2017 (7) TMI 208 - AT - Income Tax

Tribunal overturns TPO's transfer pricing adjustments, directs reevaluation of arm's length prices

Tevapharm India Pvt. Ltd. Versus Addl. CIT, Special Range-9, New Delhi

The tribunal set aside the transfer pricing adjustments proposed by the TPO for international transactions related to contract manufacturing support ... TPA - non including the amount of suo motu transfer pricing adjustment offered by the assessee - Held that:- Once a particular transfer pricing adjustment has been voluntarily made by the assessee, it requires to be taken into consideration in determining the ALP of the international transaction. It can be seen that the TPO took operating profit from this international transaction at ₹ 19.00 lac without including the amount of suo motu transfer pricing adjustment offered by the assessee under this segment at ₹ 10,22,453/-. Set aside the impugned order on this score and remit the matter to the file of AO/TPO for re-determining the ALP of the extant international transaction by taking Operating profit of the assessee from this segment at ₹ 29,23,205/- (Rs.19,00,752/- + ₹ 10,22,453/-). The other calculation of benchmark profit at 17% made by the TPO will remain unchanged. ALP of the international transaction of ‘Contract manufacturing’ - MAM selection - CUP v/s TNMM - Held that:- The calculation of the ALP made by the TPO under this method is not passing the prescription of rule 10B(1)(a). Sub-clause (i) talks of identifying the price charged for the property transferred. Even the description of property transferred i.e. the drugs sold is not ascertainable in most of the cases. Sub-clause (ii) firstly, requires determining the price charged in comparable uncontrolled situation. Here again, similar position prevails. Not only there are varying prices charged by different manufacturers as against the TPO taking only one price in an ad hoc manner, even the reduction of margin of 39.6% from such retail price for getting the ex-factory price, is not sacrosanct. Apart from that, no adjustment has been carried out as per sub-clause (ii) on account of exports made by the assessee vis-à-vis the comparable prices relating to domestic sales. Thus, it is clear from the above discussion that the exercise done by the TPO in determining the ALP of the international transaction of ‘Contract manufacturing’ under the CUP method does not merit acceptance. TNMM for determining the ALP - Held that:- While dealing with the earlier international transaction of ‘Business support services’, we have noticed that the assessee carried out audit and inspection pertaining to contract manufacturing done by third parties in India for its AE. This prima facie shows that there are certain other third parties in India doing contract manufacturing for the assessee’s AE. The TPO has not taken cognizance of these transactions for ascertaining if they are comparable. As they are also contract manufacturers engaged in manufacturing drugs for the assessee’s AE in India, there may be a possibility of finding comparable uncontrolled transactions in such parties, which skipped the attention of the TPO. either the relevant CUP data of such contract manufacturers is not available or their transactions turn out to be incomparable, then, the AO/TPO should apply the TNMM for determining the ALP of this international transaction. We have found above that all the four companies chosen by the assessee do not qualify to be considered as comparable. The TPO, in a situation warranting the application of the TNMM, should select fresh companies, engaged in contract manufacturing, which are really comparable and are not full-fledged manufacturers. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in such fresh determination. Reimbursement for the registration of product’ - Held that:- The only amount considered by the TPO is the ‘Registration fees’ paid for the products at ₹ 1,31,32,100/-. As this is a cost incurred by the assessee for and on behalf of its AE and the same was recovered without rendering any service qua the payment of registration fees, in our considered opinion this amount was rightly claimed as ‘Reimbursement of expenses’ on which no mark-up could have been earned. We, therefore, hold that the addition of ₹ 18,72,637/- was wrongly made. The same is directed to be deleted. International transaction of ‘Reimbursement receivable for Wound care services’ - Held that:- The nature of such reimbursement of expenses is not properly coming out from the order of the TPO. The rival parties also could not throw proper light on the exact nature of the amount of ₹ 34.10 lac. Under these circumstances, it cannot be properly ascertained as to whether the amount of ₹ 34.10 lac is a cost incurred by the assessee without rendering any services to its AE or its involvement was there in incurring such expenses. If the assessee’s involvement was there apart from mere incurring, and there is no compensation for it, then, naturally, some mark-up is required and vice versa. In the absence of this vital information, we set aside the impugned order on this score and remit the matter to the file of AO/TPO for re-doing it afresh. Issues Involved:1. Contract Manufacturing Support Services and Business Development and Procurement Support Services2. Contract Manufacturing3. Reimbursement for Registration of Products4. Reimbursement for Wound Care ServicesIssue-wise Detailed Analysis:I. Contract Manufacturing Support Services and Business Development and Procurement Support Services:The TPO analyzed international transactions related to 'Quality Assistance Support Services' and 'Contract Manufacturing support services,' which were benchmarked by the assessee under the Transactional Net Margin Method (TNMM). The TPO rejected the comparables provided by the assessee and averaged the profit margins from the 'Business development and procurement services' and 'Support services' segments to establish a benchmark profit margin of 17%. The TPO calculated the assessee’s Operating Profit/Total Cost (OP/TC) at 7.73% and proposed a transfer pricing adjustment of Rs. 22,78,671. The assessee argued that a voluntary transfer pricing adjustment of Rs. 10,22,453 should be considered. The tribunal remitted the matter to the AO/TPO to re-determine the ALP by including the voluntary adjustment, resulting in a revised operating profit of Rs. 29,23,205.II. Contract Manufacturing:The assessee declared Rs. 173,39,08,249 as the value of the 'Contract Manufacturing' transaction, applying TNMM with a PLI of 14.26%. The TPO, however, applied the Comparable Uncontrolled Price (CUP) method, using retail prices from the CIMS database, adjusted to ex-factory prices by reducing 39.6% for retail margins, wholesale margin, and taxes. This led to a proposed adjustment of Rs. 55,60,75,740. The tribunal found several flaws in the TPO’s approach, including the use of current retail prices for earlier periods, wide fluctuations in retail prices, and inappropriate comparisons between full-fledged manufacturers and contract manufacturers. The tribunal remitted the matter to the AO/TPO to reconsider the method used for determining the ALP, suggesting that the CUP method should be applied if comparable data from other contract manufacturers is available. If not, the TNMM should be used with appropriate comparables.III. Reimbursement for Registration of Products:The TPO proposed a transfer pricing adjustment of Rs. 18,72,637 by applying a 14.26% profit margin to the reimbursement of Rs. 1,31,32,100 for product registration fees. The tribunal found that the reimbursement was a cost incurred by the assessee for its AE without rendering any service, and thus no mark-up was warranted. The tribunal directed the deletion of the Rs. 18,72,637 addition.IV. Reimbursement for Wound Care Services:The TPO applied a 14.26% margin to Rs. 34,10,065 incurred for 'Wound care' services, proposing an adjustment of Rs. 4,86,275. The tribunal noted that the nature of the reimbursement was unclear and remitted the matter to the AO/TPO for further examination to determine if the assessee's involvement warranted a mark-up.Conclusion:The tribunal set aside the impugned order on the transfer pricing adjustments for the three international transactions and remitted the matters for fresh determination by the AO/TPO. The appeal was partly allowed.