TMI Blog2011 (11) TMI 700X X X X Extracts X X X X X X X X Extracts X X X X ..... 2C of the Act was made to the TPO by the Assessing Officer for the computation of the Arm s Length Price (ALP) in relation to certain international transactions entered into by the assessee-company during the year under consideration. The Jt. CIT/TPO-II, Chennai, vide his order dated 30.10.2009, proposed the adjustment of ₹ 6,82,45,059/- on account of purchases made by the assesseecompany. A copy of the draft assessment order was forwarded to the assessee on 30.12.2009 against which the assessee-company filed objections before the DRP in terms of section 144C(2) of the Act. The DRP passed directions u/s 144C(5) r.w.s 144C(8) of the Act on 28.9.2010, directing the Assessing Officer to complete the assessment as proposed by T.P.O. determining the ALP in writing. Accordingly, the Assessing Officer has passed the impugned order in conformity with the above-mentioned directions and in terms of section 144C(13) r.w.s 144C(10) of the Act. 3. To further elaborate the facts relevant to the controversial issue, it is narrated that the assessee-company, being engaged in the business of manufacture of automotive components, has shown an income of ₹ 5,92,30,160/- during the perio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... TPO) and making an adjustment of ₹ 6,82,45,059 to the income of the assessee on account of determination of the Arm s Length Price by: a) conducting a benchmarking analysis which was not scientific and hence arriving at comparable companies which do not satisfy the test of comparability as provided in Rule /10C(2)(d); b) not applying the working capital adjustment on the comparable companies as selected by the Ld.TPO; c) denying the benefit of +/-5% to the assessee as provided in the second proviso to see. 92 C (2); and so, he ought to have found that the international transactions of the assessee were done at arms length price only requiring no adjustments and therefore ought to have rejected the adjustments proposed by the TPO. 5. At the time of hearing, this modified ground having three limbs, was only pressed and other grounds were not pressed by the ld.AR shri Kunj Vaidya, C.A. appearing for the appellant as its authorized representative. Now, we have to decide only Ground No.2(a,b,c), which is in modified form as extracted herein above. 6. We have considered the rival submissions and have carefully treaded through the entire record. While argu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... under Rule 10B(1)(a) of the Act. She has concluded that CUP method cannot be applied to the facts of the given case and therefore, she has applied to TNM method for working out ALP. She has selected 13 companies on the basis of which ALP has been computed which has been objected to by submitting that for computing ALP under TNM method, all the four companies considered last year, viz., Amforge Industry, Bharat Gears Ltd., Jaibarat Maruti Ltd., Raja Forging, have to be taken into consideration. She has rejected with reasons as to why profit ratio of these four companies cannot be applied and why only 13 companies selected by her, are relevant for the purpose. The objections raised by the assessee and the reasoning of DRP are contained in paragraph 6 of the order which are being reproduced, for ready reference , verbatim, herein as below: 6. The assessee in its letter dated 30.1.2009 rebutted the arguments made by the TPO. The arguments canvassed by the assessee vide letter cited reasons as under: (a)the assessee vide para No.1 under the heading Applicability of TP Rule has contested the action of TPO on the plea that TPO / AO was not correct in recording a finding that as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hod for evasion. So there is no infirmity in coming to independent decision, unrelated to conclusion of Custom, by the TPO. (d)The assesee has also objected to action of TPO in not considering the instances four comparables provided by the assessee company. In her order the TPO had mentioned that the mere fact that three four companies was taken as comparables in earlier years, does not necessarily mean that the same should be taken as comparables for the year under consideration also. In this regard the DRP observed that the three companies under reference Amco Ind. Ltd, Bharat Gears Ltd. and Raja Forging Ltd. do not constitute the captive supplier as the case of assessee company. The assessee has also not made out a case that the share holding pattern and activity of purchase in all those companies are similar to that of assessee company. Without any objective fact to support the assessee claim there is no infirmity in the order of TPO because of non inclusion of results of above companies for computing ALP. (e)The assessee has also contested the finding of TPO and AO on the basis that adjustment of 2% was not made for assessee being captive supplier to Huyndai. Furth ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d be provided by the assessee that other company had the benefit of credit for the period of 60 days only and hence there is no infirmity in the order of TPO. (h)The assesee had also asked for adjustment of custom duty while computing the ALP. This issue had also been dealt with by the TPO in para 11 of her order. It is an accepted fact that customs duty constitute an indirect tax which is passed on to the customer. The company has taken as comparable also pay the custom duty on import and include in the process of product in the same manner as that of assessee. Hence this is also a common factor The TPO had rightly declined to make any adjustment to the the claim. (i)The claim made by the assessee in the letter dt. 27.8.2010 had also been included in additional claim made by the assessee vide its letter dated 30.01.10 and accordingly the same has been discussed above. 8. To decide the case in hand, we would like to further discuss as to what exactly CUP and TNM method imply in respect of International Taxation. Before that we need to discuss relevant provisions of the Act. Section 92C of the Act provides for computation of ALP, which has to be done by adopting ei ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsaction having a bearing on the profits, income, losses or assets of such enterprises. A transaction is the transfer of goods or services, involving a physical product or knowledge or a right to use or exploit an intangible asset. The definition of the word transaction is an inclusive one. It includes an arrangement, understanding or action in concert, irrespective whether it is formal or in writing; or whether or not it is intended to be enforceable by legal proceedings. 12. Transfer Price may mean manipulation of prices in relation to international transactions between the parties which are controlled by the same interest, involving two or more countries with differing tax rates and legislation a realizing profits in the country with the most favourable tax regime so that total tax liability is reduced. 13. Such manipulations are difficult to be established because of the problems of off-shore investigations. For that matter, States have, through Legislation, resorted to a hypothesis of ALP i.e what would have been the price if the transactions were between two unrelated parties similarly placed as the related parties. As regards nature of product and conditions and te ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f taxes and attainment of national development goal, the treaty warrants the stability of tax burden, so that its provisions may not be abused by Multi-national Enterprises (MNEs) by fixing prices, terms and conditions of transactions between their controlled enterprises located in different jurisdictions. The treaty requires that such transactions be dealt with as if they are between unrelated parties and even account be rewritten if required, so that real profit would be taxed, which is sought to be manipulated. The relevant provisions of the Act are patterned on the OECD Guidelines1995. These provisions are erosion of Indian tax base by multi-nationals through a mechanism of what is known as transfer pricing . In a modern democratic set up, the Governments Local, State or Central are modified version of service corporations of which all the people in the community are the members and the principle object of the Government is to serve the people, so that we can achieve the goal of establishing egalitarian society as envisaged in the Constitution of India. In India, there is no crown and there is no subject. We, the people of India , are the real sovereign and it is the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... $400 belongs to A and not just $100. In other words, the income of associated enterprise B ( $ 300) is attributed to the American company. The Arm s Length transaction adjustment requires that sales price up and consequently, the profit of B increased by $300. In both the case, the conclusion is the same, however, the route is different. Under the transfer pricing approach relationship between the corporations and transactions between them are recognized while under consolidation approach they are ignored. The consolidation approach has many advantages. It prevents transfer pricing by the residents; does away with treaty shopping, which involves re-characterization as well as diversion of income; eliminates the vice of thin capitalization. 15. The League of Nations to international associations of countries created to maintain peace among the nations of the world in the year 1920 and had its headquarters in Geneva, Switzerland. But this association ceased to function after the Second World war and was finally dissolved in April, 1946, and its place was taken by the United Nations. The League played a pioneering role in developing Model Tax Treaties during the period between 193 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... reatment for MNEs and independent enterprises. Because the Arm s Length Principle puts associated and independent enterprises on a very equal footing for tax purposes and avoids the creation of tax advantageous or disadvantageous that would otherwise distort the relative competition purposes. 2) The Arm s Length Principle has also been found to work effectively in the vast majority of the cases like there are many cases which involve the purchase and sale of commodities and the lending of money, where Arm s Length price may readily be found in the comparable transaction undertaken by the comparable enterprises under comparable circumstances. One of the major flaws in the system is that the Arm s Length Principle dis-regard integral and functional unity of a MNE, which is responsible for greater efficiencies and advantageous competition edge. The function of all its subsidiaries located in various tax jurisdictions cannot be analyzed in isolation of each other; and dealings and transactions within MNEs are treated at par with the dealings and transactions between unrelated parties at Arm s Length Principle. Transfer Pricing Guidelines as contained in the OECD guidelines are la ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... -. If A would have sold it directly, it would have made a profit of ₹ 300/- which has been restricted to ₹ 100/- by something it through B. The transaction between A B is arranged and is not subject to market forces. The profit of ₹ 200/- has been, thus, shifted to Country of B. The goods have been transferred on a price (transfer-price) which is arbitrary or dictated being ₹ 200/- and not being ₹ 400/- which is its market price. Transfer between enterprises under the same control and management, of goods, commodities, merchandise, raw-material, stock or services is made on a price, which is not dictated by the market but controlled by such considerations. Transfer of goods or services as aforesaid is as dictated by the market but it is controlled by the consideration of shifting taxable profits or duties or of arranging the direction of cash flow. The developing countries lay heavy restrictions in regard to remittance of profits, but in their engineers to secure access to foreign technology, expertise technical know-how, capital goods and components for their industrial development. The MNCs have changed their investment and technical collaborations ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se patent in exchange for royalties. Thus, the tax manipulation among the related corporations not only involves the use of arbitrary prices, but also conversion of returns on equity, investment to royalty and interest. Transfer pricing may mean manipulation of prices in relation to international transaction between the parties, which are controlled by the same interest, involving two or more countries with different countries having different tax rates and realising profits in the country, which has the payable tax regime resulting into reduction of payable tax liability. Such manipulations are difficult to be caught and established because the taxman is handicapped to make off-shore investigations. With a view to deal such a situation, so that a legitimate tax to which a State is entitled to, a combined effort has been made through legislation. According to which on hypothetical manner such evasion of tax can be controlled, a term known as an arm s length has been coined. What would have been the price if the transactions were between two unrelated parties, similarly placed as the related parties in so far as nature of product, conditions and terms and conditions of the transac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... two or more tax payers owned or controlled directly or indirectly by the same interests, and includes the tax payer who owns or controls the other tax payers. Uncontrolled tax payers mean any one of the two or more tax payers not owned or controlled directly or indirectly by the same interest. Likewise control means any kind of control directly or indirectly whether legally or not and however, exerciseable or exercised, including control resulting from the actions of two or more tax payers acting in concert or with a common goal or purpose. Thus, it is the exercise of real control, which is decisive but in its forum or more of its exercise. A presumption of control arises if income or deductions have been arbitrarily shifted. A transaction means same assignment, lease, loan, advance, contribution or any other transfer of interest in or right to use any property whether tangible or intangible or money. However, such transaction is effected and whether or not the terms of such transaction are formally documented. Such a transaction also includes performance of any services for the benefit of or taxes, other tax payers. In determining the true taxable income of a controlled taxpaye ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r has not added substantial value to the tangible goods by physically altering the goods before resale (packaging, re-packaging, labeling or minor assemble do not constitute physical alteration). This method is not an ordinarily used where the controlled taxpayer uses in its tangible property to add substantial value to the tangible goods. Cost Plus Method is ordinarily used in cases involving the manufacture, assembly, or other production of goods, that are sold to related parties. Comparability under this method is dependent on similarity of functions performed, risks borne and contractual terms, and adjustments to account for the effects of any such differences. With respect to intangible property, the methods which apply are (i) Comparable uncontrolled transaction method which evaluates whether amount charged for controlled transfer of an intangible property was at arm s length by reference to the amount charged in comparable uncontrolled transactions. This method requires that controlled or the uncontrolled transactions involve either the same intangible property or comparable intangible property. The burden of proof is always on the taxpayer . Transactional Net M ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in product and function has required in traditional method. This is based on net profit margin relative to anappropriate base costs, sales, assets- which the taxpayer makes from a controlled transaction. This method has been aptly described in Rule- 10(B)(1)(e) of the Income Tax Rule 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 enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ompany of the assessee company. The TPO has concluded that transactions entered by Ilgin Glbal Company does not fit into the description of unrelated parties and hence the transactions made by it may not be taken as uncontrolled transactions at arm s length. The DRP has opined that the method of picking up comparables is in contradiction with the manner in which CUP is to be applied as prescribed under Rule 10B(1)(a). The DRP has found that the narration of TPO in para-9 of her order that the assessee has not given the working as per its objective given vide letter dt.31.02.09 rebutting the argument of the TPO. The assessee has not provided working in relation to the points raised in the letters and TPO has given a clear finding that the expenses to which assessee has referred to are common to both the assessee as well as other comparables who have also imported items like the assessee. The basis of computation of such adjustments before DRP also could not be produced. Therefore, we also find that it is common factor shared by the assessee with its comparables and this fact has not been rebutted on record. Assessee could not furnish any documents or evidences to depart from the f ..... X X X X Extracts X X X X X X X X Extracts X X X X
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