2013 (2) TMI 710 - AT - Income Tax

Transfer pricing adjustment - foreign exchange gain - Held that - Nothing has been brought on record to suggest that the gain made by the assessee on fluctuation of foreign exchange was not on account of business transactions of the assessee. In absence of any such material, following the afore-mentioned decisions of the Tribunal, it has to be held that the foreign exchange gain of the assessee is to be considered as part and parcel of the profit of the assessee and therefore should be included for the purpose of computing the profit margin of the assessee. Moreover, Ld. TPO has clearly observed that to bring parity of the comparables with the assessee, foreign exchange gain is included as well in the case of comparables and after including such gain of the comparables, he has re-worked the margin of the comparable entities. However, while computing the margin of the assessee, TPO ignored the gain of the assessee on foreign exchange. Therefore, the adjustment computed by the TPO is contrary to his observations. If the gain on foreign exchange is included, then there is no short-fall in the arm length price determined by the TPO. The computation has already been made after including such gain and it has been seen that there is no short-fall in the profits of the assessee as compared to the arm length price profit determined by the TPO. We found that the adjustment made by the TPO and upheld by DRP deserves to be deleted

Issues Involved:
1. Inclusion of foreign exchange gain in operating profit for computing Arm's Length Price (ALP).
2. Consideration of miscellaneous expenses as operating items for computing operating profit of comparables.
3. Factors for selection of comparables: Turnover, Assets Employed, Risk Undertaken, Functions Performed, and Source of Purchase of Rough Diamonds.
4. Adjustment on total turnover instead of AE transactions only.

Issue-Wise Detailed Analysis:

1. Inclusion of Foreign Exchange Gain in Operating Profit for Computing ALP:
The primary issue was whether the foreign exchange gain should be included in the operating profit for computing the margin of the assessee to compare it with the margin of comparable entities. The Tribunal noted that the assessee's margin should be determined after considering the foreign exchange gain of Rs. 3,36,36,765/-. The Transfer Pricing Officer (TPO) initially excluded this gain, considering it speculative and related to hedging transactions. However, the Tribunal found that the foreign exchange gain is an integral part of the sale proceeds for an exporter-assessee and should be included in the operating income. This view was supported by multiple Tribunal decisions, including Sap Labs India (P.) Ltd. v. Asstt. CIT and Four Soft Ltd. v. Dy. CIT, which held that foreign exchange fluctuation gains are part of the operating income. Consequently, the Tribunal concluded that if foreign exchange gain is included, the actual profit of the assessee would exceed the Arm's Length Profit computed by the TPO, making the adjustment unnecessary.

2. Consideration of Miscellaneous Expenses as Operating Items:
The assessee argued that miscellaneous expenses should be considered as operating items for computing the operating profit of comparables. However, since the main issue regarding the inclusion of foreign exchange gain was decided in favor of the assessee, this issue became academic and did not require further adjudication.

3. Factors for Selection of Comparables:
The assessee raised objections regarding the selection of comparables based on factors such as turnover, assets employed, risk undertaken, functions performed, and the source of purchase of rough diamonds. The Tribunal did not specifically address these objections in detail since the primary issue regarding the inclusion of foreign exchange gain resolved the matter in favor of the assessee, rendering these objections academic.

4. Adjustment on Total Turnover Instead of AE Transactions Only:
The assessee contended that the adjustment should be made only on transactions with Associate Enterprises (AEs) rather than on the total turnover. The Tribunal's decision to include the foreign exchange gain in the operating profit resolved the issue of adjustment, making this contention academic and not requiring further discussion.

Conclusion:
The Tribunal allowed the appeal filed by the assessee, directing the deletion of the adjustment made by the TPO and upheld by the Dispute Resolution Panel (DRP). The decision emphasized that the foreign exchange gain should be included in the operating profit for computing the margin, aligning with established legal precedents. As a result, the other issues raised by the assessee became academic and did not necessitate further adjudication.

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