TMI Blog2015 (8) TMI 922X X X X Extracts X X X X X X X X Extracts X X X X ..... 08-09 is ₹ 4071,95,89,546. The adjustment proposed after order from the DRP is ₹ 114,82,92,425. This amount is also within 5% of the cost base determined by the TPO himself. Accordingly, no adjustment could have been made in view of the proviso to section 92C of the Act. The TPO is not right in including the cost of sales while determining arm’s length price and not considering the same while applying proviso to section 92C of the Act. According to provision of section 92C first arm’s length price has to be determined. Thereafter the same has to be compared with the price charged by the assessee and if the difference between the price determined by TPO and the price charged by the assessee is within ±5% then no adjustment is required to be made. - Decided in favour of assessee. - ITA No. 6463 & 5082/Del/2011 - - - Dated:- 20-8-2015 - SHRI I.C. SUDHIR AND SHRI T.S. KAPOOR, JJ. For the Appellant : Shri Ved Jain Ms. Rano Jain, CAs For the Respondent: Shri Sanjay Prasad, CIT( DR) ORDER PER I.C. SUDHIR: JUDICIAL MEMBER These are two appeals for the assessment year 2007-08 and 2008-09 directed against the order dated 21-10-2011 and 26-11-2012 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ating expenses. The contention of the assessee was that the average berry ratio come out to 1.34 as against 1.09 computed on the basis of the 20 comparables set out in the transfer pricing study and hence the transactions entered into by the assessee company was at arm s length price. 8. The learned TPO, however, did not agree with the assessee s contention. The TPO was of the view that under Rule 10B(4, the data to be used has to be only of the related financial year. The leaned TPO was also of the view that the way the assessee has computed arm s length price by using berry ratio as PLI, the entire international transactions relating to sales and services of the commodities have remained out of the PLI. The learned TPO was of the view that the cost of sale is to be included in the denominator of the PLI used. It was the contention of the learned TPO that as per the Income Tax Rules operating expenses cannot be the basis as these expenses do not include cost of sales. The TPO in support thereof invoked the provisions of Rule 10B(1)(e)(i) to hold that net profit margin realized by an assessee from an international transaction entered into with associated enterprises is to be com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt is given below: Approx. Cost base of AE-segment (AE service segment + AE- trading segment) 45,589,044,859 (A) Mean of OP/TC of comparables (Arm s length OP/TC): (B) 3.32% Operating profit reported before including value of goods on which commission is earned: (C) 59,774,453 Arm s length profit(D)=(A)X(B) 1,513,556,289 Deficit = D-C 1,453,781,837 The above difference of ₹ 1,453,781,837 is proposed as an adjustment to the value of international transactions for FY 2006-07 10. In response to the show cause notice issued by the learned TPO the assessee submitted a detailed reply contending as under:- i. The assessee essentially in the business of providing sales support and coordination activities in relation to its international transactions: The assessee argued by comparing the FAR of trader vis- -vis a service provider and concluded that the FAR of the assessee is akin to the FAR of a service provider. ii. Berry R ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... justment thus was increased from ₹ 107,53,92,764/- to ₹ 110,73,05,095/- in assessment year 2007-08. In the A.Y. 2008-09 14. During the assessment year 2008-09, the assessee company entered into following transactions:- Transaction (Rs.) 1. Provision of services 687,916,048 2. Purchase of goods 127,624,787 3. Sale of goods 23,900,120 4. Purchase of assets 1,289,604 5. Reimbursement of expenses received/ receivable 53,342,485 6. Reimbursement of expenses paid/payable 127,537,685 15. The learned TPO following order of assessment year 2007-08, recharacterized the transaction as trading transaction and by including ₹ 4005 Crores as cost of goods sold in the combined AE segment and by applying a margin of 2.91% proposed an addition of ₹ 116,60,28,331/-. 16. In ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ompany was established only to provide support services to the existing business of the Mitsui Japan and as such to cut price such transaction and compare the same with the trading transactions is not correct.TPO has not been able to point out any error in the comparables submitted by the appellant company and the same being at arm s length, the adjustment proposed by the TPO and as confirmed by the DRP needs to be deleted. The TPO has gone wrong in benchmarking the business support services provided by the assessee company to AE with that of independent trading transactions for determining the arm s length price in respect of business support services. 18. It was further argued by the ld. AR that the company is engaged in providing business support services to various group companies of Mitsui Japan. For this it has entered into arrangements whereby it provides business support services which include:- (i) Support in business promotion (ii) Collection of market information (iii) Coordination with customers (iv) Collection of account receivables from client on behalf of AE (v) Administrative services (vi) Networking (vii) Other support services The Learne ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ties in supply chain without being a part of the supply chain. The assessee company has created human intangibles. In this regard the AR submitted that TPO has just made a literary reference in his order about human intangibles and held that assessee has created human capital intangible ignoring the facts and the detailed reply submitted by the assessee. The facts are that the activities performed by the assessee are routine, preparatory and auxiliary in nature which does not create any intangibles. Organizations providing support services employ human resources for the same and that does not lead to creation of any intangibles. Assessee s role is limited to that of a routine coordination and support service provider. It is Mitsui Japan which has the expertise, a strong relation with a vast network of manufacturers, distributors and buyers. 20. On the issue of inclusion of cost of sales in the denominator it was submitted by the Learned AR that reasoning given by the TPO in the order that compensation model in the case of the assessee should be expressed as a percentage of FOB price of goods serviced through the assessee is also wrong. In this regard the observation of the TP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... revalent in respect of such product goods. In the present case the nature of products and items varies a lot. The TPO without even looking at any of these items details has in a most arbitrary manner considered trading as one and the same to support services and applied trading margin in different nature of the product and items to the support services taking turnover of the AE as the basis. That the TPO was not justified in re-characterizing the transaction of business support services as that into trading and applying the profit margin in the trading as the PLI. 21. It was argued by the ld. AR that in the preceding assessment year i.e. 2006-07, the assessee s method of benchmarking its international transaction relating to provision of business support services using TNMM at the most appropriate method with OP/TC as PLI has been accepted and the addition was made only with regard to the margin computed with reference to the comparables used. The basis for computation i.e. OP/TC as PLI was not tinkered with. That there is no change in the nature of services being provided by the assessee company to its associate enterprise since 2003 when the appellant company was incorporated ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lar issue has come up and the coordinate bench has held that TPO was not justified in re19 characterizing the transaction as trading transaction and it has been further held that cost of sales can t be included. 25. It was further submitted by the learned AR that even as per TPO s computation no adjustment can be made to the arm s length price in view of the proviso to Section 92C as applicable for the assessment years under consideration the margin is within 5% of the price at which international transaction has been undertaken by the assessee company. In this regard the learned AR submitted that the TPO after holding that cost of goods sold is a relevant criteria has not taken the issue to its logical conclusion. Per contrary he has proposed an adjustment of ₹ 107,53,92,762/- whereas considering the provisions of proviso to section 92C(2) no adjustment was called for. It was submitted that the proviso to Section 92C actually talks about comparing the price of international transaction with the Arm s length Price so determined. Thus even if it is assumed, without accepting it, that TPO has correctly calculated the mean PLI of 2.49%, then also TPO has erred in making addit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ices to the parent company in Japan engaged in Sogo Shosha i.e. general trading companies, but still each of the case has to be considered on its own merit. 27. On the issue of consistency as argued by the learned AR it was submitted by the Learned CIT(DR) that in the year under consideration the TPO has carried out an in-depth analysis and hence the acceptance of the assessee s arm s length price in the preceding year cannot be a ground to not to make adjustment in the year under consideration. On the issue of the alternative submission of the learned AR it was submitted that this benefit is not available to the assessee company as the method applied is only one method i.e. Transactional Net Margin Method. It was contended that the benefit of this proviso will be available only when arm s length price is determined by applying two methods and the difference in the two methods is within 5 per cent. 28. We have considered the arguments advanced by the parties and gone through the orders of the authorities below as well as the judgments relied upon. On going through the order of TPO in the case of the assessee and the order passed by the ITAT in the case of Mitsubishi Corporati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... entified by Mitsubishi India and also remuneration of sales personnel is determined by Mitsubishi India. Mitsubishi India is responsible for billing and collection. Mitsubishi India provides market research relating to local market and develops marketing strategy. -Identifying potential customers and suppliers. -Information gathering. -Facilitating communication -Arrangement of logistics. -Accounting and administration. -Developing long term strategic policies. -Dealing with finance, accounting, IT and legal issues. -Human Resource Management: (b) risks assumed by the assessee: -bears volume risk -bears foreign exchange risk -bears manpower risk (c) assets used by the assessee: -Fixed asset 29. In the order passed by the learned TPO in the case of the assessee before us, the FAR analysis stated by the TPO in para 5.2.1 is exactly the same as stated hereinabove in the case of Mitsubishi Corporation India (P) Ltd.. The conclusion drawn by the TPO and quoted in the judgment of the Mitsubishi Corporation India (P) Ltd. in para 9 of the order are also exactly the same as in para 5.3 of the TPO s order in the case of the assessee company. Thu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s and then to work out the profit for determination of the arm s length prices. Our view is also supported by the judgment of the Delhi Tribunal in the case of Sojitz India (P) Ltd. vs DCIT (Supra) where a similar issue has come up. In that case also the learned TPO has included the cost of sale of all the AEs while determining the arm s length price and has also considered the transactions entered into by the assessee company as transaction that of trading activity. The ITAT has examined this issue and has held as under:- 12.18 In the aforementioned background we are of the view that in order to adjudicate upon the issues it would be appropriate for us to formulate the questions as under:- (a) Whether the TPO on facts was justified to treat the indenting activity at par with the trading activity ; (b) If the answer to the query posed in (a) is yes then were the margins earned in the trading activity by the assessee with non AEs correctly applied to the indenting activity with AEs ; (c) If the answer to the query posed in (b) is yes then would the 'costs' referred to in Rule 10B (1) (e) (i) be the FOB value of goods on the facts of the present case or would ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... claiming to be engaged in indenting activities or was infact performing all or some of the functions of a trader, in which eventuality the TPO would have been well within his rights to re-characterize the assessee's indenting activities as a trading activity. It is an accepted economic principle that the trader acting as an entrepreneur is exposed to price risk, cost risk, credit risk, warranty risk etc, which would necessitate the contract being entered into and negotiated by assessee. In its indenting activity these facts are not evident. Accordingly the question posed in (a) is answered in the negative. 12.21 Considering the next question posed, even if the answer in (a) is in the negative, we see that there is no reasoning and justification for applying the margins earned in trading activity to indenting activity as the two are distinct and separate. Merely because the assessee was also having a small level of trading activity in its own name, there is no reason available on record either justifying the action of recharacterizing the nature of assessee's activity from a service provider to that of a trader. As observed, neither the TPO has lead any discussion nor ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ngible assets are held by the assessee in terms of supply chain intangibles etc. It is further seen that the AE is trading in a diverse range of goods right from aero space, chemicals, plastics, high technology machinery, automobiles, tele-communications industry or reality etc. and no effort has been made to show that the limited trading activity belongs to which of those segments were anyway the FAR analysis shows that there is no comparison in the two activities 12.25. Accordingly on account of these facts, we are unable to agree with the TPO who chose to re-characterize the activities of the service provider and treated them at par with the activities of a trader since the nature of the activities of a trader and service provider are materially distinct and different. 12.26. As we have held on facts that the two sets of activities are distinct and different, consequently we are of the view that there is no justification for applying the margins earned in trading activity to those earned in the indenting services. As such, we find ourselves unable to agree with the reasoning and the decision of the TPO which has been upheld by the DRP. At the cost of repetition the consist ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee. The said query was also to be addressed only if the answer posed to us in the said question was in the affirmative. Herein also it is seen that although the answer is in the negative but, since the parties have addressed and the facts are available on record we propose to deal with the said question also. 12.30. Rule 10 B (1) (c) (i) reads as under:- Determination of arm's length price under section 92C. 10B. (1) For the purposes of sub-section (2) of section 92C, the arm's length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely : (a) ** ** ** (b) ** ** ** (c) ** ** ** (d) ** ** ** (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; ** ** ** 12.31. In the facts of the present case which have been discussed at length while considering ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... personnel from utilizing any skills which they may have acquired during employment as no specific skills for indenting are required for indenting and acting as a facilitator. It is not the case of the department that the assessee is performing critical functions which admittedly are performed by the AE or that the assessee is contributing by way of analysis, reports and opinions, being provided as such value added services are being performed wherein the analysis/opinions may turn out to the correct or grossly wrong as such due to the high risks of both eventualities occurring the personnel are necessarily highly qualified sought after experts, commanding high salaries. The simple performance of a low risk activity of facilitator does not lead to the conclusion that a human intangible is being created. It is seen that there is no material on record as to how supply chain intangibles are being created as the assessee is using the network and intangibles of its AE. 12.33 Coming to the final question (d), which we have posed to ourselves since the answer to question (a) is in the negative the question regarding justification on facts in applying margins earned in trading activity t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... erform any functions on the goods traded or add any value to the same, by use of unique intangibles or otherwise, the right profit level indicator should be operating profit to operating expenses i.e. berry ratio. In such a situation, no other costs are relevant since (a) the cost of goods sold, in effect, is loses its practical significance, (ii) there is no value addition, and, accordingly, there are processing costs involved, and (iii) there is no unique intangible for which the business entity is to be compensated. 65. As for the objection that use of berry ratio is not permitted under rule 10B(1)(e)(i) as it does not deal with costs incurred, sales effected or assets employed or to be employed, it proceeds on the fallacy that the basis of computation, as set out in rule 10B(1)(e)(i), is exhaustive whereas it is only illustrative and it ends with the expression or having regard to any other relevant base . Just because a cost base is not of costs incurred, sales effected or assets employed, such a base does not cease to permissible under rule 10B(1)(e)(i) unless such a base can be held to be irrelevant. In view of the elaborate discussions earlier, justifying exclusion of i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r any third party. The textual mandate, thus, is unambiguously clear. 40. The TPO's reasoning to enhance the assessee's cost base by considering the cost of manufacture and export of finished goods, i.e., ready-made garments by the third party venders (which cost is certainly not the cost incurred by the assessee), is nowhere supported by the TNMM under Rule 10B(1)(e) of the Rules. Having determined that (TNMM) to be the most appropriate method, the only rules and norms prescribed in that regard could have been applied to determine whether the exercise indicated by the assessee yielded an ALP. 81. Clearly, therefore, it is impermissible to make notional additions in the cost base and thus take into account the costs which are not borne by the assessee. It is so opined by Hon'ble jurisdictional High Court on a careful analysis of rule 10B(1)(e)(i). It is, therefore, no longer open to the revenue authorities to reconstruct the financial statements of the assessee by including the cost of products incurred by the AEs, in respect of which services are rendered, in its reconstructed financial statements, and then putting the hypothetical trading profits, so arrived at ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to be found out by using various comparables. When more than one comparable is applied then arithmetical mean is to be worked out and no adjustment is to be made when arm s length price is determined on the basis of such arithmetical mean is within 5% of the cost paid or charged by the assessee. 34. In the present case the most appropriate method applied by the learned TPO is TNMM. The arm s length price has been determined using more than one comparable as is evident from the TPO s order for both the assessment years. This arithmetical mean has been taken into consideration for determination of the arm s length price by the TPO as is evident from the TPO order and accordingly the proviso to section 92C will be applicable to the present case. Since in the present case such difference is less than 5% and hence no adjustment can be made. 35. Accordingly under the facts and the reason discussed hereinabove and respectfully following the order of the co-ordinate bench on an identical issue under almost similar facts, we are of the view that adjustment made by the Assessing Officer in the assessment order cannot be sustained and the same are directed to be deleted. Accordingly ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
