ACCC 30, MUMBAI vs. UNITED SHIPPERS LTD, MUMBAI

These are the cross appeals filed by both the parties against the order passed by The Learned Commissioner of Income Tax (Appeals) – 15, Mumbai (The Learned CIT – A) dated 29th of February 2012 for assessment year 2007 – 08.

Assessee has raised following grounds of appeal in ITA number 2986/M/2012 :-

The learned assessing officer in ITA number 3036/MU/2012 has raised following grounds of appeal :-

Brief facts of the case shows that assessee is a company engaged in the business of operation of ships and barges and business of developing, maintaining and operating infrastructure facility of a port. It filed its return of income on 31/10/2007 showing total income of ₹ 134,358,252/–.

Assessee has entered into an international transaction of ship chartering services of ₹ 38,96,90,370/– the assessee is carrying on the business of transportation of cargo by barges used for transporting of goods from mother vessel to port and port to mother vessel at minor ports in India. Where the assessee gets handling cum Chartering contracts from its customers, it uses chartering services of its associated enterprises. Assessee charters vessel as per requirement of the customers and for this the assessee take services of its associated enterprises. To benchmark above transaction, assessee has used Transactional Net Margin Method [TNMM] as the most appropriate method, using internal l comparable, where it has compared the gross profit margin realized from international transaction with its associated enterprises with the gross profit margin realized from unrelated parties. Associated enterprise also takes certain times the ships on time charter basis and in turn gives the vessels to the assessee on voyage charter basis; therefore, associated enterprise takes more risk as compared to the assessee. Assessee submits that profit on chartering of ships from its associated enterprises is 7.91 percentages and the profit earned by chartering of ships from unrelated entities is at 7.43%. Assessee also submitted that the net profit margin of 7.91% is also comparable with the net profit margin earned by the associated enterprise at 5.39%. Therefore, assessee

The learned transfer-pricing officer asked the assessee to provide detailed calculation of profit level indicator along with any segmental details as per the profit and loss account. Learned transfer pricing officer found that assessee has operating income of ₹ 2,058,797,018/–, operating cost of ₹ 1,906,140,922/- and thereby resulting into an operating profit of ₹ 152,656,096/– resulting into the profit level indicator of 7.41%. Therefore the learned transfer pricing officer held that the contention of the assessee are not acceptable for the reason that assessee does not maintain any segmental audited accounts and therefore the information provided by the assessee is insufficient and not acceptable. For this proposition the learned transfer pricing officer looked at the notes on accounts wherein note number 12 in segment information it was stated that company is in the business of operation of Shipping related services incidental to the shipping and looking at nature of business and risk and return profile the business of the company is considered as a single segment. The learned transfer-pricing officer further held that the additional operational and general administrative expenses are not taken into consideration for benchmarking the international transaction and assessee has merely considered the gross profit/total cost as the profit level indicator. The learned TPO was of the view that assessee is having only 18.93% of the total turnover as transaction with the associated enterprises and therefore it is not comparable with the third party transactions because of significant difference in the volumes. Therefore, the learned transfer- pricing officer considered the transactional net margin method as the most appropriate method and adopted the profit level

Further as in the annual report, it was mentioned that the company has provided corporate guarantee of US$ 0.3 million in favour of a bank for working capital limits sanctioned to USL sipping FZE Dubai [being 100% subsidiary of the assessee]. Assessee has received a sum of ₹ 62,670/- on account of corporate guarantee charges at the rate of 0.5%. Assessee adopted CUP method as the most appropriate method and stated that assessee itself has taken a bank guarantee from third parties at a commission rate of 0.5% per annum; therefore, international transaction of receipt of 0.5% from its associated enterprises on corporate guarantee is at arm’s- length.

The learned AO further examined that assessee is earning both taxable as well as exempt income and therefore it was asked that why disallowance u/s 14A should not be made. The assessee submitted that it has a total investment of ₹ 13.06 crores whereas the share capital and free reserves amounted to Rs. 111.69 crores and therefore there cannot be any investment made by the assessee from any borrowings. Hence, interest expenditure cannot be disallowed u/r 8D [2][I] and [I]. On account of the administrative expenses, assessee submitted that it has disallowed a sum of ₹ 192,920/– as 1% of the dividend received which is a reasonable figure of such disallowance.

Ld assessing officer rejected the contention of the assessee, recording the satisfaction that on the objective basis the assessee is unable to establish the correctness of the claim and therefore he worked out the disallowance of administrative expenditure ₹ 1,657,476/– on account of expenses incurred for earning the exempt income. He disallowed the same u/s 14 A of the act applying the provisions of rule 8D.

Accordingly the draft assessment order was passed. Assessee did not file any objection. Therefore, final order u/s 143 (3) of the act was passed on 14/2/2011 determining the total income of the assessee at ₹ 270,691,874/- against the returned income of the assessee at ₹ 134,358,252/–.

Aggrieved by assessment order, assessee preferred an appeal before the learned CIT – A who passed an order on 29/2/2012. The assessee contested the arm’s-length price of the ship chartering services stating that assessee has adopted the internal transactional net margin method whereas the learned transfer-pricing officer has adopted the external transactional net margin method at entity level. Assessee also objected to the profit level indicator adopted by the learned transfer- pricing officer at 13.84% in the selection of the comparable companies. Assessee also submitted that there are extraordinary transactions during the year, if the impact of those two transactions are removed, margin of the assessee would be comparable. The learned CIT – A with detailed reason that the application of the transactional net margin

With respect to disallowance u/s 14 A of the income tax act, he found that disallowance worked out by the assessee is ₹ 687,883/– out of the administrative expenditure and disallowance out of the interest expenditure of ₹ 277,279/–. Accordingly the total disallowance was upheld of ₹ 965,162/– against disallowance made by the learned assessing officer of ₹ 1,657,476/.

With Respect to the addition of Rs 18,16,155/– , he noted that the amount disallowed as Transshipment charges provision has been offered to taxation by the assessee himself in financial year 2010 – 11 by writing back as per the consistent policy of the appellant and also on the basis three years were elapsed since provision was made, therefore he deleted the addition.

We first address the appeal of the assessee. Ground number 1 of the appeal was not pressed, therefore, it is dismissed.

Ground number 2 – 5 are with respect to the transfer pricing adjustment upheld by the learned CIT – A of ₹ 28,052,580 in respect of the international transaction of procurement of ship chartering services from its associated enterprises. Ld AR submits that LD TPO has accepted as transactional net margin method as the most appropriate method, however, he rejected internal comparable available and adopted external transactional margin method. He further applied PLI on the total sales of ship chartering business instead of only ship chartering businesses arising from international transactions with associated enterprises. It is also aggrieved that the learned CIT – A has upheld the addition in the hands of the assessee which has exceeded the actual combined profit earned by the AE and the assessee taken together.

On the benchmarking of the international transactions of the ship charter services, the learned authorised representative, Mr. Madhur Agarwal, advocate, submitted that there is no dispute on most appropriate method for benchmarking of these international transaction. He submitted that a. Assessee is saying that internal transactional net margin method is the most appropriate method whereas the learned transfer-pricing officer says that external transactional net margin method at entity level is the most appropriate method for benchmarking of this transaction.

In view of this, he submitted that the benchmarking methodology adopted by the assessee deserves to be accepted.

Countering arguments of the learned authorised representative, the learned departmental representative stated that assessee has created the artificial segment and has compared the gross margin in adopting the transactional net margin method. It was stated that the transactional net margin method only considers the net profit and not the gross profit. Therefore, it was stated that method adopted by the assessee is flawed and the computation of the segments made by the assessee is also not backed by any reliable data and therefore the computation itself is flawed. In view of this it was stated that learned transfer pricing officer has correctly adopted external transactional net margin method for

We have carefully considered the rival contention and perused the orders of the lower authorities. The undisputed fact arising in these grounds is that both the parties have agreed that the transactional net margin method is the most appropriate method for benchmarking the international transaction of ship chartering services paid by the assessee of ₹ 389,690,370/–. The assessee has adopted the internal transactional net margin method by adopting the gross profit earned on transactions with the associated enterprises and comparing gross profit earned on transactions with non-associated enterprises. Therefore, assessee submits that this is the internal transactional net margin method should be adopted for the benchmarking of the transaction. The learned assessing officer has found fault with the above approach of the assessee stating that assessee is considering only the gross profit and therefore in ignoring the other expenditure incurred by the assessee. Therefore, TP approach of assessee of comparing only the gross profit and stating that it is an internal transactional net margin method is flawed. He further held that the segmental gross profit working of the assessee is also not backed by any reliable and accurate data available. Thereafter he applies the transactional net margin method in the case of the assessee at entity level, selects eight comparable companies, derives the arithmetic mean of their profit level indicator, and determines the arm’s-length price of the transaction. On appeal before the learned CIT – A, he upheld the action of the learned transfer pricing officer; however, he applied that the profit ratio should be applied only to the transactions entered into with the associated enterprise. He corrects an error that the learned assessing

As we have already held that transactional net margin method comparing the net profit is the correct methodology in accordance with the income tax rules, we reject the contentions of the assessee that there are no expenses incurred by the assessee or even if those are incurred the may be spread in the same ratio to arrive at the net profit.

Now coming to the aspect whether the learned transfer-pricing officer has taken the correct comparables or not. If the comparables are taken correctly then whether the arithmetic mean of the profit level indicator of those comparables have been correctly applied or not. In addition, whether such profit margin is to be applied on the total sales of the assessee or serial Name of the PLI Activities of the number comparable (OP/OI) comparable company companies Balmer Lawrie & 24.90 The company is 1 Co Ltd (logistics engaged in providing segment) container freight station services, LCL and FCL services, as and ocean freight forwarding, NVOCCC operator et cetera. Logistics segment selected 2 Haytrans India Ltd 21.87 The company provides the following services cargo movement, shipping agency services, International frightful, logistics and supply chain management, a road transportation 3 Sical logistics Ltd 8.44 The company is (segment engaged in providing logistics) integrated solutions for offshore logistics and multimodal logistics for bulk and containerized cargo. It is also engaged important logistics, container freight station, and offshore supplies. Logistics segment selected 4 Sindhu cargo 4.81 The company services Ltd provides cargo logistic services like packing and documentation and freight forwarding

We do not find that assessee has made any serious challenge to the comparable selected by the learned transfer pricing officer either before the learned assessing officer or before the learned CIT – A. Before us, the assessee has submitted that Balmer Lawrie is a government-controlled company where 61% is owned by government of India and therefore it should not be considered as a comparable company. For this proposition assessee has relied upon the decision of the honourable Bombay High Court in case of CIT versus Thyssen Krupp industries Ltd 95 CCH 187 (Bom) and principal Commissioner of income tax versus International SOS services India private limited (ITA 454/2016 Del). We have carefully considered the contention raised by the assessee with the annual report furnished before us at page number 1 – 62 of paper book – 2. Coming to the decision of the honourable Bombay High Court (385 ITR 612) engineers India Ltd which was directed to be excluded by the coordinate bench was

The learned authorised representative further submitted that for assessment year 2008 – 09 and 2009 – 10 the assessee has adopted the resale price method as the most appropriate method for the same international transactions, which has been accepted by the learned transfer-pricing officer, and no adjustment is made. We find that in this year assessee has adopted TNMM as the MAM based on detailed transfer pricing study report prepared by assessee. Based on this study report all the other methods were eliminated. It is not the contention of assessee that FAR in the T P Study Report for this year is fallacious. The LD TPO has also consciously reached at the decision that TNMM is the most appropriate method for this year. Therefore subsequent years’ benchmarking methodology does not have any impact for this year, unless, the TP study report for the year is found fallacious.

Ground number 5 of the appeal, assessee has stated that the profit margin of 7.91% on by the appellant is higher than the profit margin of 6.76% on by associated enterprises in the subject international transaction and further the profits of ₹ 61,540,110/– a lack it to appellant after considering transfer pricing adjustment of ₹ 28,052,480 cannot exceed the actual combined profit on by the AE and the appellant together of ₹ 59,831,781/–. We do not find any force in the argument of the learned authorised representative as we are dealing with a transactional net margin method and not profit split method.

In the result ground number 2 – 5 of the appeal are allowed partly.

Coming to ground number 6, The learned authorised representative with respect to the disallowance sustained by the learned CIT – A u/s 14 A stated that rule 8D does not apply to these assessment year. The assessee has earned exempt income of ₹ 77 lakhs as a dividend and assessee has already offered the disallowance of ₹ 192,920. He submitted that in the earlier years the learned CIT – A has restricted disallowance to ₹ 75,000, however, for this year he has confirmed the higher disallowance adopting the rule 8D of the income tax rules. He submitted that when rule 8D does not apply for this year, there is no reason to sustain the disallowance confirmed by the learned CIT – A

We have carefully considered the rival contention and perused the orders of the lower authorities. We find that learned assessing officer has applied the provisions of rule 8D of the income tax rules. He disallowed a sum of ₹ 16,57,476/–. The learned CIT – A restricted disallowance to ₹ 965,162/–. Assessee has earned exempt income of ₹ 7,778,110/– as dividend income exempt u/s 10 (34) of the act. For assessment year 2006 – 07 on an exempt, income earned by the assessee of ₹ 1,130,945/– the learned and CIT – A has restricted the disallowance only to ₹ 75,000. Therefore, the claim of the assessee is that it should be restricted to that some only. We find that during the year exempt income earned by the assessee is not 11, 30,945 but ₹ 7,778,110/–. The assessee itself has given a working where the disallowances required to be restricted at ₹ 192,920/–. Looking to the amount of exempt income earned during the year compared to the previous year the amount of disallowance deserves to be upheld to the extent of ₹ 192,920/–. Accordingly, the learned assessing officer is directed to retain the disallowance to that extent only. Accordingly, ground number 6 of the appeal is allowed.

Accordingly, ITA 2986/M/2012 filed by the assessee is partly allowed.

Now we come to the appeal of the learned assessing officer. Ground number 1 – 5 of the appeal are with respect to the transfer pricing adjustment on ship chartering income. These grounds have already been dealt with by us while deciding the appeal of the assessee. Therefore, as we have upheld largely

Now we come to ground number 6 and 7 wherein the learned and CIT – A deleted the adjustment made to the guarantee fee is challenged by the learned assessing officer before us.

With respect to the corporate guarantee benchmarked by the learned transfer pricing officer and deletion made by the learned CIT – A, the learned departmental representative vehemently stated that the learned CIT – A has wrongly followed the decision of the learned CIT – A his predecessor in earlier years. He submitted that each assessment year is a separate and facts of the each assessment year should be looked into for benchmarking the international transactions. He further submitted that the learned transfer-pricing officer has correctly benchmarked the guarantee commission.

The learned authorised representative supported the order of the learned CIT – A. Assessee also placed before us the order of the Commissioner of income tax appeals for assessment year 2008 – 09 dated 3/9/2014 wherein identical adjustment because of corporate guarantee was deleted.

The fact shows that assessee has provided corporate guarantee of US$ 0.3 million equivalent to ₹ 131 lakhs in favour of habib Bank zurich AG for working capital limits sanctioned to USL shipping Fze , UAE being 100% subsidiary of assessee. For this guarantee assessee has charged a commission at the rate of 0.5% being ₹ 62,670/–. The transfer pricing officer held that 4.75% is considered as appropriate to benchmark the about transaction accordingly he

Ground number 8 is with respect to the disallowance restricted by the learned CIT – A u/s 14 A of the act. As we have already dealt with this issue in ground number 6 of the appeal of the assessee wherein we have upheld the disallowance to the extent of ₹ 192,920/–, this ground of appeal is dismissed.

Accordingly, appeal filed by the learned assessing officer in ITA number 3036/M/2012 is dismissed.

In the result, appeal filed by the assessee is partly allowed and appeal filed by the AO is dismissed.