Internal CUP, TNMM working capital adjustment, and Form 3CL limits shaped transfer pricing and deduction relief for the assessee.

ITAT Ahmedabad held that an authentic internal CUP was preferable for benchmarking interest on advances to associated enterprises, so the transfer pricing adjustment was deleted. It further held that where sales were benchmarked under TNMM with working capital adjustment, separate notional interest on overdue receivables from the same transactions could not be added. Purchases from a partnership firm could not be treated as a specified domestic transaction after omission of the relevant clause in section 92BA, and the related adjustment was deleted. The Tribunal also held that section 35(2AB) deduction could not be restricted merely to Form 3CL, deleted interest and section 14A disallowances where own funds were sufficient, and held that foreign commission paid for services rendered outside India was not liable to disallowance under section 40(a)(ia).

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Issues: (i) Whether the transfer pricing adjustment on interest charged on advances to associated enterprises was sustainable; (ii) Whether notional interest on outstanding receivables from associated enterprises could be added where the transactional net margin method with working capital adjustment had been applied; (iii) Whether purchases from the partnership firm constituted a specified domestic transaction after omission of clause (i) of section 92BA; (iv) Whether weighted deduction under section 35(2AB) could be restricted to the amount reflected in Form 3CL; (v) Whether the claim under section 35(1)(iv) required verification and fresh adjudication; (vi) Whether disallowance of interest under section 36(1)(iii) and disallowance under section 14A were justified; (vii) Whether commission paid to foreign agents was disallowable under section 40(a)(ia).

Issue (i): Whether the transfer pricing adjustment on interest charged on advances to associated enterprises was sustainable.

Analysis: The assessee had benchmarked the advances by adopting an internal comparable based on a foreign currency loan quotation from an unrelated bank. The Revenue rejected it and applied external comparables with additional mark-up for foreign exchange risk. The available material did not show any basis to doubt the authenticity of the internal comparable, and an authentic internal CUP was held to be preferable to external comparables for the same currency-linked transaction.

Conclusion: The adjustment on interest on advances to associated enterprises was deleted and the issue was decided in favour of the assessee.

Issue (ii): Whether notional interest on outstanding receivables from associated enterprises could be added where the transactional net margin method with working capital adjustment had been applied.

Analysis: The assessee had already benchmarked its sales transactions under the transactional net margin method after working capital adjustment. In that situation, overdue trade receivables arising from the same sales could not be separately re-characterised as loans so as to justify a further notional interest adjustment. The reasoning of the lower authorities could not survive in light of the governing principle that working capital adjustment neutralises the receivable component.

Conclusion: The notional interest adjustment on receivables was deleted and the issue was decided in favour of the assessee.

Issue (iii): Whether purchases from the partnership firm constituted a specified domestic transaction after omission of clause (i) of section 92BA.

Analysis: The impugned transaction had been treated as a specified domestic transaction only because it fell within the omitted clause dealing with payments to specified persons under section 40A(2)(b). Once that clause stood omitted, the transaction could not continue to be treated as a specified domestic transaction for transfer pricing purposes, and the arm's length price exercise under that provision failed.

Conclusion: The transfer pricing adjustment on the specified domestic transaction was deleted and the issue was decided in favour of the assessee.

Issue (iv): Whether weighted deduction under section 35(2AB) could be restricted to the amount reflected in Form 3CL.

Analysis: For the relevant years, the statutory scheme required approval of the in-house research and development facility, while Form 3CL served as an intimation/reporting mechanism and not as a provision for year-wise approval of expenditure items. The disallowance based solely on the amount mentioned in Form 3CL was therefore unsustainable. The clinical trial expenditure, the merged entity related expenditure, and the other research-related items were all held to be eligible research expenditure.

Conclusion: The entire weighted deduction claim was allowed and the issue was decided in favour of the assessee.

Issue (v): Whether the claim under section 35(1)(iv) required verification and fresh adjudication.

Analysis: A deduction otherwise admissible cannot be denied merely because the assessee raised the claim during assessment or referred to a different sub-clause in the proceedings. Since the factual eligibility of the expenditure had not been properly examined, the matter required verification by the Assessing Officer.

Conclusion: The issue was restored for verification and was decided partly in favour of the assessee.

Issue (vi): Whether disallowance of interest under section 36(1)(iii) and disallowance under section 14A were justified.

Analysis: The assessee had sufficient interest-free funds and profits to cover the capital work-in-progress and investment positions. In such circumstances, no presumption arose that borrowed funds had been used for interest-free advances or investments. The resulting disallowances could not be sustained.

Conclusion: The disallowances under sections 36(1)(iii) and 14A were deleted and the issue was decided in favour of the assessee.

Issue (vii): Whether commission paid to foreign agents was disallowable under section 40(a)(ia).

Analysis: The foreign agents rendered services outside India, and the commission did not accrue or arise in India. On that footing, the income was not chargeable in India and the withholding obligation did not arise.

Conclusion: The disallowance of foreign commission under section 40(a)(ia) was deleted and the issue was decided in favour of the assessee.

Final Conclusion: The assessee succeeded on the substantive transfer pricing, research and development, interest, and commission issues, while the only surviving claim on capital research expenditure was sent back for factual verification.

Ratio Decidendi: An authentic internal CUP prevails over external comparables for benchmarking the same currency-linked transaction, working capital adjustment under TNMM subsumes receivables from the very sales benchmarked, omission of the relevant specified domestic transaction clause removes the basis for transfer pricing adjustment, and Form 3CL is not the determinative source for quantifying section 35(2AB) deduction.

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