ITAT Delhi deletes TP adjustment for supervision services following consistent favorable decisions in appellant's earlier years

ITAT DELHI held in favor of the appellant regarding TP adjustment for supervision services and central services. The Tribunal found that AO erred by not following DRP directions to benefit the assessee based on previous favorable decisions in appellant's own cases for AYs 2014-15, 2016-17, 2017-18, and 2018-19. Coordinate benches had consistently held that mark-up charged by associated enterprise for services should be allowed and deleted entire adjustments. The Tribunal concluded that arm's length nature of mark-up was no longer res integra, directing deletion of the TP adjustment.

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Issues Presented and Considered

The core legal questions considered by the Tribunal in this appeal pertain to the arm's length pricing of international transactions under the Income Tax Act, 1961, specifically:

• Whether the markup charged by associated enterprises (AEs) on supervision services provided to the appellant is at arm's length and hence allowable.
• Whether the markup charged by AEs on central services provided to the appellant is at arm's length and hence allowable.
• Whether the tax authorities were justified in disallowing the markup element on these services and making transfer pricing adjustments.
• The applicability of the principle of consistency in adjudicating transfer pricing issues across assessment years where facts and circumstances remain unchanged.
• The relevance and binding nature of prior appellate orders in the appellant's own case on identical or similar issues.

Issue-wise Detailed Analysis

1. Markup on Supervision Services

Legal Framework and Precedents: The transfer pricing provisions under sections 143(3), 144B, and 144C of the Income Tax Act govern the determination of arm's length price (ALP) for international transactions. The arm's length principle requires that transactions between related parties be priced as if between independent parties. The Cost Plus Method (CPM) and Transactional Net Margin Method (TNMM) are accepted methods for benchmarking such services.

Court's Interpretation and Reasoning: The appellant provided detailed transfer pricing documentation demonstrating that the per hour rates charged by the AEs for supervision services were lower than those charged to third parties. The TPO accepted the cost element but disallowed the 4% markup on costs charged by the AE, making an adjustment of Rs. 2.92 crores (later reduced to Rs. 29.28 lakhs as per DRP directions).

The Tribunal noted that the appellant's case facts for the relevant year were identical to prior years where the markup had been allowed by coordinate benches. The Tribunal emphasized the principle of consistency, observing that the AO failed to examine the issue afresh despite the binding precedent.

Key Evidence and Findings: The appellant's TP documentation included benchmarking studies showing the markup was within arm's length range. Prior appellate orders for AYs 2014-15, 2016-17, 2017-18, and 2018-19 had allowed the markup on the same services.

Application of Law to Facts: Since the appellant's international transactions and pricing methodology remained unchanged, and prior appellate decisions had accepted the markup, the disallowance by the TPO/AO was inconsistent with the principle of judicial precedent and transfer pricing norms.

Treatment of Competing Arguments: The revenue argued that the parent company benefits from synergies and economies of scale, therefore markup should not be allowed. The Tribunal rejected this argument, holding that incidental group benefits do not negate the primary beneficiary status of the appellant and do not justify disallowance of markup.

Conclusion: The markup charged on supervision services is at arm's length and should be allowed. The adjustment disallowing the markup is set aside.

2. Markup on Central Services

Legal Framework and Precedents: Similar to supervision services, the arm's length price for central services is determined under the Income Tax Act's transfer pricing provisions. The Cost Plus Method was applied by the appellant, with a 5% markup on internal costs allocated proportionately to the appellant.

Court's Interpretation and Reasoning: The TPO allowed the cost element but disallowed the 5% markup, making an adjustment of Rs. 74.15 lakhs. The DRP initially directed the AO to sustain the adjustment if the revenue had filed an appeal against prior ITAT orders but otherwise favored the appellant.

The Tribunal noted that the appellant had consistently been allowed the markup on central services in prior years, and no material change in facts or circumstances justified a different treatment for AY 2020-21.

Key Evidence and Findings: The appellant's TP documentation benchmarked the markup using TNMM, showing an arm's length range between 3.47% and 6.56%, with a median of 4.64%. The 5% markup charged falls within this range. Prior ITAT decisions for earlier years had allowed the markup.

Application of Law to Facts: Given the absence of any change in facts and the presence of binding precedent, the disallowance of markup on central services was unwarranted.

Treatment of Competing Arguments: The revenue's contention regarding incidental benefits to the parent company was rejected for the reasons discussed above.

Conclusion: The markup on central services is at arm's length and allowable. The adjustment disallowing the markup is set aside.

3. Principle of Consistency and Binding Precedent

Legal Framework and Precedents: The doctrine of consistency mandates that tax authorities and tribunals maintain uniformity in decisions on identical issues unless there is a material change in facts or law. Prior appellate orders in the appellant's own case form binding precedent for subsequent assessment years.

Court's Interpretation and Reasoning: The Tribunal observed that the AO failed to apply the principle of consistency and did not follow the directions of the DRP to consider prior ITAT decisions that had allowed the markup on similar transactions for earlier years. The Tribunal stressed that the facts and circumstances remained unchanged, and therefore the AO ought to have accepted the appellant's position.

Key Evidence and Findings: The litigation history table showed repeated acceptance of the markup by TPOs, DRPs, and ITAT for multiple years. No appeal by the revenue was pending against these decisions at the High Court level for the relevant years.

Application of Law to Facts: The Tribunal applied the principle of consistency strictly, holding that the AO's failure to follow precedent amounted to an error.

Treatment of Competing Arguments: The revenue's insistence on sustaining the adjustment based on alleged benefits to the group was rejected as not supported by facts or law.

Conclusion: The AO's action was erroneous and the appeal is allowed on this ground.

Significant Holdings

"The appellant is an entrepreneur in its own right and is engaged in engineering, procurement and commissioning projects for third party clients. It procured orders independently and carried out projects on its own, performing various complex roles and bearing associated risks. Therefore, the ratio of Supreme Court decision in the case of Morgan and Stanley & Co. hardly applies on the facts of the appellant's case."

"While the primary beneficiary of the services is the appellant, incidental benefits accruing to the group do not justify disallowance of markup. The arm's length price of the services is therefore decided at the actual cost plus markup."

"The issue of markup being at arm's length is no longer res integra and has been ruled in favour of the appellant by coordinate benches in the appellant's own case for multiple assessment years."

"The AO has fallen in error by not following the directions of the DRP and the decisions in favour of the appellant in its own cases. The principle of consistency requires acceptance of the markup charged by the AE on supervision and central services."

Final determinations:

• The markup charged by the associated enterprises on supervision services is at arm's length and allowable.
• The markup charged by the associated enterprises on central services is at arm's length and allowable.
• The transfer pricing adjustments disallowing these markups are set aside.
• The principle of consistency and binding precedent mandates acceptance of the appellant's position for AY 2020-21 as in prior years.

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