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TMI Blog2016 (4) TMI 478X X X X Extracts X X X X X X X X Extracts X X X X ..... ing buying services to its associated enterprises (AEs). The assessee is paid service charges for such services at costs with a 8% markup. An international transaction of `Provision of buying services' was reported in Form No. 3CEB with transacted value of Rs. 116,95,42,324/-. The assessee applied the Transactional Net Marginal Method (TNMM) as the most appropriate method with its Profit Level Indicator (PLI) of Operating Profit / Total Costs (OP/TC) at 8%. Twenty five companies were chosen as comparable with their average PLI at 9.30%. The assessee claimed that its profit margin at 8% was within permissible range of the profit margin of comparables, and hence the international transaction was at arm's length price (ALP). The Assessing Officer made reference to the Transfer Pricing Officer (TPO) for determining the ALP of this international transaction. The TPO treated the assessee as a tested party and noticed that it was allowed commission @ 8% on the `Costs' incurred for its sourcing activities. He opined that the compensation ought to have been expressed as a percentage on FOB price of goods sourced through the assessee. Accepting the TNMM as the most appropriate method, the TP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... vides that : "Any income arising from an international transaction shall be computed having regard to the arm's length price'. Section 92C of the Act enshrines provisions relating to computation of arm's length price. Sub-section (1) of the section states that the arm's length price in relation to an international transaction shall be determined by any of the methods listed herein which include, inter alia, the transactional net margin method. Sub-section (2) of section 92C provides that the most appropriate method referred to in sub-section (1) shall be applied for the determination of ALP `in the manner as may be prescribed'. Admittedly, the assessee applied the TNMM as the most appropriate method with the PLI of OP/TC, which has not disturbed by the TPO. Calculation of ALP under the TNMM has been given under Rule 10B(1)(e) of the Income-tax Rules, 1962, which has to be necessarily done `in the manner ... prescribed'. This rule states that for the purposes of section 92C(2), the ALP in relation to the international transaction shall be determined as under : `(e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an internatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mparables. Sub-clause (v) states that the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to international transaction. 6. On going through the above sub-clauses of Rule 10B(1)(e), it becomes vivid that as per the first step, the `net profit margin realized' by the enterprise from an international transaction is to be computed. Use of the word 'net profit margin realized' in the provision richly indicates that it is the calculation of actual operating profit margin of the assessee earned from international transaction, which cannot be any hypothetical or adjusted figure. Amount of actual net profit margin realized can be calculated from the assessee's Profit and loss account with the starting point of operating gross revenue from which the amount of operating expenses are reduced to find out the amount of operating profit and the resultant percentage of operating profit with reference to a defined base. When we consider sub-clauses (ii) and (iii), it turns out that, firstly, the net operating margin actually realized from the comparable uncontrolled transaction is computed, which is determined in the same way as that of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lauses (ii) and (iii) of rule 10B(1)(e), the TPO was required to determine the rate of profit margin of the comparables to constitute the benchmark. As against that, the TPO has not taken any profit rate of any comparable. He once again adjusted the figures of the assessee by changing the base of `costs' incurred to the `FOB value of exports' and rate of markup from 8% to 6%. We fail to comprehend as to how this amount of Rs. 176.14 crore can be construed as the operating profit margin of the uncontrolled transactions/comparables. This amount is nothing but a revised compensation amount, which in the opinion of the TPO should have been earned by the assessee. By no standard, this amount can be construed as the arm's length profit rate, as it is not a profit rate of any uncontrolled transaction/comparables. This is a derivative from the simple rewriting of the compensation amount of the assessee by the TPO. 10. Interestingly, the amount of the transfer pricing adjustment has been calculated by reducing the actual gross receipts of the assessee from its AE at Rs. 116.95 crore (`Costs' incurred at Rs. 108.89 crore plus 8% markup at Rs. 8.06 crore) from the amount of profit margin cal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssee has demonstrated to the TPO that this international transaction is at ALP under the TNMM, which is manifest from page 5 of the order of the TPO, showing that the assessee calculated its OP/TC at 8% and average OP/TC of 25 comparable companies at 9.30%. Correctness of these figures recorded in the order has not been disputed by the TPO. If we ignore the exercise done by the TPO, which is clearly not in conformity with any of the prescribed methods, what remains for consideration under TNMM is, the assessee's profit margin at 8%, which is within the permissible range of the profit margin of comparables at 9.30%, necessitating no transfer pricing adjustment. 12. Be that as it may, it is noted that the TPO determined ALP of the assessee's international transaction for the year under consideration in the same manner as was done by him for the earlier years. Though the tribunal affirmed the shifting of the base of the assessee from `Costs' incurred to the `FOB value of exports' and sustained the addition, but the Hon'ble Delhi High Court was pleased to delete such addition in Li & Fung India Pvt. Ltd. Vs CIT (2013) 87 CCH 105 Del. HC by holding that : `the TPO's arbitrary exerc ..... X X X X Extracts X X X X X X X X Extracts X X X X
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