Transfer Pricing – Scope of +/- 5% tolerance adjustment to ALP explained

INCOME TAX APPELLATE TRIBUNAL

ITA No. 5890/Del/2010

Assessment Year: 2006- 07

M/s IHG IT Services (India) Vs. Income Tax Officer

ORDER

PER BENCH:

This Special Bench was originally constituted under Section 255(3) of the Income-tax Act, 1961 by the Honorable President, Income Tax Appellate Tribunal, vide order dated 16^th March, 2012, consisting of Shri G.E.Veerabhadrappa, President, Shri G.D.Agrawal, Vice President and Shri Rajpal Yadav, Judicial Member, inter alia, to consider and decide the following question:-

“Whether prior to insertion of second proviso to Section 92C(2), the benefit of 5% tolerance margin as prescribed under proviso to Section 92C(2) of the ITAct, 1961 for the purposes of determining the arm’s length price of an international transaction is allowable as a standard deduction in all cases, or is allowable only if the difference is less than 5%.”

2. However, the Special Bench has been reconstituted under Section 255(3) of the Income-tax Act, 1961 by the Honorable President, Income Tax Appellate Tribunal, vide order dated 22^nd February, 2013, consisting of Shri G.D.Agrawal, Vice President, Shri S.V.Mehrotra, Accountant Member and Shri Rajpal Yadav, Judicial Member to consider and decide the aforesaid question.

3. At the time of hearing before us, the learned counsel for the assessee fairly admitted that after the amendment by Finance Act, 2012 with retrospective effect from 1.4.2002, the question posed before the Special Bench appears to have been settled against the assessee. He, however, submitted that the Pune Bench of ITAT, vide order dated 23^rd July, 2012 in the case of Piagio Vehicle P.Ltd. Vs. DCIT in ITA No.1480/PN/2010, has taken the view that the assessee is entitled to benefit of adjustment of +1- 5% variation while computing the arm’s length price (ALP). That the above decision of ITAT is after coming into force the Finance Act, 2012, by which, second proviso to Section 92C of the Income-tax Act, 1961 has been modified with retrospective effect. He, therefore, submitted that in view of the above decision of Pune Bench, the assessee is entitled to benefit of 5% tolerance margin for the purpose of determining the arm’s length price of the international transaction. He further stated that even otherwise, the amendment made by the Finance Act, 2012 with retrospective effect from 1.4.2002 is constitutionally invalid. Therefore, the question posed before the Special Bench should be answered in affirmative, i.e., in favour of the assessee.4. The learned Departmental Representative, on the other hand, stated that the amendment made by the Finance Act, 2012 is constitutionally valid and the learned counsel for the assessee is not at all justified in claiming the same to be invalid. He further stated that the ITAT has no power to adjudicate upon the constitutional validity of any provisions of the Income-tax Act. With regard to the decision of ITAT Pune Bench cited supra, he stated that such decision has not considered the amendment by the Finance Act, 2012. Therefore, this decision is per incuriam because it failed to consider the provisions of the Income-tax Act, i.e., the amendment made by the Finance Act, 2012 to Section 92C(2) with retrospective effect. He, therefore, stated that the question before the Special Bench should be answered in favour of the Revenue i.e., the benefit of 5% tolerance margin is allowable only if the difference is less than 5%.

5. We have carefully considered the arguments of both the sides and perused the material placed before us. Before we proceed to consider the arguments of the parties, it would be appropriate if we narrate the history of Section 92C(2) of the Income-tax Act, 1961. Section 92C(2), before the amendment by Finance (No.2) Act, 2009, reads as under:-

“(2) The most appropriate method referred to in sub­section (1) shall be applied, for determination of arm’s length price, in the manner as may be prescribed:

[Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices, or, at the option of the assessee, a price which may vary from the arithmetical mean by an amount not exceeding five per cent of such arithmetical mean.j”

6. Finance (No.2) Act, 2009 with effect from 1.10.2009 substituted proviso to Section 92C(2) with two provisos. The position of Section 92C(2) after the amendment by Finance (No. 2) Act, 2009 with effect from 1.10.2009 is as under:-“(2) The most appropriate method referred to in sub­section (1) shall be applied for determination of arm’s length price, in the manner as may be prescribed:[Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices:

Provided further that if the variation between the arm’s length price so determined and price at which the international transaction has actually been undertaken does not exceed five per cent of the latter, the price at which the international transaction has actually been undertaken shall be deemed to be the arm’s length price.].”

7. That Finance Act, 2012 with retrospective effect from 1.4.2002 has modified the second proviso to Section 92C. The position of Section 92C(2) after the Finance Act, 2012 reads as under:-“(2) The most appropriate method referred to in sub­section (1) shall be applied, for determination of arm’s length price, in the manner as may be prescribed:

[Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices:

Provided further that if the variation between the arm’s length price so determined and price at which the international transaction [or specified domestic transaction] has actually been undertaken [does not exceed [such percentage of the latter, as may be notified] by the Central Government in the Official Gazette in this behalf], the price at which the international transaction [or specified domestic transaction] has actually been undertaken shall be deemed to be the arm’s length price.]

[Explanation. = For the removal of doubts, it is hereby clarified that the provisions of the second proviso shall also be applicable to all assessment or reassessment proceedings pending before an Assessing Officer as on the 1st day of October, 2009.j”

8. From the above, it is evident that before the amendment by the Finance (No.2) Act, 2009 with effect from 1.10.2009, there was no dispute that the assessee had an option to claim the benefit of 5% tolerance margin while determining the arm’s length price. However, after the amendment by the Finance (No.2) Act, 2009 with effect from 1.10.2009, such benefit of 5% tolerance margin was restricted to the cases where variation between the arm’s length price and the price at which the international transaction has actually taken place does not exceed 5%. After the above amendment, there were contrary decisions of the ITAT on the issue of allow ability of benefit of 5% tolerance margin while determining the arm’s length price in the assessment years prior to 1.10.2009. In view of the apparent contrary decisions on the subject, the present Special Bench was constituted by the Honorable President to resolve the controversy. However, in the meanwhile, second proviso to Section 92C has been modified by the Finance Act, 2012 with retrospective effect from 1.4.2002, which is extracted above in paragraph No.7.

9. From the above second proviso to Section 92C(2), it is evident that if the variation between the arm’s length price and the price at which international transaction was actually undertaken does not exceed the specified percentage, then only the price at which the international transaction has actually been undertaken shall be deemed to be arm’s length price. Thus, the benefit of tolerance margin would be available only if the variation is within the tolerance margin. Once the variation exceeded the tolerance margin, then there would be no benefit even up to tolerance margin. Then, the ALP as worked out under Section 92C(1) shall be taken as ALP without any benefit of tolerance margin.

10. We have gone through the decision of ITAT Pune Bench in the case of Piagio Vehicle P.Ltd. (supra) wherein the ITAT held as under:-“17. In view of the precedent, the stand of the Revenue in the present case to deny the assessee benefit for adjustment of +1-5% variation while computing ALP is not justified. As per the Tribunal, though the amended proviso to section 92C(2) was applicable with effect from 10.10.2009, so however, for the reasons contained therein, it would not cover such like cases as is the case before us. In para 22 of the order, which has been reproduced above, it has been observed that the applicability of amendment is to be effective in respect of assessment years 2009-10 and subsequent years and such inference was found to be fortified by the decision of the Delhi Bench in the case of ACIT v UE Trade Corporation India (P) Ltd. vide ITA No. 4405(Del)/2009 date 24.12.2010. Apart from the aforesaid precedent, the assessee has also referred to certain Tribunal decisions, which are on similar lines. In view of the aforesaid discussion, we find no justification in the action of the lower authorities from dis entitling the assessee from its claim of +1-5% while computing ALP in terms of erstwhile proviso to section 92C(2) of the Act. On this aspect, we uphold the plea of the assessee. However, as we have remanded the matter to the file of the Assessing Officer with regard to the bench marking of transactions of Category ‘B’ and ‘C’ undertaken by the assessee with its AEs, on the instant aspect also, the Assessing Officer shall pass an order afresh considering the aforesaid precedent and the concurrent legal position prevailing on this subject.”

11. From the above, it is evident that the ITAT Pune Bench has followed the decision of ITAT Pune Bench and Delhi Bench which were rendered prior to amendment of second proviso to Section 92C(2) by the Finance Act, 2012 with retrospective effect. Though the decision of ITAT Pune Bench is after coming into force of the Finance Act, 2012, but, the amendment by the Finance Act, 2012 which has retrospective effect has not been considered by the ITAT Pune Bench. Therefore, in our opinion, the decision of ITAT Pune Bench is per incuriam and cannot be said to be good law after the retrospective amendment to the second proviso to Section 92C(2) by the Finance Act, 2012.