2019 (3) TMI 325 - AT - Income Tax

TP adjustment - Comparable method - variation in the quality and design of the carpets - average method - weighted average method - we set aside this issue to the record of the A.O./TPO to carry out a fresh exercise of determining the arm s length price as well as the price of the international transaction by using weighted average instead of simple average of all the transactions entered into by the assessee with AE as well as all the transactions of sale of carpets to non-AE. Further once the comparable uncontrolled price taken are more than one then the benefit of second proviso to Section 92C(2) of the Act has to be allowed and thereby if the price of the international transaction is within the tolerance range of 5% of the arm s length price then no adjustment is called for. TP adjustment - granting of loan to the AE - notional interest on the outstanding receivables from the AE - credit allowed to the AE beyond 60 days - arm s length interest at LIBOR rate as against the PLR applied by the TPO - HELD THAT - CIT(A) has rightly applied the LIBOR for the purpose of bench-marking the credit allowed to the AE for realization of sale proceeds. CIT(A) has also considered the exchange rate gain against the said arm s length interest which in our view, is not proper as the exchange gain or loss would be part of the sale proceeds and therefore would consequently increase or decrease the sale price at the time of computing the arm s length price and bench-marking of international transaction. Hence the for ex-gain or loss has to be taken as part of the sale price in both the cases of international transaction as well as comparable uncontrolled price. In other words, the exchange gain or loss would be part of the sale price of the transaction between the assessee and AE as well as non-AE. The effect of the exchange gain or loss has to be given in computing of arm s length price being the part of sale proceeds as well as comparable price. The adjustment on account of credit allowed to the AE beyond 60 days shall be made at the time of determining the arm s length price of sale transaction and not to be considered as a separate international transaction. Accordingly, this issue is also set aside to the record of the TPO/A.O. for computation of arm s length price alongwith main international transaction of sale. Appeal of the revenue allowed for statistical purposes only.

Issues Involved:
1. Deletion of addition made by the Assessing Officer (AO) under Section 92C of the Income Tax Act, 1961.
2. Deletion of addition made by the AO on account of interest not charged from Associated Enterprises (AE) on outstanding receivables.
3. Applicability of the second proviso to Section 92C(2) of the Income Tax Act, 1961.
4. Methodology for determining Arm’s Length Price (ALP) for international transactions.
5. Adjustment on account of notional interest in respect of the credit period allowed to AE.

Detailed Analysis:

1. Deletion of Addition under Section 92C:
The AO made an addition of ?97,06,241/- under Section 92C of the Income Tax Act, 1961, which was deleted by the CIT(A). The Tribunal noted that the assessee, engaged in manufacturing and exporting hand-knotted carpets, reported international transactions with its AE, M/s Jaipur Rugs Inc., USA. The Transfer Pricing Officer (TPO) did not accept the average method applied by the assessee for benchmarking its international transactions and proposed a Transfer Pricing (T.P.) addition of ?97,06,241/-.

2. Deletion of Addition on Account of Interest Not Charged from AE:
The AO also made an addition of ?1,63,68,461/- on account of interest not charged from AE on outstanding receivables. The CIT(A) applied LIBOR instead of PLR and worked out the ALP on account of interest at ?25,61,118/-. However, this amount was set off against foreign exchange differences, and the CIT(A) deleted the additions made by the AO on account of transfer pricing adjustment.

3. Applicability of Second Proviso to Section 92C(2):
The revenue argued that the second proviso to Section 92C(2) is not applicable as the AO applied the Comparable Uncontrolled Price (CUP) method for determining ALP. The Tribunal noted that the TPO did not take a correct view by cherry-picking transactions and not considering those sold at a higher rate than the CUP. The Tribunal directed the AO/TPO to use a weighted average method instead of a simple average for determining ALP.

4. Methodology for Determining ALP:
The Tribunal found that the average method adopted by the assessee did not give the correct results due to the vast variation in rates of different varieties of carpets. The Tribunal directed the AO/TPO to carry out a fresh exercise using a weighted average method for determining ALP. The Tribunal also emphasized that the transactions should be aggregated if they are closely linked or continuous in nature.

5. Adjustment on Account of Notional Interest:
The Tribunal held that the act of allowing credit to AE is not an independent international transaction but is dependent on the sales made to AE. Therefore, the financial effect of the credit allowed should be considered as part of the sales transaction. The Tribunal directed the AO/TPO to consider LIBOR as the arm’s length interest rate and to re-do the exercise of determining ALP by aggregating the credit period with the sale transaction.

Appeals for A.Y. 2009-10 and 2010-11:
The issues in the appeals for A.Y. 2009-10 and 2010-11 were similar to those in A.Y. 2008-09. The Tribunal set aside the matters to the AO/TPO for fresh examination and determination of ALP using the same terms and directions as for A.Y. 2008-09.

Conclusion:
All four appeals were allowed for statistical purposes, and the matters were set aside to the AO/TPO for fresh determination of ALP and adjustments, considering the Tribunal’s directions on methodology and interest rate application. The Tribunal emphasized the need for a weighted average method and the aggregation of closely linked transactions for accurate transfer pricing analysis.

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