TaxTMI 
TaxTMI 
2011 (9) TMI 296
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....nover of Rs. 107,57,89,057. As its transactions with AEs were in excess of Rs. 5 crores, the Assessing Officer referred the ascertainment of arm's length price to the Transfer Pricing Officer. In the proceedings before the TPO, it was contended by the assessee that he has adopted cost plus method (CPM) of ascertaining the ALP so far as sale of finished goods is concerned. As per details given by the assessee, the assessee has earned a gross profit margin (i.e. gross profit/sales) of 18.65% in transactions with unrelated parties, as against a margin of 21.75% on transactions with AEs. The TPO, however, noted that the assessee has not given detailed calculations of the margins, that the cost plus method requires strict comparability and the nature of transactions with AEs are functionally different, on account of variations in terms and conditions and risk factors, and that the assessee has used sales/GP as the profit level indicator which is not correct indicator. He thus required the assessee to show cause as to why cost plus method not be rejected, but, in reply, the assessee merely submitted the gross profit rate computations. Accordingly, the TPO rejected the cost plus method fo....
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.... length price of assessee's international transactions, and the sales to AEs was taken as the balancing figure. As the assessee's transaction value of sales to AEs was not within + 5% margin of the ALP determined by the Assessing Officer, the adjustment of 5% was also declined. When assessee was confronted by this determination of ALP, in the course of the assessment proceedings, the assessee, inter alia, submitted as follows: ........The Additional Commissioner of Income-tax (Transfer Pricing) is not justified in rejecting the basis of purchase of diamonds under CUP method without any basis and material to prove that CUP is not applicable. The assessee had proved beyond doubt that the diamonds were purchased at the market price and hence are at arm's length. The Additional Commissioner has merely, without giving any opportunity, rejected the CUP method without any evidence. He has merely stated that the assessee has not proved any further evidence to substantiate the use of CUP method and simply stated that in view of the same, the transaction is considered not to be at arm's length and the analysis undertaken by the assessee is being rejected. In case of studded jewellery, ....
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....ds as well as sale of jewellery though the nature of the two transactions are entirely different. 6. The AO failed to appreciate that the Transactional Net Margin Method is not the most appropriate method in the circumstances of the appellant's case and, therefore, the same ought not to have been applied. 7. The AO erred in making adjustment of Rs. 8,27,30,858 by applying the Transactional net Margin Method to the total transactions of the appellant to determine the arm's length price with the Associated Enterprises. 8. The order of the AO is bad in law and without jurisdiction inasmuch as neither the Transfer Pricing Officer nor the AO gave any details of the Companies on whose data they relied on to apply the Transactional Net Margin Method in the case of the appellant. 9. The order of the AO is bad in law and without jurisdiction inasmuch as neither the Transfer Pricing Officer nor the AO gave sufficient opportunity of being heard to the assessee in view of the fact that the assessment was getting time barred on 31-12-2006. 4. In the course of proceedings before the Commissioner (Appeals),....
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....rial on record and duly considered factual matrix of the case as also the applicable legal position. 7. A plain look at the sequence of events shows that the first appellate authority completely missed the vital fundamental fact that TNMM was resorted to in this case not only because assessee's determination of ALP in respect of sales of finished goods to the AEs, which was stated to be on CPM basis, was rejected, but also because assessee's determination of ALP in respect of purchases of diamonds from the AEs and sales of diamonds to AEs, which was stated to be on CUP basis, was rejected. However, by giving finding on only the determination of ALP of sales to AEs - which, for the reasons we will set out in a short while, is incorrect anyway, the CIT(A) has rejected the impugned ALP adjustment, which was recommended by the TPO in respect of "all the transactions undertaken by the assessee" and adopted by the Assessing Officer "on account of adjustment made to the arm's length price of international transactions with the associated enterprises". The ALP adjustments were thus not only in respect of sales of finished goods to the AEs, but also in respect of imports of diamonds from....
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.... On a conceptual note, when arm's length prices of the transactions with AEs cannot be reasonably ascertained, the profit earned by the assessee entering into these transactions is to be estimated, and that is precisely what TNMM does. When TNMM is applied in the context of sales of finished goods to AEs, it is this figure which is taken as variable figure and it bears the impact of higher margins, and when TNMM is applied in the context of purchases of raw materials from AEs, it is the figure of purchases of raw material from AEs which is taken as variable figure and it bears the impact of higher margins. Beyond that, the cause of invoking TNMM does not make much material difference. As we say so, we are alive to the fact that there is a school of thought, which appears to have been subscribed to by the coordinate benches, that the impact of TNMM has to be restricted on a proportionate basis to the transactions and not to the overall profits even when entity is engaged in the same business, we see no need to deal with this issue in any greater detail, as, in the present case, we are not required to adjudicate on that aspect of the matter. Suffice to say that, whatever be the appro....
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....vices provided to an associated enterprise, are determined; (ii) the amount of a normal gross profit mark-up to such costs (computed according to the same accounting norms) arising from the transfer or provision of the same or similar property or services by the enterprise, or by an unrelated enterprise, in a comparable uncontrolled transaction, or a number of such transactions, is determined; (iii) the normal gross profit mark-up referred to in sub-clause (ii) is adjusted to take into account the functional and other differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect such profit mark-up in the open market; (iv) the costs referred to in sub-clause (i) are increased by the adjusted profit mark-up arrived at under sub-clause (iii); (v) the sum so arrived at is taken to be an arms length price in relation to the supply of the property or provision of services by the enterprise. 9. The application of Cost Plus Method thus provides for (i) ascertaining the direct and indirect costs of property t....
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....ssee has shown a margin as high as 27%. The cost plus method, therefore, has not been correctly applied. In any case, one of the most important input, i.e. diamond, has been imported at a price for which no ALP documentation is available and the price of imports have been taken into account in computation of costs as well. The costs of inputs have not been verified either. No efforts are made to show that the terms of sale to the AEs and all other relevant factors are materially similar vis-a-vis the transactions with independent enterprises. The CPM is applied by comparing gross profit on sales, whereas the method requires comparison of mark up on costs on transactions with AEs vis-à-vis mark up on costs on transactions with non AEs. In view of these discussions, the CIT(A) was in error in upholding assessee's computation of ALP by cost plus method. 10. We have also noted that the assessee was duly confronted with comparable cases for application of transaction net margin method, but the assessee did not have anything to say beyond his rather vague and generalized objections to the application of TNMM and insistence that the CUP and CPM method adopted by him should not b....