The assessee advanced
Rs. 7.39 crores to its AE on interest-free terms. For transfer pricing
purposes, It claimed that no external comparable uncontrolled price was
available for benchmarking the transaction and so the Transactional Net Margin
Method (TNMM) was applicable to determine the arm’s length basis of the loan.
Applying TNMM, the assessee claimed that the notional interest was factored in
the software development income and no separate addition could be made.
This was rejected by the TPO & CIT (A) on the ground that the giving of interest-free loans to the AE was an entirely separate transaction not in conjunction with the activity of software development and hence merited a separate analysis. On appeal by the assessee, HELD by the Tribunal:
The assessee was required to comply with the transfer pricing provisions of Sec.92 to 92F with respect to the transaction of interest-free loan to its subsidiary. The CUP method is the most appropriate method in order to ascertain the ALP of such international transaction by taking into account prices at which similar transactions with other unrelated parties have been entered into. For that purpose, an assessment of the credit quality of the borrower and estimation of a credit rating, evaluation of the terms of the loan e.g period of loan, amount, currency, interest rate basis, and additional inputs such as convertibility and finally estimation of arm’s length terms for the loan based upon the key comparability factors and internal and/or external comparable transactions are relevant. None of these inputs have anything to do with the costs; they only refer to prevailing prices in similar unrelated transactions instead of adopting the prices at which the transactions have been actually entered in such cases, the hypothetical arms length prices, at which these associated enterprises, but for their relationship, would have entered into the same transaction, are taken into account. Whether the funds are advanced out of interest bearing funds or interest free advances or are commercially expedient for the assessee or not, is wholly irrelevant in this context. As the transactionis of lending money, in foreign currency, to its foreign subsidiary, the comparable transaction should also be of foreign currency lending by unrelated parties (Perot Systems 130 TTJ 685 (Del) followed).
This was rejected by the TPO & CIT (A) on the ground that the giving of interest-free loans to the AE was an entirely separate transaction not in conjunction with the activity of software development and hence merited a separate analysis. On appeal by the assessee, HELD by the Tribunal:
The assessee was required to comply with the transfer pricing provisions of Sec.92 to 92F with respect to the transaction of interest-free loan to its subsidiary. The CUP method is the most appropriate method in order to ascertain the ALP of such international transaction by taking into account prices at which similar transactions with other unrelated parties have been entered into. For that purpose, an assessment of the credit quality of the borrower and estimation of a credit rating, evaluation of the terms of the loan e.g period of loan, amount, currency, interest rate basis, and additional inputs such as convertibility and finally estimation of arm’s length terms for the loan based upon the key comparability factors and internal and/or external comparable transactions are relevant. None of these inputs have anything to do with the costs; they only refer to prevailing prices in similar unrelated transactions instead of adopting the prices at which the transactions have been actually entered in such cases, the hypothetical arms length prices, at which these associated enterprises, but for their relationship, would have entered into the same transaction, are taken into account. Whether the funds are advanced out of interest bearing funds or interest free advances or are commercially expedient for the assessee or not, is wholly irrelevant in this context. As the transactionis of lending money, in foreign currency, to its foreign subsidiary, the comparable transaction should also be of foreign currency lending by unrelated parties (Perot Systems 130 TTJ 685 (Del) followed).
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