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TMI Blog2017 (12) TMI 1751X X X X Extracts X X X X X X X X Extracts X X X X ..... royalty back to the file of the ld Assessing Officer to determine the same in accordance with the law. Further, if the operating profit of the respondent falls into 5% range then no addition should be made. In the result ground No. 1 of the appeal of the Revenue is allowed. Addition on account of imports from Sumitomo, Japan - MAM Selection - During the year assessee imported raw materials from Japan which were localized as per Indian market condition - CIT(A) upheld that the transaction of import is an international transaction but deleted the adjustment holding that CUP is not an appropriate method - HELD THAT:- Issue squarely covered by the order of the coordinate bench in assessee s own case wherein, the same was considered in para No. 38 and 39 holding that CUP method is the most appropriate method to be followed with respect to the import of raw material and components. Therefore, we also accordingly, upheld CUP method to be adopted for this year. With respect to the adjustment of ₹ 1.71 crores the coordinate bench has held in para No. 48 and 49, the matter was ultimately set aside to the file of the ld Assessing Officer for fresh adjudication in accordance with ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e expenditure - See M/S. DENSO INDIA LTD. [ 2015 (1) TMI 824 - DELHI HIGH COURT] - ITA No. 1751 and 4365/Del/2011 - - - Dated:- 5-12-2017 - Shri Bhavnesh Saini, Judicial Member And Shri Prashant Maharishi, Accountant Member Revenue by: Shri Amrendra Kumar, CIT DR Assessee by : Shri Kanchal Kaushal, CA Shri Anubhan Rastogi, Adv ORDER Prashant Maharishi, 1. These are the appeals filed by the revenue against the order of the ld CIT(A)-XX, New Delhi dated 19.01.2011 and 29.07.2011 for the Assessment Year 2004-05 and 2005-06. 2. The revenue has raised the following grounds of appeal in ITA No. 1751/Del/2011 for AY 2004-05:- 1. On the facts and circumstances of the case and in law, the Ld. CIT(A) has erred in deleting the enhancement of income by the AO by ₹ 29,600,000/- on account of payment of royalty holding that the International related party transactions of the appellant do not satisfy the Arm Length Principle envisaged under the Act. 2. On the facts and circumstances of the case and in law, the Ld. CIT(A) has erred in deleting the enhancement of income by the AO by ₹ 17,100,000/- determined by the CUP method after duly m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tion of import, export, payment of technical fees, purchase of software and reimbursement of expenses over and above the payment of royalty. Assessee benchmarked these transactions other than reimbursement applying Transactional Net Margin Method (TNMM) as the most appropriate method and adopted profit level indicator of operating profit/ total cost selecting nine comparables and using multiple year data derived at average margin of comparables @3.38% whereas, the assessee s margin was 6.19% and therefore, the international transaction of payment of royalty as per TP Documentation was stated to be at arm s length. 5. The ld Transfer Pricing Officer held that merely on the basis of the agreement between the assessee and AE, it cannot be considered that transactions at are Arm s Length without establishing the commensurate economic benefit for the payment of royalty. Therefore, the ld Transfer Pricing Officer applied the TNMM adopting OP/TC as PLI using single year data with appropriate turnover filters selected three comparables and then determined the margins of the comparables @7.77% against 6.19% of the assessee. Therefore, the ld TPO proposed an adjustment of ₹ 2.96 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... udy (Rs. In crores) MAM as per TP Study 1 Import of raw material and 0.083 TNMM 2 Export of finished goods (Samples) 0.042 3 Payment of royalty 5.166 4 Payment of application cost and technical assistance fee 2.852 5 Purchase of Software 0.016 6 Reimbursement of expenses 0.217 CUP 4. The ground wise background and the respondent's contentions to the department s grounds of appeals is as follows: Re: Ground No. 1 of Grounds of Appeal: Addition on account of Payment of Royalty to AE 1) Background of Transaction 1.1. As detailed in Para 2 above, Denso India is a full-fledged manufacturer of auto components. It depends upon Denso Japan for technical information which is in the nature of designs, engineering data, manufacturing and process data, machinery and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... greater than 100 crores against the Assessee s turnover filter of ₹ 50 crores) and selected comparables used in TP proceedings for AY 2003-04 without considering the comparables for AY 2004-05. (Ref: Page 464 to 466 of paper book) 2.4 Thereafter, the Ld. TPO arrived at a set of 3 comparables and determined the arm s length PLI at 7.77% as against the respondent s PLI of 6.19%. S. No. TPO's Comparables OP/TC % 1 Amforge Industries Limited 9.93 2 Hi-Tech Gears Limited 9.26 3 Subros Ltd. 4.12 Average 7.77 2.5 The Ld. TPO proposed an adjustment of ₹ 4.67 crores to the value of international transaction related to payment of royalty being the differential of arm s length PLI and respondent s PLI (7.77-6.19=1.58%) applied on total cost of the respondent being 295.53 crores. (Detailed calculation on page 466 of paper book) 2.6 The Ld. AO incorporated the order of the Ld. TPO in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nformation (designs, drawings, product standards, engineering data etc.) submitted by the Respondent to substantiate the arm s length nature of royalty payment to associated enterprises and wrongly assumed that no significant economic benefit arose to the respondent from receipt of such technical know-how/information. (Refer page 417 and 418 of the paper book). In fact the respondent has immensely benefitted from the intangibles granted by its AE s and the respondent could not have carried out its business and sold Denso products to customers in India without the ongoing technology transfer and continuing right to use such intangibles obtained from its AE s. To substantiate the same, the past 5 year s trend of the sales turnover which shows an 85% jump in the turnover from March 1999 to March 2004 is as follows: Denso India Ltd. (Sales In Rs. Crores) Mar - 99 Mar-2000 Mar-01 Mar-02 Mar-03 Mar-04 169.5 197.22 238.94 250.56 256.46 313.83 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt Proceedings 2.1. The Ld. TPO did not consider this transaction as an international transaction and did not make a mention of the same in the TP order. However, the Ld. AO considered the same as an international transaction by bringing the same under the ambit of section 92B(2) of the Act by relying on the order of his predecessor for AY 2002-03. (Re: Page 451 of the Paper book). 2.2. Relying upon the methodology adopted by the TPO/AO for preceding year, the Ld. AO determined Comparable Uncontrolled Price ( CUP‟) method to be the most appropriate method for benchmarking the international transaction and compared the prices of imported raw material and components from SCJ with that of domestic vendors either during the same year or in subsequent years. (Re: Page 451 and 456 of the Paper book). 2.3. Consequently the AO made an addition to the tune of 1.71 crores to the international transaction of imports of raw material and components from SCJ and reduced this adjustment from the addition of 4.67 crores made to the international transaction of payment of royalty as discussed in para 2.5 and 2.6 above. (Re: Page 452 of paper book) 3) Respondent s Appeal before ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is contrary to the Rule 10B(4) of the Indian Income Tax Rules, 1962 (Rules) as per which data for only current year or for a period not more than previous two years can be used to determine the arm s length price of an international transaction. Hence, the Indian Transfer Pricing legislation does not permit usage of future years‟ data for the purposes of comparability; The CUP method requires extremely stringent comparability factors to be met, in the absence of which reliable adjustments need to be made to ensure a just and fair comparison. In the instant case, it is not possible to adjust for the various differentiating factors between the case when DENSO India imports components and the case when the components are subsequently localized, and therefore CUP cannot be applied as the most appropriate method. 5. Judicial Reliance: (In Respondent s own case) In ACIT vs. Denso India Limited (64 SOTjLBty-th^Don‟ble Delhi ITAT upheld the use of CUP and set aside the issue to the file of the AO with the direction to determine the ALP by trying to ascertain the price at which such components or parts were being exported by Denso Japan outside Japan or th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e upheld in this regard. Re: Ground No. 3 of Grounds of Appeal: Addition on account of NICENET‟ charges paid to Denso Haryana for use of intranet facility 1. Background of Transaction 1.1. During FY 2003-04, the respondent paid an amount of ₹ 11,94,259 towards cost of sharing the intranet facility called NICENET to M/s Denso Haryana. 2) Assessment Proceedings 2.1 The Ld. AO disallowed the expense considering the agreement pursuant to which these charges were paid as a sham agreement on the ground that it was effective with retrospective effect and specific charges that were to be charged for this service were not mentioned. The Ld. relying on past years took into account that the same addition on the same reasoning was done by the AO in AY 2002-03 and 2003-04. 3) Appeal before Ld. CIT(A) 3.1. The Ld. CIT(A) relied on the order for AY s 2002-03 and 2003-04 allowed the expenses u/s 37(1) considering that there was no change in facts and circumstances of the case. 4) Respondent s Contentions It is pertinent to note that for AY 2002-03 and AY 2003-04, vide order dated February 27, 2013, the Hon‟ble ITAT upheld the order of the C ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e addition to the Arm s length price is made by the ld Assessing Officer. The ld CIT(A) has deleted it holding that the appellant has paid similar royalty in Assessment Year 2002-03 and no transfer pricing adjustment was proposed and ITAT has allowed the claim of the royalty as revenue expenditure. We do not subscribe to the finding of the ld CIT(A) as allowance of the expenditure operates in altogether different provisions of the law as well as the determination of arm s length price of international transaction operates in different. Further, as in the impugned assessment order the adjustment on account of arm s length price is made of ₹ 2.96 with respect to the service availed by the assessee. The ld CIT(A) has not given any answer to that fact. Further, the ld Assessing Officer has made an adjustment of ₹ 4.67 crores on the benefit test basis which is not permissible. Further, the comparability analysis made by the TPO is based on the past year, which is also not permissible. In view of this we set aside the whole transaction of determination of ALP of royalty back to the file of the ld Assessing Officer to determine the same in accordance with the law. Further, if ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... year. With respect to the adjustment of ₹ 1.71 crores the coordinate bench has held in para No. 48 and 49, the matter was ultimately set aside to the file of the ld Assessing Officer for fresh adjudication in accordance with the law. The coordinate bench has also given a direction to the ld Assessing Officer vide para No. 44 about the comparability analysis. The above decision of the coordinate bench has further been upheld by the Hon'ble Delhi High Court in 388 ITR 244. Therefore respectfully following the decision of the coordinate bench in assessee s own case for earlier years, we also set aside the whole issue back to the file of the ld AO with similar direction for application of CUP method and adopting comparable analysis as directed by the coordinate vide para No. 44 and 45 of the order. Accordingly ground No. 2 of the appeal of the revenue is allowed with above direction. 14. Ground No. 3 of the appeal is with respect to the disallowance of ₹ 1194259/- on account of NICNET charges paid to M/s Denso Haryana, ignoring that the internet facilities were wholly exclusively for the business of assessee and not for the assessee company as covered by the dec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are parts some of which were imported from overseas group entities (Re: page 17-23 of paper book for TP study and page 178 for TP order) 3. During the year under assessment, DENSO India entered into the following international transactions with its associated enterprises (AEs) within the meaning of sections 92 to 92F of the Income Tax Act, 1961 ( Act‟). Sr. No. Transactions entered during the year Amount as per TP Study (Rs.) MAM as per TP Study 1 Purchase of raw material 1,83,337 TNMM CUP 2 Sale of finished goods 51,69,561 3 Payment of royalty 6,12,80,272 4 Application cost paid 35,75,676 5 Technical fees paid 62,49,341 6 Technical know-how fees paid 6,63,09,460 7 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceedings and Assessment Proceedings 2.1. The Learned Transfer pricing officer ( TPO‟) vide order dated 23/10/2008 under section 92CA(3) of the Act gave the following observations w.r.t. the international transaction of payment of royalty, technical services fees, know how fee (hereinafter referred as royalty and technical services fees‟) etc: 2.2 The Ld. TPO disregarded the detailed submissions and formal agreements between the respondent and its AE s and ruled that the formal agreement between the AE s cannot be a basis for determining the arm s length price of the transactions. Therefore, payment of royalty/technical services and know how fees cannot be justified on the basis of agreement between the respondent and the AE. The real test lies in commensurate economic benefits in which the profits earned by the enterprise over and above the industry average can be considered as income attributable to the payment of royalty and technical services fees. (Re: Page 184,185 of Paper book) 2.3 Consequently, the Ld. TPO applied TNMM using OP/TC as the PLI for benchmarking the international transaction of payment of royalty using single year data and applied turno ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 4 Application cost paid 35,75,676 30,63,227 5,12,449 5 Technical fees paid 62,49,341 53,53,716 8,95,625 6 Technical know-how fees paid 6,63,09,460 5,68,06,310 95,03,150 7 Training fees paid 10,40,286 8,91,197 1,49,089 8 IT cost fees paid 6,19,261 5,30,512 88,749 9 Miscellaneous receipts 19,42,702 16,64,283 36,06,985 Total 14,63,69,926 12,53,92,899 2.8 The Ld. AO incorporated the order of the Ld. TPO in its order and consequently made an addition of ₹ 12.53 crores on account of international transaction of payment of royalty and technical services fees. (Ref: Page 171 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... +1-5% range, allowed as per proviso to section 92C(2) of the Act and therefore, international transaction is held to be at arm s length. Relevant extract of CIT (A) (Re: Page 122 of Paper book) is as under:- 6.18. As can be seen from the above calculation, the international transaction of the appellant falls within +/-5% of the ALP determined. Therefore, international transaction is held to be at arm s length. Therefore, ground no. 5 is also held in favor of the appellant. 4) Respondent s Contentions Need for payment of royalty/technical services and know how fees The Ld. TPO ignored the detailed evidentiary information (designs, drawings, product standards, engineering data etc.) submitted by the Respondent to substantiate the arm s length nature of royalty and technical services fees payment to associated enterprises and wrongly assumed that no significant economic benefit arose to the respondent from receipt of such technical know-how/information. (Refer page 303- 307 of the paper book). In fact the respondent has immensely benefitted from the intangibles granted by its AE s and the respondent could not have carried out its business and sold Denso products ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd benefit test as well as within +/- 5% range as mandated by the Act. Attention is also drawn to Circular No. 12/2001, dated 23/08/2001 wherein the CBDT has decided that the Assessing officer shall not make any adjustment to the arm s length price determined by the taxpayer, if such price is up by 5% less or up to 5% more than the price determined by the AO. In such cases the price declared by the taxpayer may be accepted. Therefore, the appellant s ground is liable to be dismissed. It is also worth noting that once this adjustment is deleted the rest of the adjustments made by the Ld. AO will become academic. Re: Ground No. 2-5 of Grounds of Appeal: Enhancement of income treating various expenses as capital in nature 1. Transfer Pricing Assessment Proceedings and Assessment Proceedings As detailed in Table 2 (supra) the Ld, TPO/AO made a pro rata adjustment on various payments made by the respondent to its AE's for royalty and technical fees etc. received The Ld. (Re: Point no. 2.7 above). The Ld. AO held that these payments have been made to acquire intangible assets being technical knowhow, patents, trademarks and other business or commercial rights of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or Deletion of adjustment Page Reference 6 IT cost fees Held the same to be recurring expenses and therefore 141 3. Respondent s Contentions It is humbly submitted that these issues have already been decided in favor by the Hon‟ble ITAT and upheld by the Hon‟ble High Court of Delhi in the appellant's own case The ground wise contentions are as follows: Ground No. 2: Deletion of adjustment amounting to ₹ 87,82,391 on account of royalty by holding the same as revenue expenditure The respondent humbly submits that this issue is squarely covered in favour of the respondent in its own case in DCIT vs. Denso India Limited (ITA No. 4798/Del/2004) (AY 2001-02) and followed in ACIT vs. Denso India Limited (64 SOT 191) wherein the Hon‟ble Delhi ITAT held the same to be a revenue expenditure. The observations of the ITAT are as follows: [Ref: Page 13-14 Para 6 of Case Law Compendium] Further we may refer the decision of the Apex Court in the case of Gotan Lime Syndicate v. CIT [1966] 59 ITR 718 in which it was also laid down that the amount of r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt be summarily dismissed. Ground No. 3: Deletion of adjustment amounting to ₹ 5,12,449 on account of application cost by holding the same as revenue expenditure It is submitted that as per the terms of Application works consignment agreement Denso Japan shall assist in providing application work in relation to modification or application or design work regarding the products required to make the basic underlying technology compatible with the Indian market and customer specific requirements not covered by any of the basic agreement. It is further submitted that the issue is covered in favour of the respondent in its own case in CIT vs. Denso India Limited (344 ITR 566) wherein the Hon‟ble High Court has held the same to be of revenue nature. The observations of the Hon‟ble HC are as follows: [Re: Para 20 on page 56 and Para 23 on page 58 of Case Law Compendium] 20. For the purposes of standardizing the modification to suit the requirement of the clients of the assessee, namely, manufactures of automobiles, technical fee was paid for the services rendered, which payment was described as 'fee for the application works' under the agreement. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the appellant be summarily dismissed. Ground No. 5: Deletion of adjustment amounting to ₹ 88,749 on account of IT Cost fees / Training fees by holding the same as revenue expenditure The above expenditure has been incurred on account of Annual maintenance contract for the software of financial reporting to Denso, Japan. These expenses are recurring annual fees incurred for upkeep and maintenance of existing software and not for acquiring any new equipment. Conclusion: In view of the above discussion, it is prayed that the grounds raised by the appellant be summarily dismissed. 20. The first ground of appeal is pertaining to the addition of ₹ 125392899/- being adjustment on account of TPOs order u/s 92CA(3) with respect to the Arm s length price of international transaction. The assessee has entered into the 11 international transactions with its associated enterprise and except reimbursement the assessee adopted TNMM as the most appropriate method determining the profit level indicator operating profit/ total cost selecting 14 comparables whose working capital adjusted margin adopting multiple year data was worked out at 3.79% whereas the margin of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oyalty is revenue expenditure. Ground No. 2 of the appeal of the revenue is dismissed. 24. Ground No. 3 of the appeal of revenue is against deletion of addition of ₹ 512449/- holding it as revenue expenditure being an application cost which was treated by the ld Assessing Officer as capital expenditure. The ld CIT(A) also deleted the above disallowance based on the previous judicial precedents available in case of the assessee. The identical issue is decided in ITA NO. 4798/Del/2004 for AY 2001-02 wherein, the above application cost was allowed as revenue expenditure. Further, it has been stated that there is no disallowance for AY 2006-07 and 2007-08 by the ld Assessing Officer. The above issue in assessee s own case for AY 2001-02 wherein, technical fees paid has been held to be revenue in nature. We do not find any reason to deviate from the same and hence, respectfully following the decision of the coordinate bench, we direct the ld Assessing Officer to treat ₹ 512449/- being technical application cost as revenue expenditure. Accordingly, ground No. 3 of the appeal of the revenue is dismissed. 25. Ground No. 4 and 5 of the appeal both relates to holding of ..... X X X X Extracts X X X X X X X X Extracts X X X X
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