TaxTMI 
TaxTMI 
2022 (8) TMI 481
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....ares. The Assessee manufactures Extruders and Parts and Elements for Extruders. M/s Steer Japan Corporation (hereinafter referred as "Steer Japan" for brevity) and M/s Steer America Inc (hereinafter referred as "Steer America" for brevity) are both 100% subsidiaries of the Assessee and act as distributors in Japan and America respectively for the products manufactured by the Assessee. Steer China Corporation (hereinafter referred as "Steer China" for brevity) manufactures full range of extrusion lines, twin screw compounding extruders and CNC Wire EDM machines. During the relevant previous year, Steer China operated as distributor for products manufactured by the Assessee. Steer China is a wholly-owned subsidiary of Chindia Company Limited, Hong Kong (hereinafter referred as "Chindia" for brevity) which is a wholly owned subsidiary of Steer Engineering Private Limited. Chindia is an investment company. 4. There is no dispute that (i) Steer Japan Corporation, Japan, (ii) Steer America Inc., USA and (iii) Steer China Corporation, China, were associated enterprise(AE) within the meaning of the term as defined in Sec.92A(1) of the Income Tax Act, 1961 (Act). In terms of Sec.92(1) of....
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.... right to file objections before the Dispute Resolution Panel (DRP) u/s.144C of the Act. Under section 144C(5), the Dispute Resolution Panel (DRP) shall issue the directions, as it thinks fit, for the guidance of the AO to enable him to complete the assessment after considering report of TPO. The AO passes a final assessment order on the basis of directions of the DRP. In case the Assessee chooses not to filed objections before the DRP to the draft assessment order within the time required u/s.144C of the Act, the AO passes a final assessment order. The Assessee has a right of appeal against the said order to the CIT(A), which course the Assessee has adopted in the present case. 5. During the previous year, the Assessee entered into the following international transactions with its AE: Sl. No Name of Associated Enterprises Nature of Transactions Value (INR) 1 Steer Japan Corporation Sale of Extruders / Parts and Elements of Extruders 124,631,529 2 Steer America Inc Sale of Extruders / Parts and Elements of Extruders 167,037,028 3 Steer China Corporation Sale of Extruders / Parts and Elements of Extruders 4,091,356 4 Steer Chi....
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.... of net operating margins on comparable companies was 6.16 per cent. 7. Computation of operating margin of Steer India: The net operating margin of the Steer India based on the financial statements for financial year 2011-2012 keeping the above PLI was tabulated by the Assessee in it's TP analysis as given below: Particulars Total (INR) Operating Revenues: Revenue from operations 787,483,935 Other operating income 13,838,634 Total 801,322,569 Operating cost: Material consumption 269,861,504 Manufacturing and Operating Expenses 443,542,009 Bank Charges 5,411,760 Depreciation 37,626,304 Total Operating Cost 756,441,577 Operating Profits 44,880,992 Net Operating Profit/Operating Cost 5.93% 8. Since the operating profit margin of the Assessee was within the arm's length range of comparable companies, the Assessee claimed that the price received in the international transaction was at Arm's length. The second provisio to Sec.92C(2) provides that if arm's length price determined and price at which the international transaction has actually been undertaken does not exceed such percentage o....
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....e products manufactured by the Assessee. During the year under consideration, Steer China also operated as a distributor for products manufactured by Assessee in China apart from performing manufacturing activity for part of the year. The transactions of sale and purchase of extruders and parts and elements of extruders, commission on sales, purchase of fixed assets and services received were considered as closely linked transactions. Therefore, the Assessee evaluated the international transactions by adopting Combined Transaction approach at entity level. This was for the following reasons: i. The transactions between the Appellant and its associated enterprises are two ways i.e. purchase as well as sale. ii. The comparable transactions are also available only at the entity level and not at individual transaction level; and iii. The net profit at an entity level would broadly justify the intrinsic value of all the underlying transactions particularly when the organization views them as interdependent and integrated whole. Therefore, the Assessee submitted that due to the nature of transactions, performing transfer pricing analysis at entity level is t....
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....t of the Assessee and they are the only companies who are comparable to the Assessee in terms of their functions. The TPO also observed that export revenue filter of 75% cannot be adopted in the Assessee's case because, no comparables (Kabra Extrusion Technik Ltd's export revenue is 68% and Rajoo Engineers Ltd export revenue is 42%) will get selected and therefore export revenue filter of 25% is appropriate in the case of the Appellant. The TPO justified the allocation keys adopted by him. The TPO held that apportionment of cost based on revenue is valid as the Assessee himself had adopted entity wide analysis for benchmarking international transactions. The TPO also held that actual allocation of sales & marketing expenditure is valid as sales and marketing expenses are mainly incurred for earning revenue from international segment. Based on the above, learned TPO computed an adjustment u/s 92CA for manufacturing segment at Rs. 5,92,37,627/-. Following is the relevant extract of the TP Order: "4.1 The adjustment to international transactions is determined as under: Mean PLI of comparables A 6.16% Operating cost of tested party B 49,23,07,220 Arms ....
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....c and international transactions is without basis. Also, product profile/quality/nature varies for domestic and international transactions. Sales price, COGS and gross profit will therefore be different for both international and domestic markets. Therefore, the TPO's action of allocating all expenses on the basis of turnover was incorrect. Attention of the CIT(A) was drawn to note 25.9 of audited financial statement wherein only geographical split of revenue is provided. However actual profit from each geography is not given. This reflects that the Assessee as well statutory auditor are of the view that profit from reach geography cannot be computed with reasonable accuracy and they view them as single segment. In such circumstances arbitrary allocation of expenses by the TPO is bad in law and hence to be rejected. Relevant extract of the Annual Report is given below: It was further contended that the TPO has bifurcated expenses based on the ratio of turnover. However, the TPO has failed to appreciate that the basis for apportionment also included international transactions with AE's which itself is a tainted transaction. The TPO by allocating expenditure based on turnover, whi....
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....ight years, the Assessee has stayed invested in the US market in order to gradually build its market share and position in the US. During the relevant previous year, the Assessee held about 10% market share in US. Till 2009, US market grew in excess of 5% year on year (which is, about 250+ Extruders in a year). However, it added less than 100 Extruders each year over the last 5-6 years. In FY 2015-16 economic circumstances have improved and the business is showing an increasing trend. In the aftermarket (post sales) segment (Extruder Parts), the Assessee is consistently growing its market share in US using its 'made-in- India' Technology and is penetrating into being the 'preferred supplier' to the Top 25 Compounding Companies in the world. The Assessee tabulated below its sales trend and projection for sakes for US market: SALES TREND Financial Year Sales (INR Crs) 2011-12 16.70 2012-13 21.43 2013-14 33.32 2014-15 24.15 2015-16 50.03 PROJECTIONS FOR US MARKET INR Crores Sl. Particulars 2017-18 2018-19 2019-20 1 Sales 45.42 50.31 55.95 - Extruders 19.31 21.29 23.54 - Extrud....
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....America respectively for the products manufactured by the Assessee. During the year under consideration, Steer China has also operated as a distributor for products manufactured by the Assessee in China apart from the manufacturing activity for part of the year. During the year under consideration, the Assessee entered into following transactions with AE's: Sl. No. Nature of Transaction Amount 1 Sale of Parts and Elements of Extruders 29,57,59,913 2 Purchase of parts and elements of Extruders 61,48,295 3 Purchase of fixed assets 91,37,883 4 Purchase of intangibles 3,29,91,505 5 Payment of commission on sales 15,44,27,194 6 Reimbursement of sales promotion and other expenses 23,26,538 7 Interest received 8,11,791 21. The transactions of sale and purchase of extruders and parts and elements of extruders, commission on sales, purchase of fixed assets and services received were considered as closely linked transactions. Therefore, the Assessee evaluated the international transactions by adopting Combined Transaction approach at entity level. Following are the important reason for benchmarking international trans....
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....actions could be evaluated together using the most appropriate method. The relevant observations of the OECD are as below: "3.9 Ideally, in order to arrive at the most precise approximation of arm's length conditions, the arm's length principle should be applied on a transaction-bytransaction basis. However, there are often situations where separate transactions are so closely linked or continuous that they cannot be evaluated adequately on a separate basis. Examples may include: a) some long-term contracts for the supply of commodities or services, b) rights to use intangible property, and c) pricing a range of closely-linked products (e.g. in a product line) when it is impractical to determine pricing for each individual product or transaction. Another example would be the licensing of manufacturing know-how and the supply of vital components to an associated manufacturer; it may be more reasonable to assess the arm's length terms for the two items together rather than individually. Such transactions should be evaluated together using the most appropriate arm's length method. A further example would be the routing of a transaction through another associated e....
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....plied to work out the transfer pricing analysis. Where two or more transactions emanate from common source being an order or contract or an agreement or an arrangement, then such transactions could be said to be closely linked as the nature, characteristic and terms of such transaction substantially flow from the said common source." 24. It was submitted that the Assessee is a manufacturer of extruder and parts of extruder and the AE's act as distributor for such extruders and parts outside India. The products manufactured by the Assessee are being sold to AE, who in turn sell them to third parties. For remunerating the AEs for rendering distribution services, the Assessee has paid commission, which is part of business promotion expenses. In case of third party sales the Assessee performs similar functions. It manufacturers extruders and elements of extruders and sells directly to third parties/distributors. All the activities of the Assessee have similar functions and assets. These activities are governed by the same set of risk. These had therefore been grouped as single business segment and the TP analysis was conducted at entity level under combined transaction approach. In ....
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....axpayer. Rules has also spelt out that Geographical locations are one of the important comparability criteria's. If the comparability criteria's do not tally, then such uncontrolled comparable companies cannot be compared to the taxpayer. It was pointed out that the TPO has completely disregarded the above aspects. The TPO has stated that Tested Party should be selected first and comparables have to be searched later. The TPO has not appreciated that both the Assessee and TPO has selected the same tested party i.e. the Assessee. The Assessee has benchmarked the international transactions considering entity wide margins for the following reasons: • Only two comparables i.e. Kabra Extrusion Technik Ltd and Rajoo Engineers Ltd. are available in public database whose functions, risks and assets are similar to the Appellant [This is also accepted by the TPO in para 3.7 of the TP Order] • Both the comparables also have domestic sales and international sales, similar to the Appellant. Tabulated below is the details of domestic and international sales made by the Assessee and comparables during the year under consideration: [This is also accepted by the TPO in par....
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.... warranty commitments. Therefore, it would not be in the fitness of things for the sale of spare parts and components to be considered in isolation from the sale of manufactured vehicles. The ITAT held that on an overall consideration, it can be concluded that trading in spare parts is closely inter-linked with the manufacturing segment of the taxpayer. The ITAT held that no meaningful purpose would be served in segregating the trading and manufacturing segments particularly when the taxpayer and the comparable companies are at par with regard to the nature and scale of combined activities. 29. On the observations of the TPO that export revenue filter of 75% cannot be adopted in the Assessee's case because, no comparables (Kabra Extrusion Technik Ltd's export revenue is 68% and Rajoo Engineers Ltd export revenue is 42%) will get selected and therefore export revenue filter of 25% is appropriate in the case of the Assessee, the Assessee submitted that Rule 10B(2) and 10(3) of the Rules provide that, if uncontrolled comparable companies do not meet the comparability criteria or if the functional differences cannot be adjusted then such uncontrolled comparable companies cannot be s....
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....t turnover cannot be adopted for allocating all costs. Export and domestic markets have different product mix, different packing and documentation requirements and different cost of Goods sold. Alternatively it was submitted that the export sales to AE was only Rs.29.57 crores and the segmentation and operating profit margin of only export sales should be taken for the purpose of comparison both in the case of the Assessee as well as the comparables. It was submitted that in any event foreign exchange fluctuation gain has to be treated as part of the operating profit. The learned DR reiterated the stand of the revenue as contained in the order of the TPO. 32. We have given a careful consideration to the rival submissions. The issues that arise for consideration on determination of ALP on sale of extruders and parts by the Assessee to it's AE are: (i) Whether the profit margins for the purpose of comparison of Assessee's profit margin with that of the comparables has to be arrived at the entity level as was done by the Assessee or that part of the export sale to AE and non-AE as was done by the TPO or that part of the export sale to AE alone as was canvassed by the Assessee by....
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....[or the specified domestic transaction]; Rule 10A(d) defines transaction to include "a number of closely linked transactions". In terms of Rule 10B(1)(e) (i) of the Rules, the net profit realized by an enterprise from an international transaction has to be ascertained first. The Assessee in it's Transfer Pricing study at page-12 paragraph 4.5.5 has given reasons for choosing profit margin of Assessee at entity level for the purpose of comparison. It has been stated therein that the transactions of sale and purchase of extruders and parts and elements of extruders, commission on sales, purchase of fixed assets and services received were considered as closely linked transactions. Therefore, the Assessee evaluated the international transactions by adopting Combined Transaction approach at entity level. This was for the following reasons: i. The transactions between the Appellant and its associated enterprises are two ways i.e. purchase as well as sale. ii. The comparable transactions are also available only at the entity level and not at individual transaction level; and iii. The net profit at an entity level would broadly justify the intrinsic value of a....
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....4. The next part of the first issue is as to whether the profit margin of export sale including sale to AE and non AE or only export sale to AE ought to have been considered by the TPO. On this aspect we find that the revenue for the international segment is considered at Rs.43,54,22,715/- without appreciating the fact that Rs.43,54,22,715/- contains both sales made to AE and non-AEs. Perusal of Form 3CEB shows that sales made for the relevant previous year to AE was only Rs. 29,57,59,913/-. The AE ultimately sold these products to third parties. Therefore, considering whole of international segment for comparison is without basis. We therefore hold that the sale and proportionate expenses relatable to sale to AE alone has to be considered to arrive at the profit margin of the Assessee for the purpose of comparison of Assessee's profit margin. Similar exercise has to be carried out by the TPO with regard to the two comparable companies and the profit margin of the two comparable companies has to be arrived at by identifying expenses relatable to export sale to AE and for this purpose the TPO may exercise his powers u/s.133(6) of the Act and call for the required details from the th....
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....mparable companies which are admittedly comparable companies available for comparison, cannot be excluded on the basis of a filter which has no relevance to the factual scenario in the present case. 38. We direct the TPO to determine the ALP in accordance with the directions contained in this order after affording the Assessee opportunity of being heard. 39. The next issue that needs to be adjudicated in this appeal is with regard to correctness of determination of ALP in respect of provision of Corporate Guarantee by the Assessee to its AE. The law is by now well settled that providing corporate guarantee to AE is an international transaction and the provisions of Sec.92 of the Act are applicable to such transactions. The Assessee had given a gurantee in favour of SBI, Shanghai for a cash credit facility availed by Steer China in a sum of Rs.2,18,00,000. The Assessee did not charge any commission from Steer China for providing such guarantee and hence the TPO determined the ALP by obtaining credit rating and relevant interest rate of corporate bonds from CRISIL at arrived at 0.925% as the appropriate rate at which the Assessee ought to have charged guarantee commission from ....