TMI Blog2012 (11) TMI 1107X X X X Extracts X X X X X X X X Extracts X X X X ..... ty rate is at arm length price - assessee's payment of royalty cannot be disallowed invoking the TP provisions - Decided in the favor of assessee - ITA Nos. 2057 & 2058/Mum/2009 - - - Dated:- 7-11-2012 - B. Ramakotaiah (Accountant Member) And Amit Shukla (Judicial Member) For the Petitioner : R. Murlidhar For the Respondent : Ajeet Kumar Jain, CIT (Dr) ORDER 1. These two appeals are by assessee against the orders of the CIT (A)-32 Mumbai, dated 30.01.2009. Since common issues are involved in both the appeals, these were decided together. Assessee placed on record a paper book running to pages 1 to 197 and also case law which were considered. 2. Briefly stated, assessee was incorporated as Household Remedies (P) Ltd on 9.10.1987. It had entered into a technical license agreement with M/s Sumitomo Chemical Co. Ltd (SCCL) dated 19.4.2000 for grant of license for non exclusive, non transferrable, non assignable license to use technology in India solely and exclusively for the allowed purpose i.e. for commercial production of Pynamine Forte and other products that may be mutually agreed upon between the parties from time to time in writing. AO accepts that asses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cides and pesticides and the royalty being paid from financial year 2000-01 onwards and this agreement was also approved by the RBI vide their letter dated 25.9.2000 (Page 26 of the paper book) for a period of seven years on the ex-factory price. It was further submitted that assessee has not paid royalty on entire sales price, but only on the value addition made to the intermediates purchased from the principal company, therefore, no royalty was paid on purchase cost of the raw material and only on the value addition. In support assessee placed the certificate from the Chartered Accountant to demonstrate about the royalty working (page 194 of the paper book) and also furnished details of sales made to outside parties i.e. third parties so as to counter the observations of the TPO that assessee has sold only to the group concerns. The learned CIT (A), while affirming that assessee was contract manufacturer however, allowed royalty payment on the sales made to outside parties and partly allowed the claim. 4. Assessee is aggrieved on this and the grounds were raised which are similar in both the years. For the sake of record, the grounds raised in assessment year 2003-04 are extra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... also sold to third parties at ₹ 24.00 crores whereas the sales to SCI was ₹ 62.33 crores in assessment year 2004-05. He further submitted that the royalty was not paid on entire sale price but only on the value addition made by assessee while manufacturing insecticides and pesticides from the intermediates imported from SCCL. It was further submitted that the CIT (A) allowed royalty at 5% in sales made to third parties, whereas assessee has paid royalty at the same price to SCCL whereas the sales were made to its 100% subsidiary in India at the arm's length price. It was his submission that the price charged to SCI and to outside parties was the same and this was accepted by the TPO as arm's length price. Even purchases of the intermediates were also accepted as that of arms length price. Therefore, since assessee has obtained technical knowhow from SCCL, 5% royalty on the entire value addition made should have been allowed by the CIT (A) rather than restricting to sales made to third parties. He further submitted that assessee is not a contract manufacturer and referred to the percentage of raw material imported, indigenous material and packing material so as t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... manufacturing. What assessee's Counsel was distinguishing is between the full fledged manufacturing and toll manufacturing and not contract manufacturing. He referred to page 186 of the paper book i.e. Schedule-I to the TP Report to submit that the Chartered Accountant has certified that the manufacturing of goods carried on by assessee is wholly dependent on the use of technical knowhow of which associate enterprise is the owner and goods manufactured by assessee are sold to the persons, prices and other conditions as influenced by the associate enterprise. Referring to the schedule-I and also the functional analysis submitted by assessee in the TP report, it was his submission that assessee is a contract manufacturer. Further he also referred to the percentage of raw material used in manufacturing to submit that assessee is controlled by the principle company in manufacturing activity. Therefore, it cannot be considered as an independent manufacturer and in a contract manufacturing there is no requirement of royalty payment. It was his submission that AO has rightly considered that there is no need to pay any royalty. In support of his contention that assessee is a contract ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... roved sales to the authorized persons only but there is no control of the pricing or marketing or any other aspect of it. He referred to the manufacturing activity and to the fact that assessee is purchasing intermediates and utilizing it in its own machineries for production of specified chemical/ insecticides and pesticides and packing them in different packs. It was also submitted that assessee's sales are independent of principal except that the parties are to be approved by the principal. It was submitted that assessee is having proper license to manufacture products on its own and it cannot be considered as contract manufacturing as there is no arrangement either for contract manufacturing or paying charges for it. Even if the third party obtains license, similar conditions are being placed and royalty has to be made for technology transfer which was approved by the RBI at 5% on value addition made by assessee in the manufacturing process. 11. We have considered the rival contentions. As seen from the record assessee entered into an agreement for obtaining license to manufacture specified insecticides and pesticides and agreed to pay 5% royalty on the value addition an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t is not necessary to show that the expenditure was a profitable one or that in fact any profit was earned . In CIT v. Walchand Co. etc., (1967) 65 ITR 381, it was held by the Supreme Court that in applying the test of commercial expediency for determining whether the expenditure was wholly and exclusively laid out for the purpose of business, reasonableness of the expenditure has to be judged from the point of view of the businessman and not of the Revenue. It was further observed that the rule that expenditure can only be justified if there is corresponding increase in the profits was erroneous. It has been classically observed by Lord Thankerton in Hughes v. Bank of New Zealand, (1938) 6 ITR 636 that expenditure in the course of the trade which is un-remunerative is none the less a proper deduction if wholly and exclusively made for the purposes of trade. It does not require the presence of a receipt on the credit side to justify the deduction of an expense . The question whether an expenditure can be allowed as a deduction only if it has resulted in any income or profits came to be considered by the Supreme Court again in CIT v. Rajendra Prasad Moody, (1978) 115 ITR 519, and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in his business, he could have fared better had he not incurred such expenditure. These are irrelevant considerations for the purpose of Rule l0B. Whether or not to enter into the transaction is for the assessee to decide. The quantum of expenditure can no doubt be examined by the TPO as per law but in judging the allowability thereof as business expenditure, he has no authority to disallow the entire expenditure or a part thereof on the ground that the assessee has suffered continuous losses. The financial health of assessee can never be a criterion to judge allowability of an expense; there is certainly no authority for that. What the TPO has done in the present case is to hold that the assessee ought not to have entered into the agreement to pay royalty/ brand fee, because it has been suffering losses continuously. So long as the expenditure or payment has been demonstrated to have been incurred or laid out for the purposes of business, it is no concern of the TPO to disallow the same on any extraneous reasoning. As provided In the OECD guidelines, he is expected to examine the international transaction as he actually finds the same and suitable adjustment but a wholesale disall ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsidered as contract manufacturing. Even though admittedly assessee mentioned in the TP report that the arrangement is in the nature of contract manufacturing, the facts indicates otherwise. The royalty was paid as per the agreement on the value-added price to the SCCL for providing the license and technical knowhow. This payment is independent of whether assessee is full fledged manufacturer or a contract manufacturer or a toll manufacturer and the nature of manufacturing activity cannot have any bearing on the payment of royalty. As submitted, the royalty is not paid on the entire sales price but only on the value added price which was worked out separately. We are also surprised that the CIT (A) restricted the royalty on the sales to AE only when the sales to AE was at arms length price as that of sales to third parties. There is no logic in allowing the sales made to the third parties and not on sales made to AE. As already stated the said agreement was approved by the RBI for payment of royalty at 5% for a period of 7 years. There was also no such disallowance in earlier years. Since we do not find any reason to restrict the royalty to Nil, we are not in a position to approve ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dividend provisions under section 2(22)(e). AO accepted the submissions and no adverse inference was drawn on this issue. However, based on the TP report for assessment year 2004-05, AO similarly disallowed the royalty amount even though on record there seems to be no reference to the TPO as prescribed under the provisions. Since the issue of disallowance of royalty was not an issue for reopening the assessment and the issue on which the assessment was reopened was dropped in the course of the assessment proceedings, AO has exceeded the jurisdiction provided under section 147 as held by the Hon'ble Bombay High Court in the case of CIT vs. Jet Airways (I) Ltd, 331 ITR 216 (Bom). AO gets power to assess such other income, only if the income referred to in the reasons for reopening has been assessed. As the AO did not bring any income to tax on the issue of deemed dividend, we hold that reopening of the assessment itself was bad in law. Therefore, in AY 2003-04 it has to be held that the re-assessment per se was bad in law. 19. In the result, both the appeals by assessee in ITA Nos. 2057 2058/Mum/2009 are allowed. Order pronounced in the open court on 7th November, 2012. ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
