TaxTMI 
TaxTMI 
2012 (5) TMI 613
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....group entities. For the assessment year under consideration, assessee filed a return of income wherein Book Profit u/s 115JB of the Act was shown at Rs. 4,01,98,256/-. The return was subject to a scrutiny assessment u/s 143(3) r.w.s. 144C(13) of the Act dated 25-11-2010 whereby the total income was determined at Rs. 15,38,24,330/- after making certain additions, which inter alia, included an amount of Rs. 10,98,07,842/-, representing adjustment on account of international transaction with the Associated Enterprises (AEs) pertaining to manufacturing activities, and such addition is the substantive dispute in the present appeal. 3. During the year under consideration, assessee has undertaken the following international transactions. S. No. Nature of Transaction Amount (Rs) Method Applied 1 Export of finished goods to overseas Group companies 599,729,362 TNMM 2. Import of raw materials and components for manufacturing finished goods 176,057,018 TNMM 3. Import of finished goods for resale 3,160,161 TNMM 4. Receipt of commission 4,980,548 TNMM 5. Import of capital machinery 41,750,492 TNMM 6. Amount paid for software and data communication expenses 10,498,643....
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....% 6. Based on the above, an addition of Rs. 10,98,07,842/- has been determined which has been challenged in appeal before us. 7. The first area of difference between the assessee and the Revenue is with regard to computing the operating profit margin in the assesee's case. The TPO/AO has computed the operating margin of the assessee as follows: Sr. No. Head Description Amount (Rs) 1. Operating income Manufacturing sale + Sale of scrap 108,7457,000 +48,32,000 = 109,22,89,000 2. Operating cost Including depreciation Total expenses -cost for back office activities -financial expenses 109,65,60,000 -2,18,75,000 -36,69,000 =107,10,16,000 3. Depreciation 9,79,82,000 4. PBDIT 1-2+3 11,92,55,000 5. Operating profit Margin 4/(2-3_ 12.25% 8. In this connection, the plea of the assessee is that costs of Rs. 2,13,78,691/- pertaining to RISFIC project and Rs. 50,00,000/- in the case of power capacitor project are extraordinary costs, which are abnormal and incurred only in the initial phase of production and therefore it should be excluded from the operating costs in order to arrive at the operating profit margin. The precise submission of the a....
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....s as such costs being abnormal and non-operating in nature. Cost pertaining to power capacitors project In connection with the project of power capacitors, it is further bought to your goodself's attention that the said project was in a nascent stage with negligible sales value during the year ended 31st March 2006. The sales for this project picked up in the later years. However, Vishay India incurred substantial costs for recruitment of marketing staff and their training and travel as well as participation in various exhibitions. Therefore, these costs have been excluded from the operating costs. In view of the above, the assessee requests your Goodself to exclude the above cost from the operating costs as such costs being abnormal and non-operating in nature." 9. The Revenue has opposed the plea on the ground that both the costs are incurred during normal business operations and that the assessee has not demonstrated as to whether the Comparable Companies did not have to incur any such expenses. 10. Before us, learned Counsel for the appellant, has referred to Rule 10B(3) of the Income-tax Rules, 1962 (in short 'the Rules') to submit that adjustment be made in case of d....
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....s in the open market for which reasonably accurate adjustments are possible. Thus the differences on account of higher imports and warranty provision have resulted into lower profit as compared to the transactions in the open market for which reasonable adjustment is possible. In view of the above, the appellant submits that the margins of appellant be adjusted to take into consideration excess warranty claims and high import cost. 35. Elaborating the above, Ld Counsel for the assessee has mentioned that assessee imported components and spares from AE to the tune of Rs. 602.18 lakhs for manufacturing segment. It works out to nearly 40% of total imports i.e. Rs. 1557.38 lakhs. Referring to the comparables, it is brought to our notice that the imports of the comparables works out to merely 3.68% and therefore, there are differences and they have to eliminated by way of adjustments to be a credible comparables to the tested party's data. As per the assessee, the revised PLI after adjustment for excess import duty work out to around 6.6%, which falls in the permitted range of +/-5%. Further, in support of the above, Ld Counsel relied on various decisions for the proposition that ....
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....high import content was necessitated by the extraordinary circumstances beyond assessee's control. As was observed by a Coordinate Bench of this Tribunal in the case of E-Gain Communication (P) Ltd. (supra) "the differences which are likely to materially affect the price, cost charged or paid in, or the profit in the open market are to be taken into consideration with the idea to make reasonable and accurate adjustment to eliminate the differences having material effect". We do not agree with the AO that every time the assessee pays the higher import duty, it must be passed on to the customers or it must be adjusted for in negotiating the purchasing price. All these things could be relevant only when higher import content is a part of the business model which the assessee has consciously chosen but then if it is a business model to import the SKD kits of the cars, assemble it and sell it in the market, that is certainly not the business models of the comparables that the TPO has adopted in this case. The adjustments then are required to be made for functionally differences. The other way of looking at the present situation is to accept that business model of the assessee company an....
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.... TPO with direction to examine the claim of the assessee relating to the import cost factor and eliminate the difference if any. However, the TPO/AO/DRP shall see to it that the difference in question is 'likely to materially affect' the price/profit in the open market as envisaged in sub rule (3) of Rule 10B of the Income tax Rules, 1962. Accordingly, ground 4(b) is allowed pro tanto." 13. Furthermore, the appellant pointed out that the Comparable Companies, have not incurred any start-up activity cost as is amply clear from the Annual Reports. 14. In view of the aforesaid discussion, in our view, the assessee ought to succeed on this Ground and we accordingly direct the AO/TPO to examine the claim of the assessee in the light of the directions contained in the order of the Tribunal in the case of Demag Cranes& components (India) Pvt. Ltd (supra) dated 4-1-2012. 15. Another issue raised by the assessee relates to computing the adjustment without giving benefit of the option available to the assessee under proviso to section 92C(2) of the Act for the +5%. This aspect of the matter has been considered by the Pune Bench of the Tribunal in the case of Starent Networks (India) P. L....
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....able to the assessee in the instant case, because the said Proviso has been amended by the Finance (No 2) Act, 2009 with effect from 1.10.2009 which reads as under: "Provided that where more than one price is determined by the most appropriate method, the arm's length price shall be taken to be the arithmetical mean of such prices: Provided further that if the variation between the arm's length price so determined and price at which the international transaction has actually been undertaken does not exceed five per cent of the latter, the price at which the international transaction has actually been undertaken shall be deemed to be the arm's length price." The case set up by the Revenue is that the amended Proviso shall govern the determination of ALP in the present case, inasmuch as the amended provisions were on statute when the proceedings were carried on by the Transfer Pricing Officer (TPO). As per the Revenue, the amended Proviso would have a retrospective operation and in any case, would be applicable to the proceedings which are pending before the TPO on insertion of the amended Proviso, which has been inserted by the Finance (No. 2) Act, 2009 with effect from 1.10.2009....
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....s found from circular No 5 of 2010 (supra) whereby in para 37.5, the applicability of the above amendment has been stated to be with effect from 1.4.2009 so as to apply in respect of assessment year 2009-10 and subsequent years. In this regard, we also find that the Delhi Bench of the Tribunal in the case of ACIT v UE Trade Corporation India (P) Ltd. vide ITA No 4405(Del)/2009 dt 24.12.2010 has observed that the proviso inserted by the Finance (No 2) Act, 2009 would not apply to an assessment year prior to its insertion. In this view of the matter, we therefore find no justification to deny the benefit of +/-5% to the assessee in terms of the erstwhile Proviso for the purposes of computing the ALP. 23. However, before parting we may also refer to a Corrigendum dated 30.9.2010 by the CBDT by way of which para 37.5 of the circular No 5/2010 (supra) has been sought to be modified. The Corrigendum reads as under: " CORRIGENDUM In partial modification of Circular No. 5/2010 dated 03.6.2010, (i) In para 37.5 of the said Circular, for the lines "the above amendment has been made applicable with effect from 1st April, 2009 and will accordingly apply in respect of assessment ....
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....ur considered opinion, has no bearing so as to dis-entitle the assessee from its claim of the benefit of +/-5% in terms of the erstwhile proviso to section 92C(2) of the Act. In coming to the aforesaid, we have been guided by the parity of reasoning laid down in the judgments of the Hon'ble Bombay High Court in the cases of BASF (India) Ltd. v CIT 280 ITR 136 (Bom); Shakti Raj Films Distributors v CIT 213 ITR 20 (Bom); and, Unit Trust of India & Anrs. v ITO 249 ITR 612 (Bom). The Hon'ble High Court has opined in the case of BASF (India) Ltd. (supra) that the circulars which are in force during the relevant period are to be applied and the subsequent circulars either withdrawing or modifying the earlier circulars have no application. Moreover, the circulars in the nature of concession can be withdrawn prospectively only as held by the Hon'ble Supreme Court in the case of State Bank of Travancore v CIT 50 CTR 102 (SC). Considering all these aspects, we therefore find no justification in the action of the lower authorities in disentitling the assessee from its claim for the benefit of +/-5% to compute ALP in terms of the erstwhile proviso to section 92C(2) of the Act. We order accordi....
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....ne to the margins of the comparable uncontrolled transactions to generate credible comparability data on transactional net margins. On the other hand, if appears that the case of the revenue is that the no such adjustments are called for to the set of comparable, which are supplied by the assessee. 31. We have so far analyzed Rule 10B(1)(e) on one side and other sub rules and in the context of the TNMM, we have analyzed the need for the elimination of the difference, if any in the comparable uncontrolled transactions, which materially affect the profit margin in the open market. It is the requirement of the Rules. Who supplies the set of comparable is not the determining factor on this issue. Having noticed the difference, the revenue has to quantify the difference, if any and then revenue must decide if that difference constitutes 'materially affect' the price in open market. If the answer is affirmative, the said difference has to be removed and the margin has to be adjusted for arriving at the credible comparable PLI. Further, it is a settled proposition that the 'working capital' adjustment is one such adjustment that is required to be made in TNMM. The revenue's contention t....
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....of the same factors which can influence price or gross margins. Further, it is the requirement of the rules / provisions that any difference which is likely to materially affect the NPM in open market has to be eliminated. TPO must know that the TNMM visualizes the undertaking of the thorough comparability analysis and elimination of the differences through the requisite adjustments. Yes, data availability is the limitation and both the parties need to ensure the procurement and use of the proper documentation. Therefore, we dismiss the revenue's contention that no further adjustment if any is entertained once the comparables are supplied by the assessee and when they are accepted by the TPO. Thus, working capital is a factor which influence the price in the open market and therefore the net profit margin of the business segment of the assessee which is targeted by the TPO/AO/DRP. Hence, in principle, we hold that the TPO/AO/DRP has failed to entertain the objections of the assessee on the 'working capital' adjustments issue. Therefore, we direct them to allow the requisite adjustment on account of the impugned 'working capital' while determining the Arm's Length operating Margin o....
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....e are of the opinion that the said working capital differences constitutes quantitatively likely to materially affect the ALP / AL Operating Margin of the comparable. Therefore, the claims of the assessee are allowed. Accordingly, the grounds 4(a) is covered by the cited decisions and is allowed pro tanto. " 21. In the light of the aforesaid, the plea of the assessee has to be upheld in principle. So, however, as the issue has not been examined by the lower authorities, we therefore, deem it fit and proper to restore the issue back to the file of the AO/TPO with direction to examine the claim of the assessee relating to working capital adjustment and eliminate such difference, if any, as are likely to materially affect the profit margins, following the parity of reasoning in the case of Demag Cranes & Components (India) Pvt. Ltd (supra) and as per law. Thus, on this Ground assessee succeeds for statistical purposes. 22. Another aspect which has been vehemently argued is to the effect that the TPO adopted an incoherent approach for selection/rejection criteria of Comparable Companies. In particular, it has been pointed out that the TPO was not justified in rejecting the three Com....
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....unctionality, the onus was on the TPO to establish that it had certain peculiar features which actually impacted the profit margins. In this context, in para 1.9.2.3 of the written submissions addressed to DRP, a copy of which is placed in the Paper Book at pages 15.1 to 15.11, the assessee has tabulated the employee cost percentage to sales ratio of the Comparable vis-à-vis the assessee. In terms of the same, the cost of compensation of employees on sales of Comparable Companies, including, Keltron group of companies works out to 14.68% which is quite comparable with the employee's cost to sales of the assessee-company which stands at 4.68%. Therefore, in our view, having regard to the orders of the authorities below, we finds that Keltron group concerns have been rejected by the TPO on the basis of perceptions which are not borne out of the record and do not stand established on the basis of material brought out by the TPO. Therefore, we hold that exclusion of the above concerns was not appropriate for the purposes of benchmarking the international transactions of the assessee. We therefore, hold that the Assessing Officer shall re-examine the matter in the above light. Si....
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.... aforesaid, it is further submitted that if at all insurance and commission expenses were to be reduced from the figure of export turnover, same be also reduced from the figure of total turnover in order to compute deduction under section 10B of the Act. 28. Before us, the learned Counsel for the assessee submitted that in terms of Explanation 2(iii) to section 10B of the Act only freight, telecommunication charges or insurance attributable to the delivery of the article or thing or computer software outside India are liable to be reduced from the export turnover and in so far as the amount of freight is concerned, assessee had suo motu reduced the same. With regard to the telecommunication charges of Rs. 10,94,937/-, it is submitted that its break-up is as under: "Particulars Amount (Rs) Telephone expenses 441,066 Postage expenses 10,134 Courier expenses 9,204 Stationary 634,533 Total 1,094.937" and this would show that only Rs. 4,41,066/- is incurred towards telephone charges and the balance is in relation to postage, courier and stationery and, therefore, cannot be considered as communication expenses so as to be excludible as per Explanation 2(iii) to sect....
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....fully considered the rival submission on these aspects. Explanation 2(iii) to section 10B of the Act provides the meaning of expression 'export turnover' for the purposes of section 10B of the Act. Section 10B makes a special provision in respect of newly established 100% EOUs. Subsection (1) of section 10B provides that a deduction of such profits and gains as are derived by a 100% EOU from the export of articles and things or computer software for a specified period beginning with the assessment year relevant to the previous year in which the undertaking begins to manufacture or produce articles or things or computer software as the case may be, shall be allowed from the total income of the assessee. Sub-section (4) provides the manner in which profits derived from the export of article of things or computer software shall be computed. It is provided therein that such profits shall be the amount which bears to the profits of the business of the undertaking, same proportion as the export turnover in respect of which articles or things or computer software bears to the total turnover of the business carried on by the undertaking. Explanation 2 to section 10B provides the meaning of....
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....er to one aspect of the matter. It may be an easy task to exclude the freight, telecom charges or insurance attributable to the delivery of computer software outside India or expenses, if any, incurred in foreign exchange in providing the technical services outside India from the export turnover and the total turnover if they are separately mentioned in the invoice raised by the assessee. In the course of the arguments addressed on behalf of M/s Sak Soft Ltd. a question arose as to what would happen if these items are not separately show in the invoice and are included in the total amount raised by the invoice. It was conceded on behalf of the assessee by is learned representative that in such a case, the AO will have the power to go behind the invoice and find out how much of the invoice amount pertains to the recovery of the aforesaid items. We are also of the view that in an appropriate case it would be open to the AO to exercise such power in order to apply the formula in a meaningful manner." 34. Therefore, following the aforesaid parity of reasoning, it would be appropriate to cull out as to what is the appropriate amount that is required to be excludible from the figure of....