TNM Method not appropriate in determining ALP in capital goods purchase transaction.

[Vivek Jalan]

Transfer pricing provisions kick in only when an income is charged to tax under other provisions of the IT Act. In the case of VODAFONE INDIA SERVICES PVT. LTD. VERSUS UNION OF INDIA, ADDL. COMMISSIONER OF INCOME TAX, DY. COMMMISSIONER OF INCOME TAX - 2014 (10) TMI 278 - BOMBAY HIGH COURT, it was held that in its normal meaning ‘income’ will not include capital receipts unless it is so specified in Section 2(24) of the IT Act. Neither Section 2(24)(vi) read with Section 45 nor clauses (vii), (ix) and (x) of sub-section (2) of Section 56 define purchase of depreciable capital assets to be income. Hence such a question arises.

An income arising from an international transaction must satisfy the test of income under the Act and find its home in one of the above heads i.e. charging provisions, as Chapter X is only a machinery provision to compute the chargeable income at ALP. Machinery section cannot be read de-hors the charging section, relying on the observations of the Supreme Court in COMMISSIONER OF INCOME-TAX, BANGALORE VERSUS BC SRINIVASA SETTY (AND OTHER APPEALS) - 1981 (2) TMI 1 - SUPREME COURT.

Further, the CBDT vide Instruction No. 02/2015, dated 29 January 2015 has notified that it has accepted the decision of Vodafone IV and has directed that the ratio decidendi of the judgment must be adhered to by the field officers in all cases where this issue is involved.

However, According to the Explanation to sub-section (2) of Section 92B, a transaction of purchase of fixed asset is also an international transaction. Since Section 92 is not a charging section but a procedural provision for re-computing the income, there must be some existing income chargeable to tax before applying TP provisions. If there is an international transaction in the capital field not giving rise to any income in itself then, no adjustment can be made for the difference between the declared value and the ALP of such international transaction. Computation of ALP is necessary because of the impact of such a transaction on the revenue offshoots, i.e. depreciation charge which goes into the computation of income. In such cases, depreciation must be based on the ALP of such assets. Hence, the obligation to determine ALP in the case of purchase of depreciable capital asset arises only when depreciation is claimed. However, this will not relieve the person from his obligation to maintain information as stipulated in Section 92D and the relevant rules of the Income Tax Rules, 1962 because Section 92D obliges a person who enters into an international transaction to maintain information in respect of such international transaction.

Now the question is the method to be used for determining ALP in transaction of purchase of Capital Goods. Since the purchase of capital goods does not enter Profit and Loss account (except depreciation on those assets), the TNM method is not appropriate. The Hon’ble Mumbai ITAT in the case of OWENS - CORNING (INDIA) PVT. LTD. [FORMERLY KNOWN AS OWENS CORNING (INDIA) LTD.] VERSUS DCIT, CIRCLE 7 (1) MUMBAI - 2023 (3) TMI 968 - ITAT MUMBAI was of the view that the foreign AE can be selected as a tested party, the margin earned by AE from the transactions entered with non-AEs may be relevant.