2020 (12) TMI 1189 - AT - Income Tax

Tribunal orders reevaluation of transfer pricing adjustments, emphasizing simpler functional profiles

The Tribunal directed a fresh examination of transfer pricing adjustments, emphasizing the selection of the tested party based on simpler functional ... TP Adjustment - selecting the tested party for the purpose of applying the TNMM - Comparable selection - HELD THAT:- While selecting the tested party for the purpose of applying the TNMM, the functional profile of the transacting entities is required to be taken into consideration and the entity having simpler functional profile i.e. the entity not assuming significant risks and employing non-routine intangibles should be selected as the tested party. We note that the assessee’s objection being selected as a tested party were not dealt in the proper perspective by the Ld. CIT (A) and, therefore, this issue needs re-examination by the Ld. CIT (A). Comparable selection - TPO has selected 99 comparables without actually conducting FAR analysis in respect of each comparable and has undertaken the exercise of selection without applying any quantitative and qualitative filters. TPO has also not assigned any reason for the selection of these comparables and the Ld. CIT (A) has also dismissed the assessee’s objection against selection of these comparables without assigning any reason except by making general observations like that the data provided by the assessee was insufficient, the evidences were sketchy and that quantitative details were not available. We are not in agreement with the summery dismissal of the objections of the assessee in this regard. Contention of the department that relevant details were not filed is wholly incorrect as we have gone through the voluminous evidences and data supplied by the assessee before the TPO as well as the Ld. CIT (A) in this regard. In a such situation, it is our considered opinion that the entire transfer pricing exercise needs to be done afresh by the TPO and, therefore, we restore the issue of transfer pricing adjustment to the file of the TPO for fresh analysis and verification for deciding the issue afresh after duly considering the detailed workings, arguments and evidences filed earlier by the assessee in this regard. The TPO is also directed to give proper opportunity to the assessee to present its case prior to passing a detailed order as per provision of law. Issues Involved:1. Transfer Pricing Adjustment2. Selection of Tested Party3. Selection of Comparables4. Adjustment for Abnormal Costs5. Capacity Utilization Adjustment6. Pre-operative Expenses Adjustment7. Working Capital Adjustment8. Penalty ProceedingsDetailed Analysis of the Judgment:1. Transfer Pricing Adjustment:The Tribunal addressed the assessee's appeal against the transfer pricing adjustment made by the TPO, which was upheld by the CIT (A). The TPO had selected the assessee as the tested party and made an adjustment of Rs. 28,48,58,529/- for AY 2009-10 and Rs. 20,91,32,446/- for AY 2010-11. The Tribunal noted that the TPO's adjustments were based on a flawed analysis and directed a fresh examination.2. Selection of Tested Party:The Tribunal emphasized that the selection of the tested party should be based on the entity with the simpler functional profile, as per OECD and US guidelines. The Tribunal found that the TPO had not provided cogent reasons for rejecting the associated enterprise as the tested party. The Tribunal noted that the Indian regulations do not prioritize either the assessee or the associated enterprise as the tested party and directed the CIT (A) to re-examine this issue.3. Selection of Comparables:The Tribunal criticized the TPO for selecting 99 comparables without conducting a proper FAR analysis and without applying quantitative and qualitative filters. The Tribunal found that the TPO had not assigned any reason for the selection of these comparables, and the CIT (A) had summarily dismissed the assessee's objections. The Tribunal directed the TPO to conduct a fresh transfer pricing analysis with proper evaluation of comparables.4. Adjustment for Abnormal Costs:The Tribunal acknowledged the assessee's argument that due to labor unrest and strike, it had incurred abnormal costs such as rent for additional premises, legal expenses, and administrative support. The Tribunal directed that these abnormal costs should be considered while determining the operating margin of the assessee.5. Capacity Utilization Adjustment:The Tribunal noted that the assessee operated at a significantly lower capacity utilization of 32.60% compared to the selected comparables' 68.50%. The Tribunal directed that an adjustment for capacity under-utilization should be allowed to the assessee.6. Pre-operative Expenses Adjustment:The Tribunal agreed with the assessee's contention that suitable adjustment for pre-operative expenses should be allowed, as the assessee was in the initial stage of operations, unlike the established comparables selected by the TPO.7. Working Capital Adjustment:The Tribunal directed that the assessee should be allowed the benefit of working capital adjustment, as it impacts the operating margin.8. Penalty Proceedings:The Tribunal dismissed the grounds regarding the initiation of penalty proceedings as premature.Conclusion:The Tribunal restored the issue of transfer pricing adjustment to the file of the TPO for fresh analysis and verification, directing the TPO to duly consider the detailed workings, arguments, and evidences filed by the assessee. The Tribunal emphasized the need for a proper opportunity for the assessee to present its case. Both appeals were partly allowed for statistical purposes.