Inter-branch payments aren't deductible on grounds of mutuality unless allowed under DTAA

SUMITOMO MITSUI BANKING CORPORATION 

v. 

DCIT

IT/ILT : 

• Once the assessee discloses fully and truly all material facts necessary at the time of original assessment under section 143(3) and a period of four years has expired from the relevant Assessment Year, initiation of reassessment proceedings under section 147 is not valid

• By applying principle of mutuality, no deduction can be allowed in respect of payments made by Indian branch to its head office but the provisions of DTAA override said principle

FACTS

First Issue

• In the instant case, the assessee's assessment for the Assessment Year1997-98 completed under section 143(3) was reopened by issuing notice under section 148 in March 2004 i.e. after expiry of four years from the relevant Assessment Year. The Assessing Officer initiated reassessment proceedings on the strength of the order passed by the first appellate authority for Assessment Year 2000-2001 confirming the addition made by the Assessing Officer by disallowing the interest paid to its head office and other overseas branches.

• On remaining unsuccessful before the Commissioner (Appeals) on the question of initiation of the reassessment proceedings, the assessee filed this present appeal.

Second Issue

• For the Assessment Year 1999-2000, the Assessing Officer disallowed deduction towards interest paid to head office and other overseas branches under section 40(a)(i) because the assessee failed to deduct tax at source though the said amount of interest received by head office and other overseas branches was taxable in their hands.

• However, the CIT(A) upheld the disallowance of interest paid by the assessee on the ground of mutuality and also directed that the interest income was not taxable in the hands of the head office because of mutuality.

Third Issue

• For the Assessment Year 1999-2000, the assessee also appealed against the disallowance of inter-office commission paid / payable by the assessee to head office and other overseas branches.

HELD

First Issue: Initiation of reassessment proceedings after expiry of four years

• There is nothing in the reasons to indicate, even remotely, that the assessee did not disclose the necessary fact regarding claiming of deduction towards interest paid to head office and overseas branches in its return or accompanying documents.

• Once the assessee disclosed the fact of claim of deduction on account of interest paid to head office or other overseas branches by way of a debit to the Profit and loss account and the original assessment was completed under section 143(3) accepting such claim, there can be no question of initiation of reassessment proceedings after a gap of four years from the end of relevant assessment year.

• Thus, the initiation of reassessment proceedings cannot be declared as valid. In view of this, notice issued under section 148 is struck down and also the resultant assessment order passed by the Assessing Officer flowing out of such invalid notice.

Second Issue: Disallowance of interest paid to head office and other overseas branches

• On the basis of principle of mutuality (i.e. transaction with the self), there can be no deduction of interest paid by Indian branch to head office/other overseas branches. Consequently, the provisions of section 40(a)(i) have no applicability.

• However, the assessee is entitled to deduction of interest paid to head office/other overseas branches as per the terms of the DTAA.

• Since the amount cannot be charged to tax in the hands of the head office by reason of principle of mutuality, the assessee's appeal is allowed.

Third Issue: Disallowance of inter-office commission paid/payable to head office and other overseas branches

• Because of application of principle of mutuality under domestic law, no deduction can be allowed in respect of payments made by Indian branch to its head office and other overseas branches. Since, the provisions of DTAA are not applicable to inter-office commission paid/payable, the issue needs to be decided as per domestic law alone.

• By applying rule of mutuality, inter-office commission paid by the assessee to its head office and other overseas branches - being obviously a transaction with the self – cannot be allowed as deduction