2014 (8) TMI 868 - AT - Income Tax

Transfer pricing adjustment Adjustment of capacity utilization - Held that - Although the factors might have contributed to the loss of the assessee company, it could not be arrived at with any degree of certainty that the transfer price of the international transaction have contributed towards the loss of the assessee company in the absence of any details furnished by the assessee company regarding the price at which the final product was sold by the AE - The claim of the assessee qua the benefit of 5% adjustment as per second proviso to section 92C(2) of the Act was allowed by the CIT(A) - Following the order in Amdocs Business Services (P) Ltd V/s DCIT 2012 (12) TMI 482 - ITAT PUNE - the statutory provisions as they stand on the first day of April of the assessment year must apply to the assessment of the year and the modification of the provisions during the pendency of assessment would not generally prejudice the rights of the assessee. Therefore, we find no justification in the action of the lower authorities in disentitling the assessee the benefit of /-5% while computing ALP in terms of erstwhile proviso to sec 92C(2) - It has already been decided in earlier cases that assessee while allowing the benefit of 5% to the assessee as per the erstwhile proviso to 92C of the Act the order of the CIT(A) allowing the benefit of 5% adjustment to the assessee while computing the TP adjustment is upheld Decided against Revenue. Claim of adjustment on capacity utilization Held that - Following the order in Dy. Commissioner of Income Tax Rg. 8(2) Versus M/s Petro Araldite P. Ltd. 2013 (8) TMI 403 - ITAT MUMBAI - The issue of difference in capacity utilisation generally comes in the case of manufacturing concern and like any other business undertaking, the manufacturing concern has mainly two types of overheads i.e. fixed overheads and variable overheads - The variable overheads vary in proportion to the sales and they therefore do not have any effect on the profit margin as a result of difference in capacity utilization - The fixed overheads, on the other hand, do not vary with the volume of sales and since they remain by and large static irrespective of level of capacity utilization, the profit margin gets affected as a result of difference in capacity utilization on this count - the difference in capacity utilization materially affects the profit margin and if there is a difference in the level of capacity utilization of the assessee and the level of capacity utilization of the comparable companies, adjustment is required to be made to the profit margin of the comparables on account of difference in capacity utilization as per clause (e)(iii) of sub-rule (1) of Rule 10-B of the Income Tax Rules, 1962 the matter is to be remitted back to the AO relating the issue to adjustment on account of capacity utilization in the case of assessee Decided in favour of assessee.

Summary

Issues Involved:
1. Transfer Pricing Adjustment of Rs. 1,01,06,805/-
2. Adjustment on account of capacity utilization
3. Benefit of +/-5% adjustment under Section 92C(2) of the Income Tax Act

Detailed Analysis:

1. Transfer Pricing Adjustment of Rs. 1,01,06,805/-
The primary issue in this case revolves around the Transfer Pricing (TP) adjustment of Rs. 1,01,06,805/- made by the Assessing Officer (AO)/Transfer Pricing Officer (TPO). The assessee, a joint venture company, engaged in the manufacturing of diamonds and precious stones studded jewelry, filed a return declaring a loss of Rs. 88,24,570/-. During the assessment, the AO noticed international transactions worth Rs. 12,77,59,946/- with its Associated Enterprises (AE). The TPO found the average profit margins (OP/OC) of the comparables to be 5.31% against the assessee's OP/OC of (-2.48%). The assessee attributed its lower margin to operating at 50% capacity. Despite this, the TPO did not allow the adjustment for capacity utilization and denied the benefit of +/-5% adjustment, leading to a TP adjustment of Rs. 1,01,06,805/-.

2. Adjustment on account of capacity utilization
The assessee argued that being a new company, it faced teething problems, high manpower costs, and underutilization of capacity, leading to losses. The CIT(A) upheld the AO's disallowance of the capacity utilization adjustment, stating that the loss could not be attributed to the transfer price of international transactions without detailed information on the final product's sale price by the AE. However, the Tribunal noted that the issue of capacity utilization adjustment was not adequately addressed by the AO/CIT(A). Referring to the decision in the case of Petro Araldite (P.) Ltd., the Tribunal emphasized the necessity of allowing adjustments for capacity utilization. The Tribunal restored the issue to the AO/TPO for fresh consideration, directing them to obtain the necessary details and decide the issue following the guidelines laid out in the Petro Araldite case.

3. Benefit of +/-5% adjustment under Section 92C(2) of the Income Tax Act
The CIT(A) allowed the assessee's claim for the benefit of +/-5% adjustment, citing various case laws. The Tribunal upheld this decision, referencing multiple precedents, including Amdocs Business Services (P) Ltd V/s DCIT, Starent Networks (India) P.Ltd V/s DCIT, and Tata Vectra Motors Ltd V/s DCIT. The Tribunal reiterated that the benefit of the +/-5% adjustment as per the erstwhile proviso to Section 92C(2) was applicable, despite the amendment by the Finance (No. 2) Act, 2009. The Tribunal clarified that the amended proviso applied prospectively from 1.10.2009 and did not affect the assessment year in question.

Conclusion:
The Tribunal dismissed the revenue's appeal, upholding the CIT(A)'s decision to allow the benefit of +/-5% adjustment. The cross-objection filed by the assessee was allowed for statistical purposes, with the issue of capacity utilization adjustment remanded to the AO/TPO for fresh adjudication in line with the Tribunal's guidelines. The order was pronounced in the open court on 7th May 2014.