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TMI Blog2013 (11) TMI 1334X X X X Extracts X X X X X X X X Extracts X X X X ..... f contract between PGCIL and Tellabs Denmark. Section 62 in The Indian Contract Act, 1872 lays down the effect of novation, rescission, and alteration of contract. It lays down that if the parties to a contract agree to substitute a new contract for it, or to rescind or alter it, the original contract need not be performed. Assignment involves the transfer of an interest or benefit from one person to another. However the 'burden', or obligations, under a contract cannot be transferred. If one wants to transfer the burden of a contract as well as the benefits under it, one has to novate. Like assignment, novation transfers the benefits under a contract but unlike assignment, novation transfers the burden under a contract as well - Provisions of Sec. 92 were applicable to the assignment of the portion of the onshore contract by Tellabs Denmark to the Assessee - IT(TP)A Nos. 1037 & 1038/Bang/2008 - - - Dated:- 5-4-2013 - N. BARATHVAJA SANKAR AND N.V. VASUDEVAN, JJ. For the Appellant : Padamchand Khincha. For the Respondent : S.K. Ambastha. ORDER:- PER : N.V. Vasudevan These are appeals by the assessee against two orders both dated 30.04.2008 of CIT(A)-IV, Bang ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 858-1/CA-I/906 dated 27th March 2002 Offshore Telecom Equipment Package-3 for Delhi Mumbai Link 3 C-02405-L858-l/CA-II/1083 dated 23rd May 2003 Onshore Telecom Equipment Package-3 for Balance Network (Excluding Delhi-Mumbai Link) 4 C-02405-L858-1/CA-II/907 dated 27th March 2002 Onshore Telecom Equipment Package-3 for Delhi-Mumbai Link Description of Services under Offshore Contract: For planning, design, engineering, manufacture, testing and CIF supply of all offshore equipment and materials including testing equipment, documentation and mandatory spares. Description of Services under Onshore Contract: For handling and custom clearance of all supplies from abroad, inland transit insurance, handling and transportation to site, unloading at site, storage, insurance, erection/installation (including survey, planning, design, engineering activities and termination as required), training of employees personnel, testing and commissioning and demonstration for acceptance at site of the complete Optic Fibre system including associated hardware/equipment/civil works etc. 6. After the award of contract to T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... + iii + iv) : US $ 652,222.00+ Rs.130,372,230.00 The portion of the onshore contract that was assigned to the Assessee was only with regard to the rupee portion of the contract as follows:- C-02405-L858-1/CA-I/1083 dated 23rd May 2003(Delhi-Mumbai Link) Assigned Contract Tellabs India Original Contract Tellabs Denmark Scope of Work Assignment of Onshore contract for Freight Insurance and Installation Services to Tellabs India Onshore contract for Freight and Insurance Installation Services Compensation Freight and Insurance Charges - Rs.82,189,375 Installation Charges Rs.48,182,855 Freight and Insurance Charges - Rs.82,189,375 Installation Charges Rs.48,182,855 Other terms Terms and conditions in both the contracts are the same Assigned Contract Tellabs India Terms and conditions in both the contracts are the same Original Contract Tellabs Denmark Scope of Work Assignment of Onshore contract for Freight Insurance and Installation Services to Tellabs Ind ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... favour of the Assessee wherein there is a reference to the fact that breach in terms of any of the contract shall be deemed to be breach of entire contract. (b) Tellabs has only sub-contracted the offshore contract to the Assessee. (c) There was no novation of the contract between PGCIL and Tellabs Denmark. In this regard the TPO made a reference to the letter dated 13.1.2003 wherein PGCIL has clearly spelt out that the assignment of the on-shore contract shall not amount to novation of the contract in favour of Assignee. (d) Tellabs Denmark continues to be liable despite assignment. The TPO has again made a reference to the letter dated 13.1.2003 of PGCIL wherein this aspect was made clear by PGCIL. (e) The contract between PGCIL and the Assessee is not an independent contract. (f) The fact that the Assessee directly bills PGCIL for services is not relevant. (g) On services rendered for import of equipment, the Assessee took a stand that it gets reimbursement of costs incurred by it from Tellabs Denmark and therefore TP regulations will not be attracted. The TPO on the above stand held that cross charging of expenses to an AE (Tellabs Den ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Depreciation attributed 3,77,293 8,64,24,967 Arms Length Profit Margin on Revenue 9.49% Therefore Arms Length Service Margin on cost 10.49% Arms length Service Charges receivable 9,54,86,650 Revenue recognized in respect of services 5,89,68,264 Adjustment u/s 92CA 3,65,18,386" 11. Before CIT(A) the Assessee raised contentions as were put forth before the TPO besides also raising issues with regard to lack of opportunity before the TPO before passing his order and the merits of the addition made by the TPO. 12. On the issue whether the transaction in question would be international transaction so as to attract the provisions of Sec. 92 of the Act, the CIT(A) held as follows: * The original contracts entered into between M/s Tellabs Denmark (assignor) and PGCIL remain in full force and effect and shall be deemed to be amended only to the limited extent set forth in the Assignment Agreements. * The terms and conditions of the original contracts were determined in substance by its AE, M/s Tellabs Denmark and were only subs ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nue as reflected in the orders of TPO/AO/CIT(A). He also relied on the decision of the ITAT Mumbai in the case of Diageo India (P.) Ltd. v. DCIT ITA No.8602/mum/2010 AY 06-07 dated 5.9.2011. He also brought to our notice that Tellabs Denmark in AY 2004-05 by an order dated 29.12.2006 was assessed on the profits arising on offshore contract as well as the portion of the onshore contract that had not been assigned to the Assessee by the ADIT, Circle 2(2), Intl. Taxation, New Delhi. In the aforesaid order the profits arising on offshore contracts have been brought to tax on the premise that the Assessee constitutes PE of Tellabs Denmark in India. The relevant observations of the AO were as follows:- "1. The contention of the assessee that offshore supplies of equipment took place outside India, hence, the income from such supplies is not taxable is not tenable. As, a composite contract was awarded to the assessee, where the scope of activities is to supply, transportation and installation, commissioning and testing of equipment at the site of PGCIL. Therefore, the responsibility of assessee does not ceases outside India in respect of those equipments. Successful installation of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. (2) A transaction entered into by an enterprise with a person other than an associated enterprise shall, for the purposes of sub-section (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise." 20. It can be seen that for application of Sec. 92B(1) of the Act there are two conditions to be fulfilled before a transaction can b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... espect of which one or more persons who participate, directly or indirectly, or through one or more intermediaries, in its management or control or capital, are the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise. (2) For the purposes of sub-section (1), two enterprises shall be deemed to be associated enterprises if, at any time during the previous year, (a) one enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in the other enterprise; or (b) any person or enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in each of such enterprises; or (c) a loan advanced by one enterprise to the other enterprise constitutes not less than fifty-one per cent of the book value of the total assets of the other enterprise; or (d) one enterprise guarantees not less than ten per cent of the total borrowings of the other enterprise; or (e) more than half of the board of directors or members of the governing board, or one or more exec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or capital (ownership) of one enterprise by another enterprise. The participation may be direct or indirect or through one or more intermediaries. The concept of control adopted in the legislation extends not only to control through holding shares or voting power or the power to appoint the management of an enterprise, but also through debt, blood relationships, and control over various components of the business activity performed by the taxpayer such as control over raw materials, sales and intangibles. It appears that one may go to any layer of management, control or ownership in order to find out association:- (a) Direct Control (b) Through Intermediary For instance, if enterprise B is managed, controlled or owned either directly or through an intermediary, then Enterprise B is said to be an AE of enterprise A. Further, if Mr. A and Mr. B control both Enterprise A and Enterprise B, then both Enterprise A and Enterprise B are AEs. 25. We will now revert to the facts of the present case and see if the conditions mentioned in Sec. 92B(1) or (2) of the Act are satisfied. As far as condition (2) for application of Sec. 92B(1) of the Act referred to above is concer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ns and rights under Onshore Contract were assigned to the assessee. (iv) Tellabs Denmark [assignor] assigned, transferred and conveyed all rights, benefits and interests over the Onshore Contract to the assessee [assignee] and the assessee assumed full responsibility for the said contract. (v) The assigned contract would apply between POWERGRID and the assessee [ASSIGNEE] as if the assessee had been a party to the contracts in place of the Tellabs Denmark from the date of signature of the onshore contract. (vi) The assessee was entitled, in the place of Tellabs Denmark to all benefits of, and was entitled to exercise all of the rights and remedies to Tellabs Denmark with regard to the Onshore contract. (vii) Any and all rights of Tellabs Denmark to compensation (whether due before or after the effective date) under the onshore contract devolved upon and enjoyed by the assessee, including the right to invoice directly PGCIL and receive payments directly from PGCIL for the assigned rights and obligations. (viii) Tellabs Denmark guaranteed that the assessee is technically and financially capable of assuming and performing all the obligations and liab ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eement by Tellabs Denmark to the assessee with a specific condition that the Assignment will not amount to Novation of contract between PGCIL and Tellabs Denmark. Section 62 in The Indian Contract Act, 1872 lays down the effect of novation, rescission, and alteration of contract. It lays down that if the parties to a contract agree to substitute a new contract for it, or to rescind or alter it, the original contract need not be performed. Assignment involves the transfer of an interest or benefit from one person to another. However the 'burden', or obligations, under a contract cannot be transferred. If one wants to transfer the burden of a contract as well as the benefits under it, one has to novate. Like assignment, novation transfers the benefits under a contract but unlike assignment, novation transfers the burden under a contract as well. In a novation, the original contract is extinguished and is replaced by a new one in which a third party takes up rights and obligations which duplicate those of one of the original parties to the contract. Novation is only possible with the consent of the original contracting parties as well as the new party. 32. It is clear from the vario ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... section 92B(2). It has followed all the prescribed norms for calling international bids for awarding contracts, and thus cannot be accused of acting as an intermediary between Tellabs Denmark and the appellant for such purpose. 35. Even if the contract between Tellabs Denmark and PGCIL, prior to assignment, is treated as a separate agreement, it only deals with execution of work by Tellabs Denmark in relation to both the onshore and offshore part of the work. The transaction being with a Government of India entity, it cannot be regarded as tainted with the object of avoiding taxes. Nor does it have any reference to the current transaction nor was the current transaction contemplated at that time. Therefore it cannot be regarded as being in relation to the present transaction and does not have any reference to it. Therefore, there is no prior agreement as required under the first limb of section 92B(2). 36. As a result, the preconditions to attract section 92B(2) of the Act have not been satisfied in the instant case. It cannot be deemed that the transaction between the assessee and PGCIL is one between associated enterprises. 37. The decision of the Hyderabad Bench of ITAT in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ered with associate enterprises was submitted. (ii) Vide letter dated 09.08.2006: Brief background of the company with details of the revenue streams were provided along with the cost break up and the FAR analysis on the Project Income was submitted. (iii) Vide letter dated 17.08.2006 : Income and expenses split based on the nature of revenue, objection to why the PGCIL Contract will be outside the purview of transfer pricing with the comparable details was provided. (iv) Vide letter dated 31.08.2006 : Copy of the contracts entered with PGCIL was submitted. (v) Vide letter dated 20.11.20.06 : objection against the proposed order u/s 92CA and the basis on which the objections were raised was submitted. In this letter the assessee also gave a working of the net margin of the comparable companies. 41. The assessee had, in the letter, broadly stated the following: (i) the transaction under consideration was not an international transaction; (ii) comparables chosen by the TPO were inappropriate. 42. A personal hearing was afforded to the assessee on 17-11-2006. During the personal hearing, it was stated that in view of the findings drawn in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by Tellabs Denmark to the Assessee was of the same nature as that of rendering marketing, sales and customer services support of Tellabs International Inc. USA and thereafter took the very same comparables. 45. As we have already seen, the ALP adjustments are counter measures to ensure that the prices at which international transactions are entered into by the associated enterprises are not arranged so that the taxes legitimately attributable to income accruing in India are not adversely affected. This basic principle should not be lost sight of. The Transactional profit methods (i.e. Transactional Net Margin Method and Profit Split Method) are treated as methods of last resort which are pressed into service only when the standard methods, which are also termed as 'traditional methods', (i.e. Comparable Uncontrolled Price Method, Resale Price Method and Cost Plus Method) cannot be reasonably applied. The CIT(A) despite plea of the Assessee that the TPO did not afford proper opportunity of being heard, did not seek any fresh TP study from the Assessee, but however proceeded to confirm the order of the TPO. We deem it appropriate to afford opportunity to the Assessee to explain it ..... 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