2011 (7) TMI 636 - AT - Income Tax

Adjustment to arm s length price - international transaction relating to professional fee/training fee/service fee - case referred to T.P.O. - Held that - The assessee in its TP study report had included M/s Vans Information Ltd. which is making continuous losses and more than 50% of its net worth has been wiped off a fact brought on record by TPO and not objected to by the assessee. Further the observation of the TPO that certain loss making companies have been included in to comparables as well as entities which are nowhere close to the assessee s business was also could not be controverted. Thus on being confronted by the TPO the assessee furnished fresh comparables according to which the mean profit comes to 34.96% as against 9.32% reported by the assessee. Even if the contention of the assessee that Hinduja TMT Ltd. which makes abnormal profit of 105.34% and whose turnover is 100.80 croresas against 6.01 crores in the case of the assessee cannot be included as a comparable is accepted still the OP/TC works out to 11.5% as found by the CIT(A) is against 9.32% disclosed by the assessee. Still he has deleted the entire adjustment made by the A.O./TPO which is not correct. As the T.P. issue was in the initial stages in this year and therefore a liberal approach should be taken. Considering the totality of the facts of the case the matter should go back to the file of the A.O. for fresh adjudication with a direction to give sufficient opportunity to the assessee to file fresh comparables of the financial year 2002-03 and make out its case properly - in favour of revenue for statistical purposes.

Summary

Issues Involved:
1. Adjustment to the arm's length price (ALP) of the assessee's international transactions.
2. Inclusion of loss-making entities in the set of comparables.
3. Use of multiple-year data for determining ALP.
4. Exclusion of companies with abnormal profits from the comparables.

Detailed Analysis:

Adjustment to the Arm's Length Price (ALP):
The primary issue in this appeal was whether the CIT(A) erred in deleting the addition of Rs. 1,41,06,903/- made by the Transfer Pricing Officer (TPO) to the ALP of the assessee's international transactions. The assessee company, engaged in ship management and related services, had its international transactions scrutinized by the TPO, who made adjustments based on the arm's length principle.

Inclusion of Loss-Making Entities in Comparables:
The TPO rejected the inclusion of loss-making entities such as Vans Information Ltd. and Star Estates Management Ltd. in the set of comparables. The assessee argued that every industry has a mix of profitable and non-profitable ventures, and excluding loss-making companies would lead to unrealistic outcomes. The CIT(A) agreed with the assessee, stating that excluding only loss-making companies without excluding extreme profit-making companies would distort the results.

Use of Multiple-Year Data:
The assessee used multiple-year data (financial years ending 31st March 2001 and 31st March 2002) for determining the ALP, consistent with the Indian Regulations and OECD Guidelines. The CIT(A) upheld this approach, noting that the TPO's exclusion of loss-making companies was erroneous and against commercial principles.

Exclusion of Companies with Abnormal Profits:
The TPO included companies with extreme profits, such as Hinduja T.M.T. Ltd., which had an OP/TC ratio of 105.34%. The CIT(A) found this inclusion inappropriate, arguing that it further skewed the results. The CIT(A) recalculated the mean OP/TC ratio excluding such extreme cases, which resulted in a lower mean that did not justify an upward adjustment to the ALP.

Tribunal's Decision:
The Tribunal considered the arguments from both sides, including various judicial precedents. It noted that the TPO's selection of comparables and the application of filters left much to be desired. The Tribunal decided to remit the matter back to the Assessing Officer (AO) for fresh adjudication, allowing the assessee to present fresh comparables for the financial year 2002-03. This decision was influenced by the Special Bench ruling in Quark Systems (P.) Ltd., which emphasized a liberal approach in the initial stages of transfer pricing assessments.

Conclusion:
The Tribunal allowed the Revenue's appeal for statistical purposes, directing the AO to reassess the ALP after giving the assessee an opportunity to present fresh comparables and relevant data. This comprehensive re-evaluation aimed to ensure that the ALP determination adhered to legal standards and commercial realities.