ITAT Deletes Rs 15.77 Crore Disallowance, Holds Business Expediency Cannot Be Reopened Under Section 37(1)

Case Details

Background & Facts

Ericsson India Pvt. Ltd. (EIL) is a wholly owned Indian subsidiary of Telefonaktiebolaget LM Ericsson, Sweden (LME), the ultimate holding company of the Ericsson Group globally.

During AY 2012-13, EIL was engaged in trading and assembly of telecom carrier equipment, post-sale implementation services, and contract software development for its customers in India, and it paid its Associated Enterprises (AEs) for Second Line Support (SLS) services, essentially high-end technical support for complex hardware/software problems that EIL’s own staff couldn’t resolve.

EIL filed its return of income for AY 2012-13, declaring income of Rs 3,91,38,33,940. During assessment, the case was referred to the Transfer Pricing Officer (TPO), who accepted all international transactions as arm’s length under the Transactional Net Margin Method (TNMM) except SLS services and holding the Arm’s Length price as NIL. Effectively treating the entire payment as unjustified and proposing a TP addition of ₹ 15,77,01,789.

The Dispute Resolution Panel (DRP) upheld the TPO and directed the Assessing Officer (AO) to alternatively disallow the SLS payment under Section 37(1) of the Act on grounds of lack of business expediency. The AO’s final assessment order dated 22 December 2016 carried out this disallowance. EIL appealed to the Tribunal.

Issues before Tribunal

Tribunal focused on ground no. 3, the disallowance of SLS expenditure under Section 37(1) & other connected issues regarding that

• Whether the APA entered into between EIL and CBDT, which expressly covered SLS services rendered further disallowance under Section 37(1) is impermissible.
• Whether a dual disallowance was legally sustainable on same expenditure i.e. once under Section 92CA & another under Section 37(1).
• Whether the consistency is questionable, where SLS expenditure was allowed in all assessment years surrounding AY 2012-13.

Issue 1: APA as Conclusive proof of business transaction & Dual disallowance

EIL had entered into a Unilateral APA with the CBDT on 4-12-2019, which expressly covered SLS services as Serial No. 9 of the covered transactions described as Receipt of services (IS/IT, Second Line Support, Consulting, Training, etc.).

EIL had further filed a modified return under Section 92CD on 20 November 2024 in compliance with the APA and maintained the agreed 6% operating profit margin.

The AO himself, in the APA effect order dated 31 March 2022, accepted that the margin was in compliance & still retained the addition of Rs 15,77,01,789 in the assessed income.

Tribunal holding:

Where a transaction or its components have been covered under APA under section 92CC, the same is binding on both the Department and the assessee.

The APA process involves a detailed examination of the Functions, Assets, and Risks (FAR), the need rendition-benefit test, and the cost allocation methodology for the impugned transactions.

The very existence of the APA is conclusive proof that the transactions were undertaken for business purposes. To disregard the APA by the AO and disallow the same expenditure under Section 37(1) on the ground of lack of business expediency… would nullify the effect of the binding APA.

Hence, it’s also noted by the tribunal that post-APA section 37(1) disallowance was legally impermissible and gave the Departmental Representative an opportunity to file written submissions in response. If no submissions were filed, the tribunal will assume that the DR had opposed the bench’s view purely.

Issue 2: Consistency issue

EIL placed before the bench a year-wise summary showing that SLS expenditure had been allowed in every single year from AY 2007-08 through AY 2011-12 and again from AY 2013-14 through AY 2019-20. AY 2012-13 was the only exception, which was disallowed by the DRP without any distinguishing factual basis.

Tribunal Holding:

Thus, based on the principle of consistency, alone the disallowance made by the AO/DRP should be deleted. The Tribunal’s own earlier order in EIL’s case for AY 2007-08 had examined the SLS arrangement in detail

Relying on the Delhi High Court’s ruling in CIT v. EKL Appliances Ltd., the Tribunal contented that the TPO has no authority to disallow the expenditure on the ground that it was imprudent or unnecessary for the assessee.

Final verdict

We thus sustain the corresponding ground and allow the appeal. The impugned disallowance u/s 37(1) shall stand deleted.