2020 (3) TMI 1418 - AT - Income Tax

Tribunal grants relief on transfer pricing, deductions, depreciation, forex gains, and penalty proceedings dismissed

The Tribunal partially allowed the appeals by directing the AO to delete the transfer pricing adjustment, allow the deduction under Section 10A, permit ... Arm's Length Price - Transfer Pricing Methods - Comparable Uncontrolled Price (CUP) - Incremental Benefit Approach - Valuation by Independent Valuer - Hindsight in Valuation - Deduction under Section 10A - Depreciation on Intangible Assets - Section 14A and Rule 8D - Consistency Principle (Res Judicata) - Actual Cost (Explanation 3 to Section 43(1))Arm's Length Price - Transfer Pricing Methods - Incremental Benefit Approach - Valuation by Independent Valuer - Validity of transfer pricing adjustment (purchase of MSA) determined by TPO/DRP - HELD THAT: - The Tribunal held that section 92C(1) mandates determination of ALP by one of the prescribed transfer pricing methods and the TPO/DRP erred in relying on an incremental benefit estimate rather than any statutory method. The independent valuer's report (MEEM) and the valuation foundations were not impugned for methodology; absent a contrary valuation or referral to a valuation officer, the TPO/DRP had no jurisdiction to substitute an ad hoc estimate. The Tribunal further accepted that the unamortized incentive paid to the customer constituted a valid market benchmark and that USD 110 million paid by the assessee was at arm's length. For these reasons the DRP/TPO adjustment was set aside and the AO directed to delete the TP addition to cost of MSA. [Paras 22, 23, 24, 26, 27]TPO/DRP's transfer pricing adjustment set aside; AO directed to delete the adjustment and accept the valuation/price paid as at arm's length.Valuation by Independent Valuer - Hindsight in Valuation - Whether projections in an independent valuation can be replaced by actuals (hindsight) for determining ALP - HELD THAT: - The Tribunal held that valuation made as of the valuation date is based on contemporaneous forecasts and cannot be displaced by subsequent events unless the authorities undertake a proper valuation exercise; hindsight cannot be used to supplant a bona fide valuation. However, if the authority determines ALP on an actual-results basis, then subsequent extension/renewal and incremental benefits actually realised may be relevant; notwithstanding that, the TPO/DRP's adhoc deflation of projections without a valuation exercise was impermissible. [Paras 25, 26]Projections in the independent valuation cannot be replaced by ad hoc actuals; TPO/DRP's hindsight-based deflation not sustainable, except where ALP is legitimately determined on actuals after proper exercise.Deduction under Section 10A - Consistency Principle (Res Judicata) - Allowability of deduction under section 10A for Pune Unit II despite prior change in shareholding and consistency in earlier decisions - HELD THAT: - The Tribunal followed its coordinate-bench precedents in the assessee's own cases and higher court rulings holding omission of subsection(9) to be to be read as if it never existed; on those authorities the assessee's claim under section 10A was to be allowed. The Bench observed that the issue is identical to earlier decisions in the assessee's own case and accordingly directed allowance of the deduction. [Paras 28, 30, 31]Deduction under section 10A allowed for Pune Unit II in favour of the assessee.Depreciation on Intangible Assets - Actual Cost (Explanation 3 to Section 43(1)) - Allowability of depreciation on commercial/customer contracts acquired (treatment as intangible assets) - HELD THAT: - Relying on coordinate-bench decisions in the assessee's own case, the Tribunal held that contractual/customer rights acquired are intangible assets within the meaning of section 32(1)(ii) read with Explanation 3(b), and depreciation is allowable. The Tribunal rejected the department's contention that such commercial rights are not of the requisite nature and directed allowance of depreciation, including treatment of the MSA acquisition for AY 2011-12 and AY 2012-13 in line with the earlier findings. [Paras 35, 48]Depreciation on acquired commercial/customer rights allowed; DRP/AO order set aside and AO directed to grant depreciation.Deduction under Section 10A - Consistency Principle (Res Judicata) - Treatment of gains/losses from forex derivative contracts for computation of deduction under section 10A - HELD THAT: - The Tribunal found no change in facts from earlier years in which the AO treated forex derivative gains/losses as part of export activity; applying the principle of consistency and authorities (including Radhasoami and Bombay High Court decisions), it held that forex derivative gains/losses arising in relation to export activity should be treated as profit of the undertaking for section 10A purposes. The DRP order was set aside and the AO directed to treat the forex gain/loss accordingly. [Paras 36, 40, 41]Forex derivative gains/losses to be treated as part of export profits for section 10A; deduction to be computed accordingly.Set off of Brought Forward Losses and Unabsorbed Depreciation - Direction to AO regarding verification and allowance of brought forward business losses and unabsorbed depreciation - HELD THAT: - The DRP had directed verification of the assessee's claims. The Tribunal noted the AO had not given effect to those directions and therefore directed the AO to verify original records and allow set off/carry forward to the extent permissible under the Act, giving effect to the DRP directions. [Paras 42, 43, 54]AO directed to verify and give effect to DRP directions and allow set off/carry forward as per law.Section 14A and Rule 8D - Validity of disallowance under section 14A read with Rule 8D and requirement of AO's satisfaction before invoking Rule 8D - HELD THAT: - The Tribunal held that the AO had not recorded the requisite objective satisfaction regarding incorrectness of the assessee's suo moto disallowance and thus could not legitimately invoke Rule 8D. Following High Court and Supreme Court precedents, the Tribunal set aside the DRP's confirmation of the Rule 8D-based disallowance and directed deletion of the addition, without adjudicating other contentions. [Paras 50, 51, 53]Disallowance under section 14A/Rule 8D deleted; AO required to record objective satisfaction before invoking Rule 8D.Final Conclusion: The Tribunal partly allowed the appeals for AYs 2011-12 and 2012-13: it set aside the TPO/DRP transfer-pricing adjustment (accepting the independent valuation and price paid for the MSA), allowed section 10A claims and depreciation on acquired commercial rights, held forex derivative gains/losses to be includible for section 10A computation (consistent treatment), directed the AO to verify and give effect to set-off of brought forward losses/unabsorbed depreciation as per DRP directions, and quashed the section 14A/Rule 8D disallowance for lack of recorded AO satisfaction. Issues Involved:1. Determination of total taxable income.2. Transfer pricing adjustment.3. Disallowance of deduction under Section 10A.4. Disallowance of depreciation on intangible assets.5. Computation of profits derived from eligible units.6. Set-off of brought forward business losses and unabsorbed depreciation.7. Initiation of penalty proceedings under Section 271(1)(c).Detailed Analysis:1. Determination of Total Taxable Income:The learned AO/Hon'ble DRP erred in determining the total taxable income of the Appellant for AY 2011-12 at Rs 85,35,18,207 instead of the income offered by the Appellant for the subject AY under normal provisions of the Act in its income-tax return.2. Transfer Pricing Adjustment:The learned AO made a reference to the TPO for computation of the Arm’s Length Price (ALP) in relation to the international transactions. The TPO determined the ALP based on incremental benefit approach, proposing a transfer pricing adjustment of Rs 213,35,00,600 for the purchase of a customer contract. The DRP upheld the TPO's approach, noting substantial overvaluation of projected revenues by the assessee, and directed the TPO to use actual figures for the period up to FY 2014-15 and deflate projected revenues for subsequent years by 22.68%. The Tribunal, however, found that the TPO did not follow any of the prescribed methods under Section 92C of the Act, rendering the adjustment unsustainable. The Tribunal emphasized the necessity of using prescribed methods and accepted the valuation report by the independent valuer, directing the AO to delete the transfer pricing adjustment.3. Disallowance of Deduction under Section 10A:The learned AO/DRP disallowed deduction under Section 10A amounting to Rs. 30,80,76,458, in respect of the profits earned by the Pune Unit-II of the Appellant, citing a change in shareholding during AY 2003-04. The Tribunal noted that similar issues in the assessee's own case for previous years were decided in favor of the assessee, holding that the omission of sub-section (9) of Section 10A was retrospective. The Tribunal directed the AO to allow the deduction under Section 10A.4. Disallowance of Depreciation on Intangible Assets:The learned AO/DRP disallowed depreciation amounting to Rs 61,14,212 on intangible assets acquired by the Appellant, contending that the rights acquired do not fall under the definition of intangible assets under Section 32(1) of the Act. The Tribunal, relying on its own decisions in the assessee's previous years, held that the commercial rights acquired are intangible assets under Section 32(1)(ii) and directed the AO to allow the depreciation.5. Computation of Profits Derived from Eligible Units:The learned AO/DRP held that the profits derived by eligible STP units should be computed without considering the gain from forex derivative contracts. The Tribunal found that the AO had adopted inconsistent positions in different years and emphasized the principle of consistency, directing the AO to consider forex gains as part of the profits for deduction under Section 10A.6. Set-off of Brought Forward Business Losses and Unabsorbed Depreciation:The learned AO did not set off brought forward business losses and unabsorbed depreciation against the assessed total income for the assessment year under consideration. The Tribunal directed the AO to verify the claim of the assessee regarding business and depreciation loss and allow the same to the extent available as per law.7. Initiation of Penalty Proceedings under Section 271(1)(c):The learned AO initiated penalty proceedings under Section 271(1)(c) of the Act. The Tribunal found this ground premature and dismissed it.Conclusion:The Tribunal allowed the appeals partly, directing the AO to delete the transfer pricing adjustment, allow the deduction under Section 10A, permit depreciation on intangible assets, consider forex gains for deduction under Section 10A, and verify and allow the set-off of brought forward losses and unabsorbed depreciation. The initiation of penalty proceedings was dismissed as premature.