CIT Vs Sumitomo Corporation India Pvt Ltd (Delhi High Court)
In the case of CIT vs. Sumitomo Corporation India Pvt Ltd, the Delhi High Court examined the suitable method for determining the Arm’s Length Price (ALP) for international transactions concerning indenting-transactions. The court dismissed the appeal for Assessment Years 2012-13 and 2013-14 and upheld the Transaction Net Margin Method (TNMM) as appropriate for the case.
The appeal revolved around the commission earned by Sumitomo Corporation India Pvt Ltd in indenting transactions with its Associated Enterprises (AEs). The court had previously remanded the issue to the Tribunal, which concluded that TNMM would be the most suitable method for determining the ALP, with the Berry ratio as PLI.
The court analyzed the similarities and differences between controlled and uncontrolled transactions, considering factors like volume, value, market, and geographical location. It found TNMM more appropriate than CUP method due to significant variations in these factors.
The Delhi High Court’s judgment reaffirms TNMM as the suitable method for determining ALP in cases involving indenting-transactions. The decision emphasizes the importance of considering transaction specifics and establishes the Berry ratio as a relevant PLI for such transactions. The dismissal of the appeal indicates the Court’s agreement with the Tribunal’s findings and upholds the application of TNMM for Sumitomo Corporation India Pvt Ltd’s case.
FULL TEXT OF THE JUDGMENT/ORDER OF DELHI HIGH COURT
1. These appeals concern Assessment Years (AYs) 20 13-14 (ITA No. 22/2023) and 2012-13 (ITA No. 23/2023).
2. On 30.01.2023, we had heard the matter at some length, when we had etched out the broad controversy that arose between the parties. For the sake of convenience the said order is extracted hereafter:
“1. These appeals impugn a common order dated 21.05.2019 passed by the Income Tax Appellate Tribunal [in short, “Tribunal”].
2. ITA No.22/2023 concerns Assessment Year (AY) 2013-14, while ITA No.23/2023 concerns AY 2012-13.
3. According to Mr Vipul Agarwal, who appears on behalf of the appellant/revenue, the impugned order passed by the Tribunal was received by the appellant/revenue on 06.06.2019.
3.1 We may note that the affidavits accompanying the appeals indicate that they were sworn on 17.08.2020. Prima facie, there is delay in filing the appeals as well.
3.2. The above-captioned applications [i.e., CM Nos.1876/2023 & 1880/2023], though, seek condonation of delay, only in re-filing the appeals.
3.3. Interestingly, the re-filling applications are also dated 17.08.2020 and are accompanied by an affidavit which has been sworn on the same date.
4. According to us, there is complete lack of clarity on the part of the appellant/revenue, as to whether they are seeking condonation of delay in filing the appeals or re-filing the appeals.
5. That being said, there is a considerable delay, even if one were to take into account the fact that Covid-19 had kicked in. Insofar as this court was concerned, there was disruption in work in and about March 2020 and thereafter.
6. Mr C.S. Aggarwal, learned senior counsel, who appears on behalf of the respondent/assessee, points out that the applications for condonation of delay in re-filing were filed only on 07.01.2023, although, as noticed above, they are dated 17.08.2020.
6.1 Mr C.S. Aggarwal also asserts that the defects pointed out by the Registry have not been cured.
7. Insofar as the merits of the case are concerned, the controversy which arises concerns the commission earned by the respondent/assessee, with respect to certain international transactions that it entered into with its Associated Enterprises [hereafter referred to as “AEs”]. These transactions are, broadly, referred to as “indenting transactions”.
8. We may note, and qua which there is no dispute, disputes concerning AYs 2007-08 to 2010-11, had reached this court.
8.1. This court via judgment dated 22.07.2016 had remitted the subject appeals to the Tribunal. Via the very same judgment, the coordinate bench of this court had given leeway to the Tribunal to remand the matter to the Transfer Pricing Officer (TPO)/Assessing Officer (AO) for fresh examination of the issues relating to transfer pricing, albeit in accordance with the law.
8.2. The said judgment rendered by the coordinate bench was passed in the following appeals:
“ITA Nos.381/2013, 738/2015, 382/2013 & 702/2014.”
9. Mr C.S. Aggarwal, in support of submission has placed before us a hard copy of the order dated 22.10.2018 passed by the Tribunal, upon remand by the coordinate bench of this
10. We have been taken by Mr C.S. Aggarwal through the order passed by the Tribunal. Briefly put, the Tribunal has returned the following two significant findings of fact:
10.1 First, the Transaction Net Margin Method (TNMM) would be the most suitable method for determining Arm ‟s Length Price (ALP) for international transactions concerning indenting transactions entered into by the respondent/assessee with its AEs.
10.2 Second, the Berry ratio method for calculating Profit Level Indicator (PLI) would be most appropriate insofar as the respondent/assessee is concerned.
11. In respect of the aforesaid findings of fact, a detailed analysis has been made by the Tribunal in paragraphs 15 to 19 of its order dated 22.10.2018. For the sake of convenience, the relevant paragraphs are extracted hereafter:
“15. We have heard the parties at length and also perused the material referred to before us as discussed herein above. The approach of determining the ALP on the basis of average percent of commission reported by the assessee in respect of indenting transactions with the non AEs as held by the Tribunal has not found judicial favour with the Hon’ble High Court and matter has been remanded back for further examination of similarity between the two transactions and to conduct further in depth inquiry to examine the high degree of comparability of relevant control and uncontrolled transactions. Further, if the average rate of commission on such transactions was to be applied to the FOB value of goods involved in the indenting transactions with the AEs, then this Tribunal has to satisfy itself that there is no significant variation in the rate of commission between different products. From the perusal of the indenting transactions undertaken by the assessee with AE and non AE under various product segments, it is discerned that, for instance in the product segment „Automotive‟, the ass essee has undertaken 249 transactions with AE and only 4 with non AE and in the Assessment Year 200 7-08 the volume of transaction, FOB value wise is „Nil‟ in the case of non AE; and the commission earned with the AE is Rs. 7,50,43,686/- and with the non AE it is only Rs. 9,672/-. Similarly the products dealt with AE in automotive segment are entirely different and the geographies involved are Switzerland, Singapore, Thailand and Japan whereas non AE transactions are with Suzuki Motorcycle India Pvt. Ltd. and Bajaj Auto Ltd in India. Likewise under the product „chemicals‟ the ass essee has undertaken 1044 transaction with AE and only 112 transaction with non AE and the commission with AE is 1.28%, whereas non AE it is 2.26%. Similarly, the products dealt with AE and non AE under this segment are quite different and geography involved with AE are Spain, Japan, Italy, Switzerland, Thailand, whereas with non AE it is India. Likewise in „electronics‟ segment the transaction undertaken with the AE are 253, whereas with the non AE it is 5 and again not only the products are different but also geographical location are different with that of non-AE which are mostly with Indian parties and all AE transactions are with various foreign countries. Similar differences are noted in all across 10 to 11 products dealt by the assessee with AEs and non AEs. The total number of transactions with the AE during the year was 3,145 and with non AE it was only 371. Thus, apparently there is a huge difference in volume on FOB basis and the geographies dealt are also entirely different. The amount of average commission earned with the AE, is 1.58% whereas in the case of non AE it is 2.26. All these differences are permeating in all the Assessment Years as highlighted by the assessee in the chart submitted before us and on perusal of the same, it is quite glaring that under both the transactions, i.e., controlled transaction with the AE and uncontrolled transaction with the non AEs, there are huge dissimilarity between the products, difference in volume, difference in value, markets and geographical location.
16. It is quite settled proposition that while applying CUP method, a very high degree of similarity has to be seen between the control and uncontrolled transactions not only in terms of products, contractual terms, volume, value but also market and geography locations. The reason being under CUP, price charged or paid for the property transferred has to be identified and the differences between the international transaction and the comparable uncontrolled transactions has to be seen which could materially affect the price in the open market. The price of different products cannot be the same as it depends upon the negotiation based on volumes, value and other contractual terms. Further different market and geographical location also affects the pricing factors and therefore, if there are differences on account of these factors CUP cannot be held to be the most appropriate method for bench marking the arm’s length price. Here in this case, under the indenting segment there are various dissimilarities in the transaction with the AE and non AE as discussed above and for this reason alone the average commission earned cannot be the benchmarking factor for determining the ALP, and therefore, we hold that neither the CUP method can be applied nor the transaction with the AE and non AE can be taken for the purpose of comparability analysis. Thus, we reject the CUP method by taking the average commission earned in the transaction with the AE and non AE.
17. Now, in these circumstances, we have to see whether TNMM can be considered as most appropriate method. First of all, it has been brought on record before us that right from the Assessment Years 2003-04 to 2006-0 7, TNMM has been accepted as the most appropriate method by the TPO. However, instead of ‘berry ratio’ as PLI, TPO has taken OP/TC as PLI. Further, it has been brought to our notice that from the Assessment Years 2011-12 to 2018-1 9 under the MAP agreement it has been agreed that TNMM should be the most appropriate method to determine the ALP of the international transaction of the indent keeping into the fact that assessee is a low risk service provider and there is no change in FAR right from Assessment Years 2003-04 to 2018-19. Once TNMM has been accepted under the similar FAR, we do not find any reason to deviate by adopting some other method. Otherwise also we have held that CUP method cannot be applied and other methods admittedly are incapable of capturing the true arm’s length result and therefore, we hold that TNMM should be taken as a most appropriate method for benchmarking the said transaction.
18. Now having accepted that TNMM is the most appropriate method, the second issue which needs to be clarified is what should be the base for computing the PLI. As stated above, the Hon’ble High Court has approved the permissibility of using all „berry ratio‟ as PLI in a situation where the functions performed did not entail huge creation of valuable intangibles. The nature of the assessee’s business is a routine business support services and there is no creation of any human capital or supply chain intangible. The Hon ‘ble High Court has held that ‘berry ratio’ can only be applied where the value of goods is not directly linked to the quantum of profits and the profits are mainly determined on expenses incurred. Here in this case, the assessee is acting as an indenting agent commission service provider, i.e., as a facilitator of a trade and has no financial risk, because assessee was not required to raise any invoice for sale and purchase in its financial commitment and risk are insignificant. As a service provider, the key business driver for the assessee is operating expenses incurred on establishment and operation of business, i.e., salary, rent and other such expenses and it does not employ any significant assets in the business except for routine assets like office, furniture and fixtures to run its business and also there is no intangible creation by the assessee company. Besides there is no trading capital employed as goods are neither bought nor sold by the assessee in the indenting segment. Under these facts and circumstances, the profit derived by the assessee is mainly depended on its operating expenditure as the value of goods does not enter in its financial. As a low risk service provider, it seeks to obtain adequate return on its operating expenses as the operating expenses incurred represents the value added carried on by the assessee. In other words, the operating expenses adequately and sufficiently represents the functions performed and the risk undertaken by the assessee. Thus, we hold that the ‘berry ratio’ should be accepted as the most appropriate PLI for taking as base under TNMM while determining the ALP of the Indian transaction for all the five years under appeal.
19. Accordingly, we remand the matter back to the file of the TPO to examine and benchmark the international transaction by adopting TNMM as the most appropriate method by taking ‘berry ratio’ as PLI. The assessee has to substantiate its margin by bringing comparable uncontrolled transactions to demonstrate that its commission earned in this segment is at arm’s length; and the TPO shall examine the same and decide accordingly. Needless to say that TPO shall give due and effective opportunity to the assessee to substantiate its ALP as per direction given above.”
[Emphasis is ours]
11.1. In the instant matter, the Tribunal, via order dated 21.05.2019 concluded as follows, having regard to the para material circumstances which obtained when the order dated 22.10.2018 was passed:
“5. On perusal of afforested observations by this Tribunal in immediately preceding assessment year following points emerge:
