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Income Tax Appellate Tribunal, ‘D’ BENCH, CHENNAI
Before: HON’BLE SHRI MAHAVIR SINGH & HON’BLE SHRI MANOJ KUMAR AGGARWAL, AM
आदेश / O R D E R Manoj Kumar Aggarwal (Accountant Member)
Aforesaid appeal by assessee for Assessment Year (AY) 2013-14 arises out of final assessment order dated 21.06.2017 passed by learned Deputy Commissioner of Income Tax, Corp. Circle 1(1), Chennai (in Short ‘AO) u/s 143(3) r.w.s. 144C of the Act pursuant to the directions of learned Dispute Resolution Panel-2, Bangalore [in shot ‘DRP’] dated 02.05.2017. Since the assessee entered into certain transactions with its
ITA No.2176/Chny/2017 - 2 -
Associated Enterprises (AE), a reference was made u/s 92CA(1) to learned Deputy Commissioner of Income Tax, Transfer Pricing 1(2) (in short ‘TPO). The Ld. TPO, vide its order dated 30.09.2016 u/s 92CA(3) proposed certain adjustments which forms subject matter of this appeal. The assessee has filed concise grounds of appeal on 30.09.2019. However, the only grounds urged during hearing are computation of correct margins of the assessee, exclusion of one comparable entities and Transfer Pricing (TP) Adjustment of management service fees paid by the assessee. The corresponding grounds read as under: -
The lower authorities have erred in considering Jolly Board Ltd as a comparable while computing the operating margin of comparable companies, despite such company being functionally dissimilar to the Appellant. 5. The lower authorities have, in the facts and circumstances of the case and in law, erred in incorrectly computing the operating margin of the Appellant and those of the comparable companies selected for benchmarking purposes. 6. The lower authorities have erred in the facts and circumstances of the case and in law, in treating the impairment loss incurred on account of the Appellant discounting its manufacturing operations, as an operating item while computing the net operating margin of the Appellant. The lower authorities failed to appreciate the fact that impairment loss is an extra-ordinary and non-recurring loss and hence, must be excluded while computing the operating margin of the Appellant. 7. The lower authorities failed to appreciate the fact that the Appellant itself disallowed the impairment loss under section 37 of the Act and hence, treating the same as an operating expenditure for the purpose of computation of PLI would amount to double jeopardy to the Appellant. 8. The lower authorities have erred in the facts and circumstances of the case and in law, in treating the miscellaneous income as non-operating in nature, in computing its margin, without appreciating the nature of the said item. 9. The lower authorities have, in the facts and circumstances of the case and in law, erred in computing the ALP of the management fee at NIL, • By erroneously dejecting the aggregation approach adopted by the Appellant in its TP documentation without appreciating that the management services availed by the Appellant are closely linked to the Appellant's business and inherent to the centralization of functions that normally occurs within Multinational Groups (such as the case of the DIAB Group); • By questioning the commercial expediency of the Appellant in incurring such expenditure and thus, exceeding the jurisdiction vested upon the lower authorities; • By erroneously concluding that no tangible / direct benefits accrued to the Appellant from such services, completely disregarding the evidence provided by the Appellant for availing management services.
ITA No.2176/Chny/2017 - 3 - 10. The lower authorities have, in the facts and circumstances of the case and in law, erred in computing the ALP as 'Nil' purportedly under the CUP method, without bringing on record any benchmarking exercise using comparable companies and has as such exceeded their jurisdiction.
The Ld. AR, drawing attention to the documents placed in the paper-book, advanced arguments and submitted that impairment losses and vendor’s claim was already disallowed in computation of income and therefore, the same were non-operating in nature. The Ld. AR also assail the inclusion of M/s Jolly Board Ltd. (JBL) in final set of comparable entities. Regarding payment of management fees, Ld. AR submitted that these were regular payment and accepted in all the other years and lower authorities determined the Arm’s Length Price (ALP) as Nil without following any of the prescribed method. The Ld. CIT-DR, on the other hand, submitted that the comparable entities may have similar kind of losses and therefore, the aforesaid two items were operating in nature. The Ld. CIT-DR supported the order of lower authorities on other issues. Having heard rival submissions and after going through the orders of lower authorities, our adjudication would be as under. Proceedings before Ld. TPO 3.1 Upon perusal of Ld. TPO’s order, it could be seen that the assessee is engaged in manufacture, sale and trading of structural core materials in the field of wind energy, marine and other industrial markets. The assessee imported raw material as well as traded goods from its Associated Enterprises (AE). The assessee also made payment of royalty, management fees and reimbursement of expenses to its AE. It exported finished goods also. All these transactions were benchmarked
ITA No.2176/Chny/2017 - 4 - using Transactional Net Margin Method (TNMM) adopting Profit Level Indicator as OP/OI (Operating Profit / Operating Income). In its Transfer Pricing Study Report, the assessee computed its own margin as 5.33% as against mean margin of 5.58% as shown by four comparable entities. Accordingly, no Transfer Pricing (TP) adjustment was proposed by the assessee. 3.2 The management fees of Rs.42.84 Lacs paid by the assessee were at mark-up of 10%. In support of the services, the assessee submitted relevant agreement as well as various email communication / correspondences. However, these services were held by Ld. TPO to be generic in nature which did not bring extraordinary benefits to the assessee. The assessee adopted combined analysis whereas the services were not directly related to manufacturing operation of the assessee. Therefore, ALP of these transactions was held to be Nil. 3.3 In the comparability analysis under entity level TNMM, Ld. TPO added two more entities viz. (i) Jolly Board Ltd. & (ii) Kalpena Industries (India) Ltd. The mean OP/OC (operating profit / operating cost) of final six comparable was worked out as 10.43% as detailed in para-8 of Ld. TPO’s order. At the same time, the margin of the assessee was revised to (-)5.58% which was due to the fact that impairment losses of Rs.464.67 Lacs were considered as operating expenses whereas management services fees of Rs.42.84 Lacs was considered as inoperative. Applying the same to the value of export of finished goods, Ld. TPO worked out Arm’s Length Price (ALP) of export transactions as Rs.3877.38 Lacs as against value of Rs.3315.24 Lacs as reflected by the assessee and accordingly, proposed adjustment of Rs.562.13 Lacs despite assessee’s objection.
ITA No.2176/Chny/2017 - 5 - 3.4 The assessee filed rectification u/s 154 before Ld. TPO to submit that the impairment losses of Rs.464.67 Lacs was treated as operating item which has reduced the assessee’s margin from 5.12% to (-)5.58%. The assessee submitted that impairment losses were accepted as non- operating in nature in notice dated 12.09.2016. However, this plea was rejected by Ld. TPO on the ground that impairment of losses was to be treated as equivalent to depreciation charged on assets. Proceedings before Ld. DRP 4.1 Before Ld. DRP, the assessee objected to treatment of impairment losses as operating in nature. It was argued that the expenditure was extra-ordinary in nature since the factory assets were revalued on account of closure of manufacturing operations and the assets were disposed-off in the subsequent years. The assessee submitted that manufacturing facility was established pursuant to long term supply agreement with Suzlon Ltd. However, Suzlon Ltd. could not purchase the quantity committed by them prior to setting up of plant and the assessee scouted for other customers in the wind sector. However, due to sluggish growth of wind sector and unfavorable regulatory scenario, the demand was low and to utilize the idle capacity, DIAB group assisted the assessee in purchasing significant part of the goods produced. Owing to aforesaid adverse market conditions, it was decided to discontinue manufacturing operations. This was one-off event and not part of routine business activities. Such revaluation of asset was unique to the assessee and similar item was not observed in comparable entities. Another pertinent fact brought to the notice was the fact that impairment losses were not claimed as business expenditure and added back in the computation of income.
ITA No.2176/Chny/2017 - 6 - 4.2 However, Ld. DRP held that treatment in computation of income would not have much relevance in the transfer pricing proceedings since profit margins of tested party as well as comparable entity was worked out on the basis of Book-Profits as per Annual Reports available in the public domain and the actual computation of income for income tax purposes was not available. Therefore, the expenditure could not be held to be non-operative on that point alone. Regarding assessee’s arguments that contract with Suzlon Ltd. was terminated, the assessee was silent on the aspect of compensation received by it due to breach of contract by the Suzlon Ltd. The assessee did not file relevant documentary evidences though the assessee himself paid compensation of Rs.1.6 Crores to its own vendors. The plant and machinery were moved to other group companies after devaluing them in later years. The assessee did not furnish any basis as to how the amount of devaluation was worked out by it. In essence, the impairment was nothing but normal business risk which business faces and any loses arising therefrom was to be considered as operating expenses only. The comparable entities might have similar impairment. The averaging process as applied in TNMM would take care of these aspects and the assessee could not be considered at a disadvantage vis-a-vis the comparable entities and therefore, the objections were rejected. 4.3 The assessee sought exclusion of M/s Jolly Board Ltd. on the ground that it was into construction related activities and not comparable to assessee. The assessee also submitted the segmental data was not available for this entity. However, Ld. DRP concurred with TPO’s observations that the income from construction activities was minimal. Upon perusal of annual report, it could be seen that this entity was in the
ITA No.2176/Chny/2017 - 7 - business of manufacturing of boards and ceiling tiles which could be considered as functionally comparable since under TNMM similarity of functions is more important that the actual products. However, so far as the construction activities are concerned, the same should have been factored into by Ld. TPO since the same was non-comparable to the assessee. The net revenue from construction activities and the proportionate indirect expenses could be excluded to determine the profits-margin of this entity from manufacturing segment which is considered similar to that of the assessee. Accordingly, Ld. TPO / AO was directed to re-determine the profit margin of this entity. Pursuant to these directions, Ld. TPO has re-computed the margin of this entity as 34.25% which has reduced the TP adjustment to Rs.555.46 Lacs. 4.4 Regarding management fees, it was held by Ld. DRP that the activities were in the nature of stewardship only and would not be required to be remunerated separately. The assessee failed to produce any document to substantiate the claim that the service was actually rendered. The assessee failed to justify the volume and quality of services and the amount paid by it to its AE. The agreement was very general and non-specific in nature. Finally, the action of Ld. TPO in determining the ALP as Nil was upheld. 4.5 Aggrieved as aforesaid, the assessee is in further appeal before us. Our findings and Adjudication 5. It is undisputed fact that the assessee has incurred impairment losses of Rs.464.67 Lacs during the year. The assessee has also paid compensation to the vendors for termination of the contract. Both these items, though debited in the Profit & Loss Account, were added back by
ITA No.2176/Chny/2017 - 8 - the assessee in its computation of income (page 237 of the paper-book). In other words, these items have been treated by the assessee to be not tax deductible, being non-operative in nature. From the facts, it is discernible that the impairment losses arose due to extra-ordinary circumstances. The factory assets were revalued on account of closure of manufacturing operations and the assets were disposed-off in the subsequent years. The assessee customer did not purchase the quantity committed by them prior to setting up of plant and the assessee was unable to utilize the idle capacity. Owing to adverse market conditions, the assessee decided to discontinue manufacturing operations which could not be said to be routine business activities since the same would dent assessee’s financial substantially. This event could be considered as one-off event and not part of routine business activities. This fact has adequately been highlighted by the assessee in its financial statements. This is further evident from the fact that depreciation and amortization (including impairment loss) has jumped from 222.43 Lacs in earlier year to Rs.677.93 Lacs in this year. No such losses have been observed in the summarized financial statements of the comparable entities as extracted by Ld. TPO in para-8 of his order. Therefore, the impairment losses of Rs.464.67 Lacs, in our considered opinion, have to be treated as non-operating expenditure and the same are to be excluded while computing assessee’s PLI. The decision of Delhi Tribunal in Insofer Mfg. India Pvt. Ltd. (ITA Nos.5158/Del/2015 & ors. Dated 21/08/2020) also support the view that the impairment losses were not related to normal business operation and therefore, could not be treated as operating expenditure to compute assessee’s PLI. Therefore, we direct
ITA No.2176/Chny/2017 - 9 - Ld. TPO to consider impairment loss as non-operating in nature and re- compute assessee’s PLI. The grounds thus raised stand allowed. 6. Regarding selection of M/s Jolly Boards Ltd, upon perusal of financials of this entity (page nos.717 to 784 of paper-book), we find that this entity is in composite business i.e., manufacturing as well as in realty and property development. However, segment-wise or product-wise performance has not been provided. Its other income includes profit on sale of investments and income (net) from property development. Therefore, in such a case, in the absence of segmental results, it would be very difficult to derive the segment-wise financial results by apportioning indirect expenditure as directed by Ld. DRP. Therefore, this entity could not be held to be comparable to the assessee. We direct Ld. TPO / AO to exclude this entity from final set of comparable. The grounds raised by the assessee, in this regard, stand allowed. 7. The last issue is determination of ALP of management fees of Rs.42.84 Lacs paid by the assessee to its AE, it is undisputed fact that the assessee has entered into management service agreement with its AE wherein its AE is required to perform certain management services such as corporate sales and marketing services, corporate administration, IT services, technical services etc. as required by the assessee from time to time. Pursuant to the agreement, the assessee has paid the sum to its AE. These payments are recurring in nature and always allowed to the assessee in earlier years as well as in subsequent years. The opinion of lower authorities that the services should be need based or the same should bring benefits to the assessee has no logic since the requirement of the services has to be assessed from assessee’s point of view. The assessee had filed email communications
ITA No.2176/Chny/2017 - 10 - etc. in support of receipt of services which has been billed on monthly basis by AE. Therefore, to determine of the ALP of these transactions, merely on the basis of presumptions, could not be held to be sustainable. The decision of Chennai Tribunal in Siemens Gamesa Renewable Power (P.) Ltd. (92 Taxmann.com 330) held that the ALP of management fees could not be taken as nil in the absence of a valid comparable. The lower authorities could not simply arrive at a conclusion that the quality and volume of services as received by the assessee were not commensurate with the payment made. In this order, the bench has referred to various other decisions taking the same view. We find that ratio of this decision is squarely applicable to the facts of the present case. Accordingly, we direct Ld. TPO / AO to delete this TP adjustment. The grounds thus raised stand allowed. 8. The appeal stands partly allowed.
Order pronounced on 18th May, 2022.
Sd/- Sd/- (MAHAVIR SINGH) (MANOJ KUMAR AGGARWAL) उपा23 /VICE PRESIDENT लेखा सद; / ACCOUNTANT MEMBER चे,ई / Chennai; िदनांक / Dated : 18-05-2022 EDN/- आदेश की Wितिलिप अ8ेिषत/Copy of the Order forwarded to : 1. अपीलाथ�/Appellant 2. ��यथ�/Respondent 3. आयकर आयु� (अपील)/CIT(A) 4. आयकर आयु�/CIT 5. िवभागीय �ितिनिध/DR 6. गाड� फाईल/GF