TMI Blog2013 (7) TMI 249X X X X Extracts X X X X X X X X Extracts X X X X ..... equent assessment year then that may not be very relevant factor for pointing out defect in the procedure adopted by the Transfer Pricing Officer or the Assessing Officer in the preceding assess ment year - as per section 92CA(1), the Transfer Pricing Officer can suggest adjustment on the international transaction entered into by an assessee with its associate enterprises which were sent to him for computation of the arm’ s length price by the Assessing Officer. Suo motu, he cannot take cognizance of any international transaction for suggesting adjustment in the arm’ s length price - Following decisions of Afcons Infrastructure Ltd. v. Cherian Varkey Construction Co. P. Ltd. [2010 (7) TMI 844 - SUPREME COURT], Shamrao V. Parulekar v. District Magistrate, Thana [1952 (5) TMI 12 - SUPREME COURT] and Molar Mal v. Kay Iron Works P. Ltd. [2000 (3) TMI 1040 - SUPREME COURT] - Decided in favour of assessee. - - - - - Dated:- 18-2-2011 - Order The order of the Bench was delivered by Shamim Yahya (Accountant Member).-This appeal filed by the assessee is directed against the order of the Assessing Officer dated October 19, 2010 and pertains to the assessment year 2006-07. The first e ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tment. The assessee has followed transactional net margin method (TNMM) to justify the arm s length price of international transactions. Accordingly it compared the net operating profit/total cost (OP/TC) earned by it with the mean of operating profit/total cost of comparable companies selected by it and concluded that the operating profit/total cost of the assessee is 43.46 percent which is much higher than 8.02 percent of the comparable companies selected by it. The Transfer Pricing Officer did not raise any objection to the method adopted or to the computation of the arm s length price of the services rendered to the associated enterprises. However the Transfer Pricing Officer in the impugned order alleged that the assessee had incurred more than normal sales and marketing expenses to build aMaDEUS brand in India which is legally owned by Amadeus Spain. The Transfer Pricing Officer asserted that the assessee should have been reimbursed with an appropriate mark up on such additional marketing expenses. The Transfer Pricing Officer computed more than normal marketing expenses by comparing the advertisement, marketing and promotion (AMP) expenses as a percentage to sales of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2003, dated May 20, 2003) was issued by the Central Board of Direct Taxes in which certain clarifications were made. As per this instruction, wherever the aggregate value of international transaction exceed Rs. 5 crores, the case should be picked up for scrutiny and reference under section 92CA be made to the Transfer Pricing Officer. Before making reference to the Transfer Pricing Officer, the Assessing Officer has to seek approval of the Commissioner/Director as contemplated under the Act. Under the provision of section 92CA reference is in relation to the international transaction. The role of the Transfer Pricing Officer begins after a reference is received from the Assessing Officer. In terms of section 92CA this role is limited to the determination of the arm s length price in relation to the international transaction referred to him by the Assessing Officer. If during the course of proceedings before him it is found that there are certain other transactions which have not been referred to him by the Assessing Officer, he will have to take up the matter with the Assessing Officer so that a fresh reference is received with regard to such transaction. As per this instructi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and fresh reference was received with regard to such transaction from the Assessing Officer. It is further stated that the transfer pricing regulations requires not the form but the overall arrangement/substance of the transactions before determining the arm s length price of an international transaction. Towards this end the following provisions from the regulations are reproduced : (i) Section 92F(v) of the Income-tax Act states : transaction includes an arrangement, understanding or action in concert, whether or not such arrangement, understanding or action is formal or in writing ; (ii) Rule 10B(2)(c) states : the contractual terms (whether or not such terms are formal or in writing) of the transactions which lay down explicitly or implicitly how the responsibilities, risks and benefits are to be divided between the respective parties to the transactions ; The above provisions read with the well established doctrine of substance over form (applied by the courts in numerous judicial decisions) indicate that transfer pricing regulations are to be applied keeping in mind the overall scheme of the taxpayer s business arrangement. (a) In Swadeshi Cotton M ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion and sections 92, 92C, 92D and 92E international transaction means a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other such transaction having a bearing on the profits, income, losses or assets of such enterprise, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. It is evident from the above extracted provision that arrangement between two associated enterprises for allocation or apportionment of or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises is an international transaction. In this case, admittedly, the assessee has incurred the cost of advertisement, marketing and promotion ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... carry out the transfer pricing audit being influenced by the High Court s directions on the merits. The assessee, on the other hand, submitted as under: A.1 During the course of hearing on January 5, 2011, the hon ble Bench was addressed on following two legal propositions : (a) Whether Transfer Pricing Officer can propose an adjustment to the Assessing Officer vis-a-vis an international transaction not referred to him by the Assessing Officer under section 92CA(1) of the Act? (b) Whether benchmarking on the basis of an expense incurred by an assessee is permissible while applying transactional net margin method under the Indian Law ? A.2 It is submitted that the learned Commissioner of Income-tax (Departmental representative) in his written submissions (at page 1 has narrated two issues on which (as per his viewpoint) submissions were made during the course of hearing. Although issue No. 1 noted by the learned Commissioner of Income-tax (Departmental representative) is same as proposition (a) submitted above, issue No. 2 noted by the learned Commissioner of Income-tax (Departmental representative) in his written submissions is consequential to the first issue, it ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee s case the Assessing Officer after considering the nature of expenses has not made any disallowance under section 37(1) of the Act thereby accepting the fact that the advertisement, marketing and promotion expenses were incurred by the assessee wholly and exclusively for the purpose of its business. As a corollary it rules out the contention that the expenditure either in whole or in part was incurred on behalf of someone else and hence it called for reimbursement plus a margin addition. 1.1. The following facts substantiate that no reference was made by the Assessing Officer under section 92CA(1) as regards the advertisement, marketing and promotion expenses : A common reference was made to the Transfer Pricing Officer in case of 12 companies by the Assessing Officer vide letter dated July 15, 2008 (copy filed during the course of hearing on January 5, 2011). The reference was made only vis-a-vis transactions reported in Form No. 3CEB (report attached with return of income). International transactions reported by the assessee in Form No.3CEB (relevant at page 125 of the paper book) were acknowledged by the Transfer Pricing Officer in his order at page 4, paragrap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing a fresh reference for the assessment year 2007-08 is enclosed herewith as annexure B and copy of fresh reference for the assessment year 200708 dated September 29, 2010 sent by the Assessing Officer to the Transfer Pricing Officer is enclosed herewith as annexure C). It is only by this methodology that jurisdiction could be validly assumed by him over this transaction, this is because the decision to refer is not solely of the Assessing Officer it also involves the Commissioner of Income tax s approval. Therefore jurisdiction of the Transfer Pricing Officer cannot be extended either by the Transfer Pricing Officer himself or even by the Assessing Officer without the Commissioner of Income tax s approval. 1.3 The Central Board of Direct Taxes Instruction No. 3 dated March 20, 2003 (reported in ([2003] 261 ITR (St.) 51 relevant at page 53 copy enclosed page 331 to 335 of paper book) clarifies that the Transfer Pricing Officer has jurisdiction only in respect of specific international transactions referred to him by the Assessing Officer and if the Transfer Pricing Officer wants to analyse any international transaction in addition to what has been so referred, the Transfer Prici ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ternational transaction different from the international transactions reported by the assessee. In fact after alleging as such the same has also been separately benchmarked by the Transfer Pricing Officer as per a modified transactional net margin method (kindly refer Transfer Pricing Officer order page 27, paragraph 7.27 relevant at page 84 of the paper book). In Amadeus case the Transfer Pricing Officer purposely did not benchmark advertisement, marketing and promotion as part/segment of international transactions reported by the assessee in its transfer pricing report. This is because had this been done by the Transfer Pricing Officer then too no adjustment was called for. This may be explained by way of an illustration: Particulars Amadeus India Comparable companies Sales (A) 100 100 AMP expenses (B) 40.87 (refer page 67 of PB) 12.61 (refer page 70 of PB) Other costs (C) 28.83 80.41 Total cost (D=B +C) 69.70 92.57 Operating profits (A-D) 30.30 7.42 PLI (OP/TC) 43.46 percent. 8.02 percent. Now if the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on is new/separate transaction then in absence of a specific reference from the Assessing Officer the Transfer Pricing Officer has no jurisdiction in that regard. It is submitted that since the Assessing Officer did not refer this transaction shows that it is accepted that the transaction is at the arm s length. Substance over form if at all is to be seen then that is for the transactions referred to the Transfer Pricing Officer and not of vis-avis a new/separate transaction which have not been referred to him. Tax evasion, without prejudice, may be a motivating factor for the Assessing Officer, it cannot vest jurisdiction which the statute does not vest. There is no evasion arid that is not even alleged. B. Whether benchmarking on the basis of an expense incurred by an assessee is permissible while applying transactional net margin method under the Indian law. Section 92C of the Act provides that the arm s length price in relation to an international transaction is to be computed by any five methods, viz., out of which one method is to be applied as the most appropriate method. Benchmarking of advertisement, marketing and promotion expenses (in case they are considered as an i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e in its transfer pricing study) net margins earned by the assessee in international transaction with an associated enterprises are compared with net margin earned by the assessee in uncontrolled transaction or by comparable parties in comparable uncontrolled transaction. Under transactional net margin method net margins, earned after deducting all expenses incurred for generating revenue are compared rather than margins earned by the assessee on individual transactions. It is not being disputed by the Revenue that the impugned advertisement, marketing and promotion expenses are not business expenses incurred wholly and exclusively for the purpose of business (this is because no disallowance under section 37(1) has been made by the Assessing Officer) transactional net margin method is more tolerant to minor differences in the functions performed by the assessee vis-a-vis the comparables. Differences in the functions performed between enterprises are often reflected in variations in operating expenses. Consequently, enterprises may have a wide range of gross profit margins but still earn broadly similar levels of net profits. Hence, there is no need to evaluate margins earned by the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d., Aztecsoft Ltd. and Geometric Ltd. The dispute before us is whether the Transfer Pricing Officer can suggest adjustments to the Assessing Officer in respect of international transaction which has not been referred to him by the Assessing Officer under section 92CA(1) of the Income-tax Act. Section 92CA(1) has a direct bearing on the controversy in hand, therefore, it is salutary to take note of this clause which reads as under : 92CA. Reference to Transfer Pricing Officer.-(1) Where any person, being the assessee, has entered into an international transaction in any previous year, and the Assessing Officer considers it necessary or expedient so to do, he may, with the previous approval of the Commissioner, refer the computation of the arm s length price in relation to the said international transaction under section 92C to the Transfer Pricing Officer. (2) Where a reference is made under sub-section (1), the Transfer Pricing Officer shall serve a notice on the assessee requiring him to produce or cause to be produced on a date to be specified therein, any evidence on which the assessee may rely in support of the computation made by him of the arm s length price in relatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... section Transfer Pricing Officer means a Joint Commissioner or Deputy Commissioner or Assistant Commissioner authorised by the Board to perform all or any of the functions of an Assessing Officer specified in sections 92C and 92D in respect of any person or class of persons. Before we embark upon an enquiry as to what would be the correct interpretation of section 92CA(1) of the Income-tax Act. We think it appropriate to bear in mind certain basic principles of interpretation of the statute. The hon ble Supreme Court recently in its decision rendered in the case of Afcons Infrastructure Ltd. v. Cherian Varkey Construction Co. P. Ltd. reported in [2010] 8 SCC 24, while construing section 89 of the CPC has made lucid enunciation of the law on the topic. According to the hon ble Supreme Court, where the words of the statute are in themselves precise and unambiguous, then no more can be necessary than to expounded those words in their natural and ordinary sense. The words themselves do alone in such cases best declare the intent of law giver. According to the hon ble Supreme Court it is cardinal principle of construction of statute that when language of the statute is plain an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e to be construed differently. Indeed, the law goes so far as to require the courts sometime even to modify the grammatical and ordinary sense of the words if by doing so absurdity and inconsistency can be avoided. 21.3 In Molar Mal v. Kay Iron Works P. Ltd. [2000] 4 SCC 285 this court while reiterating that courts will have to follow the rule of literal construction, which enjoins the court to take the words as used by the Legislature and to give it the meaning which naturally implies, held that there is an exception to that rule. This court observed : (SCC page 295, paragraph 12) 12 . . . That exception comes into play when application of literal construction of the words in the statute leads to absurdity, inconsistency or when it is shown that the legal context in which the words are used or by reading the statute as a whole, it requires a different meaning. 21.4 In Mangin v. IRC [1971] 1 All ER 179 ; [1971] AC 739 ; [1971] 2 WLR 39 the Privy Council held : (AC page 746E) . . . the object of the construction of a statute being to ascertain the will of the Legislature it may be presumed that neither injustice nor absurdity was intended. It therefore a literal inter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ength price in relation to the said international transaction. The expression said international transaction employed at the end of the sub-section would indicate that operative force of this expression related to that international transaction which has been considered by the Assessing Officer for computation of the arm s length price and for which he took approval from the Commissioner. The role of the Transfer Pricing Officer has been restricted to that transaction which has been referred to him by the Assessing Officer for computation of the arm s length price. The plain reading of this section nowhere reveals that the learned Transfer Pricing Officer can take any transaction suo motu for verification and then suggested necessary adjustment. On a plain reading of sub-section (1) according to its language this meaning alone is discernable. Apart from that, we find support from the Central Board of Direct Taxes instruction vide Instruction No. 3 of 2003 wherein role of Transfer Pricing Officer has been explained. These instructions have been placed on record by learned counsel for the assessee at page 331 of the paper book. The relevant part of the instructions read as under ..... X X X X Extracts X X X X X X X X Extracts X X X X
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