2015 (4) TMI 1201 - AT - Income Tax

Transfer pricing adjustment - MAM - whether while adopting the TNMM method, the entity level margin is to be adopted or only the margin of software development activity is to be considered separately from the margins of the Bio-Division which has sustained loss? - Held that - We are of the opinion that only international transactions with Associated enterprises have to be considered for ALP adjustment. When Bio division does not have any international transactions with AEs, profit or loss from said division should not affect ALP of the international transaction in another division. Since neither the AO nor the CIT(A) have really examined the assessee s contention that there was no international transactions with AE s in the Bio division but have just combined the results of both software development as well as bio division for determining the ALP of the international transaction, we deem it fit and proper to set aside the order of the AO/TPO and remand the matter back to the AO with a direction to refer the matter to the TPO for re-consideration. The AO/TPO shall examine the assessee s contention and after verifying the details, shall recompute the ALP of the international transaction u/s 92CA of the Act. - Decided in favour of assessee for statistical purposes

Summary

Issues:
Transfer pricing adjustment made by the assessee confirmed by the CIT(A) - Dispute regarding the method of determining arms length price (ALP) - Consideration of entity level margin vs. separate consideration of divisional margins.

Analysis:

The appeal was filed against the order of the CIT(A)-IV, Bangalore, confirming the transfer pricing adjustment made by the assessee for the assessment year 2004-05. The assessee, engaged in software development and IT-enabled services, had entered into international transactions with its Associated Enterprise (AE). The Transfer Pricing Officer (TPO) determined the ALP at a higher amount than declared by the assessee, resulting in an adjustment. The CIT(A) upheld the AO's order, leading to the assessee's second appeal before the ITAT Bangalore.

The assessee argued that it had conducted a Transfer Pricing (TP) study using the Comparable Uncontrolled Price (CUP) method, which was rejected by the TPO in favor of the Transactional Net Margin Method (TNMM). The TPO considered the entity level margin instead of separately analyzing the margins of the software development and Bio Division. The assessee contended that the TPO's approach was flawed as the Bio Division had no international transactions with AEs, and its losses should not impact the ALP of the software division. The CIT(A) did not adequately address this issue, leading to the ITAT's decision to remand the matter back to the AO/TPO for reconsideration.

The ITAT emphasized that only international transactions with Associated Enterprises should affect the ALP adjustment. Since the Bio Division had no such transactions with AEs and incurred losses, its financials should not influence the ALP of the software division. The ITAT set aside the AO/TPO's order and directed a reassessment based on the assessee's contentions. The AO/TPO were instructed to reevaluate the ALP of international transactions in light of the ITAT's observations, focusing on the separate consideration of divisional margins.

Ultimately, the ITAT allowed the assessee's appeal for statistical purposes, highlighting the need for a more nuanced approach in determining ALP in cases involving multiple business divisions with varying financial performances.

This judgment underscores the importance of accurately assessing transfer pricing adjustments and the necessity of considering divisional margins separately when determining the arms length price in international transactions.