2019 (12) TMI 146 - AT - Income Tax

Transfer Pricing ( TP ) Adjustment - economic analysis - determination of the arm's length price (ALP) - selection of the comparable companies - differences in idle capacity, working capital and risk profile between the Appellant and the comparable companies - foreign exchange gain - benefit of 5 percent range - Held that - idle capacity from the total expenditure incurred by the taxpayer while determining ALP is required to be excluded - TPO directed to decide afresh after due verifications of the details given by the taxpayer qua idle capacity adjustments in the light of the decisions rendered by the coordinate Bench of the Tribunal in taxpayer s own case Accrual of income - functions performed by the fixed place Permanent Establishment (PE)/Service PE/ Supervisory PE - transactions between HO and BO - Held that - No activities have been performed by the BO on behalf of the HO as presumed by the AO. Moreover, the taxpayer has specifically explained the functions performed and risk undertaken by the HO and BO in its TP study, relevant pages 558 to 590 of the paper book, showing activities of the BO being restricted to basic design and engineering services. Furthermore, HO was otherwise responsible for its own market development research and negotiation for contract. Nature of activities carried out by the expatriate Director stationed at Gurgaon - Held that - AO observed that, he has played a major role in supervising market research to find out customers, procuring orders, contract negotiations, etc. It has come on record that there is no evidence on record brought forward by the AO to support his contention regarding doing aforesaid work by the Director in India in market research and related jobs. Merely because of the fact that expatriate Director was present in India, no nexus can be held to be established between HO and BO. Aforesaid addition made by the AO/DRP qua attribution of profits to HO from direct supplies and services to customers in India to PE in India i.e. BO is not sustainable, hence ordered to be deleted. Attribution of profit to PE - Held that - when transaction between the HO and BO has otherwise been held at arm s length by taking into account the risk bearing functions, no further profit to the BO can be attributed. Rate of Tax - AO applied surcharge and cess over the tax rate of 10% - Held that - Under Article 2(3) of the DTAA, tax includes Income-tax and surcharge thereon and as such, surcharge is included in the income-tax and the tax rate of 10% for fee for technical services as prescribed in Article 12 is deemed to be included surcharge as cess is nothing but an additional surcharge, so only tax rate of 10% under DTAA is applicable.

Issues Involved:
1. Transfer Pricing Adjustment
2. Corporate Tax Adjustment
3. Credit of Taxes
4. Application of Tax Rate on Royalty/FTS Income
5. Charging of Interest under Section 234B

Detailed Analysis:

Transfer Pricing Adjustment:
1. General and Premature Grounds:
- Ground No.1 was deemed general and not specifically adjudicated. Ground No.6 was considered premature and required no specific findings.

2. Idle Capacity Adjustment:
- The taxpayer claimed an idle capacity adjustment, which was denied by the TPO/DRP. The Tribunal found that the taxpayer had provided detailed calculations and documentation supporting the idle hours and idle capacity adjustment. The Tribunal cited previous decisions in the taxpayer's favor and remanded the issue back to the TPO for fresh consideration and verification of details.

3. Comparable Companies:
- The Tribunal examined the suitability of six comparable companies (Engineers India Ltd., Rites Ltd., HSCC (India) Ltd., Mahindra Consulting Engineers Ltd., Tata Consulting Engineers Ltd., and Kitco Ltd.) and ordered their exclusion based on factors such as government ownership, diversified activities, and lack of segmental financials. The Tribunal relied on precedents where similar companies were excluded for not being comparable to routine engineering design service providers.

Corporate Tax Adjustment:
1. Attribution of Profits to PE:
- The AO/DRP attributed profits to the taxpayer's Branch Office (BO) in India from the Head Office's (HO) direct transactions with Indian customers. The Tribunal found no evidence supporting the AO's assumptions and relied on previous decisions in the taxpayer's favor, which held that no further profits could be attributed to the BO when transactions were already benchmarked under transfer pricing provisions.

2. Role of Expatriate Director:
- The AO's contention that the expatriate Director's presence in India implied involvement in negotiations and marketing was rejected. The Tribunal found no evidence supporting this claim and noted that contracts were negotiated and executed by the HO independently.

Credit of Taxes:
1. Non-Credit of Taxes:
- The taxpayer's claim for credit of taxes amounting to INR 4,73,055 and INR 7,27,883 was set aside to the AO for verification and appropriate action.

Application of Tax Rate on Royalty/FTS Income:
1. Incorrect Application of Surcharge and Cess:
- The Tribunal directed the AO to apply a tax rate of 10% on royalty/FTS income as per the India-Netherlands tax treaty without additional surcharge and cess, citing Article 2 of the DTAA and relevant case law.

Charging of Interest under Section 234B:
1. Interest under Section 234B:
- The Tribunal held that interest under Section 234B could not be charged when the duty to deduct tax at source was on the payer. This was based on the taxpayer's own case for AY 2006-07 and other judicial precedents.

Conclusion:
The appeal filed by the taxpayer was allowed for statistical purposes, with several issues remanded back to the AO/TPO for fresh consideration and verification. The Tribunal provided detailed reasons for excluding certain comparables and addressed the taxpayer's claims regarding idle capacity adjustment, attribution of profits, credit of taxes, and the application of tax rates.

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