2017 (7) TMI 854 - AT - Income Tax

TPA - selection of comparable - Held that - Following the principle of maintenance of consistency in its approach by the Revenue on an identical issue under similar set of facts, we are inclined to accept the contention of AR that if the comparable Cox & Kings as excluded by the TPO in the subsequent assessment year 2007-08 under similar facts is excluded during the year, then the mean of other comparables would come to 19.24%, which is within - 5% of the profit margin declared by the assessee. Thus, no adjustment is required to be made by the TPO during the year for working out the arm s length price relating to the international transactions entered into during the year. Also find substance in the contention of the ld. AR that mean has to be applied to the transactions related to AE only and transactions related with non-AE are to be excluded from the net profit margin. The assessee has made available the complete working vis-a-viz transactions with AE and non-AE, perusal of the same shows that the margin of the assessee with respect to transactions with AE gives the profit ratio of 23.91%, which is more than the adjustment made by the TPO. It is held accordingly. The assessee succeeds on this account as well. In result, the adjustment in question made and upheld by the authorities below is held as not justified. Addition of royalty - Held that - We find that in the immediately subsequent assessment year 2008-09, the ld. DRP following survey report by the publication Franchising World has observed that the average royalty percentage in travel industry is 5.6%. In the absence of any data to the contrary and non-specific comment of the TPO in this regard, the ld. DRP has taken guidance from the said survey report and since the royalty paid by the assessee was lower than 5.6%, it held the royalty percentage at 5.6% is justifiable in the case of assessee. Following the same, we find it reasonable and justifiable to direct the TPO to allow the average royalty percentage at 5.6% during the year as well against the claimed royalty percentage of 6% by the assessee. The grounds on the issue are thus partly allowed, to the above extent.

Summary

Issues Involved:

1. Application of Transactional Net Margin Method (TNMM) vs. Comparable Uncontrolled Price (CUP) method.
2. Selection of comparables by the Transfer Pricing Officer (TPO).
3. Function, Assets, and Risk (FAR) analysis.
4. Calculation of Arm's Length Price (ALP).
5. Rejection of internal segmental data.
6. Consistency in the application of transfer pricing methods.
7. Payment of royalty and its benchmarking.

Detailed Analysis:

1. Application of TNMM vs. CUP Method:
The assessee argued that the CUP method was the most appropriate method for benchmarking transactions due to the similar ratio of transactions with Associated Enterprises (AEs) and non-AEs. The TPO, however, applied the TNMM method, which led to an adjustment of ?2,05,69,692/-. The Tribunal found merit in the assessee's claim that the internal CUP method was appropriate given the ratio of transactions with AEs and non-AEs.

2. Selection of Comparables by the TPO:
The assessee contended that the TPO did not apply the FAR test correctly and included Cox & Kings as a comparable, which was not functionally similar. The Tribunal noted that in the subsequent year, the TPO excluded Cox & Kings, and the same should be applied consistently. Excluding Cox & Kings, the mean margin of other comparables was within the acceptable range, negating the need for adjustment.

3. Function, Assets, and Risk (FAR) Analysis:
The assessee argued that the TPO did not perform a proper FAR analysis before selecting comparables. The Tribunal agreed that a correct FAR analysis was necessary and found that Cox & Kings was not functionally comparable due to differences in business operations and risk profiles.

4. Calculation of ALP:
The TPO calculated the ALP using an incorrect profit margin at the entity level instead of focusing on international transactions with AEs. The Tribunal held that the correct profit margin from AE transactions was 23.91%, higher than the margin used by the TPO, thus no adjustment was required.

5. Rejection of Internal Segmental Data:
The TPO rejected the internal segmental data provided by the assessee, claiming it was unaudited. The Tribunal found that the assessee had provided sufficient audited data and that the TPO did not point out any specific defects in the allocation keys used by the assessee. The Tribunal held that the internal segmental data should be accepted.

6. Consistency in Application of Transfer Pricing Methods:
The Tribunal emphasized the need for consistency in the application of transfer pricing methods across different assessment years. Given that the TPO accepted the assessee's method in subsequent years, the same approach should be applied consistently for the year under consideration.

7. Payment of Royalty and Its Benchmarking:
The assessee paid royalty for the use of trademarks, marketing support, and technical inputs. The DRP allowed 2% royalty, while the assessee claimed 6%. The Tribunal referred to the DRP's decision in subsequent years, which accepted a 5.6% royalty based on industry standards. The Tribunal directed the TPO to allow a 5.6% royalty rate for the year under consideration, partially allowing the assessee's claim.

Conclusion:
The Tribunal allowed the appeal for the assessment year 2006-07, finding the TPO's adjustments unjustified. For the assessment year 2007-08, the Tribunal partially allowed the appeal, directing a 5.6% royalty rate. The judgments emphasized the importance of consistency, proper FAR analysis, and acceptance of audited internal data in transfer pricing assessments.