Computation of gross profit margin should be based on audited accounts and should not be a notional figure.

Executive Summary- The Mumbai bench of the Income Tax Appellate Tribunal (Tribunal) recently pronounced its ruling in the case of Monsanto Holdings Private Limited Vs. Dy. Commissioner of Income Tax Range – 8(2) (Mumbai Bench), ITA No: 9130/Ml/2010 , on transfer pricing issues arising from international transactions entered by the Taxpayer with its Associated enterprises (AEs). The Tribunal ruled in favor of the Revenue stating that Resale Price Method (RPM) cannot be applied based on expected gross margin. Application of RPM is required to be based on examination of audited accounts and consequent computation of actual profit margin.

Facts

In its transfer pricing documentation report prepared for the FY 2005-06, the Taxpayer had adopted RPM as the most appropriate method to determine the arm’s length price of its international transactions with its AEs which resulted in no adjustments to be made to the transfer prices.

However, the Transfer Pricing Officer (TPO) despite of accepting the fact that RPM is the most appropriate method to determine the arm’s length price in the current case, observed that the Taxpayer in its computation of gross margin had used expected gross profit margin which was a notional / vague figure. Hence, the TPO rejected the RPM approach followed by the Taxpayer and adopted Transactional Net Margin Method (TNMM) to determine the arm’s length price which led to an adjustment of Rs. 9.86 crores.

Being aggrieved by the said transfer pricing order, the Taxpayer filed an appeal before the Dispute Resolution Panel (DRP). The DRP observed that the TPO was unable to apply the RPM since during the assessment proceedings the audited accounts of com parables were not made available to the TPO by the taxpayer for the purpose of computation of actual gross profit margin. The DRP in its order had directed that since the audited accounts were now available, the TPO can examine the same and based on the audited accounts can accordingly determine the arm’s length price on application of RPM.

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