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Income Tax Appellate Tribunal, “K” BENCH, MUMBAI
This appeal by the assessee is arising out of the order of Commissioner of Income Tax (Appeals)-15, Mumbai [in short CIT(A)], in appeal No. CIT(A)-15/Curr.167/14-15 dated 13.11.2014. The Assessment was framed by the Deputy Commissioner of Income Tax, Circle-3(3), Mumbai (in short ‘DCIT’) for the A.Y. 2010-11 vide order dated 15.03.2013 under section 143(3) of the Income Tax Act, 1961 (hereinafter ‘the Act’).
The only issue in this appeal of assessee is against the order of CIT(A) confirming the action of the AO in making adjustment of ₹ 5,02,05,493/- to the international transactions of purchase of finished goods for distribution by not accepting/adopting the Comparable Uncontrolled Price (CUP) method as the most appropriate method and by applying Transactional Net Margin Method (TNMM). For this assessee has raised the following grounds: - “1. Transfer pricing adjustment of ₹ 5,02,05,493/- 1.1 On the facts and in the circumstances of the case and in law, the learned Commissioner of Income Tax (Appeals) - 15 [CIT(A)] has erred, in confirming the action of the learned Dy. Commissioner of Income-Tax, Circle 3(3) [AO] of making an adjustment, of Rs, 5,02,05493/- to the international transactions (of purchase of finished goods for distribution) and consequently, an addition to the total income of the Appellant for the year under consideration.
1.2 The appellant submits that the learned CIT(A) has erred in not accepting and considering the appellant's basis and data submitted for adopting the Comparable Uncontrolled Price (CUP) method as the most appropriate method and rejecting the said CUP method.
1.3 Without prejudice to above, appellant submits that the learned CIT(A) has erred in also not accepting Resale Price Method (RPM) despite the fact the learned AO himself had proposed to adopt RPM in his show-cause notice. The CIT(A) has also wrongly observed that the appellant had rejected the RPM in the TP Study Report.
1.4 The learned CIT(A) has erred in not accepting internal comparables for application of RPM, which are preferred over external comparables.
1.5 Without prejudice to above, appellant submits that the learned CIT(A) has erred in confirming the action of learned AO for computing the arm's length price of purchases using Transactional Net Margin (TNMM) without considering all the facts and circumstances of the case.
1.6 The learned CIT(A) has been inconsistent in his approach, in as much as he rejected the application of internal RPM due to differences in the product comparability, while, he proposed the application of TNMM inspite of the product dissimilarity.
1.7 Without prejudice to above, the learned AO has erred in selecting and cherry picking comparable companies without any criteria I search process and without giving any reasonable and scientific justifications for the same. The learned CIT(A) has also erred in confirming the said approach.
1.8 Without prejudice to above, the learned CIT(A) has erred in accepting 3 so called comparable companies and rejecting the reasons of dissimilarity in the business of appellant vis-a-vis business of those so called comparable companies 1.9 The appellant submits that the adjustment computed by the learned CIT(A) is erroneous and faulty as the adjustment is made with respect to sales made by the appellant whereas the international transaction is in relation to purchase of traded goods.
1.10 The appellant submits that the adjustment computed by the learned AO which has been upheld by learned CIT(A) has resulted in absurd situation such that the amount of adjustment (Rs. 5,02,05,493/-) is more than the value of international transaction of purchases from associated enterprises (Rs. 3,85,26,535) thereby implying that the associated enterprise should have paid the appellant for selling the goods This itself is an absurd and non-arm's length situation.
1.11 The learned AO has erred in law and in facts, by making the transfer pricing adjustments to the entire turnover of the appellant instead of restricting such adjustments to the value of international transactions with the associated enterprise.”
Briefly stated facts are that the assessee company is engaged in the business of import and wholesale Trade of Knives, Watches, Travel Gear, Accessories and Cutlery, etc. The AO during the course of assessment proceedings noted that the assessee has submitted transfer pricing report in respect of international transaction entered with its AE as per form No. 3CEB. The assessee adopted CUP to benchmark the purchases of its product from its AE. The AO rejected the CUP Method and also rejected the Retail Price Method (RPM) by giving following findings in Para 5.3 as under: - “5.3 In response, the assessee made written submissions on 18.02.2013 and 08.03.2013. The submissions of the assessee have been carefully considered and have been contemplated as under: i. Rejection of CUP method a. In the detailed submissions, the assessee argued that CUP is the most appropriate method for benchmarking the international transactions relating to purchase of goods from Ae. In support of the same, it has produced list of transactions of the ae with third parties as substantiation for CUP. Apart from the above, it has also stated that the purchases made from AE and non AE are for different products and accordingly contended that there is no CUP available in respect of purchase using third parties. b. the contention of the assessee has been considered, however, the same is not acceptable. Further, the assessee failed to properly apply the CUP method to benchmark the international transaction. For example, the assessee has not been able to provide the sales data of the Ae made to the third parties in India. Importantly, the CUP demands a stringent and absolute comparison in respect of transactions which is to be benchmarked. However, the CUP provided by the assessee does not meet the standard laid out by the Rules and Regulations of Indian Transfer Pricing Laws. Hence, the argument of the assessee that CUP method adopted by it as the most appropriate method to benchmark the international transactions is rejected.”
It means that the AO rejected the CUP method stating the reason that the assessee has not provide the basic details of sales made by AE in India to third parties. Further, the AO also rejected the internal RPM by observing that the comparison of AE transactions vs. entity level of transactions of comparable level and the basis of justification for working out gross profit margins of purchases from AE. Further, according to him, Non-AE transaction are in respect of different products and are not comparable to AE segment and margins of non AE segment stands at 10.13%. According to him, segmental financials are not audited and hence are not reliable due to lack of proper justification. Accordingly, the AO followed the TNMM and selected following companies for benchmarking & having any arithmetic mean margin of 10.45%:-
Sr. Name of the company OP/ OI (%) No. 1. Saga Department stores 3.58 2. Allied Photographics India Ltd. 8.4 3. Hawkins Cookers Ltd. 19.31 Arithmetic Mean 10.45 5. Accordingly, the AO made an adjustment of ₹ 5.02 crores on the purchase transactions of ₹ 3.85 crores. Aggrieved, assessee preferred the appeal before CIT(A).
The CIT(A) held that no detailed comparison of sales made by AE to third parties have been given and hence, he rejected the CUP adopted by the assessee. The assessee’s submissions were that the AE’s of the assessee did not have sales in India as the assessee is not the sole distributor of AE’s in India. So AE would not make sales to third parties in India. But CIT(A) has not accepted the contention of the assessee. With regard to RPM the CIT(A) held that RPM was rejected by the assessee in the transfer pricing study report and further the internal RPM cannot be considered since for the application of internal RPM thereon as to protect the comparability which is not there in the case of assessee. The CIT(A) finally upheld the action of the AO regarding the applicability of TNMM despite the fact that before him, it was contended that comparables selected by the TPO were without applying proper search methodology and the same were not comparable to the assessee since the business of the comparable companies were functionally different than that of the assessee. He particularly referred to Hawkins Cookers Ltd. of which the profit margin is 19.3%. But CIT(A) rejected the contention of the assessee and upheld the TNMM and dismiss the appeal of the assessee. Aggrieved, assessee came in appeal before Tribunal.
Before us, it was contended that in subsequent years the assessee worked out its margin using RPM method and the same was also incorporated in the transfer pricing study report of the subsequent years and accepted by the TPO under section 92C(3) of the Act while passing orders for AYrs. 2012-13 to 2013-14. The learned Counsel for the assessee drew our attention to the TPO’s order placed in assessee’s paper book at pages 338. The learned counsel argued that the internal RMP should be considered and gross margin of sales earned in respect of purchase made from related parties should be compared with purchase made from un-related parties. According to him, for applying the RPM, it is necessary that the goods purchase from AE and non-AE belongs to the same category and not the present case of the assessee, the goods/products/purchases from both AE or non AE places in the same category i.e. travel accessories/wages. The assessee explained the fact that it is performing distribution services through the same supply chain to the same organization and the times of purchase from related and unrelated parties is also different. The other comparables adopted by AO falls under the category of travel accessories / wages hence, it cannot be stated the goods related to same category. In view of these facts, the learned Counsel stated that the assessee’s functions while selling products purchase from the AE as well as when selling products purchase from non AE are the same. And for applying RPM strict product comparability is not warranted. The learned counsel in respect of the same, placed reliance on OECD transfer pricing guidelines, wherein, it is held that knife and toaster belong to the same/ similar category of kitchen appliances and hence, the same is to be considered while applying RPM.
On the other hand, the learned Sr. DR relied on the Tribunal’s order in for AY 2003-04 order dated 30.10.2015, wherein the Tribunal has remanded the matter back to the file of the AO for applying the most appropriate method either RPM or TNMM. The learned Sr. DR only requested for set aside the matter to the file of the AO so that the matter can be referred to TPO for benchmarking the appropriate margin and after applying appropriate method.
We have heard the rival contentions and gone through the facts and circumstances of the case. The assessee import product from three associate enterprises i.e. from third parties which are then traded/ supplied to retail outlets in India. The assessee has purchased good worth Rs. 3.85 crores from its overseas associated enterprise for distribution in India and adopted CUP as the most appropriate method. We find that the assessee has also justified the ALP of the transaction using the RPM method whereby, gross margin earned by the assessee from sales of its products purchased from AE, where more than the gross margin earned from sales of product purchased from non AE’s. We have noticed that in the assessment order certain external comparables were given by the AO whose margin was 41.07% which in any case was lesser than the assessee margin of 48.16% in respect of ALP. The basis and justification for working out gross profit margin on purchases from AE is to be given. It is fact that the assessee is a whole seller and one to one particulars of products purchased and sold are available. The gross profit margin on purchases made from AE and non AE has been worked out accordingly by the assessee. We also find that for subsequent years similar working has been accepted by the TPO. Non AE transactions are in respect of different products which are not comparable to AE segment. It is also a fact that Margin of non AE segment stands at 10.13%. In this regard, as stated above, the goods/ products purchased from both AE and Non-AE relate to the same category and as per OECD guidelines for applying RPM method strict product comparability is not warranted. As regards the objection of the AO that segmental financials were not filed, for that the assessee has now filed segmental financials duly audited (copy already on record) before the Tribunal and this specific issue can be verified by the AO for limited purpose of verifying the figures appearing in the certificate issued by Chartered Accountant.
The objections of the CIT(A) for rejecting RPM method are that the assessee in the transfer pricing study report itself rejected this method. The assessee’s argument is that in the transfer pricing study report, the RPM can be used for determining the arm's length price of the assessee. Since assessee had selected CUP as the most appropriate method for determining the arms length price of the assessee, it was stated that RPM is being rejected. It was not stated that RPM method would not apply to assessee's case. According to AO in order to apply internal RPM, there has to be product comparability which is not there in case of assessee. But assessee claimed that in order to apply RPM method strict product comparability is not warranted. The assessee has referred OECD guidelines which we have gone through are reads as under:
“1.40 Depending on the transfer pricing method, this factor must be given more or less weight. Among the methods described at Chapter II of these Guidelines, the requirement for comparability of property or services is the strictest for the comparable uncontrolled price method. Under the comparable uncontrolled price method, any material difference in the characteristics of property or services can have an effect on the price and would require an appropriate adjustment to be considered (see in particular paragraph 2.15). Under the resale price method and cost plus method, some differences in the characteristics of property or services are less likely to have a material effect on the gross profit margin or mark-up on costs (see in particular paragraphs 2.23 and 2.41). Differences in the characteristics of property or services are also less sensitive in the case of the transactional profit method than in the case of traditional transaction method (see in particular paragraph 2.69). This however does not mean that the question of comparability in characteristics of property or services can be ignored when applying these methods, because it may be that product differences entail or applying these methods, because it may be that product difference entail or reflect different functions performed, assets used and / or risks assumed by the tested party. See paragraph 3.18- 3.19 for a discussion of the notice of tested party.
1.41 In practice, it has been observed that comparability analyses for methods based on gross or net profit indicators often put more emphasis on functional similarities than on product similarities. Depending on the facts and circumstances of the case, it may be acceptable to broaden the scope of the comparability analysis to include uncontrolled transactions involving products that are different, but where similar functions are undertaken. However, the acceptance of such an approach depends on the effects that the product differences have on the reliability of the comparison and on whether or not more reliable data are available. Before broadening the search to include a larger number of prudentially comparable uncontrolled transactions based on similar functions being undertaken thought should be given to whether such transactions are likely to offer reliable comparables for the controlled transactions.”
We further find that the assessee before us, submitted complete detail of total value of imports and percentage of ALP as per CUP method which reads as under:-
VSA V SAW TRG Total Total value of imports 2,12,99,701 1,01,73,348 37,68,433 3,52,41,481 % of CUP submitted 92% 82% 92% 89% Total value of products submitted 1,96,41,412 83,39,550 34,76,315 3,14,57,277 where comparative rates aer given to AO/ CIT(A)/ ITAT No. of products submitted where 163 96 87 comparative rates are given to AO/ CIT(A) / ITAT % not submitted 8% 18% 8% Total value of products not submitted 16,58,289 18,33,798 2,92,118 37,84,204 No. of products not submitted 20 112 17 12. We find that the learned Counsel for the assessee also referred to the decision f Hon’ble Supreme Court in the case of CIT vs. Cargill Foods India Ltd. in CC No. (s) 19007/2016 order dated 28.11.2016, wherein, following order was passed by Hon’ble Court on 24.10.2016, “The learned Counsel for the petitioner to get instruction as to whether comparable uncontrolled price method (CUP) is accepted by Transfer Pricing Officer in subsequent assessment years by accepting quotation for benchmarking international transaction.” and finally the Hon’ble Supreme Court passed the order as under:-
Today, Mr. K Radhakrishnan, learned senior Counsel, appearing for the Revenue has brought to our notice that in the subsequent years the comparable uncontrolled price method has been accepted by the Transfer Pricing Officer. Learned senior Counsel, though sought for some time to file an affidavit as to whether the acceptance was after accepting quotations, we do not find any need for the same before this court since for the subsequent years from 2007-09 onwards the same has been accepted. If there is some irregularity on the part of any of the officers, it is for the Revenue to take appropriate action.
In the present case also, the Revenue has accepted the method in subsequent years i.e. AY 2011-12 to 2013-14. In view of the above given facts and circumstances, we are of the view that the Revenue should adopt the CUP method for benchmarking the international transaction as it is doing consistently in subsequent years. Since we have held that CUP is the most appropriate method in the case of the assessee, we not consider RPM. The AO is directed accordingly.
In the result, the appeal assessee is allowed for statistical purposes.
Order pronounced in the open court on 04-07-2018.