M/s. Delphi TVS Diesel Systems Ltd., CHENNAI V. ACIT, CHENNAI

ITA 2163/CHNY/2010

• Counselvise Citation: [2012] 140 COUNSELVISE.COM (IT) 57961 (ITAT-CHENNAI)
• Duration Of Justice: 1 year(s) 2 month(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 23-02-2012
• Appeal Filed By: Assessee
• Order Result: Allowed
• Bench Allotted: B
• Next Hearing Date: 23-02-2012
• Assessment Year: 2006-2007
• Appeal Filed On: 23-12-2010
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: K GOPALAKRISHNA SR
• Keywords: Related party transaction; Transfer pricing; International transaction; Rule 8D; Set aside
• Section: 92C; 14A; 250

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL B BENCH, CHENNAI BEFORE SHRI ABRAHAM P. GEORGE, ACCOUNTANT MEMBER AND SHRI GEORGE MATHAN, JUDICIAL MEMBER I.T.A. NO. 2163/MDS/2010 (ASSESSMENT YEAR : 2006-07) M/S DELPHI TVS DIESEL SYSTEMS LTD., 6, PATTULOS ROAD, CHENNAI - 600 002. PAN : AAACL1019K (APPELLANT) V. THE ASSISTANT COMMISSIONER OF INCOME TAX, COMPANY CIRCLE I(4), CHENNAI - 600 034 . (RESPONDENT) APPELLANT BY : SHRI VIKRAM VIJAYARAGHAVAN, ADVOCA TE RESPONDENT BY : SHRI K. GOPALAKRISHNA, SR.AR DATE OF HEARING : 23.02.2012 DATE OF PRONOUNCEMENT : 23.02.2012 O R D E R PER ABRAHAM P. GEORGE, ACCOUNTANT MEMBER : IN THIS APPEAL FILED BY THE ASSESSEE, IT IS AGGRIE VED FIRST ON ACCOUNT OF THE ADDITION MADE TO THE ARMS LENGTH PRICE ON T HE INTERNATIONAL TRANSACTION ENTERED BY IT AND SECONDLY, ON ACCOUNT OF DISALLOWANCE OF EXPENSES RELATABLE TO EARNING OF DIVIDEND INCOME CL AIMED EXEMPT. THE ADDITION ON ACCOUNT OF FORMER CAME TO ` 55,93,380/- AND THE ADDITION ON ACCOUNT OF LATTER CAME TO ` 13,93,025/-. 2 I.T.A. NO. 2163/MDS/10 2. SHORT FACTS APROPOS ARE THAT ASSESSEE COMPANY, E NGAGED IN MANUFACTURING OF FUEL INJECTION EQUIPMENT USED IN V EHICLES, HAD FILED ITS RETURN FOR THE IMPUGNED ASSESSMENT YEAR DECLARING A TOTAL INCOME OF ` 64,60,00,616/-. DURING THE COURSE OF ASSESSMENT PR OCEEDINGS, IT WAS NOTED BY THE A.O. THAT VALUE OF ASSESSEES INTERNAT IONAL TRANSACTIONS WITH ASSOCIATED ENTERPRISES (AE) WAS IN EXCESS OF ` 5 CRORES AND THEREFORE, A REFERENCE WAS MADE TO TRANSFER PRICING OFFICER UN DER SECTION 92CA OF INCOME-TAX ACT, 1962 (IN SHORT 'THE ACT'). ASSESSE E HAD FOR ITS TRANSACTIONS WITH AE, ARRIVED AT THE ARMSS LENGTH PRICE, ADOPTING TRANSACTIONAL NET MARGIN (TNM) METHOD. ASSESSEES SUBMISSION BEFORE THE TPO WAS THAT COMPARABLE UNCONTROLLED PRICE (CUP ) METHOD COULD NOT BE APPLIED SINCE MATERIALS PURCHASED FROM AE AN D FROM UNRELATED ENTITIES WERE TECHNICALLY DIFFERENT. AE PART NUMBE RS WERE CUSTOM MADE, MANUFACTURED TO SPECIFICATIONS OF VEHICLES PRODUCED IN INDIA, WHEREAS NON-AE PART NUMBERS HAD TO UNDERGO FURTHER PROCESSI NG. AS PER THE ASSESSEE, IT COULD PROCURE SMALL QUANTITIES OF CERT AIN PART NUMBERS FROM AES, WHICH WAS NOT POSSIBLE IN THE CASE OF PURCHASE S FROM UNRELATED ENTITIES, AND QUALITY REJECTIONS WERE LESS WHEN ITE MS WERE PROCURED FROM AES, WHEREAS SUCH REJECTIONS WERE LARGER IN THE CAS E OF ITEMS PROCURED FROM UNRELATED PARTIES. FURTHER, AS PER THE ASSESS EE, IT HAD ACQUIRED MORE THAN 1,100 COMPONENTS FROM AES AND THERE WERE ONLY 82 INSTANCES WHERE GOODS PURCHASED FROM AE AND UNRELAT ED PARTIES HAD 3 I.T.A. NO. 2163/MDS/10 THE SAME PART NUMBER. A DETAILED ANALYSIS WAS ALSO SUBMITTED WITH REGARD TO FIVE PART NUMBERS MENTIONED HEREUNDER IN SUPPORT OF ITS CONTENTIONS:- (1) MINIMAX ADJUSTING SCREW (PART NO.9003745C) (2) RING FOR GOV COVER (9007-497L) (3) GOVERNOR LINKAGE HOOK (9101-326) (4) FUEL ADJUSTING SCREW (9101-416) (5) FIXED SCREW (9107-061) IN SHORT, AS PER THE ASSESSEE, FURTHER PROCESSING W AS CARRIED OUT ON THE MATERIALS RECEIVED FROM UNRELATED ENTITIES AND SOME OF THE IMPORTS FROM UNRELATED ENTITIES WERE SAMPLES. ONE OTHER REASON WHY A COMPARISON WAS NOT READILY POSSIBLE WAS THAT AES COULD GIVE SM ALLER INDIVIDUAL BATCHES WHEREAS UNRELATED ENTITIES COULD SUPPLY ON IN LARGE BATCH OF SIZE EXCEEDING 20,000 PIECES AND IT EFFECTED THE PRICING . THEREFORE, ACCORDING TO ASSESSEE, TNM METHOD ALONE COULD BE AP PLIED. ASSESSEE ALSO RULED OUT APPLICATION OF RESALE METHOD SINCE T HE IMPORTED COMPONENTS WERE NOT RESOLD DIRECTLY AND FURTHER AS PER THE ASSESSEE, COST PLUS METHOD COULD ALSO NOT BE ADOPTED SINCE AS SESSEE WAS NOT THE SELLER BUT THE BUYER. FOR ADOPTING TNM METHOD, ASS ESSEE SUBMITTED JUSTIFICATIONS AS UNDER:- (I) THERE WERE APPROXIMATELY 250 COMPONENTS IN THE PRODUCTS MANUFACTURED BY THE COMPANY, OUT OF WHICH CERTAIN COMPONENTS WERE IMPORTED AND CERTAIN COMPONENTS WERE PROCURED LOCALLY. THE COMPONENTS IMPORTED FROM UNRELATED ENTITIES HAD TO UNDERGO FUR THER 4 I.T.A. NO. 2163/MDS/10 OPERATIONS TO BE USED IN THE FINISHED PRODUCT. IT WAS THEREFORE NOT POSSIBLE TO COMPUTE THE NET PROFIT RA TIOS FOR EACH AND EVERY COMPONENT IMPORTED. (II) THE NATURE & CLASS OF THE INTERNATIONAL TRANSACTION WITH AES. (III) FUNCTIONS PERFORMED, ASSETS EMPLOYED AND RISKS ASSU MED BY THE ASSESSEE AND AES. (IV) AVAILABILITY, COVERAGE & RELIABILITY OF DATA NECESS ARY FOR THE APPLICATION OF THE METHOD. (V) THE DEGREE OF COMPARABILITY THAT EXISTS BETWEEN THE INTERNATIONAL TRANSACTIONS AND UNCONTROLLED TRANSAC TIONS. (VI) THE EXTENT TO WHICH RELIABLE AND ACCURATE ADJUSTMENT COULD BE MADE TO ACCOUNT FOR DIFFERENCES, BETWEEN INTERNATIONAL TRANSACTIONS AND COMPARABLE UNCONTROL LED PRICES. (VII) THE NATURE, EXTENT AND RELIABILITY OF ASSUMPTIONS RE QUIRED TO BE MADE IN APPLICATION OF METHOD. FOR APPLICATION OF TNM METHOD, ASSESSEE TOOK AS COM PARABLE FOUR COMPANIES, NAMELY, MICO BOSCH, SKF INDIA LTD., EXID E INDUSTRIES LTD. AND GABRIEL INDIA LTD. AS PER THE ASSESSEE, THESE COMPANIES WERE READILY COMPARABLE TO THE ASSESSEE SINCE THEY WERE IN THE SAME BUSINESS OF FUEL INJECTION EQUIPMENT. BASED ON THE ANALYSIS OF THE NET MARGIN OF SUCH COMPANIES ON ITS SALES, ASSESSEE JUS TIFIED ITS PRICES FOR IMPORTS FROM AES. ACCORDING TO ASSESSEE, MARGIN ON SALES FOR THE ASSESSEE WAS MUCH HIGHER THAN OF ITS COMPARABLES AN D THEREFORE, NO ADJUSTMENT WHATSOEVER WAS REQUIRED IN THE ARM'S LEN GTH PRICE ADOPTED. 3. HOWEVER, THE TPO WAS NOT IMPRESSED BY THE ARGUM ENTS OF THE ASSESSEE. ACCORDING TO HIM, TNM METHOD COULD NOT B E ADOPTED ON ACCOUNT OF FOLLOWING REASONS:- 5 I.T.A. NO. 2163/MDS/10 (I) MICO BOSH AND SKF INDIA LTD. THOUGH ENGAGED IN SIMILAR BUSINESS AS THAT OF ASSESSEE, HAD SUBSTANTIAL RELAT ED PARTY TRANSACTIONS AND SUCH TRANSACTIONS TOOK IT OUT OF T HE PURVIEW OF A COMPARABLE ENTITY. M/S EXIDE INDUSTRIES LTD. AND GABRIEL INDIA LTD., WERE ORIGINAL EQUIPMENT MANUFACTURERS A ND WERE NOT HAVING A BUSINESS LINE COMPARABLE WITH THE BUSI NESS OF THE ASSESSEE. (II) ASSESSEE HAD IMPORTED SOME ITEMS FROM AES WHIC H WERE ALSO PURCHASED FROM COMPANIES OTHER THAN AES. ASSE SSEE ITSELF HAD COMPARED THESE PURCHASE TRANSACTIONS AND COMPLETE LIST OF SUCH TRANSACTIONS WERE AVAILABLE. (III) PRICE COMPARISON BETWEEN PURCHASES FROM THE A ES AND NON-AES OF SIMILAR ITEMS, SHOWED THAT ASSESSEE HAD MADE PURCHASES AT A HIGHER PRICE FROM ITS AES THAN FROM NON-AES FOR A NUMBER OF COMPONENTS. PRICE VARIATION WAS SU BSTANTIAL AND MORE THAN 20% OF UNCONTROLLED PRICE. (IV) OECD GUIDELINES CLEARLY STATED THAT CUP METHOD WILL BE PREFERRED IF A REASONABLE COMPARISON COULD BE MADE AND ONLY IF DIRECT METHODS WERE NOT AVAILABLE INDIRECT METHODS LIKE TNM METHOD COULD BE ADOPTED. 6 I.T.A. NO. 2163/MDS/10 4. ASSESSEE OBJECTED TO THE PROPOSITION OF TPO FOR REJECTING TNM METHOD AND ADOPTING CUP METHOD SUBMITTING THAT THE ITEMS CONSIDERED WERE NOT READILY COMPARABLE. AS PER THE ASSESSEE , AE PART NUMBERS DIFFERED FROM THE NON-AES PART NUMBERS. IT WAS REI TERATED THAT AES COULD SUPPLY IN SMALL QUANTITIES WHEREAS NON-AES CO ULD NOT SUPPLY QUANTITIES OF LESS THAN 20,000 PIECES. AGAIN, ACCO RDING TO THE ASSESSEE, THE AES HAD INCURRED SUBSTANTIAL DEVELOPMENT COST F OR DEVELOPING CUSTOM ORDERED COMPONENTS WHEREAS NON-AES WERE SUPP LYING ITEMS THAT COULD BE WIDELY USED. AS PER THE ASSESSEE, TH ERE WERE A LARGE NUMBER OF ITEMS ON WHICH PRICES AT WHICH AE HAD SUP PLIED WAS MUCH LESS THAN THE PRICES AT WHICH NON-AES HAD SUPPLIED AND THESE ALSO HAD TO BE CONSIDERED. 5. HOWEVER, TPO WAS NOT IMPRESSED. ACCORDING TO HI M, ASSESSEE COULD MAKE ADJUSTMENT IN ACCORDANCE WITH RULE 10B(1 )(A) OF INCOME-TAX RULES, 1962. FURTHER, ACCORDING TO HIM, THERE WERE CASES WHERE COMPONENTS WERE PURCHASED IN SMALLER QUANTITIES FRO M NON-AES, PRICE PAID BY THE ASSESSEE-COMPANY WAS LOWER AND THEREFOR E, THE PRICE OF PRODUCTS DID NOT DEPEND UPON THE QUANTITY OF PURCHA SE. TPO CITED EXAMPLES LIKE SHAKE PROOF WASHER (PAR NO.5339-235 D ), DELIVERY VALVE RINGS (9003-420B) AND METERING VALVE ARM (PART NO.9 003-452). AS FOR THE DEVELOPMENT COST FOR THE PARTS, TPO NOTED THAT THESE WERE APPLICABLE BOTH FOR NON-AES AS WELL AS AES. HE, TH EREFORE, CONCLUDED 7 I.T.A. NO. 2163/MDS/10 THAT ASSESSEE HAD PAID AN EXCESS ` 68,75,255.51 FOR IMPORTS TO THE AES WHEN COMPARED TO THE PRICE AT WHICH NON-AES SUPPLIE D SUCH ITEMS TO IT AND RECOMMENDED UPWARD ADJUSTMENT OF INTERNATIONAL TRANSACTION PRICES AS STIPULATED IN SECTION 92C OF THE ACT. TPO LATER REVISED THE SAID RUM TO ` 55,93,380/-. ASSESSMENT WAS ACCORDINGLY COMPLETED. 6. ASSESSEE FILED OBJECTIONS TO THE DRAFT ASSESSMEN T PROPOSED BY THE ASSESSING OFFICER ON THE LINES OF THE RECOMMENDATIO NS GIVEN BY TPO BEFORE THE DISPUTE RESOLUTION PANEL (DRP). GROUNDS TAKEN WERE IMPROPER SELECTION AND APPLICATION OF CUP METHOD, A ND REJECTION OF TNM METHOD. ASSESSEE ALSO OBJECTED TO THE REJECTION OF COMPARABLE COMPANIES IDENTIFIED BY IT FOR TNM METHOD. MORE OR LESS SAME OBJECTIONS AS TAKEN BEFORE THE TPO WERE REITERATED BEFORE THE DRP. RELIANCE WAS ALSO PLACED ON THE DECISION OF MUMBAI BENCH OF THIS TRIBUNAL IN THE CASE OF CHEMINOVA INDIA LTD. V. ACI T IN I.T.A. NO. 4865/MUM/5 WHEREIN CERTAIN OBSERVATION S WERE MADE BY THE SAID BENCH WITH REGARD TO APPLICATION OF CUP METHOD FOR DETERMINING ARM'S LENGTH PRICE. HOWEVER, DRP WAS NOT IMPRESSE D. ACCORDING TO IT, TPO HAD DEALT WITH EACH OF THE OBJECTIONS TAKEN BY THE ASSESSEE AGAINST REJECTION OF THE TNM METHOD AND ADOPTION OF CUP METHOD FOR DETERMINING ARM'S LENGTH PRICE. AS PER DRP, ASSESS EE-COMPANY COULD MAKE ADJUSTMENT TO THE PRICES FOR FACTORS HAVING MA TERIAL EFFECT ON PRICES BUT IT HAD NOT DONE SO. ASSESSEE ALSO COULD NOT SU BSTANTIATE ITS 8 I.T.A. NO. 2163/MDS/10 ARGUMENT THAT IT WAS NOT POSSIBLE TO MAKE A COMPARI SON OF PURCHASE FROM AES AND NON-AES. DRP ALSO DISTINGUISHED DECIS ION OF MUMBAI BENCH IN THE CASE OF CHEMINOVA INDIA LTD. (SUPRA) N OTING THAT THE SAID DECISION WAS GIVEN IN THE FACTS OF THAT CASE. AS P ER THE DRP, TPO HAD GIVEN DETAILED REASONS WHY TNM METHOD COULD NOT BE ADOPTED. IT THUS CONFIRMED THE PROPOSED ADDITION IN THE ARM'S LENGTH PRICE. ASSESSMENT WAS COMPLETED ACCORDINGLY. 7. NOW BEFORE US, LEARNED A.R., STRONGLY ASSAILING THE ORDERS OF LOWER AUTHORITIES, SUBMITTED THAT ITS VARIOUS CONTENTIONS REGARDING NON- COMPARABILITY OF PRICES ON THE ITEMS SUPPLIED BY TH E AES AND NON-AES WERE NOT PROPERLY ADDRESSED BY SUCH LOWER AUTHORITI ES. ACCORDING TO HIM, CRUX OF THE ASSESSEES GRIEVANCE WAS THAT THE PART NUMBERS PURCHASED FROM AES AND NON-AES WERE NOT SAME. COMP ONENTS SUPPLIED BY THE AE COULD BE DIRECTLY USED WHEREAS C OMPONENTS SUPPLIED BY NON-AES HAD TO UNDER GO FURTHER PROCESSING. NON -AE VENDORS THEMSELVES HAD CERTIFIED THAT FURTHER PROCESSING WA S REQUIRED. QUANTITIES THAT COULD BE SUPPLIED BY THE AES WAS MU CH LESS THAN WHAT COULD BE SUPPLIED BY NON-AES. CITING SPECIFIC ITEM S WHICH WERE COMMONLY SUPPLIED, NAMELY, SPRING LINKAGE ADJUSTING SCREW (PART NO.9003-745C), ADJUSTING SCREW (PART NO.9101-416), LINKAGE HOOK (PART NO.9101-326) AND O RING (PART NO.9007-497L), LEARNED A.R. SUBMITTED THAT SUCH PARTS PROCURED FROM NON-AES HAD TO UNDERGO HEAT 9 I.T.A. NO. 2163/MDS/10 TREATMENT AND PHOSPHATING AND ESLOCK COATING HAD TO BE DONE THROUGH SUB-CONTRACTS, FOR MAKING IT FIT FOR USE. THEREFOR E, ACCORDING TO HIM, THE ITEMS WERE NOT READILY COMPARABLE AND WITHOUT MAKIN G ANY ADJUSTMENT, THE TPO HAD ADOPTED THE SAME PRICES AS CHARGED BY N ON-AES. INSOFAR AS REJECTION OF TNM METHOD WAS CONCERNED, SUBMISSIO N OF LEARNED A.R. WAS THAT THIS WAS INCORRECTLY DONE. RELATED PARTY TRANSACTIONS IN THE CASE OF COMPANIES MICO BOSCH AND SKF INDIA LTD. WER E MUCH LESS THAN 15% OF THE TOTAL TURNOVER AND THIS BY ITSELF C OULD NOT EFFECT COMPARABILITY. AS FOR THE VIEW OF THE TPO THAT CUP METHOD HAD TO BE ADOPTED WHENEVER ITEMS WERE COMPARABLE AND AN INDIR ECT METHOD LIKE TNM SHOULD NOT BE ADOPTED, LEARNED A.R. SUBMITTED T HAT OECD GUIDELINES DID NOT, IN ANY WAY, SUGGEST SUCH A PROC EDURE FOR PREFERRING ONE METHOD OVER ANOTHER FOR DETERMINING ARM'S LENGT H PRICE. ACCORDING TO HIM, EVEN PRESUMING THAT CUP METHOD WAS THE ONLY APPROPRIATE METHOD IN THE ASSESSEES CASE, THE ADJUSTMENT TO TH E PRICE THAT WAS TO BE DONE AS PRESCRIBED UNDER RULE 10B(1)(A)(II) WAS NOT DONE DESPITE ASSESSEE POINTING OUT SIGNIFICANT ASPECTS WHICH RES ULTED IN DIFFERENCES IN PRICES SUBSTANTIALLY ERODING THE POSSIBILITY OF A D IRECT COMPARISON. ACCORDING TO HIM, NONE OF THE AUTHORITIES GAVE THE ASSESSEE AN OPPORTUNITY TO CARRY OUT ADJUSTMENT IN PRICES SO AS TO MAKE A MEANINGFUL COMPARISON FOR DETERMINING THE ARM'S LENGTH PRICE. 10 I.T.A. NO. 2163/MDS/10 8. PER CONTRA, LEARNED D.R. SUBMITTED THAT TNM METH OD WAS RIGHTLY REJECTED AND CUP METHOD WAS RIGHTLY ADOPTED. ACCOR DING TO HIM, ASSESSEE ITSELF HAD PREPARED A LIST OF ITEMS WHEREI N ITEMS IMPORTED FROM AE AND NON-AES WERE COMPARABLE, AND BASED ON SUCH L IST ALONE, TPO HAD MADE A TRANSACTION WISE COMPARISON. THE AMOUNT OF ` 55,93,380/- SUGGESTED FOR UPWARD ADJUSTMENT WAS BASED ON THESE TRANSACTIONS WHERE AES PARTS WERE ACQUIRED AT A MUCH HIGHER VALU E THAN NON-AE PARTS. 9. WE HAVE PERUSED THE ORDERS AND HEARD THE RIVAL SUBMISSIONS. THE CRUX OF THE CONTENTIONS OF THE ASSESSEE WAS THA T THE TNM METHOD WAS MOST APPROPRIATE METHOD AND NOT CUP METHOD. AS PER ASSESSEES ADMISSION ITSELF THERE WERE 82 INSTANCES WHERE THE GOODS PURCHASED FROM AE AND UNRELATED PARTIES HAD SAME PART NUMBER. AT PAPER-BOOK PAGE 9, AGAINST ITEM NO.4, GIVING ASSESSEES POINTS AGAINST SPECIFIC FINDING OF THE ASSESSING OFFICER, THIS WAS CLEARLY MENTIONED. WHEN A TRANSACTION TO TRANSACTION OR ITEM TO ITEM COMPARIS ON IS POSSIBLE, IN OUR VIEW, THAT SHOULD ALWAYS BE PREFERRED, IF PROPER AD JUSTMENT CAN BE CARRIED TO ACCOUNT FOR THE DIFFERENCES THAT COULD M ATERIALLY EFFECT THE PRICES IN OPEN MARKET OF THE RELATED ITEMS. HERE, IN THE CASE BEFORE US, ASSESSEE HAD PREFERRED TNM METHOD. BUT IT IS ALSO A MATTER OF FACT THAT THERE WERE SUBSTANTIAL RELATED PARTY TRANSACTION IN TWO OF THE COMPARABLES SELECTED BY THE ASSESSEE, NAMELY M/S MI CO BOSCH AND 11 I.T.A. NO. 2163/MDS/10 M/S SKF INDIA LTD. NO DOUBT, IT COULD BE TRUE THAT IN THE CASE OF M/S SKF INDIA LTD. THE RELATED PARTY TRANSACTIONS WERE WITH IN 15% OF ITS TURNOVER BUT IN THE CASE OF MICO BOSCH, ASSESSEE HAS NOT BEE N ABLE TO SHOW THE QUANTUM OF RELATED PARTY TRANSACTIONS. AS FOR EXID E INDUSTRIES LTD. AND GABRIEL INDIA LTD., THE OTHER TWO COMPANIES SELECTE D BY THE ASSESSEE IN ITS TNM METHOD, THEY WERE NOT MANUFACTURING FUEL EQ UIPMENT, BUT WERE MAINLY MANUFACTURERS OF AUTO ANCILLARY ITEM. THESE FACTORS TOOK THEM OUT OF BEING POSSIBLE TESTED PARTY FOR MAKING A TNM ANALYSIS. AS PER THE ASSESSEE, PRODUCT DIFFERENCES DID NOT EFFECT THE SE LECTION OF TNM METHOD AND FOR THIS IT RELIED ON OECD GUIDELINES. THE SAID OECD GUIDELINES IS REPRODUCED HEREUNDER:- 3.27 ONE STRENGTH OF THE TRANSACTIONAL NET MARGIN MET HOD IS THAT NET MARGINS (E.G. RETURN ON ASSETS, OPERATI NG INCOME TO SALES, AND POSSIBLY OTHER MEASURES OF NET PROFIT) ARE LESS AFFECTED BY TRANSACTIONAL DIFFERENCES THAN IS THE CASE WITH PRI CE, AS USED IN THE CUP METHOD. THE NET MARGINS ALSO MAY BE MORE TOLER ANT TO SOME FUNCTIONAL DIFFERENCES BETWEEN THE CONTROLLED AND U NCONTROLLED TRANSACTIONS THAN GROSS PROFIT MARGINS. DIFFERENCE S IN THE FUNCTIONS PERFORMED BETWEEN ENTERPRISES ARE OFTEN R EFLECTED IN VARIATIONS IN OPERATING EXPENSES. CONSEQUENTLY, ENT ERPRISES MAY HAVE A WIDE RANGE OF GROSS PROFIT MARGINS BUT STILL EARN BROADLY SIMILAR LEVELS OF NET PROFITS. THE ABOVE GUIDELINES DO NOT SAY THAT EVEN WHERE THE RE WERE SUBSTANTIAL DIFFERENCES BETWEEN THE ITEMS MANUFACTURED, A CANDI DATE FOR TNM METHOD COULD BE SELECTED. IN SUCH CIRCUMSTANCES, T HE TPO WAS PERFECTLY JUSTIFIED IN REJECTING THE TNM METHOD HAV ING FOUND THAT THE 12 I.T.A. NO. 2163/MDS/10 COMPARABLE ENTITIES SELECTED BY THE ASSESSEE HAD SU BSTANTIAL RELATED PARTY TRANSACTIONS AND DIFFERENCE IN FUNCTIONALITY WHICH ERODED THE COMPARABILITY MATERIALLY. AS AGAINST THIS, ASSESSE E ITSELF HAS ADMITTED THAT IT HAD SIMILAR ITEMS OF IMPORT FROM BOTH AES A ND NON-AES. IN OUR OPINION, ADOPTION OF CUP METHOD WAS APPROPRIATE ESP ECIALLY WHEN SUCH ITEMS COULD BE IDENTIFIED. IT IS ALSO TRUE THAT AS SESSEE HAD IMPORTED A NUMBER OF ITEMS FROM AES AND NON-AES AND IN SOME OF THE ITEMS PRICES OF AES AND NON-AES WERE COMPARABLE, AND IN SOME OF THE ITEMS, PRICES FROM AES WERE MORE THAN THE PRICES OF NON-AES AND I N SOME OTHER ITEMS PRICES CHARGED BY AES WERE LESS THAN THAT FROM NON- AES. THE LOWER AUTHORITIES HAD NOT ADDRESSED THE QUESTION AS TO WH ETHER IN SUCH CIRCUMSTANCES IT WOULD BE APPROPRIATE TO SELECT THO SE ITEMS WHERE TRANSACTION VALUES WERE HIGHER WHEN COMPARED TO THA T OF NON-AES, WHILE IGNORING THOSE TRANSACTIONS WHERE TRANSFER VALUES W ERE SAME OR LOWER WHEN COMPARED TO NON-AES. THERE IS SUBSTANCE IN TH E ARGUMENT OF THE ASSESSEE THAT ITEMS IMPORTED FROM AES REQUIRED FURT HER PROCESSING, SINCE THE PROCESSING REQUIRED AT LEAST IN THE CASE OF 4 ITEMS HAVE BEEN IDENTIFIED AND DESCRIBED AT PAPER-BOOK PAGE 157. T HESE ITEMS HAVE BEEN REFERRED BY US AT PARA TWO OF THE ORDER. OF C OURSE, ASSESSEE WAS UNABLE TO PROVE THE ACTUAL EFFECT OF SUCH PROCESSIN G ON THE PRICES, BY PRODUCING EVIDENCE IN SUPPORT. SIMILARLY, CLAIM OF THE ASSESSEE THAT THE COMPONENTS FROM AES COULD BE IMPORTED AT LOWER NUMB ERS WHEN 13 I.T.A. NO. 2163/MDS/10 COMPARED TO THAT OF NON-AES AND THIS AUTOMATICALLY LED TO MORE NUMBER OF ITEMS BEING ORDERED FROM NON-AES RESULTING IN HI GHER INVENTORY CARRYING COST, ALSO IS A FACTOR THAT COULD MATERIAL LY EFFECT THE COMPARABILITY OF THE PRICES. NO DOUBT, RULE 10B(1) (A)(II) REQUIRES PRICES TO BE ADJUSTED FOR DIFFERENCES AND RULE 10B(2) STAT ES THAT FOR COMPARABILITY OF AN INTERNATIONAL TRANSACTION WITH AN UNCONTROLLED TRANSACTION, SPECIFIC CHARACTERISTICS OF THE PROPER TY TRANSFERRED, THE CONTRACTUAL TERMS OF THE TRANSACTIONS AND CONDITION S PREVAILING IN THE MARKET IN WHICH THE RESPECTIVE PARTIES TO THE TRANS ACTIONS OPERATE, INCLUDING THE SIZE OF THE MARKETS, COSTS OF LABOUR, ETC. OUGHT TO BE CONSIDERED AND ONLY IF THE DIFFERENCE SO IDENTIFIED CAN BE ACCURATELY QUANTIFIED WITH REASONABLE ACCURACY SO AS TO ELIMIN ATE THE MATERIAL DIFFERENCES, AN UNCONTROLLED TRANSACTION COULD BE C ONSIDERED FOR COMPARISON. IN OUR OPINION, IN SUCH CIRCUMSTANCES, ASSESSEE HAS TO BE GIVEN AN OPPORTUNITY TO EXPLAIN WHAT ADJUSTMENTS IT WOULD LIKE TO CARRY OUT TO THE PRICES DETERMINED UNDER CUP METHOD SO AS TO ADJUST SUCH DIFFERENCES AND MAKE IT FIT FOR COMPARISON AS STIPU LATED IN SUB-RULE (2) OF SECTION 10B. IN OUR OPINION, THE MATTER REQUIRES R E-VISIT BY THE TPO FOR CORRECTLY ASSESSING THE PRICES THAT COULD BE ADOPTE D UNDER CUP METHOD FOR COMPARISON AFTER CARRYING OUT THE ADJUSTMENT RE QUIRED. THEREFORE, WHILE ACCEPTING THE VIEW OF THE LOWER AUTHORITIES T HAT TNM METHOD COULD NOT HAVE BEEN ADOPTED IN THE CIRCUMSTANCES OF THE C ASE, WE REMIT THE 14 I.T.A. NO. 2163/MDS/10 MATTER BACK TO TPO AND ASSESSING OFFICER FOR DETERM INING THE ARM'S LENGTH PRICE UNDER CUP METHOD AFTER MAKING REQUIRED ADJUSTMENT STIPULATED IN LAW. ASSESSEE HAS TO SUBSTANTIATE WI TH SUFFICIENT EVIDENCE THE ADJUSTMENTS THAT ARE REASONABLY REQUIRED TO BE MADE FOR RENDERING THE PRICES COMPARABLE. 7. IN THE RESULT, GROUND TAKEN BY THE ASSESSEE RELA TING TO DETERMINATION OF ARM'S LENGTH PRICE, IS ALLOWED FOR STATISTICAL PURPOSES. 8. THIS LEAVES US WITH THE GROUND RELATING TO DISAL LOWANCE OF EXPENSES OF ` 13,93,025/- FOR EARNING DIVIDEND INCOME WHICH IS EX EMPT. ASSESSING OFFICER HAD APPLIED RULE 8D FOR RELEVANT ASSESSMENT YEAR 2006-07. HONBLE BOMBAY HIGH COURT IN THE CASE OF GODREJ & BOYCE MFG. CO. LTD. V. DCIT (328 ITR 81) HAS HELD THAT RU LE 8D CAN BE APPLIED FROM ASSESSMENT YEAR 2008-09 ONLY. THEREFORE, RULE 8D COULD NOT HAVE BEEN APPLIED FOR THE IMPUGNED ASSESSMENT YEAR. BUT , NEVERTHELESS, THEIR LORDSHIP IN THE SAME JUDGMENT HELD THAT EVEN FOR EARLIER ASSESSMENT YEARS, A DISALLOWANCE UNDER SECTION 14A WAS REQUIRED TO BE MADE. WE ARE, THEREFORE, OF THE OPINION THAT THIS ISSUE ALSO REQUIRES RE- VISIT BY THE A.O. WE, THEREFORE, SET ASIDE THE DI SALLOWANCE MADE UNDER SECTION 14A ALSO FOR CONSIDERATION AFRESH BY THE A. O. ASSESSEE SHALL BE FREE TO PRODUCE ANY RECORDS FOR SUBSTANTIATING ITS CONTENTION THAT NO 15 I.T.A. NO. 2163/MDS/10 EXPENSES WERE INCURRED AND ASSESSING OFFICER SHALL PROCEED IN ACCORDANCE WITH LAW. 9. IN THE RESULT, APPEAL OF THE ASSESSEE IS ALLOWED FOR STATISTICAL PURPOSES. ORDER PRONOUNCED IN THE OPEN COURT AFTER CONCLUSION OF HEARING ON 23 RD FEBRUARY, 2012. SD/- SD/- (GEORGE MATHAN) (ABRAHAM P. GEORGE) JUDICIAL MEMBER ACCOUNTANT MEMBER CHENNAI, DATED THE 23 RD FEBRUARY, 2012. KRI. COPY TO: (1) APPELLANT (2) RESPONDENT (3) DRP, CHENNAI (4) D.R. (5) GUARD FILE