2025 (7) TMI 601 - AT - Income Tax

TP Adjustment - management fee paid by the assessee to its AE - MAM selection - other method as per Rule 10AB - TP regulation relating to any other method provided under Rule 10AB - assessee has benchmarked the said transaction by applying TNMM as the most appropriate method (MAM) and used its AE IAC Shangi as a tested party - rejecting the benchmarking done by the assessee the Ld. TPO determined the ALP of the said transaction at Rs. Nil by adopting the other method - HELD THAT - Perusal of the TPO s order reveals that the Ld. TPO by merely making a mention of other method without bringing on record any comparable uncontrolled transaction in an arbitrary manner held the ALP of the international transaction of management fees paid by the assessee to its AE to be Nil . We therefore find some force in the arguments put forth by the Ld. Counsel for the assessee that the approach of the Ld. TPO is fundamentally flawed in terms of adherence to the procedure laid down under Rule 10AB of the the Income-tax Rules 1962 as he has failed to demonstrate the adoption of other method as against TNMM adopted by the assessee for benchmarking the impugned transaction without brining on record any comparable uncontrolled transaction to substantiate the ALP determined by him to be NIL. We find that the Ld. CIT(A) has passed a detailed speaking order as per fact and law on each and every issue raised by the Ld. TPO. The Ld. CIT(A) has deleted the impugned addition by giving a very elaborate and reasoned finding consistent with both the statutory provisions under the Act/ Rules as well as judicial precedents on the impugned issue. In our considered view the Ld. CIT(A) has rightly held that a mere assertion of the adoption of the other method under Rule 10AB of the Rules is not sufficient for a valid transfer pricing adjustment. CIT(A) has correctly concluded that in accordance with Rule 10AB the assessee or the transfer pricing officer is required to bring on record a comparable uncontrolled transaction to justify the applicability or reliability of the method employed. We find the Ld. TPO has not complied with the requirements enshrined in Rule 10AB while adopting other method and rejecting the ALP of the international transaction of managements fee in accordance with the TP analysis conducted by the assessee. TPO has applied other method without any reference to the actual uncontrolled comparable transaction and the price charged therein. It is a settled position of law that ad-hoc determination of ALP by the TPO dehors section 92C of the Act read with the applicable Rule thereunder cannot be sustained. Questioning by the Revenue on the actual receipt of services and the benefits derived by the assessee - As undisputed that the assessee received services from IAC Shanghai in the nature of commercial support operational support human resource support and financial related support during the relevant AY. The service agreement contains a detailed description of the aforesaid services. As regards the manner in which the services are to be provided the assessee had explained before the Ld. TPO that while drafting an agreement it is not feasible to describe in detail how each service shall be rendered as it would depend on the requirements of the service recipient which may change from time to time. Before us the Ld. AR has adequately demonstrated the receipt of services and allocation of intra-group services by furnishing voluminous and credible evidence in support thereof forming part of the Paper Book which includes copy of service agreement detailed cost allocation workings and process note along with working of hourly rate used for services received names and roles of employees of the AE involved in rendition of services sample copy of invoices corresponding to services rendered sample copy of email correspondences evidencing the actual rendition of services. Assessee has also demonstrated the benefit derived by the assessee from receipt of such services in terms of reduction in payment of management fees and its ratio to the operative income in the subsequent years which shows the growth on the part of the assessee and its reduced dependence on AE with time which has also been rightly noted by the Ld. CIT(A) in his appellate order. No adverse material has been brought on record by the Revenue before us to substantiate its claim of non-receipt of impugned services by the assessee. Thus in our considered view the reliance placed by the Revenue on the decision of Yanfeng India Automotive Interior Systems (P.) Ltd. 2023 (1) TMI 827 - ITAT AHMEDABAD and Gemplus India (P.) Ltd. 2010 (10) TMI 184 - ITAT BANGALORE is misplaced. Contention of the assessee also finds support by the decision of ELK Appliances Ltd. 2012 (4) TMI 346 - DELHI HIGH COURT wherein it has been held that the TPO s role is confined to determining the ALP and not to assess the necessity or benefit of an expense from a business perspective. We also tend to agree with the contention of the Ld. AR that the finding of the Ld. TPO that the impugned services constitute routine shareholders activities is not based on any objective economic analysis or functional examination but merely on conjecture which is not permissible in law. It has also been brought to our notice that no transfer pricing adjustment has been made in subsequent AYs (AY 2014-15 to 2020-21) on account of the impugned transaction of management fee paid by the assessee to its AE. It is also a finding of fact that the assessee withheld the applicable tax on payment made to IAC Shingai and deposited the same into the Government s account as required under the provisions of the Act. IAC Shanghai has also filed its return of income in India for the relevant AY 2013-14 reflecting the taxable income i.e. management fees paid by the assessee to IAC Shanghai. Appeal of the Revenue is dismissed.

Summary

The core legal questions considered in this appeal pertain to the determination of the Arm's Length Price (ALP) of international transactions under transfer pricing regulations, specifically regarding the payment of management fees by the assessee to its Associated Enterprise (AE), IAC Shanghai, for AY 2013-14. The issues include:

1. Whether the selection of the foreign AE as the tested party and the use of the Transactional Net Margin Method (TNMM) by the assessee for benchmarking the management fee transaction is appropriate.

2. Whether the Transfer Pricing Officer (TPO) was justified in rejecting the assessee's benchmarking and determining the ALP as nil by applying the "other method" under Rule 10AB without conducting a proper comparability analysis.

3. Whether the assessee has demonstrated actual receipt of services and derived benefits from the management fees paid to the AE.

4. Whether the services rendered fall under "routine shareholder activities" and thus should be excluded from transfer pricing adjustments.

5. Whether the mark-up on the assigned cost should include the Tax Deducted at Source (TDS) borne by the assessee on behalf of the AE.

6. Whether the assessee's reliance on service agreements, emails, invoices, and cost allocation documents suffices to establish the genuineness and arm's length nature of the international transaction.

Issue-wise Detailed Analysis

1. Appropriateness of Selection of Tested Party and Benchmarking Method

The relevant legal framework includes Section 92C of the Income Tax Act, 1961, which mandates determination of ALP using prescribed methods, including TNMM, and Rule 10AB of the Income Tax Rules, 1962, which governs the use of the "other method" requiring comparable uncontrolled transactions for benchmarking.

The assessee selected its AE, IAC Shanghai, as the tested party and applied TNMM for benchmarking the management fee transaction. The TPO rejected this selection, citing issues such as functional dissimilarity of comparables, mismatch in accounting years, and lack of linkage between the AE's financial statements and the transfer pricing study. The TPO concluded that the ALP should be nil, applying the "other method" without identifying any comparable uncontrolled transaction.

The Tribunal noted that the TPO's approach was fundamentally flawed as it did not comply with the procedural requirements of Rule 10AB, which mandates that any "other method" must be based on comparable uncontrolled transactions. The TPO's mere assertion of the "other method" without any comparability analysis was arbitrary and unsustainable. The Tribunal upheld the CIT(A)'s reasoning that the assessee's benchmarking using TNMM and AE as the tested party was reasonable, supported by detailed cost allocation workings and financial data. The Tribunal also distinguished the cited precedent relied upon by the Revenue, finding it factually distinguishable.

2. Determination of ALP by TPO Using "Other Method" Without Comparability Analysis

The statutory provisions require that ALP determination must follow one of the prescribed methods or a method that meets the criteria under Rule 10AB, which includes the presence of comparable uncontrolled transactions. The TPO's determination of ALP as nil, without conducting any comparability analysis or identifying comparable transactions, was held to be contrary to law.

The Tribunal relied on multiple judicial precedents emphasizing that transfer pricing adjustments without application of prescribed methods or without proper benchmarking are unsustainable. It was held that the TPO exceeded his jurisdiction by arbitrarily rejecting the assessee's method and substituting it with an unsubstantiated "other method" determination.

3. Receipt of Services and Benefit Derived

The Revenue contended that the assessee failed to prove actual receipt of services and benefits derived, relying on the TPO's observations that emails and agreements were insufficient evidence. The Revenue also argued that the services were routine shareholder activities.

The Tribunal, however, accepted the assessee's extensive documentary evidence comprising the service agreement, cost allocation notes, employee involvement, invoices, and voluminous email communications detailing commercial, operational, HR, and financial support services rendered by the AE. The Tribunal noted that the service agreement explicitly allowed for services to be rendered through emails and teleconferences, which is a common business practice.

Further, the Tribunal held that quantification of benefits is not a requirement under Indian transfer pricing regulations. It accepted that the services enabled the assessee to operate efficiently and effectively, and the reduction in management fees relative to operating income in subsequent years demonstrated the benefit and reduced dependence on the AE.

The Tribunal rejected the Revenue's reliance on precedents where services were held to be shareholder activities, observing that the TPO's finding was conjectural and lacked objective economic or functional analysis.

4. Mark-up and Treatment of TDS

The Revenue argued that the mark-up should be grossed up to include TDS borne by the assessee, effectively increasing the mark-up beyond 5%. The assessee contended that the actual mark-up earned by the AE was 5%, and TDS paid to the government should not be considered part of the mark-up.

The Tribunal agreed with the assessee, observing that TDS is a tax paid to the government and does not enhance the AE's remuneration. The CIT(A) had correctly noted that the mark-up of 5% was consistent with the financial statements and the cost plus method applied.

5. Sufficiency of Documentary Evidence

The assessee submitted extensive documentary evidence, including service agreements, cost allocation notes, invoices, and email communications, to substantiate the receipt of services and the arm's length nature of payments. The Revenue challenged the adequacy of these documents.

The Tribunal found the evidence furnished by the assessee to be credible and voluminous, sufficient to establish the genuineness of the transaction and the receipt of services. The Tribunal also noted that the AE had filed income tax returns in India reflecting the income corresponding to the management fees received, and the assessee had withheld and deposited the requisite TDS, further corroborating the transaction's authenticity.

6. Treatment of Competing Arguments and Judicial Precedents

The Tribunal extensively examined judicial precedents cited by both parties. It relied on authoritative decisions that emphasize:

• The mandatory nature of applying prescribed transfer pricing methods under Section 92C and Rule 10B/10AB.
• The illegality of arbitrary ALP determination without proper benchmarking or comparability analysis.
• The limited jurisdiction of the TPO to determine ALP, without encroaching upon the Assessing Officer's role to assess the business expediency or genuineness of expenditure.
• The acceptance of foreign AE as tested party where justified by facts and functional analysis.
• The sufficiency of documentary evidence, including emails and agreements, to prove receipt of services.

The Tribunal found the Revenue's reliance on certain precedents misplaced as those cases involved different factual matrices or lacked application of prescribed transfer pricing methods.

Conclusions

The Tribunal concluded that the CIT(A) correctly deleted the transfer pricing adjustment made by the TPO and AO. The TPO's rejection of the assessee's benchmarking and determination of ALP as nil without applying any prescribed method or conducting comparability analysis was unsustainable. The selection of the AE as tested party and application of TNMM by the assessee was reasonable and supported by evidence. The assessee had adequately demonstrated receipt of services and derived benefits. The mark-up of 5% was appropriate without grossing up for TDS. The extensive documentary evidence submitted was sufficient to establish the arm's length nature of the transaction.

Significant Holdings

"A mere assertion of the adoption of the 'other method' under Rule 10AB of the Rules, is not sufficient for a valid transfer pricing adjustment. The assessee or the transfer pricing officer is required to bring on record a comparable uncontrolled transaction to justify the applicability or reliability of the method employed."

"Ad-hoc determination of ALP by the TPO dehors section 92C of the Act read with the applicable Rule thereunder, cannot be sustained."

"The TPO's role is confined to determining the ALP and not to assess the necessity or benefit of an expense from a business perspective."

"The finding that impugned services constitute 'routine shareholder activities' without any objective economic or functional analysis is not permissible in law."

"The ALP of an international transaction can be determined only by applying one of the prescribed methods given under section 92C(1) of the Act. The term 'shall' used in the provision gives it a mandatory character."

"The payment of management fees and its ratio to the operating income has been reduced in the subsequent years, showing growth and reduced dependence on AE with time."

"The AE has filed the return of income for the relevant AY reflecting the taxable income of the management fees paid by the assessee, and the assessee has withheld and deposited the requisite TDS."

Accordingly, the appeal filed by the Revenue was dismissed, and the order of the CIT(A) was upheld.