The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) has held that expenditure incurred for the Indian PE’s business cannot be disallowed merely because it is routed through or initially borne by the foreign head office. Expatriate salary for employees working exclusively in India is not head office expenditure under section 44C and is deductible under section 37(1) as well as Article 7 of the India-UK DTAA.
Secondly, the Court ruled that interest paid by an Indian branch of a foreign bank to its own head office or overseas branches, for years prior to the deeming amendment effective from AY 2016-17, is payment to self and cannot be taxed in India in the hands of the head office. As a result, no TDS under section 195 is required and no disallowance under section 40(a)(i) can be made. The Tribunal also laid down that direct cost allocations supported by allocation keys, auditor certification, and demonstrated business benefit cannot be treated as royalty or FTS in the absence of transfer of rights or satisfaction of the “make available” test under Article 13 of the India-UK DTAA. Accordingly, ALP cannot be forced to nil on an ad hoc basis where the commercial need and supporting material exist.
Further, on section 44C and treaty interaction, the Tribunal held that section 44C is a valid special computation provision, but its application vis-à-vis Articles 7 and 26 of the India-UK DTAA requires item-wise factual examination. It cannot be assumed either that section 44C is always discriminatory or that it always overrides treaty protection.
On expatriate salary, the Division Bench comprising Beena Pillai (Judicial Member) and Arun Khodpia (Accountant Member) observed that section 44C applies only to executive and general administrative expenditure incurred outside India in connection with management of affairs outside India, and not to salary cost of employees deputed to India who worked exclusively for Indian business. It found that the expenditure had a direct nexus with Indian operations, was incurred for the Indian PE, and could not be denied merely because the salary was initially paid by the head office outside India. The Tribunal also noted that the full salary had already suffered tax in India in the hands of the expatriate employees.
The Tribunal further observed that Article 7 of the India-UK DTAA independently supported deduction of such PE-related expenditure, because expenses incurred for the purposes of the PE, including executive and administrative expenses, are allowable whether incurred in India or elsewhere. Since the treaty was more beneficial, section 44C could not be used to deny the claim in these facts.
On interest between the Indian branch and head office/overseas branches, the Tribunal followed the Special Bench ruling in Sumitomo Mitsui Banking Corporation and held that such interest is merely payment to self. Since branch and head office are not separate persons for this purpose in the years under consideration, no income arose in India in the hands of the head office, and therefore there was no obligation to deduct tax under section 195 and no scope for section 40(a)(i) disallowance. The Tribunal also noted that the statutory amendment deeming such PE and HO as separate persons was only prospective from AY 2016-17.
On head office expenditure under section 44C, the Tribunal gave a nuanced ruling. It accepted that section 44C is a special computation provision and that the Supreme Court’s ruling in American Express Bank Ltd. recognizes its operation. But it also held that under the India-UK DTAA, the interaction of Article 7 and Article 26 has to be examined factually, and section 44C cannot automatically be called discriminatory in every case nor automatically be applied in every case. Since the lower authorities had not identified the exact nature of the expenditure items, the Tribunal restored the issue to the AO to classify the expenses and then re-examine the claim in light of section 44C, American Express Bank, and the treaty provisions.
On interest on income-tax refund, the Tribunal noted that the Revenue had already accepted in earlier years that such interest, where taxable, would be taxable at 10% under Article 12 of the India-UK DTAA. It further observed that since appeals for earlier years were still pending and the refund amounts had not attained finality, it found no fault with the CIT(A)’s approach of taxing the interest at treaty rate after verification.
On direct cost allocation, the Tribunal ultimately ruled in favour of the assessee. It observed that the direct costs were allocated on scientifically determined and consistently applied allocation keys, supported by documentary material and business benefit. It held that the expenditures were allowable business expenses and were neither royalty nor fees for technical services under domestic law or Article 13 of the India-UK DTAA. The Tribunal also found no justification for determining the ALP at nil where the costs were backed by evidence, certified allocation keys and business need.
Briefly, Standard Chartered Bank, a UK-incorporated foreign bank operating in India through its Indian branch, filed cross-appeals for AYs 2004-05 and 2005-06 arising from the CIT(A)’s orders dated 11 April 2025. The case involved multiple recurring issues including direct cost allocation from head office and offshore branches, expatriate salary paid outside India for employees working in India, taxability of interest between the Indian branch and head office/overseas branches, recoveries against securities loss, deductibility of head office expenditure under section 44C vis-à-vis the India-UK DTAA, taxability of interest on income-tax refund, refurbishment expenses.
For AY 2004-05, the assessee had claimed direct costs of about Rs. 85.19 crores said to be incurred by the head office, Singapore branch and Hong Kong branch for the benefit of Indian operations, largely towards technology and related business support. The TPO accepted Rs. 51.95 crores as being at arm’s length based on the documents furnished, but treated the balance Rs. 33.24 crores at nil ALP for want of full supporting details. At the assessment stage, the AO also disallowed even the accepted portion on section 37 and section 40(a)(i) grounds. The assessee argued that the costs were for Indian business, supported by auditor-certified allocation keys, and did not amount to royalty or fees for technical services.
Another major issue concerned expatriate salary of Rs. 8.63 crores paid outside India by the head office to employees who were deputed to India and worked exclusively for the Indian branch. The Revenue treated this as head office expenditure hit by section 44C, while the assessee argued that these were employee costs directly connected with Indian operations, fully taxable in India in the hands of the employees, and allowable as business expenditure under section 37(1) and also under Article 7 of the India-UK DTAA.
The Revenue also challenged the relief granted on interest paid by the Indian branch to the head office/overseas branches and on corresponding taxation of such interest in the hands of the head office. The assessee’s case was that branch and head office are the same legal entity, so payment of interest to head office is merely payment to self and cannot generate taxable income or TDS liability. Similar controversy also arose regarding allowability of such interest and section 40(a)(i) disallowance.
