Facts
The Taxpayer, an Indian company, was engaged in the business of ink manufacturing. Taxpayer had a subsidiary company in USA (FCo) which manufactured ink for US markets by using material supplied by the Taxpayer. Taxpayer had issued corporate guarantees on behalf of FCo without charging any consideration for the same.
Taxpayer contended that neither these guarantees cost anything to it nor did it recover any charges for the same from FCo. Further, the guarantees were in the nature of quasi capital and not in the nature of any services. Accordingly, no income was required to be imputed.
However, the TPO computed the arm’s length price (ALP) of the corporate guarantee and proceeded to make Transfer Pricing adjustment in the hands of the Taxpayer.
Held
It is elementary that the determination of arm’s length price can only be done in respect of an ‘international transaction’. As per section 92B of the Act, an International transaction means a transaction between two or more associated enterprises (AE) either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises.
Explanation to section 92B provides that the expression “international transaction”, inter-alia, includes capital financing, including any type of long-term or short-term borrowing, lending or guarantee and provision of services. The Explanation is to be read in conjunction with the main provision. A transaction of capital financing and provision of services can be covered only in the residual part of the definition of international transaction, i.e., “any transaction having a bearing on the profits, income, losses or assets of such enterprises”. In other words, the impact on “profit, income, losses or assets” is a sine qua non and it should be on real basis and not on a contingent or hypothetical basis, for a transaction of provision of service and capital financing to fall under the ambit of ‘international transaction’.
Reliance in this regard was placed on Tribunal decision in the case of Bharti Airtel Limited [(2014)(63 SOT 113)]. It is not correct to compare corporate guarantee and bank guarantee. A bank guarantee is a surety that the bank or the financial institution issuing the guarantee provides by committing that banks, will pay off the debts and liabilities incurred by an individual or a business entity in case they are unable to do so. Even when such guarantees are backed by one hundred percent deposits, the bank charges guarantee fee. However, corporate guarantee is issued without any security or underlying assets. There is no recourse available with the guarantor if there is any default. Such guarantees are issued based upon the business needs and group synergies and not based on the risk assessment or underlying asset which generally the banks ask for.
Corporate guarantees can also be a mode of ownership contribution, particularly where a guarantee given compensates for the inadequacies in the financial position of the borrower. There can be number of reasons, including regulatory issues and market conditions in the related jurisdictions, in which such a contribution, by way of a guarantee, would justify to be a more appropriate and preferred mode of contribution vis-a-vis equity contribution. For these reasons, bank guarantees are not comparable with corporate guarantees.
In the facts of the present case, guarantee has been provided to compensate for lack of core strength of the subsidiary for raising the finances from bank. Nothing was brought on record to contradict the same. Therefore the transaction of issuance of corporate guarantee is in the nature of shareholder activity and not provision of service. A transaction which is in the nature of shareholder activity does not amount to “provision of services”. Hence, it is outside the ambit of international transaction. Even if issuance of corporate guarantee is to be treated as ‘provision for service’, such service would need to be re-characterised in tune with commercial reality, as no independent enterprise would issue a guarantee without an underlying security. Reliance for this was placed on the decision of EKL Appliances [(2012) 345 ITR 241 (Del)]
Further, where the issuance of a corporate guarantee does not have a bearing on the profits, income, losses or assets, it does not constitute an international transaction. In the present case, the taxpayer had extended corporate guarantee to FCo. The guarantee did not cost anything to the Taxpayer and the Taxpayer could not have realised money by giving such guarantee to someone else during the course of its normal business. Thus, such arrangement did not impact the profits, income, losses or assets of Taxpayer. Hence, it falls outside the ambit of international transaction u/s. 92B of the Act.
