TMI Blog2012 (5) TMI 613X X X X Extracts X X X X X X X X Extracts X X X X ..... expenses that are attributable to export outside India so as to be excludible from the figure of ‘export turnover’ as well as total turnover, and thereafter rework the deduction under section 10B - ITA No. 133/PN/11 - - - Dated:- 25-5-2012 - SHRI I C SUDHIR, JUDICIAL MEMBER AND SHRI G.S. PANNU, ACCOUNTANT MEMBER For the Petitioner : Shri Farrokh V Irani, Rajesh Parikh R Ananda Krishnan For the Respondent : Shri Narendra Kumar, CIT ORDER PER G.S. PANNU, A.M.: This appeal by the assessee is directed against the order dated 29.9.2010 passed by the Dispute Resolution Panel, Pune, Income-tax Department read with Draft assessment order of the Dy. Commissioner of Income-tax Cir. 7 passed under section 143(3) of the Income-tax Act, 1961 (in short the Act ), pertaining to the assessment year 2006-07.. 2. The appellant company is part of Vishay Group, which is a leading international manufacturer and supplier of electronic components. The assessee-company is involved in manufacture of resistors and capacitors used in various electronic applications/products. The manufacturing facilities of the assessee-company include a Domestic Tariff Area unit (DTA ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s. The PLI i.e. operating margin on operating cost in the case of assessee was worked out at 15.12% and the average operating margin of the external comparable chosen by the assessee was worked out at 20.35%. After considering the option allowed under the proviso to sec. 92C(2) of the Act of +5% , the assessee concluded that the international transactions with its AEs were at ALP as per the Indian transfer pricing perspective. In coming to such conclusion, the assessee adopted the following external comparables. Sr. No. Name of the Company PL1 Operating margin on operating cost Average Operating margin on operating cost 2006 2005 2004 1. CTR Manufacturing Industries Ltd. 30.03% 28.11% NC 29,.16% 2. Gujrat Poly-Avx Electronics Ltd. 48.73% 39.90% 29.96% 40.11% 3. Incap Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ead Description Amount (Rs) 1. Operating income Manufacturing sale + Sale of scrap 108,7457,000 +48,32,000 = 109,22,89,000 2. Operating cost Including depreciation Total expenses -cost for back office activities -financial expenses 109,65,60,000 -2,18,75,000 -36,69,000 =107,10,16,000 3. Depreciation 9,79,82,000 4. PBDIT 1-2+3 11,92,55,000 5. Operating profit Margin 4/(2-3_ 12.25% 8. In this connection, the plea of the assessee is that costs of ₹ 2,13,78,691/- pertaining to RISFIC project and ₹ 50,00,000/- in the case of power capacitor project are extraordinary costs, which are abnormal and incurred only in the initial phase of production and therefore it should be excluded from the operating costs in order to arrive at the operating profit margin. The precise submission of the asses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... above cost from the operating costs as such costs being abnormal and non-operating in nature. Cost pertaining to power capacitors project In connection with the project of power capacitors, it is further bought to your goodself s attention that the said project was in a nascent stage with negligible sales value during the year ended 31st March 2006. The sales for this project picked up in the later years. However, Vishay India incurred substantial costs for recruitment of marketing staff and their training and travel as well as participation in various exhibitions. Therefore, these costs have been excluded from the operating costs. In view of the above, the assessee requests your Goodself to exclude the above cost from the operating costs as such costs being abnormal and non-operating in nature. 9. The Revenue has opposed the plea on the ground that both the costs are incurred during normal business operations and that the assessee has not demonstrated as to whether the Comparable Companies did not have to incur any such expenses. 10. Before us, learned Counsel for the appellant, has referred to Rule 10B(3) of the Income-tax Rules, 1962 (in short the Rules ) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... reliance on rule 10B(3) of the Rules and the OEC Guidelines, which lays emphasis on adjustment for difference between the transactions being compared which are likely to materially affect the profit arising from such transactions in the open market for which reasonably accurate adjustments are possible. Thus the differences on account of higher imports and warranty provision have resulted into lower profit as compared to the transactions in the open market for which reasonable adjustment is possible. In view of the above, the appellant submits that the margins of appellant be adjusted to take into consideration excess warranty claims and high import cost. 35. Elaborating the above, Ld Counsel for the assessee has mentioned that assessee imported components and spares from AE to the tune of ₹ 602.18 lakhs for manufacturing segment. It works out to nearly 40% of total imports i.e. ₹ 1557.38 lakhs. Referring to the comparables, it is brought to our notice that the imports of the comparables works out to merely 3.68% and therefore, there are differences and they have to eliminated by way of adjustments to be a credible comparables to the tested party s data. As ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (in para 19 of the order) that,- No doubt , a higher import content of raw material by itself does not warrant an adjustment in operating margins, as was held in Sony India (P) Ltd. s case (supra), but what is to be really seen is whether this high import content was necessitated by the extraordinary circumstances beyond assessee s control. As was observed by a Coordinate Bench of this Tribunal in the case of E-Gain Communication (P) Ltd. (supra) the differences which are likely to materially affect the price, cost charged or paid in, or the profit in the open market are to be taken into consideration with the idea to make reasonable and accurate adjustment to eliminate the differences having material effect . We do not agree with the AO that every time the assessee pays the higher import duty, it must be passed on to the customers or it must be adjusted for in negotiating the purchasing price. All these things could be relevant only when higher import content is a part of the business model which the assessee has consciously chosen but then if it is a business model to import the SKD kits of the cars, assemble it and sell it in the market, that is certainly not the busines ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the above cited guidelines by way of decision of this bench of the Tribunal in the case of Skoda Auto India p Ltd (supra) were not available to the revenue authorities. Therefore, we are of the opinion, the issue should be set aside to the files of the TPO with direction to examine the claim of the assessee relating to the import cost factor and eliminate the difference if any. However, the TPO/AO/DRP shall see to it that the difference in question is likely to materially affect the price/profit in the open market as envisaged in sub rule (3) of Rule 10B of the Income tax Rules, 1962. Accordingly, ground 4(b) is allowed pro tanto. 13. Furthermore, the appellant pointed out that the Comparable Companies, have not incurred any start-up activity cost as is amply clear from the Annual Reports. 14. In view of the aforesaid discussion, in our view, the assessee ought to succeed on this Ground and we accordingly direct the AO/TPO to examine the claim of the assessee in the light of the directions contained in the order of the Tribunal in the case of Demag Cranes components (India) Pvt. Ltd (supra) dated 4-1-2012. 15. Another issue raised by the assessee relates to computi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at price of the international transaction disclosed by them exceeds the margin prescribed in the Proviso. 21. So, however, the other argument set up by the Revenue and which has been more potently argued is to the effect that the benefit of such Proviso is not available to the assessee in the instant case, because the said Proviso has been amended by the Finance (No 2) Act, 2009 with effect from 1.10.2009 which reads as under: Provided that where more than one price is determined by the most appropriate method, the arm s length price shall be taken to be the arithmetical mean of such prices: Provided further that if the variation between the arm s length price so determined and price at which the international transaction has actually been undertaken does not exceed five per cent of the latter, the price at which the international transaction has actually been undertaken shall be deemed to be the arm s length price. The case set up by the Revenue is that the amended Proviso shall govern the determination of ALP in the present case, inasmuch as the amended provisions were on statute when the proceedings were carried on by the Transfer Pricing Officer (TPO). As per the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... st day of April of the assessment year must apply to the assessment of the year and the modification of the provisions during the pendency of assessment would not generally prejudice the rights of the assessee. Furthermore, we are fortified by the intention of the Legislature as found from circular No 5 of 2010 (supra) whereby in para 37.5, the applicability of the above amendment has been stated to be with effect from 1.4.2009 so as to apply in respect of assessment year 2009-10 and subsequent years. In this regard, we also find that the Delhi Bench of the Tribunal in the case of ACIT v UE Trade Corporation India (P) Ltd. vide ITA No 4405(Del)/2009 dt 24.12.2010 has observed that the proviso inserted by the Finance (No 2) Act, 2009 would not apply to an assessment year prior to its insertion. In this view of the matter, we therefore find no justification to deny the benefit of +/-5% to the assessee in terms of the erstwhile Proviso for the purposes of computing the ALP. 23. However, before parting we may also refer to a Corrigendum dated 30.9.2010 by the CBDT by way of which para 37.5 of the circular No 5/2010 (supra) has been sought to be modified. The Corrigendum reads as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 010 and, therefore, such withdrawal shall be effective only after 30.9.2010, even if such Corrigendum is accepted as valid. We may note here that the appellant has assailed the validity of the Corrigendum itself on which we have not made any determination. Therefore, the Corrigendum dated 30.9.2010, in our considered opinion, has no bearing so as to dis-entitle the assessee from its claim of the benefit of +/-5% in terms of the erstwhile proviso to section 92C(2) of the Act. In coming to the aforesaid, we have been guided by the parity of reasoning laid down in the judgments of the Hon ble Bombay High Court in the cases of BASF (India) Ltd. v CIT 280 ITR 136 (Bom); Shakti Raj Films Distributors v CIT 213 ITR 20 (Bom); and, Unit Trust of India Anrs. v ITO 249 ITR 612 (Bom). The Hon ble High Court has opined in the case of BASF (India) Ltd. (supra) that the circulars which are in force during the relevant period are to be applied and the subsequent circulars either withdrawing or modifying the earlier circulars have no application. Moreover, the circulars in the nature of concession can be withdrawn prospectively only as held by the Hon ble Supreme Court in the case of State Bank o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ability of the assessee. In a somewhat similar situation, Pune Bench of the Tribunal in the case of Demag Cranes Components (I) Pvt. Ltd (supra) has dealt with the issue of allowing working capital adjustment in the following words: 30. To sum up, the case of the assessee is that in TNMM, the working capital adjustments are required to be done to the margins of the comparable uncontrolled transactions to generate credible comparability data on transactional net margins. On the other hand, if appears that the case of the revenue is that the no such adjustments are called for to the set of comparable, which are supplied by the assessee. 31. We have so far analyzed Rule 10B(1)(e) on one side and other sub rules and in the context of the TNMM, we have analyzed the need for the elimination of the difference, if any in the comparable uncontrolled transactions, which materially affect the profit margin in the open market. It is the requirement of the Rules. Who supplies the set of comparable is not the determining factor on this issue. Having noticed the difference, the revenue has to quantify the difference, if any and then revenue must decide if that difference constitutes mater ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the correct. In our opinion, it is the duty of the TPO to apply the provisions of rule 10B(1)(e) to establish the ALP in relation to international transaction as per the TNPM, which is an undisputed method found applicable to the present case by both the parties. It is a settled accounting principle that the net margins can be influenced by some of the same factors which can influence price or gross margins. Further, it is the requirement of the rules / provisions that any difference which is likely to materially affect the NPM in open market has to be eliminated. TPO must know that the TNMM visualizes the undertaking of the thorough comparability analysis and elimination of the differences through the requisite adjustments. Yes, data availability is the limitation and both the parties need to ensure the procurement and use of the proper documentation. Therefore, we dismiss the revenue s contention that no further adjustment if any is entertained once the comparables are supplied by the assessee and when they are accepted by the TPO. Thus, working capital is a factor which influence the price in the open market and therefore the net profit margin of the business segment of the asse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d be remitted for another round of the proceedings before the revenue authorities. In our opinion, the existence of difference @ 3.41%, which is worth ₹ 31,72,099/-, attributable to the working capital ought to amount to the material difference considering the existing unadjusted operating margin of the comparables at 7.18%. In these circumstances, we are of the opinion that the said working capital differences constitutes quantitatively likely to materially affect the ALP / AL Operating Margin of the comparable. Therefore, the claims of the assessee are allowed. Accordingly, the grounds 4(a) is covered by the cited decisions and is allowed pro tanto. 21. In the light of the aforesaid, the plea of the assessee has to be upheld in principle. So, however, as the issue has not been examined by the lower authorities, we therefore, deem it fit and proper to restore the issue back to the file of the AO/TPO with direction to examine the claim of the assessee relating to working capital adjustment and eliminate such difference, if any, as are likely to materially affect the profit margins, following the parity of reasoning in the case of Demag Cranes Components (India) P ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... owned by Government, it cannot be a criteria to reject the same, inasmuch as ownership structure of a concern is normally not expected to have a bearing on its operating margins. Nevertheless, even if we were to go along with that thought process of the TPO on this count to reject such Comparable Companies, but after having accepted their comparability on account of functionality, the onus was on the TPO to establish that it had certain peculiar features which actually impacted the profit margins. In this context, in para 1.9.2.3 of the written submissions addressed to DRP, a copy of which is placed in the Paper Book at pages 15.1 to 15.11, the assessee has tabulated the employee cost percentage to sales ratio of the Comparable vis- -vis the assessee. In terms of the same, the cost of compensation of employees on sales of Comparable Companies, including, Keltron group of companies works out to 14.68% which is quite comparable with the employee s cost to sales of the assessee-company which stands at 4.68%. Therefore, in our view, having regard to the orders of the authorities below, we finds that Keltron group concerns have been rejected by the TPO on the basis of perceptions which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is that the deduction has been wrongly reduced by reducing the expenses incurred towards insurance and communication expenses amounting to ₹ 38,333,859/- and ₹ 10,94,937/- respectively from the figure of export turnover by wrongly appreciating Explanation 2(iii) to section 10B of the Act. According to the appellant, no such adjustment was required and notwithstanding the aforesaid, it is further submitted that if at all insurance and commission expenses were to be reduced from the figure of export turnover, same be also reduced from the figure of total turnover in order to compute deduction under section 10B of the Act. 28. Before us, the learned Counsel for the assessee submitted that in terms of Explanation 2(iii) to section 10B of the Act only freight, telecommunication charges or insurance attributable to the delivery of the article or thing or computer software outside India are liable to be reduced from the export turnover and in so far as the amount of freight is concerned, assessee had suo motu reduced the same. With regard to the telecommunication charges of ₹ 10,94,937/-, it is submitted that its break-up is as under: Particulars ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the Revenue. As per the learned Departmental Representative, there was no specific clause permitting for exclusion of insurance and communication expenses from the figure of total turnover and, therefore, the Income-tax authorities were justified in not doing so. In so far as the plea of the assessee that no expenditure is incurred on foreign currency for exclusion in terms of Explanation 2(iii) to section 10B of the Act, the learned Departmental Representative submitted that incurrence of expenditure in foreign currency is a condition attached to the second limb of the expenses mentioned in Explanation 2(iii) to section 10B of the Act, which is providing of technical services outside India. Therefore, on this aspect the argument of the appellant has been opposed. 32. We have carefully considered the rival submission on these aspects. Explanation 2(iii) to section 10B of the Act provides the meaning of expression export turnover for the purposes of section 10B of the Act. Section 10B makes a special provision in respect of newly established 100% EOUs. Subsection (1) of section 10B provides that a deduction of such profits and gains as are derived by a 100% EOU from the expor ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ,41,066/- representing telephone expenses, that is liable for consideration in terms of Explanation 2(iii) to section 10B of the Act. Similarly, with regard to the insurance expenditure also, the amount of ₹ 3,25,027/- alone is relevant to be considered in terms of Explanation 2(iii) to section 10B of the Act. On these aspects, we therefore uphold the contention of the assessee, in principle. So however, on this point it would be necessary to examine as to the appropriate amount that is required to be considered as attributable to delivery of exports so as to be excludible in terms of Explanation 2(iii) to section 10B of the Act from the figure of export turnover. In this connection, we may make reference to the following observations of the Special Bench: 27. At this juncture, it is necessary to refer to one aspect of the matter. It may be an easy task to exclude the freight, telecom charges or insurance attributable to the delivery of computer software outside India or expenses, if any, incurred in foreign exchange in providing the technical services outside India from the export turnover and the total turnover if they are separately mentioned in the invoice raised by ..... X X X X Extracts X X X X X X X X Extracts X X X X
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