2014 (7) TMI 1297 - AT - Income Tax

Disallowance of provision of warranty - whether a contingent liability? - scope of Accounting Standard u/s.145(2) - HELD THAT - Assessee has made provision for warranty for each project separately taking into consideration all the factors with regard to the scope of work, terms of warranty agreed with the customers, estimated cost of warranty based on earlier years experience. This method of warranty provisions was consistently followed over the years, which is also in accordance with the Accounting Standard u/s.145(2). The basis of provision was not an ad-hoc or contingent as alleged by the AO. With regard to the reasonableness of the warranty provision, we had verified from the warranty provision reversed on yearly basis and the same was found to be reasonable. Exactly similar issue was dealt by the Tribunal in assessee s own case for the assessment year 2003-04 2011 (12) TMI 720 - ITAT INDORE wherein it was held that the provision of warranty was not a contingent liability' - Decided in favour of assessee. TDS liability on technical drawing expenses under the head cost of raw materials and components - AO treated the same as expenditure in the nature of royalty within the meaning of Article 12 of DTAA with Austria - HELD THAT - merit in the conclusion of the lower authorities insofar as the design and drawings was purchased on a principle to principle basis and same was in the nature of purchase of goods. Precisely the drawing is in the nature of purchase of copyright articles and not of purchase of copyright itself in the drawings. Hence, the same is in the nature of business expenditure and not in the nature of royalty. The payments of technical drawings and design have been incurred to procure such drawings and designs along with all the rights attached to them as the entire set was required to be provided to the customers as per the terms of the contract. Without acquiring all the rights attached to such drawings and designs, the assessee would not have been in the position to meet its contractual obligation. We had verified the copies of bills of entry, copy of physical drawings receipt, copies of invoices and details regarding terms and condition of the transaction and found that the drawing was in the nature of purchase of goods. The department has also not filed any appeal against the order of CIT(A) for A.Y.2004-05 holding that transaction is in the nature of purchase and design and drawings are not in the nature of royalty. As the facts and circumstances during the year under consideration are same, respectfully following the order of the Tribunal in assessee s own case, we delete the disallowance made by the AO by invoking section 40(a)(i) for all the years under consideration. TP Adjustment - BHEL comparability analysis - HELD THAT - B ased on Indian transfer pricing regulations supported by judicial decisions, it is clear that a robust functional analysis is required even where TNMM is applied. BHEL is not a comparable owing to the significant difference in size of operations and turnover. Even we found that BHEL had been accepted as non-comparable by the TPO for the assessment year 2008-09. We also found that turnover of segment of BHEL which has been considered as comparable is 100 times more than that of assessee. It is also a matter of record that same international transaction has been accepted to be at arms length in the previous year. Anyhow as per proviso to Section 92C(2), adjustment to the income of assessee is to be restricted to the proportion of the international transactions and cannot be made to entity which contain transactions to the unrelated parties as well and adjustment income of assessee is to be restricted to the proportion of international transactions which is allowable international transactions and since as per following calculation, which is within 5%, no adjustment is required. Since the difference is within 5%, adjustment made by AO/TPO in the purchases were not justified. Purchases/sales to AE - Value of international transaction of the assessee - Held that - Transaction value is within the 5% of ALP, therefore, adjustment made by the AO/TPO was not justified. Accordingly, we direct to delete the adjustment made by AO/TPO on account of purchases/sales to AE in all the years under consideration. Depreciation on fixed assets which was capitalized in the assessment year 2005-06 denied - HELD THAT - during the assessment year 2005-06, the TPO has disallowed the transactions determining the ALP to be NIL in respect of purchase of machinery on the basis of that it is a gratuitous act of parent company. During the year under consideration, the AO had followed the order passed by the TPO in assessment year 2005-06 and disallowed the depreciation on such capital assets in these years also. We found that same issue for A.Y.2005-06 is still pending before the CIT(A), therefore, before finalizing the main assessment year in which value was taken at Nil by the TPO, it will be premature to decide the issues during the years under consideration. Disallowance of depreciation is consequential to the decision of assessment year 2005-06, which is pending before the CIT(A). Hence, in the interest of justice and fair-play, we restore back this ground to the file of the AO in all the years under consideration with a direction to decide the same after considering the order passed by CIT(A) in the A.Y.2005-06. Appeal of assessee allowed in part

Summary

Issues Involved:
1. Judicial Discipline and Natural Justice
2. Transfer Pricing Issues
3. Corporate Tax Issues
4. Penalty for Concealment of Income

Detailed Analysis:

1. Judicial Discipline and Natural Justice:
- Issue: The assessee argued that the orders passed by the Assessing Officer (AO), Transfer Pricing Officer (TPO), and Dispute Resolution Panel (DRP) were bad in law and void ab-initio.
- Analysis: The assessee contended that the AO and DRP did not follow the decision of the Income-tax Appellate Tribunal (ITAT) on similar facts in the appellant's own case for earlier years, thus violating judicial discipline. The assessee also claimed that sufficient opportunity was not provided, violating principles of natural justice. The tribunal emphasized the need for adherence to judicial precedents and natural justice principles.

2. Transfer Pricing Issues:
- Arm's Length Price (ALP) of Purchases:
- Issue: Whether the purchases made by the appellant from its associated enterprises (AEs) on a cost-to-cost basis should be considered at arm's length.
- Analysis: The assessee argued that the purchases were on a cost-to-cost basis without any markup, which was accepted in previous years. The TPO used the Transactional Net Margin Method (TNMM) instead. The tribunal acknowledged that the purchases were on a cost-to-cost basis and that the same transactions were accepted in previous years. The tribunal found that the TPO's methodology was flawed and upheld the assessee's contention.

- Rejection of Bharat Heavy Electrical Limited (BHEL) as a Comparable:
- Issue: Whether BHEL should be considered a comparable company.
- Analysis: The assessee argued that BHEL should be excluded due to its extraordinary size of operations. The tribunal found merit in the assessee's argument, noting that the TPO failed to appreciate the significant differences in operations and risks assumed by BHEL compared to the appellant.

- Erroneous Computation of Operating Margins:
- Issue: Whether the TPO's computation of operating margins using financial information from the Prowess database was correct.
- Analysis: The tribunal found that the TPO erred in disregarding the use of audited financial information and relevant segmental information of comparable companies. The tribunal directed the use of accurate financial data for computing operating margins.

- Use of Single Year Data:
- Issue: Whether the TPO's use of single year data was appropriate.
- Analysis: The tribunal held that the TPO erred by using single year data instead of multiple year data, which would better capture market cycles and provide a more accurate comparison.

- Working Capital Adjustment:
- Issue: Whether appropriate adjustments for differences in working capital were made.
- Analysis: The tribunal found that the TPO failed to make necessary adjustments to account for working capital differences, thus not adhering to Indian transfer pricing regulations and judicial precedents.

- Principle of Res Judicata:
- Issue: Whether the principle of res judicata was violated.
- Analysis: The tribunal noted that the TPO did not consider that the international transactions were accepted at arm's length in previous years, thus violating the principle of res judicata.

- Transfer Pricing Adjustment:
- Issue: Whether the transfer pricing adjustment should be made with reference to the value of international transactions only.
- Analysis: The tribunal agreed with the assessee that adjustments should be made concerning the value of international transactions only, not the total value of all transactions.

3. Corporate Tax Issues:
- Disallowance of Depreciation:
- Issue: Whether the depreciation claimed on capital assets purchased from AE should be disallowed.
- Analysis: The tribunal found that the AO disallowed depreciation based on the TPO's determination of the asset's value as nil. The tribunal directed the AO to reconsider the depreciation claim after the CIT(A) decision on the main assessment year.

- Disallowance of Technical Drawing and Design Expenditure:
- Issue: Whether payments for technical drawings and designs should be disallowed as royalty.
- Analysis: The tribunal found that the payments were for outright purchase of technical drawings and designs, not royalty. The tribunal directed the deletion of the disallowance made by invoking Section 40(a)(i).

- Disallowance of Provision for Warranty:
- Issue: Whether the provision for warranty should be disallowed as a contingent liability.
- Analysis: The tribunal found that the provision for warranty was an ascertained liability based on past experiences and contractual obligations, thus allowing the deduction.

4. Penalty for Concealment of Income:
- Issue: Whether the initiation of penalty proceedings under Section 271(1)(c) for furnishing inaccurate particulars of income was justified.
- Analysis: The tribunal found that the AO erred in holding that the appellant furnished inaccurate particulars of income, thus initiating penalty proceedings without sufficient grounds.

Conclusion:
The tribunal allowed the appeals in part, directing the deletion of disallowances and adjustments made by the AO and TPO, and emphasized adherence to judicial precedents and natural justice principles. The tribunal also restored certain issues to the AO for reconsideration based on decisions pending before the CIT(A).