CIT Vs Apotex Research Pvt. Ltd. (Karnataka High Court)
Loss Filter Fails, Revenue Changes Tack: Karnataka HC Upholds Inclusion of Transfer Pricing Comparable
The Dispute: Why Was the Comparable Excluded?
The Karnataka High Court dismissed the Revenue’s appeal against the Tribunal’s direction to include Neeman Medical International (Asia) Ltd. as a comparable for determining the arm’s length price of transactions undertaken by Apotex Research Private Ltd.
The controversy turned on the actual reason for excluding the company. Before the Transfer Pricing Officer and the Tribunal, the objection concerned its alleged status as a consistently loss-making company. Before the High Court, the Revenue argued that the company was functionally dissimilar.
The Court found that functional dissimilarity had not been the basis of the earlier exclusion and that the Revenue could not identify any error in the Tribunal’s factual finding that Neeman was not consistently loss-making. Consequently, no substantial question of law arose.
Revenue Challenges the Tribunal’s Selection of Comparables
The appeal arose from the Bangalore Tribunal’s order dated 23 November 2012 in ITA No. 918/Bang/2011, concerning assessment year 2007–08.
The Revenue projected four questions of law. Broadly, it challenged the Tribunal’s reliance on decisions of other Benches for rejecting comparables, its treatment of the TPO’s reasons and its conclusion concerning the arm’s length price of services rendered to associated enterprises.
The specific question concerning Neeman alleged that Apotex provided pharmaceutical research and development services, whereas Neeman carried on clinical research, making their activities different. The Revenue therefore characterised the Tribunal’s direction to include Neeman as perverse.
However, the Tribunal’s findings showed that the dispute before it had proceeded on a different footing: functional comparability was not disputed by the TPO.
Earlier Dismissal and Supreme Court Remand
The High Court had initially dismissed the appeal on 10 July 2018, holding that no substantial question of law arose.
In doing so, it referred to CIT v. Softbrands India Pvt. Ltd., decided on 25 June 2018, and observed that an appeal under section 260A would not be maintainable unless the Tribunal’s findings were ex facie perverse.
The Supreme Court did not accept that view and remanded the matter to the High Court along with several other cases.
When the appeal returned for consideration, the Revenue’s counsel stated that the third question, concerning the inclusion of Neeman, could be considered as a substantial question of law. The High Court accordingly examined the Tribunal’s findings on that issue.
A Loss Does Not Establish Consistent Losses
The Tribunal had recorded that the TPO did not dispute Neeman’s functional comparability with the assessee. The reason given for excluding it was that it had incurred a loss in financial year 2004–05.
The Tribunal examined the financial statements and held that Neeman was not a consistently loss-making company. It emphasised that applying a consistent-loss filter required losses to be consistent; the existence of a loss in the cited year did not, by itself, establish that condition.
The Tribunal also noted that the assessee’s application under section 154 concerning this issue had not been rejected by the TPO.
On that basis, it directed that Neeman, being otherwise functionally comparable, should be considered for comparability purposes.
The distinction was therefore between incurring a loss and satisfying the particular filter of consistently incurring losses. The Tribunal found that the latter condition had not been established.
Functional Dissimilarity Was Not the Earlier Objection
Before the High Court, the Revenue contended that Neeman should be excluded because it was functionally dissimilar.
The Court noted that, admittedly, this was not the ground on which the Department had earlier sought its exclusion. The Tribunal’s findings also showed that no such contention had been advanced before it.
The Department’s objection had been that Neeman consistently incurred losses. The Tribunal had examined that assertion and found it factually incorrect.
Crucially, the Revenue was unable to point out any error in that finding. In these circumstances, the High Court held that no question of law arose and dismissed the appeal.
Author’s Comments
The decision illustrates the importance of identifying and substantiating the precise ground for excluding a comparable. Functional dissimilarity and persistent losses are separate objections, each requiring its own factual foundation.
Where functional comparability was undisputed and exclusion rested on a consistent-loss filter, an appeal must meaningfully address the Tribunal’s finding on that filter. Merely advancing a different objection does not establish that the finding under challenge is erroneous.
The ruling should also be read within its factual limits. It does not declare that Neeman is universally comparable with every pharmaceutical research enterprise, nor does it prohibit every exclusion involving a loss-making company. It upholds the Tribunal’s conclusion on the record of this particular case.
For practitioners, the practical lesson is clear: a filter must be supported by facts that satisfy that filter. Equally, the Supreme Court’s remand did not automatically establish a substantial question of law. Upon examining the actual controversy, the High Court again found no basis for interference.
Cases Discussed:
1. Commissioner of Income Tax and Another Vs M/s Softbrands India Pvt. Ltd. – I.T.A. Nos. 536/2015 c/w 537/2015, decided on 25.06.2018 – Referred to in the earlier order; Supreme Court subsequently did not accept the view and remanded the matter.
FULL TEXT OF THE JUDGMENT/ORDER OF KARNATAKA HIGH COURT
1. The department has filed the present appeal under Section 260-A of the Income Tax Act, 1961 [the Act], inter alia, impugning the order dated 23.11.2012 passed by the Income Tax Appellate Tribunal, Bengaluru [the Tribunal] in I.T.A.No.918/Bang/2011 for the Assessment year 2007-08. The department had projected the following questions of law for consideration:
“1. Whether the Tribunal was right in imposing the decision of the other benches of the Tribunal in the case of assessee to reject the comparables, when selection of comparables in a case depends in Transfer Pricing on assessee specific?
2. Whether the Tribunal was correct in rejecting the comparables selected by the Assessing Officer on the basis of the decision of the Tribunal without taking into consideration the reasons assigned by the Transfer Pricing Officer and also when selection of a case as a comparable is a assessee specific?
3. Whether the Tribunal correct in directing inclusion of Neeman Medical International [Asia] Limited as a comparable, when the business activity of the assessee company i.e., pharmaceutical research and development services and the business of the comparable company is clinical research and the activities were different and recorded a perverse finding?
4. Whether the Tribunal was correct in holding that, the services rendered by the assessee to its associated enterprises has to be considered at arms length price and no adjustment on arms length price to be made without taking into consideration the reasons assigned by the Transfer Pricing Officer for arriving at the adjustment in arms length price and recorded a perverse finding?”
2. The said questions were considered by this Court and, by an order dated 10.07.2018, this Court found that no substantial questions of law arose in the present appeal and, accordingly, dismissed the same.
3. This Court had also referred to the earlier decision in Commissioner of Income Tax and Another V. M/s Softbrands India Pvt. Ltd.1 and observed that, unless the findings of the learned Tribunal are found to be ex facie perverse, an appeal under Section 260A of the Act would not be maintainable.
4. The Supreme Court did not accept the said view and, therefore, the present matter was remanded to this Court along with several other petitions.
5. The learned counsel appearing for the department fairly states that third question may be considered as a substantial question of law.
6. We note that the learned Tribunal’s findings in this regard are as under:
“17. Now we will consider the claim of the assessee that Neeman Medical International (Asia) Limited is not a consistently loss making company and therefore it should not have been excluded for comparability purposes on the said ground. In this regard, we find that the TPO does not dispute the fact that Neeman Medical International (Asia) Limited is functionally comparable with that of the assessee. The only reason given by the TPO for excluding the aforesaid company in the list of comparables is that for the F.Y. 2004-05, this company made a loss. It is, however, noticed that from the profit & loss account of this company for the year ended 31.03.2006 which contains the figures of income & expenditure as on 31.03.2005 that income of this assessee was ₹4.05 crores and the expenditure before tax was ₹4.38 crores. Thus, Neeman Medical International (Asia) Limited is not a consistently loss making company. To apply the filter of consistent loss making company, it is necessary that the loss should be consistent whereas in the case of Neeman Medical International (Asia) Limited, the losses are not consistent as can be seen from the above. We also find that the assessee’s application u/s. 154 of the Act in this regard has not been rejected by the TPO. We are therefore of the view that Neeman Medical International (Asia) Limited which is otherwise functionally comparable, should be considered for the purpose of comparability.”
7. It is contended on behalf of the department that the Neeman Medical International (Asia) Ltd. is not a comparable, as it is functionally dissimilar. Concededly, functional dissimilarity was not the ground on which the department had sought to contend that the said entity was not comparable with the Assessee. The findings of the learned Tribunal also indicate that no such contention was advanced. The department had sought to exclude Neeman Medical International (Asia) Ltd. as a comparable, on the ground that it had consistently incurred losses. The learned Tribunal, however, found as a matter of fact that the said assertion was not correct; the said company was not a consistently loss making company. The department is unable to point out any error in this finding.
8. In the given circumstances, no question of law arises for consideration in this appeal. Accordingly, the appeal is dismissed.
Note:
1 I.T.A.Nos.536/2015 c/w 537/2015 decided on 25.06.2018
