2018 (2) TMI 1210 - AT - Income Tax

Transfer pricing adjustment - assessee s payment of royalty to its AE - MAM selection - ALP determination - Held that - The assessee s payment of royalty to its AE was justified by using the external CUP that is by placing catena of comparable uncontrolled transaction of the third parties. TPO without actually carrying out any analysis of the comparables during the remand proceedings or assigning any basis had simply held that royalty should be taken at Nil because assessee has incurred loss at entity level and that is why the technical knowledge or knowhow from AE has not provided any economic benefit to the assessee. Such an observation or reasoning cannot be upheld at all because once there is a valid agreement for transfer of non-exclusive right for use of license to use technology including knowhow of AE for the purpose of carrying out manufacturing of automotive parts from which assessee has earned substantial revenue receipts then such a use of technology and knowhow is directly linked with manufacturing and resultantly sales. Incurring of loss cannot be the parameter to hold that the technological knowhow or license was of no benefit hence there was no requirement to pay the royalty. Loss cannot be co- related with the economic benefit of use of technology or knowhow because profit and loss are market driven and host of other economic factors. TPO was only required to see whether the payment of royalty meets the arm s length requirement of ALP or not. When the chance was given to the TPO in the remand proceedings by the CIT(A) he has failed to examine the external CUP. CIT (A) has analyzed all the factors and various comparable uncontrolled transactions to reach to a conclusion that royalty payment @ 3.15% is at ALP and accordingly we do not find any reason to deviate from such a finding and the same is upheld. - Decided against revenue.

Issues Involved:
1. Deletion of addition made on account of transfer pricing adjustment in respect of royalty.
2. Acceptance of fresh documentation by CIT (A) in contravention of Rule 10D read with section 92D of the Income Tax Act, 1961.
3. Payment of royalty without any benefit accruing to the assessee.
4. Payment of royalty along with fee for technical know-how.
5. Payment of royalty under circumstances where no independent party would have done so.

Issue-wise Detailed Analysis:

1. Deletion of Addition on Account of Transfer Pricing Adjustment in Respect of Royalty:
The Revenue contested the deletion of an addition of ?91,42,654/- made by the TPO on account of transfer pricing adjustment concerning royalty payments. The TPO had benchmarked the royalty payment at 'Nil,' arguing that the assessee did not receive any tangible benefit from the use of the technology, as evidenced by the company's net losses. However, the CIT (A) found that the royalty payment of 3.15% of net sales was within the arm's length range, supported by external comparables showing an average royalty rate of around 3%. The CIT (A) concluded that the royalty payment was justified and directed the deletion of the addition.

2. Acceptance of Fresh Documentation by CIT (A):
The Revenue argued that the CIT (A) erred in accepting fresh documentation for benchmarking the royalty payment, which was not furnished before the TPO. The CIT (A) accepted additional evidence in the form of instances of royalty paid in comparable cases by uncontrolled third parties to benchmark the international transaction. The CIT (A) forwarded this additional evidence to the TPO for a remand report, which the TPO failed to adequately address, focusing instead on the unreliability of the CUP data without examining the external comparables.

3. Payment of Royalty Without Any Benefit Accruing to the Assessee:
The TPO argued that the royalty payment provided no economic benefit to the assessee, as the company incurred losses despite using the technology. The CIT (A) and the appellate tribunal found this reasoning flawed, emphasizing that the payment of royalty was for a valid agreement to use technology and know-how essential for manufacturing automotive components. The tribunal noted that losses could not be used to determine the economic benefit of the technology, as profits and losses are influenced by various market-driven factors.

4. Payment of Royalty Along with Fee for Technical Know-How:
The Revenue contended that the assessee was also making payments for technical know-how, implying that the royalty payment was redundant. The CIT (A) and the tribunal upheld the royalty payment, noting that it was part of a valid agreement for the use of technology and know-how necessary for the assessee's manufacturing operations. The tribunal found no basis to correlate the payment of technical fees with the royalty payment, as both served distinct purposes.

5. Payment of Royalty Under Circumstances Where No Independent Party Would Have Done So:
The TPO argued that no independent party would have paid royalty under the given circumstances, as the assessee incurred losses. The tribunal rejected this argument, noting that the royalty payment was for a legitimate agreement to use technology and know-how, which was essential for the assessee's business operations. The CIT (A) and the tribunal found that the royalty payment was within the arm's length range, supported by external comparables, and thus justified.

Conclusion:
The appellate tribunal upheld the CIT (A)'s decision to delete the addition of ?91,42,654/- made on account of transfer pricing adjustment concerning royalty payments. The tribunal found that the royalty payment was within the arm's length range, supported by external comparables, and that the TPO's reasoning for benchmarking the royalty payment at 'Nil' was flawed. The appeal of the Revenue was dismissed.

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