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Income Tax Appellate Tribunal, MUMBAI BENCH “ J”, MUMBAI
आयकर अपील�य अ�धकरण मुंबई पीठ “ जे ” �ी �वकास अव�थी, �या�यक सद�य एवं �ी अमरजीत �संह, लेखा सद�य के सम� IN THE INCOME TAX APPELLATE TRIBUNAL MUMBAI BENCH “ J”, MUMBAI BEFORE SHRI VIKAS AWASTHY, JUDICIAL MEMBER & SHRI AMARJIT SINGH , ACCOUNTANT MEMBER आअसं. 1298/मुं/2021 (�न.व. 2016-17) ITA NO.1298/MUM/2021(A.Y.2016-17) Royal Canin India Private Limited, 1401&1402 F Wing, 14th Floor, Lotus Corporate Park, CTS Nos. 185/A, Graham Firth Compund Western Highway, Goregaon(E), Mumbai 400 063 PAN: AADCR-4417-J ..... अपीलाथ� /Appellant बनाम Vs. Additional/Joint/Deputy/ Assistant Commissioner of Income Tax -3(1)(1) Room No.607, 6th Floor,, Aaykar Bhavan, M.K.Road, Mumbai 400 020 ..... ��तवाद�/Respondent अपीलाथ� �वारा/ Appellant by : Shri Khirendra M. Gupta with Shri Akhil Goel. ��तवाद� �वारा/Respondent by : Ms. Vatsalaa Jha सुनवाई क� �त�थ/ Date of hearing : 27/06/2022 घोषणा क� �त�थ/ Date of pronouncement : 22/09/2022 आदेश/ ORDER PER VIKAS AWASTHY, JM:
This appeal by the assessee is directed against the assessment order dated 27/02/2021 passed u/s. 143(3) r.w.s. 144C(13), 143(3A) and 143(3B) of the Income Tax Act, 1961 [ in short ‘the Act’], for the assessment year 2016- 17.
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Shri Khirendra M. Gupta appearing on behalf of the assessee submitted that the assessee is primarily engaged in marketing, sales and distribution of Pet Care Products. The assessee is a subsidiary of Royal Canin SAS. The ld. Authorized Representative of the assessee submitted that the assessee entered into Franchise Agreement with Royal Canin SAS, France on 29/03/2012. During the period relevant to assessment year under appeal, the assessee entered into various international transactions with its Associated Enterprise (AE) Royal Canin SAS. One of the international transaction was payment of franchise fee Rs.16,57,07,523/-. The assessee paid franchise fee on turnover basis. The assessee is consistently following same model of payment of franchise fee since 2010. The Revenue has disallowed franchise fee paid by the assessee since beginning i.e. from A.Y 2011-12. In assessment year 2011-12 and 2012-13 the adjustment was deleted on technical grounds. The appeals for the assessment years 2013-14, 2014-15 and 2015-16 involving identical issue of adjustment of franchise fee are pending before the CIT(A)
The ld. Authorized Representative of the assessee submitted that the Transfer Pricing Officer (TPO) has determined Arm’s Length Price (ALP) of transaction (payment of franchise fee) as Nil. The TPO questioned the need for payment of franchise fee separately. The TPO has further erred in applying benefit test in respect of the transaction. The ld. Authorized Representative of the assessee asserted that under the scheme of transfer pricing the role of TPO is limited to ascertain as to whether the transaction is at arm’s length. The TPO cannot question the prudence of expenditure incurred by assessee.
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In support of his submissions the ld. Authorized Representative of the assessee placed reliance on the following decisions:
(i) M/s. Dresser Rand India Pvt. Ltd. Vs. Addl. CIT 141 TTJ 385 (Mum) (ii) CIT vs. EKL Appliances Ltd. 209 Taxman 200 (Delhi) 4. The ld. Authorized Representative of the assessee submitted that to benchmark the transaction the assessee selected 30 comparables. The mean margin of the comparables is 7.13% as against the franchise fee of 9.5% paid by the assessee . The ld. Authorized Representative of the assessee submitted that the assessee is paying franchise fee for the following facilities:
(i) Manufacturing licenses and rights. (ii) Various support services to be provided by AE. (iii)Right to use Trade Marks of AE. (iv)Right of Sell products of AE. The ld. Authorized Representative of the assessee submitted that the TPO without considering benchmarking of the transaction done by the assessee has out rightly held that there was no requirement for the assessee to pay franchise fee . Such observation made by TPO is beyond his jurisdiction, hence, the order of TPO is unsustainable. The assessee filed objections before the Dispute Resolution Panel (DRP) against the findings of TPO. The DRP without appreciating the facts and documents on record upheld the adjustment made by TPO. The Assessing Officer passed the impugned assessment order in line with the directions of the DRP. Hence, the present appeal by the assessee .
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Per contra, Ms. Vatsalaa Jha representing the Department vehemently defended the impugned order and the order of TPO. The ld.Departmental Representative submitted at the outset that the assessee has been non co- operative. The assessee was asked to furnish financials of the AE, however, the assessee failed to provide the details as sought by the TPO. The TPO initiated penalty proceedings u/s. 271G of the Act on the assessee for non- furnishing of the necessary documents to determine the ALP. The ld.Departmental Representative contended that the assessee is only performing the duties of a distributor. The assessee is promoting brand of AE. The assessee has failed to show determination of franchise fee paid @ 9.5%. Moreover, the assessee to benchmark the transaction has selected comparables which are unrelated to assessee’s business. The assessee has selected foreign AE as tested party and if did not furnish financials of the said AE.
The ld. Authorized Representative of the assessee rebutting the arguments made on behalf of the Department submitted, that for the purpose of CUP no tested party is required. It is only for adopting TNMM as the most appropriate method that tested party is required. The TPO has passed identical orders for all the assessment years, therefore, the order passed by the TPO are in mechanical manner without application of mind, such an order is unsustainable. In support of his submissions the ld. Authorized Representative of the assessee placed reliance on the decision in the case of Woco Motherson Advanced Rubber Technologies Ltd. Vs. DCIT in ITA No. 89 and 3208/AHD/2011 for assessment year 2006-07 decided on 29/09/2016. The ld. Authorized Representative of the assessee asserted that the assessee
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has furnished necessary documents to prove that the services were indeed rendered by the AE. In so far as benefit test applied by the TPO, the Tribunal in various decisions has held that benefit test cannot be applied.
We have heard the submissions made by rival sides and have examined the orders of authorities below. We have also considered various decisions on which the ld. Authorized Representative of the assessee has placed reliance to buttress his submissions. The solitary dispute in the present appeal is with respect to the adjustment made in respect of franchise fee payment by the assessee to its AE. The assessee has entered into franchisee agreement dated 29/03/2012 with Royal Canin SAS. A perusal of the said agreement shows that the Franchiser apart from authorizing assessee to sell high end packed pet foods is also providing management, technical, marking and administrative support services for its own benefit as well as benefit of the franchisees. The franchisees are also required to obtain necessary licenses to the System developed and/or owned by the Franchisor. The term “System” has been defined in the said agreement to mean:
“System” refers to a portfolio/bundle comprised of (i) IP rights (manufacturing); (ii) IP rights (marketing); (iii) Marks; and (iv) Services, developed, maintained and/or provided by the Franchisor for the use in the operation of the Franchised Business.” The expressions IP Rights (manufacturing), IP Rights (Marketing) and Marks have also been defined in the agreement. The definition of same are reproduced herein under for the ready reference:
"IP Rights (manufacturing)": refers to all Research &Development related IP pertaining to industrial know-how, plant set-up, machinery and processes, patents, and technical assistance (defined by Franchisor as "hard technology"), as well as product know-how, formula and recipe (defined by Franchisor as "soft technology"), whereof a
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list at the date of the Agreement is reproduced and details are provided in Annex 3; "IP Rights (marketing)": refers to all marketing related IP associated with the Franchisor's Marks (Annex 2), central brand management and strategic marketing initiatives and innovation, as well as continuous marketing support made accessible to Franchisees, as described further in Annex 4;
“Marks” : means the set of Trade Names, Trademarks and product brands owned by Franchisor and licensed to Franchisee within the Franchisee's Authorized Territory as part of the System, of which a non-exhaustive list at the date of the Agreement is attached in Annex 2” 8. In proceedings before the TPO the assessee inter-alia furnished franchisee agreement. The TPO after examining franchisee agreement concluded that:
- There was no requirement for the assessee to pay any manufacturing licenses and rights when the assessee is merely a trader with no manufacturing facility;
- The AE is merely a manufacturer and does not provide any services to the assessee,
- No documents have been provided by the assessee to prove that the AE owned Trade Marks which are being used by the assessee . Separate payment for Trade Marks would amount to double payment as the assessee would always pay being the purchase price of goods manufactured by the AE;
- Right to sale is imbedded in the supply agreement, hence the assessee need not pay franchise fee separately for this right at all.
The TPO thus, questioned the justification for payment of franchise fee and finally determined ALP of franchise fee at Nil. It is no more res-integra that under the scheme of transfer pricing as contained in Chapter-X, the role
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of TPO as envisaged u/s. 92CA is computation of ALP in relation to the international transaction under section 92C of the Act. The TPO has no jurisdiction to question assessee’s need or prudence for making payment for the said international transaction. The TPO failed to determine ALP of the transaction between assessee and its A.E despite the fact the assessee furnished relevant documents. From perusal of agreement on record it is evident that the A.E (Franchisor) had authorized the assessee (Franchisee) to use Trade Marks, IP Rights, Marks, etc. as part of the System. For the use of aforesaid System the assessee remunerated the A.E by way of aggregate annual franchisee fee.
The Hon’ble Delhi High Court in the case of CIT vs. EKL Appliances Ltd. (supra) has held that the “quantum of expenditure can no doubt to be examined by the TPO as per law but in judging liability there of as business expenditure he has no authority to disallow the entire expenditure or part thereof on the ground that the assessee has suffered continuous losses”. The Hon’ble High Court further held that :
“ 22. Even Rule 10B(l)(a) does not authorise disallowance of any expenditure on the ground that it was not necessary or prudent for the assessee to have incurred the same or that in the view of the Revenue the expenditure was unremunerative or that in view of the continued losses suffered by the assessee in his business, he could have fared better had he not incurred such expenditure. These are irrelevant considerations for the purpose of Rule 10B. Whether or not to enter into the transaction is for the assessee to decide. The quantum of expenditure can no doubt be examined by the TPO as per law but in judging the allowability thereof as business expenditure, he has no authority to disallow the entire expenditure or a part thereof on the ground that the assessee has suffered continuous losses. The financial health of assessee can never be a criterion to judge allowability of an expense; there is certainly no authority for that. What the TPO has done in the present case is to hold that the assessee ought not to have entered into the agreement to pay royalty/ brand fee, because it has been suffering losses continuously. So long as the expenditure or payment has been demonstrated to have been incurred or laid out for the purposes of business, it is no concern of the TPO to disallow the same on any extraneous reasoning. As provided in the OECD guidelines, he is expected to examine the international transaction as he actually finds the same and then
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make suitable adjustment but a wholesale disallowance of the expenditure, particularly on the grounds which have been given by the TPO is not contemplated or authorized.” 10.1 The Co-ordinate Bench of the Tribunal in the case of Dresser Rand India Private Limited vs. Addl. CIT(Supra) in a case where the TPO determined the cost of services at Nil on the ground that the assessee did not need the services at all held as under:
“ 8. We find that the basic reason of the Transfer Pricing Officer’s determination of ALP of the services received under cost contribution arrangement as ‘NIL’ is his perception that the assessee did not need these services at all, as the assessee had sufficient experts of his own who were competent enough to do this work. For example, the Transfer Pricing Officer had pointed out that the assessee has qualified accounting staff which could have handled the audit work and in any case the assessee has paid audit fees to external firm. Similarly, the Transfer Pricing Officer was of the view that the assessee had management experts on its rolls, and, therefore, global business oversight services were not needed. It is difficult to understand, much less approve, this line of reasoning. It is only elementary that how an assessee conducts his business is entirely his prerogative and it is not for the revenue authorities to decide what is necessary for an assessee and what is not. An assessee may have any number of qualified accountants and management experts on his rolls, and yet he may decide to engage services of outside experts for auditing and management consultancy; it is not for the revenue officers to question assessee’s wisdom in doing so. The Transfer Pricing Officer was not only going much beyond his powers in questioning commercial wisdom of assessee’s decision to take benefit of expertise of Dresser Rand US, but also beyond the powers of the Assessing Officer. We do not approve this approach of the revenue authorities. We have further noticed that the Transfer Pricing Officer has made several observations to the effect that, as evident from the analysis of financial performance, the assessee did not benefit, in terms of financial results, from these services. This analysis is also completely irrelevant, because whether a particular expense on services received actually benefits an assessee in monetary terms or not even a consideration for its being allowed as a deduction in computation of income, and, by no stretch of logic, it can have any role in determining arm’s length price of that service. When evaluating the arm’s length price of a service, it is wholly irrelevant as to whether the assessee benefits from it or not; the real question which is to be determined in such cases is whether the price of this service is what an independent enterprise would have paid for the same. Similarly, whether the AE gave the same services to the assessee in the preceding years without any consideration or not is also irrelevant. The AE may have given the same service on gratuitous basis in the earlier period, but that does not mean that arm’s length price of these services is ‘nil’. The authorities below have been swayed by the considerations which are not at all relevant in the context of determining the arm’s length price of the costs incurred by the assessee in cost contribution arrangement. We have also noted that the stand of the revenue authorities in this case is that no services were rendered by the AE at all, and that since there is no evidence of services having been rendered at all, the arm’s length price of these services is ‘nil’. The Dispute Resolution Panel has also confirmed these findings of the Transfer Pricing Officer and the Assessing Officer. However, we have noted that vide letter dated 25th January 2010 (acknowledged to have been received in DRP office on 28th January 2010), the assessee has
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filed a huge compilation of papers, running into almost three hundred pages, including copies of reports, emails and other documents evidencing the rendering of services. Yet, the DRP simply brushed aside these documents by simply observing that “The DRP has perused the submissions of the assessee and the documents. In view of the DRP, such documents do not prove the receipt of services by the assessee ascertained (asserted ?) to be provided by its AE, and, accordingly, the action of the AO in treating the cost of such services at zero is confirmed”. All these evidences were before the DRP, but there is not even a whisper about what was the nature of these documents, why does the DRP find these documents to be not satisfactory, what is the kind of evidence that was necessary to prove the factum of services having been availed, and what precisely is the reason that these documents cannot be relied upon.” From the aforesaid decisions it can be deduced that: - The TPO has no jurisdiction to question need of the assessee to incur any expenditure,
- The role of TPO is limited to determine ALP of the international transaction,
- The TPO cannot determine ALP at NIL by applying benefit test. 11. In the instant case, we observe that the TPO at threshold has discarded payment of franchise fee on the ground of need of such payment. The TPO has exceeded his jurisdiction in making such observation. The TPO cannot step into the shoes of assessee to decide prudence of expenditure. The TPO failed to examine the documents furnished by assessee to benchmark the transaction by applying one of the methods spepcified in Chapter-X of the Act. Thus, in the facts of the case and in the light of decisions refereed above, we hold that the findings of the TPO/Assessing Officer in making adjustment in respect of franchise fee are unsustainable. The adjustment is deleted and ground No.3 of appeal is allowed.
In ground No.4 of appeal, the assessee has raised an alternate contention with respect to adjustment to franchise fee . Since, we have accepted primary contention of the assessee on this issue, the alternate
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contention raised has become academic, hence, the same is not deliberated at this stage.
The ld. Authorized Representative of assessee submitted that he is not pressing ground No.5 of the appeal assailing levy of education cess. In view of the statement made by ld. Authorized Representative of the assessee ground No.5 of appeal is dismissed as not pressed.
In ground No.6 of appeal, the assessee has assailed initiation of penalty proceedings under section 271(1)(c) of the Act. Challenge to penalty proceedings at this stage is premature, hence, this ground is dismissed as such.
In ground No.7 of the appeal, assessee has assailed charging of interest under section 234A, 234B, 234C and 234D of the Act. Charging of interest under the aforesaid sections is mandatory and consequential, hence, ground No.7 of the appeal is dismissed being devoid of any merit.
The ground No.1,2 and 8 of appeal are general in nature, hence, require no adjudication.
In the result, appeal by assessee is partly allowed.
Order pronounced in the open court on Thursday the 22nd day of September, 2022.
Sd/- Sd/- ( AMARJIT SINGH ) (VIKAS AWASTHY) लेखा सद�य/ACCOUNTANT MEMBER �या�यक सद�य/JUDICIAL MEMBER मुंबई/ Mumbai, �दनांक/Dated 22/09/2022 Vm, Sr. PS(O/S)
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��त�ल�प अ�े�षतCopy of the Order forwarded to :
अपीलाथ�/The Appellant , 2. ��तवाद�/ The Respondent. 3. आयकर आयु�त(अ)/ The CIT(A)- 4. आयकर आयु�त CIT 5. �वभागीय ��त�न�ध, आय.अपी.अ�ध., मुबंई/DR, ITAT, Mumbai 6. गाड� फाइल/Guard file.
BY ORDER, //True Copy// (Dy./Asstt. Registrar)/ Sr.Private Secretary ITAT, Mumbai