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2009 (6) TMI 125 - AT - Income TaxTP adjustment u/s 92C(4) -Transactions of sale and purchase with its AEs - International transactions - TNMM Method - Profit level indicator (PLI) for ratio between the net operating profit margin and the net sales - Whether cash profit/sales ratio was correct PLI for determining the ALP - actual value of the purchase transactions exceeds the tolerable band - Whether depreciation could be disregarded in the TP analysis both in the case of the taxpayer and the comparables - HELD THAT - In the present appeal, ALP of transactions carried was to be determined by comparing net profit of the taxpayer (tested party) with mean net profit of comparables, Only receipts and expenditure, having connection with international transactions, were required to be taken into account. Net profit used in r. 10B can be taken to mean commercial profit as held by the TPO and confirmed on appeal by the learned CIT(A). But depreciation in such profit on commercial principles has to be the actual amount by which the assets of business got depleted between the two dates separated by a year. It cannot be depreciation under tax or companies rules or as per policy of the company. In the case in hand. Revenue authorities went wrong in disregarding the context and purpose for which the net profit was to be computed. Depreciation, which can have varied basis and is allowed at different rates is not such an expenditure which must be deducted in all situations. It has no direct connection or bearing on price, cost or profit margin of the international transactions. Principles emphasized in the case of Bangalore Clothing 2003 (1) TMI 89 - BOMBAY HIGH COURT are attracted here. Object and purpose of the transfer pricing to compare like with the like, and to eliminate differences, if any, by suitable adjustment is to be seen. Therefore, there was justification on the part of the taxpayer in pleading that profits be taken without deduction of depreciation as depreciation was leading to large differences in margins for various reasons. The AO, after looking into details of financial results of comparable enterprises, excluded all companies except the three, although two of companies selected, namely Coventry Coil-O-Matic (Haryana) Ltd. and Roto Pumps Ltd. percentage of depreciation to total cost had differences of more than 2 per cent as shown above, which, in our opinion, is quite substantial. The learned CIT(A) is right in holding that working of mean profit of the TPO on the basis of three selected companies was not correct. But then the learned CIT(A) also failed to give due regard to the nature, type and age of the machinery employed by comparables or size of the companies leading to material differences. Without considering obvious material differences, the contention of the taxpayer to take profit without depreciation was rejected. We feel this rejection is not sound in law. The taxpayer has also furnished similar working taking cash profit/TC (excluding depreciation) and has claimed that if benefit of proviso to s. 92(2) is allowed, there is no case for making any adjustments in the two years. on figures and methodology adopted by learned CIT(A), with the exclusion of depreciation, we see that there is no case for making any adjustment. However, it is not clear from record whether above figures were verified by the Revenue authorities. Both the parties agreed that above figures and computations can be verified by the AO/TPO. We are also of the view that it would be appropriate to get above claim verified by the AO/TPO. Accordingly, we set aside the impugned orders of Revenue authorities including TPO and restore the matter to the file of the AO to carry above exercise. In case either on cash profit/sale basis or on cash profit/total cost of comparables finalized by the learned CIT(A), it is found that arm's length principles are satisfied in international transactions, no adjustment is to be made. Otherwise, fresh orders be passed in accordance with law in the light of above discussion. We, however, make it clear that matters which have already attained finality are not intended to be reopened. It was claimed that TP analysis was carried in these cases, aggregating all the international transactions of various nature. In the taxpayer's report only segmental profit of international transaction was to be taken for comparison. Accordingly, the taxpayer proved that it should be permitted to file a fresh TP report and the entire case from that point onwards should be examined afresh after remand. Request was opposed by the ld DR. In the present case, Revenue authorities carried TP analysis, mainly on the basis of information furnished by the taxpayer. Both the parties accepted some enterprises as suitable comparables and carried comparative analysis. It is neither permissible nor desirable at this stage of second appeal to permit a somersault and accept that taxpayer's report was not correct and a fresh report should be permitted to be filed and thereafter fresh TP analysis be carried. No such argument was raised or taken by the taxpayer or made in impugned orders. We see no good reason to permit the taxpayer to make a totally new case which will knock off earlier assessments and require to carry fresh analysis from the first stage. The taxpayer has not placed any material on record to show that alleged segmental profit in its case or in the case of comparables is available in public domain and would give different results. As is clear from discussion, both the parties proceeded to accept material on record as relevant material and carried TP analysis which has been thoroughly discussed above. Hence, the request of the taxpayer to permit to raise additional grounds and to lead fresh material has no substance and is rejected. Thus, both the appeals of the taxpayer are allowed for statistical purposes in terms stated above.
Issues Involved:
1. Adjustment of INR Rs. 1,11,52,533 and INR Rs. 86,52,721 under s. 92C(4) for not charging ALP in international transactions. 2. Selection of the most appropriate method for benchmarking international transactions. 3. Rejection of PLI of cash profit/sales by the TPO. 4. Determination of ALP by the TPO. 5. Exclusion of certain comparables by the TPO. 6. Appeal by the taxpayer before the CIT(A). 7. Adoption of cash profit as PLI by the taxpayer. 8. Calculation of ALP by CIT(A). 9. Appeal by the taxpayer before the Tribunal. 10. Request for additional ground and additional evidence by the taxpayer. Detailed Analysis: 1. Adjustment under s. 92C(4): The taxpayer, a joint venture between Motherson Sumi Systems Ltd. and Schefenacker International GmbH, faced adjustments of INR Rs. 1,11,52,533 and INR Rs. 86,52,721 for the assessment years 2003-04 and 2004-05 respectively. The adjustments were due to not charging the Arm's Length Price (ALP) in international transactions with associated enterprises (AEs). 2. Selection of the Most Appropriate Method: The taxpayer used the Transactional Net Margin Method (TNMM) as the most appropriate method for benchmarking international transactions. The taxpayer's auditor justified the price charged/paid using this method, focusing on the operative results of comparable companies for financial years 2001-02 and 2002-03. 3. Rejection of PLI of Cash Profit/Sales by the TPO: The Transfer Pricing Officer (TPO) rejected the taxpayer's use of the Profit Level Indicator (PLI) of cash profit/sales, arguing that under TNMM, the net operating margin should be used as the numerator. The TPO stated that cash profit is more akin to gross profits rather than net profits and does not conform to Rule 10B of Indian IT Rules. 4. Determination of ALP by the TPO: The TPO applied a quantitative filter of the ratio between depreciation and total cost to the taxpayer's comparables and selected three final comparables with similar ratios. The arithmetic mean of the operating profit to total cost (OP/TC) was determined to be 6.66%. The TPO then made TP adjustments based on this mean, resulting in adjustments of INR Rs. 1,16,03,004 for the assessment year 2003-04. 5. Exclusion of Certain Comparables by the TPO: For the assessment year 2004-05, the TPO excluded certain comparables that were not considered real comparables due to differences in their business profiles. The TPO then computed the ALP using the ratio of operating profit to sales, resulting in adjustments of INR Rs. 1,10,96,223. 6. Appeal by the Taxpayer Before the CIT(A): The taxpayer challenged the TP adjustments and the assumption of jurisdiction by the AO and TPO. The CIT(A) found no error in the approach of the AO and TPO. The CIT(A) also rejected the taxpayer's contention that PLI could be cash profit/sales and held that there was no justification to exclude depreciation while computing net margins. 7. Adoption of Cash Profit as PLI by the Taxpayer: The taxpayer argued that cash profit/sales should be used as the PLI to eliminate differences in technology, age of assets, capacity utilization, and depreciation policies. The taxpayer's claim was supported by the guidance note on transfer pricing issued by ICAI and OECD Guidelines. 8. Calculation of ALP by CIT(A): The CIT(A) excluded certain comparables and determined the mean operating profit at 6.43% for the assessment year 2003-04 and 11.14% for 2004-05. The CIT(A) proposed TP adjustments of INR Rs. 1,11,52,533 and INR Rs. 86,52,721 respectively. 9. Appeal by the Taxpayer Before the Tribunal: The taxpayer appealed to the Tribunal, challenging the inclusion of depreciation in computing net profit. The Tribunal noted that the Department had accepted the CIT(A)'s orders and that depreciation should not be deducted in all situations as it has no direct connection with price or profit margin of international transactions. The Tribunal directed the AO to verify the taxpayer's claim of cash profit excluding depreciation. 10. Request for Additional Ground and Additional Evidence by the Taxpayer: The taxpayer requested to raise additional grounds and file additional evidence, arguing that segmental profit should be taken for comparison. The Tribunal rejected this request, stating it was neither permissible nor desirable at this stage to permit a new case that would require fresh analysis from the first stage. Conclusion: The Tribunal allowed the taxpayer's appeals for statistical purposes, directing the AO to verify the taxpayer's claim of cash profit excluding depreciation and determine if arm's length principles are satisfied in international transactions. If satisfied, no adjustments are to be made.
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