TaxTMI 
TaxTMI 
2024 (6) TMI 1466
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....loyee stock compensation plan amounting to INR 40,88,471; 3. erred in holding that the above expenditure is capital in nature and accordingly not allowable under section 37 of the Act, ignoring the fact that said expense has been incurred wholly and exclusively for the purpose of the business of the Appellant; Deduction in respect of education cess and secondary higher education cess under section 37(1) of the Act 4. Based on facts and the circumstances of the case and in law, the Appellant prays that education cess and secondary higher education cess on income tax for the year under consideration ought to be allowed as a deduction under section 37(1) of the Act while computing the total income. PART II - TRANSFER PRICING ("TP") GROUNDS: General Ground: erred in law and on facts, in making Transfer Pricing adjustment of INR 6,19,06,837 pertaining to purchase of raw materials and sale of finished goods to AE under Manufacturing segment and Transfer Pricing adjustment of INR 35,67,86,587 towards selling, marketing and distribution expense incurred by the Appellant; Rejection of TP study of the Appellant 5. erred ....
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.... is audited, and the segmental reporting of the Company is in accordance with Accounting standard ("AS") 17; 12. erred in accepting the following companies as comparables on the ground that it passes RPT filter and disregarding that the said companies is not passing the e RPT filter and should be rejected: • Wockhardt Ltd • Strides Pharma Science Ltd 13. erred in accepting the following companies as comparables though the same is not functionally comparable to the Appellant's business; • Natural Remedies Pvt Ltd • JB Chemicals & Pharmaceuticals Ltd • Ipca Laboratories Ltd. • Alkem Laboratories Ltd. • Cipla Ltd. • Centaur Pharmaceuticals Pvt. Ltd. • Shilpa Medicare Ltd. • Natco Pharma Ltd. • Divi'S Laboratories Ltd. 14. without prejudice to above, DRP erred in upholding the TPO's action of considering the selling, marketing and distribution expense incurred by the Appellant, towards value added function under Advertising, Marketing and Promotion ("AMP") activity and not excluding the corresponding expense while ....
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.... considering comparables relating to manufacturing segment instead of trading segment for the purpose of determining the excess AMP expenditure incurred by the Appellant; 24. without prejudice to the above, the Ld. TPO should have considered comparables engaged in manufacturing for benchmarking AMP transaction for manufacturing segment and comparables engaged in trading for benchmarking AMP transaction for trading segment for the purpose of determining excess AMP expenditure incurred by the Appellant; 25. without prejudice to the above, erred in considering 'Other method' as the Most Appropriate Method ("MAM") and identified companies engaged in advertisement/ marketing support services as comparable to determine the ALP for comparability purpose; 26. Without prejudice to the above, erred by not appreciating that even if the incurrence of excess AMP expenditure is considered as cost, the net margin of the Appellant computed based on TNMM is higher than the net margin earned by comparable companies and meaning thereby that Appellant has already been adequately remunerated/ compensated for AMP as well. 27. erred in levying a mark up of 12.98% on ex....
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....r: 32. erred in not following the binding directions of the Ld. DRP as per provisions of Section 144C(10) of the Act and passing final assessment order exceeding jurisdiction, which is bad in law and is liable to be quashed; 2.2 At the time of hearing, these additional grounds are not pressed. Accordingly, these grounds are dismissed as not pressed. 3. In the main grounds, ground No.1 is general in nature, which do not require any adjudication. 4. Ground No.4 is not pressed, accordingly, dismissed as not pressed. 5. In ground No.5, the issue has been settled by APA entered between assessee and CBDT vide dated 16.6.2023 for the period from AY 2016-17 to AY 2020-21, wherein the issue in dispute in these grounds has been settled. Hence, these grounds are not pressed by assessee before us. Accordingly, dismissed as not pressed. 6. Ground Nos.2 to 3 are with regard to allowability of E-SOP expenses. 6.1 Facts of the issue are that the assessee company had debited a sum of Rs. 40,88,471/- towards employee stock Compensation Plan. The ld. AO had pressed to disallow the assessee's claim of expenses at Rs. 44,88,471/- in the draft assessment order. The ld. AO obse....
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....urred for the purpose of running of the business effectively as it helps to retain the employee talent, thereby reducing the attrition of employees and reducing the additional recruitment cost of hiring new employees, training the employees etc. 7.2 In this regard, he placed reliance on the decision of the Special Bench in the case of Biocon Ltd vs DCIT [2013] 35 taxmann.com 335 - (Jurisdictional Bangalore Tribunal) which has held that difference in the fair market value of shares and the amount at which shares are issued to employees under ESOP are employee cost. Hence, such expenditure is not in the nature of capital expenditure and the same needs to be allowed as revenue expenditure. Further, he submitted that the Special Bench has held that discount on issue of ESOP are to be allowed during the period of vesting. The relevant extract of the judgment has been provided below for our reference: "9.2.6 It is quite basic that the object of issuing shares can never be lost sight of. Having seen the rationale and modus operandi of the ESOP, it becomes out-and-out clear that when a company undertakes to issue shares to its employees at a discounted premium on a future date,....
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.... a contingent liability but is an ascertained liability. 10. From perusal of Section 37(1), which has been referred to supra, it is evident that an assessee is entitled to claim deduction under the aforesaid provision if the expenditure has been incurred. The expression 'expenditure' will also include a loss and therefore, issuance of shares at a discount where the assessee absorbs the difference between the price at which it is issued and the market value of the shares would also be expenditure incurred for the purposes of Section 37(1) of the Act. The primary object of the aforesaid exercise is not to waste capital but to earn profits by securing consistent services of the employees and therefore, the same cannot be construed as short receipt of capital. The tribunal therefore, in paragraph 9.2/7 and 9.2.8 has rightly held that incurring of the expenditure by the assessee entitles him for deduction under Section 37(1) of the Act subject to fulfillment of the condition." 7.4 Further, he submitted that the Hon'ble Bangalore Tribunal in the case of Kotak Mahindra Bank Ld. (ITA No. 934/Bang/2014) dated 5 August 2021 has followed the aforesaid Karnataka High Court ....
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.... price at which those shares were issued to its employees in India was paid to the employee and was an employee cost which is a revenue expenditure incurred for the purpose of the business of the company and had to be allowed as deduction. There is no reason why this expenditure should not be considered as expenditure wholly and exclusively incurred for the purpose of business of the assessee." (Emphasis supplied) 7.6 Similarly, Bangalore Tribunal in the case of Qlik Tech India Private Limited vs DCIT (ITA No.1140/Bang/2018) has relied on the judgment of jurisdictional co-ordinate Bench ruling in case of Novo Nordisk (supra) and Biocon (supra) and has held that expenditure claimed by the Company is not a capital expenditure and the same needs to be allowed as revenue expenditure. The relevant extract of the judgment has been provided below for our reference: "The facts in the present case and in the case of Novo Nordisk India Pvt. Ltd. Vs. DCIT (supra) are similar because in the case of Novo Nordisk India Pvt. Ltd. Vs. DCIT (supra) also, employees of its foreign affiliates of Novo Nordisk A/S, Denmark ("NNAS") were entitled to purchase shares of NNAS at a price less tha....
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....lowable as a deduction u/s 37(1) of the Act as the primary object is not to waste capital to earn profit by securing consistent service of employees. 9.1 In the present case also, assessee debited Rs. 40,88,471/- towards employee stock compensation plan. This expenditure has been incurred by assessee in relation to employees of the assessee and they are paid as incentive with a view to motivate and encourage the employees. Restricted Stock Units (RSU) were issued at discounted premium to the employees under the incentive plan to compensate the employees for the continuity of their services and the company had stated that it neither raised any share capital under the incentive plan nor issued shares to its employees out of its capital and hence, there is no change in the fixed capital of the assessee. In view this, it is allowable expenditure. However, we note that when assessee claims it as an expenditure as it is relating to the employees welfare, the assessee should have deducted the TDS subject to this claim of assessee is liable u/s 37 of the Act as held by Special Bench in para 11 to 11.5 of the order and confirmed by the Hon'ble Karnataka High Court in the case of Biocon L....
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....mount of INR 5.27 crores was pertaining to the Non-AE Segment. AMP expenses incurred by the Assessee are in the nature of external speaker fees, commercial sponsorship, hospitality, advertising production fees, audio visual & digital media materials, domestic traveling, air travel and other promotional cost. AMP not an international transaction in absence of an arrangement between the Assessee and AE 11.4 He submitted that the AMP expenses incurred by the Assessee cannot be considered as a separate international transaction as there is no arrangement/ agreement between the Assessee and its AE to incur such AMP expenses on behalf of its AE. In support of the above argument that AMP expense is not an international transaction, the Assessee submitted that Section 92B of the Act defines "international transaction" as under: "(1) For the purpose of this section and sections 92, 92C, 92D and 92E, "international transaction " means a transaction between two or more associated enterprises, either both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other tr....
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.... names, brand names, logo...." 11.6 Therefore, he submitted that it can be seen and interpreted that under the amended/expanded definition of the term "international transaction" the purchase, sale, transfer, lease or use of intangible property has been classified as an international transaction. Intangible property has been defined to include marketing related intangible assets such as trade-marks, trade names, brand names and logos etc. Accordingly. where two AEs engage in a transaction, which involves the purchase, sale, transfer lease or use of intangible property, the same shall be classified as an international transaction. Under Chapter X it is required that arm's length determination is undertaken for an "international transaction" and not a "function" of such transaction. Therefore, the Assessee submitted that every expenditure forming part of the function cannot be construed as a "transaction". 11.7 He submitted that the AMP expenses incurred by the Assessee are only for increasing the sales of the Assessee in India and thus the Assessee do not enhance the brand of the AE in India warranting any additional compensation. Such AMP expenses are routine in nature an....
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....e the AMP expenses and that even if AE was benefitted indirectly by the AMP expenditure incurred by Assessee, it could not be inferred that it had entered into an agreement for promoting AZ brand or sharing AMP expenses. Thus, it can be concluded that the selling and marketing expenses are incurred exclusively for furtherance of Assessee's own business. Thus, the AMP expenses incurred by the Assessee for its own business purposes does not tantamount to an international transaction. Presumption made by Ld. TPO/DRP that there is an arrangement 11.9 First and foremost the Assessee would like to submit that the aforesaid intercompany agreement was submitted to the Ld. TPO Annexure 2 to the response to show cause notice issued by the TPO dated 11 October 2019 at Pg. No. 2511 to 2563 of Factual paperbook. The Ld. AO after considering the said agreement was unable to prove from the clauses of the agreement that there is an arrangement and merely on the basis presumption has stated that there is an arrangement between the Assessee and its AE. He submitted that the same is clearly evident from the relevant extracts of the TPO order reproduced as under for our reference: (Para 7.1.1. t....
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....cted in the actual conduct of the parties substantially conform to the terms of any written contract, or whether the associated enterprises' actual conduct indicates that the contractual terms have not been followed, do not reflect a complete picture of the transactions, have been incorrectly characterized or labelled by the enterprises, or are a sham. Where conduct is not fully consistent with economically significant contractual terms, further analysis is required to identify the actual transaction. Where there are material differences between contractual terms and the conduct of the associated enterprises in their relations with one another, the functions they actually perform, the assets they actually use, and the risks they actually assume, considered in the context of the contractual terms, should ultimately determine the factual substance and accurately delineate the actual transaction". (paragraph 1.46 in Section D.1.1. of chapter 1 of OECD guidelines revised through BEPS final report)" 11.10 Therefore, despite being in possession of the intercompany agreement, the Ld. TPO was not able to prove that there was an arrangement and has proceeded on a presumption that the....
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.... AE for promotion of AE's intangibles in India. The relevant extracts reproduced as under for our reference: "2.4.4 The perusal of the agreement dated 24.3.2015 entered between the assessee and Astrazeneca AB substantiates the existence of an agreement/arrangement with AE for promotion of AE's intangibles in India " 11.13 However, the ld. A.R. submitted that the intercompany agreement referred to by the ld. DRP is not relevant in the current scenario. Therefore, despite being in possession of the intercompany agreement, the ld. DRP was not able to prove that there was an arrangement and has proceeded on a presumption that there is an arrangement between the Assessee and the AE for incurring AMP expenses on behalf of the AE. Thus, addition made on basis of such presumption is invalid and liable to be deleted. Thus, the Ld. TPO/ld. DRP has failed to prove that there is an arrangement between the Assessee and AE and thus, the transaction of AMP expense cannot be treated as a separate international transaction in absence of an arrangement between the Assessee and AE. In this regard, the he placed reliance on the Delhi High Court's ruling of Commissioner of Income tax Vs....
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....s acting in concert may cooperate in actual acquisition of shares etc. or they may agree to cooperate in such acquisition. Nonetheless, the element of the shared common objective or purpose is the sine qua non for the relationship of "persons acting in concert" to come into being." 37. The provisions under Chapter X do envisage a 'separate entity concept'. In other words, there cannot be a presumption that in the present case since WOIL is a subsidiary of Whirlpool USA, all the activities of WOIL are in fact dictated by Whirlpool USA. Merely because Whirlpool USA has a financial interest, it cannot be presumed that AMP expense incurred by the WOIL are at the instance or on behalf of Whirlpool USA. There is merit in the contention of the Assessee that the initial onus is on the Revenue to demonstrate through some tangible material that the two parties acted in concert and further that there was an agreement to enter into an international transaction concerning AMP expenses. Absence of an international transaction involving AMP expense 38. The clauses of the TLA which had been referred to in extenso by Mr. Srivastava go to show that Whirlpool USA was protec....
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....t to incur AMP expense between the assessee and the foreign AE either expressed or there must be circumstances indicating compulsion to incur AMP expenses.........As rightly contended by the assessee, this agreement cannot be construed as an arrangement for incurring AMP expenses for the following reasons. ...e. A mere acknowledgement by NEON that the Assessee incurs marketing expenses, cannot be construed to be as an arrangement between Assessee and NEON for incurring such expenses." Further, the agreement states that "the licensor acknowledges that licensee incurs significant marketing expenses which directly impacts licensee's net operating margin" - the same further strengthens the fact that the assessee is a full fledged distributor requiring to incur marketing related expenses to operate in a competitive market and does not in any way indicate a mandate from NEON to assessee to incur such expenses. Accordingly, we hold that no clause of the royalty agreement requires the assessee to mandatorily incur any AMP expenses in the absence of which it is very clear that no written agreement exists between the assessee and its AE requiring the assessee to incur t....
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....ses on behalf of the AE and thus, the AMP expenses incurred cannot be considered as an international transaction. New Product launch expense of INR 12,48,03,318 is a different transaction 11.18 The ld. A.R. submitted that the Ld. Department Representative during the course of hearing has argued that the said New Product launch expense of INR 12,48,03,318 is an AMP transaction. In this regard, he submitted that during FY 2014-15, the Assessee had entered into agreement with its AEs, as per the terms of which, the Assessee would receive reimbursement of certain costs incurred for marketing and promotion of new launch products. During FY 2015-16, INR 12,48,03,318 was incurred for marketing and promotion of new launch product. This cost was to be recovered from the Group companies after set off of any upfront fees received for the new launch products as per the Distribution and Services Agreement entered between the Assessee and third parties i.e. Sun Pharma Laboratories Ltd. and Dr. Reddy's Laboratories Ltd. 11.19 He submitted that during the year the Assessee had received upfront fees of Rs. 5,60,00,000 from Dr. Reddy's Laboratories Ltd. and Rs. 31,50,00,000 from Sun Pharma ....
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....herent to the transaction. For example, in a trading function the purchase of finished goods and the purchase of spares can be called closely linked. But where the functions are separate, the transactions cannot be stated to be closely linked. Therefore, law permits aggregation of international transactions with a safeguard in the word "closely", so that the concept the does not get unnecessarily stretched. This further corroborates the interpretation that the intent of the law is transaction by transaction approach and set off of on transaction against the other transaction is not permissible. There may not be a correlation between the international transactions related to the manufacturing and/or distribution activity of a taxpayer and the international transaction related to its AMP expense/marketing functions. For example, a taxpayer in India may be importing most of its finished goods from a contract manufacturer (non-AE) in China. A very small portion of the finished goods may be imported from the AE. But all the imported goods (both from AE and non-AE) may be sold in India under the AEs brand name. The Indian subsidiary will incur huge AMP expense that has no correl....
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....n to trading segment" (hereinafter referred to as 'OE2') means all the costs incurred in the previous year by the Applicant in relation to the trading segment during the course of its normal operations, including: (i)............................. (ii).............................. ............................... (xiii) cost incurred towards marketing, advertisement and business promotion activities in relation to the trading segment. Manufacturing Segment: (c) "operating expense in relation to manufacturing segment" (hereinafter referred to as 'OE1') means all the costs incurred in the previous year by the Applicant in relation to the manufacturing segment during the course of its normal operations, including: (i)............................. (ii).............................. ............................... (xiii) cost incurred towards marketing, advertisement and business promotion activities in relation to the manufacturing segment." 11.22 Further, he submitted that the APA agreement has determined the arm's length operating margin for the manufacturing segment at 9.70% and arm's length operating margin f....
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....6,82,028) Operating Cost (OC) M = F+G+H+I+J+K+L 64,12,06,612 3,50,12,06,803 Operating profit (OP) N = E - M -12,88,74,534 44,71,56,736 Operating profit/Operating revenue O = N/E -25.15% 11.33% Agreed margin as per APA (on operating revenue) 9.70% 6.50% Revised Operating Profit 4,96,96,212 - 11.24 In this regard, the ld. A.R. placed reliance on the Hon'ble Delhi High Court's ruling of Sony Ericsson Mobile Communications India Pvt Ltd vs. Commissioner of Income tax [374 ITR 118 (Del)], whereby the Hon'ble Delhi High Court has held the following: "101. However, once the Assessing Officer/TPO accepts and adopts TNM Method, but then chooses to treat a particular expenditure like AMP as a separate international transaction without bifurcation/segregation, it would as noticed above, lead to unusual and incongruous results as AMP expenses is the cost or expense and is not diverse. It is factored in the net profit of the interlinked transaction. This would be also in consonance with Rule 10B(1), which mandates only arriving at the net profit margin by comparing the profits and loss account of the tested pa....
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.... once the revenue accepts the entity level margins as per the most appropriate method, it would be inappropriate to treat a particular expenditure as a separate international transaction. It was held that such an exercise would lead to unusual and absurd results. Relevant observations from the above decision in this context are as under:- "101. However, once the Assessing Officer/TPO accepts and adopts TNM Method, but then chooses to treat a particular expenditure like AMP as a separate international transaction without bifurcation/segregation, it would as notice above lead to unusual and incongruous results as AMP expenses is the cost or expense and is not diverse. It is factored in the net profit of the inter-linked transaction. This would be also in consonance with Rule 10B(J)(e), which mandates only arriving at the net profit margin by comparing the profits and loss account of the tested party with the comparable. The TNM Method proceeds on the assumption that functions, assets and risk being broadly similar and once suitable adjustments have been made, all things get taken into account and stand reconciled when computing the net profit margin. Once the comparables pas....
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.... "where the learned AO/TPO accepts comparables as a bundled transaction, AMP expenditure cannot be treated as a separate international transaction. The relevant extract of the ruling is as follows: "...(v) Where the Assessing Officer/TPO accepts the comparables adopted by the assessed, with or without making adjustments, as a bundled transaction, it would be illogical and improper to treat AMP expenses as a separate international transaction, for the simple reason that if the functions performed by the tested parties and the comparables match, with or without adjustments, AMP expenses are duly accounted for. It would be incongruous to accept the comparables and determine or accept the transfer price and still segregate AMP expenses as an international transaction..." (Emphasis supplied) It is observed that the Coordinate Bench of this Tribunal has remanded the issue to verify the net profit margin were at arm's length. The Tribunal also observed that in the event they are at arm's length, no separate addition needs to be made. For the year under consideration, the Ld.TPO in para 4.1 has given a categorical finding in the transfer pricing order that, the ....
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....MP expenses. 12. The ld. D.R. submitted as follows: • • AMP expenses no details • No details given in the TP study of the "functional analysis" of assessee and AE as to the various functions performed by them in regard to the distribution and sale of AZ products. • No details furnished with regard to the global policy of the group regarding advertisement, market development, brand development and other marketing expenses. • Incurred substantial marketing expenses of Rs. 71.94 crores towards advertisement and marketing. • Incurred marketing expenses of Rs. 12.48 crores for New Launch marketing expenditure. • AE & Non-AE segment details not furnished. • Distribution & AMP Functions are 2 separate international Transactions • Distribution & AB-AP Functions are 2 separate international Transactions - Are inter-twinned - to be aggregated- • She placed reliance on following precedents: • • M/S Toshiba India Pvt. Ltd. vs DCIT (ITA No.1357/De1/2017/2012-13 dated 01.09.2017. • BMW India Pvt. Ltd. (ITA No.1406/De1/2015/ A.....