2025 (5) TMI 1335 - HC - Income Tax

TP Adjustment - intra group services provided by Associated Enterprise - Application of Comparable Uncontrolled Price (CUP) method - HELD THAT - Assessee had benchmarked the said international transaction in relation to the allocation of such services by using TNMM as the most appropriate method. TPO held that the alleged services were nil on an application of the Comparable Uncontrolled Price CUP method. CIT(A) as well as the ITAT had found that the Assessee had received services and therefore it was necessary that the ALP be determined. Undeniably the transfer pricing study of the Assessee could not be rejected unless the conditions as set out in Section 92C (3) of the Act were satisfied. It is the Assessee s case that such conditions are not satisfied and therefore the TPO cannot make any adjustment on account of intra group services. TPO had proceeded on the basis that the Assessee has been unable to establish that it had derived any benefits from such services and therefore no independent entity would pay for such services without any cost benefit analysis. In the aforesaid circumstances it does not appear that the TPO had examined the transfer pricing analysis furnished by the Assessee regarding the value of the services received. CIT(A) as well as the ITAT had concurrently found that the Assessee had received intra group services. It is thus necessary for the TPO to examine the transfer pricing studies furnished by the Assessee in that perspective. There is no cavil that if the conditions as specified under Section 92C (3) are not satisfied the TPO cannot proceed to make any adjustment. In the present case the learned ITAT has remanded the matter to the TPO to consider afresh as the TPO s fundamental premise that the Assessee had not received any services has been rejected. We find no infirmity in the learned ITAT s decision in remanding the matter to the TPO to consider afresh. Needless to state the TPO is also required to consider whether any of the conditions u/s 92C (3) of the Act are satisfied before proceeding to make transfer pricing adjustment on account of intra group services. No substantial question of law arises.

Summary

Issues Presented and Considered

The core legal questions considered by the Court in this matter are:

(i) Whether the Tribunal erred in not deleting the transfer pricing adjustment made to the intra group services payments by the Assessee to its Associated Enterprises (AEs).

(ii) Whether the Tribunal's order is perverse, unlawful, or illegal for not adhering to the principle that the Transfer Pricing Officer (TPO) cannot substitute the Assessee's transfer pricing study unless the conditions under Section 92C(3) of the Income Tax Act, 1961 (the Act) are satisfied.

(iii) Whether the Tribunal erred in not deleting the transfer pricing adjustment made by arbitrarily applying the Comparable Uncontrolled Price (CUP) method and declaring the Arm's Length Price (ALP) of intra group services as nil without proper application of the prescribed methods under the Act.

(iv) Whether the Tribunal erred in remanding the matter instead of conclusively deleting the ad hoc 50% ALP adjustment determined by the Commissioner of Income Tax (Appeals) [CIT(A)] for intra group services.

(v) Whether the Tribunal's remand of the ALP determination of intra group services was perverse in light of the material and submissions on record.

Issue-wise Detailed Analysis

1. Validity of Transfer Pricing Adjustment to Intra Group Services

Legal Framework and Precedents: The relevant provisions are Section 92C of the Act which governs the computation of ALP in international transactions, and Section 92CA which empowers the TPO to determine ALP. The Supreme Court and High Courts have consistently held that the TPO's jurisdiction to substitute the Assessee's transfer pricing study is circumscribed by the conditions enumerated in Section 92C(3). The TPO cannot reject the Assessee's transfer pricing study without satisfying these statutory conditions.

Court's Interpretation and Reasoning: The Court noted that the TPO rejected the Assessee's transfer pricing study on intra group services and applied the CUP method to determine ALP as nil, on the premise that the Assessee failed to prove receipt of any tangible benefits or services. However, both the CIT(A) and the ITAT concurrently found that the Assessee did receive intra group services, and thus the ALP could not be nil. The Tribunal remanded the matter to the TPO to reconsider the ALP afresh.

Key Evidence and Findings: The TPO's rejection was based on the absence of documentary evidence such as a cost-benefit analysis, functional analysis (FAR), and specific demonstration of benefits derived from the services. The Assessee had relied on its transfer pricing study using the Transactional Net Margin Method (TNMM) with operating profit margin as the Profit Level Indicator (PLI), benchmarking against comparable companies. The TPO critiqued the Assessee's selection of comparables and filters applied.

Application of Law to Facts: The Court emphasized that the TPO must establish satisfaction of any of the grounds under Section 92C(3) before rejecting the Assessee's transfer pricing study. Since the TPO's fundamental premise-that no services were received-was rejected by the CIT(A) and ITAT, the TPO's order was not sustainable. The remand was appropriate to allow the TPO to reconsider the ALP taking into account the Assessee's transfer pricing study and the concurrent findings of receipt of services.

Treatment of Competing Arguments: The Assessee argued that the TPO failed to apply the statutory conditions under Section 92C(3) and arbitrarily applied the CUP method to declare ALP as nil. The Revenue contended that the Assessee failed to substantiate the intra group services and that the TPO's filters and methodology were appropriate. The Court found merit in the Assessee's contention regarding statutory safeguards and the necessity of reassessment by the TPO.

Conclusion: The Court upheld the ITAT's remand directing the TPO to reconsider the ALP determination for intra group services, ensuring compliance with Section 92C(3) safeguards and proper application of transfer pricing principles.

2. Appropriateness of Comparable Companies and Filters Used for ALP Determination

Legal Framework and Precedents: The selection of comparables and the filters applied in transfer pricing benchmarking are critical to determining ALP. The Act and judicial precedents require that comparables be functionally similar and economically comparable to the Assessee's transactions.

Court's Interpretation and Reasoning: The TPO rejected certain comparables identified by the Assessee based on criteria such as availability of financial data, accounting year alignment, turnover thresholds, revenue composition, loss-making status, related party transactions, and export revenue. The CIT(A) and ITAT upheld the inclusion and exclusion of comparables as determined by the TPO.

Key Evidence and Findings: The TPO's show cause notice detailed the rationale for rejecting or accepting comparables, emphasizing the need for functional similarity and reliable data. The Court found that the TPO's filters were appropriate and that the CIT(A) and ITAT did not err in their concurrent findings.

Application of Law to Facts: The Court observed that the TPO's rejection of some comparables and acceptance of others was based on sound commercial and accounting principles. The Assessee's challenge to the exclusion of certain comparables was not upheld.

Treatment of Competing Arguments: The Revenue supported the TPO's filters as necessary for selecting appropriate comparables, while the Assessee contended that some exclusions were unwarranted. The Court sided with the Revenue on this issue.

Conclusion: The Court affirmed the Tribunal's decision regarding the selection of comparables and the filters applied by the TPO.

3. Legality of Arbitrary 50% Ad Hoc Adjustment by CIT(A)

Legal Framework and Precedents: The CIT(A) had reduced the TPO's adjustment for intra group services to 50% on an ad hoc basis, citing the absence of third-party documentation. The law mandates that transfer pricing adjustments be based on reliable data and proper benchmarking rather than arbitrary reductions.

Court's Interpretation and Reasoning: The ITAT faulted the CIT(A)'s ad hoc 50% reduction and remanded the matter to the TPO for fresh determination of ALP. The Court found no error in the ITAT's approach as the CIT(A)'s direction lacked a basis in the evidentiary record or transfer pricing principles.

Key Evidence and Findings: The CIT(A) acknowledged the TPO's error in treating ALP of intra group services as nil but lacked sufficient data to quantify the adjustment, hence the 50% reduction. The ITAT held that such an approach was unsatisfactory and required fresh examination.

Application of Law to Facts: The Court agreed that a transfer pricing adjustment must be grounded in a proper economic analysis and cannot be arbitrarily fixed. The remand was justified to ensure adherence to the statutory framework.

Treatment of Competing Arguments: The Assessee contended that the CIT(A)'s 50% adjustment was arbitrary and unjustified, while the Revenue supported the CIT(A)'s approach as a pragmatic solution. The Court favored the Assessee's position.

Conclusion: The Court upheld the ITAT's remand and disapproved the CIT(A)'s arbitrary 50% adjustment.

4. Application of Section 92C(3) Safeguards in Transfer Pricing Adjustments

Legal Framework: Section 92C(3) of the Act provides specific grounds on which the Assessing Officer or TPO may reject the Assessee's transfer pricing study and determine ALP. These include non-compliance with documentation requirements, unreliable data, or failure to furnish information.

Court's Interpretation and Reasoning: The Court emphasized that the TPO must satisfy the conditions under Section 92C(3) before substituting the Assessee's transfer pricing study. The TPO's show cause notice and order indicated that the filters and comparables used by the Assessee were inadequate, thus satisfying the statutory conditions.

Key Evidence and Findings: The TPO issued a detailed show cause notice identifying deficiencies in the Assessee's benchmarking study, including inappropriate comparables and lack of documentation for intra group services. This formed the basis for rejecting the Assessee's transfer pricing study.

Application of Law to Facts: The Court found that the TPO had complied with the procedural safeguards by issuing a show cause notice and providing an opportunity to the Assessee. The remand order directs the TPO to reconsider the ALP with proper application of these safeguards.

Treatment of Competing Arguments: The Assessee argued that the TPO failed to meet the statutory threshold under Section 92C(3). The Court, however, found that the TPO's findings on the inadequacy of the Assessee's study and lack of documentation justified the rejection.

Conclusion: The Court held that the TPO's actions were in accordance with Section 92C(3) and that the remand was appropriate.

Significant Holdings

"The transfer pricing study of the Assessee could not be rejected unless the conditions as set out in Section 92C (3) of the Act are satisfied."

"The TPO's fundamental premise that the Assessee had not received any services has been rejected by the CIT(A) and the learned ITAT. Therefore, the matter was remanded to the TPO for fresh consideration of the ALP of intra group services."

"An arbitrary ad hoc reduction of 50% by the CIT(A) without a proper basis is unsustainable and the matter requires fresh consideration by the TPO."

"The filters and criteria applied by the TPO for selecting comparable companies are appropriate and the Tribunal did not err in upholding the same."

"The TPO must comply with the procedural safeguards under Section 92C(3) before rejecting the Assessee's transfer pricing study and making any transfer pricing adjustment."

"In absence of satisfaction of the conditions under Section 92C(3), the TPO cannot proceed to determine ALP on a basis different from the Assessee's transfer pricing study."

Final Determinations

The Court dismissed the appeal filed by the Assessee, finding no substantial question of law. It upheld the ITAT's decision to remand the matter to the TPO for fresh determination of ALP on intra group services, ensuring compliance with Section 92C(3) safeguards and proper application of transfer pricing principles. The Court affirmed the appropriateness of the TPO's filters for comparables and disapproved the CIT(A)'s arbitrary 50% ad hoc reduction. The TPO was directed to reconsider the transfer pricing adjustment in light of the concurrent findings that intra group services were indeed received by the Assessee.