TaxTMI 
TaxTMI 
2014 (6) TMI 317
X X X X Extracts X X X X
X X X X Extracts X X X X
....nd in the circumstances of the case and in law, the learned CIT(Appeals) has erred in deleting the addition of Rs.22,53,000/- made by capitalizing the royalty. 3.1 The Ld. CIT(A) ignored the finding recorded by the AO and the fact that the assessee shall be deriving long term benefit by payment of royalty to its parent company. 4.On the facts and in the circumstances of the case and in law, the learned CIT(Appeals) has erred in deleting the addition of Rs.14,52,020/- made u/s.40A(1)(b) of the Act. 4.1 The Ld. CIT(A) ignored the findings recorded by the AO and the fact that the AO worked out the additions in accordance with the existing market trends. 5.The appellant craves leave to add, to alter, or amend any grounds of the appeal raised above at the time hearing." AY 2005-06 "Ld. CIT(A) erred in law and on facts in deleting of disallowance of royalty expenditure amounting to Rs.1,97,40,726/- which was disallowed by the Assessing Officer following the order passed by the TPO u/s 92CA(3) of the Income Tax Act." 2. Brief facts are that the assessee i.e. Keihin Panalfa Limited (KPL) was Incorporated in 1997 in India, with the objective of manufacturing auto components catering t....
X X X X Extracts X X X X
X X X X Extracts X X X X
....4-05, determined the ALP of the royalty payment made by the assessee of Rs.1,97,40,726/- at Rs. Nil although all other international transactions with the associated enterprise including the method applied by the assessee, i.e. TNMM was accepted. However, TPO changed the profit level indicator (PLI) as adopted by the assessee from operating profit to capital employed (OP/CE) to operating profit to total cost, i.e. OP/TC. Ld. Transfer Pricing Officer held that in spite of the fact that technical design are provided to the assessee by the associated enterprise for manufacture of its products in India and also the fact the assessee owns no intangible and all intangible are owned by AO, yet because the assessee is selling its products to another associated enterprise, therefore, royalty was not required to be paid and he determined the ALP of royalty at NIL. Following TPO's order ld. Assessing Officer vide order dated 29.12.2008 disallowed the amount of royalty 2.5. Aggrieved assessee filed respective appeals before the CIT(A), by a detailed order he deleted all the additions made by the AO in both the years. For AY 2004-05, the relevant findings from page 47 onwards of ld. CIT(A)s or....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... in the transfer pricing study. The assessee bears the price risk, risk of bad debts, warranty and product liability risk, foreign exchange fluctuation risk, credit risk, inventory risk etc, all these are not disputed by TPO. In my opinion, it is an undisputed fact that the appellant and HSCI, its customer are legally constituted independent entities. HSCI manufactures "Honda Siel" cars in India and is one of the large car manufacturer of India. The appellant also is a legally recognized entity organized under the Companies Act. There is no commonality of Directors and both have completely independent Boards of directors. At the registered shareholder level, there again is no common shareholder. The shareholder of the appellant has a minority shareholding of Honda, Japan which has substantial holding in HSCI. But it cannot be assumed as done by the TPO that they are one and the same entity. All of them are large entities of their own right. I am therefore of the opinion that the TPO/AO have made a fundamental error in disregarding the legally separate and independent charter of the appellant, Keihin Japan, Honda Motor Co., Japan and Honda Siel Cars India Ltd. Considering all the ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ncontrolled transaction with an International Transaction shall be the data relating to the financial year in which the International Transaction has been entered into: Provided that the data relating to a period not being more than two years prior to such financial year may also be considered if such data reveals facts which could have an influence on the determination of transfer prices in relation to the transactions being compared". The use of the word "shall" in the main provision of the Rule makes it abundantly clear that the use of current financial year data (i.e. the financial year in which International Transaction was actually entered into) is a mandatory requirement of law in the comparability analysis under the Indian Transfer Pricing Regulations. The proviso to the said Rule makes it an exception in allowing the use of data for the preceding two years, if and only if, it is proved that such data reveals facts, which could have an influence on the determination of transfer price. Therefore, the exception comes into play only when proof of such influence is brought on record. Contemporaneous transactions reflect similar economic conditions. Therefore, the use of curr....
X X X X Extracts X X X X
X X X X Extracts X X X X
....pan. It is further submitted that in view of this, both the TPO and AO were correct in disallowing the entire royalty paid by the assessee to Keihin, Japan. The learned DR laid stress on para 4.2 of the TPO's order and reiterated the conclusions drawn by the TPO as per para 4.11 of his order at page 14 are correct. 3.1. Apropos the TP addition based on the comparables, single year data and reworking of OP/CE working order of TPO is relied on. 4. Ld. counsel for the assessee Ms. Pallavi Dinodia qua the TP addition contends that assessee is a licensed manufacturer based on the manufacturing technology and technical assistance supplied by its AE i.e. Keihin Corporation, Japan, who holds 74% stake in the assessee company. In this set up following international transactions have been undertaken with its AE - S. No. Nature of Transaction Value of Transaction On which ALP determined 1. Import of raw materials, parts and components Rs.14,08,30,131 2. Payment of Royalty Rs.1,24,41,118 3. Purchase of Capital Goods Rs.6,15,289 4. Payment of Technical Guidance Fee Rs.15,98,686 5. Technical Know how Fee Rs.41,97,000 Rs.15,90,66,935 4.1. The Arm's Length Pri....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... at arms' length under the TP Regulations. 4.4. Thereafter, the learned TPO carried out two analyses in his order: (i) In the first analysis he examined the total cost at entity level and concluded that the difference in the PLI is attributable only to the international transactions included in the total cost and worked out an LP adjustment of Rs.1,29,70,076/-. (ii) The payment of royalty was not required to be made, as according to the TPO, the assessee was almost like a contract manufacturer and because of the relationship between Honda Motor Co., Japan and Keihin Corporation, Japan on the one hand and the assessee and Keihin Corporation, Japan on the other hand, as also because of relationship between Honda Motor Co. Japan and Honda Siel Car India Ltd., the whole business of the assessee was treated to have been conducted for the sole benefit of Honda Motor Co. Japan. The TPO based on certain observations held that royalty is being paid to make sales to its own associated enterprises; and therefore, there was no requirement of payment of royalty of Rs.1,24,41,118/-. However, since the overall difference of Rs.1,29,70,076/- has been found out towards adjustment of ALP based on....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e or sell without the availability of such technology by its AE. 4.7. Apart from the aforesaid functions in the manufacturing segments, the assessee has to comply with regard to human resource management functions. It has also employed assets which are commensurate with the size of operations of manufacturing. Risk profile of the assessee include various risks associated with the nature of business and include market risk, product liability risk i.e. warranty risk of the goods manufactured, credit risk, price risk, inventory risk and foreign currency risk. It was further submitted before the CIT(A) that TPO had failed to correctly apply the provisions contained in proviso to section 92C with regard to calculation of +/- 5%. It was amongst others submitted that total AE transactions included in the cost, which has been taken as denominator by changing it from capital employed by TPO was only 23% and attribution of shortfall in the profit wholly to the international transaction by the TPO was not in accordance with the provisions of law, as has been interpreted by various judicial bodies. 4.8. Ld. CIT(Appeal) deleted the additions by detailed observations. Gist thereof is as under:....
X X X X Extracts X X X X
X X X X Extracts X X X X
....facturing goods and selling the same. A already held by me, all entities are large legally constituted comparables and therefore in substance and in fact they cannot be brushed aside as non existent and calla the sale as it was sale to self. I disagree with the finding and the approach of the TPO in this regard. In my view the TPO had no jurisdiction to question the need of the appellant to enter into an arrangement with Keihin by which it gets to use the vast and valuable know how, expertise, trade mark of Keihin in India. The existence of the appellant was to manufacture products by using the technology of the parent company. The TPO has in my view exceeded his jurisdiction under the gab of transfer pricing by stating that the royalty payment was not necessary. In fact, in my view no sale would have resulted if this technology etc. was not provided to the appellant. This has also been approved by the Govt. of India. This royalty arrangement and resultant payment has been allowed to it as Revenue expenditure all along since 1997. It is incorrect to say that in 2003-04 it was not required; therefore should be taken at Nil, the necessity of the business of the assessee is the asses....
X X X X Extracts X X X X
X X X X Extracts X X X X
....., Japan, and Keihin Corporation Ltd., Japan, are widely held listed companies in Japan; similarly Honda Siel cars. India Ltd. is a separate legal entity incorporated as per Indian Laws. Therefore, as far as the assessee is concerned, it is not a captive subsidiary of Honda Motors Co., Ltd., Japan, as arbitrarily viewed by TPO. The buyer of goods from the assessee i.e Honda Siel Cars Ltd., India, is also a public limited company registered in India. Therefore, at the ownership stage, there is no unanimity of ownership between the assessee company and its buyer. Therefore, on facts, it is completely incorrect and outlandish to attribute any colorable device and recourse to lifting of corporate veil is arbitrary. In the realm of global enterprise a situation cannot be envisaged where there is no interconnection between entities. Consequently there is neither a case nor a situation to wish away the realty by arbitrarily applying hypothesis in the name of lifting of corporate veil by the Revenue. 4.13. Reliance is placed upon the para 16 of the ITAT judgment in the case of Samsung India Electronics Pvt. Ltd., vs. ACIT in ITA No. 5316/DEL/2011 dated 21.6.2013 (one of us is a party to i....
X X X X Extracts X X X X
X X X X Extracts X X X X
....rvice Pvt. Ltd. vs. DCIT [2012-TII- 97-ITAT-PUNE-TP] v) Mercedes -Benz R&D India Pvt. Ltd. vs. ITO [2012-TII- 69-ITAT-BANG-TP] vi) Benetton India Pvt. Ltd. Vs ITO [2012-TII-05-ITATDEL- TP] vii) Starent Networks (India) Pvt. Ltd. Vs DCIT 2011-TII- 142-ITAT-PUNE-TP] viii) Cordys R&D Pvt. Ltd. vs. ACIT [2011-TII-01-ITATHYD- TP] ix) Cummins India [2011-TII-32-ITAT-PUNE-TP] 4.16. Apropos the second analysis whereby ld. TPO has determined royalty payable at Nil as against Rs.1,24,41,118/-, it is contended that such a view again is not supported either by the TP provisions and rules there under or the interpretation by various authorities on this issue. Ld. TPO exceeded his jurisdiction in this behalf by going beyond express TP provisions and a catena of judicial precedents in assessee's proposition. Ld. TPO was under obligation to determine the price paid for the international transactions based on one of the prescribed methods and the TPO cannot determine the price at Nil unless he applies one of the specified methods as per law or rules. For this proposition reliance is placed upon the following case laws: - (i) That unless one of the 5 methods prescribed u/s 92C of the Act are ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....d those undertaken by the assessee have been discussed by the CIT(A) in painstaking manner. 5.1. On facts of ownership also, Honda Motors Company Ltd., Japan, is not a 100% owner of the assessee and has only minority interest in one of the shareholders of the assessee i.e. Keihin Corporation of Japan which holds 74% share in the assessee and Honda Motors company of Japan holds 41.33% in Keihin Corporation of Japan. Therefore, on facts, there is no unanimity of ownership vested in Honda Motors Company Ltd., of Japan; the assessee and its buyer of goods i.e. Honda Siel Cars Ltd.. It has not been disputed that all of them are public limited companies; both the Japanese companies are listed in Japanese Stock Exchange. There is no material to suggest any colorable device or collusive transaction amongst them. In the absence of any cogent adverse material, fact or finding in this behalf the revenues argument about lifting the corporate veil has no justification. 5.2. This view is supported by judgment of co-ordinate Bench of the ITAT in the case of Samsung (supra) wherein the Tribunal at page 27 has held that:- "6.9 Thus, we agree with the ld. Counsel of the assessee that TPO has conf....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ot constitute as the entire cost of the assessee at the entity level. The cost of the assessee also includes third party costs i.e. non AE, non international transaction costs. Hence, the calculation of +/- 5% should be made on a proportionate cost basis. 3.2 According to the appellant, the correct computation of the arm's length range is calculated as below: Particulars Amt. (Rs.) Operating Expenses (Total costs ) (A) 680,088,000 Value of international transactions (Costs) (B) 159,066,935 Adjusted total costs (as computed by the TPO) (C) 667,117,924 International transactions as a proportion of total cost (B)(A)=(D) 0.23 Difference in costs (A)-(C) = (E) 12,970,076 Adjustment on international transactions (D) * (E) 3,033,593 5% of International transactions (5% of B) 7,953,347 1.3 The above computation shows that the International transactions of the assessee falls within the +/- 5% range as per proviso to Section 92C (2). We agree with this view of the appellant and approve the same and hold that TPO was not correct in adopting a view that whole of adjustment is to be presumed as arriving out of international transactions. There is no law for making such....
X X X X Extracts X X X X
X X X X Extracts X X X X
....r than expected net margin. This aspect has not been considered by the TPO in his analysis. 1.8 It is also pertinent to note that the profits before tax of the company have increased from Rs.37,053,300 in FY: 2002-03 to INR 45,153,000 in FY: 2003-04. This 21.8% increase in profit before tax clearly indicates that the company has no intention of shifting profits in India or evading taxes as such." 5.6. The learned CIT(A) has accepted this proposition of the assessee restricted the calculation of the adjustment at 23% to the total cost . The learned DR has not controverted this proposition. Therefore, following the catena of ITAT judgments, we hold that CIT(A) was correct in confining the calculation of adjustment to the international transactions only and not on the entire total cost of the entity. 5.7. Secondly ld CIT(A) held that the assessee falls within the plus minus 5% range under proviso to section 92C(2) of the Act is concerned,; Significantly both the TPO and the learned AO in principle have raised no objection to this safe harbor provision in principle. The TPO has, however, made his own calculation and has come to the conclusion that the arm's length price is beyond th....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ion for AY 2005-06 T P adjustments: 5.11. Facts and circumstances of this TP adjustments are similar to AY 2004-05, ld CIT (Appeals) has also substantially relied on the order for AY 2004-05 while granting the relief. Ld. CIT (Appeals) has supplemented his order on the necessity of paying the royalty which is to be decided from businessman point of view. This proposition has been upheld by the Hon'ble Delhi High Court in the case of CIT v. EKL Appliances 2012-TII-01-HCDel- TP. The accepted history of the case regarding Payment of Royalty is that in assessment year 2003-04 also the matter travelled up to the Delhi High Court. It is held in favour of the assessee that the payment of running royalty is on revenue account. Therefore, in view of the Hon'ble Delhi High Court judgment in assessee's own case the necessity of payment of royalty cannot be questioned or doubted. 5.12. Besides similar issue of royalty payment is decided in favor of the assessee is decided by the ITAT in the case of Lumax Industries Ltd. [2013- TII-123-ITAT-DEL-TP] holding that: "Payment of royalty was being claimed and allowed right from 1984 to Assessment Year 2003-04, as business expenditure of the assess....