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TMI Blog2015 (11) TMI 1884X X X X Extracts X X X X X X X X Extracts X X X X ..... rs in India and raises bills on the associated enterprise. The assessee reported in its audit report in Form No.3CEB an international transaction of `Tours and Travel Related and Customer Handling Services' with transacted value of Rs.14,65,34,048/. The assessee gave break-up of this amount to the AO as `Third Party (Pass-through) Costs' of Rs.13,93,79,152/- and `Service fee' amounting to Rs.71,54,896/-. The assessee followed and reported the `Cost plus method' in its Audit Report as the most appropriate method. For demonstrating that its international transaction was at arm's length price (ALP), the assessee adopted 14 companies as comparable, the arithmetic mean of whose profit was arrived at 11.72%. The assessee computed its NCP Margin (the ratio of Net profit to Total expenses) at 25.87% and claimed that its international transaction was at ALP. This 25.87% was computed as a percentage of Net profit to Total costs. The `Total costs' comprised only Indirect expenses (Personnel cost, Operating cost and Exchange rate difference) amounting to Rs.56,84,165/-. The amount of net profit was computed by deducting the above amount of Indirect expenses from its Service fee to the tune of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on of the Functions performed, assets employed and risks undertaken by the assessee. Para 4 on page 58 divulges an overview, as per which the assessee (FITPL) is rendering tour and travel related and customer handling services to its parent company Fritidsresor AB, Sweden (FAB). The functions performed, as indicated in this report, show that the assessee : 'mainly caters to the inbound tourist traffic centred in and around India. The main service performed by FITPL is in the field of handling the tourists when they come to India. FAB enters into tourism contracts for their outbound tours to India. Thereafter, it enters into a contract with FITPL under which FITPL renders service to FAB in respect of the tour and travel arrangements to be made in respect of the tours.' The main tourist centric activities carried out by the assessee have been broadly classified into two categories in this transfer pricing report on the same page, which are reproduced as under:- "Charters: The services provided mainly include to and fro transfers from the airport to the respective hotels and hotel bookings. The company handles both the transfers and hotel bookings. Excursions: While the tourists ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... agreements, but, there was no fixed percentage of commission settled between the assessee and foreign AE. When the ld. AR was required to draw our attention towards the Agreement between the assessee and the foreign AE under which the assessee was rendering services and receiving remuneration, initially it was stated that there was no formal agreement between the two AEs, but, later on, the ld. AR sought time of one day for producing such Agreement, if any. On the next date of hearing, the ld. AR placed on record a copy of `Rate sheet for the period 1st October till 16th April, 2005' of the assessee to its AE, which reads as under:- "RATES SHEET FOR 2005 - 2006 - CLASSICAL INDIA TOUR (IND) NET EFFECTIVE 01 OCTOBER TILL 16th April 2005 NO OF UNITS RATES Minimum of 10 - 14 Paying USD 600 Per Person 15 - 19 + 1 Free USD 565 Per Person 20 - 24 + 1 Free USD 560 Per Person 25 - 29 + 1 Free USD 555 Per Person Single room Supplement USD 316 Per Single Air fare Goa- Delhi - Goa For minimum 10 Paying & above Using Sahara Airlines USD 452 Per person HOTEL ENVISAGED CITY NAME HOTEL NO OF NIGHTS Goa Majestic 01 New Delhi Oberoi Maidens ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the foreign tourists. If the assessee manages to get good discount from hotels and economical transportation etc., its profit correspondingly gets swelled and vice versa. It can be understood with the help of a simple illustration. If the assessee incurs expenses on hotels, meals, and transport, etc. to the tune of USD 500 per person, its profit turns out to be USD 100 per person. If such costs get reduced to, say, USD 450 per person, the assessee's profit increases to USD 150 per person. If, on the other hand, such costs go up to, say, USD 550 per person, the assessee's profit shrinks to USD 50 per person. Similar is the position regarding the composite charge by the assessee on account of air fare of Goa-Delhi-Goa for the entire period, namely, 1st October, 2004 till 16th April, 2005, at USD 452 per person. This is again a uniform fixed rate irrespective of the actual air fare that the assessee may have to incur for tourists. It is a common knowledge that the air fares keep on fluctuating for a variety of reasons over a period of time. If the assessee manages to obtain air tickets at a lower rate, then, it adds to its profit and vice versa. To illustrate, if the assessee gets ai ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e find that the entire amount of Rs.13.93 crore represents the costs incurred by the assessee in its role of a principal and not as an agent of its foreign AE inasmuch as this is not an amount recoverable per se from its AE. Our view is further fortified and substantiated by copies of certain invoices raised by hotels, etc. on the assessee directly. Page no.136 is a copy of invoice dated 7.2.2006 of Radisson Hotel raised on the assessee. Similarly, page no. 138 is a copy of invoice raised by Hotel Crowne Plaza on the assessee. On the other hand, the assessee has raised invoices on its foreign AE at the rates as per `Rate sheet', which is a fixed and all inclusive charge having no link with the actual amount incurred or to be incurred by the assessee. It is this amount of Rs.14.65 crore received from the AE that forms its gross revenue, from which all the direct and indirect expenses on providing services and facilities to the tourists are met by the assessee, leaving the remainder as its profit. Once this is the correct position, we fail to appreciate as to how the sum of Rs.13.93 crore incurred by the assessee can at all be construed as `Pass through costs' inasmuch as these are n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... with the computation of arm's length price. This section provides that the ALP of an international transaction shall be determined by any of the methods given in the provision, which also includes `(c) Cost plus method'. The manner of determination of ALP under different methods has been set out in Rule 10B. Clause (c) of Rule 10B(1) deals with the determination of ALP under the `Cost plus method', which reads as under:- `(c) cost plus method, by which,- (i) the direct and indirect costs of production incurred by the enterprise in respect of property transferred or services provided to an associated enterprise, are determined ; (ii) the amount of a normal gross profit mark-up to such costs (computed according to the same accounting norms) arising from the transfer or provision of the same or similar property or services by the enterprise, or by an unrelated enterprise, in a comparable uncontrolled transaction, or a number of such transactions, is determined ; (iii) the normal gross profit mark-up referred to in sub-clause (ii) is adjusted to take into account the functional and other differences, if any, between the international transaction and the comparable uncontrolle ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n supra by holding that these are not pass through costs incurred by the assessee. In fact, these are the direct costs incurred in providing services to the tourists for which the assessee is getting revenue from its AE. Going by the language of the rule 10B(1)(c), it is clear that both the direct and indirect costs are to be considered. The ld. CIT(A) in deleting the addition has ignored the direct costs and approved the computation of the ALP under this method by confining himself only to the indirect costs, which is contrary to the instruction of the rule. It is impermissible to alter the prescription of Rule 10B(1)(c) by applying the gross profit rate only to the indirect costs in total disregard to the mandate of considering both the direct and indirect costs. 12.2. The ld. AR contended that the manner in which the assessee recorded the transactions in its books of account by crediting only service fee of Rs.71.54 lac to its Profit & Loss Account and then debiting indirect expenses to the tune of Rs.56.84 lac is an accepted accounting practice which has been approved by the Hon'ble Delhi High Court in CIT vs. International Travel House Ltd. (2012) 344 ITR 554 (Del). This was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the raw material on instructions of MUL at a price dictated by MUL from the sources selected by MUL. That assessee was entitled to a per unit fixed manufacturing charge over and above the actual cost of raw material. This shows that the assessee in that case incurred pass-through costs for and on behalf of MUL which were recoverable as such and that assessee was entitled only to a fixed per unit manufacturing charge over and above the actual cost of raw material. So, in that case the question for consideration was the deductibility or otherwise of such pass through costs in determining the ALP under the Transactional net margin method (TNMM), which has been answered in the assessee's favour. There can be no doubt that the pass-through costs are liable to be ignored in computing the ALP under the TNMM. 12.5. We fail to draw any parallel of this case insofar as the instant case is concerned for certain reasons set out hereinafter. Firstly, the amount of Rs.13.93 crore is not a pass-through cost as has been held by us in an earlier part of the order. Secondly, the Hon'ble High Court in holding that the denominator should exclude pass through costs took note of the expression 'any ot ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ions. We, therefore, hold that both the direct and indirect cost are required to be considered in determining the ALP under the `Cost plus method'. 13. The second reason for our not countenancing the impugned order is that the ld. CIT(A) has accepted the yardstick of comparing the assessee's ratio of `Net profit to Total costs' with the similar ratio of two comparables. Ratio of `Net profit to total costs' has no place in the mechanism provided for computing the ALP under the `Cost Plus method' as can be seen from the extraction of rule 10B(1)(c) above. Even under the TNMM, the formula is the ratio of `operating profit' to a suitable base, as has been held by the Hon'ble Apex Court in DIT (I.T.) VS. Morgan Stanley & Co. (2007) 162 Taxman 165 (SC). What is relevant under the TNMM is `operating profit' and not `net profit'. The action of the ld. CIT(A) in accepting the ratio of `Net profit to total costs' as a profit level indicator has led to the devising of a new method in its own, which has no sanction of law. As the most appropriate method in this case is undisputedly the `Cost plus method', we fail to appreciate as to how the decision of the ld. first appellate authority in acc ..... X X X X Extracts X X X X X X X X Extracts X X X X
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