VOLKSWAGEN AKTIENGESELLSCHAFT,MUMBAI V. DEPUTY COMMISSIONER OF INCOME TAX (INTERNATIONAL TAXATION) 4(3)(1), MUMBAI

ITA 7341/MUM/2017

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The case revolves around a transfer pricing adjustment made by the Transfer Pricing Officer (TPO) on Volkswagen Aktiengesellschaft (VW AG), a German company, concerning interest income from External Commercial Borrowings (ECBs) and delayed receivables from its Indian affiliates. The TPO adjusted the interest income to an arm's length rate, resulting in a substantial tax liability. VW AG contested this adjustment, arguing that the interest income was notional and did not meet the 'paid' criterion under Article 11 of the India-Germany DTAA, which stipulates that interest is taxable only when actually paid. The Tribunal, referencing various judicial precedents and the OECD Commentary, agreed with VW AG, emphasizing that the term 'paid' in the DTAA context requires actual payment, not mere accrual or deemed accrual under domestic law.

• Counselvise Citation: [2025] 140 COUNSELVISE.COM (IT) 713235 (ITAT-MUMBAI)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 31-07-2025
• Appeal Filed By: Assessee
• Order Result: Allowed
• Assessment Year: 2013-2014
• Other Referred Cases: Siemens Aktiengesellschaft v. DDIT, Pramerica ASPF II Cyprus Holding Ltd., TMW ASPF I Cyprus Holding Co. Ltd., Johnson & Johnson, National Organic Chemical Industries Ltd.
• Laws Referred To: Income-tax Act, 1961, India-Germany Double Tax Avoidance Agreement (DTAA)
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: ASIF KAR MALI
• Assessee Lawyers: DHANESH BAFNA
• Keywords: Transfer pricing; International transaction; Notional interest; Double taxation relief
• Section: 143(3); 92C

Judgement Text

" IN THE INCOME TAX APPELLATE TRIBUNAL, ‘J’ BENCH MUMBAI BEFORE: SHRI AMIT SHUKLA, JUDICIAL MEMBER & SMT RENU JAUHRI, ACCOUNTANT MEMBER ITA No.7341/Mum/2017 (Assessment Year :2013-14) Volkswagen Aktiengesellschaft 14th Floor, The Ruby 29, Senapati Bapat Marg, Dadar (W) Mumbai-400 028 Vs. Deputy Commissioner of Income Tax (International Taxation)-4(3)(1), Mumbai PAN/GIR No.AADCV0554C (Appellant) .. (Respondent) Assessee by Shri Dhanesh Bafna & Ms. Hirali Desai a/w. Shri Amol Mahajan & Ms. Tejal Saraf Revenue by Shri Asif Karmali, Sr. DR Date of Hearing 17/07/2025 Date of Pronouncement 31/07/2025 आदेश / O R D E R PER AMIT SHUKLA (J.M): The aforesaid appeal has been filed by the assessee against the final assessment order dated 27/10/2017, passed under Section 144C(13) read with Section 143(3) of the Income-tax Act, 1961, for the assessment year 2013–14, in pursuance of directions issued by the Dispute Resolution Panel (DRP) dated 28/09/2017. Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 2 2. The assessee has raised various grounds of appeal. However, during the course of the hearing, the assessee pressed only the additional ground being Ground No. 17, which goes to the root of the matter and challenges the very basis of the Transfer Pricing adjustment under Article 11 of DTAA. The said ground is reproduced as under “17. On the facts and in the circumstances of the case and in law, the learned Assessing Officer (Ld. AO')/ learned Transfer Pricing Officer ('Ld. TPO) erred in bringing to tax, notional interest income arising on account of Transfer Pricing adjustment, disregarding the provisions of Article 11 of the India-Germany Double Tax Avoidance Agreement ('DTAA'), which provides for taxability of interest only on paid basis...” 3. The dispute in this appeal pertains to a transfer pricing adjustment of Rs. 7,57,25,784, comprising Rs. 7,20,17,475 on interest relating to External Commercial Borrowings (ECBs) and Rs. 37,08,309 on delayed receivables, both arising from international transactions with Associated Enterprises (AEs) in India. 4. The facts relevant qua the issue are that the assessee, Volkswagen Aktiengesellschaft (VW AG), is a company incorporated and tax-resident in Germany and forms part of the globally reputed Volkswagen Group. The assessee is engaged in the manufacture and worldwide sale of Volkswagen brand vehicles, their components, and related engineering products. In the course of its international operations, VW AG also supplies automotive components and capital goods to its Indian affiliate, Volkswagen Group Sales Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 3 India Private Limited (VGSIPL). It also extended External Commercial Borrowings (ECBs) to another Indian AE, Volkswagen India Private Limited (VIPL), in FY 2010–11. 5. During the relevant year, the assessee received actual interest of INR 12,93,78,127 from VIPL and INR 4,78,183 from VGSIPL on delayed receivables. Both amounts were duly disclosed in Form 3CEB and offered to tax in India at the concessional rate of 10% under Article 11 of the India- Germany DTAA. The ECB details are as under: Date Term of Loan Terms of Interest Actual Loan Amount (In EUROs) 2 November 2010 7.5 Years Euribor + 160 Bps 25 Million 15 February 2011 5 Years Euribor + 132.5 Bps 40 Million 6. The learned TPO has determined the arm‟s length rate of interest on the ECBs and delayed receivables at Euribor + 4.452%, resulting in an upward adjustment of INR 7,20,17,475 towards ECB interest and INR 37,08,309 towards delayed payment interest, aggregating to a total adjustment of INR 7,57,25,784. This adjustment was upheld by the Dispute Resolution Panel (DRP) vide its direction dated 28.09.2017. 7. Before us, the learned Counsel for the assessee challenging the very foundation of the impugned adjustment, submitted that the interest income sought to be brought to Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 4 tax by way of Transfer Pricing adjustment represents a purely notional or hypothetical computation and does not correspond to any actual payment received or receivable by the assessee under the contractual arrangements with its Indian Associated Enterprises. It was thus urged that such imputed interest, being bereft of any enforceable claim or monetary realization, cannot be subjected to tax under the beneficial provisions of the India-Germany Double Taxation Avoidance Agreement (DTAA). 8. Drawing our attention to the text of Article 11 of the DTAA, the learned Counsel submitted that the treaty envisages taxation of interest income strictly on the basis of actual “payment”, a term that, in treaty parlance, connotes the fulfilment of an obligation to place funds at the disposal of the creditor. He emphasized that unlike the domestic law, which permits taxation on the basis of accrual or due basis, the DTAA adopts a narrower and more stringent threshold for taxability by expressly using the term “paid”. This choice of terminology, it was argued, is deliberate and cannot be overridden or diluted by importing domestic law concepts through the backdoor of interpretative latitude. 9. He further submitted that the jurisprudence on this issue is now well-settled favouring the view that where the DTAA stipulates taxability on payment basis, no income can be taxed unless there is an actual remittance or constructive receipt. In support of this proposition, he placed heavy reliance on the decision of the Hon‟ble Bombay High Court in Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 5 Siemens Aktiengesellschaft, where the Court held that income under Article 12 of the DTAA (having identical wording to Article 11) is taxable only upon actual receipt and not on accrual basis. 10. The learned Counsel also referred to a series of Tribunal decisions including those in the cases of Pramerica ASPF II Cyprus Holding Ltd. and TMW ASPF I Cyprus Holding Co. Ltd., wherein it was consistently held that notional or hypothetical interest, computed solely for benchmarking under transfer pricing regulations, cannot be taxed unless it is actually paid. These decisions, it was highlighted, have been affirmed by the respective High Courts, thereby lending authoritative weight to the assessee‟s position. 11. Lastly, he submitted that the transfer pricing mechanism under Chapter X of the Act, while useful as a tool for determining arm‟s length value, does not operate as an independent charging provision. Unless the income so computed satisfies the test of taxability under the Act or under the applicable DTAA, no charge can be levied. Therefore, in the present case, where the adjusted interest has neither been received nor contractually mandated, its taxation is impermissible under Article 11 of the DTAA. Accordingly, he prayed that the impugned adjustment be deleted in its entirety.” 12. On the other hand, the learned Departmental Representative (ld. DR) strongly relied upon the findings Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 6 rendered by the DRP and contended that the expression „paid‟, as appearing in Article 11 of the India-Germany DTAA, is not specifically defined in the said treaty. Consequently, in the absence of a treaty definition, recourse must be had to the definition under the domestic law, as per Article 3(2) of the DTAA. Under the Income-tax Ac, interest income is chargeable to tax on the basis of accrual or when it becomes due, irrespective of actual payment. Accordingly, the concept of „payable‟ is integral to the scheme of taxation under Indian law. 13. The ld. DR further submitted that the Transfer Pricing Officer, in exercise of his statutory mandate under Section 92C of the Act, is fully empowered to benchmark international transactions between Associated Enterprises and determine their Arm‟s Length Price. Where the consideration charged between AEs falls short of what would have been charged between independent parties in comparable uncontrolled conditions, the difference must be brought to tax through appropriate TP adjustments. Such adjustments, the ld. DR emphasized, are grounded in domestic law and operate independently of the actual receipt of income. Therefore, once it is established that the interest charged on ECBs or delayed receivables is not at ALP, the TPO is justified in making the requisite adjustment, notwithstanding whether such interest was actually paid or received. Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 7 14. We have heard the rival contentions and perused the relevant material referred to before us, including the findings rendered in the impugned order. The issue before us is, whether a hypothetical or notional interest, imputed by the Transfer Pricing Officer as per arm‟s length principles under domestic law, but neither actually paid nor contractually receivable by the assessee, can be brought to tax under the provisions of Article 11 of the India-Germany Double Taxation Avoidance Agreement (DTAA). 15. At the outset, it is not in dispute that the assessee is a tax resident of Germany and is entitled to invoke the beneficial provisions of India - Germany DTAA. The interest actually received by the assessee from its Indian Associated Enterprises, both under the External Commercial Borrowings (ECB) and for delayed payments, has been duly offered to tax at the concessional rate of 10% as per Article 11(2) of the DTAA. The dispute centres around the notional differential, being the excess interest computed by the TPO on an arm‟s length basis, which was never received, accrued, or even contemplated contractually between the parties. 16. To appreciate the controversy in its proper legal contour, it is imperative to reproduce and interpret Article 11 of the India-Germany DTAA, which reads as under: “1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 8 2. However, such interest may also be taxed in Contracting State in which it arises and according to the laws of that State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 10 per cent of the gross amount of the interest.\" 17. Thus, the treaty envisages that interest is taxable in other contracting state when it is “paid”, i.e., on receipt basis. In India-Germany DTAA, Article 10 (Dividends), Article 11 (Interest) and Article 12 (Royalties and Fees for Technical Services), unlike other articles provide for taxability of income only when such income arises in a contracting state and is 'paid to the resident of the other contracting state‟. Ergo the language of the treaty is unambiguous. Taxability under Article 11 is triggered not merely upon accrual or deeming fiction under domestic law, but upon “payment”, a term deliberately and consciously used by the Contracting States in preference to the word “accrued”. This distinction is neither academic nor incidental; it goes to the heart of treaty interpretation. 18. The interpretation of the word “paid” has been authoritatively clarified in the OECD Commentary on Article 11, which, though not binding, is widely acknowledged as an important interpretative tool. It states: \"The term \"paid\" has a very wide meaning, since the concept of payment means the fulfilment of the obligation to put funds at the disposal of the creditor in the manner required by contract or by custom.” Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 9 19. This definition underscores that the act of payment is consummated only upon the discharge of an enforceable obligation to remit or credit funds to the payee, in a manner stipulated by the contract or prevailing commercial usage. Therefore, it is axiomatic that for an item of income to be taxed under Article 11 of the DTAA, two essential preconditions must be cumulatively satisfied: first, the interest must arise in a Contracting State, and second, it must be paid to a resident of the other Contracting State. The latter requirement, being a higher threshold, cannot be diluted by the domestic fiction of “deemed accrual” under the Income-tax Act. 20. To the extent that the arguments propounded by the learned Departmental Representative are concerned, we concur that the term „paid‟ remains undefined within the ambit of the India-Germany Double Taxation Avoidance Agreement (DTAA). Nevertheless, concurrently, the reliance placed upon domestic law to import an accrual-based taxation principle into the treaty framework is, in our considered view, fundamentally misconceived. The interpretative rule embodied in Article 3(2) of the DTAA, which allows reference to domestic law definitions, is subject to an overriding caveat, it applies only „unless the context otherwise requires‟. In the present case, the context is crystal clear: Article 11 of the DTAA expressly stipulates that interest arising in a Contracting State and „paid‟ to a resident of the other Contracting State may be taxed. The use of the term „paid‟ rather than „accrued‟ or „payable‟ is a conscious choice Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 10 of the two contracting states and must be given its plain and natural meaning, particularly when read in conjunction with the OECD Commentary which clarifies that „paid‟ entails the actual fulfilment of an obligation to put funds at the disposal of the creditor. The contention that the TPO is empowered under domestic law to benchmark international transactions and make adjustments, while legally correct within the domestic statutory framework, cannot override the binding provisions of the DTAA. Section 90(2) of the Income-tax Act, 1961 unequivocally provides that where a taxpayer is eligible to be governed by the provisions of a treaty, and those provisions are more beneficial than the Act, the treaty shall prevail. The principle of treaty override is well established and has received consistent affirmation from the Hon‟ble Apex Court and various High Courts. 21. It is trite law that Chapter X of the Act, which governs Transfer Pricing, does not constitute a charging provision. It merely provides for the determination of income arising from international transactions at arm‟s length. However, the application of such provisions must still pass the litmus test of chargeability under the Act or the applicable DTAA. In the present case, the Transfer Pricing adjustment made by the TPO, though possibly justified within the framework of Section 92C, does not result in an income that is taxable under Article 11 of the DTAA unless the interest has been actually paid. Thus, we are unable to accept the proposition canvassed by the learned DR that an adjustment based on notional or deemed accrual can be taxed under the DTAA Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 11 merely because domestic law permits taxation on such basis. Once the treaty prescribes taxability only on actual payment, the scope for domestic accrual-based taxation stands curtailed to that extent. The Transfer Pricing adjustment in the present case is thus rendered untenable in law, being in clear contravention of the overriding treaty provisions under Article 11. 22. Now this issue is no longer res integra. The Hon‟ble Bombay High Court in Siemens Aktiengesellschaft v. DDIT (ITA No. 124 of 2010), while interpreting the identical language of Article 12, held that income such as royalty or fees for technical services under the India-Germany DTAA is taxable only upon actual receipt. The principle was reaffirmed in a series of judgments, wherein the Court emphasised that where the treaty mandates taxation on the basis of payment, the domestic concept of accrual cannot override the treaty. The relevant extract of the order is reproduced hereunder:- “2. As regards first question is concerned, the Income Tax Appellate Tribunal referring to para-1 to 3 under Article IIX-A of the Double Taxation Avoidance Treaty with the Federal Germany Republic as per Notification dated 26th August 1985 held that the assessment of royalty or any fees for technical services should be made in the year in which the amounts are received and not otherwise. Counsel for the Revenue relied upon the Special Bench decision of the Tribunal in the assessee's own case, which in our opinion, has no relevance to the facts of the present case, as it relates to the period prior to the issuance of Notification dated 26th August 1985. In this view of the matter the decision of the Income Tax Appellate Tribunal in holding that the royalty and fees for technical services should be taxed on receipt basis cannot be faulted.” Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 12 23. This judgment has been rendered in the context of India- Germany DTAA and the Article 12 of DTAA is parimateria similar to the language under Article 11 of the DTAA to the extent that both the Articles required the income to be taxed on paid basis and therefore, the ratio decidendi laid down by the Hon‟ble Jurisdictional High Court shall also be applicable on the interest income of the assessee. 24. We further find that this issue has been considered by the Mumbai Bench Tribunal in Pramerica ASPF II Cyprus Holding Ltd. wherein the Tribunal held that Article 11 of the India-Cyprus DTAA requires actual payment for taxability and that notional interest which was neither received nor payable under the contract could not be taxed. The relevant finding of the ITAT order is reproduced hereunder:- “9. We have carefully considered the rival submissions. The assessee company made Investments in CCDs in Indian companies engaged in real estate development and the interest earned on such investment is sought to be offered to be taxed on receipt basis. The crucial plea of the assessee is based on Article-11(1) of the India-Cyprus Double Taxation Avoidance Agreement (DTAA), which read as under 1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. 9.1. On the said basis, the claim of the assessee is that the interest income can be assessed on fulfilment of twin conditions Le. accrual as well as payment. It was therefore, contended that the interest income in question be assessed on receipt basis. In this context, the Ld. Representative for the assessee had relied on the judgment of the Hon'ble Bombay Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 13 High Court in the case of Siemens Aktiengesellschaft (supra), wherein having regard to the DTAA between India & Federal Germany Republic, the assessment of royalty or fee for technical services was held to be taxable on receipt basis. In the case of National Organic Chemical Industries Ltd. (supra), the Tribunal was concerned with payment made to non- residents ie. a Swiss company, for acquiring some material safety data sheets. It was held that since the payment was covered by the scope of Article 12(4) of the Double Taxation Avoidance Treaty with Switzerland, it was liable to be taxed on the basis of payment. Similarly, in the case of Johnson& Johnson (supra) in the context of the DTAA between India and USA, wherein also expression \"paid\" used in Article 12(1) was interpreted to mean that the royalty was to be taxed on \"paid\" basis and not on accrual basis. The aforesaid precedents support the understanding of the expression paid used in Article 11(1) of the India-Cyprus Double Taxation Avoidance Agreement (DTAA) to mean that the interest income in question is liable to be taxed on payment/receipt basis and not on accrual basis, as sought to be made out by the Assessing Officer. Thus, in principle, we uphold the plea of the assessee.\" 25. The aforesaid decision of the Tribunal has also been upheld by the Jurisdictional High Court in ITA No. 1824 of 2016 wherein following substantial questions of law in the year under consideration. \"Whether on the facts and circumstances of the case and in law, the ITAT is correct in directing the Assessing Officer to accept the interest income returned by the assessee on cash basis whereas the A. O. has made additions on the ground that interest income was liable to be assessed on accrual basis?\" 26. The Hon'ble Bombay High Court dismissed the department appeal filed against the aforementioned ITAT order and followed its earlier decision in Siemens Aktiengesellschaft (supra) to hold that in light of the provisions of the DTAA, the taxability can only be fastened on Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 14 receipt of payment. The relevant finding is reproduced hereunder for ease of reference: \"8. Thus, while interpreting similar clause of Indo-German DTAA in relation to taxing royalty or fees for technical services, this Court had confirmed the decision of tribunal holding that such service can be taxed only on receipt. This decision was later on followed in Income-tax Appeal No. 1033/11 dated 20- 11-2012 and thereafter in Income-tax Appeal No. 2356/11 and connected Appeals vide the order dated 7-3-2013 9. On the same principle, the Appeal is dismissed.\" 27. Similarly, in DCIT v. TMW ASPF I Cyprus Holding Co. Ltd. (ITA No. 879/Del/2016), the Delhi Bench of the Tribunal held that notional interest computed on the basis of contingent or hypothetical events could not be taxed under Article 11. This decision was affirmed by the Hon‟ble Delhi High Court in ITA No. 192/2022. 28. In the present case, the adjustment of Rs. 7,57,26,784 proposed by the TPO and confirmed by the DRP arises entirely from such a notional construct. It is neither a contractual right to receive interest nor an actual flow of income. In such circumstances, the said adjustment fails to meet the threshold condition of “interest paid” under Article 11 of the DTAA. 29. In light of the above analysis and binding judicial precedents, we hold that the impugned addition of Rs. 7,57,26,784 does not represent “interest paid” as Printed from counselvise.com ITA No.7341/Mum/2017 Volkswagen Aktiengeselschaft 15 contemplated under Article 11 of the India-Germany DTAA. Accordingly, the said adjustment is directed to be deleted. 30. The additional ground raised by the assessee is allowed. All other grounds on merits are rendered academic and are not adjudicated upon. 31. In the result, the appeal filed by the assessee stands allowed. Order pronounced on 31st July, 2025. Sd/- (RENU JAUHRI) Sd/- (AMIT SHUKLA) ACCOUNTANT MEMBER JUDICIAL MEMBER Mumbai; Dated 31/07/2025 KARUNA, sr.ps Copy of the Order forwarded to : BY ORDER, (Asstt. Registrar) ITAT, Mumbai 1. The Appellant 2. The Respondent. 3. CIT 4. DR, ITAT, Mumbai 5. Guard file. //True Copy// Printed from counselvise.com "