TaxTMI 
TaxTMI 
2016 (5) TMI 548
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...., confectionary, pharmaceuticals etc. 3. The assessee had filed its return of income on 12.10.2010 declaring an income of Rs. 9,30,49,569/-. The international transactions for the year under consideration were as per the following chart - International transactions shown by the taxpayer: Sr. No. Nature of transaction Method Selected Arm's length price as per taxpayer (i) Purchase of raw materials TNMM using Operating profit 10,477,158 (ii) Purchase of trading goods 37,051,810 (iii) Payment of royalty 84,765,448 (iv) Payment of management consultancy fees 48,591,848 (v) Sale of finished goods -------------as PLI Operating Revenue 27,347,679 (vi) Sale of components and spares 27,312,504 (vii) Receipt of sales commission 8,479,350 (viii) Purchase of fixed assets 6,717,589 (ix) Provision of support services TNMM using Operating profit --------- as PLI Operating Cost 47,841,967 4. Since the assessee had undertaken international transactions with its Associated Enterprises (AE), a reference was made by the Assessing Officer to the Transfer Pricing Officer (TPO) u/s....
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....r comparability with the Assessee; 4. The learned TPO erred, on facts and circumstances of the case and making an adjustment of INR 2,965,700/- to the total income of the Assessee under section 92CA(3) of the Act on account of adjustment in the arm's length price of the international transaction of payment of management fee. In doing so, the learned TPO has erred in: a) Misinterpreted/ misconstrued the facts with respect to the international transactions relating to management fee on the basis of incorrect presumptions. b) Disregarding the Global Transfer Pricing Report justifying the arm's length nature of the transaction under a transaction-by-transaction analysis. 5. The learned TPO erred, on facts and circumstances of the case and disallowed the payment of royalty by considering the ALP of the same to be NIL and making an adjustment of INR 84,765,448 to the total income of the Assessee under section 92CA(3) of the Act on account of adjustment in the arm's length price of the international transaction of payment of royalty. In doing so, the learned TPO have erred in: a) Disregarding the documentary evidence submitted by the As....
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....nt of financial results and capable of being verified separately, the TPO was justified in determining the ALP separately rather than aggregating it with other transactions under TNMM. (iv) As regards the action of the TPO in making an adjustment of Rs. 29,65,700/- on account of adjustment in the ALP of international transactions of payment of management fee, the DRP held that the assessee had made payments for services availed which contained two mark-ups, one by the entity rendering the services and the other by the entity in Greece. Therefore, the second mark-up of 6.5% was rightly to be adjusted in the determination of ALP. (v) As regards the ad hoc disallowance of 5% of the miscellaneous expenses, the DRP ruled in favour of the assessee and held that since the disallowance was not supported by any evidence, the same had to be deleted. 7. The TPO consequently passed the order on 6.1.2015 giving effect to the directions of the DRP stating that there was no change in the TPO's order dated 29.01.14. Accordingly, the same amount of Rs. 8,77,31,148/- on account of T.P. Adjustment was disallowed. Further, an amount of Rs. 8,55,912/- being 5% of total miscellaneou....
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....cordingly not documented the same as prescribed under Rule 10D of the Rules. 3.2. The Ld. TPO/ Hon'ble DRP erred in law by upholding the determination of the ALP of the international transaction using Comparable Uncontrolled Price ('CUP') method without following the manner of applying the CUP method prescribed under Rule 10B(1)(a) of the Rules. 3.3. The Ld. TPO/ Hon'ble DRP have erred in upholding the adoption of CUP method as the most appropriate method for determining the arm's length price in respect of the impugned international transaction without identifying any comparable uncontrolled transaction(s) for the computation of the ALP as prescribed in Section 92F(ii) of the Act. 4. 4.1. The Ld. TPO/ Hon'ble DRP erred in passing an order that is perverse in law ignoring the relevant submissions, information and documents provided by the Appellant to substantiate the services and benefits received by the appellant in lieu of payment of royalty, and based on a preoccupied mind reached at an inappropriate conclusion that the arm's length value of the transaction pertaining to payment of royalty should be Nil. 4.2. The Ld. TPO/ Hon'ble....
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..... The Appellant submits that the above grounds of appeal are mutually exclusive of and without prejudice to each another. Further, the Appellant craves leave to add, amend, vary, omit or substitute any of the aforesaid grounds of appeal at any time before or at the time of hearing of the appeal so as to enable the Hon'ble ITAT to decide on the grounds raised by the Appellant, as per law." 9. On the issue of royalty, the Ld. AR submitted that the assessee has entered into royalty agreement with its AE - Frigoglass SAIC (Head Office) on account of receipt of ICM Technology and for use of trademark. It was submitted that CUP method could not be applied in the case as neither the AE nor the assessee have entered into similar royalty arrangements with third parties and the data for external comparable transactions between independent parties in India was not available. It was submitted that the only method which could be correctly applied was TNMM (which has been applied by the assessee). It was further submitted that the benchmarking approach adopted by the assessee has been wrongly rejected and that the application of CUP method was erroneous. It was submitted that FIPL's principal....
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....royalty agreement were ICM sales, customer service, marketing services, product development and future technologies. It was submitted that most of the clients of the FIPL were global clients and the use of the trademark had a positive impact on the sales of FIPL in India. The Ld. AR made a reference to the comparative profitability chart from FY 2005-06 to FY 2009-10 and submitted that the profitability has been increasing on an year to year basis because of availing of the services of Frigoglass SAIC and, therefore, since the benefits received from FIPL from receipt of such services outweigh the payment for such services, the assessee was justified in making payments for royalty. 10. It was also submitted that royalty has been paid only as per the terms of the agreement. The Ld. AR submitted that the disallowance for royalty was ultimately made on the ground of commercial expediency and he placed reliance on the decision of the Hon'ble Delhi High Court in the case of CIT vs EKL Appliances Ltd. 345 UTR 241 (Del) and that of the ITAT Hyderabad 'B' Bench in the case of DCIT vs Air Liquide Engineering in I.T.A. No. 1040/Hyd/2011 for the proposition that so long as the expenditu....
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.... per para 5 of the service agreement a mark-up of 6.5% is applied and billed to the respective Frigoglass group entity (including FIPL). The Ld. AR also submitted that Frigoglass SAIC had hired an independent external consultant for reviewing the Arm's Length Nature of the 6.5% mark-up applied by the Head Office for rendering management support services to related group entities. The search for comparable services providers resulted in the identification of 720 independent companies. These comparables exhibited an arm's length inter-quartile range of 3.7% to 13.3% with a median of 7.4%. On the basis of this, the 6.5% cost plus mark-up charged by the Frigoglass group can be considered consistent with the arm's length principle. The Ld. AR further submitted that the TPO has accepted the receipt of services as well as the needs and benefits availed by the assessee and has only challenged the computation mechanism for such services and that too disallowing only the mark-up charged on the cost allocated to AE, considering the same to be duplicative in nature and the DRP has simply followed the reasoning of the TPO without exercising an independent analysis. The Ld. AR refereed to the Al....
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....neous expenditure, the Ld. DR, in all fairness, accepted that the TPO had somehow overlooked the directions of the DRP and submitted that he is agreeable to the contentions of the Ld. AR. 16. We have heard the rival parties at length and carefully perused the material on record. As far as the issue of royalty is concerned, we find that the assessee had filed in the course of the TPO assessment as well as before the DRP, detailed submissions, including agreement between AE and the assessee, justifying how the technical know-how supplied by its AE was crucial to the running of its business. In CIT vs EKL Appliances 341 ITR 241 (Del), the Hon'ble Delhi High Court had the occasion to consider an issue of disallowance of royalty by TPO because the assessee in that case had been suffering losses, the Hon'ble High Court while holding that so long as the expenditure or payment by assessee has been demonstrated to have been incurred or laid out for the purposes of business, it is no concern of the TPO to disallow the same on any extraneous reasoning, observed as follows:- "16. The Organization for Economic Cooperation and Development ("OECD‟, for short) has laid do....
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....rd the parties' characterization of the transaction and recharacterise it in accordance with its substance. An example of this circumstance would be an investment in an associated enterprise in the form of interest -bearing debt when, at arm's length, having regard to the economic circumstances of the borrowing company, the investment would not be expected to be structured in this way. In this case it might be appropriate for a tax administration to characterize the investment in accordance with its economic substance with the result that the loan may be treated as a subscription of capital. The second circumstance arises where, while the form and substance of the transaction are the same, the arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner and the actual structure practically impedes the tax administration from determining an appropriate transfer price. An example of this circumstance would be a sale under a long-term contract, for a lump sum payment, of unlimited entitlement to the intellectual property rights arising as a result of fut....
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....arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner. 19. There is no reason why the OECD guidelines should not be taken as a valid input in the present case in judging the action of the TPO. In fact, the CIT (Appeals) has referred to and applied them and his decision has been affirmed by the Tribunal. These guidelines, in a different form, have been recognized in the tax jurisprudence of our country earlier. It has been held by our courts that it is not for the revenue authorities to dictate to the assessee as to how he should conduct his business and it is not for them to tell the assessee as to what expenditure the assessee can incur. We may refer to a few of these authorities to elucidate the point. In Eastern Investment Ltd. v. CIT , (1951) 20 ITR 1, it was held by the Supreme Court that "there are usually many ways in which a given thing can be brought about in business circles but it is not for the Court to decide which of them should have been employed when the Court is deciding a question under Section 12(2) of the Income Tax Act".....
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....at the expenditure should have been incurred "wholly, necessarily and exclusively" for the purposes of business in order to merit deduction. Pursuant to public protest, the word "necessarily" was omitted from the section. 21. The position emerging from the above decisions is that it is not necessary for the assessee to show that any legitimate expenditure incurred by him was also incurred out of necessity. It is also not necessary for the assessee to show that any expenditure incurred by him for the purpose of business carried on by him has actually resulted in profit or income either in the same year or in any of the subsequent years. The only condition is that the expenditure should have been incurred "wholly and exclusively" for the purpose of business and nothing more. It is this principle that inter alia finds expression in the OECD guidelines, in the paragraphs which we have quoted above. 22. Even Rule 10B (1)(a) does not authorise disallowance of any expenditure on the ground that it was not necessary or prudent for the assessee to have incurred the same or that in the view of the Revenue the expenditure was unremunerative or that in view of the continued losses suffer....
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.... figures or that even on merits the reasons for the losses are not genuine." 17. Here, in the present appeal, what we see is the TPO sitting on judgment on the business and commercial expediency of the assessee which is erroneous as per the provisions of the Act as laid down clearly by the Hon'ble Delhi High Court in EKL Appliances (supra). As far as the Department's reliance on the Hon'ble Delhi High Court's judgment in Abhinandan Investments (supra) and on the decision of the co-ordinate I Bench of the Delhi Tribunal in the case of Bombardier Transporation India Pvt. Ltd. is concerned, these judgments were rendered on a different set of facts and hence the ratio as laid down by these are not applicable to the facts of the present appeal. 18. Furthermore, we are of the opinion that once TNMM has been applied to the assessee company's transaction, it covers within its ambit the royalty transactions in question too and hence the Department's contention for applying the CUP method is erroneous. We draw support from the decision of the Mumbai Bench of the Tribunal in Cadbury India Ltd. vs ACIT in I.T.A. No. 7408/Mum/2010 and I.T.A. No. 7641/Mum/2010 wherein the Bench has uph....