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2013 (9) TMI 796
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.... Rs. 408.32 lacs treated by the TPO as not at arms' length price), incurred during the year on account of royalty and technical guidance fees paid to Honda Motor Co., Japan, ('Honda') in accordance with the 'License and Technical Assistance Agreement' ("LTAA") as capital expenditure. 6.1 Without prejudice, that the assessing office erred on facts and in law in treating 100% expenditure incurred on account of royalty and technical guidance fees as capital expenditure as opposed to 25% thereof being treated as capital expenditure in earlier years, which was, in any case, excessive." 4. The facts of the case are that the assessee derives income from manufacture and sale of motorcycles and spare parts. For the year under consideration, the assessee claimed the deduction of Rs. 22,940.58 lakhs as royalty payment which included the royalty of Rs. 408.32 lakhs paid on exports made to the associated enterprises. The TPO, vide his order dated 30th October, 2009, has held the royalty of Rs. 408.32 lakhs paid to AEs not at arm's length and, accordingly, the same was disallowed. The balance royalty of Rs. 22,082.26 lakhs (22,490.58 - 408.32) is disallowed by the Asse....
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....hile relying upon the decision of the apex Court in the case of Southern Switch Gear Ltd. vs. CIT : 232 ITR 359 and Jonas Woodhead & Sons (India) Ltd. vs. CIT : 224 ITR 342, it was held by the assessing officer that the said expenses incurred by the assessee constitutes capital expenditure. On the basis of transfer pricing report, where royalty paid on exports, to the extent of Rs. 408.32 lacs, was held to be not at arm's length, the assessing officer considered the aforesaid amounts as fully disallowable and allowed depreciation at 25% on the balance expenditure. Consequentially, the assessing officer made the net disallowance of Rs. 16,970 lacs, after allowing depreciation @ 25%. The disallowance made by the assessing officer on the aforesaid grounds is incorrect, both on facts and in law, for the reasons elaborated hereunder: a. Brief History and Facts : The assessee had set up its plant in the year 1984 to manufacture models of motorcycles by using know-how of Honda Motor Co. through Technical Collaboration Contract dated 24th January, 1984. Under that agreement, the assessee was provided with technical assistance not only for manufacture, assembly and service of th....
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....belonging to Honda, which was to continue to vest in the absolute ownership of the Honda, as provided in unequivocal terms in the agreement. It will be appreciated that in the case of acquisition of technical know-how, etc., unlike in the present agreement, the acquirer is free to use the rights acquired in the manner he likes and has the right to dispose of such rights. There are no restrictions or obligations on the acquirer as to secrecy, disposal, inspection of facilities, returning the technical know how, etc. Similarly no asset was acquired on payment of technical guidance fees, paid @ US$ 650 per diem in respect of services provided by technicians deputed by Honda in order to guide or solve the problems arising to the assessee company, while manufacturing the licensed products. The payment of guidance fees does not result in creation of any new asset nor result in any benefit of enduring nature. The said payment, was allowable expenditure under section 37(1) of the Act, being incurred for the purposes of business. Reliance in this regard is placed on the following decisions wherein it has been held that where payment is made to simply use the technical know how/knowled....
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....it will kindly be appreciated that the expenditure by way of royalty and technical guidance fee incurred by the assessee was allowable revenue deduction since - (i) payment was made for limited license to use the know-how provided by Honda, as the proprietary and ownership rights in the same continued to remain vested with Honda at all times and, there was, therefore, no absolute parting of know-how in favour of the assessee resulting in acquisition of any asset, (ii) no benefit of enduring nature in the capital field accrued to the assessee (iii) The license to use the know- how was also non exclusive and Honda reserved the right to provide technology for manufacture of motorcycles to Honda Motorcycle and Scooters India Ltd. (iv) the subject payment made did not cover consideration paid for setting up of the manufacturing facility in India. On the strength of the aforesaid decisions, the total expenditure on account of royalty and technical guidance fees was claimed as revenue expenditure. The decisions of the Supreme Court in the case of Southern Switch Gear : 232 ITR 359 and Jonas Woodhead & Sons (India) Ltd. vs. CIT : 224 ITR 342 relied upon in the assessment order are not ....
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....on Council : 244 ITR 734 (Del.). * Vesta Investment and Trading Co. (P) Limited v. CIT : 70 ITD 200 (Chd.). 6. The learned DR, on the other hand, relied upon the orders of the Assessing Officer as well as the DRP and has stated that since the assessee has an exclusive right for the manufacture and sale of motorcycles and even after the termination of the agreement the assessee was entitled to manufacture the motorcycles, therefore, the payment was certainly a capital expenditure. The Assessing Officer has already allowed the depreciation on such capital expenditure. He also submitted that the decision of the ITAT in the earlier year would not be applicable because law of res judicata is not applicable to the income tax proceedings. He also relied upon the following decisions in support of his claim that the payment of royalty is a capital expenditure :- (i) Southern Switch Gear Ltd. Vs. CIT & Another - 232 ITR 359 (SC). (ii) Jonas Woodhead And Sons (India) Ltd. Vs. CIT - 224 ITR 342 (SC). He, therefore, submitted that the order of the Assessing Officer is quite fair and reasonable and the same should be sustained. 7. We have carefully considered the arguments of both the sid....
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....ements coupled with ownership of IPR and exclusive licence. The only similarity, which could be gathered in these cases, is existence of exclusive licence, which cannot be taken on standalone basis. Hon'ble Supreme Court has repeatedly underlined the need of considering all the facts of any agreement carefully. In our view, the only element of exclusive licence that too in the second agreement after 15 years duration cannot be divorced from all other attending facts and circumstances. Therefore, we are unable to subscribe the view of the revenue that any part of expenditure is attributable to any enduring benefit so as to make it capital expenditure. 7.19. Even if it is assumed that it has elements of enduring benefit the plea of Learned counsel about the same being revenue towards generating apparatus cannot be denied as by the so-called exclusivity what assessee can control is not the price of the know-how but the sale price of product in non- competitive Honda motorcycle market which will only increase the sale price and thus the revenue generating apparatus of assessee. In this eventuality also, the Supreme Court judgment of Empire Jute Co. Ltd. supports the assessee'....
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....highly debatable and CIT(A) cannot revise his appellate order to disallow 25% of expenditure as capital expenditure u/s 154." 9. Thus, in AY 2001-02, 2002-03 & 2003-04, the ITAT held the payment for royalty as well as model fee to be revenue expenditure and the disallowance made by the Assessing Officer at 25% of the total royalty payment was deleted. In AY 2003-04, 2004-05 & 2005-06, similar disallowances were made. It was explained by the assessee's counsel that the same are deleted by the learned CIT(A) and Revenue's appeal before the ITAT is pending. He, however, submitted that since it is a stay granted matter, the appeal should be disposed of without waiting for the disposal of the appeals for AY 2003-04, 2004-05 & 2005-06 because the issue is already settled by the ITAT in AY 2000- 01, 2001-02 & 2002-03. He also pointed out that the Revenue's appeals against the order of the ITAT for AY 2000-01, 2001-02 & 2002- 03 are pending before the Hon'ble High Court. 10. The learned DR, on the other hand, has no objection for disposal of this stay granted appeal despite the pendency of the appeals for AY 2003-04, 2004-05 & 2005-06. 11. Though the issue is covered by ....
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.... of an enduring nature and was, therefore, capital expenditure. The Appellate Assistant Commissioner and the Tribunal confirmed the disallowance. On a reference, the High Court considered the various clauses of the agreement and held that the payment stipulated in clause 12 of the agreement was not remuneration for user of the rights granted by the foreign company but a composite payment for all the services rendered and information furnished by the said foreign company to the appellant in the setting up of the factory as well as in the manufacture of the licensed products in that factory. The High Court took the view that the appellant acquired a benefit of enduring nature and that the sum paid for the same would constitute capital expenditure. On appeal to the Hon'ble Supreme Court, it was held as under:- "Held, affirming the decision of the High Court, that the High Court having considered the different clauses of the agreement and having come to the conclusion that under the agreement with the foreign company, what was set up by the appellant was a new business and the foreign company had not only furnished information and technical know-how but rendered valuable services....
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....al aid fees would have to be taken as being capital in nature. Since the foreign company had also agreed not to manufacture in India any of the products in question or grant or make available to any other person any information relating to manufacture, license, or rights, for any of the products in question in India thereby conferring on the assessee exclusive right of manufacture and the sale of the products, the High Court held that the clause in the agreement indicated that the assessee paid the royalty for the acquisition of an exclusive privilege of manufacturing and selling the products and the acquisition of such a right was rightly treated by the Tribunal as partly towards capital and partly towards revenue. The High Court affirmed the disallowance of royalty estimated at 25 per cent by the Tribunal. On appeal to the Hon'ble Supreme Court, the Apex Court affirmed the judgment of the Hon'ble High Court as under:- "We have perused the order of the High Court. We have also seen the agreement. We are not persuaded to hold that the view taken by the High Court is erroneous; the appeals are dismissed. There will be no order as to costs." 15. The learned counsel for the....
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....e. In the instant case, the facts had been fully considered and a concurrent opinion had been expressed, both by the Commissioner (Appeals) as well as by the Tribunal that the expenditure was of a revenue nature and not of a capital nature. There was no reason to differ with the opinion on the facts of the instant case and it was quite clear that the ratio of the decisions of the Supreme Court in Jonas Woodhead & Sons ((India) Ltd. v. CIT [1997] 224 ITR 342/91 Taxman 1 and in Empire Jute Co.Ltd. v. CIT [1980] 124 ITR 1/3 Taxman 69 was fully applicable to the facts of the instant case and both the authorities were right in concluding that the payment made by the assessee towards licence fee to 'S' was a revenue expenditure." 17. In the case of Shriram Pistons & Rings Ltd. Vs. CIT, New Delhi - [2008] 171 Taxman 81 (Delhi), the facts of the case are that the assessee company had entered into a technical collaboration agreement with a Japanese company, 'R' for the manufacture of piston rings. The said agreement mentioned that the technical know-how would be sold by 'R' to the assessee for a fixed amount and the payments would be made on the fulfillment of c....
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....know-how. Therefore, the Tribunal was justified in holding that there was no sale of technical know-how by 'R' to the assessee and, hence, the payment made by the assessee to 'R' was a revenue expenditure." 18. In the case of CIT Vs. Sharda Motor Industrial Ltd. - [2009] 319 ITR 109 (Delhi), the facts are that the assessee had entered into two agreements with a Korean company under which the assessee was to pay a lump sum amount for transfer of technical know-how and running royalty at a specified rate per "piece of production" of different products. The assessee showed the lump sum payment against transfer of technical know-how provided by the Korean company as capital expenditure and claimed that the royalty was business expenditure. The Assessing Officer treated the royalty as capital expenditure. The order of the Assessing Officer was reversed by the Commissioner (Appeals) and this was affirmed by the Appellate Tribunal. On appeal, it was held as under:- "That the finding of the Commissioner (Appeals) that the payment of royalty was purely a revenue expenditure, which was annual expenditure depending upon the quantum of production in the relevant year was a....
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....ompany and as it had the right to continue to manufacture the product even after termination of the agreement. While in our case the design patent applies to the foreign company and we are only licensed to produce the goods for Hyundai Car and we cannot continue to produce the goods if the agreement is terminated. This itself is a major difference between the case cited by your honour and the facts of our case." On the facts and after applying the aforesaid principle, it becomes crystal clear that the expenditure is of revenue nature." 20. In the case of Climate Systems India Ltd. Vs. CIT - [2009] 319 ITR 113 (Delhi), the facts of the case are that the assessee company engaged in the manufacture and sale of heat exchangers (radiators) entered into technical collaboration agreement with a US company to manufacture radiators with technology owned by the US company. Under the agreement, the assessee was permitted to use the technology for manufacture of upgraded radiators for which the assessee was to make a lump sum payment of US $ 1 million to the US company, which was capitalized in the assessee's books of account and a royalty of 3 per cent. of domestic sales and 5 per cent....
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....manufacture the shock absorbers but not for acquiring technology itself and, therefore, they could not be held to capital expenditure. On appeal, their Lordships of Jurisdictional High Court held as under:- "Held, dismissing the appeals, that the know-how was granted by the foreign company solely for the purpose of manufacture, assembly and sale of products during the term of the contract and the license was to pay royalty to the licensor. The drawings and designs which were supplied by the licensor only enabled the assessee to manufacture the shock absorbers. The assessee was required to change the design of such shock absorbers from time to time for which new drawings and designs were required. For this purpose, the training of the personnel of the assessee was imperative. Under the agreement, the know-how acquired related to the process of manufacturing and for a technical and the documents, designs and specifications which had been supplied by the licensor were only for facilitating this purpose of manufacturing. This was basically in the realm of technical support." 22. Now, we come to the assessee's case so as to reach to the conclusion as to which of the above decisio....
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....nto (i) a Technical Collaboration Contract dated January 24, 1984 ("1984 TC Contract"), a successively to the expiration of 1984 TC Contract, (ii) a License and Technical Assistance Agreement dated June 2, 1995 ("1995 LTAA") which was taken on record by the Government of India on 22nd of August, 1995, under which LICENSEE was entitled, among other things, a right and license in manufacture, assemble, sell, distribute, repair and service certain two/three wheelers and parts thereof as defined therein, designed and developed by LICENSOR. LICENSOR and LICENSEE mutually desire that the licensing arrangement under 1995 LTAA be extended for an additional period in accordance with the terms and conditions, set forth hereinafter, which will henceforth govern their relationship." 24. Thus, the agreement dated 2nd June, 2004 is virtually an extension of the agreement dated 2nd June, 1995 considered by the ITAT in its order for AY 2000-01, 2001-02 & 2002-03 (supra). The important clauses of the agreement read as under:- "Article 2 Article (Grant of License and Exclusivity) Subject to the terms and conditions herein contained, LICENSOR hereby grants to LICENSEE an indivisible, non- tr....
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....r, and the Licensed Parts manufactured by LICENSEE and/or its Subcontractors hereunder and the Supply Parts supplied to LICENSEE and/or its purchasing agencies designated by LICENSEE hereunder, in the manufacture, assembly, servicing, sale or other disposition of any goods other than the Products, or for any purpose other than as expressly provided in this Agreement. 18.2 LICENSEE shall neither file nor cause to be filed in any country any patent or other intellectual property right application which incorporates or is directed to the Intellectual Property Rights, the Technical Information, the Know-How or the Trademarks disclosed to LICENSEE hereunder. If LICENSEE, in violation of this Article 18.2, files any application for any patent or other intellectual property rights in any country, it shall be deemed a breach of this Agreement, and further, the right to such application and any intellectual property rights resulting from such application shall be automatically gratuitously assigned and transferred by LICENSEE to LICENSOR. 18.3 In the event any inventions and improvements which relate to the Products, the Parts, the Know-How or the Intellectual Property Rights was made b....
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....with the ex-factory sales price (or ex-warehouse sales price in case of the Products kept in a warehouse immediately before such delivery) of such Products invoiced by LICENSEE to purchaser, renters or other transferees of such Products, less, in case of (b) herein:- (i) the landed cost (including ocean freights, insurance premiums, customs duties and other inland expenses) or the Supply Parts irrespective of source of import; (ii) the cost to LICENSEE of the standard bought-out component parts listed in Exhibit IV attached hereto; and (iii) excise duties imposed on LICENSEE by the Government of India and included in said ex-factory sales price or ex-warehouse sales price. It being understood by the parties that the aforesaid deduction in respect of calculation of running royalties shall be in accordance with the prevailing policy of the Government of India." "Article 33 Effect of Expiry and Termination 33.1 In the event of any termination pursuant to Article 32.1 on account of material breach by LICENSOR of its obligations under this Agreement, and subject to the due performance by LICENSEE of its material obligations, LICENSEE may continue to manufacture, assemble, se....
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....ed to either party hereunder prior to such expiration or termination. 33.6 LICENSEE shall, to the extent it is reasonable and feasible, return to LICENSOR all particular documents and tangible property supplied by LICENSOR in connection with this Agreement and belonging to LICENSOR and all copies and translations thereof except in the event of termination in accordance with Article 33.1, and shall keep all information received by LICENSEE hereunder secret and confidential in accordance with Article 17 hereof. 33.7 LICENSEE shall not be entitled to demand from LICENSOR, for the reason of the expiration or termination of this Agreement or the failure to renew or extend it, any damages, reimbursements or other payments on account of the current or prospective profits on LICENSEE's sale or anticipated sale of the Products and the Parts, or on account of LICENSEE's expenditures, investments or commitments made in connection with the manufacture of the Products and the Parts, or on account of the establishment, development or maintenance of the goodwill or other business of LICENSOR, or on account of any other cause or thing whatsoever, except in case where this Agreement is ....
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..... Paragraph 18.3 of the agreement provides that even in respect of any inventions and improvements made by the licensee i.e. the assessee, the licensee is required to disclose it to the licensor i.e. HMSI and it is the HMSI who will have a transferable right to use such inventions and improvements with right to sub-license. Therefore, not only the original information and know-how provided by the licensor is the property of the licensor and not the assessee but even any inventions and improvements made by the assessee would be transferred to the licensor by the licensee. Paragraph 18.4 clearly provides that the assessee shall not claim any title or property right in respect of any intellectual property rights, know-how, technical information etc. provided under this agreement. Article 25 provides the consideration to be paid by the assessee for the use of technical information provided to the assessee under this license. The consideration is in the form of model fee as well as the running royalty. Paragraph 33.6 of the agreement provides that the licensee i.e. the assessee shall return to the licensor all documents and tangible property supplied by licensor in connection with this ....
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....ure and the Hon'ble Jurisdictional High Court affirmed the views of the Tribunal that the payment of running royalty was revenue expenditure. In this case, the Hon'ble Jurisdictional High Court has considered the decision of Hon'ble Apex Court in the case of Southern Switchgears Ltd. (supra) relied upon by the Revenue. 29. In the case of Lumax Industries Ltd. (supra), the assessee was paying license fee on year to year basis for acquisition of technical knowledge. The LIL claimed the said payment as revenue expenditure which was disallowed by the Assessing Officer holding that by virtue of the agreement, the LIL had derived an asset of enduring nature. On appeal, the CIT(A) allowed the assessee's claim and the Tribunal upheld the order of the CIT(A). On further appeal, the Hon'ble Jurisdictional High court upheld the order of the ITAT and has also observed that even if the assessee had obtained the long term advantage of enduring benefit, that by itself would not convert any expenditure incurred by the assessee into capital expenditure. This decision of Hon'ble Jurisdictional High Court is after considering the decision of Hon'ble Apex Court in the case....
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....cording any finding/satisfaction as to why the disallowance under section 14A of the Act made by the appellant in the return of income, was not correct." 31. At the time of hearing before us, it is submitted by the learned counsel that in the return of income, the assessee has suo motu disallowed a sum of Rs. 15.08 lacs under Section 14A. That the Assessing Officer computed the disallowance under Section 14A as per Rule 8D of the Income-tax Rules, 1962 and worked out the disallowance at Rs. 128.29 lacs as against Rs. 15.08 lacs offered by the assessee. The DRP sustained the order of the CIT(A). 32. It is submitted by the learned counsel that the assessment year under consideration is 2006-07 while Rule 8D of the Income-tax Rules has come into existence with effect from AY 2008-09. That the Hon'ble Bombay High Court in the case of Godrej and Boyce Mfg. Co.Ltd. Vs. DCIT and Another - [2010] 328 ITR 81 (Bom) and also the Hon'ble Jurisdictional High Court in the case of Maxopp Investment Ltd. Vs. CIT, New Delhi - [2011] 203 Taxman 364 have held that Rule 8D is not retrospective and, therefore, not applicable in the assessment years prior to AY 2008-09. He, therefore, submitte....
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....d of apportionment." 35. In the case of the assessee, the Assessing Officer has worked out the disallowance under Section 14A as per Rule 8D. As per the decision of Hon'ble Bombay High Court in the case of Godrej and Boyce Mfg. Co.Ltd. (supra) and also the Hon'ble Jurisdictional High Court in the case of Maxopp Investment Ltd. (supra), Rule 8D cannot be applied in assessment year 2008-09. Therefore, the disallowance was to be computed as per the observation of the Hon'ble Jurisdictional High Court in the case of Maxopp Investment Ltd. (supra). We, therefore, set aside the orders of the authorities below on this point and restore the matter to the file of the Assessing Officer with the direction that he shall rework the disallowance under Section 14A as per the observation of the Hon'ble Jurisdictional High Court in the case of Maxopp Investment Ltd. (supra). Needless to mention that Assessing Officer will allow adequate opportunity of being heard to the assessee. 36. Ground Nos.8 & 8.1 of the assessee's appeal read as under:- "8. That the assessing officer erred on facts and in law in disallowing deduction under section 80IA of the Act, amounting to Rs. 3,32....
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....ore, the deduction as claimed by the assessee should have been allowed. 38. The learned DR, on the other hand, relied upon the order of the Assessing Officer and the DRP. He stated that the supply of power by Maruti Udyog Limited to its associated enterprises cannot be said to be the market value of the power because the assessee's counsel himself has stated that Maruti Udyog Limited was supplying the power to the associated factories and not to independent parties. Moreover, no evidence for supply of power by Maruti Udyog Limited to any independent party at the rate of Rs. 8.50 per unit is produced. He stated that the rate on which the government is supplying power in that area to every industry is in fact the market rate. He, therefore, submitted that the order of the Assessing Officer in this regard should be sustained. 39. We have carefully considered the submissions of both the sides and perused the material placed before us. Sub-section (8) of Section 80IA reads as under:- "(8) Where any goods [or services] held for the purposes of the eligible business are transferred to any other business carried on by the assessee, or where any goods [or services] held for the purp....
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....ed. In our opinion, the rate at which power is being supplied by the Haryana State Electricity Board, to each and every industrial unit situated in the area, in which assessee's manufacturing unit is situated, is the market rate at which power is available. The rate at which Maruti Udyog Limited is claimed to supply the power to its AE cannot be said to be the market rate of the power in that area because as per assessee's own claim, Maruti Udyog Limited is supplying the power to its AE and not to unrelated parties in general. In view of the above, we hold that the Assessing Officer was fully justified in arriving at the conclusion that there was a loss in the power generation undertaking of the assessee and therefore, there was no eligible profit for allowing deduction under Section 80IA. Accordingly, we dismiss ground Nos.8 & 8.1 of the assessee's appeal. 41. Ground No.9 of the assessee's appeal reads as under:- "9. That the assessing officer erred on facts and in law in disallowing expenditure of Rs. 5.75 crores claimed by the appellant on account of provision for warranty made in respect of sales rendered during the year, on the ground that same is an unascer....
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....on'ble Jurisdictional High Court in assessee's own case. Respectfully following the same, we delete the disallowance made by the Assessing Officer in respect of provisions for warranty. Accordingly, ground No.9 of the assessee's appeal is allowed. 45. Ground Nos.10 to 10.3 are against the disallowance of Rs. 12.19 crores being export commission. 46. At the time of hearing before us, it is stated by the learned counsel that similar disallowance is made by the TPO also by way of transfer pricing adjustment and, therefore, ground No.10 should be adjudicated alongwith ground No.1.1 which is against the adjustment made by the Assessing Officer as per the order of the TPO. 47. The learned DR also accepted this submission of the learned counsel. Therefore, we shall adjudicate ground No.10 of the assessee's appeal alongwith ground No.1.1 of its appeal. 48. Ground Nos.1 to 5 of the assessee's appeal are with regard to adjustments made by the Assessing Officer as per the order passed by the TPO. 49. Ground No.1 of the assessee's appeal is of general nature and it is admitted by the parties that no separate adjudication of ground No.1 is required. 50. Ground No.1....
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....enged vide ground No.1.1 reproduced above and the disallowance made under the general provisions of the IT Act have been challenged by way of ground Nos.10 to 10.3 which read as under:- "10. That the assessing officer erred on facts and in law in disallowing export commission paid to Honda, amounting to Rs. 12.19 crores, by applying provisions of section 40(a)(ia) on the ground that the appellant had failed to deduct tax at source therefrom as per section 195 of the Act. 10.1 That the assessing officer erred on facts and in law in holding that the payment of export commission was in the nature of royalty/fee for technical services chargeable to tax in India under section 9(1)(vi)/(vii), since the same was in consideration for (i) right to use trademark, (ii) permission to export and (iii) in lieu of managerial and technical services provided by Honda, and accordingly, the appellant was under the obligation to deduct at source therefrom as per section 195 of the Act. 10.2 That the assessing officer erred on facts and in law in alternatively holding payment of export commission to be in the nature of capital expenditure not allowable under section 37(1) of the Act on the ground....
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....xport two wheelers in the overseas territory (ies), which were earlier being supplied by HMCL or its other affiliates. In other words, the payment of commission was made to HMCL in lieu of HMCL agreeing to cede the overseas market. The Hon'ble Delhi Bench of the Tribunal in the case of Honda Siel Cars Ltd. vs. ACIT : 109 ITD 1 for the assessment year 2001-02 and 2002-03, held that similar expenditure on payment of commission on export was incurred exclusively for the purpose of the business of the appellant and did not constitute diversion of profit by the appellant to HMCL. ii) It is a matter of record that the appellant does not have any distribution or marketing network outside India and it solely depends on distribution network/marketing support provided by the AEs for export of its products. The appellant company, it would be appreciated, makes payment of export commission to the AE for enabling it to access its well established overseas marketing network/territories for exporting appellant's products from India. The export commission is also paid by the appellant to HMCL for procuring export orders using their network and infrastructure in relation to exports. The f....
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....ure should have been incurred "wholly and exclusively" for the purpose of business and nothing more. It is this principle that inter alia finds expression in the OECD guidelines, in the paragraphs which we have quoted above. XXX So long as the expenditure or payment has been demonstrated to have been incurred or laid out for the purposes of business, it is no concern of the TPO to disallow the same on any extraneous reasoning. As provided in the OECD guidelines, he is expected to examine the international transaction as he actually finds the same and then make suitable adjustment but a wholesale disallowance of the expenditure, particularly on the grounds which have been given by the TPO is not contemplated or authorized." The Hon'ble Tribunal recently in the case of M/s Ericsson India Pvt.Ltd. vs. DCIT (ITA No.5141/Del/2011), too, following the law laid down by the Hon'ble Jurisdictional High Court, held that "it would be wrong to hold that the expenditure should be disallowed only on the ground that these expenses were not required to be incurred by the assessee." Further, in the case of Dresser Rand India Pvt.Ltd. vs Addl.CIT (ITA No.8753/Mum/2010) the Hon'bl....
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....the assessee and the order of learned CIT(A) is reversed. Thus, ground no.3 of the assessee is allowed." In addition to the aforesaid, it is respectfully submitted that, in all cross sections of industry, business enterprises engage export agents for securing export orders or for promoting/selling their products outside India. The Exchange Control Guidelines issues by Reserve Bank of India permit payment of export commission upto 12.5% of the invoice value. vi) The TPO in his order has erroneously held the arm's length price of international transactions of payment of export commission to be NIL applying CUP method. The TPO, it is respectfully submitted, in fact, did not place on record any comparable uncontrolled transaction for application of CUP method. In fact, arm's length price of international transactions of payment of export commission has been determined by the TPO at NIL, entirely based on conjecture and surmises and without application of any of the prescribed methods. Further, in the case of Ekla Appliances Ltd. (supra) the Hon'ble Delhi High Court held that whether an expenditure results in any benefit to the appellant or not is not a relevant consider....
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....to incur additional cost for promoting the market of Honda products. Inspite of these detrimental terms and conditions and the benefit to the subsidiaries of the AE, the AE has charged export commission from the assessee. This clearly proves that the payment of export commission was simply a mechanism to shift profit out of India to overseas AEs. On these facts, the TPO has rightly held that the assessee was not required to pay any commission on export and, therefore, the arm's length price of the export commission was nil. 57. The learned DR has also pointed out that the RBI guidelines permitting the export commission up to 12.5% would not be binding upon the income tax authorities. 58. He further submitted that the learned counsel's argument, that the TPO has not applied any method while determining the arm's length price and, therefore, the order of the TPO is not sustainable in law, is incorrect because the TPO has held that no commission is required to be paid by the assessee. In such circumstances, there is no question of determination of the amount of commission payable at arm's length. The question of application of any method for determining the arm's....
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....to the terms and conditions herein contained, LICENSOR hereby gives consent to the export to the Designated Country by LICENSOR, however without a right to re-export; (i) of the Products for the sale thereof within the Designated Country only. (ii) of the Component Parts for the assembly of the Products therein and for the sale thereof within the specific Designated Country only, and (iii) of the Service Parts only for the purpose of repair or replacement of the Products exported to and sold in the Designated Country by LICENSEE hereunder. In this connection, it is agreed to by LICENSEE that LICENSOR and third parties may also export the Products and the Service Parts to and sell them in the Designated Country." 61. Article 5 of the export agreement provides the consideration would be 5% of the export price. The relevant portion of Article 5 reads as under:- "Article 5. (Consideration) 5.1 In consideration of the consent and the assistance given by LICENSOR hereunder, LICENSEE shall pay to LICENSOR a commission in an amount equivalent to five (5) percent of the export price, F.O.B. port of the Territory, of each of the Products shipped by or on behalf of LICENSEE for exp....
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....theory of form versus substance was examined in this case. Now a question will arise as to what are detrimental conditions to the assessee. The answer is available through the following facts: (a) The assessee is not able to export any model which it wants to export but it was required to export certain prescribed models. (Article 2.3 of the agreement dated 21.06.2004). (b) It cannot use any other distributor except for group companies/subsidiaries. This has greatly restricted the scope of the assessee to earn a desired profit. (Article 4.2 of the Export agreement dated 21.06.2004). (c) The assessee is also expected to bear the warranty cost. (Article 7.5 of the agreement dated 21.06.2004). (d) The assessee is required to conduct service campaign of the products in these countries at its own cost. (Article 7.7 of the agreement dated 21.06.2004). The above facts clearly prove that the assessee is exporting motorcycles in a very restrictive business environment wherein it has incurred additional cost as mentioned above. In-spite these detrimental terms and conditions and proven facts of benefit to the AE and group companies the AE has charged export commission. This clear....
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....f hearing before us, the learned DR has not disputed the above working. From Annexure-1 which is at page 345 of the assessee's paper book, it is evident that assessee has given the model-wise details of export i.e. the quantity of each model, domestic sale value and export sale value and the difference. For ready reference, the copy of the Annexure is enclosed as Annexure-1 of this order. Therefore, the allegation of the Revenue that export agreement between the assessee and HMCL was not for the benefit of the assessee and by way of export, instead of the assessee, the subsidiaries of the AEs have been benefited, is factually incorrect. The assessee is manufacturing motorcycles under the technical know-how agreement between it and HMCL which was entered into by the assessee and HMCL in the year 1984 and then renewed in 1994 and 2004. That as per technical know-how agreement, the assessee was entitled to manufacture and sell the motorcycles within the territory of India only. By way of export agreement, the assessee has been permitted to export the motorcycles manufactured by it in India to certain designated countries. We are unable to understand the logic of the Revenue that s....
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....odel which it wants to export but it was required to export certain prescribed models. However, without the export agreement, the assessee was not able to export any of the models. It is only because of the export agreement the assessee is permitted to export the specified models to the specified countries. Therefore, the export agreement has benefited the assessee and not detrimental to the assessee as alleged by the Assessing Officer. The second condition pointed out by the TPO is that the assessee cannot use any other distributor except the group companies and the subsidiaries. We have already pointed out that in fact the assessee is benefited by using the marketing network of the subsidiaries of HMCL because the assessee has not paid any amount to the subsidiaries of AEs. If the assessee utilizes the services of any other person, it would have been required to pay for those services. The TPO has also mentioned that the assessee is expected to bear the warranty cost. However, such warranty cost is to be borne by the assessee even in the case of domestic sale. Even otherwise, the warranty cost is always to be borne by the manufacturer. The TPO has also referred to paragraph 7.7 o....
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....nt mentions that the consideration payable under the agreement is a composite one including payment for permission, which is a commercial right being property of HONDA arising out of it being holder of information, payment for use of brand name which is a intellectual property right being held by HONDA and the services. These services which are evident from the export agreement are more in nature of managerial and consultancy and if the technical collaboration agreement is considered then primarily HONDA is duty bound to provide after sales services. None of these payments can be properly classified as export agency commission. In light of clear cut definition of royalty and fee for technical services given under the Income Tax Act as discussed above the payment is towards royalty/fee for technical services because the payment is as a consideration for right to use trademark, permission to export and in lieu of managerial and technical services provided by Honda and accordingly the assessee was under obligation to have deducted the tax under section 195 of the income Tax Act. Non deduction of tax at source makes the entire payment of Rs. 12.19 crores as not an allowable deduction u....
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....on-resident is not chargeable to tax in India. When the payment is not chargeable to tax in India, the question of deduction of tax under Section 195 does not arise. 69. With regard to the observation of the Assessing Officer that the payment is not relating to business and therefore disallowable under Section 37(1), it is stated by him that the payment is made in pursuance to the export agreement. Without the export agreement, the assessee was unable to export the goods. It is the export agreement which entitled the assessee to export the goods. By exporting the goods to other countries, the assessee had been benefited. He, therefore, submitted that the export agreement was for the purpose of business and consequently, the payment for export commission was also incurred wholly and exclusively for the purpose of assessee's business. He further stated that by the export agreement, the assessee does not acquire any capital asset because under the export agreement, the assessee merely received permission to export products outside India. There is no transfer of any asset by HMCL to the assessee. The assessee has not obtained any title or ownership of any asset, whether tangible o....
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....since 1984 to 2004, the assessee was not allowed to export any product. The export agreement was entered into with HMCL only on 21st June, 2004 by which HMCL gave its consent for export of the goods to the designated countries on the payment of export commission. Therefore, the contention of the Revenue that cumulative effect of the two agreements is to be considered cannot be accepted. Both the agreements were entered into in different parts of time, one in the year 1984 and, the other in the year 2004 and both the agreements operate under different fields. By the first agreement, HMCL provided technical know-how for manufacture and sale of two wheelers within the territory of India. By the export agreement, HMCL permitted the assessee to export the designated goods to the designated countries outside India. Therefore, both the agreements are to be interpreted independently. On the perusal of the export agreement, we are unable to agree with the Revenue that the export agreement is in the nature of royalty or fees for technical services. We find that the Authority for Advance Ruling has considered the issue of TDS on the export commission in the case of Spahi Project P.Ltd. (supra....
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.... would be squarely applicable to the case of the assessee. Even otherwise, as per the provisions of the Income-tax Act, the export commission paid by the assessee would not fall within the ambit of either royalty or fee for technical services. The 'royalty' has been defined in Explanation-2 after Section 9(1)(vi) of the Income-tax Act, which reads as under:- "Explanation 2. - For the purposes of this clause, "royalty" means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head "Capital gains") for - (i) the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property; (ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property; (iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property; (iv) the imparting of any information concerning technical, industrial, commercial or scientific k....
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.... that the expenditure incurred by the assessee by way of export agreement was not incurred for the purpose of business of the assessee cannot be upheld. We hold that the export commission paid by the assessee was for the purpose of assessee's business. 75. The Assessing Officer has alternatively held the payment of export commission to be capital expenditure. After considering the arguments of both the sides and the facts of the case, we are unable to accept this view of the Assessing Officer. By way of export agreement, HMCL has only permitted the assessee to export the specified goods to the specified countries, that too, subject to running payment of the export commission. The assessee has not acquired any asset or even the intangible right in the nature of a capital asset. The Assessing Officer has disallowed the royalty payment paid by the assessee by way of technical know-how agreement holding the same to be capital expenditure. From paragraph No.7 to paragraph No.29, we have discussed at length and have come to the conclusion that the payment of running royalty cannot be said to be capital expenditure. While doing so, we have also relied upon several decisions of Hon....
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.... Annual Account of the assessee and the assessee itself in the said annual account boasted of development and absorption of new technologies leading to introduction of new models, yet it is making payment of model fee without any regard to R&D carried out at its own end. The TPO after analyzing the matter and relying upon the OECD Guideline on transfer pricing of intra group services came to the conclusion because of considerable money and efforts undertaken by the assessee for indigenization of technology, the economic ownership of the trade intangible vests more with it rather than with HMCL. Hence the TPO held that 25% of the model fee paid should be the arm's length price in the given circumstances. The assessee on the other hand emphasized the fact that technology of newer model of motorcycle with higher capacity and for the first time of scooter was provided to the assessee in lieu of model fee charged under agreement approved by the RBI. It contends that merely because some of the technology has been indigenized does not disentitle HMCL to receive model fee as contracted. The payment was wholly and exclusively for the purpose of business. The assessee emphasizes that i....
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.... hearing before us, it is stated by the learned counsel that the assessee is operating in a technologically intensive industry wherein continuous technological upgrading is imperative for the growth and survival of any industry. The assessee does not undertake any significant research for development of new model and is fully dependent upon HMCL for development of new model. HMCL is a global player and has strong research and development centre and has developed various types of products from time to time. The TPO has determined the arm's length price at 25% of the payment made by the assessee towards model fee on the ground that the assessee also contributed a lot in the development of the model. In this regard, he has referred that the assessee has undertaken market research and market study and has also incurred the expenditure on indigenization of the technology. Thus, as per the TPO, there was a significant contribution by the assessee in the development of the new model. He stated that the preliminary market research and market study was undertaken by the assessee so as to determine which type of the model is required by the assessee which would be most suitable in this c....
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....f law was not admitted by the Hon'ble Jurisdictional High Court vide order dated 17th June, 2006. That again in AY 1999-2000, the same was disallowed as capital expenditure and the Assessing Officer held that on this model development fee, deduction under Section 35AB is allowable. On appeal, the ITAT, following its own order for AY 1996-97 in ITA Nos.5305 & 5511/Del/2003, held that the model development fee is allowable as a revenue expenditure. That on appeal to the High Court, the Hon'ble Jurisdictional High court did not admit any question of law on this point vide order dated 10.11.2008 in ITA No.610/2008. The Revenue's SLP was also dismissed by the Hon'ble Apex Court vide order dated 6.8.2010. He stated that since in the earlier years the effort of the Revenue to disallow model fee as a revenue expenditure failed up to Supreme Court, in this year, the Revenue adopted a different approach for disallowing the part of the model fee by way of transfer pricing adjustment. He stated that the disallowance of 75% of the model fee by way of transfer pricing adjustment is without any basis and in fact based on wrong facts. The TPO has not given any justification for ben....
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....scribed methods under the Income-tax Act in respect of all the international transactions taken together for determining the arm's length price. While applying TNMM, the operating profit of the assessee was compared with the sales and operating profit ratio of the assessee to the sales was worked out at 16.03% which is much higher than the average of operating profit ratio of four comparable companies which was loss of 10.27%. Once TNMM is applied, it takes care of all the international transactions of the assessee. He further submitted that in the earlier years also, the assessee has made the payment for model fee because with the fierce competition in the business of manufacturing and sale of two wheelers, every year few new models are to be launched and therefore, almost every year, the assessee made the payment of model development fee. In all the preceding years, such model development fee paid by the assessee was accepted as reasonable and allowed. In few years, i.e. in AY 1996-97 and 1999-2000, it was disallowed holding it to be capital expenditure but was allowed by the Tribunal and the order of the Tribunal was sustained by the Hon'ble Jurisdictional High court as ....
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....as rightly determined the arm's length price at 25% of the model development fee paid by the assessee. 81. We have carefully considered the arguments of both the sides and perused the material placed before us. We find that the TPO has determined the arm's length price to the extent of 25% of the payment made towards model fee on the ground that it was a joint effort to develop the model and the contribution of the assessee right from the market research till the final shape of production was more than the associated enterprises. However, after considering the arguments of both the sides and the facts of the case, we are unable to agree with the above view of the TPO. The market research and market study incurred by the assessee was to ascertain what kind of model and technology was required by the assessee. Thereafter, the assessee requested HMCL to undertake research and development work for developing the kind of model required by the assessee. Thus, the market research and study by the assessee was prior to the beginning of research and development work by HMCL. The payment made by the assessee to HMCL was for the development of the model required by it. The market res....
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....r to your application No.HHML:TCA:SECT:VK: ICK:05 dated 19.3.2005 on the subject cited above forwarded by Department of Industrial Policy and Promotion, PAB section to this Department, being Administrative Ministry for our comments. 2. While examining the proposal, it has been observed that the i.e. lumpsum payments asked for model (KTNA) JY 230,000,000, (KTPA) JY 500,000,000 & (KSTF) JY 310,000,000, appears to be on higher side. You are, therefore, requested to furnish the detailed justification along with specifications of the new models proposed to be manufactured as well as existing models and their technology comparison chart, to enable this Department to process the case further. Yours faithfully, Sd/- (M.R.BALI) Under Secretary to the Govt.of India Tel.No.23793823" 83. The assessee gave the reply vide letter dated 12th May, 2005 which reads as under:- "HHML:TCA:SECT:VK-ICK:05: 12th May, 2005 Ministry of Heavy Industries & Public Enterprises Department of Heavy Industry Udyog Bhawan New Delhi-110011 Kind Attn : Mr. M.R.Bali Under Secretary to the Govt.of India Sub : Approval for first supplementary amendment to license and Technical Assistan....
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....upon the subject matter and prevailing circumstances and accordingly in this case also the parties have negotiated and settled for the proposed amount. You will further appreciate that the amount is well within the permissible limit prescribed by the Government for this purpose. In view of the above we would be thankful if you kindly consider our proposal favorably and convey the approval of Govt. of India at your earliest. Thanking you, Yours faithfully, For Hero Honda Motors Limited Sd/- ILAM C.KAMBOJ Company Secretary" 84. Thereafter, the assessee was conveyed the approval of the Government of India vide letter dated 6th June, 2005 issued by the Ministry of Commerce & Industry, Department of Industrial Policy & Promotion. The same reads as under:- "69(2004)/54(2004)/PAB-IL Government of India Ministry of Commerce & Industry Department of Industrial Policy & Promotion Secretariat for Industrial Assistance (PAB-IL Section) New Delhi the June 6, 2005 To M/s Hero Honda Motors Ltd. 34, Basant Lok, Vasant Vihar, New Delhi - 110 057. Subject:- Application for amendment to the foreign technology collaboration *SIA Regn.No.54/SIA/FC/2004 dated 6.7....
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....comparison chart. In reply, the assessee gave detailed reply relating to all the three proposed models. It was pointed out that the first proposed model was scooter which was not being manufactured by the assessee company so far. The second model was a higher capacity motorcycle which was also a new technology. The third model was also a new model and was also to be modified for the compliance of new emission and environment norms. The details of technology, specification and other features were also submitted in the form of Annexure to this letter. In the second paragraph of the letter, the assessee also explained how the negotiation went on between HMCL and the assessee. After being satisfied with the explanation of the assessee about the reasonableness of the model fee, the Government of India, Ministry of Commerce & Industry gave permission for the payment of model fee. 86. The learned DR has argued that the approval by the Government of India is irrelevant because the permission of the approval by the government is totally different and the transfer pricing provisions are to be looked into by the TPO only. In support of this contention, he has relied upon the decision of Hon&....
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....our of the Revenue and against the assessee but hasten to add that it has no bearing on the outcome of the case as the payment is found to be reasonable and genuine, even otherwise." 87. From the above, it is evident that merely because the permission is given by the RBI, the Assessing Officer is not debarred from looking into the reasonableness and genuineness of the expenditure. However, in the case under appeal before us, it is not the contention of the assessee that the TPO cannot consider or examine this aspect. His only submission was that the Government of India before giving the permission has examined the reasonableness of the payment and, therefore, the payment made by the assessee should be held to be reasonable and, therefore, at arm's length. We also find that the Hon'ble Jurisdictional High Court in the above case, while upholding the order of the ITAT on merits, observed at page 121 of the report as under:- "It is stated at the cost of repetition that the Assessing Officer did not question the genuineness of the payment, namely, that the payment was in fact made by the assessee to the recipient foreign company/parent company. The assessee has been able to ....
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....as given approval only after examining in detail the reasonableness of the payment. In the letter dated 12.05.2005 written to the Ministry of Heavy Industries, the assessee has also specified how the negotiation took place between the assessee and HMCL and the model fee proposed to be paid by the assessee was arrived at after due negotiations between the assessee and HMCL. (ii) model development fee is being paid by the assessee since past many years and in none of the earlier years, it was held by the Revenue that the model development fee is excessive or unreasonable. In fact, in the earlier two years i.e. 1996-97 & 1999-2000, the expenditure by way of model development fee was treated as capital expenditure but the appellate authorities have held it to be revenue expenditure. 90. From the above, in our opinion, the assessee has duly discharged the initial onus which lay upon the assessee. Thereafter, the burden shifted to the Revenue to show that the payment of model development fee was excessive and unreasonable and therefore, arm's length price should have been less than what is actually paid by the assessee. We find that the TPO has not specified how the model developmen....
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....has been paid on the Exports also. It has already been discussed that the exports have been made only to the AEs. This implies that the royalty has been paid on all the exports made to the AEs. The data furnished by the assessee shows that following payment of royalty has been done on the exports made to the AEs. Models Export Quantity Royalty Rate Amount of Royalty Ambition 24 781 18744 CBZ 8010 1653 13240530 CD 100 SS 32891 0 0 CD 100 SS DLX 757 916 693412 CD DAWN DLX 2721 741 2016261 Glamour 1878 940 1765320 Karizma 53 1324 70172 Passion Plus 14868 1042 15492456 Pleasure 15 1109 16635 Splendor Plus 19339 300 5801700 Super Splendor 2039 842 1716838 4,08,32,068 11.2 On analysis of the above facts following points are noticed: 1. The assessee is paying royalty to Honda Japan. 2. The exports are made to the subsidiaries or group companies of Honda Japan. 3. The assessee, in a way is paying royalty to Honda Japan for the exports made to the subsidiaries and group companies of Honda Japan. 4. The assessee is also paying Export Commission to Honda Japan @ 5% for the exports made to the AEs. 5. In a way....
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....ermining arm's length price of the royalty at nil. The assessee is exporting goods to AE of Honda on principal to principal basis and the price at which export is made is higher than the domestic price. While discussing the disallowance of export commission, we have discussed this issue at length and have noted that even after reducing the export commission, the assessee derived the benefit of Rs. 13.05 crores by export. At the cost of repetition, we would like to mention that the export sale value was more than the domestic sale rate and the assessee has given a detailed working thereof, which is enclosed with this order in the form of Annexure-I. In the above working, the assessee has reduced the export commission. Therefore, by export to the AE of Honda Japan, the assessee has been benefited and was not at a loss. The further finding of the TPO that the position of the assessee company with regard to export was that of a contract manufacturer, in our opinion, is without any basis and in fact contrary to the facts on record. The raw materials have been purchased by the assessee in its own right. It is not the case of the TPO that the raw materials have been supplied by the AE....
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....oductivity is also very high because of better mechanization, training, infrastructure etc. High productivity, to a very large extent, compensates for the higher wages. Therefore, this contention of assessee is not accepted. The assessee has made a passive observation that the steel prices are higher in Japan than India. This idea is not persuasive. 12.9 In view of the discussion above the conclusion is a clear conclusion that for benchmarking international transaction of import of spare/components the most appropriate method is Comparable Uncontrolled Price (CUP) method. The very fundamental facts that the components imported and purchased from domestic market are identical and there is no differentiation when these are use in the finished product that is motorcycle. It is not the case of the assessee that the motorcycle where imported component are used in any way different from the motorcycle where domestic component is used. There exists a highest degree of similarity between import and domestic purchase of the spares/components. It is very difficult to accept an argument that CUP is not applicable in such circumstances. The responsibilities to establish the arm's length ....
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....the TP documentation applied TNMM to determine the arm's length price of international transaction of import of components, spare parts, etc. It was also stated in the TP documentation that in absence of comparable uncontrolled price, CUP method cannot be applied to benchmark such transactions. The TPO, however, in his order applied CUP method by comparing the international transaction of import of components with prices of purchase of similar components after they are indigenized, from the domestic vendor. The CUP method evaluates whether the amount charged in a controlled transaction is at arm's length with reference to the amount charged in a comparable uncontrolled transaction to provide a direct estimate of the price the parties would have agreed to, had they resorted directly to an open market alternative to the controlled transaction. Similarity of products in the controlled and uncontrolled transactions will have the greatest effort on comparability under this method. Minor differences in contractual terms or economic conditions could materially affect the amount charged in an uncontrolled transaction. The method becomes less reliable substitute for arm's leng....
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....ty of components, the appellant had to perforce import of components from the associated enterprises, which was the only available source of supply. It is respectfully submitted that once the local vendor is able to fulfill the appellant's production requirements in the desired quantity and quality, the import of components is discontinued. It needs to be appreciated that the domestic vendor(s) had limited capacity to supply products/components, which fell short of the appellant's requirements. The associated enterprises, on the other hand, was in a position to cater to the appellant's complete requirement of such products/components. The price paid to the local vendor(s), cannot, in such circumstances, it is respectfully submitted, be regarded as benchmark to determine the arm's length price for products imported from HM. It is further submitted that the TPO erred in comparing the prices at which spares and components were purchased by the appellant from local vendors, to whom technology for manufacturing such parts and components was provided by the appellant, with the price at which the spares and components were purchased by the appellant from the associated....