2008 (9) TMI 421 - AT - Income Tax

Tax Avoidance - disallowance on loss - TP Adjustment - Determination of ALP in respect of an international transaction - Export turnover - no profit - Conditions invoking provisions of s. 92 - CIT(A) held that margin earned from export sales made to M/s Carraro Italy was more than gross margin earned from domestic sales. However he held that appellant had not explained reasons for comparatively low profit of 28.75 per cent in AY 2000-01 as compared to high profit of 38.56 per cent in AY 2003-04. For this low margin of profit the ld CIT(A) disallowed loss and rejected the basis of AO s computation of profit at 10 per cent of sale. This way loss was allowed to the assessee. HELD THAT - It is evident that following conditions need to be satisfied for invoking sec. 92 (1) The business is carried on between a resident and a non-resident. (2) There is a close connection between the resident and non-resident party. (3) The resident earns either no profits or less than ordinary profits because of arrangement existing between parties. These are the three conditions which are required to be satisfied before invoking provisions of s. 92. It was not and could not be disputed that the assessee a resident carried business with a non-resident (M/s Carraro Italy); Therefore there is close connection between the assessee and the nonresident party. The resident had suffered loss because of arrangement existing between the parties. It is relevant to mention here that it is a case of earning of no profit by the resident and not a case of less than ordinary profit. Therefore we see no error in the approach of the AO in the assessment order or in the remand report. Condition No. 3 of the section emphasises case of no profit or less than the ordinary profit. So the ultimate result whether it is a case of no profit or less than ordinary profit is to be seen. The emphasis is on no profit and therefore the CIT(A) was not correct in taking into account some figures of gross profit of the year under consideration and subsequent years. In our considered opinion where it is ultimately a case of no profit it is immaterial that there was some gross profit. The section clearly requires to consider net results We are unable to accept the contention of Shri Ved Jain that case for the year under consideration be closed as transactions with the party have been accepted in the subsequent years. It is not in dispute that statutory provisions in the subsequent years were different from provisions of s. 92 applicable in the year under consideration. The orders passed by TPO contain only her conclusions and not detailed facts and circumstances on which such conclusion is based. There is no presumption that if in one year business with the associated concern is carried at arm s length then it is carried at arm s length in all other assessment years. The facts and circumstances of each year are to be examined. Conditions of s. 92 in this case are prima facie satisfied and therefore the burden was on the assessee to show that no profit resulted to the assessee on account of arrangement with the connected non-resident. As appellant complained that reasonable opportunity was not allowed to the assessee by the AO and there is no basis available for estimating profit at 10 per cent of turnover without considering provisions of rr. 10 and 11 of IT Rules we are of the view that interest of justice would be served if impugned order of CIT(A) is set aside and matter is restored to the me of the AO for making a fresh assessment. Therefore both the appeals are allowed for statistical purposes.

Summary

Issues Involved:

1. Applicability of Section 92 of the Income Tax Act.
2. Rejection of assessee's accounts by the Assessing Officer (AO).
3. Estimation of profit by the AO at 10% of total turnover.
4. Disallowance of loss by the CIT(A).
5. Burden of proof regarding the arrangement between the assessee and the non-resident party.
6. Consideration of subsequent years' Transfer Pricing Orders.

Issue-wise Detailed Analysis:

1. Applicability of Section 92 of the Income Tax Act:

The AO invoked Section 92, suspecting that the business arrangement between the assessee (a joint venture company) and M/s Carraro SPA Italy (the non-resident promoter and partner) was structured to produce less than ordinary profits. The AO concluded this based on the significant loss reported by the assessee and the substantial transactions with the non-resident party. The CIT(A) held that for Section 92 to apply, the AO must demonstrate that the business arrangement was designed to reduce taxable income in India. However, the AO did not perform a comparative analysis of the prices of goods sold and purchased. The Tribunal emphasized that the conditions for invoking Section 92 were met, as there was a close connection between the resident and non-resident, and the resident earned no profit due to the arrangement.

2. Rejection of Assessee's Accounts by the AO:

The AO rejected the assessee's accounts, computing the profit at 10% of the total turnover instead of accepting the reported loss. The CIT(A) found that the AO did not substantiate this rejection with adequate evidence or analysis. The Tribunal agreed with the CIT(A) that the AO's approach was flawed, as the AO did not follow the proper procedure for invoking Section 92 and failed to conduct a thorough evaluation of the transactions.

3. Estimation of Profit by the AO at 10% of Total Turnover:

The AO estimated the assessee's profit at 10% of the total turnover, resulting in a computed profit of Rs. 1,58,20,000 against the reported loss of Rs. 14,86,78,247. The CIT(A) rejected this estimation, finding it arbitrary and unsupported by evidence. The Tribunal concurred, noting that the AO did not provide a basis for this estimation and did not consider the rules prescribed under the Income Tax Rules for determining profits in such cases.

4. Disallowance of Loss by the CIT(A):

The CIT(A) disallowed a portion of the reported loss, specifically Rs. 2.52 crores, due to the lower profit margin in the assessment year 2000-01 compared to subsequent years. The CIT(A) allowed the remaining loss of Rs. 12,34,78,247. The Tribunal found that the CIT(A) was incorrect in focusing on gross profit figures and subsequent years' data, as the relevant consideration under Section 92 is the net profit or loss. The Tribunal emphasized that the CIT(A) should have considered the net results and the overall arrangement between the parties.

5. Burden of Proof Regarding the Arrangement Between the Assessee and the Non-Resident Party:

The Tribunal highlighted that the burden of proof lies with the assessee to demonstrate that the "no profit" situation was not due to the arrangement with the non-resident party. The assessee needed to show that the transactions were conducted at market prices and not influenced by the close connection with the non-resident. The Tribunal found that the CIT(A) incorrectly placed the burden on the AO and did not adequately consider the material on record.

6. Consideration of Subsequent Years' Transfer Pricing Orders:

The assessee argued that the Transfer Pricing Officer (TPO) accepted the arm's length nature of transactions in subsequent years, suggesting that the same should apply to the assessment year in question. The Tribunal rejected this argument, noting that the statutory provisions and circumstances in subsequent years were different. Each assessment year must be examined on its own facts and circumstances, and the acceptance of transactions in later years does not automatically validate the arrangements in the year under consideration.

Conclusion:

The Tribunal set aside the CIT(A)'s order and remanded the matter to the AO for a fresh assessment in accordance with the law and the Tribunal's observations. Both the assessee's and the Revenue's appeals were allowed for statistical purposes. The Tribunal emphasized the need for a detailed and proper evaluation of the transactions and the arrangement between the assessee and the non-resident party to determine the correct taxable income.