The order of the Bench was delivered by
ITA.No. 613 & 614/Hyd/2009 - A.Ys. 2003-2004 & 2004- 2005
Smt. Asha Vijayaraghavan, J. M.-The issues are common for both assessment years 2003-04 and 2004-05 under Appeal by the Revenue. Therefore, we proceed to dispose them jointly by a common order.
2. The assessee company, M/s Alumeco India Extrusion Limited (formerly called "Pennar Profiles Limited) was engaged in the business of manufacture of aluminium products. The assessee company filed its return of income for Assessment Year 2003-04 on 25.11.2003 admitting a loss of Rs. 4,37,73,774/-. The assessee company had transactions with M/s O&S Metal Import GMBH, Germany whose Managing Director, Mr.WolfgangOrmeloh, was a Director of the assessee company.
3. The Assessee company out of abundant caution complied with provisions of S.92E in obtaining and filing Form 3CEB from the Chartered Accountant against export sales and purchase of raw materials carried out with M/s O&S Metal Import GMBH, Germany.
4. The return of the assessee was processed u/s 143(1) and consequently a notice u/s 143(2) dated 18.10.2004 was served upon the assessee on 27.10.2004. During the course of the assessement, the Assessing Officer made a reference u/s 92CA(1) of the IT Act to the ACIT(TP), Hyderabad. The TPO had rejected the assessee's TP methods and applied TNMM on the export transactions of the assessee and had arrived at an ALP adjustment of Rs. 1,82,56,357/- to the sales of the assessee to M/s O&S Metal Import GMBH, Germany
5. Aggrieved the assessee company filed an appeal before CIT(A)-III. The Learned CIT(A)-III in his order dealt only with the question on whether the M/s O&S Metallimport GMBH, Germany was an AE of the assessee company and made the following observations while concluding that M/s O&S Metal Import GMBH, Germany was NOT an AE :
"2.5. I have duly considered the submissions of the Id. AR and of the TPO. The provisions of transfer pricing regulations provided in Chapter X of the Act can be invoked only in respect of international transactions between two or more "Associated Enterprises", which have been exclusively defined in Sec. 92A. The relevant Clauses of Sub-Section (2) invoked by the TPO reads as under -
"(e) more than half of the board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or
(i) the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise; or
(m) there exists between the two enterprises, any relationship of mutual interest, as may be prescribed. "
2.6. It is evident from the facts on record that in A.Y. 2003-04, the total sales made by the appellant were Rs. 56.99 Crs. out of which exports made to M/s. O & S was of Rs. 35.57 Crs. only. In A.Y. 2004-05 the total sales were Rs. 56.49 Crs. out of which sales made to M/s. O&S were Rs. 34.77 Crs. The appellant also made purchases of raw material from M/s. O&S which amounted to about 70% of the total raw material purchase of the appellant company.
2.7. Clause (e) of Sub-section (2) is applicable where more than half of the Board of Directors or one or more Executive Directors of one enterprise are appointed by the other enterprise. It is evident from records that Mr. Wolfgang Ormiloh was not appointed as an Executive Director in the appellant's Board of Director. Hence, the requirements of Clause (e) are not fulfilled in this case.
2.8. Clause (i) of Sub-section (2) envisages that the goods manufactured by one enterprise are sold to other enterprise and the prices and other conditions relating thereto are influenced by such other enterprise. As mentioned above, the sales made to M/s. 0&5 accounted for about 62% of the total sales made by the appellant company. The appellant has exported the goods to other parties on the similar prices and conditions. No evidence is brought on record by the TPO to show that the prices and other conditions were influenced by M/s. O&S. There is no denial of the fact that M/s. O&S had no share holding or control or management in the appellant company. Hence, Clause (i) of Sec. 92A(L) has no application to the facts of this case.
2.9. Clause (m) of section 92A(2) is applicable only where existed any relationship of mutual interest between two enterprises, as prescribed under the Act or by the Board. No such relationship of mutual interest has been prescribed by the Board till date. Hence, TPO has no authority to invoke the provisions of clause (m) of Sec. 92A(2) in the case of the appellant".
2.10. In view of the above discussion, I am of the opinion that the appellant company and M/s.O&S were not the associated enterprises in terms of Sec.92A of the Act. Hence, the provisions of transfer pricing in Chapter X of the Act cannot be invoked at the threshold. The appellant cannot be penalized for making a mistake in filing the statutory report in Form No.3CEB. Whether the mistake of ignorance of law was on the part of the auditors of the company or by any executive of the company, is immaterial. It is a trite law that any non-taxable income cannot be brought to tax even if it is offered for tax by the assessee himself. It is the duty of the Assessing Officer to levy the correct tax as per the provisions of the Act. AO/TPO has erred in invoking the transfer pricing regulations in the present case. The aforesaid grounds raised by the appellant are allowed.
6. The Learned CIT(A)-III further held that given the M/s O&S Metallimport GMBH, Germany was not an AE of the assessee company the TP regulations under the IT Act itself are not applicable in the assessee's case and hence did not see reason to deal with the other grounds dealing with merits of the adjustments made in international transactions.
7. Aggrieved, the Revenue is now in appeal before us.
8. The Learned DR besides relying upon the grounds of appeal has filed written submissions wherein it has been stated as follows :
1. With regard to M/s. O&S an associated enterprise or not, two enterprises shall be deemed to be associated enterprises is defined in sub section (2) of section 92A of IT Act.
2. Under clause (e) of said sub section - more than half of the board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or
3. Under clause (i) of said sub section - the goods or articles manufactured or processed by one enterprise, are sold to other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprises: or
4. Under clause (m) of said section - there exists between the two enterprise, any relationship of mutual interest, as may be prescribed.
5. As noted by the TPO, Mr. W olfgangOrmeloh is a common director in both the Alumeco company as well as the said company M/s. O&S Metalimport, GMBH, Germany. He is the Managing Director of that foreign company. The company submits that he is not an executive Director and hence the said foreign company should not be' treated as an AE in this case. However, it is stated that Mr. W olfgangOrmeloh being a full time director in the case of the Alumeco Company, it is obvious that he was playing an Executive role in the affairs of the Alumeco Company during the previous year. The fact of Mr. WolfgangOrmeloh having acted as a full time director in the Alumeco company, has been admitted by the assessee company vide their letter dated 29/10/2007 filed before the AO. Further, it is seen that, there is no such designation as an Executive Director in case of the Alumeco Company. In the list of Directors as on 31103/2005, furnished by the company, signed by its Secretary, filed with the return, all those six persons including Mr. WolfgangOrmeloh are shown as Directors, without any specific designation. Under the circumstance, it shows that all those directors have role in the functioning and in the affairs of the company during the previous year. Further, when the assessee 'company has admitted that Mr. WolfgangOrmeloh was a full time director in their case and moreover they have not denied such finding given by the TPO that Mr. W olfgangOrmeloh was looking after the purchases of raw material from abroad and also was looking after the sales made by the company in European market, it clearly shows that the said Mr. Wolfgangormeloh was acting as an Executive Director in the case of above company. Under the circumstance and having regard to the provisions of such clause (e), in my view, the said O&M Metal Import GMBH, has to be treated as an AE vis-a-vis the above company, in this case.
6. As may be seen, in that clause there is no reference to entire goods manufactured. Thus, it cannot be said that as per the said clause, 100% of goods manufactured shall have to be sold to the said enterprise. In fact, having regard to provisions of said clause, in a case where substantial proportion of goods manufactured by and enterprise is sold to the other enterprise at prices and other conditions as specified by the letter, under such circumstances, both the concerns are to be treated as AEs. Since, in this case not only the above company has purchased substantial quantity of raw material amounting to Rs. 36,12,42,692/- for Asst. Year 2003-04 and Rs. 30,24,06,099/- for the Asst. Year 2004-05 from the said concern, but also has sold substantial quantity of finished products [62.41 (Asst. Year 2003-04) 78.44% (Asst. Year 2004-05)of the total sales made during the year] shown at value of Rs. 35,57,36,157/- (Asst. Year 2003-04) and Rs. 35,30,09,614/- (Asst. Year 2004-05) to the said enterprise, as admitted in the audit report in the form no. 3CEB filed with the return, in view of said clause (i), the same has to be treated as an AE Vis-a-vis the appellant company. It is also pertinent to mention here that, under sub section (2) to section 92A, it says, for the purpose of Sub section (1), two enterprises shall be deemed to be associated enterprises if, at any time during the previous year- From this, it shows that such conditions as stipulated in those clauses are not required to satisfied through out the previous year. Even if, for some period of time during the previous year, such conditions as per those clauses are satisfied, than the involved enterprises/companies, shall be deemed to be treated as AEs.
Since, apart from purchasing substantial quantity of raw material, the company has sold finished products during most part of the previous year to the said foreign company, having regard to the facts and circumstances of the case and such statements of exports made to that concern showing the details of invoices raised for all the months i.e., form April 2002 to March 2004 during previous year, it clearly shows that the provision of clause of (i) is satisfied in the case of the company. Further, form the submission of the company made before the CIT(A) and AO & TPO that in their case, it was a purely mutually beneficial commercial relationship existing during such transactions made in the previous year, it clearly shows that the above company indirectly admits the role of the said foreign company in influencing the prices and other conditions during the course of such international transactions. Under aforesaid circumstances, therefore, both the TPO & Af) were justified in treating the said foreign company O&M Metal Import, GMBH, Germany as an AE of the Alumeco India Extrusion Ltd.
7. Nowhere mentioned that prescribed authority is CBDT or ACT. It is wrong interpretation by the CIT or AR that relationship of mutual interest has been prescribed by the Board till date.
9. The Learned AR submitted that there was no AE relationship between the assessee company and M/s O&S Metal Import GMBH, Germany as per Section 92A(2) and hence there can be no application of TP provisions in the assesse's case. Without prejudice to this fact, the Learned AR also submitted in detail to the effect that the TP methods used by the assessee company for both import (CUP) and export (CPM) were correct and showed clearly that the assessee's transactions were at arms'-length. The learned AR relied on the decision of ITAT Mumbai 'E' Bench in the case of Sanchez Capital Services (P) Ltd. vs. ITO,3(3)(2) (2012) 26 Taxmann.com 61 (Mum.).
10. We have heard both Parties.
11. All the grounds, except Ground 6 which is a general Ground, solely revolve around the issue whether M/s O&S Metal Import GMBH, Germany is an Associated Enterprise (AE) of the Appellant company M/s Alumeco India Extrusion Ltd.
12. The Learned CIT(A) in his order has analyzed in detail the provisions of Section 92A "Associated Enterprises" of the Act. The Learned CIT(A) has observed that none of the relevant sub- sections S.92A(2)(e), 92A(2)(i) and 92A(2)(m) apply to the assessee's company case.
13. We have gone through the submissions made by both the parties. The assessee has to establish that the assessee company has exported goods to other parties on similar prices and conditions. Furthermore, most importantly, evidences are to be brought on record by the assessee to show that the prices and other conditions were not influenced by M/s O&S Metal Import GMBH. That M/s O&S Metal Import GMBH had no share holding or control or management of assessee company in the impugned assessment year has to be verified by the AO. . Hence, we remit the issue to the file of the AO to determine whether there existed an AE relationship between the assessee and M/s O&S Metal Import GmBH as section 92A(2)(i) is attracted in the instant case.
14. S.92(A)(2)(m) cannot apply as it is a residual provision to define any further relationship as AE relationship and such power to define is solely and absolutely available only with the CBDT. Such power was delegated by the legislature only to the Competent Authority i.e., CBDT and the CBDT has not yet prescribed any new relationship of mutual interest so as to be covered by S.92A(2)(m).
15. With respect to section 92A(2)(e), the assessee company has stated that Mr. WolfgangOrmeloh was a full time director. Further, the assessee company has not denied the finding given by the TPO that M/s WolfgangOrmeloh was looking after the purchases and sales of raw material from abroad made by the company, in European market. Hence, in these circumstances since there is no clarity on the issue we remit the issue to the file of the Assessing Officer to examine in detail the role of Mr. Wolfgang Ormeloh, as the list of Directors filed with the return shows Mr. Wolfgang Ormeloh as 'Director' without any specific designation. The Assessing Officer shall investigate as to whether Mr. Wolfgand Ormeloh was effectively as acting as Executive Director and decide appropriately whether section 92CA(2)(e) applies in the instant case.
16. We also note that as held in Sanchez Capital Services vs. ITO (26 Taxmann.com 61 Mumbai ITAT) the mere filing of Form 3CEB by the assessee does not automatically imply that S.92A conditions were satisfied and there is an AE relationship. Rather, the specific facts and circumstances of the case have to be analysed in order to conclude whether or not an AE relationship actually exists.
17. The Revenue's appeals being ITA Nos. 613 & 614/Hyd/09 for both the assessment year's 2003-04 and 2004-05 are allowed for statistical purposes.
ITA No. 845/Hyd/11: Assessee appeal - A.Y. 2005-2006
18. With respect to the assessee's appeal there are 6 Grounds. Grounds 1 and 6 of the assessee's appeal are general in nature and do not require adjudication.
19. Grounds 2 & 3 :
2. The learned CIT(A) is not justified in law in coming to the conclusion that there is Associated Enterprise (AE) relationship on the assumption that Mr. Walfgang Ormeloh is a full time director and was acting like an Executive Director in the appellant company which is contrary to the facts. Learned CIT(A) ought to have appreciated that there is no AE relationship triggering as per provisions of Sec. 92A(1) and (2) of the Act during the year.
3. The learned CIT(A) ignored the findings given by the then Ld. CIT(A) in A.Y. 2003-04 and 2004-05 that there was no AE relationship between appellant company and O & S Metal Import GMBH Germany, though same facts and circumstances are prevailing in the current A.Y. 2005-06 which were also existing in the earlier two years.
20. These grounds revolve around the issue whether M/s O&S Metal Import GMBH, Germany is an Associated Enterprise (AE) of the Appellant company M/s Alumeco India Extrusion Ltd.
21. The Learned CIT(A) in his order has stated that "Mr.Wolfgang Ormeloh being a full-time director in case of the Appellant company it is obvious that he was playing an Executive role in the affairs of the appellant company during the previous year........In the list of Directors as on 31.03.2005, furnished by the appellant....all those six persons including Mr.Wolfgang Ormeloh are shown as Directors, without any specific designation. Under the circumstance, it shows that all those directors have role in functioning and in the affairs of the company during the previous year 2004-05". The Learned CIT(A) has gone on to conclude that said Mr.Wolfgang Ormeloh's directorship resulted in the German company being an AE.
22. In the earlier assessment years 2003-04and 2004-05 the same issue arose whether M/s O&S Metal Import GMBH was an AE of the assessee company because the AE's Managing Director Mr.Wolfgang Ormeloh was a Director of the assessee company at para 15, we have held as follows:
"15. With respect to section 92A(2)(e), the assessee company has stated that Mr. Wolfgang Ormeloh was a full time director. Further, the assessee company has not denied the finding given by the TPO that M/s Wolfgang Ormeloh was looking after the purchases and sales of raw material from abroad made by the company, in European market. Hence, in these circumstances since there is no clarity on the issue we remit the issue to the file of the Assessing Officer to examine in detail the role of Mr. Wolfgang Ormeloh, as the list of Directors filed with the return shows Mr. Wolfgang Ormeloh as 'Director' without any specific designation. The Assessing Officer shall investigate as to whether Mr. Wolfgand Ormeloh was effectively as acting as Executive Director and decide appropriately whether section 92CA(2)(e) applies in the instant case".
23. The Learned CIT(A) has also held that S.92A(2)(i) was satisfied because the said sub-section does not refer to the entire goods manufactured and that the given the assessee company purchased a substantial quantity of raw material from the German company as well as exported a substantial quantity of finished goods to the German company it clearly shows there was a mutual beneficial interest and hence this clause was satisfied. The Learned CIT(A) also pointed out that S.92A(2) starts with the phrase "For the purposes of sub-section(1), two enterprises shall be deemed to be associated enterprises If, at any time during the previous year" andhence if the clauses under S.92A(2) are satisfied at some point during the year it is enough to create a deemed AE relationship. Section 92A(2)(i) states that "the goods or articles manufactured or processed by one enterprise are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise". The assessee has to establish that the assessee company has exported goods to other parties on similar prices and conditions. Furthermore, most importantly, evidences are to be brought on record by the assessee to show that the prices and other conditions were not influenced by M/s O&S Metal Import GMBH. That M/s O&S Metal Import GMBH had no share holding or control or management of assessee company in the impugned assessment year has to be verified by the AO. . Hence, we remit the issue to the file of the AO to determine whether there existed an AE relationship between the assessee and M/s O&S Metal Import GmBH as section 92A(2)(i) is attracted in the instant case.
24. Therefore Ground Nos. 2 & 3 are allowed for statistical purposes.
25. With respect to Ground 4 and 5, we are of the opinion that proviso to section 92C(2) applies to the instant case as the proviso of +/- 5% applies only if there is more than one comparable price. In the instant case, with cost plus method (CPM) being applied there are no multiple comparable prices providing a set or range of prices to be addressed by the +/- 5% range proviso. Therefore, we dismiss ground No. 4 of the assessee. Ground No. 5 is consequential and also dismissed.
26. In the result, appeal of the assessee being ITA No. 845/Hyd/11 is partly allowed for statistical purposes.
ITA No. 941/H/11: Departmental Appeal - A.Y. 2005-2006
27. The following are 6 grounds in this appeal.
"1. The learned CIT (A) erred in adopting the Cost Plus Method (CPM) as against the TNMM method adopted by the Transfer Pricing Officer for determining the Arm's Length Price of the International transactions.
2. The learned CIT (A) failed to appreciate the order passed by the TPO under section 92CA and the detailed reasoning given therein for adopting the TNMM method for determining the Arm's Length Price.
3. The learned CIT(A) erred in adopting the CPM method as considered by the assessee as most appropriate method for determining of ALP of the International Transactions pertaining to the export sales made by the assessee to the Associate Enterprise.
4. The learned CIT (A) ought to have accepted the TNMM method adopted by the Transfer Pricing Officer for determining the Arm's Length Price.
5. The learned CIT(A) erred in determining the difference in the ALP of Export sales at Rs. 1,85,46,533/- as against the difference determined at Rs. 3,32,16,328/- by the TPO.
6. Any other ground that may be urged at the time of hearing."
28. In the assessee's appeal in ITA No. 845/H/11, we have remitted the issue to the file of the AO to determine as to the existence of AE relationship. The AO has been directed to verify whether section 92A(2)(e) and 92A(2)(i) are attracted and thereafter decide the issue. Hence, this revenue appeal is also set aside to the AO to decide after adjudicating the assessee's appeal.
29. Hence this appeal of the Revenue being ITA No. 941/Hyd/11 is allowed for statistical purposes.
ITA.No.1475/Hyd/2010 - Assessee's Appeal - A.Y. 2006-07
30. There are 6 grounds before us which are as under. Grounds 1 and 6 are general in nature and do not need adjudication.
"1. The Ld. Assistant Commissioner of Income Tax (ACIT) is erroneous in law and on the facts of the case.
2. The Ld. ACIT is not justified in law in rejecting the Most Appropriate Method (MAM) adopted by the assessee- company as Cost Plus Method (CPM) for determining the Arm's Length Price in respect of international transactions of export sales of Rs. 50,17,96,267/-.
3. The Ld. ACIT is not justified in adopting transaction net margin method (TNMM) for computing Arm's Length Price in respect of export sales of Rs. 50,17,96,267/- without considering the fact that appellant is a BIFR referred loss making company.
4. The Ld. ACIT has considered comparables without performing functions, assets and risks analysis (FAR analysis). The FAR analysis of the appellant are rejected without a cause and consequently arrived at a high arithmetic mean of 7.97% as a ratio of operating profit margin / total cost.
5. The learned ACIT is not justified in law in determining the total income at Rs. 21,36,98,473/- and in demanding tax of Rs. 11,14,92,906/- without adjusting the brought forward losses.
6. Any other ground that may be urged at the time of hearing with the previous approval of the Hon'ble Tribunal."
31. As regards ground No.2, the TPO has held that the internal CPM method adopted by the assessee (as well as the alternate of internal TNMM supplied by it) for exports to its AE is incorrect and applied external TNMM instead to arrive at an arm's-length adjustment of Rs. 3,51,83,477/-. The DRP has not passed any detailed order and has merely confirmed the findings of the TPO.
32. At the outset we note that the assessee company has been following the CPM method for exports to AE consistently over the years and that we have upheld the same in the assessment year 2005-06.
33. Furthermore, the undisputed fact is that the assessee has reasonably significant sales to non-AE's (domestic sales) of similar products. The assessee therefore has these internal domestic transactions, which are similar to its export transactions, to benchmark against its AE transactions. In such a scenario, we find that internal CPM is justified and much more appropriate in arriving at the proper ALP than applying external TNMM and comparing it with different transactions of other companies. Our view is supported by various decision which are as follows :-
(i) Birla Soft (India) Ltd. vs. DCIT (ITA No. 3839/Del/2010).
(ii) Destination of the World Sub-continent Pvt. Ltd. 47 SOT 1.
(iii) Technimount ICB Pvt. Ltd. 11 Taxmann.com 49 (Mum.)
34. In the case of Birla Soft the Delhi ITAT has held as follows :
"In the light of the discussions made above, it was to be held that the assessee was justified in undertaking internal bench/marking analysis on stand/alone basis by placing on record working of operating profit margin from international transactions with AEs and transactions with unrelated parties undertaken in similar functional and economic scenario, and the same should be the basis for determination of arm's length price in respect of international transactions undertaken with the associated enterprise. In the light of the facts of the instant case as discussed above, it was to be held that the TPO had no mandate to have recourse to external comparables when, in the instant case, internal comparables were available, which could be applied for determining the arm's length price of international transactions with AEs. Therefore, the Assessing Officer/TPO was directed to determine arm's length price of international transactions with AEs by making internal comparison of the net margin earned by the assessee from the international transactions with associated enterprises and the profit earned by the assessee from the international transactions with unrelated parties."
35. There is also merit to the assessee's argument that it is a sick company in BIFR and hence has economic conditions and business circumstances which are unique to it. It would seem erroneous to compare such a loss-making company, at least without non-trivial adjustments, to various other companies performing activities in the same domain via external TNMM especially when readily available internal transactions are there as a benchmark.
36. Finally, we note that the TPO has tried to dismiss the internal CPM for incorrect allocation of costs - this by itself cannot be the reason for rejecting the CPM method itself. If anything, the allocation of costs may be looked into and be computed correctly.
37. In other words, when the assessee has chosen a Most Appropriate Method (MAM) and substantiated the choice in its TP study, we feel that it is up to the TPO to record and substantiate the reasons as to why the assesse's MAM is incorrect and why some other TP method needs to be the Most Appropriate Method (MAM). In the instant case however we do not find any substance in any of the TPO's multiple arguments for rejection of assessee's internal CPM and adoption of external TNMM.
38. We further point out that in the ruling of the Supreme Court in DIT (Intl. Taxation) vs. Morgan Stanley (292 ITR 416) it was held that "the most appropriate method has to be applied for computation of the arm's-length price. It will depend on facts and circumstances of each particular international transaction....".Applying this ratio, considering the facts and circumstances in the instant case, internal CPM seems to be the Most Appropriate Method (MAM) rather than external TNMM.
39. Therefore, we hold that the TPO's cursory dismissal of CPM and application of external TNMM is unfounded. However the allocation of costs to domestic, export and jobwork activities needs to be re-examined in detail. We therefore set aside the order to the AO/TPO to compute the ALP of the assessee's transactions using internal CPM as submitted by the assessee and to calculate the appropriate allocation of direct and indirect costs of the assessee to its domestic, export and jobwork activities.
40. As regards Ground No. 3, as noted in above paragraphs, we find merit in the assessee's argument that being a sick company under BIFR it would be erroneous to compare it cursorily using external TNMM. We feel that in such a circumstance, correct comparability analysis would be a non-trivial exercise and the entire TNMM application is bound to be sub-optimal. Given that internal CPM is available and easily applicable in the instant case, we do not find merit in applying external TNMM in the instant case. Hence this ground is allowed in favour of the assessee.
41. As regards Ground 4, this ground does not need adjudication as the external TNMM application is held incorrect and internal CPM is to be adopted in the assessee's case.
42. As regards Ground 5, we direct the AO to compute and arrive at the total income after providing appropriate adjustment of brought forward losses.
43. In the result, the appeal being ITA No. 1475/Hyd/10 is partly allowed for statistical purposes.
ITA.No.2070/Hyd/2011 - Assessee's Appeal - A.Y. 2007- 2008
44. There are 8 grounds before us which are as under. Grounds 1 and 8 are general in nature and do not need adjudication.
"1. The Learned Asst. Commissioner of income Tax (A.O.) is erroneous in law and on the facts of the case.
2. The Ld. A.O. is not justified in law in rejecting the Most Appropriate Method (MAM) adopted by the assessee- company as Cost Plus Method (CPM) for determining the Arm's Length Price in respect of international transactions of export sales of Rs. 87,18,91,410/-. The Ld. A.O. ought to have accepted CPM adopted by the appellant as the MAM.
3. The Ld. A.O. is not justified in adopting Transaction Net Margin Method (TNMM) for computing Arm's Length Price in respect of export sales.
4. The Ld. A.O. is not justified in law in considering inappropriate comparables without performing functions, assets and risks analysis (FAR analysis) and consequently arriving at a high arithmetic mean of 12.25% as a ratio of Operating Profit Margin/total cost.
5. The learned A.O. ought to have accepted the methods (CPM/Internal TNMM) followed by the assessee as appropriate and ought to have accepted the international transactions as complying with Arm's Length Principle.
6. The Learned A.O. legally erred in applying the Profit Level Indicator (PLI) on the total operating cost instead of applying PLI on cost relating to international transactions entered with Associated Enterprises (AE).
7. The Ld. A.O. erred in computing the arm's length price as the mean of the comparable companies margins for aluminium extruded products industry without taking into account the lower 5% variation from the mean, which is permitted under the provisions of section 92 CIT (A)(2) of the Act, as a standard deduction.
8. Any other ground that may be urged at the time of hearing with the previous approval of the Hon'ble Tribunal."
45. As regards Grounds 2, the TPO has held that the internal CPM method adopted by the assessee (as well as the alternate of internal TNMM supplied by it) for exports to its AE is incorrect and applied external TNMM instead to arrive at an arm's-length adjustment. The DRP has upheld the order of the TPO with respect to applying external TNMM.
46. The learned DR besides relying upon the grounds of appeal has filed written submissions wherein it has been stated as follows :
Regarding Adoption of method, It is Worthwhile to reproduce the observations of the Hon'ble Supreme in the case of OIT (lnt. Taxation) vs. Morgan Stanley 292 ITR 416 Where the court held as under:
"the taxpayer is require to compute the arm's length price for a transactions using on the five methods stipulated in the Income tax Rules. Rule 10C (I) of the IT Rules defines the most appropriate method as the method which is most suited to the facts and circumstances of each particular international transaction. As per rule 10C (2) the most appropriate method has to be selected having regard to a number of factors which are enumerated therein"
The apex court has clearly given primacy to rule 10C (2) for purposes of selecting the most appropriate method, which is wider in scope than the rule 10B (2).
The Hon'ble court further observed as under:
" ..... the methods quoted above namely CUP, RPM, CPM, PSM, & TNMM are mentioned in Sec. 92C read with rule 10B. The most appropriate method has to be applied for computation of the arm's length price. It will depend on facts and circumstances of each particular international transaction "
The Supreme Court has also held TNMM to be the most appropriate method in the case of Service PE- "in our view apart from the orders passed by the TPO/AO the said method (TNMM) is the appropriate method in the case of service PE as the TNMM apportions the total operating profit arising from the transactions on the basis of sales, costs, assets etc"
Hon 'ble A-Bench of Hyderabad also considers TNMM is mot appropriate method in the following decisions.
1. Qual core Logic Ltd" Hyderabad in ITA No. 893/Hyd/2011 for the Asst. Year 2005-06 date of pronouncement 31/05/2012
2. M/s. Four Soft Ltd. Hyderabad in ITA No. 1495/Hyd/2010 for the Asst. Year 2006-07 date of pronouncement 09/09/2011
Further, the learned D.R. relied on the following decisions in support of his contention.
1. Director of I.T. (International Taxation & Anr. V. Morgan Stanley & Co. & Anr. (2007) 292 ITR 416.
2. ITA.No.893/Hyd/2011 in the case of M/s. Qual Core Logic Ltd. Hyderabad vs. DCIT, Circle 16(3), Hyderabad Order dated 31 s t May, 2012.
3. ITA.No.1495/Hyd/2010 in the case of M/s. Four Soft Ltd. Hyderabad vs. The DCIT, Circle 1 (3), Hyderabad dated 9 t h September, 2011.
In view of the above discussion, TNMM is selected as the most appropriate method. In view of the above, it is humbly prayed that the Hon'ble Bench may reverse the orders of Ld. CIT (A) and upheld the orders of assessing officer.
47. The learned A.R. submitted that the assessee-company has been following the CPM method for exports to AE consistently over the years and that we have upheld the same in the assessment year 2005-06.
48. Furthermore, it was submitted that the undisputed fact is that the assessee has reasonably significant sales to non-AE's (domestic sales) of similar products. The assessee therefore has these internal domestic transactions, which are similar to its export transactions, to benchmark against its AE transactions. In such a scenario, it was submitted that internal CPM is justified and much more appropriate in arriving at the proper ALP than applying external TNMM and comparing it with different transactions of other companies. The assessee relied on the decision of the decision of the Delhi ITAT in Birla Soft (India) Ltd. vs. DCIT (ITA No. 3839/Del/2010) wherein the Bench held as follows:-
"In the light of the discussions made above, it was to be held that the assessee was justified in undertaking internal bench/marking analysis on stand/alone basis by placing on record working of operating profit margin from international transactions with AEs and transactions with unrelated parties undertaken in similar functional and economic scenario, and the same should be the basis for determination of arm's length price in respect of international transactions undertaken with the associated enterprise. In the light of the facts of the instant case as discussed above, it was to be held that the TPO had no mandate to have recourse to external comparables when, in the instant case, internal comparables were available, which could be applied for determining the arm's length price of international transactions with AEs. Therefore, the Assessing Officer/TPO was directed to determine arm's length price of international transactions with AEs by making internal comparison of the net margin earned by the assessee from the international transactions with associated enterprises and the profit earned by the assessee from the international transactions with unrelated parties."
49. We heard both parties. We find that internal CPM is justified and appropriate in arriving at the proper ALP than applying external TNMM and comparing it with different transactions of other companies.
50. We also find merit in the assessee's argument that it is a sick company in BIFR and hence has economic conditions and business circumstances which are unique to it.
51. The assessee pleaded that companies with less forex earnings should be removed and also brought to our notice the following decisions:-
(1) DCIT, Mumbai vs. M/s. Indo American Jewellery Ltd. Mumbai (2010) 41 SOT 1 (Mum.)
(2) M/s. CRM SDervices India (P) Ltd. (2011) TII-86-ITAT- Del-TP
(3) Deloitte Consulting India Pvt. Ltd. vs. DCIT, Circle 1(2) ITA.1084/Hyd/2010.
(4) ACIT, Range 7 (2) vs. M/s. Rhoida Chemicals India Pvt. Ltd. ITA.No.4201/Mum/2007.
52. We are of the opinion that it would seem erroneous to compare such a loss-making company, at least without non-trivial adjustments, to various other companies performing activities in the same domain via external TNMM especially when readily available internal transactions are there as a benchmark.
53. Finally, we note that the TPO has tried to dismiss the internal CPM for incorrect allocation of costs - this by itself cannot be the reason for rejecting the CPM method itself. If anything, the allocation of costs may be looked into and be computed correctly.
54. In other words, when the assessee has chosen a Most Appropriate Method (MAM) and substantiated the choice in its TP study, we feel that it is up to the TPO to record and substantiate the reasons as to why the assesse's MAM is incorrect and why some other TP method needs to be the Most Appropriate Method (MAM). In the instant case however we do not find any substance in any of the TPO's multiple arguments for rejection of assessee's internal CPM and adoption of external TNMM.
55. We further point out that in the ruling of the Supreme Court in DIT (Intl. Taxation) vs. Morgan Stanley (292 ITR 416) it was held that "the most appropriate method has to be applied for computation of the arm's-length price. It will depend on facts and circumstances of each particular international transaction....".Applying this ratio, considering the facts and circumstances in the instant case, internal CPM seems to be the Most Appropriate Method (MAM) rather than external TNMM. The assessee has relied on the decision of ACIT vs. MSS India 32 SOT 132 (Pune) wherein it has been held that In a situation in which the assessee has followed one of the standard methods of determining ALP, such a method cannot be discarded in preference over transactional profit methods unless the revenue authorities are able to demonstrate the fallacies in application of standard methods. In any event, any preference of one method over the other method must be justified by the Transfer Pricing Officer on the basis of cogent material and sound reasoning.
56. Therefore, we hold that the TPO's cursory dismissal of CPM and application of external TNMM is unfounded. However the allocation of costs to domestic, export and job-work activities needs to be re-examined in detail. We therefore set aside the order to the AO/TPO to compute the ALP of the assessee's transactions using internal CPM as submitted by the assessee and to calculate the appropriate allocation of direct and indirect costs of the assessee to its domestic, export and job-work activities. Hence this ground is allowed in assessee's favour for statistical purposes.
57. As regards Ground 3, we have provided detailed reasoning in Ground 2 as to why internal CPM is the Most Appropriate Method and not external TNMM. Hence this ground is held in favour of the assessee.
58. As regards Ground 4, this ground does not need adjudication as the external TNMM application is held incorrect and internal CPM is to be adopted in the assessee's case.
59. As regards Ground 5, We have already adjudicated this issue in Grounds 2 and 3 and hence this ground is allowed in favour of the assessee.
60. As regards Ground 6, it is clear that any adjustments during the computation of the arm's-length price should be restricted only to the international transactions and not to the entire turnover of the assessee. It is illogical to make additions to local transactions based on TP adjustments and any such addition to entire transactions of the assessee will go against the principle and the provisions of TP under the Indian IT Act. Our view finds support on various decisions which are as follows :-
(1) ACIT vs. Givaudan Flavours (India) P. Ltd. 45 SOT 35 (Mum.)
(2) Starlite vs. DCIT 201-TII-28-ITAT (Mum.)
61. In the case of Lionbridge Technologies (P) Ltd. vs. DCIT (23 taxmann.com 373 Mumbai ITAT) the ITAT observed as follows:-
"7. It is axiomatic that the transfer pricing adjustment can be made only with reference to the international transactions with the AEs and not non-AEs. Special provisions relating to the computation of income from international transactions were introduced through sections 92 to 92F by the Finance Act, 2001 with a view to provide a statutory frame work which can lead to the computation of reasonable profits and taxes in India in case of international transactions between enterprises of a multi-national group. The object of these provisions is to ensure that the transactions between two AEs are not arranged in such a manner so as to reduce the incidence of tax due in India. Such object is achieved by determining ALP as per the relevant provisions of the Act, which is then compared with the price at which international transactions are actually entered into and recorded in the books of account. The difference between the ALP and the actual price, if leading to the lowering of income due in India, is added by way of transfer pricing adjustment. From the scheme of Chapter X of the Act, containing the sections as afore-referred, it is manifest that the addition on account of transfer pricing adjustment can be made only in respect of international transactions with the AEs and not the non-AEs. It is quite natural also because there can be no scope for arranging the transactions with non- AEs so as to reduce the due tax in India. That is the reason for which the transactions with non- AEs have been excluded from the ambit of Chapter X of the Act".
62. Hence, the AO is directed to restrict the adjustments, if any, only to international transactions. This Ground is allowed in favour of the assessee.
63. As regards Ground 7, we do not believe that for CPM there is a need for provision of +/- 5% range of the arm's-length price as there are no comparable prices in the instant case providing a set or range of multiple prices to be addressed by the +/-5% range. Hence this ground of the assessee is dismissed.
64. In the result, the appeal of the assessee being ITA No. 2070/Hyd/11 is partly allowed for statistical purposes.
65. To sum-up, ITA.Nos.613 and 614/Hyd/2009 for AYs 2003-04 and 2004-05 by the revenue are allowed for statistical purposes. ITA No. 845/Hyd/11 filed by the assessee for AY 2005- 06 is partly allowed for statistical purposes. ITA No. 941/Hyd/11 by the revenue for AY 2005-06 is allowed for statistical purposes. ITA No. 1475/Hyd/10 by the assessee for Assessment year 2006- 07 is partly allowed for statistical purposes. ITA No. 2070/Hyd/11 for the AY 2007-08 by the assessee is partly allowed for statistical purposes.
The order pronounced in the open court on May, 2013.