2025 (7) TMI 1290 - AT - Income Tax

TP Adjustment - MAM selection - TNMM OR Berry ratio - determining the ALP of international transactions related to distribution segment by applying PLI of Net cost plus margin under TNMM as against Berry ratio taken by the assessee for computing PLI - HELD THAT - The assessee only provides logistics and certain administrative functions. Hence the role of the assessee is limited. In this process the assessee has made no value addition to the goods and kept his margin to meet out the cost incurred such as transportation handling and certain administrative charges. Since the assessee is not maintaining any inventory therefore there is no investment on this count and amount outstanding to the customer against the supplies is paid within prescribed time limit and the cost of funds involved has been taken care in the in the margin retained by the assessee. From the perusal of the financial statement it is seen that the assessee has not incurred any cost on account of finance charges i.e. no interest is paid to financial institutions or banks which further prove that the assessee is having sufficient funds. Under these circumstances it can be held that the assessee is a low risk distributor. As in the case of Adm Agro Industries Kota Akola P.Ltd 2023 (6) TMI 1211 - ITAT DELHI under similar circumstances held neither the TPO nor DRP have made any adverse comment regarding the merchanting trades segment. Further when there is no allegation either by RBI or any other regulatory authority regarding merchanting trades segment of the assessee in our view DR cannot give a new dimension to the entire issue by making allegations which are not borne out on record. DR cannot improve upon the case of the TPO or learned DRP by enlarging the scope of the appeal. Thus considering the fact that in the PLI of the comparables cost of goods is not included in the denominator in our view the same would also apply to the assessee. Hence cost of goods cannot form part of the denominator of PLI. Accordingly we direct the Assessing Officer to compute the ALP by applying PLI of operating profit to value added cost excluding the cost of goods. We are of the view that the Berry ratio is applicable in the present case as PLI and the assessee as stated that if the same is applied to the final set of comparables the assessee is working of ALP is at bar and no adjustment is required to be made which in our opinion is correct and therefore we hold the assessee approach of computing the Alp on the distribution operations based on Berry ratio as PLI is correct and directed to delete the adjustment made by AO/TPO on this count. Thus Ground Nos. 4 to 7 raised by the assessee are allowed. Adjustment under manufacturing segment - Since we have already held the transfer pricing value taken by the assessee in the case of distribution segment as reasonable and proper therefore their remained no difference as has been demonstrated observed by the assessee. Accordingly the adjustment made is hereby deleted. Ground No.8 raised by the assessee is thus allowed. Levy of interest u/s 234A - claim of the assessee is that the assessee has filed the return of income before extended due date given in Circular No.1/2022 dated 11.01.2022 issued by Central Board of Direct Taxes - AO is directed to verify these facts and if the return of income is filed within extended time given in terms of Circular No.1/2022 dated 11.01.2022 by CBDT no interest would be charged u/s 234A of the Act for delay in filing the return of income. Thus Ground raised by the assessee is partly allowed for statistical purposes.

Summary

ISSUES:

Whether the Berry Ratio (Gross Profit/Value Added Expenses) is an appropriate Profit Level Indicator (PLI) for determining Arm's Length Price (ALP) of international transactions of a limited risk distributor engaged in distribution activities.Whether the Transactional Net Margin Method (TNMM) with Net Cost Plus Margin (Operating Profit/Operating Cost) as PLI is appropriate for benchmarking distribution segment transactions instead of Berry Ratio.Whether the Transfer Pricing Officer (TPO) and Assessing Officer (AO) erred in rejecting the 'Other method' applied by the assessee for benchmarking international transactions in the distribution segment.Whether the AO erred in making transfer pricing adjustments in the manufacturing segment contrary to directions of the Dispute Resolution Panel (DRP).Whether the AO erred in levying interest and initiating penalty proceedings under the Act.Whether working capital adjustments under Rule 10B(1)(e)(iii) and Rule 10B(3) should have been allowed to account for material differences between comparables and the assessee.Whether the DRP violated principles of natural justice by not adjudicating the issue of working capital adjustment.Whether interest under sections 234A and 234B of the Act was rightly levied considering the filing of returns within extended due dates.

RULINGS / HOLDINGS:

The Berry Ratio (Gross Profit/Value Added Expenses) is held to be the most appropriate PLI for the distribution segment of a limited risk distributor engaged in back-to-back trading with minimal functions and risks, as it "effectively captures all functions performed and risks undertaken by the Assessee" and excludes the cost of goods sold as a non-value-added expense.The application of TNMM with Net Cost Plus Margin as PLI for the distribution segment was rejected, as the assessee's limited risk profile and functional analysis do not justify inclusion of cost of goods in the PLI denominator.The 'Other method' adopted by the assessee for benchmarking distribution transactions is accepted, and the transfer pricing adjustment made by AO/TPO on this count is deleted.The AO erred in applying TNMM for the manufacturing segment contrary to the DRP's direction to apply the 'Other method'; accordingly, the adjustment made in the manufacturing segment is deleted.Interest levied under the Act is to be recalculated based on the income computed after giving effect to the Tribunal's order; penalty proceedings under section 270A are premature and dismissed.Adjustments under Rule 10B(1)(e)(iii) and Rule 10B(3) for material differences including working capital were not adjudicated by the DRP, constituting a violation of principles of natural justice; grounds relating to this issue are allowed.Interest under section 234A will not be charged if the return was filed within the extended due date as per CBDT Circular No.1/2022; interest under section 234B is consequential and to be computed after giving effect to the Tribunal's order.

RATIONALE:

The legal framework applied includes sections 92, 92C, 143(3), 144B, 144C(13), 234A, 234B, and 270A of the Income Tax Act, 1961, and Rule 10B(1)(e) and 10B(3) of the Income Tax Rules.The Tribunal relied on authoritative judicial precedents including Sumitomo Corporation India (P.) Ltd. v. CIT and Mitsubishi Corporation India (P.) Ltd. v. Dy. CIT, which recognize the Berry Ratio as appropriate for limited risk distributors with minimal functions and risks, where profits are linked to operating expenses rather than the value of goods sold.OECD Transfer Pricing Guidelines (2022) and United Nations Practical Manual on Transfer Pricing for Developing Countries (2021) were cited to support the applicability of the Berry Ratio in intermediary distribution activities where resale price and cost plus methods are unsuitable.The Tribunal emphasized the assessee's functional analysis, asset base, and risk profile, concluding that the assessee operates as a limited risk distributor with back-to-back purchase-sale contracts, no inventory holding, and no significant value addition.The DRP's directions to adopt transaction-by-transaction approach and reject TNMM for manufacturing segment were binding; AO's contrary application of TNMM was held erroneous.The Tribunal recognized that Rule 10B(1)(e) allows flexibility in selecting the relevant base for computing net profit margin, including the Berry Ratio, which is a ratio of gross profit to operating expenses.The Tribunal held that failure of the DRP to adjudicate working capital adjustment issues violated principles of natural justice, warranting relief to the assessee.Interest and penalty issues were considered in light of procedural compliance and statutory provisions, with directions to recompute interest post-order and dismissal of premature penalty proceedings.