Comparability depends on the company operating in wholesale or retail trade

Puma Sports India Pvt. Ltd. Vs JCIT (OSD) (ITAT Bangalore)

ITAT Bangalore held that rule 10B(2)(d) of the Income Tax Rules provide that the company is in the wholesale trading and retail trading have to be considered separately for the purpose of comparison.

Facts-

The case was selected for scrutiny and reference was made to the Transfer Pricing Officer (TPO) to determine the arm’s length price (ALP) of the international transactions the assessee had with its associated enterprises (AE). AO determined a TP adjustment of Rs.6,65,42,022/-. Aggrieved, the assessee raised its objections before the DRP.

DRP vide its directions dated 27.09.2019 directed the TPO to exclude the liabilities of the earlier years and to include sample sale group sale venture discount received out of miscellaneous income while computing operating income. Accordingly the TP adjustment was revised by the TPO to Rs.6,59,34,345/. The assessee filed an appeal before the Tribunal against the final assessment order passed giving effect to the directions of the DRP. Being aggrieved, the present appeal is filed.

Notably, the assessee claimed the exclusion of Metro Shoes Ltd. and Sree Leather Ltd which was rejected by the DRP on the ground that the company has both wholesale and retail trade.

Conclusion-

We notice that Rule 10B(2)(d) of the Act provide that the company is in the wholesale trading and retail trading have to be considered separately for the purpose of comparison.

From the reading of Rule 10B(2)(d) of the Income Tax Rules it is clear that for the purpose of comparability with an uncontrolled transaction, whether the market in which the companies are operating is wholesale or retail needs to be considered.

FULL TEXT OF THE ORDER OF ITAT BANGALORE

This appeal is against the final assessment order passed by the ACIT, Circle – 5(1)(2), Bengaluru dated 23.10.2019 under Section 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961 (the Act) for AY 2015-16.

2. The assessee is a private limited company engaged in the business of wholesale trading of puma branded products. The assessee is a wholly owned subsidiary of Puma Austria and is a licensed distributor engaged in the wholesale trading of group projects/merchandise including footwear, apparel and accessories. The assessee filed return of income for AY 2015-16 on 29.11.2015 declaring total income of Rs.46,77,94,170/- The case was selected for scrutiny and reference was made to the Transfer Pricing Officer (TPO) to determine the arm’s length price (ALP) of the international transactions the assessee had with its associated enterprises (AE). The AO determined a TP adjustment of Rs.6,65,42,022/-. Aggrieved, the assessee raised its objections before the DRP.

3. The DRP vide its directions dated 27.09.2019 directed the TPO to exclude the liabilities of the earlier years and to include sample sale group sale venture discount received out of miscellaneous income while computing operating income. Accordingly the TP adjustment was revised by the TPO to Rs.6,59,34,345/-. The assessee filed an appeal before the Tribunal against the final assessment order passed giving effect to the directions of the DRP. The Tribunal vide order dated 13,.03.2020 remanded the issue back to the DRP for a fresh decision. The relevant portion of the decision of the Tribunal is extracted below: –

“3. Thereafter, he submitted that as per the remaining grounds, the grievance of the assessee is about T P Adjustment and in this regard, the assessee is seeking exclusion of four comparable i.e. M/s Metro Shoes Limited, M/s VF Brands India Private limited, M/s Tommy Hilfiger Arvind Fashion Limited and Sreeleathers Limited and seeking inclusion of two comparables i.e. M/s Dindayal Jalan Textiles Limited and M/s Colorplus Fashions Limited and there are some objections about margin computation and some adjustments such as Risk Adjustment and adjustment in respect of custom duty paid on import of raw materials etc. The bench wanted to see the finding of DRP on these aspects and when the order of DRP was read, it was noticed that the order of DRP is cryptic and it is not a speaking and reasoned order. At this juncture, the bench made out this proposition that the matter has to go back to DRP for a fresh decision by way of a speaking and reasoned order. In reply, both sides agreed to this proposition but this was the common request of both sides that all aspect of the matter about T P adjustment should be left open for a fresh decision by DRP.”

4. The DPR in the remand proceedings vide order dated 25.01.2022 retained the same TP adjustment as in the earlier round. The assessee is now in appeal against the order giving effect to the order of the ITAT.

5. The assessee raised 13 grounds of appeal. During the course of hearing the learned A.R. submitted that out these grounds he is contending only the following issues with regard to TP adjustment:

i. Exclusion of Metro Shoes Ltd.

ii. Exclusion of Sreeleathers Ltd.

iii. Margin correction of VF Brands India Pvt. Ltd. and Tommy Hilfiger Arvind Fashion Pvt. Ltd.

The learned A.R. prayed that if these issues are adjudicated the rest of the grounds can be left upon. Accordingly we adjudicate only the above issues in the following paragraphs.

6. The assessee has chosen the Transaction Net Margin Method (TNMM) as the most appropriate method and operating profit and operating revenue is the profit level indicator. For the year under consideration the details of international transactions entered into by the assessee is as follows: –

7. The PLI of the assessee, as per the financial statements for the year under consideration is as under: –

8. The assessee chose five comparable companies in the transfer pricing study. The TPO rejected the comparable companies chosen by the assessee and proceeded to select fresh set of comparable companies by applying different filters. The final set of comparable companies, selected by the TPO the mean margin of which worked to be 12.63%. is given in the table below : –

Accordingly the TPO computed the ALP of the assessee as under: –

–

9. During the remand proceedings before the DRP the assessee contended the exclusion of Metro Shoes Ltd. and Sree leather Ltd. The DRP rejected the contentions of the assessee by holding that – .

Metro Shoes Ltd – The assessee pleaded for exclusion on the ground that it is involved both in wholesale and retail trade. In addition, the assessee claims that the payment of excise duty indicates the company is engaged in manufacturing activity. Having considered the submissions, it is noted the company has passed the trade filter of 75% thus the revenue from manufacturing is insignificant. The company M/s Metro shoes is primarily engaged in trading of footwear similar to the business of the assessee. Hence the company is functionally similar to the assessee. Hence the plea of the assessee is rejected and the view of the TPO is upheld.

Sreeleathers Ltd: Having considering the submissions, it can be noted that both the TPO and the assessee were in consensus on not applying the wholesale/retail filter to filter out companies. Hence, the assessee contention that the company has both wholesale and retails wings is not valid and accordingly the plea of the assessee is rejected.

10. With regard to the exclusion of Metro Shoes Ltd., he learned A.R. submitted that the company does not pass the more than 75% filter applied by the TPO indicating that it has a small portion of manufacturing income. The learned A.R. further submitted that the Metro Shoes has paid excise duty under Central Excise Act, 1949 thereby highlighting that the company is engaged in manufacturing activity and there is no segmental bifurcation between trading and manufacturing activities. On this premises the learned A.R. prayed for exclusion of Metro Shoes from comparable companies.

11. We heard the DR. During the course of hearing the ld AR drew our attention to the details tabulated from the financials of Metro Shoes Ltd., wherein trading income as a percentage of the total revenue is more than 25%. The details of the same is extracted below: –

12. We also notice that the TPO has applied trade filter of 75% while selecting fresh comparable companies and according to the above working the company fails the trade filter of more than 75%. We further notice from the financials of Metro Shoes Ltd., that the company has paid customs duty. We do not see any merit in the contention of the DRP that Metro Shoes is also primarily engaged in trading of footwear similar to the business of the assessee while rejecting the plea of the assessee on the application of trade filters. In view of this discussion we hold that Metro Shoes fails the trade filter of more than 75% and therefore should be excluded from the comparable companies.

13. With regard to the exclusion of Sreeleather Ltd: the learned A.R. contended that Sreeleather Ltd. is engaged in both wholesale and retail trading of footwear and leather articles. The learned A.R. drew our attention to the financials of the company for FY 2014-15 (page 1973 of the paper book III) wherein out of the total turnover of the company 66.76% is derived from retail trading activity and only 12.78% is derived from wholesale trading activity.

The learned A.R. therefore contended that the assessee who is into wholesale trading business cannot be compared with Sreeleather Ltd. whose major income is from retail trading.

14. We heard the rival contentions and perused the material on record. We notice that Rule 10B(2)(d) of the Act, the relevant extract is reproduced below provide that the company is in the wholesale trading and retail trading have to be considered separately for the purpose of comparison: –

(2) For the purposes of sub-rule (1), the comparability of an international transaction [or a specified domestic transaction] with an uncontrolled transaction shall be judged with reference to the following, namely:—

(a)***

(b)***

(d)***

(d)   conditions prevailing in the markets in which the respective parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs of labour and capital in the markets, overall economic development and level of competition and whether the markets are wholesale or retail.

(emphasis supplied)

15. From the reading of the above rule it is clear that for the purpose of comparability with an uncontrolled transaction, whether the market in which the companies are operating is wholesale or retail needs to be considered. In the given case the financials of Sreeleather Ltd., which is extracted below shows that the company is deriving major part of its revenue from ritual business: –

16. We also notice that the assessee has raised this contention before the DRP which is not been considered by the DRP by stating that it is not valid since the TPO and the assessee were in consensus in not applying the wholesale retail filter. In view of the above and considering the provisions contained in Rule 10B (2)(d) we are of the considered view that Sreeleather Ltd. should be excluded as comparable.

17. With regard to India VF Brands Pvt. Ltd. and Tommy Hilfiger Arvind Fashion Pvt. Ltd. the learned A.R. submitted that the margin considered by the TPO for these companies are not correct. The learned A.R. also submitted the working with regard to the correct margin of these two companies and prayed for the issue to be remanded back to the TPO for considering the correct margins.

18. We have heard the rival contentions and perused the material on record. As per the working submitted by the learned A.R. during the course of hearing the margin of VF Brands Pvt. Ltd. is at 12.07% while the TPO has considered it at 14.56%. Similarly the margin as per computation submitted for Tommy Hilfiger Arvind Fashion Pvt. Ltd. is at 3.23%. The TPO has considered the percentage at 8.24%. We therefore remit this issue back to the TPO to look at the financials of these two companies and arrive at the margins afresh in accordance with law. This issue is allowed for statistical purposes.

19. The TPO is directed to re-compute the ALP based on the directions given in this order. We have adjudicated the those issues as contended by the Ld AR during the course of hearing and the rest of the grounds regarding TP adjustments are left open. It is ordered accordingly.

20. In the result, the appeal filed by the assessee is allowed. Pronounced in the open Court on 26^th September, 2022.