M/s. Titan Industries Limited, Bangalore V. ACIT, CHENNAI

ITA 1592/CHNY/2007

• Counselvise Citation: [2016] 132 COUNSELVISE.COM (IT) 9308 (ITAT-CHENNAI)
• Duration Of Justice: 8 year(s) 11 month(s) 6 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 12-05-2016
• Appeal Filed By: Assessee
• Bench Allotted: D
• Assessment Year: 2003-2004
• Appeal Filed On: 05-06-2007
• Court: TRIBUNAL
• Department Lawyers: MILIND MADHUKAR BHUSARI
• Assessee Lawyers: K VASUDEVAN
• Keywords: Business income; Transfer pricing; Business expenditure; International transaction; Wholly owned subsidiary; Avoidance of tax; Commercial expediency
• Section: 92C; 92B; 80HHC; 37; 92

Judgement Text

, , IN THE INCOME TAX APPELLATE TRIBUNAL D BENCH, CHENNAI , ! ' #! ' $ . %& ' () BEFORE SHRI CHANDRA POOJARI, ACCOUNTANT MEMBER AND SHRI DUVVURU RL REDDY , JUDICIAL MEMBER ./ I.T.A.NO.1592 /MDS./2007 ( / ASSESSMENT YEAR :2003-04) M/S.TITAN INDUSTRIES LTD., 3,SIPCOT INDUSTRIAL COMPLEX, HOSUR 635 126. VS. ASSISTANT COMMISSIONER OF INCOME TAX, COMPANY CIRCLE III(2), CHENNAI-34. PAN AAACT 5131 A ( *+ / APPELLANT ) ( ,-*+ / RESPONDENT ) / APPELLANT BY : MR.K.VASUDEVAN,ADVOCATE / RESPONDENT BY : MR.MILIND MADHUKAR BHUSARI, CIT, D.R / DATE OF HEARING : 04.04.2016 ! /DATE OF PRONOUNCEMENT : 12.05.2016 . / O R D E R PER CHANDRA POOJARI, ACCOUNTANT MEMBER: THIS APPEAL IS FILED BY THE ASSESSEE IS DIRECTED AGAINST THE ORDER OF THE LEARNED COMMISSIONER OF INCOME TAX(A)- VIII, CHENNAI DATED 30.03.2007 PERTAINING TO THE ASSESSMENT YEAR 2003-04. ITA NO.1592/MDS/2007 2 2. THE FIRST GROUND IN THIS APPEAL IS WITH REGARD T O CONFIRMING THE ADDITION OF ` 8,03,34,404/- IN RESPECT OF ADVERTISEMENT EXPENDITU RE INCURRED BY THE ASSESSEE AT OVERSEAS. 2.1. THE BRIEF FACTS OF THE ISSUE ARE THAT M/S.TIT AN INTERNATIONAL MARKETING LTD.(TIML), UNITED KINGDOM HAS INCURRED A DVERTISEMENT EXPENDITURE AGGREGATING TO ` 854.08 LAKHS FOR VARIOUS INTERNATIONAL MARKETS. OUT OF THIS, A SUM OF ` 803.31 LAKHS IN CLAIMED BY THE PARENT/ASSESSEE COMPANY M/S.TITAN INDUSTRIED LTD.( TIL) AS ITS OWN EXPENDITURE. THIS SUM OF ` 803.31 LAKHS IS SAID TO BE THE ADVERTISEMENT EXPENDITURE OF THE ASSESSEE COMPANY I N INTERNATIONAL MARKETS ON WATCHES AS AGAINST THE TOTAL WATCH EXPOR TS OF ` 1237.69 LAKHS. IT CONSTITUTES 65% OF THE EXPORT TURNOVER. TIML,LONDON IS SAID TO HAVE INCURRED A TOTAL SUM OF ` 854.08 LAKHS TOWARDS SALES PROMOTION AND ADVERTISING EXPENSES OUTSIDE INDIA AN D THE BREAK-UP IS GIVEN BELOW:- ITA NO.1592/MDS/2007 3 PARTICULARS OF EXPENSES AMOUNT (RS. IN LAKHS) MEDIA TV 4.68 PRODUCTION PRESS 10.73 PRODUCTION TV 0.21 HOARDING 8.84 MERCHANDISING VM 12.38 PROMOTIONS 3.30 EXHIBITIONS/TRADE FAIRS 10.40 SPONSORSHIP 0.23 OTHER ADVT. IN PRINT MEDIA, NEWSPAPERS MAGAZINES, ETC. 803.31 THE ABOVE SALES PROMOTION AND ADVERTISING EXPENSES INCURRED BY TIML LONDON AND REIMBURSED BY TIL, INDIA IS CLAIMED BY TIL, INDIA AS ITS BUSINESS EXPENDITURE. THIS BEING AN INTERNAT IONAL TRANSACTION, THE TPO HAD PROCEEDED TO COMPUTE THE ARMS LENGTH P RICE (ALP) AND DETERMINED THE SAME AS ZERO. THE TPO CONSIDERED THE RISKS ASSUMED BY THE ASSESSEE COMPANY VIS-A-VIS THE ASSOC IATE ENTERPRISE, AS FURNISHED BY THE ASSESSEE WHICH IS E NUMERATED BELOW:- RISKS ASSUMED : A. CONTRACT RISK : AL THE CONTRACTS WITH THE LOCAL DISTRIBUTORS AND DEALERS ARE ENTERED INTO BY TIML ONLY AND HENCE IT UNDERTAKES THE CONTRACT RISK. ITA NO.1592/MDS/2007 4 B. MARKET /PRICE RISK : THE MARKET RISK AND THE PRICE RISK ARE UNDERTAKEN BY TIML AS IT FINALIZES THE PRICE AT WHI CH IT PRODUCTS COULD BE SOLD IN THE EUROPEAN MARKET. THEREFORE, A NY THREAT FROM COMPETITION AND OTHER EXTERNAL FACTORS ARE HAN DLED BY TIML. C. CREDIT RISK : AS THE CONTRACTS WITH THE DISTRIBUTORS/DEALERS A RE ENTERED INTO BY TIML, IT UNDERTAKES THE CREDIT RISK . D) QUALITY RISK : IN RESPECT OF THE PRODUCTS THAT ARE SOLD TO ITS CUSTOMERS IN EUROPEAN MARKET, TIML IS RESPONSIBLE F OR THE QUALITY OF THE SAME. HOWEVER, IF THE PRODUCTS SOLD BY TIL INDIA TO TIML ARE NOT OF STANDARD QUALITY, THEN, TIL UNDE RTAKES THE RISK OF REPLACING THOSE PRODUCTS TO TIML. E) FOREIGN RISK : AS THE CONSIDERATIONS FOR THE SALE OF PRODUCTS A RE PAID BY TIML IN FOREIGN CURRENCY, TIML ASSUMES THE FOREIGN EXCHANGE RISK. THE TPO WAS OF THE OPINION THAT THE ECONOMIC BURD EN OF ADVERTISEMENT RIGHTFULLY BELONGS TO THE AES ONLY. IF THE ASSESSEE HAD SOLD SIMILAR PRODUCTS TO NON-AES, IT SHOULD NOT HAV E PAID THEM FOR SUCH ADVERTISEMENT EXPENSES SINCE IT IS NOT ITS ECO NOMIC FUNCTION. ITA NO.1592/MDS/2007 5 ACCORDINGLY, THE ALP FOR THIS INTERNATIONAL TRANSAC TION DETERMINED AS NIL BY THE TPO. HENCE, THE AO, BASED ON THE TPOS REPORT, DISALLOWED ADVERTISEMENT EXPENDITURE INCURRED BY TH E ASSESSEE AT OVERSEAS. AGAINST THIS, THE ASSESSEE CARRIED THIS APPEAL BEFORE THE LD.CIT(A). 2.2.1 ON APPEAL BEFORE THE THE LD.CIT(A), THE ASSE SSEE STATED THAT THE TPO HAS FAILED TO APPRECIATE THAT THE BUSINESS OF THE ASSESSEE GETS AFFECTED AS THE ASSESSEE HAS A DIRECT INTEREST IN THE SALE OF THE PRODUCTS. ACCORDINGLY, IT BECOMES NECESSARY AND PER TINENT FOR THE ASSESSEE TO SPEND ON SALES PROMOTION EXPENSES WHICH IN TURN WOULD LEAD TO AN INCREASE IN EXPORT SALES AND INCOME OF T HE COMPANY. FROM THE ANALYSIS OF FUNCTIONS PERFORMED, RISKS ASS UMED AND ASSETS USED BY THE RESPECTIVE ASSOCIATED ENTERPRISES, ABOU T WHICH INFORMATION IS DETAILED IN THE TRANSFER PRICING DOC UMENTATION, IT IS FOUND THAT TIL HAS MANUFACTURED CERTAIN PRODUCTS AN D SUPPLIED THEM TO THE ASSOCIATED ENTERPRISES IN DIFFERENT GLOBAL M ARKETS. THE DESIGNS OF WATCHES SOLD IN THOSE MARKETS ARE UNIQUE AND THE Y HAVE BEEN DEVELOPED ABROAD BY INCURRING CONSIDERABLE EXPENDIT URE. ALL THESE EXPENSES HAVE BEEN CAPITALIZED TO THE ACCOUNT OF TI HBV, A TAX ITA NO.1592/MDS/2007 6 RESIDENT OF NETHERLANDS. THE DEVELOPED DESIGNS HAVE ALSO BEEN PATENTED IN FAVOUR OF TIHBV. THE WATCHES MANUFACTUR ED AND SUPPLIED BY TIL FROM INDIA HAVE BEEN MARKETED UNDER THE BRAND NAME TITAN IN THE GLOBAL MARKETS. OUTSIDE INDIA, THE BRAND TITAN IS OWNED GLOBALLY BY TBHNV, THE TAX RESIDENT OF NET HERLANDS. FOR REGISTERING / ACQUIRING THIS BRAND NAME IN VARIOUS COUNTRIES, CONSIDERABLE EXPENSES HAVE BEEN INCURRED AND THEY H AVE BEEN INCURRED BY TBHNV. 2.2.2 ACCORDING TO CIT(A), FOR THE MANUFACTURING AND SUPPLY OF WATCHES, TIL HAS BEEN PAID A MARKUP OF 9.73% ON TOT AL COSTS INCURRED FOR THE MANUFACTURING. IN VIEW OF THE FACT THAT THE DESIGN INTANGIBLES AND THE BRAND INTANGIBLES ARE OWNED BY NON-RESIDENT ENTERPRISES AND KEEPING IN MIND THE FAR ANALYSIS FO R THE ASSOCIATED ENTERPRISES, IT BECOMES CLEAR THAT TIL HAS PERFORME D THE FUNCTION OF A CONTRACT MANUFACTURER. LIKE IN THE CASE OF ANY OTHE R CONTRACT MANUFACTURER, THE REWARD FOR THE LIMITED RISK FUNCT ION PERFORMED BY TIL IS THE MARK UP EARNED BY IT OVER THE COST OF MA NUFACTURING. THE FINAL SALE PRICES OF THE PRODUCTS ARE DETERMINED BY ASSOCIATED ENTERPRISES ONLY. ANY PROFIT OR LOSS ARISING OUT OF THAT SALE ACTIVITY IS TO ITA NO.1592/MDS/2007 7 THEIR CREDIT ONLY. THEIR INCOME GENERATED FROM THE BUSINESS IS SUBJECT TO TAX IN THE RESPECTIVE TAX JURISDICTIONS AND NOT IN INDIA. FOR THE USE OF BRAND INTANGIBLES, THE MARKETING ENTERPRISES PAY ROYALTY AS THE FIXED PERCENTAGE OF SALE VOLUME TO TBHNV. TBHNV BEI NG A TAX RESIDENT OF NETHERLANDS, THE WHOLE OF THEIR ROYALTY INCOME IS SUBJECT TO TAX ON NETHERLANDS. THE FACTS BEING SO, THE INTERES T OF THE APPELLANT IN THE SALE OF THESE PRODUCTS IN FOREIGN MARKETS IS RE MOTE AND MORE INDIRECT. 2.2.3 ACCORDING TO CIT(A), THE SALES PROMOTION AN D ADVERTISEMENTS HAVE BEEN MAINLY DONE TO BOOST THE E XPORT SALE IN THE SHORT AND MEDIUM RUN IN THE OVERSEAS MARKET, THE BE NEFIT OF WHICH WILL ULTIMATELY BE CONSUMED BY THE ASSESSEE. THEREF ORE, IT CANNOT BE DENIED THAT THE BENEFITS FLOWING OUT OF THE SALES P ROMOTION EXPENSES INCURRED IN OVERSEAS MARKET ARE NOT INEXTRICABLY LI NKED WITH EXPORT SALES MADE BY ASSESSEE AS THE EXPORT OF WATCHES AN D OTHER PRODUCTS BY THE ASSESSEE DOES RESULT IN ADVANCEMENT OF ASSESSEES BUSINESS INTERESTS. FROM THE FACTS AVAILABLE ON REC ORD AND THE ARGUMENTS MADE BY THE TPO, IT IS FOUND THAT ANY INC OME/PROFITS ARISING OUT OF SAID SALE PROMOTION AND DEVELOPMENT EXPENDITURE ITA NO.1592/MDS/2007 8 DIRECTLY ACCRUED TO THE MARKETING ASSOCIATED ENTERP RISES I.E., TIML IN UK AND TAPL IN SINGAPORE. THE INCOME ACCRUES TO THE M DIRECTLY WHICH BECOMES LIABLE TO TAXATION IN THEIR JURISDICT IONS PART OF THE INCOME IS ALSO PAID TO TBHNV, NETHERLANDS IN THE FO RM OF ROYALTY AND IT IS ALSO TAXED THERE. THE BENEFIT THAT MAY AC CRUE TO TIL IN INDIA CAN BE IN THE FORM OF INCREASE IN SIZE OF THE ORDER FOR MANUFACTURING GOODS. AS TIL IS PAID ONLY A FIXED MARK UP OF 9.73% ON THE WATCHES MANUFACTURED AND SUPPLIED, THE BENEFIT DERIVED BY T IL IS VERY INDIRECT AND INADEQUATE CONSIDERING THE QUANTUM OF EXPENDITU RE SAID TO HAVE BEEN INCURRED 2.2.4 ANOTHER ARGUMENT TAKEN BY THE LEARNED TPO I S THAT SINCE THE BRAND INTANGIBLES EXCEPT FOR INDIA ARE HELD BY TITAN BRAND HOLDINGS NV (TBHNV, NETHERLANDS [EARLIER HELD BY T ITAN INTERNATIONAL HOLDINGS NV (TIHNV) AND SUBSEQUENTLY TRANSFERRED TO TBHNVJ, THE ECONOMIC RIGHTS OF THE INTANGIBLES BELONGS TO TBHNV AND NOT TO THE ASSESSEE. THE TPO FURTHER HAS HELD THAT THE ECONOMI C COST OF CREATING THE INTANGIBLES WAS BORNE BY TITAN INTERNA TIONAL HOLDINGS NV (TIHNV) AND THEREAFTER IT WAS TRANSFERRED TO TBHN V. THE ASSESSEE TOOK A PLEA THAT THE LEARNED TPO HAS FAILED TO APPR ECIATE TBHNV IS A ITA NO.1592/MDS/2007 9 100% SUBSIDIARY OF THE ASSESSEE AND THE ACQUISITION OF THE BRAND INTANGIBLE WAS FINANCED BY THE ASSESSEE. AS SUCH TH E ROLE OF TBHNV IS THAT OF A MERE LEGAL OWNER, THE ECONOMIC OWNER B EING THE ASSESSEE. IT IS NOT DISPUTED BY THE ASSESSEE THAT THE COST OF DEVELOPING THE DESIGNS AND MODELS FOR THE FOREIGN M ARKETS AS WELL AS FOR ACQUIRING / REGISTERING THE BRAND NAME IN VARIO US COUNTRIES HAVE BEEN INCURRED BY THE FOREIGN ASSOCIATED ENTERPRISES . THUS, IT IS SEEN THAT THE ECONOMIC BURDEN (ECONOMIC COSTS AND RISKS) OF DEVELOPING THE INTANGIBLES HAVE BEEN BORNE BY THE ASSOCIATED E NTERPRISES ONLY. TIL INDIA MIGHT HAVE INVESTED CAPITAL IN ITS ASSOCI ATED ENTERPRISES INCORPORATED ABROAD. BUT THE KEY TEST FOR DETERMINI NG THE ECONOMIC OWNERSHIP IS THE RELATIVE CONTRIBUTION OF PARTIES I N A CONTROLLED GROUP AND BENEFITS FLOWING FROM THE INTANGIBLES IN QUESTI ON. THIS IS REITERATED BY THE OECD GUIDELINES ALSO. ACCORDING T O CIT(A), THE FACTS ON RECORD SHOW THAT THE WHOLE OF THE EXPENDIT URE INCURRED IN THE INTANGIBLES HAVE BEEN BORNE BY THE ASSOCIATED ENTER PRISES. THE FLOWING OUT OF THOSE INTANGIBLES ARE ALSO BEING ENJ OYED BY THE ASSOCIATED ENTERPRISES ONLY. AT THE END, TIL BECOME S ELIGIBLE FOR THE RETURNS ON ITS INVESTMENT IN ASSOCIATED ENTERPRISES , BUT ONLY AFTER THE ITA NO.1592/MDS/2007 10 INCOME OF ASSOCIATED ENTERPRISES ARE SUBJECT TO TAX ATION IN THEIR RESPECTIVE JURISDICTIONS. HENCE, LD.CIT(A) WAS UNAB LE TO ACCEPT THE CLAIM THAT THE ASSOCIATED ENTERPRISES ARE MERELY TH E LEGAL OWNERS AND TIL IS THE DE FACTO OWNER. THE FACTS ARE OTHERW ISE. 2.2.5 THE NEXT ARGUMENT OF THE LEARNED AR WAS THA T IN THE INSTANT CASE SINCE THE SALES PROMOTION EXPENDITURE WAS INCURRED WITH THE OBJECT TO PROMOTE EXPORTS OF ASSESSEE FROM TIME TO TIME, THE SAME IS MOTIVATED BY ASSESSEES OWN BUSINESS INTERE ST AND THERE IS NEXUS BETWEEN THE EXPENSE INCURRED AND APPELLANTS BUSINESS INTEREST. AS ALREADY DISCUSSED, THE NEXUS BETWEEN T HE EXPENDITURE OF RS.8.03 CRORE AND THE ASSESSEES BUSINESS INTEREST IS VERY REMOTE AND INDIRECT. WHEREAS, THE DIRECT BENEFIT OUT OF SA LES PROMOTION AND ADVERTISING EXPENSES IN FOREIGN MARKETS HAVE FLOWED TO THE ACCOUNTS OF ASSOCIATED ENTERPRISES. 2.2.6 THE CIT(A) OBSERVED THAT THE TRANSFER PRICI NG PROVISION UNDER THE ACT IS AN ANTI-AVOIDANCE MEASURE INTRODUC ED BY THE INDIAN GOVERNMENT TO PROTECT ITS TAX BASE. THIS IS EVIDENC ED BY THE CBDT CIRCULAR NO.12 OF 2001 DATED 23.08.2001 REGARDING P ROVISIONS ITA NO.1592/MDS/2007 11 GOVERNING TRANSFER PRICING IN AN INTERNATIONAL TRAN SACTION. THE RELEVANT PART OF THE CIRCULAR IS REPRODUCED BELOW: THE AFORESAID PROVISION HAVE BEEN ENACTED WITH A V IEW TO PROVIDE THE STATUTORY FRAME WORK WHICH CAN LEAD TO COMPUTATION OF REASONABLE, FAIR AND EQUITABLE PROFIT TAX IN INDIA SO THAT THE PROFI T CHARGEABLE TO TAX IN INDIA DO NOT GET DIVERTED WHERE BY ALTERING THE PRICES CH ARGED AND PAID IN INTRA GROUP TRANSACTION TO EROSION OF OUR TAX REVENUES. AS THE ANTI-AVOIDANCE LEGISLATION IS REQUIRED TO BE INTERPRETED ON THE RULES OF STRICT INTERPRETATION, THE ADJUSTMENT MADE IS NOT CALLED FOR AND IS MISPLACED. 2.2.7 THE CIT(A) OBSERVED THAT THE PROVISIONS OF CHAPTER-X RELATING TO AVOIDANCE OF TAX HAVE BEEN APPLIED PROP ERLY TO THE INTERNATIONAL TRANSACTIONS CARRIED OUT BY THE APPEL LANT. THE APPELLANT HAS NOT EXPLAINED AS TO HOW THE ADJUSTMENT MADE IS NOT CALLED FOR AND HOW IT IS MISPLACED. THE INTERNATIONAL TRANSAC TIONS MADE BY THE APPELLANT ARE SUBJECT TO THE PROVISIONS OF CHAPTER X. THE TRANSACTIONS MADE BETWEEN TWO OR MORE ASSOCIATED ENTERPRISES ARE TREATED AS INTERNATIONAL TRANSACTIONS AS PER SECTION 92B OF TH E INCOME-TAX ACT. THE SECTION 92C STIPULATES THAT ARMS LENGTH PRICE SHALL BE DETERMINED FOR ALL SUCH INTERNATIONAL TRANSACTIONS. THE ARMS LENGTH PRICE MUST BE A PRICE WHICH IS APPLIED OR PROPOSED TO BE APPLIED IN A ITA NO.1592/MDS/2007 12 TRANSACTION BETWEEN PERSONS OTHER THAN AES, IN UNCO NTROLLED CONDITIONS. THUS, IT IS STATUTORILY ENJOINED UPON T HE TPO TO DETERMINE THE ARMS LENGTH PRICE FOR THE INTERNATIONAL TRANSA CTIONS OF THE APPELLANT. THE APPELLANT HAVING NOT PRODUCED ANY UN CONTROLLED TRANSACTION SIMILAR TO THE INTERNATIONAL TRANSACTIO N IN WHICH THE SALES AND ADVERTISEMENT EXPENSES HAVE BEEN BORNE BY THE C ONTRACT MANUFACTURER, THE ADJUSTMENT MADE BY THE TPO DOES N OT SUFFER FROM ANY LEGAL INFIRMITY. 2.2.8 THE ASSESSEE SUBMITTED THAT THE EXPENDITUR E IS INCURRED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF THE APPEL LANTS BUSINESS. THE LD. ASSESSING OFFICER SHOULD HAVE CONSIDERED TH E SIX GOLDEN RULES FOR ALLOWING EXPENSES UNDER THE SAID SECTION. IT MA Y BE NOTED THAT MORE OFTEN THAN NOT, THE NECESSITY OR THE COMPULSIO N OR LEGALITY IS CONSIDERED AS A BENCHMARK TO DECIDE WHETHER ANY EXP ENDITURE SHOULD HAVE BEEN INCURRED IN THE COURSE OF ITS OR H IS BUSINESS IT MAY BE NOTED THAT ORDINARILY, IT IS FOR THE ASSESSEE TO DECIDE WHETHER ANY EXPENDITURE SHOULD BE INCURRED IN THE COURSE OF IT S OR HIS BUSINESS THE EXPENSES INCURRED BY A TAX PAYER ARE TESTED U/S 37 OF THE INCOME-TAX ACT FOR THEIR ADMISSIBILITY IN THE COMPU TATION OF INCOME. ITA NO.1592/MDS/2007 13 BUT WHEN THE EXPENDITURE IS IN THE FORM OF AN INTER NATIONAL TRANSACTION BETWEEN AES AS DEFINED IN SEC. 92B OF THE IT ACT, T HEY HAVE TO BE SUBJECTED TO THE TEST OF ARMS LENGTH DEALING. THE AES MAY HAVE MANY BUSINESS AND COMMERCIAL CONSIDERATIONS BETWEEN THEM FOR STRUCTURING THE TRANSACTIONS IN A PARTICULAR WAY, B UT THEY HAVE TO BE SUBJECTED ULTIMATELY TO THE TEST OF ARMS LENGTH PR ICE IN THE COMPUTATION OF INCOME. THIS IS DONE FOR THE EXPRESS PURPOSE OF PROTECTING THE NATIONAL TAX BASE OF EACH COUNTRY AN D THIS PRINCIPLE IS EMBODIED IN MOST DOMESTIC TAX LAWS AND BOTH THE OEC D MODEL AND UN MODEL TAX TREATIES. 2.2.9 ACCORDING TO CIT(A), TIL, BEING THE ULTIMA TE PARENT OF ALL THE ENTERPRISES IN ITS GROUP SPREAD ACROSS THE GLOB AL MAY HAVE INTEREST IN EVERY ACTIVITY HAPPENING IN THE ENTIRE GROUP. BUT ALL THE TRANSACTIONS HAPPENING BETWEEN DIFFERENT ENTERPRISE S WITHIN THE GROUP SHOULD BE CARRIED OUT AT ARMS LENGTH, SO THAT CONT RACTING NATION DO NOT LOSE THEIR LEGITIMATE TAX BASES. HENCE, MERE SA TISFACTION OF THE REQUIREMENTS U/S 37 OF THE INCOME-TAX ACT IS NOT EN OUGH TO ALLOW THE INTERNATIONAL TRANSACTION AS AN ADMISSIBLE EXPENDIT URE. BY TAKING ON THE SALES AND ADVERTISEMENT EXPENDITURE OF RS.8.03 CRORES WHICH IS ITA NO.1592/MDS/2007 14 NOT ITS BURDEN, THE TAXABLE INCOME OF TIL IN INDIA HAS COME DOWN TO THAT EXTENT. TO THIS EXTENT, THE NATIONAL TAX BASE OF INDIA HAS BEEN ERODED. 2.2.10 BEFORE CIT(A), THE AR HAS RELIED ON THE DEC ISION OF HONBLE SUPREME COURT IN THE CASE OF S.A. BUILDERS REPORTED IN 288 ITR 01 (SC) AND HELD THAT THE HOLDING COMPANY HAS T O WATCH THE INTERESTS OF THE SUBSIDIARY COMPANY AND IN THE PRES ENT CASE THE TITAN (INDIA) HAS, THEREFORE, INCURRED THE SAID EXPENDITU RE SO THAT THE SUBSIDIARY COMPANY DOES NOT INCUR FURTHER LOSSES. F ACTS OF S.A. BUILDERS CASE ARE NOT SIMILAR TO THAT OF THE ASSESS EE COMPANY. THE SAID CASE DEALT WITH DOMESTIC TRANSACTIONS HAPPENIN G WITHIN THE COUNTRY. THE SUPREME COURT HAD HELD THAT IF INTERES T FREE ADVANCES HAVE BEEN GIVEN BY THE ASSESSEE TO THE SUBSIDIARY C OMPANY FOR COMMERCIAL EXPEDIENCY, NO INTEREST CAN BE CHARGED O R DISALLOWED IN THE HANDS OF THE ASSESSEE. IN THE SAID CASE, THE PA RENT ASSESSEE COMPANY AS WELL AS ITS WHOLLY OWNED SUBSIDIARY WAS LNDIAN COMPANIES, WHEREAS THE SAME IS NOT THE SITUATION IN THE CASE OF ASSESSEE COMPANY AND ITS FOREIGN ASSOCIATED CONCERN S. IN ALL DOMESTIC TRANSACTIONS, THE TAX BASE REMAINS WITHIN THE COUNTRY. ITA NO.1592/MDS/2007 15 WHEREAS, THE ASSESSEE COMPANY HAD MADE INTERNATIONA L TRANSACTIONS WITH ITS ASSOCIATED ENTERPRISES IN FOR EIGN TAX JURISDICTIONS. WHEN THERE IS A TRANSACTION BETWEEN TWO ASSOCIATED ENTERPRISES LOCATED IN DIFFERENT TAX JURISDICTIONS, THE TRANSACTION SHOULD BE AT ARMS LENGTH PRICE BASED ON SEPARAT E ENTITY APPROACH, AS PER SEC 92 OF THE I.T ACT. THIS IS AL SO THE PRINCIPLE EMBODIED IN TAX TREATIES, IN THE FIELD OF INTERNATI ONAL TAXATION, AND SUPPORTED SO BY BOTH THE OECD AND UN MODEL TAX TREA TIES. KEEPING IN VIEW THE ABOVE DISCUSSION, LD.CIT(A) REJECTED AL L THE CONTENTIONS OF THE ASSESSEE ON THIS ISSUE. HENCE, LD.CIT(A) ENDOR SED THE VIEW TAKEN BY THE TPO TO DETERMINE THE ALP. THEREFORE, T HIS GROUND OF APPEAL IS REJECTED. AGAINST THIS, THE ASSESSEE IS IN APPEAL BEFORE US. 2.3.1 BEFORE US, LD.A.R SUBMITTED THAT ADDITION O F ` 8,03,34,404/- REPRESENTS EXPENSES INCURRED TOWARDS ADVERTISEMENTS IN INTERNATIONAL MARKET. THE EXPENSES RELATE TO ADVERTISEMENTS IN M EDIA, PRESS, NEWSPAPER, MAGAZINES, EXHIBITIONS AND TRADE FARES. TIML, LONDON IS SAID TO HAVE INCURRED A TOTAL SUM OF ` 854.08 LAKHS TOWARDS SALES ITA NO.1592/MDS/2007 16 PROMOTION AND ADVERTISING EXPENSES OUTSIDE INDIA AN D THE BREAK-UP IS GIVEN BELOW:- PARTICULARS OF EXPENSES AMOUNT (RS. IN LAKHS) MEDIA TV 4.68 PRODUCTION PRESS 10.73 PRODUCTION TV 0.21 HOARDING 8.84 MERCHANDISING VM 12.38 PROMOTIONS 3.30 EXHIBITIONS/TRADE FAIRS 10.40 SPONSORSHIP 0.23 OTHER ADVT. IN PRINT MEDIA, NEWSPAPERS MAGAZINES, ETC. 803.31 THE ABOVE SALES PROMOTION AND ADVERTISING EXPENSES INCURRED BY TIML LONDON AND REIMBURSED BY TIL, INDIA IS CLAIMED BY TIL, INDIA AS ITS BUSINESS EXPENDITURE. 2.3.2 THE LEARNED TRANSFER PRICING OFFICER (TPO ) IN HIS ORDER HAS PAGE 17 HAS MENTIONED THAT THE POSITION OF TITAN IS THAT OF A CONTRACT MANUFACTURER AND IT SHOULD NOT HAVE UNDERTAKEN THE MARKETING FUNCTIONS IN THE INTERNATIONAL MARKET. THE LEARNED TPO HAS ALSO QUOTED THE LEVEL OF RISK UNDERTAKEN BY THE ASSOCIAT ED ENTERPRISES VIS- A-VIS THE APPELLANT AS REGARD THE MARKETING FUNCTI ON. THE APPELLANT SUBMITTED THAT THE LD. TPO HAS NOT PROPERLY AND FUL LY QUOTED THE ITA NO.1592/MDS/2007 17 PARAGRAPH WHICH THE ASSESSEE HAS STATED IN ITS TP D OCUMENTATION. THE RISKS ASSOCIATED WITH THE MARKETING AND DISTRIB UTION OF THE PRODUCT IS ASSUMED BY ASSOCIATED ENTERPRISES AS FAR AS EXPORTS ARE CONCERNED AND ALSO BY TIL TO THE EXTENT ITS BUSINES S IS AFFECTED. THE LD.A.R SUBMITTED THAT THE LEARNED TPO HAS FAILED TO APPRECIATE THAT THE BUSINESS OF THE APPELLANT GETS AFFECTED AS THE APPELLANT HAS A DIRECT INTEREST IN THE SALE OF THE PRODUCTS. ACCORD INGLY IT BECOMES NECESSARY AND PERTINENT FOR THE APPELLANT TO SPEND ON SALES PROMOTION EXPENSES WHICH IN TURN WOULD LEAD TO AN I NCREASE IN EXPORT SALES AND INCOME OF THE COMPANY. 2.3.3 FURTHER, COMPANIES TODAY ACT IN AN INCRE ASINGLY COMPETITIVE CORPORATE ENVIRONMENT. THE EXISTENCE AND OWNERSHIP OF MARKETING INTANGIBLES DO NOT AUTOMATICALLY IMPLY A MEASURABLE INCREASE IN SALE VOLUME AND INCOME. PRODUCTS AND SERVICES ARE EASILY REPLICABLE IN TODAYS ENVIRONMENT AND THE BIGGEST CHALLENGE FOR C OMPANIES IS TO COMPETE IN THE MARKET PLACE. IN LIGHT OF THE ABOVE, ADVERTISING, SALES PROMOTION AND PUBLICITY EXPENSES ACT AS AN IMPORTAN T MARKETING TOOL TO GEAR THE SALES OF THE PRODUCTS. ACCORDINGLY, THE APPELLANT HAS TO INCUR ADVERTISING AND SALES PROMOTIONAL EXPENDITURE S WITH REGULARITY ITA NO.1592/MDS/2007 18 TO MAKE THE PRODUCT FAMILIAR AND KNOWN TO THE CUSTO MERS. THE SALES PROMOTION AND ADVERTISEMENTS HAVE BEEN MAINLY DONE TO BOOST THE EXPORT SALE IN THE SHORT AND MEDIUM RUN IN THE OVER SEAS MARKET, THE BENEFIT OF WHICH WILL ULTIMATELY BE CONSUMED BY THE ASSESSEE. THEREFORE IT CANNOT BE DENIED THAT THE BENEFITS FLO WING OUT OF THE SALES PROMOTION EXPENSES INCURRED IN OVERSEAS MARKE T ARE NOT INEXTRICABLY LINKED WITH EXPORT SALES MADE BY APPEL LANT AS THE EXPORT OF WATCHES AND OTHER PRODUCTS BY THE APPELLANT DOES RESULT IN ADVANCEMENT OF APPELLANTS BUSINESS INTERESTS. 2.3.4 ANOTHER ARGUMENT TAKEN BY THE LEARNED TPO IS THAT SINCE THE BRAND INTANGIBLES EXCEPT FOR INDIA ARE HELD BY TITAN BRAND HOLDINGS NV (TBHNV), NETHERLANDS (EARLIER HELD BY T HAN INTERNATIONAL HOLDINGS NV (TIHNV) AND SUBSEQUENTLY TRANSFERRED TO TBHNV, THE ECONOMIC RIGHTS OF THE INTANGIBLES BELON GS TO TBHNV AND NOT TO THE ASSESSEE. THE LD. TPO FURTHER HAS HE LD THAT THE ECONOMIC COST OF CREATING THE INTANGIBLES WAS BORNE BY TITAN INTERNATIONAL HOLDINGS NV (TIHNV) AND THEREAFTER IT WAS TRANSFERRED TO TBHNV. THE LEARNED TPO HAS FAILED TO APPRECIATE TBHNV IS A 100% SUBSIDIARY OF THE APPELLANT AND THE ACQUISITIO N OF THE BRAND ITA NO.1592/MDS/2007 19 INTANGIBLE WAS FINANCED BY THE APPELLANT. AS SUCH T HE ROLE OF TBHNV IS THAT OF A MERE LEGAL OWNER, THE ECONOMIC OWNER B EING THE ASSESSEE. 2.3.5 IN THIS CONNECTION THE LD.A.R SUBMITTED THAT AS REGARDS OWNERSHIP OF THE BRAND NAME TITAN IS CONCERNED; TIT AN INDUSTRIES IS THE LEGAL OWNER OF THE TRADEMARK TITAN REGISTERED IN INDIA. IN ADDITION, TITAN INDUSTRIES IS DEFACTO THE BENEFICIA L OWNER OF THE TRADE MARK ACROSS THE WORLD ON ACCOUNT OF BEING THE EXCLU SIVE AND SOLE MANUFACTURER OF WATCHES SOLD UNDER THE BRAND NAME TITAN ACROSS THE GLOBE. A BENEFICIAL OWNER MEANS THE PERSON, WH O IS ENTITLED TO ENJOY THE ECONOMIC RIGHTS STEMMING FROM THE OWNERSH IP, ALTHOUGH THE OWNERSHIP HAS BEEN REGISTERED IN THE NAME OF SOMEON E ELSE (THE LEGAL OWNER), WHO HOLDS THE OBJECT IN HIS OWN NAME BUT ON BEHALF OF THE BENEFICIAL OWNER. 2.3.6 THE BENEFICIAL OWNERSHIP SIGNIFIES THE LEV EL OF ULTIMATE CONTROL OR ENTITLEMENT AS DISTINGUISHED FROM ME RE SIGNATURE AUTHORITY OR MERE LEGAL TITLE. SINCE TITAN BRAND HO LDINGS NV IS A 100% SUBSIDIARY OF TITAN INDUSTRIES, THE EFFECTIVE CONTR OL, MANAGEMENT, USE ITA NO.1592/MDS/2007 20 AND BENEFITS FLOWING OUT OF THE BRAND TITAN IN ACTU ALITY LIES WITH TITAN INDUSTRIES. 2.3.7 THE LD.A.R DREW OUR ATTENTION TO PARA 6.3 6 - 6.39 OF TRANSFER PRICING GUIDELINES FOR MULTINATIONAL ENTERPRISES IS SUED BY OECD WHICH ESSENTIALLY DEALS WITH TWO MAIN WAYS TO DETERMINE O WNERSHIP OF MARKETING INTANGIBLES LEGAL AND ECONOMIC OWNERSH IP AND ISSUES ARISING WHERE MARKETING ACTIVITIES ARE UNDERTAKEN B Y THE COMPANY WHO DOES NOT OWN THE TRADE NAME OR TRADEMARKS. THE OECD GUIDELINE DOES NOT ADOPT THE LEGAL OWNERSHIP CRIT ERIA. INSTEAD THE OECD GUIDELINE ADOPTS THE ECONOMIC OWNERSHIP CRIT ERIA. ECONOMIC OWNERSHIP IS DETERMINED BY THE IMPLICIT UNDERSTANDI NG THAT THE RELATED PARTY BEARING THE BEARING THE GREATEST ECONOMIC BUR DEN (ECONOMIC COSTS AND RISKS) OF DEVELOPING THE INTANGIBLE, IS T HE OWNER OF THE INTANGIBLE. THEREFORE, THE KEY TEST TO DETERMINE EC ONOMIC OWNERSHIP IS THE RELATIVE CONTRIBUTION OF PARTIES IN A CONTRO LLED GROUP AND BENEFIT FROM THE INTANGIBLE IN QUESTION. THE CONCEPT OF ECO NOMIC OWNERSHIP REFLECTS THE VIEW THAT THE OPPORTUNITY TO REALIZE I NCOME FROM AN INTANGIBLE SHOULD RESIDE IN THE SAME ENTITY THAT IN CURRED THE ECONOMIC COSTS AND BORE THE ECONOMIC RISKS TO DEVELOP THE IN TANGIBLE. IN OTHER ITA NO.1592/MDS/2007 21 WORDS, ECONOMIC OWNERSHIP TAKES ACCOUNT OF WHERE THE RISKS AND REWARDS OF OWNERSHIP LIE. IN THE INSTANT CASE, TITA N INDUSTRIES BEING THE SOLE & EXCLUSIVE MANUFACTURER OF WATCHES SOLD U NDER THE BRAND NAME TITAN ACROSS THE GLOBE, THE RISK AND REWARD ASSOCIATED WITH THE TRADE NAME TITAN ULTIMATELY FLOWS BACK TO TITA N INDUSTRIES EITHER IN TERMS OF INCREASE IN SALES OR OTHERWISE. IN THE INSTANT CASE SINCE THE SALES PROMOTION EXPENDITURE WAS INCURRED WITH T HE OBJECT TO PROMOTE EXPORTS OF APPELLANT FROM TIME TO TIME, THE SAME IS MOTIVATED BY APPELLANTS OWN BUSINESS INTEREST AND THERE IS N EXUS BETWEEN THE EXPENSE INCURRED AND APPELLANTS BUSINESS INTEREST. 2.3.8 NOTWITHSTANDING THE ABOVE ARGUMENTS, THE APPELLANT SUBMITTED THAT THE ADVERTISING EXPENSES WERE REIMBU RSED TO THE ASSOCIATED ENTERPRISE-TITAN INTERNATIONAL MARKETING LIMITED WAS AT COST THERE BEING NO MARK-UP. FURTHER, LD.A.R SUBMIT TED THAT THE TRANSFER PRICING PROVISION UNDER THE ACT IS AN ANTI -AVOIDANCE MEASURE INTRODUCED BY THE INDIAN GOVERNMENT TO PROTECT ITS TAX BASE. THIS IS EVIDENCED BY THE CBDT CIRCULAR NO.12 OF 2001 DATED2 3.08.2001 REGARDING PROVISIONS GOVERNING TRANSFER PRICING IN AN INTERNATIONAL TRANSACTION. AS THE ANTI-AVOIDANCE LEGISLATION IS R EQUIRED TO BE ITA NO.1592/MDS/2007 22 INTERPRETED ON THE RULES OF STRICT INTERPRETATION, THE ADJUSTMENT MADE IS NOT CALLED FOR AND IS MISPLACED. IN THIS CONNECTION , RELIANCE IS PLACED ON SUPREME COURT JUDGMENT IN THE CASE OF DHAKESHWAN COTTON MILLS VS. COMMISSIONER OF INCOME TAX, 26 ITR 775 WHEREIN THE SUPREME COURT OBSERVED THAT WHILE DETERMINING THE PROFIT ON AN ESTIMATE BASIS, THE ASSESSING OFFICER CANNOT ACT BASED ON SURMISES/ SUSPICIONS AND CONJECTURES. FURTHER, LD.A.R DREW ATTENTION TO THE GENERAL PRINCIPLES LAID DOWN UNDER SECTION 37 OF THE ACT FOR ALLOWABIL ITY OF EXPENDITURES: THE LD.A.R SUBMITTED THAT THE EXPENDITURE IS INCUR RED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF THE APPELLANTS BUSI NESS. THE LEARNED ASSESSING OFFICER SHOULD HAVE CONSIDERED THE SIX GO LDEN RULES FOR ALLOWING EXPENSES UNDER THE SAID SECTION. IT MAY BE NOTED THAT MORE OFTEN THAN NOT, THE NECESSITY OR THE COMPULSION OR LEGALITY IS CONSIDERED AS A BENCHMARK TO DECIDE WHETHER ANY EXP ENDITURE SHOULD HAVE BEEN INCURRED IN THE COURSE OF ITS OR H IS BUSINESS. IT MAY BE NOTED THAT ORDINARILY, IT IS FOR THE APPELLANT T O DECIDE WHETHER ANY EXPENDITURE SHOULD BE INCURRED IN THE COURSE OF ITS OR HIS BUSINESS. 2.3.9 LD.A.R SUBMITTED THAT THE EXPRESSION WHOL LY AND EXCLUSIVELY DOES NOT DENOTE NECESSARILY THE WOR D WHOLLY REFERS TO ITA NO.1592/MDS/2007 23 QUANTUM OF EXPENDITURE. THE WORD EXCLUSIVELY REFE RS TO MOTIVE, OBJECTIVE OR PURPOSE WITH WHICH THE PARTICULAR EXPE NSE HAS BEEN INCURRED. ORDINARILY, IT IS FOR THE ASSESSEE TO DEC IDE WHETHER ANY EXPENDITURE SHOULD BE INCURRED IN THE COURSE OF IT OR HIS BUSINESS. SUCH EXPENSES CAN BE INCURRED VOLUNTARILY AND WITHO UT NECESSITY. IF IT IS INCURRED FOR PROMOTING THE BUSINESS AND TO EARN THE PROFITS, THE ASSESSEE CAN CLAIM THE DEDUCTION. REFERENCE IN THIS CONNECTION MAY BE MADE TO SASSOON J. DAVID AND CO. P. LTD. V. CIT (1979) 118 ITR 261 (SC) WHEREIN THE APEX COURT EVEN CONSIDERED THE CIRCUMSTANCE THAT AS A MATTER OF FACT THE WORD NECESSARILY FOU ND PLACE IN THE INCOME-TAX BILL, 1961, BUT WAS DROPPED BY THE LEGIS LATURE IN FAVOUR OF THE EXPRESSION WHOLLY AND EXCLUSIVELY. IN THE CAS E OF ATHERTON V. BRITISH INSULATED AND HEISBY CABLES LTD. (1925) 10 TC 155 (HL), IT WAS OBSERVED BY VISCOUNT CAVE L.C. AS UNDER (PAGE 1 91): A SUM OF MONEY EXPENDED, NOT OF NECESSITY AND WITH A VIEW TO A DIRECT IMMEDIATE BENEFIT TO THE TRADE, BUT VOL UNTARILY AND ON THE GROUNDS OF COMMERCIAL EXPEDIENCY, AND IN ORD ER INDIRECTLY TO FACILITATE THE CARRYING ON THE BUSINE SS, MAY YET BE EXPENDED WHOLLY AND THE SAME PRINCIPLE WAS QUOTED WITH APPROVAL BY THE SUPREME COURT IN EASTERN INVESTMENT S LTD. ITA NO.1592/MDS/2007 24 V. CIT [1951] 20 ITR 1 AND CIT V. CHANDULAL KESHA V IAL AND CO. [1960] 38 1TR 601; AIR 1960 SC 738. 2.3.10 IN LIGHT OF THE ABOVE, THE LD.A.R SUBMITTED THAT THE SALE PROMOTION EXPENSES INCURRED BY IT SHALL NOT BE VIEW ED IN ISOLATION OF THE FACTS AND CIRCUMSTANCES OF THE CASE. 2.3.11 IN A NUTSHELL, THE LD. AR HAS CONTENDED TH AT THE EXPENDITURE UNDER CONSIDERATION IS NOT IN RELATION TO BRAND PROMOTION BUT IT IS IN THE NATURE OF SALE PROMOTION EXPENSES. THE BENEFIT FROM THOSE ADVERTISEMENTS IS STATED TO FLOW BACK TO THE APPELLANT COMPANY AND NOT TO TITAN (NETHERLANDS) WHO HOLDS THE OWNERS HIP OVER THE BRAND TITAN. THE TITAN (INDIA) I.E. THE ASSESSEE-CO MPANY IS STATED TO BE THE ECONOMIC OWNER OF THE BRAND TITAN AND THEREF ORE THE COMMERCIAL BENEFIT OF THE SAID ADVERTISEMENTS COMES BACK TO TITAN (INDIA). 2.3.12 THE OTHER CONTENTION OF THE LEARNED AR IS THAT IT IS NECESSARY TO INCUR THE SAID ADVERTISEMENT EXPENDITU RE BECAUSE WITHOUT THAT, THE ASSESSEE COMPANY WILL NOT BE ABLE TO SELL ITS PRODUCTS IN FOREIGN COUNTRIES DUE TO VERY HIGH COMP ETITION BY OTHER MULTINATIONAL COMPANIES. THE LD. AR HAS RELIED ON T HE OECD ITA NO.1592/MDS/2007 25 GUIDELINES TO EXPLAIN THE DIFFERENCE BETWEEN ECONOM IC OWNERSHIP AND LEGAL OWNERSHIP AND IT WAS SUBMITTED THAT THE APPEL LANT COMPANY IS HAVING ECONOMIC OWNERSHIP OVER SUCH BRAND AND THERE FORE THE ENTIRE ADVERTISEMENT EXPENDITURE HAS BEEN INCURRED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF BUSINESS OF THE APPELLANT COMPAN Y. THE AR HAS RELIED ON THE DECISION OF HONBIE SUPREME COURT IN OF S.A. BUILDERS CITED SUPRA WHEREIN HELD THAT THE HOLDING COMPANY H AS TO WATCH THE OF THE SUBSIDIARY COMPANY AND IN THE PRESENT CASE T HE TITAN(INDIA) HAS, INCURRED THE SAID EXPENDITURE SO THAT THE SUBS IDIARY COMPANY DOES NOT INCUR FURTHER LOSSES. 2.4.1 ON THE OTHER HAND, THE LD.D.R SUBMITTED THA T TIML LONDON INCURRED ADVERTISING EXPENSES ` 854.0 LAKHS DURING THE YEAR. ACCORDING TO THE ASSESSEE, SUCH EXPENSES WERE INCUR RED FOR VARIOUS INTERNATIONAL MARKETS WHERE THE TITAN PRODUCTS AR E SOLD. OUT OF THIS, SUM OF ` 803.31 LAKHS WAS CLAIMED BY ASSESSEE. TOTAL WATCH EXPORTS BY THE ASSESSEE IS ONLY ` 1237.69 LAKHS FOR WHICH IT HAD TO INCUR ` 803.31 LAKHS AS ADVERTISEMENT EXPENDITURE (65% OF T URNOVER). FOR LOCAL SALE OF TITAN PRODUCTS, ASSESSEE IS INCURRI NG ADVERTISEMENT ITA NO.1592/MDS/2007 26 EXPENDITURE LOCALLY FOR WHICH THERE IS NO DISPUTE. TOTAL ADVERTISEMENT EXPENDITURE CLAIMED DURING THE YEAR IS ` 4744 LAKHS AND SELLING & DISTRIBUTION EXPENSES ` 1496 IAKHS OUT OF WHICH AMOUNT REIMBURSED TO AE LE. 803.31 LAKHS ALONE IS IN DISPUTE. 2.4.2 SOME SALIENT FEATURES OF THIS TRANSACTION AR E AS UNDER: DESIGN FOR THE WATCHES DEVELOPED BY ANOTHER AE I . E. TITAN INTERNATIONALHOLDINGS BV (TIHBV) WHICH HAS A DESIGN OFFICE IN PANS LED BY JACQUES MEYER AND LATERON TRANSFERRED TO TIT AN BRAND HOLDINGS NV OF NETHERLANDS (TBHNV). SUCH EXPENSES ARE CAPITA LIZED IN ITS ACCOUNTS AND PATENTED. ALL THE BRAND INTANGIBLES FOR THE WHOLE OF THE WO RLD EXCEPT INDIA, ARE OWNED BY TBHNV. ALL THE DESIGNS DEVELOPED FOR THE U NIQUE FOREIGN MARKETS ARE ALSO PATENTED AND OWNED BY TAX RESIDENT S OF OTHER COUNTRIES. ASSESSEE IS THE OWNER OF THE TRADEMARK TITAN IN INDIA. FOR THE REST OF THE WORLD, THIS TRADEMARK IS OWNED BY TBHNV, NET HERLANDS FOR WHICH IT IS COLLECTING ROYALTY FROM THE MARKETING C ONCERNS USING THEM (AS % OF SALES). THUS THE LEGAL AND ECONOMIC OWNERS HIP OF BRAND TITAN IN OVERSEAS MARKET BELONGS TO AND EXPLOITED BY TBHNV. AS FAR AS EXPORT SALES ARE CONCERNED, ASSESSEE HA S ONLY MANUFACTURING RISK. THE PRODUCTS ARE SOLD TO AES AN D OTHER ITA NO.1592/MDS/2007 27 ENTERPRISES OVERSEAS, WHO IN TURN SELL IT TO ULTIMA TE CUSTOMERS THROUGH DISTRIBUTION CHANNELS IN THEIR RESPECTIVE TERRITORI ES. RISKS ASSOCIATED WITH MARKETING AND DISTRIBUTION OF OVERSEAS SALES IS ASSUMED BY AE SINCE CONTRACT WITH OVERSEAS DISTR IBUTORS AND DEALERS ARE ENTERED INTO BY AE. MARKET RISK AND PRICE RISK ARE UNDERTAKEN BY AE A S IT FINALIZES THE PRICE AT WHICH ITS PRODUCTS COULD BE SOLD IN THE EU ROPEAN MARKET. AS THE CONTRACT WITH OVERSEAS DISTRIBUTORS AND DE ALERS ARE ENTERED INTO BY AE, IT UNDERTAKES CREDIT RISK. THUS ASSESSEES POSITION IS ONLY THAT OF A CONTRA CT MANUFACTURER AND HENCE IT CAN ONLY CLAIM REWARD FOR ITS MANUFACTURIN G FUNCTION IE. A MARK-UP ON MANUFACTURING COSTS. IT JUST PERFORMED THE MANUFACTURING FUNCTION AS PER THE EXCLUSIVE DESIGNS FOR THE FOREI GN MARKETS AND SOLD THEM WITH A MARKUP ON COST (9.73%) TO ITS AES. ASSE SSEE DID NOT ADDUCE ANY EVIDENCE TO SHOW THAT THE MARK-UP CHARGE D BY IT ON ITS SALES TO AES WERE MUCH MORE THAN THE OTHER SALES SO AS TO TAKE CARE OF SUCH BRAND BUILDING & PROMOTION EXPENSES. ANY THREAT FROM COMPETITION AND EXTERNAL FACTORS IN OVERSEAS MARKET IS BORNE BY AES. HENCE ASSESSEE NEED NOT HAVE TO BO THER ABOUT INTERNATIONAL BRAND BUILDING CUM PROMOTION AS RISKS AND REWARDS OF THE SAME ARE ASSOCIATED WITH THE AE IE. TIML IN U.K . AND TAPL IN SINGAPORE. PART OF THEIR INCOME ALSO GOES TO TBHNV AS ROYALTY. IF THE ASSESSEE HAD SOLD SIMILAR PRODUCTS TO NON- AES, IT WOULD NOT HAVE PAID THEM FOR SUCH ADVERTISEMENT EXPENSES SINC E IT IS NOT ITS ECONOMIC FUNCTION. ITA NO.1592/MDS/2007 28 TITAN BRAND IN INDIA WAS VALUED AT OVER RS. 350 CRORES [PAGE 6 OF THE ANNUAL REPORT, 2002-03] WHICH WAS CREATED OVER A PERIOD OF TIME BY VARIOUS PROMOTION ACTIVITIES IN INDIA. SIMILARLY , ALL THE ADVERTISEMENT, MARKETING AND PROMOTIONAL ACTIVITIES UNDERTAKEN OVERSEAS IS CREATING BRAND VALUE OF TITAN IN OVER SEAS MARKET. THIS BENEFIT DIRECTLY ACCRUES TO THE AES OF NETHERLANDS OWNING THE BRANDS. TIML, ITS AE AT LONDON ACKNOWLEDGED THE FACT THAT ASSESSEE CONTINUES TO MAKE INVESTMENTS OF A IONG-TERM NATURE FOR BUILDING AND CONSOLIDATING THE TITAN BRAND [PAGE 2 OF DIRECTOR S REPORT OF TIML]. IN THE PAST, COSTS ASSOCIATED WITH BRAND-BUILDING TRADEMARKS AND DESIGN AND DEVELOPMENT WERE CHARGED TO TIHBV BY THE AFFILIATED COMPANIES [ITEM 1B ON PAGE 79, NOTES TO THE ANNUAL ACCOUNTS OF TIHBV, ANNUAL REPORT, 2002-03]. NOW ASSESSEE STOPPE D CLAIMING SUCH EXPENSES FROM THE AE WHICH RESULTED IN OPERATI ONAL LOSS TO THE ASSESSEE COMPANY [BUT FOR THE OTHER INCOME RECEIVED , ASSESSEE INCURRED LOSS DURING THE YEAR]. TIML, LONDON ALSO CONSIDERED SUCH RECEIPTS FROM T HE ASSESSEE AS AN EXCEPTIONAL ITEM OF RECEIPT [NOTE 3 ON PAGE 10 O F THE ANNUAL REPORT OF TIML]. 2.4.3 IN SHORT, THE SERVICES IN CONNECTION WITH SUCH ADVERTISEMENT COSTS WERE INCURRED ABROAD, PAYMENT MADE OUTSIDE IN DIA AND BENEFITS ACCRUED TO THE MARKETING ENTITIES AND BRAN D OWNER LOCATED ITA NO.1592/MDS/2007 29 OUTSIDE INDIA, STILL ASSESSEE CLAIMS 94% OF SUCH EX PENSES. ARGUMENT OF THE ASSESSEE THAT SUCH EXPENDITURE WAS INCURRED FOR THE GROWTH OF GROUP COMPANIES TO SECURE ASSESSEES BUSI NESS INTEREST, IS CONSIDERED IN DETAIL BY THE ITAT SPECIAL BENCH IN L .G. ELECTRONICS INDIA (P) LTD. VS ACIT (ITAT, SB-DEL) 140 LTD 41. T HOUGH ASSESSEE HAS PROMOTED THIS BUSINESS, THE AES CREATED IN VARI OUS TAX JURISDICTIONS CONSTITUTE DISTINCT, INDEPENDENT ENTI TIES SUBJECT TO THE LAWS OF THE RESPECTIVE COUNTRIES. THE PARENT COMPAN Y CANNOT CLAIM BENEFITS OF THEIR BUSINESS OR MAKE CLAIM OF BENEFIC IAL OWNERSHIP TREATING THE AES AS VIRTUAL NON-ENTITIES. 2.4.4 THIS PRINCIPLE WAS HELD BY HONBLE SUPREME COURT IN BACHA F. GUZDAR VS CIT (27 ITR1) AND RECENTLY REITE RATED BY THE APEX COURT IN THE CASE OF VODAFONE INTERNATIONAL HO LDINGS BV VS UNION OF INDIA & ANR. REPORTED IN 341 ITR 01 AND A LSO PANASONIC SALES & SERVICES INDIA PVT. LTD. VS ACIT (ITAT, CHE NNAI) 143 LTD 733 TRIBUNAL HELD THE FOLLOWING ADVERTISEMENT EXPEN SES TOWARDS BRAND BUILDING EXPENSES VIZ. MEDIA ADVERTISEMENT, E XHIBITION / TRADE FAIR, BILLBOARD /HOARDING/ SIGNAGE, BANNER CATALOGU ES/ NEWSLETTER/ CALENDAR/MAGAZINE, DEALER MEET EXPENSES, ETC. IF W E ANALYZE THE ITA NO.1592/MDS/2007 30 EXPENSES INCURRED BY TIML DURING THE YEAR, THE BREA K-UP OF WHICH IS GIVEN IN PARA 4 OF THE ORDER OF LD.CIT(A), MAJORITY OF EXPENSES WERE INCURRED TOWARDS BRAND BUILDING AND HENCE NEEDS TO BE CONSIDERED FOR DETERMINING THE ALP. REIMBURSEMENT OF EXPENSES TO AE IS VERY MUCH A TRANSACTION AS PER SEC.92F(V) AND CONSEQUE NTLY, IT IS AN INTERNATIONAL TRANSACTION AS PER SEC.92B REQUIRING CONSIDERATION U/S.92 AS HELD IN STREAM INTERNATIONAL SERVICES (P) LTD., VS. ADIT (ITAT, MUM) 141 ITD 492. ARGUMENT THAT TIML IS UND ER LOSSES AND HENCE NO TP ADJUSTMENT IS NECESSARY ON TRANSACTIONS WITH IT, IS NOT TENABLE IN VIEW OF THE DECISION OF ITAT BANGALORE B ENCH IN 24/7 CISTPM,ER.COM (P) LTD. VS. DCIT (140 ITD 344). 2.4.5. THE LD.D.R RELIED ON THE DECISIONS OF THE T RIBUNAL IN L. G. ELECTRONICS INDIA (P.) LTD VS. ACIT REPORTED IN [20 13] 140 ITD 41 (ITAT)(SB)[DEL]) AND CO-ORDINATE BENCH OF THIS TRIB UNAL IN PANASONIC SALES & SERVICES INDIA (P.) LTD. VS. ACIT IN [2013] 143 ITD 733 (ITAT)[CHEN]. ITA NO.1592/MDS/2007 31 2.4.6 WE HAVE HEARD BOTH THE PARTIES AND PERUSED THE MATERIAL ON RECORD. IN THIS CASE, TITAN INTERNATIONAL MARKE TING LTD., (TIML), LONDON INCURRED ` 854.08 LAKHS TOWARDS ADVERTISEMENT EXPENDITURE DURING THE YEAR. THE ASSESSEE HAS TAKEN A PLEA THA T IT WAS INCURRED FOR MARKETING TITAN PRODUCTS AT ABROAD. OUT OF TH IS, A SUM OF ` 803.31 LAKHS IS CLAIMED BY THE PARENT/ASSESSEE COM PANY M/S.TITAN INDUSTRIED LTD.( TIL) AS ITS OWN EXPENDITURE. THI S SUM OF ` 803.31 LAKHS WAS REIMBURSED TO TIML AS EXPENDITURE BY ASSE SSEE. THE TOTAL EXPORTS IN THE YEAR WAS ` 1237.69 LAKHS AGAINST WHICH THE ADVERTISEMENT EXPENSES OF ` 803.31 LAKHS WAS 65%.FURHTER, THE DESIGN FOR WATCHES DEVELOPED BY ANOTHER AE TITAN IN TERNATIONAL HOLDINGS BV (TIHBV), WHICH IS A DESIGN OFFICE IN PA RIS, BEING A TAX RESIDENT OF NETHERLANDS HAVE PATENTED THE DEVELOPME NT DESIGNS IN FAVOUR OF IT AND THE OUTSIDE INDIA, THE BRAND TITA N IS OWNED GLOBALLY BY TITAN BRAND HOLDINGS NV OF NETHERLANDS (TBHNV), WHICH IS 100% SUBSIDY OF TIHBV. ALL THE DESIGNS DEVELOPED FOR TH E UNIQUE FOREIGN MARKETS, ALSO PATENTED AND OWNED BY TAX RESIDENTS O F OTHER COUNTRIES. THE ASSESSEE THE OWNER OF THE TRADE MARK TITAN IN INDIA, FOR THE REST OF THE WORLD THIS TRADE MARK IS OWNED BY TBHNV FOR WHICH IT IS ITA NO.1592/MDS/2007 32 COLLECTING ROYALTY FROM THE MARKETING CONCERNS USIN G THEM AS 1% OF THE SALE. THUS, THE LEGAL AND ECONOMIC OWNERSHIP O F THE BRAND TITAN IN OVERSEAS MARKET BELONGS TO AND EXPLOITE D BY TBHNV FOR MANUFACTURING AND SUPPLY OF WATCHES, TIL HAS BEEN P AID MARK UP OF 9.73% AND TOTAL COST INCURRED FOR MANUFACTURING. T HE PRODUCTS ARE MANUFACTURED BY TIL, SOLD TO AE AND OTHER ENTERPRI SES WORLDWIDE, WHO IN TURN SELL IT TO ULTIMATE CUSTOMER IN THEIR R ESPECTIVE TERRITORY. THE RISK ASSOCIATED WITH MARKETING AND DISTRIBUTION, IS NOT BORNE BY TIL IN INDIA. ON THE OTHER HAND, IT IS BORNE BY AE OUTSID E INDIA AND THE TIL IS ONLY TO PERFORM FUNCTION OF CONTRACT MANUFACTURE R FOR WHICH IT HAS GOT 9.73% MARK UP ON TOTAL COST. IN THIS BACKGROUN D, WE HAVE TO SEE THE CLAIM OF EXPENDITURE OF ` 803.31 LAKHS ON ADVERTISEMENT EXPENDITURE, WHICH IS SEEN FROM THE TABLE AT PAGE-3 OF THIS ORDER. THERE IS NO AGREEMENT OR DOCUMENTS PRODUCED BY THE ASSESSEE TO SHOW THE ASSESSEE IS LIABLE TO INCUR THIS EXPENDITU RE. IN OTHER WORDS, THE ASSESSEE IS GETTING ONLY MARK-UP ON THE COST OF MANUFACTURE OF THE GOODS SUPPLIED TO THE AE AND IT IS NOWHERE CONN ECTED WITH THE SALES OF THE AES. ALL THE RISKS ASSOCIATED WITH TH E SALES OF AES, IS TO BE BORNE BY AE ONLY. IN SUCH CIRCUMSTANCES, ASSESS EE IS NOT ITA NO.1592/MDS/2007 33 REQUIRED TO INCUR ANY EXPENDITURE TOWARDS SALES. M ORE SO, WHEN THERE IS NO STIPULATION BY WAY OF ANY AGREEMENT BET WEEN THE ASSESSEE AND THE AE, IT IS TO BE BORNE IN MIND THAT IF THE ASSESSEE HAD SOLD SIMILAR GOODS TO OTHER NON-AE, ASSESSEE WO ULD NOT HAVE INCURRED SUCH EXPENDITURE. THE BENEFIT DERIVED FRO M THE IMPUGNED EXPENDITURE IS NOT AT ALL FOR THE ASSESSEE AND IT G OES DIRECTLY TO THE AE ONLY. IN OUR OPINION, SERVICES IN CONNECTION WI TH SUCH ADVERTISEMENT COST WHICH WAS INCURRED IN ABROAD, BE NEFIT ACCRUED TO AE AND THE ASSESSEE CANNOT CLAIM ANY OF SUCH EXPEND ITURE AS THE AE IS IN DIFFERENT TAX JURISDICTION CONSTITUTED DISTIN CT AND INDEPENDENT ENTITY SUBJECT TO THE LAW OF THE RESPECTIVE COUNTRI ES AND THE PARENT COMPANY CANNOT CLAIM THE BENEFITS OF THEIR AES BU SINESS OR MAY CLAIM A BENEFICIAL OWNERSHIP TREATING THE AE AS VI RTUALLY NON ENTITIES. THIS VIEW IS SUPPORTED BY THE RECENT JUDGEMENT OF SUPREME COURT IN THE VODAFONE INTERNATIONAL HOLDINGS B. V. VS. UOI REPORTED IN [2012] 341 ITR 01. 2.4.7 FURTHER, AS HELD BY MUMBAI BENCH IN THE CAS E OF STEAM INTERNATIONAL SERVICES PVT. LTD VS. ACIT REPORTED I N 141 ITD 492 THAT INVESTMENT OF EXPENDITURE TO AE IS VERY MUCH A TRANSACTION AS ITA NO.1592/MDS/2007 34 PER SECTION 92F(V) AND CONSEQUENTLY IT IS A INTERNA TIONAL TRANSACTION AS PER SEC.92B OF THE ACT REQUIRING CONSIDERATION U /S.92 OF THE ACT. FURTHER, THE ARGUMENT OF THE ASSESSEE IS THAT TIML IS UNDER LOSSES AND HENCE NO TP ADJUSTMENT IS NECESSARY ON TRANSACT ION WHICH IS NOT TENABLE IN VIEW OF THE DECISION OF THE BANGALORE TR IBUNAL IN THE CASE OF 24/7 CUSTOMER.COM PVT. LTD., IN 140 ITD 344 (BA NGALORE). ACCORDINGLY, THIS GROUND OF THE ASSESSEE IS REJECTE D. 3. THE NEXT GROUND IS WITH REGARD TO TRANSFER PRIC ING ADDITION ON ACCOUNT OF INTEREST OF ` 1,20,41,897/- IN RESPECT OF INTEREST FREE ADVERTISEMENT ADVANCES MADE BY THE ASSESSEE. 3.1. THE BRIEF FACTS OF THE CASE ARE THAT THE ASS ESSEE (TIL) HAD MADE THE FOLLOWING INTEREST FREE ADVANCES TO ITS AS SOCIATE COMPANY TIML, SPECIFICALLY TO BE UTILIZED FOR BRAND BUILDIN G, ADVERTISEMENT AND RELATED EXPENSES. AS ON 31.03.2003 (IN LAKHS ) MAXIMUM OUTSTANDING DURING THE YEAR(RS.) 1415.50 1415.50 LAKHS 102.62 905.96 LAKHS 155.46 155.46 LAKHS TOTAL 1673.58 2476.92 LAKHS ITA NO.1592/MDS/2007 35 THE TPO OBSERVED THAT THE ECONOMIC FUNCTION OF ADVE RTISING IS NOT THE BURDEN OF THE ASSESSEE COMPANY. IF THE ASSESSEE COMPANY HAD MADE SIMILAR INTERNATIONAL SALE TRANSACTIONS WITH I NDEPENDENT COMPANIES, IT WOULD NOT HAVE EXTENDED SUCH INTEREST FREE ADVERTISING ADVANCES. THE TPO WAS OF THE VIEW THAT IF THE ASSE SSEE COMPANY HAD MADE SIMILAR HUGE ADVANCES OF MONEY TO ANY INDE PENDENT ENTERPRISE, THEN THEY WOULD HAVE DONE IT ONLY AT AN ECONOMIC COST. HENCE, THE ECONOMIC COST OF ADVANCES MADE BY THE AS SESSEE TO ITS AES WAS DETERMINED AT ALP. THE ASSESSEE HAD ADOPTED THE FOLLOWING RATES OF INTEREST ON ITS FOREIGN CURRENCY LOANS TO ITS AES, IN ACCORDANCE WITH THE BANK RATES PRESCRIBED BY RBI. A. 01.04.2002 TO 29.10. 2002 : 6.50% B. 30.10.2002 T O 31.03.2003 : 6.25% THE SAME RATES WERE USED TO DETERMINE THE ALP OF TH E ADVANCES MADE BY IT TO ITS AE, TIML. THIS COMPUTATION OF IN TEREST AT RBI RATES RESULTED IN ADDITION OF ARMS LENGTH INTEREST OF ` 1,20,49,897/-. AGAINST THIS TPO OBSERVATION, THE ASSESSEE WENT IN APPEAL BEFORE THE LD.CIT(A) . ITA NO.1592/MDS/2007 36 3.2. LD.CIT(A) OBSERVED THAT AS ALREADY HELD BY HI M UNDER THE HEAD SALES PROMOTION AND ADVERTISING EXPENDITURE, IN P ARA 4, THE ADVERTISING AND BRAND BUILDING ARE NOT THE ECONOMIC BURDEN OF THE APPELLANT COMPANY. HENCE, THE TPO WAS RIGHT IN PROC EEDING TO COMPUTE THE ARMS LENGTH PRICE FOR THE INTERNATIONA L TRANSACTION WITH REFERENCE TO INTEREST COST. TIML, LONDON IS THE SUB SIDIARY OF ASSESSEE LOOKING AFTER THE MARKETING IN EUROPEAN COUNTRIES. THE SAID SUBSIDIARY BY THE ASSESSEE TO HAVE NO INDEPENDENT S OURCES OF INCOME EXCEPTION PAID BY THE HOLDING COMPANY ONLY. BUT THE FACTS ARE NOT SO. THE SUBSIDIARY JUST GETS THE WATCHES MADE F ROM THE PARENT COMPANY AND THE ENTIRE BUSINESS IS CARRIED ON BY IT ON AN INDEPENDENT BASIS AS SEEN FROM THE NATURE OF RISKS AND REWARDS ASSUMED. LD.CIT(A) FURTHER OBSERVED THAT THIS ALP INTEREST COMPUTATION WOULD NOT RESULT IN A HYPOTHETICAL INCO ME FOR TIL. INSTEAD, IF SUCH AN ARMS LENGTH INTEREST IS NOT CA LCULATED ON THE ADVANCES EXTENDED TO THE AES, IT WOULD RESULT IN RE DUCTION OF TAXABLE INCOME FOR TIL IN INDIA. TO THAT EXTENT, THE TAXABL E INCOME TAXABLE IN INDIA GETS SHIFTED TO FOREIGN TAX JURISDICTIONS. TH E VERY PURPOSE OF TRANSFER PRICING REGULATIONS IS TO RESTRAIN SUCH SH IFTS OF TAXABLE ITA NO.1592/MDS/2007 37 INCOME OUT OF INDIA. WHAT IS BEING BROUGHT TO TAX I S ONLY THE REAL INCOME EARNED BY TIL IN INDIA. HENCE, THE RATIO OF THE S.A. BUILDERS RELIED BY THE LEARNED AR WOULD NOT BE APPLICABLE IN THIS CASE. THE ASSESSEE HAD RELIED ON THE APEX COURT JUDGEMENT IN THE CASE OF S.A.BUILDERS. ACCORDING TO HIM, THE RATIO OF THE S AID DECISION IS NOT APPLICABLE ON THE FACTS OF THIS CASE. THE S.A BUILD ERS CASE DEALT WITH DOMESTIC TRANSACTIONS HAPPENING WITHIN THE COUNTRY. IN ALL DOMESTIC TRANSACTIONS, THE TAX BASE REMAINS WITHIN THE COUNT RY. WHEREAS THE APPELLANT COMPANY HAD MADE INTERNATIONAL TRANSACTIO NS WITH ITS ASSOCIATED ENTERPRISES IN FOREIGN TAX JURISDICTIONS . WHEN THERE IS A TRANSACTION BETWEEN TWO ASSOCIATED ENTERPRISES LOCA TED IN DIFFERENT TAX JURISDICTIONS, THE TRANSACTION SHOULD BE AT AR MS LENGTH PRICE BASED ON SEPARATE ENTITY APPROACH, AS PER SEC 92 OF THE IT ACT. THIS IS ALSO THE PRINCIPLE EMBODIED IN TAX TREATIES , IN THE FIELD OF INTERNATIONAL TAXATION, AND SUPPORTED SO BY BOTH TH E OECD AND UN MODEL TAX TREATIES. THE INTERNATIONAL TRANSACTION O F INTEREST FREE ADVERTISING ADVANCES MADE BY TIL TO TIML WOULD NOT HAVE HAPPENED BETWEEN TWO UNRELATED INDEPENDENT ENTERPRISES. IF T HE TRANSACTION HAD HAPPENED BETWEEN TWO INDEPENDENT PARTIES, BOTH THE PARTIES ITA NO.1592/MDS/2007 38 WOULD HAVE RECEIVED/PAID INTEREST ON THE ADVANCE AM OUNT. HENCE, THE ECONOMIC COSTS OF THE ADVANCES PROVIDED WERE ES TIMATED AS THE ARMS LENGTH PRICE AT ` 1,20,41,897/-. THEREFORE, LD.CIT(A) SUPPORTED THE DETERMINATION TP ADJUSTMENT MADE BY THE TPO. AGAINST THIS, THE ASSESSEE IS IN APPEAL BEFORE THIS TRIBUNAL. 3.3. THE LD.A.R SUBMITTED THAT THE ASSESSEE TO SP END ON SALES PROMOTION WHICH IN TURN WOULD LEAD TO AN INCREASE I N EXPORT SALES AND INCOME OF THE ASSESSEE. ACCORDINGLY, THE ASSESSEE H AS ADVANCED TRADE RELATED ADVANCES TO TITAN INTERNATIONAL MARKE TING LIMITED (TIML), LONDON TO MEET THE COST OF ADVERTISEMENT IN CURRED DIRECTLY ON ITS BEHALF FOR VARIOUS INTERNATIONAL MARKETS WHERE THE PRODUCTS OF APPELLANT ARE SOLD, INCLUDING EUROPEAN, MIDDLE-EAST AND THE FAR-EAST COUNTRIES. THE LEARNED TPO HAS ADOPTED THE INTEREST RATES IN RESPECT OF THE LOANS GRANTED BY THE APPELLANT TO ITS ASSOCI ATED ENTERPRISES AND HAS APPLIED THE SAME TO IMPUTE INTEREST ON ADVERTIS ING ADVANCES. THE LD.A.R SUBMITS THAT ADVERTISING ADVANCES ARE INHERE NTLY DIFFERENT FROM LOANS. A LOAN IS A SUM OF MONEY BORROWED FROM A LEN DER FOR A SPECIFIED PERIOD OF TIME THAT MUST BE REPAID, USUAL LY WITH INTEREST WHEREAS AN ADVANCE IS AN AMOUNT PAID BEFORE IT IS E ARNED OR ITA NO.1592/MDS/2007 39 EXPENSED OR TO PAY MONEY BEFORE IT BECOMES DUE. A L OAN IS A TYPE OF DEBT. LIKE ALL DEBT INSTALLMENTS, A LOAN ENTAILS TH E REDISTRIBUTION OF FINANCIAL ASSETS OVER TIME, BETWEEN THE LENDER AND THE BORROWER. THE BORROWER INITIALLY RECEIVES AN AMOUNT OF MONEY FROM THE LENDER, WHICH THEY PAY BACK, USUALLY BUT NOT ALWAYS IN REGULAR IN STALLMENTS, TO THE LENDER. THIS SERVICE IS GENERALLY PROVIDED AT A COS T, REFERRED TO AS INTEREST ON THE DEBT. 3.3.1 LD.A.R SUBMITTED THAT ACCORDING TO THE BLAC KS LAW DICTIONARY LOAN MEANS A LENDING WITH ABSOLUTE PRO MISE TO REPAY, A BORROWING WITH A PROMISE TO REPAY DELIVERY OF MONEY BY ONE PARTY AND RECEIPT BY ANOTHER ON AGREEMENT, EXPRESS OR IMPLIED , TO REPAY; OR A DEPOSIT. THE FOUR ELEMENTS OF A LOAN ARE: 1) AN AMO UNT, A SUM WHICH MAY BE IN THE SHAPE OF MONEY OR KIND; 2) PLACING OF IT WITH ANOTHER, CALLED BORROWER; 3) AN AGREEMENT TO REPAY; AND 4) A RECOGNITION OF LIABILITY ON THE PART OF THE BORROWER, TO RETURN IT WITH OR WITHOUT INTEREST. LD.A.R DREW OUR ATTENTION TO SECTION 372A OF THE CO MPANIES ACT, WHEREIN CERTAIN RESTRICTIONS ARE PLACED BEFORE A CO MPANY CAN LEND A SUM OF MONEY TO ANOTHER BODY CORPORATE THE EXPRESSI ON LOAN HAS BEEN DEFINED IN EXPLANATION (A) TO SECTION 372A. IT SAYS THAT LOAN ITA NO.1592/MDS/2007 40 INCLUDES DEBENTURES OR ANY DEPOSIT OF MONEY MADE BY ONE COMPANY WITH ANOTHER COMPANY, NOT BEING A BANKING COMPANY. THUS IT CAN BE SEEN THAT UNDER THE COMPANIES ACT AN ADVANCE IS DIS TINGUISHED FROM A LOAN OR A DEPOSIT AS IT HAS EXPRESSLY NOT BEEN IN CLUDED WITHIN THE DEFINITION OF LOAN. FURTHER, IN A COMPANY LAW CASE BETWEEN FREDIE ARDESHIR MEHTA VS. UNION OF INDIA. 70 COM 210 (BORN ) IT HAS BEEN HELD THAT A FINANCIAL TRANSACTION WHICH IS NOT IN S UBSTANCE A LOAN CANNOT BE CONVERTED INTO A LOAN. 3.3.2 LD.A.R FURTHER SUBMITTED THAT DEFINITION OF EXTERNAL COMMERCIAL BORROWINGS (ECB) UNDER THE EXCHANGE CO NTROL REGULATIONS. ECB HAS BEEN DEFINED TO INCLUDE COMMER CIAL BANK LOANS, BUYERS CREDIT, SUPPLIERS CREDIT, SECURITIZED INST RUMENTS SUCH AS FLOATING RATE NOTES AND FIXED RATE BONDS AND CAN BE UTILIZED FOR IMPORT OF CAPITAL GOODS AND SERVICES (ON FOB OR CIF BASIS). THUS, IT CAN BE SEEN THAT WHAT IS INCLUDED IN ECB IS LOAN AN D NOT TRADE ADVANCES AS IT DOES NOT FALL WITHIN THE AMBIT OF TH E TERM BORROWINGS. IT MAY BE NOTED THAT IT IS A GENERAL PRACTICE FOLLOWED ACROSS ALL INDUSTRIES TO ADVANCE MONIES WHERE EXPENSES ARE TO BE INCURRED BY ITA NO.1592/MDS/2007 41 THE OTHER PARTY ON ONES BEHALF. THE OBJECTIVE BEHI ND IS TO MERELY EASE THE WORKING CAPITAL REQUIREMENT OF THE OTHER P ARTY. 3.3.3 THE LD.A.R SUBMITTED THAT THE ADVERTISING ADVANCES HAVE BEEN MADE TO REIMBURSE EXPENSES INCURRED ON ADVERTI SEMENT IN INTERNATIONAL MARKET ON ITS BEHALF AND AT ITS REQUE ST AND WERE FOR THE PURPOSE OF ITS OWN OPERATING REQUIREMENTS. IT IS NE EDLESS TO MENTION THAT THE ADVANCES WERE GIVEN TO MEET THE COST OF AP PELLANTS OWN ADVERTISEMENT EXPENSES AND NOT THAT OF THE OTHER PA RTY. FURTHER, THE ADVERTISING ADVANCES WERE NOT INTEREST BEARING ADVA NCES AND THERE IS NO STIPULATION OF CHARGING ANY INTEREST ON THE SAME . IN ABSENCE OF SUCH A CONDITION, THE ASSESSEE DOES NOT HAVE A LEGA LLY ENFORCEABLE RIGHT TO CHARGE INTEREST ON SUCH ADVANCES. THE LD.A .R SUBMITTED THAT NO INTEREST ON SUCH ADVANCES, WHICH WAS EARNED BY ASSESSEE, IT WOULD RESULT IN A HYPOTHETICAL INCOME AND NOT REAL INCOME. HE RELIED ON SUPREME COURT JUDGMENT IN THE CASE OF COMMISSIO NER OF INCOME TAX VS. BOKARO STEEL LTD. 236 ITR 315 1999 SC WHERE IN HELD THAT ONLY REAL INCOME CAN BE BROUGHT TO TAX AND NOT HYPO THETICAL INCOME. FROM THE FACTS STATED ABOVE, IT IS EVIDENT THAT NO INCOME HAS IN HANDS OF THE ASSESSEE COMPANY AND AS SUCH INTEREST INCOME AND TAXING IT IN ITA NO.1592/MDS/2007 42 THE HAND OF THE ASSESSEE WOULD BE AGAINST THE BASIC PRINCIPLES OF TAXATION THEORY. 3.4. ON THE OTHER HAND, LD.D.R SUBMITTED THAT ASSE SSEE MADE INTEREST-FREE ADVANCES TO TIML, LONDON SPECIFICALLY TO BE UTILIZED FOR BRAND BUILDING, ADVERTISEMENT AND RELATED EXPENSES. SINCE ECONOMIC FUNCTION OF ADVERTISING AND INCURRING OF SUCH EXPEN SES OVERSEAS IS NOT THE BURDEN OF ASSESSEE, COST OF SUCH ADVANCES WAS D ETERMINED AT ALP. IN THE CASE OF PEROT SYSTEMS T5I (INDIA) LTD. VS DCIT (5 ITR (TRIB) 106) ITAT DELHI BENCH HELD THAT GRANT OF INT EREST-FREE LOANS TO OVERSEAS AES COMES WITHIN THE AMBIT OF INTERNATIONA L TRANSACTIONS. SIMILAR VIEW WAS HELD IN. IN SUCH CASES POTENTIAL L OSS TO THE ASSESSEE TO BE CONSIDERED WHILE EVALUATING, THE FINANCIAL IM PACT OF THE INTERNATIONAL TRANSACTION AS HELD IN LOGIX MICRO SY STEMS LTD. VS ACIT (ITAT, BANG) 8 ITR (TRIB) 159. IN SUCH CIRCUMSTANCE S, THE TRANSACTION HAS TO BE TESTED WITH A SITUATION HAD THE ASSESSEE INVESTED OR ADVANCED OR DEPOSITED THE SAID AMOUNT WITH AN UNREL ATED THIRD PARTY AND THEREBY THE INCOME WHICH WOULD HAVE BEEN EARNED BY THE ASSESSEE IS EXPECTED TO HAVE BEEN EARNED FROM THE T RANSACTION WITH ITA NO.1592/MDS/2007 43 AE. FIXED DEPOSIT INTEREST RATES GIVEN BY BANK IS A N APPROPRIATE AND GOOD COMPARABLE OR AT LEAST LIBOR PLUS 2% RATE CAN BE ADOPTED AS ALP AS HELD IN AURINPRO SOLUTIONS LTD. VS ADDL. CIT (ITAT, MUM) 27 ITR (TRIB) 276. 3.5. WE HAVE HEARD BOTH THE PARTIES AND PERUSED TH E MATERIAL ON RECORD. IN THIS CASE, THE ASSESSEE MADE INTEREST F REE ADVANCES TO THE ASSOCIATE COMPANY, WHICH INCLUDES THE AMOUNTS SPENT FOR BRAND BUILDING, ADVERTISEMENT AND RELATED EXPENDITURES. AS WE DISCUSSED IN THE EARLIER PARA WITH REFERENCE TO ALP OF ADVERT ISEMENT EXPENSES, THE TRANSACTION BETWEEN THE ASSESSEE AND THE AE FAL LS WITHIN THE AMBIT OF INTERNATIONAL TRANSACTION AS PER THE PROVI SIONS OF THE SECTION 92B OF THE ACT, THEN ALP WITH REFERENCE TO THE INTE REST ON SUCH ADVANCES IS TO BE COMPUTED. ACCORDINGLY, THE TPO AF TER CONSIDERING THE FACT THAT ASSESSEE HAD ADOPTED FOLLOWING RATE O F INTEREST ON ITS FOREIGN CURRENCY LOANS TO ITS AE IN ACCORDANCE WITH THE BANK RATES PRESCRIBED BY RESERVE BANK OF INDIA. A) 01.04.2002 TO 29.10.2002 6.5% B) 30.10.2002 TO 31.03.2003 6.25% ITA NO.1592/MDS/2007 44 THUS, THE TPO/AO APPLIED THE SAME RATE TO DETERMINE THE ALP OF THE ADVANCES MADE BY IT TO ITS AE, TIML HAD WORKED OUT ` 1,20,41,897/-. SINCE THE ASSESSEE HAS INVESTED ITS FUNDS IN AE, TH EREBY ASSESSEE HAD TAKEN A RISK OF EMPLOYEE ITS WORKING CAPITAL WI TH THE AE AND IF THE ASSESSEE HAD NO RELATION WITH THAT ENTITY, IT WOULD NOT HAVE INCURRED SUCH EXPENDITURE ON BEHALF OF THE ASSESSEE OR ADVAN CED MONEY TO SUCH AN ENTITY. THUS, NON-CHARGING OF INTEREST TO SUCH OUTSTANDING ATTRACTS TRANSFER PRICING PROVISIONS AND IT IS APPR OPRIATE TO CHARGE INTEREST AT LEAST LIBOR PLUS 2% RATE AS HELD BY MUM BAI BENCH OF THE TRIBUNAL IN THE CASE OF M/S.AURINPRO SOLUTIONS LTD. VS.ADDL.CIT(27 ITR (TRIB.) 276). ACCORDINGLY, WE UPHELD THE ARGUM ENT OF THE LD.D.R ON THIS ISSUE. IF ANY DIFFERENCE IN THE RATE OF IN TEREST IS CHARGED BY THE TPO/AO AS COMPARED TO LIBOR PLUS 2%, THE SAME TO BE RECOMPUTED. 4. THE NEXT GROUND IS WITH REGARD TO COMPUTATION O F DEDUCTION U/S.80HHC OF THE ACT WITH REFERENCE TO DEPB RECEIPT S. ITA NO.1592/MDS/2007 45 4.1 THE FACTS OF THE ISSUE ARE RELATED TO THE EXC LUSION OF 90% OF EXPORT INCENTIVES OF ` 7,35,10,997/- FROM THE BUSINESS PROFITS UNDER EXPLANATION (BAA) TO SEC.80HHC OF THE ACT. THE DETA ILS OF EXPORT ENTITLEMENTS CLAIMED BY ASSESSEE ARE AS UNDER:- PARTICULARS AMOUNT(RS.) DUTY ENTITLEMENT PASS BOOK SCHEME 2,11,17,744 ADVANCE LICENSE BENEFIT 4,28,19,991 DUTY FREE REPLENISHMENT CERTIFICATE 95,73,262 TOTAL 7,35,10,997 THE LD. ASSESSING OFFICER WAS OF THE OPINION THAT T HESE EXPORT INCENTIVES RECEIVED BY THE ASSESSEE DID NOT FALL IN CLAUSES (IIIA), (IIIB) AND (IIIC) OF SEC.28 OF THE ACT. AGGRIEVED, THE AS SESSEE WAS IN APPEAL BEFORE THE LD.CIT(A). LD.CIT(A) OBSERVED THAT THE ABOVE ITEMS OF INCOME CLEARLY FALL IN CLAUSE (IIIB) OF SECTION 28 OF THE ACT. THE SAID CLAUSE (IIIB) REFERS TO CASH ASSISTANCE (BY WHATEVE R NAME CALLED) THE SAME ARE RECEIVABLE BY ANY PERSON AGAINST THE EXPOR T UNDER ANY SCHEME OF GOVERNMENT OF INDIA. FURTHER, LD.CIT(A) O BSERVED THAT THE ADVANCE LICENCE BENEFITS ARE CLAEARLY COVERED BY CL AUSE (IIIA) AS WELL AS CLAUSE (IIIB) OF SEC.28 OF THE ACT. CLAUSE (IIIA ) REFERS TO THE PROFITS ITA NO.1592/MDS/2007 46 ON SALE OF LICENCE GRANTED UNDER THE IMPORTS AND EX PORTS (CONTROL) ACT. SIMILARLY CLAUSE (IIIB) REFERS TO THE CASH AS SISTANCE RECEIVED OR RECEIVABLE BY ANY PERSON AGAINST EXPORTS UNDER ANY SCHEME OF THE GOVERNMENT. THEREFORE, LD.CIT(A) SUPPORTED THE VIEW TAKEN BY THE LD. ASSESSING OFFICER AS LEGALLY CORRECT TO EXCLUDE 90% OF ADVANCE LICENCE BENEFITS FROM THE BUSINESS PROFITS UNDER EX PLANATION (BAA) TO SECTION 80HHC OF THE ACT. AGAINST THIS, THE ASSESSE E IS IN APPEAL BEFORE US. 4.2 WE HAVE HEARD BOTH THE PARTIES AND PERUSED THE MATERIAL ON RECORD. IN OUR OPINION, THE ISSUE IS SQUARELY COVER ED BY THE DECISIONS OF THE SUPREME COURT IN THE CASE OF TOPMAN EXPORTS V. CIT REPORTED IN (2012) 342 ITR 49 (2012) WHEREIN HELD THAT WHEN THE DEPB IS SOLD BY A PERSON, HIS PROFIT ON TRANSFER OF THE DEPB WOU LD BE THE SALE VALUE OF THE DEPB LESS THE FACE VALUE OF DEPB WHICH REPRESENTS THE COST OF THE DEPB AND NOT THE ENTIRE SUM RECEIVED BY HIM ON SUCH TRANSFER; DEPB IS CHARGEABLE AS INCOME UNDER CLAUSE -(IIIB) OF SECTION 28 IN THE YEAR IN WHICH SUCH PERSON APPLIES FOR DEP B CREDIT AGAINST THE EXPORTS WHEREAS THE PROFITS ON TRANSFER OF THE DEPB BY THAT ITA NO.1592/MDS/2007 47 PERSON IS CHARGEABLE AS INCOME UNDER CLAUSE (IIID) OF SEC.28 OF THE ACT IN HIS HANDS IN THE YEAR IN WHICH HE MAKES THE TRANSFER. ACCORDINGLY, WE DIRECT THE AO TO RE-COMPUTE THE DED UCTION U/S.80HHC OF THE ACT BY APPLYING EXPLANATION(BAA) O F SEC.80HHC OF THE ACT. 5. THE NEXT GROUND IS WITH REGARD TO ALLOCATION O F HEAD OFFICE EXPENSES AND CONSULTANCY EXPENDITURE WHILE COMPUTIN G ELIGIBLE PROFIT FROM JEWELLERY DIVISION ON THE BASIS OF TURNOVER FO R THE PURPOSE OF SEC.80-IB OF THE ACT. 5.1 THE BRIEF FACTS OF THE ISSUE ARE THAT RELATED TO THE ALLOCATION OF HEAD OFFICE EXPENSES AGAINST THE PROFITS FROM BUSIN ESS OF JEWELLERY DIVISION ON PROPORTIONATE BASIS. THE AO HAD ALLOCAT ED HEAD OFFICE EXPENSES ON THE BASIS OF TURNOVER OF JEWELLERY UNIT . AS A RESULT, THE PROFITS OF JEWELLERY DIVISION WAS REDUCED BY AN AMO UNT OF ` 5,45,29,000/-. AGGRIEVED, THE ASSESSEE WENT IN APPE AL BEFORE THE LD.CIT(A). ITA NO.1592/MDS/2007 48 5.2 ON APPEAL, THE LD.CIT(A) OBSERVED THAT THE AS SESSEE IS HAVING TWO TYPES OF BUSINESS AND NINE UNITS OF THE ASSESSE E IS ENGAGED IN MANUFACTURE AND SALE OF TIME PROJECTS I.E. WATCH, E TC. AND THERE IS ONE UNIT PERTAINING TO MANUFACTURE AND SALE OF JEWE LLERY. THE TOTAL TURNOVER OF TIME PROJECTS DIVISION IS ` 453 CRORES WHEREAS THAT OF JEWELLERY DIVISION IS ` 345 CRORES. LD.CIT(A) CONSIDERED THE CONTENTIONS OF THE LEARNED AR REGARDING THE ALLOCAT ION BASED ON NUMBER OF DIVISIONS ARE TOO THEORETICAL BASED ON SU RMISES. IF THE BASIS OF CALCULATION MADE BY THE AO IS STATED TO BE UNSCIENTIFIC, THEN THE BASIS ADOPTED BY THE APPELLANT CAN ALSO NOT BE STATED TO BE HAVING ANY SCIENTIFIC BASIS OR LOGIC OR ACCEPTABLE REASONING. FIRST OF ALL, IT WAS NOT CORRECT ON THE PART OF THE ASSESSEE NOT TO ALLOCATE THE HEAD OFFICE EXPENSES AGAINST VARIOUS UNITS FOR THE PURPOSE OF COMPUTING CORRECT ELIGIBLE PROFITS OF EACH UNIT. IT BECOMES MORE IMPORTANT IF THE ASSESSEE IS CLAIMING SPECIAL DEDUC TION ON ACCOUNT OF PROFITS ON JEWELLERY DIVISIONS WITHOUT DEBITING ALL THE DIRECT AND INDIRECT EXPENSES FOR THE PURPOSE OF EARNING OF THE SAID INC OME. LD.CIT(A) OBSERVED THAT THERE CAN BE NO BETTER METHOD THAN T O ALLOCATE THE HEAD OFFICE EXPENSES TO VARIOUS UNITS ON THE BASIS OF THEIR TURNOVER ITA NO.1592/MDS/2007 49 BECAUSE THE ULTIMATE AIM OF ANY BUSINESS ENTERPRISE IS TO EARN MORE REVENUES RATHER THAN TO COUNT THE NUMBER OF PIECES OF MANUFACTURED ITEMS SOLD BY IT. THE ALLOCATION OF HEAD OFFICE EX PENSES MADE BY THE AO ON THE BASIS OF TURNOVER IS SUSTAINED BY THE LD. CIT(A). AGAINST THIS, THE ASSESSEE IS IN APPEAL BEFORE US. 5.3 WE HAVE HEARD BOTH THE PARTIES AND PERUSED T HE MATERIAL ON RECORD. IN OUR OPINION, WHEN EXPENSES INCURRED AT HEAD OFFICE CANNOT BE IDENTIFIED WITH ANY SINGLE UNIT, APPORTIONING TH E SAME ON THE BASIS OF TURNOVER IS AN APPROPRIATE METHOD AS HELD BY THE JURISDICTIONAL HIGH COURT IN THE CASE OF TTK FIRM LTD. REPORTED IN 2011 -TIOL 620 HC MADRAS. ACCORDINGLY, THIS GROUND OF ASSESSEE IS DIS MISSED. THE SAME PRINCIPLE IS APPLICABLE IN RESPECT OF ALLOCATI ON OF PROFESSIONAL FEES PAID TO MCKENSEY. ACCORDINGLY, THIS GROUND OF ASSESSEE IS ALSO DISMISSED. 6. THE NEXT GROUND IS WITH REGARD TO NON-GRANTING OF EXPORT INCENTIVES U/S.80-IB OF THE ACT. 6.1 THE FACTS OF THE ISSUE ARE PERTAINING TO THE E XCLUSION OF EXPORT INCENTIVES FROM THE BUSINESS PROFITS OF THE INDUSTR IAL UNDERTAKING FOR ITA NO.1592/MDS/2007 50 THE PURPOSE OF COMPUTING DEDUCTION U/S 801B. THE AO FOUND THAT THE SAID INCENTIVES HAVE NOT BEEN DERIVED FROM THE MANU FACTURING OF JEWELLERY PRODUCTS UNDERTAKEN BY THE SAID INDUSTRIA L UNDERTAKING AND THEREFORE THE SAID DEDUCTION IS NOT ALLOWABLE TO TH E ASSESSEE. AGGRIEVED, THE ASSESSEE WAS IN APPEAL BEFORE THE LD .CIT(A). 6.2 BEFORE CIT(A), THE LD.A.R SUBMITTED THAT THE E NTIRE EXPORT INCENTIVES OF ` 7.35 CRORES EXCLUDED BY THE AO DO NOT RELATE TO THE JEWELLERY DIVISION AND OUT OF ABOVE, THE SUM OF ` 95,73,2621- IS STATED TO BE DERIVED FROM THE EXPORT OF JEWELLERY DIVISION AND THE SAME IS STATED TO BE SHOWN AS BUSINESS INCOME AND HENCE THE SAME CANNOT BE EXCLUDED WHILE COMPUTING THE DEDUCTION U/S 801B. IT WAS FURTHER SUBMITTED THAT THE DECISION OF HONBLE SUPREME COUR T IN THE CASE OF STERLING FOODS(237 ITR 579)(SC) WAS PERTAINING TO T HE DEDUCTION U/S 8OHHC AND NOT U/S 801B WHERE THE LANGUAGE USED IS D IFFERENT. SECTION 801B IS STATED TO BE HAVING WIDER SCOPE WHI CH INCLUDES ANY PROFITS AND GAINS DERIVED FROM ANY BUSINESS OF INDU STRIAL UNDERTAKING. THE LEARNED AR HAS RELIED ON VARIOUS CASE LAWS TO S UPPORT THE CONTENTIONS THAT ALL THE EXPORT INCENTIVES EARNED B Y IT HAVE BEEN DERIVED FROM THE INDUSTRIAL UNDERTAKING ONLY. ITA NO.1592/MDS/2007 51 6.3 LD.CIT(A) OBSERVED THAT THE LAW IS FULLY SETTL ED ON THIS ISSUE IN FAVOUR OF THE REVENUE THAT ONLY THE PROFITS DERIVED FROM THE INDUSTRIAL UNDERTAKING FROM THE MANUFACTURE OF SPECIFIED GOODS OR ARTICLES ARE ELIGIBLE FOR DEDUCTION U/S 801B OF THE ACT. IN THE CASE OF CIT V. MADRAS MOTORS, 257 ITR 60 (MAD), IT HAD BEEN HELD B Y THE JURISDICTIONAL HIGH COURT THAT INTEREST INCOME EARN ED FROM BANK DEPOSITS MADE FOR OBTAINING LETTERS OF CREDIT DOES NOT HAVE ANY DIRECT NEXUS WITH INDUSTRIAL ACTIVITY FOR THE PURPOSE OF A VAILING DEDUCTION U/S 8OHH AND 801. IN THIS CASE THE HONBLE COURT HAS EX PLAINED THE MEANING OF WORDS DERIVED FROM. FOR COMING TO THE CONCLUSION THE HONBLE COURT HAS REFERRED TO THE DECISION IN THE C ASE OF CIT V. STERLING FOODS, 237 ITR 579 (SC). IN THE CASE OF PA NDIAN CHEMICALS LTD. V. CIT, 262 ITR 278 (SC), THE HONBLE APEX COU RT HAD ALSO ELABORATELY EXPLAINED THE ANNOTATION OF THE WORDS DERIVED FROM AND ATTRIBUTABLE TO WHILE DECIDING THE ALLOWABILITY O F DEDUCTION U/S 8OHH ON THE INTEREST EARNED ON SECURITY DEPOSITS. IT WAS HELD THAT SUCH INTEREST INCOME BEEN DERIVED FROM THE SAID INDUSTRI AL ACTIVITY AND HENCE SPECIAL DEDUCTION WAS NOT ALLOWABLE TO THE AS SESSEE. SIMILAR VIEWS WERE EXPRESSED IN THE CASE OF KRIPA CHEMICALS P LTD V DCIT, ITA NO.1592/MDS/2007 52 88 LTD 200 (PUNE) (TM). DEDUCTION U/S 80-I AND 80H H ARE AVAILABLE TO AN ASSESSEE IF IT DERIVES PROFITS FROM THE MANUF ACTURE OR PRODUCTION OF SPECIFIED ARTICLES OR THINGS. IT IS VERY IMPORTA NT TO MENTION HERE THAT AN IDENTICAL ISSUE HAS BEEN DECIDED BY THE JURISDIC TIONAL HIGH COURT IN FAVOUR OF THE REVENUE IN THE CASE OF CIT V. JMEEL LEATHERS & UPPERS, 246 ITR 97(MAD). IN THE SAID CASE, IT HAS B EEN HELD THAT THE AMOUNTS RECEIVED BY THE ASSESSEE AS CASH ASSISTANCE , DUTY DRAWBACK AND IMPORT LICENSE NOMINATION ENTITLEMENTS FROM THE GOVERNMENT OF INDIA ARE NOT ELIGIBLE FOR DEDUCTION U/S 8OHH SINCE THE SAID AMOUNTS ARE NOT PROFITS DERIVED FROM INDUSTRIA L UNDERTAKING. A SIMILAR DECISION HAS BEEN GIVEN BY THE JURISDICTION AL COURT IN THE CASE OF CIT V. VISHWANATHAN AND CO., 261 ITR 737 IN WHIC H IT WAS HELD THAT CASH ASSISTANCE, DUTY DRAWBACK AND AIR SUBSIDY ARE NOT INCOMES DERIVED FROM INDUSTRIAL UNDERTAKING FOR THE PURPOSE OF COMPUTING DEDUCTION U/S 8OHH. IN THE PRESENT CASE, THE INCOME /RECEIPTS UNDER CONSIDERATION CANNOT BE TERMED AS INCOME DERIVED BY AN INDUSTRIAL UNDERTAKING FROM THE MANUFACTURE OF ANY ARTICLE/THI NG. THEREFORE, THE RATIO OF HONBLE SUPREME COURT IN THE CASE OF STERL ING FOODS (SUPRA), THOUGH IN THE CONTEXT OF SECTION 8OHH IS SQUARELY A PPLICABLE IN THIS ITA NO.1592/MDS/2007 53 CASE BECAUSE PROVISIONS OF SECTION 8OHH AND 80-I AR E IDENTICALLY WORDED. IN VIEW OF THESE FACTS, CIT(A) HAD NOT FOUN D ANY MERIT IN THE SUBMISSIONS OF THE APPELLANT THAT THEY WERE ENTITLE D TO THE DEDUCTION U/S 80-I ON VARIOUS INCOMES DISCUSSED ABOVE AND DIS MISSED THE GROUND TAKEN BY ASSESSEE. AGAINST THIS, THE ASSESS EE IS IN APPEAL BEFORE US. 6.4 WE HAVE HEARD BOTH THE PARTIES AND PERUSED TH E MATERIAL ON RECORD. THIS ISSUE IS SQUARELY COVERED BY THE JUDGE MENT OF SUPREME COURT IN THE CASE OF LIBERTY INDIA VS. CIT REPORTED IN 317 ITR 218 WHEREIN HELD THAT INCENTIVES WHICH FLOW FROM THE S CHEMES FORMULATED BY CENTRAL GOVERNMENT OR FROM SEC.75 OF THE CUSTOMS ACT, 1962, HENCE, INCENTIVES PROFITS ARE NOT PROFITS DERIVED F ROM ELIGIBLE BUSINESS AND THEREFORE, SUCH INCENTIVES DO NOT FORM PART OF NET PROFITS OF THE INDUSTRIAL UNDERTAKING FOR THE PURPOSE OF DEDUCTION U/S.80-IA/IB OF THE INCOME TAX ACT,1961. APPLYING THE ABOVE RATIO, WE REJECT THE CLAIM OF ASSESSEE. ACCORDINGLY, THIS GROUND RAISED BY ASS ESSEE IS DISMISSED. ITA NO.1592/MDS/2007 54 7. THE NEXT GROUND IS WITH REGARD TO EXCLUSION OF D EDUCTION CLAIMED AND ALLOWED U/S.43B WHILE COMPUTING DEDUCTION U/S.8 0-IB OF THE ACT. 7.1 THE FACTS OF THE ISSUE ARE RELATED TO THE CLAI M OF DEDUCTION U/S.43B IN THE JEWELLERY DIVISION VIS--VIS DEDUCTI ON U/S.80-IB OF THE ACT. THE ASSESSING OFFICER FOUND THAT THE ASSESSEE IS CLAIMING DEDUCTION U/S.43B IN THE CURRENT YEAR ON THE BASIS OF ACTUAL PAYMENT AND ON THE OTHER HAND THE ASSESSEE WANTS THAT THIS DEDUCTION SHOULD BE IGNORED WHILE COMPUTING ELIGIBLE PROFITS. THE AO WAS OF THE OPINION THAT THIS CONTENTION OF THE ASSESSEE ARE NO T BASED ON ANY LEGAL PRINCIPLES OR SUPPORTED BY ANY PROVISIONS OF THE ACT. ELIGIBLE PROFITS FOR THE PURPOSE OF SEC.80-IB ARE REQUIRED T O BE COMPUTED UNDER THE HEAD BUSINESS INCOME AFTER TAKING INTO AC COUNT ALL THE EXPENSES AND DEDUCTION CLAIMED U/S.30 TO 43D OF THE ACT AS PRESCRIBED U/S.29 OF THE ACT. HENCE, THE AO EXCLUD ED THE SAME FOR THE PURPOSE OF DEDUCTION U/S.80-IB OF THE ACT. ON A PPEAL, THE LD.CIT(A) CONFIRMED THE ACTION OF THE LD. ASSESSING OFFICER. 7.2 THE LD.A.R SUBMITTED THAT THE DEDUCTION U/S.43 B CLAIMED BY THE ASSESSEE, WHICH WAS ADDED BACK EARLIER INADVERTENTL Y, SHOULD NOT BE EXCLUDED WHILE COMPUTING DEDUCTION U/S.80-IB OF THE ACT. FURTHER, ITA NO.1592/MDS/2007 55 LD.A.R SUBMITTED THAT THE ADDITION IN THIS REGARD H AD BEEN MADE IN ASSESSMENT YEAR 2002-03 AND THE SAID CLAIM IS ALLOW ABLE IN THE CURRENT YEAR BUT THE SAME SHOULD NOT BE EXCLUDED FO R THE PURPOSE OF DEDUCTION U/S.80-IB OF THE ACT. 7.3. ON THE OTHER HAND, LD.D.R SUBMITTED THAT BON US AND COMMISSION PAYABLE TO EMPLOYEES RELATING TO ASSESSM ENT YEAR 2002- 03 WAS NOT PAID BY ASSESSEE IN THAT YEAR AND IT WAS ADDED BACK TO THE PROFITS IN SUCH ASSESSMENT YEAR. DURING THE CU RRENT ASSESSMENT YEAR, ASSESSEE MADE THE AFORESAID PAYMENTS PERTAINI NG TO EARLIER ASSESSMENT YEAR (AMOUNTING TO ` 567.21 LAKHS) AND CLAIMED DEDUCTION U/S.43B. AO ALLOWED THE CLAIM AND CONSEQU ENTLY PROFITS FROM BUSINESS DURING THE YEAR GOT REDUCED AND AO CO MPUTED DEDUCTION U/S.90-IB ON SUCH REDUCED PROFITS. IN TH E PROCESS, PROFITS GOT REDUCED BY SUM OF ` 80.58 LAKHS BEING BONUS AND COMMISSION PAYMENTS RELATING TO THIS UNIT. SINCE ELIGIBLE PRO FITS FOR THE PURPOSE OF DEDUCTION U/S.80-IB ARE TO BE CALCULATED AFTER TAKI NG INTO ACCOUNT ALL THE EXPENSES CLAIMED UNDER SECTIONS 30 TO 43D, ACTI ON OF THE AO IS AS PER LAW. ITA NO.1592/MDS/2007 56 7.4 WE HAVE HEARD BOTH THE PARTIES AND PERUSED THE MATERIAL ON RECORD. IN THIS CASE, THE LD. ASSESSING OFFICER COM PUTED THE INCOME OF ASSESSEE AFTER ALLOWING THE ANNUAL PAYMENT OF BONUS AND COMMISSION IN TERMS OF SEC.43B OF THE ACT AND GRATE D DEDUCTION U/S.80-IB OF THE ACT. SINCE THE PROFIT OF ASSESSEE TO BE COMPUTED FOR THE PURPOSE OF SEC.80-IB OF THE ACT AFTER TAKING IN TO ACCOUNT ALL THE EXPENSES CLAIMED UNDER SECTIONS 30 TO 43D OF THE AC T AND THERE IS NO INFIRMITY IN THE ORDER OF THE LOWER AUTHORITIES, TH E SAME IS CONFIRMED ON THIS ISSUE. HENCE, THIS GROUND RAISED BY THE ASSES SEE IS REJECTED. 8.1. THE NEXT GROUND IS RELATED TO THE DISALLOWANC E OF CLAIM OF DEDUCTION U/S.80-IB IN RESPECT OF PROFITS OF EURO W ATCH DIVISION. THE AO FOUND THAT THE ASSESSEE CLAIMED DEDUCTION U/S.80 -IB AT THE RATE OF 30% OF PROFITS OF ` 8,44,63,240/-. THE AO WAS OF THE OPINION THAT THE SALES OF THE DIVISION HAS BEEN ESTIMATED AND THERE IS NO SALE OF ANY ITEM TO THE CUSTOMERS AND THE SALE OF BRACELETS AND CASES IF SOLD IN THE MARKET WILL NOT FETCH 25% MARGIN AS THE ASSESSE E HAS GOT LOSS IN THE ENTIRE TIME PROJECT DIVISION. FURTHER, THE AO HELD THAT SUBSTANTIAL EXPENDITURE INCURRED TOWARDS ERP IMPLEMENTATION, PR OFESSIONAL FEE, ITA NO.1592/MDS/2007 57 BRAND NAME ETC., HAVE NOT BEEN ALLOCATED TO DISTRIB UTION AND HENCE REAL PROFITS FOR DISTRIBUTION CANNOT BE WORKED OUT. THEREFORE, THE AO HELD THAT THE PROFITS OF EURO WATCH CASE PLANT ARE REQUIRED TO BE ARRIVED AT BY ALLOCATING THE TOTAL PROFITS OF TIME PROJECTS DIVISION IN PROPORTION TO THE TURNOVER OF THE WATCH AND THE EUR O WATCH CASE PLANT. FURTHER, THE AO WAS OF THE OPINION THAT THE CASES AND BRACELETS UNIT WILL HAVE ONLY NEGATIVE PROFITS, IF ALL SUCH EXPENSES ARE ALLOCATED TO ALL THE DIVISIONS ON THE BASIS OF THE TURNOVER. SINCE THERE IS A LOSS IN THE TIME PROJECT DIVISION, THE SAME SH ALL BE ALLOCATED TO EURO WATCH CASE PLANT RESULTING IN ITS NEGATIVE INC OME. THERE SHALL BE NO DEDUCTION U/S.80-IB OF THE ACT AVAILABLE FOR THE SAID UNIT. AGAINST THIS, THE ASSESSEE CARRIED THE APPEAL TO TH E CIT(A). 8.2 THE LEARNED COMMISSIONER OF INCOME TAX (APPEAL S) OBSERVED THAT THE WATCHES TO BE SOLD IN EUROPE ARE BEING PRO DUCED BY VARIOUS OTHER UNITS OF THE ASSESSEE COMPANY. HOWEVER, FOR SUCH WATCHES, THE ASSESSEE IS MANUFACTURING SPECIAL CASES AND BRA CELETS WHICH ARE ITA NO.1592/MDS/2007 58 SUPPLIED TO VARIOUS OTHER MANUFACTURING UNITS FOR THE PURPOSE OF PACKING THE SAID EURO WATCHES. THERE IS NO DIRECT SALE OF THE SAID CASES AND BRACELETS TO THE CUSTOMERS. THE ASSESSEE HAS INDIRECTLY WORKED OUT THE SALES PERTAINING TO THE CASES AND BR ACELETS ON THE BASIS OF THE TOTAL SALES OF EURO WATCHES. THE CONT ENTION OF THE ASSESSEE IS THAT THE ASSESSEE HAS EARNED NET PROFIT S OF ` 8.44 CRORES ON THE SALE OF SUCH CASES AND BRACELETS ALTHOUGH NO SUCH SALE HAD ACTUALLY TAKEN PLACE DIRECTLY. THE ASSESSEE HAS AR RIVED AT THE ABOVE FIGURE OF PROFITS OF ` 8.44 CRORES BY ESTIMATING SALES OF THIS UNIT TO BE ` 29.40 CRORES. THE CONTENTION OF THE ASSESSEE IS THA T THE TOTAL SALE OF EURO WATCHES WAS ` 452.77 CRORES. THE SAID FIGURE IS STATED TO INCLUDE THE SALE VALUE OF BRACELETS AND CASES AMOUN TING TO ` 29.40 CRORES. THE ASSESSEE HAS CONTENDED THAT THE ABOVE C ALCULATIONS ARE BASED ON THE RATIO OF COST OF PRODUCTION OF CASES A ND BRACELETS VIS-- VIS THE COST OF PRODUCTION OF EURO WATCHES. 8.3 THE AO WAS OF THE OPINION THAT SINCE THE ASSES SEE CANNOT SELL THE CASES AND BRACELETS INDEPENDENTLY, THE THEORETI CAL PROFITS ARRIVED AT BY THEM ARE NOT ELIGIBLE FOR ANY DEDUCTION U/S.8 0-IB OF THE ACT. THE ITA NO.1592/MDS/2007 59 AO WAS FURTHER OF THE VIEW THAT THE TOTAL PROFITS O F EURO WATCH DIVISION HAVING STATED SALES TURNOVER OF ` 423.37 CRORES ARE ` 7.50 CRORES ONLY. FURTHERMORE, IF THE BANK INTEREST OF ` 95.96 LAKHS, DIVIDEND INCOME OF ` 903 LAKHS AND INTEREST ON ADVANCES OF ` 9.36 CRORES IS EXCLUDED, THERE WILL BE A NET LOSS OF ` 11.85 CRORES IN THE EURO WATCH MANUFACTURING DIVISION. THE AO WAS OF TH E VIEW THAT IF MANUFACTURING DIVISIONS ARE HAVING LOSS OF ` 11.85 CRORES, THE ESTIMATION OF ` 8.44 CRORES PROFIT ON THE THEORETICAL SALE OF CASES AND BRACELETS OF ONLY ` 29.40 CRORES APPEARS TO BE HIGHLY EXAGGERATED AND NOT ACCEPTABLE. THE AO WAS FURTHER OF THE VIEW T HAT THE ASSESSEE HAS DEBITED HUGE EXPENDITURE IN THE FORM OF ERP IMP LEMENTATION, BRAND BUILDING EXPENSES, PROFESSIONAL FEES, ETC. IN THE P&L ACCOUNT OF MANUFACTURING UNITS WHEREAS SUCH EXPENSES HAVE N OT BEEN ALLOCATED TO THE CASES AND BRACELETS DIVISION. THER EFORE, THE PROFITS ARRIVED AT BY THE ASSESSEE FOR SUCH DIVISIONS ARE N OT REAL PROFITS. KEEPING IN VIEW THE ABOVE FACTS, THE AO HELD THAT T HE CASES AND BRACELETS UNIT WILL HAVE ONLY NEGATIVE PROFITS IF A LL SUCH EXPENSES ARE ALLOCATED TO ALL THE DIVISIONS ON THE BASIS OF THEI R TURNOVER. HENCE, THE ITA NO.1592/MDS/2007 60 AO HAS NOT ALLOWED ANY DEDUCTION U/S.80-IB FOR THIS CASES AND BRACELETS DIVISION. 8.4 WE HAVE HEARD BOTH THE PARTIES AND PERUSED THE MATERIAL ON RECORD. THE CLAIM OF DEDUCTION U/S.80-IB OF THE ACT IN RESPECT OF PROFITS OF EURO WATCH DIVISION CANNOT BE DENIED ON THE GROUND THAT IT IS ONLY NOTIONAL PROFIT, AS ASSESSEE USES THE PRODU CTS OF EURO WATCH DIVISION FOR CAPTIVE CONSUMPTION OF THE ASSESSEE OR FOR THE REASON THAT ASSESSEE HAS NOT EARNED ACTUAL PROFITS. IN OU R OPINION, THE PROFIT FROM EURO WATCH DIVISION TO BE WORKED OUT ON STANDA LONE BASIS BY APPORTIONING OF NECESSARY EXPENDITURE IN PROPORTION ATE TO THE TURNOVER TO THIS DIVISION AND ASCERTAINED THE TRUE PROFIT OF THE EURO WATCH DIVISION. THE MARKET VALUE OF PRODUCT OF THE EURO WATCH DIVISION IS TO BE DETERMINED ON THE AVERAGE PRICE T O BE PAID, OR PAID BY THE ASSESSEE TO THE OTHER PARTIES IN THE OPEN MA RKET, HAD IT BEEN PURCHASED FROM THE OUTSIDERS WHICH WOULD BE IN TERM S OF SEC.80- IA(8) R.W.SEC.80-IB(13) OF THE INCOME TAX ACT. ACC ORDINGLY, THE ISSUE IN DISPUTE IS REMITTED TO THE FILE OF THE AO FOR RE -COMPUTATION OF THE PROFIT OF EURO WATCH DIVISION AND CONSIDERED THE CL AIM OF ASSESSEE FOR DEDUCTION U/S.80-IB IN THE LIGHT OF ORDER OF TR IBUNAL IN THE CASE OF ITA NO.1592/MDS/2007 61 WEST COAST PAPER MILLS LTD., VS. ACIT REPORTED IN [ 2006] 103 ITD 19 (ITAT)[MUM]. THIS ISSUE IS PARTLY ALLOWED FOR STATI STICAL PURPOSES. 9. IN THE RESULT, THE APPEAL OF ASSESSEE IS PARTLY ALLOWED FOR STATISTICAL PURPOSES. ORDER PRONOUNCED ON THURSDAY, THE 12 TH OF MAY,2016 AT CHENNAI. SD/- SD/- ' # $ . % & ' ( DUVVURU RL REDDY ) ) ( ( ( ) * + ) ) ' CHANDRA POOJARI ', JUDICIAL MEMBER ACCOUNTANT MEMBER CHENNAI, DATED THE 12 TH MAY,2016 . K S SUNDARAM. -.,, /0,10 /COPY TO: , 1. /APPELLANT 2. /RESPONDENT 3. , 2,'' /CIT(A) 4. , 2 /CIT 5. 034, 5 /DR 6. 4,6 /GF