The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) has held that mutuality-based NOSTRO receipts are not ‘income’ and section 14A Income Tax Act does not apply, while directing fresh examination of section 44C head office expenditure on the touchstone of the statutory definition. Where income is chargeable to tax at a lower rate under section 115A, section 14A does not apply to disallow proportionate expenditure against other business income.
The ITAT held that interest received from and paid to the Head Office and overseas branches on NOSTRO accounts, being a self-to-self transaction under the principle of mutuality, is not ‘income’ under the Act, and section 14A cannot be invoked to disallow corresponding expenditure. Year-end loss on revaluation of outstanding foreign exchange forward contracts, consistently determined by a mercantile system assessee, is an allowable accrued liability.
Head office expenditure must satisfy the statutory definition under the Explanation to section 44C before the question of royalty under sections 195 and 40(a)(i) arises. Further, VRS expenditure incurred prior to the introduction of section 35DDA is allowable as revenue expenditure under section 37 where no capital asset or enduring advantage is acquired, added the Bench.
Briefly, the assessee is a banking company incorporated in the United States of America and carried on banking business in India through its branches, which constituted its Permanent Establishment (PE) in India. During the assessment proceedings, the Assessing Officer (AO) made several additions and disallowances, including those relating to expenditure attributable to income chargeable at the special rate under section 115A, interest transactions with the Head Office and overseas branches, disallowances under section 14A, loss on revaluation of outstanding foreign exchange forward contracts, global system charges and other Head Office expenditure, broken-period interest, and expenditure incurred under the Voluntary Retirement Scheme (VRS).
The Division Bench comprising Beena Pillai (Judicial Member) and Bijayananda Pruseth (Accountant Member) observed that the assessee’s own case for earlier years, particularly A.Y. 1999-2000, had already decided identical issues in the assessee’s favour, and those decisions had been upheld by the Bombay High Court. On the question of expenditure relatable to income taxable at a lower rate under section 115A, the Tribunal noted that section 14A only inhibits deduction of expenses incurred in relation to income not chargeable to tax at all, and not income chargeable at a lower rate.
On the NOSTRO account interest received from and paid to the Head Office and overseas branches, the Tribunal, following the Special Bench decisions in Sumitomo Mitsui Banking Corporation vs. DCIT [(2012) 19 taxmann.com 364] and J.P. Morgan Chase Bank vs DCIT [ITA No. 9189/Mum/2004], observed that such transactions are in the nature of self-to-self receipts and do not constitute ‘income’ under domestic law, and consequently section 14A has no application to such receipts.
On the loss on revaluation of foreign exchange forward contracts, the Tribunal, following the Special Bench decision in DCIT v. Bank of Bahrain & Kuwait [(2010) 41 SOT 290], observed that where an assessee consistently follows the mercantile system and recognises both gains and losses on revaluation, the year-end loss on outstanding forward contracts is not merely notional but represents an accrued liability capable of reasonable estimation.
On the global system charges and Head Office expenditure, the Tribunal reiterated that section 44C does not draw an artificial distinction between ‘common’ and ‘exclusive’ head office expenditure, but the expenditure must satisfy the statutory definition of ‘head office expenditure’ under the Explanation to section 44C.
