RANBAXY LABORATORIES LTD vs. COMMISSIONER OF INCOME TAX, NEW DELHI & ORS

ITA 504 OF 2008

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Chartered Accountants, who issued the certificate in Form 3CEB on the basis of Transfer Pricing study of documentation maintained as per section 92D of the Act read with rule 10D of the Income-Tax Rules, 1962. The international transactions were certified to be at arm‟s length, based on the study carried out. A certificate from a Chartered Accountant in Form 3CEB was appended alongwith the return of income. It is the case of the appellant that the Assessing Officer in the course of scrutiny assessment required the appellant to, inter alia, explain as to whether, in terms of provisions of Section 92 of the Act, transfer price of the various „international transaction‟, entered into by the appellant during the relevant previous year, were at arm‟s length. In response thereto, the appellant vide letter dated 24th March, 2005 submitted before the Assessing Officer complete transfer pricing documentation alongwith the details and an elaborate note justifying that the „international transactions‟ were at arm‟s length having regard to the Transfer Pricing provisions. The Assessing Officer, accepted the transfer price of the „international transactions‟ entered into by the appellant as being at arm‟s length. The Assessing officer in the assessment completed under Section 143(3) of the Act recorded his finding, in this regard, as follows:- 2011:DHC:5844-DB

ITA 504 OF 2008

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“in response to the above, the assessee has filed a note alongwith its letter dated 24th March, 2005 and has also produced a copy of transfer pricing document prepared by M/s RSM Advisory Services Pt. Ltd. The assessee has also produced copies of audited accounts of the above AEs for the year 2003 as well as documents/information maintained in support of the Transfer Pricing. After going through the report filed in for No. 3CEB, transfer pricing documents and other details/information furnished, it is observed that M/s RSM Advisory Services Pte. Ltd. after analyzing the comparable data compiled from EXTL & Hoovers Online and doing functional, assets and risks analysis, have reached to the conclusion that as compared to the other prescribed methods, in case of the assessee, TNMM is the Most Appropriate Method. The net margins realized by the uncontrolled comparable companies were identified on similar type of transactions applying the TNMM method. On comparison of the transfer prices charged by the assessee from its Associated Enterprises and net margins thereon, in respect of these international transactions, it is observed that the prices charged by the assessee on international transactions with its Associated Enterprises (AE) were at arm‟s length. I have also observed that the declared margins/profits as per the books, are higher than the profits/margins computed as per the Most Appropriate Method and, therefore, I hold that the assessee was in compliance of the Transfer Pricing Provisions and the prices charged during the previous year relevant to the assessment year 2004-05 from its AE in respect of goods and services were at arm‟s length and, therefore, no further adjustment is required”.

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ITA 504 OF 2008

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The assessment was completed on 30th March, 2005 under Section 143(3) of the Act at book profit of Rs.398,48,42,660/- under section 115JB of the Act and at an income of Rs.363,45,44,931/- under regular provisions of the Act as against income of Rs.330,64,05,614/- returned by the appellant, i.e. after making additions/disallowances amounting to Rs.32.81 crores. Thereafter, notice dated 9th March, 2007 was issued by the Commissioner of Income-Tax, Delhi-V, New Delhi (CIT) under Section 263 asking to show cause why the assessment completed under Section 143(3) of the Act be not revised on the grounds that the same was erroneous and prejudicial to the interests of Revenue with regard to determination of arm‟s length price of international transactions with AEs. It was stated in the show cause notice that the assessment was erroneous and prejudicial to the interests of the Revenue on the following grounds:- (i) No referring the matter to the TPO as required by instruction no. 3 of 2003 dated 20th May, 2003. (ii) Taking overseas AEs as tested parties. (iii) The operating profit/sales in the case of the assessee company worked out to 20.16% as opposed to 26.57% calculated for 4 comparable Indian Companies. (iv) Non-consideration of findings of audit of the Central Excise department.

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ITA 504 OF 2008

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In response to the said notice, the appellant vide letter dated 23rd March, 2007 made elaborate submissions before the CIT explaining the various issues raised in the show cause notice. More specifically, the assessee submitted that- (i) The Assessing Officer was competent to determine the arm‟s length price without reference to the TPO. CBDT instruction no.3 of 2003 was not mandatory and did not take away the jurisdiction of the assessing Officer to himself determine the arm‟s length price;

(ii) The assessee company being a complex entity carrying on multiple functions and owing intangibles, was not taken as the tested party. The foreign AEs being least complex were, therefore, adopted as the tested party. There is no bar in law on taking the foreign AEs as the tested party;

(iii) The comparison made by the CIT of the results of the assessee company with 4 comparable Indian companies suffered from arithmetical inaccuracies. On a proper analysis, on uniform basis, it was seen that the operating profit/sales of the assessee company worked out at 19.45% as against 14.55% for the very same comparable Indian companies taken by the CIT. No adjustment was, therefore, required to be made to the arm‟s length price in respect of international transactions; 2011:DHC:5844-DB

ITA 504 OF 2008

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(iv) Although the Central Excise Department had carried out the audit, no audit report was issued to the assessee company. No adverse findings were recorded or communicated to the assessee company which is further reinforced by the fact that till date the assessee has not received any show cause notice for the said period from the Central Excise authorities.

ITA 504 OF 2008

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of jurisdiction under Section 263 of the Act by the Commissioner of Income-Tax, Delhi-V, New Delhi.

ITA 504 OF 2008

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particular conclusion, such a conclusion was not to be interfered with by the Commissioner in exercise of his revisionary jurisdiction under Section 263 of the Act. If the view of the Assessing Officer was plausible and taken after due consideration of the entire material that would be the end of the matter. However, the interference with the assessment order was permissible if it is found that the assessment was made without conducting proper inquiry and investigation as enjoyed by law and warranted in the facts of the case. Than such an order can be termed as erroneous and prejudicial to the interest of the Revenue. This principle of law is supported by the judgment of Supreme Court in Malabar Industrial Co. Ltd. Vs. CIT 243 ITR 83, wherein it was held:- “An incorrect assumption of facts or an incorrect application of law will satisfy the requirement of the order being erroneous. In the same category fall orders passed without applying the principles of natural justice or without application of mind.”

In that case the Court found justification in the order of the Commissioner passed under Section 263 of the Act on the following basis:- “In the instant case, the Commissioner noted that the Income-tax Officer passed the order of nil assessment without application of mind. Indeed, 2011:DHC:5844-DB

ITA 504 OF 2008

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the High Court recorded the finding that the Income-tax Officer failed to apply his mind to the case in all perspective and the order passed by h8im was erroneous. It appears that the resolution passed by the board of the appellant company was not placed before the Assessing Officer. Thus, there was no material to support the claim of the appellant that the said amount represented compensation for loss of agricultural income. He accepted the entry in the statement of the account filed by the appellant in the absence of any supporting material and without making any inquiry. On these facts the conclusion that the order of the income-tax Officer was erroneous is irresistible. We are, therefore, of the opinion that the High Court has rightly held that the exercise of the jurisdiction by the Commissioner under Section 263(1) was justified.”

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ITA 504 OF 2008

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ITA 504 OF 2008

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assessment as erroneous and prejudicial to the interest of the Revenue. In support of this submission, Mr. Syali referred to the provisions of Rule 10B of the Income-tax Rules as well as Section 92C of the Act. Predicated on these provisions, the submission was that Section 92C of the Act provides for computation of arm‟s length price in relation to an „international transaction‟. Sub-Section (3) thereof empowers the Assessing Officer to determine the arm‟s length price and computation of total income of the assessee subject to conditions provided in clauses (a),(b),(c) and (d) thereof. It was argued that Section 92CA (1) of the Act provides that, where the Assessing Officer considers it “necessary or expedient” so to do, he may refer computation of arm‟s length price in relation to an international transaction to the TPO with the previous approval of the CIT. Even in a case where reference is made to the TPO, the Assessing Officer is the final adjudicating authority for determining the arm‟s length price of international transactions; the Assessing officer is not bound by the determination made by the TPO (prior to the amendment in Section 92CA(4) w.e.f. 1.6.2007). Thus, it was argued that when the ultimate authority was the Assessing officer himself, it did not make any difference if he chose not to make the 2011:DHC:5844-DB

ITA 504 OF 2008

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reference to TPO as according to him it was not “necessary or expedient” so to do.

He submitted that judgment in Sony India (supra) would bring forth the following principle qua the aforesaid instruction viz-a- viz powers of the Assessing Officer under Section 92C of the Act:- “a. The assessing officer may refer the case for determination of the arm‟s length price to the TPO where the assessing officer 2011:DHC:5844-DB

ITA 504 OF 2008

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considers it necessary and expedient to do so. b. Prior approval of the CIT is required before making the reference. c. Instruction No.3 of 2003 is in the nature of guideline to the AO. d. Even pursuant to issue of the said Instruction, the powers of the assessing Officer are not usurped by the TPO or any other authority, contrary to the scheme of the Act. e. The Instruction supplements the discretion of the assessing officer and does not supplant the same. f. The exercise of discretion by the assessing officer in referring the case to the TPO is subject to judicial review by the appellate authority g. The assessing officer may even refer cases to the TPO where the aggregate value of international transactions is below ` 5 crores, where the assessing officer considers it necessary or expedient to do so h. The assessing officer is not bound to accept the arm‟s length price as determined by the TPO.”

ITA 504 OF 2008

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in Maruti Suzuki India Ltd. Vs. Addl. CIT, 328 ITR 210 and particularly the following observations therein:- “Section 92CA of the Income-tax Act 1961 (hereinafter referred to as the Act) provides that where the assessee has entered into an international transaction and the Assessing Officer considers it necessary or expedient to do so he may, with the previous approval of the Commissioner, refer computation of the arm‟s length price, in relation to the said international transaction, under Section 92CA , to the TPO. Since the reference to the TPO is not mandatory, ordinarily the assessing Officer would make reference to TPO in those cases, where he is not in agreement with the price disclosed by the assessee or where, on account of the complex nature of the transaction, he feels that the arm‟s length price needs to be determined by the TPO.”

Mr. Sabharwal, on the other hand argued that all these submissions of the appellant which were advanced before the Tribunal as well were duly taken note of and after due consideration by a well reasoned order, the Tribunal has repelled these contentions. He read out those portions of the order of the Tribunal and submitted that the reasons given by the Tribunal were valid.

ITA 504 OF 2008

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relation the an international transaction, under Section 92C of the Act, when the Assessing Officer considers it „necessary or expedient‟ to do so. Thus, discretion lies with the Assessing Officer. Having regard to the circumstances of a particular case and reference to the TPO is not mandatory. In Maruti Suzuki (supra) this Court observed that ordinarily the Assessing Officer would make reference to the TPOs in those cases where he is not in agreement with the particular price disclosed by the assessee or where, on account of complex nature of the transaction, he feels that the arm‟s length price needs to be determined by the TPO. So far so good. However, further question that has arisen for consideration is as to whether it becomes mandatory on the part of the Assessing Officer to make reference wherever the aggregate value of international transaction exceeds ` 5 crores? Instruction no.3 of the CBDT dated 25th May, 2003 makes a stipulation to this effect. The Central Board of Direct Taxes, therefore, have decided that wherever the aggregate value of international transaction exceeds ` 5 crores, the case should be picked up for scrutiny and reference under Section 92CA be made to the TPO.

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ITA 504 OF 2008

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ITA 504 OF 2008

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statutory provision. The quasi-judicial discretion of the Assessing Officer has been taken away. 69. Their Lordships considered relevant scheme of the Act relating to transfer pricing under Indian regulation, its purposes and the legal validity of above instructions. The matter for consideration was taken in two parts: Firstly, statutory provisions were considered in detail without going into the question of validity of the instruction; and secondly, the question of validity of instructions was considered in the light of Article 14 of the Constitution. It is quite clear from what is stated above in paras 12,29 and 31 of the judgment. Shri Vohra has referred to that part of the decision where discretion of Assessing Officer to determine Arm‟s Length Price in respect of transaction of value of less than ` 5 crore remaining unaffected is discussed. While maintaining the validity of the instructions, their lordships made pertinent observations in para 32 and 37. Para 37 has already been quoted. Para 32 is as under:- 32. Applying the above test, the impugned instruction cannot be held to violate article 14. The classification brought about by the impugned instruction is based on a straightforward recognizable basis giving no room for confusion. Transactions of a high value require a careful examination to determine if the declared price is in fact an acceptable ALP. It may not be expedient for the Assessing Officer to efficiently deal with the assessment involving such an exercise. In that sense it achieves the expeditious disposal of the assessment by the Assessing Officer if the exercise is referred for a specialized determination by the Transfer Pricing Officer. The classification certainly bears a nexus to this objective. We are of the considered view that the challenge to the impugned instruction on the ground of “suspect classification” must fail. 2011:DHC:5844-DB

ITA 504 OF 2008

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ITA 504 OF 2008

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instruction completely takes away the discretion of the Assessing Officer in relation to an international transaction if the aggregate value thereof exceeded Rs. 5 crores. This contention was turned down in the following words:- “37. The other ground on which the instruction is challenged is that it completely takes away the discretion of the AO in relation to an international transaction of the value exceeding Rs. 5 crores. A reading of the impugned instruction indicates that it acts as a guideline to the AO in the exercise of the discretion conferred under Section 92CA(1). This instruction is in fact helpful in ensuring that the discretion of the AO will not be abused. It correctly interprets the law as requiring only a formation of a prima facie opinion by the AO at the stage of the reference. Therefore, the question of the CBDT supplanting the judicial discretion of the AO does not arise. It is perfectly possible that, independent of the circular, the AO might still "consider it necessary or expedient" to refer an international transaction of such value to the TPO for determination of the ALP. At the same time it is not as if the transactions of the value of less than Rs. 5 crores cannot be referred to the TPO by the AO. Ultimately, any exercise of discretion by the AO is bound to be judicially reviewed by the statutory appellate authorities as well as by courts. Therefore, it is not as if there is no check on the exercise of discretion by the AO.

ITA 504 OF 2008

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ITA 504 OF 2008

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was right in holding that such assessment was erroneous and prejudicial to the interest of the Revenue in the light of law laid down by the Apex Court in Malabar Industrial Co. Ltd. (supra).

ACTING CHIEF JUSTICE

(SIDDHARTH MRIDUL) JUDGE

NOVEMBER 18,2011 skb 2011:DHC:5844-DB