2025 (5) TMI 1656 - AT - Income Tax

TP Adjustment - assessee has challenged arbitrary rejection of TP documentation report submitted by the appellant company and method followed for benchmarking transactions with AEs - HELD THAT - The appellant company claims to have paid service charges to it s AEs on cost plus mark-up. As gone through relevant agreements between appellant and it s AEs and services specified therein. Upon verification of the relevant agreements between the parties we find that the appellant has specified various services to be rendered by the AEs in the field of marketing/sale support. Said services are vague in nature and need based services by any organisation but it cannot be ascertained from said agreement that the exact nature of services provided by the AEs to the appellant company in the field of marketing/sales support services. We are in full agreement with the TPO/DRP that the appellant company was unable to provide relevant evidences to prove the nature of services rendered by the AEs. Whether the amount paid by the appellant company to it s AEs for availing business support services is commensurate with services rendered by the AEs? - In our considered view it is necessary to examine the payment made by the appellant company in light of services rendered by the AEs. In case the AEs are not rendered any services then it is as good as no services has been rendered by the AEs and thus payment made by the appellant company to it s AEs cannot be considered as commensurate with services rendered by the said AEs to argue that it is at ALP. In a third party situation no payment is made to these kinds of services by any entity. Therefore in our considered view going by the nature of services referred by the appellant company in their agreements with AEs and further from the email correspondences between the appellant company and it s AEs it is clearly established that the appellant company is failed to furnish sufficient evidences to prove rendering of services by the AEs. Benchmarking analysis carried-out by the TPO and upheld by the DRP - Without marketing expenses revenue cannot be earned. Further it is not a case of TPO that appellant company has incurred marketing expenses on it s own and also made payments to AEs for very same purpose. Since the appellant company has derived it s revenue from international market in our considered view there is substance in the arguments of the appellant company that it has paid business support services to it s AEs for rendering services. Thus we are of the considered view that TPO/AO is required to examine the case of the appellant company in light of evidences filed by the appellant company to prove rendering of services and also to benchmarking the payment made by the appellant company to it s AEs. The issue needs to go back to the file of AO/TPO for reconsideration. Thus we set-aside the Final Assessment Order passed by the AO and restore the issue back to the file of AO/TPO to re-examine the claim of the appellant company towards payment made to AEs for availing business support services AO/TPO is directed to re-examine the claim of the assessee in light of any evidences that may be filed by the appellant company to substantiate it s case. Appeal of the assessee is allowed for statistical purposes.

Summary

The core legal questions considered in this appeal relate to the determination of the arm's length price (ALP) of international transactions under the Income Tax Act, 1961, specifically concerning payments made by the appellant company to its associated enterprises (AEs) for business support services. The issues include whether the payments made to the AEs for marketing and sales support services were at ALP, the adequacy and relevance of the transfer pricing (TP) documentation submitted by the appellant, the evidentiary requirements to prove the nature and benefit of services rendered by the AEs, and the correctness of the Transfer Pricing Officer's (TPO) and Dispute Resolution Panel's (DRP) rejection of the appellant's claims and consequent adjustments.

One primary issue examined is whether the appellant company adequately proved that the payments made to its wholly owned subsidiaries in the USA and Europe for business support services were justified and at arm's length, considering the nature of services rendered and the benefits accrued. This involves assessing the sufficiency of evidence such as agreements, email correspondences, financial statements of AEs, and client additions claimed by the appellant.

Another issue concerns the legal interpretation of the role and powers of the TPO and Assessing Officer under section 92CA(3) of the Act, including whether they can reject the appellant's TP documentation and select an alternative method for determining ALP based on the absence of evidence of services rendered or benefits accrued. The appellant's contention that the TPO cannot question the existence or benefit of services, relying on judicial precedents, was also considered.

Finally, the Tribunal considered whether the adjustments made by the TPO and sustained by the DRP, which added Rs. 10,17,19,353/- to the appellant's income on account of disallowing the payments to AEs, were justified or required reconsideration.

Regarding the first issue, the relevant legal framework is the transfer pricing provisions under the Income Tax Act, 1961, particularly sections 92CA and 144C, which empower the TPO and DRP to determine the ALP of international transactions. The appellant employed the Transactional Net Margin Method (TNMM) as the Most Appropriate Method (MAM) and submitted a transfer pricing study report along with agreements and some supporting documents to establish that the payments to AEs were at ALP.

The Court noted that the appellant's agreements with its AEs described various marketing and sales support services but found these descriptions vague and general. The evidence submitted, including sample email correspondences and lists of new clients, was scrutinized and found insufficient to conclusively prove the nature of services rendered or the benefits derived in the relevant assessment year. Some emails did not pertain to the year under consideration, and discrepancies were noted in client lists. The appellant also failed to provide critical evidence such as details of employees at the AEs, the costs incurred by the AEs, or specifics of market support provided.

The TPO and DRP, therefore, rejected the appellant's TP documentation and applied an alternative method, making an adjustment disallowing the entire payment to the AEs. The Tribunal agreed with the authorities below that the appellant failed to substantiate the services rendered adequately and the benefits accrued, which is a necessary precondition to accept the payments as at ALP.

On the second issue, the appellant relied on judicial precedents, including a decision of the Hon'ble Delhi High Court, asserting that the TPO is not required to verify whether the services rendered actually resulted in benefits to the taxpayer, and that the TPO's role is limited to determining ALP based on comparables and not to question the existence or utility of services. The appellant argued that the TPO/DRP erred in rejecting its documentation solely on the ground of lack of demonstrable benefit.

The Tribunal acknowledged the legal principle that the TPO should not sit in judgment over the taxpayer's mode of doing business or the cost-benefit ratio of services rendered. However, it distinguished this principle by emphasizing that while the TPO need not assess the benefit, the taxpayer must produce sufficient evidence to establish that services were indeed rendered. Without such evidence, the TPO is justified in rejecting the claimed payments as not at ALP. The Tribunal held that the absence of evidence of services rendered justifies the TPO's inquiry into whether such payments would be made in a third-party situation, and whether the payments are commensurate with any services provided.

Regarding the benchmarking analysis, the Tribunal observed that since the appellant company had incorporated wholly owned subsidiaries abroad specifically for marketing and sales support, and had generated substantial revenue internationally, it was necessary to examine the payments in light of the services rendered and the revenue generated. The appellant had furnished financials of the AEs and details of marketing personnel, but these were rejected by the TPO on the ground that the financials were unaudited. The Tribunal noted that the TPO had accepted similar payments for the subsequent assessment year based on the same agreements, which suggested some inconsistency in treatment.

The Tribunal concluded that while the appellant failed to provide adequate evidence for the year under consideration, the existence of agreements, some supporting documents, and the acceptance of similar payments in the subsequent year warranted reconsideration rather than outright rejection. It emphasized that marketing expenses are essential for revenue generation and that the appellant's claim of payments for business support services to its AEs was not wholly without substance.

In balancing the competing arguments, the Tribunal recognized the necessity of evidence to substantiate the nature and extent of services rendered by AEs in transfer pricing matters. It also acknowledged the appellant's right to have its documentation fairly considered and not summarily rejected. The Tribunal found that the TPO and DRP had erred in outright rejecting the appellant's documentation and making a full adjustment without adequately examining the evidence and benchmarking the payments in light of the appellant's business model and international revenue generation.

Consequently, the Tribunal set aside the Final Assessment Order and remanded the matter to the Assessing Officer/TPO for fresh consideration. The authorities were directed to re-examine the appellant's claims with regard to payments made to AEs for business support services, taking into account any further evidence the appellant may furnish. The appeal was allowed for statistical purposes, indicating that the matter requires further factual investigation rather than a final adjudication at this stage.

Significant holdings include the Tribunal's affirmation that while the TPO is not required to assess the benefit accrued from services rendered by AEs, the taxpayer must produce sufficient evidence to establish that such services were indeed rendered. The Tribunal stated: "In case, where there is no evidence of rendering services by the AE, then, the TPO/DRP are at liberty to examine the claim of the assessee for payment made to AE for rendering services in light of the nature of services claimed to have been received by the assessee in comparison with the third party situation to ascertain whether for this kind of services, a third party would pay the amount of charges paid by the assessee."

The Tribunal also emphasized the necessity of examining payments in light of the appellant's business model and international revenue, noting that marketing expenses are integral to revenue generation. It held that the TPO's rejection of evidence solely on the ground that financials were unaudited and the absence of tangible benefit was not justified without further inquiry.

In sum, the Tribunal determined that the issue of transfer pricing adjustment for payments made to AEs for business support services required re-examination with due consideration of all relevant evidence and proper benchmarking, thereby setting aside the impugned assessment order and remanding the matter for fresh adjudication.