Commissioner Of Income Tax v. Keihin Panalfa Ltd

$~ * + IN THE HIGH COURT OF DELHI AT NEW DELHIITA11/2015 COMMISSIONER OF INCOME TAX Appellant Through: Mr Ashok Manchanda and Mr ArjunHarkauli, Standing Counsels. Versus KEIHIN PANALFA LTD. Respondent Through: Mr Satyen Sethi and Mr Aita TranaPanda, Advocates. + AND ^^A12/2015 COMMISSIONER OF INCOME TAX AppellantThrough: Mr Ashok Manchanda and Mr ArjunHarkauli, Standing Counsels. Versus KEIHIN PANALFA LTD. LTD. RespondentThrough: Mr Satyen Sethi and Mr Arta TranaPanda, Advocates. CORAM: HON'BLE DR. JUSTICE S.MURALIDHARHON'BLE MR. JUSTICE VIBHU BAKHRU ORDER09.09.2015 % 1. These appeals have been preferred by the Revenue under Section 260A of the Income Tax Act, 1961 (hereafter the 'Act') impugning a common order passed by the Tribunal in ITA 3287/Del/2011 and5546/Del/2012. The said appeals were also preferred by the Revenue againstthe orders passed by the Commissioner of Income Tax (Appeals) [hereafter'CIT(A)'] on 29/03/2011 and 27/08/2012 allowing the appeals preferred bythe Assessee against the assessment orders passed by the Assessing Officer(hereafter 'AO') in respect of the Assessment Years 2004-05 and 2005-06respectively. 2. The controversy involved in the present case relates to the TransferPricing Adjustment (hereafter 'TP Adjustment') made by the AO in respectof international transactions relating to the purchases made and the royaltypaid by the Assessee to Keihin Corporation, Japan (hereafter 'KC'). 3. as under :- The relevant facts relating to the assessment year 2004-05 are narrated 3.1 The Assessee is engaged in the manufacture and sale of air-conditioners for cars manufactured by Honda Siel Cars India Ltd. During therelevant previous year, the Assessee entered into 'international transactions'for purchase of parts and components; payment of guidance fee; payment ofroyalty; and payment of fees for technical know-how. As the international />«g.2o//0 transactions were more than Rs.5 crores in value, a reference was made toTransfer Pricing Officer (hereafter 'TPO') for determining of the Arm'sLength Price (hereafter 'ALP') under the provisions of Section 92CA of theAct. 3.2 The Assessee submitted a Transfer Pricing Report calculating theALP by using Transactional Net Margin Method (hereafter 'TNMM') andusing the ratio of Operating Profit to Capital Employed as the Profit LevelIndicator (hereafter 'PLI'). The TPO accepted TNMM as the appropriatemethod but rejected the PLI adopted by the Assessee. He used OperatingProfits to Total Cost as the appropriate PLI and computed the PLI ofcomparables at 8.29% as against the Assessee's PLI of 6.22%. 3.3 The total operating income/revenue of the Assessee for the relevanttotal operating income/revenue of the Assessee for the relevantoperating income/revenue of the Assessee for the relevantincome/revenue of the Assessee for the relevantof the Assessee for the relevantthe Assessee for the relevantAssessee for the relevantfor the relevantthe relevantrelevantperiod was Rs.72,24,22,000/-. Applying the margin of 8.29% - asdetermined by the TPO on the basis of selected comparables - the TPOconcluded that the total operating expenses ought to have beenRs.66,71,17,924/-. Since the actual operating expenses incurred by theAssessee during the period were Rs.68,00,88,000/-, the TPO held that a TPAdjustment of Rs. 1,29,70,076/- ought to be made in respect of expenses The total operating income/revenue of the Assessee for the relevanttotal operating income/revenue of the Assessee for the relevantoperating income/revenue of the Assessee for the relevantincome/revenue of the Assessee for the relevantof the Assessee for the relevantthe Assessee for the relevantAssessee for the relevantfor the relevantthe relevantrelevant The total operating income/revenue of the Assessee for the relevanttotal operating income/revenue of the Assessee for the relevantoperating income/revenue of the Assessee for the relevantincome/revenue of the Assessee for the relevantof the Assessee for the relevantthe Assessee for the relevantAssessee for the relevantfor the relevantthe relevantrelevant attributable to the international transactions. Insofar as the payment ofroyalty of Rs. 1,24,41,118/- is concerned, the TPO had held that no royaltywould be payable if the transactions were on Arm's Length basis asaccording to the TPO, the Assessee was functioning as a contractmanufacturer. The TPO observed that all the sales were being made by thepetitioner to Honda Siel Cars India Ltd. and 99.99% of the said companywere held by Honda Motors Co. Ltd. (Japan), which also held 41.33% of KC(the AE in the present case). KC in turn held 74% shares in the Assessee.The TPO reasoned that since the products being manufactured by theAssessee were specifically designed for Honda Cars Produced by HondaSiel Cars India Ltd. and the technical designs and intellectual property rightswere held by their parent/group companies, the Assessee was in effectmanufacturing for its related enterprise and, therefore, payment of anyroyalty on sales would be unreasonable. The TPO made observations to theeffect that the payment of royalty had, in fact, inflated the operating costsand was "villain of the piece". 3.4 The Assessing Officer passed an Assessment Order dated 26^''December, 2006 making an addition of Rs. 1,29,70,076/- on account of TPAdjustment made by the TPO. The Assessee had reflected Rs. 1,24,41,000/- The Assessing Officer passed an Assessment Order dated 26^'' Page 4 of 10 as expenses on Royalty. The TPO computed the ALP for royalty as Nil,which was subsumed in the TP Adjustment of Rs. 1,29,70,076/-. In addition,the AO disallowed 25% of the expenses on account of royalty amounting toRs.22,53,000/- as being capital in nature. 4. With respect to the Assessment Year 2005-06, the TPO did not drawany adverse inference with respect to the international transactions exceptthe transaction relating to payment of royalty. The TPO followed a similarreasoning as adopted in respect of Assessment Year 2004-05 and passed anorder dated 24^*^ October, 2008 directing the AO to make an addition of asum of Rs. 1,97,40,726/- being the amount of royalty, for the Financial Year2004-05. The AO, following the directions of the TPO, made an addition ofthe aforesaid sum and passed an assessment order dated 29^^ December,2008.5. The Assessee preferred appeals before the CIT(A) against theassessment orders dated 26"" December, 2006 in respect of the AssessmentYear 2004-05 and assessment order dated 29^*" December, 2008 in respect ofthe Assessment Year 2005-06. 6. The CIT(A), by an order dated 29^*" March, 2011 allowed the 6. The CIT(A), by an order dated 29^*" March, 2011 allowed the Assessee's appeal against the assessment order dated 26"" December, 2006.Before the CIT(A) the Assessee contended that the computation of the TPAdjustment was flawed, inasmuch as, the TPO had also attributed TPAdjustments relating to uncontrolled third party transactions to theinternational transactions. The international transactions in issue constitutedonly 23.38% of the total expenses and, therefore, the adjustment on accountof operating expenses attributable to international transaction wouldnecessarily be in the same proportion. According to the Assessee, the samewould amount to Rs.30,33,593/-. The expenses attributable to theinternational transaction (i.e. 23.38% of the total expenses) amounted toRs. 15,90,66,935/- and after the TP Adjustment, the expenses on Arm's-Length basis were computed at Rs. 15,60,33,342/- (i.e. 15,90,66,935/- 30,33,593/-). The Assessee further contended that 5% of the ALP computedas above would amount to Rs.78,01,667/-. The Assessee urged that the TPAdjustment fell within the aforesaid range and, therefore, by virtue ofsecond proviso to Section 93CA, no TP Adjustments were liable to be made.This contention was accepted by the CIT(A) and the TP Adjustments madeby the AO were deleted. 7. The CIT(A) also held that the TPO was in error in holding that no royalty was payable. The CIT(A) held that the functions performed by theAssessee included procurement and inventory management, production andmanufacturing planning, co-ordination of production and sales, import ofgoods, maintenance of production facilities and quality control functions;therefore, the Assessee could not be considered as a contract manufacturer.The CIT(A) also held that the TPO exceeded its jurisdiction by rejecting theagreements entered into between the Assessee and the KC and notcomputing the ALP in accordance with the Act. 8. The CIT(A) also allowed the appeal preferred by the Assessee againstan order dated 29^'' December, 2008 passed by the AO in respect ofAssessment Year 2005-06 for the same reasons as indicated in respect of theappeal relating to Assessment Year 2004-05. 9. The Revenue appealed against the decisions of the CIT(A) before theTribunal. Before the Tribunal, the Assessee conceded that it had noobjection to the decision of the TPO regarding the adoption of PLI ofOperating Profit to Total Cost. However, the Assessee urged that theadjustments computed in respect of the entire expenses could not be loadedon the international transactions. The Tribunal upheld the orders passed by Page 7 of 10 the CIT(A) and rejected the appeals by a common order dated 6'^ May,2014. 10. The learned counsel appearing for the Revenue contended that theTribunal has grossly erred in apportioning the adjustment on account ofexpenses over the uncontrolled transactions and international transactions.He urged that in respect of the Assessment Year 2004-05, the entireadjustment on account of the difference in operating expenses ofRs. 1,29,70,076/- as determined by the TPO ought to have been adjusted onlyagainst the international transaction, which admittedly constituted only23.38% of the operating income/revenue. He next referred to the technicalcollaboration agreement dated 12^^ September, 1997 entered into betweenKC and the Assessee and contended that the royalty paid by the Assesseewas in excess of the amounts as computed under the said agreement. 11. Insofar as the contention that the amounts paid were not in accordancewith the agreement between the Assessee and the KC is concerned, we findthat no such contention had been urged by the Revenue either before theCIT(A) or before the Tribunal. Therefore, in our view, no such plea can bepermitted to be taken for the first time in these proceedings. I 11. Insofar as the contention that the amounts paid were not in accordancewith the agreement between the Assessee and the KC is concerned, we findthat no such contention had been urged by the Revenue either before theCIT(A) or before the Tribunal. Therefore, in our view, no such plea can bepermitted to be taken for the first time in these proceedings. I 12, The contention that the adjustment on account of expenses asdetermined by the TPO must be attributed entirely to the internationaltransaction is bereft of any merits. During the Financial Year 2003-04relating to the Assessment Year 2004-05, the Assessee had reported anoperating income of Rs.72,24,22,000/-. The total expenses for the saidperiod amounted to Rs.68,00,88,000/-. Admittedly, the internationaltransactions in question amounted to Rs. 15,90,66,935/- which were only23.38% in value of the total expenses. The TPO had determined the PLI(Operating Profit over Total Cost) of comparable cases at 8.29% against6.22% as declared by the Assessee. Applying the PLI of comparable cases,the adjusted total expenses were computed at Rs.66,71,17,924/-, thus,indicating an adjustment of Rs. 1,29,70,076/-. As is apparent fi-om the above,the said adjustment related to entire expenses and not just the internationaltransactions alone. Since the international transactions only constituted23.38%, a TP Adjustment proportionate to that extent could be made inrespect of such international transactions. Thus, only an adjustment ofRs.30,33,593/- could be attributed to the international transactions inquestion. The same was accepted by the CIT(A) as well as the Tribunal. Wedo not find any infirmity with their decision. 13. We also find no infirmity with the view of CIT(A) and the Tribunalthat the Assessee had acted like any other Original Equipment Manufacturer(OEM) and could not be treated as a j ob worker or a contractor. 14. We find no substantial question of law that arises for ourconsideration in these appeals. Accordingly, the appeals are dismissed. Noorder as to costs. S.MURALIDHAR, J SEPTEMBER 09, 2015RK VIBHU BAKHRU, J