The Karnataka High Court on 12 October held that loans advanced to a foreign subsidiary for business purposes and on grounds of commercial expediency are deductible as business expenditure under Section 37(1) of the Income Tax Act, 1961.
A Bench comprising Chief Justice Vibhu Bakhru and Justice K.S. Hemalekha upheld NSL Sugars Ltd.'s claim for the Rs. 3.79 crore deduction and the bagasse transfer price of Rs. 1,500 per tonne, but remanded the TDS issue for fresh examination. It said:
“...we consider it apposite to remand the matter to the AO to examine whether the Assessee had, in fact, deducted the amounts paid to the contractors and the harvesters from the purchase price of sugarcane payable to the farmers.”
The Court was hearing an appeal filed by the Income Tax Department against the Income Tax Appellate Tribunal's (ITAT) order dated 8 January 2026, concerning Assessment Year 2021-22.
NSL Sugars manufactures sugar and generates electricity for captive consumption and sale to electricity distribution companies. During assessment proceedings, the Transfer Pricing Officer (TPO) increased the transfer price of bagasse, a by-product of sugar manufacturing supplied by the company's sugar manufacturing division to its power generation division, by Rs. 30.77 crore.
The TPO adopted rates of Rs. 2,274 and Rs. 2,632 per tonne based on the Central Electricity Regulatory Commission (CERC) tariff, instead of the Rs. 1,500 per tonne adopted by the company.
The Assessing Officer also disallowed Rs. 3.79 crore written off towards loans and advances to the company's wholly owned subsidiary in Ghana. A further disallowance of Rs. 12.39 crore was made under Section 40(a)(ia) for failure to deduct tax at source (TDS) on harvesting and transportation charges of Rs. 41.31 crore.
The ITAT granted relief to NSL Sugars on all three issues, prompting the Income Tax Department to approach the High Court.
On the transfer pricing adjustment, the High Court found that the ITAT had considered third-party quotations and calculations based on the Fair and Remunerative Price (FRP) of sugarcane while accepting the company's valuation. It also took note of the Karnataka Electricity Regulatory Commission's (KERC) acceptance of a bagasse cost of Rs. 1,161.28 per tonne for tariff determination, which had been adjusted for the relevant financial year.
It held that the CERC tariff could not be the sole basis for determining the arm's length price (ALP) when other relevant material supported the company's valuation. It therefore declined to interfere with the ITAT's acceptance of Rs. 1,500 per tonne.
On the write-off, the Bench noted that NSL Sugars had advanced money to its Ghanaian subsidiary, established to expand its sugar manufacturing business overseas, to meet vendor expenses. The amounts, recorded as loans and advances, became irrecoverable after the subsidiary incurred losses and was wound up.
The Income Tax Department denied the deduction because the payments were made directly to vendors rather than invested as equity. Rejecting this reasoning, the Court held that the mode of payment did not negate commercial expediency.
It relied on the Supreme Court's decision in S.A. Builders Ltd. v. Commissioner of Income Tax (Appeals) and the Karnataka High Court's decision in ACE Designers Ltd. v. Additional Commissioner of Income Tax, and found that the payments supported NSL Sugars' existing business and upheld the deduction under Section 37(1).
On TDS, the Income Tax Department had argued that harvesting and transportation charges paid to contractors attracted Section 194C, while NSL Sugars maintained that the charges formed part of the sugarcane purchase price payable to farmers and were adjusted against their payments.
The Court held that no TDS obligation would arise if the charges formed part of the purchase cost and were deducted from the amounts payable to farmers. It said:
“Concededly, if the amounts paid to the transporter and the harvester were part of the purchase cost of sugarcane payable to the farmers and were deducted from the payments made to the farmers, there would be no obligation on the part of the Assessee to deduct tax under Section 194C of the Act”.
However, the Bench remanded the issue to the Assessing Officer to verify whether the charges were deducted from the purchase price payable to farmers and, if not, examine the applicability of TDS.
Accordingly, the High Court disposed of the Revenue's appeal.
For the Revenue: Mr. E.I. Sanmathi, Advocate.
For NSL Sugars: Ms. Tanmayee Rajkumar, Advocate.