2022 (10) TMI 482 - AT - Income Tax

TP Adjustment - selection of MAM - Assessee selected Transactional Net Margin Method ( TNMM ) as the most appropriate transfer pricing method, with operating profit/operating cost ( OP/OC ) as the profit level indicator ( PLI ) - HELD THAT - By not taking into consideration the segmental level profitability and calculating margins on entity level basis led to adjustments on the basis of profit allocation instead of segmental costing. More so inspite of availability of audited segmental accounts the DRP failed to take same into consideration. TPO / AO is directed to take into consideration, the audited segmental accounts and thereby make fresh adjustments. Accordingly these grounds are decided in favour of the assessee for statistical purposes. Comparable selection - HELD THAT - As observed that assessee is dealing exclusively in domain of wastewater treatment facilities while companies included except DRA Consultants Ltd. have varied business interests. Since the assessee has the claim on segmental accounts the functionality test is a vital consequence. As assessee is operating in a very limited sphere of providing ecologically engineer wastewater treatment solutions the companies having diversified areas of interest and with nominal interest in wastewater treatment solutions cannot be said to passing the functionally test. Thus, the AO/ TPO are directed to remove Mitcon consultancy and engineering services, Aakar Abhinav Consultants Pvt. Ltd., Feedback Infra Pvt. Ltd. and Mahindra Consulting Engineers Limited from the comparables and make a fresh adjustments. Accordingly, the ground is decided in favour of the assessee.

Issues Involved:
1. Jurisdictional error in reference to Transfer Pricing Officer (TPO).
2. Addition to returned income by re-computing arm's length price.
3. Violation of natural justice principles.
4. Rejection of segmental allocation between AE and Non-AE segments.
5. Basis for calculation of proportionate transfer pricing adjustment.
6. Acceptance of non-comparable companies.

Detailed Analysis:

Jurisdictional Error in Reference to TPO
The assessee contended that the Assessing Officer (AO) did not record any reasons in the assessment order to justify the reference to the TPO for computing the arm's length price, as required under section 92CA(1) of the Income Tax Act. However, this ground was not pressed with substantial arguments during the hearing.

Addition to Returned Income by Re-computing Arm's Length Price
The AO, based on the TPO's adjustments, enhanced the income of the assessee by Rs. 3,26,67,008. The TPO rejected the segmental determination of AE and Non-AE profits, applied new quantitative filters, and introduced additional comparable companies, leading to the re-computation of the arm's length price.

Violation of Natural Justice Principles
The assessee argued that the principles of natural justice were violated as the DRP directions were not served despite several requests, and no opportunity of being heard was given before enhancing the transfer pricing adjustment. This ground was also not pressed with substantial arguments during the hearing.

Rejection of Segmental Allocation Between AE and Non-AE Segments
The TPO rejected the segmental accounts provided by the assessee, stating that the AE transactions constituted more than 98% of the operating revenue, and the expenses were allocated based on entire income rather than operating income. The DRP upheld this view, agreeing with the TPO's findings. However, the Tribunal found that the tax authorities failed to consider the significant decline in non-AE business and the unchanged employee costs, leading to erroneous adjustments. The Tribunal directed the AO/TPO to consider the audited segmental accounts and make fresh adjustments.

Basis for Calculation of Proportionate Transfer Pricing Adjustment
The assessee argued that the revenue should not be the basis for calculating proportionate adjustments, as significant costs were incurred despite the decline in non-AE revenue. The Tribunal agreed, noting that the tax authorities should have considered the segmental level profitability. The AO/TPO was directed to make fresh adjustments based on audited segmental accounts.

Acceptance of Non-Comparable Companies
The Tribunal observed that the companies selected by the TPO and upheld by the DRP were not functionally comparable to the assessee, which deals exclusively in wastewater treatment facilities. Companies with diversified business interests and nominal involvement in wastewater treatment were included as comparables. The Tribunal directed the AO/TPO to exclude Mitcon Consultancy & Engineering Services Ltd., Aakar Abhinav Consultants Pvt. Ltd., Feedback Infra Pvt. Ltd., and Mahindra Consulting Engineers Limited from the comparables and make fresh adjustments.

Conclusion:
The appeal of the assessee was allowed with directions to the AO/TPO to consider the audited segmental accounts and exclude non-comparable companies, leading to fresh adjustments. The Tribunal emphasized the need for a realistic view of the business decline and cost structure, ensuring that the arm's length price is computed accurately. The order was pronounced in the open court on 4th October 2022.

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