2010 (11) TMI 630 - AT - Income Tax

Arms length price - Reference to TPO - Addition - TNMM or cost plus method - Advertising business - method of computing profit/TC margin whether on gross basis as done by the TPO or net basis as worked out by the assessee - Held that - a mark-up is to be applied to the cost incurred by the assessee company in performing its agency function and not to the cost of rendering advertising space on behalf of its AEs. - the method adopted by the assessee while submitting transfer pricing study based on net revenue has been accepted by the Department in earlier year and, therefore, there is no reason to depart from that stand already accepted by the Department in earlier year. - Decided in favor of assessee. Regarding depreciation at the rate of 60 per cent on computer peripherals and accessories - the addition on this issue was made and Tribunal, Delhi Bench vide their order No. ITA No. 1451/Delhi/2008, dt. 13th Feb., 2009 have allowed the claim of depreciation of 60 per cent on printers, scanners etc - it is pertinent to note that the order of the Tribunal allowing depreciation at higher rate of 60 per cent on computer accessories and peripherals instead of the normal rate of 25 per cent has been upheld by the Hon ble Delhi High Court in the case of CIT v. BSES Rajdhani Powers Ltd. 2010 -TMI - 78240 - DELHI HIGH COURT - Decided in the favor of the assessee

Issues Involved:
1. Determination of profitability ratio on a net basis.
2. Determination of cost base of the profit level indicator (PLI).
3. Application of the principle of res judicata.
4. Reference to Transfer Pricing Officer (TPO) and the appropriateness of net revenue basis accounting.
5. Rejection of comparable companies used for benchmarking.
6. Use of current year data for margin computation.
7. Availability of +/-5% standard deduction.
8. Allowance of 60% depreciation on computer peripherals and accessories.

Detailed Analysis:

1. Determination of Profitability Ratio on a Net Basis:
The Revenue Department contested that the CIT(A) erred in holding that the profitability ratio should be determined on a net basis. The assessee, engaged in advertising services, recognized revenue on a net basis, i.e., commission received from clients, excluding third-party costs which were passed through without a markup. The TPO argued that the correct operating profit should be based on gross receipts, including third-party costs. However, the CIT(A) found that the net revenue basis was appropriate, considering the assessee acted as an intermediary without assuming bad debt risk, and this method aligned with industry practices and OECD guidelines.

2. Determination of Cost Base of the Profit Level Indicator (PLI):
The TPO suggested that the PLI should be determined by including gross receipts in the operating revenue. The CIT(A) disagreed, noting that the payments made to third-party vendors were pass-through costs and did not represent value-added activities by the assessee. The CIT(A) concluded that the net revenue basis appropriately reflected the assessee's profitability, as it only included the commission or charges received for services rendered.

3. Application of the Principle of Res Judicata:
The CIT(A) held that the principle of res judicata did not apply strictly in income-tax proceedings. However, since the TPO had accepted the net revenue basis in previous years without any new facts or circumstances in the current year, the CIT(A) found no reason to deviate from this established position.

4. Reference to TPO and Appropriateness of Net Revenue Basis Accounting:
The TPO's rejection of the net revenue basis was challenged by the assessee, who argued that their accounting method was in line with industry norms and supported by independent audit. The CIT(A) upheld the net revenue basis, emphasizing that the assessee's role as an intermediary justified this approach. The CIT(A) also noted that the TPO's adjustment based on gross receipts was inappropriate, as it did not consider the nature of the assessee's business operations.

5. Rejection of Comparable Companies Used for Benchmarking:
The TPO rejected the comparable companies cited by the assessee, arguing they were not engaged in similar functions. Instead, the TPO selected two other companies and determined a mean NCP margin of 7.02%. The CIT(A) did not specifically address this issue in the detailed analysis but focused on the appropriateness of the net revenue basis for margin computation.

6. Use of Current Year Data for Margin Computation:
The TPO used current year data for comparability analysis, following the decision of the Special Bench in Aztec Software & Technology Services Ltd. The CIT(A) did not dispute this approach but emphasized that the net revenue basis should be used for determining the operating profit margin.

7. Availability of +/-5% Standard Deduction:
The CIT(A) allowed the benefit of +/-5% as a standard deduction, aligning with the decisions of various tribunals and the interpretation of section 92C(2) of the IT Act. This was not specifically contested by the Revenue in detail.

8. Allowance of 60% Depreciation on Computer Peripherals and Accessories:
The CIT(A) allowed 60% depreciation on computer peripherals and accessories, following the Tribunal's decision in the assessee's case for the previous year. The Revenue's appeal on this issue was dismissed, as the Tribunal's decision had been upheld by the Delhi High Court.

Conclusion:
The CIT(A)'s order was upheld, recognizing the net revenue basis as appropriate for determining the profitability ratio and PLI, and allowing 60% depreciation on computer peripherals and accessories. The appeal filed by the Revenue was dismissed.

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