2014 (9) TMI 601 - AT - Income Tax

Transfer pricing adjustment Payment of royalty Payment made on product not specifically mentioned in agreement Held that - The contract as amended under the seventh amendment authorize payment of royalty for certain products as well as minor variations - The wording and includes variations thereof from design changes or minor model changes puts the issue beyond debate - the TPO has erred in coming to such a conclusion on facts - Change in type of fuel used or changing the start mechanism, or change in the crank shaft, etc. would be versions of variants of the same products - These are not new products - Even if the product is a result of design change then also the clause authorized payment of royalty - in the definition given in the collaboration agreement, Product means a model of portable generator and includes variation thereof from design changes and minor model changes made by Honda the approvals in a way would support the contentions of the assessee that the payment of royalty in question is governed by the agreement - It is nobodies case that illegal or unauthorized payments of royalty and consequent remittances of foreign exchange has been made by the assessee company. The conclusions drawn by the TPO that the assessee is not required to pay any royalty on the products is against the terms of the agreement - the AO cannot sit in the arm chair of the businessman and determine as to what expenditure is necessary to be incurred by the businessman for the purpose of his business - the arguments of the assessee that similar payments were made by the assessee for the last few years and that the TPO as well as the AO have accepted the genuineness of the payments and have approved the claim that the payments were at arm's length assume significance - as the TPO has accepted that MAM followed by the assessee and approved the arm's length price of royalty rate determined by the asseesee, with respect to royalty paid on the products, the claim of the assessee on the payments of royalty on the variants of the products is to be allowed as per the aspects are concerned Decided in favour of assessee. Nature of payment capital or revenue - Whether the royalty paid and the technical guidance fee paid in terms of the Technical Collaboration Agreement are in the capital field or in the revenue field Held that - Following the decision in M/s Hero MotoCorp Limited Versus Additional Commissioner of Income tax 2013 (9) TMI 796 - ITAT DELHI - the assessee company made the lump sum payment and also the running royalty - The running royalty was calculated as a percentage of sales - The lump sum payment was treated as capital expenditure by the assessee company and the running royalty was treated as revenue expenditure - the running royalty is allowed as revenue expenditure Decided in favour of assessee. Payment of export commission u/s 40(a)(i) Held that - Following the decision in M/s Hero MotoCorp Limited Versus Additional Commissioner of Income tax 2013 (9) TMI 796 - ITAT DELHI export commission was neither royalty nor fee for technical services and, therefore, the assessee was not required to deduct tax at source on the payment of export fee - once the assessee was not required to deduct the tax at source, it cannot be said that the assessee failed to deduct tax at source so as to apply Section 40(a)(ia) - the export agreement was for the benefit or the assessee and not detrimental to the assessee - the finding of the AO that the expenditure incurred by the assessee by way of export agreement was not incurred for the purpose of business of the assessee cannot be upheld - the export commission paid by the assessee was for the purpose of assessee's business Decided in favour of assessee.

Issues Involved:
1. Transfer Pricing Adjustments on Royalty Payments
2. Capitalization of Royalty and Technical Guidance Fees
3. Disallowance of Export Commission under Section 40(a)(i)

Issue-wise Detailed Analysis:

1. Transfer Pricing Adjustments on Royalty Payments:
The primary issue was whether the royalty payments made by the assessee for products not explicitly mentioned in the Technical Collaboration Agreement (TCA) were at arm's length. The Transfer Pricing Officer (TPO) argued that the royalty payments for variants of products not listed in the TCA were not at arm's length and determined the arm's length price (ALP) of these payments to be nil. The assessee contended that the TCA covered not only the specified products but also their variants. The Tribunal found that the term "products" in the TCA included variations resulting from design changes or minor model changes, supporting the assessee's claim. The Tribunal held that the TPO erred in concluding that the variants were separate products and allowed the assessee's claim regarding royalty payments. The Tribunal emphasized that similar payments were accepted in previous years, supporting the principle of consistency.

2. Capitalization of Royalty and Technical Guidance Fees:
The Assessing Officer (AO) treated the royalty and technical guidance fees as capital expenditure, allowing 25% depreciation after capitalizing these amounts. The assessee argued that these payments were revenue expenditures, necessary for obtaining know-how for manufacturing the final products. The Tribunal compared the clauses of the agreements in question with those in a similar case (Hero Motor Corp Ltd.) and found them to be para materia. It concluded that the payments were revenue in nature, not capital, and allowed the assessee's claim. The Tribunal relied on previous decisions, including those of the Jurisdictional High Court, which supported the treatment of running royalty payments as revenue expenditures.

3. Disallowance of Export Commission under Section 40(a)(i):
The AO disallowed the export commission paid to Honda Motor Co. Ltd., Japan, treating it as royalty/fees for technical services and invoking Section 40(a)(i) due to non-deduction of tax at source. The assessee argued that the export commission was not in the nature of royalty or fees for technical services and did not accrue income in India. The Tribunal referred to its earlier decision in the assessee's own case and found that the export commission was neither royalty nor fees for technical services. It held that the payment was for the purpose of the assessee's business and could not be considered capital expenditure. Consequently, the disallowance under Section 40(a)(i) was deleted, and the assessee's claim was allowed.

Conclusion:
The Tribunal allowed the assessee's appeal on all grounds, concluding that the royalty payments were at arm's length, the royalty and technical guidance fees were revenue expenditures, and the export commission was not subject to disallowance under Section 40(a)(i). The appeal of the assessee was thus allowed in full.

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