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Income Tax Appellate Tribunal, “K” BENCH, MUMBAI
This appeal by the Revenue is arising out of the order of Commissioner of Income Tax (Appeals)-15, Mumbai [in short CIT(A)], in appeal No. CIT(A)-15/Arr.219/13-14 dated 06.12.2013. The Assessment was framed by the Asst. Commissioner of Income Tax, Ward 8(3), Mumbai (in short ‘ACIT’) for the A.Ys. 2008-09 vide order dated 31.01.2012 under section 143(3) of the Income Tax Act, 1961 (hereinafter ‘the Act’).
The only issue in this appeal of Revenue is against the order of CIT(A) in directing the AO / TPO to re-compute the Transfer Pricing adjustment with regard to international transactions only. For this Revenue has raised the following three grounds:-
“ii On the facts and in the circumstances of the case and in law, the Ld.CIT(A) erred in directing, the AO / TPO to recompute the transfer pricing adjustment in accordance with the directions of the ITAT in the assessee's case for AY 2004-05. ii. On the facts and in the circumstances of the case and in law, the Ld.CIT(A) erred in not appreciating that the TPO has to compute ALP in respect of transactions with non-resident AEs without appreciating that since the non-AE transactions would generally be at arm's length, then low margin of profit of the entity, vis-à-vis the comparables, is attributable to mispricing of international transactions alone. iii. On the facts and in the circumstances of the case and in law, the Ld.CIT(A) erred in not appreciating that the arithmetical mean margin of the comparable cannot be applied at the entity level without appreciating that under TNMM, the margin of the comparables at the entity level is compared with the margin of the assessee at the entity level under the circumstances that the assessee is not able to substantiate the profits shown to have realized from international transactions."
Brief facts are that the assessee company a 100% export oriented unit, is engaged in the business of manufacture and export of diamond studded jewellery. The AO / TPO passed the order u/s 92CA(3) of the Act making the adjustment of Rs. 3,87,03,306/- in relation to the international transactions entered by the assessee company with its associated enterprises. Before the TPO the assessee contended that the adjustment to the transfer price should be restricted to the value of international transaction i.e. transactions entered into by the assessee with its AEs and not in relation to the transactions entered into by the assessee with third parties. The ITAT in assessee's own case for A.Y. 2004-05 had held that any Transfer Pricing adjustment should be restricted to the value of international transaction alone, merely because the AO had appealed against the order of the ITAT before the High Court, applied the difference in net margins of the assesse vis-à-vis comparable companies to the total cost incurred by the assessee in the order dated 17/10/2001, the TPO held as under:-
"It can be observed that the PLI margin of comparables at 6.18% is higher than that of the assessee at 4.97%. it may be mentioned here that the Hon'ble ITAT in the assessee's own case for A.Y. 2004-05 held that entity level PLI should be adopted for AE transactions alone and not for the total cost of the AE and non-AE sales. However, the department has not accepted the said decision. Therefore, to maintain consistency of the ground, the ALP is computed by applying entity level P1.1 on the total operating cost, as under…….”
The AO thereafter concluded the assessment u/s 143(3) of the Act determining the total income of the assessee at Rs 8,52,45,090/-, including the adjustment of transfer price of Rs 3,87,03,306/-. Though the AO had made other additions, the only issue under dispute is in relation to the adjustment to the transfer price made by the AO as per the order of the TPO. Aggrieved, assessee filed before CIT(A) against the order of the AO contending that the Transfer Pricing adjustment should be restricted to value of international transactions only. The CIT(A) allowed the appeal of the assessee. Aggrieved, Revenue came in second appeal before Tribunal.
Before us, the learned Counsel for the assessee stated that the question that arises for consideration is whether Transfer Pricing adjustment should be restricted to ‘International Transactions' alone, or would it be made to the entire business operations of the assesse. The assesse submits that this issue is covered in the assessee's own ease for A.Y. 2004-05 as well as subsequent years. He explained that identical question arose before Tribunal in the case of the assessee for A.Y. 2004- 05 in order dated 23.02.2010 Tribunal accepted with the contention of the assesse that any Transfer Pricing Adjustment should be restricted to the value of international transaction alone. In holding so, the Tribunal observed as under:
"13. We have considered the rival submissions carefully. We partially agree with the submissions of the Id. counsel for the assessee that original TPOs order is definitely erroneous because he has applied the net profit margin of 7.25% on the gross sales and followed a complicated procedure to arrive at the amount of adjustment. In simple terms if the sales to Associated Enterprises is taken at Rs. 25 crores and straightway 7.25% margin is applied then approximately total margin would be Rs. 1.81 crores whereas adjustment has been made at Rs. 2,57,26,138/-. At the same time, we are unable to agree with the order of Id. CIT(A) that no adjustment could have been made. Before us Id. counsel for the assessee admitted that assessee has no objection that if TNMM was followed and even no objection was raised to the average profit rate of 7.25%.
However, he argued that this rate should be taken as only operating profiting which is not correct because Transactional Net Margin Method in Rule 10B of Income tax Rules refers to only net profit and, therefore, there is no scope for reducing interest or any other overheads. Here also TPO has at top of the chart where average rate was calculated at page 2 of his order refers to OP/TC%. Therefore, it is not clear whether this margin is net profit or not. Similarly, how the cost etc. was distributed by Id. CIT(A) is not clear because detailed figures are not available. Therefore, in the interest of justice, we set aside the order of Id. CIT (A) and remit the matter back to the file of AO with a direction to follow TNMM by working out the average net profit. Further, the adjustment should be worked out on a very simple basis by reducing the net profit declared by the assessee from the gross sales and then divide the same in the controlled and uncontrolled sale and apply the net profit rate. Needless to say that assessee should be given adequate opportunity of hearing.”
In the remand proceedings, the TPO, vide order dated 29.08.2011 worked out Transfer Pricing adjustment at nil by applying the difference in PLI to the value of international transaction alone.
Similarly, identical issue arose in the case of the assessee for A.Y. 2006-07. The ITAT allowed the appeal of the assessee by giving following reasoning:-
"7. The second objection taken by the Id. AR is about the application of the average margin of comparables to the figures of entity as a whole instead of transaction with the AEs. After considering the rival submissions and perusing relevant material on record it is seen that Chapter-X of the Act contains special provisions relating avoidance of tax. Section 92, which is the substantive section of the Chapter, provides that 'Any income arising from an international transaction shall he computed having regard to the arm's length price'. The term "international transaction" has been defined in section 92B as ".... a transaction between two or more associated enterprises, either or both of whom are non-residents ...........". The term 'associated enterprise' has been defined in section 92A. A conjoint reading of these provisions divulges that the transfer pricing adjustment is required to be made only in respect of transactions between the AEs. In the provisions, as are applicable to the assessment year under consideration, it is wholly impermissible to apply such provisions in respect of transactions with non-AEs. We, therefore, overturn the impugned order on this score and direct the AO / TPO to compute ALP in respect of international transactions alone and restrict the amount of adjustment, if any, to such transactions only.”
The department preferred appeal before Hon’ble High court and Hon’ble Bombay High Court dismissed the appeal [reported in (2016) 381 ITR 404 (Bombay)], as under:
“6. The question as proposed by the revenue does not seems to arise from the impugned order of the Tribunal nor is the method of determination of ALP on application of TNMM arriving at the margin of 4.79% is disputed before Tribunal or before us. We are unable to understand the grievance of the revenue as formulated in the proposed question the respondent-assessee has not challenged the application of TNMM and arriving at the margin of 4.79% arrived at by the TPO to determine ALP. The grievance of the respondent-assessee before the Tribunal is only with the margin of 4.79% being applied in respect of all it's sales and not restricted to the international transactions entered into by the respondent- assessee with it's AEs. It is evident from the provisions of Chapter X of the Act that the adjustment which has to be done to arrive at ALP is only in respect of the transaction with it's AEs. Thus no fault can be found with the order of the Tribunal.”
In view of the above factual position and the issue is covered by Hon’ble Bombay High Court, we find no infirmity in the order of CIT who directed that the adjustment to the transfer price should be restricted to the value of international transaction i.e. transactions entered into by the assessee with its AEs and not in relation to the transactions entered into by the assessee with third parties. Accordingly, we confirm the order of CIT(A) and this issue of Revenue’s appeal is dismissed.
In the result, the appeal of Revenue is dismissed.
Order pronounced in the open court on 12-04-2018.