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2014 (2) TMI 1070 - AT - Income TaxAddition on account of treating the arms length price as nil - Held that - When the assessee has taken a business decision of outsourcing a part of the R & D activity it is not for the department to question it - it is for the assessee to decide what is best for his business interest - The department cannot step into the shoes of a businessman and ask him to conduct his business in a particular manner or advise him what to do or not Relying upon CIT vs. EKL Appliances Limited 2012 (4) TMI 346 - DELHI HIGH COURT - It is not necessary for the assessee to show that any legitimate expenditure incurred by him was also incurred out of necessity - It is also not necessary to show that any expenditure incurred by him for the purpose of business carried on by him has actually resulted in profit or income either in the same year or in any of the subsequent years - The only condition is that the expenditure should have been incurred wholly and exclusively for the purpose of business and nothing more. The only thing that the TPO is required to examine is whether the payment made to AE towards reimbursement of R & D expenditure is within arm s length - when the department is contradicting, then it is for the department to bring on record material to show that such facilities are available in India and what would be cost of research and development work with regard to this particular research work - without bringing sufficient evidence on record to prove that the transaction between the assessee and its AE is not genuine, the conclusion arrived at by the TPO/DRP that it is a sham transaction, cannot be accepted - The efforts of the TPO to justify the transaction as not genuine, the TPO has failed to examine and make necessary enquiry to find out whether the expenditure incurred towards outsourcing R & D work is within arm s length thus, the matter remitted back to the AO for fresh consideration. Disallowance u/s 40(a)(i) of the Act Held that - DRP has completely misdirected itself while coming to such conclusion - A perusal of the certificate dated 6-7-2007 clearly shows that assessee was permitted to pay an amount of Rs.20 crores to its AE towards reimbursement of expenditure incurred on assessee s behalf without deducting tax at source thus, no disallowance could be made u/s 40(a)(ia). Claim of Expenditure u/s 35(1)(i) of the Act - Scientific research expenditure Whether the ACIT/DRP is justified in law in observing that the assessee company is still in the pre-commencement stage and thereby disallowing the entire scientific research expenditure incurred in India Held that - The finding of the Assessing Officer as well as DRP is not on the basis of cogent evidence - Assessing Officer has allowed similar expenditure claimed in the subsequent assessment year i.e. assessment year 2008-09 - section 35(1) and 35(2) of the Act also provided that both revenue expenditure as well as capital expenditure incurred towards scientific research relating to the business of the assessee is eligible for deduction - There is enough material on record to show that assessee is carrying on R & D activities thus, it cannot be said that assessee has not commenced its business the Assessing Officer is directed to allow the expenditure incurred in R & D activities carried out in India Decided in favour of Assessee. Disallowance of interest on reimbursement of expenses Held that - The disallowance made cannot be sustained - Since it has already been held that the transaction between the assessee and its AE relating to outsourcing of research and development activity cannot be held to be a sham transaction or diversion of funds also, it cannot be held that the amount advanced to the AE is for non-business purposes thus, the Assessing Officer is directed to delete the addition Decided in favour of Assessee. Interest income treated as income from other sources Held that - The Assessing Officer shall complete the assessment in conformity with the directions of DRP - The use of word shall in sub-section (13) shows that it is mandatory on the part of Assessing Officer to pass the final assessment order by only implementing the directions of the DRP - an issue which is not considered in the draft assessment order and consequently was not subject matter for consideration before DRP could not be dealt with in the final assessment order thus, the AO is directed not to treat the amount as income from other sources Decided in favour of Assessee.
Issues Involved:
1. Addition by treating the arm's length price as nil. 2. Disallowance of scientific research expenditure. 3. Treatment of interest income as income from other sources. 4. Disallowance of interest on reimbursement of expenses to AE. Issue-Wise Detailed Analysis: 1. Addition by Treating the Arm's Length Price as Nil: The assessee challenged the addition of Rs. 8,33,45,495/- by treating the arm's length price (ALP) as nil. The assessee, a subsidiary of Indigene Pharmaceuticals Inc. USA, engaged in research and development, filed its return declaring a loss. The Assessing Officer referred the international transaction to the Transfer Pricing Officer (TPO), who found the transaction unreliable due to lack of documentation and justification for outsourcing R&D work to its AE. The TPO determined the ALP as nil and inferred that the funds given to AE were in the nature of a loan, requiring an interest adjustment. The Dispute Resolution Panel (DRP) upheld the TPO's findings, stating the assessee failed to demonstrate the necessity and benefit of outsourcing R&D work. The Tribunal, however, held that the TPO and DRP's conclusions were based on presumptions without sufficient evidence, and remitted the issue back to the Assessing Officer/TPO for thorough examination, emphasizing the need for proper documentation and verification of arm's length nature of the transaction. 2. Disallowance of Scientific Research Expenditure: The assessee claimed a deduction of Rs. 12,59,21,902/- under section 35(1)(i) for scientific research expenditure. The Assessing Officer disallowed the claim, stating the assessee was not conducting any business activity and the expenditure was for the benefit of the AE. The DRP upheld the disallowance, considering the expenditure as pre-commencement period expenses. The Tribunal found the Assessing Officer and DRP's conclusions unsupported by evidence, noting the assessee's business had commenced, and similar expenditure was allowed in the subsequent assessment year. The Tribunal directed the Assessing Officer to allow the expenditure incurred in R&D activities carried out in India, recognizing the assessee's business activities and the nature of the expenditure. 3. Treatment of Interest Income as Income from Other Sources: The Assessing Officer treated the interest income of Rs. 33,87,799/- as income from other sources, based on the DRP's observation that the assessee had not commenced its business operations. The Tribunal noted this issue was not raised in the draft assessment order and was not considered by the DRP. The Tribunal directed the Assessing Officer to treat the interest income as business income, as the issue was not part of the DRP's directions, and the assessee's business had commenced. 4. Disallowance of Interest on Reimbursement of Expenses to AE: The TPO held that the reimbursement of Rs. 8.33 crores to AE was a diversion of funds and not for business purposes, treating it as an interest-free loan and making an adjustment for interest. The DRP endorsed this view, disallowing 3% interest payable to DST. The Tribunal, having held the transaction as genuine, directed the deletion of the interest disallowance, recognizing the reimbursement as a business transaction and not a loan. Conclusion: The Tribunal's judgment addressed the issues of ALP determination, scientific research expenditure, treatment of interest income, and interest disallowance on reimbursement to AE. The Tribunal emphasized the need for proper documentation, verification, and evidence to support the transactions and expenditures, remitting certain issues back to the Assessing Officer/TPO for detailed examination and appropriate determination.
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