2010 (2) TMI 1270 - AT - Income Tax

Summary

Issues Involved:
1. Deletion of Addition by CIT(A)
2. Application of Cost Plus Method vs. Transactional Net Margin Method (TNMM)
3. Correctness of TPO's Adjustment Calculation
4. Rectification Application u/s 154

Summary:

1. Deletion of Addition by CIT(A):
The revenue appealed against the CIT(A)'s decision to delete the addition of Rs. 2,57,26,138/- made by the Transfer Pricing Officer (TPO) to the value of international transactions undertaken by the assessee. The CIT(A) observed that the TPO had made an excessive adjustment by applying a 7.25% profit margin to the total cost of both related and unrelated transactions, which was not permissible under the Act. The CIT(A) accepted the assessee's calculation and allowed the appeal, stating that no adjustment was required as the actual sales were above the arm's length price.

2. Application of Cost Plus Method vs. Transactional Net Margin Method (TNMM):
The assessee initially used the Cost Plus method to determine the arm's length price, claiming a G.P margin of 16.95% with unrelated parties and 19.37% with related parties. The TPO rejected this method due to lack of detailed calculations and proposed the TNMM method, using comparable companies to determine an average profit margin of 7.25%. The assessee accepted the TNMM method but disputed the TPO's calculation.

3. Correctness of TPO's Adjustment Calculation:
The TPO applied a 7.25% margin on the total cost, including both related and unrelated transactions, and made an adjustment of Rs. 2,57,26,138/-. The CIT(A) found this methodology incorrect and stated that the adjustment should only be made on the controlled transactions. The CIT(A) recalculated the arm's length price and determined that no adjustment was necessary as the actual sales were above the arm's length price.

4. Rectification Application u/s 154:
The assessee filed a rectification application u/s 154, arguing that the adjustment should only be made on controlled sales. The TPO rejected this application, but the CIT(A) found that there was a mistake apparent from the record and accepted the assessee's calculation. The CIT(A) directed that no adjustment was required as the actual sales were above the arm's length price.

Conclusion:
The ITAT partially agreed with the assessee that the TPO's original order was erroneous but disagreed with the CIT(A) that no adjustment could be made. The ITAT set aside the CIT(A)'s order and remitted the matter back to the AO to follow the TNMM method correctly and work out the average net profit. The adjustment should be calculated by reducing the net profit declared by the assessee from the gross sales and then applying the net profit rate to the controlled and uncontrolled sales. The assessee should be given adequate opportunity of hearing.

Order:
All appeals are allowed for statistical purposes. Order pronounced on the 23rd day of Feb. 2010.