Chambers of Tax Consultants Fundamentals of Transfer ... · Chambers of Tax Consultants...

Chambers of Tax ConsultantsFundamentals of Transfer Pricing

Recent Case Laws on TP concepts & controversiesSunil Moti Lala, Advocate & CA Tushar Hathiramani

SML tax chamberwww.smltaxchamber.com

November 10, 2017

Index

Sr No Case Law CitationPage

Number

I. Applicability of Transfer Pricing Provisions

1.Vodafone India Services Pvt Ltd v Addl CIT

- AY 2009-10368 ITR 001 (Bom) 4

2.Global Payments Asia Pacific (India) vs.

DCIT – AY 2007-08

TS-112-ITAT-2017 (Mum) – TP ITA

NO. 5345/MUM/20126

3.Topsgrup Electronic Systems Ltd v ITO - AY

2009-10(2016) 157 ITD 1123 (Mum – Trib) 6

II. International transactions

4.Aithent Technologies Pvt Ltd v DCIT – AY

2005-06 and 2006-07154 ITD 285 (Del) 9

5. SIS Live vs. ACIT – AY 2011-12TS-149-ITAT-2017(DEL)-TP - ITA

No.1313/Del/201510

III. Deemed International Transactions

6. Kodak India Pvt Ltd v ACIT – AY 2008-09 288 CTR 46 (Bom) 13

IV. Associated Enterprise

7. Page Industries Ltd. v. DCIT – AY 2010-11[2016] 71 taxmann.com 172

(Bangalore - Trib.)14

V. Methods for determining Arm’s Length Price (‘ALP’)

Comparable Uncontrolled Price Method

8. CIT v Adani Wilmar Ltd – AY 2002-03 363 ITR 338 (Guj) 16

9.

GDF SucTSA Energy India P. Ltd (formerly

Tractabel Energy South Asia (P) Ltd) vs.

ACIT – AY 2002-03

TS-537-ITAT-2016(Bang)-TP -

I.T(TP).A No.984/Bang/201018

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Resale Price Method

10. CIT v L’Oreal India Pvt Ltd – AY 2003-04 276 CTR (Bom) 484 19

VI. Comparability – Inter and Intra Industry

11.

Rampgreen Solutions India Pvt Ltd v

Commissioner of Income-tax (Delhi High

Court) - AY 2008-09

[2015] 60 taxmann.com 355 (Delhi) 20

12.CIT v Carlyle India Advisors Pvt Ltd – AY

2007-08357 ITR 584 (Bom)

22

13.Thyssen Krupp Industries India Pvt Ltd – AY

2008-09TS-134-HC-2016(BOM)- TP 23

VII. Computation / Calculations / Adjustments

14.Alstom Projects India Ltd v ACIT – AY 2006-

0726 ITR(T) 322 (Mum) 25

15.Pr. CIT Vs Fiserv India Pvt. Ltd – AY 2009-

10TS-437-HC-2016(DEL)-TP 26

16.Owens Corning (India) Pvt Ltd. vs. DCIT –

AY 2007-08TS-245-ITAT-2016(Mum)-TP 27

17. Watson Pharma Pvt Ltd vs Dy CIT- TS-3-ITAT-2015(Mum)-TP 29

Specific Transactions

VIII. Advertisement, Marketing & Promotion Expenses

17.Sony Ericsson Mobile Telecommunications

India Pvt Ltd v CIT – AY 2007-08374 ITR 118 (Delhi) 32

18. Maruti Suzuki India Ltd v CIT – AY 2005-06[2015] 64 taxmann.com 150 (Del)

34

IX. Share Transactions & Quasi Capital

1. Vodafone India Services Pvt Ltd v Addl CIT-

AY 2009-10368 ITR 001 (Bom) 4

3.Topsgrup Electronic Systems Ltd v ITO – AY

2009-10(2016) 157 ITD 1123 (Mum – Trib) 6

19.

Cadila Healthcare Limited Vs ACIT - AY

2009-10 & 2010-11TS-241-ITAT-2017(Ahd)-TP - IT (TP)

No. 898/Ahd/2014 and 694/Ahd/201536

X. Loans

20.CIT v Cotton Naturals India Pvt Ltd - AY

2007-08276 CTR (Del) 445 37

21.Strides Shashun Ltd v ITO – AY 2003-04 &

2004-05

TS-277-ITAT-2016 (Mum) – TP – ITA

No 641 / Mum / 2007, ITA39

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no.4063/Mum./2010 & ITA

no.274/Mum./2010

22.Instrumentarium Coporation Ltd v ADIT (IT)

– AY 2003-04 and 2004-05

(2016) 160 ITD 1 (Kol – Trib)41

XI. Corporate Guarantee

23.Bharti Airtel Limited v Additional

Commissioner of Income-tax – AY 2008-09(2014) 63 SOT 113 (Del – Trib) 44

24.CIT v M/s Everest Kento Cylinders Ltd – AY

2007-08277 CTR (Bom) 511 46

25. Micro Ink Ltd v Add CIT – AY 2006-07(2015) 63 taxmann.com 353 (Ahd –

Trib)47

XII. Cost sharing

26.

Dresser Rand India Pvt Ltd v ACIT - AY

2006-07 47 SOT 423 (Mum)50

XIII. Royalty and Technical Fee Payment

27.

CIT v EKL Appliances - AY 2002-03 and

2003-04 345 ITR 241 (Del)51

28. CIT v M/s Merck Ltd – AY 2003-04 TS-608-HC-2016 (Bom) - TP 52

XIV. Assessment

29.International Air Transport Association vs.

DCIT – AY 2012-13TS-62-HC-2016(BOM)-TP 54

30. Honda Cars India Ltd v DCIT – AY 2011-12 TS-51-HC-2016 (Del) – TP 55

31.Indorama Synthetics (India) Ltd v Add CIT -

AY 2010-11, 2012-13 and 2013-14(2016) 386 ITR 665 (Del) 56

XV. Foreign Tested Party / APA

32. Ranbaxy Laboratories v ACIT – AY 2008-09[2016] 68 taxmann.com 322 (Delhi -

Trib.)58

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I. Applicability of Transfer Pricing Provisions

1. Issue of shares at a premium by assessee to its non-resident holding company does not give riseto any income from an admitted International transaction and, thus, there is no occasion to applyChapter X in such a case

Vodafone India Services Pvt Ltd v Additional CIT – 368 ITR 001 (Bom) - AY 2009-10

Facts

i. The assessee, a wholly owned subsidiary of a company incorporated in Mauritius, namely Vodafone Tele

Services (India) Holdings Ltd (VTSHL) had issued 2,89,224 equity shares to its holding company at a

premium of Rs. 8,519 per share over and above its face value of Rs.10 pursuant to the fair market value

arrived at in accordance with the Capital Issues Control Act 1947.

Though the assessee was of the view that the transaction did not have an impact on its income and that

the transfer pricing provisions were not applicable, out of abundant care and caution, it reported the issue

of shares in its Form 3CEB and determined the arms’ length price of the issue.

ii. The TPO adopted the Net asset value as the ALP, amounting to Rs.53,775 per share and considered the

short fall of Rs. 1308.91 crore (i.e. difference between NAV and issue price) as a deemed loan and

charged 13.50 percent interest on the said loan resulting in an aggregate adjustment of Rs.1397 crores.

iii. Aggrieved by the order of the TPO and the consequent draft assessment order, the assessee filed

objections with the Dispute Resolution Panel with respect to the valuation exercise adopted by the TPO

and not in relation to the jurisdiction and applicability of the transfer pricing provisions which was raised

via a Writ Petition before the Bombay High Court. The Bombay High Court dismissed the said petition

on the grounds that the assessee had recourse to alternative remedy under the Act, i.e. the DRP and

remanded the matter to the DRP for determination of jurisdiction as well.

iv. The DRP confirmed the additions made by the TPO, consequent to which, the assessee filed a second

writ petition before the High Court challenging the jurisdiction of the Revenue authorities to tax an

International transaction of issue of shares which did not result in any income under the Act.

Contentions of the assessee

i. The sine-quanon, for application of Section 92(1) of the Act is that income should arise from an

International Transaction and since in this case, no income arises from issue of equity shares by the

Petitioner to its holding company, the Transfer Pricing provisions would not apply.

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ii. That the word 'Income' would have to be understood as defined by other provisions of the Act i.e. Section

2(24) of the Act. A fiscal statute has to be strictly interpreted upon its own terms and the meaning of

ordinary words cannot be expanded to give purposeful interpretation. Since, the issue of shares by the

Petitioner to its holding company and receipt of consideration of the same was a capital receipt it could

not be brought to tax unless specifically/ expressly brought to tax by the Act.

iii. That the provisions of Section 56(2)(vii), being applicable to only residents would not apply in the instant

case.

Judgment

The High Court considered the contentions of the assessee and the revenue and based on the following

reasoning ruled in favour of the assessee:

i. Jurisdiction to apply Chapter X provisions – the High Court held that income arising from an

International transaction was a condition precedent for applying the provisions of Chapter X

ii. Definition of income – Referring to the definition of income contained in section 2(24) of the Act, the

High Court observed that income would not in its normal meaning include capital receipts unless it was

so specified and that a taxing statute could not be interpreted on any presumption or assumptions. Share

premium had been made taxable by virtue of a legal fiction under section 56(2)(viib) of the Act which

provided for taxing premium received in excess of the fair market value but only in case of a resident

shareholder. The Court held that neither the capital receipts received by the assessee on issue of equity

shares to its holding company, a non-resident entity, nor the alleged short-fall between the so called fair

market price of its equity shares and the issue price of the equity shares can be considered as income

within the meaning of the expression as defined under the Act. Further, in dealing with the revenues

contention in respect of bringing the said issue of shares within the purview of transfer pricing under sub

clause (c) and (e) of Explanation (i) to Section 92B of the Act, the High Court held that a transaction on

capital account or on account of restructuring would become taxable to the extent it impacted income.

iii. Potential income – Against the argument of the revenue that had the assessee received the ALP of the

shares it would invested the same thereby giving rise to income, the High Court held that the entire

exercise of charging to tax the amounts allegedly not received as share premium fails, as no tax is being

charged on the amount received as share premium.

iv. Applicability of Chapter X to issue of shares – The High Court held that section 92(2) provided for

situations wherein AE’s enter into arrangement where they were to receive any benefit, service or facility

then the allocation, apportionment or contribution towards the cost or expenditure was to be determined

in respect of each AE having regard to ALP and therefore the said section would have no application in

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case of issue of shares where there was no occasion to allocate, apportion or contribute any cost and /

or expenses between the assessee and the holding company.

The Court ruled that if it was income chargeable to tax under the normal provisions of the Act, then alone

could Chapter X be invoked and that the transaction at hand, not falling within a statutory exception could

not be brought to tax. Arriving at a transaction value on the basis of ALP did not convert non-income to

income and that tax could be chargeable only on income, in the absence of which, applying the measure

of ALP was unwarranted.

v. Machinery Provision v Charging Section - Further the High Court also held that Chapter X was not a

separate code in itself and in fact was a machinery provision. In the absence of being a charging section

in Chapter X of the Act, it was not possible to construe it as a charging section and that income arising

from an international transaction between AEs must satisfy the test of income under the existent charging

sections of the Act.

2. Global Payments Asia Pacific (India) vs. DCIT – TS-112-ITAT-2017 (Mum) – TP ITA NO.5345/MUM/2012 dated 25.01.2017- AY 2007-08The Tribunal deleted TP-addition of Rs. 5.53 Crore on purchase of intangible assets (Trademarks,

Customer lists and Goodwill) by assessee consequent to acquisition of credit card processing and

merchant banking acquisition business of HSBC India during AY 2007-08. As regards the Goodwill and

Customer List, it noted that no deduction or depreciation was claimed on the consideration paid for it

while computing taxable income and applied the decision of Bombay HC in Vodafone India Services and

held that Chapter X provisions could only be invoked only when “income arises from international

transaction” and there being no income from the said transaction, the provisions of Chapter X could not

be applied. With regard to acquisition of Trademark, which had been capitalized and depreciated by

assessee, the Tribunal approved the justification of ALP adopted by the assessee viz. on the basis of

report of independent valuer, where weightage had been assigned considering various factors, including

the potential of generating business in future wherein a higher weightage was given to the India territory

and rejected the TPO’s contention that lower weightage should have been given to Indian business as

credit card business was much more advanced in other countries. Accordingly, it rejected TPO's

conclusion that assessee has paid 25% extra for goodwill / trademark acquisition and deleted the TP

addition.

3. Transfer pricing provisions in Chapter X of the Act do not apply to international transactions oncapital account viz. investment in the share capital of the AE, not resulting in any income. Further,re-characterization of equity share capital into loan was on the ground that the investment wasmade at a value in excess of the value of shares as per the Wealth Tax Valuation Rules, wasunwarranted since the transfer pricing laws in India do not permit such re-characterisation.

Topsgrup Electronic Systems Ltd v ITO – (2016) 157 ITD 1123 (Mum – Trib) – AY 2009-10

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Facts

i. The Assessee belonging to the Topsgrup group of companies which were engaged in the business of

providing security services, was incorporated to carry on the business of manufacturing security

equipments. However, its business stopped post which it is carrying on the activity of an Investment /

holding company. With the view to expand its security business on a global scale, the Topsgrup

proposed to invest in Shield Guarding Company Ltd, UK, (‘Shield’) which was also engaged in the

business of providing security service.

For this purpose, Tops Security Limited (‘TSL’ or ‘Holding company of the assessee’) entered into

agreement dated 18.7.2007 with its investors viz. India Advantage Fund & Indivision who jointly invested

Rs.140 crores for acquisition of Shield. Out of the said amount, TSL in the assessee / subscribed to

12,46,010 shares (of face value of Rs.10/- and premium of Rs.990/- resulting in investment of Rs.

124,60,14,673. On receipt of the said money from TSL, the assessee invested the same in Tops BV

Netherlands (‘Tops BV’), its wholly owned subsidiary, which was to be an intermediate holding company

to acquire 'Shield'. The money received by Tops BV Netherlands was further invested towards

acquisition of 'Shield’. The entire transaction was duly supported by a valuation report and was post

approval from the RBI.

The structure of Topsgrup of Companies was as follows: TSL → TESL (100% WOS) → Tops BV (100%

WOS) → Tops UK (100% WOS) → Shield. The investment in Tops BV was disclosed in the notes in

Form 3CEB but the same was not benchmarked as the assessee was of the view that since the

subscription to equity capital did not have any bearing on profitability, TP regulations were not

applicable.

ii. The TPO contended that as per the amended provisions of section 92B(2), transactions of capital

financing have all along been international transactions. He observed that the AE (viz. Tops BV) got the

huge premium due to its special relation with the assessee and the assessee had failed to establish

that the AE was capable of raising funds., either by way of loan or share capital. He held that in the

absence of this share premium, the AE would have had to take loans from the assessee or on open

market which would entail it to pay huge interest costs and that therefore the AE got the funds by way

of the above transfer without being charged any interest thereon. Thus, according to the TPO, the

premium was nothing but a loan given by the assessee to its AE (vis. Tops BV) in the garb of share

premium. The TPO then proceeded to compute the book value per share on the basis of Schedule III

of the Wealth Tax Act, 1957 and accordingly made an addition of Rs.124,17,50,258/- being the alleged

difference in ALP. The TPO made a further adjustment/ addition of Rs.18,62,62,539/- being notional

interest computed @15% on the aforesaid sum of Rs.124,17,50,258/-

iii. The CIT(A) upheld the order of the TPOs and further held that the ratio of the Bombay High judgments

in Vodafone India Services Pvt Ltd [368 ITR 001 (Bom)] and Shell India Markets Pvt Ltd [269 ITR 516

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(Bom)] did not apply to the assessee as the judgments covered inbound transaction i.e. where

asssessee received the amount on issue of shares, whereas the transaction of the assessee was

different i.e. an outbound transaction


i. That in the absence of income arising out of an international transaction, Transfer Pricing provision do

not apply

ii. That a transaction of investment in share capital could not be re-characterized as a loan

iii. Without prejudice to the above, that in any event since the international transaction had taken place in

foreign exchange, the rate for computing notional interest cannot exceed the LIBOR of 5.514%

Judgment

i. The Tribunal held that “Chapter X begins with section 92(i) of the Act which states that "Any income

arising from and international transaction shall be computed having regard to the arms length price."

Evidently, therefore, income arising from the international transaction is a condition precedent for

computing the ALP and such income should be chargeable to tax under the Act. In the absence of such

income, benchmarking of an international transaction and computing ALP thereof would not be in order.

Consequently, if an international transaction is on capital account and does not result in income as

defined under section 2(24) of the Act, the provisions of Chapter X of the Act would not be applicable

to such transaction.”

ii. It dismissed the contention of the Revenue, that the transfer pricing provisions would apply to potential

income and therefore ought to apply to the impugned investment in shares as the same could lead to

capital gains in the future and held that potential income arising from a capital transaction may be

considered under Transfer Pricing provisions if it arises from out of the impugned transaction, which

was not so in the instant case.

iii. In respect of the contention of the Revenue the decision of Vodafone India Services (P.) Ltd. was not

applicable to the assessee, the Tribunal noted that the said decision of the Hon'ble High Court, at para

42, had observed that it would be applicable to both inbound and outbound transaction – “..It is a re-

computation exercise to be carried out only when income arises in case of an International transaction

between AEs. It does not warrant re-computation of a consideration received/given on capital

account…”

iv. Further, following the decision of the High Court in of Besix Kier Dabhol SA (TS-661-HC-2012 (Bom)

and the decisions of the Tribunal in Aegis Limited v ACIT [TS-342-ITAT-2015 (Mum) – TP], Parle

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Biscuits Pvt Ltd v DCIT [TS-127-ITAT-2014 (Mum) – TP], Mylan Laboratories Ltd v ACIT [TS-399-ITAT-

2015 (Hyd) – TP], Allcargo Global Logistics v ACIT [150 ITD 651 (Mumbai)], Prithvi Information

Solutions Ltd v ACIT [34 ITR(T) 429 (Hyd)], Tooltech Global Engineering Pvt Ltd v DCIT [51

taxmann.com 336 (Pune)] it held that re-characterization of investment in share capital into loan was

not possible under the Transfer Pricing provisions.

v. Accordingly, it deleted the adjustment by the TPO.

II. International transactions

4. A transaction between head office and branch office cannot be considered as internationaltransaction within meaning of section 92B of the Act

Aithent Technologies Pvt Ltd v DCIT – 154 ITD 285 (Delhi Tribunal) – AYs 2005-06 and 2006-07

Facts

i. The assessee entered into international transaction of 'Software/Product Development/Software

Consultancy Services' with its AE in the USA and adopted TNMM as most appropriate method for

benchmarking the said transactions.

ii. Apart from the assessee having an AE in the USA, it also had a branch office in Canada. While computing

ALP, the assessee inadvertently considered transactions with its branch in Canada as international

transactions.

iii. The TPO selected a few comparable cases and determined their average operating profit rate and made

a transfer pricing adjustment by applying the margin of the comparables to the base of the assessee's

international transactions with its AE in USA and also its branch office in Canada.

iv. The assessee filed an appeal before the CIT(A) contending that the transactions with its branch office

were not in the nature of transactions with AEs and, hence, the same should have been excluded.

Assessee’s contention

That the transactions with its branch office were not in the nature of transactions with AEs and, hence,

the same should have been excluded

Judgment

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i. The Tribunal held that transaction between head office in India and branch office in Canada could not be

considered as an ‘international transaction’ and thus could not be subject to ALP determination since

Canadian branch not a separate entity distinct from assesse.

ii. It held that a bare perusal of the definition of ‘international transaction’ brings to light that for treating any

transaction as an international transaction, it is sine qua non that there should be two or more separate

AEs. Thus, a transaction between a branch and head office could not be treated as an International

transaction, notwithstanding the fact that the same was recorded in Form 3EB out of abundant caution.

iii. The Tribunal observed that as per the principle of mutuality, since no person can transact with self, one

cannot earn any profit or suffer loss from self. It was observed that this principle has been settled through

various judgments of the Hon’ble Supreme Court viz. Sir Kikabhai Premchand v. CIT [1953] 24 ITR 506

(SC) as well as of the Hon’be High Courts viz. Betts Hartley Huett & Co. Ltd. v. CIT [1979] 116 ITR 425

(Cal.) & Ram Lal Bechairam v. CIT [1946] 14 ITR 1 (All.). Further, it held that even if Revenue’s

contention that the head office earned profit from its branch office was accepted as correct, such profit

earned would constitute additional cost of Branch office. The Tribunal held, “On the aggregation of the

accounts of the Head Office and branch office, such income of the HO would be set off with the equal

amount of expense of the BO, leaving thereby no separately identifiable income on account of this

transaction”.

iv. It also observed that “It is the merged figures of both the head office and branch office taken together as

one unit, that have been taken into consideration for all practical purposes including the computation of

total income and the transfer pricing analysis”.

Note: The aforesaid judgment has been followed in the assessee’s own case for subsequent yearsas well – (2016) 74 taxmann.com 214 (Del – Trib)

5. Chapter X provisions were applicable despite the fact that the assessee, following the cashsystem of accounting, did not claim deduction for expenses were claimed as expenses viz.technical service fee paid, payment of reimbursement of expenses and payment of hiring fee.Since the impugned international transactions relating to availing of services, reimbursement ofservices, availing equipment on hire and Inter-company receivables fell within the categories of“provision of services”, “lease of tangible assets” and “borrowing / lending of money” u/s 92B(1)the condition of ‘bearing on profit, income and loss’ was not relevant as it was only to applicableto the last category of transactions i.e. “Other transactions”.

SIS Live vs. ACIT - TS-149-ITAT-2017(DEL)-TP - ITA No.1313/Del/2015 – AY 2011-12

i. The assessee, a non-resident partnership firm based in the UK, came into existence through two

partners, viz. Satellite Information Services Ltd. (70%) and SIS OB Ltd. (30%), for the purpose of

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carrying out a Common Wealth Games (CWG) 2010, New Delhi, contract which was awarded by

Doordarshan (a constituent of Prasar Bharathi, India) for producing and providing the coverage of the

CWG 2010 to the Host Broadcaster, Prasar Bharathi for a total consideration of Rs. 246 crore. The

assessee sub-contracted the said contract to a third party viz. Zoom Communications Ltd for Rs. 177

crore. The assessee filed its return of income in response to notice issued by the AO under section

142(1). However, it did not file Form 3CEB along with the return of income. During the course of

assessment proceedings, the assessee declared 3 international transactions at the instance of the AO

viz. technical service fee payable (Rs. 1.09 crore), payment of reimbursement of professional fee etc

(Rs.23.66 lakhs). and hiring of equipment (Rs. 16.60 crore), which were referred to the TPO for

determination of ALP.

ii. The TPO recomputed the ALP of international transactions of technical service, reimbursement of

profession fee etc. and hiring of equipment at Nil on account of lack of commercial expediency and also

made an addition of notional interest chargeable from inter-company interest free loan (Rs. 21 crore of

receivable). The AO passed a draft order including transfer pricing adjustment amounting to Rs.135.83

crore.

iii. The assessee, filed its objections before the DRP, wherein the DRP provided the assessee with partial

relief by finalising the addition at approximately Rs. 36.65 crore. In the final assessment order, the AO

inadvertently missed out making the said addition of Rs. 36.65 crore on the last page of its order in spite

of making elaborate discussions on the merits of the issue.

iv. Aggrieved, by the addition, the assessee preferred an appeal before the Hon’ble Tribunal wherein the

Tribunal declined to adjudicate TP issue as no addition had been made by AO in final assessment

order. On appeal by the Revenue, the Hon’ble High Court [TS-263-HC-2016(DEL)-TP] noted that prior

to the date of passing order by ITAT, the AO had passed rectification order incorporating the TP

adjustment of Rs. 36.65 crore in its final assessment order. Therefore, it remanded the appeal back to

the Tribunal for fresh adjudication.

Contention of the assesseei. That since it followed cash basis of accounting, no expenses arising out of the international transactions

were accounted for and claimed and deduction in the subject AY, therefore the transfer provisions u/s

92 were inapplicable.

ii. That the TP provisions would apply in the year in which the expenses/income are actually recorded in

books of accounts. Reliance was placed on Bombay High Court decision in Vodafone India Services

Private Limited [TS-308-HC-2014(BOM)-TP] wherein it was held that TP provisions' are machinery

provisions and are not attracted on an independent basis, unless there is some income chargeable to

tax in India.

Judgment

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i. The Tribunal referring to the provisions of Section 92B defining an ‘international transaction’ as well the

retrospective amendment vide Finance Act 2012 inserting Explanation to Section 92B. It held that as

per the provisions of “92B(1) “International transaction‟ has the following ingredients:- a. There has to

be a “transaction‟ as defined u/s 92F(v)

b. One of the party to the transaction is a non-resident

c. The nature of the transaction is

i. Purchase, sale or lease of tangible or intangible property

ii. Provisions of services

iii. Lending or borrowing money

iv. Any other transaction having a bearing on the profits, income, losses or assets of such

enterprises

v. Mutual agreement or arrangement for allocation or apportionment or any contribution to any

cost or expenses in connection with benefit, service or facility.”

ii. It then proceeded to analyse each of the transactions entered into by the assessee vis-à-vis the

contention of the assessee that they did not have an impact on its profits / losses as they had not been

recorded in the relevant year since it followed the cash system of accounting:

Services provided by SIS Outside Broadcast Ltd (Rs. 1.09 Cr): It noted that these services availed

by the assessee were required in absence of necessary skill and resources to manage the scale of

work and held that it fell within the nature of “provision of services” u/s 92B(1), and since the condition

of bearing on profit income and loss of the assessee only applied to other transactions, it was an

international transaction.

Reimbursement of expenses (Rs. 0.23 Cr): It observed that these expenses were reimbursed by

assessee to its AE in connection with professional fees and concluded that this transaction also fell in

the category of “provision of services” and it was not required that it should affect assessee’s profitability

and therefore held that it was an international transaction.

Availing of equipment on hire (Rs. 16.60 Cr): The Assessee had rented certain equipment from its

AE to render broadcasting services. The Tribunal held that this transaction was covered under the

category of ‘purchase, sale or lease of tangible or intangible property’ and therefore concluded that it

was an international transaction irrespective of the impact on profit, income, losses or asset of the

assessee.

Inter-company receivables (Rs. 21 Cr): Noting that the assessee had not charged any interest on

inter-company receivable from its AE, the Tribunal held that this was a transaction of lending of

borrowing money and was an international transaction u/s Sec 92B(1).

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iii. Further, it disagreed with the assessee’s contention that these transactions were required to be

benchmarked only in the year in which they are claimed as deduction under cash accounting system.

Illustrating a case where Indian entity advances an interest free loan of Rs. 100 crores to its AE, it held

that under cash accounting system, income from these advances would not get recognized at any point,

whereas Section 92B(1) provides that any income from international transaction shall be computed

having regard to ALP and therefore explained that income would arise from interest free advances given

by assessee to its AE by benchmarking interest amount receivable, irrespective of the method of

accounting followed by assessee.

iv. It also distinguished assessee’ reliance on the Bombay High Court decision in Vodafone India as well

as coordinate bench decisions in Bharti Airtel [TS-76-ITAT-2014(DEL)-TP]and Toppsgrup Electronic

Systems [TS-61-ITAT-2016(Mum)-TP] rulings relied on by assessee, stating that the transactions in

those cases dealt with the last category being issue of share capital or issue of corporate guarantee,

i.e. “other transactions, which impacts profit, Income, loss or assets of the assessee”, whereas

assessee’s transactions were covered under lease of tangible assets, provision of services or lending

and borrowing money.

Accordingly, it dismissed assessee’s ground and held that transactions benchmarked by TPO were

“international transactions” u/s 92B despite the method of accounting followed by assessee and not

claiming such expenditure as deduction.

v. With regard to the TPO’s determination of ALP of certain international transactions (viz. services

availed, reimbursement of expenses and hiring of equipment) at Nil on account of lack of commercial

expediency (for the reason that assessee had secured the contract for Rs. 246 Cr and assigned it to

Zoom Communication for Rs. 177 Cr without providing any services), the Tribunal disagreed with TPO’s

ALP determination at Nil without examining the details of various information provided by the assessee

and relying on the other reports etc. It held that the TPO was required to examine all these evidences

and then determine whether the services were rendered or not and then derive at the ALP of such

transaction in accordance with law. Noting that neither TPO nor DRP had appreciated the evidence

produced by assessee for the said transaction in a proper perspective, it remitted the issue to the file

of AO/TPO for examining the evidences produced and then determining ALP of the transactions.

III. Deemed International transactions

6. Where the holding companies of the assessee and the company to which the assessee sold itsimaging business, entered into a global agreement for the sale of business, since the globalagreement did not control the terms and conditions of the actual transaction between theassessee and the buyer, the same could not be considered as a deemed international transactionunder section 92B(2) of the Act.

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CIT v M/s Kodak India Pvt Ltd – 288 CTR 46 (Bom) - AY 2008-09

Facts

i. The assessee, an Indian subsidiary of M/s Eastman Kodak Co, USA, had, during the relevant assessment

year, sold its imaging business to an Indian company viz. Carestream Health India Pvt Ltd, who was in

turn a subsidiary of Carestream Inc, USA.

ii. The TPO treated the same as a deemed international transaction under section 92B(2) of the Act on the

basis that the holding company of both the assessee as well as Carestream India had entered into a

global agreement for sale of its business which was prior to the sale of the imaging business.

iii. Aggrieved, the assessee filed objections before the DRP, wherein the DRP upheld the view of the TPO.

iv. The Tribunal concluded that on the interpretation of Section 92B(2), as in force during the relevant year

(i.e. prior to the amendment in Section 92B(2) with effect from April 1, 2015), the transaction would not

be covered by the definition of ‘international transaction’. Further, the Tribunal held that even if one was

to proceed on the basis that Section 92B(2) of the Act was applicable, the transaction would still not come

within the definition of international transaction since the transfer was independently between the

assessee and Carestream India done on its own terms and conditions and the global agreement between

the holding companies did not control the terms of the sale. The Tribunal also noted that the law relevant

to the assessment year in question did not permit the use of ‘any other method’ as the most appropriate

method for determination of ALP and therefore it held that the method used by the TPO was incorrect.

v. Aggrieved, the Revenue filed an appeal before the Hon’ble High Court for the interpretation of the

provisions of section 92B(2).

Judgment

The Hon’ble High Court upheld the order of the Tribunal and further held that the question of law raised

by the Revenue was academic considering the finding of facts given by the Tribunal i.e. that as per

Section 92B(2) prevalent during the relevant assessment year, the transaction would not fall within the

definition of deemed international transaction and that the transaction of sale was neither controlled by

the holding companies of the assessee nor by Carestream India and therefore would not fall under the

definition of international transaction. Accordingly, it dismissed the appeal of the Revenue.

IV. Associated Enterprise

7. For the purpose of constituting an AE, both sub-section 92A(1) and 92A(2) were to be fulfilledtogether and therefore, where the assessee was a mere licensee of the brand-name 'Jockey' andthere was no participation of Jockey International Inc (‘JII’) in the management and capital of the

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assessee i.e. the conditions of Section 92A(1) of the Act were not satisfied, the royalty paid by theassessee to Jockey International Inc (JII) was not an international transaction and therefore couldnot be subjected the provisions of Chapter X.

Page Industries Ltd. v. DCIT [2016] 71 taxmann.com 172 (Bangalore - Trib.) – AY 2010-11

Facts

i. Assessee company, engaged in the business of manufacture and sale of ready-made garments, is a

licensee of the brand-name ‘Jockey’ for the exclusive manufacture and marketing of Jockey readymade

garments under license agreement with Jockey International Inc, USA ['JII']. In consideration for granting

the right to use brand-name, the assessee-company paid consideration in the form of royalty at the rate

of 5% of the sales.

ii. The TPO contended that assessee and JII were AEs under section 92A(2)(g) which provides that

enterprise shall be deemed to be AE if the manufacture or processing of goods or articles or business

carried out by one enterprise is wholly dependent on the use of know-how, patents, copyrights, trade-

marks, licences, franchises or any other business or commercial rights of similar nature, or any data,

documentation, drawing or specification relating to any patent, invention, model, design, secret formula

or process, of which the other enterprise is the owner or in respect of which the other enterprise has

exclusive rights. Accordingly, it treated expenditure on advertisement, marketing and product promotion

as an international transaction and determined its ALP by applying Bright Line Method, computed TP

adjustment.

iii. The assessee contended before DRP that the said transactions did not constitute international

transaction as the assessee-company and JII were not AEs since the conditions specified u/s 92A(1) of

the Act were not were not satisfied between the assessee-company and JII and in the absence of

relationship, the transaction did not constitute an international transaction within the meaning of sec.92B

of the Act.

iv. However, DRP dismissed the objections raised by the assessee.

v. Accordingly, the assessee filed an appeal before the Hon’ble Tribunal.

Judgment

i. The Tribunal observed that it was not the contention of the TPO that the assessee and JII were

associated enterprises u/s 92A(1) which provides for management/control/capital of the other

enterprise but he contended that the assessee and JII were AEs by virtue of deeming provisions under

section 92A(2)(g). It further observed that assessee-company was merely a licensee of the brand-

name 'Jockey' for exclusive manufacture and marketing of goods under license agreement and there

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was no participation of JII in the capital and management of the assessee-company.

ii. It considered the amendment of section 92(2) and corresponding Memorandum of Finance Bill 2002

which provided that: "It is proposed to amend sub-sec.(2) of the said section to clarify that the mere fact

of participation of one enterprise in the management or control or capital of the other enterprise or the

participation of one or more persons in the management or control or capital of both the enterprises

shall not make them associated enterprise unless the criteria specified in sub-sec(2) are fulfilled.”

Accordingly, it held that as per the amendment unless the requirements of sub-sec.(2) were fulfilled, the

sub- section (1) could not be applied at all and therefore, in order to constitute relationship of an AE, the

parameters laid down in both sub- sections (1) and (2) should be fulfilled.

iii. Since the parameters laid down in sub-section (1) were not fulfilled in the instant case, there was no

relationship of AE between assessee-company and JII and therefore, the provisions of chapter X of the

Act have no application.

iv. Adopting the principle of interpretation that while interpreting the taxing statute, construction shall not

be adopted which renders particular provision otiose, it held that the contention of the Revenue [that the

two parties were AEs as they satisfied the provision of Section 92(2)] could not be upheld as it would

render the sub-section (1) otiose.

v. Accordingly, TP addition was deleted.

Obulapuram Mining Co. (P.) Ltd. v. DCIT [2016] 76 taxmann.com 240 (Bangalore - Trib.)The Tribunal held that assessee and a Singapore company having a common director were notassociated enterprises as the parameters laid down under section 92A(1) and (2) were notsatisfied. It held that in order to constitute relationship of an AE, parameters laid down in bothsub-sections (1) and (2) of section 92A should be fulfilled for enterprises to be associated as perSection 92A and where the common director did not exercise any control over the AE, the merefact that the assessee and its AE had one common director alone did not establish the AErelationship under Section 92A(1) despite the fact that the conditions of 92A(2) were fulfilled.

V. Methods for determining Arm’s Length Price (‘ALP’)

Comparable Uncontrolled Price Method

8. Where the assessee relied on the quotations by Oil World, an organisation based in Germany tojustify the ALP of the purchase of edible oil from it AE, unless the TPO pointed out that quotationsof of Oil World, Germany, lacked basis, those quotations were to be considered while determiningALP

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CIT v Adani Wilmar Ltd – 363 ITR 338 (Gujarat High Court) – AY 2002-03

Facts

i. The assesse, Adani Wilmar Ltd, was engaged in the business of manufacturing, refining and trading of

edible oil. During AY 2002-03, the assesse entered into an international transaction with one of its AEs

for purchase of edible oil. The assesse adopted the CUP method as the most appropriate method to

determine the ALP and considered the mean of quotations from ‘Malaysia Palm Oil Board (MPOB)’ and

‘Oil World’ as the CUP.

ii. The TPO rejected the quotation from Oil World stating that apart from having no statutory authority, Oil

World was an independent organization registered in Germany and had nothing to do with the oil prices

prevailing in Malaysia.

iii. CIT(A) deleted the TP addition and observed that Oil World was an authentic independent trade

organization providing primary information and quotations of different countries relating to the oil industry,

which could not be ignored by the TPO without valid reasons. Considering the quotations of Oil World,

the price paid by the assesse was considered to be at arm’s length after granting the benefit of +/- 5%

variation.

iv. The Tribunal upheld CIT(A)’s order accepting the quotation given by Oil World and deleted TP addition

of Rs.58.49 lakhs.

v. Aggrieved, the Revenue filed an appeal before the Hon’ble High Court

Judgment

i. The Court referring to Rule 10D(3) (c ) held that, price publications as long as the same were authentic

and reliable, would be relevant material for ALP determination. It noted that Rule 10B of the Rules

pertained to CUP method while Rule 10D pertains to ‘Information and documents to be kept and

maintained under Sec.92D’.

ii. Further, it held that the price quotations of MPOB were important, however, it would not necessarily mean

that the other quotations would lose their significance, unless it was pointed out that such quotations

lacked basis. The Court observed that TPO’s only objection to not consider the quotations of Oil World

was that it was an independent entity established outside Malaysia and had nothing to do with the old

price prevailing in Malaysia. Against this contention the Court held that “When the CIT(Appeals) as well

as the Tribunal have accepted the reliability and authenticity of the organization and its publication of rate

list, such objection of the TPO must be overruled”.

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9. Where the assessee had acquired shares of a JV from its AE and immediately sold the shares toJindal Group, the TPO was justified in applying the CUP method to benchmark the purchase ofthe said equity shares by adopting the per share purchase price paid by independent third partiesand comparing the same with the price paid by the assessee for the purpose of acquiring the saidshares.

GDF SucTSA Energy India P. Ltd (formerly Tractabel Energy South Asia (P) Ltd) vs. ACIT - TS-537-ITAT-2016(Bang)-TP - I.T(TP).A No.984/Bang/2010 & I.T(TP).A No.1030/Bang/2010 – AY 2002-03

Facts

i. The assessee was a 100 % subsidiary of Tractebel S. A., Belgium (‘TSA’). Pursuant to a shareholders

agreement, TSA and a business group called Jindal Group had floated a joint venture company called

Jindal Thermal Power Company Ltd, (‘JV’), wherein both parties had 50% equity shares each in the JV.

ii. After floating the JV, TSA entered into two agreements for providing engineering assistance and legal

and financial assistance to the JV, for which it was to be compensated as per the terms of the

agreements. However, due to a dispute vis-à-vis the compensation, TSA initiated arbitration

proceedings before the International Chamber of Commerce. Thereafter a settlement was reached

between TSA and the Jindal Group, pursuant to which the Jindal group agreed to buy out the shares

held by TSA in JV. The assessee was appointed to act as an intermediary for the sale of shares held

by TSA for administrative convenience, since, if TSA was to directly sell the shares to concerns in India,

then multiple approval from the RBI would be required. Accordingly, the assessee had agreed to

purchase the shares held by TSA in JV @18.06 per share, which had been justified by way of valuation

reports provided by a Chartered Accountant. The transfer of shares had been approved by the RBI.

On the very same day that the assessee acquired the shares, it had entered into an agreement to sell

the shares to 5 parties – 3 from the Jindal Group viz. VSL, GAGAN and SUN and 2 independent banks

viz. ICICI and IDBI.

iii. The TPO was of the opinion that the entire transaction of transfer of shares from TSA to the assessee

was a composite one, structured to evade tax. According to him, the consideration paid by the assessee

to TSA partly consisted of the fee that TSA had to recover from the Jindal Group for providing

engineering, legal and financial assistance to JV. He noted that out of the 5 parties who purchased

shares from the assessee, ICICI and IDBI, being unrelated parties had purchased the shares @ Rs. 10

per share and considering the same as an internal CUP made an adjustment of the excess amount

paid by the assessee (Rs.18.06 -Rs. 10 per share) under the transfer pricing provisions. He also held

that the approval of the RBI did not imply that the price paid by the assessee was a fair price.

Aggrieved, the assessee filed an appeal before the CIT(A) who upheld the order of the TPO.

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iv. Accordingly, the assessee preferred an appeal before the Hon’ble Tribunal.


i. That the price of Rs. 10 per share at which ICICI and IDBI purchased shares from it was not reflective

of the ALP as the Jindal Group was obliged to buy back the shares from ICICI and IDBI after 1-3 years

ensuring 16 percent annualised return on investment

ii. That in any case, the RBI had approved the share value of Rs.18.06 per share

Judgment

i. At the outset, the Tribunal held that the approach of the TPO and CIT(A) in attempting to bifurcate the

consideration received by TSA from the assessee into i) the value of equity shares and ii) value of fees

forgone was not justified as the same was based on mere surmises.

ii. However, it held that the TPO was justified in adopting the price at which ICICI and IDBI (unrelated

parties) purchased the impugned shares from the assessee as the ALP and upheld the consequent

addition. Noting that there was no embargo placed on the banks preventing from selling the shares to

any third parties it dismissed the contention of the assessee that the price adopted by the TPO was

incorrect as it did not account for the fact that the Jindal Group was to subsequently purchase the shares

ensuring 16 percent annualised return.

Resale Price Method

10. In case of distribution or marketing activities when goods were purchased from associatedentities and sales were effected to unrelated parties without any further processing, then, Resaleprice method (‘RPM’) was most appropriate method to determine ALP of said transaction

CIT v L’Oreal India Pvt Ltd – 276 CTR 484 (Bombay High Court) – AY 2003-04

Facts

i. The assessee was engaged in the business of manufacturing and distribution of cosmetics and beauty

products and had exclusive rights to import, manufacture, market, distribute and sell branded products,

consumer products and professional products relating to the L’Oreal Group. It had two segments – the

manufacturing segment and the distribution segment.

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ii. The TPO accepted the ALP declared by the assessee in relation to the manufacturing segment which

was benchmarked under the Cost Plus Method, but made an addition in respect to the distribution

segment.

iii. The assessee used the Resale Price method as the most appropriate method for the distribution segment

and had selected comparables distributing FMCG products, but which were not in the same line of

business of the assessee i.e. cosmetics. The TPO rejected the RPM and proposed to use the TNMM

method on the ground that the degree of similarity in the FAR analysis was not sufficient for the RPM

method and that the gross profit margins could not be relied on due to difference in the products.

iv. The CIT(A) and the Tribunal ruled in favour of the assessee holding that the Resale Price Method is the

most appropriate method as it is based on the functions performed and not on similarity of the product

distributed.

v. Aggrieved by the order of the Tribunal, the Revenue appealed to the High Court.

Judgment

The Court upheld the order of the Tribunal and affirmed that RPM method was one of the standard

methods in case of distribution or marketing activities. It relied on the OECD guidelines which states that

in case of distribution or marketing activities where goods were purchased from AEs and sold to unrelated

parties without further processing, then, RPM method could be adopted.

VI. Comparability – Inter and Intra Industry

ITES Sector

11. Call Centres not functionally comparable with KPO service provider. Supernormal profitsindicating functional dissimilarity would require further analysis.

Rampgreen Solutions India Pvt Ltd v Commissioner of Income-tax (Delhi High Court) – [2015] 60taxmann.com 355 (Delhi) - AY 2008-09

Facts

i. The assessee, a wholly owned subsidiary of vCustomer, USA, was engaged in providing voice-based

customer care to its AE’s clients falling under the category of Call Center Services in the ITES sector for

which it was remunerated on a cost plus basis. To justify the arm’s length price of the international

transaction, the assessee adopted the Transactional Net Margin Method which was accepted by the

TPO. The operating margin of the assessee was 14.83 percent and the operating margin of the

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comparable companies was 15.74 percent which was within the acceptable range as provided in second

proviso to Section 92C of the Income-tax Act, 1961 (‘the Act’). However, the TPO rejected the

benchmarking conducted by the assessee and proceeded to determine his own comparable companies

selecting 8 companies in total aggregating to a operating margin of 28.96 percent, including Vishal

Information Technology Ltd (‘Vishal’) and Eclerx Services Ltd (‘Eclerx’). The assessee was of the view

that Vishal and Eclerx could not be considered as comparable as they were engaged in the providing

KPO services which was functionally not comparable to the Call Centre services it provided.

ii. Aggrieved by the order of the TPO, the assessee filed objections before the DRP which accepted certain

contentions raised by the assessee but upheld the inclusion of Vishal and Eclerx in spite of functional

dissimilarities.

iii. Subsequently, the assessee preferred an appeal before the Tribunal, wherein it was held that both Vishal

and Eclerx were engaged in providing ITeS and once it fell within that category then no sub-classification

was permissible. The Tribunal held that KPO is a term given to the branch of BPO services where apart

from processing of data, knowledge is also applied and therefore upheld the inclusion of the comparable

companies.

iv. Pursuant to the order of the Tribunal, the assessee preferred an appeal before the Honourable High

Court for the exclusion of Vishal and Eclerx

Contention of the assessee

That even though companies providing KPO services were covered under the broad umbrella of

Information Technology Enabled Services, they could not be compared to low end / BPO service

providers

Judgment

The Court noted the nature of services provided by Voice Call Centers were low end in nature and akin

to customer support and processing of routine data and that KPO services involved a higher level of skill

and knowledge such as analytical services, market research, legal research, and engineering and design

services. It also noted that both Voice Call Centers and KPO service providers would be employing IT

based delivery systems but the characteristics of services, functional aspects, business environment risks

and quality of human resource employed would be materially different.

The Honourable High Court emphasized the importance of functional analysis in determining the level of

comparability and the fact that adjustments should be made for any material differences between

comparables. Accordingly, it held that the view adopted by the Tribunal was contrary to the rationale of

determining ALP using comparables and held that treating the entities to be comparable only for the

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reason that they use Information Technology for delivery of their services would be erroneous as the

characteristics of services provided by Vishal and Eclerx were dissimilar to the services provided by the

assessee.

The Honourable High Court also noted the observations made in the decision of the Special Bench of the

ITAT in the case of Maersk Global Centers India Pvt Ltd- 147 ITD 83 (Mum)(SB), expressing its

reservation on the view taken by the Special Bench on the issue of comparability of BPOs and KPOs. It

however upheld the findings given therein in relation to the exclusion of Vishal and Eclerx on account on

different business model and nature of services performed, respectively.

It further held that one cannot seek to exclude comparable companies mainly on the ground that they

earned supernormal profits. However, it was clarified that in cases the supernormal profits indicated

functional dissimilarity it would be necessary to undertake further analysis to eliminate the possibility of

high profits resulting on account of any material dissimilarity between the tested party and the chosen

comparable.

Additionally, the Court addressed another vital point of conflict in relation to the standard of comparability

in the TNMM method. It negated the view of the Tribunal and the DRP which stated that broad

functionality was sufficient and it was not necessary to make further effort to find a comparable entity

providing services of similar characteristics as the tested entity.

Note:

The Apex Court has granted SLP against this order of the High Court and fixed the hearing in 2017

– (2016) 76 taxmann.com 287 (SC)

Though the High Court agreed with the findings of the Mumbai Special Bench in Maersk Global

Centres (India) Pvt Ltd v ACIT – 147 ITD 83 (Mumbai Special Bench), it expressed its reservations

vis-à-vis the findings therein with respect to the issue of KPO v BPO.

Investment Advisory Services

12. Companies providing non-binding investment advisory services cannot be compared tocompanies provide merchant banking activities

CIT v Carlyle India Advisors Pvt Ltd – 357 ITR 584 (Bom) - AY 2007-08

i. The assessee was engaged in providing investment advisory and related support services to its group

company in Hong Kong. It adopted the TNMM method as the most appropriate method and arrived at a

final set of 5 comparable companies having an average operating margin of 18.97 percent. The assessee

had earned an operating margin of 15.02 percent which was within the 5 percent range allowable under

the Act.

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ii. The TPO conducted a fresh search and identified 8 comparable companies out of which only one

company was a common comparable with the companies selected by the assessee. Accordingly, the

TPO made an adjustment which was affirmed by the DRP.

iii. Aggrieved by the order of the DRP, the assessee filed an appeal before the Tribunal. The Tribunal held

in favour of the assessee on the ground that the comparable companies selected by the TPO were not

functionally comparable with the functions performed by the assessee as some of the companies chosen

by the TPO were engaged in investment banking and merchant banking services which is not the same

as investment advisory services. Investment banking and merchant banking services involved assisting

in financing capital requirements, underwriting of issues, loan syndication, providing venture capital and

mezzanine financing amongst other activities which was not comparable to the work done by the

assessee which was restricted to research activities.

iv. It also noted that the TPO had not given any reason for rejecting the comparable companies selected by

the assessee and relying on the decision of Addl. CIT v. Maersk Global Service Center India (P.)

Ltd. [2011] 133 ITD 543/ 16 taxmann.com 47 (Mum.), held that if the TPO does not reject a comparable

on the ground of functional incomparability, then the AO / Revenue could not take a plea of functional

incomparability of the comparable companies.

v. Aggrieved, the Revenue filed an appeal before the Hon’ble High Court.

Judgment

The Court upheld the order of the ITAT and ruled in favour of the assesse.

13. Where the financials of a company have segmental breakup, such segmental breakup was to beconsidered for comparability – Company having an engineering segment, carrying out turnkeyprojects was to be considered as a comparable to assessee providing turnkey services. Further,Government companies earning more than 25 percent revenue from public sector undertakingsnot to be included as comparable since it failed the related party transaction filter applied by theTPO.

Thyssen Krupp Industries India Pvt Ltd – TS-134-HC-2016(BOM)- TP – AY 2008-09

Facts:

i. The assessee was engaged in the business of providing turnkey services for design, manufacture,

supply, erection and commissioning of sugar plants, cement plants, bulk material handling etc. In

course of its business the assessee imported and exported equipment to its Associated Enterprises

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and benchmarked the transactions adopting TNMM as the Most Appropriate Method. It arrived at four

comparable companies with an average operating profit margin of 5.69 percent.

ii. The TPO excluded one of the companies selected by the assessee, namely, Gillanders Arbuthnot & Co

Ltd (‘Gillanders’) on the ground that the company was primarily engaged in manufacture of Cotton and

fibre yarn and trading in saleable tea and not engaged in the execution of turnkey projects. Further, the

TPO added two other companies viz. Engineers India Ltd and Sriram EPC to the list of comparable

companies and arrived at an operating profit margin of 12.72 percent arriving at an adjustment of

Rs.6.72 crores.

iii. Aggrieved, the assessee filed objections before the DRP wherein the DRP reduced the adjustment to

Rs.5.10 crores.

iv. Accordingly, the assessee preferred an appeal before the Tribunal, wherein it held that Gillanders was

to be included as a comparable and that Engineers India Ltd was to be excluded. It also held that

Sriram EPC, being functionally similar to the assessee was to be included as a comparable.

v. Aggrieved by the order of the Tribunal, the Revenue filed an appeal before the Honourable High Court.

Judgment:

i. The Honourable High Court, considering the annual report of Gillanders, produced by the assessee

noted that the said company was not only engaged in trading activities but also had an Engineering

Division which was engaged in the business of turnkey projects and that it earned substantial revenues

from such Division which satisfied the segment revenue filter applied. Accordingly, it upheld the order

of the Tribunal in including Gillanders as a comparable company.

ii. With respect to Engineers India Ltd, it noted the finding of the Tribunal that the said company was a

Government company and its annual report indicated that a substantial part of its revenue in execution

of turnkey projects arose out of executing projects of public sector undertakings. Therefore, it upheld

the finding of the Tribunal that the said company could not be considered as a comparable for the

reason that contracts between Public Sector Undertakings were not driven by profit motive alone but

also by other considerations such as discharge of social obligation. Moreover, since more than 25

percent of the revenue of the said company was earned from public sector undertaking, it held that the

said company failed the related party transaction filter of 25 percent applied by the TPO and therefore

was rightly excluded by the Tribunal.

Note: The Tribunal in the following decisions have also held that Government companies were not to

be considered as comparable considering the nature of the contracts, preferential allotment of work by

the Government and the implicit guarantee provided by the Government of India and therefore could

not be considered as indicative of a free market economy.

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ACIT v Chemtex Global Engineers P Ltd - (2013) 35 taxmann.com 351 (Mum Trib)

International SOS Services India P Ltd v DCIT - (2016) 67 taxmann.com 73 (Del Trib)

Bechtel India Pvt Ltd v DCIT- ITA No 1478 / Del / 2015

VII. Computation / Calculations / Adjustments

14. Transfer pricing adjustment is permissible only on transaction with associate enterprise and noton entire turnover

Alstom Projects India Ltd v ACIT – 150 ITD 460 (Mum-Trib) – AY 2006-07

i. The assessee was inter alia engaged in business in the power sector. During AY 2006-2007, the power

segment of the assessee had made a turnover of Rs. 891.21 crores with an operating profit to sale margin

of 6.06 percent. In the said segment, the assessee had four transactions of purchases from its AE

aggregating to Rs. 69.32 crore.

ii. The TPO decided to benchmark the transactions and accordingly arrived at an operating profit to sales

margin of 6.44 percent considering 12 comparable companies and re-computed the margin of the

assessee at 6.03 percent. Accordingly, the TPO made an adjustment of Rs. 3.83 crores on the basis of

the entire turnover of the segment, since the adjustment was over and above the 5 percent benefit

permitted under section 92CA of the Act.

iii. The assessee contended that even if the TPO proposed to make an adjustment he should have done so

only in respect of the international transactions entered into with the AEs and not on the entire turnover.

iv. The assessee contended that the adjustment to be made on the international transactions was limited to

Rs. 32 lakhs and in support of the same filed a detailed working to illustrate the computation. Since the

adjustment of Rs. 32 lakh with respect to international transactions amounting to Rs. 69.32 crores fell

within the 5 percent benefit, the assessee contended that the addition should be deleted.

Judgment

The Tribunal held in favour of the assessee by stating that TP adjustment is permissible only on

transactions undertaken with AEs. With regards to the application of the 5 percent safe harbour, the

ITAT held that since the computation furnished by the assessee, correctly demonstrated the possible

adjustment and that the said adjustment was within the 5 percent range, which was not disputed by the

Revenue, no addition was to be made.

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Note: This is one of the very few cases wherein instead of setting the matter to the file of the TPO to

compute the adjustment vis-à-vis AE transactions, the Tribunal deleted the addition

The same view has been upheld in a large number of decisions of the Bombay High Court as well viz.

CIT v Goldstar Jewellery Design Pvt Ltd – (2016) 67 taxmann.com 86 (Bom), Hindustan Unilever Ltd [TS-

538-HC-2016(BOM)-TP], CIT Vs. M/s. Tara Jewellers Exports Pvt. Ltd. [TS-481-HC-2015(BOM)-TP] CIT

V. Pedro Araldite Pvt. Ltd. [TS-586-HC-2015(BOM)-TP], CIT V. M/s. Thyssen Krupp Industries Pvt.

Ltd. [TS-590-HC-2015(BOM)-TP] and CIT V. M/s. Summit Diamond (India) Pvt. Ltd. (ITA No. 1647 of

2013).

15. Safe Harbor Rules introduced in 2013 which stipulate exclusion of foreign exchange gains / lossesfrom operating income / expenses were applicable only with prospective effect. forex gain or losshaving direct incidence to the business of the assessee could not be viewed as an extra-ordinaryitem

Pr. CIT Vs Fiserv India Pvt. Ltd. - TS-437-HC-2016(DEL)-TP - AY 2009-10

Facts

i. The assessee, a wholly owned subsidiary of Results International Systems Inc. (‘RISL’), USA, provided

software development and maintenance services to its AE, Fiserv Global Services Inc., USA (‘FGSI’), for

which it was compensated in terms of the Master Service Agreement (‘MSA’) entered into between

assessee and FGSI on cost plus 15%. It adopted TNMM as MAM and operating profit to total cost (OP/TC)

as PLI and selected 29 comparables with average margin of 9.54% to demonstrate that its margin of 15%

was at ALP.

ii. However, the TPO rejected assessee’s TP study and chose a fresh set of 13 comparables with average

margin of 25.78% and proposed an adjustment of Rs 19.69cr, which was upheld by the DRP who directed

the TPO to re-compute operating margin of assessee and comparables in terms of the guidelines provided

by Safe Harbour Notification dated September 18, 2013 i.e. by treating foreign exchange fluctuation as

non-operating. A revised final list of 14 comparables was drawn up and AO determined the final TP-

adjustment at Rs 19.04cr.

iii. In appeal before ITAT, assessee confined its grievances to exclusion of 6 comparables selected by DRP

viz. Bodhtree Consulting Ltd, Infosys Ltd, Thirdware Solutions, Sonata Software Ltd, Kals Information

System and Mindtree Ltd. The Tribunal excluded the said comparables on functionality and non-

satisfaction of RPT filter.

iv. It also dealt with the issue of foreign exchange fluctuation as operating income/expenses and held that this

issue was no longer res integra. Relying, on co-ordinate bench ruling in the case of Westfalia Separator

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India Pvt. Ltd.[TS-220-ITAT-2014(DEL)-TP] (wherein it was held that forex gain or loss having direct

incidence to the business of the assessee could not be viewed as an extra-ordinary item) it directed

AO/TPO to treat the foreign exchange gain/ loss as an operating item.

v. Aggrieved, the Revenue filed an appeal before the Hon’ble High Court.

Judgment

i. As regards the issue of comparables, the Court observed that the Tribunal had undertaken a detailed factual

analysis and given cogent reasons for the exclusion of the comparables in question and therefore no

substantial question of law arose

ii. Vis-à-vis the treatment of foreign exchange fluctuation as operating expenses/ income, the Court

considered assessee’s submission that Safe Harbour Notification was prospective and did not apply for the

year in question and that the decisions relied upon by the Tribunal in the impugned order covered this issue

in favour of the Assessee as far as the AY in question was concerned viz. AY 2009-10. Accordingly, it

dismissed the appeal of the Revenue.

16. There was no provision under the law that permitted the AO to make an adjustment on accountof transfer pricing addition to the amount of profit shown by the assessee in its profit and lossaccount, for the purpose of computing book profit u/s 115JB

Owens Corning (India) Pvt Ltd. vs. DCIT - TS-245-ITAT-2016(Mum)-TP – AY 2007-08

Facts

i. The assessee, a joint venture between M/s. Owens Corning, Inc. USA and M/s. Mahindra & Mahindra Ltd,

was engaged in manufacturing and trading of Glass Fibre reinforcement products. The impugned AY was

the 5th year of transfer pricing reference u/s 92CA, in which TP adjustment was made for the first time.

ii. Aggrieved, the assessee preferred appeal before the Tribunal. Assessee also filed an additional ground

contesting AO’s action in increasing the books profits for the purpose of Sec. 115JB by the amount of TP

adjustment of Rs.1.30 crores, while computing the total income of assesse.


i. That the same comparables as selected by assessee under TNMM had been accepted in all prior and

subsequent years and there was no change in facts or business of the assessee and that no adjustment

had been made for earlier as well as subsequent years as transactions were found to be within ALP range.

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ii. That the AO’s action in increasing the books profits for the purpose of Section 115JB by the amount of TP

adjustment of Rs.1.30 crores, while computing the total income of assesse, was not in accordance with

law.

Judgment

i. The Tribunal noted that neither TPO / DRP had stated whether there was any change in the facts or nature

of business activities carried out by the assessee as compared to the other years and held that since the

Revenue had failed to justify the contrary stand in the present AY and had brought nothing on record

showing any change in facts or nature of business activities or position of law, there was no justification for

TPO to reject these comparables.

ii. The Tribunal admitted the additional ground being purely legal and not requiring any investigation of fresh

facts, in view of the judgment of Hon’ble Supreme Court in the case of NTPC 229 ITR 383. It noted that

Section 115JB was a self -contained code, i.e. only those adjustments as prescribed u/s 115JB were

permissible to book profit. Noting that since TP adjustments / additions made under TP regulations were

governed by altogether different sets of provision as contained in Chapter X, relying on the decision of the

Hon’ble Supreme Court in the case of Apollo Tyres Ltd. vs CIT 255 ITR 273 it held, “There is no such

provision under the law that permits the AO to make adjustment on account of transfer pricing addition to

the amount of profit shown by the assessee in its profit and loss account, for the purpose of computing

book profit u/s 115JB. ..”

iii. Further, it noted that the AO simply made addition of Rs. 1.30 crores to the amount of net profit as per profit

and loss account for the purpose of computation of income u/s 115JB without even mentioning the

provisions under which the addition was being made and held that such an approach was highly unfair and

brought undue and avoidable hardship to the tax payers. Accordingly, it allowed the appeal of the

assessee.

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17. Where the assessee operated in a perfectly competitive market, no adjustment on account oflocation savings could be made by the TPO more so when the TPO accepted the benchmarkinganalysis conducted by the assessee considering similar local companies as comparable.

Watson Pharma Pvt Ltd vs Dy CIT-TS-3-ITAT-2015(Mum)-TP

Facts

i. The assessee was engaged in providing contract manufacturing and contract research & development

services to its AEs (located in the US) for which it charged its AEs on a cost plus mark-up basis. The

assessee benchmarked its transactions under TNMM which was accepted by the DRP.

ii. However, the TPO contented that the assessee ought to have received extra compensation on account

of location savings which allegedly arose as a result of the transfer of the manufacturing activity from

the US to India which resulted in a significantly lower cost to the AE. The TPO called for details of cost

of manufacturing in USA and the ultimate selling price of the products manufacturing by the assessee

in India but the same were not furnished by the assessee as they were unavailable. Accordingly, the

TPO, placing heavy reliance on research articles published on the internet wherein it was stated that

the cost of manufacturing in India was 40 percent of the cost in the USA and the cost of R&D was 50

percent of the cost in the USA, quantified the location cost savings at 50 percent of the total cost in both

the contract manufacturing segment as well as the contract R&D segment under the Profit Split Method

and made an addition of Rs. 34.23 crore in the hands of the assessee. The TPO also placed further

reliance on certain judgments of the US Tax Court as well as the position taken by the India tax

administration in UN TP Manual Chapter 10.

iii. Aggrieved, the assessee filed objections before the DRP, wherein the DRP confirmed the additions

made by the TPO on account of location savings. It further noted that the conditions for proposing

adjustment laid down in 92C(3) of the Act had been fulfilled as the TPO had asked for information which

was not furnished by the assessee and therefore the assessee failed to show that there was no location

savings. It also observed that the Annual report of the AE clearly referred to relocation of manufacturing

facilities and therefore held that the addition made by the TPO was warranted.


i. That the adjustment on account of location savings was not warranted as the assessee had complied

with the provisions of Section 92C(1) and (2) and the TPO erred in disregarding the transfer pricing

analysis of the assessee and therefore none of the conditions of Section 92C(3) were satisfied.

ii. That the assessee does not have exclusive access to the factors that may result in location specific

advantages

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iii. That the comparables selected by the assessee were all local Indian companies operating in similar

economic circumstances as the assessee and therefore, the benefit on account of location savings, if

any would get factored into the operating margins of the said comparables

iv. That the assessee and its AE operated in a perfectly competitive market and neither did it or its AE not

have any monopoly and that the benefit on account of location savings, if any would pass on to the final

customer of the AE. That no addition on account of location savings could be made in a perfectly

competitive market.

v. That the arms length allocation of location savings was to be determined based on the bargaining power

of the assessee as well as the AE and in the instant case it was only the AE that had the bargaining

power as there were numerous third party contract manufacturing and R&D service providers in India.

vi. That even as per OECD guidelines location savings is not an intangible asset and therefore the TPO’s

approach of adopting the Profit Split Method was erroneous.

vii. That once it was remunerated at ALP taking regular companies in India as comparable, no location

savings could be attributed.

Judgment

i. The Tribunal, observing that the assessee as well as the assessee’s AE operated in a perfectly

competitive market and that the assessee did not have exclusive access to the factors that may result

in location specific advantages held that there was no unique advantage to the assessee over its

competitors and therefore there could be no adjustment on account of location savings.

ii. The Tribunal observed that the addition made by the TPO was based on assumptions and not as per

the provisions of the Act and further noted that the TPO relied on articles published in the year 2012

whereas the assessee’s case pertained to AY 2009-10. Accordingly, it held that the addition was not

sustainable. It further held that the articles could not be the basis of addition as they were not accepted

by any forum. As regards the decisions of the US Tax Court relied on by the TPO, the Tribunal held

that the said decisions were distinguishable as in those cases, the tax payers were not operating in

perfectly competitive markets unlike the assessee.

iii. It further observed that the reliance placed by the TPO on the UN TP Manual would not apply as the

manual was the view of the Indian tax administration which would not be binding on the Appellate

Authorities.

iv. It further held that if at all, location savings had to be considered from the point of view of the AE and

not the assessee.

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v. Further, it held that even as per BEPS Action Plan 8 where local market comparables are available

specific adjustment for location savings was not required.

vi. The Tribunal held that once TNMM was accepted as the Most appropriate method for benchmarking

the assessee’s transactions, then the benefit accruing to the AE would be irrelevant if the PLI of the

assessee was within the range of comparables.

vii. It further held that the addition made by the TPO was not supported by provision of the Act or Rule and

therefore, it deleted the addition.

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Specific Transactions

VIII. Advertisement, Marketing & Promotion Expenses

18. AMP expense is an international transaction but in the absence of statutory provision, the BrightLine Test (BLT) was not permissible.

Sony Ericsson Mobile Telecommunications India Pvt Ltd v CIT – 374 ITR 118 (Delhi) - AY 2007-08

Facts

i. In 2013, the Special Bench of the Delhi Tribunal in the case of LG Electronic India Private Ltd ruled on the issue of

marketing intangibles and held that it was justified on the part of the Revenue authorities to make transfer pricing

adjustment in relation to AMP expenditure incurred by assessee for creating or improving the marketing intangible

on or behalf of its AE. The Special Bench acknowledged the Bright Line Test which sought to bifurcate the AMP

expenses incurred into routine and non-routine expenses and treat the non-routine expenses as an international

transaction subject to transfer pricing. The determination of routine and non-routine would be based on the AMP

expenses incurred by comparable companies.

ii. This matter dealt with appeals and cross appeals of various assessees in relation to determination of whether

advertisement, marketing and sale promotion expenditure (‘AMP’) beyond and exceeding the bright line is a separate

and independent international transaction undertaken by the resident Indian assessee towards brand building for the

brand owner, i.e. the foreign AE and the consequent determination of ALP of such a transaction.

iii. The assessee a subsidiary of a Sweden based entity, Sony Ericsson Mobile Communications AB‘, was engaged in

importing/buying and selling, and distribution, promotion and marketing of mobile handsets under the brand name

‘Sony Ericsson‘ and providing post sale support/warranty services in India, for which it had entered into an agreement

with its foreign AE. The assessee in the transfer pricing report accepted that the group companies, i.e. the AEs,

owned significant and valuable intellectual property rights in commercial or marketing intangibles in the form of brand-

name, trademark, logos, etc. but did not own any significant or valuable non-routine intangibles itself.

iv. In its transfer pricing report, the assessee declared a net profit margin of 2.5 percent which was higher the operating

margin of the 18 comparable companies it arrived at using the TNMM method. The TPO reject 6 of the companies

selected by the assessee on the ground that they were themselves the owners of the brands. The AMP to sales

ratio of the 12 comparable companies selected by the TPO was 3.35 percent whereas the AMP to gross sales ratio

of the assessee was 7.06 percent. Using the bright line test, the TPO made an addition of Rs.60.82 crores. On

appeal, the ITAT provided the assessee with partial relief by arriving at the normal AMP to sales ratio of the

comparable companies 4.02 percent as opposed to 3.35 percent.

v. Aggrieved by the order of the Tribunal , the High Court was approached.

Judgment

The High Court ruled on various issues which are provided below:

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i. Jurisdiction of TPO: With regard to the jurisdiction of the TPO in case of transactions not reported in

form 3CEB, the High Court held that the retrospective amendment introduced vide Finance Bill 2012

empowered the TPO to consider transactions not specifically reported in Form 3CEB without requiring a

reference from the AO for the said transaction.

ii. Whether AMP is an international transaction: Noting that the assessee had submitted that the

international transactions between it and the AE, resident abroad included the cost/value of the AMP

expenses, the High Court held that the AMP expenditure is an international transaction within the

meaning contained in section 92B of the Act. It held that the assessee had accepted that the declared

price of the international transactions included the said element or function of AMP expenses, for which

it was duly compensated in their margins. It clarified the scope of chapter X vis a vis Section 37(1) of the

Act and held that Chapter X is not concerned with the disallowance of expenditure but related to

determination of ALP of an international transaction between two AEs and therefore the two provisions

pertain to different fields. The High Court held that the application of TP provisions sought to determine

an arms length compensation for the marketing and distributon functions performed by the assessee

thereby determining the adequacy of compensation received and not questioning the reasonableness of

AMP expenditure.

iii. Bundling of transaction: In relation to bundling of marketing and distribution transactions, The HC

observed that expression “class of transaction”, “functions performed by the parties” under section 92C

(1) of the Act, illustrate that the word “transaction” includes a bundle or group of connected transactions.

Clubbing of closely linked, which include continuous transactions, may be permissible under the Act.

However close linkage of transactions is a pre-condition for aggregation.

iv. Application of TNMM for benchmarking AMP expenses: The HC upheld the use of the TNMM method

since the tested party was engaged in a single line of business and further held that if the AO / TPO

adopts and accepts TNMM, AMP expenses must not be treated as separate international transaction

since AMP expenses is the cost or expense and is not diverse, and is factored in the net profit of the

inter-linked transaction

v. Use of RPM for AMP transactions: The High Court held that RPM could be used as the most

appropriate method only if the functions performed by the comparable companies are similar to that of

the tested party or else it would result in a mismatch. It held that internal comparables would not be

appropriate since AMP expenses do not get factored and compared. For this reason, external

comparables, not being the legal owner of the brand name, trade mark etc. but performing similar

functions including AMP expenses should be used to give more accurate and precise results.

vi. Brand Building: The High Court held that it would be erroneous to treat brand building as counterpart to

advertisement expenses. It held that it was possible to build a brand name without incurring substantial

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advertisement or promotion expenses and also considered cases where in spite of extensive and large

scale advertisements, brand values have not been created.

vii. Bright Line Test: The HC negated the bright line test adopted by the Special Bench in the LG ruling

stating that the said method measures all taxpayers by a similar yardstick without focusing on the facts

of the case. It held that since brand building was not solely dependent on advertisement and marketing

expenses, the applicability of the bright line test was unwarranted. The bright line test ignored the

functional profile of entities and cited the difference between a distributor and a retailer. The High Court

held that held that computing the value of the international transaction by applying a Bright line test is not

mandated in the Act and it amounts to writing and prescribing a mandatory procedure not stipulated in

the Act.

viii. Selling expenses: The High Court held that direct marketing and selling expenses have a direct connect

with increasing volume of sales and therefore should not be considered as AMP expenses.

19. AMP expenses could not be considered as an international transaction in the absence of anyagreement, arrangement etc, merely on the basis of the Bright line Test.

Maruti Suzuki India Ltd v CIT – [2015] 64 taxmann.com 150 (Del) – AY 2005-06

Facts

i. The assessee, a subsidiary of Suzuki Motor Corporation (‘SMC’), was engaged in the manufacture of

passenger cars in India. As per a license agreement between the assessee and SMC, the assessee was

permitted to use the co-branded trademark of Maruti Suzuki on its vehicles. During the relevant year, the

assessee had entered into various international transactions with its AE which were referred to the TPO

for determination of ALP. It had also incurred Advertisement, Marketing and Promotion expenses

towards the promotion of its brand.

ii. The TPO made a TP adjustment of Rs.252.26 crores i.e. Rs.98.14 crores as regards royalty paid by the

assessee to SMC on the ground that the foreign trademark for which royalty was being paid had no brand

value and Rs. 154.12 towards the AMP expenses incurred by the assessee. The addition on account of

AMP expenses was arrived at by applying the Bright Line Test. Since the ratio of selling and distribution

expenses as a percentage of sales of the assessee was higher than that incurred by comparable

companies, the TPO concluded that the excess was on account of promotion the Suzuki Brand.

iii. The DRP and ITAT upheld the order of the AO / TPO.

iv. Aggrieved, the assessee filed an appeal before the Honourable High Court and contended that the

application of the Bright Line test was rejected by the Court in the case of Sony Ericsson Mobile

Communications India Pvt Ltd v CIT [2015] 374 ITR 118 and that in the absence of an agreement,

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arrangement or understanding between the assessee and SMC, mere incurring of AMP expenditure

could not be considered as an international transaction.

Judgment

i. As regards the issue of whether the AMP transaction constituted an international transaction, the

Revenue contended that in light of Sony Ericsson (supra), the AMP expenditure constituted an

international transaction. The Honourable High Court noted that in the aforesaid decision, none of the

assessees questioned the existence of an international transaction and therefore it could not be squarely

applied to the instant case.

ii. The Court noted that the Revenue authorities failed to show the existence of any agreement,

understanding or arrangement between the assessee and SMC regarding the AMP expenditure and that

the Bright Line Test was applied to the AMP expenditure of the assessee to deduce the existence of an

international transaction and to make a quantitative adjustment to the ALP to the extent the expenditure

incurred by the assessee exceeded that of the comparable companies. It held that the Court in Sony

Ericsson (supra), had negated the use of the Bright Line Test for the purpose of determining the existence

of an international transaction as well as for benchmarking international transactions. It also noted that

the Revenue was not able to counter the submissions of the assessee that it had substantially benefitted

from the AMP expenses as it held the highest market share of automobiles manufactured in India and

that the AMP expense of SMC worldwide was 7.5 percent of its sales whereas that of the assessee was

1.87 percent.

iii. Examining the definition of international transaction under section 92B of the Act, the Court held that the

existence of an agreement, arrangement or understanding was a sine-qua non and that the onus to prove

the same was on the Revenue, which was not fulfilled in the case of the assessee. It held that Chapter

X envisaged the adjustment in the price of the international transaction and that the very existence of an

international transaction could not be presumed by assigning a price to it and then deducing that since it

is not at ALP, an adjustment was to be made. It noted that the revenue sought to resort to a quantitative

adjustment by first determining whether the AMP expenditure of the assessee on application of the Bright

Line Test was excessive, thereby alleging the existence of an international transaction involving the AE.

This approach was held to be contrary to the provisions of the Act.

iv. Further, it held that the decision of Sony Ericsson was rendered in the context of taxpayers who were

distributors of the products manufactured by its foreign AEs and not manufacturers, assuming full risk,

such as the assessee.

v. Accordingly, the Court set aside the orders of the AO, TPO and DRP.

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Note: The Court has come to the same finding as above in the cases of CIT v Whirpool Of India Ltd –

[2015] 64 taxmann.com 324 (Del), Honda Siel Power Products Ltd v DCIT – [2015] 64 taxmann.com 328

(Del) and Bausch & Lomb Eyecare (India) Pvt Ltd v ACIT – TS-626-HC-2015(Del) - TP.

IX. Share Transactions & Quasi Capital

20. Optionally convertible loans given by the assessee to its Irish subsidiary, whereby the assesseelender had either the option for repayment or for conversion of loan into equity at par at any timeduring the tenure of the loan was in the nature of quasi capital and therefore could not becompared with a simple loan transaction where the sole motivation and consideration for thelender was interest on loans.

Cadila Healthcare Limited Vs ACIT - TS-241-ITAT-2017(Ahd)-TP - IT (TP) No. 898/Ahd/2014 and694/Ahd/2015 – AY 2009-10 & 2010-11

Facts

i. The assessee was engaged in the manufacturing formulations and APIs (Active Pharmaceutical

Ingredients). It had advanced an optionally convertible loan to its AE viz. Zydus International Pvt Ltd,

Ireland, on 9.10.2007 for an amount of US $ 27 million, as per the terms and conditions of which, it had

the option for repayment along with interest (the cumulative interest payable by the borrower was LIBOR

plus 290 basis points at the end of the period of the loan) or for conversion of the said loan into equity

at par at any time during the 5 year tenure of the loan. On 30 September, 2008, the assessee exercised

the conversion option under this arrangement and the loan was converted into equity at par.

ii. The TPO noted that assessee had not charged or provided for interest on these loans and held that the

AE had unduly benefited from this transaction as it had received Rs 9.69 crore as interest and dividend

income from various entities to which money was given in the form of loan / capital. Relying on a US

Supreme Court decision in Pepsi Cola Bottling Co, he concluded that the character of the instrument

was predominantly debt rather than equity and therefore computed interest @ 7.02% on the amount of

loan provided. The DRP upheld the addition of the TPO

iii. Aggrieved, the assessee filed an appeal before the Hon’ble Tribunal.

Judgment

i. Considering the facts of the case, the Tribunal observed that the lending in question was in the nature

of quasi capital in the sense that substantive reward, or true consideration, for the loan transaction was

not interest simplictor on amount advanced but opportunity to own capital on certain favourable terms.

Relying on the decision of the coordinate bench decision in Soma Textile & Industries [TS-324-ITAT-

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2015(Ahd)-TP], wherein it was held that “the considerations for extending a loan simplictor were

materially distinct and different from extending a loan which is given in consideration for, or mainly in

consideration for, option to convert the same into capital on certain terms which are favourable vis-à-

vis the terms available… to an independent enterprise”.

ii. It held that the right comparable for a transaction of quasi capital was a similar transaction of lending

money on the same terms i.e. with an option to convert the loan into capital on materially similar terms,

and since the consideration for giving the loan in such case was the opportunity and privilege of owning

capital of the borrower on certain favourable terms, comparison should have been done with other loans

giving similar privilege and opportunity to the lender. Accordingly, it stated that a quasi-capital

transaction could not be compared with a simple loan transaction where sole motivation and

consideration for the lender is interest on loans, and therefore concluded that the ALP adjustment was

unsustainable.

With regard to the TPO’s reliance on the US Tax Court decision in Pepsi Cola Bottling Co, it held that

the TPO had wrongly referred to it as the US Supreme Court decision, and that in any case, the decision

did not relate to ALP determination.

iii. Vis-à-vis the TPOs contention that since the AE had derived substantial profits, the assessee ought to

have charged interest on the loans advanced by it, it stated that the ‘benefit’ subsequently derived by

AE from a transaction was immaterial for ALP determination. Noting that it was not the case of lower

authorities that no independent enterprise would not have given an interest free loans even if there was

an option, coupled with such a deal, to subscribe to the AE’s capital on the terms as offered to the

assessee, the Tribunal held that there was not even a prima facie case made out for ALP adjustment.

iv. Additionally, it also noted that on lapse of assessee’s right to exercise the option of converting the loan

into equity, the assessee was entitled to interest on the commercial rates, however, it was not the case

of lower authorities that interest so charged by the assessee was not at ALP.

v. Consequently, it deleted the TP adjustment on the optionally convertible loan granted to the AEs.

X. Loans

21. Arm's length interest rate for loan advanced to foreign subsidiary by Indian company should becomputed based on market determined interest rate applicable to currency in which loan has tobe repaid

CIT v Cotton Naturals India Pvt Ltd - 276 CTR 445 (Delhi High Court) – AY 2007-08

Facts

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i. The assessee was a leading manufacturer of rider apparel. During the year under review, it entered into

international transactions with its AE for sale of equestrian apparel and received interest at the rate of 4

percent on the loan provided to its AE. The assessee used the CUP method as the most appropriate

method for both the international transactions and submitted that the 4 percent interest rate received was

comparable with the export packing credit rate obtained from banks in India. It also had an arrangement

with Citi Bank wherein Citi Bank agreed to provide the assessee a loan @ less than 4 percent interest.

ii. The TPO was of the view that the interest should be calculated at 14 percent i.e. the average yield on

unrated bonds for FY 2006-07. He held that but for the relationship existing between the assessee and

the AE, no independent enterprise would have charged interest at 4 percent, moreso when the AE did

not offer any security and that the commercial expediency of the assessee in providing such loans to its

AE (viz. furtherance of its business in the USA) was not relevant for the determination of ALP.

iii. The DRP, noting that the loan was given on fixed rate of interest out of shareholder funds and the Prime

Lending Rate fixed by the Reserve Bank of India, ranged from 10.25 per cent to 10.75 per cent in April,

2006 to 12.25 per cent to 12.50 per cent in March, 2007 provided partial relief to the assessee by adopting

the interest rate at 12.20 percent based on the PLR.

iv. On appeal, the Tribunal held that the domestic prime lending rate would have no applicability in the

current transaction and the international rate fixed by LIBOR should have been taken as the benchmark.

It also observed that the assessee had an arrangement for loan with Citi Bank for less than 4 percent

and has charged its AE 4 percent, therefore the adjustment made by the TPO was not warranted. It also

added that since the assessee’s profits were exempt under section 10B of the Act there was no benefit

or motive for shifting of profits.

v. Accordingly, the Revenue filed an appeal before the Hon’ble High Court.

Judgment

i. On further appeal, the High Court held that the transfer pricing determination is not primarily undertaken

to re-write the character and nature of the transaction and that there were only two exceptions (as per

the Decision of the Delhi HC in EKL Appliances) for doing so:

a. Where the economic substance of the transactions differ from its form

b. The arrangements when viewed in totality differed from those which could have been adopted by

the independent enterprise behaving in a commercially rational manner

ii. The Court also highlighted that the Transfer pricing provisions do not permit the revenue to step in the

shoes of the assessee and decide whether or not a transaction should have been entered into. The High

Court noted that the assessee had incorporated a subsidiary (i.e. its AE) in the USA for undertaking

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distribution and marketing activities and therefore the loan given should not be seen in isolation.

Accordingly, it dismissed the contention of the TPO in disregarding the commercial expediency behind

the loan.

iii. With regard to the comparability analysis adopted by the TPO, the High Court held that the TPO should

ensure that the functions performed by the comparable companies should match with the functions being

performed by the AE to whom payment is made for the services rendered and rejected the reasoning of

the TPO, that the transfer pricing adjustment could restructure the transaction to reflect maximum return

that a party could which would be used as a yardstick for determining the interest payable by the

subsidiary.

iv. The High Court disagreed with the TPO’s finding that comparable test to be applied is to ascertain what

interest would have been earned by the assessed by advancing a loan to an unrelated party in India with

a similar financial health as the AE to whom the loan was granted. It held that the reasoning was

unacceptable as the loan to the AE in the given case was not granted in India and was not to be repaid

in Indian currency and therefore the finding of the TPO that interest rate should be 14 percent was to be

rejected.

v. Further, the Court held that the interest rate should be the market determined interest rate applicable to

the currency concerned in which the loan had to be repaid i.e. LIBOR and that there was no justification

or reason for applying PLR for outbound loan transaction where the Indian parent has advanced loans to

its AEs abroad.

vi. Accordingly, it upheld the Tribunal’s deletion of the TP adjustment made by the TPO.

22. Interest free advances given by the assessee to its overseas subsidiary by incurring expenditureon behalf of the AEs without charging interest or without recovering the said amount, was to beconsidered as an international transaction under clause (c) of Explanation (i) to section 92B ofthe Act

Strides Shashun Ltd v ITO – TS-277-ITAT-2016 (Mum) – TP – ITA No 641 / Mum / 2007, ITAno.4063/Mum./2010 & ITA no.274/Mum./2010 – AY 2003-04 & 2004-05

Facts

i. The assessee was engaged in the business of manufacturing of generic pharma and nutritional products

and exported formulations, packing material and bulk drugs to its overseas group of companies in U.S.A.,

Mexico, Switzerland, Brazil, Uruguay, U.A.E. and South Africa, hereinafter called AEs. During the year

under review, the assessee had made interest free advances to its AEs, in furtherance of its business

objectives viz. providing funds to its AEs abroad who assisted in increasing sales of the products

manufactured by the asessee.

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ii. The TPO, noting that the assessee has paid interest amounting to Rs. 29.49 crore on various credit facilities

availed by it from third parties, concluded that the assessee had incurred interest expenses on behalf of its

AEs and held that the assessee should have either recovered the expenditure incurred from its respective

AEs or should have charged interest on the advances provided. Under the CUP method, applying a rate

of 6.9% per annum i.e. weighted average rate on the loan availed by the assessee / PLR, the TPO made

an upward addition on account of such interest.

iii. The assessee challenged the impugned addition before the CIT(A) who upheld the order of the TPO.

iv. Aggrieved, the assessee filed an appeal before the Hon’ble Tribunal


i. That the advancing of loans to the A.E. could not be regarded as an international transaction for the relevant

assessment year as the Explanation to Section 92B of the Act had been introduced only vide Finance Act

2012.

ii. That transfer pricing provisions contained under Chapter X of the Act, being a computation provision and

not a charging provision, could not be applied when the assessee had not charged any interest on the

advance made to the subsidiary as no income had arisen to the assessee from the international transaction.

iii. That it had incurred expenditure on behalf of AEs for commercial / business expediency viz. increase of its

sales abroad, and no borrowed funds had been utilized for incurring such expenditure

iv. That if advancement of interest free funds to the subsidiary was treated as international transaction, the

interest rate should be applied by using LIBOR + 200 basis points instead of INR rate as the interest

expenses incurred by the assessee was in foreign currency (USD).

Judgment

i. The Tribunal disagreed with assessee’s contention that interest free advances to the overseas subsidiary

was not an international transaction and the transfer pricing provisions are not applicable. Referring to

Section 92B (as amended by Finance Act, 2012 with retrospective effect from 2002), it observed that, “On

a plain reading of clause (c) of Explanation–(i) to section 92B, it is evident that any type of advance payment

or deferred payment or receivable or any other debt arising during the course of business including capital

financing would come within the scope of “International Transaction”. Thus, it held that the said transaction

comes within the purview of the definition of International Transactions.

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ii. As regards the plea of commercial expediency, it held that the said plea was not applicable to such type of

transactions and that under the transfer pricing provisions, the ALP of the transaction had to be determined

i.e. “it has to be seen whether under similar circumstances, assessee would have entered into such

transaction with unrelated parties. If the facts on record suggest that the assessee would not have entered

into such type of transactions with unrelated parties, then the transaction between the related parties cannot

be considered to be at arm's length.” It noted that sincethe assessee had incurred cost by availing credit

facility and it advanced interest free funds, a benefit had accrued to the AE’s on account of the assessee .

iii. As regards the rate of interest to be considered, it held that since the entire expenditure incurred by the

assessee on behalf of the overseas subsidiary were in foreign currency (USD), domestic PLR rate could

not be applied. Accordingly, it directed the TPO to adopted a rate of LIBOR + 300 basis points.

23. Transfer Pricing adjustment in respect to interest free loans would not lead to base erosion undersection 92(3) of the Act. Commercial expediency of a loan to a subsidiary company was notrelevant in the ascertaining the arm’s length interest on such a loan

Instrumentarium Coporation Ltd v ADIT (IT) – (2016) 160 ITD 1 (Kol – Trib) – AY 2003-04 and 2004-05

Facts

i. The assessee, a company incorporated in Finland was engaged in the business of manufacturing and

selling medical equipment. It had a wholly owned subsidiary in India viz. Datex Ohmeda India Pvt Ltd India

(‘Datex India’) which acted as its marketing arm. During Financial Year 2002-03, the assessee and its

subsidiary entered into an agreement, which was duly approved by the RBI, whereby the assessee

advanced an interest free loan of Rs. 36 crore to Datex India. The assessee had filed an application before

the Authority for Advanced Rulings with a view to obtain adjudication on whether it was required to comply

with the Transfer Pricing provisions contained in the Act and charged Datex India interest as per the

principles of the ALP. The AAR observing that the assessee was bound to comply with the provisions of

Section 92 to 92F of the Act, refrained from adjudicating on whether the assessee was to charge interest

as per ALP principles as this aspect fell under the bar contained in Proviso ii to Section 245R(2) which

provides that the AAR was to reject applications where the questions raised involved determination of fair

market value of any property.

ii. Despite the findings made by the AAR, the assessee neither filed its income tax return nor responded to

the notices issued under Section 148 and 142(1) of the Act, as a result of which the AO proceeded to treat

Datex India as the representative assessee and proceeded to finalize assessment under section 144 read

with Section 147 of the Act. The AO observed that the assessee had granted an interest free loan to Datex

India during the prior year as well. Accordingly, concluding that the interest free loan was not at ALP, he

proceeded to make an addition of interest on the said loan adopting the average PLR of the State Bank of

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India for FY 2002-03 i.e. 10.87 percent as the ALP. As regards assessee’s argument regarding Indian tax

base erosion, the AO contended that since Datex India was a loss making company right from the

beginning, i.e., not making profits and paying taxes thereon, the payment of interest by Datex India would

only enhance the losses and the loss of revenue will be merely notional. The AO therefore concluded that

in this case, the non-application of arm’s length principle would result in a real loss for the Indian tax

revenue, and not the other way round.

iii. Aggrieved, the assessee filed an appeal before the CIT(A), wherein the CIT(A) upheld the order of the AO.

iv. Accordingly, the assessee filed an appeal before the Hon’ble Tribunal


i. The provisions of transfer pricing could not be invoked in a situation wherein the consequence of making

an ALP adjustment would lead to erosion of domestic tax base i.e. a) that in the event that interest free

loans from foreign parent company were subjected to ALP adjustment, the Indian tax base would stand

eroded by 26.75% of such an adjustment (tax benefit of 36.75% on reduction or deductibility of interest

expense in the hands of Datex India less 10% withholding tax on interest payable) and b). it would increase

the loss incurred by Datex India which could be subsequently carried forward and set off against future

profits. Therefore, applying the provisions of section 92(3) of the Act, and CBDT circulars No. 12 and 14 of

2001, the TP provisions should not apply to the transaction in dispute.

CBDT Circular No 12 of 2001 provides that the transfer pricing provisions “have been enacted with a view

to provide statutory framework which can lead to computation of reasonable, fair and equitable profit and

tax in India so that the profits chargeable to tax in India do not get diverted elsewhere by altering the prices

charged and paid in intra-group transactions leading to erosion in our tax revenues”

Circular No 14 of 2001 provides that “that newly substituted section 92 is intended to ensure that profits

taxable in India are not understated (or losses are not overstated) by declaring lower receipts or higher

outgoings than those which would have been declared by persons entering into similar transactions with

unrelated parties in the same or similar circumstances”

ii. The assessee also relied on Australian Tax Office ruling, which held that no ALP adjustments are to be

made where the non-resident company grants interest free loans to a loss making domestic company.

iii. That the second proviso to Section 92C(4) of the Act was not applicable to the case of the assessee, as no

payment was made by Datex India.

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iv. Other contentions: (i) grant of interest-free loan was in the nature of a shareholder service; (ii) commercial

expediency of the interest-free loan could not be disregarded; (iii) interest free loan being treated as interest-

bearing amounted to re-characterisation, which was not permissible; and (iv) notional income could not be

brought to tax.

Judgment

i. The Tribunal held that Section 92(3) of the Act, refers to computation of income in the hands of the

assessee in respect of whom income is being computed under Section 92(1) of the Act and does not

contemplate taking of a holistic view, considering lowering of overall profits / increasing overall losses, not

only for the assessee but in respect of all AEs (taxable in India) taken as a whole. It held that on a plain

reading of Section 92(3) of the Act, what is to be seen is impact on profits or losses for the year in

consideration itself, rather than taking into account the impact on taxes for the subsequent years and since

the tax shield available to Datex India as a result of accumulated losses, if any, could only affect income of

the subsequent years, which were not relevant for the purpose of Section 92(3) of the Act, the contention of

the assessee was to be dismissed.

ii. Further, it held that that the amount by which assessee’s income was increased by way of ALP

adjustments was not available for deduction in the hands of Datex India. It disagreed with assessee’s

contention that if an altogether new income was brought to tax in the hands of the assessee, consequent to

an ALP adjustment, corresponding deduction was required to be given to Datex India as there was no

specific legal provision enabling such a corresponding deduction under the transfer pricing legislation.

Thus, it held that if the transaction in the instant case was accepted without an ALP adjustment, it would

result in base erosion to the extent of taxability of interest in the hands of the non-resident taxpayer.

iii. As regards reliance on CBDT circulars, it opined that the same only stated the intent of the legislature and

was not an order, direction or instruction to the field authorities to the effect that Section 92 of the Act was

not to be applied when overall tax incidence in India, in respect of the parties involved in the international

transaction, decreases.

iv. The reference to the second proviso of section 92C(4) of the Act was unwarranted, as it applies to

situations distinct from those prevailing in the instant case. It held that the proviso constituted a bar against

lowering of the non-resident AE’s income as a result of lowering the deduction in the Indian AE’s hands,

rather than as enabling a higher deduction in the Indian AE’s hands as a result of increasing the non-

resident AE’s income.

v. It dismissed the assessee’s reliance on the Australian Tax Office ruling, observing that under Australian

law, computation of income based on ALP was discretionary while it was mandatory under Indian tax laws.

vi. Vis-à-vis the other contentions raised by the assessee, it held that:

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Shareholders activity - The shareholder activity argument had been raised before it for the first

time and therefore could not be adjudicated in the absence of facts to support the contention

Commercial expediency – It opined the commercial expediency of a loan to subsidiary was

wholly irrelevant in ascertaining its arm’s length interest. It observed that there was no bar to

advance interest free loans, however if the same was covered by the international transactions

between AEs, Section 92 would get attracted which mandated determination of ALP.

Re-characterisation of loan –that the substitution of zero interest by arm’s length interest did not

alter the basic character of transaction and that as per Section 92(1) which was a computation

mechanism and not an adjustment mechanism even when no income was reported in respect of

an item in the nature of income, the substitution of transaction price by arm’s length price could

be brought to tax as income under Section 92.

Notional income cannot be tax – It rejected assessee’s reliance on Shoorji Vallabhdas decision

as wholly misplaced because that proposition was in the context of tax laws in general, whereas,

TP provisions, being anti-abuse provisions with the sanction of the statute, come into play in the

specific situation of certain transactions with AEs. It also clarified that assessee could not derive

any support from Vodafone decision since consideration for a loan, i.e. interest, is inherently in

the nature of income.

vii. Accordingly, it dismissed the appeal of the assessee.

XI. Corporate Guarantee

24. Since corporate guarantee issued for benefit of AE did not involve any costs to assessee and itdid not have any bearing on profits, income, losses or assets of enterprise, it had to be keptoutside ambit of 'international transaction' to which ALP adjustment can be made

Bharti Airtel Limited v Additional Commissioner of Income-tax – (2014) 63 SOT 113 (Del – Trib) -AY 2008-09

Facts

i. The assessee was engaged in the business of telecommunication services. The assessee issued a

corporate guarantee to Deutsche Bank on behalf of its AE situated in Sri Lanka guaranteeing repayment

for working capital facility. The assessee had issued the corporate guarantee at nil consideration as it

was part of its shareholder activity and it had not incurred any cost or expense in relation to the corporate

guarantee. However, the assessee determined arm’s length commission at 0.65 percent based on

market quotes.

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ii. The TPO determined the ALP of the guarantee commission at 2.68 percent plus 200 basis points based

on data obtained from various banks and accordingly made an addition to the income of the assessee.

DRP upheld the TPO’s order.

iii. Aggrieved, the assessee filed an appeal before the Hon’ble Tribunal


i. That the provision of corporate guarantee by the assessee to its AE did not attract the transfer pricing

provisions as no costs were involved.

ii. That the rate of guarantee obtained by the TPO from banks did not constitute a valid CUP for

benchmarking the interest on corporate guarantee.

Judgment

i. The Tribunal examined the definition of international transaction contained in section 92B of the Act and

the explanation inserted thereto vide Finance Act 2012 and based on the following reasoning held in

favour of the assessee and deleted the addition made by the TPO.

ii. It held that the explanation was ‘for removal of doubts’ and therefore it does not alter the basic character

of the definition of international transaction contained in section 92B of the Act and it was to be read in

conjunction with the said section. It noted that the explanation provided for 5 categories of international

transaction.

Clause (a) and (b) of the Explanation directly related to 92B(1) of the Act which provides for purchase,

sale or lease of tangible or intangible property and that the explanation only added the term ‘use’ to widen

the scope of the definition. Clause (d) of the Explanation dealt with the provision of services which is

covered in 92B(2) of the Act. The ITAT then proceeded to examine the remaining clauses of the

Explanation i.e. Clause (c) and (e) dealing with capital financing and business restructuring which were

covered by the residual clause of definition in international transactions ‘having a bearing on profits,

incomes, losses or assets of such enterprises’. It therefore held that for clause (c) and (e) of the

Explanation, the transaction would have to have a bearing on profits, incomes, losses or assets to be

classified as an international transaction.

With regards to clause (e) it noted that the impact on profits, incomes, losses or assets could be

immediate or a future impact but highlighted the fact that the impact could not be contingent. It

distinguished between future and contingent impact by stating that in case of future impact there is

certainty, though the actual crystallisation takes place later which is not the case of contingent impact.

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Clause (c) would be applicable only if it impacted the profits, incomes, losses or assets of the enterprise

and therefore held that the Explanation in its entirety fortified the significance of impact on profits,

incomes, losses or assets and held that since the guarantee did not have any cost to the enterprise

issuing it, the same could not be classified as an international transaction. The ITAT also noted that the

AE had not even taken any loan from the bank and therefore the corporate guarantee did not have any

future impact as well. The ITAT established that the onus to prove the impact on profits, losses, income

or assets was on the revenue and no such effort was made by the Revenue to discharge the onus and

therefore held that transfer pricing provisions were not applicable to the guarantee extended.

iii. The Tribunal dismissed the cases relied on by the Revenue as none of the cases examined the issue in

detail and some of the cases relied on were not applicable as they were decided by Foreign courts where

the tax laws were at a variance with the Indian tax laws.

25. No comparison could be made between guarantees issued by commercial banks as against acorporate guarantee issued by holding company for benefit of its AE, a subsidiary company, forcomputing ALP of guarantee commission

Commissioner of Income-tax v M/s Everest Kento Cylinders Ltd – (2015) 378 ITR 57 (Bom) AY2007-08

i. The assessee was engaged in the manufacture of high-pressure gas cylinders and compressed natural

gas cylinders and had a subsidiary company situated in Dubai. In order to satisfy a condition precedent

for a loan taken by its AE for the purchase of fixed assets and for its working capital requirements, the

assessee provided the said AE a corporate guarantee and charged guarantee commission at 0.5 percent.

The assessee also had an independent sanction letter of credit arrangement between ICICI Bank, India

Branch, where a guarantee fee of 0.6% p.a was to be paid by the assessee company to ICICI Bank of

India for the bank guarantee provided by the said Bank in India in favour of the assessee.

ii. Corporate guarantee was found to be an international transaction within the definition contained in section

92B of the Act as the assessee had suo moto charged a fee of 0.5 percent (unlike in the case of Bharti

Airtel, where no charge was made). The TPO concluded that since the Dubai subsidiary was newly

incorporated and had low credit rating, it wouldn’t have been able to raise funds without the provision of

the corporate guarantee. Based on the case of General Electronic Capital Canada Inc v Her Majesty,

the Queen and another case involving RABO India Finance Pvt Ltd, and based on the fact that banks

and companies were charging at least 3 per cent for providing guarantees the TPO came to the

conclusion that the arm’s length price of corporate guarantee charged should be 3 percent as opposed

to the 0.5 percent charged by the assessee. Accordingly, an upward adjustment of Rs. 28.50 lakh was

made to the income of the assessee.

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iii. The Tribunal deleted the adjustment made by the TPO stating that the TPO was not justified in adopting

the rate of bank guarantee as comparable to the rate applicable to corporate guarantees.

iv. Accordingly, the Revenue filed an appeal before the High Court.

Judgment

The High Court held that the adjustment made by the TPO were based on instances restricted to the

commercial banks providing guarantees and did not contemplate the issue of a Corporate Guarantee.

Further the Court held that the considerations which apply for the issuance of a corporate guarantee were

distinct and separate from the considerations prevalent for the issue of bank guarantee and accordingly

held that the commission charged cannot be called into question in the manner in which the TPO had

done and therefore dismissed the appeal.

26. Where the issuance of corporate guarantee to an AE was in the nature of shareholder activities itcould not be included within the ambit of services under section 92B of the Act. that in theabsence of bearing on profits, income, losses or assets, the guarantee was outside the ambit ofinternational transactions.

Micro Ink Ltd v Add CIT – (2015) 63 taxmann.com 353 (Ahd – Trib) – AY 2006-07

Facts

i. The assessee issued various corporate guarantees on behalf of its associated enterprises, i.e.

subsidiaries, without charging the AEs any consideration for the same. Assessee contended that the

guarantees did not cost assessee anything nor any charges were recovered for the same, and that the

“said guarantees were in the form of corporate guarantees/ quasi capital and not in the nature of any

services” as they were shareholders activity.

ii. The TPO however computed arm’s length price for these guarantees @ 2%, relying on the prevalent

market rates i.e. bank guarantee rates and made adjustment of Rs. 2.33 crores on notional charges for

corporate guarantees issued by the assessee.

iii. The DRP confirmed the said addition.

iv. Aggrieved, the assessee filed an appeal before the Hon’ble Tribunal


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i. That corporate guarantee issued for benefit of AE, not involving any costs to assessee and not having

any bearing on profits, income, losses or assets of enterprise, was required to be kept outside ambit of

'international transaction (Reliance was placed on the decision of Bharti Airtel)

ii. That the transaction of issuance of a corporate guarantee, in favour of an AE, does not constitute an

'international transaction' within the meanings of Section 92B of the Act as the guarantees issued by the

assessee were in the form of corporate guarantees/ quasi-capital and not in the nature of services as the

same were shareholder’s activities.

iii. Without prejudice to this argument, that even if it is assumed that post-2012 amendment in the definition

of 'international transaction' stood specifically included in the scope of international transactions, in

respect of which arm's length price adjustments could be made, it is only elementary that such an

amendment cannot have retrospective effect.

Judgment

i. The Tribunal upheld the assessee’s reliance on the decision of Bharti Airtel Limited v Additional

Commissioner of Income-tax – (2014) 63 SOT 113 (Del – Trib), and held that there was no other judgment

contrary to the impugned decision. It dismissed Revenue’s reliance on the decision of the Bombay High

Court in Everest Kento Cylinders Ltd – (2015) 378 ITR 57 (Bom) wherein a rate of 0.5 percent had been

accepted to be the ALP rate of guarantee commission, noting that the issue of whether corporate

guarantee was not deliberated therein.

ii. With regard to the assessee’s claim the provision of corporate guarantee was a shareholders activity the

Tribunal held that “The 'OECD' Transfer Pricing Guidelines for Multinational Enterprises and Tax

Administrations' specifically recognises that any activity in the nature of shareholder activity, which is

solely because of ownership interest in one or more of the group members, i.e., in the capacity as

shareholder "would not justify a charge to the recipient companies". It is thus clear that a shareholder

activity, in issuance of corporate guarantees, is taken out of ambit of the group services. Clearly,

therefore, as long as a guarantee is on account of, what can be termed as 'Shareholder's activities', even

on the first principles, it is outside the ambit of transfer pricing adjustment in respect of arm's length price.

It is essential to appreciate, at this stage, the distinction in a service and a benefit.’ Accordingly, it held

that the corporate guarantee provided by the assessee to its AEs were in the nature of shareholders

activities and not services.

iii. It further held that “The expression 'provision for services' in its normal or legal connotations, as seen

earlier, does not cover issuance of corporate guarantees, even though once a corporate guarantee is

covered by the definition of international transaction', it is benchmarked in the service segment. In view

of the above, OECD Guidelines, as a matter of fact, strengthen the claim of the assessee that the

corporate guarantees issued by the assessee were in the nature of quasi capital or shareholder activity

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and, for this reason alone, the issuance of these guarantees should be excluded from the scope of

services and thus from the scope of 'international transactions' under section 92B.

As for the words 'provision for services" appearing in section 92B, and connotations thereof, this

expression, in its natural connotations, is restricted to services rendered and it does not extend to the

benefits of activities per se. Whether one looks at the examples given in the OECD material or even

in Explanation to section 92B, the thrust is on the services like market research, market development,

marketing management, administration, technical service, repairs, design, consultation, agency, and

scientific research, legal or accounting service or coordination services. As a matter of fact, even in

the Explanation to section 92B guarantees have been grouped in item 'c' dealing with capital financing,

rather than in item 'd' which specifically deals with 'provision for services'. When the legislature itself does

not group 'guarantees' in the 'provision for services' and includes it in the 'capital financing', it is

reasonable to proceed on the basis that issuance of guarantees is not to be treated as within the scope

of normal connotations of expression 'provision for services'.

iv. It held that under section 92B, corporate guarantees can be covered only under the residuary

head i.e. "any other transaction having a bearing on the profits, income, losses or assets of such

enterprise". Therefore, it held that since such issuance of corporate guarantees, on the facts of the

present case, did not have "bearing on profits, income, losses or assets", it did not constitute an

international transaction, under section 92B, in respect of which an arm's length price adjustment could

be made. Accordingly, for both these independent reasons, the impugned ALP adjustment was set aside,

without specifically adjudicating on the retrospectivity of the amendment to Section 92B vide Finance Act,

2012.

Note: The Mumbai Tribunal in Siro Clinpharm Pvt Ltd v DCIT – TS-144-ITAT-2016 (Mum) -TP, dealt

with whether the amendment in Section 92B vide Finance Act, 2012 was retrospective. It was held that:

“17. Well, if the 2012 amendment does not add anything or expand the scope of international transaction

defined under section 92B, assuming that it indeed does not- as learned Departmental Representative

contends, this provision has already been judicially interpreted, and the matter rests there unless it is

reversed by a higher judicial forum. However, if the 2012 amendment does increase the scope of

international transaction under section 92B, as is our considered view, there is no way it could be

implemented for the period prior to this law coming on the statute i.e. 28th May 2012. The law is well

settled. It does not expect anyone to perform an impossibility. Reiterating this settled legal position,

Hon’ble Supreme Court has, in the case of Krishnaswamy S Pd Vs Union of India [(2006) 281 ITR 305

(SC)], observed as follows:…

18. It is for this reason that the Explanation to Section 92 B, though stated to be clarificatory and stated

to be effective from 1st April 2002, has to be necessarily treated as effective from at best the assessment

year 2013-14. In addition to this reason, in the light of Hon’ble Delhi High Court’s guidance in the case of

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New Skies Satellite BV (supra) also, the amendment in the definition of international transaction under

Section 92B, to the extent it pertains to the issuance of corporate guarantee being outside the scope of

‘international transaction’, cannot be said to be retrospective in effect. The fact that it is stated to be

retrospective, in the light of the aforesaid guidance of Hon’ble Delhi High Court, would not alter the

situation, and it can only be treated as prospective in effect i.e. with effect from 1st April 2012 onwards.”

XII. Cost sharing

27. While evaluating arm's length price of a service / payment for cost allocation of various servicesprovided by the Head office to the assessee, it is wholly irrelevant as to whether assessee benefitsfrom it or not. The real question is as to whether price of this service is what an independententerprise would have paid for same.

Dresser Rand India Pvt Ltd v ACIT (2012) 53 SOT 173 (Mumbai) - AY 2006-07

Facts

i. The assessee was engaged in the business of manufacturing process gas compressors and its

accessories along with providing field services in connection with the same. During the year under

review, the assessee incurred expenses towards cost contribution allocation by its holding company i.e.

Dresser Rand Co – USA for (i) human resources services, (ii) legal services; (iii) treasury services (iv)

technical support services; (v) marketing services; (vi) global business oversight services; (vii) internal

audit and controls and (viii) other services such as provision for value added services, sharing for best

practices for optimization of services, and safety procedures etc. As per such cost allocation, the

assessee was to compensate the head office on an equitable basis for the expenses incurred by the

holding company on its resources which were being shared with the assessee and other affiliates, the

allocation of which was based on number of headcount, and based on sales proportion. During the

transfer pricing proceedings, the assessee provided the TPO with detailed reasoning for which it entered

into the cost contribution agreement which included the fact that it had no facilities or manpower to handle

the administrative functioning of its business and submitted the description of services received by it in

consideration for the payment made to its AE.

ii. The TPO was of the view that there were no real services availed by the assessee and that the payment

made towards the cost contribution was not a genuine expenditure and held the ALP of the payment to

be Nil.

As regards the field services rendered by the assessee to its AEs, the TPO noted that the assessee had

granted a 10 percent discount in respect of field services rendered to its AEs but no such discount was

granted to domestic customers and by applying the CUP method held that the transaction was not at

ALP.

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iii. The DRP upheld the order of the TPO.

iv. Aggrieved, the assessee filed an appeal before the Hon’ble Tribunal.


That the TPO was incorrect in questioning the commercial expediency of the cost allocation arrangement

and erred in ignoring the details filed by the assessee in this regard.

Judgment

i. In this regard, the Tribunal ruling in favour of the assessee held that how an assessee conducts his

business was entirely his prerogative and it is not for the Revenue to decide what is necessary for an

assessee and what is not. It held that the TPO went beyond his powers in questioning the commercial

wisdom of the assessee and that in determining the ALP of an international transaction the real question

that was to be determined was whether the price of the service is what an independent enterprise would

have paid. It held that the allocation of cost on the basis of headcount and turnover was reasonable.

ii. With regard to the issue of discount on field services, the Tribunal noted that the assessee had adopted

the TNMM method for determining ALP on field services which had not been rejected by the Revenue

authorities and therefore their action of attempting to use the CUP method in this situation was

unwarranted. It held that when the assessee was dealing with an AE there were no commercial risks, no

marketing costs and there could be several other considerations justifying a normal discount granted. It

held that even in normal business situations granting discounts was a normal occurrence and that in the

given case the Revenue authorities had brought nothing on record to suggest that the discount was not

at ALP. Accordingly, it deleted the addition made.

XIII. Royalty Payments

28. Any legitimate expenditure (Royalty) for purpose of business carried cannot be disallowed whilecomputing ALP merely because assessee was continuously incurring losses. The TPO was notempowered to question the commercial expediency of the transaction.

CIT v EKL Appliances - 345 ITR 241 (Del) - AY 2002-03 and 2003-04

Facts

i. The assessee, was engaged in the manufacturing and trading of refrigerators, washing machines,

microwave ovens, air conditioners, etc. For A.Y. 2002-03 and 2003-04 the assessee declared a loss. The

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assessee paid royalty / brand fee to its Swedish AE for the brand Kelvinator” @ 0.5% of net sales (later

revised to 1 %)

ii. Considering the perpetual losses suffered by the assessee, the TPO concluded that though there was

an increase in turnover, the royalty payment had not benefited the assessee and that the assessee failed

that to demonstrate the actual benefit derived by it by using the brand name Hence, the TPO held that

the royalty payment for the impugned years was unjustified and ought to be taken as “nil”.

iii. The CIT (A) and ITAT decided in favour of the assessee.

iv. Aggrieved, the Revenue filed an appeal before the Hon’ble High Court

Judgment

i. The Court held that “it is not necessary for the assessee to show that any legitimate expenditure incurred

by him was also incurred out of necessity.

ii. It is also not necessary for the assesse to show that any expenditure incurred by him for the purpose of

business carried on by him has actually resulted in profit or income either in the same year or in any of

the subsequent years.

iii. The only condition is that the expenditure should have been incurred ‘wholly and exclusively” for the

purpose of business and nothing more”.

Rule 10B(1) (a) does not authorise disallowance of any expenditure on the ground that it was not

necessary or prudent for the assesse to have incurred the same or that in the view of the Revenue the

expenditure was un-remunerative.

iv. The disallowance was not possible on the ground that in view of the continued losses suffered by the

assesse in business, he could have fared better had he not incurred such expenditure.

v. Also the assesse had furnished copious material and valid reasons as to why it was suffering lasses

continuously. Full justification supported by facts and figures was given to demonstrate that the increase

in three employees cost, finance charges, administrative expenses, depreciation cost and capacity

increase have contributed to the continuous losses. No material was placed on record by the revenue to

show that these were incorrect figures or that reasons for the lasses were not genuine.

vi. Accordingly, it deleted the adjustment made by the TPO.

29. Transfer pricing provisions would not apply where it resulted in the reduction of incomechargeable to tax. Adjustment on Technical consultancy fee could not be made withoutconducting any exercise to determine the value of services received or where the TPO did not

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carry out the transfer pricing exercise in accordance with the methods prescribed under theIncome-tax Act, 1961

CIT v M/s Merck Ltd – TS-608-HC-2016 (Bom) – TP – AY 2003-04

Facts:

i. The assessee had undertaken two sets of international transactions with its AE – import of pigments

and payment of technical know-how / consultancy fee (of Rs. 1.57 crore) in pursuance of a technical

consultancy agreement.

ii. With respect to the import of pigments, the Tribunal held that since price paid by the assessee to its AE

for the import of pigments was less than the normal consideration paid / payable which was evidenced

by the imposition of anti- dumping duty on the said import under the Customs Tariff Act, 1975, the

transaction was at ALP.

iii. As per the agreement between the assessee and its AE, the technical consultancy fee was being paid

for consultancy in 12 fields. The TPO, observing that the assessee had availed of 3 technical services

out of the 12, held that the ALP of the payment was Rs.40 lakh and made an addition of Rs. 1.17 crore.

On further appeal, the Tribunal held that there was no obligation on the assessee to avail technical

services in all 12 fields and that it was for the availability of assistance in all 12 areas that the

consideration was paid. It further recorded that no method under section 92C had been applied to

determine ALP and that no transfer pricing exercise was done by the AO / TPO to determine the value

of services received by the assessee and that the Rs.40 lakh was an arbitrary amount arrived at.

Accordingly, it deleted the addition made by the TPO.

iv. Aggrieved, the Revenue filed an appeal before the Honourable High Court contending that a). as

regards the import of pigment, an email of the assessee stating that it was deliberately following a

predatory pricing policy in India to combat local competition established that the import was at a price

lesser than ALP and therefore the issue was to be considered and b) as regards the technical

consultancy fee, services were received in only three areas and therefore the consideration paid was

to be attributed only to the services received.

Judgment:

i. The Court held that if the contention of the Revenue was to be accepted it would increase the import

price of the pigments resulting in a reduction of income chargeable to tax, which was contrary to the

provisions of Section 92(3) of the Income-tax Act, 1961 which provides that Transfer pricing provisions

would not apply where it resulted in the reduction of income chargeable to tax. Accordingly, it upheld

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the order of the Tribunal as the question urged by the Revenue did not give rise to any substantial

question of law.

ii. As regards the Technical consultancy fee, the Court upheld the finding of the Tribunal that no method

under section 92C was applied to determine the ALP in respect of such fee and that no exercise was

undertaken to benchmark the value of services received by the assessee. It held that the agreement

was similar to a retainer agreement and accordingly the finding of the AO attributing Nil value to nine of

the services listed in the agreement for which services were not availed of was unjustified. It also upheld

the finding of the Tribunal that the fee of Rs.1.57 crore was in respect of the assessee’s right to avail

and the AE’s obligation to provide technical assistance in any of the 12 services enlisted in the

agreement. Accordingly, since the question urged by the Revenue was not a substantial question of

law, the Court dismissed the same.

XIV. Assessment

30. Final assessment order passed under section 143(3) of the Act without passing a draftassessment order as mandated by Section 144C(1) of the Act, was without jurisdiction and liableto be set aside.

International Air Transport Association vs. DCIT - TS-62-HC-2016(BOM)-TP - WRITPETITION(L)NO. 351 OF 2016 – AY 2012-13

Factsi. The Petitioner, a foreign company was served with a final assessment order u/s 143(3) dated March

23, 2015 without the AO passing draft order u/s 144C(1) of the Act.

ii. The Petitioner had filed an application with the AO under section 154 of the Act, requesting him to rectify

the mistake viz. passing of final assessment order without a draft assessment order. The said

application was rejected vide order dated April 30, 2015. Further, the AO also issued an order dated

September 29, 2015 imposing penalty under section 271(1)(c) of the Act consequent to assessment

order dated March 23, 2015.

iii. Consequent to the impugned assessment order it filed its objection in terms of Section 144C(2) of the

Act to the DRP. The DRP refused to pass any direction on the objections as the objections had been

filed in respect of a final order under Section 143(3) of the Act and not in respect of the draft assessment

order passed under Section 144C(1) of the Act. It held that its jurisdiction was only to entertain

objections with regard to draft assessment order passed under Section 144C(1) of the Act and not a

final assessment order under section 143(3) of the Act. However, the DRP in its order recorded the

fact that the Petitioner was an ‘eligible assessee’ as defined under Section 144C(15) of the Act.

iv. Aggrieved, the Petitioner filed a Writ Petition before the Hon’ble High Court

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That the assessment order dated 23rd March, 2015 passed by the AO for the assessment year 2012-

13 was completely without jurisdiction and liable set aside and quashed and the consequent orders

passed vis-à-vis the rectification application as well as on penalty were also liable quashed and set

aside being unsustainable.

Judgment

i. The Court noted that in view of Section 144C(15) of the Act which defines ‘eligible assessee’ to whom

Section 144C(1) of the Act applies to inter alia mean any foreign company. Therefore, it held that a draft

assessment order under Section 144C(1) of the Act was mandated before the AO passed a final order

under Section 143(3) of the Act.

ii. It held that a draft assessment order passed under Section 144C(1) of the Act bestowed certain rights

upon an eligible assessee viz. to approach the DRP with its objections to such a draft assessment

order to ensure that an eligible assessee's grievances could be addressed before a final assessment

order was passed. Therefore, it held that these special rights made available to eligible assessee

under Section 144C of the Act were rendered futile, if final order under Section 143(3) of the Act was

passed directly without being preceded by draft assessment order.

iii. In the above view, it held that the assessment order dated 23rd March, 2015 passed by the AO was

completely without jurisdiction as it has not been preceded by a draft assessment order. Further, since,

the foundational/basic order viz. the assessment order dated 23rd March, 2015 was set aside and

quashed as being without jurisdiction, it quashed and set aside the consequent orders passed vis-à-vis

rectification application as well as on penalty, being unsustainable.

31. Where the Petitioner was not a foreign company and the TPO did not propose any variation toincome returned by petitioner, neither of two conditions of section 144C of the Act were satisfiedand therefore the petitioner was not an 'eligible assessee'. Consequently, the Assessing Officerwas not competent to pass draft assessment order under section 144C(1) of the Act

Honda Cars India Ltd v DCIT – TS-51-HC-2016 (Del) – TP – AY 2011-12

Facts

i. The assessee, a subsidiary company of Honda Motors Company Ltd, Japan was engaged in thebusiness of manufacture and sale of passenger cars for which it purchased raw materials, spare partsetc from its holding company. Under a technical collaboration agreement, the assessee paid royaltyto its holding company.

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ii. The international transaction with its AE was referred to the TPO. However, no TP addition was madeto the returned income. Subsequently, the AO disallowed the entire payment made by the assesseefor purchasing raw materials, spare parts etc vide a draft assessment order.

iii. Aggrieved by the draft assessment order, the assessee filed a writ petition before the Honourable HighCourt


i. That it wasn’t an eligible assessee as defined under section 144C(15)(b) since the TPO had notproposed any variation in income and therefore the drat assessment order was invalid

ii. As per Circular No 3 / 2015, the disallowance under section 40(a)(i) was to be restricted to the netamount and not taken at the gross amount of purchases made i.e. only on the appropriate proportionof the sum chargeable to tax as per Section 195(1) of the Act

iii. The assessment would be time barred as it was to be completed by March 31, 2015 whereas only thedraft order was passed which was invalid as contended in point (a) above.

Judgment:

i. With regard to contention (a) above, the Court held that section 144C(1) of the Act provided that a draftassessment order was to made only for an “eligible assessee”. “Eligible assessee” was defined tomean any person in whose case the TPO had made a variation to the returned income vide an orderunder section 92CA(3) of the Act or a foreign company. Noting that the assessee was not a foreigncompany the Court considered the first part of the definition. Relying on the decision of the Apex Courtin P Kasilingam & Others v PSG College of Technology & Ors, it held that the word “means” indicatesthat the definition is a strict definition with no alternative meaning and since the definition of eligibleassessee contains the term means it was to be strictly construed. The Court held that since no variationwas proposed by the TPO, the assessee did not fall under the first part of the definition either andtherefore the draft assessment order passed was invalid.

ii. The Revenue conceded contention (b) above and therefore the Court did not adjudicate on the issue.

iii. With regard to the third contention and in light of the fact that the Court quashed the draft assessmentorder, it noted that the question of the assessment being time barred was left open and both partieswere open to take adequate recourse under the law.

32. References made by AO to TPO for AYs 2011-12 to 2013-14 without giving assessee anopportunity of being heard as required by law despite assessee's objection that the impugnedtransaction were not associated enterprises as contemplated in Sec 92A were liable to bequashed. Further, satisfaction to be arrived at by the AO regarding the existence of theinternational transaction or specified domestic transaction, even prima facie, was a sine quanon for making the reference to the TPO.

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Indorama Synthetics (India) Ltd v Add CIT – (2016) 386 ITR 665 (Del) – AY 2010-11, 2012-13 and2013-14

Facts

i. The Petitioner is a widely held public limited company. During the relevant AYs, the Petitioner, Indorama

Synthetics (India) Limited ['ISIL'], entered into transactions of import of raw material from Indorama

Petrochem Limited (IPL), a company incorporated in Thailand.

The Petitioner filed its return of income declaring 'Nil' income after setting off the brought forward losses.

The Petitioner's case was picked up for scrutiny and notices under Section 143 (2) and Section 142 (1)

of the Act were issued, in response to which it submitted voluminous information/details to the AO.

ii. During the assessment proceedings, the AO required the Petitioner to explain why the TP provisions

contained in Chapter X of the Act should not be made applicable in respect of transactions of import of

raw materials IPL to which the Petitioner pointed out that IPL was not its AE as defined in Section 92A

of the Act as both the companies were separate companies and managed by independent Board of

Directors and did not have either direct or indirect control over each other's business.

iii. Subsequently, the AO, informed the Petitioner that its case had been referred to TPO, for determination

of ALP in relation to the international transactions undertaken by the Petitioner with AEs.

iv. Aggrieved, the Petitioner filed a Writ petition before the Hon’ble High Court.

Contentions of the Petitioner

i. That in the instant case with the Petitioner having taken a specific stand, that it did not enter into any

international transaction, the AO was bound to deal with the said objection while issuing an order

making a reference of the transaction to the TPO in exercise of the power under Section 92CA (1) of

the Act.

ii. That the AO ought to have recorded the reasons stating that it was 'necessary and expedient' to refer

the matter to the TPO and that too only after giving the Petitioner an opportunity of being heard.

iii. That Instruction No. 15 of 2015 dated 16th October 2015 issued by the CBDT which sets out, inter alia,

the procedure to be followed by the AO had to be followed and that the Revenue erred in contending

that the same had prospective application.

Judgment

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i. The Court held that Section 92CA provided for certain jurisdictional perquisites for the making of a

reference by the AO to the TPO viz. that the AO had to be satisfied that the Assessee has entered into

an international transaction or a specified domestic transaction. Therefore, it held that in the present

case, where the Assessee had raised a threshold objection that it has not entered into any international

transaction within the meaning of Section 92B of the Act, it was imperative for the AO to deal with such

an objection, prior to making a reference.

ii. It noted that CBDT's Instruction No. 3 of 2003 categorically states that in order to make a reference to

the TPO, the AO has to satisfy himself that the assessee has entered into an international transaction

with its AE. Therefore, it held that if at that stage, the assessee raised an objection as to the very

jurisdiction of the AO to make the reference, then it would be incumbent on the AO to deal with such

objection on merits.

iii. With regard to the applicability of CBDT's Instruction No. 15 of 2015 (which states that AO must provide

an opportunity of being heard to the taxpayer before recording his satisfaction or otherwise in 3

situations which covers the case of the Petitioner i.e. The Petitioner had not declared one or more

international transactions in the report filed under Section 92E of the Act.), the Court held that since it

was a procedural aspect and was intended to the benefit to the Petitioner, it required to be applied even

in the present case where a reference was earlier made by the AO to the TPO on 31st March 2013 and

thereafter.

iv. Accordingly, it set aside the reference made by the AO to the TPO and directed the AO to determine

whether or not a reference was to be made to the TPO, for the three AYs in question, afresh after giving

the Petitioner an opportunity of being heard in respect of each of the AYs.

Note: The Gujarat High Court in the decision of Alpha Nipon Innovatives Ltd – TS-950-HC-2016(Guj) – TP, has followed the aforesaid decision.

XV. Foreign Tested Party / APA

33. Where assessee had entered into Advance Pricing Agreement (APA) with CBDT and CBDT hadprincipally approved concept of overseas AEs adopted as tested party and availability of data forpast year was also on similar lines as suggested in APA, provisions for comparability analysis inAPA could be rolled back for past years thereby accepting overseas AEs as tested party beingleast complex of transacting entity

Ranbaxy Laboratories v ACIT [2016] 68 taxmann.com 322 (Delhi - Trib.) – AY 2008-09

Facts

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i. The assessee, engaged in the manufacturing and sale of active pharmaceutical ingredients (API) and

formulations from its many manufacturing units located at multiple locations had entered into international

transactions with its AEs related to sale of API, raw material. in several countries. The AEs after making

purchases from the assessee sold them in overseas markets. Accordingly, the AEs were mainly engaged

in selling and distribution activities.

ii. The TP Report submitted by the assessee before the TPO indicated that the assessee was a

manufacturer who was subject to normal risks of success and failure of business operations and its AEs

which were engaged only in sales and distribution activities had less complex operations and assumed

minimum risk without owning any intangible property or unique asset and, therefore, these AEs were

selected as the tested party for the purpose of economic analysis based on which it was mentioned that

the transaction of AEs were at Arm's length.

iii. The TPO rejected the selection of foreign AEs as tested party and contended that assessee should be

selected as the tested party on the ground that

There were geographical differences vis-à-vis the comparables and the foreign AEs and further, no

other suitable comparables could be found

Comparability was to be judged with reference to the geographical locations of the parties to the

transactions.

The Accounting policy was different from country to country

The period for which data was taken was different

The Tribunal in the case of assessee itself for earlier assessment year rejected overseas AEs as

tested parties.

Relevant, sufficient, reliable and accurate financial data, required under the Income-tax Rules, 1962

was not available for all the comparables.

Region-wise benchmarking had been carried out instead of the country-wise benchmarking of the

margins of assessee’s AEs.

Most reliable financial data was easily and readily available in case of the assessee as tested party.

The TPO selecting 5 of his own comparables, made an adjustment of Rs. 238.16 crore which was upheld

by DRP.

Aggrieved, the assessee preferred an appeal before the Hon’be Tribunal


i. That the foreign AEs being mere distributors of goods as opposed to manufacturing them (as done by

the assessee) were least complex and therefore were to be adopted as the tested party

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ii. That it had entered into APPA u/s 92CC with CBDT for the subsequent AY viz. AY 2014-15, wherein the

CBDT had accepted the Foreign AEs as tested parties.

iii. That considering the facts of the assessee in the current year viz. AY 2008-09 did not differ as compared

to the facts prevalent for the year in which the APA had been signed viz. AY 2014-15, though the current

year fell outside the period of roll-back i.e. 4 years, the APA had persuasive value.

iv. That selection of foreign tested party was in accordance with Indian TP regulations, OECD TP guidelines,

UN Transfer pricing manual and TP regulations of United States since these guidelines support the view

that least complex entity should be selected as tested party.

v. That the order passed by the Tribunal for the earlier AY, accepted the concept of a foreign tested party

in principle but rejected it for that year as sufficient comparables were not available / due to lacuna in TP

documentation, which was not so in the current year.

Judgment

The Tribunal held that the foreign AE of the assessee could be 'tested party'. In support of the same, it

reasoned as below:

i. Tested party is usually the party participating in a transaction for which profitability most reliably can be

ascertained and for which the reliable data of comparables can be found

ii. The tested party will typically be the party with least intangibles.

iii. As per Section 1.4825 of the US Transfer Pricing Regulations the tested party will be the participant in

the controlled transaction whose operating profit attributable to the controlled transactions can be verified

using the most reliable data, requiring the fewest and most reliable adjustments

iv. The tested party will be the least complex of the controlled taxpayers

v. The tested party would have lesser risk as compared to the other transacting party or the real

entrepreneur

vi. There is no bar against the selection of Tested party. It can either be local party or foreign party

vii. The UN Transfer Pricing Manual 2013 and OECD guidelines also support the concept of a foreign tested

party

viii. Regional benchmarking could be applied in case country-by-country benchmarking is not feasible

ix. In the previous assessment year for which the Tribunal rejected the foreign tested party only a single set

of comparables was available for all the AEs, leaving it with no option but to adopt assessee as 'tested

party'. However, in the current year several set of comparables were available for different AEs

x. There are several authorities which support the view that a foreign AE can be a 'tested party', viz. (a)

General Motors India (P.) Ltd. (supra), (b) Mastek Ltd. v. Addl. CIT [2012] 53 SOT 111/21 taxmann.com

173 (Ahd.), (c) Bechtel India (P.) Ltd. v. Dy. CIT [2011] 46 SOT 427/12 taxmann.com 299 (Delhi), (d)

Serdia Pharmaceuticals (India) (P.) Ltd. v. Asstt. CIT [2011] 44 SOT 391/9 taxmann.com 13 (Mum.)

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followed by Sony India (P.) Ltd. v. Dy. CIT [2008] 114 ITD 448 (Delhi), (e) Ranbaxy Laboratories Ltd. v.

Addl. CIT [2008] 110 ITD 428/167 Taxman 306 (Delhi),

Further, with regard to the applicability of APA signed for AY 2014-15 to the current AY, it upheld the

assessee’s argument that it had persuasive value and held that the same could be applied to the the

impugned year based on the following reasons:

i. In the APA it had been agreed that the functions performed by AEs were very limited and consequent

risks assumed were less,

ii. APA had been agreed on the whole mechanism of computation of ALP of International transactions of

the assessee,

iii. The principals laid down for comparability analysis in the APA have a greater persuasive value,

iv. In the APA, CBDT with the assessee, had considered all the aspects of the manner of determination of

ALP which were also similar for this year.

Accordingly the Tribunal restored the matter to the TPO for deciding the transfer pricing issue according

to the guidelines of APA and holding foreign AE as 'tested party'.

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