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Income Tax Appellate Tribunal, DELHI BENCH ‘I-1’ : NEW DELHI
Before: HON’BLE, SHRI G.D. AGRAWAL & SHRI KULDIP SINGH
Date of Hearing : 12.11.2018 Date of Order : 19.11.2018 O R D E R
PER KULDIP SINGH, JUDICIAL MEMBER :
1. The Appellant, M/s. Sennheiser Electronics India Pvt. Ltd. (hereinafter referred to as ‘the taxpayer’) by filing the present appeal sought to set aside the impugned order dated 22.12.2016 passed by the AO in consonance with the orders passed by the ld. DRP/TPO under section 143 (3) read with section 144C of the Income-tax Act, 1961 (for short ‘the Act’) qua the assessment year 2012-13 on the grounds inter alia that :-
“General Grounds:
That the impugned order of assessment framed by the assessing officer in pursuance of the directions of the Dispute Resolution Panel (hereinafter referred to as 'DRP') under Section 143(3) read with Section 144C of the Income- tax Act, 1961 ('Act'), is bad in law, violative of principles of natural justice and void ab-initio.
1.1 That the assessing officer erred on facts and in law in determining income of the appellant at Rs.3,39,05,406 against returned total income of Rs. Nil (after set-off of brought forward loss and depreciation) under the normal provisions of the Act.
1.2 That the assessing officer erred on facts and in law in determining income of the appellant at Rs.26,952,818 on protective basis against returned total income of Rs. Nil (after set-off of brought forward loss and depreciation) under the normal provisions of the Act. Transfer Pricing Adjustment for Advertisement, Marketing And Sales Promotion ('AMP') expenses:
Transfer Pricing Adjustment for Advertisement, Marketing and Sales Promotion (‘AMP’) expenses
2. That the assessing officer/ TPO erred on facts and in law in making addition to the income of the appellant of Rs.3,74,72,708 on account of the alleged difference in arm's length price of the international transaction of advertisement, marketing and promotion expenses.
2.1 That the assessing officer / TPO erred on facts and in law in making addition to the income of the appellant of Rs.3,05,19,120 on protective basis on account of the alleged difference in arm's length price of the international transaction of advertisement, marketing and promotion expenses.
3. The DRP erred on facts and in law in upholding the finding of the TPO that the AMP expenses incurred by the appellant constituted an international transaction.
3.1 That the DRP erred on facts and in law in holding that there exists an international transaction of incurring AMP expenses allegedly holding that the appellant has reported reimbursement received from associated enterprises on account of AMP expenses as an international transaction in form 3CEB
3.2 The DRP/TPO erred on facts and in law in not appreciating that AMP expenses, etc., unilaterally incurred by the appellant in India could not be characterized as an international transaction as per section 92B of the Act, in the absence of any proved understanding / arrangement between the appellant and the associated enterprise (hereinafter referred to as 'AE').
3.3 The DRP/ TPO erred on facts and in law in not appreciating that the only Transfer Pricing adjustment permitted by Chapter X of the Act was in respect of the difference between the arm's length price (ALP) and the contract or declared price, but the said provision could not be invoked to determine the 'quantum' / extent of business expenditure.
3.4 The TPO/DRP erred on facts and in law in relying upon the decision of the Special Bench of the Tribunal in case of LG Electronics (ITA No. 5140/De1/2011) to hold that AMP expenses incurred by the appellant constitutes an international transaction, not appreciating that the said judgment has been overruled by the Hon'ble Delhi High Court in the case of Sony Ericsson Mobile Communications 374 ITR 118.
3.5 That the DRP erred on facts and in law in not appreciating that the reimbursement on account of AMP expenses was received from the associated enterprises in respect of specific marketing activities/events and did not relate to the entire advertisement and marketing expenditure incurred by the appellant
3.6 That the TPO erred on facts and in law in holding that the appellant is operating as a limited risk distributor not appreciating that the appellant was characterized as a normal risk bearing or full risk bearing distributor in the transfer pricing documentation maintained by the appellant.
3.7 That the DRP erred on facts and in law in arbitrarily holding that "it is the AE, which directs the AMP strategy and expenditure done by the assessee in India" not appreciating that the appellant, as an independent entrepreneur, is responsible for controlling and coordinating the marketing activities and incurring advertisement, marketing and promotion expenses for the purpose of it's business in India.
3.8 The DRP/TPO erred on facts and in law in not appreciating that the advertisement and marketing expenses were incurred by the appellant wholly and exclusively for purposes of its business and not on behalf of or for the benefit of the AE; any benefit to the AE being only incidental.
3.9 The DRP/ TPO erred on facts and in law in holding that expenditure incurred by the appellant which resulted in benefit by way of brand building and increases sales for the foreign AE, and therefore resulting in a transaction of creating and improving marketing intangibles for and on behalf of its foreign associated enterprise
3.10 The DRP/ TPO erred on facts and in law in holding that advertisement, marketing and promotion expenses incurred by the appellant resulted in transaction of provision of a brand building services by the appellant to the associated enterprise.
3.11 Without prejudice that the DRP/TPQ erred on facts and in law in not appreciating that no adjustment on account of allegedly excessive AMP expenses is warranted in the case of the appellant even if AMP expenses incurred by the appellant are separately benchmarked applying the guidelines prescribed by the Hon'ble Delhi High Court in the case of Sony Ericsson Mobile Communications India Pvt Ltd 374 ITR 118
3.12 Without prejudice that the DRP/TPQ erred on facts and in law, in not appreciating that the AMP expenses incurred by the appellant was appropriately established to be at arm's length applying TNMM.
3.13 That the DRP on facts and in law erred in not holding that the AMP expenditure I function, being closely linked with its operation of sales and distribution of headphones etc. and the profit margin of the appellant being higher than the comparable companies and application of Transactional Net Margin Method (TNMM) having been accepted by the Revenue, no separate adjustment was required to be made in respect of such AMP expenses
3.14 That the DRP erred on facts and in law in relying upon the BEPS report not appreciating that the recommendations of the said report are not part of the Indian Transfer Pricing legislation.
3.15 Without prejudice that the DRP erred on facts and in law in relying upon examples 8-13 of the BEPS report not appreciating that the said examples provide for compensation in respect of AMP expenses in various forms including by way of adjustment to purchase price of goods
3.16 The DRP erred on facts and in law in alternatively making protective adjustment of Rs. 30,519,120 and upholding the use of Bright Line Test ('BL T) even though the use of BLT is not mandated under the Transfer Pricing regulations and has been rejected by the Hon'ble Delhi High Court in the case of Sony Ericsson Mobile Communications Ltd 374 ITR 118.
3.17 Without prejudice that the DRP/TPO erred on facts and in law in considering selling expenses for the purpose of computing protective adjustment on account of allegedly excessing AMP expenses incurred by the appellant
3.18 Without prejudice to the above mentioned Objection, the DRP/TPO erred on facts and in law in adopting a mark- up of 12.06% on the basis of prime lending rate and an adhoc increase to the same, without furnishing any evidence and basis for adopting such a rate.
3.19 Without prejudice, the DRP/ TPO erred on facts and in law in not reducing the reimbursement received by the assessee amounting to Rs.10,674,331, while computing the arm's length price of alleged international transaction of provision of brand building services.
3.20 Without prejudice, the DRP/TPO erred on facts and in law in considering recovery made by the appellant from its AEs on account of advertisement expenses incurred at their behest as Rs.9,304,419 instead of the correct amount of Rs.10,674,331, while computing the protecting adjustment on account of alleged international transaction of provision of brand building services.”
Briefly stated the facts necessary for adjudication of the controversy at hand are : M/s. Sennheiser Electronics India Pvt. Ltd., the taxpayer is a subsidiary of Sennheiser Electronic GmbH & Co., KG (holding company), primarily into the business of sales and distribution of headphones, microphones, monitoring systems, tour guide systems and aviation headsets. It imports goods from Sennheiser Group companies for reselling through its distributors in India. The taxpayer distributes all brands of Sennheiser group, namely, Sennheiser, Sennheiser Communications, Neumann and Klein and Hummel and its service center is located at Haryana, Mumbai and Bangalore and it services products within and outside warranty. Its major product range is Microphones, aviation headphones, spares, earphones, headphones, headsets, wired and wireless microphones and box/speakers.
During the year under assessment, the taxpayer entered into international transactions with its AE as under :-
S.No. Type of international Method Selected Total value transaction MAM PLI of transaction (Rs.) i. Purchase of goods Transactional Operating 192,717,790 Net Margin profit/ ii. Provision of services 19,992,561 Method Operating iii. Allocation of expenses 978,832 sales paid iv. Reimbursement of 926,903 expenses paid v. Interest expenses paid 487,203
During the TP proceedings, TPO noticed that the taxpayer has incurred significant amount of Rs.402,42,425/- on account of Advertisement, Marketing and Promotional (AMP) expenses, which is 10.26% of its sales which is tabulated as under :-
Particulars Amount (in INR) Sales 392,060,969 AMP expenses 40,242,425 AMP Sales 10.26%
Two major issues have cropped up before TPO – one : whether there is a resistance of international transactions on account of enhanced AMP expenses; and two : that the benchmarking needs to be carried out for its international transaction including the reimbursement that has been made by the Associated Enterprises (AE). Out of AMP expenses of Rs.402,42,425/-, taxpayer received reimbursement of Rs.93,04,419/- from its AE for the AMP expenses incurred by it.
TPO, after declining the contention raised by the taxpayer, reached the conclusion that since the taxpayer has incurred a cost with regard to the benefits and services provided to the AE, the benefit of which in the form of AMP expenses is flowing to the AE and thus created valuable marketing intangibles, thus benefited the Sennheiser brand in India as the taxpayer is not the legal owner of the brand in India. The ld. TPO, by applying the decision of Special Bench decision rendered by the Tribunal in case of LG Electronics India Pvt. Ltd. (ITA No.5140/Del/2011), rejected the contentions raised by the taxpayer that the expenses were incurred for its own activity in India and is for the benefit of Indian business only.
TPO accordingly proposed that the taxpayer has incurred Rs.229,49,081/- under the head ‘AMP’ which is purely for brand promotion. However, the TPO excluded Rs.79,88,925/- included by the taxpayer under the head “Selling & other expenses” from the computation of AMP treating the same as sales promotion expenses and thereby proposed ALP adjustment relating to AMP expenses at Rs.374,72,708/-.
TPO used Bright Line Test (BLT) for computation of percentage of AMP to sales by determining the bright line limit.
TPO by examining indirect expenses made by the taxpayer added further mark-up of 3% on the AMP spent amount and determined the total mark-up of 12.06% on AMP spent and proposed that the taxpayer should have been compensated by the AE to the tune of Rs.355,37,693/- plus mark-up of 12.06% for undertaking AMP activities for its AE. TPO proposed the ALP of AMP expenses as under :-
Substantive adjustment (Para 8.1.3) Rs.37,472,708 Protective adjustment (Para 8.2.5) Rs.30,519,120
The taxpayer carried the matter before the ld. DRP by filing objections who has disposed of the objections. Feeling aggrieved, the taxpayer has come up before the Tribunal by way of filing the present appeal.
We have heard the ld. Authorized Representatives of the parties to the appeal, gone through the documents relied upon and orders passed by the revenue authorities below in the light of the facts and circumstances of the case.
Undisputedly, TPO/DRP have used BLT in order to compare the AMP expenses of the taxpayer with that of the comparables. It is also not in dispute that the TPO has relied upon Special Bench decision of the Tribunal rendered in LG Electronics India Pvt. Ltd. (supra) in applying the BLT for determining the existence of international transactions in order to compute the ALP of such transactions, which has since been over-ruled. It is also not in dispute that the TPO made TP adjustment on AMP expenses on the ground that the taxpayer has incurred huge expenses of AMP which has benefited its AE by developing marketing intangibles and brand name of its AE. It is also not in dispute that the TPO has taken into consideration that the taxpayer has not only deployed its funds but also deployed his trained manpower for providing AMP services.
In the backdrop of the aforesaid facts and circumstances of the case, the sole question arises for determination in this case is :-
“as to whether BLT applied by TPO/DRP in this case is an appropriate method for determining the international transactions and in return to further calculate the ALP of such international transactions ?”
Undisputedly, TPO/DRP followed the LG Electronics India Pvt. Ltd. (supra) decided by Special Bench of the Tribunal applied the BLT in order to decide the issue if AMP expenditure by the taxpayer is an international transaction leading to the brand building of its AE. Hon’ble Delhi High Court has since overruled the LG Electronics India Pvt. Ltd. (supra) decision. When the Hon’ble Delhi High Court in Sony Ericsson India Pvt. Ltd. v. CIT (2015) 374 ITR 118 (Del.) and subsequently in Maruti Suzuki India Ltd. v. CIT (2016) 328 ITR 210 (Del.) has categorically held that BLT is not a valid basis for determining the existence of international transaction or for that matter for computing the ALP of such international transaction involving AMP expenses, the order of TPO passed by making BLT as basis of the ALP adjustment is not sustainable in the eyes of law.
Furthermore, Hon’ble Delhi High Court in subsequent decisions viz. Bausch & Lomb Eye Care (India) Pvt. Ltd. v.
Additional CIT (2016) 381 ITR 227 (Del.) and Honda Siel Power Products Ltd. v. Dy. CIT (2016) 237 Taxman 304 held that it is for the Revenue to firstly discharge the onus to prove the existence of an international transaction between the taxpayer and its AE and only thereafter ALP of international transactions involving AMP can be computed.
In the instant case, there is not an iota of material on the file apart from applying the BLT and by taking the view that the taxpayer has incurred huge AMP/sales expenses to the tune of 10.26%, no cogent material is there to treat the incurring of AMP expenses as international transaction more particularly when basis for treating the AMP expenses as international transaction i.e. BLT is not a legally sustainable method.
Hon’ble Delhi High Court in Valvoline Cummins Private 16.
Limited in ITA 158/2016 order dated 31.07.2017 categorically held that merely because of the fact that the taxpayer was permitted to use the brand name “Valvoline” will not automatically lead to an inference that any expense incurred by the taxpayer towards AMP was only to enhance the brand. To prove this fact, the Revenue is required to prove specific arrangement or agreement between taxpayer and the AE leading to the conclusion that AMP expenses incurred by the taxpayer was not for its own benefit but for the benefit of its AE.
So, we are of the considered view that merely by applying the BLT, the existence of international transactions cannot be proved and as such the adjustment made by the TPO/DRP/AO on this account is not sustainable in the eyes of law. We are further of the considered view that ALP expenses incurred by the taxpayer were not for the benefit of AE but only to enhance sales of the taxpayer. Identical issue has already been decided by the coordinate Bench of the Tribunal in favour of the taxpayer in taxpayer’s own case for AY 2013-14 having identical facts and same business model as in the year under consideration wherein the TPO had also computed the ALP of the international transactions by applying BLT.
Learned DR for the Revenue, although admitted the legal position enunciated in the preceding paragraphs, but he contended that since all the aforesaid decisions are lying challenged before the Hon'ble Apex Court, the matter may be kept pending till the decision by Hon'ble Apex Court. However, we are of the considered view that since it is a stay granted matter and the proceedings before the second appellate authority have not been stayed by any higher forum, the same cannot be kept pending.
After considering the legal position as discussed in the preceding paragraphs, we are of the considered opinion that the ALP of an international transaction involving AMP expenses, the adjustment made by the TPO/DRP/AO is not sustainable in the eyes of law. At the same time, we cannot ignore the submission of the learned DR that the matter is pending before Hon'ble Apex Court and the decision of Hon'ble Apex Court would be binding upon all the authorities. In view of the above, we set aside the orders of authorities below and restore the matter to the file of the Assessing Officer. We hold that as per the facts of the case and the legal position as of now and discussed above in this order, the adjustment made by the TPO/DRP/AO in respect of AMP expenses is not sustainable. However, if the above decisions of Hon'ble Jurisdictional High Court which is under consideration before the Hon'ble Apex Court is modified or reversed by the Hon'ble Apex Court, then the Assessing Officer would pass the order afresh considering the decision of Hon'ble Apex Court. In those circumstances, he will also allow opportunity of being heard to the assessee.
Resultantly, the appeal filed by the assessee is allowed pro tanto. Order pronounced in open court on this 19th day of November, 2018.