TaxTMI 
TaxTMI 
2013 (11) TMI 194
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....the assessee filed its income tax return on October 30, 2002 declaring total income of Rs. 19,44,45,442/-. The return was originally processed under sec. 143(1) of the Income-tax Act, 1961 (the Act) vide intimation dated February 25, 2003 and thereafter was taken up for scrutiny by issue of a notice under section 143(2) dated October 22, 2003. The Ld. Additional Commissioner of Income Tax, Range 10, New Delhi (AO) was pleased to complete the assessment under section 143(3) of the Act vide her order dated March 30, 2005 on a total income of Rs. 27,17,76,470/-. 3. The Assessing Officer made certain additions and disallowances as well as adjustment under the Transfer Pricing Provisions. First Appellate Authority deleted the same. Aggrieved, the Revenue is in appeal before us on the following grounds:- ITA No. 3104/Del/2009 (A.Y. 2002-03): "1. On the facts and in the circumstances of the case and in law the CIT(A) has erred in deleting the addition of Rs. 1,36,31,665/- mode by the A.O. on account of TPO-I's order under Section 92 CA(3) dated 21.02.2005 on account of adjustments in the ALP of international transactions of the assessee.  ....
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....t that was considered by the Delhi Bench of the Tribunal in the case of the assessee for the A.Y. 2001-02. The Tribunal vide its order dated 20th March, 2008 in ITA No. 4798/Del/2004, has held as under:- "7. With regard to ground taken by the revenue for deleting the addition of Rs. 3.29 crores on account of royalty paid. The issue is squarely covered in favour of the assessee by the order of ITAT in assessee's own case for assessment years 1988-89 to 1997-98. During the year under consideration also, the CIT(A) has rightly deleted the addition after recording finding with reference to the terms of the agreement which were similar to the terms of agreement during the course of earlier years. The Tribunal has deleted the disallowance. Following are the findings of the Tribunal in assessee's own case: "A perusal of the above case law will show that case of the assessee is entirely covered by the above ratios as from the terms and conditions of the agreement it is noted that agreement was for a definite term of ten years liable to be terminated before the end and could be renewed subject to approval of party. The object of the agreem....
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....rom the circulation of the capital and not from any capital asset. Further we may refer the decision of the Apex Court in the case of Gotan Lime Syndicate v. CIT[1966] 59 ITR 718 in which it was also laid down that the amount of royalty has to be allowed as revenue expenditure, as the said expenditure was in relation with the excavation of raw material. More you take the more royalty you pay. This ratio is again applicable in the case as amount of royalty in the case is directly linked with the volume of contract products. The more assets will produce, the amount of royalty will increase. In case assessee stops manufacturing of contract products the amount of royalty will not be payable. In view of the above ratio the amount of royalty which is linked with the volume of production is allowable as revenue expenditure. On the basis of above discussion the cumulative result is that amount of royalty being paid was allowable as, revenue expenditure in view of the case law referred to by the ld counsel and discussed above and it cannot be treated as capital expenditure. The ground is allowed accordingly. All the grounds of the appeals ....
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....ollaboration was being considered by the High Court. In principle, it would seem to make no difference between a case where an existing company undertakes a totally new line of activity for which it has to establish a new factory, and a case where for manufacturing a new product a new company is constituted or formed. What we have to consider is whether the payment has been made for acquiring an asset of an enduring nature, if know-how has been acquired unrelated to secret or patented processes or the right to use the trade name or trade mark, then the acquirer of that know-how - since that phrase was repeatedly used or emphasized - would seem to acquire no asset of an enduring nature. If the know-how acquired relates to the setting up of the plant or machinery, then perhaps it decide that question in the present reference. If the know-how acquired relates to the process of manufacturing, then the payment made for the same would have to be considered as revenue expenditure, since the acquirer does not obtain by the expenditure any asset of an enduring nature. It is only the acquisition of information, guidance or, to put it in more familiar terminology, "payment for consultancy". T....
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....n existing one will not make any difference. The answer is also available in the decision rendered by Hon'ble Bombay High Court in the case of Gannon Norton Metal Diamond Dies Ltd. (supra). The Hon'ble High Court held that if the know-how acquired relates to the process of manufacturing, then the payment made for the sale would have to be considered as revenue expenditure since the acquirer does not obtain any asset of an enduring nature. The Hon'ble Supreme Court in the case of Empire Jute Co. Ltd., 124 ITR 1 = (2002-TIOL-238-SC-IT) held that in a case where expenditure even if incurred for obtaining an advantage of enduring benefit, may, none the less, be on revenue account and the test of enduring benefit may break down. It is not every advantage of enduring nature acquired by an assessee that brings the case within the principle laid down in this test. What is material to consider is the nature of the advantage in a commercial sense and it is only where the advantage is in the capital field that the expenditure would be held as capital expenditure. If the advantage consists merely in facilitating the assessee's trading operation or enabling the management and conduct of the ass....
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....greement entered into between the two companies, specific charges that were to be charged for this service were not mentioned. He held that the assessee company was not liable to make payments to Denso Haryana Pvt. Ltd. towards sharing of communication network called "NICE-NET" (Nippon Denso Integrated Communication Earth Network). The first appellate authority brought out the arguments of the assessee in Para 10.33 which read as under:- "10.3.3 The appellant in its submission stated that they entered into the agreement with Denso Haryana Pvt Limited for using the NICE - NET network on cost sharing basis for reporting and communication recharged to Denso Group Companies world over. Further, the said expenses were paid to Denso Haryana Pvt Limited, who has shown the said receipts as income during the year under consideration. It is further submitted that Denso Haryana Pvt Ltd. has been assessed under the same jurisdiction. Further, there is no dispute that the services were rendered and actually used by the appellant company during the year under consideration. The AO erred in concluding that the appellant had not obtained RBI approval in respect of the ag....
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....are rendered and have been actually used by the assessee company during the year under consideration. The net work was being used by Denso group companies in India and cost incurred was shared. We are unable to uphold the finding of the AO that the expenditure in question cannot be allowed, as the cost sharing agreement is a sham agreement. When costs are being shared, we do not understand as to how specific charges or quantification of charges are asked to be mentioned in the agreement. Non-mentioning of the same in the agreement cannot be a ground for disallowance. No R.B.L approval was required or payments were made in India. The Assessing Officers of Denso Haryana Pvt. Ltd. and the assessee are the same. When Denso Haryana Pvt. Ltd. made a payment of Rs. 10,41,434/- to a foreign company, the AO has not doubted that expenditure. When Denso Haryana Pvt. Ltd. is recovering a part of the expenditure from the assessee, cost reduction is accepted but the expenditure is doubted in the hands of the assessee. When an understanding is arrived at between different entities, the A.O. cannot sit in judgment as to the date of implementation etc. On these facts, we are of the opinion that the....
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....eciation on the said know how fee instead of claiming the same u/s 35AB, as the same is applicable only up to assessment year 1998-99. The CIT(A) has accepted the assessee's contention and allowed the depreciation u/s 32(1) at Rs. 3.08 crores as know how fee paid by treating the same as intangible assets. This verdict of the CIT(A) was accepted by the assessee and no appeal was filed before the Tribunal. 9. With regard to the amount of Rs. 63.46 lakhs the assessee claimed it as revenue expenditure which was disallowed by the Assessing Officer on the plea that it was capital in nature. By the impugned order, the CIT(A) confirmed the action of the Assessing Officer and allowed only depreciation thereof u/s 32(1) which was also accepted. The assessee preferred an appeal before ITAT and the ITAT had allowed the assessee's appeal and allowed the said amount in full as revenue expenditure in ITA. No. 4714/Del/2004. Thus to the extent, the ground taken by the revenue is misconceived. So far as the amount of Rs. 63.46 lakhs is concerned, the same is covered by the order of ITAT in assessee's own case, respectfully following the same to this extent, we do not find ....
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....sessee. 6. On the facts and circumstances of the case and in law, the order of the CIT(A) has erred in deleting the addition of Rs. 97,44,630/- made by the AO on account of Arm's length price on raw material purchases from SCJ. 7. On the facts and circumstances of the case and in law, the order of the CIT(A) has erred in deleting the addition of Rs. 4,19,33,498/- made by the AO on account of royalty expenses treating the same as capital expenditure in nature. 8. On the facts and circumstances of the case and in law, the order of the CIT(A) has erred in deleting the addition of Rs. 62,10,292/- made by the AO on account of payment of knowhow fees treating the same capital in nature. 9. On the facts and circumstances of the case and in law, the order of the CIT(A) has erred in deleting the addition of Rs. 13,13,332/- made by the AO on account of NECNET charges paid to Denso Haryana for use of the internet. 10. On the facts and circumstances of the case and in law, the order of the CIT(A) has erred in deleting the addition of Rs. 1,00,02,674/- paid to Denso ....
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....y assessee to determine the Arm's length price (ALP) S.No. International Transaction Method Value (in Rs.) 1. Payment of royalty TNMM 39,189,710 2. Reimbursement of short stay expenses. TNMM 13,429,428 3. Purchase of capital goods TNMM 13,799,043 4. Purchases of raw material, components etc. TNMM 4,906,400 5. Payment for technical know-how TNMM 3,780,796 6. Payment of testing fees TNMM 682,08 4. Method used by assessee to determine the Arm's length price (ALP) The assessee has relied upon the entity-wise Transactional Net Margin Method (TNMM) using margin over the total cost as the Profit Level Indicator (PLI) as the most appropriate method to establish that the international transactions entered into by it are at arm's length. The tested party is the assessee itself, i.e., assessee's net profit margin over the cost has been compared with the margin of other comparable companies in India engaged in similar function. 4.1 During the year, assessee has imported raw materials amounting to Rs. 49,86,69,729/- from Sumitomo Corporation, Japan (SCJ) out of the total import of Rs. 57,77....
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.... transactions constitutes only a small portion of the total cost, it is not possible to separately examine the arm's length nature of the international transaction by looking at the aggregate net profits of the tested party, which is the assessee in this case. He held that TNMM shall not provide the most reliable measure of the arm's length price in relation to this international transaction. He, therefore, rejected TNMM as the most appropriate method. The TPO concluded that (a) the assessee failed to discharge its responsibility as the method relied upon by it is not the most appropriate method; (b) it has failed to give reasonable data i.e. cost of purchase in the hands of SCJ to determine the ALP by Retail Price Method (RPM); (c) it clearly emerges that no method other than the CUP can be applied in this case to determine the ALP of the import of the components from SCJ. 23. As the assessee has not brought out any difference between the quality of components purchased from the A.E. and quality of components purchased from uncontrolled domestic suppliers, the TPO held that the ALP of imports from A.E. could be determined by comparing it with the prices of uncontrolled domestic s....
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.... He listed out 8 parameters of comparability and finally concluded as follows - "8.2.9 In light of all of the above, I hold that: (a) since out of 11 types of components that were imported from Sumitomo Japan, relevant information on localized prices for financial year 2001-02 is available for only 4 types of components; (b) there are significant differences between the characteristics of the transaction of import of raw material and components from Sumitomo Japan and the characteristics of the transaction of procurement of raw material and components from local Indian vendors; and (c) there is absence of a suitable manner/methodology to adjust for such differences; I am of the considered view that the CUP method is not an appropriate method for determining the arm's length nature of the appellant's international transactions of import of raw material and components from Sumitomo Japan." Thereafter he determined the arm's length price by adopting operating prof....
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....t the order of the TPO/AO be restored and that of the CIT(A) be reversed. 30. The learned counsel for the assessee on the other hand, submitted that the assessee is carrying out manufacturing activity and that all the international transactions i.e. (1) import of raw material and components; (2) import of capital goods; (3) Payment of royalty; (4) Payment of know-how fee; (5) Payment for short stay expenses; and (6) Payment of testing fee are inextricably interlinked and interrelated to each other, and also to carry out the function relating to manufacture and sale of automotive components. He submitted that the assessee was a full fledged risk bearing automotive component manufacturer which depended on it's AEs for technical expertise and know-how required to carry out its business. The assessee submitted that the Transactional Net Margin Method is the most appropriate method as explained by the CIT(A) in his order. He argued that for the purpose of bench marking the transactions of the assessee cannot be analyzed on a transaction-by-transaction basis as all the transactions were incidental and ancillary to the main operation of manufacture of automotive components. He supported ....
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....the assessee. He relied on the decision of Delhi Bench of ITAT in the case of Ericsson AB v. Dy. DIT[2012] 53 SOT 177 and on the decision of Hon'ble Supreme Court in the case of MCorp Global (P.) Ltd. v. CIT[2009] and contended that new contention cannot be raised and the powers of the Tribunal are confined to the subject matter of appeal before the Tribunal. In other words, he argued that the Tribunal should not go beyond its scope in appeal and raise issues which are not raised either by the AO or by the TPO. He relied on number of decisions where transactional level net margin approach under TNMM has been upheld. The cases are Benetton India (P.) Ltd. v. ITO[2012] 134 ITD 229; UCB India (P.) Ltd. v. Asstt. CIT[2009] 30 SOT 95/121 ITD 131 (Mum.), Serdia Pharmaceuticals (India) (P.) Ltd. v. Asstt. CIT[2011] 44 SOT 391. He submitted that in each of these cases, there are separate business segments/activities available, to carry out a net margin computation of the respective segments. 34. The sum and substance of the assessee's submissions is that, in its case the import of raw material, import of capital goods, payment of royalty, payment of know-how fees, payment of short stay ex....
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....lected by the assessee are not of licensed manufacturers of the similar commodity. The TNMM compares net margins of uncontrolled transactions between independent entities, with those achieved in controlled transactions between related parties. The Tribunal in the case of Aztec Software Technology Services Ltd. (supra) on p. 238 observed as follows: "The TNMM requires establishing comparability at a broad functional level. It requires comparison between net margins derived from the operation of the uncontrolled parties and net margin derived by an associated enterprise on similar operations. Under this method, the net profit margin realized by an AE from an international transaction computed in relation to a particular factor such as costs incurred, sales, assets utilized, etc. The net profit margin realized by an AE is compared with net profit margin of the uncontrolled transactions arrive at the ALP. The TNMM is similar to RPM and CPM to the extent that it involves comparison margin earned in a controlled situation with margins earned from comparable uncontrolled situation. The only difference is that, in the RPM and CPM methods,....
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....rive at an arm's length price in relation to the international transaction. 70. Sec. 92C(1) refers to ALP in relation to an international transaction. Rule 10B(1)(e) read with section 92C deals with TNMM, and it refers to only net profit margin realized by an enterprise from an international transaction or a class of such transaction, but not operational margins of enterprises a whole. Para 3.26 of TP Guidelines for Multinational Enterprises and Tax Administrations issued by OECD reads as follows : "3.26 The TNMM examines the net profit margin relative to an appropriate base (e.g., costs, sales, assets) that a taxpayer realizes from a controlled transaction (or transactions that are appropriate to aggregate under the principles of Chapter I). Thus, a TNMM operates in a manner similar to the cost plus and resale price methods. This similarity means that in order to be applied reliably, the transactional net margin method must be applied in a manner consistent with the manner in which the resale price or cost plus method is applied. This means in particular that the net margin of the taxpayer from the controlled transaction (or tran....
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....e and are so inter-related with consideration of multiple transactions, is the most reliable means of determining the arm's length consideration of the transactions. At para 25.4 the learned author states that OECD Guidelines may also require some segmentation of the inter-company transactions. The issue whether further dis-aggregation is required, depends on practical issues. Such comments cannot be interpreted as permitting entity level comparison. Similarly, Taxman's book on "Law of Transfer Pricing" by D.P. Mittal, Second Edition para 7.9 has been cited and the book "US Transfer Price" by Robert T. Cole para 2.06 was relied upon by Shri Rajan Vora. On a perusal of all these material we find that none of them suggests entity level comparison. Reliance was also placed on para 1.20 of "Transfer Pricing Guidelines" of OECD. From a perusal of this para it is clear that they are applicable all methods, that may be adopted for arriving at the ALP. The learned counsel for the assessee cannot restrict para 1.20 to the method of transactional net margin. Thus, this argument cannot be accepted. Coming to the decision relied upon by the assessee in the case of Philips Software Centre (P) L....
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.... to maintain and furnish the required data. When the burden of proving that a particular method is the most appropriate method is initially on the assessee, it is for the assessee to demonstrate the same by furnishing adequate records and data, irrespective of the fact whether they are statutory requirement or not. Thus, we are unable to accept the contentions of the assessee. 72. From the above, it is clear that the net margins on the transaction is the basis of comparison. Only in cases where profits of an enterprise are attributable to similar transactions and when an enterprise does not have any other transaction or activity which is not similar, and which distorts the profits, then probably the net margin derived by an enterprise may also be the net margin of a transaction. In other words, when in an enterprise, only similar transactions are undertaken, i.e., all the transactions are of the same type, same class and of similar variety, and the enterprise does not have any other transaction which is not similar, in such a situation, the operating margins of the enterprise would be the TNMM of a class of transaction." The aggre....
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....hod and Profit Split Method) are treated as methods of last resort which are pressed into service only when the standard methods, which are also termed as 'traditional methods' (i.e., Comparable Uncontrolled Price Method, Resale Price Method and Cost Plus Method) cannot be reasonably applied". It was noted by the coordinate bench that the OECD Guidelines also recognize this approach, and the bench expressed its considered agreement with this approach. We are in considered agreement with the views so expressed by the coordinate bench. In our considered view, the traditional transaction method have an inherent edge over the traditional profit methods in most of the situations, and, therefore, wherever both the methods can be applied in an equally reliable manner, traditional transaction methods are to be preferred over traditional profit methods. 62. We are alive to the fact that in the 2010 version of OECD Guidelines, OECD has done away with hierarchical approach in selecting the method for determination of arm's length price. The OECD has abandoned its earlier position that transactional profit methods may be used "to approximate arm's length conditions wh....
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....paragraph 2.2, a traditional transaction method and a tradition profit method can be applied in a equally reliable manner, the traditional transaction method is to be preferred over traditional profit method. Moreover, where, taking into account the criteria established in paragraph 2.2, the comparable uncontrolled price method (CUP) and another transfer pricing method can be applied in a equally reliable manner, the CUP method is to be preferred...." 64. In other words, therefore, even as there may not be any order of preference in which methods of determining the arm's length price must be considered, the traditional transaction methods, and particularly CUP, have an edge in the sense that all things being equal, CUP and traditional transaction methods are preferred over the transaction profit method. We are broadly in agreement with these views. Whether we proceed on the basis that there is an order of preference in which transfer pricing methods are to be applied, or whether we proceed without any such priority order, the fact remains that as long as CUP method can be reasonably applied in determining the arm's length price of an international transact....
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....nsidered agreement, whether we proceed on the-basis that there is an order of preference in which transfer pricing methods are to be applied, or whether we proceed without any such priority order, the traditional transaction methods, and particularly CUP, are preferred methods in the sense that all other things being equal, CUP and traditional transaction methods lead to more reliable results vis-a-vis the results obtained by applying transaction profit method. As a result, when CUP method can be reasonably applied in determining the arm's length price of an international transaction in a particular fact situation, and unless another method is proven to be more reliable a method vis-a-vis the fact situation of that particular case, the CUP method is to be preferred. We are, therefore, of the considered view that in case CUP method is found to be appropriate to determine the arm's length price in a particular situation, there are good reasons, as discussed above, to prefer it over the other methods, even if of equal efficacy-though of not more efficacy, of determining the ALP. 67. The most fundamental aspect, therefore, that we must address ourselves to is ....
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.... v. Asstt. CIT[2013] 140 ITD 41 for the Assessment Year 2007-08. The assessee filed his written submissions. The earlier arguments were re-iterated. It was submitted that the propositions laid down in the case of LG Electronics India P. Ltd. here not applicable to the assesses case. It was reiterated that the transactions of the assessee could not be analysed on a transaction by transaction basis. It was further submitted that for Assessment Year 2003-04 the TPO has aggregated all the transactions. 42.1 On consideration of these arguments, we find that the Special Bench of the Tribunal in the case of LG Electronics India (P.) Ltd. (supra) on TNMM method held as follows:- "There is a basic fallacy in the assessee's contention that if the TNMM is adopted and the net profit is at ALP, there is no scope for making an adjustment for AMP expenses. TNMM is applied only on a transactional level and not on entity level though it can be correctly applied on entity level if all the international transactions are of sale by the assessee to its foreign AE and there is no other transaction of sale to any outsider and also there is no other international transaction. Wh....
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....aside the issue to the file of the Assessing Officer with the direction to determine the ALP by trying to ascertain the price at which such components or parts were being exported by Den so Japan outside Japan or the price at which they were sold by the AE in the domestic market, if possible or in any other manner. In our view CUP method is the most appropriate method. 45. Alternatively the TPO may also try to ascertain the price at which the comparable Indian domestic entity would have paid for importing such parts from Denso Japan or some other comparable foreign manufacturer. Suitable adjustments should be made for various factors. With these observations we set aside the issue to the file of the AO for fresh adjudication in accordance with law. 46. We now take up ground Nos. 2 to 6 raised in appeal for the A.Y 2003-04 which are on the issue of transfer pricing. 47. The facts and issues are the same as in the earlier years with slight difference. During the year the following transactions were entered into with AE i.e. Denso Corporation, Japan:- (i) Import of raw-material and components; (ii) Import of capital goods; ....