A.W FABER CASTELL (INDIA) P.LTD, MUMBAI V. DCIT 9(1)(1), MUMBAI

ITA 577/MUM/2015

• Counselvise Citation: [2015] 140 COUNSELVISE.COM (IT) 100606 (ITAT-MUMBAI)
• Duration Of Justice: 6 month(s) 8 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 05-08-2015
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: K
• Assessment Year: 2010-2011
• Appeal Filed On: 27-01-2015
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Department Lawyers: N K CHAND
• Assessee Lawyers: R R VORA
• Keywords: Transfer pricing; International transaction; Retrospective amendment; Arm length price
• Section: 143(3); 92B

Judgement Text

IN THE INCOME TAX APPELLATE TRI BU NAL MUMBAI BENCH K , MUMBAI BEFORE SHRI VIJAY PAL RAO, JUDICIAL MEMBER AND SHRI R AJENDRA, ACCOUNTANT MEMBER ITA NO. 5 77 ( MUM. ) 20 1 5 (A S SESSMENT YEAR : 2010 - 11 ) M/S A.W. FA B ER CASTELL (INDIA.) PVT.L TD., 801, KAMLA EXECUTIVE PARK , OFF M.V.ROAD, J.B.NAGAR, ANDHERI (EAST) MUMBAI - 400 0 59 APPELLANT P AN NO.AA CCA3117H VS THE DEPUTY COMMISSIONER OF INCOME - TAX, CIRCLE - 9 ( 1 ) (1) , MUMBAI - 40 0 0 0 5 RESPONDENT ASSESSEE BY : SHRI R.R . V O RA, C A REVENUE BY : SHRI N.K.CHAND, CIT DATE OF HEARING : 19 - 05 - 2015 DATE OF PRONOUNCEMENT : 05 - 08 - 2015 O R D E R PER SHRI VIJ AYPAL RAO, J M: TH IS APPEAL BY THE ASSESSEE IS DIRECTED AGAINST THE ASSESSMENT ORDER DATED 2 4 - 12 - 201 4 PASSED U/S 143(3) R.W.S.144C(13) OF THE IT ACT, 1961 IN PURSUANCE TO THE DIRECTIONS OF THE DRP DATED 29 - 01 - 2014 U/S 144C( 5) OF THE IT ACT, 1961 FOR THE ASS ESSMENT YEAR 2010 - 11. 2. THE ASSE S SEE HAS RA I SED THE FOLLOWING GROUNDS; ADJUSTMENTS ON ACCOUNT OF ADVERTISEMENT, MARK4ETING AND PROMOTION (AMP) EXPENSES OF RS.97,87,309/ - ITA NO. 577 (MUM. ) 1 5 2 1. MAKING AN ADJUSTMENT IN RESPECT OF AMP EXPENDITURE OF RS.97,87,309/ - 2. IG NORING THAT THE ALLEGED A M P EXPENSES INCURRED BY THE APPE LL ANT REPRESENTS ONLY DOMESTIC TRANSACTIONS UNDERTAKEN WITH THIRD PARTIES AND ARE OUTSIDE THE PURVIEW OF SECTION 92B OF THE ACT AND IS THUS IN EXCESS OF HIS JURISDICTION. 3. HOLDING THAT THE APPE LLANT WAS FABER CASTELL BRAD I NSTEAD OF APPRECIATING THAT THE APPELLANT WAS ONLY CARRYING OUT I TS BUSINESS OF SELLING PRODUCTS IN INDIA BY SING THE WELL ESTABLISHED BRAND NAME OF FABER CASTELL AND ANY BENEFITS DERIVED BY THE AES ARE PURELY INCIDENTAL. 4. NOT APPRECIATING THAT ONCE THE INTERNATIONAL TRANSACTIONS ENTERED BY THE APPELLANT IS AC C E P TED A ARMS LENGTH ON THE BASIS OF TRANSACTION NET MARGIN METHOD (TNMM) AS THE MOST APPROPRIATE METHOD, SEPARATE ANALYSIS IS NOT REQUIRED FOR BENCH MARKING THE IND IVIDUAL ELEMENT OF AMP COST, WHICH IS INCONSISTENT WITH THE TENETS OF APPLICATION OF TNMM. 5. APPLYING THE BRIGHT LINE TEST TO DETERMINE THE ARMS LENGTH PRICE OF THE AMP EXPENSES INCURRED BY THE APPELLANT, WITHOUT APPRECIATING THT NO SUCH METHOD HAS BE EN PRESCRIBED UNDER THE ACT AND RULES. 6. CONSIDERING INAPPROPRIATE COMPANIES AS COMPARABLE FOR BENCHMARKING A M P EXPENSES. 7. WITHOUT PREJUDICE TO THE ABOVE, ERRED IN HOLDING THAT ITEMS O SELLING EXPENDITURE SUCH AS INCENTIVES TO DISTRIBUTORS IN THE FO RM OF FREE SAMPLES, DISCOUNT AND OTHER SCHEMES .ETC SHOULD BE CONSIDERED FOR MAKING AN ADJUSTMENT WITHOUT APPRECIATING THE FACT THAT NONE OF THESE ITA NO. 577 (MUM. ) 1 5 3 EXPENSES CAN IN ANY WAY BE CONSIDERED AS INCURRED FROM BRAND PROMOTION BUT THESE ARE FOR E FFECTING SALES. 8. WITHOUT PREJUDICE TO THE ABOVE, ERRED IN NOT ADOPTING A SCIENTIFIC SEARCH PROCESS TO IDENTIFY COMPANIES COMPARABLE TO THE APPELLANTS FOR COMPUTING MARK - UP TO BE APPLIED TO THE ALLEGED EXCESSIVE AMP EXPENSES AND CONSIDERING INAPPROPRIATE COMPARABLES. 9. WITHOUT PREJUDICE TO THE ABOVE, ERRED IN NOT ADOPTING A SCIENTIFIC SEARCH PROCESS TO IDENTIFY COMPANIES COMPARABLE TO THE APPELLANT FOR COMPUTING THE MARK UP TO BE APPLIED TO THE ALLEGED EXCESSIVE A M P EXPENSES AND CONSIDERING INAPPROPRIATE COMPANIES. AD JUSTMENT ON ROYALTY OF RS.1,50,59,202/ - 10.ERRED IN DETERMINING THE ARMS LENGTH PRICE FOR ROYALTY PAYMENT AS NIL AND DISALLOWING THE ENTIRE ROYALTY PAYMENT WHICH GOT SUBSUMED IN THE AMP ADJUSTMENT. 3. GROUND NO S .1 T O 9 ARE REGARDING THE TRA N SFER P RI CING ADJUSTMENT ON ACCOUNT OF ADVERTISEMENT, MARK ETING AND PROMOTION EXPENSES. THE A S SES S EE IS A SUBSIDIARY OF A.W.FABER CASTELL A G GERMANY. THE ASSESSEE IS ENGAGED IN THE BUSINESS OF MANUFACTURE OF ERASERS, CRAYONS, OIL PASTEL, POSTER COLOURS AND MECHAN ICAL PEN C ILS. M/S FABER CASTELL UNTEMEHENSVERWALTUND GMBH & CO IS THE PARENT COMPANY O F THE ASSES S EE GROUP AND OWNS TR ADE MARK AND CORPORATE BRAND NAME . THE ASSESEE UTILIZED THE TRAD E MARK IN RELATION TO THE MARKETING AS WELL AS SALE (AMP) OF THE PRODUCT IN THE TERRITORY. DURING THE YEAR UNDER CONSIDERATION, ITA NO. 577 (MUM. ) 1 5 4 THE ASSESSEE HAS ENTERED INTO VARIOUS INTERNATIONAL TRANSACTIONS WITH ITS AES WHICH ARE AS UNDER; - IMPORT OF RAW MATERIALS INR 0.09 CREORES - IMPORT OF TRADED GOODS INR 1.60 CRORES - EXPORT OF FINISHED G OODS INR 7.23 CRORES - PAYMENT OF ROYALTIES INR 1.51 CRORES - INTEREST ON DEBENTURE INR 0.25 CRORES 4. THE TPO ACCEPTED ALL OTHER INTERNATIONAL TRANSACTIO N S AT ARMS LENGTH PRICE EXCEPT THE PAYMENT OF ROYALTY. FURTHER, THE TPO NOTED THAT THE ASSE S SEE HAS DEBITED THE SALES PROMOTION EXPENSES OF RS.4,97,94,260/ - AND ADVERTISEMENT EXPENSES OF RS.43,14,75/ - . THE TPO WAS OF THE VIEW THAT BY INCURRING THE EXPEN S ES ON ACCOUNT O F AMP THE ASSESSEE IS ENHANCING THE VALUE OF BRANDS OWNED BY AE. THE TPO ACCORDINGLY , MADE AN UPWARD TRANSFER PRICING ADJUSTMENT OF RS.97,87,309/ - IN RESPECT OF SALES PROMOTION AND ADVERTISEMENT EXPENSES WHICH INCLUDES MARK UP OF 17.51% HOLDING THAT T HE ASSE S SEE HAS INCURRED EXCESSIVE AMP AS COMPARED TO THE COMPA RA BLE COMPANIES. THE TPO A PPLIED THE BRIGHT LINE TEST AND HELD THAT THE SAID EXCESSIVE EXPENDITURE IS A NON - ROUTINE WHICH THE ASSESSEE HAS INCURRED FOR PROMOTING THE BRAND AND DEVELOPING MARKETING INTANGIBLES OF ITS AE. THE ASSESSEE OBJECTED THE PROPOSED TRANSFER PRICING ADJUSTM ENTS BEFORE THE DRP, BUT COULD NOT SUCCEED. ITA NO. 577 (MUM. ) 1 5 5 5. BEFORE US, THE LEARNED AR OF THE ASSESSEE HAS POINTED OUT THAT THE ASSESSEE HAD AMP TO SALES RATIO OF ONLY 0.74%. HOWEVER, THE TPO HAS RE - WORKED OUT THE AMP AS WELL AS RATIO AT 6.06% BY ADDING VARIOUS SELL ING EXPENSES IN THE CATEGORY OF AMP. THE LEARNED AR HAS SUBMITTED THAT THE ASSESSEE HAS GIVEN THE DETAILS OF THE AMP EXPENSES AND SUBMITTED THAT THE AMP EXPENSES INCURRED BY THE ASSE S SEE ARE RS.57,70,313/ - WHEREAS THE TPO HAS ADDED VARIOUS OTHER EXPENSES IN THE NATURE OF SELLING EXPENSES INCLUDING FREE SAMPLES TO DISTRIBUTORS , ADDITIONAL DISCOUNT TO DISTRIBUTORS, DISCOUNT ALLOWED, TRADE DISCOUNT, SALES PROMOTION EXPENSES AND THEREBY THE TPO TOOK A TOTAL AMP EXPENSES AT RS.4,72,78,948/ - AS AGAINST THE CLAI M OF AMP EXPENSES OF THE ASSESSEE AT RS.57,70,313/ - . THE TPO COMPARED THE AMP RATIO OF THE COMPARABLES AT 4.99% WITH THE AMP RATIO OF THE ASSESSEE ADOPTED AT 6.06% AND OBSERVED THAT THE EXCESS AMP EXPENSES SHOULD BE REIMBURSED BY THE AE TO THE ASSESSEE AL ONG WITH THE ARMS LENGTH MARK UP. HENCE, THE LEARNED AR OF THE ASSE S SEE SUBMITTED THAT THE TPO MADE AN ADJUSTMENT ON ACCOUNT OF AMP EXPENSES OF RS.97,87,309/ - . THE LEARNED AR FURTHER SUBMITTED THAT WHILE MAKING THE SAID ADJUSTMENT ON ACCOUNT OF AMP EXPE NSES THE TPO HAD RELIED UPON THE DECISION OF THE SPECIAL BENCH OF THIS T RIBUNAL IN THE CASE OF L.G.ELECTRONICS INDIA PVT. LTD. VS ACIT (2013) 22 ITR (TRIB.) 1(DEL.)(SB). THE LEARNED AR HAS POINTED OUT THAT THE SPECIAL BENCH HAS SPECIFICALLY OBSERVED THAT THE EXPENSES WHICH ARE SELLING IN NATURE SHOULD NOT BE CONSIDERED FOR THE PURPOSE OF A M P. HE HAS REFERRED THE FINDING OF THE SPECIAL BENCH IN PARA - 18.3 & 18.4 OF THE ORDER. ITA NO. 577 (MUM. ) 1 5 6 6. THUS, THE LEARNED AR HAS CONTENDED THAT THE TPO COMMITTED AN ERROR BY NOT FOLL OWING THE OBSERVATION OF THE SPECIAL BENCH AS HE HAS CONSIDERED THE EXPENSES WHICH ARE IN THE NATURE OF SELLING EXPENSES WHILE COMPUTING THE A M P. THE LEARNED AR HAS FURTHER CONTENDED THE SAID VIEW OF THE DELHI SPECIAL BENCH HAS BEEN UPHELD BY THE HONBLE D ELHI HIGH COURT IN THE CASE OF M/S SONY ERICSSON MOBILE COMMUNICATION INDIA PVT.LTD 231 TAXMANN 113. HE HAS REFERRED PARA - 176 OF THE JUDGMENT OF THE DELHI HIGH COURT AND SUBMITTED THAT THE HONBLE HIGH COURT HAS HELD THAT THE MARKETING OR SELLING EXPENSE S LIKE TRADE DISCOUNT, VALUE DISCOUNT ETC. OFFERED TO SUB - DISTRIBUTORS OR RETAILERS ARE NOT IN THE NATURE AND CHARACTER OF BRAND PROMOTION. THUS, THE DIRECT MARK ETING AND SALE RELATED EXPENSES INCLUDING DISCOUNTS/CONCESSIONS WOULD NOT FORM PART OF AMP EXP ENSES. THE LEARNED AR HAS ALSO RELIED UPON THE FOLLOWING DECISIONS; 1. M/S GLAXO SMITHLINE CONSUMER HEALTHCARE (2013)25 ITR (TRIB.) 100 2. M/S CANON INDIA PVT.LTD ITA NO.4602(DEL.)/2010 3. M/S HAIER APPLIANCES INDIA PVT.LTD (2013)36 CCH 647(DEL. TRIB.) 4 . M/S DAIKIN AIR CONDITIONING INDIA PVT.LTD (2014) 146 ITD 335 (DEL.) 5. M/S DIAGEO INDIA PVT.LTD ITA O.7932/MUM./2011 THE LEARNED AR T H US, ARGUED THAT THE E X PENSES WHICH ARE SELLING IN NATURE CANNOT BE CONSIDERED FOR THE PURPOSE OF AMP AND THEREFORE, O NCE THIS EXPENSES ARE EXCLUDED FROM THE AMP EXPENSES, THE AMP TO THE SALES RATIO OF THE ASSESSEE WILL COME TO 0.74% WHICH IS LESSTHAN THE AMP AS WELL AS RATIO OF THE COMPARABLE COMPANIES AT 4.99%. ACCORDINGLY, THE LEARNED ITA NO. 577 (MUM. ) 1 5 7 AR SUBMITTED THAT THE AMP EXPEN SES OF THE ASSE S SEE IS AT ARMS LENGTH AND THE ADJUSTMENT IS REQUIRED ON THIS ACCOUNT. 7. ALTERNATIVELY, THE LEARNED AR SUBMITTED THAT WHEN THE INTERNATIONAL TRANSACTIONS OF THE ASSESSEE ARE BENCHMARKED BY APPLYING TNM M METHOD AND THE OPERATIVE MARGIN OF THE ASSE S SEE COMPANY AT 6.25% IS HIGHER THAN THAT OF THOSE COMPARABLE COMPANIES A T 0.13%, THAN SEPARATE ADJUS TMENT ON ACCOUNT OF AMP IS NOT REQUIRED. HE HAS CONTENDED THAT THE T NM M METHOD SUBSUMES ALL REQUISITE OPERATING INCOME AND EXPENSES INCLUDING AM P WHICH FORMS PART OF OPERATING EXPENSES FOR THE PURPOSE OF COMPUTING THE OPERATING MARGIN AND ONCE THE INTERNATIONAL TRANSACTIONS OF THE ASSESSE E IS FOUND AT ARM S LENGTH, THAN NO FURTHER ADJUSTMENT ON ACCOUNT OF AMP EXPENSES IS WARRANTED. IN SUPPORT OF HIS CONTENTION HE HAS RELIED UPON THE JUDGMENT OF THE HONBLE DELHI HIGH COURT IN CASE OF M/S SONY INDIA (SUPRA) AND SUBMITTED THAT THE HONBLE HIGH COURT HAS OBSERVED THAT THE BUNDLED TRANSACTION APPROACH HAS BEEN ENDORSED AND IT WOULD BE ILLOGICAL TO TRE AT AMP AS A SEPARATE TRANSACTION, WHERE TPO/AO HAS ACCEPTED THE COMP A RABLES UNDER TNM METHOD. HE HAS REFERRED THE RELEVANT FINDING/OBSERVATIONS OF THE HONBLE DELHI HIGH COURT IN PARA - NOS.101 & 193 OF THE SAID JUDGMENT. 8. ON THE OTHER HAND, LEARNED DR H AS SUBMITTED THAT THE AO HAS APPLIED BRIGHT LINE TEST FOR DETERMINATION OF THE ARMS LENGTH PRICE OF AMP EXPENSES INCURRED BY THE ASSESSEE. THE LEARNED DR HAS FURTHER, CONTENDED THAT THE TPO HAS FOLLOWED THE DELHI SPECIAL BENCH DECISION IN CASE OF ITA NO. 577 (MUM. ) 1 5 8 L.G.EL ECTRONICS INDIA PVT. LTD (SUPRA) 22 ITR (TRIB.) 1 (SUPRA). THEREFORE, THE FINDING OF THE TPO ARE SUPPORTED BY THIS SPECIAL BENCH DECISION IN CASE OF L.G.ELECTRONICS INDIA PVT. LTD. THE LEARNED DR HAS FURTHER, CONTENDED THAT THE ASSESSEE ITSELF HAS SUBM ITTED THE REVISED WORKING OF AMP TO SALES RATIO IN THE COMPARABLE COMPANIES BEFORE THE DRP WHICH WAS NOT AVAILABLE BEFORE THE TPO. HE HAS CONTENDED THAT EVEN THE FINANCIAL OF THE COMPARABLE COMPANIES SELECTED BY THE ASSESSEE TO BENCH MARK ITS TRANSACTION WERE NOT BEFORE THE TPO AND THEREFORE, THESE FINANCIAL NEED TO BE VERIFIED. THE LEARNED DR AS VEHEMENTLY CONTENDED THAT THE AMP IS A SEPARATE TRANSACTION AS PER THE DECISION OF DEL H I SPECIAL BENCH IN CASE OF L.G.ELECTRONICS INDIA PVT.LTD AND IT CANNOT BE MERGED IT THE OTHER INTERNATIONAL TRANSACTION OF THE ASSESS E E 9. THE LEARNED DR HAS SUBMITTED THAT THE INTERNATIONAL TRANS A CTIONS REPORTED BY THE ASSE SS EE DID NOT INCLUDE TRANSACTION ON ACCOUNT OF EXPENDITURE INCURRED UNDER THE HEAD AMP FOR PROMOTIO N OF BRAND OF AE. THUS, THE TPO HAS RIGHTLY TREATED THE TR A NSA CTIONS OF AMP AND SALES SEPARATELY , IN VIEW OF THE DECISION OF THE SPECIAL BENCH OF THE TRIBUNAL IN THE C A SE OF L.G.ELECTRONICS INDIA PVT.LTD(SUPRA) THE ASSES S EE DID NOT BENCHMARK THE TRANS ACTIONS OF AMP IN ITS TP STUDY . E V EN THE SAID TRA N S ACTION WAS NOT REPORTED AS INTERNATIONAL TRANSACTION. IF THE EXPENDITURE INCURR E D B Y THE ASSESEE IS FOR PROMOTION OF FOREIGN BRAND BELONGING TO AE AND CREATING MARKETING INTANGIBLE WHICH ULTIMATELY BELO NG TO THE AE T HAN, IT WILL BE AN I NTERNATIONAL TRANSACTION AS HELD BY THE ITA NO. 577 (MUM. ) 1 5 9 SPECIAL BENCH IN THE CASE OF L.G.ELECTRONICS INDIA PVT.LTD (SUPRA) . THE SPECIAL BENCH IN CASE OF L.G.ELECTRONICS INDIA PVT.LTD HAS UP HELD THE APPLICATION OF BRIGHT LINE TEST. EVEN IN THE CASE OF M/S SONY ERICSSON MOBILE COMMUNICATION, (SUPRA) THE HONBLE DELHI HIGH COURT HAS REJECTED THE CONTENTION OF THE ASSESSEE TH AT THE AMP EXPENSES DO NOT GIVE RISE TO INTERNATIONAL TRANSACTIONS. THE HONBLE HIGH COURT HAS GIVEN THE ANSWER TO Q UESTION NOL.1 IN FAVOUR OF THE REVENUE AND AGAINST THE ASSESSEE. THEREFORE, IT WAS HELD THAT THE TPO HAS JURISDICTION TO MAKE THE ADJUSTMENT ON ACCOUNT OF AMP, HAVING REGARD TO THE RETROSPECTIVE AMENDMENT TO SEC.92CA OF THE ACT. THEREFORE, EACH CASE HA S TO BE DECIDED AS PER THE PECULIAR FACTS FOR THE PURPOSE OF DETERMINATION OF ARMS LENGTH PRICE ON ACCOUNT OF AMP EXPENSES. THE TPO ADOPTED SEPARATE TRANSACTION APPROACH FOLLOWING B R IGHT LINE TEST, THOUGH THE HONBLE HIGH COURT IN THE C A SE OF M/S SONY ER ICSSON (SUPRA) HAS NOT APPROVED THE APPROACH OF THE TPO AND GAVE THE EMPH A SIS ON THE BUILDING OF THE TRANSACTION APPROACH AND CONDUCT A DETAILED FUNCTIONAL ANALYSIS WHICH WOULD INCLUDE AMP FUNCTION/EXPENSES. 10. THE LEARNED D R HAS SUBMITTED THAT A FRESH ANALYSIS COMP A RABLES WOULD BE REQUIRED FOR TESTING TRANSACTION ON AGGREGATE BASIS FOR TREATING THEM AS BUNDLED TRANSACTION IN VIEW OF THE JUDGMENT OF THE HON BLE HIGH COURT IN THE CASE OF M/S SONY ERICSSON (SUPRA). HE HAS RELIED UPON THE DECISION OF DELHI BENCH OF THE TRIBUNAL IN CASE OF M/S REEBOK I N DIA CO. VS DCIT IN ITA NO.1246/D/2015 FOR AY: 2010 - 11 AND SUBMITTED THAT THIS ITA NO. 577 (MUM. ) 1 5 10 TRIBUNAL HAS REST ORED THE MATTER TO THE FI LE OF THE TPO/AO FOR FRESH ANAL Y S IS OF THE COMP A RABLES. IN REJOINDER, THE LEARNED AR OF THE ASSE S SEE SUBMITTED THAT ALL DETAILS AND FACTS ARE ALREADY ON RECORD, AS SUBMITTED BEFORE THE TPO AND FURTHER, THE FACTS WERE PLACED BEFORE THE DRP THEREFORE, THE MATTER SHOULD NOT BE REMANDED FOR ANY FRESH ANALYSIS, BUT HAS TO BE CONSIDERED IN THE L IGHT OF THE DECISION OF THE HONBLE DELHI HIGH COURT IN THE CASE OF M/S SONY ERICSSON MOBILE COMMUNICATION INDIA LTD(SUPRA). 11. WE HAVE CONSIDERED THE RIVAL SUBMISSIONS AS WELL AS THE MATERIAL ON RECORD. THE ASSE S SEE HAS ENTERED IN TO VARIOUS INTERNATION AL TRANSA C T ION S WITH ITS AE IN RESPECT OF THE PURCHASE OF RAW MATERIALS, PURCHASE OF TRADED GOODS, EXPORT OF FINISHED GOODS, INTEREST ON DEBENTURES, APART FROM THE PAYMENT OF ROYALTY WHICH IS SEPARATELY DEALT WITH. THE ASSESSEE HAS BENCH MARKED ITS TRANSA CTION OF PURCHASE AND SALE WITH AE BY ADOPTING THE TNM METHOD, AS MOST APPROPRIATE METHOD. THE ASSESSEE SELECTED 9 COMPARABLES AND COMPUTED ARITHMETIC MEAN AT =0.13% AS UNDER; ITA NO. 577 (MUM. ) 1 5 11 SL.NO COMPANY NAME INDUSTRY OP.PROFIT BEFORE INTEREST & TAX OPER ATING MARGIN FY 2009 - 10 FY 2009 - 10 INR IN CRORE (%) 1 KOKUYO CAMLIN LTD STATIONERY PRODUCTS 22.40 6.77% 2 LINC PEN & PLASTICS LTD STATIONERY PRODUCTS 13.24 5.87% 3 ADD.COPRN.LTD STATIONERY PRODUCTS - 4.14 - 15.42% 4 EXCELLA PENCILS LTD STATIONERY PRODUCTS 1.04 5.65% 5 TODAYS WRITING INSTRUMENTS LTD STATIONERY PRODUCTS - 19.95 - 30.55% 6 LUXUR WRITING INSTRUMENTS PVT.LTD STATIONERY PRODUCTS 4.38 3.45% 7 RAYNOLDS PENS INDIA PVT.LTD STATIONER PRODUCTS 7.35 23.65% 8 TRIVENI PENCILS LTD STATIONERY PRODUCTS - 0.22 - 3.24% 9 INDIA BOOK DISTRIBUTORS STATIONERY PRODUCTS 1.41 2.62% 12. THE ASSES SEE CLAIM ED THAT ITS TRA N S ACTION S WITH AE ARE AT ARMS LENGTH BY COMPARING ITS OPERATING MARGIN AT 2.5% WITH THE ARITHMETIC MEAN MARGIN OF THE COMPARABLES AT 0.13%. AS REGARDS THE INTEREST ON DEBENTURES, THE ASSESSEE HAS APPLIED CUP AS MOST APPROPRIATE METHOD AND CLAIMED THAT ASSE S SEES RATE OF INTEREST PAID ON B O R R O WED FUNDS FROM ITS PARENT COMPANY IS AT 5% PER ANNUM WHICH AT ARMS LENGTH IN COMPARISON WITH T HE PREVAILING LIBOR AT 5.38%. THE TPO ACCEPTE D THE PURCHASE AND SALES, INTER EST ON DEBENTURES INTERNATIONAL TRANSACTION S AT ARMS LENGTH. HOWEVER, THE TPO PROPOSE TO MAKE THE ADJUSTMENT ON ACCOUNT OF AMP ITA NO. 577 (MUM. ) 1 5 12 EXPENSES INCURRED BY THE ASSE S SEE BECAUSE IN VIE W OF THE TPO , IT WAS INCURRED FOR PROMOTING THE BRAND VALUE OF THE ASSOCIATED ENTERPRISE. THE DISPUTE BEFORE US IS REGARDING THE ITEMS OF EXP ENDITURE WHICH CAN BE PART OF THE AMP EXPENSES . THE ASSESSEE HAS SHOWN AMP EXPENSES AT RS.57,70,313/ - AND ARRIV ED AMP TO SALES RATIO AT 0.74%. THE TPO RECOMPUTED THE AMP SALES RATIO BY INCLUDING CERTAIN OTHER EXPENSES ON ACCOUNT OF FREE SAMPLES TO DISTRIBUTORS, DISCOUNT TO DISTRIBUTORS, TRADE DISCOUNT, SALES PRO MO TION EXPENSES ETC. AND ARRIVED AT AMP TO SALES R ATIO AT 6.06% AS UNDER; SL.NO. NATURE OF EXPENSES AMO UNT(INR ) 1 TOTAL INCOME 78,05,61,766 2 AMP EXPENSES INCURRED BY FC INDIA (AS SUBMITTED BY ASSES S EE VIDE REPLY DATED 20 JAN 2013.) 57,70,313 3 FREE SAMPLES TO DISTRIBUTORS 2,76,94,697 4 ADDITIONAL DISCOUNT TO DISTRIBUTORS 1,08,54,797 5 DISCOUNT ALLOWED 7,33,824 6 TRADE DISCOUNT 98,808 7 TRADE DISCOUNT 9,20,523 8 SALES PROMOTION EXPENSES(INCENTIVE TO THE DISTRIBUTOR) 7,39,613 9 SALES PROMOTION - MISC (INCENTIVE TO THE DISTRIBUTOR) 4,66,373 10 TOTAL AMP (AS PER TPO) 4,72,78,948 11 AMP TO SALES RATIO (AS PER LEARNED TPO) 6.06% ITA NO. 577 (MUM. ) 1 5 13 13. THE TPO HAS ALSO ADDED A MARK UP AT THE RATE OF 17.15% ON THE AMP EXPENSES. THUS, THE TPO MADE AN ADJUSTMENT OF RS.97,87,309/ - ON ACCOUNT OF AMP EXPENSE S. IT IS P ERTINENT TO NOTE THAT THE ISSUE OF SALES EXPENDITURE AND SALES PROMOTION EXPENDITURE CAN BE PART OF AMP EXPENSES HAS BEEN CONSIDERED BY THE HONBLE DELHI HIGH COURT IN CASE OF M/S SONY ERICSSON MOBILE COMMUNICATION LTD. (SUPRA), INPARA - 176 AS UNDER; 176. THE AFORESAID ARGUMENT, WHEN AMP EXPENSES ARE SEGREGATED FROM THE COMPOSITE TRANSACTION INCLUDING DISTRIBUTION AND MARKETING FUNCTION, IS FLAWED AND HAS TO BE REJECTED. THE RESPONDENT ASSESSEE ARE ENGAGED IN DISTRIBUTION AND MARKETING OF CONSUMER GOODS. DISTRIBUTION AND MARKETING EXERCISE IN CASE OF TANGIBLES REQUIRES TRANSFER/SALE OF GOODS TO THIRD PARTIES, BE IT SUB - DISTRIBUTORS OR RETAILERS. THE SAID TRANSACTION IS N THE NATURE OF SALE OF GOODS FOR CONSIDERATION. THE MARKETING OR SELLING EXPENSES L IKE TRADE DISCOUNTS, VOLUME DISCOUNTS ETC. OFFERED TO SUB - DISTRIBUTORS OR RETAILERS ARE NOT IN THE NATURE AND CHARACTER OF BRAND PROMOTION. THEY ARE NOT DIRECTLY OR IMMEDIATELY RELATED TO AND BUILDING. EXERCISE, BUT HAVE A LIVE LINK AND D IRECT CONNECT W ITH MARKETING AND INCREASED VOLUME OF SALES OR TURNO V ER. THE BRAND BUILDING CONNECT IS TOO REMOTE AND FAINT. TO INCL U DE AND TREAT THE DIRECT MARKETING EXPENSES LIKE TRADE OR VOLUME DISCOUNT OR INCENTIVE AS BRAND BUILDING EXERCISE WOULD BE CONTRARY TO COMMON SENSE AND WOULD BE HIGHLY EXAGGERATED. THESE EDUCE THE NET PROFIT MARGIN. IT WOULD LEAD TO ABNORMAL FINANCIAL RESULTS DEFYING ACCOUNTANCY PRACTICES AND COMMERCIAL AND BUSINESS SENSE. THE EXPENSES ITA NO. 577 (MUM. ) 1 5 14 BEING IN THE NATURE OF SELLING EXPENSES HAVE AN IMMEDIATE CONNECT WITH PRICE/CONSIDERATION PAYABLE FOR THE GOODS SOLD. THEY ARE NOT INCURRED FOR PUBLICITY OR ADVERTISEMENT . DIRECT MARKETING AND SALE RELATED EXPENSES OR DISC OUNTS/CONCESSIONS WOULD NOT FOR M PART OF THE AMP EXPENSES. 14. THUS, IT IS S ETTLED B Y THE HONBLE HIGH COURT THAT THE MARKETING OR SELLING EXPENSES LIKE TRADING DISCOUNTS, VOLUME DISCOUNTS ETC. OFFERED TO THE DISTRIBUTORS OR RETAILERS ARE NOT IN THE NATURE OR CHARACTER OF BRAND PROMOTION. THE HONBLE HIGH COURT HAS OBSERVED THAT THESE EXPENSES ARE NOT DIRECTLY OR IMMEDIATELY RELATED TO BRAND BUILDING EXERCISE BUT, HAVE A LIVE LINK AND DIRECT CONNECT WITH MARKETING AND INCREASED VOLUME OF SALES OR TURNOVER . T O INCLUDE AND TREAT THE DIRECT MARKETING EXPENSES LIKE THE TRADE OR VO LUME DISCOUNT OR INCENTIVE AS BRAND BUILDING EXERCISE WOULD BE CONTRARY TO COMMON SENSE . T HUS, THE HONBLE HIGH COURT HAS HELD THAT THE DIRECT SELLING AND MARKETING E XPENSES OR DISCOUNT CONCESSION WOULD NOT FORM PART OF AMP EXPENSES. AS SIMILAR VIEW HAS BEEN TAKEN BY THIS TRIBUNAL IN THE SERIES OF DECISIONS , AS RELIED UPON BY THE LEARNED AR OF THE ASSE S SEE. THE TPO HAS NOT DISPUTED THE SALES RATIO OF THE COMPARABLE COMPANIES AT 4.99%. THUS, IF THE EXPENSES WHICH ARE INCLUDED B Y THE TPO AS PART OF AMP AR E EXCLUDED FROM THE AMP EXPENSES BEING THE EXPENSES DIRECTLY LINKED WITH THE SALES AND MARKETING AS WELL AS TRADE DISCOUNTS ITA NO. 577 (MUM. ) 1 5 15 ALLOWED BY THE ASSESSEE AS INCENTIVE TO THE DISTRIBUTORS THAN, THE AMP TO SALES RATIO OF THE ASSESSEE COMES TO 0.74%. THERE IS NO AMBIGUITY, A IT IS MANIFEST F R OM THE ITEMS OF EXPENDITURE INCLUDED BY THE TPO IN THE CATEGORY OF AMP EXPENSES THAT THE SAME ARE DIRECTLY RELATED WITH THE SALES, MARKETING AND OTHER SALES PROMOTION EXPENSES IN THE SHAPE OF TRADE DISCOUNTS ALLOWED TO THE DI STRIBUTORS. THEREFORE, THESE EXPENSES CANNOT BE INCLUDED AS PART OF THE AMP EXPENSES FOR THE PURPOSE OF DETERMINING THE ARMS LENGTH PRICE. THE TPO HAS NOT DISPUTED THE OPERATING MARGIN OF THE ASSESSEE A T 6.25% IN COMPARISON TO THE MARGIN OF THE COMPARA BLES AT =0.13%. THEREFORE, THERE IS ENOUGH SCOPE OF ACCOMMODATING THE AMP TO SALES RATIO AT 0.74% IF THE SAID TRANSACTION IS CLUBBED WITH THE OTHER INTERNATIONAL TRANSACTION OF THE ASSE S SEE. EVEN AFTER GIVING EFFECT TO THE AMP EXPENDITURE OF THE ASSES S EE THE MARGINS OF THE ASSE S SEE WOULD STILL THE HIGHER THAN THE MARGIN OF THE COMPARABLE WHICH IS =0.13%. THUS, IN THE FACTS AND CIRCUMSTANCES OF THE C A SE, THE INCLUSION OF THE SALES RELATED EXPENDITURE IN THE CATEGORY OF AMP IS NOT JUSTIFIED AS HELD IN TH E LIGHT OF THE JUDGMENT OF THE HONBLE DELHI HIGH COURT IN THE CASE OF M/S SONY ERI CSSON MOBILE COMMUNICATION LTD (SUPRA) . ACCORDINGLY, WE DELETE THE ADDITION MADE BY THE TPO ON ACCOUNT OF AMP ADJUSTMENT. GROUND N O.10 REG A RDING ADJUSTMENT ON ACCO U NT OF R OYALTY PAYMENT. ITA NO. 577 (MUM. ) 1 5 16 15. THE ASSE S SEE HAD ENTERED INTO AN AGREEMENT DATED 07 - 02 - 1997 WITH ITS AE I.E. M/S A.W.FABER CASTELL (IND.) PVT. LTD., TO PAY ROYALTY AT THE RATE OF 3% ON SALES. TO BENCH MARK ITS TRANSACTION OF PAYMENT OF ROYALTY , THE ASSESSEE AD OPT ED TNM METHOD THE MOST APPROPRIATE METHOD AND CLAIMED THAT THE ASSESSEES MARGIN IS 6.25% IN COMPARISON TO THE MARGIN OF THE COMPARABLES ENGAGED IN THE SIMILAR ACTIVITY AT =0.13%. THUS, THE ASSES S EE CLAIMED THAT THE PAYMENT O F ROYALTY IS ARMS LENGTH. FURTHER, DURING THE COURSE OF TRANSFER PRICING ADJUSTMENT PROCEEDINGS, THE ASSESSEE SUBMITTED BENCH MARKING ANALYSIS UNDER CUP METHOD WHEREBY THE ASSESSEE CLAIMED THAT THE ROYALTY IS PAID AFTER THE APPROVAL TAKEN FROM THE GOVERNMENT OF INDIA, FIPB APPROVED THE RATE OF ROYALTY PAYMENT UP TO 8% ON EXPORTS AND 5% DOMESTIC SALES. THUS, THE ASSESSEE CLAIMED THAT THE PAYMENT OF ROYALTY AT THE RATE OF 3% WHICH IS LESS THAN THE APPROVED RATE BY THE FIPB IS AT ARMS LENGTH. THE TPO WHILE DETERMINING THE ARMS LE NGTH PRICE OF THE ROYALTY CONCLUDED THAT NO ROYALTY WAS RE Q UIRED TO BE PAID BY THE ASSESSEE AND A CCORDINGLY, DETERMINED THE ARMS LENGTH PRICE AT NIL. HOWEVER, NO ADJUSTMENT WAS MADE BY THE TPO BY OBSERVING IT GOT SUBSUMED IN THE AMP ADJUSTMENT. 16. B EFORE US , LEARNED AR OF THE ASSESSEE HAS SUBMITTED THAT NO SPECIFIC METHOD IS USED BY THE TPO WHILE DETERMINING THE ARMS L E NGTH PRICE IN RESPECT OF ROYALTY AS NIL. THE LEARNED AR HAS FURTHER CONTENDED THAT ALL THE INTERNATIONAL TRANSACTIONS INCLUDING TH E PAYMENT OF ROYALTY ITA NO. 577 (MUM. ) 1 5 17 MEETS ARMS LENGTH TEST, BECAUSE THE ASSESSEES OPERATING MARGIN ARE HIGHER THAN THE COMPARABLE COMPANIES ENGAGED IN THE SIMILAR ACTIVITIES. HE HAS RELIED UPON THE DECISION OF THE HONBLE JURISDICTIONAL HIGH COURT IN C A SE OF CA COM PUTER ASSOCIATES PVT.LTD 351 ITR 69 AS WELL AS THE DECISION OF THE CO - ORDINATE BENCH OF THIS TRIBUNAL IN CASE OF M/S KOTAK INDIA PVT.LTD VS ADDL.CIT IN ITA N O .7349/MUM/2012. 17. ON THE OTH E R HAND, LEARNED D R C ONTENDED THAT THE APPROVAL OF FIBP REGARDING PAYMENT OF ROYALTY CANNOT BE TAKEN AS THE ARMS LENGTH PRICE FOR THE PURPOSE OF IT ACT, 1961. HE HAS RELIED UPON THE ORDERS OF THE AUTHORITIES BELOW. 18. WE HAVE CONSIDERED THE RIVAL SUBMISSIONS AS WE L L AS THE MATERIAL AVAILABLE ON RECORD. THOUGH, THE ASSESSEE CAN SUPPORT ITS CLAIM BY THE APPROVAL OF THE FIBP RATE OF PAYMENT OF ROYALTY HOWEVER, THE SAID APPROVAL CANNOT SUBSTITUTE THE DETERMINATION OF ARM LENGTH PRICE UNDER THE PROVISIONS OF THE IT ACT , 1961. IT IS PERTINENT TO NOTE THAT THE APPROVAL G RANTED BY THE FIBP FOR PAYMENT OF ROYALTY IS NOT IN CONTEXT OF THE ARMS LENGTH PRICE UNDER THE PROVISIONS OF THE IT ACT, 1961. THEREFORE, EVEN IF THE ROYALTY PAID BY THE ASSESSEE IS L ESS THAN THE RATE APPROVED BY THE FIBP THE SAME HAS TO BE TESTED AS PER PROVISIONS OF THE IT ACT FOR THE PURPOSE OF ITA NO. 577 (MUM. ) 1 5 18 ARMS LENGTH PRICE. THE SECOND CONTENTION OF THE LE A R NED AR OF THE ASSES S EE IS THAT THE OPERATING MARGIN OF THE ASSESSSSEE IS 6.25% IN COMPARISON TO THE COMPARABLES MARGIN AT - 0. 13%. THEREFORE, THE PAYMENT OF ROYALTY IS AT ARM S LENGTH. SINCE THE PAYMENT OF ROYALTY IS A SEPARATE PAYMENT ON INTERNATIONAL TRANSACTIONS AND CANNOT BE CLUBBED WITH THE TRANSACTIONS OF PURCHASE AND SALE OF GOODS AND MATERIAL WITH THE AE. HOWEVER, WE FIND THAT THE TPO HAS NOT UN DERTAKEN ANY EXERCISE AS PER THE PROVISIONS OF T R A NSFER PRICE RULES AND REGULATION TO DETERMINE THE ARMS LENGTH PRICE OF ROYALTY PAYMENT BY THE ASSESSEE TO THE AE. THE ASSESSEE HAS ALSO NOT FURNISHED A SEPARATE COMPARABLE ANALYSIS TO ESTABLISH THAT THE P AYMENT OF ROYALTY IS AT ARM S LENGTH. WE FIND THAT THE ISSUE WAS NOT RAISED BY THE ASSESSEE BEFORE THE DRP BECAUSE THE TPO DID NOT MAKE ANY ADJUSTMENT ON ACCOUNT OF ROYALTY PAYMENT ON THE GROUND THAT THE SAME HAS GOT SUBSUMED IN THE AMP ADJUSTMENT. THUS, IT IS CLEAR THAT NEIT H ER THE TPO HAS UNDER TAKEN PROPER PROCESS OF DETERMINING THE ARMS LENGTH PRICE NOR THIS ISSUE WAS RAISED BEFORE THE DRP . THEREFORE, THIS ISSUE REQUIRES A PROPER EXAMINATION AND VERIFICATION AS THE ASSE S SEE HAS NOT SUBMITTED ANY SEPA RATE TRANSFER P RICING ANALYS IS ON THIS ISSUE EXCEPT TNM METHOD ANALYSIS IN RESPECT OF THE PURCHASE AND SALE TRANSACTION WITH AE. ACCOR D INGLY, IN FACTS AND CIRCUMSTANCES OF THE CASE, WE SET ASIDE THE ISSUE TO THE RECORD OF THE TPO/AO FOR ADJUDICATION OF THE ISSUE AFRESH IN THE LIGHT ITA NO. 577 (MUM. ) 1 5 19 OF THE JURISDICTIONAL HIGH COURT IN THE CASE OF CA COMPUTERS AS SOCIATES PVT. LTD (SUPRA) . IN THE RESULT, GROUND NO. L TO 9 ARE ALLOWED AND GROUND NO.10 IS ALLOWED FOR STATISTICAL PURPOSES. 18. IN THE RESULT, THE APPEAL F ILED BY THE ASSES S EE IS PARTLY ALLOWED. ORDER PRONOUNCED IN THE OPEN COURT ON 05/08/2015 SD/ - ( RAJENDRA) SD/ - ( VIJAY PAL RAO) ACCOUNTANT MEMBER JUDICIAL MEMBER MUMBAI: D A T E D : 05/08/2015 AM* / COPY OF THE ORDER FORWARDED TO : 1. / THE APPELLANT 2. / THE RESPONDENT. 3. ( ) / THE CIT(A) - 4. / CIT 5. , , / DR, ITAT, MUMBAI 6 . / GUARD FILE . //TRUE COPY// / BY ORDER, / (DY./ASSTT. REGISTRAR) , / ITAT, MUMBAI