2019 (1) TMI 2077 - AT - Income Tax

Transfer pricing adjustment disallowing AMP expenses held not an international transaction under s. 92B; addition deleted

Wrigley India Pvt. Ltd Versus The DCIT, Circle-27 (2), New Delhi AND The ACIT, Circle-27 (2), New Delhi Versus Wrigley India Pvt. Ltd

ITAT DELHI - AT held that the transfer pricing adjustment disallowing Advertisement, Marketing and Promotional (AMP) expenses as an international ... TP Adjustment - addition on account of Advertisement, Marketing and Promotional (“AMP”) incurred by the Appellant results in international transaction - HELD THAT:- We are of the view that the issue is covered in favour of the assessee by Order of ITAT, Delhi Bench in the case of assessee in four years above [2018 (9) TMI 1750 - ITAT DELHI] whereby the Tribunal has held that AMP expenses incurred by assessee cannot be treated and categorized as an international transaction under section 92B of the I.T. Act. Decided in favour of assessee. ISSUES PRESENTED AND CONSIDERED 1. Whether expenditure on Advertisement, Marketing and Promotion (AMP) incurred by the taxpayer can be characterised as an 'international transaction' within the meaning of section 92B read with section 92F(v) of the Income-tax Act such that Transfer Pricing adjustments under Chapter X are permissible. 2. Whether the Bright Line Test (BLT) is a valid basis to (a) identify existence of an international transaction in respect of AMP expenditure and (b) quantify the arm's length price (ALP) / upward transfer pricing adjustment attributable to alleged creation of marketing intangibles. 3. What burden lies on the revenue to demonstrate the existence of an international transaction relating to AMP and whether incidental or indirect benefits to an Associated Enterprise (AE) suffice to warrant reimbursement or transfer pricing adjustment. 4. Ancillary issues considered insofar as they relate to (a) appropriateness of comparables and comparability analysis for AMP benchmarking, (b) characterisation of the taxpayer (manufacturer v. distributor) for ALP purposes, and (c) whether the Tribunal should follow its coordinate-bench decisions on identical facts. ISSUE-WISE DETAILED ANALYSIS Issue 1 - AMP expenditure as an 'international transaction' (s.92B/92F(v)) Legal framework: Chapter X of the Income-tax Act (sections 92B, 92F(v) and related provisions) governs international transactions between associated enterprises and determination of ALP; section 37(1) allows business expenditure deductions. The question is whether expenditure incurred by a domestic licensee/manufacturer on AMP constitutes a reportable international transaction for which ALP determination under Chapter X arises. Precedent treatment: The Court relied on jurisdictional High Court and several coordinate-bench Tribunal decisions which held that AMP expenditure incurred by a licensed manufacturer for its own business cannot be characterised as an international transaction (principally the decision in Maruti Suzuki Ltd. and related Tribunal decisions, and cases rejecting BLT such as Sony Ericsson, Honda Siel, Whirlpool, Valvoline and others). Interpretation and reasoning: The Court emphasised that where AMP expenses are incurred by a licensed manufacturer for promotion of its own sales, the primary benefit accrues to the taxpayer; any incidental or indirect benefit to the AE does not automatically convert AMP into an international transaction. The Court reiterated the principle that the revenue must first discharge the initial burden of establishing existence of an international transaction between the taxpayer and AE. Where AMP is claimed as business expenditure under section 37(1), the mere fact of brand/mark being legally owned by an AE is insufficient to treat the expenditure as undertaken for the AE's benefit absent an arrangement or evidence showing that the taxpayer acted to create marketing intangibles for the AE to be compensated for. Ratio versus Obiter: Ratio - AMP expenditure of the taxpayer incurred for its own licensed manufacture and domestic sales is not, per se, an international transaction under section 92B and therefore does not attract Chapter X adjustments absent evidence of an arrangement transferring benefit to AE. Obiter - observations on factual indicia (e.g., characterisation of duties, distribution role) are ancillary but not core ratio. Conclusions: The Court held that AMP expenses incurred by the taxpayer cannot be treated and categorised as an international transaction under section 92B and consequently the transfer pricing adjustment against AMP is unsustainable; the addition was deleted. Issue 2 - Validity and application of the Bright Line Test (BLT) Legal framework: BLT has been employed by some revenue authorities/TPOs as an analytical step to segregate AMP spend into routine domestic promotion and excess spend allegedly creating marketing intangibles attributable to AE; rule 10B/10AB and other methods may be invoked for ALP determination where applicable. Precedent treatment: The Court followed decisions that have disapproved or limited the use of BLT for determining existence or ALP of an alleged international transaction in relation to AMP (notably the High Court and Tribunal authorities cited which hold BLT is not a valid, standalone statutory method for this purpose, and that BLT cannot substitute for a required factual foundation). Interpretation and reasoning: The Court observed that BLT lacks statutory mandate as a means to first establish the existence of an international transaction where AMP is claimed as business expenditure; reliance on BLT without independent proof that AMP was incurred for AE benefit is impermissible. BLT may identify anomalies in quantum but cannot replace the requirement that revenue show an arrangement or agreement or other tangible evidence of an international transaction. Ratio versus Obiter: Ratio - BLT is not a valid basis, by itself, to convert AMP business expenditure into an international transaction and to compute ALP absent foundational proof of such transaction. Obiter - discussion on particular thresholds/comparability methodology in BLT context is illustrative. Conclusions: The Court held that application of BLT by the TPO to identify and quantify international transaction in respect of AMP was unsustainable; the TPO's reliance on BLT to propose large upward adjustments was rejected. Issue 3 - Burden of proof and incidental benefit to AE Legal framework: Principles governing burden of proof in transfer pricing and Chapter X demand that revenue establish existence of international transaction and demonstrate ALP adjustments on the basis of relevant facts and comparables. Precedent treatment: The Court referenced authorities emphasizing that revenue must first discharge the burden of showing an international transaction; incidental or indirect benefits to AE are insufficient to satisfy that burden (Maruti Suzuki and related decisions). Interpretation and reasoning: The Court reiterated that incidental benefits accruing to an AE from AMP spend by a licensed manufacturer do not of themselves warrant reimbursement or transfer pricing adjustments. The revenue must demonstrate an understanding/arrangement or evidence that AMP was undertaken for creation of marketing intangibles for the AE and quantify benefit to AE; absent such evidence, adjustments cannot be based on conjecture. Ratio versus Obiter: Ratio - Revenue bears the initial burden to establish existence of an international transaction and cannot rely on incidental benefit theory alone to justify adjustments. Obiter - treatment of specific factual indicia (e.g., economic v. legal ownership) is case-specific. Conclusions: The Court held that revenue failed to discharge the burden of proof; incidental benefits, without showings of arrangements or quantification, do not justify transfer pricing adjustments. Issue 4 - Comparability, characterisation (manufacturer v. distributor), and following coordinate-bench decisions Legal framework: Transfer pricing analysis requires appropriate functional characterisation and comparability analysis; Tribunal is expected to follow coordinate-bench decisions on identical facts absent material distinction. Precedent treatment: The Court followed coordinate-bench Tribunal decisions in the taxpayer's own earlier assessment years which had held AMP non-reportable as international transactions, and also followed High Court authority that rejected BLT and similar approaches. Interpretation and reasoning: The Court noted that the TPO erred in treating the taxpayer as a distributor rather than a manufacturer; such mischaracterisation skewed comparability and AMP intensity analysis. The Court emphasised judicial discipline: where coordinate-bench has decided identical issues on substantially similar facts, the later bench should follow that reasoning unless distinguishable facts exist. The departmental representative could not show any change in facts to justify departure. Ratio versus Obiter: Ratio - On identical facts and unchanged circumstances, Tribunal should follow coordinate-bench findings; inappropriate characterisation and use of incomparable comparables vitiate ALP determinations. Obiter - specific selections of comparables and quantum computations discussed were factual determinations not forming general law. Conclusions: The Court followed coordinate-bench precedent, found comparability analysis and characterisation by TPO/DRP flawed, and set aside the transfer pricing adjustments arising from those errors. Relief and procedural outcome Interpretation and reasoning: Applying the legal principles above and following coordinate-bench and High Court precedent, the Court held that the TPO's and DRP's adjustments could not be sustained and deleted the entire addition relating to AMP. The departmental appeal became infructuous and was dismissed; the taxpayer's appeal was allowed. Ratio: Deletion of the transfer pricing addition for AMP on the ground that AMP expenses incurred by the taxpayer are not an international transaction under section 92B constitutes the operative ratio of the decision.