TaxTMI 
TaxTMI 
2019 (2) TMI 1666
X X X X Extracts X X X X
X X X X Extracts X X X X
....s and chemical specialties. As stated by the Transfer Pricing Officer, the overseas AEs of the assessee are in the business of production and distribution of flavours and fragrances for use in products relating to beauty, household, pharmaceuticals, food and drink industries with the support of centralized extensive research and development. For the assessment year under dispute, the assessee filed its return of income on 30th September 2013, declaring total income of Rs. 5,14,23,550. In course of the assessment proceedings, the Assessing Officer noticing that the assessee has entered into various international transactions with its AEs, made a reference to the Transfer Pricing Officer to determine the arm's length price of international transactions. In course of proceedings before him, the Transfer Pricing Officer not only called for various information/documents and examined them, but he also examined the transfer pricing study report furnished by the assessee. On examining the transfer pricing study report, he found that the assessee has benchmarked the international transactions relating to import and purchase of raw material, export of finished goods, payment for technica....
X X X X Extracts X X X X
X X X X Extracts X X X X
...., the turnover relating to common products which were also sold to the non-AEs amounted to Rs. 1.23 crore and the balance Rs. 9 crore are in relation to products exclusively sold to the AEs. He submitted, sales turnover relating to common products sold both to the AEs and non-AE constitutes 11% of the total sales to AEs located in different geographical locations. Whereas, sales of common products to non-AEs are in India only. He submitted, in respect of sales to the AEs, the assessee does not have to incur marketing cost. He submitted, in case of some products there could be difference in price due to volume and credit risk. He submitted, when the Transfer Pricing Officer has accepted the arm's length price of the products exclusively sold to the AE benchmarked by the assessee by applying TNMM, he should not have segregated a part of the transaction and benchmarked it applying CUP method. He submitted, under TNMM margin shown by the assessee at 8% is more than the mean margin of the comparables. Therefore, the transaction relating to sale of finished product to the AEs is at arm's length. Without prejudice to the above submissions, learned Authorised Representative submitt....
X X X X Extracts X X X X
X X X X Extracts X X X X
....h. He has only raised objections in respect of the turnover relating to specific finished products sold both to AEs and non-AEs. Upon verifying the price charged for such products to AEs and non-AEs, he has observed that the price charged to non-AEs is more than the price charged to AEs. Thus, he has made an upward adjustment of Rs. 73,04,480, to the price charged to AEs for sale of finished products. On a perusal of Annexure-1 to the order passed by the Transfer Pricing Officer, wherein, he has made comparative analysis of price charged to AEs and non-AEs for common products, it is noticed that he has short listed eight common products which were sold both to AEs and non-AEs. On a critical examination of the details mentioned in Annexure-1, it is noticed that except one non-AE in U.A.E., all other non-AEs are located in India. Whereas, the AEs are located outside India. Even, in respect of price charged to the solitary non-AE situated outside India, the Transfer Pricing Officer has compared it to the price charged for similar product to an AE in India. Therefore, in strict sense of the term, this particular sale of product Lemoncello to the AE in India cannot be termed as an inter....
X X X X Extracts X X X X
X X X X Extracts X X X X
....* differences in volume of both the transactions; * differences in the geographic markets; The reasons of difference in prices is tabulated below: Reasons for difference Export to AE Local Sales to third parties Level of Market There are different levels of market in the entire value chain. The Appellant sells manufactured products to third parties who are in the last step of the entire value chain vis-à-vis group companies who are in the second last step of the value chain. Functional differences Appellant is not required to undertake marketing functions, distribution and other sales related functions vis-à-vis sales to third parties, where the intensity of such functions are very high. Risks differences The market risk, business risk, inventory risk and capacity utilization risk (on account of large orders) and credit risk (supply to group company) in case of transactions with AE‟s are significantly lower as compared to the transactions with third parties. Therefore, considering the risk differences, the prices charged to third parties are higher than the prices charged to AEs in certain cases. Volume d....
X X X X Extracts X X X X
X X X X Extracts X X X X
....uantities is to the extent of 1,294 times to 11 times. It is noteworthy that the CUP analysis of common products sold to AE and Non-AE,one of the example taken from the facts of the case is that w.r.t. product "Damascenone Total‟, the assessee had sold 25 kg to a Non-AE at the rate of INR 38,000 per kg and sold 1,260 kg and 16,299 kg at the rate of INR 9,800 and INR 9,664 respectively to its AE namely, Firmenich Aromatics (China) Company Limited and Firmenich SA. Similarly, the assesee has sold 50 kg of the same product at the rate of INR 36,408 to other AE. Thus, TPO erred in comparing small; quantities with large quantities, thereby ignoring the volume difference. We also noted that when the quantity sold to a Non-AE is higher than that sold to an AE, then the price charged from the AE is more than non-AE. The assessee also explained that this would show that the comparison done by the TPO is wholly erroneous. 10. Further according to us, differences in the geographic markets - export prices of same products are bound to be different in different geographical locations / markets, as these prices are factor of raw material prices in those respective locations and al....
X X X X Extracts X X X X
X X X X Extracts X X X X
....o 3.17 which read as under : "3.15 The assessee submitted that the TPO also disregarded and ignored Tribunal rulings which have laid down principles that the transactions will not be considered as similar for the purpose of benchmarking transactions under CUP method merely on account of similar products sold to AEs to third parties. These rulings are as under: * Intervet India Private Limited Vs ACIT (ITA No.3185/Mum/2006 * ACIT Vs. Dufon Laboratiories (2010-TII-26-ITAT-MUM-TP) * Ranbaxy Laboratories Ltd. Vs. Asstt. CIT (208-TII-01-ITAT- DEL-TP) * Gharda Chemicals Ltd. Vs. The Deputy Commissioner of Income tax (ITA No.2242/MUM/06) * Schutz Dishman Biotech Pvt. Ltd. Vs. DCIT (ITA No.3590 & 3751/Ahd/2007) ITA No.477/PUN/2015 * Dresser-Rand India Pvt. Ltd. Vs. ACIT (ITA No.8753/Mum/2010 AY 2006-07) * Aztec Software and Technology (ITAT Bangalore) and MSS India Pvt. Ltd., (ITAT, Pune). * DCIT Vs. Quark Systems (P) Ltd. (ITAT No.100/Chd/2009 - AY 2004-05) and Quark Systems (P) Ltd. ITO (ITA No.115/Chd/2009 - AY 2004-05) 3.16 The assessee has submitted that for AY 2006-07, 2007-08 and 2008-09, on si....
X X X X Extracts X X X X
X X X X Extracts X X X X
....oes not call for any interference. Accordingly, the ground raised by the Revenue is dismissed". 13. Further, Hon‟ble Bombay High Court dismissed the appeal of the Department filed by the Department against the ITAT‟s order and noted that in this case, since the finished goods are customized goods and the geographical differences, volume differences, timing differences, risk differences and functional differences, the CUP method would not be the most appropriate method to determine the ALP. It upheld the stand of the assessee that TNMM is the most appropriate method to arrive at ALP. This judgement is reported as PCIT Vs. M/s. Amphenol Interconnect India Pvt. Ltd., (supra). 14. In view of the above facts of the case and the issue being covered by the decision of the Co-ordinate Bench of the Tribunal in the case of PCIT Vs. M/s. Amphenol Interconnect India Pvt. Ltd., (supra)and which is affirmed by the Hon‟ble Bombay High Court, respectfully following the same we delete the addition and allow this issue of assessee‟s appeal." 9. The principle/ratio laid down by the Co-ordinate Bench in the aforesaid decision squarely applies to the facts o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....serving that the assessee might be getting some technical input to run his manufacturing plant, he ultimately held that 10% of the royalty paid to the AEs can be allowed. Therefore, he proposed an adjustment of Rs. 20,76,49,475, after determining the arm's length price of royalty paid to the A.E. at Rs. 2,30,72,163. Without prejudice to above finding, he observed that the arm's length price of the royalty paid to the AEs can be determined at 1% on net value added sales as per three similar agreements between unrelated parties which, according to the Transfer Pricing Officer, can be used as external CUP. On the basis of transfer pricing adjustment proposed by the Transfer Pricing Officer, the Assessing Officer made the addition in the draft assessment order. Though, the assessee objected to the transfer pricing adjustment made on account of royalty payment to the AE before the DRP, however, it was unsuccessful. 12. The learned Authorised Representative submitted, identical issue has been decided in favour of the assessee in its own case by the Tribunal in assessment year 2012-13, vide ITA no.2590/Mum./2017, dated 23th July 2018. He submitted, facts being identical, Tribun....
X X X X Extracts X X X X
X X X X Extracts X X X X
....from time-to-time. The transactions in the impugned assessment year were under a license agreement executed on 1st April 2009. Though, the assessee was required to pay royalty @ 5% on local sales and @ 8% on export sales, net of Indian taxes, however, there is no major change in the terms of the contract, except for the fact that the in the impugned assessment year, the assessee has paid royalty on the gross sales instead of net sales as was done in the preceding assessment years. In the transfer pricing study the assessee has benchmarked the royalty payment by applying TNMM as the most appropriate method and has aggregated it with other international transactions in the manufacturing segment with operating profit / sales as the profit level indicator. The assessee has selected a set of six comparables with average margin of 7.40% as against its own margin of 5.23%. Hence, the arm's length price of the international transaction was claimed to be at arm's length. Notably, the Transfer Pricing Officer has accepted assessee‟s benchmarking by apply TNMM in respect of all transactions in manufacturing segment except payment of royalty. Pertinently, on a perusal of the orde....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... ii) Resale Price Method; iii) Cost Plus Method; iv) Profit Split Method; v) Transactional Net Margin Method; and vi) Such other methods, as may be prescribed by the Board. 12. Rule 10B of Income Tax Rules, 1962 (for short "the Rules"), provides the mechanism for determination of arm's length price under the aforesaid methods prescribed under section 92C of the Act. If the Assessing Officer in course of assessment proceedings finds that the assessee has entered into international transactions with its AE, he may with the previous approval of the authority concerned make a reference to the Transfer Pricing Officer under section 92CA(1) of the Act to compute the arm's length price of the international transaction by applying any of the methods prescribed under section 92C of the Act. After receiving such a reference from the Assessing Officer, the Transfer Pricing Officer is required to determine the arm's length price of the international transaction as per the provisions contained under section 92C and 92CA of the Act read with relevant rules. Thus, as could be seen from the reading of the aforesaid provisions, the duty....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e considered the submissions made by learned counsels from both the sides and perused the orders of departmental authorities as well as other materials on record. We have also carefully examined the decisions placed before us. At the outset, it needs to be mentioned, the only dispute arising for consideration before us is determination of ALP of royalty at 2% by TPO as against 3% claimed by assessee. Undisputedly, assessee on 01/04/2009 has entered into a royalty agreement with its AE, RAK, UAE. As per clause 1.1 of the agreement, RAK, UAE will provide the technology assistance and on-going process, product improvement and complete know-how assistance to assessee. Clause 2.1 of the agreement stipulates, assessee shall manufacture the products in keeping with the highest quality standards, rules, and specifications internationally available and in accordance with guidelines established from time to time by RAK, UAE. Further, assessee shall use apparatus, ancillary equipment, accessories and materials that will ensure that such standards, rules, specifications and guidelines are met. Clause 3.1 of the agreement provides, in consideration of the ongoing technical assistance on process....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... TPO has not brought any material to controvert assessee's claim of receiving pecuniary benefit from the technical know-how provided by AE, in terms of sizeable sales, garnering of creditable market share, minimal product recalls, low after sales maintenance cost etc. but he tried to overcome it by observing that such increase in sale is as a result of increase in advertisement & marketing expenses and also on payment of commission and discount. TPO observed, upgradation in technical expertise of AE is as a result of inputs by the assessee with regard to market trends in India. TPO also observed that royalty payment will also depend upon market share, which according to TPO, RAK, UAE is not having. Thus, TPO finally concluded as assessee has failed to satisfy the benefit test, payment of royalty at 3% on net sales to AE is not justified. TPO, therefore, held that arm's length percentage of royalty payment should be 2%. 10. We are really surprised to see the reasoning of TPO in fixing the ALP of royalty payment at 2%. It is manifest from TPO's order he has rejected assessee's TP analysis under TNMM. Further, in para 6.4 of his order, TPO has mentioned of und....
X X X X Extracts X X X X
X X X X Extracts X X X X
....rved that the impugned royalty was paid by the assessee company to its AE namely Castrol Ltd. UK at 3.5 % of the net exfactory sale price of products manufactured and sold in India as per the technical collaboration agreement. This internatio-nal transaction involving payment of royalty to its AE was bench-marked by the assessee by following CUP method in its TP study report and since average rate of royalty of three comparables selected by it was higher at 4.67% than the rate at which royalty was paid by the assessee to its AE, the transaction involving payment of royalty was claimed to be at arm's length. A perusal of the order passed by the TPO u/s 92CA (3) of the Act shows that neither these comparables selected by the assessee in its TP study report were rejected by her nor any new comparables were selected by her by making a fresh search in order to show that the payment of royalty by the assessee to its AE was not at arm's length. She simply relied on the approval of SIA to hold that any royalty paid by the assessee on exports and other income was not allowable and disallowed the royalty payment to the extent of Rs. 40,51,486/- treating the same as the royalty paid b....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ng royalty but only objects to the quantum. Further, quantum increase in sale with no apparent increase in production, minimal product recalls, low after sales maintenance cost certainly goes to prove assessee's claim that these could be achieved due to utilization of advanced technical know-how transferred by AE. The TPO has not been able disprove these facts with any sound argument. Considering the totality of facts and circumstances, we are of the opinion, reduction of rate of royalty by TPO from 3% to 2% is without any basis, hence, cannot be accepted. Accordingly, we delete the addition made on account of TP adjustment to royalty payment. Grounds raised are allowed." 14. The aforesaid view of the Tribunal, Hyderabad Bench, was affirmed by the Hon'ble High Court of Telangana and Andhra Pradesh, in ITTA no.590/2016, dated 23rd December 2016. While upholding the decision of the Tribunal, the Hon'ble High Court held as under:- "Having considered the rival submissions, we find that the assessee offered two transfer pricing studies in relation to payment of royalty. In so far as the acceptable study adopting the Comparable Uncontrolled Price method is c....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... assessee‟s sales and profit. Above all, there is no explanation forthcoming as to why the TPO decided upon 2% instead of the contractual rate of 3% for payment of royalty. No reason is offered by the TPO for picking on 2%. This whimsical fixation by the TPO amounts to an arbitrary and unbridled exercise of power. In consequence, we find that the TPO having rejected the comparables cited by the assessee, did not take the trouble to examine alternate comparables so as to justify reduction of the rate of payment of royalty and by applying a wholly inapplicable methodology of determining the benefit from payment of such royalty, he capriciously reduced the rate for payment of such royalty from 3% to 2%. On the above analysis, we find no grounds to interfere with the cogent and well reasoned order passed by the Tribunal. No question of law, much less a substantial question of law, therefore, arises for consideration in this regard." 15. The same view has also been expressed by the Tribunal, Delhi Bench, in case of Reebok India Co. (supra). As could be seen from the facts of the present case, there is no dispute that the assessee by virtue of a license a....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the parties relating to such agreement are located outside India, hence, are not governed by Indian rules and regulations. The aforesaid objection of the assessee has neither been dealt with nor controverted by the Transfer Pricing Officer. Thus, when the comparable proposed by the Transfer Pricing Officer are in different geographical location we do not understand how they can be compared to the assessee. It is further necessary to observe that the payment of royalty by the assessee in the preceding assessment years, though, identical in nature but they have been accepted by the Transfer Pricing Officer in course of Transfer Pricing proceedings from assessment year 2006-07 onwards. This is evident from the Transfer Pricing Officer‟s order passed for the assessment year 2010-11 and 2011-12, copies of which are placed before us. Further, the Transfer Pricing Officer having not determined the arm's length price in conformity with statutory provision and in the process having failed to demonstrate that arm's length price shown by the assessee is incorrect, the contention of the learned Departmental Representative to restore the issue to Transfer Pricing Officer for fresh....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e Resolution Panel has erred in upholding the action of the Transfer Pricing Officer in making adjustment to the entire amount of interest on External Commercial Borrowings ("ECB") in A.Y. 2013-14 only without appreciating the fact that the entire interest amount has been debited to "Capital Work in Progress" Account and is neither debited to the Profit & Loss Account nor claimed as deduction by the Appellate in the return of income filed for A.Y. 2013-14. 3.4 Without prejudice to Ground nos.3.1 and 3.2 of the original Grounds of Appeal and addition Ground of Appeal no.3.3, the adjustment, if any for the interest on ECB can be made only after the amount is capitalized under "Fixed Asset" by the Appellant and depreciation is claimed on the same." 19. He submitted, since the additional grounds have a crucial bearing on the issue, they should be admitted. In this context, he relied upon certain judicial precedents. 20. The learned Departmental Representative strongly opposing the admission of additional grounds submitted, at no stage, the assessee has raised the issues raised in the additional grounds. He submitted, the issues raised in the additional grounds are not pu....
X X X X Extracts X X X X
X X X X Extracts X X X X
....uire examination of fresh facts which have not been examined at any stage, the additional grounds cannot be allowed. After examining the factual and legal position relating to the admission of additional grounds, we are of the view that taking a decision on the additional grounds raised by the assessee requires examination / verification of fresh facts relating to utilization of loan, etc., which have not been examined at any stage. That being the case, we decline to admit the additional grounds raised by the assessee at this stage. 24. Having held so, it is necessary to examine whether the benchmarking of the Transfer Pricing Officer insofar as it relates to interest payment to the AE on ECB loan is correct. On perusal of the facts and material on record, we are of the view that determination of arm's length price of interest charged on ECB loan at USD LIBOR rate plus 143.62 basis points is arrived at on the basis of average of 46 companies in Bloomberg Database. From the discussion of the Transfer Pricing Officer in the Transfer Pricing order it is not clear whether the Transfer Pricing Officer has obtained all the data relating to 46 comparables, such as, the nature of lo....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... by the AE. Further, the Transfer Pricing Officer called upon the assessee to explain why the arm's length price of software charges should not be taken as nil in case the assessee fails to substantiate that the services were availed by it. Though, in replies dated 8th September 2016 and 20th September 2016, the assessee apart from furnishing documentary evidences justified its claim that the payment made to the AE for usage of software charges is at arm's length, however, the Transfer Pricing Officer did not find merit in the submissions of the assessee. He observed, the assessee has failed to prove with supporting evidence the fact that the AE has provided the services to the assessee. Thus, the claim of the assessee that payment to the AE is at arm's length cannot be accepted. Having held so, the Transfer Pricing Officer proceeded to determine the arm's length price of the software usage charges paid to the AE on estimate basis by applying the man-hour rate of Rs. 8,500 per hour for two man-hour a day. Accordingly, he determined the arm's length price of I.T. services rendered by the AE for maintaining software at Rs. 62.05 lakh. Further, he estimated a sum o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....t the assessee failed to furnish any evidence to substantiate its claim that the payment made to the AE for availing Information System Services, however, the material on record reveal that the assessee has not only undertaken a bench marking process for determining the arm's length price of the transaction in the transfer pricing study report which was filed before the Transfer Pricing Officer, but, other relevant and necessary documents like copy of the agreement, invoices raised, certificate from independent Chartered Accountant Firm, KPMG, details of users were also furnished before the Transfer Pricing Officer. Therefore, the allegation of the Transfer Pricing Officer that the assessee has not furnished the necessary details is not totally correct. In any case of the matter, non-furnishing of certain documentary evidences, as alleged by the Transfer Pricing Officer, does not empower him to embark upon determining the arm's length price of the international transaction on estimation basis. Further, a reading of the Transfer Pricing Officer‟s order makes it clear that his finding on the issue is contradictory. On the one hand, he has observed that the assessee has ....