ASB INTERNATIONAL P.LTD,THANE vs. ASST CIT CIR 1, KALYAN

PER PAWAN SINGH, JUDICIAL MEMBER; 1. These two appeals by assessee are directed against the assessment order under section 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961, passed in pursuance of the direction of Disputes Resolution Panel-1, Mumbai [hereinafter referred to as the “DRP”] dated 29.11.2016 & 28.08.2017 for Assessment Year 2012-13 and 2013-14 respectively . In both the appeals, the assessee raised certain common grounds of appeal, therefore, both the appeals were clubbed, heard & 1765 Mum 2017-ASB International P. Ltd. together and are decided by common order. For appreciation of fact, the appeal for Assessment Year 2012-13 was treated as lead case. For appreciation of facts the appeal for AY 2012-13 is treated as lead case, the assessee has raised following grounds of appeal:

2. On the facts and in the circumstances of the case and in law, the learned AD erred in referring the matter to the learned TPO without applying his mind on the benchmarking analysis undertaken by the Appellant and without recording any reasons to show that the' conditions mentioned in section 92C and section 92CA of the Act have been satisfied. 3. On the facts and in the circumstances of the case and in law, the learned TPO and the learned AD under the directions of the Hon'ble DRP erred in making an adjustment of Rs 12,00,25,306 on account of sales to associated enterprise ('AE'). 3.1 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AD under the directions of the Hon'ble DRP erred in comparing the AE segment with the non-AE segment thereby not appreciating the qualitative (not quantitative) difference in the business model of the two segments. 3.2 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AD under the directions of the Hon'ble DRP erred in observing that the Appellant is not engaged in contract manufacturing and alluding that a fixed remuneration on cost plus basis has to be provided to contract manufacturers and thereby contract manufacturers should not bear a risk without appreciating that, in business transactions between independent entities, no entity would agree to pay to another a fixed remuneration on a cost plus basis and make it completely free of all risks. 3.3 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in comparing the AE segment with the non-AE segment thereby not appreciating the fact that each of the two segments conducts its business in different markets (the AE segment in the contractors market facing only the 2 & 1765 Mum 2017-ASB International P. Ltd.

principal manufacturers and the non-AE segment in the general manufacturer's market facing the end users). 3.4 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in comparing the AE segment with the non-AE segment thereby not appreciating the significant differences in functions undertaken, assets employed and risks borne by the AE segment and the non-AE segment, and the fact that such differences are too significant, as a consequent of the qualitative difference of the business models, to apply any adjustments thereto. 3.5 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in not comparing the AE segment with the external contract manufacturer comparables which are the best ALP indicator of and the closest comparables to the AE segment. 3.6 On the facts and in the circumstances of the case and in law, the Hon'ble DRP erred in not appreciating the additional evidence filed during the course of proceedings before the Hon'ble DRP. 3.7 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in making an adjustment to the Appellant's international transactions by applying adjustments on an ad-hoc manner which is not reasonable and accurate. 3.8 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in disregarding the benchmarking analysis applying Transactional Net Margin Method ('TNMM') undertaken by the Appellant as per the provisions of the Act. 3.9 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in not comparing the AE segment with appropriate external comparables as identified in the Appellant's Transfer Pricing Study report after granting appropriate adjustments for difference in risks while applying TNMM. 3.10 On the facts and in the circumstances of the case and in law, the Hon'ble DRP erred in not allowing relief as per its earlier order solely on the ground that its order is not appealable in the year under consideration, notwithstanding that there are no changes in facts as compared to the earlier year.

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4. On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in making an adjustment of Rs 14,02,70,282 on account of royalty paid to the AE. 4.1 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in disregarding the benefits received by the Appellant in lieu of payment of royalty and considering the ALP of the international transaction of payment of royalty as Nil. 4.2 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in disregarding the fact that the royalty transaction is closely linked and inter- related with the other international transactions of the Appellant. 4.3 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in not considering the entity level benchmarking analysis carried out by the Appellant under the TNMM to justify the royalty transaction. 4.4 On the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP erred in disregarding the analysis carried out under the comparable uncontrolled price method and submitted by the Appellant on a without prejudice basis. 4.5 Without prejudice to the other ground of appeal

, on the facts and in the circumstances of the case and in law, the learned TPO and the learned AO under the directions of the Hon'ble DRP, erred in not appreciating that transaction of royalty cannot be benchmarked using the profit split method.

5. On the facts and in the circumstances of the case and in law, the learned AO under the directions of the Hon'ble DRP erred in not allowing Rs 54,383 as deduction of the payment of employee's contribution to Employees' State Insurance Corporation. The Appellant prays that the addition made by the learned AO / TPO and upheld by the Hon'ble DRP be deleted and consequential relief be granted. The assessee also raised following additional/ revised grounds of appeal Being aggrieved by the order of the learned ACIT, Circle - 1, Kalyan, ('AO'), read with the order of the learned Dispute Resolution Panel ('DRP'), Mumbai, the assessee begs to revise/ replace the ground of appeal corresponding to earlier Ground of Appeal No.4, with the following grounds:

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4. The lower authorities, erred in upholding the adjustment of Rs. 14,02,70,282/- to the income of the assessee on account of royalty paid by the assessee to its associated enterprise.

5. The lower authorities ought to have held that the royalty at 12% of the domestic sales is at arm's length. 5.1. The non-AE segment of the assessee has earned a segmental profit of 15.81% for the year under consideration, after paying royalty at 12% of the domestic sales. Thus, the profit before royalty is 27.81 % for non-AE segment. 5.2. Further, the manufacturing activity of the AE segment has resulted in a segmental profit of 4.63%. Also, a margin of 3% has been granted by the TPO himself suo motu as the margin on the sales function undertaken by the assessee, in A Y s 2010-11, 2011-12 and the current year. 5.3. In view of the above, the royalty of 12% of sales is at arm's length. This is so since the total profit for the non-AE segment before royalty (27.81 %), as reduced by the profit for manufacturing activity (4.63%), and the profit attributable to sales function (3%), amounting to 20.18% (27.81% - 4.63% - 3%), is much more than the royalty paid at 12%. 6. The lower authorities, ought to have noticed that the above methodology meets the provisions laid down in Rule 10AB of the Income-tax Rules, 1962, read with section 92C(1)(f) of the Income-tax Act, 1961, and is the most appropriate method in the present facts, also being retrospective in operation and hence applicable to the year under consideration. 7. The lower authorities, erred in not noticing that the above methodology also broadly corresponds with the provisions laid down in second proviso to Rule 10B(1)(d) of the Income-tax Rules, 1962, relating to Profit Split Method. 8. The lower authorities, erred in not noticing that the above methodology is also in accordance with Paragraph 6.139 of the revised 2015 OECD transfer pricing guidelines, and Paragraph 13 of the 1979 OECD transfer pricing guidelines. 9. The lower authorities, erred in not noticing that the Comparable Uncontrolled Price (CUP method is not the most appropriate method, particularly in the facts of the case which involves royalty for manufacturing of capital goods / assets being injection stretch blow moulding machines. 10.The lower authorities, erred in applying the CUP method, even after their own findings that the comparables are not available particularly in light of & 1765 Mum 2017-ASB International P. Ltd.

Rule 10C(2)(c) of the Income-tax Rules, 1962, and hence CUP cannot be the most appropriate method in the facts of the present case.

Machines & Moulds, filed its return of income for Assessment Year 2012-13 on 27.11.2012 declaring total income at Rs. 25,68,76,640/-.

Subsequently, a revised return of income was filed declaring the same income. During the assessment the assessing officer noted that in the Form No. 3CEB the assessee has reported international transaction with its associated enterprises (AE) exceeding of Rs. 15 crore. The Assessing Officer made a reference for under section 92CA(1) to the Transfer Pricing Officer (TPO) for determination of Arm’s Length Price (ALP). The TPO vide its order dated 30.01.2016 proposed the adjustment of Rs. 26,02,95,588/-, consisting of royalty paid to AE of Rs. 14,02,70,282/- and sales made to the AE of Rs. 12,00,25,306/-. On receipt of report of TPO, the Assessing Officer passed a draft assessment order dated 29.02.2016 and made the addition suggested by TPO.

3. The Assessing Officer also made addition/disallowances of Rs. 54,383/- under section 2(24)(x) and 36(1)(va) by taking view that the 6 & 1765 Mum 2017-ASB International P. Ltd. assessee made a payment of employee contribution of ESI (wrongly mentioned as PF in draft assessment order) beyond time allowed under section 36(1)(va). Before making disallowance, the Assessing Officer issued show-cause notice for such disallowance. The assessee filed its reply and stated that due to technical problem with ESIC web-site there was delay in deposit of contribution. The contribution for the month of June 2012 was due on 20.07.2012, however, it was actually deposited on 21.07.2012. The explanation furnished by assessee was not accepted by Assessing Officer. The Assessing Officer disallowed the entire claim/deposits of ESIC. On service of draft assessment, the assessee exercised its option to file objection before the DRP. The DRP vide its direction dated 29.11.2016 upheld the adjustment suggested by TPO by following the direction of DRP for preceding year i.e. for Assessment Year 2011-12 holding that there is no change in the facts of the case. The DRP also upheld the disallowance on account of delay in deposit of ESIC contribution. Therefore, the Assessing Officer passed the assessment order in pursuance of direction of DRP. Aggrieved by the additions on account of transfer pricing adjustment and addition on account of 36(1)(va) the assessee has filed present appeal before this Tribunal. & 1765 Mum 2017-ASB International P. Ltd.

Particulars AY 2012-13 Royalty payment 12% & 1765 Mum 2017-ASB International P. Ltd.

Non-AE segment profit (after royalty, as per 15.81% segmental results) Profit before royalty …. (A) 27.81% Profits reasonably attributed to sales 3% Profit attributable to Non-AE segment …(B) 15.81% Royalty attributable (A) – (B) 12%

6. The ld. AR for the assessee further submits that irrespective of adjustment made on sales margin issue and royalty benchmarking are eventually two issues and are not connected to each other and both the issue be decided independent of each other. On the additional grounds/revised ground the ld AR for the assessee submits that the assessee has not raised new plea in the revised grounds and all the facts related to the revised grounds are emanating from the record.

“6.We have heard the rival submissions and perused the material before us. We find that the assessee was supplying goods to its AE.s and non-AE.s, that assessee had considered the entity level data for determining the ALP of the IT.s., that the TPO applied internal TNMM and made an upward adjustment of Rs. 27.31Croes,that he gave an allowance of 3% on account of 'delay in receivables and after sales services and other efforts made under the non- AE business', that the assessee filed additional evidences before the DRP and argued that it was a contract manufacturer or akin to contract manufacturer, that the DRP held that internal TNMM could not be applied 10 & 1765 Mum 2017-ASB International P. Ltd. straight away, that the assessee had filed a list of four comparables, that the DRP rejected one of the comparables holding that it was suffering losses and that contract manufacturer could not suffer losses, that no adjustment was allowed on account of capital employed.

6.1.Section 92 and the Rules dealing with TP proceedings were brought on statute to ensure that the price paid by an assessee to its AE for the goods sold/purchased or services rendered/ availed is not less than the fair market value. In short, for an IT, the assessee should charge the same price from its AE as it would have charged from a unknown third party. For determining ALP one of the several methods can be used and several factors have to be considered. But, the base remains the same i.e. determination of fair market value of a transaction entered in to. Fairness demands that the assessee as well as the revenue authorities should avoid arbitrariness ,while determining ALP of an IT. Both should use some reasonable data to prove that IT is above board. Adhoc adjustments, in our opinion, goes against the basic concept of TP. In the case under consideration 3% and 8% allowance was given by the TPO and the DRP. But, how they arrived at those figures is not known. The reasons for adopting a certain percentage does not find place in their orders. They have not discussed as to what was the material that gave them the basis for allowing 3% and 8% adjustment on account of 'delay in receivables and after sales services' and considering the factors like 'bulk manufacturing orders received from AE.s and geographical locations'. But, both the authorities have not cited the instances where an independent assessee, in similar circumstances, had claimed that adjustment on account 'delay in receivables' 'geographical factors' etc. was approximately 3% or 8%.No judicial forum has adopted the said percentage on account of delay in receivables/ bulk manufacturing/geographical location. Even if they had some material supporting their stand, same has not been brought on record. Thus, the order passed by them is a non-speaking order and it falls under the category of an order passed without assigning reasons. Such orders cannot be endorsed. As a representatives of the State, they are supposed to raise and collect only Due taxes from the subjects. As per the scheme and provisions & 1765 Mum 2017-ASB International P. Ltd. of the Act, due taxes cannot be determined by making adhoc allowances/disallowances. Before the DRP, the assessee had filed a list of comparables and it was not considered in proper perspective. A comparable cannot and should not be rejected only on the basis of loss suffered by it for a particular year. A persistent loss making comparable can be excluded. But, in the case under consideration, the comparable had not suffered loss year after year. After admitting that internal TNMM could not have been applied straight away, the DRP should have deliberated upon the issue of determination of ALP in a more rational manner. But, it just adopted the easiest route- an ad hoc allowance. It is a fact that more than 60% of the sales turnover of the assessee is with non- AE.s and the profit ratios of non- AE.s and AE.s cannot be same. Besides, the assessee had entered in to an agreement with its AE for supply of goods and working capital adjustment is required to be made. All these factors would affect the ALP of the transactions. Considering the peculiar facts and circumstances of the case, we are of the opinion that the matter needs further verification and investigation. So, in the interest of the justice, we are restoring the matter to the file of the TPO/AO to decide the issue afresh. While determining the ALP, he should consider the data of the companies who are engaged in such activities that are similar or closer to the activities of the assessee and the turnover with the AE.s and Non-AE.s should be of similar volumes. In short, some reasonable comparables should be selected after considering the FAR analysis of such comparable and only then exercise of determining ALP should be completed. Effective ground of appeal is decided in favour of the assessee, in part.”

No. 1 to 4 and the additional grounds of appeals are allowed for statistical purpose.

10. Ground No. 5 relates to disallowance of deduction of employee’s contribution to ESI. The AO disallowed the contribution by taking his view that it was deposited beyond prescribed time provided in ESIC Act. The ld DRP confirmed the same being covered by the CBDT Circular No. 22 of 2015. We have seen that the due date for deposit of employee’s contribution was 20.07.2012, however, it was deposited on 21.07.2012. The assessee explained before AO that due to technical fault with the website of ESIC it could not be deposited in time. We have noted that the assessee had deposited the contribution before ITA No. 7282 & 1765 Mum 2017-ASB International P. Ltd. filing of return of income. The Hon’ble Bombay High Court in CIT Vs Ghatge Patil ( 368 ITR 479 Bom) held that if the employer deposited the contribution of welfare of employee, before the due date of return of income, they would be entitled for such deduction as per the proviso of section 43B. Therefore, considering the same analogy we direct the AO to allow the deduction claimed by the assessee on account of employee’s contribution of ESI as it was paid before due date of filing the return of income the assessee. In the result the ground No. 5 of the appeal is allowed.

1. The lower authorities, erred in upholding the adjustment of Rs. 13,36,12,349/- to the income of the assessee on account of royalty paid by the assessee to its associated enterprise.

2. The lower authorities, ought to have held that the royalty at 12% of the domestic sales is at arm's length. 2.1. The non-AE segment of the assessee has earned a segmental profit of 4.94% for the year under consideration, after paying royalty at 12% of the domestic sales. Thus, the profit before royalty is 16.94% for non- AE segment. 2.2. Further, no adjustment has been made by the lower authorities to the shipping price from assessee to AE and thus the same represents arm's length profit of 2.41 % attributable to manufacturing activity.

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2.3. A margin of 3% has been granted by the TPO himself suo motu as the margin on the sales function undertaken by the assessee, in A Y s 2010-11, 2011-12 and 2012-13. 2.4. In view of the above, the royalty of 12% of sales is at arm's length. This is so since the total profit for the non-AE segment before royalty (16.94%), as reduced by the profit for manufacturing activity (2.41 %), and the profit attributable to sales function (3%), amounting to 11.53% (16.94% - 2.41% - 3%), would be comparable to the royalty paid at 12%.

4. The lower authorities, erred in not noticing that the above methodology also broadly corresponds with the provisions laid down in second proviso to Rule 10B(1)(d) of the Income-tax Rules, 1962, relating to Profit Split Method.

5. The lower authorities, erred in not noticing that the above methodology is also in accordance with Paragraph 6.139 of the revised 2015 OECD transfer pricing guidelines, and Paragraph 13 of the 1979 OECD transfer pricing guidelines.

7. The lower authorities, erred in applying the CUP method, even after their own findings that the comparables are not available particularly in light of Rule 10C(2)(c) of the Income-tax Rules, 1962, and hence CUP cannot be the most appropriate method in the facts of the present case.

Order pronounced in the open court on 22/07/2019.