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TMI Blog2011 (11) TMI 700X X X X Extracts X X X X X X X X Extracts X X X X ..... Subsequently, a reference u/s 92C of the Act was made to the TPO by the Assessing Officer for the computation of the Arm's Length Price (ALP) in relation to certain international transactions entered into by the assessee-company during the year under consideration. The Jt. CIT/TPO-II, Chennai, vide his order dated 30.10.2009, proposed the adjustment of ₹ 6,82,45,059/- on account of purchases made by the assesseecompany. A copy of the draft assessment order was forwarded to the assessee on 30.12.2009 against which the assessee-company filed objections before the DRP in terms of section 144C(2) of the Act. The DRP passed directions u/s 144C(5) r.w.s 144C(8) of the Act on 28.9.2010, directing the Assessing Officer to complete the assessment as proposed by T.P.O. determining the ALP in writing. Accordingly, the Assessing Officer has passed the impugned order in conformity with the above-mentioned directions and in terms of section 144C(13) r.w.s 144C(10) of the Act. 3. To further elaborate the facts relevant to the controversial issue, it is narrated that the assessee-company, being engaged in the business of manufacture of automotive components, has shown an income of ₹ 5 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e were done at arms length price only requiring no adjustments and therefore ought to have rejected the adjustments proposed by the TPO." 5. At the time of hearing, this modified ground having three limbs, was only pressed and other grounds were not pressed by the ld.AR shri Kunj Vaidya, C.A. appearing for the appellant as its authorized representative. Now, we have to decide only Ground No.2(a,b,c), which is in modified form as extracted herein above. 6. We have considered the rival submissions and have carefully treaded through the entire record. While arguing on the modified grounds of appeal, the ld.AR shri Kunj Vaidya submitted that the Assessing Officer and DRP have erred in accepting the proposal of the TPO and making an adjustment of ₹ 6,82,45,059/- to the income of the assessee on account of determination of the ALP by relying on Companies which were not really comparable ones as per Rule 10C(2)(b) of the Act, and by not applying the working capital adjustment on the comparable cases as selected by the TPO and by denying the benefit of +/- 5% as provided in second proviso to section 92C(2) of the Act . According to the ld.AR, the international transactions were ac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er, are relevant for the purpose. The objections raised by the assessee and the reasoning of DRP are contained in paragraph 6 of the order which are being reproduced, for ready reference , verbatim, herein as below: 6. The assessee in its letter dated 30.1.2009 rebutted the arguments made by the TPO. The arguments canvassed by the assessee vide letter cited reasons as under: (a)the assessee vide para No.1 under the heading "Applicability of TP Rule" has contested the action of TPO on the plea that TPO / AO was not correct in recording a finding that assesse is an associate enterprise of Ilgin Global. The perusal of TPO's order showed that she has stated that by virtue of its share holding, M/s.Ilgin Global is related as AE u/s.92A(2)(b). The conclusion is based on the fact that the same person viz., Lee Sang II (holding 55% share) and Lee Dong Seob (holding 25%) are also the share holder of Ilgin Global Ltd. where Lee Sang II holds 90% of shares and Lee Dong Seob holds 10% of the shares. In assessee company ,thus, Lee Sang II indirectly had more than 26% of shares during period under consideration. Thus the finding of TPO within the meaning of sec. 92A(2)(b) is val ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tute the captive supplier as the case of assessee company. The assessee has also not made out a case that the share holding pattern and activity of purchase in all those companies are similar to that of assessee company. Without any objective fact to support the assessee claim there is no infirmity in the order of TPO because of non inclusion of results of above companies for computing ALP. (e)The assessee has also contested the finding of TPO and AO on the basis that adjustment of 2% was not made for assessee being captive supplier to Huyndai. Further the TPO in her order had clearly mentioned that the assessee had not furnished any basis for arriving at the figure of 2% for adjustment. The DRP also could not verify the basis for computation of claim of adjustment of 2% for assessee being captive supplier to Huyndai. Moreover it was observed that company like Sana Steering Systems, is also a captive supplier. The profit margin of the company is high in spite of being captive supplier and there is no infirmity in above referred order for ignoring the claim of the assessee. Similarly the assessee has filed not furnished objective method of computation of adjustment of 3% on accou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... justment to the the claim. (i)The claim made by the assessee in the letter dt. 27.8.2010 had also been included in additional claim made by the assessee vide its letter dated 30.01.10 and accordingly the same has been discussed above." 8. To decide the case in hand, we would like to further discuss as to what exactly CUP and TNM method imply in respect of International Taxation. Before that we need to discuss relevant provisions of the Act. Section 92C of the Act provides for computation of ALP, which has to be done by adopting either of the following methods: - a) Comparable uncontrolled price method; or b) Resale Price method; or c) Cost plus method; or d) Profit split method; or e) Transactional net margin method; or f) Such other method as may be prescribed by the Board 9. Where more than one price is determined by the most appropriate method, the ALP shall be taken to be the arithmetical mean of such prices. The Assessing Officer may form his opinion on the basis of material or information or documents in his possession that the price charged or paid in an international transaction has not been determined in the aforesaid manner; or the information and docume ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h differing tax rates and legislation a realizing profits in the country with the most favourable tax regime so that total tax liability is reduced. 13. Such manipulations are difficult to be established because of the problems of off-shore investigations. For that matter, States have, through Legislation, resorted to a hypothesis of ALP i.e what would have been the price if the transactions were between two unrelated parties similarly placed as the related parties. As regards nature of product and conditions and terms of the transactions. Methodology for the purpose of comparability has been formulated, under the respective domestic laws of the countries. The hypothesis presumes that the tax payer's income is incorrectly reported on the ALP standard and permits the Revenue authorities to make a determination of true taxable income. This is apart from incorrect reporting because of fraudulent, colourable or sham transactions. The general theory of transfer pricing is that the Legislation is to treat each of the individual price of commonly controlled group as a separate entity, transactions between which are taxable events to be formed to the economic realities that would obtain b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ism of what is known as "transfer pricing" . In a modern democratic set up, the Governments - Local, State or Central - are modified version of 'service corporations' of which all the people in the community are the members and the principle object of the Government is to serve the people, so that we can achieve the goal of establishing egalitarian society as envisaged in the Constitution of India. In India, there is no crown and there is no subject. 'We, the people of India', are the real sovereign and it is the people, who decide to tax the community for the benefit and welfare of the society. The Government collects most of the money it needs from its citizens and the companies by taxing their income according to their capacity to pay, to spend on behalf of the citizen in maintaining law and order, defending from outside attack and providing education, health care, social security etc. So taxation is a means of apportioning the cost of Government amongst those, who benefits from it. NonITA payment of tax by any person when it is due increases the burden of those who pay. That is why Government takes measures to curb evasion of tax resorting to penalty and prosecution. No Governm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ll as diversion of income; eliminates the vice of thin capitalization. 15. The League of Nations to international associations of countries created to maintain peace among the nations of the world in the year 1920 and had its headquarters in Geneva, Switzerland. But this association ceased to function after the Second World war and was finally dissolved in April, 1946, and its place was taken by the United Nations. The League played a pioneering role in developing Model Tax Treaties during the period between 1930s and 1940s, its work being taken over in 1960s by the Organization for European Economic Cooperation (in short OEEC). This OEEC subsequently was substituted by the Organizations for Economic Co-operation and Development (OECD). The OECD is a multilateral organization comprised of mostly Western European countries, the United States, Canada, Japan, Australia and New Zealand. Its headquarters are in Paris (France) and it was founded in the year 1961 by replacing OEEC. It was established in the year 1948 in connection with the Marshall Plan, and it provides a forum for representatives of industrialized countries to discuss and attempt to co-ordinate economic and social polic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tem is that the Arm's Length Principle dis-regard integral and functional unity of a MNE, which is responsible for greater efficiencies and advantageous competition edge. The function of all its subsidiaries located in various tax jurisdictions cannot be analyzed in isolation of each other; and dealings and transactions within MNEs are treated at par with the dealings and transactions between unrelated parties at Arm's Length Principle. Transfer Pricing Guidelines as contained in the OECD guidelines are largely followed by various countries, but their implementation by the tax authorities differ. The focus of tax authorities is on increasing national tax base. In an attempt to achieve that objective they lose the international perspective. The same issues are treated in different ways in different jurisdictions, for example, such as allocation of capital risk, entrepreneur function, local market penetration risks and rewards. There are practical difficulties in applying Arm's Length Principle. The concept of separate taxation is not only confined to the recognition of a corporation as an entity independent of the parent, but also extended to treating a branch of the parent as separ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ations. Transfer of goods or services as aforesaid is as dictated by the market but it is controlled by the consideration of shifting taxable profits or duties or of arranging the direction of cash flow. The developing countries lay heavy restrictions in regard to remittance of profits, but in their engineers to secure access to foreign technology, expertise technical know-how, capital goods and components for their industrial development. The MNCs have changed their investment and technical collaborations, policies and the developing countries unpredictability about political and economic stability of a country may necessitate flight of capital and profit there from. This flight is achieved through the device of transfer pricing. 17. The reason for fixing a price, which is not an Arm's Length price, whatever be the motive, is the avoidance of the profit from a country where it would have accrued, had the transactions been at Arm's Length. The avoidance or evasion of tax cannot be the purpose or there could be honest difference of opinion about what should be the Arm's Length price, the tax authorities are aware that tax is avoided. Therefore, the question of the tax treatment of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e investigations. With a view to deal such a situation, so that a legitimate tax to which a State is entitled to, a combined effort has been made through legislation. According to which on hypothetical manner such evasion of tax can be controlled, a term known as an 'arm's length' has been coined. What would have been the price if the transactions were between two unrelated parties, similarly placed as the related parties in so far as nature of product, conditions and terms and conditions of the transactions are concerned? For that purpose methodology and modalities to compare the results under perspective domestic laws of a given country have been formulated. According to this hypothesis, it is presumed that tax payer's income has been incorrectly reported on the arms length standard which permits the revenue authorities to determine a correct taxable income. This methodology is different from incorrect reporting by way of fraudulent, colorful or sham transactions. The basic thesis is that transfer pricing legislation is to treat each of the individual members of a commonly controlled group as a separate entity, the transactions between whom are taxable events to be conformed to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tions have been arbitrarily shifted. A 'transaction' means same assignment, lease, loan, advance, contribution or any other transfer of interest in or right to use any property whether tangible or intangible or money. However, such transaction is effected and whether or not the terms of such transaction are formally documented. Such a transaction also includes performance of any services for the benefit of or taxes, other tax payers. In determining the true taxable income of a controlled taxpayer, the standard to be applied in several case is that of a taxpayer dealing at arm's length with an uncontrolled tax payer. Whether a transaction results an arm's length result will to be determined with reference to the results of a comparable under comparable circumstances. Transactions are not ordinarily considered comparable if they are not made in the ordinary course of business or one of the principal purposes of the uncontrolled transaction was to establish an arm's length result with respect to the controlled transaction. Specific methods for that purpose have been provided for determining arm's length results, if the transaction's do not satisfy that standard. Transactions may invol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rty, the methods which apply are (i) Comparable uncontrolled transaction method which evaluates whether amount charged for controlled transfer of an intangible property was at arm's length by reference to the amount charged in comparable uncontrolled transactions. This method requires that controlled or the uncontrolled transactions involve either the same intangible property or comparable intangible property. The burden of proof is always on the taxpayer . Transactional Net Margin Method (TNMM) is applied in a case where the sale its products to its subsidiary and makes no uncontrolled sales in geographic market, but there are other players, who sell similar product to other distributors in that market. The uncontrolled distributors purchase the product from unrelated parties, but there is a difference in that they do not have the brand names. Because reliable assessments can not be made for the brand name, the CUP method can not be used. But when there is a close functional similarity between controlled and uncontrolled function in terms of market in which they occur the volume of the transactions, the marketing activities undertaken by the distributor, inventory levels, flu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the international transaction. Having discussed from relevant provisions, terms used therein and relevant methods to be employed it for determining arm's length in an international transaction; we now advert to the facts of the hands in hand. We may mention that the assessee has adopted method against which Assessing Officer has adopted TNMM method. According to Ld. AR, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the expenses to which assessee has referred to are common to both the assessee as well as other comparables who have also imported items like the assessee. The basis of computation of such adjustments before DRP also could not be produced. Therefore, we also find that it is common factor shared by the assessee with its comparables and this fact has not been rebutted on record. Assessee could not furnish any documents or evidences to depart from the finding made by the TPO. The assessee has claimed adjustments on the plea that its period of credit is 75 days against other companies who had the benefit of credit of only 60 days. But to prove this factum no evidence was brought on record that other companies had benefit of 30 to 60 days. Regarding adjustment of customs duty, it is found that the assessee as well as comparables had paid the customs duty on import and the process of product is the same as that of the assessee. But still we are not convinced that as to how the TPO/Assessing Officer has preferred TNMM method over the CUP method. The various methods and their applicability has been discussed by us elaborately in the former part of this order. Before choosing any other appr ..... X X X X Extracts X X X X X X X X Extracts X X X X
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