2023 (2) TMI 903 - AT - Income Tax

TP adjustment in respect of franchise fee - prudence of expenditure - TPO at threshold has discarded payment of franchise fee on the ground of need of such payment - HELD THAT - TPO has exceeded his jurisdiction in making such observation. TPO cannot step into the shoes of assessee to decide prudence of expenditure. The TPO failed to examine the documents furnished by assessee to benchmark the transaction by applying one of the methods specified in Chapter-X of the Act. Thus, in the facts of the case we hold that the findings of the TPO/Assessing Officer in making adjustment in respect of franchise fee are unsustainable. The adjustment is deleted and ground of appeal is allowed.

Summary

Issues Involved:
1. Adjustment of franchise fee payment to Associated Enterprise (AE).
2. Non-cooperation and non-furnishing of financials by the assessee.
3. Jurisdiction and role of the Transfer Pricing Officer (TPO).
4. Application of benefit test by the TPO.
5. Initiation of penalty proceedings under section 271(1)(c) of the Income Tax Act.
6. Charging of interest under sections 234A, 234B, 234C, and 234D of the Income Tax Act.

Detailed Analysis:

1. Adjustment of Franchise Fee Payment to AE:
The primary issue in the appeal was the adjustment made by the TPO concerning the franchise fee payment by the assessee to its AE, Royal Canin SAS. The assessee had entered into a franchise agreement on 29/03/2012, which included various support services, trademarks, and rights to sell products. The TPO determined the Arm's Length Price (ALP) of the franchise fee to be Nil, questioning the need for such payment and the application of the benefit test. The Tribunal held that the TPO exceeded his jurisdiction by questioning the prudence of the expenditure and not determining the ALP based on the documents provided by the assessee. The Tribunal relied on precedents, including CIT vs. EKL Appliances Ltd. and Dresser Rand India Pvt. Ltd. vs. Addl. CIT, to conclude that the TPO's role is limited to determining the ALP and not questioning the necessity of the expenditure. Consequently, the adjustment made by the TPO was deleted, and the ground of appeal was allowed.

2. Non-Cooperation and Non-Furnishing of Financials by the Assessee:
The Department's representative argued that the assessee was non-cooperative and failed to provide the financials of the AE, leading to penalty proceedings under section 271G of the Act. The Tribunal noted that the TPO had initiated penalty proceedings due to the assessee's non-furnishing of necessary documents. However, the Tribunal focused on the primary issue of the adjustment of the franchise fee and did not delve deeply into this aspect.

3. Jurisdiction and Role of the TPO:
The Tribunal emphasized that the TPO's jurisdiction is confined to determining the ALP of international transactions and not questioning the commercial wisdom or necessity of the expenditure incurred by the assessee. The Tribunal cited the Delhi High Court's decision in CIT vs. EKL Appliances Ltd., which held that the TPO cannot disallow expenditure based on the assessee's financial health or perceived necessity. The Tribunal reiterated that the TPO's role is to examine the transaction as it is and make suitable adjustments without questioning the business decisions of the assessee.

4. Application of Benefit Test by the TPO:
The TPO applied the benefit test to determine the ALP of the franchise fee as Nil, arguing that the assessee did not need the services and questioning the justification for the payment. The Tribunal rejected this approach, stating that the benefit test cannot be applied to determine the ALP. The Tribunal referred to the decision in Dresser Rand India Pvt. Ltd. vs. Addl. CIT, which held that the TPO cannot determine the ALP at Nil based on the perceived benefit to the assessee. The Tribunal concluded that the TPO's observations were beyond his jurisdiction and unsustainable.

5. Initiation of Penalty Proceedings under Section 271(1)(c):
The assessee challenged the initiation of penalty proceedings under section 271(1)(c) of the Act. The Tribunal held that the challenge to penalty proceedings at this stage was premature and dismissed this ground of appeal.

6. Charging of Interest under Sections 234A, 234B, 234C, and 234D:
The assessee also contested the charging of interest under sections 234A, 234B, 234C, and 234D of the Act. The Tribunal noted that charging of interest under these sections is mandatory and consequential, dismissing this ground of appeal as devoid of merit.

Conclusion:
The Tribunal partly allowed the appeal by the assessee, primarily on the ground of improper adjustment of the franchise fee payment by the TPO. The Tribunal emphasized the limited role of the TPO in determining the ALP and rejected the application of the benefit test. Other grounds related to penalty proceedings and interest charges were dismissed. The order was pronounced on 22nd September 2022.