TNMM benchmarking: forex loss on borrowing and capital items excluded, functionally dissimilar comparable removed, and expense disallowance remanded.

Under TNMM benchmarking, foreign exchange losses linked to external commercial borrowings and capital expenditure are non-operating and should be excluded from the operating margin; the same treatment was directed here. Comparability must turn on functions, assets, risks and economic context, and ZF Steering Gear (India) Limited was found functionally dissimilar and excluded from the set. The disallowance of expenses was remanded for fresh consideration because additional evidence required examination and the assessee was to be given an opportunity.

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Issues: (i) Whether foreign exchange loss attributable to external commercial borrowings and capital expenditure was required to be treated as non-operating while computing the assessee's operating margin under the transactional net margin method; (ii) Whether ZF Steering Gear (India) Limited was a functionally comparable company and could be retained in the comparables set; (iii) Whether the disallowance of expenses required fresh consideration in view of additional evidence.

Issue (i): Whether foreign exchange loss attributable to external commercial borrowings and capital expenditure was required to be treated as non-operating while computing the assessee's operating margin under the transactional net margin method.

Analysis: Foreign exchange movements connected with ordinary operating transactions may bear on operating profitability, but losses arising from financing or capital account items are attributable to treasury or funding functions. The breakup of the forex loss showed that part of it related to external commercial borrowings and capital expenditure. The assessee's treatment in earlier assessment years also supported consistency in excluding such items from operating cost.

Conclusion: The forex loss relating to external commercial borrowings and capital expenditure was directed to be excluded as non-operating while computing the profit level indicator, in favour of the assessee.

Issue (ii): Whether ZF Steering Gear (India) Limited was a functionally comparable company and could be retained in the comparables set.

Analysis: Comparability under the transactional net margin method depends on functions performed, assets employed, risks assumed, and the economic factors influencing profitability. ZF Steering Gear operated in different business verticals and served a different industry, making it functionally dissimilar to the assessee's manufacturing activity.

Conclusion: ZF Steering Gear (India) Limited was directed to be excluded from the comparables set, in favour of the assessee.

Issue (iii): Whether the disallowance of expenses required fresh consideration in view of additional evidence.

Analysis: The additional material submitted during the appellate proceedings required examination and the issue warranted reconsideration after calling for relevant details and affording opportunity to the assessee.

Conclusion: The disallowance issue was remanded to the Assessing Officer for fresh consideration.

Final Conclusion: The transfer pricing adjustment was partly reduced by excluding non-operating forex loss and by removing a functionally dissimilar comparable, while the disallowance issue was sent back for reconsideration.

Ratio Decidendi: Under transactional net margin method benchmarking, foreign exchange losses linked to financing or capital transactions are non-operating, and comparables must be rejected where functional profile and economic factors materially differ.

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