MX SYSTEMS INTERNATIONAL P. LTD,MUMBAI vs. DCIT 12(3)(2), MUMBAI

Assessee by: Shri. Chetan A. Karia Revenue by : Shri. Pavan K Beerla (DR) सुनवाई की तारीख /Date of Hearing : 24-04-2019 घोषणा की तारीख /Date of Pronouncement : 22-07-2019 आदेश / O R D E R PER RAMIT KOCHAR, Accountant Member These two appeals, filed by two separate assessee’s, being & 1889/Mum/2015 respectively , both for assessment year 2010-11 , involves I.T.A. No.1888/Mum/2015 common issues and hence these two appeals were heard together and disposed off by this common order. 1.2 First , we shall take up appeal of the assessee namely MX System International Private Limited in ITA no. 1889/Mum/2015 for AY 2010-11 , which appeal filed by the assessee has arisen against assessment order dated 29.12.2014 passed by learned Assessing Officer( hereinafter called “the AO”) u/s 144C(13) read with Section 143(3) of the Income-tax Act,1961 ( hereinafter called “ the Act”), which in turn was passed in pursuance to Directions issued by learned Dispute Resolution Panel-IV, Mumbai( hereinafter called “ the DRP”) dated 19.12.2014 issued u/s 144C(5) of the 1961 Act . Earlier, the AO passed draft assessment order dated 14.03.2014 u/s 144C(1) read with Section 143(3) of the 1961 Act , wherein transfer pricing additions were made by the AO in the aforesaid draft assessment order based on order dated 30.01.2014 passed by learned Transfer Pricing Officer, Mumbai (hereinafter called “the TPO”) u/s 92CA(3) of the 1961 Act. Subsequently, the assessee filed objections before learned DRP against the aforesaid draft assessment order dated 14.03.2014 passed by the AO , which were disposed off by learned DRP by issuing directions dated 19.12.2014 u/s 144C(5) of the 1961 Act.

“In the facts and circumstances of the case and in Law:-

1. 1. The Hon'ble DRP failed to not appreciate that no proper show cause notice was served by the TPO complying with the mandatory requirement of section 92CA(3) read with section 92C(3) of the Act and accordingly TP adjustment made by learned TPO/AO suffers from legal infirmity and was void abinitio.

2. The Hon'ble DRP has failed to appreciate that the AE M/s. Minimax PO is a PE in India and regularly assessed in India also as a Foreign company which is assessable at a higher rate of tax then the assessee. Thus there is no possibility of shifting profit outside India or erosion of country's tax base. Accordingly no transfer pricing adjustment were called for in respect of transactions entered with the said AE.

3. The Hon'ble DRP has erred in holding that transfer pricing provisions relating to the transactions done with Minimax PO during the F. Y.2009-10 which is a PE are applicable in the appellant case without appreciating the fact that following the provision of Indo German DTAA and non-discrimination clause therein PE should be treated as residence of India only.

Systems International Private Limited

Nature of transaction Amount (Rs.) Method Adopted Sr. No. 1 Purchase of Raw material 2,77,41,929 Transaction Net Margin Method ('TNMM’) 2 Sale of Cylinders 3,34,675 TNMM 3 Sale of Materials 33,43,52,572 TNMM 44,08,571 4 Receipt of Services TNMM 1,10,80,015 5 Provision of Services TNMM 6 Purchase of Capital Goods 20,65,937 CUP ('Comparable Uncontrolled Price') 540,000 Cost 7 Allocation of Rent and other services 8 Reimbursement of expenses 44,13,758 Cost 9 Recovery of expenses 15,35,344 Cost 3.4 In TP study report(TPSR), the assessee was selected as tested party and Operating profit/Operating Cost was taken as PLI . The international transactions were benchmarked at entity level by applying TNMM. In TPSR, it is mentioned that the above transactions of purchase and sale are undertaken for completing the ongoing projects in India. Further, the provision and receipt of services are also ancillary to the completion of these projects. Therefore , these transactions are closely linked and hence are to be evaluated collectively. 3.5 The working of the assessee’s PLI were as under:-

Amount in Rs Particulars Sales 74,40,88,809 Operating Expenses 76,92,97,738 Operating Profit (-) 2,52,08,929 Operating Margin (-)3.28 3.6 The assessee selected two comparables after undertaking search process in Prowess. The margins of the comparables are as under:- F.Y.2007-08 FY 2008-09 FY 2009- 10 Name of Weighted company average S.No. 1 Kidde India Ltd -2.51% -11.00% .... -6.75% 2 —— 30.85% 21.99% 26.42% Nitin Fire Protection Arithmetic Mean 21.99% 9.84% 3.7 The TPO rejected Kidde India Ltd. as comparable for the following reasons , as detailed hereunder:- “Kidde India Ltd needs to be rejected for the following reasons : i) Single-year margin needs to be considered for considered and since the data of the said company is not available for FY 2009-10, the company cannot be considered for benchmarking. ii) Even if weighted average margin of three years is taken, it is seen that the company is a consistent loss-maker. In atleast two out of last three years, losses were shown.”

3.8 Thus finally PLI was taken to be that of Nitin Fire Protection Industry Ltd., i.e. for FY 2009-10 at 21.99% and the adjustments were made to ALP of the international transactions entered into by the assessee with its AE, to the tune of Rs. 19,43,77,502/- , which adjustment to ALP was worked out by TPO as under: (Amount In Rs.)

Operating Income(A) 744,088,809.00 Operating Cost(B) 769,297,738.00 Operating Profit(C) -25,208,929.00 OP/OC(actual) -3.28% Arm’s Length OP/OC 21.99% Arm’s Length operating profit(D)=B X 21.99% 169,168,572.99 Arm’s Length operating income(E)=D+B 938,466,310.59 Adjustment =E-A 194,377,501.59 3.9 The AO framed draft assessment order dated 14.03.2014 u/s. 143(3) r.w.s. 144C(1) of the 1961 Act accepting TP additions as were made by TPO in its order passed u/s 92CA(3) of the 1961 Act. In its draft assessment order, the AO had also disallowed an amount of Rs. 17,61,702/- towards foreseeable loss on the ground that the same is contingent in nature. 3.10 The assessee filed objection against draft assessment order with learned DRP-IV, Mumbai which were dismissed by learned DRP by issuing its direction dated 19.12.2014 u/s. 144C(5) of the Act , as under: “ Directions of DRP 8.6. As regards the argument that three year data should be considered, while it is correct that multi year data is allowed by the transfer pricing provisions, however, the same is allowed subject to fulfilment of the condition that ‘such data reveals facts which could have an influence on the determination of transfer prices in relation to the transactions being compared.’ In the arguments presented by the assessee, while it has generally argued for allowance of multi-year data, no facts relating to the present case have been brought out as influencing the determination of transfer price in its case. This being the case, the arguments are for argument's sake and devoid of hard and/ or ascertainable facts having bearing on the case under consideration. This issue has been considered and decided by Special Bench of ITAT in the case of M/s. Aztec Software Vs. ACIT 107 ITD 141 (Bang.)(SB), which has held that data for the relevant period alone is to be considered. The use of data only for F.Y.2009-10 is in accordance with the provisions of 92C(3). Accordingly, the objections of the assessee are not found to be tenable. 8.7. The assessee has argued for adjustment to its own PLI for the losses incurred. Adjustments to the PLI of the tested entity is not permissible under the domestic transfer pricing provisions and rules. This has been acknowledged and affirmed in various decisions of ITAT. For instance in a recent decision in the case of DCIT vs EDAG Engineers & Design India Pvt. Ltd. reported in (2014) 111 DTR (Del) (Trib) 70 it was held in Para 5 that 'The CIT(A) granted impugned relief by making adjustments, on account of capacity underutilization, in the results shown by the tested party and thus computing hypothetical financial results which the tested party would have achieved in perfect conditions. Such an exercise is impermissible. As is the undisputed legal position, such comparability adjustments can only be made in the comparables and not the tested party itself. It is specifically provided in Rule 10B (1)(e)(iii) that adjustments for variations, which could materially affect the amount of net profit margin in the open market in comparable uncontrolled transactions, are to be made in respect of net profits realized by the comparable transactions or enterprises. The CIT(A) was thus clearly in error in proceeding to make capacity underutilization adjustments in the profits earned by the assessee. That apart, in the case of a one hundred percent captive service unit, as is the assessee before us, the very concept of capacity underutilization may not really make any sense unless the assessee has not been able to offer, for reasons beyond its control, the underutilized capacity to its AE. There is no finding on this aspect of the matter. As the assessee does not have the liberty to work for any other customer, and is wholly dependent on its AE for productive, use of its capacity to work, the AE should normally make good any losses to the captive unit caused by its not being able to make use of the available capacity. In the case before this, the AE has indeed given some financial support to the assessee which has been reduced from the ALP adjustment figure, and the business rationale of AE's extending financial support to the assessee is thus not in doubt, However, there is nothing on record to show how this financial support has been computed and is on what ground, and on what basis this financial support is given. The reason for underutilized capacity and the facts regarding financial support extended to the assessee are not clear from the material on record. The CIT(A) has granted the impugned relief merely by making capacity underutilization adjustments to the profits achieved bv the tested party, but then such an approach, as we have noted earlier, is wholly unsustainable in law. "(emphasis supplied) Some amount has been considered by the assessee for reduction out of the expenses/ addition to receipts in working out the PLI at 50.84%. It is not possible to verify the correctness or accuracy of this claim and the same is hypothetical and not factual. Such adjustment to determine PLI of tested entity does not have sanction of law. The claim is rejected. - 8.8. It has been argued that M/s. Kidde India Ltd which had been included as comparable in preceding year should not be excluded in the current year on ' principles of consistency. But at the same time the assessee has sought to exclude M/s. Nitin Fire Protection Industries Ltd. this year when it was included as comparable in the preceding year. Thus, the assessee has contradicted its argument and fails on the consistency argument expounded. The argument of consistency is therefore rejected. . 8.9 It has been argued that the TPO had not complied with the mandatory provision of Sec.92CA r.w. proviso to 92C(3) and therefore principle of natural justice was violated. If there was any lack of opportunity, the order does not become void but only remains voidable. The submissions filed before the TPO in this regard dated 20/01/2014 (paper book page 273) shows that the issue was discussed and clarifications were furnished by assessee. It is seen that an opportunity has admittedly been given through the order sheet noting. In any case, any deficiency in the opportunity has been made good during the DRP proceedings. Accordingly, this ground is dismissed. 8.10. The assessee has claimed that its own PLI should be taken as (-) 0.93% as against (-) 3.28% reported in TSPR and considered and accepted by the TPO. In the submissions filed it is seen that items of income that it had considered as non operating earlier, is now claimed to be operating. Similarly, expenses that it had claimed to be operating earlier, is now claimed to be non operating. Such income are foreign exchange gain, recovery of rent and salary expenses. These are non operating and are therefore rightly excluded by the TPO. The expenses now excluded are claim for forseeable loss. It is now claimed that this is an extraordinary expense claim. On the one hand the assessee claims that this is a valid expense claim in computing the taxable income, but for transfer pricing it claims that this is an estimate and extraordinary. This is clearly an inconsistent stand. The assessee has modified its argument as it suits it. The PLI computed by assessee reported in TSPR and accepted by TPO warrants no interference. 8.11. It has been argued that transfer pricing provisions should not be made applicable as the transactions are with the Minimax PO which is a PE and therefore treated as domestic / resident tax payer and non discrimination clause of DTAA will apply. This is not acceptable. it is noted that . . - the transactions are reported as International Transactions by the assessee itself in report in Form 3CEB . - the transactions therein are reported not merely with Minimax PO but also with Minimax GMBH from whom purchases/imports, sale of cylinders, import purchase of capital goods , receipt of services and other transactions are reported,. -the return of income is filed in respect of Minimax GMBH in the status as Foreign Limited Liability Partnership Firm with rate of tax applicable to other than domestic company. - the relevant contracts entered into by Minimax GMBH with L & T Ltd and other companies and the contract entered into by MX Systems with Minimax Gmbh and/or Mimimax PO is not filed, but from the submissions it is clear that the some of the transaction of the assessee relating to execution of turnkey contracts is with Minimax PO but is dictated and governed by the primary contract entered into by Minimax GMBH. Thus, without prejudice, even if it is treated that Minimax PO is a domestic entity, the transactions are clearly influenced by Minimax GMBH and its management is same as Minimax Gmbh and therefore it is covered u/s 92A. - In COCA COLA INDIA INC. vs. ASSISTANT COMMISSIONER OF INCOME TAX & ORS. The Hon'ble HIGH COURT OF PUNJAB & HARYANA, reported in (2009) 309 ITR 194 in answering the question (iii) Whether provisions of Chapter X are attracted when both the parties to a transaction are subject to tax in India, in absence of allegation of transfer of profits out of India or evasion of tax ? held that "52. We have already reproduced the amended provisions of Chapter X. According to the petitioner, the same should be held to be inapplicable, as making the same applicable will render them unconstitutional. The petitioner has not challenged their validity. We do not find any substance in the submission that if the said provisions are made applicable to the petitioner, the same would be unconstitutional. There is no lack of legislative competence for enacting the said provisions and making them applicable to the petitioner or to a class of persons falling in the category of the petitioner. Potential of multinational companies to allocate profits in intra groups transactions to outside jurisdiction or resulting in tax evasion is an acknowledged fact and is duly recognized in legislation, not only in India but elsewhere also. Keeping in view this mischief to be remedied and to advance the object of taxing the real income, provisions have been enacted. The amended provisions certainly advance the declared object by laying down the requirement of and mechanism for determination of ALP. 'International transaction' and 'associated enterprises' have been well defined under ss. 92B and 92A of the Act. International transaction is a transaction between two or more associated enterprises, either or both of whom are non-residents. Associated enterprise is an enterprise which participates in management or control of capital or other gains. The provision for computing ALP has been applied to income arising from international transactions. The statute is, thus, applicable to well defined class which meets the test of intelligible differentia. It also meets the test of rational relationship to the object i.e. to determine the real income. The income arising from international transaction is to be computed having regard to ALP as per guidelines laid down in s. 92C of the Act by adopting one of the laid down methods, at the discretion of the competent authority. Mere fact that the assessee has chosen one of the said methods, does not take away the discretion to select any other method which may be considered to be more appropriate for the purpose of determining the true income. Proviso to s. 92C(3) of the Act provides for an opportunity to the assessee as to why ALP should not be determined as proposed. Under s. 92CA of the Act, the AO can make a reference on the issue of computation of ALP to a TPO. The TPO is required to issue notice to the assessee to lead evidence for determining what was the ALP.

Sr.No. Name of the Project Code Amount customer 1. VOLKS WAGAN 101935680011 1,750 2. VIKAS TELCON 1001725980011 29,764/- 3. MAHINDRA PUNE 1-020211-800-11 15,89,804/- 4. MINIMAX DIAL-DELHI 101896680011 1,40,385/- Total amount 17,61,703/- It was stated that the reason for the foreseeable loss was the delay in the completion of the projects. The assessee is following a percentage completion method of accounting. Directions of DRP 9.3 The assessing officer has noted that the details with supporting/ justification for making this claim was not filed. Even before the Panel, mere figures are stated and reference to AS-7 is made but details to show that the claim is correct is not available. The objection is dismissed.”

3.11 This led AO to frame assessment order dated 29.12.2014 u/s. 143(3) r.w.s. 144C(13) of the 1961 Act, wherein aforesaid additions as per directions of learned DRP were made to the income of the assessee. 4 Now aggrieved with the additions as were made to the income of the assessee by authorities below, the assessee has filed an appeal with tribunal. The learned counsel for the assesssee has submitted before the Bench that the assessee is engaged in providing fire safety to various buildings in different sectors of economy. It was explained that 74% of equity is held by its foreign parent namely Minimax GmbH Co. KG. Our attention was drawn to the directions issued by DRP. It was explained that fire safety contract was awarded by DIAL in favour of L&T, who in turn sub-contracted work to Minimax GmbH who further in turn awarded work to the assessee. The assessee has in its TPSR submitted had included Nitin Fire Protection Industries Limited and Kidde India Limited as comparable. The TPO accepted Nitin Fire Protection Industries Limited while rejected Kidde India Limited as comparable. The contention of the assessee before the tribunal is against exclusion of Kidde India Ltd. as comparable , which as per assessee could not be rejected as the said comparable was accepted by TPO in immediately preceding year also. Secondly, the learned counsel for the assessee has taken an objection that merely because Kidde India Ltd. had made loses , the same cannot be rejected as comparable as it is in the same business of fire safety. Further assessee has also objected to the inclusion of Nitin Fire Protection Industries Ltd., on the grounds that it is also in the business of trading of fire equipments while the assessee is only into the business of executing turnkey projects in the field of fire safety. The assessee has also pleaded that Nitin Fire Protection Industries Ltd. has related party transactions of more than 25% and hence the same should be excluded as comparable. It is also pleaded by learned counsel for the assessee to include new comparables viz. New Fire Engineers Pvt. Ltd. as well Logicon Building Systems Pvt. Ltd. as comparables for computing ALP of its international transaction with AE’s . It is also pleaded before the Bench that in assessee’s own case multiple year data should be used to benchmark its international transactions with AE’s as the projects which are undertaken by assessee are long term projects with completion cycle of 2-3 years. The Ld. Counsel for the assessee has submitted that the assessee will be pressing ground no. 4, 5, 6, 7, 8 ,10 and 11, while other grounds being ground number 1,2,3,9, and 12 raised by assessee in memo of appeal filed with tribunal be dismissed as not being pressed .The prayers are made that ground number 4-8 , 10 and 11 raised by assessee in memo of appeal filed with tribunal be set aside and restored to the file of the AO for fresh adjudication on merits in accordance with law. 4.2. The Ld. DR did not objected for the dismissal of ground no. 1, 2, 3, 9 and 12 raised by assessee in its memo of appeal filed with tribunal which are not being pressed. The learned DR also fairly agreed that the matter can be restored to the file of AO/TPO for fresh adjudication on merits in accordance with la. 4.3. The learned counsel for the assessee submitted that Rule 10B of Income-tax Rules, 1962 be applied and abnormal expenses incurred by the 15 | P a g e assessee towards project over-run be excluded. It was also submitted that the authorities below while making assessments in the case of the assessee as well Minimax Gmbh & Co. KG are different and prayers are made that since common issues are involved it will be in the interest of justice if there are co-ordinating among both the AO/TPO of both these assessee’s to have co-ordinated assessment so that conclusions do not differ on similar facts.

Nature of transaction Amount (Rs.) Method Adopted Sr. No. 1 Purchase of Raw material 2,77,41,929 Transaction Net Margin Method ('TNMM’) 2 Sale of Cylinders 3,34,675 TNMM 3 Sale of Materials 33,43,52,572 TNMM 4 Receipt of Services 44,08,571 TNMM 1,10,80,015 5 Provision of Services TNMM 6 Purchase of Capital Goods 20,65,937 CUP ('Comparable Uncontrolled Price') 540,000 Cost 7 Allocation of Rent and other services 8 Reimbursement of expenses 44,13,758 Cost 9 Recovery of expenses 15,35,344 Cost 5.4 In TP study report, the assessee was selected as tested party and Operating profit/Operating Cost was taken as PLI . The international transactions were benchmark at entity level by apply TNMM. In TPSR, it is mentioned that the above transactions of purchase and sale are undertaken for completing the ongoing projects in India. Further, the provision and receipt of services are also ancillary to the completion of these projects. Therefore , these transactions are closely linked and hence are to be evaluated collectively were the contentions of the assessee before the authorities below. 5.5 The working of the assessee PLI was as under:-

Amount in Rs Particulars Sales 74,40,88,809 Operating Expenses 76,92,97,738 Operating Profit (-) 2,52,08,929 Operating Margin (-)3.28 5.6 The assessee in its TPSR selected two comparables after undertaking search process in Prowess. The margins of the comparables are as under:- F.Y.2007-08 FY 2008-09 FY 2009- 10 Name of Weighted company average S.No. 1 Kidde India Ltd -2.51% -11.00% .... -6.75% 2 —— 30.85% 21.99% 26.42% Nitin Fire Protection Arithmetic Mean 21.99% 9.84% 5.7 The TPO rejected Kidde India Ltd. as comparable for the following reasons , as detailed hereunder:- “Kidde India Ltd needs to be rejected for the following reasons : i) Single-year margin needs to be considered for considered and since the data of the said company is not available for FY 2009-10, the company cannot be considered for benchmarking. ii) Even if weighted average margin of three years is taken, it is seen that the company is a consistent loss-maker. In atleast two out of last three years, losses were shown.”

5.8 Thus finally PLI was taken to be that of Nitin Fire Protection Industry Ltd., i.e. for FY 2009-10 at 21.99% and the adjustments were made to ALP of the international transactions entered into by the assessee with its AE, to the tune of Rs. 19,43,77,502/- , which adjustment to ALP was worked out by TPO as under: (Amount In Rs.)

Operating Income(A) 744,088,809.00 Operating Cost(B) 769,297,738.00 Operating Profit(C) -25,208,929.00 OP/OC(actual) -3.28% Arm’s Length OP/OC 21.99% Arm’s Length operating profit(D)=B X 21.99% 169,168,572.99 Arm’s Length operating income(E)=D+B 938,466,310.59 Adjustment =E-A 194,377,501.59 5.9 The said adjustments to ALP were approved by learned DRP and objections filed by the assessee were dismissed. The AO has also made additions to the income of the assessee towards provisions for losses made to the tune of Rs.17,61,702/- being contingent in nature. stature of transaction Amount (Rs.) Method Adopted Sr. No. 1 Purchase of Raw material 2,77,41,929 Transaction Net Margin Method ('TNMM’) 2 Sale of Cylinders 3,34,675 TNMM 3 Sale of Materials 33,43,52,572 TNMM 4 Receipt of Services 44,08,571 TNMM 5 Provision of Services 1,10,80,015 TNMM 6 Purchase of Capital Goods 20,65,937 CUP ('Comparable Uncontrolled Price') 7 540,000 Cost Allocation of -Rent and other services 8 Reimbursement of expenses 44,13,758 Cost 9 Recovery of expenses 15,35,344 Cost 5.10 The assessee has claimed that it is engaged in executing turnkey projects in the filed of fire safety and that M/s. Kidde India Ltd. is also engaged in executing turnkey projects in the field of fire safety. It is also claimed that in the preceding year TPO has accepted M/s. Kidde India Ltd. and it is claimed that merely because there is a loss incurred by M/s. Kidde India Ltd. during the year under consideration , the said comparable cannot be rejected. We have observed that Kidde India Limited has not only incurred losses for both the years (as per audited financial statements for the year ended 31.03.2010 placed on record) but its networth has also been eroded completely due to accumulated losses exceeding networth. The accumulated loss are to the tune of Rs. 92.99 crores as against share capital and reserves and surplus, which are to the tune of Rs. 69.91 crores. The said Kidde India Limited has also been dealing in sale of products and spares which is as much as 32% of operating income . No doubt consistency is to be followed in income-tax proceedings but principles of res judicata are not applicable in income-tax proceedings. The onus is on the assessee to bring on record cogent material to substantiate inclusion of Keddy India Limited as comparable for computing ALP. 5.11 So far as Nitin Fire Protections Limited is concerned , perusal of audited financial statements for the year ended 31.03.2010 will reveal that apart from providing turnkey solutions including procurement , designing, system integration, commissioning and installation of safety and security solutions , is also in manufacturing and trading activities. 5.12 It was submitted before us that in these turnkey projects, the project cycle is of 2-3 years and comparable profits for last three years should be taken , as assessee is into executing turnkey project which take two to three years to execute/complete . It is also claimed that assessee has incurred extraordinary expenses due to delay in DIAL project and these extraordinary expenses incurred should be excluded while computing PLI of the assessee . The assessee apart from comparables as selected in TPSR through searches in Prowess, has also introduced new comparables namely New Fire Engineers Pvt. Ltd. and Logicon Building Systems Pvt. Ltd. which were not accepted by learned DRP as comparables mainly on the grounds that these comparables were not selected by assessee while conducting its TPSR through Prowess. The learned DRP rejected these comparables firstly that the assessee cannot be allowed to do cherry picking of comparables and secondly financial segment data’s are not available to make FAR analysis for comparison with assessee. The onus is on assessee to bring on record cogent material to prove that these comparables are functionally comparable with that of the assessee. 5.13 The learned counsel has prayed that in the interest of justice , matter may be restored to the file of the AO/TPO for fresh adjudication on merits in accordance with law after considering all the contentions of the assessee. The learned DR has also fairly submitted that the issues in this appeal can