DEPUTY COMMISSIONER OF INCOME-TAX, CIRCLE - 1(1),, PUNE vs. M/S. CARRARO INDIA PVT.LTD, (AS A SUCCESSOR OF TURBO GEARS INDIA PVT.LTD),, PUNE

PER R.S.SYAL, VP : These two cross appeals – one by the assessee and the other by the Revenue - assail the correctness of the order passed by the

2 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

Commissioner of Income-tax (Appeals)-13, Pune on 21-08-2018 in

relation to the assessment year 2010-11.

transfer pricing addition amounting to Rs.2.77 crore from the

international transaction of ‘Payment of Professional Fee’.

assessee is a wholly owned subsidiary of Gear World, SpA, which

is further a wholly owned subsidiary of Carraro SpA. The assessee

is engaged in the manufacturing and trading of Gears for

construction equipment, utility and commercial vehicles,

agricultural tractors and components for the automotive industry. It

filed a return declaring total income at Nil. Certain international

transactions were reported in Form No.3CEB. The AO made a

reference to the Transfer Pricing Officer (TPO) for determining the

Arm’s Length Price (ALP) of the international transactions. The

TPO in his order u/s. 92CA(3) of the Income-tax Act, 1961

(hereinafter also called ‘the Act’) noticed that the assessee applied

the Transactional Net Marginal Method (TNMM) for demonstrating

that the international transaction of payment of Professional fees to

the tune of Rs.2.79 crore was at ALP. The assessee chose

3 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

Foreign/Associated Enterprise as a tested party and certain foreign

comparables, on the basis of which, it was claimed that the

international transaction was at ALP. As per the TPO, the assessee

did not produce any evidence before him supporting the receipt of

services, quantum of services and the cost of the same in the open

market. Applying the Comparable Uncontrolled Price method

(CUP) as the most appropriate method, the TPO determined NIL

ALP of the international transaction which followed an addition for

the equal sum by the AO. The assessee contended before the ld.

CIT(A) that out of total sum of Rs.2.77 crore, the assessee itself

wrote back a sum of Rs.2,17,91,441/- as its income for the A.Y.

2012-13, which amount was actually not paid. The sustenance of

disallowance to this extent was claimed to be amounting to double

taxation. The assessee adduced further evidence to show that it did

avail services. The ld. CIT(A) sent the additional evidence to the

TPO calling for the remand report. In such a remand report, the

TPO did not concur with the assessee’s evidence by noticing that

the e-mails put forth on behalf of the assessee did not prove any

rendition of services by the AEs necessitating the making of

payment. The ld. CIT(A), therefore, upheld the addition made by

4 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

the AO, against which the assessee has come up in appeal before the

Tribunal.

relevant material on record. It is seen that the assessee entered into

the international transaction and accordingly debited a sum of

Rs.2.79 crore on account of Payment of professional fee. The

assessee submitted that a sum of Rs.2.17 crore and odd was written

back in its accounts for the A.Y. 2012-13 and offered for taxation,

leaving thereby the remaining debit in its accounts on this score to

the tune of Rs.61,70,479/-, comprising of a sum of Rs.61,21,401/-,

to GWS and Rs.49,078/- to Carraro International, SA.

which is claimed to have been written back by the assessee in its

accounts for the A.Y. 2012-13 and offered for taxation, there can be

no addition for this sum in the year under consideration, if the same

has actually been written back. There is no finding of the

authorities below that such an amount has been offered for taxation

in a later year. The AO is directed to verify this contention of the

assessee. In case it is found to be correct, then addition to this

extent should be deleted in the year under consideration.

5 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

Rs.61,21,401/- to GWS. The case of the assessee is that it did

receive services from GWS, which fact has been wrongly denied by

the TPO in the remand proceedings as well. We have perused a

copy of the Advisory Service Agreement dated 5.11.2009 between

Turbo Gears India Private Limited (the earlier name of the assessee)

and Gear World, SpA (GWS), pursuant to which the assessee

received advisory services on Manufacturing Strategy, Global

sourcing and Quality Control, Sales and Marketing, Administration,

Controlling and Human Resource, Logistic Support and other

services connected or ancillary to the above cited services. This

Agreement provides that such services shall be performed by Gear

World for which it will charge at cost plus mark up. Percentages of

mark up for different services have been given in Annexure-B.

Page 964 of the paper book is a list of employees of GWS engaged

in rendering such services to the assessee. Page 965 is a copy of e-

mail from Mr. Franco Calvo of GWS to the assessee’s customer in

India, namely, Mr. Sanjay in connection with the business activity.

From page 966 onwards, there are copies of several e-mails

exchanged between the assessee/its customers on one hand and the

employees of GWS on the other in connection with business

6 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

activities. The TPO has also accepted this fact in his remand report,

relevant part of which has been reproduced on page 21 of the

impugned order. The TPO admitted in para 8 of the remand report

that “….. After removing repetitive emails around 60 emails have

been analysed. The email wise analysis is attached as Annexure

“A”. On the detailed analysis of these emails, it is seen that

assessee has not proved that any service has actually been received

from the AE. The payment of professional fee is also found to have

not been linked to any specific service”. In para no. 10, the TPO

noticed that “The proof submitted in the form of the emails

exchanges between the assessee’s employee and Parent Company

are nothing but the activities of the Shareholders”. Thus, the TPO

admitted the factum of the email exchanges between the assessee/its

customers and GWS. The TPO held that such e-mails were in the

nature of Shareholder’s activity, which position is not correct on

noticing that the effect of such services also percolated to the

assessee company, thereby excluding them from the ambit of

shareholder’s activity. Thus, it is amply established that the

services were rendered by GWS to the assessee. It is a common

submission that the position is similar in respect of the professional

7 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

services from Carraro International, SA for a minor sum of

Rs.49,078/-.

AEs to the assessee, the next question is the determination of the

ALP of such services. It is seen that the assessee chose the TNMM

as the most appropriate method and selected foreign/AE as a tested

party and certain other comparables. As against this, the TPO

applied the CUP method and treated Nil ALP of the international

transaction.

the international transaction may be carried out by treating the

assessee itself as a tested party. In the absence of any data available

on record deciphering the profit rate of the assessee from such

transactions and that of the comparable companies in India, we are

unable to determine or verify the ALP of the international

transaction at our end. We, therefore, set-aside the impugned order

on this score and remit the matter to the file of the AO/TPO for a

fresh determination of the ALP of payment of professional fee for

the remaining amount of Rs.61,70,479/- (Rs.61,21,401/- +

Rs.40,078/-). This benchmarking would be done by taking the

8 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

assessee itself as a tested party and Indian comparables and then

applying a correct method. Needless to say, the assessee will be

allowed a reasonable opportunity of hearing in such fresh

proceedings.

including Export of finished goods, Import of raw materials,

Payment of surety charges, Payment of warranty charges and

Reimbursement of expenses. The TPO noticed that the assessee in

its original T.P. study documentation adopted the external TNMM

as the most appropriate method for benchmarking such international

transactions in an aggregate manner. During the course of the

proceedings before the TPO, the assessee came out with a

Supplementary report segregating such transactions. The

benchmarking for Exports to AEs was done by adopting the Internal

TNMM as the most appropriate method resulting in a suo moto

transfer pricing adjustment of Rs.1,00,39,947/-. For the remaining

transactions, the assessee applied other methods. The TPO rejected

the assessee’s supplementary report and stuck to the external

TNMM as adopted by it in the original transfer pricing study

documentation. He selected six companies as comparable with their

9 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

average Profit Level Indicator of OP/OR at 15.52%. The assessee’s

PLI, after the disallowance of Payment of professional services, was

determined at (-)13.60%. This is how, the transfer pricing

adjustment/addition of Rs.11.30 crore came to be made. The ld.

CIT(A) rejected the assessee’s version and sustained the addition.

material on record. The argument put forth on behalf of the

assessee before us is confined to urging the application of the

internal TNMM as the most appropriate method on aggregate basis

of the international transactions under consideration instead of the

external TNMM as applied by the TPO. In this regard, the assessee

has submitted a working of percentage of profit/loss earned by it

from transactions with AEs and non-AEs (both domestic and

export) by calculating OP/TC from export to AEs and non-AEs

uniformly at (-) 15.46% and from domestic sales to non-AEs at (-)

21.99%. Such a calculation has been placed at page 652 of the

paper book. It was in the hue of such a calculation that the assessee

contended that the internal TNMM of exports to non-AEs should be

considered as a benchmark and consequently no transfer pricing

addition was called for.

10 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

the TNMM. Clause (i) of Rule 10B(1)(e) stipulates that the net

profit margin from an international transaction with an AE is

computed in relation to cost incurred or sales effected or assets

employed etc. Clause (ii) is material for the present purpose. It

provides that the net profit margin realized 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. On splitting clause (ii) into two parts, it divulges that the

reference is made to internal and external comparables. One part of

clause (ii) refers to 'the net profit margin realised by the enterprise

.... from a comparable uncontrolled transaction' and the other part

talks of 'the net profit margin realised .... by an uncontrolled

enterprise from a comparable uncontrolled transaction'. It transpires

that whereas the first part refers to the profit margin from internal

comparable uncontrolled transactions, the second part refers to

profit margin from an external comparable uncontrolled transaction.

Ergo, it is discernible that what is to be compared under this method

is the profit from a comparable uncontrolled transaction. The word

'comparable' may encompass an internal comparable as well as an

external comparable. There is a cue in the rule itself as to the

11 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

preference to be given to internal comparable uncontrolled

transactions vis-à-vis external comparable uncontrolled transactions.

It is so because the delegated legislature has firstly referred to the

net profit margin realized by the enterprise (internal) from a

comparable uncontrolled transaction and, thereafter, it refers to the

net profit margin realized by an unrelated enterprise (external) from

comparable uncontrolled transaction. Thus where a potential

comparable is available in the shape of an uncontrolled transaction

of the same assessee, it is likely to have a higher degree of

comparability vis-a-vis the comparables identified amongst the

uncontrolled transactions of third parties. The underlying object

behind the computation of the ALP of an international transaction is

to find out the profit which such enterprise would have earned if the

transaction had been with some third party instead of related party.

When data is available showing profit margin of that enterprise

itself as realized from a third party, it is advisable to have recourse

to an internally comparable uncontrolled transaction. The reason is

overt that various factors having bearing on the quality of output,

assets employed, input cost etc. continue to remain, by and large,

same in case of an internal comparable. The effect of difference due

to such inherent factors on comparison made with the third parties,

12 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

gets neutralized when comparison is made with internal

comparable. Ex consequenti, it follows that an internal comparable

uncontrolled transaction is more noteworthy vis-a-vis its counterpart

i.e. external comparable.

constitute good comparable only if other things between the

transactions with AEs and non-AEs are similar, such as, type of

products or services dealt with, geographical locations, quantities

sold and timing of sales etc. In case the nature of products or

services dealt with in the transactions with the AEs and non-AEs are

at variance, then the comparability cripples and the transactions

with non-AEs shed credence even under the TNMM. In the

otherwise scenario, that is, where the nature of products/services is

similar, but there are differences due to geographical locations or

timing of transactions or quantity dealt with etc., then the

transactions with non-AEs can be considered as benchmark

provided the effect of such differences can be removed by means of

adjustment in the profit/price of non-AE transactions. In case, such

effect of such differences cannot be properly off-loaded, then the

internal comparable transactions cannot be considered for

13 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

benchmarking. The Hon’ble jurisdictional High Court in Pr. CIT vs.

Amphenol Interconnect India Pvt. Ltd. (2019) 410 ITR 0373 (Bom)

has held that the Comparable Uncontrolled Price (CUP) is not

appropriate in case of geographical differences, volume differences,

timing differences, risk differences and functional differences. In

CIT vs. J.P. Morgan India (P) Ltd. (2017) 99 CCH 382 MumHC

(Bom): (2018) 161 DTR 398 (Bom), the Hon’ble Bombay High

Court has been held that the CUP can be used by making

appropriate adjustments to rates charged by assessee from related

and unrelated parties. Similar view has been taken by the Pune

benches of the Tribunal in the context of the TNMM in the case of

Eaton Industrial Systems Pvt. Ltd. Vs. DCIT (ITA

No.505/PUN/2015) vide its order dated 25.11.2019.

is the computability of the correct profit margin from transactions

with non-AEs. Where the assessee maintains separate books of

account in respect of transactions with AEs and non-AEs, the

benchmarking does not pose any serious problem as one can easily

find out the profit margin of the non-AE transactions. But, the

situation becomes a little tricky when the accounts are maintained in

14 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

a consolidated manner and thereafter an exercise of

allocation/apportionment is done for ascertaining the profit margin

from AE and non-AE transactions. In case the temptation to park

more profits in the AE transactions by improper allocation of costs

etc. is eschewed, such profit margins can also serve the purpose.

However, in case the allocation of costs etc. is done by the assessee

from consolidated accounts, it becomes incumbent upon the

AO/TPO to satisfy himself as regards the application of appropriate

keys for allocation of common operating costs and revenues.

invited our attention towards page 652 of the paper book as per

which it has computed profit (loss) margin from export transactions

with AEs and non-AEs, uniformly, at (-) 15.46% by allocating the

operating costs and revenues in certain percentages, the veracity of

which has not been examined by the TPO. Since such a calculation

of profit (loss) margin has not been verified by any authority, we

set-aside the impugned order and remit the matter to the file of

AO/TPO. In such fresh exercise, the TPO will firstly examine if the

transactions with the non-AEs can be considered as comparable in

terms of nature of products, geographical locations, timing and

15 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

quantities sold and the afore discussed parameters. In case, the

transactions of export to the non-AEs are capable for comparison

with the international transactions of export to the AEs, then the

TPO will proceed to examine the veracity of calculation of the PLI

from exports to the non-AEs vis-à-vis exports to the AEs as given

on page 652 of the paper book. In case he gets satisfied, he will

proceed to determine the ALP by adopting the internal TNMM as

the most appropriate method. In case, the AO/TPO comes to

conclusion that the working done by the assessee is not correct and

further proper determination of PLI from exports to non-AEs is not

possible, then he would be free to benchmark the international

transactions as per law after allowing reasonable opportunity of

hearing to the assessee.

should be applied at the first instance unless the determination under

this method becomes difficult, the other issues raised by both the

sides emanating from the adoption of external TNMM by the TPO

as the most appropriate method have been rendered infructuous and

such grounds are, therefore, dismissed as having become academic

in nature.

16 ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

consideration of carry forward of business losses and unabsorbed

depreciation amounting to Rs.37,22,81,779/- is directed to be

considered by the AO as per law.

purposes.

Order pronounced in the Open Court on 28th November, 2019.

Sd/- Sd/- (PARTHA SARATHI CHAUDHURY) (R.S.SYAL) JUDICIAL MEMBER VICE PRESIDENT पुणे Pune; �दनांक Dated : 28th November, 2019 सतीश आदेश क� क� क� �ितिलिप क� �ितिलिप �ितिलिप अ�ेिषत �ितिलिप अ�ेिषत अ�ेिषत/Copy of the Order is forwarded to: अ�ेिषत आदेश आदेश आदेश अपीलाथ� / The Appellant; 1. ��यथ� / The Respondent; 2. 3. The CIT(A)-13, Pune 4. The Pr.CIT-V, Pune िवभागीय �ितिनिध, आयकर अपीलीय अिधकरण, पुणे 5. “सी” / DR ‘C’, ITAT, Pune; 6. गाड� फाईल / Guard file. आदेशानुसार आदेशानुसार/ BY ORDER, आदेशानुसार आदेशानुसार // True Copy // Senior Private Secretary आयकर अपीलीय अिधकरण ,पुणे / ITAT, Pune

ITA Nos.1719 & 1720/PUN/2018 Carraro India Private Limited

Date 1. Draft dictated on 26-11-2019 Sr.PS 2. Draft placed before author 27-11-2019 Sr.PS 3. Draft proposed & placed JM before the second member 4. Draft discussed/approved JM by Second Member. 5. Approved Draft comes to Sr.PS the Sr.PS/PS 6. Kept for pronouncement on Sr.PS 7. Date of uploading order Sr.PS 8. File sent to the Bench Clerk Sr.PS 9. Date on which file goes to the Head Clerk 10. Date on which file goes to the A.R. 11. Date of dispatch of Order. *