Distribution of free mobile to care centres employees & dealers is business expense

Nokia India Sales Pvt. Ltd Vs Addl. CIT (ITAT Delhi)

Conclusion: In present facts of the case, the Hon’ble Tribunal held that creating a demand for non-deduction of tax while the recipient has paid taxes on the same amount would result in recovery of taxes on the same amount twice and on the issue of providing handsets to the dealers, it was held that the same would be treated as business expenditure.

Facts: The present appeal has been filed by the assessee against the order dated 31.10.2017 passed by the AO u/s 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961. In present facts of the case, Nokia India Sales Pvt. Ltd. (NISPL) was incorporated as Nokia Sales Services Pvt. Ltd. in December 2008 and is engaged in the business of marketing, distribution and sales of mobile phones including accessories and services. The Assessing Officer resorted to disallowance of Rs.155.05 Crores and Rs.58.31 Crores u/s 40(a)(ia) of the Income Tax Act, 1961 on account of non-withholding of taxes u/s 194H of the Act on the discount extended to HCL Infosystems Ltd. The assessee entered into an agreement with HCL for obtaining the following services:

Purchase and sale of mobile phones from the assesse, Promotions and Advertisement of products using the assessee’s trademark “Nokia”, Discussion on market trends, Discussion on activities of assessee’s competitors, After sales matters discussion, Marketing plan discussion, Assistance in obtaining the type approval and Performing warranty and/or after warranty services and repairs of the products for end-user customers.

On going through the various clauses of the agreement, the AO held that the payment made by the way of debit notes to HCL are not trade discounts but were payments for specific services which varied from consultancy to technical services in nature. Being consultancy and technical services in nature, the Assessing Officer held that the provision pertaining to TDS are attracted.

The Hon’ble Tribunal observed that the fact in this case is that, prima facie the assessee has defaulted in deducting the tax and at the same time, the recipient has offered the amounts received to tax which is not in dispute. Creating a demand for non-deduction of tax while the recipient has paid taxes on the same amount would result in recovery of taxes on the same amount twice. Therefore, it was observed that the ld. Assessing Officer has gone strictly by the letter and procedure of the Act leaving aside the spirit of the legislation.

Further, it was observed that the failure to adhere to the provisions of TDS result in delay of payments to the exchequer of the state, initiation of penalty provision u/s 271C and intervention in recovery provisions u/s 201(1). The Assessing Officer has to look into these provisions jointly and severally as to whether there was a default in recovery, whether there was a delay in recovery, whether there was a infarction of the penal provisions or not and invoke the appropriate provisions of the Act to deal with different situations. Therefore, while allowing the appeal on this ground it was held that the taxes have been duly received by the state from the recipient and any further action to recover the same from the assessee would amount to double taxation.

On another issue pertaining to Expenditure on free mobile sets given to dealers u/s  37(1), the  AO disallowed the amount claimed by the assessee on account of free phones/mobile sets given to care centres employees and dealers.

It was observed by the Hon’ble Tribunal that as the ownership in such handsets did not remain with the assessee and having regard to the manner in which the assessee’s business was organized in India, the number of distributors selling Nokia cellular handsets and the commercial reasons for which such expenses were incurred by the assessee, such expenditure undoubtedly represents a revenue expenditure, which has been incurred for the purpose of the business of the assessee. Thus the same should be allowable as a business expense under the provisions of Section 37(1) of the Act and disallowance in this regard is not warranted in the case of the assessee.

FULL TEXT OF THE ORDER OF ITAT DELHI

The present appeal has been filed by the assessee against the order dated 31.10.2017 passed by the AO u/s 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961.

2. Following grounds have been raised by the revenue:

“1. That on the facts and circumstances of the case and in law, the Ld. AO has grossly erred in determining the taxable income of the Appellant for the subject assessment year at Rs. 323,10,98,940/-, as against the returned income of Rs. 96,62,41,210/-on the basis of additions made in the case of Nokia India Pvt. Ltd. (“NEPL”), purportedly for the reason that the Appellant is the successor of NLPL’s distribution business of mobile phones, and in complete disregard of the factual matrix of the business model of the Appellant and NIPL.

Corporate Tax Grounds

2. That on the facts and circumstances of the case and in law, the Ld. AO has erred in making a disallowance of Rs.155,05,28,276/- and Rs.58,31,18,115/- under Section 40(a)(ia) of the Act on account of alleged non-withholding of taxes by the Appellant under Section 194H of the Act on trade offers/ discounts extended to HCL Infosystems Ltd. (“HCL”) and other distributors respectively.

2.1 That on the facts and circumstances of the case and in law, the Ld. AO has erred in alleging that the trade offers/ discounts provided by the Appellant to HCL and other distributors are in the nature of ‘income by way of commission’ and hence, liable to deduction of tax under Section 194H of the Act.

2.2 That on the facts and circumstances of the case and in law, the Ld. AO has erred in not appreciating the fact that the relationship between the Appellant and HCL/ other distributors is on a ‘Principal to Principal’ basis and that the trade offers/ discounts extended in respect of the Appellant’s trading transaction with HCL/ other distributors cannot be characterized as ‘income in the nature of commission’, liable to tax deduction at source under Section 194H of the Act.

2.3 That on the facts and circumstances of the case and in law, the Ld. AO and Hon’ble DRP have erred in observing that the amounts incurred by the Appellant towards such trade offers/ discounts extended to HCL/ other distributors alternatively fall within the ambit of ‘fees for technical services’ as defined under Explanation 2 to Section 9(1)(vii) of the Act and thus, allegedly liable to tax deduction at source under Section 194J of the Act.

2.4 That on the facts and circumstances of the case and in law, the Ld. AO has factually erred in observing that HCL is engaged in provision of warranty, marketing, after sales services and repairs etc., on behalf of the Appellant in lieu of which, trade offers/ discounts are extended by the Appellant to HCL/ other distributors, in complete disregard of the fact that the Appellant and HCL/ other distributors work on principal-to-principal basis and undertake any marketing or promotional activity to promote their own business.

2.5 That without prejudice to the above, on the facts and circumstances of the case and in law, the Ld. AO has also erred in denying the benefit of second proviso to Section 40(a)(ia) of the Act to the Appellant merely on the premise that the declarations provided by the Appellant are not in the format prescribed under the Act (Form 26A), in total disregard of the fact that the requirement of submitting the confirmations in Form 26A was never communicated to the Appellant neither by the Hon’ble DRP in its directions nor by the Ld. AO while issuing the remand report against the application for additional evidence filed by the Appellant.

2.6 That without prejudice to the above, on the facts and circumstances of the case and in law, the Ld. AO has erred in not appreciating the fact that the second proviso to Section 40(a)(ia) of the Act is curative and clarificatory in nature, and was introduced to provide relief to the payer-assessees in cases where the payee has already considered the amount in question in its return of income and discharged the tax liability thereon, which fact has been clearly brought out in the confirmations provided by HCL and other distributors.

2.7 That on the facts and circumstances of the case and in law, the Ld. AO has also erred in not exercising the discretionary powers vested to him under Section 133(6) of the Act and calling for information in relation to trade offers/ discounts extended by the Appellant directly from HCL and other distributors, even though the Appellant had duly submitted PAN and other relevant details of HCL and other distributors before the Ld. AO.

3. That on the facts and circumstances of the case and in law, the Ld. AO has erred in disallowing an amount of Rs. 2,30,24,337/- being trade price protection (“TPP”) given to its distributors.

3.1 That on the facts and circumstances of the case and in law, the Ld. AO has erred in not appreciating the fact that the TPP is offered by the Appellant to its distributors on account of reduction in prices of the mobile handsets lying in stock, which is supported by independent confirmations/ evidences and that the same is standard industry practice for carrying out the business of the Appellant.

3.2 That on the facts and circumstances of the case and in law, the Ld. AO has factually erred in observing that the Appellant has failed to furnish any authenticated documentary evidence in support of the claim of TPP or provide the procedure followed for determination of the amount of TPP provided to Distributors, whereas all necessary documentation and justification for allowability of such claim was filed before the Ld. AO in the course of assessment proceedings.

3.3 That on the facts and circumstances of the case and in law, while disallowing the claim of the Appellant, the Ld. AO has erred in observing that the Appellant has not been able to prove as to how TPP given to distributors has been passed on to the ultimate customers, whereas such premise is completely irrelevant in determination of allowability or genuineness of any expense transaction.

4. That on the facts and circumstances of the case and in law, the Ld. AO has erred in disallowing the cost incurred by the Appellant on phones issued to employees, dealers and Care centers, treating to be in the nature of capital expense or not allowable as a business expense under the provisions of Section 37(1) of the Act.

4.1  That on the facts and circumstances of the case and in law, the Ld. AO has erred in alleging that FOC phones issued to Care centers is in the nature of warranty expense and disallowing the same for want of reconciliation of their cost with the provision for warranty, without appreciating the fact that the said reconciliation was never sought from the Appellant during the course of assessment proceedings.

4.2    Without prejudice to above, the Ld. AO has erred in not allowing tax depreciation on the cost of FOC phones particularly in relation to phones issued to dealers, despite making a specific reference to the same in the impugned order, thereby contradicting the aforesaid disallowance made.

4.3 That without prejudice to the above, on the facts and circumstances of the case and in law, the Ld. AO has erred in not granting deduction of roll-over depreciation on the written down value of the FOC phones treated as capital assets in the case of NEPL in earlier AYs, where in the impugned assessment order, the Ld. AO has himself stated that the issues examined in the case of NEPL shall continue to be applicable in the Appellant’s case as well, purportedly being the successor of NEPL’s business.

Transfer Pricing Grounds

That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. transfer pricing officer (“Ld. TPO”) erred in enhancing the income of the Appellant by Rs. 1,44,00,000/- by making a TP adjustment on account of AMP expenses incurred by the Appellant in the regular course of its business on the ground that it was excessive and should be compensated by the associated enterprises (“AE”).

5.1 That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. TPO have erred in holding that the AMP expenditure incurred by the Appellant constitutes as an “international transaction” within the meaning of the term as contained in Section 92B of the Act. In this process, the Hon’ble DRP/ Ld. AO/ Ld. TPO erred in:

(a) Not appreciating that there are no machinery provisions in the Act to determine AMP as an international transaction or to make adjustment in relation to AMP expenses.

(b) Not appreciating that, in the absence of any understanding/ arrangement/ agreement between the Appellant and its AE (which owns the trademarks) for incurrence of extraordinary AMP expenditure by the Appellant for developing marketing intangibles for the AE, AMP expenditure incurred by the Applicant at its own behest could not be regarded as a ‘transaction’.

(c) Not appreciating that the AMP expenses were incurred by the Appellant as a ‘function’ as part of its role and responsibility as a limited risk distributer and not under a separate arrangement/ agreement with AE to promote brands owned by AE.

(d) Holding that the AMP expenditure incurred by the Appellant is an international transaction by relying upon the decision in Sony Ericsson Mobile Communications India Pvt. Ltd. vs. CIT ([2015] 374 ITR 118) and without appreciating that unlike the facts of the case in Sony Ericsson Mobile Communications India Pvt. Ltd. (supra), the Appellant had – (i) neither received any subsidy/ grant in connection with AMP expenses from its AE; and (ii) nor the Appellant had admitted to the existence of an international transaction.

5.2 That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. TPO grossly erred in facts and in law by not appreciating that the AMP expense considered for AMP adjustment are primarily in the nature of routine selling and distribution expenses and are not in the nature of brand promotion expenses.

5.3 That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. TPO erred in not appreciating that the AE of the Appellant did not derive any benefit from AMP expenditure incurred by the Appellant. Further, if any benefit arises to AE on account of AMP expenditure incurred by the Appellant is purely incidental in nature and does not require any compensation.

5.4 That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. TPO erred in not appreciating that even if the incurrence of excessive AMP expenditure is considered as a separate international transaction, the same has been suitably benchmarked under application of Transaction Net Margin Method (“TNMM”) carried out by the Appellant. Moreover, the Appellant has already been suitably compensated through a royalty free distribution right and a fixed return for its distribution activities including incurrence of AMP expenditure.

5.5 That on the facts and circumstances of the case and in law, the Hon’ble DRP/ Ld. AO/ Ld. TPO erred in not appreciating that since the Appellant has earned more than arm’s length return in its distribution segment, such excess remuneration should be set off with the proposed AMP adjustment.

5.6 That on the facts and circumstances of the case and in law, Hon’ble DRP / Ld. AO/ Ld. TPO while applying the segregated approach to determine the arm’s length price of the alleged AMP transaction, have accepted companies which are not engaged in market support services.

6. That on the facts and circumstances of the case, the Ld. AO erred in levying interest under Section 234B and 234D of the Act.

7. That on the facts and circumstances of the case, Ld. AO erred in initiating penalty proceedings under Section 271(1)(c) of the Act.”

3. Nokia India Sales Pvt. Ltd. (NISPL) was incorporated as Nokia Sales Services Pvt. Ltd. in December 2008. The name of the company was changed to Nokia India Sales Pvt. Ltd. on March 18, 2011. The assessee company is an indirectly wholly owned subsidiary of Nokia Corporation Oy, Finland and is engaged in the business of marketing, distribution and sales of mobile phones including accessories and services. This business of the assessee was earlier handled by M/s Nokia India Pvt. Ltd. (NIPL), another subsidiary of Nokia Corporation Oy, till about end of December, 2012 and in that sense NIPL is business predecessor to the assessee.

Disallowance u/s 40(a)(ia):

4. The Assessing Officer resorted to disallowance of Rs.155.05 Crores and Rs.58.31 Crores u/s 40(a)(ia) of the Income Tax Act, 1961 on account of non-withholding of taxes u/s 194H of the Act on the discount extended to HCL Infosystems Ltd.

5. The facts relevant to the adjudication of this issue are that the assessee entered into an agreement with HCL for obtaining the following services:

i. Purchase and sale of mobile phones from the assessee.

ii. Promotions and Advertisement of products using the assessee’s trademark “Nokia”.

iii. Discussion on market trends.

iv. Discussion on activities of assessee’s competitors

v. After sales matters discussion

vi. Marketing plan discussion

vii. Assistance in obtaining the type approval

viii. Performing warranty and/or after warranty services and repairs of the products for end-user customers.”

6. On going through the various clauses of the agreement, the Assessing Officer held that the payment made by the way of debit notes to HCL are not trade discounts but were payments for specific services which varied from consultancy to technical services in nature. Being consultancy and technical services in nature, the Assessing Officer held that the provision pertaining to TDS are attracted.

7. The ld. DRP during the proceedings called for a report from the AO which is reproduced as under:

“(a) The Assessee has submitted evidences on sample basis which are letters from various entities stating their business, confirming in some that the relationship between NISPL is on a principal to principal basis. A brief mention has been made in some letters to their ITR filed.

(b) The evidences have been considered. It is noted that the Assessing Officer on page 18 of their Draft Assessment Order dated 26.12.2016 has clearly stated that,

“27. The relationship between the assessee and the distributor (is that of principal to principal or of principal to agent) is of relevance in case sale of products is concerned. However, such relationship is not relevant as far as the incentive/ benefit given by the assessee is concerned as the incentive/ benefit is not accruing from the transaction of sale and purchase between the assessee and the distributor (HCL). Reliance in this regard can. be placed on the judgment of Hon’ble Mumbai Bench Tribunal in the matters of SKOL Breweries Ltd vs. Assistant Commissioner of Income Tax Range 8(3), Mumbai [2013] 29 taxmann.com 111.

28. Section 194H talks about the payment to a recipient which is the income by way of commission or brokerage and does not talk about the relationship between the payer and the payee to be necessarily that of a principal and agent. The explanation to section 194H elaborates the terms commission or brokerage. It is evident that commission and brokerage under section 194H is an inclusive definition and includes in its ambit any payment received or receivable, directly or indirectly for any services in the course of buying or selling of goods.

29. HCL has conducted promotional, marketing, advertising, discussion on market trades and situation from the point of expanding the sale quantities, activities of assessee’s competitors, after sales matters, marketing plan and assistance in obtaining the type approval HCL and the assessee have intention to meet together at approximately 3 months interval to exchange the information on the aforesaid aspects. HCL was not awarded any benefit for undertaking the said activities except the said incentives. It appears that and can be concluded that the benefit given under the scheme is indirectly for the services in course of buying or selling of goods which further depends on the achievement of percentage of targets, hence, is in the nature of commission, which is liable to TDS.

30. It can be said that the services provided by HCL to the assesses are of consultancy in nature and are squarely covered by the nature of technical services as defined under Explanation 2 to section 9(1)(vii) of the IT Act 1961. Payment for the technical services is liable to tax deduction at source under section 194J of the IT Act 1961. No one would provide such technical services free of cost H can be concluded that the benefit given under the scheme is for marketing, sales promotion and consideration of various aspects like market trends and situation from the point of expanding the sale quantities, activities of assessee’s competitors, after sales matters, Marketing plan of the products by the distributor which does not pass on to the retailer or to the end user of the products. Hence such incentives are in the nature of fees for professional or technical services, which is liable to TDS u/s 194J.

……………….

Thereafter on page 19 of the Draft Order, the Assessing Officer has stated the following in respect of distributors other than HFCL Infosystems Ltd:

23. During the year under consideration, the assessee has offered track incentives to distributors other them HCL lnfosystems Ltd. amounting to Rs 58,31,18,115/-. In the course of the assessment proceedings the assessee has been asked to furnish the nature of such trade offers with supporting documentary evidences and calculation/ computation for arriving at the said amount.

24. Assessee’s submission in this regard is an the same lines as that on trade offers to HCL Infosystems Ltd.

In respect of both, the AO has held that since the assessee has not deducted TDS on these payments, disallowance of provision of section 40(a)(ia) of the Income Tax Act 1961 is applicable.

As the AO has made a speaking order and given the reasons for disallowance of provision of section 40(a)(ia) of the Income Tax Act 1961, the aforesaid evidences submitted by the assessee do not change the nature of the payment being made and the findings of the Assessing Officer.

8. The ld. DRP further held that the assessee has submitted certificate from HCL Ltd. and from HCF Infotech Ltd. that they have filed their return of income and have disclosed the payments received from the assessee by way of discount in their return of income. Copy of the certificate was sent to the AO by the ld. DRP. The A.O. was directed to verify whether the assessee falls within the second proviso of section 40(i)(ia) or not. The ld. DRP held that the assessee is covered by the second proviso, no disallowance to the extent such income has been disclosed by HCL & HCL Infotech Ltd in their return and to the extent tax has been paid on Such income should be made.

9. Having received the directions from the ld. DRP, the AO disallowed the amount involved holding as under:

Analysis of the Assessing Officer

“30. The DRP has asked the AO to verify whether the assessee falls within the second proviso of section 40(i)(ia) of the Income Tax Act 1961 or not.

The second proviso to section 40(a)(ia) of the Income Tax Act 1961 reads as follows:

“Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVll-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of section 201, then, fox the purpose of this sub-clause, it shall be deemed that the assessee has deducted and paid the fax on such sum of the date of furnishing of return of income by the resident payee referred to in the said proviso.”

32. The first proviso of sub-section (1) of section 201 read as follows: Provided that any person, including the principal officer of a company, who fails to deduct the whole or any part of the tax in accordance with the provisions of this Chapter on the sum paid to a resident or on the sum credited to the account of a resident shall not be deemed to be an assessee in default in respect of such tax if such resident—

(i) has furnished his return of income under section 139;

(ii) has taken into account such sum for computing income in such return of income; and

(iii) has paid the tax due on the income declared by him in such return of income, and the person furnishes a certificate to this effect from an accountant in Such form as may be prescribed.

33. As per Rule 31ACB prescribes the form for furnishing certificate of accountant under the first proviso to sub section (1) of section 201 of the Income Tax Act 1961.

[Form for furnishing certificate of accountant under the first proviso to sub-section (1) of section 201.

31ACB. (1) The certificate from an accountant under the first proviso to sub-section (1) of section 201 shall be furnished in Form 26A to the Director General of income-tax (Systems) or the person authorized by the Director General of Income-tax (Systems) in accordance with the procedures, formats and standards specified under sub-rule (2), and verified in accordance with the procedures, formats and standards specified under sub-rule (2).

(2) The Director General of Income-tax (Systems) shall specify the procedures, formats and standards for the purposes of furnishing and verification of the Form 26A and be responsible for the day-to-day administration in relation to furnishing and verification of the Form 26A in the manner so specified.]

34. The prescribed Form 26A is placed at Annexure C. It can be seen that there is a specific certificate that needs to be placed before the Income Tax Authorities as per the requirements of the first proviso of sub-section (1) of section 201. The certificate needs to be given in the prescribed Form 26A from an accountant/ auditor after verification of all the particulars regarding the payer and payee.

35. The documents submitted by the Assessee before the DRP are placed at Annexure D. These same documents were submitted by the Assessee before the AO for verification in submissions dated 24.10.2017 following the DRP directions dated 4.9.2017.

36. The DRP has asked the AO to verify whether the assessee falls within the second proviso of section 40(i)(ia) or not.

37. It can be seen that these submissions given by the Assessee before DRP and before, the AO vide letter dated 24.10.2017 are in the form of letters “To whomsoever it may concern” from, the following company:

	Letter dated	Name of company
Annexure D1	21.4.2017	HCL Infosystems Ltd.

38. The documents submitted cannot be considered by the Assessing Officer for ascertaining, Whether the assessee falls within the second proviso of section 40(i)(ia) as:

a. Requirements of the first proviso of sub-section (1) of section 201 of the Income Tax Act 1961 have not been fulfilled, due to lack of furnishing of required form and prescribed certificate in which the requisite details have to be furnished as required by the Income Tax Act and Rules.

b. these details are also required to be certified by an accountant/ auditor which has not been done in this case.

39. As the requirements of the ‘first proviso of sub-section (1) of section 201 of the Income Tax Act 1961 have not been fulfilled, the assessee does not fall within the second proviso of section 40(i)(ia) of the Income Tax Act 1961 and therefore, disallowance of Rs.155,05,28,276/- is being made.

Trade Offers to Distributors other than HCL Infosystems Ltd.

41. During the year under consideration, the assessee has offered trade incentives to distributors other than HCL Info systems Ltd. amounting to Rs. 58,31,18,115/- in the course of the assessment proceedings the assessee has been asked to furnish the nature of such trade offers with supporting documentary evidences and calculation/ computation for arriving at the said amount.

42. Assessee’s submission in this regard is on the same lines as that on trade offers to HCL Infosystems Ltd.

43. As discussed in above paras the trade offers to HCL are in the nature of commission which is liable for deduction of withholding tax under section 194H of the Act. As the trade offers to the other distributors are also of the same nature, therefore, on similar grounds as discussed in case of HCL, the same is treated commission in the hands of distributors which liable for TDS under section 194H. Since, assessee has not deducted TDS on these payments, provisions of Section 40(a)(ia) are to be invoked. As per provisions of Section 40(a)(ia) such expenditure would have been allowed as deduction in the hands of assessee only if they have deducted TDS on the said payments. Since there was a failure on part of NISPL to deduct TDS disallowance of Rs. 58,31,18,115/- under Section 40(a)(ia) is proposed to be made. Therefore, the AO proposed to disallow the expenditure of Rs. 58,31,18,115/-under section 40(a)(ia) of the Act in the draft order dated 26.12.2016.

44. Vide directions dated 4.9.2017 the DRP has given the following directions:

“During the course of DRP proceedings the assessee submitted certificate from HCL Ltd and from HCF Infotech Ltd. that they have filed their return of income and have disclosed the payments received from the assessee by way of discount in their return of income. Copy of the certificate was sent to the AO also. The AO is directed to, verify whether the assessee falls within the second proviso of section 40(i)(ia) or not If the assessee is covered by the second proviso, no disallowance to the extent such inform has been disclosed by HCL & HCL Infotech Ltd. in their return and to the extent tax has been paid on such income should be made.”

45. The Assessee has also given a. Submission dated 24.10.2017 in which they have stated that:

“In view of the above, it is the most humble submission of the assessee that in accordance with the second proviso to section 40(a)(ia) read with first proviso to section 201(1) of the Act (inserted vide Finance Act 2012), no disallowance under section 40(a)(ia), of the Act shall trigger in the facts of the present case, where the recipient payee (i.e. the distributors) has furnished its return of income disclosing the underlying income in its return of income, and has duly paid tax thereon.

In this regard, the assessee wishes to highlight that vide the aforementioned application for additional evidence, the assessee has submitted sample confirmations have HCL Infosystems Ltd. and other distributors to whom such trade offers were extended by the assessee during the FY 2012-13. From the contents of the said letters issued by the distributors, your goodself would note that these, parties have confirmed that the amounts of trade offers/ discounts received from the assessee and the fact that the same has been offered to tax in their respective return of income on which tax liability has been duly discharged.

In light of the above, the assessee submits that the assessee cannot be treated to be in default in view of the curative provisions of Section 40(a)(ia) of the Act and disallowance proposed in the draft assessment order ought to be deleted. In accordance with the directions disused by the Hon’ble DRP, we request your good self to kindly verify the attached declarations and provide necessary relief to the assessee.”

Analysis of the Assessing Officer

46. The DRP has asked the AO to verify whether the assessee fails within the second proviso of section 40(i)(ia) or not.

47. The second proviso to .section 40(a)(ia) reads as follows:

“Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of section 201, then, for the purpose of this sub-clause, it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the resident payee referred to in the said proviso.”

48. The first proviso of sub-section (1) of section 201 read as follows:

“Provided that any person, including the principal, officer of a company, who falls to deduct the whole or any part of the tax in accordance with the provisions of this Chapter on the sum paid to a resident or on the sum credited to the account of a resident shall not be deemed to be an assessee in default in respect of such tax if such resident—

(i) has furnished his return of income under section 139;

(ii) has taken into account such sum for computing income in such return of income; and

(iii) has paid the tax due on the income declared by him in such return of income, and the person furnishes a certificate to this effect from an accountant in such form as may be prescribed.

49. As per Rule 31ACB prescribes the form for furnishing certificate of accountant under the first proviso to sub section (1) of section 201 of the Income Tax Act 1961.

[Form for furnishing certificate of accountant under the first proviso to sub-section (1) of section 201.

31ACB. (1) the certificate from an accountant under the first proviso to sub-section (1) of section 201 shall be furnished in Form 26A to the Director General of Income-tax (Systems) or the person authorized by the Director General of Income-tax (Systems) in accordance with the procedures, formats and standards specified under sub-rule (2), and verified in accordance with the procedures, formats and standards specified under sub-rule (2).

(2) The Director General of Income-tax (Systems) shall specify the procedures, formats and standards for the purposes of furnishing and verification of the Form 26A and be responsible for the day-to-day administration in relation to furnishing and verification of the Form 26A in the manner so specified.]

50. The prescribed Form 26A is placed at Annexure C. It can be seen that there is a specific certificate that needs to be placed, before the Income Tax Authorities as per the requirements of the first proviso of sub-section (1) of section 201. The certificate needs to be given in the prescribed Form 26A from an accountant/ auditor after verification of all the particulars regarding the payer and payee.

51. The documents submitted by the Assessee before the DRP are placed at Annexure D. These same documents were submitted to the AO for verification by the Assessee in submissions dated 24.10.2017 following the DRP directions;

52. The DRP has asked the AO to verify whether the assessee falis within the second proviso of section 40(i)(ia) or not.

53.lt can be seen that the submissions given by the.Assessee before DRP and before the AO vide letter dated 24.10.2017 are in the form of letters “To whomsoever it may concern’’ from the following companies:

	Letter dated	Name of company
Annexure D2	15.4.2017	Annapoorna Agencies Pvt. Ltd.
Annexure D3	20.4.2017	RK Worldinfocom Pvt. Ltd.
Annexure D4	21.4.2017	Rocky Marketing Chennai) Pvt. Ltd.
Annexure D5	19.4.2017	SRK Marketing Pvt. Ltd.
Annexure D6	18.4.2017	Vision Cell Pvt. Ltd.
Annexure D7	21.4.2017	Salasar Associates Pvt. Ltd.

54. The documents submitted cannot be considered by the Assessing Officer for ascertaining whether the assessee falls within the second proviso of section 40(i)(ia) as:

a. Requirements of the first, proviso of sub-section (1) of section 201 of the Income Tax Act 1961 have not been fulfilled due to lack of furnishing of required form and prescribed certificate In which, the requisite details have to be furnished as required by the Income Tax Act and Rules.

b. These details are also required to be certified by an accountant/ auditor which has not been done in this case.

As the requirements of the first proviso of sub-section (1) of section 201 of the income Tax Act 1961 have not been fulfilled, the assessee does not fall within the second proviso of section 40(i)(ia) of the income Tax Act 1961 and therefore, disallowance of Rs 58,31,18,115.is being made.” (Repetition in the order of the AO)”

10. This leads to the question to adjudicate as to whether the assessee can be held to be a defaulter as per the provisions of Section 201(1) even when the recipient has offered the receipts to tax.

11. The fact in this case is that, prima facie the assessee has defaulted in deducting the tax and at the same time, the recipient has offered the amounts received to tax which is not in dispute. Creating a demand for non-deduction of tax while the recipient has paid taxes on the same amount would result in recovery of taxes on the same amount twice. We find that the ld. Assessing Officer has gone strictly by the letter and procedure of the Act leaving aside the spirit of the legislation.

12. The failure to adhere to the provisions of TDS result in delay of payments to the exchequer of the state, initiation of penalty provision u/s 271C and intervention in recovery provisions u/s 201(1). The Assessing Officer has to look into these provisions jointly and severally as to whether there was a default in recovery, whether there was a delay in recovery, whether there was a infarction of the penal provisions or not and invoke the appropriate provisions of the Act to deal with different situations.

13. Since, the issue raised before us pertain to the default of the recovery of taxes, we find that the taxes have been duly received by the state from the recipient and any further action to recover the same from the assessee would amount to double taxation. Hence the appeal of the assessee on this ground is hereby allowed.

Expenditure on free mobile sets given to dealers u/s  37(1):

14. The Assessing Officer disallowed the amount claimed by the assessee on account of free phones/mobile sets given to care centres employees and dealers.

15. During the relevant Assessment Year, the assessee claimed an amount of Rs. 9,47,59,095/- on account of FOC phones under the head ‘marketing expenses’. On perusal of the past years records, it was observed that marketing expense includes cost of mobile handsets, issued ‘free of cost’ to “After Marketing Service Centres” (“AMSC’s”), dealers and employees. Query was raised in this regard against the assessee to furnish the amount of such expenses incurred during the Previous Year relevant to Assessment Year 2012-13 and also why the same should not be considered in the nature of capital expenditure and disallowed similarly during the current AY.

16. In response, the assessee vide letter dated 13.12.2016 submitted its reply. The relevant portion of which is reproduced hereunder:

• ….that the expenses in the nature advertisement & publicity, consumer events & promotions and marketing expenses, incurred by the assessee during the previous year relevant to the subject AY have already been analyzed in detail by the learned Transfer Pricing officer during the course of TP assessment proceedings for the subject AY, it is submitted that expenses incurred by the assessee on FOC phones (clubbed in the aforesaid expenses) represents revenue expenditure completely allowable under the provisions of the Act, as discussed below.
• In accordance with the standard industry practice and also in its endeavour to maintain customer satisfaction and build brand loyalty, the assessee was required to provide warranty on its phones and replace defective phones in case they could not be repaired, during, the warranty period.
• Accordingly, the assessee, during the previous year relevant to the subject AY has incurred expenditure amounting to Rs. 9.48 crores on a total of 158,223 (number of handsets) issued free of cost (‘FOG’) to Care Centers, distributors and employees.
• A detailed breakup, of which is provided as under:

Particulars	Purpose	Quantity	Amount (in INR)
FOC Phones given under warranty to Care Centers	Replacement phones. given during warranty period	1,45,659	7,56,02,438
FOC phones issued to distributors	Display and Promotional phones to the distributors	8,610	1,26,78,721
FOC phones issued to employees	Phones to employees for interaction with distributors and other service organizations and also for indirect marketing of the products.	3,954	64,77,937
Total		1,58,223	9,47,59,095

17. The assessee has discussed in detail the reason for issuance, of such FOC phones to Care Centers, employees and distributors and why the same should be allowable as a deduction under Section 37(1) of the Act:

Mobile handsets issued to Care Centers

• During the previous year relevant to subject AY, the assessee provided quality repair services through its identified service partners. Such repair, services were provided through Care Centers located all across India. These Care Centers were operated by assessee’s service partners who used to issue new handsets to customers as “Swap hand-sets” i.e. new handsets/were issued to customers in the event the handset sold to the customer were found to be defective and could not be repaired during the warranty period.
• Since the customers were provided with a 12 month warranty on cellular handsets, the assessee was required to provide new cellular handsets to the Care Centers in the event the customers approached them with defective Nokia cellular handsets, which could not be repaired during the warranty period. It is re-iterated that FOC phones were provided to Care Centers in lieu of phones which could not be repaired during the warranty period and therefore could not be accounted for under the provision for warranty.

Sample cellular handsets were provided to such distributors/ retailers for display and promotional purposes either on a, “concessional” basis or on a “free of charge” basis. Provision of such handsets to the distributors/ retailers was required to enable such distributors/ retailers to display various cellular phones and demonstrate the functions of the handsets to the Indian customers. Accordingly, the said expenses have been incurred by the assessee wholly and exclusively for the purposes of business of the assessee.

Further, as the ownership in such handsets did not remain with the assessee and having regard to the manner in which the assessee’s business was organized in India, the number of distributors selling Nokia cellular handsets and the commercial reasons for which such expenses were incurred by the assessee, such expenditure undoubtedly represents a revenue expenditure, which has been incurred for the purpose of the business of the assessee. Thus the same should be allowable as a business expense under the provisions of Section 37(1) of the Act and disallowance in this regard is hot warranted in the case of the assessee.

Mobile handsets issued to Employees

The assessee issued cellular phones to its employees for official use. Given the business model of the assessee in India (trading in cellular handsets in India) it was imperative for its marketing employees to constantly interact with its distributors and other service organizations (like Care Centers etc.) for sale or servicing of cellular handsets in India. Cellular handsets were also issued to other employees for business use. Further the phones issued to the employees also acted as a passive/demonstrative advertisement strategy for reaching out to masses at large.

In order to facilitate the aforesaid, free of cost cellular handsets were provided by the assessee to its employees, entirely for the purpose of its business and accordingly, the same should be allowable as a tax-deductible expenditure under the provisions of Section 37(1) of the Act.

Further, the assessee followed a specific process for issuance of FOC phones to its employees and with substantial checks and balances in place to control their usage for business purpose. The process of issuance of mobile phones for any of the aforementioned purposes was initiated with a appropriately filled in stock requisition form submitted by a duly authorized person in this behalf, which,, inter alia detailed the number and model of handsets required along with the purpose for which the same shall be used. Such requisition forms (on a sample basis) have been enclosed as Annexure 2 for your ready reference.”

18. The ld. AR relied on the orders of various judgments and the ld. DR relied on the orders of the authorities below.

19. From the above, we find that the replacement phones given during the warranty period is of Rs.7.56 Crores and phones issued to employees and for promotion is of Rs.1.90 Crores. With regard to the FOC phones of worth of Rs.1.90 Crores, we find no dispute in allowing the same as business expenditure. There are no calms about this issue. With regard to the phones given as replacement, the same needs to be examined against the warranty expenses claimed by the assessee. The warranty includes maintenance of quality, performance of the phones, repairs and replacements. The warranty provision claimed in P&L account are allowed as revenue expenditure on year to year basis. Hence, the replacement of the handsets to customers in lieu of the non-repairable sets is already embedded on a forecast basis in the provisions for warranty. Hence, the AO is directed to examine the cost of replaced phones with that of warranties already claimed. With regard to the handsets given to the employees, dealers, stores for promotional and demonstration purposes, the same is to be allowed as business expenditure u/s 37(1) of the Act.

Deduction on account of Trade Price Protection:

20. During the course of assessment proceedings, assessee was asked by the AO to furnish the details for trade discount including the policy of trade discount, nature of the trade discount, accounting treatment of trade discount in the books of account and details of the parties to whom trade, discount have been given along with the amount of discount.

21. The assessee has submitted that it has incurred expenditure of Rs. 2,30,24,337/- as “Trade Price Protection discount”. The assessee has also provided some confirmations from distributors, confirming the amount of price protection available to them on sample basis.

22. Regarding the nature of the expense, the assessee has submitted the following explanation:

• The assessee was operating in a highly competitive and price sensitive market with rapidly evolving products and high technological obsolescence, wherein the sales of handsets offered by the assessee and its market share to a large extent depended upon the variety and prices of the handsets offered by the assessee and its competitors.
• Owing to various factors such as change in handset prices by the competitors, life of the model of the handset, new / similar handsets launched by the competitors, market demand of the handset model, the prices of handsets offered by the assessee was required to be varied/ reduced on a time to time basis. Such reduction in the price of the handset resulted in loss to the distributors, in respect of stock lying with them as they would be required to sell the handsets at a price lower than the price at which the same were purchased by them from the assessee.
• Accordingly, as a standard trade practice and also as a part of its sales strategy, the assessee provided protection to its distributors against the loss suffered by the distributors on account of such reduction/fall in the prices of handsets which is known as “Trade Price Protection” (‘TPP’).
• The TPP expense represents amount incurred wholly and exclusively for the purposes of the business carried on by the assessee and accordingly represents completely allowable revenue expenditure under the provisions of Section 37(1) of the Act.
• The said expenses have been reduced from, the sales made by the assessee. Party wise details of TPP expenses incurred by the assessee have been enclosed as Annexure 1 for your ready reference.
• As the TPP expenses have been incurred by the assessee for compensating the distributors for loss suffered by them due to fall / reduction in prices of the stock of mobile phones lying with them and such reduction in price is generally made With an objective of maintaining / increasing the market share of the assessee and increasing the sale of products, such expenses shall be considered to be incurred wholly and exclusively for the business of the assessee end hence completely allowable as a deduction under Section 37(1) of the Act.

23. The ld. DRP in their order dated 4.9.2017 has given the following directions:

The Assessee has been emphasizing the allowability of the expenditure u/s 37(1). There is no dispute that if the expenditure has been incurred wholly, and exclusively for the purpose of business, it must be allowed as an expenditure. What was expected out of the assessee was to explain the basis of the expenditure i.e. how the price protection was worked out and to give working of such expenditure party wise. The assessee failed to do so. Further the expenditure has to be reasonable as per the facts and circumstances of the case. The AO has mentioned that since the Price Protection was directly debited to the Sales hence it was not possible for him to verify it.

In view of the facts, mentioned by the AO, the Panel is unable to interfere with the findings of the AO. The objection is therefore rejected.”

24. Thus, the ld. DRP has confirmed the addition of Rs.2,30,24,337/- made on account of trade price protection. We find that the ld. DRP in principle has not disputed the allowability of the claim but only differed based on the confirmations which have been incomplete and on the methodology of quantifying the deduction. We find that the assessee has provided confirmations to the tune of Rs.74,28,167/- (as per the PB). We, after considering the entire issue and subsequent orders of the revenue, hereby hold that the claim of the assessee on Trade Price Protection is allowable and direct the assessee to file the confirmations from dealers and discharge his onus so as to claim the entire expenditure. The appeal of the assessee on this ground is treated as allowed.

AMP Expenditure:

25. The assessee is a subsidiary of Nokia Corporation which holds more than 99% shares and the remaining are held by another subsidiary of Nokia Corporation.

26. The only dispute with regard to the comparables is the wrong selection of “Killick Agency and Marketing Ltd.” by TPO as confirmed by the ld. DRP. The said comparable was selected from the basis of broad FAR whereas the contention of the assessee was that the said comparable acts as an agent for commissioning of equipment to its principles and book revenue on the basis of completion of particular projects where as the assessee is involved in marketing distribution and sale of mobile phones and services in India.

27. We have gone through the Annual Report of “Killick Agency and Marketing Ltd.” with specific reference to the FAR and revenue of the company.

“Company’s earnings during the current year were higher due to commission income from Dredge sales to Government of Maharashtra and J&K. The recession in the Shipping industry in the World has shown some signs of receding.

However, the Indian Shipping industry has not shown any such signs. The established Shipyards like Bharati and ABG are facing financial difficulties and are still to execute orders received by them in earlier years. The New Shipyards like – Pipavav and Larsen & Toubro have secured some orders at very low prices; due to which the Marine equipment purchased by them are also at very low prices, which our Principals are not able to meet.

The Dredges supplied to both Maharashtra Maritime Board (MMB) and Irrigation & Flood Control Department, Government of Jammu & Kashmir were finally commissioned and have been put to good use. There have been a number of other Dredge enquiries, but none of the enquiries have progressed towards a new order.

The Defence sector has not seen any major purchases of Communication equipment and thus all the Defence Suppliers like Bharat Electronics Ltd., Tata Power Ltd. and Larsen & Toubro Ltd. have not received any major orders requiring Racal Headsets/Handsets. The Rhino Panther programme which needs a good quantity of Headsets is yet undecided.

During this year the Ship-lighting business from Glamox has done well as Ship Lights are generally purchased last.

Efforts continue to be put into N.E.I., the newly acquired Ballast Water Treatment Systems Agency. The International ratification for these systems is taking time and due to which the requirements of this equipment are still not on a regular basis. However, we are hopeful that the future prospects for this Agency are good.

The Company signed an Agency Agreement with Maritime Partner AS, Norway for Fast Rescue/Patrol Boats. We have started putting efforts into this agency and are hopeful of business in near future.

The Service Department is regularly servicing and commissioning the SCHOTTEL equipment supplied in the Country. Their efforts are appreciated by the Principals and are also contributing to Company’s revenue. We have plans to increase the number of Service personnel.

In beginning September 2012, SMM at Hamburg was attended, as also there were visits from our Principals to India for local business promotion.

We are hoping that the revival of Indian Shipbuilding industry will commence soon. Also, we are hopeful that the Defence sector will resume purchase of Communication equipment.”

28. The assessee before us is involved in marketing & distribution and sales of mobile phones (including accessories) and services in India. Nokia Sales functions as a limited risk distributor entity & is assured of an arm’s length return on the total sales made in India including sales of mobile phones & accessories purchased from Nokia India. Nokia Sales purchases high-end mobile phones and accessories from Nokia Corp. and other group companies for selling in the local market. As a part of its arrangement with its AEs, the assessee is required to undertake the following functions as part of its distribution activities in India.

√  Warehousing/stocking of imported goods

√ Marketing

√ Warranty

√ Corporate, Finance, Accounting, Treasury and Legal services

√ Personnel resources / HR management function

29. The assessee also undertakes similar functions in order to sell its goods and earn profits on the same. Accordingly, the above functions have been documented while performing functional analysis of the assessee’s import transaction, in the assessee’s TP documentation for the year. The assessee also provides the following services to its AE in addition to advertising and marketing services:

√ Collation of market information

√  Sale support services

√ Distribution channel management services

√ Warranty services

30. Functions Performed by the assessee:

In this connection, the TP report, has been examined. Some relevant portions are cited below.

“Nokia Sales has employed a team of personnel for carrying out the domestic marketing and local brand building activities. The marketing team is engaged in the local brand promotion and marketing of the Nokia mobile phones in India in accordance with the global guidelines received from Nokia Corp. The global presence of “Nokia” brand name provides brand equity in India as well as overseas which supports Nokia Sales marketing efforts.

Strategic management functions

Nokia Corp is responsible for strategic planning, monitoring, management and control of the operations of Nokia group entitles worldwide. With respect to trading operations in India, Nokia Corp receives strategic inputs from Nokia Sales & basis such inputs & group strategies is responsible for developing the sales & growth strategy in India. However, generally, all local policies within Nokia Sales are determined by its own management who continuously monitor the economic environment surrounding the company, assess its strategic position within the industry and target to achieve the broad group objectives.

Product, Design and Development (R&D function)

Nokia Corp is responsible for generating and developing new products. & designing and developing new technologies for mobile communication. The constant development of new products and technologies provide the group with the necessary advantage over its competitors in the global mobile handset market. Nokia India does not play any role in R&D functions.”

The portions of the TP study report that have been cited above, show clearly that the assessee is operating under the directions and for the benefit of the AE.

Remuneration Model of the assessee:

From the Transfer Pricing Report it is seen that as per the group transfer pricing policy, the pricing of products between the assessee and its AE is regulated in a manner that ensures that the assessee earns an arm’s length return with respect, to its distribution activity. Therefore, based on the price level development in the market and competitive pricing pressures, if at the year end, the assessee is not able to achieve arm’s length return with respect to its distribution activity, then as per the global policy, it receives credit notes from its AE to achieve an arm’s length return on sales, thereby enabling the assessee to achieve an arm’s length margin after considering all operating cost including AMP cost. The relevant text of the global policy of Nokia Corp substantiating the remuneration policy of the assessee is as below:

“Distribution”

In respect of sales of the physical & digital products, Nokia subsidiaries have a risk free distributor status, i.e. they bear practically no risk in terms of R&D, manufacturing, market, inventory, currency, or credit exposures. The only risk faced by distribution function in Nokia subsidiaries is the volume risk (i.e. reduction or termination of local operations).

Transfer prices charged to subsidiaries are calculated so that they give the sales company an arm’s length compensation for the function performed, value added, risks carried, and assets employed by the sales subsidiary. The sales subsidiaries purchase the products at resale minus transfer price. The price is adjusted according to the price level development in the market, and operating cost changes in the sales subsidiary. Thus, the price risk is borne by Nokia Corporation who sells the products to the sales subsidiary. For tax purposes, the outcome of the transfer prices is benchmarked at operating profit level of the distribution function of each sales subsidiary.”

31. On going through the revenue modeling as well as the FAR of both the entities, we find that while the assessee is dealing with sale, distribution, product design development and other allied activities with relation to sale of mobile handsets, the comparable is into earning of commission by the way of supply of markets Marine Equipment like specialized Propulsion Systems, Marine Engines, Industrial & Marine Gear Boxes, Ballast Water Treatment System, Special Purpose Sea Going Vessels, Industrial & Marine Exhaust System, Ship Lighting & Navigation Lighting systems, Dredges and dredge equipment, Ship Building Presses, Rescue Boats and Specialised Davits, Reverse Osmosis Water Systems and Special Acoustic Communication Equipment for defense. Hence, we direct that comparable namely M/s. Killick Agency and Marketing Ltd. be deleted from the list of the comparables.

32. In the result, the appeal of the assessee is allowed Order Pronounced in the Open Court on 25/10/2021.