TaxTMI 
TaxTMI 
2015 (7) TMI 477
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.... addition of Rs. 1703,05,993/- to Rs. 1,19,60,457/-made by the Assessing officer on the basis of adjustment computed by the TPO u/s 92CA(3) of the Income tax Act, 1961. 2. On the facts and in the circumstances of the case, the CIT (A) has erred in law and on facts as he has failed to appreciated the fact that when the com parables were making average profit @ 13.56% then the assessee would have earned the same profit in international transactions?" 3. The brief facts of the case are that the appellant is a private limited company and is engaged in providing IT Enabled Services (ITES) e.g. voice/web based contact and front office services (hereinafter referred as business process outsourcing (BPO) services). For the relevant previous year, the return of income of the appellant was filed declaring loss of Rs. 12,85,57,867/-. The appellant had during the relevant previous year entered into the international transaction of provision of information technology enabled services, amounting to Rs. 13,06,79,399/- with the various associated enterprises. For application of TNMM, the appellant was considered to be the tested party and operating profit/total cost was taken as the profit l....
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....gin of 14-.09% during the abovementioned financial ears, being higher than that of the comparable companies at 13.56%, the "international transactions" of rendering business process outsourcing services were considered being at arm's length. 7. On noting of above transactions, the A.O. made reference to transfer pricing officer. The Transfer Pricing Officer (TPO), however, in his order held that the arm's length operating profit to the total cost ratio in the above business being 13.56%, viz., average operating profit / cost margin of 8 companies was considered as comparable by the TPO. The TPO accordingly, in the order passed under section 92CA(3) of the Act, determined adjustment of Rs. 17,03,05,993 to the arm's length price of' 'international transactions' of provision of business process outsourcing services applying TNMM, as under: Calculation of arm's length price Amount Total operating cost Rs. 33,40,42,401 Arm's length margin 13.56% Profit which the appellant would have earned Rs. 33,40,42,401 13.56% Rs. 4,52,96,150 Less: Operating loss posted by the appellant Rs. (-)12,50,09,843 Difference Rs.17,03,0....
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.... loss making and are predominantly into hardware but since in the transfer pricing proceedings the assessee company has been vehemently arguing that during the year assessee was deploying assets and manpower to build the facilities for IT Enabled Services, therefore, to pass the benefit of any such functional difference between the assessee and the comparables the approach of the assessee for the year under reference is not disturbed being the start up phase. The eight comparables adopted by the assessee for Transactional Net Margin Method are accepted for year under consideration only for the specific reasons mentioned above." 9. The A.O. based on the report of TPO made addition of Rs. 17,03,05,993/- on account of transfer pricing adjustment. Aggrieved by the said order appeal was filed before Ld. CIT(A). However, Ld. cia accepted the plea of assessee company that Transfer Pricing Adjustment should be actually restricted to the amount actually retained by associated enterprises. 10. It was submitted that from the gross revenue received from the end customers in respect of various contracts, the associated enterprise retained in aggregate only a sum' of Rs. 1,19,60,457 at....
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....ansactions cannot exceed the maximum arm's length price, i.e., the amount received by the associated enterprise from the customer and the actual value of international transactions, i.e., the amount received by the assessee in respect of international transactions. 12.4 In view of the same I am of the considered view that the adjustment to the income of the appellant has to be restricted to Rs. 1, 19,60,457- being the amount retained by the associated enterprises." 13. Aggrieved with this order, the Revenue had come up in the present appeal. Ld. D.R. placed reliance on the order of Ld. CIT(A) and had prayed for quashing of CIT(A)'s order on this issue. On the other hand, Ld. Sr., Counsel submitted that the appellant could not have expected to receive from the customers of the AEs of the appellant, anything more than the amount paid by some customer to the AE, if the appellant were to be obtain the contracts for services from the customers directly, i.e., without the involvement of the AEs of the appellant. Thus, at the most the consideration received by the appellant from the AEs may be replaced by the consideration received by the AEs from its customers, for the services....
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....4 (CC No. 22166 of 2013). 16. Further reliance in this regard is placed on the following observation of the Hon'ble Delhi bench of the Tribunal in the case of Li & Fung (India) Pvt. Ltd. vs. DC IT (ITA No 5156/DeI/2010): 17. The Hon'ble Delhi High Court recently vide order dated 16-12-2013 (in ITA No.306/2012), while adjudicating on the said decision of the Tribunal, held in paragraph 40 of the order that "the approach of the TPO arid the tax authorities in essence imputes notional adjustment / income in the assessee's hands on the basis of a fixed percentage of the free on board value of export made by unrelated party vendors. " ..... 18. Reliance in this regard is also placed on the recent decision of Delhi Bench of the Tribunal in the case of Hyper Quality India Pvt. Ltd. vs. ACIT (ITA No. 5630/0ell2011 ), wherein, it has been held as under: "7. Ld. TPO erred in evaluating FAR (Functions performed, Assets. employed and Risk assumed) analysis which has been summarily confirmed by DRP. To support its case, assessee furnished split financials of the appellant and its AE. Whereas the appellant has been .able to earn profit in India its counterpart the AE has ....
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....t only after elucidating grounds and reasons for not accepting the bunching adopted by the assessed, and examining and giving benefit of set off. Section 92(3) does not bar or prohibit set off." 20. In view of the aforesaid, it is respectfully submitted that the adjustment shall be restricted to Rs. 1.19 crores. 21. We have head rival submissions and perused the material on record. Ld. CIT(A) had followed the ratio laid down in the case of Global Ventedge P. Ltd. (supra) (in I.T.A. No. 1432 & 2321 / Del/2009 and 116/Del/2011). This decision was affirmed by both Hon'ble High Court and Hon'ble Supreme Court and his ratio was followed in subsequent decisions as submitted earlier and, therefore, the order of Ld. CIT(A) on this issue is reasonable and we do not find any reason to interfere with this finding of Ld. CIT(A) and hence, the grounds of appeal filed by revenue are dismissed. Accordingly, appeal filed by revenue is dismissed. I.T.A.No. 3547/Del/2010: 22. Now, we deal with the appeal filed by assessee in I.T.A. No. 3547/Del/2010. The assessee has raised following grounds of appeal: "1. That the learned Commissioner of Income-tax (Appeals) erred both on fac....
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....ing the previous year relevant to assessment year 2003-04. The relevant previous year, i.e. previous year 2002-03 was, thus, the first full year of operation of the BPO unit of the appellant. It is submitted that during the previous year 2002-03, the appellant was a start up enterprise, due adjustment ought to be made of the start-up/ one-time costs incurred, which inevitably lead to losses. It is submitted that operating profit/ loss of the appellant for the relevant previous year are required to be adjusted to exclude items of abnormal cost / short fall in revenue (owing to lower rate paid to the appellant as start up) to determine the normal profit that could have been earned by the appellant for the purpose of benchmarking with other companies which are not in start-up stage. 25. In case adjustment of the extra-ordinary expenses and considering the average expenses that would have been incurred in the normal operations, the operating profit margin of the appellant works out to 15% as follows: Particulars- Total Optimum Excess / Deficit - Direct / Indirect 18,26,67,573 Infinet Acquisition 1,69,17,261 WIP ....
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....view that under-utilization of production capacity in the initial years is a vital factor which has been ignored by the authorities below while determining the ALP cost. The TPO should have made allowance for the higher overhead expenditure during the initial period of production. In view of the above, we deem it appropriate to remit this issue back to the Assessing Officer with a direction to consider the claim of the assessee with respect to idle capacity adjustment during the relevant period while determining the ALP cost. The assessee is also directed to produce relevant documents in comparable units for the necessary analysis. The appeal of the assessee is allowed for statistical purposes in the aforesaid terms." 30. Reliance in this regard is placed on the decision of Pune Bench of the Tribunal in the case of Amdocs Business Services Pvt. Ltd. vs. DCIT (ITA No. 14212/PN/11), wherein, the Tribunal allowed economic adjustment on account of under capacity utilization holding that the appellant was in start up phase during the assessment year consideration. The relevant extract of the decision is reproduced as under: "9. The next major point made out by the appellant is tha....
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....e Assessing Officer ITPO to decide the same afresh after giving assessee adequate opportunity of being heard and to file the necessary evidence on this behalf. Needless to say that a proper and speaking order will be passed deciding the issue in accordance with law." 32. Reliance in this regard is placed on the following observation of the Hon'ble Mumbai Bench of the Tribunal in the case of ACIT vs. Fiat India Pvt. Ltd (ITA no 1848/Mum/2009): "As rightly held by the Id. CIT(A), the said submission made by the appellant is sufficient to demonstrate that there was a material difference in the facts of the appellant's case and that of the comparable cases in terms of capacity utilization as well as in other terms. Appropriate adjustments thus were required to be made to eliminate such differences" 33. Further, the Hon'ble Pune Bench of the of Tribunal in the case of Brintons Carpers Asia Pvt. Ltd. vs. ACIT ITA. No. 1296/PN/10) while allowing* adjustment for idle capacity caused due to labour unrest/strike and relying upon the above observation of the Mumbai Tribunal held as follows: "15. From the above, it is clear the AO has authority vide clause (iii) above t....
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....otal cost of the carpet of the export segment. We refuse to comment on the facts relating to the figures as none of the authorities has gone into the details of such economic adjustments and they summarily rejected the claims. As such, the requisite adjustments are borne out of the relevant rules/provisions and therefore, the claim is bona fide and has support of the law. For this,' the appellant prefers to go to the files of the AO for want of a speaking order on this issue. In our opinion, the request of the appellant deserves to' be considered favourable." 34. Also, in the case of E.I. Dupont India Pvt. Ltd. vs. DCIT (ITA No 5336/0/2010), the Hon'ble Delhi Bench of the Tribunal, while allowing the adjustment for capacity utilization held that ; "It is a matter of fact that fixed costs remain the same even when there is under utilization of capacity. Therefore, the case of the appellant and the comparable cases have to be examined in respect of capacity utilization so as to make the controlled and uncontrolled transactions comparable." Also, the Hon'ble Delhi Bench of the Tribunal in the case of ITO vs. CRM Services India Pvt. Ltd upheld the claim of t....
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....e Hon'ble Bench has held that capacity underutilization is an important factor affecting net profit margin as lower capacity utilization results in higher per unit costs which in turn results in lower profits. The relevant finding of the decision reads as under: "5. Having heard the rival contentions and having perused the material on record, we see no reasons to interfere in very well reasoned findings and directions of the learned CIT (A). Rule 10B (1 )(e)(ii) of the Income Tax Rules 1962 does indeed provide that the net profit margin realized in a comparable uncontrolled transaction is adjusted, inter alia, for differences in enterprise entering into such transactions, which could materially affect the net profit margin in open market. Capacity underutilization by enterprises is certainly an important factor affecting net profit margin in the open market because lower capacity utilization results in higher per unit costs, which, in turn, results in lower profits. Of course, the fundamental issue, so far as acceptability of such adjustments is concerted, is reasonable accuracy embedded in the mechanism for such adjustments, 'end as long as such an adjustment mechanism ....