M/S.TOYOTA INDUSTRIES ENGINE INDIA PRIVATE LIMITED,BANGALORE vs. DEPUTY COMMISSIONER OF INCOME-TAX, BANGALORE

The Learned Panel has erred in its direction to the Learned AO to verify margin computation of Lakshmi Machine Works Ltd. ("LMW") and Veejay Lakshmi Engineering Works Ltd. ("Veejay") wherein the Appellant's contention was on the erroneous margin computation of LMW and Hindoostan.

On the facts and in the circumstances of the case and in law, the Deputy Commissioner of Income-tax, Circle 4(1)(1), Bangalore (‘Learned AO’) / Hon'ble Dispute Resolution Panel (`lIon'ble DRP) erred in not allowing deduction under the provisions of the Income Tax Act, 1961, on account of Education Cess and Secondary and Higher Education Cess paid by the Appellant on the assessed income alongwith income-tax and surcharge for the year under appeal. It is prayed that the deduction of Education Cess and Secondary and Higher Education Cess should be allowed to the Appellant as business expenditure under the provisions of the Act.

Besides the aforesaid grounds which are in relation to determination of ALP in respect of an international transaction, the assessee has raised corporate grounds also and these grounds read as follows:

That the Learned AO /Learned Panel erred in levying interest under section 234B amounting to Rs. 9,987,318.

As far as prayer of the assessee for adopting PLI as OP/Sales, we find that this Tribunal in assessee’s own case for Assessment Year 2010-11 in IT(TP)A No.485/Bang/2015, order dated 18.05.2016, accepted the plea of the assessee and directed that the PLI should be adopted as OP/Sales. The following were the relevant observations of the Tribunal in this regard: “5.5.In principle, we ate in agreement with the contentions raised by assessee, as GP over sales can eliminate the difference in claim of depreciation due to age of machinery, rate at which it IT(TP)A Nos.355, 2127/Bang/2016 Page 5 of 21 was claimed and method of claims like straight line or written down value. We accordingly direct the AO/TPO to adopt the comparison of profitability ratios adopting GP over sales. Since the details of capacity utilization of the comparable companies and rate of depreciation could not be analysed as commented by DRP, it would be better if GP analysis was undertaken taking sales less cost of raw material as basis (excluding other cost including Depreciation, interest etc) so that auto components profitability could be analysed so as to consider whether the import of raw material from AE has effected the profitability of assessee under their provisions. Accordingly, we set aside the impugned orders of the Revenue 'authorities on this issue and restore the matter to the file of AO/TPO to carry out the exercise as stated above. Assessee should be given due opportunity. However, we make it clear that if any adjustment is required to be made, the same is to be restricted, as directed by DRP in pars 3.1.3 (Ground No.2) above. The matters which have attained finality are not intended to be reopened. AO/TPO is directed accordingly. Ground No. 3 is allowed for statistical purposes.”

Following the aforesaid decision, we hold that the PLI should be adopted for the purpose of comparing assessee’s margin in both the segments and that the comparable companies PLI should be OP/Sales. We hold and direct accordingly.

As far as ground Nos.8 and 9 are concerned, the factual details are that in the Textile Machinery Manufacturing segment, the assessee had applied TNMM for benchmarking the transactions with the AE and undertaken a search for comparables and arrived at 3 companies. They were: Comparable Company Average NPI Kusters Calico 5.19% Machinery Ltd. Laxmi machine Works 6.98% Ltd. Batliboi Ltd -3.78% IT(TP)A Nos.355, 2127/Bang/2016 Page 6 of 21 9. The arithmetic mean operating profit margin of comparable companies turned out to be 2.80%. The financial results of KTTM (the assessee) indicated that the assessee company had an operating profit margin of 5.65% during the year under consideration. Thus, it was claimed that the international transactions of KTTM were in accordance with arm’s length standard required under the Indian regulation.

The TPO however rejected two of the comparable companies taken by the assessee in the TP study of the assessee. The two comparables rejected by the TPO were:

The TPO then undertook an independent search for comparables and added two new comparables to the list and recomputed the margin of the comparable company selected by the assessee. The comparables being:

The PLI of the following 3 comparables were arrived at 12.64 on cost as against 5.65 computed by the assessee company. Consequently, ALP was determined by the TPO which resulted in an addition to the total income of the assessee. The assessee raised twofold objections in front of the DRP. The first ground of objection was related to the TPO considering OP/TC as the PLI instead of OP/ Sales taken by the assessee without providing any reason for rejecting PLI used by the assessee in the TP IT(TP)A Nos.355, 2127/Bang/2016 Page 7 of 21 documentation. The second objection was with regard to the margin computed by the TPO of the two comparables company being:

We are of the view that the grievance of the assessee will be addressed if the TPO is directed to consider the comparability of Hindustan Mills Ltd., with the assessee. In this regard, we find that Hindustan Mills Ltd., as seen from the Annual Report of this company, is engaged in the manufacture of textiles whereas the segment in respect of which the TP analysis is to be carried out in textile manufacturing segment. Both are clearly functionally not comparable. This aspect has not been considered by the DRP and therefore we deem it fit and proper to restore the IT(TP)A Nos.355, 2127/Bang/2016 Page 8 of 21 comparability of Hindustan Mills Ltd., to the TPO/AO for consideration afresh.

Thus, even if the comparables selected by the TPO in the fresh search it conducted is still to be taken as the final set of comparables, the assessee submitted that the margin be recomputed in the light of assessee’s submissions. The final outcome of the said recomputation would result in:

As far as the additional ground raised by the assessee is concerned, the same is in relation to the issue whether education cess can be allowed as a deduction under section 37(1) of the Act or has to be disallowed under section 40(a)(ii) of the Act. The additional ground of appeal being a legal ground is admitted for adjudication. ITAT Kolkata Bench in the case of Kanoria Chemicals & Industries Ltd. Vs Addl. CIT (ITAT Kolkata) Appeal Number Order dated 26/10/2021, dealt with identical additional ground as raised by the assessee in this appeal and held as follows:

The Ld. Counsel for the assessee has submitted that ‘Cess’ has not been specifically mentioned in the aforesaid provisions of section 40(a)(ii) and, therefore, Cess is an allowable expenditure. He in this respect has relied upon the “CBDT Circular No. 91/58/66-ITJ(19) dated 18-05-1967”, wherein it has been interpreted that the ‘Cess’ shall not be disallowable. The said Circular for the sake of ready reference is reproduced as under:- “Interpretation of provision of Section 40(a)(ii) of IT Act, 1961 – Clarification regarding.- “Recently a case has come to the notice of the Board where the Income Tax Officer has disallowed the ‘cess’ paid by the assessee on the ground that there has been no material change in the provisions of section 10(4) of the Old Act and Section 40(a)(ii) of the new Act.

The Learned Counsel for the assessee in this respect has further relied upon the decision of the Hon’ble Bombay High Court in the case of “Sesa Goa Limited Vs. JCIT“ (2020) 117 taxmann.com 96 and further on the decision of the Hon’ble Rajasthan High Court in the case of “Chambal Fertilizers & Chemicals Ltd Vs. JCIT”: D.B Income-tax Appeal No. 52/2018 decided on 31-07-2018, wherein, the Hon’ble High Court/s relied upon the aforesaid CBDT Circular Dt. 18-05-1967(supra) and in view of the interpretation made by the CBDT have held that ‘education cess’ can be claimed as an allowable deduction while computing the income chargeable under the heads of profits and gains of business or profession. The Learned Counsel has further relied upon the following decisions of the Co-ordinate Benches of this Tribunal, who have followed the aforesaid judgments of the Hon’ble High Courts: a. Decision of Kolkata Bench of the Tribunal in IT(TP)A Nos.355, 2127/Bang/2016 Page 13 of 21 the case of DCIT Vs. ITC Infotech India Ltd, dt. 23-10-2019 b. Decision of Kolkata Bench of the Tribunal in the case of Tega Industries Ltd Vs. ACIT, ITA No. 404/Kol/2017 dt. 23-8-2019 c. Decision of Kolkata Bench of the Tribunal in the case of SREI Infrastructure Finance Ltd Vs. Addl. CIT, R-9, ITA No. 1318/Del/2012 dt. 31-12-2019.

However, with due respect to the decisions of the Hon’ble Bombay High Court and Hon’ble Rajasthan High Court and of co-ordinate Benches of this Tribunal, we find that the issue is squarely covered by the decision of the Hon’ble Apex Court of the country in the case of “CIT Vs. K. Srinivasan” (1972) 83 ITR 346, wherein the following questions came for adjudication before the Hon’ble Apex Court:- “Whether the words “Income tax” in the Finance Act of 1964 in sub-s (2) and sub-s.(2)(b) of s. 2 would include surcharge and additional surcharge.”

The Hon’ble Supreme Court answered the question in favour of revenue observing as under:- “In our judgment it is unnecessary to express any opinion in the matter because the essential point for determination is whether surcharge is an additional mode or rate for charging income tax. The meaning of the word “surcharge” as given in the Webster’s New International Dictionary includes among others “to charge (one) too much or in addition ” also “additional tax”. Thus the meaning of surcharge is to charge in addition or to subject to an additional or extra charge. If that meaning is applied to s. 2 of the Finance Act 1963 it would lead to the result that income tax and super tax were to be charged in four different ways or at four different rates which may be described as (i) the basic charge or rate (In part I of the First Schedule); (ii) Surcharge; (iii) special surcharge and (iv) additional surcharge calculated in the manner provided in the Schedule. Read in this way the additional charges form a part of the income tax and super tax”.

The Hon’ble Supreme Court, therefore, has decided the issue in favour of the revenue and held that surcharge and additional surcharge are part of the income-tax. At this stage, it is pertinent to mention here that ‘education cess’ was brought in for the first time by the Finance Act, 2004, wherein it was mentioned as under:- “An additional surcharge, to be called the Education Cess to finance the Government’s commitment to universalise quality IT(TP)A Nos.355, 2127/Bang/2016 Page 14 of 21 basic education, is proposed to be levied at the rate of two per cent on the amount of tax deducted or advance tax paid, inclusive of surcharge.”

The provisions of the Finance Act 2011 relevant to the Assessment Year under consideration i.e. 2012-13 are also relevant. For the sake of ready reference, the same is reproduced hereunder:- 2(11) The amount of income-tax as specified in sub-sections (1) to (10) and as increased by a surcharge for purposes of the Union calculated in the manner provided therein, shall be further increased by an additional surcharge for purposes of the Union, to be called the “Education Cess on income-tax”, calculated at the rate of two per cent. of such income- tax and surcharge, so as to fulfil the commitment of the Government to provide and finance universalised quality basic education.

A perusal of the aforesaid provisions of the Finance Act 2004 and Finance Act 2011 would show that it has been specifically provided that ‘education cess’ is an additional surcharge levied on the income- tax. Therefore, in the light of the decision of the Hon’ble Supreme Court in the case of “CIT Vs. K. Srinivasan” (supra) the additional surcharge is part of the income-tax. The aforesaid decision of the Hon’ble Apex Court and the provisions of Finance Act, 2004 and the relevant provisions of section 2(11) & (12) of the subsequent Finance Acts have not been brought into the knowledge of the Hon’ble High Courts in the cases of ” Sesa Goa Ltd” & “Chambal Fertilisers” (supra). Since the decision of the Hon’ble Supreme Court prevails over that of the Hon’ble High Courts, therefore, respectfully following the decision of the Hon’ble Supreme Court in the case of “CIT Vs. K. Srinivasan” (supra), this issue is decided against the assessee. The additional ground of assessee’s appeal is accordingly dismissed.”

Following the aforesaid decision, we dismiss the additional ground raised by the assessee. The aforesaid amounts admittedly were credited in the profit and loss account. According to the AO, the aforesaid sum had to be included as part of the book profits u/s 115JB of the Act as it is not one of the item of income which has to be excluded from the net profit as per profit and loss account, set out in the explanation below Sec.115JB(2) of the Act. The CIT(A) confirmed the action of the AO.

As far as provision for long services award of Rs.5,22,921/- is concerned, the CIT(A) has not adjudicated on this ground. The provision for Long Service Award is computed on a scientific basis based on actuarial valuation conducted by an actuary and amounts computed as per actuarial valuation of does not make it provision for an unascertained or contingent liability. The assessee has submitted copies of actuarial valuation reports pertaining to Long Services Award it the submissions to the TPO as well as CIT(A). The said provision is capable of being estimated with reasonable certainty thereby making it ascertained and not unascertained. The following judicial pronouncements support the plea of the assessee in this IT(TP)A Nos.355, 2127/Bang/2016 Page 16 of 21 regard : (i) Stanley Black & Decker India Limited Vs DCIT-3(1) Mumbai (2017 (11) TMI 1147)-ITAT Mumbai (ii) DCIT -11, Bangalore Vs M/s L & T Valdel Engineering P Ltd 2015 (6) TMI 984-ITAT Bangalore. (iii) DCIT, Circle-11(1), New Delhi Vs Eicher Motors Ltd 2017(2)TMI 795 (iv) DCIT, CC-18, New Delhi vs Brentwoods Vs. International Ltd 2017 (9) TMI 474 - ITAT Delhi (v) DCIT Vs Pragati Glass Works P Ltd 2017(5) TMI.

In the light of the judicial pronouncements referred to above, we are of the view that the provision for bonus as well as provision for long term service are both ascertained liability and cannot be added to book profit under section 115JB of the Act. We hold and direct accordingly.

In the result, appeal of the assessee is partly allowed.

IT(TP)A No.2127/Bang/2016 : As far as this appeal is concerned, the grounds raised

As far as ground No.2 is concerned, the prayer of the learned Counsel for the assessee was that the TPO while determining the ALP and making an addition, has taken the entire segmental sales in the textile machinery segment and auto components segments without restricting the addition only in respect of the international transaction viz., that component of the raw material and components that were imported from the AE and used in the manufacture of textile machinery and auto components. On this issue, in Assessment Year 2011-12, the DRP has specifically given the following directions accepting the plea of the assessee that the adjustment should only be restricted to transaction with AE, with the following observations: “4.1 On the above issue, detailed submissions have been made by the assessee and the same have duly been considered. Similar objection was raised by the assessee for AY 2010-11 before DRP and after examining the same DRP had directed that the adjustments need to be restricted to the cost relating to the imports of material from the AE. Similar issue arose in the case of assessee itself for AY 2006-2007 before ITAT. In its decision dated 14/11/2014 in IT(TP)A No. 1401/Bang/2007, ITAT directed the assessing officer to confine the adjustments qua the purchases made by the assessee from AE. In the year under consideration also the calculation of adjustment u/s 92CA has been done without excluding the non AE purchases. So the AO/TPO is directed to recalculate the adjustment to be made by excluding the non AE transactions done by the assessee. So the objection of the assessee is decided in above terms.”

Even otherwise, the law is well settled that the addition by way of determination of ALP can be made only in respect of the international IT(TP)A Nos.355, 2127/Bang/2016 Page 18 of 21 transaction and not to the entire segment that might include transactions with non-AE. The above proposition is also supported by the following decisions of the Hon'ble Bombay High Court in the case of Phoenix Mecano (India) Private Limited [ITA No. 1182 of 2014], had to deal with the following question of law suggested by the revenue:- 6.1 Whether on the facts and in the circumstances of the case, the Hon'ble Tribunal was correct in directing the AO to restrict the determination of the ALP to transactions with the AE rather than on the entire turnover of the Company. 6.2 Whether on the facts and in the circumstances of the case and in law, the Hon'ble Tribunal was correct while issuing the above directions without appreciating the observations of the DRP that there was no segmental audit of the transactions of AE and non AE and therefore there was no method whereby the AO could come to a fair determination of ALP by only restricting to transactions with AE. The Hon'ble Bombay High Court held that one has to take only the international transactions of the assessee with its AE for the purpose of determining arms length price.

The Hon'ble Mumbai Tribunal in the case of Thyssen Krupp Industries India Pvt. Ltd. [ITA No. 7032/Mum/2011] held that the ALP can only be determined on the value of international transaction alone and not on the entire turnover of the assessee at entity level. This decision was further upheld by the Hon'ble Bombay High Court in the case of Thyssen Krupp Industries India Pvt. Ltd. [ITA No. 2201 of 2013], which held as below:-

In the above view, as the provisions of the Act in respect of transfer pricing are self evidence, Question No.(a) as proposed does not give rise to any substantial question of law. Thus not entertained.”

The ITAT Bangalore in the case of Kirloskar Toyota Textile Machinery Pvt. Ltd. v. ACIT [IT(TP)A No.1401/Bang/2010 held as that the determination of ALP has to be restricted qua the purchases made by the assessee from the AE. To be more specific, the adjustment is to be made only to the purchases made from the AE.

We have considered the rival submissions. The reasoning of the CIT(A) for considering the entire sales in manufactured finished goods segment for determination of ALP is that certain components and raw materials used in manufacture of finished goods are also sourced from AE and there is a possibility of the cost of such component having been bargained at a price which is not at arm’s length. This presumption of the CIT(Appeals) is without any basis. He has not demonstrated with actual figures as to how there would be impact on profit margin on sale of finished products to AE because of purchases of some components from AE. He has IT(TP)A Nos.355, 2127/Bang/2016 Page 20 of 21 given examples which are imaginary figures. Apart from this, the TPO has accepted that purchase of raw material and components by the assessee from its AE is at arm’s length. Therefore, the basis on which the CIT(A) proceeded to apply the ALP test for transactions with non-AE is neither correct on facts nor permissible in law. As rightly contended by the assessee, section 92 of the Act can be applied only in respect of international transactions i.e., transactions with AE.

In view of the above transfer pricing provisions and various judicial precedents, we hold that the transfer pricing adjustment should be restricted only to the AE related transactions of the assessee.

Accordingly, ground No.2 raised by the assessee stands allowed. As far as ground No.3 is concerned, the issue is with regard to adoption of PLI. The assessee in this ground has prayed for adopting PLI as OP/Sales instead of OP/Total Cost. While adjudicating on identical ground in Assessment Year 2011-12, we have already upheld the plea of the assessee in this regard. Following the same, we direct the TPO to adopt PLI as OP/Sales. The TPO is directed to compute the ALP in accordance with the directions contained in this order, after affording opportunity of being heard to the assessee.

In the result, appeal by the assessee is partly allowed.