RPM most appropriate method for trading segment

Karcher Cleaning Systems Pvt Ltd. Vs ACIT (ITAT Delhi)

The assessee is a pure trading company involved in the distribution activity without adding any value to the purchased product and hence the RPM is the most appropriate method.
Facts-

The assessee is a subsidiary of Karcher Beteilgungs GmbH which started its commercial activities on 16.04.2011 and is primarily engaged in the business of importing and resale of industrial cleaning systems in India.

Transaction pertaining to the purchase of goods for the purpose of resale in India has also been analyzed using Internal Comparable Uncontrolled Price Method.

During the course of transfer pricing assessment proceedings, the TPO objected to the arm’s length margin computed in relation to the trading segment, by rejecting RPM adopted by the assessee for the trading segment and applied Transactional Net Margin Method (TNMM) to benchmark the trading segment.

Conclusion-

Held that the assessee is a pure trading company involved in the distribution activity without adding any value to the purchased product and hence the RPM is the most appropriate method. We, accordingly, direct the Assessing Officer/TPO to accept RPM as the most appropriate method and decide the issue accordingly.

FULL TEXT OF THE ORDER OF ITAT DELHI

This appeal by the assessee is preferred against the order dated 20.10.2016 framed u/s 143(3) r.w.s 144C(13) of the Income-tax Act, 1961 [hereinafter referred to as ‘The Act’] pertaining to Assessment Year 2012­13.

2. Briefly stated, the facts of the case are that the assessee is a subsidiary of Karcher Beteilgungs GmbH which started its commercial activities on 16.04.2011 and is primarily engaged in the business of importing and resale of industrial cleaning systems in India.

3. In its TP documentation, a brief summary of economic analysis in respect of trading activities can be summarized as under:

4. Transaction pertaining to purchase of goods for the purpose of resale in India has also been analyzed using Internal Comparable Uncontrolled Price Method.

5. During the course of transfer pricing assessment proceedings, the TPO objected to the arm’s length margin computed in relation to trading segment, by rejecting RPM adopted by the assessee for the trading segment and applied Transactional Net Margin Method (‘TNMM’) to benchmark the trading segment.

6. The TPO selected 3 out of the 4 comparable companies selected by the assessee. A summary of the operating margins of the final comparable companies selected by the TPO is as below :

7. Objections were raised before the DRP wherein a partial relief was provided to the assessee by considering segmental margin earned by Orient Paper and Inds. Ltd.

8. Before us, the ld. counsel for the assessee vehemently stated that the assessee is primarily engaged in trading of goods and it does not add value to the goods purchased from relates party which are further resold to unrelated parties.

9. It is the say of the ld. counsel for the assessee that the assessee has provided functional, asset and risk [FAR] analysis in its TP documentation which substantiates the characterization of the assessee as a normal distributor. The ld. counsel for the assessee further pointed out that it has already been substantially demonstrated before the Customs Office that the goods imported by the assessee are not for the purpose of local assembly into finished goods which has been accepted by the Customs Department.

10. The ld. counsel for the assessee vehemently objected to the rejection of most appropriate method adopted by the assessee.

11. Per contra, the ld. DR strongly supported the findings of the Assessing Officer/TPO.

12. We have given thoughtful consideration to the orders of the authorities below. It is not in dispute that the assessee is engaged in trading of goods. It is also not in dispute that the assessee does not add value to the goods purchased from related parties. The scope of inter company agreement is mentioned as “AKW grants to KFC according to the following terms the right of importation and sale of products determined by AKW in the Republic of India. Re-export to other countries is principally not allowed”.

13. Under the clause ‘Relationship’, it has been mentioned “The relationship between AKW and KFC is that of manufacturer and distributor or that of licensor and licensee respectively. KFC is not the agent of AKW and has no right to bind AKW in any way whatsoever”.

14. We further find that the TPO himself observed that the reseller generally performs the functions of advertising, marketing, distribution and guaranteeing the goods, financing the stocks and warranty risk. We find that the assessee is also performing all these functions which a normal distributor/reseller would undertake in a comparable uncontrolled transaction.

15. We are of the considered view that the extent of incurring expenses including employee costs for performing these functions is the prerogative /business decision of a company’s management based on the market penetration policies adopted by a company. The characterization of a reseller, who does not add value to the purchased product would not change owing to the mere fact that the tested party and comparables have incurred varying levels of employee costs, or selling and distribution, or marketing and promotion expenses for boosting company’s own sales volume.

16. In our humble opinion, since the expats came to help the assessee to set up its business and employee costs included an exceptional expenditure amounting to Rs. 1,61,62,594/- for two of its expatriate employees towards payment for salaries and other expenses for the purpose of stabilizing the business in India as it was the first year of the company’s operations.

17. This fact has also been appreciated by the DRP.

18. The co-ordinate bench of the Tribunal Mumbai Bench in ITA No. 6956/MUM/2012 in the case of M/s Videojet Technologies [I] Pvt Ltd. has made the following observations:

“Further, we find that another reason given by the TPO/DRP for rejecting the RPM is that the assessee as per them was a full-fledged/full risk distributor and was performing a host of functions which would involve huge costs and, hence, the said method may not represent correct gross profit margin. We are unable to persuade us to accept the said observations of the lower authorities, because, in our considered view, in a comparable uncontrolled transaction scenario also a normal distributor will undertake all such functions which are related to sales of a product viz. market research, sales and marketing, warehousing, inventory control, quality ITA No.6956/Mum/2012 M/s Video jet Technologies (I) Pvt Ltd. control etc., and would also bear risks viz. market risk, inventory risk, credit risk etc. As a matter of fact, the TPO/DRP had not placed on record instances of any such comparable which is engaged in the business of a distributor and is not performing the aforementioned functions. We are of the considered view that for the purpose of application of RPM what is relevant is that as to whether there is any value addition or not to the goods purchased for resale or not. In case, there is no value addition and the finished goods which are purchased from the AE are resold in the market in the same form, then the gross profit margin earned on such transactions becomes the determinative factor for benchmarking the international transaction of the assessee with its AE by taking RPM as the most appropriate method. Our aforesaid view is supported by the order of ITAT Pune Bench in the case of Fresenius Kabi India (P) Ltd. Vs. DCIT (ITA No. 235/Pun/2013), wherein it was held that in case of a distribution activity, the selling and marketing expenses which are borne by the assessee would not lead to any value addition to the product in question. We, thus, in terms of our aforesaid observations vacate the view taken by the TPO/DRP, who had concluded that the freight, transaction cost, insurance discounts, rebates, packaging, duties, etc. would affect the reliability of gross profit margin as PLI for the purpose of comparison. In terms of our aforesaid observations, we are of the considered view that the TPO/DRP while dislodging the RPM followed by the assessee for benchmarking its international transactions, had lost sight of the fact that only the transaction of import of goods by the assessee from its AEs were to be benchmarked and all the other functions carried out by the assessee having no nexus with the said import transactions were, thus, not relevant for the said benchmarking analysis.

19. This Tribunal in Nokia India Pvt Ltd 153 ITD 508 has held that incurring of high advertisement and marketing expenses by the assessee vis-a-vis the other comparable companies does not in any manner affect the determination of ALP under RPM.

20. Similar view was taken by the Pune Bench of the Tribunal in ITA No. 235/PUN/2013.

21. Considering the facts of the case in totality, we have no hesitation to hold that the assessee is a pure trading company involved in the distribution activity without adding any value to the purchased product and hence the RPM is the most appropriate method. We, accordingly, direct the Assessing Officer/TPO to accept RPM as the most appropriate method and decide the issue accordingly.

22. Since we have held that RPM is the most appropriate method, on the facts of the case in hand, all the other issues raised by the assessee will be decided accordingly.

23. In the result, the appeal of the assessee in ITA No. 6507/DEL/2016 is allowed.

The order is pronounced in the open court on 25.05.2022 in the presence of both the rival representatives.