2018 (5) TMI 1533 - AT - Income Tax

Transfer pricing addition - comparable selection criteria - functional similarity - Held that - The assessee is engaged in rendering research, management consultancy and advisory services to clients interested in investing in India, thus companies functionally dissimilar with that of assessee need to be deselected from final list. Treatment of certain expenses not related to the transaction with AE as part of the operating cost - Held that - DRP while rejecting the objections raised by the assessee in this regard has only noted that it has duly considered the arguments of the assessee and in view of the fact that the assessee was earning only service income and that too from one AE, it cannot be said that these expenses did not have any nexus with earning of service income. It is our considered opinion that this conclusion by DRP has been reached without any sound reasoning and without appreciating and duly considering the submissions made by the assessee in this regard. It will be in the fitness of things that the DRP should reconsider and re-adjudicate this issue relating to sponsorship and brokerage expenses after taking into account the settled judicial precedents as well as the evidences in this regard. Incorrect computation of operating margins of certain comparable companies - Held that - As held by the ITAT Mumbai Bench in the case of DHL Express (India) Private Limited 2011 (4) TMI 856 - ITAT MUMBAI wherein miscellaneous income like interest income, rent received, dividend received, penalty collected, rent deposits written back, foreign exchange fluctuation and profit on sale of assets were held to be not forming part of operational income. Therefore, keeping in mind, the judicial precedents as well as the submissions of the assessee in this regard, we restore ground to the file of the AO/TPO for re-computing the operating profit margin of the remaining comparable companies after giving due opportunity to the assessee to present its case.

Summary

Issues Involved:
1. Transfer Pricing Adjustment
2. Rejection of Transfer Pricing Documentation
3. Selection and Rejection of Comparable Companies
4. Inclusion of Certain Expenses in Operating Costs
5. Incorrect Computation of Operating Margins
6. Levying Interest Based on Enhanced Taxable Income

Issue-wise Detailed Analysis:

1. Transfer Pricing Adjustment:
The assessee challenged the adjustment of INR 4,88,23,670 to the value of the international transaction of investment advisory services. The grounds of appeal included:
- Rejection of transfer pricing documentation.
- Use of financial information from 2008-09 not available when the documentation was prepared.
- Application of inappropriate filters for selecting comparable companies.
- Retention of functionally incomparable companies.
- Inclusion of companies with diversified businesses and high turnover.
- Inclusion of high/super profit-making companies.
- Treatment of non-related expenses as part of operating costs.
- Inconsistent approach compared to previous years.
- Incorrect computation of operating margins.
- Non-granting of working capital adjustments and comparability adjustments for risk differences.

2. Rejection of Transfer Pricing Documentation:
The TPO rejected the assessee's transfer pricing documentation and selected 10 new comparables, computing the Arm's Length margin at 36.36%, and proposed an upward adjustment of INR 6,71,49,810/-.

3. Selection and Rejection of Comparable Companies:
The assessee contested the inclusion of five comparables:
- Motilal Oswal Investment Advisors Private Ltd: The ITAT directed exclusion as it provided investment banking solutions, not comparable to investment advisory services.
- Khandwala Securities Limited: Excluded due to diversified business operations including investment banking and broking, not comparable to the assessee’s investment advisory services.
- Axis Private Equity Ltd: Excluded as it was an asset management company with functions and risks significantly different from an investment advisory company.
- Almondz Global Securities Limited: Excluded due to diversified revenue sources and lack of segmental details, making it incomparable.
- Milestone Capital Advisors Private Ltd: Excluded as it was an asset management company with no segmental details available, making it incomparable.

4. Inclusion of Certain Expenses in Operating Costs:
The assessee challenged the inclusion of sponsorship expenses and brokerage in operating costs. The ITAT restored the issue to the DRP for reconsideration, noting that the DRP’s conclusion lacked sound reasoning.

5. Incorrect Computation of Operating Margins:
The assessee argued that the TPO incorrectly included 'other income' or 'miscellaneous income' in the operating income of comparable companies. The ITAT restored the matter to the TPO for re-computation, directing exclusion of non-operational income based on judicial precedents.

6. Levying Interest Based on Enhanced Taxable Income:
The ground related to levying interest based on enhanced taxable income was not specifically addressed in the judgment.

Conclusion:
The ITAT partly allowed the assessee's appeal, directing the exclusion of certain comparables and remanding the issues of operating cost inclusion and operating margin computation to the DRP and TPO respectively for re-adjudication. The order emphasized the need for functional comparability and proper consideration of the nature of expenses and income in transfer pricing assessments.