TMI Blog2015 (12) TMI 1758X X X X Extracts X X X X X X X X Extracts X X X X ..... tions. The TPO in his order has computed ₹ 0.27 per CD as the amount of adjustment that is required to be made on account of selling and distribution expenses. In this case the TPO has computed ₹ 0.27 per CD as the amount of adjustment that is required to be made on account of selling and distribution expenses. The assessee has not pointed out any defect in the analysis done by the TPO and, accepted by CIT(A). Comparables selected for the benchmarking analysis should be functionally similar and subject to similar business environment and risks. In view of the above the contention raised by the counsel is held to be not maintainable and therefore rejected. Adjustment on account of geographical differences, we accept the claim of the assessee for adjustment. The CIT(A) or the TPO have not denied or disputed any of the above factual submission to the assessee. A rejection of a claim for general consideration for granting an economic adjustment which on the face of fit is tenable is not a correct way to disregard the facts brought on record. The revenue ought to have appreciated the business and the nature of the market. The observation of the TPO that the export price o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ernational transactions exceeded ₹ 5 Crores was unlawful and not in accordance with section 92CA(1) of the Act. 3. That the Commissioner of Income- Tax (Appeals) erred on facts and in law in not appreciating that reference made by the assessing officer to the TPO under section 92CA(1) of the Act without recording satisfaction that it was necessary or expedient so to do was unlawful and adjustment made by the TPO/ assessing officer on the basis of such reference was invalid. 4. That the Commissioner of Income-tax (Appeals) erred on facts and in law in not holding that the international transactions entered into with the associated enterprise were at arm s length and no adjustment to the price thereof was called for being made. 5. That the Commissioner of Income-tax (Appeals) erred on facts and in law in disregarding the adjustment made to the prices of international transaction of export to Glyphics Media inc. (GMI) on account of geographical difference, for determining the arm s length applying Comparable Uncontrolled Price (CUP) method holding that such adjustment were not correctly made. 6. That the Commissioner of Income-tax (Appeals) erred on facts and in law ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... aphical difference was made on the basis of instance of purchase of similar product by an unrelated party in Europe and USA during the relevant previous year. 14. That the Commissioner of Income-tax (Appeals) erred on facts and in law in upholding the adjustment on account of selling and distribution expenses incurred by the appellant at ₹ 0.27 per CD allegedly being selling and distribution expenses incurred in distributing the products in non US locations. 15. That the Commissioner of Income-tax (Appeals) erred on facts and in law in holding that the appellant failed to come up with documentation to show that it treats that US and European market differently. 16. That the Commissioner of Income-tax (Appeals) erred on facts and in law in holding that appellant did not produce adequate documentation for claiming adjustment on account of purchasing power priority considering the various variables, such as, interest rate, exchange rate, price level, etc. 17. That the Commissioner of Income-tax (Appeals) erred on facts and in law in disregarding prices paid for purchase of CDs in European and US by imation allegedly on the ground that the same pertains to subsequent ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ave to add, after, amend or vary from the above grounds of appeals before or at the time of hearing. 3. All the grounds relate to adjustment of ₹ 54,62,582/- to the international transaction of the assessee with its AE Glyphics Media Inc. USA (hereinafter referred to as GMI ) 4. The facts emanating from the orders of authorities below are that for the instant in an order was passed by the Dy. CIT, Circle 5(1), New Delhi on 28.7.2004 u/s 143(3) of the Act, whereby he determined the assessed loss at ₹ 3,21,14,948/- after making an addition of ₹ 54,62,582/- on account of the difference between the arm s length price of international transaction and the book value of the transaction, to the returned loss of ₹ 3,75,77,530/-. 5. During the assessment proceedings, the AO noticed that the assessee had sold 4,39,40,400 CDs and 67,23,400 floppies to its AE GMI, a company incorporated in USA for a sum of ₹ 42,12,03,955/-. As per the economic analysis carried out by the assessee, internal comparable uncontrolled price method was found to be the most appropriate method for benchmarking international transaction of exports to GMI as assessee company had e ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r the same product. The USA prices were 10-20% lower than the European prices. Accordingly, on a conservative basis, 10% of export price has been loaded on the wholesale price charged by MBI from GMI. iv) The adjusted price of sale to GMI was compared with the average sale price of comparable uncontrolled enterprises. v) The result of such comparison is charted (Table-2) as follows; Table2 Sr. No. Name of Packing Average wholesale price to AE (in US $) Add Specific cost factor (in US $) Add 10% mark up due to difference in US and Europe markets (in US$) Adjusted average wholesale price to GMI (in US$) Average retail price [Arm s Length price] (in US$) Difference in average price [Col. 7- Col. 6] (in US$) 1 2 3 4 5 6 7 8 1 CDR Cake Box Rotterdam 0.18 0.02 0.02 0.22 0.18 -0.04 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessee furnished revised benchmarking analysis which is reproduced below: Glyphics Media Transactions Comparable uncontrolled transactions Type of packing Average wholesale price (Rs.) Less Differential freight (Rs.) Add selling Distribution expenses incurred by GMI (Rs. ) Add: 10% Mark-up due to difference in US European Markets (Rs.) Adjusted average retail price (Rs.) Average Rate (Rs.) 1 2 3 4 5 6 7 CDR Cake Box 8.53 0.05 1.11 0.96 10.65 8.54 CRD Slim Case 13.03 0.17 1.11 1.397 15.37 13.21 CDR Jewel case 12.96 0.28 1.11 1.38 15.18 14.4 7. It was submitted that be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ₹ 39,57,72,326/-, insurance of ₹ 2,86,47,543/- and commission on sales of ₹ 3,70.644/-. Royalty was paid to Philips for acquiring patent rights, which was for the entire sales, both domestic and exports, to US as well as to Europe and other countries. The TPO argued that royalty not being selling distribution expenses should be excluded. According to the TPO, the same was the case for insurance. Commission on sales being on domestic sales, the same was also to the excluded. Since packing, freight and forwarding charges of ₹ 25,20,03,838/- were being separately considered for working out the freight differential and the same not being selling distribution expense, had also to be excluded to bring at par the price of export to GMI and those of sales to the UREs. After excluding these expenses, the TPO calculated the balance of ₹ 8,45,62,531/- to be the actual selling distribution expenses that is to be considered for making the necessary adjustment. The same was calculated as under: TOTAL ₹ 76,22,56,882/- Less : Royalty ₹ 39,57,72,326/- Insur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pean customers were willing to pay more than US customers (para 5.10 of the T.P. Report). To substantiate this, an example was given of the prices an independent party (Emtec) was prepared to pay to GMI in USA and to MBIL in Europe for the same product. The TPO was ot prepared to accept this difference on the basis of one or two isolated transactions as no other examples were furnished either in the TP Report or during the 92CA proceedings. On the contrary, the TPO found instances from the details of export sales filed with letter dated 11.02.2004 that higher prices were charged from the same US customer viz LG Electronics lnc for 10.11-0 (Jewel case CD box) sales in three destinations as evident from the details below: Germany ₹ 12.4 Poland ₹ 12.4 USA ₹ 13.59 viii) Vide letter dated 11.03.2004, the appellant clarified that US prices were higher in LG s case due to difference in memory size in the items supplied, as CDs supplied to USA had higher memory size of 700MB (80 minutes) as against 650MB (74 Minutes) supplied to Germany and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ₹ 14.68 Less: Selling and Distribution expenses as worked out above ₹ 0.27 Arm s Length Price ₹ 14.41 95% thereon ₹ 13.69 Slim case packing Average price charged from UREs for export ₹ 13.21 Adjustment as per Rule 10B for freight differential Add: Freight Differential ₹ 0.17 ₹ 13.38 Less: Selling and Distribution expenses as worked out above ₹ 0.27 Arm s Length price ₹ 13.11 95% thereof Rs. 12.45 Cake Box Packing Average price charged from UREs for export ₹ 8.54 Adjustment as per Rule 10B for freight differential ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 0 @ ₹ 14.41 = ₹ 1,41,21,800/- The book price in the invoice is less than 95% of the ALP. Hence TP adjustment is called for an amount of ₹ 21,36,479/- on account of difference between the ALP Value of the transaction and the invoice value. 5 10-4-11-S2 Jewel Box invoice from Rotterdam 196000 CDRs for ₹ 2485844,48 @ ₹ 12.68 ₹ 12.68 ₹ 14.41 Rs.13.69 196000 @ 14.41 = ₹ 28,24,360/- The book price in the invoice is less than 95% of the ALP. Hence TP adjustment is called for an amount of ₹ 3,38,516/- on account of difference between the ALP Value of the transaction and the invoice value. 6 S.2-13-S1 Slim Box Invoice from Rotterdam for 35800 CDRs for ₹ 465995.712 @ ₹ 13.02 ₹ 13.02 Rs.13.11 ₹ 12.45 35800 @ ₹ 13.11 = ₹ 4,69,338/- The book price in the invoice is less than 95% of the ALP. Hence TP adjustment is called for as per proviso to section 92C(2) of the Act. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d) Without prejudice, the adjustment at best should be restricted to the amounts of profits retained by the associated enterprise; e) Without prejudice, benefit of +(-)5% as per the proviso to section 92C(2) of the Income Tax Act, 1961 to be provided while computing the arm s length price: 14. In the written synopsis it has been contended as under: a) Adjustment on account of selling and distribution expenses The appellant has while making the benchmarking for comparison of prices of export to USA and to the unrelated parties in European countries, considered the actual expenditure incurred by GMI in distribution of such products in USA. Such expenses, it would be appreciated would have been incurred by the appellant had it not been operating in USA through the associated enterprise, namely GMI. The appellant on the other hand has its own base in Europe to undertake selling and distribution function and it has not engaged a sole selling agent/wholesale distributor in that country. The aforesaid adjustment was made considering the fact that much higher expenses are required to be incurred by GMI in promoting sale of CDS manufactured by the appellant in USA and the fact ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the Delhi high Cour tin the case of Sony Ericsson Mobile Communications India (P) Ltd. vs. CIT (TA 16/2014) where in the Hon ble Delhi High Court that reasonable accurate adjustments should be made to eliminate the material differences on the price or margins of the comparables. Reliance in this regard is also placed on the decision of the Hon ble High Court in the case of Rampgreen Solutions (P) Ltd. vs. CI (ITA No. 102/2015 wherein the Hon ble High Court held that comparables selected for the benchmarking analysis should be functionally similar and subject to similar business environment and risks. The comparison of prices as sought to be made by the TPO, without eliminating/making adjustments for quantifiable differences in the two transactions is not in accordance with the transfer pricing regulations. The adjustment on account of difference in market, it is submitted, is be taken into consideration to determine the arm s length price that would have been charged from GMI in identical situation as that of unrelated party comparable. It would be appreciated, therefore that the comparison sought to be made by the TPO ignoring the adjustment to the international transaction ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... differences from country to country owing to economic scenario/purchasing power, level of competition, etc. (iii) market condition, etc. The Mumbai Bench of Tribunal in the case of Intervet India (P) Ltd. vs. Asstt. CIT [2010] 130 TTJ 301 39 SOT 93, held that market conditions of Thailand and Vietnam are totally different and appropriate adjustments are required to be made to account for the effect of differences in geographical locations. Reliance in this regard is also placed on the following decisions wherein it has been held that appropriate adjustments need to made to account for the effect of differences in geographical locations Gharda Chemicals Ltd vs DCIT (ITA No 2242/MUM/06) CIT Vs Dufon Laboratories (ITA No 1399/Mum/09) Dishman Pharmaceuticals and Chemicals Ltd Vs DCIT (ITA No. 154 587/Ahd/2007; ITA No.2180 3213/Ahd/2007) As per OECD guidelines, while applying any of the prescribed transfer pricing method, adjustments must be made on account of differences between controlled and uncontrolled situation that would significantly affect the prices charged or received by an independent enterprise. OECD guidelines provide that in making these compa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n Europe. The fact that USA is characterized as a low price economy in comparison to European countries would be borne from the Big Mac Index of the various countries, which is enclosed at page 150 of the paper book. It would be appreciated that a Mc Donald burger which is sold for USD 3.00 in USA is sold for USD 3.61 in UK. Thus, due to this purchasing power parity, and also price conscious customers, products in the US market have to be sold at a lower price as compared to the markets in the European countries. Having regard to the price conscious US market the prices of sale of CDs are generally kept lower than what is charged from customers in Europe. ii) The appellant is a recent entrant in US market for export of CDs from India. The appellant does not have any presence or brand recognition in that country and is developing market through GMI and for that reason the appellant is constrained to price the products competitively while exporting to USA. iii) Marketing of CDs in USA is a different ball game altogether. Such products are sold in USA through various shopping malls/super markets which follow just in time (JIT) approach, i.e., the retailer would rent out a she ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that LG Electronics Inc. is a company based in Seoul, Korea and deals in their products in Europe i.e., Germany, Poland and also Latin America. L.G. Electronics, it is submitted, does not have any presence in USA nor does it sell its products in that country. The sale consignments meant for distribution in Latin America, viz Panama by LG, as a prudent practice are shipped to a transit destination, Miami port in USA and from there it is carried by road for sale in Latin America. (Refer email correspondence at page 151-152 of the paper book) The sale price of consignment of export to LG in USA (referred by the assessing officer), therefore, does not represent the price of sale of CDs in USA as such consignment is meant for sale in Latin America and Miami port in USA is only a transit destination for the shipment. To that extent, the example referred and relied upon by the assessing officer is not of comparable uncontrolled transaction. It has also been submitted before the transfer pricing officer that price of sale of CDs to LG in the consignment shipped to Miami, USA were higher on account of higher memory size of the CDs i.e. being 80 minutes (700 MB), while memory size for CDs ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at each consignment of export of CDs are inter linked in as much as such transactions are entered into having regard to the international set off on account of variation in prices of the various international transactions entered into during the yer. For the purpose of meaningful comparison, it would therefore be appreciated that export of CDs during the year to the associated enterprise is to be construed as one transaction and the comparison ought to be made of the average price of export of GMI with the average of all the prices in uncontrolled comparable transactions during the relevant previous year. The comparison sought to be made by the TPO between prices of individual transaction and the average price of uncontrolled comparable transactions is, therefore, not appropriate and not in accordance with the provisions of the law. d) Without prejudice, the adjustment at best should be restricted to the amounts of profits retained by the associated enterprise It is respectfully submitted that as per audited accounts, GMI earned gross profit of USD 3,19,231 on total sales of USD 75,54,668, the cost of goods sold being USD 72,35,437. However, GMI had incurred loss of U ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... red to the expenditure required to be incurred by the assessee in Europe. The CIT(A) had considered the above objection and has held as under: 9.4.4 The TPO during the TP proceedings had asked the appellant to filed details relating to the retail prices charged by GMI in the US market but the same was not furnished by the appellant. In adjudicating the issue relating to comparability of the prices charged in the international transactions with the retails prices charged in the European market would have been easier had this information been made available to the TPO. The issues relating to the computation of the adjustment factors would have been facilitated by this information. However, the burden of proof was not discharged by the appellant. Therefore, judicial notice of this fact should be taken while working out the adjustment factors. 9.4.5 The appellant had added ₹ 1.11 per CD to the average whole sale prices charged from GMI on account of selling and distribution expenses incurred by GMI in selling the appellant s product in USA. The TPO did not accept this adjustment and on the contrary made this adjustment to the average retail price by way of deducting ₹ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 17. Having considered the rival submissions and order of CIT(A), we find no reasons to deviate from the above conclusion. Rule 10B(3) clearly provides that reasonably accurate adjustments are to be made to eliminate the material effect of differences between controlled transactions and uncontrolled transaction. The argument of the counsel on the premise that adjustment does not recognize the business realities that much higher expenses/cost is required to be incurred for selling the products in USA has already been considered by the CIT(A) who has held in this regard that the correct way of making adjustment is to start from the export prices charged by the assessee from the unrelated parties in non- US destination s. therefore., the expenses incurred by GMI to develop a market for the assessee s product do not have any relevance for the purpose of making adjustment on account of selling and distribution expense. What is relevant for the purpose of this adjustment is the selling and distribution expenses incurred by the assessee for distributing its product in non- US locations. The TPO in his order has computed ₹ 0.27 per CD as the amount of adjustment that is required ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e countries do not necessarily mean separate geographical markets. It is possible that a taxpayer approaches a group of several countries as a single homogenous market where it delivers similar products, performs similar functions, use similar functions, uses similar assets, assumes similar risks, establishes similar contractual terms and develops a single business strategy. It was incumbent on the part of the appellant to come up with documentation to show that it treats the US the European market differently. But the same was not done at any stage of the proceedings. ii) The argument of purchasing power parity cannot be loosely used as it has connections with number of other economic variables. The purchasing power parity thereon asserts that the exchange rate between two currencies must be proportional to the price level of traded goods in the two countries. Purchasing power parity is also intimately tied the interest rate parity. The interest rate parity thereon originates from the link between interest rates and inflation rates. Thus, the interest rates, exchange rates, price level and foreign exchange rates form an integrated system. Violations of purchasing power parity ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of geographical difference. Under these circumstances, I am of the considered view that the ad- hoc adjustment of 10% made by the appellant is not sustainable in the absence of supportive evidences. Therefore, it is held that the TPO was correct in not allowing any adjustment on account geographical market difference and it did not in any improve the reliability of the arm s length prices computed. 19. From the aforesaid conclusion it is apparent that the CIT(A) has not disputed that geographical adjustment is to be allowed for comparing two sets of transactions. However on the facts of the case of the assessee on the ground as sufficient evidence was not brought on record to substantiate the claim. The question therefore which emerges is that are there sufficient claim of the assessee. The assessee has relied on big map index to contend that US is a lower price market as comparable Europe. It has also been contended that assessee is a recent entrant in US market for export of CDs and does not have any presence or brand recognition. It has been stated that products are sold in USA through various shopping malls/super markets which follow just in time (JIT) approach i.e., th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... customer and the actual value of international transactions. The Hon ble Jurisdictional High Court vide order dated 14.3.2013 (in ITA Nos 1828/2010, 1829/2010 1254/2011) had dismissed the revenue s appeal against the said order of the Tribunal. The Special Leave Petition (SLP) of the revenue against the said order has also been dismissed by the Supreme Court vide order dated 2.1.2014. Reliance is also placed on the judgment of Hon ble High Court in the case of Sony Ericsson Mobile Communications India (P) Ltd. vs. CIT 374 ITR 118 wherein it has been held as under: 77. As a concept and principle Chapter X does not artificially broaden, expand or deviate from the concept of real income . Real income , as held by the Supreme Court in Poona Electricity Supply Co. Ltd. v. CIT [1965] 57 ITR 521, means profits arrived at on commercial principles, subject to the provisions of the Act. Profits and gains should be true and correct profits and gains, neither under nor over stated. Arm's length price seeks to correct distortion and shifting of profits to tax the actual income earned by a resident/domestic AE. The profit which would have accrued had arm's length conditions prev ..... X X X X Extracts X X X X X X X X Extracts X X X X
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