2018 (10) TMI 923 - AT - Income Tax

TPA - Transfer pricing - selection of comparable - selection criteria - Held that - The assessee is engaged in the business of manufacture and trading of laboratory and processing equipment. The assessee imports products from IKA Group for sale in the domestic market and also undertakes manufacturing operations locally to export the products to IKA Group. In addition, the assessee also provides research and development services and marketing and technical support services to Group companies, thus companies functionally dissimilar with that of assessee need to be deselected. Capacity adjustment to account for differences in capacity utilization of the Appellant vis- -vis the comparable - Held that - The Indian transfer pricing regulations, OECD Guidelines and the US transfer pricing regulations call for an adjustment to be made in case of material differences in the transactions or the enterprises being compared so as to arrive at a more reliable arm s length price/ margin. While the Indian transfer pricing regulations refer to the adjustments on uncontrolled transactions, however the same has to be read with Rule10B(3) of the Rules which clearly emphasizes the necessity and compulsion of undertaking adjustments. Hence in case appropriate adjustments cannot be made to the uncontrolled transaction, due to lack of data, then in order to read the provisions of transfer pricing regulations in harmony, the adjustments should be made on the tested party. - adjustment to the profit margins have to be made on account of underutilization of capacity. Disallowance of prior period expenses - non deduction of tds - Held that - The Assessee had made disallowance of the disputed sum for the reason that tax was not deducted at source on the provision so made in the books and in view of the provisions of Sec.40(a)(ia) for non deduction of tax at source, the expenditure cannot be allowed as deduction. The limited prayer of the learned counsel for the Assessee was that as and when TDS is paid the deduction in question has to be allowed. We are of the view that the prayer for allowing deduction of expenses in the year in which TDS is paid to the Government is acceptable subject to the condition that the liability in question should be crystalized/ascertained. It is made clear that crystallization even if it is in earlier period should not result in disallowance u/s.40(a)(ia) of the Act and on payment of TDS the deduction should be allowed subject to such expenses being otherwise allowable.

Issues Involved:
1. Determination of Arm’s Length Price (ALP) for international transactions.
2. Rejection and selection of comparable companies.
3. Treatment of foreign exchange fluctuations.
4. Adjustment for differences in capacity utilization.
5. Adjustment for differences in working capital.
6. Scope of transfer pricing adjustments to AE transactions only.
7. Disallowance of prior period expenses.
8. Disallowance of provisions for various expenses.
9. Levy of interest under section 234B.
10. Initiation of penalty proceedings under section 271(1)(c).

Issue-wise Detailed Analysis:

1. Determination of Arm’s Length Price (ALP) for International Transactions:
The assessee, engaged in manufacturing and trading of laboratory and processing equipment, filed its return declaring a taxable income of ?82,39,710. The Transfer Pricing Officer (TPO) accepted all international transactions at arm's length except the export of finished goods. The assessee used the Transactional Net Margin Method (TNMM) and chose Operating Profit to Operating Cost (OP/OC) as the Profit Level Indicator (PLI). The TPO conducted a fresh economic analysis, rejecting two out of three comparables chosen by the assessee and added 12 new companies, resulting in an adjustment of ?2,49,54,363 to the total income.

2. Rejection and Selection of Comparable Companies:
The TPO rejected two comparables chosen by the assessee and included 13 new companies. The Tribunal upheld the inclusion of certain companies like Shree Pacetronix, Continental Controls Limited, and others, rejecting the assessee’s argument on functional dissimilarity. The Tribunal directed the TPO to include Gansons Limited and Systronics India Ltd., which were initially rejected by the TPO due to product differences.

3. Treatment of Foreign Exchange Fluctuations:
The TPO considered foreign exchange gains/losses as non-operating for comparables but operating for the assessee. The Tribunal directed the TPO to apply the principle consistently for both the assessee and comparables, treating foreign exchange fluctuations as operating in nature.

4. Adjustment for Differences in Capacity Utilization:
The Tribunal acknowledged significant differences in capacity utilization between the assessee and comparables. It directed the TPO to make adjustments for under-utilization of capacity, following the principles laid down in previous cases, and to obtain necessary data from comparables using section 133(6) of the Act.

5. Adjustment for Differences in Working Capital:
The Tribunal directed the TPO to allow working capital adjustments, recognizing that differences in working capital positions materially affect profit margins. The TPO was instructed to consider the assessee’s detailed working provided in submissions and make necessary adjustments.

6. Scope of Transfer Pricing Adjustments to AE Transactions Only:
The Tribunal held that transfer pricing adjustments should be restricted to transactions with Associated Enterprises (AEs) only, as per section 92 of the Act. The CIT(A)’s approach to apply adjustments to the entire manufacturing segment was rejected, following the precedent set by the Hon'ble Bombay High Court and ITAT Bangalore in similar cases.

7. Disallowance of Prior Period Expenses:
The Tribunal directed the AO to allow prior period expenses based on the crystallization of liability. It was noted that the assessee had claimed the expenses in AY 2013-14, which were disallowed as prior period expenses. The Tribunal emphasized that deduction should be based on the year of crystallization of liability.

8. Disallowance of Provisions for Various Expenses:
The Tribunal accepted the assessee’s submission that provisions disallowed under section 40(a)(ia) for non-deduction of tax should be allowed in the year TDS is paid, provided the liability is ascertained. The Tribunal clarified that crystallization in an earlier period should not result in disallowance if TDS is paid subsequently.

9. Levy of Interest under Section 234B:
The Tribunal noted that the levy of interest under section 234B is mandatory but directed the AO to give consequential relief based on the ultimate determination of total income.

10. Initiation of Penalty Proceedings under Section 271(1)(c):
The Tribunal dismissed the ground related to the initiation of penalty proceedings under section 271(1)(c), stating that no appeal lies against the initiation of penalty.

Conclusion:
The appeal by the assessee was partly allowed, with directions to the TPO to follow the Tribunal’s rulings on various adjustments and issues. The Tribunal emphasized consistency in applying principles and directed necessary adjustments to ensure accurate determination of ALP and other related matters.

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