TMI Blog2023 (3) TMI 1299X X X X Extracts X X X X X X X X Extracts X X X X ..... I 1114 - SUPREME COURT] Ground Nos. 4 to 7 are allowed for statistical purposes. Disallowance of contribution towards gratuity funds - HELD THAT:- We noticed that the AO has not examined the details as per the directions of the DRP and has admitted that gratuity payment required further enquiry. AO has made disallowance considering the provisions of Section 144C(8) of the Act and sustained the disallowance. Since the AO has not verified the details of gratuity based on the details furnished by the assessee we remit the issue back to the AO with a direction to examine the details of payment of gratuity and decide the allowability accordingly. This ground is allowed for statistical purposes. Disallowance of expenditure incurred under Voluntary Retirement Scheme (VRS) - assessee in the original return inadvertently claimed deduction of entire VRS payment instead of 1/5th of the amount as per section 35DDA and filed revised return rectifying the same - AO disallowed the same on the reason that same was not disclosed in the tax audit report - HELD THAT:- We noticed that the AO has not examined the details as per the directions of the DRP and has made disallowance considering ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssified into manufacturing and trading of pharmaceutical products. The assessee as per the Transfer Pricing (TP) study is engaged in the coordination business of clinical trial activities on behalf of the Associated Enterprise (AE) namely Astra Zeneca AB Sweden. For the assessment year 2011-12, the assessee filed the return of income on 30.11.2011 admitting a total income of Rs.103,50,22,080/-. The case was selected for scrutiny under CASS and a notice under Section 143(2) of the Act was duly served upon the assessee. Since the assessee had several international transactions, a reference was made to the Transfer Pricing Officer (TPO) for determination of arm s length price (ALP). The TPO recharacterised the activities of the assessee as Clinical Research Organisation (CRO) doing clinical trial activity on its own account and not coordination of clinical trial activity. Accordingly, the TPO arrived at the TP adjustment of Rs.2,66,60,541/-. The AO while passing the draft assessment order, besides the TP adjustments, made the following disallowances: - a) Cost of samples - Rs. 3,47,65,606 b) Literature provided to doctors Rs. 10,41,09,945 c) Conference expenses of doct ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... inical trial coordination is detailed in the TP study of the assessee which is placed on record at pages 217 to 803 of the paper book filed by the assessee. The FAR analysis is also placed on record at page 246 to 250 of the paper book I. The list of comparable finally selected by the assessee in its TP study and its average margin is in the range of 4.85% to 15.79% with a median of 9.71% (page 289 to 292 of the paper book-I). Since the assessee s margin as per the TP study was determined at 16.50% (page 290 of the paper book-I filed by the assessee), the assessee sought to justify the ALP of the international transactions undertaken by the assessee in respect of provision for global clinical trial services . 10. The TPO re-characterised the activities of the assessee as CRO and accordingly based on fresh research of comparables added Lotus Labs to the list of comparables. Further the TPO reworked the margin of the assessee by considering the reimbursement of expenses received from AE as part of revenue, the workings of which is given below: - Global Clinical Trial Services (3CEB Report) 31,191,959 Recovery of expenses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ments of Lotus Labs for the year ending March 2011 from which the RPT of Lotus Labs works out to 73.84% as tabulated below: - Nature of transaction March 2011 Service income received (A) 620,979,066 Total revenue (as per segmental details) (B) 841,012,636 RPT percentage (A/B) 73.84% It is further submitted that for AY 2010-11, the Assessee had filed objections before the Dispute Resolution Panel ( DRP ) regarding the acceptance of Lotus Labs as a comparable for the relevant assessment year. The assessee submitted that the Lotus Labs had significant related party transactions i.e. 74.92% and thus must be excluded as a comparable. Vide its directions dated 27 November, 2014, the DRP appropriately directed the TPO/AO to exclude Lotus Labs as a comparable due to significant RPT. The DRP also held that since Lotus Labs maintains its books of accounts for the year ending December (calendar year as a financial year), it is not suitable for comparability. Having heard the submissions we are of the v ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he material on record. We are of the view that Lotus Labs cannot be accepted as a comparable as it has significant RPT as per the financials of Lotus Labs for December 2010 sourced from the Ministry of Corporate Affairs Website and the year ending March 2010. The RPT worked out as under:- Nature of transaction December 2010 March 2010 Service income received (A) 61,05,21,550 (Refer page 1013 of paper book-III (320318981+ 248649911+40919609+ 633049) 53,79,19,528 (Refer page 1043 of paper book-III (197418806+ 312980622 27520100) Total revenue (as persegmental details (B) 81,48,46,730 (refer total revenue under segmental details in page 1011 of paper book-III) 67,46,59,036(refer Totalrevenueunder Segmentaldetailsin Page 1043 of paper book-III) RPT percentage (A/B) 74.92% 79.73% 11. The above working of RPT was not controverted by Revenue, even before the Tribunal. Therefore, Lotus Labs was rightly rejected by the DRP and not taken as a comparable. In this conte ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nference expense and gifts and donations. 5 The learned AO/ Hon'ble Panel has erred, in law and on facts, in applying the CBDT Circular No 5/2012 ( CBDT Circular ) dated 1 August 2012 without considering whether there has been any violation of the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 ( IMC Regulations ) and without granting sufficient opportunity to submit the factual/ technical arguments. 6 The learned AO/ Hon'ble Panel has erred, in law and on facts, in applying the CBDT Circular without appreciating that the IMC Regulations are only applicable to medical practitioners and shall not extend to pharmaceutical and allied healthcare companies. 7 The learned AO/ Hon'ble Panel has erred, in law and on facts in applying the CBDT Circular without appreciating that there was no violation of the IMC Regulations and therefore no part of the above amount of Rs. 48,87,017 in respect of travel and conveyance, conference expense and gifts and donations can be validly disallowed. 8 Without prejudice to grounds 4 to 7, the learned AO/ Hon'ble Panel has erred in law by retrospectively applying the CBDT Circula ..... 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Y 2010-11 and Hon'ble Panel does not have the authority to issue directions to the AO under section 144C(8) of the Act to conduct further enquiry without appreciating the fact that the amount of Rs. 1,46,60,167 was voluntarily disallowed by the Appellant in filing revised return of income and the Hon'ble Panel had issued directions to allow one-fifth of this expenditure after verifying the original and revised return of income. 15 Without prejudice to grounds 12 to 14, the AO has erred in law and on facts, in disallowing VRS expenses by not considering the original and revised computation of income for the AY 2011-12, the details of VRS payments made to employees along with Form 16 issued to such employees and also the fact that applicable tax was withheld from VRS payments made to employees Disallowance of Rs. 59,41,704 16 The learned AO has erred, in law and on facts, in disallowing Rs. 59,41,704, which were disallowed under section 40(a)(ia) of the Act in AY 2010-11, however tax on which was withheld and deposited with the Central Government during the subject AY 2011-12 and hence allowable as deduction. 17 The learned AO has erred, in law and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ost of samples distributed 3,47,65,606 ii Travel Conveyance provided to Doctors 14,70,500 iii Literature provided to Doctors 51,56,108 iv Conference expenses of Doctors borne 16,86,162 v Gifts donations provided to Doctors 17,30,335 Total 4,48,08,711 The DRP gave relief to the assessee with regard to cost of samples distributed and literature provided to the doctors. Accordingly the following disallowances survive post the DRP directions I Travel Conveyance provided to Doctors 14,70,500 Ii Conference expenses of Doctors borne 16,86,162 iii Gifts donations provided to Doctors 17,30,335 Total 48,87,017 25 The learned A.R. submitted that by incurring these exp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion of additional evidences @ Pg 65-67) and Appellant filed details/ information in response to such notice/query (submission enclosed as Annexure 6to application for admission of additional evidences @ Pg 69- 77). It may kindly be appreciated that the assessing officer after analysing the nature of expenses (similar to expenses incurred in assessment year 2010-11) in the context of MCI guidelines and the CBDT Circular 05/2012 dated 01.08.2012 accepted the claim of the assessee and did not make any disallowance in the assessment order (enclosed as Annexure 7 to application for admission of additional evidences @Pg78-86). This is because even if criteria as laid down in CBDT circular as also MCI regulation (as now affirmed in decision by Hon'ble Supreme Court) is applied. expenditure incurred towards contractual obligation with doctors and employee doctors of pharma companies does not call for disallowance. It is pertinent to point out that the Hon'ble Supreme Court in case of M/s Apex Laboratories (which is otherwise distinguishable on facts) has ultimately upheld the validity of the CBDT circular which was considered by the assessing officer while concluding assessme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he payroll of Appellant and a declaration from the Appellant confirming the same has been enclosed as Annexure 3 to application for admission of additional evidences @ Pg50. Considering the above, Appellant wishes to mention that any expenditure like travel etc incurred on doctors in the capacity of them being employees/ contractual service providers ofthe Appellant and not 'delegates' would not be violative of MCI regulations and deserves to be allowed as business expenditure. Even otherwise, Appellant also submits that travelling and accommodation facility is provided to certain doctors under agreement (apart from the employees) are not in the nature of freebies as the same have been incurred for availing the services of the doctors under a contractual obligation/ arrangement MCI regulation itself allows medical practitioners to work for pharmaceutical and allied health care industries in advisory capacities, as consultants and in doing so amedical practitioner should adhere to the certain guidelines/ safeguard. MCI regulations does not prohibit medical practitioners from accepting travel costs while acting as speakers/ consultants and providing consultanc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... MCI regulations. That apart. expenses in the nature of books, literature, sponsorship, audio visual set up, etc. are not incurred on any doctor in order to promote the Applicant's products. These expenses are incurred in the course of business and cannot be treated as freebies. Publicity and literature expenses also includes webcast charges. which are not specifically prohibited under the MCI regulations. Sample copy of invoices are enclosed as Annexure 5 to application for admission of additional evidences @ Pg63- 64. In Appellant's own case for A Y 2011-12 (Page 816 to 859 of the paperbook) and AY 2012-13 (Page 860 to 881 of the paperbook). DRP has directed the learned AO to allow deduction of expenses pertaining to Publicity and Literature. basis the reason that such expenses are not specifically covered by the MCI Regulations (i.e. cannot be categorised as Gift. Travel facility. Hospitality. Cash or Monetary grant) and such expenses are required to be incurred by the Appellant so that the medical practitioners stay abreast of developments on various medicines manufactured/ sold by the Appellant and also the diseases which can be cured by such medicines. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... isallowances of expenditure incurred by the Assessee on doctors prior to the amendment of IMC regulations i.e. prior to 10 December 2009 can be made(Page 1251 of Legal Paper book -IV) Assessee submits that the CBDT Circular dated should not be applied retrospectively as the amendment to the IMC Regulationswaseffectivefrom10December2009. The break-up of expenses are as follows (refer page 1500 of Legal Paperbook Vol5): Particulars Pre Amendment Post Amendment Total Travel Conveyance provided doctors 7,64,447 3,40,288 11,04,735 Conferen Sympos and other marketing expenses 14,16,528 75,03,799 89,20,327 Publicity and 8,54,977 13,64,286 22,19,263 Total 30,35,953 92,08,373 1,22,44,3 Reliance in this regard is placed on the below decisions: ACIT vs M/s. Geno Pharmaceuticals Limited(ITA ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on of additional evidence. The additional evidence is details of break-up of expenses, such as travelling, conveyance, gift and donations provided to Doctors aggregating to Rs.1,22,44,326. It was stated that though the assessee had submitted before the lower authorities such details, were not segregated under various heads. It is pertinent to note that prior to the judgment of the Hon ble Apex Court in the case of M/s.Apex Laboratories Pvt. Ltd. v. DCIT (supra), many of the judicial pronouncements had held that MCI Regulations are not applicable on pharmaceutical companies and expenses incurred by such companies are not violative of CBDT Circular. During this phase of assessment, there were only adhoc summary basis evaluation of expenditure. In the present case also there is no critical evaluation of the expenses and post the Hon ble Supreme Court judgment, the dictum laid down, same needs to be followed and each of the expenditure needs to be evaluated to see if the disallowance is justified. It is also important to note that for the assessment year 2016- 2017, the A.O. had raised query in relation to the expenditure incurred on the Doctors by the assessee. The assessee filed deta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arrant separate adjudication. 31 Next issue is with respect to disallowance of contribution towards gratuity funds (Ground 9 to 11). The assessee incurred Rs.4,63,24,847 (4,63,24,847 72,87,811) towards contribution to gratuity fund and paid to the said fud before the due date for filing return of income. The same was also disclosed in the tax audit report. It was therefore submitted that the entire amount is eligible for deduction u/s. 36(1)(va) of the Act. However, the assessee by inadvertence claimed only Rs.3,90,37,036 while filing the return which was rectified by filing revised return where the entire amount of Rs.4,63,24,847 was claimed as a deduction. 32 The AO noted that Rs.72,87,811 pertaining to contribution towards gratuity fund has not been specifically disclosed in the tax audit report and accordingly disallowed the same. The DRP directed that amount paid before the due date for filing the return was allowable deduction. The AO, however, upheld the disallowance on the ground that no further enquiry can be made by the AO in view of section 144C(8) of the Act. 33 Before us, the ld. AR submitted that pursuant to the DRP directions, the assessee placed all the e ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ayments based on the details furnished by the assessee we remit the issue back to the AO with a direction to examine the details of and decide the allowability accordingly. These grounds are allowed for statistical purposes. 40 Ground Nos. 17 18 with respect to disallowance under Section 40(a)(ia) of the Act was not pressed and hence dismissed as not pressed. 41 The assessee raised Ground Nos. 19 to 21 with regard to transfer pricing adjustment. Ground Nos. 19 to 20 relate to the DRP making TP adjustments @ 5% of the expenses reimbursed by the AE and Ground No. 20 is with regard to re-characterisation of assessee as a Clinical Research Organisation (CRO). 42 During the course of hearing the learned A.R. submitted that for the year under consideration the re-characterisation of assessee as CRO will not be contested if the issue raised in ground 19 20 are held in favour of the assessee. The learned AR accordingly prayed that Ground no.20 can be left open. 4,95,00,000 43 During the year under consideration the assessee has recovered an amount of Rs.0.495 crores being external cost incurred towards clinical trial expenses. These expenses are recovered from the AE on cos ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e of the opinion a mark up of 5% on the above reimbursement cost would justify the fact of the case. Similar circumstances exist in the case of Asseessee and therefore , respectfully following the decision of the Hon'ble ITAT, Hyderabad, we direct the Assessing Officer to adopt a mark up of 5% on the recovery cost of 9,39,95,337/- 45 The ld. AR submitted before us that the subject matter of appeal is adhoc mark up on recovery of expenses on cost to cost basis from AE on two grounds viz., firstly, the recovery of cost pertaining to manufacturing and trading segment which is a pass through cost and hence does not require any mark up. Secondly, in case a mark up is necessary in law, adhoc 5% mark up needs to be deleted as the same is within the tolerance limit prescribed. However, the TPO/DRP without referring to any evidence filed by the assessee has proceeded on a mere presumption to make a TP adjustment to the transaction of recovery of expenses on cost to cost basis. 46 It was submitted that details at page 804 of PB Vol.I show the nature of expenses and that the recovery was from certain group companies which was different from the one to which the coordination ser ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o the assessee is based on functions performed by it to the AE on the operation costs incurred by it and not on the cost of services sourced from the third party in India. The relevant extract of the decision of the Hon ble High Court as relied on by the Tribunal is given below 39. The TPO‟s determination enhanced LFIL‟s cost base for applying the operating profit over total cost margin. LFIL‟s compensation model is based on functions performed by it and the operating costs incurred by it and not on the cost of goods sourced from third party vendors in India. Allotting a margin of the value of goods sourced by third party customers from Indian exporters/vendors to compute the appellant s profit is unjustified. This Court is of opinion that to apply the TNMM, the assessee s net profit margin realized from international transactions had to be calculated only with reference to cost incurred by it, and not by any other entity, either third party vendors or the AE. Textually, and within the bounds of the text must the AO/TPO operate, Rule 10B(1)(e) does not enable consideration or imputation of cost incurred by third parties or unrelated enterprises to compute th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to assessee s case in terms functions, assets and risk (FAR) analysis and without any bench marking. In the said case the issue involved was not a pure reimbursement of cost but cost sharing exercise in implementing ERP systems in the group and therefore is distinguishable from assessee s case. In assessee s case our attention was drawn to the fact that the services are rendered by the third party and the assessee raises a back to back debit notes supported by the relevant third party invoices which goes to evidence that it is merely a pass through cost. It is also submitted that the expenses such communication expenses, Conference and symposium expenses, printing stationery, salary cost, Travel and conveyance, legal and professional fees are paid by the assessee to third party and recovered on cost-cost basis from AEs. Following table is the breakup of the expenses as submitted by the assessee below the lower authorities 51 In our view whether the mark- up of the cost of the services rendered by the Third Party can be applied for determining the ALP in the hands of the assessee should be examined from the angle of whether by making the payment on behalf of AE the asses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... end, it is submitted that the Appellant out of abundant caution had not claimed the refund of said payments for the year under consideration in the absence of clarity in respect of the said issue. However, recently, the Hon'ble Delhi Income-tax Appellate Tribunal in case of Giesecke Devrient (India) Pvt Ltd (1TA No. 7075/DEU2017) dated 13 October 2020, following the co-ordinate bench judgment in the case of Maruti Suzuki India Ltd (961/DEU2014), has held that tax rates specified in Double Taxation Avoidance Agreement ( DTAA ) in respect of dividend must prevail over dividend distribution tax ( DDT ). In light of the above judicial development, the Appellant wishes to file an additional legal ground of appeal (enclosed as Annexure 1) for claiming refund of excess taxes paid on distribution of dividend. Your Honours would appreciate that additional legal grounds can be raised at appellate stages. It is submitted that the additional ground of appeal in respect of the above issue is purely legal ground. In view of the above, the Appellant requests your Honours to admit the additional ground of appeal. In respect of the above proposition, we rely on the following decis ..... 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