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Kusum Healthcare Pvt. Ltd. Versus ACIT, Range-5, New Delhi

2015 (4) TMI 180 - ITAT DELHI

TPA - Notional interest charged on receivables outstanding beyond 180 days - AO/DRP enhancing the income of the assessee - Held that:- A working adjustment appropriately takes into account the outstanding receivable. Therefore, the assessee has undertaken a working capital adjustment to reflect these differences by adjusting for differences in working capital and thereby, profitability of each comparable company. Accordingly, while calculating the working capital adjusted, operating margin on co .....

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ing capital adjusted margin of the comparables. Hence, any further adjustment to the margins of the assessee on the pretext of outstanding receivables is unwarranted and wholly unjustified.

It is clear that assessee had earned significantly higher margin than the comparable companies (which have been accepted by the TPO) which more than compensates for the credit period extended to the AEs. Thus, the approach by the assessee of aggregating the international transactions pertaining to .....

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r the Respondent : Shri J. James, Standing Counsel DR ORDER Per Shri George George K, JM: This appeal, at the instance of the assessee, arises out of the order of assessment passed u/s 143(3) r.w.s. 144C of the Act. The relevant assessment year is AY 2010-11. 2. The solitary issue that is raised in this appeal is whether the AO/DRP is justified in enhancing the income of the assessee by ₹ 93,69,275/-, on account of notional interest charged on receivables outstanding beyond 180 days. 3. Br .....

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argin Method ( TNMM ) as the Most Appropriate Method ( MAM ). The segmental profitability of the assessee from its manufacturing and trading segment was compared with margin earned by comparable companies engaged in performing similar manufacturing and trading functions respectively. The results of the benchmarking analysis undertaken by the assessee are provided in the table below: International Transactions Profit level Indicator Appellant s margin Comparables margin Export of manufactured med .....

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O imputed a notional interest based on SBI Prime Lending rate + 300 basis points (resulting in interest rate of 14.88%), with regard to receivable outstanding for a period exceeding 180 days. Thus, the TPO made a transfer pricing adjustment of ₹ 1,57,54,943/-. The Assessing Officer incorporated the Transfer pricing adjustment in the draft assessment order. Against the draft assessment order, the assessee filed its objection before the DRP as provided u/s 144C of the Act. The DRP concurred .....

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ceivable balances with non-AEs/third parties. Pursuant to the DRP directions, the TPO revised the addition to ₹ 93,69,275/- and the same was incorporated by the AO in the final assessment order dated 14.11.2014. 5. Aggrieved by the assessment completed the assessee has preferred the present appeal. The summary of submissions given by the assessee with reference to imputation of notional interest on the receivable outstanding beyond 180 days are as follows:- 1. A working capital adjustment .....

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rather than looking at the receivable independently. • The above position is also supported by OECD, which prescribes that, "Making a working capital adjustment is an attempt to adjust for the differences in time value of money between the tested party and potential comparables with an assumption that the difference should be reflected in profits. " • In this regard, the Appellant would like to place reliance on the following rulings wherein the need to undertake working cap .....

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ll functionally similar transactions wherein arm's length price can be determined for a number of transactions taken together. The said principle is enshrined in the transfer pricing regulation itself and has also been advocated by the OECD Guidelines. • Differential impact of working capital of the Appellant vis-a-vis its comparables has already been factored in the pricing! profitability of the Appellant and therefore, any further adjustment to the margins of the Appellant on the pret .....

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o pertinent to mention that AE is the key customer of the Appellant and the sales made by Appellant to its AE amounts to 88% of the total turnover of the Appellant. Therefore, charging of interest on outstanding receivable from the AE is not warranted. • In support of the above contention, reliance is placed on inter alia, the following decisions by the Hon'ble ITAT wherein it was held that in case no interest is charged from AEs as well as non-AEs on outstanding receivables, no additio .....

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y reiterated that the Ld. TPO/AO has re-characterised the outstanding receivables as unsecured loan extended by the Appellant to its AE and imputed a notional interest on the period of delay exceeding 180 days. In this regard, the Appellant humbly submits that computing notional interest on a fictional transaction is not permissible under the Act. The law only requires actual transactions to be at arm's length and does not permit imputation of arm's length price based on further notional .....

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Ltd (1975) 100 ITR 706 CIT vs Niraj Amidhar Surti - Tax Appeal No. 836 of 2009. V. Devaluation of foreign currency • The Appellant would also like to highlight that during the year 2009 the home currency of the AE i.e. Hryvinia ('UAH') had strikingly devaluated which resulted in increase of liability for AE towards the Appellant. It is respectfully submitted that the Appellant invoices its AE in the USD and its liability arises in USD whereas, the AE bills its customers in the UAH. .....

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the geographic region where it sells its goods is such, where the revenue cycle is usually longer and it takes longer time to recover the proceeds. • Majority of the revenue earned by the Appellant is from AE (i.e. 88%, INR 70.09 crores during the year). Keeping in view the strong presence of and volume of business with AE, no third party would be willing to charge interest on amount receivable from such a key customer and would rather invest in relationship by allowing better credit terms .....

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the country, the AE is in a position to sell its products at a premium than its competitors. Keeping that in view, the Appellant is in position to sell its products to the AE at a premium in comparison to sales made to the nongroup company. This allows the Appellant to offer better credit terms to the AE in lieu of higher profits which the Appellant generates from the sales made to the AE. • In this regard, reliance is placed on the ruling of Mastek Limited vs. Addl. ClT, Range 4, Ahmedaba .....

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basis points is wholly unjustified and unwarranted. LIBOR rate should be applied on an international loan for computing interest, which has been upheld in the following rulings: • Kohinoor Foods Ltd. (TS-224-ITAT-2014(DEL)- TP) • Siva Industries & Holdings Ltd (ITA No. 2148/Mds/2010), • Four Soft Ltd. (ITA No. 1495/HYD/2010) • Varroc Engineering Pvt. Ltd. (I.T.A No. 2482/PN/2012) • Tricorn India Ltd. ( TS-266-ITAT-2014(MUM)-TP) • Accordingly, the approach of the .....

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the TPO has characterised the amount due from the A.E. beyond 180 days, as a loan, for the reason that the agreement between the parties stipulate that the credit period shall be only for a period of 180 days. He referred to page 16 of the assessee's paper book and to page 249 as well as 255 to drive home his point that the assessee itself has characterised the dues from A.E. and Non-A.E. as debtors and that it is an interest free loan given to an A.E. To the other propositions argued by the .....

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d upon for the reason that interest free advances given to sister concerns, A.Es have been considered as separate international transactions by a number of decisions. He argued that CUP has been adopted as the most appropriate method. Without prejudice he relied on page 22 of the DRP's order. He submitted that the order of the DRP may kindly be sustained. 7. We have heard rival submissions and perused the material on record. An uncontrolled entity will expect to earn a market rate of return .....

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ct on the operational result. Higher sales prices acts as a return for the longer credit period granted to customers. Similarly in return for longer credit period granted, a firm should be willing to pay higher purchase price which adds to the cost of goods sold. Therefore, high levels accounts receivable and inventory tend to overstate the operating results while high levels of accounts payable tend to understate them thereby necessitating appropriate adjustment. The appropriate adjustments nee .....

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)] • Mentor Graphics (Noida) Private Limited [109 ITD 101] • Egain communication (P) Ltd. [ITA No. 1685/PN/2007] • Sony India (Pvt.) ltd. [2011-TII-43-ITAT-DEL-TP] • Capgemini India Private Limited [TS-45-ITAT-2013(Mum)-TP] 8. In view of the above, a working adjustment appropriately takes into account the outstanding receivable. Therefore, the assessee has undertaken a working capital adjustment to reflect these differences by adjusting for differences in working capital and .....

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capital adjustment for the comparable companies selected in its transfer pricing report which was also submitted with the Ld. TPO. A snapshot of the result is provided below: Segment Name Appellant s Margin (OP/TC) Working capital adjusted margins of comparables (OP/TC) Manufacturing Activity 46.33% 11.84% Trading Activity 17.44% 8.36% 10. The above analysis empirically demonstrates that the differential impact of working capital of the vis-a-vis its comparables has already been factored in the .....

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E. The Hon'ble ITAT observed the following in the judgment: "Para 20 - The only other ALP adjustment in appeal before us is with respect to what the authorities below have treated as, excess credit period allowed to Micro USA. This adjustment must be deleted for the short reason that it was part of the arrangement that specified credit period was allowed and thus the cost of funds blocked in the credit period was inbuilt in the sale price. " 12. Accordingly, keeping in view the abo .....

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ment held as under : "(v) Where the Assessing Officer/TPO accepts the comparables adopted by the assessed, with or without making adjustments, as a bundled transaction, it would be illogical and improper to treat AMP expenses as a separate international transaction, for the simple reason that if the functions performed by the tested parties and the comparables match, with or without adjustments, AMP expenses are duly accounted for. It would be incongruous to accept the comparables and deter .....

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raw a distinction between two distributors having different marketing functions. In case 2, a distributor having significant marketing functions incurs substantial expenditure on AMP, three times more than in case 1, but the purchase price being lower, the Indian AE gets adequately compensated and, therefore, no transfer pricing adjustment is required. In case we treat the AMP expenses in case 2 as ₹ 501-, i.e. identical as case 1 and AMP of ₹ 1001- as a separate transaction, the pos .....

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of working capital of the assessee vis-a-vis its comparables has already been factored in the pricing/ profitability of the assessee and therefore, any further adjustment to the margins of the assessee on the pretext of outstanding receivables is unwarranted and wholly unjustified. 15. Further, the principle of aggregation is a well-established rule in the transfer pricing analysis. This principle seeks to combine all functionally similar transactions wherein arm's length price can be determ .....

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