2016 (4) TMI 1146 - AT - Income Tax

Tribunal rules AMP expenses not international transactions under Income Tax Act

The Tribunal ruled in favor of the assessee, holding that the Advertising, Marketing, and Sales Promotion (AMP) expenses were not international ... International transaction - transfer pricing adjustment - arm's length price - bright line test - Transactional Net Margin Method (TNMM) - comparability of AMP expenses - remand for fresh adjudication - principles of natural justiceInternational transaction - transfer pricing adjustment - bright line test - arm's length price - Whether advertising, marketing and sales promotion (AMP) expenditure incurred by the assessee constituted an international transaction subject to transfer pricing adjustment - HELD THAT: - The Tribunal found that mere benefit to an Associated Enterprise (AE) from AMP spend does not by itself establish an international transaction under Chapter X. Following precedents (including the decisions cited from Maruti Suzuki, Whirlpool India and Bausch & Lomb Eyecare (India) Pvt. Ltd.), the Court held that for an AMP-related item to be treated as an international transaction there must be evidence of an agreement, arrangement or understanding obliging the taxpayer to incur such expenditure for the AE or a discernible price for that transaction. The TPO/DRP's approach of using the bright line test to infer an international transaction and effect a quantitative transfer pricing adjustment was rejected as impermissible in the absence of a traced transaction and an ascertainable price. Applying those principles to the facts, the Tribunal concluded that the AMP expenditure here was incurred to promote the assessee's own business and not an international transaction with the AEs; consequently the Chapter X adjustments based on AMP were unsustainable. [Paras 5]AMP expenditure was not an international transaction; transfer pricing adjustments on that account are deleted.Arm's length price - markup on AMP expenses - transfer pricing adjustment - Whether a markup/recovery on AMP expenditure and resultant adjustment on sales support services was tenable where AMP was treated as an international transaction - HELD THAT: - The Tribunal's earlier finding that AMP expenditure did not constitute an international transaction rendered any attempt to apply a markup on such AMP expenses untenable. The DRP's direction to quantify and apply a service-markup presupposed that the AMP spending formed an international transaction; once that premise was rejected, there was no legal basis under Chapter X to sustain an addition for markup on AMP or for related sales support services. [Paras 8]No justification for a markup on AMP expenses; related adjustments to be deleted.Transactional Net Margin Method (TNMM) - remand for fresh adjudication - Treatment of purchases of raw material from Associated Enterprises and the correctness of segmental/internal TNMM versus external TNMM - HELD THAT: - The TPO had applied an external TNMM after rejecting the assessee's segmental/internal TNMM and proposed an adjustment on account of lower margins in AE transactions. The DRP directed recalculation of margins after taking into account the AMP-related directions. Given the Tribunal's deletion of AMP adjustments, the question of correct benchmarking and margin for AE purchases requires verification afresh. Considering the factual and accounting complexities and the linkage with the now-vacated AMP adjustment, the Tribunal concluded that further adjudication by the Assessing Officer is necessary, with opportunity to the assessee to be heard. [Paras 12]Issue restored to the Assessing Officer for fresh adjudication after affording reasonable opportunity of hearing.Principles of natural justice - remand for fresh adjudication - Validity of addition on account of surplus/shortage of stock found during survey and adequacy of material relied upon by the Assessing Officer - HELD THAT: - During survey discrepancies in stock were noted and the assessee relied on an excise officer's certificate. The DRP upheld the addition but the Tribunal observed that the Assessing Officer had not supplied copies of statements and documents that led to the addition, contrary to the principles of natural justice. Non-supply of material on which a large addition was based vitiated the proceedings. In the interest of justice the matter was directed to be restored to the AO for fresh adjudication after supplying the documents intended for use. [Paras 15]Addition set aside and matter remitted to the Assessing Officer for fresh adjudication with directions to supply documentary statements to the assessee.Precedent decision - Allowability of club expenditure in view of earlier Tribunal/High Court findings - HELD THAT: - Both parties agreed that the issue was covered by the Tribunal's earlier order in the assessee's own case and by the Jurisdictional High Court decision cited. On that basis the Tribunal followed the earlier reasoning and allowed the ground relating to club expenditure. [Paras 17]Disallowance of club expenditure is allowed in favour of the assessee.Infructuous - Disallowance of royalty for the year under consideration and claim that royalty should be allowed in year of TDS deposit - HELD THAT: - The Tribunal noted that the royalty payment and related facts were not disputed but that the assessee had suo moto disallowed the royalty under section 40(a)(ia) and indicated that TDS was deposited in a later year. The Tribunal held that allowability in the year in which TDS was deposited (AY 2011-12) must be decided in that year and accordingly treated the ground as infructuous for the year under consideration. [Paras 23]Ground treated as infructuous for AY. 2009-10; consequential determination, if any, to be considered in the relevant assessment year.Final Conclusion: Appeals partly allowed. AMP-related transfer pricing adjustments and associated markups were deleted; the challenge to purchases from AEs and the stock-discrepancy addition are remitted to the Assessing Officer for fresh adjudication after affording the assessee an opportunity to be heard (and, in the case of stock discrepancy, after supplying the relevant statements/documents). Club expenditure issue allowed on precedent; the royalty point is treated as infructuous for AY. 2009-10. Issues Involved:1. Whether the AMP (Advertising, Marketing, and Sales Promotion) expenses incurred by the assessee constitute an international transaction under Section 92 of the Income Tax Act.2. Whether the adjustment made by the TPO on account of AMP expenses and the resultant markup is justified.3. Whether the adjustment on account of the purchase of raw materials from the AE is justified.4. Whether the addition made on account of surplus stock is justified.5. Disallowance of club expenditure.6. Disallowance of royalty payment.7. Disallowance of expenses and custom duty paid through the liaison office in Sri Lanka.8. Levy of interest under Section 234B of the Act.Detailed Analysis:1. AMP Expenses as International Transaction:The assessee argued that the AMP expenses incurred were not covered by the provisions of Section 92 of the Act and were not international transactions. The TPO, however, treated the AMP expenses as international transactions, applying the Bright Line Test (BLT) and determining that the assessee was promoting the brands of its AE without compensation. The DRP upheld the TPO's view, stating that the AMP expenses contributed significantly to the brand value of the AE and compensation was warranted.The Tribunal, however, referred to the judgments of Maruti Suzuki, Whirlpool India, and Bausch & Lomb Eyecare, which extensively deliberated on AMP expenses. It concluded that there was no agreement obliging the assessee to incur AMP expenses for the AE, and the AMP expenses were not international transactions. Thus, the additions made by the AO were directed to be deleted.2. Adjustment on Account of AMP Expenses and Resultant Markup:The TPO linked AMP expenses with sales support services, suggesting that the assessee should have recovered the AMP expenses plus a markup from the AE. The DRP partly agreed but directed the AO to apply the correct profit margin. The Tribunal held that since the AMP expenses were not international transactions, no adjustment could be made for the markup on AMP expenses. The additions were deleted.3. Adjustment on Account of Purchase of Raw Materials from AE:The TPO rejected the internal TNMM adopted by the assessee for determining the ALP of raw material purchases from AE, applying external TNMM instead. The DRP directed the AO to recalculate the margin considering the adjustment on AMP expenses. The Tribunal restored the issue to the AO for fresh adjudication, noting that the AMP expenses were not international transactions.4. Addition on Account of Surplus Stock:During a survey, discrepancies in stock were found, leading to an addition of Rs. 1.47 crores. The DRP upheld the addition, but the Tribunal noted that the principles of natural justice were not followed as the assessee was not provided with the necessary documents. The issue was restored to the AO for fresh adjudication.5. Disallowance of Club Expenditure:The Tribunal followed its earlier order and the judgment of the Hon’ble Jurisdictional High Court, allowing the club expenditure as a business expense.6. Disallowance of Royalty Payment:The AO disallowed the royalty payment, questioning its business purpose and noting that the royalty was waived retrospectively. The DRP upheld the disallowance. The Tribunal noted that the royalty payment was not claimed in the year under consideration due to the disallowance under Section 40(a)(ia) and treated the ground as infructuous.7. Disallowance of Expenses and Custom Duty Paid through Liaison Office in Sri Lanka:These grounds were not pressed by the assessee and were dismissed as not pressed.8. Levy of Interest under Section 234B:This ground was consequential in nature and not separately adjudicated.Rejection of BLT by DRP:The Tribunal upheld the DRP's rejection of the BLT, referring to the judgments of the Hon’ble Delhi High Court, which held that BLT cannot be used for determining AMP expenses.Conclusion:The appeals filed by the assessee were partly allowed, and the appeal filed by the AO was dismissed. The Tribunal emphasized the importance of adhering to the principles of natural justice and the need for clear statutory mandates in transfer pricing adjustments.