TaxTMI 
TaxTMI 
TaxTMI 
2016 (6) TMI 633
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.... The assessee filed its return of income for Assessment Year 2010-11 on 14.10.2010 declaring loss of Rs. 8,83,10,550. The case was processed under Section 143(1) of the Income Tax Act, 1961 (in short 'the Act') and the case was subsequently taken up for scrutiny. The Assessing Officer made a reference under Section 92CA of the Act to the Transfer Pricing Officer ('TPO') for determining the Arm's Length Price ('ALP') of the international transactions reported by the assessee, after obtaining the approval of the CIT-I, Bangalore. The TPO passed an order under Section 92CA of the Act dt.15.1.2014 proposing a T.P. Adjustment of Rs. 11,62,02,178 to the international transactions entered into by the assessee in the period under consideration. 2.2 After receipt of the TPO's order, the Assessing Officer passed the draft order of assessment under Section 143(3) rws 144C of the Act dt.28.2.2014, wherein the income of the assessee was determined at Rs. 2,78,91,628 and which included the T.P. Adjustment of Rs. 11,62,02,178. 2.3 Aggrieved, the assessee filed its objections thereto before the DRP. The DRP disposed off the assessee's objections, issuing directions under Section 144C....
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....92CA of the IT Act by taking incorrect average margin of 18.76% [which includes M/s. Premier Ltd., which does not satisfy the tests of comparability] as against the correct average margin of 6.40% of the comparable companies. 9. Without prejudice to the above, assuming without conceding that M/s. Premier Ltd. is a comparable Company, the Honourable DRP is not justified in upholding the action of the Learned TPO in computing arm's length price under Section 92CA of the IT Act by taking incorrect average margin of 18.76% as against the correct average margin of 8.98% of the comparable companies. 10.The Honourable DRP is not justified in upholding the action of the Learned TPO in denying adjustment in respect of under utilization of capacity while determining the ALP by perversely stating that there is no reliable information regarding the under utilization of capacity despite Appellant having furnished the Chartered Engineering Certificate and related information. 11.The Honourable DRP is not justified in perversely stating that the Appellant's data are not reliable without finding specifically any particular item of data as being not reliable or incorrect. 12.The Honourable DRP ....
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.... Cost 28,31,58,271 4,74,68,913 Operating Profit / Cost (-) 11,23,46,850 4,56,68,176 OP/OC % 48.64% -- OP / Sales % -- 49.03% During the year under consideration, the assessee has reported the following international transactions :- Transaction Amount Rs. Purchase of components 10,45,52,930 Sale of goods 10,70,14,327 Import of finished goods 1,38,99,316 Purchase of capital goods 1,07,13,580 Receipt on account of provision of services. 2,27,95,313 Interest paid on loan (6 month Euribor + 50 basis points - total interest rate is 1.46%) 35,79,962 Reimbursement of expenses paid 2,31,51,238 Total : 28,60,06,666 4.2 In the T.P. Documentation submitted to the TPO, the assessee had mentioned that it is into both manufacturing and trading activities and that the segmental details were mentioned separately for each segment. The assessee adopted TNMM as the Most Appropriate Method ('MAM') to determine the ALP of the international transactions in the manufacturing segment and adopted RPM as the MAM to determine the ALP of the international transactions in the trading segment. The assessee conducted a search process and selected a set of 16 comparable companies wit....
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....nancial data for the current year, i.e. F.Y.2009-10 was available in the TP document and he therefore accepted only 7 companies as comparable out of the 16 companies selected by the assessee. The list of 7 comparable companies selected by the TPO are as under :- Sl.No. company PLI (OP/OC %) 1. Cmi FPE Ltd. 11.82 2. English Tools & Castings Ltd. - 15.86 3. Kabra Extrusion Technik Ltd. 17.99 4. Mitsubishi Heavy Industries India Precision Tools Ltd. 1.65 5. Solitaire Machine Tools Ltd. 9.65 6. Lakshmi Machine Works Ltd. 9.86 7. Premier Ltd. 32.22 Average 13.57 4.6 Accordingly the TPO completed the ALP of the international transactions pertaining to the manufacturing segment as under :- Operating Cost Rs.32,42,20,711 Arm's Length Margin 13.57% of Operating Cost Arm's Length Price @ 113.57% of operating cost Rs.36,82,17,461. Price Received Rs.25,20,15,283 Shortfall being adjustment u/s.92CA Rs.11,62,02,178 The aforesaid adjustment of Rs. 11,62,02,178 as proposed by the TPO was incorporated by the Assessing Officer in the draft assessment order dt.8.2.2014. The assessee's objections filed before the DRP were disposed off by ....
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....bility analysis. 7.2 Per contra, the learned Departmental Representative supported the orders of the authorities below in including this company as a comparable to the assessee in the case on hand. 7.3.1 We have heard the rival contentions and perused and carefully considered the material on record. Admittedly, this company was selected as a comparable company by the assessee itself in its T.P. Study as it satisfies all the criteria for comparability adopted by the assessee. In fact, the TPO has accepted all the comparables adopted by the assessee which had the current financial year data. 7.3.2 Before us, the assessee has not brought on record any material or evidence to substantiate its claim that this company is not comparable to the assessee. The assessee has also not brought on record any factors that have changed the circumstances from the time when the assessee has adopted this company as a comparable, that has since rendered this company as not comparable to it. It is nobody's case that this company has to be taken as a comparable merely because the assessee has chosen this company as a comparable in its T.P. Study. However, the onus is upon the assessee to establish wit....
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....record. It is not in dispute that the assessee had furnished the segmental details related to the manufacturing and trading segments. The TPO had pointed out certain anomalies / defects in the segmental details furnished by the assessee in the T.P. Study vis-à-vis details furnished during T.P. proceedings. The assessee was asked to explain the anomalies and it has furnished its explanation in this regard. In the show cause notice, the TPO had proposed to re-cast the segmental financials of the assessee and had proposed the margin of (-) 43.5% for the manufacturing segment and 48.5% for the trading segment. 8.2.2 After seeking the explanation of the assessee for the anomalies in the details furnished and proposing to recast the segmental details, the TPO ought to have either accepted the explanations furnished by the assessee or adopted the recast segmental details proposed by him after rejecting the explanations of the assessee. Instead of adopting either of the two, the TPO proceeded to consider the financial results at the entity level, without adducing proper reasons. In this factual matrix, we are unable to agree with the stand of the TPO. It is settled principle, uphel....
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....e submitted a certificate from a Chartered Engineer giving details of the capacity to produce various types of machines and their utilization thereof. However, the DRP upheld the decision of the TPO and rejected the assessee's claim of under-utilisation of capacity. 10.3 Aggrieved by the decision of the authorities below in turning down its claim for adjustment on account under-utilisation of capacity, the assessee submitted detailed written submissions and also submitted copies of the decisions relied upon by the assessee. It was contended that the assessee is entitled for under-utilisation of capacity and the TPO has wrongly disallowed the claim for adjustment by stating/observing that there was no reliable information regarding the under-utilisation of capacity. In this regard, a Chartered Engineer certificate was submitted before the DRP; which was disregarded. In support of its contentions, the assessee placed reliance on the following decisions :- (i) DCIT V Petro Araldite P. Ltd. (2012) 148 ITD 182 (Mum-ITAT); (ii) Genisys Integrating Systems (India) Pvt. Ltd. (2012) 15 ITR (Trib.) 475 (Bangalore). 10.4.1 We have heard the rival contentions and perused and carefully ....
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....nd the same to be acceptable holding that the under utilization of capacity results in under recovery of fixed expenses like depreciation and if the depreciation is excluded, the effect of difference in capacity utilization on profit margin can be nullified. Before we proceed to deal with the issue of adjustment for difference in capacity utilization, it is necessary first to see the procedure laid down for carrying out the exercise of comparability analysis and making suitable adjustments. This procedure as laid down in section 92-C of the Act provides that the ALP in relation to an international transaction shall be determined by any of the methods specified therein, being the most appropriate method and the manner in which the said ALP has to be determined is given in section 92-C(2) of the Act read with Rule 10B of the Income Tax Rules, 1962 in respect of each method separately. Clause (e) of Rule 10-B stipulates the manner in which the ALP in relation to an international transaction is to be determined by following the transactional net margin method as under:- "(e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an int....
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....ate of allocation or absorption of fixed overheads to sales comes down resulting into higher profit margin. The following simple example would further explain this position: Installed capacity in monetary terms Rs. 10 crores Rs. 10 crores Rs. 10 crores Capacity utilisation 50% 60% 80% Sales Rs. 5 crores Rs. 6 crores Rs. 8 crores Variable overheads at 50% Rs. 2.5 crores Rs. 3 Crores Rs. 4 crores Fixed overheads Rs. 2 crores Rs. 2 crores Rs. 2 crores Net profit Rs. 0.5 crores Rs. 1 crore Rs. 2 crores Profit margin (OP/Sales) 10% 16.67% 25% 21. The above example shows that the profitability changes with the change in the level of capacity utilization with higher profitability at higher utilization and lower profitability at lower realization. This happens mainly because of higher allocation or absorption of fixed overheads at lower capacity utilization which comes down as the level of capacity utilization goes up. For instance, as given in the above example, the rate of allocation or absorption of fixed overheads to sales is 40% at 50% capacity utilization while it becomes 33.33% at 60% capacity utilization and 25% at 80% capacity utilization giving more p....
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....tment to the net profit margin of the assessee as referred to in clause (e)(i) of sub Rule (1) of Rule 10B, which in our opinion, is not permissible in accordance with clause (e)(iii) of sub Rule (1) of Rule 10B. 23. The question that now arises is what is the proper method of making adjustment for difference in capacity utilization within the frame work given in Rule 10B. As already discussed by us, the difference in capacity utilization affects the profitability mainly because of the difference in rates at which the fixed overheads are absorbed or allocated depending on the level of capacity utilization. The example given by us clearly depicts this position. The said example shows that the allocation of fixed overheads at the capacity utilization of 50%, 60% & 80% is 40%, 33.33% & 25% respectively resulting in the profit margin of 10%, 16.67% and 25%. In our opinion, if the fixed overheads allocation or absorption of comparable is brought at the level of the assessee , it would nullify the effect of difference in capacity utilization on the profit margin. For example, if we take the profitability working at 50% capacity utilization as that of the tested party and at capacity uti....
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....d comparables. 26. In so far the present case is concerned, it is observed that depreciation claimed by the assessee is Rs. 6.15 crores which is 4.26% of its operating cost of Rs. 144.13 crores. If the depreciation in case of a comparable is allowed at the same rate i.e. 4.26% of its operating cost instead of the actual depreciation claimed, if it is lower, this adjustment, in our opinion, will take care of difference in capacity utilization. We accordingly set aside the impugned order of the ld. CIT(A) excluding the depreciation entirely for the purpose of computing operating profit and direct the A.O. to make the adjustment as given above for difference in capacity utilization after verifying the stand of the assessee that the capacity utilization of comparable company finally selected viz. Rasin Plastic Ltd. was more by 10-15%than that of the assessee during the year under consideration. Ground No. 1 of the Revenue's appeal is thus partly allowedwhereas ground No. 2 & 3 are dismissed." 10.4.5 In the above cited case of the Mumbai Tribunal i.e. ;Petro Araldite P. Ltd. (supra), the Tribunal has upheld the principle that adjustment for capacity underutilisation can be granted. Ha....
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....e a wrong assumption to make that the comparable companies are all operating to their full installed capacity. The capacity to which the manufacturing units can be reasonably expected to operate is the optimum capacity and this can / will vary from industry to industry. It is essential to understand the capacity at which the comparable companies operated during that relevant period. The capacity at which the comparable companies operate has to be compared with the capacity utilization of the assessee to evaluate the under-utilisation of capacity, in the case on hand. 10.4.8 From the cost sheet submitted, it is seen that the assessee has compared all the non-operating expenses of the assessee with that of the comparable companies to quantify the adjustment. This is not in keeping with the judicial decision cited above i.e. Petro Araldite P. Ltd. (supra). In this decision, the ITAT, Mumbai Bench has classified the costs into fixed and variable costs and has allowed the allocating of fixed overhead costs for the purposes of computing of the capacity utilization adjustment. The underlying principle is that if the manufacturing unit operates at less than optimum capacity, then it will ....
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....ons cited pertain to the period prior to the retrospective amendment in section 92C(2A) of the Act and are not applicable to the facts of the assessee's case. In view of the amendment brought about therein by Finance Act, 2012, this ground raised by the assessee is not maintainable and is accordingly dismissed. 12. Ground No.14 : Set off of carry forward losses. 12.1 In this Ground, the assessee contends that it has been wrongly denied the benefit of set off of carried forward losses to the extent of Rs. 1,16,71,624 by the authorities below. Since we find, from a perusal of the orders of assessment, that this issue has not been addressed by the Assessing Officer, we direct the Assessing Officer to examine and verify the assessee's claim for set off of carried forward losses in accordance with law, after affording the assessee adequate opportunity of being heard in the matter. 13. In Ground No.15, the assessee denies itself as being liable to be charged interest under Section 234B and 234D of the Act. The charging of interest is consequential and mandatory and the Assessing Officer has no discretion in the matter. This proposition has been upheld by the Hon'ble Apex ....
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.... gain/loss has arisen as a consequence of the realization of the consideration in the course of business operation for rendering software development of the assessee and therefore there is no reason for its exclusion from the operating revenues for the purpose of calculating the operating margin of the assessee. The DRP in its order at para 3.2 thereof, following the order of the co-ordinate bench of this Tribunal in the case of SAP Labs India Pvt. Ltd. (supra) has held and directed the A.O. to consider foreign exchange fluctuation as operating in nature in respect of the assessee as well as the comparable companies while determining the margins in the case on hand. We find that this proposition has been upheld by a co-ordinate bench of this Tribunal in the case of NXP Semi Conductors India Pvt. Ltd. in IT (TP) A No.1662/Bang/2014 dt.12.8.2015 wherein at para 4.3 thereof it has been held as under :- " 4.3 We have heard the rival contentions and perused and carefully considered the material on record; including the judicial decisions cited and placed reliance upon. We observe that it has not been disputed that the foreign exchange gain/loss has arisen as a consequence of the realiz....