). IN CERTAIN CIRCUMSTANCES, THE BELGIAN GAAR MAY HAVE THE POTENTIAL TO RECHARACTERIZE PURPORTED DEBT INTO EQUITY. IN THAT CASE, IT ALSO BELONGS TO THE SECOND SET OF RULES.' 22. IT IS THUS ONLY UNDER THE BELGIAN TAX LAWS, WHICH INTER ALIA RESTRICT THE INTEREST DEDUCTIONS ONLY TO THE EXTENT OF DEBT CAPITAL RATIO OF 1:7 IN SHARP CONTRAST TO THE DEBT RATIO IN THE PRESENT CASE WHICH IS 1:248, THAT THE MODE OF BORROWINGS, I.E. VIA GE OR VIA PE, MAY HAVE SOME TAX IMPLICATION EVEN THOUGH AT SOMEWHAT SUPERFICIAL LEVEL. THAT PERHAPS EXPLAINS AS TO WHY THE BORROWINGS ARE CLAIMED TO HAVE BEEN RESORTED TO BY THE INDIAN PE AND NOT THE BELGIAN GE DIRECTLY. IF THESE BORROWINGS WERE RESORTED TO BY THE BELGIAN GE DIRECTLY, PRIMA FACIE THE THIN CAPITALIZATION RULES WOULD HAVE RESTRICTED THE INTEREST DISALLOWANCE IN EXCESS OF BORROWINGS EXCEEDING SEVEN TIMES THE EQUITY CAPITAL, WHEREAS IN THE PRESENT CASE BORROWINGS ARE TWO HUNDRED FORTY- EIGHT TIMES THE EQUITY CAPITAL. AS THE CAPITAL IS STRUCTURED NOW, AND THE BORROWINGS HAVING BEEN RESORTED BY THE INDIAN PE DIRECTLY, IT COULD POSSIBLY BE SAID, OR AT LEAST ARGUED, THAT THERE IS NO DEBT CAPITAL IN THE ASSESSEE COMPANYI.E. THE BELGIAN ENTITY, AND THIS ITA NOS.2239 AND 2240/BANG/2018 PAGE 8 OF 16 DEBT CAPITAL IS CONFINED TO BORROWINGS DIRECTLY BY THE PE. BE THAT AS IT MAY, IT CANNOT BE OPEN TO US TO APPLY THESE THIN CAPITALIZATION RULES IN THE HANDS OF THE ASSESSEE COMPANY WHILE COMPUTING ITS TAXABLE INCOME IN INDIA, BECAUSE SO FAR AS TAXABILITY IN INDIA IS CONCERNED, THE LIMITATION TO BE PLACED ON DEDUCTION OF EXPENSES HAS TO BE LIMITATION UNDER THE LAWS OF THE STATE IN WHICH PE IS SITUATED I.E. INDIA. IT MAY BE USEFUL TO RECALL THAT IN TERMS OF THE PROVISIONS OF ART. 7(3)(B) OF INDO-BELGIAN TAX TREATY, 'IN THE DETERMINATION OF THE PROFITS OF A PE, THERE SHALL BE ALLOWED AS DEDUCTIONS EXPENSES WHICH ARE INCURRED FOR THE PURPOSES OF THE BUSINESS OF THE PE INCLUDING EXECUTIVE AND GENERAL ADMINISTRATIVE EXPENSES SO INCURRED, WHETHER IN THE STATE IN WHICH THE PE IS SITUATED OR ELSEWHERE, SUBJECT TO THE LIMITATIONS OF THE TAXATION LAWS OF THAT STATE'. ADMITTEDLY, THERE ARE NO LIMITATIONS ON DEDUCTION OF INTEREST EXPENSES ON BORROWINGS, WHICH CAN BE ATTRIBUTED TO THIN CAPITALIZATION RULES, IN INDIA. 23. THE QUESTION THEN ARISES WHETHER EVEN IN THE ABSENCE OF ANY SPECIFIC THIN CAPITALIZATION RULES IN INDIA, IT COULD BE OPEN TO THE REVENUE AUTHORITIES TO RECHARACTERIZE THE DEBT CAPITAL AS EQUITY CAPITAL AND, ACCORDINGLY, DISREGARD THE INTEREST PAYMENTS AS TAX DEDUCTIBLES. 24. WE FIND GUIDANCE FROM HONBLE SUPREME COURTS JUDGMENT IN THE CASE OF UNION OF INDIA & ANR. VS. AZADI BACHAO ANDOLAN & ANR. (2003) 184 CTR (SC) 450 : (2003) 263 ITR 706 (SC) WHEREIN THEIR LORDSHIPS HAVE, INTER ALIA, OBSERVED AS FOLLOWS : '111. IN PARA 3.3.1 AFTER NOTICING THE GROWING PRACTICE AMONGST CERTAIN ENTITIES, WHO ARE NOT RESIDENTS OF EITHER OF THE TWO CONTRACTING STATES TO TRY AND AVAIL OF THE BENEFICIAL PROVISIONS OF THE DTAAS AND INDULGE IN WHAT IS POPULARLY KNOWN AS TREATY SHOPPING, THE REPORT SAYS : 3.3.1 ..THERE IS A NEED TO INCORPORATE SUITABLE PROVISIONS IN THE CHAPTER ON INTERPRETATION OF DTAAS, TO DEAL WITH TREATY SHOPPING, CONDUIT COMPANIES AND THIN CAPITALIZATION. THESE MAY BE BASED ON UN/OECD MODEL OR OTHER BEST GLOBAL PRACTICES. 112. IN PARA 3.3.2 THE WORKING GROUP RECOMMENDED INTRODUCTION OF ANTI-ABUSE PROVISIONS IN THE DOMESTIC LAW. 113. FINALLY, IN PARA 3.3.3 IT IS STATED THE WORKING GROUP RECOMMENDS THAT IN FUTURE NEGOTIATIONS, PROVISIONS RELATING TO ANTI-ABUSE/LIMITATION OF BENEFIT MAY BE INCORPORATED IN THE DTAAS ALSO. 114. WE ARE AFRAID THAT THE WEIGHTY RECOMMENDATIONS OF THE WORKING GROUP ON NON-RESIDENT TAXATION ARE AGAIN ABOUT WHAT THE LAW OUGHT TO BE, AND A POINTER TO THE PARLIAMENT AND THE EXECUTIVE FOR INCORPORATING SUITABLE LIMITATION PROVISIONS IN THE TREATY ITSELF OR BY DOMESTIC LEGISLATION. THIS PER SE DOES NOT RENDER AN ATTEMPT BY RESIDENT OF A THIRD PARTY ITA NOS.2239 AND 2240/BANG/2018 PAGE 9 OF 16 TO TAKE ADVANTAGE OF THE EXISTING PROVISIONS OF THE DTAC ILLEGAL. (EMPHASIS, BY UNDERLINING, ITALICIZED IN PRINT, SUPPLIED BY US) 25. IT IS THUS CLEAR THAT MERELY BECAUSE A SUITABLE LIMITATION PROVISION IN THE TREATY OR THE DOMESTIC LEGISLATION IS CONSIDERED DESIRABLE, AND ATTEMPTS ARE BEING MADE TO LEGISLATE THE ANTI-ABUSE PROVISIONS SUBSEQUENTLY, IT WOULD NOT RENDER THE EFFORT TO TAKE ADVANTAGE OF EXISTING PROVISIONS OF THE TREATY ILLEGAL. WE ARE THUS UNABLE TO ACCEPT THE PLEA OF THE REVENUE AUTHORITIES, AND WE UPHOLD THE CLAIM OF DEDUCTION OF INTEREST IN RESPECT OF CAPITAL BORROWED FROM THE SHAREHOLDERS OR JOINT VENTURE PARTNERS BY THE ASSESSEE. 26. EVEN OTHERWISE, IT IS ALSO IMPORTANT TO BEAR IN MIND THE FACT THAT AS THE LAW STANDS NOW UNDER S. 90 OF THE INDIAN IT ACT, THE PROVISIONS OF A TAX TREATY OVERRIDE THE PROVISIONS OF THE INDIAN IT ACTEXCEPT TO THE EXTENT THE LATTER ARE BENEFICIAL TO THE ASSESSEE AND THIS TREATY OVERRIDE IS UNQUALIFIED, SAVE AND EXCEPT FOR CLARIFICATION THAT CHARGE OF TAX IN RESPECT OF A FOREIGN COMPANY AT A RATE HIGHER THAN THE RATE AT WHICH DOMESTIC COMPANY IS CHARGEABLE, SHALL NOT BE REGARDED AS LESS FAVOURABLE CHARGE OR LEVY IN RESPECT OF SUCH FOREIGN COMPANY. JUST IN CASE THERE WERE ANY DOUBTS ON THIS FUNDAMENTAL LEGAL POSITION, THE CBDT, VIDE CIRCULAR NO. 333, DT. 2ND APRIL, 1982 [(1982) 81 CTR (TLT) 18 : (1982) 137 ITR (ST) 1], HAS SET THE SAME AT REST. THIS CIRCULAR DEALS WITH THE QUESTION AS TO WHAT THE AOS WILL DO WHEN THEY FIND THAT THE PROVISIONS OF THE DTAA ARE NOT IN CONFORMITY WITH THE PROVISIONS OF THE IT ACT, 1961. THEN IT WAS LAID DOWN BY THE BOARD IN THE SAID CIRCULAR AS FOLLOWS : 'THE CORRECT LEGAL POSITION IS THAT WHERE A SPECIFIC PROVISION IS MADE IN THE DTAA, THAT PROVISION WILL PREVAIL OVER THE GENERAL PROVISIONS CONTAINED IN THE IT ACT, 1961. IN FACT THE DTAAS WHICH HAVE BEEN ENTERED INTO BY THE CENTRAL GOVERNMENT UNDER S. 90 OF THE IT ACT, 1961, ALSO PROVIDE THAT THE LAWS IN FORCE IN EITHER COUNTRY WILL CONTINUE TO GOVERN THE ASSESSMENT AND TAXATION OF INCOME IN THE RESPECTIVE COUNTRY EXCEPT WHERE PROVISIONS TO THE CONTRARY HAVE BEEN MADE IN THE AGREEMENT.' 27. IN THE CASE OF UCO BANK VS. CIT (1999) 154 CTR (SC) 88 : (1999) 237 ITR 889 (SC), THEIR LORDSHIPS OF HONBLE SUPREME COURT HAD AN OCCASION TO SURVEY THE JUDICIAL PRECEDENTS ON THE QUESTION OF BINDING NATURE OF THE CBDT CIRCULARS. AFTER ELABORATELY DEALING WITH HONBLE SUPREME COURTS JUDGMENTS IN THE CASES OF NAVNIT LAL C. JHAVERI VS. K.K. SEN, AAC (1965) 56 ITR 198 (SC) AND K.P. VARGHESE VS. ITO & ANR. (1981) 24 CTR (SC) 358 : (1981) 131 ITR 597 (SC), THEIR LORDSHIPS CONCLUDED THAT THE CBDT CIRCULARS INTER ALIA CAN TONE DOWN THE RIGOUR OF THE LAW AND SUCH BENEVOLENT CIRCULARS ARE ITA NOS.2239 AND 2240/BANG/2018 PAGE 10 OF 16 BINDING ON THE FIELD AUTHORITIES. IT CANNOT THEREFORE BE OPEN TO A REVENUE AUTHORITY TO DISREGARD THE CBDT CIRCULAR EVEN IF IT DEVIATES FROM THE LAWAS LONG AS IT IS BENEFICIAL TO THE ASSESSEE. THUS, WHERE A DTAA PROVIDED FOR A PARTICULAR MODE OF COMPUTATION OF INCOME, THE SAME SHOULD BE FOLLOWED, IRRESPECTIVE OF THE PROVISIONS IN THE IT ACT. WHERE THERE IS NO SPECIFIC PROVISION IN THE AGREEMENT, IT IS THE BASIC LAW, I.E., THE IT ACT, THAT WILL GOVERN THE TAXATION OF INCOME. WHEN NO SUCH LIMITATIONS ON BENEFITS OR ANTI-ABUSE PROVISIONS ARE SET OUT IN THE TAX TREATY, IT CANNOT BE OPEN TO THE REVENUE AUTHORITIES TO APPLY THE ANTI-ABUSE PROVISIONS BASED ON THE JUDGE MADE LAW IN INDIAWHICH IS ESSENTIALLY TO BE TREATED AS A PART OF THE IT ACT AS IT IS BASED ON THE INTERPRETATION OF PROVISIONS UNDER THE IT ACT AND APPLY THE SAME. AS OBSERVED BY THIS TRIBUNAL, IN THE CASE OF MOTOROLA INC. VS. DY. CIT (2005) 96 TTJ (DEL)(SB) 1 : (2005) 95 ITD 269 (DEL)(SB), A TAX TREATY IS AN ALTERNATIVE TAX REGIME. IT HAS TO BE TREATED AS A COMPLETE CODE IN ITSELF, IN THAT SENSE. THERE ARE THUS NO LEGALLY SUSTAINABLE MERITS IN LEARNED DEPARTMENTAL REPRESENTATIVES PASSIONATE PLEA FOR INVOKING PRINCIPLES LAID DOWN BY HONBLE SUPREME COURT IN MCDOWELL & CO. LTD. VS. CTO (1985) 47 CTR (SC) 126 : (1985) 154 ITR 148 (SC), WHICH, INTER ALIA, HOLDS THAT 'COLOURABLE DEVICES CANNOT BE PART OF TAX PLANNING AND IT IS WRONG TO ENCOURAGE OR ENTERTAIN THE BELIEF THAT IT IS HONOURABLE TO AVOID THE PAYMENT OF TAX BY RESTORING TO DUBIOUS METHODS' AND THAT 'IT IS THE OBLIGATION OF EVERY CITIZEN TO PAY THE TAXES HONESTLY WITHOUT RESORTING TO SUBTERFUGE'. IT IS THUS NOT EVEN NECESSARY TO EXAMINE WHETHER OR NOT THE FINANCE STRUCTURE IN QUESTION CONSTITUTED COLOURABLE DEVICE OR SORT OF SUBTERFUGE. AS LONG AS FINANCE STRUCTURE ADOPTED BY THE ASSESSEE WAS NOT SPECIFICALLY PROHIBITED BY THE APPLICABLE TAX TREATY PROVISIONS, AND AS LONG AS THERE WAS NO SPECIFIC ANTI-ABUSE PROVISION TO DEAL WITH THE SAME IN THE TAX TREATY ITSELF, THE EFFECT OF THE FINANCE STRUCTURE COULD NOT BE IGNORED. 28. IT IS INTERESTING TO TAKE NOTE OF THE PARADIGM SHIFT WITH REGARD TO THE TREATY OVERRIDE, AS INTRODUCED IN S. 129(9) OF THE DIRECT TAXES CODE BILL 2010, WHICH PROVIDES THAT NOTWITHSTANDING THE TREATY OVERRIDE PROVISIONS IN S. 129(8) [WHICH ARE IN PARI MATERIA WITH S. 90(2) OF THE INDIAN IT ACT, 1961] THE PROVISIONS OF THE DIRECT TAXES CODE 'RELATING (A) GENERAL ANTI-AVOIDANCE RULE UNDER S. 123; (B) LEVY OF BRANCH PROFIT TAX UNDER S. 111; OR (C) CONTROL FOREIGN COMPANY RULES REFERRED TO IN THE TWENTIETH SCHEDULE, SHALL APPLY TO THE ASSESSEE REFERRED TO IN SUB-S. (8), WHETHER OR NOT SUCH PROVISIONS ARE BENEFICIAL TO HIM'. THE TREATY OVERRIDE IS THUS QUITE RESTRICTED IN SCOPE IN THIS NEW ITA NOS.2239 AND 2240/BANG/2018 PAGE 11 OF 16 PARADIGM. UNLIKE IN THE PROPOSED CODE AND IN SHARP CONTRAST TO THIS PARADIGM, THE TREATY OVERRIDE IN THE IT ACT, 1961, SAVE AND EXCEPT FOR THE HIGHER TAX RATE BEING PERMITTED FOR THE FOREIGN COMPANIES, IS UNQUALIFIED. IN THE SCHEME OF THINGS, AS IT EXISTS IN THE INDIAN IT ACT, 1961, THE TREATY OVERRIDE OVER DOMESTIC LAW IS MUCH WIDER IN SCOPE. WE CANNOT INTERPRET THE TREATY PROVISIONS IN SUCH A MANNER SO AS TO CURTAIL, DILUTE OR OTHERWISE TINKER WITH THIS COMPREHENSIVE TREATY OVERRIDE OVER THE DOMESTIC TAX LAW. 29. IT IS ALSO IMPORTANT TO BEAR IN MIND THAT WHEN THERE ARE NO THIN CAPITALIZATION RULES VIS-A-VIS DOMESTIC THIN CAPITALIZATION SITUATIONS AND IN THE LIGHT OF THE S. 90(2) AS IT EXISTS AT PRESENT ANY ATTEMPTS TO NEUTRALIZE THIN CAPITALIZATION VIS-A-VIS PES OF BELGIAN ENTERPRISE WILL BE CLEARLY CONTRARY TO THE SCHEME OF NON- DISCRIMINATION ENVISAGED BY ART. 24(5) WHICH PROVIDES THAT, 'ENTERPRISES OF A CONTRACTING STATE, THE CAPITAL OF WHICH IS WHOLLY OR PARTLY-OWNED OR CONTROLLED, DIRECTLY OR INDIRECTLY, BY ONE OR MORE RESIDENTS OF THE OTHER CONTRACTING STATE, SHALL NOT BE SUBJECTED IN THE FIRST-MENTIONED CONTRACTING STATE TO ANY TAXATION OR ANY REQUIREMENT CONNECTED THEREWITH WHICH IS OTHER, OR MORE BURDENSOME, THAN THE TAXATION AND CONNECTED REQUIREMENT TO WHICH OTHER SIMILAR ENTERPRISES OF THAT FIRST-MENTIONED STATE ARE OR MAY BE SUBJECTED IN THE SAME CIRCUMSTANCES AND UNDER THE SAME CONDITIONS'. IN THIS VIEW OF THE MATTER, IT CANNOT BE OPEN TO THE REVENUE AUTHORITIES TO PUT ANY LIMITATION ON DEDUCTION OF INTEREST, IN RESPECT OF FUNDS BORROWED BY THE PE, WHILE COMPUTING INCOME IN ACCORDANCE WITH THE PROVISIONS OF ART. 7 OF INDO-BELGIUM TAX TREATY, WHEN NO SUCH LIMITATIONS ARE PLACED ON THE DOMESTIC ENTERPRISE. 30. FOR THE REASONS SET OUT ABOVE, WE ARE OF THE CONSIDERED VIEW THAT THE ASSESSEE IS INDEED JUSTIFIED IN CLAIMING DEDUCTION ON ACCOUNT OF INTEREST PAID ON BORROWINGS FROM ITS SHAREHOLDERS/JOINT VENTURE COMPANIES. THE INTERNATIONAL CONSENSUS THAT THE AO HAS REFERRED TO IS FOR THE NEED OF THIN CAPITALIZATION RULES, BUT THEN JUST BECAUSE IT IS DESIRABLE TO CURB THIN CAPITALIZATION, THE AO CANNOT DISALLOW THE INTEREST PAID ON DEBT CAPITAL IN THE CASES OF THINLY CAPITALIZED COMPANIES. THE AO WAS CLEARLY AHEAD OF HIS TIMES IN DISALLOWING THE EXPENSES BASED ON HIS NOTIONS OF THIN CAPITALIZATION RULES, WHEN SUCH RULES HAD NOT EVEN REACHED THE DRAWING BOARD STAGE IN INDIA. LEARNED CIT(A) ALSO DID NOT FOLLOW THE CORRECT LEGAL POSITION BY LEANING UPON RESTRICTION PLACED IN EXPLANATION TO S. 37 OF THE ACT, WHICH IS NOT APPLICABLE IN RESPECT OF DEDUCTION ON INTEREST UNDER S. 36(1)(III) AND IN LEANING UPON RESTRICTION PLACED IN ART. 7(3)(B) ON INTRA- ITA NOS.2239 AND 2240/BANG/2018 PAGE 12 OF 16 ORGANIZATION NOTIONAL PAYMENT OF INTEREST ON CAPITAL, WHEREAS THE INTEREST PAYMENT IN THE PRESENT CASE DID NOT CONSTITUTE AN INTRA- ORGANIZATION TRANSACTION AT ALL. EVEN IF THESE INTEREST PAYMENTS WERE TO BE TREATED AS INTRA-ORGANIZATION TRANSACTIONS BY TREATING THE SAME AS PAYMENTS MADE TO THE GE, AND NOT TO THE JOINT VENTURE PARTNERS, THESE PAYMENTS CANNOT BE VIEWED AS NOTIONAL PAYMENTS BECAUSE IN SUCH A SITUATION THE GE WILL HAVE CORRESPONDING LIABILITY TO PAY THE SAME TO THE JOINT VENTURE PARTNERS. WE HAVE ALSO NOTED THAT THE INTEREST PAID BY THE ASSESSEE MAY HAVE BEEN CONTRARY TO THE SPIRIT, IF NOT LETTER OF THE RBI GUIDELINES, BUT THEN THIS FACT, BY ITSELF AND PARTICULARLY IN VIEW OF EXPLANATION TO S. 37 BEING CONFINED TO THE AMOUNTS ADMISSIBLE AS DEDUCTION UNDER S. 37, DOES NOT RENDER THE INTEREST PAID BY THE ASSESSEE AS NOT DEDUCTIBLE, AND IT IS NOT EVEN NECESSARY TO EXAMINE THE SCOPE OF EXPLANATION TO S. 37. IT IS ALSO QUITE POSSIBLE THAT TAX CONSIDERATIONS MAY HAVE PLAYED A ROLE IN ASSESSEES PLANNING THE CAPITAL STRUCTURE, BUT AN ELEMENT OF PLANNING IN STRUCTURING CAPITAL DOES NOT TRANSFORM A TAX- DEDUCTIBLE EXPENSE OF INTEREST INTO AN EXPENSE THAT IS NON-TAX DEDUCTIBLE. IN VIEW OF THESE DISCUSSIONS, IT IS CLEAR THAT THE IMPUGNED DISALLOWANCE IS INDEED CONTRARY TO THE SCHEME OF THE LAW AS IT EXISTS; THE GRIEVANCE OF THE TAXPAYER DESERVES TO BE UPHELD. WE, THEREFORE, DIRECT THE AO TO DELETE THE IMPUGNED DISALLOWANCE. 23. AS PER ABOVE PARAS OF THIS TRIBUNAL ORDER, IT COMES OUT THAT EVEN IF THIN CAPITALIZATION PRINCIPLE IS ON STATUTE BOOK OF THE OTHER COUNTRY, NO DISALLOWANCE CAN BE MADE IN INDIA BY APPLYING THIS PRINCIPLE. TO THIS EXTENT, WE UPHOLD THE FINDING OF CIT (A) BY RESPECTFULLY FOLLOWING THIS TRIBUNAL ORDER. BUT THE ISSUE STILL REMAINS BECAUSE, THE OBJECTIONS OF AO/TPO ARE NOT MERELY ON THE BASIS OF THIN CAPITALIZATION PRINCIPLE. THEIR BASIC OBJECTION IS THIS THAT SINCE THE INTEREST IS PAID ON CCDS, THIS IS NOT AN INTEREST ON DEBT BUT ON EQUITY AND HENCE, NOT ALLOWABLE. ON PAGE 11 OF HIS ORDER FOR A. Y. 2009 10, THE TPO HAS REPRODUCED CERTAIN COMMENTS OF RBI IN 2007 POLICY ON CONVERTIBLE DEBENTURES IN WHICH IT IS STATED THAT FULLY AND MANDATORILY CONVERTIBLE DEBENTURES INTO EQUITY WITHIN A SPECIFIED TIME WOULD BE RECKONED AS EQUITY UNDER FDI POLICY. IN VIEW OF THIS RBI POLICY, THE TPO CONCLUDED THAT THESE CCDS ARE EQUITY AND NOT DEBT AND THEREFORE, INTEREST ON IT IS NOT ALLOWABLE U/S 36 (1) (III). THIS FINDING OF TPO IS NOT BY INVOKING THIN CAPITALISATION PRINCIPLE AND THEREFORE, IT HAS TO BE DECIDED INDEPENDENTLY. WE FIND THAT THE DECISION OF TPO IS BASES ON RBI POLICY OF FDI. WE ALL KNOW THAT RBI POLICY OF FDI IS GOVERNED BY THIS THAT WHAT WILL BE FUTURE REPAYMENT ITA NOS.2239 AND 2240/BANG/2018 PAGE 13 OF 16 OBLIGATION IN CONVERTIBLE FOREIGN CURRENCY AND SINCE, CCDS DOES NOT HAVE ANY REPAYMENT OBLIGATION, THE SAME WAS CONSIDERED BY RBI AS EQUITY FOR FDI POLICY. NOW THE QUESTION IS THAT SUCH TREATMENT GIVEN BY RBI FOR FDI POLICY CAN BE APPLIED IN EVERY ASPECT OF CCDS. WHETHER THE HOLDER OF CCDS BEFORE INS CONVERSION CAN HAVE VOTING RIGHTS? WHETHER DIVIDEND CAN BE PAID ON CCDS BEFORE ITS CONVERSION? IN OUR CONSIDERED OPINION, THE REPLY TO THESE QUESTIONS IS A BIG NO. ON THE SAME LOGIC, IN OUR CONSIDERED OPINION, TILL THE DATE OF CONVERSION, FOR ALLOWABILITY OF INTEREST U/S 36 (1) (III) OF INCOME TAX ACT ALSO, SUCH CCDS ARE TO BE CONSIDERED AS DEBT ONLY AND INTEREST THEREON HAS TO BE ALLOWED AND IT CANNOT BE DISALLOWED BY SAYING THAT CCDS ARE EQUITY AND NOT DEBT. WE HOLD ACCORDINGLY. THIS ISSUE IS DECIDED. 24. AFTER EXAMINING THE APPLICABILITY OF THE TRIBUNAL ORDER RENDERED IN THE CASE OF BESIX KIER DABHOL, SA VS. DDIT (SUPRA), WE NOW EXAMINE THE APPLICABILITY OF THE DECISION OF SPECIAL BENCH OF THE TRIBUNAL RENDERED IN THE CASE OF ASHIMA SYNTEX LTD. VS. ACIT AS REPORTED IN 100 ITD 247 (AHD.) (SB) ON WHICH RELIANCE HAS BEEN PLACED BY LD. DR OF REVENUE IN THE WRITTEN SUBMISSIONS FILED BY HIM AS REPRODUCED ABOVE. FROM THE FACTS NOTED BY THE TRIBUNAL IN THIS CASE, IT IS SEEN THAT IN THAT CASE THE ASSESSEE ISSUED CONVERTIBLE DEBENTURES FOR SUBSCRIPTION AT THE RATE OF RS. 75 PER DEBENTURE AND THESE WERE IN TWO PARTS; PART-A OF RS. 35 TO BE COMPULSORILY CONVERTED INTO ONE EQUITY SHARE OF THE FACE VALUE OF RS. 10 EACH AT A PREMIUM OF RS. 25 PER SHARE ON THE DATE OF ALLOTMENT OF THE DEBENTURE AND PART-B OF RS. 40 TO BE COMPULSORILY CONVERTED INTO ONE EQUITY SHARE OF THE FACE VALUE OF RS. 10 EACH AT A PREMIUM OF RS. 30 PER SHARE ON THE EXPIRY OF 15 MONTHS FROM THE DATE OF ALLOTMENT OF THE DEBENTURE. PART-B DEBENTURE WAS TO CARRY AN INTEREST AT THE RATE OF RS. 14 PER ANNUM TILL THE DATE OF CONVERSION PAYABLE HALF YEARLY ON 30TH JUNE AND 31ST DECEMBER EACH YEAR AND ON CONVERSION. THE ISSUE IN DISPUTE IN THAT CASE WAS REGARDING THE ALLOWABILITY OF EXPENSES INCURRED ON ISSUE OF SUCH DEBENTURES AND THE ISSUE IN THAT CASE WAS NOT OF INTEREST ON DEBENTURES BEFORE ITS CONVERSION AS IN THE PRESENT CASE. THIS IS ALSO AN IMPORTANT ASPECT OF THE MATTER OF THAT CASE THAT ONE PART OF THE DEBENTURE WAS TO BE CONVERTED ON THE DATE OF ALLOTMENT OF DEBENTURE ITSELF, SECOND PART OF THE DEBENTURE HAS TO BE CONVERTED ONLY ON EXPIRY OF 15 MONTHS FROM THE DATE OF ALLOTMENT OF DEBENTURE AND UNDER THESE FACTS, IT WAS HELD BY SPECIAL BENCH OF THE TRIBUNAL IN THAT CASE THAT THE EXPENSES INCURRED ON ISSUE OF SUCH DEBENTURES HAS TO BE CONSIDERED AS EXPENSES INCURRED FOR ISSUE OF SHARES BECAUSE IT WAS FOUND THAT FIRST PART OF THE DEBENTURES WAS TO BE CONVERTED INTO SHARES ON THE DATE OF ALLOTMENT ITSELF AND THE SECOND PART WAS TO BE CONVERTED AFTER EXPIRY OF 15 MONTHS FROM THE DATE ITA NOS.2239 AND 2240/BANG/2018 PAGE 14 OF 16 OF ALLOTMENT OF DEBENTURE AND THEREFORE IT WAS HELD THAT EXPENSES INCURRED WERE ACTUALLY INCURRED FOR ISSUE OF SHARES AND NOT ISSUE OF DEBENTURES. IN THE PRESENT CASE, THE ISSUE IS NOT REGARDING EXPENSES INCURRED ON ISSUE OF SHARES. IN THE PRESENT CASE, THE DISPUTE IS REGARDING INTEREST ON CCDS FOR A PERIOD BEFORE CONVERSION. HENCE IN OUR CONSIDERED OPINION, THIS DECISION OF SPECIAL BENCH OF THE TRIBUNAL IS NOT APPLICABLE IN THE FACTS OF PRESENT CASE BECAUSE THE ISSUE IN DISPUTE IS DIFFERENT. IN THAT CASE THE ISSUE IN DISPUTE IS REGARDING EXPENDITURE INCURRED ON ISSUE OF CONVERTIBLES WHEREAS IN THE PRESENT CASE THE ISSUE IS REGARDING ALLOWABILITY OF INTEREST EXPENDITURE ON CONVERTIBLE DEBENTURES FOR THE PRE-CONVERSION PERIOD. HENCE WE HOLD THAT THE REVENUE DOES NOT FIND ANY SUPPORT FROM THIS DECISION OF SPECIAL BENCH OF THE TRIBUNAL IN THAT CASE. 25. APART FROM RELYING ON THIS DECISION OF SPECIAL BENCH OF THE TRIBUNAL, THE LD. DR OF REVENUE IN WRITTEN SUBMISSIONS AS REPRODUCED ABOVE HAS MAINLY REITERATED THE SAME ARGUMENTS WHICH ARE ADOPTED BY THE TPO IN ITS ORDER I.E. REGARDING RBI MASTER CIRCULAR ON FOREIGN INVESTMENT IN INDIA DATED 02.07.2007 AND 01.07.2008. WE WOULD LIKE TO OBSERVE THAT SUCH CIRCULAR IN THE CONTEXT OF FDI POLICY OF RBI IS IN A DIFFERENT CONTEXT I.E. REGARDING FUTURE RE-PAYMENT OBLIGATIONS IN CONVERTIBLE FOREIGN CURRENCY AND TO HAVE CONTROL OVER SUCH FUTURE RE-PAYMENT OBLIGATIONS, THE RBI IS EXERCISING STRICT AND CONTROL SO THAT SUCH FUTURE RE-PAYMENT OBLIGATIONS DOES NOT GO BEYOND A POINT AND SINCE IN THE CASE OF FULLY CONVERTIBLE DEBENTURES, THERE IS NO FUTURE RE-PAYMENT OBLIGATION, THE SAME WAS CONSIDERED AS EQUITY FOR THE PURPOSE OF FDI POLICY. IN OUR CONSIDERED OPINION, ANY DEFINITION OF ANY TERM IS TO BE CONSIDERED KEEPING IN MIND THE CONTEXT IN WHICH SUCH DEFINITION WAS GIVEN. THIS DEFINITION OF CONVERTIBLE DEBENTURES GIVEN BY RBI IS IN THE CONTEXT OF FDI POLICY TO EXERCISE CONTROL ON FUTURE RE-PAYMENT OBLIGATIONS IN CONVERTIBLE FOREIGN CURRENCY. IN OUR CONSIDERED OPINION, SUCH DEFINITION OF THE TERM CONVERTIBLE DEBENTURES CANNOT BE APPLIED IN OTHER CONTEXT SUCH AS ALLOWABILITY OF INTEREST ON SUCH DEBENTURES DURING PRE- CONVERSION PERIOD OR REGARDING PAYMENT OF DIVIDEND ON SUCH CONVERTIBLE DEBENTURES DURING PRE-CONVERSION PERIOD OR REGARDING GRANTING OF VOTING RIGHTS TO THE HOLDERS OF SUCH CONVERTIBLE DEBENTURES BEFORE THE DATE OF CONVERSION. IF YOU ASK A QUESTION AS TO WHETHER DIVIDEND CAN BE PAID ON SUCH CONVERTIBLE DEBENTURES IN A PERIOD BEFORE THE DATE OF CONVERSION OR WHETHER SUCH HOLDERS OF CONVERTIBLE DEBENTURES CAN BE GRANTED VOTING RIGHTS AT PAR WITH VOTING RIGHTS OF SHARE HOLDERS DURING PRE-CONVERSION PERIOD, THE ANSWER WILL BE A BIG NO. ON THE SAME ANALOGY, IN OUR CONSIDERED OPINION, THE ANSWER OF THIS QUESTION IS ALSO A ITA NOS.2239 AND 2240/BANG/2018 PAGE 15 OF 16 BIG NO AS TO WHETHER INTEREST PAID ON CONVERTIBLE DEBENTURES FOR PRE- CONVERSION PERIOD CAN BE SAID TO BE INTEREST ON EQUITY AND INTEREST ON DEBENTURES ALLOWABLE U/S. 36(1)(III) OF THE IT ACT. 26. NOW WE HAVE TO DECIDE THE SECOND ISSUE I.E. ALP OF SUCH INTEREST ON CCDS. WE FIND THAT IN THE ORDER OF TPO AND AO FOR THE INITIAL YEAR I.E. A. Y. 2009 10, THERE IS NO DISCUSSION OR DECISION ON ALP ASPECT. LEARNED CIT (A) IN THAT YEAR HAS HELD IN A VERY CRYPTIC MANNER THAT 15% INTEREST CLAIMED BY THE ASSESSEE IS NOT AT ARMS LENGTH BECAUSE AS PER SBI CORPORATE OFFICE WEBSITE, IT IS 12.25% ON 01.01.2009 AND 13.00% AS ON 10.11.2008. HE DIRECTED THE AO/TPO TO REWORK THE ALP AT 12.62% WHICH APPEARS TO BE AVERAGE OF THESE TWO LOWER AND UPPER RATES OF SBI PLR AS NOTED. IN LATER YEARS, DRP HAS ADOPTED ALP OF INTEREST AT LIBOR PLUS BUT IN THOSE YEARS ALSO, TPO HAS NOT DECIDED THE ALP ASPECT. THIS IS ALSO A CLAIM OF THE ASSESSEE THAT ALP OF INTEREST SHOULD BE DECIDED IN A. Y. 2009 10 ONLY BEING THE INITIAL YEAR IN WHICH CCDS WERE ISSUED. THERE IS NO DECISION OF ANY OF THE LOWER AUTHORITIES IN ANY YEAR. CONSIDERING ALL THESE FACTS, WE FEEL IT PROPER TO RESTORE THE ALP ASPECT TO AO/TPO IN ALL OF THESE YEARS FOR A DECISION AS PER LAW AFTER PROVIDING ADEQUATE OPPORTUNITY OF BEING HEARD TO THE ASSESSEE. WE DO NOT MAKE ANY COMMENT ON THIS ISSUE. 4. BEING SO, TAKING A CONSISTENT VIEW, WE REMIT THE ISSUES IN DISPUTE TO THE FILE OF AO/TPO ON SIMILAR DIRECTIONS. 5. IN THE RESULT, BOTH THE APPEALS OF THE ASSESSEE ARE PARTLY ALLOWED. PRONOUNCED IN THE OPEN COURT ON THE DATE MENTIONED ON THE CAPTION PAGE. SD/- SD/- (N. V. VASUDEVAN) (CHANDRA POOJARI) VICE PRESIDENT ACCOUNTANT MEMBER BANGALORE, DATED: 26 TH NOVEMBER, 2020. /NS/* ITA NOS.2239 AND 2240/BANG/2018 PAGE 16 OF 16 COPY TO: 1. APPELLANTS 2. RESPONDENT 3. CIT 4. CIT(A) 5. DR, ITAT, BANGALORE. 6. GUARD FILE BY ORDER ASSISTANT REGISTRAR, ITAT, BANGALORE.