9911796707
TMI Blog2015 (7) TMI 915X X X X Extracts X X X X X X X X Extracts X X X X ..... s 143(3) of the Act, vide order dated 21.01.2015 at a total income of Rs. 14,49,14,380/-. 3 The Ld. Counsel, Shri Himanshu Shekhar Sinha submitted that Marubeni Itochu Steel Inc., Japan (hereinafter referred to as "MO") was formed by the merger of the steel products divisions of major general trading companies Itochu Corporation and Marubeni Corporation. The profile of the Marubeni Group in particular is domestic trading, import/export, and overseas trading of iron and steel and other related products. Marubeni Group is a global trading house with activities in chemicals, energy, infrastructure projects, resource development, telecommunications, multimedia and environmental systems. MO is a general trading company (also popularly known as sogo shosha in Japanese terms) dealing only in steel. MO has the ownership control of Marubeni Singapore which, inturn holds 99% share capital & Marubeni Japan holds remaining 1% of Marubeni India. 4. The appellant/assessee, Marubeni-Itochu Steel India Private Limited ("MIIP") / "the Appellant") brought to the notice of the TPO that assessee is a service and trading company and provides liaisoning support services to its parent and affiliates fo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the Act. 8. The appellant company had applied Transaction Net Margin Method (hereinafter referred to as "TNMM") as the most appropriate method and, Operating Profit/Value Added Expenses (OP/VAE) for support services and Operating Profit/Sales (OP/Sales) for trading activity was selected as the Profit Level Indicator(hereinafter referred to as "PLI") to benchmark its international transactions entered with its Associated Enterprise.(see page 88-89 of P.B.). 9. That, in order to arrive at arm's length price, the appellant company carried out a benchmarking analysis; and to benchmark its indenting segment, appellant identified comparable companies (service providers) by applying appropriate search filters and average OP/VAE of these comparable companies was computed at 7.52% (using multiple-year data i.e. data for financial years 2007-08, 2008- 09 and 2009-10)( page 102 of P.B.). The appellant computed its own OP/VAE at 7.91 % for the financial year 2009-10 ( page 118 of the Paper Book).Since the OP/VAE (7.91%) of the appellant is better than the OP/VAE (7.52%)of the comparables, as such, indenting transaction entered with the AE was claimed to be at Arm's length. Further, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ation to cost incurred or sales affected or assets employed or to be employed. The Rules do not prescribe for value added cost or value added expenditure to be considered as base for computing the net profit margins. In view of above provision, the claim of the assessee for use of Berry ratio is not acceptable being contrary to Rules 10B(l)(e); (b) Treated the service fee/commission segment as equivalent to trading business, and disregarded the functional and risk differences between the two segments; (emphasis added) (c) Added Rs. 948 Crores (which are purchases/sales in the books of the AE and upon which MIIP earns service fee/commission) to the cost base of the assessee; (d) Proceeded to compute the arm's length price of the said transaction by applying the percentage of operating profit earned by externally identified comparable companies to the aforesaid cost base and accordingly, made upward adjustment to the total income of the assessee; (e) The assessee is reimbursed based on cost plus model; (f) The commission business of the assessee is equivalent to the trading business and accordingly compared the assessee with trading companies and also the companie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .01.2015 determined income of the appellant at Rs. 14,49,14,380/- by making an upward adjustment of Rs. 14,20,93,551/- to the Arm's Length Price declared by the appellant. 16. The appellant, being aggrieved, has preferred the instant appeal before us. 17. Ground No. 2 to 8 of Grounds of Appeal are regarding addition of Rs. 142,093,551/- on account of alleged understatement of arm's length price in respect of commission income earned by the appellant from its AEs. 18. The Ld counsel for the assessee submitted that the TPO/AO has added Rs. 648 crore (recorded as sale/purchase in the books of the AEs) in the AE segment which according him tantamount to treating the service/commission business of the assessee as that of a trader without stating any reason whatsoever. According to him, no basis for arriving at this conclusion has been stated in the said order. No evidence or material has been brought on record by the TPO/ AO to reach the aforesaid conclusion. As per the Ld counsel, the TPO has acted outside his jurisdiction by challenging the compensation model of the assessee. In this regard, the Ld counsel submits that it is a settled principle in tax jurisprudence that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... products to meet those needs. In addition, these networks enhance firm's development of a trademark/trade name. Yes Very limited After-sales Service: After-sales service is a mean by which a firm differentiates its products from those of others. After-sales service includes developing technical support and training for distributors and dealers; providing distributors with advice and training to improve operations and profitability; and ensuring component availability. Yes No Warranty and replacement services: The warranty support function is generally performed by the entity from which the customer receives a level of service prescribed by the legal obligation under the warranty Yes No Warehousing activities : Warehousing activities is performed for stocking the goods in which the trader deals in. It involves decision regarding level of inventory to be stocked, insurance and other incidental activities. Yes No Inventory Risk : Inventory risk relates to the losses associated with carrying finished product inventory. Losses include obsolescence, shrinkage, or market collapse, such that products are only saleable ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee contracts are entered in the name of SCJ and its affiliates at one end and the customers in India also in their own names. In these unrebutted facts on record, the TPO was not correct in holding that the 'costs' as per the Rule were FOB value of goods." 23. Similarly, the ld. Counsel took our attention to the view of the decision of co-ordinate bench in the case of Mitsubishi India Pvt. Ltd. [LT.A. No. 50421De1l1l] wherein it was held by the ITAT that: "80. Coming to the service feel commission segment, we have noted that as regards the service feel commission segment, the TPO has re-characterized the same as trading activities as he was of the view that the right course of action will be to treat the same as equivalent to trading segment, because what the assessee has disclosed as service/ commission income is in fact trading income. Accordingly, the cost of goods sold by the AEs, which was Rs. 2927,92,05.406, was also to be included in cost base of the service/commission segment and then ALP was recomputed. So far as this aspect of the matter is concerned, the issue is now covered in favour of the assessee by Hon'ble jurisdictional High Court's dec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t of goods sold (COGS) in the cost base does not arise because the assessee does not trade in any goods while performing the service of facilitation of trade and such transaction has never been routed through the books of the assessee. It does not take any title of the goods in form or in substance while performing coordination and sales support functions for its AEs. It does not assume title of the goods and the risks associated with such assumption of title are not borne by it in the service fee/commission business. The assets that are employed in assumption of the title to the goods are different from service transactions carried out without assumption of title. The assessee earns commission from its AEs on export to India or, in few cases, import from India. The FOB value is the sum of sales and purchases in the books of AEs. According to him, it does not make any sense to include this value in the assessee's service/commission segment. Cost incurred by the assessee in providing such sales support and coordination services are already built in the profit and loss account and does not warrant any addition to the cost base of the assessee. 26, The Ld counsel submits that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... involved in Warehousing of goods with respect to its commission transactions. Further, this function is also not mentioned in the TP Report. Control over contracted manufacturer and quality control over manufacturing process The assessee is not involved in Control over contracted manufacturer and quality control over manufacturing process. Further, this function is also not mentioned in the TP Report. Scheduling of the products and order tracing The assessee is involved in scheduling of the products and order tracing. Packaging and labeling The assessee is not involved in Packaging and labeling. Further, this function is also not mentioned in the TP Report. Quality control The assessee is not involved in Quality control. Further, this function is also not mentioned in the TP Report. Consignment of the goods The assessee is not involved in Consignment of the goods. Further, this function is also not mentioned in the TP Report Transportation of the goods to the port of departure The assessee is not involved in transportation of the goods to the port of departure. Further, this function is also not mentioned in the TP Report. Random quality check prior to ship ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the assessee. Knowledge of storage The assessee is engaged in providing support services and therefore knowledge of storage is irrelevant. Knowledge of logistics involved in exports of goods The assessee is engaged in providing support services and therefore knowledge of logistics is irrelevant. 32. The Ld counsel submitted that the TPO has alleged that the assessee has generated location savings due to huge difference in cost of procurement between high cost economy and low cost economy like India. 33. The afore said view of the TPO according to Ld counsel suggest that he has failed to comprehend the business model of the assessee and wrongly applied the concept of the location savings in the facts of the case present before him. The Ld counsel reiterated that the assessee has performed coordination and sales support activities for its AEs. The assessee earns commission or service fee for coordination and sales support activities. In fact the very basis on which the TPO has concluded that location savings should be attributed to the assessee is wrong. It is the AEs which procure goods from suppliers in India or sells goods to buyers in India. The terms and conditions of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... P rules as prescribed by the Statute under Rule 10B and took our attention to Rule 10B. 37. It was submitted by the ld. DR that functions performed, assets employed and risks assumed by respective parties to the transactions are intrinsically linked and intertwined with the method to be adopted for the purpose of computing the PLI of an assessee. Further it was also submitted by the Ld DR that the approach of the tax payer while preparing the TP study should follow the mandate of Section 92C read with Rule 10B of the Act and Income-tax Rules, 1962 respectively. According to Ld DR, the prescribed methodology to be adopted while conducting a TP study should contain all factors enumerated in Rule 10B(2), namely sub rules (a) to (d). So, according to the ld. DR, the assessee in the instant case failed to follow the right approach as prescribed in Rule 10B(2). For the purpose of adopting the method as mandated in Sub Rule (1), Sub rule (2) has been laid down for the purpose of drawing up a comprehensive Transfer Pricing Study. 38. According to the Ld DR in the instant case it is worth noticeable that the Taxpayer has failed to follow the prescribed approach in the true sense, thereby ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he TPO after carefully examining the facts and law in the case notes that several unique intangibles have been developed by the assessee and used by the AE for its business in India, thereby enhancing the profitability of the AE without assuming any responsibility. The Ld DR submitted that the assessee bears a substantial amount of risk as the Supply Chain Management of the assessee is used by its AE and its affiliates in Japan and Asia respectively. In the risk analysis part of the TP report, the assessee has the following risk in connection with support services, namely, Market risk, product/service liability risk, credit risk, foreign exchange risk, manpower risk, legal and statutory risk and volume risk. 42. The Ld DR submitted that it is worthwhile to read the provisions of Rule 10B(2)(supra) in general and more particularly Rule 10B(2)(d) with the study conducted by the assessee and farther contended that it will be amply clear that the assessee has failed to consider the various factors enumerated there under in the rules for the purpose of conducting the TP study. Therefore the TPO was right in rejecting the TP approach of the assessee. 43. With regard to adding of FOB va ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rom noodles to missiles. The peculiarities of "Sogo Shosha" companies have been given elaborately by the Coordinate Bench of this Tribunal in Mitsubishi Corporation India Pvt. Ltd. Vs. DIT (ITA No.5042/Del/2011 order dated 21.10.2014) were also like the assessee (Marubeni Itochu Steel India Pvt. Ltd.) also belonged to the "Sogo Shosha" establishment in Japan. In the said case also, we find that the same issues, which are seen in this matter, have been discussed in detail, evaluated and adjudicated. We find that the TPO had observed that the PLI arrived by the assessee taking the 'Berry Ratio' has not been found acceptable for the TPO because, as per him, the provisions of Rule 10B(1)(e)(i) prescribe that net profit margins should be computed in relation to costs incurred, sales effected or assets employed or to be employed and as per him, the Rules do not prescribe for value added cost or value added expenditure to be considered as base for computing net profit margins. On the said reasoning, the claim of the assessee for use of 'Berry Ratio' was not accepted by the TPO which, according to him, being contrary to Rule 10B(1)(e)(i). The same issue, we find, was before the Coordinate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s not even TPO's case that any business operations have been relocated from another location to this location. There is no specific identification of locational savings or even efforts to compute the same. In any event, locational savings in procurement of goods, even if any, will arise to the AEs actually buying the goods and not the assessee assisting such buying by way of acting as an intermediary. In a recent OECD report, released as part of a series of deliverables pursuant to the Action Plan on Base Erosion and Profit Shifting (BEPS) project, titled "Guidance on Transfer Pricing Aspects of Intangibles", while it is accepted that the principles of locational savings will not only apply to business restructuring but also generally to all situations where location savings are present, it is also stated that in determining how location savings are to be shared between two or more associated enterprises, it is necessary to consider (i) whether location savings exist; (ii) the amount of any location savings; (iii) the extent to which location savings are either retained by a member or members of the MNE group or are passed on to independent customers or suppliers; and (iv) where lo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... AEs and not the assessee company. It is only when intangibles are owned by the person, using these intangibles or transferring these intangibles per se, that the question for compensating for use or transfer of intangibles arise. There is nothing to corroborate and support the vague generalization that cost plus method does not "capture the compensation for development and use of intangibles". It is not even the case of the TPO that these intangibles were acquired or developed by the assessee by incurring certain specific costs and such costs are not taken into account in the compensation model. In the process of carrying on a business activity, an assessee may develop certain intangibles but that is quite different from the intangibles that the assessee uses in the business activities as an input or at the starting point, and, even if there were any such intangibles at the starting point, these intangibles could only have belonged to the AEs of the assessee. The value of intangibles created in the process of carrying out the business activity cannot be built in the compensation for carrying out the activity which leads to creation of these intangibles. In any event, the onus is o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an based on any cogent material. The use of intangibles cannot be inferred or assumed. It is to be demonstrated, on the basis of cogent material, by the revenue authorities." 49. Since the facts and circumstance being similar, we concur with the aforesaid observation of the Coordinate Bench and respectfully following the same, we are of the view that use of intangibles cannot be inferred or assumed and needs to be demonstrated on the basis of cogent materials by the TPO/AO and adjustment for use of intangibles was unwarranted. Thereafter, we take note that the Coordinate Bench adjudicated the "Berry Ratio" as under:- "TPO's other objections to application of Berry Ratio 63. We have noted that the TPO has raised three other objections with respect to the berry ratio, i.e. (a) use of berry ratio is not permitted under rule 10B(1)(e)(i) as it does not deal with costs incurred, sales effected or assets employed or to be employed; (b) use of berry ratio is not appropriate to the facts of this case as there are unique intangibles like supply chain intangibles and human assets intangibles; and (c) use of berry ratio is unworkable due to adjustments for variations in accounting polici ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ye product of carrying out routine business activities of the assessee. As we have noted elsewhere in this order, not only that there should be intangibles in use in the business and owned by the assessee but such intangibles should be uniqueunique to the assessee which are not found in the comparables. A trained workforce, unless it has significant development cost or replacement cost, is a routine business intangible which almost all comparables will have. Cost classification issues in application of berry ratio 67. As regards the alleged unsuitability of use of berry ratio due to operational difficulties due to variations in accounting policies, it is sufficient to take note of the fact that coordinate benches of the Tribunal have upheld the use of berry ratio in appropriate cases, including the case of GAP International Sourcing India Pvt Ltd (supra), and that no specific issues are raised by the TPO with regard to operational difficulties in the cases of selected comparables. The problem, thus, is hypothetical problem at this stage which may arise in case there are significant issues in the accounting policies of the comparables vis-àvis the assessee. That stage has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h in the light of the above observations which we respectfully concur with that laid by the co-ordinate bench in Mitsubhishi Corporation India Pvt. Ltd. (supra) and the matter is remanded back to be examined afresh at the assessment stage. 52. Next issue is with report to service fee segment which the TPO treated as trading segment. As per the assessee, the assessee is involved in two segments i.e. trading segment and service fee/commission fee segment. In respect to the computation of ALP by the assessee reflected for trading segment is not disputed by the TPO. However, in respect to the other segment which was claimed by the assessee as income from service fee/commission fee segment, the TPO, however, disagrees with the assessee's contention and treats it as income from trading activity. The same issue cropped in Mitsubishi Corporation India Pvt. Ltd. (supra) wherein the Coordinate Bench following the order of the Hon'ble jurisdictional High Court decision in the case of M/s Li & Fung India Pvt. Ltd vs. CIT (361 ITR 85) has upheld the contention of the assessee that it is no longer open to the revenue authorities to reconstruct the financial statements of the assessee by includi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... goods, i.e., ready-made garments by the third party venders (which cost is certainly not the cost incurred by the assessee), is nowhere supported by the TNMM under Rule 10B(1)(e) of the Rules. Having determined that (TNMM) to be the most appropriate method, the only rules and norms prescribed in that regard could have been applied to determine whether the exercise indicated by the assessee yielded an ALP." 81. Clearly, therefore, it is impermissible to make notional additions in the cost base and thus take into account the costs which are not borne by the assessee. It is so opined by Hon'ble jurisdictional High Court on a careful analysis of rule 10B(1)(e)(i). It is, therefore, no longer open to the revenue authorities to reconstruct the financial statements of the assessee by including the cost of products incurred by the AEs, in respect of which services are rendered, in its reconstructed financial statements, and then putting the hypothetical trading profits, so arrived at in these reconstructed financial statements, to the tests for determining arms' length price. Respectfully following the esteemed views of Their Lordships, we hold that the adjustments carried out in the cos ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
