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TMI Blog2014 (7) TMI 1297X X X X Extracts X X X X X X X X Extracts X X X X ..... Transfer Pricing Officer ("Ld.TPO")/Hon'ble Dispute Resolution Panel("DRP") are bad in law and void ab-initio. 2. The Hon'ble DRP/Ld AO and Ld. TPO have erred in facts and in law in computing the total income at Rs. 4,30,68,482/- as against the NIL returned income in the present case. 3. That the order passed by the Ld. AO/Hon'ble DRP is bad in law to the extent it has vitiated judicial discipline by not following the decision of Hon'ble Income-tax Appellate Tribunal("ITAT") on similar facts, in appellant's own case for earlier years. GROUNDS ON TRANSFER PRICING ISSUES. 4. Arm's length price of purchase made by appellant from its associated enterprises ("AEs") are on cost-to-cost basis and hence should be considered to be at arm's length. 4.1 The Hon'ble DRP/Ld.TPO have erred in law and in facts, in ignoring that purchases made by appellant from its AEs are on cost-to-cost basis and that AEs have not charged any mark-up on same. Further, the Hon'ble DRP/Ld.TPO have not appreciated that same transaction of appellant has been accepted to be at arm's length in preceding years. 4.2 Further, the Ld. TPO has erroneously proceeded to evaluate the appellant's transaction ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... adjustments to account for differences in working capital employed by the appellant vis-a-vis the comparables and in the process also ignored Indian transfer pricing regulations and judicial precedence. 9. Principle of res-judicata Based on the facts and circumstances of the case, the Hon'ble DRP/ Ld. TPO have erred in law and in fact, by not taking cognizance of the fact that impugned international transaction of appellant has been accepted by Revenue authorities to be at arm's length in previous years. 10. Transfer pricing adjustment to be made with reference to value of international transaction only 10.1 Based on the facts and circumstances of the case, the Hon'ble DRP/ Ld. TPO have completely ignored the functional and business profile of the appellant and have failed to appreciate that appellant is a risk bearing entity. Consequently, it would be incorrect on Ld. TPO's account to contend that the alleged difference in operating margins of appellant vis-a-vis comparable companies are solely on account of higher price paid by appellant for purchases 10.2 Further, the Hon'ble DRP/ Ld. TPO have failed to appreciate that by making a transfer pri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o be in the nature of royalty on which tax had to be withheld at the time of payment. 14.2 That the order passed by the Hon'ble DRP / Ld. AO is bad in law to the extent it has vitiated judicial discipline by not following the decision of Hon'ble Income-tax Appellate Tribunal ("ITA T") on similar facts, in appellant's own case for earlier years. 15. Disallowance of provision for warranty for AY 2006-07 15.1 Based on the facts and circumstances of the case, the Hon'ble DRP/ Ld. AO have erred in law and in fact in alleging that the provision for warranty has been created by the appellant on an arbitrary basis and accordingly is not a deductible expenditure while computing the income tax payable by the appellant. 15.2 Further the Hon'ble DRP / Ld. AO have completely erred in facts and in law, in ignoring the order passed by Hon'ble Commissioner of Income Tax (Appeals) in appellant's own case in relation to AY 2004-05 on similar issue, whereby the matter has been decided in favour of the appellant. 15.3 That on the facts of the case and in law, the Hon'ble DRP / Ld. AO's contention that warranty is merely a contingent liability made on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... / Ld. TPO have not appreciated that same transaction of appellant has been accepted to be at arm's length in preceding years rather proceeded to evaluate the appellant's transaction using Transactional Net Margin Method ("TNMM"). Comparable companies for the purpose of applying the TNMM 5. Without prejudice to the above grounds, erred in law and in facts in not accepting the appellant's contention of not accepting BHEL as a comparable on account of extra-ordinary size of operations of BHEL as compared to appellant having regard to the functions performed, assets employed and risk assumed. Scope of transfer pricing adjustment 6. Without prejudice to the above grounds, erred in making transfer pricing adjustment on account of purchases made from AE by ignoring that adjustment has to be made in relation to the value of impugned international transaction with AEs only (which constitute less than 8% of the total operating cost of the appellant) and not with reference to total value of all the transactions undertaken by the appellant. 7. Without prejudice to the above grounds, erred in making transfer pricing adjustment on account of purchases made from AE base ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fact by disallowing the payments made by the appellant to its associated enterprises during AY 2007-08 for the purchase of technical drawings and designs and alleging the same to be in the nature of royalty on which tax had to be withheld at the time of payment. 15. The Hon'ble DRP / Ld. AO is bad in law to the extent it has vitiated judicial discipline by not following the decision of Hon'ble Income-tax Appellate Tribunal ("ITA T") on similar facts, in appellant's own case for earlier years. Disallowance of provision for warranty 16. erred in law and in fact in alleging that the provision for warranty has been created by the appellant on an arbitrary basis and accordingly is not a deductible expenditure while computing the income tax payable by the appellant. 17. erred in facts and in law, in ignoring the order passed by Hon'ble Commissioner of Income Tax (Appeals) in appellant's own case in relation to AY 2004-05 on similar issue, whereby the matter has been decided in favour of the appellant. PENALTY FOR CONCEALMENT OF INCOME 18. erred in holding that appellant has furnished inaccurate particulars of income in respect of each item of disallo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the case, VA TECH Hydro India Private Limited (here-in-after referred to as the 'Appellant') respectfully craves leave to prefer an appeal under section 253 of the Income Tax Act, 1961 ('Act') against the assessment order issued under Section 143(3) of the Act by Deputy Commissioner of Income-Tax-1(1), Bhopal (here-in-after referred to as 'learned AO') in pursuance of the directions issued by Dispute Resolution Panel- I, Mumbai (here-in-after referred to as 'DRP'). The appeal is preferred on the following grounds : On the facts and circumstances of the case and in law, the learned AO based on directions of DRP: Transfer Pricing Grounds: 1. erred on the facts and circumstances of the case and in law, by not accepting economic analysis undertaken by the Assessee which was in accordance with the provisions of the Act read with the Rules for establishing the arm's length price of the international transactions. 2. erred in law and in fact, in not considering the internal CPM analysis undertaken by the Assessee by way of aggregation of transactions in accordance with the provisions of the Act read with the Rules, for determination of the arm's length price of international ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... S. No Details of Additions Amount (in INR) AY 2006-07 AY 2007-08 AY 2008-09 AY 2009-10 Corporate tax addition: 1 Disallowance of provision for warranty expenses 6,810,422 6,572,822 6,890,631 21,103,474 2 Disallowance of payment for purchase of technical drawings/designsu/s 40(a)(i) 6,690,516 6,275,164 14,710,186 27,046,898 3 Disallowance of depreciation on capital asset purchased from AE in AY 2005-06 4,480,347 2,284,977 - - Transfer pricing adjustment: 4 Transfer pricing adjustment to the international transaction related to purchase of raw material from AEs 24,189,935 13,996,551 - - 5 Transfer pricing adjustment to the international transaction related to sales to AEs 897,262 5,732,927 - 10,915,735 Total addition 43,068,482 34,862,441 21,600,817 59,066,107 5. The AO also disallowed provision of warranty expenses on the plea that warranty provision is a 'contingent liability'. The fact as submitted by the assessee in the course of assessment proceedings are as under: * The assessee enters into contracts with its customers for the sale of generators and other equipments required ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t liability by the Commissioner of Income Tax (Appeals) ("Ld. CIT(A)") (vide orders dated 19 January 2007 and 23 November 2007). * Further, the CIT(A) order for A Y 2003-04 has also been upheld by the same bench of the Hon'ble Indore Bench of the Income Tax Appellate Tribunal vide order dated 28 December 2011 in lTA No. 255/IND-2007. * Further, no appeal has been filed by the tax authorities against the order of the Ld. CIT(A) for AY 2004-05. The facts of the current appeals are same as those covered in the aforesaid orders. The contentions of the assessee are supported by the following key judicial precedents: * DCIT-3(1), Bhopal vs VA TECH Hydro India Private Limited (ITA No 255/IND- 2007) . * Rotork Controls India (P) Ltd - 2009-TIOL-64-SCIT * Bharat Earth Movers v CIT - 245 ITR 428 (2000) (SC) * CIT v Vinitec Corporation Pvt Ltd - 278 ITR 337 (2005) (Del) * CIT vs. Majestic Auto Ltd. (204 ITR (AT) 14) (Chd) Hence, based on the above, it can be concluded that the provision for warranty is in the nature of an ascertained liability (with a reasonable estimate of the quantum) and not a "contingent liability", hence, a deduction for the same should ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s.) Warranty provision of earlier years reversed during the period (in Rs.) 1 2003-04 1588080 - 2 2004-05 3024128 680100 3 2005-06 6954871 529718 4 2006-07 6810422 487755 5 2007-08 6572822 2872949 TOTAL 24950323 45701522 If the totality of the facts are analysed, warranty claimed is inbuilt in the sale mechanism and the warrant provision was made due to contractual liability which can be based upon estimated liability which is otherwise eligible for deduction u/s 37 of the Act. Incurring of liability is certainty whereas the quantification depends upon certain business exigency and at the same time, exact quantification may not be possible when such provision is estimated, which is to be discharged at a future date, therefore, it is lawfully deductible. Our view is supported by the ratio laid down in decisions from Hon'ble Apex Court in Bharat Earth Movers Ltd. vs. CIT (245 ITR 428) (SC), CIT vs. Vinitec Corporation Pvt. Ltd. (278 ITR 337) (Del) and CIT vs. Majestic Auto Ltd. (204 ITR (AT) 14) (Chd). Therefore, the stand of the ld. CIT(A) is affirmed." 6.3 As the facts and circumstances during ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... principal basis and does not retain any right in such drawings and designs. The drawings procured from Andritz Austria are used in the manufacture of generators and supplied along with the generators to the customers. * The terms of the contract between the assessee and its customers specifically provide for a consolidated consideration to be charged for the supply of generators as well as the technical drawings and designs used in their manufacture. (Copy of relevant extracts of contract agreements as enclosed as Exhibit 36 of the Paperbook). * The hard copies of technical drawings and design obtained from Andritz Austria are accompanied by a bill of entry and subject to payment of custom duty while being imported in India. Further, payment is made to Andritz Austria towards outright purchase of technical drawings and in this regard has been claimed as expenditure by the assessee in its books as, 'cost of raw materials and components'. The assessee has also submitted copies of orders passed by higher appellate authority i.e. Commissioner of Income Tax (Appeals) ("CIT(A)") in favour of assessee in similar matters in past assessment years holding that Andritz Austria had so ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... these payments, the AO disallowed the same by invoking provisions of Section 40(a)(i) and which was confirmed by CIT(A). We do not find any merit in the conclusion of the lower authorities insofar as the design and drawings was purchased on a principle to principle basis and same was in the nature of purchase of goods. Precisely the drawing is in the nature of purchase of 'copyright articles' and not of purchase of 'copyright" itself in the drawings. Hence, the same is in the nature of business expenditure and not in the nature of royalty. The payments of technical drawings and design have been incurred to procure such drawings and designs along with all the rights attached to them as the entire set was required to be provided to the customers as per the terms of the contract. Without acquiring all the rights attached to such drawings and designs, the assessee would not have been in the position to meet its contractual obligation. We had verified the copies of bills of entry, copy of physical drawings receipt, copies of invoices and details regarding terms and condition of the transaction and found that the drawing was in the nature of purchase of goods. Exactly similar issue has b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... wider meaning both in the Income Tax Act and DTAA, which includes payment for design/drawing. Assessee has relied on judgment in the case of CIT V/s DAVY ASHMORE INDIA LTD. 190 ITR, CIT Vs. Neyveli Lignite Corporation Ltd. 243 ITR 459,etc. However, these cases are distinguishable on facts which are different and not of any support to the assessee. The design purchased by the assessee are not in respect of commissioning of plant but these are in respect of a particular generator which is being manufactured and sold to the customers. Such designs are purchased separately for every generator the assessee has manufactured so far. In these case laws there was an outright purchase of plant along with design through a bid process. Where an Assessee is getting the design prepared for every generator from the parent Austrian Company. Assessee's arguments arebaseless and denying the basic definition of royalty as mentioned in article 12 of DTAA and explanation 2 to section 9(vi) of the I.T. Act, according to which payments in the head of design in reference to assessee's case is within the ambit of the definition of royalty as provided therein. In fact the case Ishikawajima Harima Heavy Indu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng the orders for supply of the designs to its parent company and in each case the cost of the design is also determined by the Austrian company on its own parameters. 6.7. The design purchased by the company are not available off the shelf. These designs are prepared and supplied exclusively as per the specification and requirements of the customers which is provided to Austrian company by the assessee. As informed by the assessee these designs are different for each generator assessee has manufactured. 6.8. Income is arising to the parent Austrian company on sale of generators by its 100% subsidiary company in India, orders for which are received in India and being manufactured in India as per designs provided by the parent Austrian company. Assessee company has not obtained the design from anywhere else and it manufactures every generator on the design provided by the parent Austrian company only. Thus the income is accruing/arising in India directly through business connection of Austrian company with its 100% subsidiary company in India as envisaged in section 9(1)(vi) of the Income Tax Act, 1961 and article 12(2) of the DTAA. 6.9. The Legal provisions have been exami ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ch India' is means for accrual of income to the Austrian company on account of its business activities in India.Moreover, for taxability of Royalty, Permanent Establishment is not an essential criterion. (Also held in Leonhardt Andra Und Partner, Gmbh v. Commissioner of Income Tax; 249 ITR 418 (CAL). In view of the above it is held in the case of 'VA Tech India' that the payment made by the assessee is in the nature of Royalty. However, even if the claim of the assessee is taken up for arguments sake as payment for technical services still the payment shall be taxable @ 10% in India in view of the earlier discussion in this order. 6.14. Generator is designed as per the requirement of the customer therefore its design is an integral part of it, on the basis of which it is manufactured and for that generator the customer making payments. Therefore, providing of the design to the customer cannot be termed as Austria separate sale as claimed by the assessee. Without design generator cannot be manufactured. Hence the price of generator or any plant will always be inclusive of design without which it is of no use. The design of particular generator is specific to that only and is of n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ments made by the assessee company to its parent Austrian company VA TECH Hydro GmbH Austria, for the purchase of design, during the F.Y.2002-03, 2001-02, 2000-01 and 1999-2000, are treated as 'Royalty' within the meaning of Explanation 2 to section 9(1)(vi) and article 12 of the DTA Agreement, on which the assessee has failed to deduct tax at the rate of 10% under section 195 of the Income Tax Act, 1961. The calculation made by the Assessing Officer in this behalf is as under :- Default under section 201(1 Rs. 1,16,28,072 Interest under section 201(1A) Rs. 71,28,172 Total Demand payable Rs.1,87,56,244 . 4. Felt aggrieved, the assessee preferred an appeal before the learned Commissioner of Incometax (Appeals) wherein detailed submissions were made. The learned CIT(Austria), after considering the submissions and the legal position explained by the assessee, made the following observations :- "The entire transaction between the appellant and the nonresident company is of sale and purchase of goods on principal to principal basis. The meaning of 'royalty' has been defined in the DTAA. The Apex Court in the case of Union of India Vs Azadi Bacho Andolan and Another re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cancelled." 5. Now, the revenue is in appeal before us. 6. The learned CIT DR submitted that on the hard copy of drawings and designs supplied by the foreign company, it was specifically mentioned that such drawing was the property of that company and it could neither be kept, nor could be used in any other manner, without the written consent of the foreign concern. The learned CIT DR further submitted that it could neither be handed over, nor in any other way could be communicated to a third party, hence, the Assessing Officer logically inferred that the assessee company could not be considered as owner of such designs. The Assessing Officer, according to the learned CIT DR, in the absence of any material brought on record by the assessee company, rightly held that the parent non-resident company had proprietary rights in such drawings. The learned CIT DR thereafter referred to the provisions of section 9(1)(vi) and Explanation 2 thereto and also to the provisions of Article 12 of DTAA with Austria which are reproduced as under for the sake of convenience :- "Provided that nothing containing contained in this clause shall apply In relation to so much of the income by w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in connection with the activities referred to in sub-clauses (i) to (iv), (iva) and (v)" The term Royalties and fees for Technical Services has been defined in Article 12 of DTAA with Austria which reads as under :- "Article 12 : royalties and fees for technical services - (1) Royalties and fees for technical services arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. (2) However, such royalties and fees for technical services may also be taxed in the Contracting State in which they arise and according to the laws of that State, but if the beneficial owner of the royalties and fees for technical services is a resident of the other Contracting State, the tax so charged shall not exceed 10% of the gross amount of the royalties and fees for technical services. (3) The term "royalties" as used in this Article, means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematography films or films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... usiness profit was higher than the tax rate applicable to royalties. The learned counsel for the assessee thereafter contended that the ownership in such drawings was transferred to the assessee company on delivery of drawings by such company to the assessee. However, as per the condition of such sale transaction, the assessee could not reproduce it on its own or could use it in a manner not being permitted by the seller. Thus, the sale transaction was subject to certain condition and which was a normal condition in the case of purchase of all copy-righted articles/goods. Hence, such transaction was a case of out-right purchase for a specified purpose. The learned counsel for the assessee further submitted that the assessee delivered these drawings to the buyers of plant and machinery and such condition also restricted such buyers from using such drawings for commercial manner benefits. The learned counsel for the assessed, thereafter, contended that these were subject to the custom duty and refund of custom duty had also not been claimed which was generally a case in respect of an item received for a limited use or for a limited period. It was also specifically pointed out that su ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ded over to the buyer of the plant and machinery for their reference, if the situation so required. He further contended that the decision of the Hon'ble Calcutta High Court in the case of Leonhardt Andhra UND Partner,GMBH v. CIT; 249 ITR 418 was not applicable as in that case the royalty was not defined in DTAA between India and Germany and in the absence of such definition, the statutory definition as contained in section 9(1)(vi) was applied, whereas in the present case, article 12(3) existed between two countries and as per that definition, consideration paid was not towards right to use but it was for the use of designs as such and, therefore, the aforesaid decision of the Hon'ble High Court was not applicable. The learned counsel for the assessee thereafter referred to the ruling of the learned Commissioner of Incometax (Appeals) for advance ruling in the case of Pre-quip Corporation v. CIT, as reported in 255 ITR 354 (pages 140 to 150 of the paper book) wherein it has been opined that transaction of sale of engineering drawings and designs by US Company to Indian Company did not amount to a transaction resulting into payment of royalty. The learned counsel for the assessee s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gns and the note on the hard copy of such designs confirmed this position i.e. the assessee had no right in the copy right of these drawings/designs i.e. the assessee had no right in the copy right of these drawings/designs and it could use only as per the terms and conditions of the agreement with its parent company for its own purposes in the capacity of the owner thereof. Thereafter, the learned counsel for the assessee referred to the decision of the Tribunal in the case of DCIT v. Finolex Pipes Limited as reported in 106 TTJ (Pune) 741 wherein the Tribunal had held that fee payment for design documentation to German company by the assessee Indian company for out-right sale of such documentation was not royalty as per DTAA. The learned counsel for the assessee also relied upon the decision of the Hon'ble Karnataka High Court in the case of Jindal Thermal Power Company Limited v. DCIT (2009) 225 CTR (Kar) 220. 8. The learned CIT DR, in the rejoinder, contended that in the case of Pro-quip Corporation v. CIT (supra), the language of article 12(3) of DTAA was materially different and the said decision was based on such language, hence, not applicable to the facts of the case. T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... meaning thereby that such article/goods in the form of designs could be used for specific purposes and cannot be used for other commercial gains by the buyer. This can be put in different words i.e. it is a case of purchase of copy righted article and not of copy rights therein. Thus, on this very fact, we do not consider any necessity to go into the issue further and deal with the judicial decisions cited by both the sides. However, before parting, we consider it appropriate to observe that if the view of the revenue that copy righted article could only be a trading item or of the nature of finished goods only, then a transaction of sale and purchase of such drawings/designs would necessarily be considered as a transaction of payment of 'royalty', which cannot be correct as even the software has been judicially classified as goods. We also do not agree with the contention of the revenue that when the goods are acquired for self-consumption, that would amount only to use of such items, resulting into 'royalty' because items for selfconsumption for use in intermediate process are also acquired on principal to principal basis by way of purchase. It is also to be noted that in the ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ces, purchase orders were duly produced right from assessment stage. Even otherwise, the ld. Assessing Officer has nowhere mentioned in the assessment order that the payments for the impugned expenses were not made. The suspicion of the ld. Assessing Officer is that the transactions relating to drawings & design expenses are nothing but an afterthought. However, noting concrete has been brought on record by the Assessing Officer in support of his suspicion as to how the purchase orders are not genuine. The assessee has furnished various documents to establish the genuineness of such expenses and the technical design was purchased as a matter of business expediency to implement the project, therefore, we find no infirmity in the stand of the ld. CIT(A) on this issue. Consequently, affirmed. Our conclusion will cover ground no.1 of ITA No.253/Ind/2007 (Assessment Year 2001-02) and ground no.2 of ITA No.255/Ind/2007 (Assessment Year 2003-04) also. 8.1 The department has also not filed any appeal against the order of CIT(A) for A.Y.2004-05 holding that transaction is in the nature of purchase and design and drawings are not in the nature of royalty. As the facts and circumstances dur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for turbine errection/inspection service V A Tech PT Indonesia 244209 i) Inter Corporate Deposit VA Tech Finance (lreland) Ltd, Ireland 3104878 i) Reimbursement of Expenses V A Tech ELIN EBG GmbH & Co.,Austria 680356 i) Reimbursement of expenses VA Technology AG, Austria 14952505 Total 11,69,86,949 Purchase of Raw Materials: During the year under consideration, the assessee company has purchased raw material from AEs worth Rs. 4,32,74,0221-. These transactions are analyzed as follows: Selection of Tested party In the transfer pricing documentation submitted by the assessee, the assessee has selected V.A.Tech Hydro India Pvt. Ltd.(Indian Company) as tested party keeping in view complexity of functions performed availability of comparable data and requiring minimum adjustment. The same is adjusted as tested party for transfer pricing audit. Selection of Most appropriate method On the basis of functions performed, assets deployed and risks assumed by the assesse, TNMM method has been chosen by the assessee as the most appropriate method and the same is accepted. Selection of Profit Level Indicator (PLI) Since the transaction under scrutiny ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ncial year 2005-06 only as a benchmark the assessee's transactions. 12. Thereafter the AO computed arms length price of purchases made from AEs which worked out to be Rs. 1,90,84,087/- as compared to the transactions value of Rs. 4,32,74,022/-. The AO further held that assessee's international transaction relating to sales made to AEs does not fall within range of +5 % as available to the assessee as per Proviso to Section 92C(2) of the I.T. Act, 1961. Thus, the upward adjustment of Rs. 2,41,89,935/- was made to the total income of the assessee. 13. The AO also observed that the assessee has carried out sales of generator and generator parts to its AEs and also independent parties. On all these projects cost + margin have been computed and details of cost + margin has been worked out for various projects related to AE as under :- Amount received/receivable from AE. Name POC Sales COGs Gross Margin GP/Crores VA Tech Hydro GmbH & Co. 2005-06 Upper Gotvand 1460734 1240710 220024 17.73% Tongbai 663025 564262 98763 17.75% Lang Ya Shaan 3917081 3393030 524051 15.44% Frameuste/C.124 196289 172416 23873 13.85% UG Bars 444 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... income under sub-section (1) or the determination of the allowance for any expense or interest under that sub-section, or the determination of any cost or expense allocated or apportioned, or, as the case may be, contributed under sub-section (2), has the effect of reducing the income chargeable to tax or increasing the loss, as the case may be, computed on the basis of entries made in the books of account in respect of the previous year in which the international transaction was entered into." 14.2 Further, reliance has also been placed on Circular 14/2001 issued by the Central Board of Direct Taxes ("CBDT") which clarifies that transfer pricing regulations are not intended to be applied to cases where the adoption of the arm's length price determined under the regulations would result in a 'decrease in overall tax incidence' in India in respect of the parties involved in the international transaction. Since, the application of an arm's length price to the present case may result in reduction of the overall tax incidence in India, the 'cost only' reimbursement by the AEs was considered to be in compliance with the import of the Indian transfer pricing regulations. 14.3 In addi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... its AEs are on cost-to-cost basis. * The Ld.TPO proceeded to determine the ALP of subject transaction using TNMM as most appropriate method. However, while doing so, the Ld. TPO: - Used the financial data for comparable companies only for financial year ("FY") 2005-06 and rejected the multiple year data as used by the assessee; - Use the financial data as available on databases instead of annual reports, which provide more authentic information. - Rejected the contention of the assessee for rejection of one of companies selected by assessee as comparable. The assessee has argued that due to one comparable companies identified by assessee, based on principles of robust analysis, should be rejected on account of difference in turnover; - Rejected the request for allowing working capital adjustment made by the assessee. * Based on above, the Ld. TPO concluded that subject transaction does not meet the arm's length test and accordingly recomputed the ALP of the same. Sale of generators & generator parts to AEs * The Ld. TPO accepted selection of CPM as the most appropriate method. * However, he did not concur with the evaluation of related party transactions ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... employed by the assessee vis-à-vis the comparables and in the process also ignored Indian transfer pricing regulations and judicial precedence. 7. Seventh Ground of Objection Based on the facts and circumstances of the case, the Ld. TPO has erred in law and in fact, by not taking cognizance of the fact that same international transaction of assessee has been accepted by Revenue authorities to be at arm's length in previous years 8. Eighth Ground of Objection Based on the facts and circumstances of the case, the Ld. TPO has erred in law and in fact, in making an upward transfer pricing adjustment on account of purchases made from AE by alleging that entire difference in operating margins of assessee and comparable companies is on account of purchases being made by assessee from AE at higher price and ignoring the fact that purchases from AE constitute less than 5% of the total operating cost of the assessee 9. Ninth Ground of Objection Based on the facts and circumstances of the case, the Ld. AO has erred in law and in fact, in not considering the internal CPM analysis undertaken by the assessee by way of aggregation of transactions in accordance with the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h inter alia provides that "The provisions of this section shall not apply in a case where the computation of income under sub-section (1) or the determination of the allowance for any expense or interest under that sub-section, or the determination of any cost or expense allocated or apportioned, or, as the case may be, contributed under sub-section (2), has the effect of reducing the income chargeable to tax or increasing the loss, as the case may be, computed on the basis of entries made in the books of account in respect of the previous year in which the international transaction was entered into." * Further, reliance has also been placed on Circular 14/2001 issued by the CBDT which clarifies that transfer pricing regulations are not intended to be applied to cases where the adoption of the arm's length price determined under the regulations would result in a 'decrease in overall tax incidence' in India in respect of the parties involved in the international transaction. Since, the application of an arm's length price to the present case may result in reduction of the overall tax incidence in India, the 'cost only' reimbursement by the AEs was considered to be in compliance ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... see on full cost basis. Further, AE had confirmed that it does not have any excess cost cover and the margin earned by the AE is zero 20. The Ld. TPO did not take into consideration the above certificate submitted by the assessee, while determining the ALP of transaction involving import of material by the assessee. This is evident from the fact that entire order of Ld. TPO is silent on the issue and has simply discusses determination of ALP by using TNMM. This shows that Ld. TPO approached the case with a biased mind and chose to ignore valid documentary evidence in his possession to arrive at his conclusion. 21. The Ld. TPO had ignored the fact during FY 2005-06, there has been no change in the nature and terms of international transactions entered into by the assessee vis-à-vis the transactions undertaken by it in preceding years. Further there has been no change in the business profile, functions performed, assets employed and risks assumed by assessee in FY 2005-06. 22. Rule 10C(2) of Indian Transfer Pricing Regulation provides that in selecting the most appropriate method, the following factors shall be taken into account: "the class or classes of associ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on are to be seen while screening. Besides, it is not possible to ignore specific Indian regulations on the subject." Hence, based on Indian transfer pricing regulations supported by judicial decisions, it is clear that a robust functional analysis is required even where TNMM is applied. 23. Against use of BHEL as comparable, contention of assessee before DRP was as under :- * Assessee had applied wider comparability criteria while screening the companies at the time of preparing transfer pricing study; * Detailed evaluation of all factors such as functions performed, assets employed and risks undertaken had been undertaken subsequently for establishing comparability of independent companies; * Assessee had not considered the "turnover criterion" as one of the factors in determining the comparability earlier. In light of above, assessee wishes to submit before the Hon'ble Panel that BHEL should be rejected and a final set of following four comparable companies be considered, while applying TNMM: - Alstom Projects India Limited - Jyoti Limited - Powerica Limited - Triveni engineering and industries Limited The operating margin of the aforesaid comparab ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tute the aforesaid proviso to sub-section (2) so as to provide that where the most appropriate method results in more than one price, the arithmetical mean of such prices or, at the option of the assessee, a price which differs from the arithmetical mean by an amount not exceeding five per cent of such mean may be taken to be the arm's length price in relation to the international transaction" From the above it is clear that in case the application of the most appropriate method results in two or more prices, the assessee is required to compute the arm's length price by determining an arithmetic mean of such prices or a 5% variation of the arithmetic mean thereof. There is no ambiguity in law in respect of the same. Thus, any adjustment to the income of the assessee should be computed after considering a (+/-) 5% variation from the arithmetic mean, whichever is favourable to the assessee. Further, the transfer pricing is not an exact science. It requires the exercise of judgment on the part of both the tax administration and taxpayer. Para 1.12 and 1.13 of OECD guidelines state that. "the arm's length principle is sound in theory since it provides the closest approximatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... more than that of assessee. It is also a matter of record that same international transaction has been accepted to be at arms' length in the previous year. Anyhow as per proviso to Section 92C(2), adjustment to the income of assessee is to be restricted to the proportion of the international transactions and cannot be made to entity which contain transactions to the unrelated parties as well and adjustment income of assessee is to be restricted to the proportion of international transactions which is allowable international transactions and since as per following calculation, which is within +5%, no adjustment is required. Since the difference is within +5%, adjustment made by AO/TPO in the purchases were not justified. 29. Now, we compute the amount of adjustment having regard to the value of international transaction of the assessee in assessment year 2006-07 and 2007-08, which is as under :- Computation of working of adjustment having regard to the value of international transactions of assessee for the A.Y.2006-07 : Particulars Amount (in Rs.) Total sales 1,09,89,76,568 Less : Operating cost 98,60,14,227 Operating profits ('OP') 11,29,62,341 OP/sales 10. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... year 2005-06. The value of which has been determined by the then TPO at Nil on account of Indian Transfer Pricing provisions. We found that the AO had followed the finding on account of international transaction regarding purchase of capital asset from its AE as per order u/s 92CA(3) of the Act passed for the AY 2005-06 and text as mentioned in the assessment order u/s 143(3) in the assessee company's case for the AY 2005-06. Based on same, having regard to the value of such asset being determined during AY 2005-06 as Nil by the then Ld. TPO, the Ld. AO had proceeded to disallow the depreciation claimed on such capital asset for AY 2006-07 as well. 31. It was contended by learned AR that no opportunity of being heard has been given to assessee before disallowance of depreciation claimed on capital asset purchased from AE during AY 2005-06, the value of which had been determined by the then Ld. TPO as Nil. The AO erred on facts and circumstances of the case and in law by determining arm's length value of capital asset purchased from AE during AY 2005-06 as Nil and concluding for disallowance of depreciation thereon claimed during that year. In doing so, the then Ld. TPO had mispla ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hine was purchased by AE in the FY 2001-02 from a non-related entity i.e. M/s Micamation AG and it was sent to India accordingly. The valuation of said machine as per Customs record was at Rs. 18,974,466 (including custom duty). The machine was put to use during FY 2001-02, however, the payment for same had been made during FY 2004-05 due to inadvertent oversight. Further, since the machine has been purchased by AE from an unrelated third party, the consideration paid by AE for purchase of machine from such third party had been used as a Comparable Uncontrolled Price for benchmarking the value of impugned international transaction. 32.2 It was also the argument of learned AR that the TPO, without prejudice to its contentions, mentioned that even if it is considered that capital asset purchased by assessee from its AE is a transaction relating to FY 2004-05, its depreciated value would had been approximately been Rs. 80,04,844/- (Rs. 1.89 crore less depreciation @ 25% for FY 02-03, 03-04 on WDV) i.e. after considering depreciation of 25% as per Income Tax Act, 1961 for each of the three preceding financial years. The assessee accounts for the fixed assets at cost of acquisition or ..... X X X X Extracts X X X X X X X X Extracts X X X X
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