Gruner India Private Limited v. Director Of Income Tax(Transfar Pricing)-1

$~3 *IN THE HIGH COURT OF DELHI AT NEW DELHI +ITA 708/2016 GRUNER INDIA PRIVATE LIMITED..... AppellantThrough: Ms. Prem Lata Bansal, Sr. Adv. with Mr.Paras Chaudhary, Adv. versus DIRECTOR OF INCOME TAX(TRANSFAR PRICING)-1 ..... Respondent Through: Mr. Dileep Shivpuri, Mr. Sanjay Kumarand Mr. Vikrant A. Maheshwari, Advs. CORAM:HON'BLE MR. JUSTICE S. RAVINDRA BHATHON'BLE MR. JUSTICE NAJMI WAZIRIO R D E R%20.12.2016 1.Issue notice. 2.Mr. Dileep Shivpuri accepts notice for the respondent.Withconsent, the appeal is taken up for disposal. 3.The question of law sought to be urged in this appeal by theassessee is: whether the Income Tax Appellate Tribunal (in short theTribunal) was right in holding that segregation of the transactionincluding inter alia royalty and fee for technical services, was notpermissible in the circumstances of the case. 4.The facts necessary for disposal of this appeal, having regard tothe final order that this Court proposes to pass, are that the assesseeentered into an arrangement with the Gruner AG towards licensing ofits brand and also for supply of technical know-how.These were evidenced by two agreements dated 06.03.2009 and 25.06.2009. Thefirst agreement was a trademark and technical know-how licensingarrangement which required the assessee to pay a fixed percentage i.e.8% of the net ex-factory sale price exclusive of excise and otherduties, in accordance with the formulae agreed upon by the parties.The second agreement dated 25.06.2009 was for the purposes ofproviding “High Technical Support” on a continuous monitoringbasis.In terms of the latter agreement the assessee agreed to theposting of foreign company’s personnel in its unit; their principal/employer cost to be reimbursed on the basis of a calculation agreedupon in terms of the contract. 5.The consideration was reimbursable on man-hour basis. In theconcerned Assessment Year (AY) i.e. AY 2011-12 the assessee’sTransfer Pricing (TP) Report was considered and the two transactions,which were aggregated were considered, and the TPO decided todesegregate the technical support arrangement and the amountsremitted thereunder and applied the Comparable Uncontrolled Price(CUP) method.The assessee’s appeal – to the Dispute ResolutionPanel (DRP) and thereafter to the Tribunal, were to no avail.Therefore, this appeal is preferred before this Court under Section260A of the Income Tax Act 1961(in short the Act). 6.It is urged by Ms. Bansal, the learned senior counsel, that twoagreements and the amounts paid thereunder were part of a compositeunderstanding between the parties i.e. the licensor on the one handand the assessee on the other. It was a commercial compulsion whichdrove the assessee to accept the terms of this agreement.In the circumstances, the Revenue’s action in desegregating a part or acomponent of the package and subjecting it to a separate method, toarrive at the ALP i.e. the CUP method was inappropriate.Thelearned counsel highlighted that so far as the other transactions wereconcerned, the AO accepted the application of the Transactional NetMargin (TNM) method. 7.Mr. Shivpuri, the learned counsel for the respondent, urged thatonce the de-segregation is possible, the most appropriate methodmandated by law, i.e. Section 92C of the Act along with Rule 10B, isthat the separated transactions are to be viewed independently throughthe most appropriate method and that the corollary, therefore, was theapplication of the CUP method. circumstances, the Revenue’s action in desegregating a part or acomponent of the package and subjecting it to a separate method, toarrive at the ALP i.e. the CUP method was inappropriate.Thelearned counsel highlighted that so far as the other transactions wereconcerned, the AO accepted the application of the Transactional NetMargin (TNM) method. 7.Mr. Shivpuri, the learned counsel for the respondent, urged thatonce the de-segregation is possible, the most appropriate methodmandated by law, i.e. Section 92C of the Act along with Rule 10B, isthat the separated transactions are to be viewed independently throughthe most appropriate method and that the corollary, therefore, was theapplication of the CUP method. 8.So far as the question of aggregation or desegregation, as thecase may be concerned, we notice that there can be no strait jacket orinviolable rule in this regard. The recent judgment of this Court inSonyEricssonMobileCommunicationIndia(P)Ltd.vsCommissioner of Income Tax (2015) 374 ITR 118 (Del) stated thataggregation of such transaction is permissible and relied upon theOECD Commentary in this regard. At the same time the observationsare not in fact determinative or conclusive. The Court was careful toleave the issue open for examination having regard to the facts ofeach case. In other words, as to whether the assessee’s claime thataggregation is essential in a given case is an entirely fact dependentexercise to be viewed having regard to the nature of the transactionand the surrounding circumstances. The assessee contends that theamounts paid under the royalty license and technical support agreements had to be viewed along with all other expenses and,therefore, aggregated. The Revenue’s contention, however, is to thecontrary. 9.Recently in the judgment of this Court in Magneti MarelliPowertrain India Pvt. Ltd. vs Deputy Commissioner of Income Tax(2016) 290 CTR (Del) 60, this Court had observed after noticing thejudgment in Sony Ericsson (supra) as well as in the Commissioner ofIncome Tax vs. EKL Appliances Ltd. (2012) 345 ITR 241 (Del), andobserved as follows: “.....14.The assessee/appellant during 2008-09 enteredinto four License & Technology Assistance Agreements(LTAAs) with its overseas AE for four products forobtaining ECU technology. In return for the technicalknow-how, the assessee agreed to compensate the AEthrough a fee amounting to US $ 2 million for each LTAA(total US$ 8 million equivalent to over ` 38 crores) oninstallment basis. It explained that the overseas AEprovides crucial and pivotal support to the assessee incarrying out its business in India by providing access topatented products and technology developed by it. Theassesseearguedthatwithoutreceivingsuchtechnology/technical know-how/ information/assistancefrom the overseas AE, the assessee would not be able toconduct/carry out manufacturing and sales of ECUs inIndia at all. The assessee strengthened this contention bysaying that it earned revenue of ` 42.23 crores from thesale of ECUs using the above mentioned technical know-how as a result of payment of ` 38.59 crores during FY2008-09. Further, the assessee also earned aggregaterevenue of ` 174.89 crores during a period of 3consecutive years (i.e. FY 2008-09, FY 2009-10 and FY2010-11) against a total payment of US $ 8,000,000,equivalent to ` 38.59 crores paid in FY 2008-09. During the transfer price proceedings, the assessee was unable tosubstantiate the need for payment of technical assistancefees to its foreign AE. The TPO has observed that theassessee tried to establish its case for the arm's lengthnature of the transaction by stating that it gained in theform of higher sales. The TPO observed that neither anycost benefit analysis nor any benchmarking exercise wasundertaken at the time of entering into the agreement. TheTPOs rejection of the TNMM method at entity level wasundoubtedly not correct. That, however, would notconclude the issue. the transfer price proceedings, the assessee was unable tosubstantiate the need for payment of technical assistancefees to its foreign AE. The TPO has observed that theassessee tried to establish its case for the arm's lengthnature of the transaction by stating that it gained in theform of higher sales. The TPO observed that neither anycost benefit analysis nor any benchmarking exercise wasundertaken at the time of entering into the agreement. TheTPOs rejection of the TNMM method at entity level wasundoubtedly not correct. That, however, would notconclude the issue. 15.The assessees argument that the technology itselfwould not have been given to it, but for the substantial fee(paid over and above the royalty payable), in the opinionof this court, requires a closer scrutiny. The initial burdenis always upon the assessee to prove that the internationaltransaction was at Arms Length. Its TP report necessarilyhad to draw a comparison with other entities (maybecompetitors) to show the general degree of profitability ofthe venture in question. The lower authorities quitecorrectly turned down the method of explaining thejustification of the technical fee-with "proof" of itsnecessity by relying on profits. Undoubtedly the assesseewas obliged to make the payment and that obligationarose from the agreements, a pre-incorporation bindingcontract. However, that such contractual obligationexisted cannot ipso facto be the end of the enquiry. ALPdetermination in respect of every payment that is part ofaninternationaltransactionistobeconductedirrespective of such obligation undertaken by the parties.If the transactions are, in the opinion of the TPO, not atarm's length, the required adjustment has to be made, asprovided in the Act, irrespective of the fact that theexpenditure is allowable under other provisions of theAct. There can conceivably be various reasons not tosubject such payments, such as for instance, if no similardata exists at all; or that sectional data for such paymentsis absent. Quite possibly, this may also be a general pattern of expenditure which AEs may insist to part withtechnology; further, similarly, other models of payment-deferred or lumpsum, along with royalty or inclusive of it,may be discerned in comparable transactions. However,to say that such a substantial amount had to necessarilybe paid and that it was a commercial decision, dictated byneed for the technology, in the light of a specific query, itcould not be said by the assessee that later profitsjustified it, or that has essentiality precluded the scrutiny. 16.In the light of the above discussion, this court holdsthat the explanation by the assessee that the payment of `38.58 crores in the circumstances was correctly notaccepted. The first question is answered against theassessee. The remit directed by the impugned order is,therefore, upheld. 10.In the light of the above discussion, it is held that the entireissue as to whether aggregation is warranted in the circumstances,should be gone into afresh in view of the law declared in SonyEricsson (supra) and clarified in Magneti Marelli (supra) above. 11.As far as the issue of most appropriate method is concerned,this Court is of the opinion that no definitive ruling ought to be givenat this stage. As to whether in the event of de-segregation the CUPmethod is the most appropriate rather than TNM method should inour opinion be left open for consideration depending on thedetermination of the issue of aggregation/ de-segregation itself.Inother words, that whether in the event of de-segregation, which wouldbe the appropriate method, should be left to the TPO to decide, afterhearing counsel for the parties. However, we clarify that in the eventit is held that aggregation is permissible in the facts of this case, thefindings of the Revenue authorities and the Tribunal that the TNMM method was warranted, would not be disturbed. 11.As far as the issue of most appropriate method is concerned,this Court is of the opinion that no definitive ruling ought to be givenat this stage. As to whether in the event of de-segregation the CUPmethod is the most appropriate rather than TNM method should inour opinion be left open for consideration depending on thedetermination of the issue of aggregation/ de-segregation itself.Inother words, that whether in the event of de-segregation, which wouldbe the appropriate method, should be left to the TPO to decide, afterhearing counsel for the parties. However, we clarify that in the eventit is held that aggregation is permissible in the facts of this case, thefindings of the Revenue authorities and the Tribunal that the TNMM method was warranted, would not be disturbed. 12.In the light of the above findings, the appeal is partly allowed.The matter is remitted for re-consideration by the concerned TPO,who shall hear counsel for the parties and render findings on bothaspects. S. RAVINDRA BHAT, J DECEMBER 20, 2016/kk NAJMI WAZIRI, J