2018 (5) TMI 1078 - AT - Income Tax

TPA - Reduction of Product recall expenses of Honda Seil Car India Limited - Held that - We concur that the assessee over and above the direct expenditure as reimbursement to the customer has other expenditure also in the form of goods lying at the factory. Infact the claim of the assessee is ₹ 13.26 crores out of which the ld Transfer Pricing Officer allowed ₹ 6.11 crores and CIT(A) enhanced the deduction to ₹ 10.72 crores. The above facts shows that there is an extraordinary event which has resulted into impacting the overall cost of the assessee. Further, with respect to the overall expenditure the certificate of the appellant shows the total cost at ₹ 10.72 crores at page No. 12 of the order of the ld CIT(A) which remains undisputed. Therefore, to this extent no infirmity can be found in the order of the ld CIT (A) in granting the above reduction. - Decided against revenue Transaction of purchases of import of goods at higher price and its resale to the principal at lower prices - Held that - Merely because the assessee is supplying a product for a new vehicle, when assessee is in the same line of business for a long time, coupled with the fact that products have been imported from the sister concern for onward supply to the principle and later on of prices stabilized, does not make assessee to say that these cost are extra ordinary cost . It is merely a transaction of purchase and sales of goods which has resulted in to lesser profit to the assesee in its business. Assessee has also stated that it is increased cost of production only. Cost of production is the normal activity. No such disclosure is also made in the annual accounts to this effect also. This is a result of normal business risk of the assessee and hence same cannot be reduced from the total cost. Hence, the reduction granted by the ld CIT (A) of ₹ 10.73 crores is not proper. The action of ld CIT (A) is reversed and order of TPO is restored to that extent. In the result Ground no 1 of the appeal of the revenue is allowed Adjustments of the value of the inventory - Held that - Differential prices were also calculated by applying the rates of the prouct and not identifying each of the components, which is mandatory at the time of valuation of goods. Assessee before TPO has stated that due to this profit is lowered by 0.79 %. The ld TPO has also given his reason in para no 5.3.3. of his order. He held that no such adjustment was made in Rule 10 D documentation. As the complete fact of the issue, identifying each products and its valuation and consequential shortfall and whether it is an extra ordinary items as per TP documentation is not coming out, Hence this issue is set aside to the file of the ld TPO/AO to decide afresh. Ground no 2 of the appeal is allowed for statistical purposes. Regarding capacity utilization level in the case of the assessee as well as the comparable company, we do not find any infirmity in the order of the ld CIT (A) who allowed it only with respect to depreciation. Hence, Ground no 3 is dismissed.

Summary

Issues Involved:
1. Adjustment on account of additional cost for development of new product.
2. Lower valuation of inventory of imported purchases.
3. Capacity utilization adjustment.
4. Exceptional replacement cost.
5. General error in the order of CIT(A).

Detailed Analysis:

Issue 1: Adjustment on account of additional cost for development of new product
The revenue contended that the CIT(A) erred in allowing an additional cost adjustment for the development of a new product. The assessee had claimed that the increased cost of production due to the import of components for a new shock absorber should be treated as an abnormal expenditure. The CIT(A) accepted this argument, citing that the development of the monosock absorber was a unique effort not previously undertaken by any other manufacturer in India, including Gabriel India Ltd. The CIT(A) allowed an adjustment of ?10.73 crores as an abnormal item of expenditure. However, the Tribunal disagreed, stating that the additional cost was a normal business risk and not an extraordinary expense. The Tribunal reversed the CIT(A)'s decision and restored the TPO's original order.

Issue 2: Lower valuation of inventory of imported purchases
The revenue argued that the CIT(A) erred in allowing a lower valuation of inventory. The assessee had undervalued the closing stock of monosock absorbers, claiming a decrease in value due to higher production costs. The CIT(A) partially accepted this argument, allowing an adjustment of ?2.56 crores. The Tribunal found that the method of inventory valuation was a normal business practice and not an extraordinary event. The Tribunal set aside this issue to the TPO/AO for fresh consideration, as the complete facts and identification of each product were not clear.

Issue 3: Capacity utilization adjustment
The revenue contended that the CIT(A) erred in restricting the capacity utilization adjustment to only the depreciation cost. The TPO had adjusted the operating profit margin of the comparable company, Gabriel India Ltd., to account for differences in capacity utilization, increasing it from 4.71% to 6.69%. The CIT(A) found this adjustment inappropriate, stating that operating profit margins do not vary directly with capacity utilization. The CIT(A) allowed the adjustment only to the extent of depreciation, resulting in a profit margin of 5.81% for Gabriel India Ltd., which was within the prescribed range. The Tribunal upheld the CIT(A)'s decision, dismissing the revenue's ground.

Issue 4: Exceptional replacement cost
The revenue argued that the CIT(A) erred in allowing the exceptional replacement cost of ?10.72 crores, whereas the MOU between the assessee and Honda Seil Cars Limited provided for ?6.11 crores. The assessee had incurred expenses due to a product recall, which the TPO partially accepted, allowing ?6.11 crores. The CIT(A) allowed the full amount, considering it an abnormal expenditure. The Tribunal concurred with the CIT(A), stating that the additional cost was indeed an extraordinary event and upheld the adjustment of ?10.72 crores.

General Error in the Order of CIT(A)
The revenue's general contention that the CIT(A)'s order was erroneous was addressed through the specific issues discussed above. The Tribunal found merit in some of the revenue's arguments while dismissing others.

Application under Rule 27 of ITAT Rules, 1963
The assessee moved an application under Rule 27, contending that Renowned Auto Products Manufacturing Ltd. should be considered as a comparable company. The Tribunal allowed this application, stating that merely having a negative net worth in one year does not make a company non-comparable. The issue was set aside to the TPO/AO for fresh consideration.

Conclusion
The Tribunal's order resulted in a mixed outcome. The revenue's appeal was partly allowed for statistical purposes, with some issues being set aside for fresh consideration, while others were dismissed. The Tribunal upheld the CIT(A)'s decisions on certain adjustments and reversed others, ensuring a comprehensive review of the transfer pricing adjustments and related issues.