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Income Tax Appellate Tribunal, DELHI BENCHES : I-1 : NEW DELHI
Before: SHRI R.S. SYAL & SHRI K. NARASIMHA CHARY
ORDER PER R.S. SYAL, VP: This appeal filed by the assessee is directed against the final assessment order passed by the AO u/s 143(3) read with section 144C of the Income-tax Act, 1961 (hereinafter also called ‘the Act’) on 24.01.2017 in relation to the assessment year 2012-13.
The only issue raised in this appeal is against the addition of Rs.9,93,69,480/- made by the Assessing Officer on account of transfer pricing adjustment.
Succinctly, the factual matrix of the case is that the assessee was incorporated in India in 1996 as a 74:26 joint venture between TS Tech.
Co., Japan and Sun Vacuum Formers Pvt. Ltd., a company registered under the Indian Companies Act, 1956. The assessee started its operations in India in 1997 and is engaged in manufacturing auto ancillaries. It manufactures car seats, door trims, seat frames, etc. for Honda cars and two-wheelers in India. The entire manufacturing is done by the assessee from its plants located in Noida, Manesar along with a new plant in Pathredi set up during the year under consideration for two- wheeler scooter seats. The assessee filed return of income along with Form No.3CEB declaring 11 international transactions. The Assessing Officer (A.O) referred the question of determination of arm’s length price (ALP) of the international transactions to the Transfer Pricing Officer (TPO). In the present appeal, we are concerned only with two international transactions, namely, Payment of royalty amounting to Rs.6,46,47,851/- and Payment of Technical know-how fees amounting to Rs.16,73,28,883/-. The assessee applied Transactional Net Margin Method (TNMM) on entity level as the most appropriate method to demonstrate that all its international transactions including the transactions of payment of Royalty and Technical know-how fees were at ALP. The TPO accepted the other international transactions at ALP.
He, however, did not accept the aggregation approach adopted by the assessee for benchmarking these two international transactions. After entertaining objections from the assessee, he applied Comparable Uncontrolled Method Price (CUP) in respect of the two international transactions under challenge. For this purpose, he computed Selling, Administration and General Expenses/Sales (SAG expenses/Sales) ratio of the assessee at 8.59%. 14 comparables taken by the assessee were considered initially. Their average SAG expenses/Sales ratio was computed at 11.81%. Later on, the TPO noticed in para 49 of his order 3 that only such companies should be taken as comparable whose SAG expenses/Sales ratio was near about the assessee company’s. That is how, four comparables were shortlisted with their mean SAG expenses /Sales ratio of 8.59%, as under:-
S.No. Name of comparables SGA Expenses/Sales (%) 1. Bimetal Bearings Ltd. 7.95% 2. Fiem Industries Ltd. 7.71% 9. Motherson Sumi Systems Ltd. 8.62% 14. Unitech Machines Ltd. 11.81%
Tested Party 8.59%
Thereafter, the TPO worked out Royalty and Technical know-how fees to Sales ratio of these four companies as under:-
S.No. Name of comparables Sales Royalty and Royalty Technical Sales (%) Know-How Fees 1. Bimetal Bearings Ltd. 1,88,80,93,318 0.00% 2. Fiem Industries Ltd. 5,79,85,42,859 50,00,000 0.09% 3. Motherson Sumi Systems 38,88,00,00,000 17,70,00,000 0.46% Ltd. 4. Unitech Machines Ltd. 8,07,95,44,000 0.00% Average 0.14% Tested Party 2,60,99,05,616 23,19,76,734 8.89%
Considering the assessee’s ratio of Royalty and Technical know- how fees/Sales ratio at 8.89% and that of the comparables finally selected at 0.14%, the TPO worked out excess payment made by the assessee, warranting transfer pricing adjustment, at Rs.22,84,43,734/-.
The assessee approached the Dispute Resolution Panel (DRP). Vide its direction dated 17.01.2017, the DRP did not approve the assessee’s approach of aggregation and affirmed the adoption of CUP and also the mechanism adopted by the TPO for determining the ALP of the international transaction of Royalty and Technical services fees under such method. However, a direction was given to restrict the disallowance to the amount debited to the Profit & Loss Account. This was necessitated because the assessee paid Technical know-how fees and capitalized the same. A part of such expenditure was claimed as depreciation. The TPO, in his analysis, considered the entire amount of Technical know-how fees capitalized for the purpose of computing transfer pricing adjustment, which action was restricted by the DRP to only such amount of Technical know-how as was amortized by way of a debit to the Profit & Loss Account. Out of the four comparables taken 5 by the TPO, the DRP excluded Bimetal Bearings Ltd. and Unitech Machines Ltd., being, the companies which had not paid any Royalty and Technical know-how fees. Pursuant to the directions given by the DRP, the TPO, vide his order dated 12.01.2017, reduced the amount of transfer pricing adjustment to Rs.9,93,69,480/- from the originally proposed adjustment at Rs.22.84 crore. The fresh amount of transfer pricing adjustment was determined by considering Royalty and Technical know-how fees/Sales ratio of the two existing comparables, namely, Fiem Industries Ltd. and Motherson Sumi Systems Ltd. at 0.28%. The assessee’s actual expenses of Royalty and Technical services fees (after restricting it to the amount of depreciation claimed) were determined at Rs.10.68 crore and the ratio of such expenses to sales was determined at 3.91%. Excess of the assessee’s Royalty/Technical Services fee to Sales ratio over and above the arm’s length Royalty/Technical Services fee to Sales ratio of the two comparables, was treated as foundation for the transfer pricing adjustment. The Assessing Officer, in the impugned order, made addition for this amount. The assessee is aggrieved against the addition. 6
We have heard the rival submissions and perused the relevant material on record. It is vivid that the assessee applied the TNMM to show that all of its international transactions including Royalty and Technical Services fee were at ALP on entity level. The TPO did not approve the aggregation of all the international transactions and applied the CUP as the most appropriate method in the manner discussed above for determining the ALP of the international transactions of Royalty and Technical Services fee.
The ld. AR contended that firstly, the TPO applied the CUP method in a manner unknown to law and secondly, he erred in disregarding the aggregate approach.
We espouse the first contention to examine if the TPO applied the CUP method in correct perspective. It can be seen that he worked out the mean percentage of 0.28% of two comparables, namely, Fiem Industries Ltd. and Motherson Sumi Systems Ltd. with the numerator of total of Royalties and Technical services fees and denominator of Sales. It is this 0.28% which has been considered for making transfer pricing adjustment of Rs.9.93 crore. In order to evaluate the stand point of the TPO, it is relevant to consider the mandate of Rule 10B(1)(a) which deals with the determination of ALP under the CUP method, as under :-
“(a) comparable uncontrolled price method, by which,— (i) the price charged or paid for property transferred or services provided in a comparable uncontrolled transaction, or a number of such transactions, is identified ; (ii) such price is adjusted to account for differences, if any, between the international transaction and the comparable uncontrolled transactions or between the enterprises entering into such transactions, which could materially affect the price in the open market ; (iii) the adjusted price arrived at under sub-clause (ii) is taken to be an arm’s length price in respect of the property transferred or services provided in the international transaction ;”
A careful perusal of the mechanism provided under Rule 10B(1)(a) for determining the ALP of an international transaction divulges that under sub-clause (i), the price charged or paid for services provided in a comparable uncontrolled transaction is identified. Under sub-clause (ii), the price so determined under sub-clause (i) is adjusted to account for differences, if any, between international transaction and the comparable uncontrolled transactions. Under sub-clause (iii), the adjusted price arrived under sub-clause (ii) is taken as ALP in respect of property transferred or services provided in the international transaction. Thus, it is explicit from the mandate of sub-clause (i) of Rule 10B(1)(a) that it is the ‘price charged or paid’ for the services provided in a comparable uncontrolled transaction, which is taken into consideration. It is this adjusted price paid for availing services which constitutes the benchmark for comparison with the price paid for availing of any services in an international transaction. Corollary of the above is that the price paid for availing of services in a comparable uncontrolled transaction is compared with the price paid in an international transaction. The emphasis under the CUP method is on the comparison of price paid for availing services.
When we advert to the facts of the instant case, it is found that the TPO has simply computed ratio of the expenses of Royalty and Technical services fees to Sales of the comparables at 0.28% and, then, proceeded to apply such benchmark for determining the ALP of the two international transactions under consideration. In the entire episode, there is no reference to the price paid by the comparables as a yardstick for comparing with the price paid by the assessee. The approach adopted by the TPO, as approved by the DRP, does not conform to the prescription of rule 10B(1)(a) inasmuch as he sought to compare percentage of expenses to sales rather than the price paid under a comparable uncontrolled situation. Ergo, we cannot countenance the mechanism applied under the CUP method, which is not in consonance with the procedure prescribed under the relevant rule. Similar view has been taken by the Delhi Tribunal in the case of Gruner India Pvt. Ltd. vs. DCIT [TS-202-ITAT-2016(DEL)-TP] vide its order dated 29.04.2016 in whose copy has been placed on record by the ld. AR. That case, based on similar facts, also proceeded in the same way at the hands of the TPO as is the extant case. It has been brought to our notice that the said order of the Tribunal was contested before the Hon'ble High Court. Vide judgment dated 20.12.2016, the Hon'ble Delhi High Court in Gruner India Ltd. Vs. DIT (2016) 97 CCH 0179 DelHC did not disturb the overturning by the Tribunal of the similar mechanism adopted by the TPO of applying the CUP method and 10 working out the transfer pricing adjustment by considering the Royalty and Technical services fee to Sales ratio of that assessee as well as the comparables. It is, therefore, held that the TPO did not correctly compute the ALP of the international transactions of Royalty and Technical Services fee under the CUP method.
11. The ld. AR accentuated the point that the application of the TNMM under the aggregate approach adopted by the assessee in the instant case was correct and the same ought not to have been discarded and substituted with the CUP method in respect of the international transactions in dispute. For this proposition, he relied on the judgment of the Hon’ble jurisdictional High Court in Gruner India Pvt. Ltd. (supra).
On going through the above judgment, we find that the Tribunal in that case did not approve the application of the TNMM on entity level and upheld the application of the CUP method for determining the ALP of the international transactions of Royalty and Technical services fee. It was argued by the assessee before their Lordships that aggregation approach was the correct method. After considering its earlier judgments in the case of Sony Ericson Mobile Communication India Ltd. vs. CIT (2015) 374 ITR 118 (Del) and Magneti Marelli Powertrain India Pvt. Ltd. vs. DCIT (2016) 290 CTR (Del) 60, the Hon'ble High court remitted the matter to the TPO for considering the question of aggregation and application of the correct methods afresh in the hue of discussion made in the order. Following observations of the Hon’ble High Court merit mention in this regard : - `10. In the light of the above discussion, it is held that the entire issue as to whether aggregation is warranted in the circumstances, should be gone into afresh in view of the law declared in Sony Ericsson (supra) and clarified in Magneti Marelli (supra) above.
As far as the issue of most appropriate method is concerned, this Court is of the opinion that no definitive ruling ought to be given at this stage. As to whether in the event of de-segregation the CUP method is the most appropriate rather than TNM method should in our opinion be left open for consideration depending on the determination of the issue of aggregation/ de-segregation itself. In other words, that whether in the event of de-segregation, which would be the appropriate method, should be left to the TPO to decide, after hearing counsel for the parties. However, we clarify that in the event it is held that aggregation is permissible in the facts of this case, the findings of the Revenue authorities and the Tribunal that the TNMM method was warranted, would not be disturbed.
12. In the light of the above findings, the appeal is partly allowed. The matter is remitted for re-consideration by the concerned TPO, 12
who shall hear counsel for the parties and render findings on both aspects.’
Since the facts and circumstances of the instant case are mutatis mutandis similar to those of Gruner India Pvt. Ltd. (supra), respectfully following the precedent, we also set aside the impugned order and remit the matter to the file of Assessing Officer/TPO for a fresh adjudication in the light of the guidance provided in the case of Gruner India Pvt. Ltd. (supra).
Some submissions were advanced by the ld. AR in support of the contention that even if the CUP method is applied to the international transactions of Royalty and Technical know-how fee, still no transfer pricing adjustment would be called for. Towing the line laid down in Gruner India (supra), we do not propose to record or deal with such submissions as the matter is being sent back to the TPO for firstly, examining the question of aggregation or segregation of the international transactions and then applying the correct method for determining the ALP of the two international transactions, if these are not to be considered in a combined manner with other international transactions on entity level.
In the result, the appeal is allowed for statistical purposes.
The order pronounced in the open court on 13.12.2017.