Gillatte India Ltd. Vs ACIT (ITAT Jaipur)
The issue under consideration is Whether the TPO was legally justified in holding that Advertisement marketing and Promotion (AMP) expenditure was not an international transaction even though the assessee was performing Development, Enhancement, maintenance, protection and Exploitation (DEMPE) functions for its AE and doing activity of brand building?
ITAT states that, the expenses of the associated enterprise (AE) for creating marketing intangibles and promoting the brand name of its AE, it is for the marketing people to look new products which has competition in the national level or grass route level and International level. It is always for the Company to decide on what ratio the expenses are to be incurred at grass route and on that ratio for promoting their product. In that view of the matter, unless the amount which was found to be not genuine merely because excess amount has been spent on advertisement, will not be a ground for disallowing the expenses. Therefore, respectfully following the decision of Hon’ble Rajasthan High Court in assessee’s own case, the adjustment on account of AMP expenses is hereby directed to be deleted.
FULL TEXT OF THE ITAT JUDGEMENT
This is an appeal filed by the assessee against the order of ACIT Circle 2, Alwar under section 143(3) r/w 144C(13) of the Act dated 23.10.2018 for Assessment Year 2014-15.
2. Ground No. 1 of assessee’s appeal is general in nature against the order passed by the Assessing officer pursuant to directions of the DRP. It does not require any separate adjudication as each of the issues are being dealt with while disposing off specific grounds of appeal in subsequent paragraphs. The ground of appeal is thus dismissed.
3. In Ground No. 2.1 to 2.5, the assessee has effectively challenged the action of the lower authorities in making a transfer pricing adjustment in relation to AMP expenses to the tune of Rs 59,70,96,832/- to the returned
4. During the course of hearing, the ld AR, referring to the proceedings before the Transfer Pricing officer, submitted that the TPO alleged that the appellant was undertaking development, enhancement, maintenance, protection and exploitation (‘DEMPE’) function for its AE. According to the TPO, by incurring excessive AMP spend, the appellant was creating/ adding value to the intangibles legally owned by its AE and therefore he concluded that such excessive/ non-routine AMP expense constituted an ‘international transaction’ in terms of Section 92B r.w.s 92F (v) of the Act. To support his case, the TPO has placed reliance on the Hon’ble Delhi High Court decision in the case of Sony Ericsson Mobile Communications I. Pvt. Ltd. vs. CIT (ITA No. 16/2014). Thereafter, applying Bright Line Test, the TPO compared the AMP spend of the appellant (as a percentage of sales) with that of the comparable companies and concluded that difference between ratio of AMP/ Sales of the appellant and that of the comparable companies (i.e. 14.87% minus 11.46%) was excessive/ non-routine. Such excess, according to the TPO, should have been reimbursed by the AE holding legal ownership in the brand name i.e. The Gillette Company, USA (TGC, USA). Further, the TPO also erroneously inferred that the appellant has rendered services to its overseas AEs by incurring additional AMP expenses and applied a mark-up of 17.89% (based on margins earned by comparable companies providing marketing support services) on the incremental AMP spend and proposed an adjustment to the appellant’s income by Rs. 66.91 crore. Aggrieved by the aforesaid TP Adjustment, the appellant approached the DRP which has completely disregarded the submissions of the appellant and has held that issue of AMP was pending before the Hon’ble Supreme Court (as Department has filed SLP in several cases against the favourable decisions of Hon’ble Delhi High Court) and therefore, the adjustment made by the TPO was to be upheld. However, the DRP directed the TPO to exclude a few companies selected by the TPO for computation of markup on the AMP adjustment. Accordingly, the adjustment has reduced from Rs. 66,91,23,056 (as per the TPO’s Order) to Rs. 59,70,96,832. Aggrieved by the DRP’s directions, the appellant has now approached the Tribunal for seeking necessary relief.
5. It was submitted by the ld AR that the Tribunal, in the appellant’s own case for the previous four assessment years (A.Y 2009-10, A.Y 2010-11, A.Y 2011-12 and A.Y 2012-13) has deleted the adjustment on account of AMP expenses by holding that incurrence of AMP per sedoes not constitute an international transaction unless the Revenue was able to prove the existence of any arrangement/ agreement de hors the application of Bright Line Test (‘BLT’). The Tribunal further held that the application of Bright Line Test to ascertain the existence of the alleged international transaction was not permissible under the Indian Transfer Pricing Regulations. To hold the aforesaid, the Tribunal relied on the on’ble Delhi High Court decision in the case of Maruti Suzuki India (ITA 110/2014). Since de hors the application of Bright Line Test, the Revenue had failed to demonstrate the existence of an international transaction, the Tribunal had deleted the entire AMP adjustment. The elevant extract of the order for the lead assessment year i.e. AY 2009- 10 (ITA No. 01/ JP/2013) reads as under:
“4.17 Applying the above legal proposition to the facts of the present case, it is not a case of the Revenue that there existed an understanding or an arrangement or an action in concert between the assessee-company and its foreign AE to incur AMP expenditure to promote the brand value of the products manufactured and distributed by the assessee company. Merely because the assessee-company incurred excessive AMP expenditure compared to the expenditure incurred by comparable companies, it cannot be inferred that there existed international transaction between assessee-company and its foreign AE. As held in the case of Sony Ericsson case, application of Bright Line Test as a tool to ascertain an alleged international transaction is not permissible under the Indian TP regulations. The onus is on the Revenue to demonstrate that de hors the BLT an AMP expense incurred by the taxpayer constitutes an international transaction which has not been discharged in the instant case. The Revenue has failed to demonstrate the existence of an international transaction. Therefore, the question of determination of ALP on such transaction does not arise. Respectfully following the ratio decidendi of the Hon’ble Delhi High Court in the case of Maruti Suzuki and subsequent Hon’ble Delhi High Court decisions referred supra, we hold that AMP expenditure incurred by the assessee cannot be treated and categorised as an international transaction under section 92B of the Act. In light of the above, the additional ground no. 7 raised by the assessee company is allowed in favour of the assessee company. In view of additional ground decided in favour of the assessee-company, ground no. 2 doesn’t arise for consideration. The AO is directed to delete the adjustment on account of AMP spend by the Appellant.”
6. It was further submitted by the ld AR that the aforesaid ratio of the Tribunal decision has been followed by the Tribunal in subsequent assessment years i.e, AY 2010-11, AY 2011-12 and AY 2012-13. It was submitted that the Revenue’s appeal against the aforesaid orders for AY 2009-10 (ITA no. 40/2017), AY 2010-11 (ITA no. 39/2017) and AY 2011-12 (ITA no. 341/2017) have since been dismissed by the Hon’ble Rajasthan High Court on merits.
7. It was submitted that similar to the factual matrix for the previous years, in the year under consideration also, the TPO has arrived at the cost/ value of the international transaction by application of Bright Line Test. De hors the application of Bright Line Test, the TPO has not been able to demonstrate that the appellant was obliged to incur AMP expenses on behalf of its AE or that the AMP expenses were incurred at the behest of its AE. Nowhere in the TP assessment order, the TPO has been able to show that there exists an arrangement or an agreement for incurrence of AMP expenses by the appellant on behalf of its AE. Accordingly, it was submitted that the issue is wholly covered in favour of the appellant by various Tribunal and High Court orders in the appellants’ own case and therefore, the adjustment on account of AMP may be
8. Per contra, the ld CIT/DR relied upon and supported the order of the lower authorities. Regarding the order passed by the Hon’ble Rajasthan High Court for A.Y 2009-10 and 2010-11, it was submitted that the Department has not accepted the said decisions and has filed an SLP against the said decisions before the Hon’ble Supreme Court.
9. We have heard the rival contentions and perused the material available on record. Undisputedly, there are no changes in the facts and circumstances of the case as compared to the earlier years wherein the matter has been consistently decided in favour of the assessee by the Coordinate Benches and which has since been upheld by the Hon’ble Rajasthan High Court. In DB ITA No. 40/2017 & 39/2017 dated 18.07.2017 for A.Y. 2009-10 & 2010-11, the substantial questions of law framed for consideration before the Hon’ble Rajasthan High Court read asunder:-
“3. Counsel for the department has framed following substantial question of law no. 1,2, & 3 which are common in both these appeal and the same reads as under:-
“1. Whether the Tribunal was illegally justified in deleting the addition of Rs. 87,12,49,257/- (in appeal no. 39/2017) and Rs. 1,10,87,46,190/- (in appeal no . 40/2017) being adjustment on account of compensation to be received by the assessee from its Associated Enterprise (AE) for creating marketing intangibles and promoting the brand name of its AE, specially when the assessee company was promoting marketing intangibles of its AE though the brand belongs to the AE and not to the assessee and the products manufactured by the assessee are also manufactured by the AE and its other subsidiaries in different countries with the same name?
2. Whether the Tribunal was legally justified in holding that Advertisement marketing and Promotion (AMP) expenditure was not an international transaction even though the assessee was performing Development, Enhancement, maintenance, protection and Exploitation (DEMPE) functions for its AE and doing activity of brand building?”
And the relevant findings of the Hon’ble Rajasthan High Court wherein the matter has been decided in favour of the assessee reads as under:-
“6.1 Regarding issue no. 1, 2 &3, tribunal while considering the expenses of the associated enterprise (AE) for creating marketing intangibles and promoting the brand name of its AE, it is for the marketing people to look new products which has competition in the national level or grass route level and International level. It is always for the Company to decide on what ratio the expenses are to be incurred at grass route and on that ratio for promoting their product.
6.2 In that view of the matter, unless the amount which was found to be not genuine merely because excess amount has been spent on advertisement, will not be a ground for disallowing the expenses.
6.3 In that view of the matter, on issue 1 & 2, we are of the view that the tribunal has not committed any error. The issue are answered in favour of the assessee.”
10. The aforesaid decision has been followed by the Hon’ble Rajasthan High Court while disposing off the department’s subsequent appeal in DB Appeal no. 341/2017 dated 6.02.2018 for A.Y 2011-12. Further, mere filing an SLP before the Hon’ble Supreme Court against the aforesaid decision of the Hon’ble jurisdictional High Court in asseseee’s own case cannot be a reason for not following the said decision. The decision of the jurisdictional High Court is binding on this Tribunal as well as on the DRP. Nothing has been brought on record which suggests that the said decision of the Hon’ble Rajasthan High Court has been stayed, therefore, respectfully following the decision of Hon’ble Rajasthan High Court in assessee’s own case, the adjustment on account of AMP expenses is hereby directed to be deleted. In the result, ground no. 2 of the assessee’s appeal is allowed.
11. In Ground No.3, the assessee has challenged the transfer pricing adjustment on account of Business Support services amounting to Rs.4,03,72,348/-.
12. During the course of hearing, the ld AR submitted that the DRP has given substantial relief and directed the Assessing Officer to compute the adjustment on account of business support services availed by the appellant from its AEs at a cost plus 5% instead of cost plus 7% claimed by the appellant. However, while giving effect to the directions of the DRP, the AO incorrectly computed the amount of adjustment. The appellant has filed a rectification application on 11 September 2019 under section 154 of the Act before the AO for rectifying the said mistake apparent from record. On disposal of the same, the amount of adjustment shall stand at Rs. 26,41,182 instead of Rs. 4,03,72,348 as currently computed in the final assessment order. Accordingly, the appellant does not wish to press this ground of appeal on account of smallness of amount and the same should however, not be construed against the appellant in any manner whatsoever.
13. The ground of appeal no. 3 is thus dismissed as not pressed by the ld AR during the course of
14. In Ground No. 4, the assessee has challenged the transfer pricing adjustment to the tune of Rs. 16,49,06,644/- in relation to payment of royalty.
15. The ld AR submitted that the appellant is a listed company engagedin the manufacturing of personal care products which includes blades, razors and cartridges, shaving system and brushes. During the year, the appellant, inter-alia, entered into the transaction for payment of royalty, as per the Intellectual Property license agreement in respect of Gillette grooming products entered into with The Gillette Company, USA with effect from 1 April 2010. As per the said license agreement, the appellant has been granted a non-exclusive license to manufacture, process and package ‘Gillette’ products and an exclusive right to distribute and sell the said products within the territory of India under the applicable Trademarks using the Proprietary Information and under any applicable Patents and Patent application. In consideration of the rights and licenses granted to the appellant, it has agreed to pay Gillette USA, royalty equal to 4.5% of the Net Outside Sales. The said royalty is paid to Gillette USA for the licensed technology and trademarks of Gillette USA.
16. It was submitted by the ld AR that while bench marking the aforesaid royalty transaction, the appellant applied external CUP in the form of royalty rates from Royalty Stat database thereby arriving at a set of 10 comparables with an average royalty rate of 5.56% as against the royalty rate of 4.5% paid by the appellant. Accordingly, the transaction was considered to be at arms’ length in the TP Study bench marking
17. It was submitted by the ld AR that during the course of TP assessment proceedings, the TPO required the appellant to justify the payment for royalty to its AE. Accordingly, the appellant vide submission dated 6 September 2017, filed detailed submissions justifying the payment for royalty, benefits derived from payment of royalty along with the various documentary evidences in the form of License Agreement and bench marking analysis. However, as per the TPO, the appellant failed to prove that it had obtained consequential benefit of economic or commercial value against the said payment of royalty and therefore, such royalty payments were not justified/ required to be made. Further, without providing any show-cause to the appellant, the TPO concluded that royalty agreements used by the appellant for bench marking purposes were not comparable. The TPO also identified two agreements as comparable searched on worldwide basis in Royal Stat database and held the arms’ length rate of royalty payment to be 1%. Despite the aforesaid, the TPO determined the arms’ length price of such royalty payment to be ‘NIL’.
18. It was further submitted by the ld AR that before the DRP, the appellant vide letter dated 2 July 2018 filed additional evidence in the form of internal comparable agreements wherein third parties have been paying royalty to Procter & Gamble group entities for similar products. It was explained before the DRP that the TPO did not confront the appellant with the details of the alleged comparable agreements used by him for bench marking the royalty transaction. Further, the agreements considered by the TPO pertained to a transaction between the Appellants’ AEs and third parties. Accordingly, after the receipt of the TPO order, the Appellant approached its AEs in order to verify the comparability of the proposed agreements. Upon scrutiny, it was found that those agreements (used by the TPO) were prima facie not comparable. Accordingly, in order to provide a better comparability, the appellant submitted a set of internal comparables before the DRP as additional evidence. Pursuant to filing of additional evidence, the DRP called for a remand report from the TPO. The TPO, vide his reply dated 26 July 2018 in the remand proceedings, submitted that the additional evidence in the form of bench marking analysis has to be rejected since the appellant had failed to justify the payment for royalty. Thereafter, the DRP simply agreed with the reasoning given by the TPO in the remand report and thereby upheld the adjustment proposed by the TPO and against the said findings, the appellant is in appeal before the Tribunal.
19. Firstly, regarding justification and commercial expediency for payment of Royalty, it was submitted that during FY 2010-11, Appellant introduced the following two new products and paid royalty in respect of the same:
a) Gillette Guard shaving system,and
b) Gillette Mach3Razors:
20. It was submitted that the manufacturing facility set up at Baddi, Himachal Pradesh for both the above mentioned products were as per supervision and direction of Gillette USA. The technical assistance/ know-how provided comprised of plant design, manufacturing process, selection of capital equipment, and their sourcing. For example, technology for Cartridge Assembly machines, extruded over cap machine, Red Pack packing machines were all provided by Gillette USA. The formula cards for the said products and material specifications for raw materials/packing materials, various packaging standards to be maintained, and designs are all as specified by Gillette USA. In respect of the above technology, trademark and technical know how provided by the Gillette USA for the products introduced, the appellant commenced payment of royalty. It was submitted that the DRP/ TPO observed that, Mach3 razors were introduced long ago in India and when no royalty has been made in the earlier years, royalty payment in the current year was not justified. Further, the DRP/ TPO also observed that Gillette Guard was only an adaption of Gillette’s existing products and therefore, royalty payments with respect to this product also was not justified. However, it may be noted that Gillette Guard was introduced only in the year 2010. Gillette Guard is the first razor exclusively developed for low-income consumers in India where traditionally men have been using double-edged razors. The Gillette Company, USA has invested substantial time, effort, resources and money, thereby undertaking substantial research & development activities in order to develop the product and manufacturing process technology required to manufacture a product specifically required for the Indian market. Further, Gillette Mach3 has been in market since 1998 but the manufacturing of the same started only in 2010. Prior to manufacturing the same, Gillette Mach3 was imported by the Appellant from its AEs for the purpose of distribution in India. The royalty for the know-how and license to manufacture these products was thus paid by the appellant to Gillette USA in from AY 2011-12 onwards and was also paid during the year under consideration. It was accordingly submitted that from the above submission, it can clearly be concluded that the payment for royalty was justified in the case of the appellant and in the absence of such an agreement, the appellant would not have been able to manufacture and sell its products in the Indian market. In fact, the TPO was unjustified to question the commerciality or the necessity of making a payment of royalty. It is a trite law that, TPO cannot determine the ALP of the transaction at NIL on the basis that it was not prudent for the assessee to have incurred the same.
21. It was further submitted by the ld AR that the Tribunal in the appellant’s own case for AY 2011-12 has very categorically held that the factthat the specified products (Gillette Mach3 and Gillette Guard) were manufactured by the appellant itself indicated that technology and know-how received was utilised and employed and therefore, the payment of royalty was justified. It was further held that it was not appropriate for the Revenue to enter into the realm of examining the commerciality or necessity of entering into a licensing arrangement and payment of royalty in terms of such arrangement.
22. It was further submitted that while the Revenue has preferred an appeal before the Hon’ble Rajasthan High Court against other issues/ adjustments, the decision of the Tribunal on Royalty was not appealed against. It was further submitted that even during the course of Transfer Pricing assessment for A.Y 2012-13, the TPO accepted the arms’ length price determined by the appellant for the international transaction of payment of royalty. Given the fact that, there is no change in the facts of the case, it was submitted that the payment of royalty is commercially expedient and justified for the year under consideration.
23. Now, coming to benchmarking analysis of international transaction of payment of royalty, the ld AR submitted that firstly, the TPO, without providing a show cause notice, selected a set of two agreements as comparables for determining the arms’ length price of the international transaction of payment of royalty by the appellant to its AE. It was submitted that the said agreements considered by the TPO are not comparable to that of the royalty arrangement between the appellant and its AE for the following reasons:
