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2018 (2) TMI 1639 - AT - Income TaxAddition on account of difference in Arm s Length Price - characterization of the business function of the taxpayer - whether the taxpayer is a business support services provider or a trader and the FOB value of goods sourced from India by the taxpayer is to be included in the operating cost of the taxpayer in order to compute its margin? - Held that - In view of the undisputed fact that AEs of the taxpayer is into trading activities of various products, such as, textiles, machinery, information and communications related products, metals, products related to oil and other energy resources, general merchandise chemicals, provisions and food and the taxpayer is merely rendering business support services to these AEs in the form of facilitation services to source goods from India. So, the limited activities carried out by the taxpayer for its AEs in the nature of licensing and facilitation of business of its AEs separates the taxpayer from the Sogo Shosha traders. When the taxpayer is not proved to be a risk bearer in the nature of credit risk, price risk, inventory risk, storage and handling risk etc., it cannot be treated as a trader. Moreover when undisputedly the taxpayer has not developed any intangible or accorded locational savings to its AEs and has earned net operating profit margin on cost of 129.34% against the margin of comparable at 14.05%, it cannot be said that the taxpayer has not been adequately compensated. As has been held in Li & Fung India Pvt. Ltd. (2014 (1) TMI 501 - DELHI HIGH COURT) the determination of 2.58% margin over the FOB value of the AEs contract not sustainable in the eyes of law. Rather TPO has artificially enhanced the cost base of the taxpayer and proposed a mark up of the FOB value of goods sourced by AEs and as such this approach is not available in TNMM under Rule 10B(1)(e) of the Act. So, the TPO has wrongly recharacterized the business function of the taxpayer from a business support service provider to a trader. - Decided against revenue
Issues Involved:
1. Classification of the taxpayer as a business support services provider or a trader. 2. Inclusion of Free on Board (FOB) value of goods sourced from India in the taxpayer's operating cost to compute its margin. Issue-wise Detailed Analysis: 1. Classification of the Taxpayer: The primary issue revolves around whether the taxpayer, a wholly owned subsidiary of Itochu Corporation, Japan, should be classified as a business support services provider or a trader. The taxpayer provides services such as arranging meetings with prospective customers, interacting with government officials, providing economic and market information, and arranging feasibility studies for its Associated Enterprises (AEs). The Transfer Pricing Officer (TPO) recharacterized the taxpayer as a trader, including the FOB value of goods sourced by the AEs in the taxpayer's cost base. The CIT (A) disagreed, treating the taxpayer as a business support services provider, relying on the Delhi High Court judgment in Li & Fung India Pvt. Ltd. 2. Inclusion of FOB Value in Operating Cost: The TPO included the FOB value of goods sourced from India in the taxpayer’s operating cost, which was challenged. The taxpayer used the Transactional Net Margin Method (TNMM) and selected comparables with a margin of 14.05% against its margin of 129.34%. The TPO, however, selected comparables with a margin of 2.58% and made a TP adjustment of ?5,46,43,844/-. The CIT (A) deleted this addition, stating that the taxpayer's role was limited to business support services and did not involve trading activities or bearing significant risks such as credit, price, inventory, or storage risks. The CIT (A) also noted that the taxpayer had not developed any intangibles or provided locational savings to its AEs. Judgment: The Tribunal upheld the CIT (A)'s order, emphasizing the following points: - The taxpayer is not a trader but a provider of business support services, as it does not bear significant risks associated with trading. - The TPO's inclusion of the FOB value of goods in the taxpayer’s operating cost was not sustainable under the TNMM as per Rule 10B(1)(e) of the Income-tax Rules. - The taxpayer’s functional and risk profile is different from that of a trader, and it has been adequately compensated with a net operating profit margin of 129.34% compared to the margin of comparables at 14.05%. - The Tribunal referenced the Delhi High Court's decision in Li & Fung India Pvt. Ltd., which held that the net profit margin should be calculated only with reference to the costs incurred by the taxpayer, not by third parties or the associated enterprise. - The Tribunal noted that the Revenue had accepted a similar transfer pricing analysis in subsequent assessment years (2011-12, 2012-13, and 2013-14), reinforcing the principle of consistency. Conclusion: The Tribunal found no illegality or perversity in the CIT (A)'s order and dismissed the Revenue's appeal, confirming that the taxpayer should be classified as a business support services provider and rejecting the inclusion of FOB value in the operating cost for computing the margin. The appeal filed by the Revenue was dismissed, and the order was pronounced on February 21, 2018.
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