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Income Tax Appellate Tribunal, “J” BENCH, MUMBAI
Before: SHRI M. BALAGANESH & SHRI SANDEEP SINGH KARHAIL
PER SANDEEP SINGH KARHAIL, J.M.
The present appeal has been filed by the assessee challenging the impugned final assessment order dated 11/11/2014, passed under section 143(3) of the Income Tax Act, 1961 ("the Act") by the Assessing Officer (‘AO’) pursuant to the directions dated 31/10/2014, issued by the learned Dispute Resolution Panel–II, Mumbai, [“learned DRP”], under section 144C(5) of the Act for the assessment year 2010–11.
In its appeal, the assessee has raised the following grounds:–
Tessitura Monti India Pvt. Ltd. IT(TP)A no799/Mum./2015
“1. The Learned DRP/AO erred in reducing the depreciation claim of the appellant by Rs. 57,81,935. 2. The Learned DRP/AO erred in making an adjustment for claim of excess depreciation of Rs. 57,81,935 on the alleged excess amount of Rs 4,89,58,707 paid by the appellant towards purchase of capital assets from its Associated Enterprises after having accepted the operating margins (earnings before interest and tax) to be at arms length following the Transaction Net Margin Method (TNMM). 3. The learned DRP/AO erred in accepting merely a part of the valuation report which was the basis of determining the arm's length price. The learned DRP/AO resorted to cherry picking by accepting the value as determined in the valuation report merely in regard to machineries whose value was NIL in the books of the Associated Enterprises and rejected the value determined in the report for all other machineries. 4. The Learned DRP/AO erred in holding that Written down Value (WDV) in the books of AE is the most appropriate comparable price without appreciating the fact that depreciation rates and working conditions vary in different countries. They failed to appreciate that the valuation has to be based on the working condition, efficiency of the fixed assets and balance useful life of the assets. 5. The Learned DRP/AO/TPO erred in not appreciating the fact that the AEs have incurred freight and insurance costs worth Rs. 26,60,725 which were included in the purchase cost of the Fixed Assets and the upward adjustment, if any should be reduced to the extent of these costs. Reliefs Claimed Your appellant prays that the order of the learned Assessing Officer be modified by Deleting the addition of Rs. 57,81,935. Without prejudice to the above, the upward adjustment of Rs. 4,89,58,707 be reduced by Rs. 26,60,725 Incurred towards freight and insurance costs. The appellant craves leave to amend or alter any of the above grounds or add a new ground, if and when necessary.”
The brief facts of the case as emanating from the record are: The assessee is engaged in the business of manufacture and export of dyed yarn and shirting fabrics to its parent company, M/s Tessitura Monti Spa, which in turn furnishes the shirting fabric and export it all over the world under the brand ‘Monti’. For the year under consideration, the assessee filed its return of income on 30/09/2010, declaring a total income of Rs. 1,23,17,556. M/s Page | 2
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Gruppo Tessile Monti Spa (‘GTMS’) holds 96.15% of the shares of the assessee. Tessitura Monti Spa, Italy, and Tessitura Monti Cekia SRO are subsidiaries of GTMS and thus are associated enterprises of the assessee. During the year, the assessee entered into the following international transactions with its associated enterprises:
S. Nature of Transaction Amount No. Purchase of Raw Materials 1. (chemicals, yarn and 5,76,70,940 spares) 2. Sale of Raw Materials 22,66,939 (yarn) 3. Sale of fabrics 59,86,98,537 4. Sale of yarn (traded) 4,98,83,779 5. Interest paid on ECB Loan 7,94,698 6. Purchase of Capital Goods 9,15,66,079
During the year, the assessee purchased second-hand machinery from Tessitura Monti Spa, Italy and Tessitura Monti Cekia SRO totalling Rs. 9,15,66,079. In its transfer pricing study report, the assessee claimed that the price of the aforesaid machinery was determined on the basis of its working condition and its efficiency. Further, the pricing is also supported by the certificate issued by the Chartered Engineer. By considering the independent valuer report, the assessee claimed that the international transaction of purchase of capital goods is at arm’s length by adopting Comparable Uncontrolled Price (‘CUP’) method as the most appropriate method.
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The AO made reference to the Transfer Pricing Officer (‘TPO’) for the determination of ALP of the international transactions entered into by the assessee. The TPO, during the transfer pricing assessment proceedings, asked the assessee to further justify the transactions by producing copies of purchase invoices of the asset as originally brought by the associated enterprises, details of depreciation availed by the associated enterprises on these assets, and their WDV at the time of sale to the assessee to find if the associated enterprises have overpriced the assets to the assessee. In reply thereto, the assessee furnished invoice-wise details of each machinery, name of machinery, cost at which the assessee purchased the machinery from the associated enterprise, and WDV in the books of the assessee after depreciation. Further, the TPO observed that the assessee has purchased the fixed assets at a price more than the book value of the assets in the books of the associated enterprises. The TPO also noted that the assets are old used assets by the associated enterprise and therefore, the assessee was asked to explain as to why the arm’s length price adjustment be not made. In reply, the assessee submitted that it has relied on the independent valuer’s report and as per the said report the purchase price is at the arm’s length price. The TPO vide order dated 29/11/2013, passed under section 92CA(3) of the Act held that the assessee has relied upon the valuer’s certificate, however, no such certificate has been produced by the assessee and accordingly, the basis of valuation arrived at for various items is not verifiable. The TPO, on the basis that the assessee has not demonstrated the market value of the machinery on the date of the transaction, the TPO considered WDV in the books of the associated enterprise as the arm’s length price. Accordingly, the TPO accepting Page | 4
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CUP as the most appropriate method, proposed a total adjustment of Rs. 6,36,91,154=81 in respect of international transaction pertaining to the purchase of capital goods. The remaining international transactions were accepted to be at arm’s length by the TPO. In conformity, the AO passed the draft assessment order dated 28/01/2014, disallowing the depreciation of Rs. 78,19,369, claimed on the adjustment proposed by the TPO.
The assessee filed detailed objections before the learned DRP against the adjustment proposed by the TPO/AO. During the proceedings before the learned DRP, the assessee filed the valuation report from the Chartered Engineer in Italy, wherein the purchase price of the plant and machinery was certified to be reasonable. The learned DRP rejected the valuation report submitted by the assessee on the basis that the Chartered Engineer has listed the various items of machinery, their specifications, the original purchase cost of the machinery to the associated enterprise, the price at which the associated enterprise was selling the same to the assessee and straightaway concluded that the price is reasonable. In order to support its submission, the assessee filed a fresh valuation report by way of additional evidence before the learned DRP. Based on the report, the assessee submitted that the total price paid by the assessee for all the items taken together was less than the total value determined in the fresh valuation report. The learned DRP, vide its directions issued under section 144C(5) of the Act, after considering the remand report of the TPO held that the assessee has failed to bring on record any evidence of the prevailing market price of the new machinery with similar specifications. The learned DRP further doubted various findings in the second
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valuation report and accordingly held that the assessee has failed to discharge its onus of establishing the arm’s length price for the purchase price as the valuation report submitted by it neither constitutes a CUP nor is it proper valuation reflecting the market price on the date of sale. The learned DRP further noted that the WDV of certain machinery is NIL in the books of the associated enterprise, however, such machinery are in working condition. Accordingly, the learned DRP issued the following directions:
“17. However, the contention of the assessee that assets which are in working condition and which are in fact being used by the assessee in its business cannot be valued at Nil, merely because its WDV is NIL has also to be considered. As an alternative to the WDV in the books of AE, the assessee has proposed the 'Current market value' as the ALP. Undoubtedly without bringing any evidence on record about the market value of the machinery, the assessee is seeking the benefit of a higher ALP arrived in this manner However the machines are in use, and there is no other material to determine a different value. In absence of any other option, the DRP is of the opinion that instead of taking the nil WDV in the AEs books which is calculated probably at an accelerated rate of depreciation, the current time value as determined by the second Valuer may be considered as the ALP. This will ensure that none of the assets are purchased at NIL value. On that basis when assets having nil WDV in AE's books, are purchased at a price more than the current time value computed by the second Valuer (which should be treated as ALP as per assessee), the difference may be treated as excess payment made by the assessee and depreciation on the same may be disallowed.”
Further, the learned DRP rejected the benchmarking on aggregated basis as claimed by the assessee. The learned DRP noted that in respect of certain machinery even the original purchase price is not available and therefore there is no WDV recorded in the associated enterprise’s books. Accordingly, in respect of those machineries, the learned DRP upheld the addition made by the TPO. The DRP further directed the TPO to verify the items which are claimed to have been specifically purchased by the associated enterprise for the assessee. The learned DRP also directed the TPO to take into effect the increase in WDV due to the appellate order passed in the preceding year. In Page | 6
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conformity, the AO passed the impugned final assessment order and rework the depreciation at Rs. 57,81,935. The AO also granted the relief of depreciation on the increased WDV at Rs. 7,02,187 and computed the total income of the assessee at Rs. 1,73,97,300. Being aggrieved, the assessee is in appeal before us.
During the hearing, the learned Authorised Representative (‘learned AR’) submitted that the second valuation report was prepared by a government- approved valuer. It was further submitted that the current time value as determined by the second valuer is based on physical inspection and the latest estimation of the remaining economic life of the machines. The learned AR submitted that Revenue rejected the valuation report submitted by the assessee without referring to the valuation of machinery to the valuation expert. The learned AR also submitted that the learned DRP has accepted the second valuation report in certain cases, while in others has upheld the TPO’s approach and thus has done the benchmarking on a cherry-picking basis. The learned AR by placing reliance on certain judicial precedents submitted that transactions that are closely linked should be benchmarked on an aggregated basis.
On the contrary, the learned Departmental Representative (‘learned DR’) submitted that accepting the second valuation report in which the learned DRP has found many errors will amount to upholding the arm’s length price. The learned DR further submitted that there is no provision in the Act to permit the TPO to seek the report from the expert valuer. The learned DR submitted that the assessee has purchased machinery separately and therefore they should Page | 7
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be benchmarked separately. The learned DR also submitted that the computation of current asset value by the second valuer is nothing but similar to the computation of WDV as adopted by the TPO for determining the arm’s length price.
We have considered the rival submissions and perused the material available on record. In the present case, the assessee is aggrieved against the disallowance of depreciation on the alleged excess amount paid by the assessee to its associated enterprises towards the purchase of second-hand machinery. In order to justify the amount paid to the associated enterprises for the purchase of the second-hand machinery, the assessee in its transfer pricing report has placed reliance upon the valuation certificate obtained from Chartered Engineer in Italy. As noted above, the TPO rejected the benchmarking analysis conducted by the assessee on the basis that such a certificate was not furnished by the assessee and accordingly proceeded to adopt the WDV of the machinery in the books of the associated enterprise as the arm’s length value.
Before the learned DRP, in order to justify its claim that the transaction of purchase of capital goods is at arm’s length, the assessee furnished the valuation report obtained from the government-registered valuer. We find that in the said report, which forms part of the paper book from pages 210 – 251, the second valuer determined the current asset value by verifying the actual physical condition of the machinery at the time of valuation and also taking into consideration the factors, namely, initial purchase price at the time of manufacturing, purchase price by the assessee at the time of buying the Page | 8
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machine in 2009, the total lifespan of the machinery and life of machinery after 2009. Accordingly, the second valuer arrived at the value of each machinery as mentioned at page 218-219 of the paper book. In respect of certain machinery, as noted at page 220–221, the second valuer came to the conclusion that the purchase price appears to be reasonable as the machinery is in good condition although the original price is not available. Further, in respect of certain other machinery, the second valuer noted that the said machinery has been bought for the assessee by the associated enterprise and the price paid by the assessee is fair and reasonable. The learned DRP examined the second valuation report submitted by the assessee and also sought the remand report from the TPO. Vide its remand report dated 23/09/2014, the TPO objected to the admission of the second valuation report filed by the assessee as additional evidence. The TPO also pointed out various defects in the valuation report submitted by the assessee. The learned DRP though in principle agreed with the objections of the TPO in its remand report, however, proceeded to determine the arm’s length price of certain machinery by considering the current asset value determined by the second valuer on the basis that no other option was available.
During the hearing, the learned DR submitted that the TPO/DRP cannot make a reference to the DVO for the determination of the value of the machinery under sections 50C and 142A of the Act, as the valuation made by the TPO/learned DRP does not apply to the cases listed in section 142A of the Act. It was further submitted by the learned DR that the amendment which empowered the AO to make such a reference was brought into the statute by
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the Finance Act 2014 with effect from 01/04/2014, and therefore is not applicable to the year under consideration. In rebuttal, the learned AR, inter- alia, by referring to the provisions of section 131(1)(d) of the Act submitted that AO/TPO would have called for the valuation report or any other expert opinion by exercising the powers to issue commissions under the provision of aforesaid section. The learned AR also referred to CBDT Instruction No. 5/2011 dated 30/03/2011, and submitted that as per the said instruction the TPO/AO is required to frame assessments only after bringing on record appropriate technical evidence that may be required in a case. Having considered the contention of both parties, we find merit in the submission of the assessee that the AO/TPO/learned DRP always had the power to call for the valuation report to determine the arm’s length price of the machinery purchased by the assessee from its associated enterprises. In the present case, we find from the record that neither such exercise was carried out by the TPO nor by the learned DRP. Even in the remand proceedings, the learned TPO apart from finding deficiencies in the valuation report submitted by the assessee made no efforts to seek any expert opinion on the valuation of machinery purchased by the assessee, and rather the TPO justified the adoption of WDV as the arm’s length value of the machinery.
We find that in respect of certain machinery in use, where the WDV is Nil, the learned DRP accepted the current asset value determined by the second valuer as the arm’s length price in case the assessee paid more than such value. We further find that in cases where WDV is Nil, the learned DRP accepted the price paid by the assessee as the arm’s length price when the
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same is less than the current asset value determined by the second valuer. Thus, it is evident from the above that the learned DRP had accepted the current asset value determined by the second valuer as the arm’s length price for benchmarking the part of international transaction. In respect of certain other machinery, wherein the WDV is not Nil, the learned DRP has upheld the TPO’s approach. Therefore, it is evident that on one hand the learned DRP accepted the findings of the TPO in its remand report regarding the deficiency in the second valuation report, on the other hand, accepted the very same current asset value computed by the second valuer as the arm’s length price for benchmarking the international transaction of purchase of capital goods. We are of the considered opinion that when the learned DRP had agreed with the findings of the TPO in its remand report then the expert opinion on the valuation should have been sought. Thus, when the learned DRP chose not to call for such a report and even the TPO neither in the first round nor in the remand proceedings sought such a report, partial rejection of the second valuation report submitted by the assessee is not justified. Therefore, we do not agree that the Revenue had no other option and therefore proceeded to accept the valuation report submitted by the assessee in cases where the WDV is Nil. In view of the above, we completely reject the cherry-picking basis of considering the valuation report adopted by the lower authorities while computing the arm’s length price of the impugned international transaction. In such peculiar circumstances of the present facts, the second valuation report submitted by the assessee from the government-approved valuer merits acceptance.
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As regards, benchmarking of the transaction on an aggregate basis, the assessee submitted that all the plant and machinery purchased by the assessee were being used in the continuous process of manufacturing shirting fabrics, and therefore need to be benchmarked as a closely linked transaction. From the record, it is evident that the assessee purchased these machinery from two of its associated enterprises. Further, as per Form 3CEB, on page 45 of the paper book, the transaction with each associated enterprise has been separately mentioned. It is not the plea of the Revenue that each of the machinery can be used separately in the business of the assessee of manufacturing and export of dyed yarn and shirting fabric. Thus, when each of the machinery purchased by the assessee from its associated enterprise is connected for the purpose of operation of the assessee, the same cannot be treated as the independent transaction requiring separate benchmarking merely because invoices have been raised separately, or valuation by the valuer has been done separately. We find that the coordinate bench of the Tribunal in Boskalis International Dredging International vs DDIT, [2015] 67 SOT 118 (Mum.) held that when the transactions are influenced by each other and particularly in determining the price and profit involved in the transactions then those transactions can safely be regarded as closely linked transactions. It was further held that such aggregation can be vis-à-vis each associated enterprise separately and not by clubbing the transactions with all the associated enterprises.
Thus, in view of our aforesaid findings, we direct the TPO/AO to compute the arm’s length price of the international transaction pertaining to the
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purchase of capital goods by considering the second valuation report submitted by the assessee. It is further directed that the transaction with each associated enterprise be benchmarked on an aggregate basis. As a result, grounds No.1 to 4 raised in assessee’s appeal are allowed for statistical purposes.
Further, the freight and insurance cost incurred by the associated enterprise and included in the purchase cost of the fixed assets be excluded while benchmarking the aforesaid transaction. As ground No.5 raised in assessee’s appeal is allowed.
In the result, the appeal by the assessee is allowed for statistical purposes. Order pronounced in the open Court on 12/12/2022
Sd/- Sd/- M. BALAGANESH SANDEEP SINGH KARHAIL ACCOUNTANT MEMBER JUDICIAL MEMBER
MUMBAI, DATED: 12/12/2022
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Copy of the order forwarded to: (1) The Assessee; (2) The Revenue; (3) The CIT(A); (4) The CIT, Mumbai City concerned; (5) The DR, ITAT, Mumbai; (6) Guard file. True Copy By Order Pradeep J. Chowdhury Sr. Private Secretary Assistant Registrar ITAT, Mumbai