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TMI Blog2013 (9) TMI 195X X X X Extracts X X X X X X X X Extracts X X X X ..... a comparable uncontrolled transaction. In CPM, ALP is determined by adding an appropriate gross profit margin to an AE's cost of producing products or services. None of the factors required in both the methods are existing for carrying out the comparability analysis in this case. The only method which could be said to be applicable for bench marking the margin of international transactions of the assessee, as admitted by both the parties before us can be TNMM. Once internal comparable was available, along with the segmental details, TPO was required to examine the same and carry out the comparability analysis. It is only when internal TNMM fails, the TPO can go into search for external TNMM because external comparable require lot of functionality test and adjustments - It is only when the internal comparable and its segmental details are not found to stand the test of comparability analysis, then external comparable's should be looked into. In such a situation, the TPO will carry out fresh search after taking into consideration all the assessee's objection and submission - All those contentions about search/filter criteria, comparable companies, can be raised before the TPO. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 17 19 and, therefore, same are dismissed as not pressed. 4. The relevant facts, apropos the issue of transfer pricing adjustment, are that assessee is in the business of Information Technology Services Provider, delivering its services in USA, Asia and Japan. It provides business of software development, support and consultancy, networking implementation and support services. During the year under consideration, the international transactions carried out by the assessee with its AE i.e. CyberTech Systems and Software Ltd., (hereinafter referred to as 'CSSI') relates to software development, accounting services and technical services. The international transactions reported by the assessee in Form No.3CEB were as under: Sr. No. Nature of transaction Country of AE with whom transaction Amount in crores Method used 1. Software Development Service USA 12.45 CPM 2. Accounting Service USA 0.48 CPM 3. Technical support services USA 0.72 CPM Total revenue 13.65 5. Assessee before the TPO to whom matter was referre ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at entity level (OPTC) comes to 27.48% after making certain economic adjustments to the operating cost (certain expenses, such as, payroll cost, communication expenses, security expenses, training expenses, loss on sale of assets, exchange loss and loss on sale of investment have been considered as non-operating or abnormal in nature), which is more than the average margin of operating profit of comparable companies. Therefore, it is submitted that the all the assessee 's international transactions are at arm's length." Assessee further clarified that there were certain extraordinary expenses which should not be considered as operating expenses and details of such expenses were given. However, TPO rejected the stand taken by assessee with regard to excluding of expenses from the operating expenses. 7. Further, in order to prove its ALP, assessee provided segmental details for software development services provided through its AEs and that with the third party in the following manner, which has been incorporated in Para 15 of the TPO's order: Software development and services to CSSI (AE) Software development and services to third parties Income from l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be applicable because in the case of CPM direct and indirect cost of production incurred by the AEs in respect of property transferred or services provided to an AE has to be considered and then normal gross profit mark-up to such cost can be considered, which in this case is not ascertainable. Secondly, the internal CUP would not be applicable because it requires stricter comparability and assessee has not demonstrated the terms and conditions of the contract with the third party which are comparable to the transactions with AE. Assessee further objected that in case both CUP and CPM methods are not applicable then internal TNMM should be followed for bench marking the transaction, which too has been rejected by the DRP on the ground that assessee has not done the FAR analysis for comparing its transaction with the AE and non-AE, nor furnished any detailed analysis as to why the third party should be chosen for comparability. Thus, internal TNMM was also rejected and TPO's adoption of external TNMM was upheld. Regarding various objection of search process/filter criteria for selecting comparables, all the objections of the assessee were by and large rejected. 10. Before us, ld ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t incurring huge losses and in support of the same, he referred to the relevant documents in the paper book 11. The other limb of his arguments was that before the Transfer Pricing Officer, assessee has submitted the segmental details of profit and loss account, disclosing the margin earned by the assessee on international transaction with its AE and that with Corliant lnc i.e. non-AE. The TPO despite recording the said details in para 15 has failed to consider the margins of the AE and non-AE. He pointed out that this specific submission of internal TNMM was made before TPO which is evident from submissions made before him, given at pages 108 and 221 of PB and annexure thereto, wherein, segmental details were also given. Before the TPO, he submitted that this plea was raised but same has been rejected without any cogent reason. He also referred to relevant observations of DRP given at para 4.2 and submitted that this contention of the assessee too has been rejected on flimsy ground. Further, the TPO without rejecting assessee's contention of internal TNMM, proceed to search for external comparables and without any proper basis or proper filter criteria in searching of the compar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... AE. We have no details about the AE and its margin and expenses is not tested here, so as to determine the ALP of the assessee. Assessee's controlled transaction has to be seen from the conditions of uncontrolled transaction. Thus, such a plea cannot be sustained. Lastly, with regard to internal comparable, he submitted that none of the authorities have carried out any comparability analysis as the segmental details have not been properly examined. Moreover, there is huge difference between the turnover undertaken with the AE and non-AE, therefore, these could not be said to be comparable. Regarding external comparables, he also gave his detailed rebuttal and submissions about the adoption of the criteria taken by the TPO and functional analysis of various comparables with the aid of financial accounts available in public domain. In support of his contention, he also relied upon catena of tribunal decisions. 13. In rejoinder, ld. counsel submitted that if the entire arrangement is rationale and are found to be at arm's length price, there is no requirement to apply any of the method as section 92(1) cannot, be devoid of 92C and reiterated his submissions. He further distinguished ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ce. The terms 'arm's length price' has been defined in section 92F(ii) to mean that "the price which is applied or proposed to be applied in a transaction between persons other than AEs, in uncontrolled conditions." The arm's length price operates on a hypothesis that AEs are independent of each other in their commercial and financial relation and the transactions between them are to be free from any condition which should be imposed because of such relationship. The profits from transaction, if they are dictated, have to be worked out by reference to the conditions which would have obtained between the independent enterprise in comparable transaction and comparable circumstances. The comparison of the conditions in a controlled transaction with the conditions of uncontrolled transaction between independent enterprise is to be made to find out whether there is any difference or not. Thus, the application of proposed arm's length requires comparison of conditions in a controlled transaction with the condition of uncontrolled transaction and for a difference between the situations, reasonable adjustment of profit can be made to offset the effect of such difference, if any. Thus such ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d u/s 92C(1) which would have ordinarily implied that any specific or non-specific method or even a combination of one or more prescribed methods is sufficient. However it is relevant to note that the scope of the word "any" is circumscribed by the succeeding words of the following methods being the most appropriate method". The ambit of the word "any" in sub-section (1) has been restricted by the 'following' five specific methods given in the later part of the provision. Rule 10B also provides in the same manner that ".... the arm's length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method .....". Here also the word 'any' is succeeded by the word 'following', which implies that it can be any of the five methods prescribed in the following part of the rule, when we read sub-section (1) of section 92C in entirety along with Rule 10B(1), there remains no doubt that the arm's length price is required to be determined by any single method out of the five prescribed methods. It is further pertinent to note the prescription of Rule 10C which deals with the determination of most appropriate method to be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ncontrolled price method (CUP); (ii) Resale price method; (iii) Cost plus method; (iv) Profit split method; (v) Transactional net margin method and (vi) any such method, as may be prescribed by the Board. These above methods can be broadly classified into following categories: (i) the method which focuses directly on the price of products sold or transferred requiring both financial and product comparability. Under this method, CUP is applied. (ii) the second type of method operates at gross profit margin level requiring financial rather than product comparability. In this category, Resale price Method (RPM) and Cost Plus Method (CPM) is applied. (iii) In the third category, operating profit margin level is used for highly complex integrated enterprises. In this category profits split Method and transactional Net Margin Method (TNMM) is applied. The PSM is applied to parties in transaction whereas TNMM is only applied to one party. Thus, these methods are based on price or profit. 17. In this case, admittedly neither CUP method nor Cost Plus Method is applicable because in CUP, the price at which a controlled transaction is carried cut is compared to the price ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n to cost incurred or sales effected or assets employed etc. clause (ii) is material for the present purpose. It provides that the net profit margin realized by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions computed having regard to the same base. The 'base' of this provision takes one back to clause (i) which refers to cost incurred or sales effected or assets employed or to be employed. On splitting clause (ii) into two parts, it divulges that the reference is made to internal and external comparables. one part of clause (ii) refers to 'the net profit margin realised by the enterprise ..... from a comparable uncontrolled transaction' and the other part talks of 'the net profit margin realised ....by an uncontrolled enterprise front a comparable uncontrolled transaction'. It transpires that whereas the first part refers to the profit margin from internal comparable uncontrolled transactions, the second part refers to profit margin from an external comparable uncontrolled transaction. Thus it is discemible that what is to be compared under this method is profit from a comparable uncontrolled transaction. The ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , non-AE as internal comparable and also provided segmental details of profit and loss account. This is evident from the following submissions made before the TPO. "Without prejudice to the above, we further submit the segmental profit and loss account disclosing the profitability earned by the company on international transactions with respect to software development services to CSSI of INR 12,45,57,517 and Corliant Inc. in Annexure-I. This segment is drawn up by only considering the operating income and costs with reference to the business arrangement where the ultimate customer pays to CSSI and corliant Inc. which is passed on a back to back basis by both CSSI and corliant Inc., after retaining 12% of such revenue received from the ultimate customer as explained in the earlier submissions. Thus, the assessee's internal transaction with CSSI (operating margin 10.2% on total cost) when compared with corliant Inc's transactions (operating margin 4.97% on total cost) are at arm's length at net level and hence, even if one were to apply the TNMM, the same is at arm's length." 21. Along with the same, assessee has also provided following segmental details and the margin: ..... X X X X Extracts X X X X X X X X Extracts X X X X
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