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2015 (8) TMI 755 - ITAT DELHI

2015 (8) TMI 755 - ITAT DELHI - TMI - Transfer pricing adjustment - selection of comparable - Held that:- M/s Eicher Motors - CIT(A) has held a tractor manufacturer as comparable with a harvester combine manufacturer. Whereas a harvester combine is a machine that harvests green crops by combining three separate operations, namely, reaping, threshing and winnowing, a tractor is a vehicle used for drawing or pulling. Further, a combine is several times dearer than a tractor. It can be observed tha .....

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ral equipments, such as tillers, would also become comparable with a manufacturer of tractor or harvester combine and vice versa, which proposition is absolutely absurd. In view of the inherent differences in the characteristics, usage and price of harvester combine and tractors, we are unable to countenance the view taken by the ld. CIT(A) in treating M/s Eicher Motors as a good comparable. The impugned order on this score is overturned and the view of the TPO is restored.

M/s Force .....

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d that M/s Force Motors cannot be considered as a good comparable. The impugned order on this score is reversed.

Capacity adjustment in respect of certain items of expenses - CIT(A) allowing the claim which was denied by the TPO - Held that:- The authorities below have adjusted the operating costs of the assessee in allowing the capacity adjustment. As against that, the correct course of action provided under the law is to adjust the operating costs of the comparable and their resulta .....

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to the amount of idle capacity adjustment in the operating profit of the comparables and not the assessee.

How to compute capacity utilization adjustment under TNMM - Held that:- both the TPO as well as the ld. CIT(A) have proceeded on a wrong premise not only by allowing capacity utilization adjustment in the assessee’s profit, which is contrary to the legal position as discussed above, but also by considering all the comparables as one unit with the average percentage of their respe .....

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not possible at our end to work out the amount of capacity adjustment in the manner discussed above. Ergo, we set aside the impugned order and direct the TPO/AO to work out the amount of capacity utilization adjustment afresh in terms of our above observations. Needless to say, the assessee will be allowed a reasonable opportunity of hearing in such fresh proceedings.

Addition on account of capitalization of Software expenses - CIT(A) deleted the addition - Held that:- First item is .....

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ar, would not be admissible for deduction during the year in question. If the amount is paid for one year, then the subscription period covered during the year will be deductible and the remaining amount will qualify for deduction in the succeeding year. In the absence of the availability of the date and the period of subscription period, we set aside the impugned order on this issue and send the matter to the AO for deciding it in conformity with our above observations.

Website charg .....

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on @ 60% as applicable to computer. Our view is fortified by the judgment of the Hon’ble Delhi High Court in CIT vs. BSES Yamuna Powers Ltd. [2010 (8) TMI 58 - DELHI HIGH COURT] and that of DCIT VS. Datacraft India Ltd. (2010 (7) TMI 642 - ITAT, MUMBAI) .

Addition on account of deferred revenue expenditure - CIT(A) deleted the addition - Held that:- The factual matrix of this ground is that the assessee capitalized certain sum for development of a new product called TAF60. Till 30.9.2 .....

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unal in the assessee’s own case for the AY 2007-08 decided in the assessee’s favour. Thus we uphold the impugned order in allowing deduction for a sum of ₹ 37.03 lac, which has been admittedly claimed on the same percentage of 25% as for the year dealt with by the tribunal.

Addition of ₹ 2 lac on account of disallowance of Miscellaneous expenses - non-availability of certain details - CIT(A) delted addition - Held that:- We are satisfied with the decision of the ld. CIT(A .....

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u Goel, Advocate For The Respondent : Shri Amrendra Kumar, CIT, DR & Ms Y. Kakkar, Sr.DR ORDER PER R.S. SYAL, AM: This appeal by the Revenue and the Cross Objection by the assessee emanate from the order passed by the CIT(A) on 31.01.2011 in relation to the assessment year 2005-06. 2. First ground of the Revenue s appeal has two parts. The first segment challenges the inclusion of two companies by the ld. CIT(A) in the list of comparables. The only issue raised by the assessee in its cross o .....

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a Claas KGaA mbH, Germany. Until 31.8.2002, the assessee was known as Escorts Claas Ltd., with 60:40 joint venture between Escorts India Ltd., and Claas, Germany. Thereafter, the entire shareholding was acquired by Claas, Germany. The assessee s main activity is manufacture and sale of harvester combines in India and export of harvester combines and engine harvester combines and engine related products, licensed by Claas Group. The assessee manufactures two types of harvester combines, namely, .....

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of Operating Profit/Total Cost (OP/TC). All the international transactions were aggregated and a combined OP/TC was computed. The assessee chose three companies as comparable, namely, Eicher Motors, Force Motors and VST Tractors & Tillers. The assessee claimed that its adjusted OP/TC was at arm s length. The TPO included M/s Punjab Tractors Ltd. (Segment), as one of the comparables, and excluded Eicher Motors and Force Motors from the list of comparables drawn by the assessee. In a nutshell, .....

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inst the inclusion of Eicher Motors and Force Motors. Since the assessee has not pressed its cross objection, through which the inclusion of Punjab Tractors Ltd. (Seg.) was assailed, it becomes manifest that VST Tractors and Tillers along with Punjab Tractors Ltd., (Seg.) have been accepted by the assessee as proper comparables. Now, we will deal with the Revenue s challenge to the inclusion of M/s Eicher Motors and M/s Force Motors. M/s Eicher Motors 4.1. The assessee included this company in t .....

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gainst the inclusion of this company in the final list of comparables drawn by the ld. first appellate authority. 4.2. We have heard the rival submissions and perused the relevant material on record. There is no dispute on the fact that the assessee is following the TNMM as the most appropriate method. It is also admitted that the assessee deals in harvester combines and not tractors. It is equally unopposed that Eicher Motors is engaged in the business of manufacture and sale of tractors and no .....

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(ALP). Whereas the Comparable uncontrolled method (CUP) demands the scale of similarity of a highest order, the same can be compromised to some extent under the TNMM. Compromising similarity to some extent under the TNMM does not mean switching over to an altogether different product. A comparison even under the TNMM is contemplated with a comparable uncontrolled transaction. Unless a company is functionally similar, there can be no question of treating it as a probable comparable in the first i .....

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along with their respective price tags, are entirely different from each other. It is beyond our comprehension as to how a manufacturer of a tractor can be considered as comparable with the manufacturer of harvester combine. Simply because both the machines fall in the overall category of Agricultural equipments , it does not mean that they become comparable to each other. If one accepts such a logic as applied by the ld. CIT(A), then the manufacturer of other agricultural equipments, such as t .....

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s of M/s Force Motors are mutatis mutandis similar to those of M/s Eicher Motors. This company, initially considered as comparable by the assessee, was also excluded by the TPO on the same reasoning as given for M/s Eicher Motors and the ld. CIT(A) also upheld the inclusion of this company in the list of comparables by following the same reasoning as given by him for M/s Eicher Motors. In view of our above discussion made in the context of M/s Eicher Motors, we hold that M/s Force Motors cannot .....

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rage capacity utilization of 44%. That is how, the assessee claimed capacity utilization adjustment by reducing its operating costs accordingly. In support of deduction, the assessee filed a report of Mr. Chandra Wadhva, a Cost Accountant. As per this report, the capacity utilization of the assessee as well as the comparables was initially raised to 100%. The TPO partly accepted the claim of the assessee. He considered VST Tractors and Tillers and Punjab Tractors Ltd. (Seg.) for the purposes of .....

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%, being, the average capacity utilization of comparables chosen by him). Similarly, he reduced the amount of Depreciation claimed by the assessee at ₹ 1,19,60,921 to ₹ 64,23,458 by applying the same factor of 29/54. After allowing this capacity utilization adjustment, he determined OP/TC of the assessee at a loss of (-) 7.78%. Total cost of the assessee was taken at ₹ 36.88 crore. By applying the arithmetic mean of the profit rate of comparable companies chosen by him at 11.92 .....

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Apart from the adjustments allowed by the TPO on Administration expenses and Depreciation, the ld. CIT(A) also reduced Advertisement & Marketing expenses, Employee cost (by taking entire employee cost, other than bonus, at ₹ 35515709 as fixed). The Revenue is aggrieved against the allowing of capacity utilization adjustment to this extent by the ld. CIT(A). 8. We have heard the rival submissions and perused the relevant material on record. Before embarking upon the question of allowabi .....

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ed into two sub-issues for consideration, viz., first, whether the adjustment should be allowed in the hands of the assessee as has been done by the authorities below or comparables and second, how to compute capacity utilization adjustment under the TNMM. We will deal with these aspects one by one. i. Capacity adjustment should be allowed in whose hands ? 9.1. It has been noticed above that the assessee claimed idle capacity adjustment by reducing its own operating costs. It is further observed .....

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o the manner of computation of the arm s length price under TNMM, which has been set out in Rule 10B(1)(e) as under:- (e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base ; (ii) the net profit margin realised by the .....

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the amount of net profit margin in the open market ; (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii) ; (v) the net profit margin thus established is then taken into account to arrive at an arm s length price in relation to the international transaction. 9.2. Sub-clause (i) in the process of determination of the ALP under the TNMM talks of the computation of net operatin .....

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differences, if any, between the international transaction and the comparable uncontrolled transactions, ..... which could materially affect the amount of net profit margin in the open market. It is this adjusted net profit margin of the unrelated transactions or of the comparable companies, as determined under sub-clause (iii), which is used for the purposes of making comparison with the net profit margin realized by the assessee from its international transaction as per sub-clause (i). 9.3. S .....

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; (iii) of Rule 10B(1)(e) in juxtaposition to sub-rules (2) & (3) of rule 10B, the position which emerges is that the net operating profit margin of comparable companies calls for adjustment in such a manner so as to bring both the international transaction and comparable cases at the same pedestal. In other words, if there are no differences in these two, then the average of the net operating profit margin of the comparable companies becomes a benchmark. However, in case there are some diff .....

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account of the material differences between the international transaction of the assessee and comparable uncontrolled transactions. It is not the other way around to adjust the profit margin of the assessee. In other words, the net operating profit margin realized by the assessee from its international transaction is to be computed as such, without adjusting it on account of differences with the comparable uncontrolled transactions. The adjustment, if any, is required to be made only in the pro .....

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rticular manner alone, it is not open to anyone to adopt a contrary or different approach. As the authorities below have adopted a course of action in allowing adjustment, which is not in consonance with law, we cannot approve the same. The impugned order is set aside and the matter is restored to the file of the TPO/AO for giving effect to the amount of idle capacity adjustment in the operating profit of the comparables and not the assessee. ii. How to compute capacity utilization adjustment un .....

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under the TNMM, the first step in granting capacity utilization adjustment is to ascertain the percentage of capacity utilization by the assessee and comparables. There can be no difficulty in working out these percentages. The second step is to give effect (positive or negative) to the difference in the percentage of capacity utilizations of the assessee vis-à-vis comparables, one by one, in the operating profit of comparables by adjusting their respective operating costs. Operating cost .....

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r down by considering the percentage of capacity utilization by the assessee and such comparable. It can be illustrated with the help of a simple example. Suppose the fixed costs incurred by a comparable (say, A) are ₹ 100 and it has capacity utilization of 50% as against the capacity utilization of 25% by the assessee. The above percentages show that the assessee has incurred full fixed costs with 25% of the utilization of its capacity, as against A incurring full fixed costs with 50% of .....

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incurred fixed costs by it at ₹ 100. When we compute operating profit of A by substituting the fixed costs at ₹ 200 with the actually incurred at ₹ 100, it would mean that the fixed costs incurred by the assessee and A are at the same capacity utilization. There can be converse situation as well. Suppose the fixed costs incurred by a comparable (say, B) are ₹ 100 and it has capacity utilization of 25% as against the capacity utilization of 50% by the assessee. The above p .....

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8377; 50 (Rs.100 into 25/50) as against the actually incurred fixed cost by it at ₹ 100. When we compute operating profit of B by substituting the fixed costs at ₹ 50 with the actually incurred at ₹ 100, it would mean that the fixed costs incurred by the assessee and B are at the same capacity utilization level. 10.3. Turning to the facts of the instant case, we find that both the TPO as well as the ld. CIT(A) have proceeded on a wrong premise not only by allowing capacity util .....

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parable. Naturally, they would also go out of reckoning in the computation of idle capacity utilization adjustment. In the absence of the availability of financials of all the comparable companies, it is not possible at our end to work out the amount of capacity adjustment in the manner discussed above. Ergo, we set aside the impugned order and direct the TPO/AO to work out the amount of capacity utilization adjustment afresh in terms of our above observations. Needless to say, the assessee will .....

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5/- for website charges and ₹ 1,900/- towards purchase of modem. The AO capitalized these three items with a total of ₹ 1,54,406/- and allowed depreciation as applicable to computers on such amount @ 60%. This led to the making of addition of ₹ 61,762/-. The ld. CIT(A) deleted the addition. 11.2. After considering the rival submissions and perusing the relevant material on record, we find that the first item is anti-virus software subscription for which a sum of ₹ 1,49,61 .....

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on. If the amount is paid for one year, then the subscription period covered during the year will be deductible and the remaining amount will qualify for deduction in the succeeding year. In the absence of the availability of the date and the period of subscription period, we set aside the impugned order on this issue and send the matter to the AO for deciding it in conformity with our above observations. 11.3. Coming to the Website charges of ₹ 2,895/-, we find that the creation of websit .....

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ctfully following the precedent, we uphold the impugned order to this extent. 11.4. The third amount is price of modem. In our considered opinion, the same is a capital expenditure eligible for depreciation @ 60% as applicable to computer. Our view is fortified by the judgment of the Hon ble Delhi High Court in CIT vs. BSES Yamuna Powers Ltd. 2010 -TIOL-636-HC-DEL-IT and that of the Special bench of the tribunal in DCIT VS. Datacraft India Ltd. (2010) 133 TTJ (Mumbai)(SB) 377. The impugned order .....

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on its development between 1.10.2003 to 31.3.2004. The assessee capitalized the entire sum and claimed deduction @ 25% of the same in the earlier years and in the year in question. The AO treated this amount as capital expenditure and did not allow any deduction. The ld. CIT(A) accepted the assessee s claim. 12.2. After considering the rival submissions and perusing the relevant material on record, we find that similar issue came up for consideration before the Tribunal in the assessee s own cas .....

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