Both the assessee’s and the TPO’s benchmarking for CCD interest were held flawed.

By | October 9, 2025
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Both the assessee’s and the TPO’s benchmarking for CCD interest were held flawed.

Issue

How should the arm’s length interest rate for a Compulsory Convertible Debenture (CCD) be determined for transfer pricing purposes, and can it be benchmarked against simple Non-Convertible Debentures (NCDs) or debt instruments from unrelated industries without making proper adjustments?

Facts

  • An assessee, a real estate developer, paid interest at a rate of 17.65% on Compulsory Convertible Debentures (CCDs) that it had issued to its foreign Associated Enterprises.
  • The assessee’s study: They tried to justify this high rate by comparing it to the interest rates of simple Non-Convertible Debentures (NCDs) in the real estate sector. However, their analysis made no adjustment for the crucial and valuable feature of their CCDs: the compulsory conversion into equity at a future date.
  • The TPO’s study: The Transfer Pricing Officer (TPO) rejected the assessee’s study and conducted a fresh search using the Bloomberg database, arriving at a much lower arm’s length rate of 8.6%. However, the TPO’s chosen comparables were from unrelated industries and had different security and structural features (e.g., they were secured debt instruments).

Decision

The court ruled that both the assessee’s and the TPO’s benchmarking analyses were flawed and unreliable.

  • It held that neither of the studies had satisfied the strict comparability requirements of the Comparable Uncontrolled Price (CUP) method.
  • Both sides had failed to properly account for critical differences in the instruments, such as the equity conversion feature, subordination, security, and industry risk, by making appropriate and detailed adjustments.
  • As a result, the matter was remanded back to the lower authorities for a fresh reconsideration, with a direction that the benchmarking must be done again with more reliable comparables or with appropriate and well-reasoned adjustments to account for the differences.

Key Takeways

  1. CCDs are Not the Same as NCDs: A CCD is a complex, hybrid instrument that has both debt and equity characteristics. It cannot be directly compared to a plain-vanilla NCD without making significant and detailed adjustments for the value and the risk associated with the equity conversion feature.
  2. Comparability is the Heart of the CUP Method: The CUP method is considered the most direct transfer pricing method, but it demands a very high degree of comparability between the tested transaction and the comparable transaction. Any material differences in the product, contract terms, or economic circumstances must be reliably adjusted for.
  3. A Database is a Tool, Not a Final Answer: Simply picking comparables from a database like Bloomberg is not the end of the analysis. The TPO must ensure that the selected comparables are functionally similar in all key aspects (like industry, risk, and structure) to the assessee’s transaction.

Expenses must be examined individually to see if they should be capitalized.

Issue

Should general business expenses like legal fees, advertising, and commission that are incurred by a real estate developer be allowed as a revenue expenditure in the year they are incurred, or should they be compulsorily capitalized as part of the work-in-progress of the construction projects?

Facts

  • The assessee, a real estate developer, had claimed deductions for various expenses, including legal & professional fees, advertisement & sales promotion, and commission & brokerage, as revenue expenses.
  • The Assessing Officer (AO) disallowed these expenses, taking a blanket view that all such costs must be capitalized as part of the work-in-progress (WIP) of the company’s ongoing projects.
  • This exact issue had already been dealt with by the Tribunal in the assessee’s own case for prior assessment years, where a clear principle had been laid down.

Decision

The court followed the precedent from the assessee’s own case in prior years and remanded the matter back to the AO.

  • The direction to the AO was to follow the principle that had already been established: the AO must examine the nature of each expense individually.
  • If an expense is found to be directly attributable to the pre-construction or the construction activity of a specific project, then it must be capitalized as part of the WIP.
  • If, however, the expense is a general, indirect, or administrative overhead of the business, it should be allowed as a revenue expenditure in the year it was incurred.

Key Takeways

  1. There is No Rule for Blanket Capitalization: Not every single expense that is incurred by a real estate developer can be automatically capitalized into the cost of their projects. A clear distinction must be made between direct project costs and general business overheads.
  2. The “Direct Attribution” Test is Key: The deciding factor is whether an expense is “directly attributable” to a specific project’s construction. For example, the architect’s fees for a particular building project would be capitalized, while the salary of the head office’s HR manager would likely be allowed as a revenue expense.
  3. The Rule of Consistency is Important: The court’s decision to simply follow the precedent that had been set in the assessee’s own prior years underscores the importance of the principle of consistency in tax proceedings. When the facts and the legal issues are identical, the decision from the prior year should be followed unless there are very strong reasons to deviate.
IN THE ITAT MUMBAI BENCH ‘J’
Deputy Commissioner of Income-tax
v.
Mahindra Homes (P.) Ltd.
Raj Kumar Chauhan, Judicial Member
and Om Prakash Kant, Accountant Member
IT Appeal No. 1212 (MUM.) OF 2025
[Assessment year 2015-16]
SEPTEMBER  15, 2025
Pankaj Kumar, CIT-DR for the Appellant. S. Sriram and Samyak Lohade for the Respondent.
ORDER
Om Prakash Kant, Accountant Member. – This appeal by the Revenue is directed against order dated 26.12.2024 passed by the Ld. Commissioner of Income-tax (Appeals) – 57, Mumbai [in short ‘the Ld. CIT(A)’] for assessment year 2015-16, raising following grounds:
Ground 1 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in not appreciating the difference between Debt/Term Loan v. CCDs duly distinguished by the TPO in his order, requiring different benchmarking?
Ground 2 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in directing to accept the benchmarking of interest on term loan/debt for interest on CCDs, which are primarily different instruments?
Ground 3 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in relying on the Hon’ble ITAT’s decision in assessee’s own case for AY 2014-15 wherein reliance is placed on decision of Bombay High Court in the case of India Debt Management in ITA.No.7518/Mum/2014 order dated 10.03.2016, the facts of which are distinguishable in the case of the assessee. In this case of India Debt Management, the high court has observed that Bloomberg data has no INR denominated instrument; whereas in the case of the assessee Bloomberg data in INR are available and which were duly intimated to the Assessee in the show-cause notice by TPO?
Ground 4 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in restricting the disallowance of Legal & Professional expenses to the amount of Rs. 1,80,78,800/- and also erred in holding the balance Legal & Professional expenses as Revenue Expenditure in nature and deleting the disallowance made by the AO, without appreciating the fact that the said expense has not contributed in earning any income during the year under consideration and have multiyear effect on the business of the assessee and therefore are liable to be treated as Capital Expenditure.
Ground 5 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in holding the Advertisement & Sale expenses as Revenue Expenditure in nature and deleting the disallowance made by the AO, without appreciating the fact that the said expense has not contributed in earning any income during the year under consideration and have multiyear effect on the business of the assessee and therefore are liable to be treated as Capital Expenditure.
Ground 6 Whether on the facts and circumstances of the case and in law, the Hon’ble CIT(A) has erred in holding the Commission and brokerage expenses as Revenue Expenditure in nature and deleting the disallowance made by the AO, without appreciating the fact that the said expense has not contributed in earning any income during the year under consideration and have multiyear effect on the business of the assessee and therefore are liable to be treated as Capital Expenditure.
2. Briefly stated, the facts of the case are that the assessee a domestic company, which is a joint venture between Mahindra Lifespace Developers Ltd. (MLDL), a part of the “Mahindra Group” engaged in the business of real estate development, and SCM Real Estate, Singapore Pvt. Ltd., an investment arm of Standard Chartered Bank. The assessee company is primarily engaged in the development of residential projects in India.
2.1 For the year under consideration, the assessee filed return of income electronically on 30.11.2015 declaring total loss of Rs.13,39,91,969/-. The return of income filed by the assessee was selected for scrutiny assessment and notice u/s 143(2) of the Income-tax Act, 1961 (in short ‘the Act’) was issued and duly served upon the assessee on 04.04.2016. Thereafter notices u/s 142(1) of the Act were issued through Income-tax Business Application (ITBA) portal on various dates. In view of international transactions of making interest payment on Compulsorily Convertible Debentures (CCDs) issued to ‘SCM Real Estate Singapore Ltd.’ Singapore and other specified domestic transaction disclosed in Form No. 3CEB filed by the assessee, the Ld. Assessing Officer(AO) referred the matter for determination of arm’s length price of those international transactions to Ld. Transfer Pricing Officer (TPO). The Ld. TPO in his order dated 29.12.2018 proposed transfer pricing adjustment amounting to Rs.28,94,33,680/- to the transaction of interest on CCDs. The value of the remaining specified domestic transaction however was considered as at arm’s length. The Assessing Officer also made disallowance u/s 57 of the Act in respect of ‘legal and professional expenses’ (Rs.1,90,57,834); ‘advertisement and sales expenses’ (Rs.5,50,69,726/-) ; and ‘commission and brokerage expenses’ (Rs.4,47,50,455/-) totaling to Rs.1,26,33,412/-. The Ld. Assessing Officer also adjusted the work-in-progress at value of Rs.3,49,59,30,826/- as against inventory or work-in-progress value of Rs.368,40,06,222/- as reported by the assessee.
2.2 On appeal, the Ld. CIT(A) deleted the transfer pricing adjustment, following the decision of the Co-ordinate Bench of the Tribunal in the assessee’s own case for A.Ys. 2014-15, 2016-17, and 2017-18, wherein similar additions had been deleted. The CIT(A) relied upon the judgment of the Hon’ble Bombay High Court in the case of Pr. CIT v. India Debt Management (P.) Ltd. 42/417 ITR 103 (Bombay), which had affirmed the Tribunal’s view that benchmarking based on Bloomberg/Thomson Reuters databases, in the absence of INR denominated debt instruments, could not be regarded as appropriate. The relevant finding of the Ld. CIT(A) is reproduced as under:
“Further, it is noted that similar methodology were adopted by the appellant as well as TPO in later A.Y.2016-17 and 2017-18 also. The appellant has submitted that relying on the above decision of Hon’ble ITAT for A.Y.2014-15, the Hon’ble Mumbai ITAT order in the Appellant’s own case for (AY 2016-17 and AY 2017-18 ITA No. 2179 of 2021 and ITA No. 1008 of 2021) vide order dated 30.09.2022 decided the issue in favour of the appellant. The Hon’ble Mumbai ITAT in this regard had also referred to the case of India Debt Management in ITA. No. 7518/Mum/2014 (affirmed by the Hon’ble Bombay High Court) also. The relevant extract of the said case law has been reproduced as below.
“Respectfully following the same, we direct the Id. TPO to delete the TP adjustment made towards the interest paid on CCDs to its AE. Accordingly, the Ground Nos. 3 to 13 raised by the assessee are allowed”
6.1.5 From the above, it is clear that the claim of the appellant is correct that the issue involved is similar and the TP grounds of appeal – 1 to 9 – are squarely covered by the decision of the Hon’ble jurisdictional ITAT in its own case for A.Y. 2014-15.
Hence, respectfully, relying on this decision of Hon’ble ITAT ITA No.7159/Mum/2018 for A.Y.2014-15 dated 03.08,2022, the TP grounds of appeal nos. 1 to 9 are considered as allowed. Consequently, the TP adjustment of Rs.28,94,33,680/u/s.92CA of the Act (Rs.24,80,269/- added to the returned income and the amount of Rs.28,69,53,411/- being reduced from inventory on account of this TP adjustment) is directed to be deleted.”
3. Aggrieved with the finding of the Ld. CIT(A), the Revenue is in appeal before us by way of grounds as reproduced above.
4. Before us, the Ld. counsel for the assessee filed a Paper Book containing pages 1 to 237, comprises of mostly submissions made before the lower authorities and copy of the decisions of the Tribunal in the case of the assessee.
5. The ground Nos. 1 to 3 of appeal are in relation to transfer pricing adjustment for interest payments on CCDs to Associated Enterprise. The issue in dispute pertains to benchmarking of the interest paid by the assessee to its AE on CCDs issued at a coupon rate of 17.65% (gross of tax). The facts in brief qua the issue-in-dispute are that the assessee reported international transaction of interest on CCDs amounting to Rs.56.51 crores to its Associated Enterprise namely SCM Real Estate, Singapore. Before the Ld. TPO, the assessee explained that the assessee issued CCDs to SCM Real Estate Singapore Pvt. Ltd. on 25.07.2013, which carried a coupon rate of 17.65% (gross of the tax). It was further submitted that those CCDs shall be automatically and mandatorily converted into equity shares upon expiry of 12 years from the date of allotment. However, those CCDs could also be voluntarily converted based on an agreed conversion price before the expiry of 12 years period. It was submitted that CCDs had faced value of Rs.100 and were issued to SCM Real Estate Pvt. Ltd. at par without charting any premium. It was further submitted that CCD issued carried out coupon rate of 17.65% (gross of tax per annum) and the interest of CCDs issued was payable quarterly.
5.1 For the purpose of benchmarking the arm’s length price of international transaction, the assessee carried out analysis for indentifying comparables on website of Bombay Stock Exchange (BSE), National Stock Exchange (NSE) and National Security Deposit Ltd. (NSDL). The assessee carried out through search on the websites for ‘debt instruments’ including securities consisting of Central Government Securities, State Government Securities, Treasury Bill Securities, Memorandum of privately placed bonds list, privately debt instruments. Out of the above debt instruments, the list of privately debt instruments was selected for undertaking a detailed analysis. Out of list generated, the assessee further eliminated the list based on following criteria :
•Debt instruments not issued during FY 2013-14;
•Debt instruments issued at floating rate or at zero debt coupon rates;
•Debt instruments, issued by companies not engaged in real estate industry; and
•Debt instruments issued at floating redemption.
5.2 In this manner, search result of the three website resulted in total 65 listing. The assessee further eliminated the duplicate entries and the instruments issued by the companies not operating in residential sub-sector of real estate. The above criteria resulted in elimination of listing of 60 debt instruments leaving a list of five indentified debt instruments issued. Further, the assessee considered two debt instruments which were accepted in last year’s documentation but not appearing in current year list of probable companies, were additionally indentified and included. In this manner, the assessee finally indentified seven comparable companies with mean coupon rate of which was worked out at 18%. The relevant list of comparables along with their coupon rate of interest is reproduced for ready reference:
Sl. No.CompanyISIN NumberIssue dateCoupon rate
1.VBHC MUMBAI VALUE HOMES PRIVATE LIMITEDINE366P0701223 July 201316.50%
2.TOTAL ENVIRONMENT BUILDING SYSTEMS PVT LTDINE547Q0701527 March 201417.50%
3.TOTAL ENVIRONMENT HAVING SPACES PRIVATE LTDINE904L0702727 March 201417.50%
4.BAGADIA PROPERTIES PRIVATE LIMITEDINE626P0701929 October 201318.00%
5.VILAS JAVDEKAR ‘ LIFESTYLE DEVELOPERS PRIVATE LIMITEDINE430P0702424 September 201318.40%
6.VGN DEVELOPERS PRIVATE LIMITEDINE72300901315 June 201319.00%
7.SKYLARK ARCADIA PRIVATE LIMITEDINE882N0701328 March 201420.00%
35th percentile17.50%
Median18.00%
65thMedian18.40%

 

5.3 Based on the above analysis the assessee worked out the arm’s length rate of interest to an average of 18%. It was submitted by the assessee that as per the terms of subscription, the interest rate on CCD issued by the assessee to its AE was 17.65% (gross of tax), hence, the interest paid on CCDs by the assessee to its AE was considered to be at arm’s length price under the Indian Transfer Pricing Guidelines.
5.4 The assessee also supported its transaction at arm’s length following a secondary analysis relied upon RBI published lending rates offered by various commercial banks in India as published by the RBI at quarterly basis in respect of advances other than export credits. The term loan lending rates published by RBI on its website are considered as indicative rates at which banks in India lend money to its credit worthy customers. The assessee worked out median of 35th percentile and ending on the 65th percentile of the term loan rates offered by banks in India for the quarter ended September, 2013 which was worked out to 17.25%. It was explained by the assessee that interest rate on CCD issued to the assessee to its AE was 17.65% (gross of tax) and therefore, it was within arm’s length price under the Indian Transfer Pricing perspective.
5.5 The Ld. TPO was not satisfied with the benchmarking result of the assessee. Accordingly, he rejected the benchmarking carried out by the assessee. The Ld. TPO rejected the assessee’s alternative benchmarking holding that lending rates of Commercial Banks available on RBI database were not strictly comparable to the international transaction carried out by the assessee as same were indicative rates without any evidence of actual transaction between two independent entities. Further, the rates were subjected to the financial strength of the borrowing company. The Ld. TPO noted that Comparable Uncontrolled Price method (CUP) requires strict comparability of the benchmarking data whereas the benchmark interest rate from the RBI website considered by the assessee indicated a broad range of lending rates offered by commercial banks in India to varied customers with differing profile then that of the assessee and also the lending rates had been taken into account without considering the distinctive terms attached to subscription of CCDs. The Ld. TPO further held that convertible debentures issued by the company were as a type of loan which could be converted into stock and therefore, the convertible debentures are different from the non-convertible debentures as in the event of bankruptcy, debenture are paid after other fixed income holders whereas convertible debentures are a hybrid financial products i.e. benefit of both debt and equity. The Ld. TPO accordingly applied filters viz. issuance date, 12 years maturity, effective annual yield, considering quarterly payment etc. The Ld. TPO carried out search on “Bloomberg” loan database involving jurisdiction of India and Singapore for benchmarking. Accordingly, the Ld. TPO arrived at ALP on interest rate of 8.6% on the basis of two comparables namely ‘SVOGL’ and ‘Soma Enterprises Ltd’. The complete search criteria and screenshot of Bloomberg database was shared by the TPO with the assessee.
5.6 The assessee however contended that CCDs were unsecured, high risk instrument, specific to the real estate sector, unlike the ‘Bloomberg’ comparables, which pertain to the industry like ‘oil and gas’ and ‘infrastructure’. It was contended that industry risk and terms of issue made the transaction non-comparable. The assessee also argued that reliance on only two and three Bloomberg comparable was strictly insufficient for benchmarking.
5.7 The Ld. TPO however maintained that CCDs are till conversion, debt instrument and therefore, benchmarking of loan yields on Bloomberg database was the correct approach. It was held by Ld. TPO that industry filter was of limited relevance since Bloomberg provides reliable corporate bond yield. The assessee’s reliance on RBI data and sector specific risk was also not accepted by the Ld. TPO.
5.8 The Ld. TPO noted that the Ld. DRP in assessee’s own case for assessment year 2014-15 had upheld the action of benchmarking interest rate on CCD using Bloomberg database. Based on the above, the Ld. TPO concluded that ALP of the interest on CCDs should be computed at rate of 8.61% per annum. The assessee’s payment of interest at the rate of 17.65% was considered as excessive, resulting into transfer pricing adjustment of Rs.28.94 crores.
6. The Ld. CIT(A) following the finding of the Co-ordinate Bench of the Tribunal in the case of the assessee for assessment year 2014-15 in Mahindra Homes (P.) Ltd. v. ITO 95 (Mumbai – Trib.)/ITA No. 7159/Mum/2018, deleted the transfer pricing adjustment made by the Assessing Officer. The Tribunal (supra) in assessment year 2014-15 relied on the decision of the Tribunal Mumbai Bench in the case of Pr. CIT v. India Debt Management (P.) Ltd.  42 (Bombay)/ITA No. 7518/Mum/2014 dated 10.03.2016, which has been further affirmed by the Hon’ble Bombay High Court in India Debt Management (P.) Ltd (supra). The Hon’ble High Court observed that benchmarking done by the lower authorities in that case which was based on external data using ‘Thomson Reuter’, ‘Dealscan’ and ‘Bloomberg’ Database which was not found to be correct. The Hon’ble High Court rejected the benchmarking analysis of the TPO firstly, for the reason that there was no Indian rupee (INR) denominated debt issuance data available on such databases and secondly, if at all said database is used for benchmarking same will require huge adjustment on account of country risk, currency risk and tenor risk. Therefore, Hon’ble High Court concluded that it would be difficult to arrive at an appropriate arm’s length range of price on the basis of the database used by the lower authorities. On the contrary regarding BSE database used by the assessee Hon’ble High Court observed that assessee made minor tenor adjustment to factor the time period as no data for the year 2009-10 was available. The Hon’ble High Court observed that though a high degree of comparability is required under CUP but in absence of comparable data minor adjustment was permitted to eliminate the material defect of time difference. The assessee before the Hon’ble High Court filed two comparable transactions for the same financial year in the case of Shriram Transport Financial Company Ltd. and Tata Capital Ltd, where the credit rating of the enterprises was better than the rating of the company at ‘BBBQ’ and therefore, interest paid @ 11.30% was held to be arm’s length rate in view of 11.25% to 12% rate in the case of comparables. The relevant finding of Tribunal (supra) is reproduced as under:
“7. We have heard the rival submissions of both the parties, perused the paper book filed by the assessee, orders of the authorities below and the material available on record. In the instant case, we find that similar issue on hand has been came before the Mumbai Bench of the Tribunal in the case of India Debt Management (P.) Ltd. v. Dy. CIT 125 and the order of the Tribunal has been affirmed by the Hon’ble Bombay High Court in the case of Pr. CIT v. India Debt Management (P.) Ltd.  42/417 ITR 103 wherein the Hon’ble Court observed that as far as the benchmarking done by the lower authorities based on external data using Thomson Reuters, DealScan and Bloomberg Database is not correct. The relevant observations of Hon’ble Jurisdictional High Court is reproduced as under :
“15. The last leg of the controversy is, whether the benchmarking analysis done by the assessees is correct or not and whether the average rate of interest of 11.30% paid by the assessee to its AE is at ALP or not. So far as the assessee’s benchmarking analysis as done in TP Study report based on external data using Thomson Reuters’ Deal Scan, and Bloomberg Database, we find that such an approach is not correct, firstly, there are no INR denominated debt issuance available on such databases and; secondly, in absence of such a data the assessee has to carry out huge adjustments on account of country risk, currency risk and tenor risk. With all these factors of adjustments, it would be difficult to arrive at an appropriate arm’s length range of price; therefore, in our opinion such an approach of the assessee for benchmarking the arm’s length interest rate may not be correct. However, as regards the search undertaken for comparable debt issuances in BSE data, we find that the assessee has shortlisted two comparables namely; Starlight Systems Private Limited and Share Microfin Limited which have a coupon rate of 15% and 13.75%. Since these data belong to year 2013, the assessee had made minor tenor adjustment to factor the time period to arrive at interest rate of 15.97% and 14.05% giving a mean rate of 15.01%. Though the assessee was required to benchmark its transaction by taking the financial year data for year 2009-10,but, if such a data were not available then it cannot be held that such a tenor adjustment for taking into time period cannot be made under CUP, if has been made quite accurately taking into account the material factors relating to time of the transaction affecting the price. We though agree that, a high degree of comparability is required under CUP, but in absence of such a comparable data, a minor adjustment can be made to eliminate the material effect of time difference for arriving at a comparable uncontrolled price. Now before us, the assessee had filed two comparable transactions for the year 2009, that is, for the same financial year in the case of Shriram Transport Financial Company Ltd. and Tata Capital Ltd., wherein, for credit rating ofAA Enterprises the coupon rate of interest per annum was between 11% to 12% for a tenor of 60 months. The yield on redemption is also around 11.25% to 12%. If for a credit rating company AA orAA(+) the interest rate is ranging between 11% to 12%, then in the case of the assessee which is admittedly BBBQ credit rating company, 11.30% interest paid by the assessee to its AE is much within the arm’s length rate. This data/document from public domain now made available before us is worth reviving to benchmark and analyse the current transaction of coupon rate of interest paid/payable on CCDs issued by the assessee. Accordingly, we hold that 11.30% interest rate is at arm’s length price. Thus, in our conclusion, the transfer pricing adjustment made by the TPO and as confirmed by the DRP at Rs. 48,53,19,310 stands deleted, and consequently ground no. 1 is allowed.”
7.1 In the TP study the assessee had taken the comparables in CUP method related to database used NSE, BSE and NSDL database margin of the appellant is 17.65% gross or 15% net of tax system whereas the rate or merging as per database 18.13%. The assessee in secondary analysis calculated the rate at the rate of 17.89% on basis of the term loan lending rates offered by various banks in India as published in the Reserve Bank of India. the learned TPO undertook a fresh search using Bloomberg database to benchmark the international transaction without appreciating that the circumstances necessitating determination of price by the TPO as mentioned in sub-section (3) of section 92C of the Act did not exist in the instant case. The arm’s length rate of interest in CCDs was arrived @ 8.58% as per Bloomberg database. The assessee applied the same rate of interest both in foreign AE and domestic AE. No other uncontrolled comparable is determined during the TP study under CUP method. The application of CUP method as MAM without taking care the risk adjustment in terms of rule 10B(1)(e)(iii) of the Rules, which are generally involved in a third-party transaction vis-à-vis between AEs to facilitate & maintain the level and was not transaction of rendering actual service to AE. So, the benchmarking done by the appellant by way of search conducted on NSE, BSE& NSDL comprising of following 7 comparable should be accepted in TP study by the TPO. The revenue in TP study had considered the interest paid on loans in the oil, gas and infrastructure industries as comparable to interest on CCDs under cup method. So, the two comparables from list of comparable selected by the TPO be rejected as per the ground number 9 of the assessee. During the study the TPO should take care specific characteristics of the products being compared, functions performed, contractual terms and conditions. It is directed that the benchmarking undertaken by the assessee under CUP method using correct filter on NSE, BSE and NSDL data. We accepted, arithmetic mean of which comes 18.13%then the interest rate on CCD in respect of the impugned international transaction of 17.65% is at arm’s length. The benchmark performed on Bloomberg database by the appellant be considered, the impugned international transaction of interest on CCD paid at 17.65% is at arm’s length.
Respectfully following the decision in the aforesaid Judgment of Hon’ble Bombay jurisdictional High Court and in absence of any contrary decision brought to the notice of the Bench by the Ld. D.R, we delete the T.P. adjustment addition of Rs. 16,45,67,968/- proposed by the TPO and made by the A.O. in the draft assessment order and accordingly, grounds of appeal Nos. 2 to 13 of the assessee company are setting aside to TPO considering the findings of the Bench. Needless to say the assessee should get reasonable opportunity for the case.”
7. Before us, the Ld. counsel for the assessee submitted that the Ld. TPO rejected the primary economic analysis of the assessee conducted on BSE, NSE and NSDL database without providing any valid reason for the same. He further submitted that the Ld. TPO also rejected the secondary analysis of the assessee and proceeded to conduct a fresh search using ‘Bloomberg’ Database to arrive at ALP on interest rate of 8.6% on the basis of two comparables namely ‘SVOGL’ and ‘Soma Enterprises Ltd’ and both were operating in the oil and gas and infrastructure sector, which is entirely un-related to the assessee’s business in the residential real estate sector.
7.1 The Ld. counsel further submitted that the Ld. TPO erred in not adopting proper filters such as debt instruments industry etc. while undertaking a search of Bloomberg Database and erred in selection of non-comparable dataset. The Ld. counsel submitted that the dataset adopted by the Ld. TPO was erroneous for following reasons:
i.Comparables selected by the TPO operate in the Oil & Gas and Infrastructure sectors, which are entirely unrelated to the Respondent’s business in the residential real estate sector.
ii.The real estate industry, is an inherently highly risky sector and during AY 2015- 16, real estate developers faced high borrowing costs, rising input prices and shrinking profit margins owing to the high rise in real estate inventory. On the contrary, in the Oil & Gas industry, for example, there are ready buyers for the products and hence there is rarely any unsold inventory thereby lowering the inventory risk for companies operating in the Oil & Gas sector.
iii.Out of the 6 loan transactions selected by learned TPO, 5 transactions pertained to secured loans taken SOMA Enterprises. However, in the case of the Appellant, the CCDs have been issued on an unsecured basis, and hence, same cannot be considered to be comparable to the CCD’s issued by Respondent.
iv.The loan transactions selected by learned TPO have floating interest rate vis-à- vis fixed coupon rate in case of the CCDs issued by the Appellant.
7.2 The Ld. counsel further relied on the decision of the Co-ordinate Bench of the Tribunal in assessment year 2014-15 which was further followed by the Tribunal in assessment years 2016-17 and 2017-18.
8. On the contrary, the Ld. Departmental Representative (DR) submitted that decision of the Tribunal in the case of the assessee for assessment year 2014-15 is not applicable for two reasons, firstly, he submitted that in case of transfer pricing study, facts and circumstances of the assessee as well as comparables in each year are different and therefore, same economic analysis cannot be extended to any subsequent assessment years. He submitted that the ITAT in AY 2014-15 in the case of the assessee has ultimately relied on the decision in the case of India Debt Management (supra) wherein the Hon’ble High Court held that INR denominated data was not available and therefore, said data set was not found to be comparable with that assessee. The Ld. DR submitted that in the instant year the Ld. TPO has used data set having INR data and therefore the ratio of the Hon’ble Bombay High Court in the case of India Debt Management (supra) relied upon by the ITAT in assessment year 2014-15 is distinguishable and same cannot be applied as a valid precedent. Secondly, the Ld. DR submitted that the Hon’ble High Court in the case of India Debt Management (supra) has taken into consideration the rating and tenor of the debt instruments while comparing the transactions under CUP method. He submitted that the Hon’ble High Court has specifically emphasized that a high degree of comparability is required under the CUP unless minor adjustment can be made to eliminate the material effect of difference for arriving at a comparable uncontrolled price.
9. We have heard rival submissions of the parties and perused the relevant materials on record. The Section 92C of the Act mandates that the ALP be determined by applying the “most appropriate method” prescribed under Rule 10B of the Income-tax Rules, 1962. In the instant case, both parties have applied the Comparable Uncontrolled Price (CUP) Method. The Rule 10B(2) explicitly lays down that for determining comparability, regard shall be had to:
(i)the specific characteristics of the property transferred or services provided;
(ii)the functions performed, assets employed and risks assumed (FAR analysis);
(iii)the contractual terms of the transaction; and
(iv)the economic circumstances of the parties and the markets in which they operate.
9.1 The Rule 10B(3) further provides that an uncontrolled transaction shall be considered comparable only if none of the differences between the transactions materially affect the price, or if reasonably accurate adjustments can be made to eliminate such differences.
9.2 Further, the Hon’ble Bombay High Court in India Debt Management (P.) Ltd.(supra) categorically held that CUP demands a high degree of comparability, and where databases (Bloomberg/Thomson Reuters) lacked INR-denominated transactions, benchmarking could not be sustained without suitable adjustments for country risk, currency risk, and tenor risk.
9.3 The CCDs, by their very nature, are hybrid instruments. Unlike plain NCDs, they carry an embedded equity option since they mandatorily convert into equity shares at a future date. The option to convert confers a significant equity upside to the investor, thereby reducing the required coupon rate compared to a straight debt instrument. The CCDs are not comparable with ordinary debentures as they embody the dual character of debt and equity. The comparability under CUP cannot be presumed between two instruments of fundamentally distinct risk and return profile.
9.4 In the case, the assessee has issued Compulsory Convertible Debentures (CCD) to its Associated Enterprises and paid interest on the same at gross interest(coupon) rate of 17.65%. The assessee has compared the said interest rate with the data set of debt instruments on ‘BSE’, ‘NSE’ and ‘NSDL’ which comprises of non-convertible debentures (NCD). The assessee has not carried out any adjustment to eliminate the effect of compulsory conversion of this debenture at the end of the 12 years into equity which has added advantage to its associated enterprises. Further, the secondary analysis has been made on the basis of the set of the interest rate charged by the various Indian Commercial Banks on loans other than the export loans but in our opinion said database is not the interest rate charged in actual loan transactions with customers and thus this is not a valid CUP transaction which could be used for comparison under the strict comparability of CUP method. Secondly, said interest rates are not adjusted to the rating of the customer, tenor of the loans etc. and therefore, said database is liable to be rejected.
9.5 Thus, any comparability analysis between CCDs and plain NCDs, without adjustment for option value, subordination, and equity convertibility, fails the test of Rule 10B(3). Similarly, Bloomberg loan transactions selected by the TPO—largely comprising secured floating-rate loans in unrelated industries like oil and gas and infrastructure—cannot be regarded as comparable to unsecured CCDs issued in the real estate sector, which is inherently riskier and carries higher borrowing costs. The Ld. TPO has also not considered the effect of equity conversion optionality.
9.6 As far as the contention of the assessee that in earlier year, the Tribunal has deleted the transfer pricing adjustment and rejected the transfer pricing analysis of the TPO, we are of the opinion that there are factual differences in the year under consideration as compared to the assessment year 2014-15. The Tribunal has relied on the decision in the case India Debt Managment (supra) wherein the Hon’ble High court observed that the data set used of the Bloomberg used by the TPO was not having INR denominated data set. Further, Hon’ble High Court observed that since the CCDs in question were used and utilized in India, the ‘Bloomberg’ data set without INR transactions was not accurate for comparison and if at all same was to be used then same would required a lot of adjustment for country risk, currency risk and tenor risk and therefore, said data set may not be appropriate for comparison. But in the instant assessment year, the Ld. TPO used Bloomberg INR interest rate data set and therefore, decision in the assessment year 2014-15 is distinguishable on facts.
9.7 We are of the opinion that the comparison carried out by the assessee as well as the Ld. TPO, both are not meeting the requirement of the comparison with the CCD issued by the assessee. It is admittedly clear that no CUP transaction of the CCD has been cited either by the assessee or by the Ld. TPO. The assessee has compared with the database of the NCD issued in the real estate sector. The assessee has not made any adjustment for subordination and equity conversion optionality. A subordination agreement prioritizes debts, ranking one behind another for purposes of collecting repayment from a debtor in the event of foreclosure or bankruptcy. The CCDs has mandatory conversion therefore, as independent investor coupon interest rate would be lower because they also receive equity upside. The assessee’s BSE, NSE and NSDL data set largely reference straight debentures (NCD type terms) with no equity options; absent a defensible option-value deduction. Further, the assessee has not shown any parity on security, seniority or covenants versus the tested CCDs. These are material price drivers under Rule 10B(2)/(3) of the Income-tax Rules, 1962. The assessee has treated itself as standalone unrated real estate borrower, inflating the coupon whereas the passive association and implicit parental support can uplift the borrower’s credit profile. Accordingly, we conclude that :
(i)The assessee relied on seven comparables from BSE/NSE/NSDL databases, with coupon rates ranging between 16.5% and 20%. These, however, pertain to straight NCDs and no adjustment was carried out for the embedded equity feature of CCDs. By ignoring the convertibility element, the assessee’s benchmarking is inflated.
(ii)The secondary analysis based on RBI’s published lending rates was rightly rejected by the TPO, as those are indicative policy rates and not the outcome of actual independent transactions. They are therefore outside the purview of CUP as envisaged in Rule 10B(1)(a).
(iii)On the other hand, the TPO’s reliance on Bloomberg comparables is also flawed. Firstly, the selected comparables pertain to unrelated industries with different risk-return profiles, violating Rule 10B(2)(b). Secondly, the majority of transactions were secured loans, while the assessee’s CCDs are unsecured. Thirdly, the coupon structures (floating v. fixed) are materially different. No adjustments were attempted to neutralize these differences, contrary to Rule 10B(3).
(iv)In effect, neither the assessee’s comparables nor the TPO’s comparables satisfy the statutory test of strict comparability under CUP. In such a position where neither party demonstrates reliable comparables, the benchmarking must fail and the matter must be reconsidered with appropriate adjustments.
9.8 In light of the foregoing discussion, we are of the considered view that the issue cannot be resolved on the present record. Both sets of comparables are deficient in terms of Rule 10B(2)/(3). The fundamental comparability differences in respect of equity conversion option, subordination, security, industry risk, and coupon structure remain unaddressed. As approach of both the assessee as well as of TPO is not meeting the comparability standards required under the method of CUP, no alternative left with us except to set aside the order of the lower authorities and restore the matter back to the file of the Ld. AO/TPO for carrying out appropriate adjustment to cover the convertibility (option value factor) to minimize the difference between the comparable transaction either of the NCD or Bloomberg INR denominated loan interest transaction or SBI base/CLR credit tenor spread interest on loan transaction. Accordingly, in the interest of justice, we set aside the order of the CIT(A) and restore the matter to the file of the AO/TPO with a direction to re-examine the issue de novo. We make it clear that our observations are confined to the comparability analysis and shall not prejudice the merits of the case. The AO/TPO shall pass a reasoned order in accordance with law. It is needless to mention that the adequate opportunity of being heard should be afforded to the assessee while proposing adjustment to the value of international transaction. The ground Nos. 1 to 3 of the appeal of the Revenue are accordingly allowed for statistical purposes.
10. The Ground Nos. 4 and 5 of the appeal pertain to the deletion of additions made by the Assessing Officer in respect of legal and professional expenses, advertisement and sales promotion expenses, and commission and brokerage expenses. The Learned Counsel for the assessee submitted that the said expenditure had been claimed strictly in accordance with the guidelines issued by the Institute of Chartered Accountants of India (ICAI) applicable to real estate developers. As per such guidelines, only direct costs such as cost of land, labour, and materials are to be capitalised as work-in-progress, whereas indirect expenses, including selling and administrative expenditure, are not to be treated as part of work-in-progress, but are allowable as deduction in the year in which they are incurred. Reliance was placed upon the judgment of the Hon’ble Delhi High Court in CIT v. Somnath Buildtech Pvt. Ltd. 472 (Delhi), wherein similar expenses were held to be deductible. It was further submitted that identical additions made in the assessment year 2014-15 had already been deleted by the Tribunal, and no further appeal was preferred by the Revenue before the Hon’ble High Court, thereby attaining finality.
10.1. Per contra, the Learned Departmental Representative submitted that in the assessment years 2016-17 and 2017-18, the Tribunal, after considering the ICAI guidelines, had restored the matter to the file of the Assessing Officer with specific directions. It was argued that the Assessing Officer had to examine the nature of such expenses and determine whether they were directly attributable to the pre-construction or construction period, in which case they ought to be capitalised as work-in-progress, and only the residual general administrative and selling expenses should be allowed as revenue expenditure. The Ld. DR placed reliance upon the relevant findings of the Tribunal, which read as under:
7.10. It is not in dispute that the expenditures incurred by the assessee were incurred wholly and exclusively for the purpose of business only. What is required to be analysed here is as to whether they are connected with the project or to be allowed as general administrative and selling costs. In any event, allowing revenue expenditure to the extent of 42.08% of relevant expenditure is grossly incorrect. There is absolutely no basis for the Id. AO for doing this. All said and done, the relevant expenditure has already been incurred by the assessee. Restricting the business expenditure to the extent of business income is certainly not provided in the entire scheme of the Act. Considering the totality of facts circumstances of the case, we deem it fit and appropriate, in the interest of justice and fair play, to remand this entire issue to the file of Ld. AO for adjudication In the light of the following directions:-
(a)Restricting the allowability of expenses to the extent of 42.08% is wrong.
(b)Expenses directly attributable to Pre-construction and construction period should be identified and added to the Inventory/ cost of work -in -progress.
(c)Other expenses should be allowed as revenue expenses as General Administration and Selling Expenses.
The Id. AO is directed to carry out the verification in the light of aforesaid directions and then decide the issue accordingly. Hence the Ground Nos. 14 to 25 raised by the assessee before us are allowed for statistical purposes.
10.2. Having considered the rival submissions and perused the material available on record, we note that the controversy stands squarely covered by the directions issued by the Tribunal in assessee’s own case for assessment years 2016-17 and 2017-18. Respectfully following the said precedent, we deem it just and proper to restore this issue to the file of the Assessing Officer for the limited purpose of verification. The Assessing Officer shall examine whether the impugned expenses, namely legal and professional fees, advertisement and sales promotion expenses, and commission and brokerage expenses, are directly connected with the real estate project. To the extent such expenditure is attributable to pre-construction or construction activity, the same shall be capitalised as part of work-in-progress; and to the extent they are in the nature of general administrative or selling expenses, they shall be allowed as revenue expenditure in the year of incurrence, in accordance with law.
10.3. In view thereof, the findings of the Learned CIT(A) on this issue are set aside, and the matter is restored to the file of the Assessing Officer for fresh adjudication in the light of the above directions. Accordingly, Ground Nos. 4 and 5 raised by the Revenue are allowed for statistical purposes.
11. In the result, the appeal of the Revenue is allowed for statistical purposes.