TaxTMI 
TaxTMI 
2015 (7) TMI 492
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.... adopted by the assessee. In addition thereto, the assessee is also in appeal against the adjustment made to the export turnover and profits of the business in computing the deduction u/s 10A of the Incometax Act, 1961 [hereinafter referred to as 'the Act' for short] and also on the depreciation allowed by the AO only on the net consideration received from M/s.Elpro International Ltd. 3. Brief facts of the case are that the assessee-company filed its return of income for the assessment year 2004-05 on 31/08/2014 declaring total income of Rs. 3,73,56,980/-. During the assessment proceedings u/s 143(3) of the Act, the AO noticed that the assessee had entered into international transactions with its Associated Enterprises (AE) and therefore referred the matter to the Transfer Pricing Officer (TPO) for determination of the ALP u/s 92CA of the Act. Further, while examining the assessee's claim of deduction u/s 10A of the Act to the tune of Rs. 29,87,49,995/-, the AO noticed that it consists of (i) export turnover of a sum of Rs. 58,87,090/- not received during the relevant financial year; (ii) telecommunication expenses of Rs. 68,41,559/-; and (iii) income of Rs. 27,25,570/- fr....
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....s not represent the value of any plant machinery purchased by the assessee. In reply to the AO's query, assessee submitted that as per SPA agreement, assessee had taken over the plant and machinery of the company M/s. Elpro International Ltd., and also employment of 184 employees of M/s.Elpro International Ltd and consequently gratuity fund of these employees amounting to Rs. 27 lakhs was transferred to assessee-company and since gratuity to all the employees on retirement would come to Rs. 8,45,000/-, only the balance amount of Rs. 57,57,000/- was capitalized as plant and machinery and depreciation was claimed on the same. The AO observed that this issue has arisen since the assessment year 1998-99 wherein the AO had disallowed the claim of depreciation u/s 32 of the Act on the ground that the sum capitalized does not represent value of any plant and machinery but was a mere difference between gratuity received by the employees of Elpro International and gratuity actually paid by the assessee to those employees on their retirement which does not quality for deduction u/s 32 and that the CIT(A) had confirmed the said disallowance. Therefore, following the orders of his predecessor,....
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....x payer being a manufacturer of medical equipment has to search for the companies which are also into the manufacture of medical equipment i.e. similar products. Therefore proposal to adopt the companies which are into manufacture of medical equipment was sent to the assessee vide letter dated 13/10/2006. The assessee objected to the same stating that the functional comparability is important to determine the comparable and that cost margins are likely to be affected by differences in functioning and not product. The TPO was not convinced by the assessee's contention and held that the product comparability is more appropriate in the assessee's case. The assessee, thereafter, submitted that if the comparables on the basis of products are taken into consideration, then the most appropriate method to determine the ALP would be TNMM as such comparables need to spend more on advertisement and marketing as compared to the assessee and on account of this, prices are hiked up increasing their margin vis-à-vis tax-payer. The TPO, however, rejected the assessee's objection, holding that the assessee itself had adopted 'cost plus method' as the most appropriate method and that no new f....
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....the contract manufacture has resulted in 'nil' adjustment, the assessee in appeal before us on the principle of adopting the most appropriate method and the basis of adoption of comparables i.e. on functional or product basis. Against the deletion of Vimta Labs Ltd., from the list of comparables in the case of engineering services, the revenue is in appeal before us. 9. As far as the revenue's appeal against the deletion of Vimta Labs Ltd., from the list of comparables is concerned, though the learned Departmental Representative has relied upon the order of the AO, we find that the TPO has, in the remand report (which is reproduced at 14.2.1 of the order of the CIT(A)) has stated that Vimta Labs Ltd., was into contracting, research and technical activity and therefore is functionally dissimilar to the assessee. Since the TPO himself has agreed that the said company is not comparable to the assessee-company, we do not see any reason to interfere with the order of the CIT(A) on this issue and the revenue's ground of appeal on this issue is rejected. 10. As regards the basis comparability adopted by the TPO i.e. the product comparability as against the functional comparability adopt....
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....'s Length the Assessee filed a Transfer pricing Study report. The Assessee claimed that it performed functions and undertook risks that are normally performed by a contract manufacturer. The Assessee chose Cost Plus Method (CPM) as the Most Appropriate Method (MAM) for determination of ALP. The Assessee identified 19 comparable companies which were in the business of manufacture of (i) steel forgings, (ii) automotive brake systems, (iii) compressors; (iv) colour TV picture tubes, (v) Axle shafts, (vi) automotive gears; (vii) rear fork assembly; (viii) sheet metal components, assemblies and subassemblies,( ix) auto head lights, (x) fuel tanks, axle housing; (x) steering gears; (xi) wheels for automobiles; (xii) design engines; (xiii) steering gear assembly; (xiv) automotive air- conditioning systems; (xv) steel metal parts. The arithmetic mean of the comparable companies was 15.72% gross mark-up on cost. The Assessee's gross mark-up on cost was 16.24% and therefore it was claimed that the price received from the AE by the Assessee in respect of the international transaction was at Arm's length. 33. The TPO accepted the methodology adopted by the Assessee viz., CPM as the MAM. The ....
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....rt turnover. On the above objection of the Assessee the TPO has observed that two of the comparable companies chosen by the TPO had export turnover. 36. Thereafter the TPO chose comparable companies in the medical equipment components manufacturing sector. The following four comparables were identified by the TPO. Sl. No. Name of the comparable % of GP over costs 1. Contential Surgical Suture Ltd 74.167 2. Polymedicure Ltd. 27.646 3. South India Surgical Co. Ltd. 37.833 4. Shri Pacetronix Ltd. 38.462 Avg. 44.527 Out of this Shree Pacetronix Ltd. was rejected as per the taxpayer's request since it had related party transactions. The final list of comparable companies was as follows: Sl. No. Name of the comparable % of GP over costs 1. Contential Surgical Suture Ltd 74.167 2. Polymedicure Ltd. 27.646 3. South India Surgical Co. Ltd. 37.833 Avg. 46.55% The adjustment and consequent addition to the ALP was made by the AO. 37. The CIT(A) confirmed the reasoning of the TPO on all the above objections of the Assessee. On the question of product comparability being important the CIT(A....
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....not be discarded in preference over transactional profit method unless the revenue authorities are able to demonstrate the fallacies in application of standard method. 39. This reasoning cannot be accepted. There cannot be any estoppel in taxation matters. If the Assessee can show that the stand he originally took was not sustainable in law and seeks to take a different stand either in the course of proceedings before the Assessing Officer or Appellate authorities, the claim of the Assessee has to be tested on the basis of the applicable provisions of law. It cannot be rejected solely on the basis that it was contrary to the stand which the assessee had taken originally. At the same time, it does also mean that the assessee could be allowed free license to vary the functional analysis and the method adopted at any time during the appellate proceedings. The above proposition finds support in the decision of the ITAT, Pune, in the case of ACIT Vs MSS India (supra) reported in 009-TII-67-ITAT-Pune-TECHNICAL SERVICES dated 29.5.2009 is relevant. In this case, the ITAT had observed that a method chosen cannot be discarded unless there are compelling reasons for the same. While this ....
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....onal methods, which seek to compute prices in independent situations, fail or are incapable of being implemented, as there are a large number of situations in which, for a variety of reasons, traditional methods are simply unworkable. The inputs necessary for applying the traditional methods are not always available and that is the reason that despite better results produced by these methods, these methods are not as much put to use. However, whenever necessary inputs for applying one of these methods are available and there is no dispute about comparability of those inputs, there is no good reason to resort to transactional profit methods. It would thus follow that in a situation in which the assessee has followed one of the standard methods of determining ALP, such a method cannot be discarded in preference over transactional profit methods, unless the revenue authorities are able to demonstrate the fallacies in application of standard methods. In any event, any preference of one method over the other method must be justified by the Transfer Pricing Officer on the basis of cogent material and sound reasoning. (Para 22)." 40. Of course the facts of the case in MSS Ltd. are littl....
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.... classes of associated enterprises entering into the transaction and the functions performed by them taking into account assets employed or to be employed and risks assumed by such enterprises; (c) the availability, coverage and reliability of data necessary for application of the method; (d) the degree of comparability existing between the international transaction and the uncontrolled transaction and between the enterprises entering into such transactions; (e) the extent to which reliable and accurate adjustments can be made to account for differences, if any, between the international transaction and the comparable uncontrolled transaction or between the enterprises entering into such transactions; (f) the nature, extent and reliability of assumptions required to be made in application of a method." 42. In this regard, it is seen that in the TP Study submitted, the assessee has itself adopted. The Cost Plus Method ('CPM') as the Most Appropriate Method ('MAM'). While doing so, the appellant has observed in the TP Study, at page 22, as under : " Cost Plus Method The cost plus method ("CPLM") evaluates the arm's length character of a controlled transaction by ref....
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....method in determining arm's length price with respect to contract manufacturing services. Accordingly TNMM is not considered as most appropriate method." 43. The UN Practical Transfer Pricing Manual for developing countries, 2012 in para 5.3.6 lays down the following criteria for choosing MAM. "5.3.6. Selection of Transfer Pricing Method 5.3.6.1. The most appropriate transfer pricing method will be selected taking into account the strengths and weaknesses of the method, the appropriateness of the method in the light of the nature of the controlled transaction (based upon a functional analysis), the availability of reliable information (especially on uncontrolled comparables) and the degree of comparability between the controlled and the uncontrolled transactions(including reliability of comparability adjustments needed). 5.3.6.2.Once the taxpayer has identified the transfer pricing methods that are potentially applicable to the controlled transaction, application of the most appropriate method rule involves a careful balance in which the following factors may be taken into account to assess the relative accuracy of the identified methods: i. The extent to which the compara....
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....he MAM. The Indian TP Rules does not give any scope or leverage to use different TP methods. 45. The U.N. Practical Transfer Pricing Manual for developing countries, 2012 in para 6.1.3.3 lays down as follows: "6.1.3.3. Once a method is chosen and applied taxpayers are generally expected to apply the method in a consistent fashion. Assuming that an appropriate transfer pricing method is being applied, a change in method is typically required only if there are any changes in the facts, functionalities or availability of data." The above guidelines presupposes an appropriate transfer pricing method being applied. The above guidelines emphasize on consistency being followed in applying the method. It also provides that the method can be changed, only if there are any changes in the facts, functionalities or availability of data. Assuming that there could be situations where on assessee may be required to change its chosen MAM for the same year between the time of his TP Study and the assessment / appellate proceedings, such a change can happen only if there are any changes in facts, functionalities or availability of data. 46. In the instant case, the assessee has not made out ....
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.... such should be the tested party in the transfer pricing analysis. 6.2.20.3 The cost plus method is usually not a suitable method to use in transactions involving a fully-fledged manufacturer which owns valuable product intangibles as it will be very difficult to locate independent manufacturers owning comparable product intangibles. That is, it will be hard to establish a profit mark-up that is required to remunerate the fully-fledged manufacturer for owning the product intangibles. In a typical transaction structure involving a fullyfledged manufacturer and related sales companies (e.g. commissionaires), the sales companies will normally be the least complex entities involved in the controlled transactions and will therefore be the tested party in the analysis. The resale price method is typically more easily applied in such cases. 6.2.21 Case Examples of Cost Plus Method: 6.2.21.1. Example 1 (i) LCO, a domestic manufacturer of computer components, sells its products to FS, its foreign distributor. UT1, UT2, and UT3 are domestic computer component manufacturers that sell to uncontrolled foreign purchasers; (ii) Relatively complete data is available regarding the functions....
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....atively complete data is available regarding the functions performed and risks borne by the uncontrolled producers. In addition, data is sufficiently detailed to permit adjustments for differences in accounting practices. However, sufficient data is not available to determine whether it is likely that all material differences in contractual terms have been identified. For example, it is not possible to determine which parties in the uncontrolled transactions bear currency risks. As the differences in these contractual terms could materially affect price or profits, the inability to determine whether differences exist between the controlled and uncontrolled transactions will diminish the reliability of these results. Therefore, the reliability of the results of the uncontrolled transactions must be enhanced." As a general rule it can be said that the above guidelines advocate use of CPM in the case of Contract manufacturers. However, the provisions of Sec.92C(2) of the Act read with Rule 10C(1) & (2) make it clear that MAM has to be determined on the basis of parameters laid down therein. One can therefore conclude this discussion by holding that as a general rule CPM would be the....
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....manufacturing functions and the performance of other functions (e.g. marketing & advertisement) is negligible and insignificant, much the same as is the case with the appellant. Therefore, the profit margins of these companies are primarily reflective of the return on the manufacturing function. > However, it would be worthy to note that the ld. TPO has given weightage to product similarity over the functional similarity thereby contradicting the basic premise of application of CPM. Based on this, the ld. TPO has chosen the set of comparables which fall under the broad category of "Medical Equipments" as classified in the Prowess database. The comparables chosen by the ld. TPO are engaged in the manufacture of medical consumables viz. Disposable syringes, Disposable sutures, Disposable needles, etc. On the other hand, the appellant is a contract manufacturer engaged in manufacturing Tubes, Inserts, Detectors, Tanks and other parts and accessories for medical diagnostic imaging equipment. Such components are incorporated by the Affiliates into equipment which are in the nature of capital goods. Hence, on the analysis of product comparability, the comparables chosen by the ld. TPO ....
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....t to be considered for each comparable. This is more so necessary because the level of these expenses as a proportion of sales for each of the ld. TPO comparable varies. > In this regard, the appellant would like to mention that Centenial Surgical (a comparable selected by the ld. TPO) is a case in point, for the reason that its marketing expenses as a proportion of sales is 30% and the adjustment of 8% Tribunal sales granted by the ld. TPO would be grossly inadequate to eliminate the effect of the marketing, distribution and advertisement function on the gross profits. > Therefore the appellant submits that the financial analysis by the ld. TPO to arrive at the appropriate gross margin is erroneous, and the adjustment for the differences in the marketing and selling functions ought to be recomputed based on the actual expenses incurred by the companies. Further, in the same written submissions, at page 117 of the paper book, it is submitted as under : Analysis considering alternative approach using TNMM > Further, without prejudice to our submissions above, the appellant submits that if one were to argue that : - the adjustments mentioned above are not to be considered; ....
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....0. One of the pleas raised by the Assessee was that functional similarity is to be first seen before choosing an appropriate method and that the TPO in choosing CPM has given weightage to product similarity rather than functional similarity. The Assessee had further pointed out that the comparable chosen by the TPO were manufacturing medical consumables viz., disposal syringes, disposable sutures, disposable needles etc., and that the same cannot be compared with contract manufacturing of tubes, inserts, detectors, tanks and other parts and accessories for medical diagnostic imaging equipment which the Assessee manufactures and which are incorporated by the AE into equipment which are capital goods. On the above submission, the learned DR has submitted that it cannot be said that product similarity has no relevance. Product similarity is also important. If there is no product similarity then even though there may be functional similarity then CPM may not be the right method. The conclusions of the CIT(A) in this regard are found to be correct in the present case. The TPO in the present case has given due weightage to functional similarity also. The argument on behalf of the Assesse....
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....ts and circumstances of the present case, is the MAM." 12. Subsequent thereto, as regards the assessee's contention that the appropriate adjustments to the margins of the comparable companies as regards advertisement and marketing expenses should be made, the Tribunal, at para.54, has held as under: "54. It is however seen that the TPO has not given any weightage to the various aspects pointed out by the assessee which call for making appropriate adjustments to the margins of the comparable companies, as required under Rule 10B(1)( c )(iii), (ic) & (v) of the Rules. The computation of adjustment at 8% made by TPO is not backed by proper reasoning or rationale. The comparables selected by the TPO perform additional functions in the nature of selling & marketing thus evidencing functional differences with the appellant. This fact has been acknowledged by the TPO, but while giving adjustment, the TPO has computed the adjustment at an adhoc figure of 8%. In view of the difference in functions, the assessee is entitled to adjustments which are reliable and accurate, as stipulated in Rule 10C(2)(e) of the Rules. If such adjustments are provided on actual basis, the difference in the f....
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....ntative has not been able to produce any evidence to rebut this finding of the CIT(A). On the other hand, the learned counsel for the assessee has placed reliance upon the judgment of the Hon'ble Karnataka High Court in the case of CIT vs. Tyco Electronics Corpn.India (P) Ltd., (2012) 22 Taxman.com 267(Kar.) wherein the Hon'ble High Court at para 9 of its order has held as under: "9. A reading of the aforesaid provision makes it clear that the assessee to be entitled to the benefit of section 10A, the sale proceeds would have to be brought into the country within a period of six months from the end of the previous year. However, the legislature has consciously in express words has vested the power to extend the timelimit for the said benefit, if the competent authority chooses to allow the said benefit. Therefore, the six months' period prescribed is not mandatory. A discretion is vested with the competent authority to extend the said benefit of the section even in cases where the sale proceeds are received beyond the period of time prescribed under the said provision. The only condition is that the sale proceeds would have to be received. If the sale proceeds are not received wit....
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....th the same. This ground of appeal is accordingly rejected. (iii) As regards exclusion of profit from sale of spare parts and components of Rs. 27,25,570/-, we find that the CIT(A) confirmed the disallowance by following the decision of the ITAT in the case of GEBE Pvt. Ltd., i.e. a group company of the assessee on identical facts. The learned counsel for the assessee submitted that the CIT(A) has followed the decision of the Tribunal in the case of Group of companies for the assessment year 2003-04 whereas the Tribunal, in the case of GE BE Pvt. Ltd., in ITA No.815/Bang/2010 dated 06/12/2013 for the assessment year has considered the issue by following the decision of the Special Bench of the Tribunal, Indore in the case of Maral Overseas Ltd. vs. ACIT (136 ITD 177)(SB)(Indore) to hold that the claim of the assessee that profits from trading activity of the spare parts is also to be considered for the purpose of deduction u/s 10B of the Act should be accepted. The learned Departmental Representative, on the other hand, relied upon the judgment of the Hon'ble Supreme Court in the case of Liberty India Ltd. reported in (2009) 317 ITR 0218. 15. Having regard to the rival contention....
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.... income forms part of the business of the eligible undertaking, there is no further mandate in the provisions of section 10B to exclude the same from the eligible profits. The mode of determining the eligible deduction u/s 10B is similar to the provisions of section 80HHC inasmuch as both the sections mandates determination of eligible profits as per the formula contained therein. The only difference is that section 80HHC contains a further mandate in terms of Explanation (baa) for exclusion of certain income from the "profits of the business" which is, however, conspicuous by its absence in section 10B. On the basis of the aforesaid distinction, sub-section (4) of section 10A/10B of the Act is a complete code providing the mechanism for computing the "profits of the business" eligible for deduction u/s 10B of the Act. Once an income forms part of the business of the income of the eligible undertaking of the assessee, the same cannot be excluded from the eligible profits for the purpose of computing deduction u/s 10B of the Act. As per the computation made by the Assessing Officer himself, there is no dispute that both these incomes have been treated by the Assessing Officer as bus....