2025 (6) TMI 2001 - AT - Income Tax

TP Adjustment - selection of MAM - change of method from CUP to TNMM - HELD THAT - We find CUP is inapplicable due to fundamental differences not reasonably adjustable and that TNMM is more appropriate under Rule 10C(2) read with Rule 10B(1)(e). ASPL has obtained license from international breeder i.e. Stet Holand B.V. (Netherland based entity) to multiply seeds and produce potatoes of a specified variety for manufacturing of frozen french fries and other allied products for which it pays royalty. ASPL also provides guidance and support for the purpose of harvesting good quality potatoes and also extends support for co- ordination with the farmers for efficient contract farming by HAPL and it co-ordinates with the farmers for contract farming based on support and guidance received from ASPL. Accordingly it could be concluded that ASPL is the one who has obtained license and possesses the know-how for harvesting the specialized potatoes and HAPL merely co-ordinates with the farmers for producing required quality potatoes. Thus ASPL could be considered as a complex entity as against HAPL which is a mere trader and does not own any intangible. Hence HAPL can be considered as a tested party for the purpose of application of TNMM method. Accordingly once HAPL is considered as tested party and also a trader the net profit margin earned by HAPL can be compared with net profit margins earned by comparable companies engaged in trading activities as identified from third party database. Thus we find CUP is inapplicable due to fundamental differences not reasonably adjustable and that TNMM is most appropriate method. These margins were computed from reliable public domain databases (Capitaline and Prowess). The Ld TPO did not dispute these margins except rejecting TNMM methodology which we have already held as permissible. Thus the assessee s purchase of potatoes from HAPL at cost plus markup stands at arm s length and no adjustment is warranted. Computation of Book Profits u/s 115JB - assessee claims that the AO wrongly computed book profits and failed to grant MAT credit is a verifiable factual matter. Therefore we direct the JAO to examine the revised working and allow appropriate relief after due verification. Penalty Proceedings - As the transfer pricing adjustment is deleted the penalty proceedings under section 270A and 271AA become infructuous and unsustainable.

Summary

The core legal questions considered in this appeal revolve around the determination of the arm's length price (ALP) for specified domestic transactions under the Income Tax Act, 1961, specifically:

1. Whether the Comparable Uncontrolled Price (CUP) method was correctly applied as the Most Appropriate Method (MAM) for benchmarking the purchase of potatoes from the Associated Enterprise (AE) to the assessee.

2. Whether the Transaction Net Margin Method (TNMM) is a more appropriate method than CUP in the facts and circumstances of the case.

3. Whether the Transfer Pricing Officer (TPO) and Dispute Resolution Panel (DRP) erred in making an upward transfer pricing adjustment of approximately INR 15.99 crores.

4. The correctness of the computation of book profits under section 115JB and the grant of Minimum Alternate Tax (MAT) credit.

5. The validity of initiation of penalty proceedings under sections 271AA and 270A of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Applicability and Appropriateness of CUP vs TNMM Method for Transfer Pricing Adjustment

Relevant Legal Framework and Precedents: The determination of ALP is governed by section 92C of the Income Tax Act, 1961, and the prescribed methods under Rule 10B and 10C of the Income Tax Rules, 1962. The CUP method requires that prices charged in controlled transactions be compared with prices charged in comparable uncontrolled transactions, with appropriate adjustments for differences materially affecting price (Rule 10B(1)(a)(ii)). The TNMM focuses on net profit margins relative to an appropriate base and is often used when CUP comparables are not reliable. The principle that the MAM must be selected with regard to the nature of the transaction and availability of data is well established. The Special Bench of the Tribunal in a recent decision emphasized that the selection of the MAM is not binding and can be changed if a more appropriate method is identified, reinforcing the primacy of determining the correct ALP over procedural technicalities.

Court's Interpretation and Reasoning: The Tribunal found that the assessee initially adopted the CUP method in its Transfer Pricing Study Report (TPSR) but later sought to switch to TNMM during proceedings, a change permissible under the law as the ultimate objective is to determine the correct ALP. The Tribunal relied on the principle that the choice of method is a means to an end and not an end in itself, citing authoritative precedents that allow for switching methods if justified by facts.

Key Evidence and Findings: The Tribunal examined the nature of transactions and found significant differences between sales to the AE and sales to third parties, including:

• Volume disparities: AE sold approximately 7.67 crore kilograms of potatoes to the assessee, while sales to non-AEs were individually less than 1% of this volume, making volume adjustments impractical.
• Product differentiation: The assessee maintained detailed records of different potato varieties (LR, Santana, Kennebec, Frysona, HYSM), each with distinct commercial value, though such details were not reflected in invoices.
• Contractual terms: The AE was contractually obliged to sell potatoes to the assessee at cost plus markup, while sales to third parties were discretionary and market-driven, influenced by seasonality and perishability.
• Functional profile: The AE was a routine trader without complex functions or intangibles, whereas the assessee held licenses, conducted R&D, provided farming support, and bore higher operational risks.

The Tribunal noted that the TPO and DRP failed to make appropriate adjustments to account for these differences as required under Rule 10B(1)(a)(ii), thereby rendering the CUP method unreliable in this context.

Application of Law to Facts: Given the fundamental differences and lack of reliable adjustments, the Tribunal concluded that CUP was not the MAM. Instead, TNMM was more appropriate, with the AE (HAPL) as the tested party, being the less complex entity without intangibles. The assessee's alternative benchmarking under TNMM showed the AE earned a net margin of 5.86%, which was higher than the comparable companies' margins ranging from 1.19% to 2.44%, supporting the arm's length nature of the transaction.

Treatment of Competing Arguments: The Revenue contended that the assessee could not change the method from CUP as originally selected and that quality differences were not evident on invoices. The Tribunal rejected these contentions, holding that the method can be changed if justified and that quality data maintained in the assessee's accounting system sufficed for comparability analysis. The Revenue's reliance on case laws was distinguished on facts, especially given the Special Bench ruling permitting method change and the factual dissimilarities in the present case.

Conclusion: The Tribunal deleted the upward transfer pricing adjustment of INR 15.99 crores and held TNMM to be the MAM, with the AE as the tested party.

2. Computation of Book Profits under Section 115JB and MAT Credit

Relevant Legal Framework: Section 115JB prescribes computation of book profits for Minimum Alternate Tax (MAT) purposes. MAT credit is available under the Act for excess tax paid in earlier years.

Court's Interpretation and Reasoning: The Tribunal observed that the assessee challenged the AO's computation of book profits and denial of MAT credit as factual and verifiable issues. It directed the Joint Assessing Officer (JAO) to verify the revised computations and grant appropriate relief.

Conclusion: The Tribunal remanded the matter for verification and correction of book profits and MAT credit entitlement.

3. Initiation of Penalty Proceedings under Sections 271AA and 270A

Relevant Legal Framework: Sections 271AA and 270A impose penalties for non-compliance related to transfer pricing documentation and under-reporting or misreporting of income.

Court's Interpretation and Reasoning: Since the Tribunal deleted the transfer pricing adjustment, the basis for penalty proceedings ceased to exist. The Tribunal accordingly quashed the penalty proceedings as unsustainable.

Conclusion: Penalty proceedings under sections 271AA and 270A were quashed.

Significant Holdings:

"The methods prescribed are only the means of achieving the object of the ALP determination. Technicalities of the assessee having selected a wrong comparable or adopted a wrong method cannot come in the way of determining the correct ALP."

"The most appropriate method can be modified which confirms to requirement of Rule 10C(2), though the Assessee had stated CUP in the Form 3CEB and in the initial submissions before the TPO."

"There can be no estoppel to the change of a method so long as the new method is, in fact, most appropriate for determining the ALP."

"The CUP method is not applicable where fundamental differences exist between controlled and uncontrolled transactions which materially affect price and cannot be reasonably adjusted."

"The AE being a routine trader without intangibles and complex functions is the appropriate tested party for application of TNMM."

"The penalty proceedings under sections 270A and 271AA are unsustainable once transfer pricing adjustment is deleted."

Final determinations:

• The upward transfer pricing adjustment of INR 15,99,74,674 is deleted.
• TNMM is held to be the Most Appropriate Method with the AE as the tested party.
• Book profits under section 115JB are to be recomputed and MAT credit granted after verification.
• Penalty proceedings under sections 270A and 271AA are quashed.