M/s Horiba India Pvt. Ltd., New Delhi V. DCIT, New Delhi

ITA 6638/DEL/2015

• Counselvise Citation: [2017] 128 COUNSELVISE.COM (IT) 3539 (ITAT-DELHI)
• Duration Of Justice: 1 year(s) 4 month(s) 4 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 18-04-2017
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: I2
• Next Hearing Date: 22-03-2017
• Assessment Year: 2011-2012
• Appeal Filed On: 14-12-2015
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Department Lawyers: T M SHIVAKUMAR
• Keywords: Related party transaction; Transfer pricing; International transaction; Rule of consistency
• Section: 143(3); 234B; 10B

Judgement Text

1 ITA NO. 6638/DEL/2015 IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCH: I-2 NEW DELHI BEFORE SHRI J.S. REDDY, ACCOUNTANT MEM BER & SHRI AMIT SHUKLA, JUDICIAL MEMBER ITA NO.-6638/DEL/2015 (ASSESSMENT YEAR-2011-12) HORIBA INDIA PVT. LTD. PLOT NO. 246, OKHLAINDL. ESTATE, PHASE-III, NEW DELHI. AABCH7371R V S . D Y . C OMMISSIONER OF INCOME TAX CIRCLE 11(1), NEW DELHI. ASSESSEE BY SHRI KAPIL HIRANI & DARPAN KIRPALANI REVENUE BY SHRI T.M. SHIVA KUMAR, CIT DR ORDER PER AMIT SHUKLA, JUDICIAL MEMBER : THE AFORESAID APPEAL HAS BEEN FILED BY THE ASSESSEE AGAINST IMPUGNED FINAL ASSESSMENT ORDER DATED 21/10/2015, P ASSED BY DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE 11(1), NEW DELHI U/S 143(3) READ WITH SECTION 144C(13), IN PURSUANCE OF DIRECTIONS G IVEN BY THE DISPUTE RESOLUTION PANEL-1, NEW DELHI (DRP), VIDE ORDER DAT ED 15/09/2015. 2. IN THE GROUNDS OF APPEAL, THE ASSESSEE HAS RAISE D THE FOLLOWING GROUNDS: DATE OF HEARING 22.03.2017 DATE OF PRONOUNCEMENT 18.04.2017 2 ITA NO. 6638/DEL/2015 1. THE LEARNED DEPUTY COMMISSIONER OF INCOME TAX - CI RCLE 11(1) ('LD. AO') ALONG WITH LEARNED ADDITIONAL COMMISSIONER OF INCOME TAX, TRANSFER PRICING OFFICER - I (3) ('LD. TPO') ERRED IN MAKING AN ADJUSTMENT OF IN R 3,63,66,656/- TO THE INCOME OF THE APPELLANT ON ACCOUNT OF ALLEGED DIFFERENCE IN T HE ARM'S LENGTH PRICE OF THE INTERNATIONAL TRANSACTIONS OF PURCHASE OF GOODS FOR RESALE ENTERED INTO BY THE APPELLANT WITH ITS ASSOCIATED ENTERPRISE ('AE') DUR ING THE RELEVANT PREVIOUS YEAR. 2. ON FACTS AND IN LAW, THE LD. AO/ LD. TPO AND HON'BLE DISPUTE RESOLUTION PANEL ('DRP') ERRED IN DISREGARDING RESALE PRICE METHOD ( 'RPM') AS THE MOST APPROPRIATE METHOD FOR BENCHMARKING THE APPELLANT'S INTERNATION AL TRANSACTIONS BASED ON ERRONEOUS REASONS AND INSTEAD, APPLYING, TRANSACTION AL NET MARGIN METHOD ('TNMM') AS THE MOST APPROPRIATE METHOD. 3. ON FACTS AND IN LAW, THE LD.AO/LD.TPO AND HON'BLE DR P ERRED IN AGGREGATING THE MEDICAL AND AUTOMOTIVE TRADING SEGMENTS WHILE DETER MINING THE ARM'S LENGTH PRICE OF INTERNATIONAL TRANSACTION. 4. ON FACTS AND IN LAW, THE LD.AO/LD.TPO AND HON'BLE DR P ERRED IN DETERMINATION OF ARM'S LENGTH PRICE FOR THE TRADING TRANSACTIONS BAS ED ON AN AD-HOC ALLOCATION METHODOLOGY AND SEGMENTAL PROFITABILITY. 5. ON FACTS AND IN LAW, THE LD.AO/LD.TPO AND HON'BLE D RP ERRED IN DISREGARDING CASH PROFITS AS AN APPROPRIATE PROFIT LEVEL INDICATOR WHILE APPLYING TNMM AS THE MOST APPROPRIATE METHOD. 6. ON FACTS AND IN LAW, THE LD. AO /LD. TPO AND HON'BLE DRP ERRED, IN DISREGARDS THE ADJUSTMENT ON ACCOUNT OF EXTRA ORDINARY EXPENSES IN CURRED BY THE APPELLANT DURING THE SUBJECT ASSESSMENT YEAR THEREBY CONTRAVENING TH E PROVISION OF RULE 10B 7. THE LD AO ERRED ON FACTS AND IN LAW IN INITIATING P ENALTY PROCEEDINGS UNDER SECT271 (L)(C) OF THE ACT. 8. THE LD. AO, BASED ON DIRECTIONS OF HON'BLE DRP, ERRED ON FACTS AND IN A CHARGING INTEREST UNDER SECTION 234B AND 234C OF THE ACT. 3 ITA NO. 6638/DEL/2015 3. THE BRIEF FACTS QUA THE ISSUE RAISED ARE THAT TH E ASSESSEE COMPANY IS A SUBSIDIARY OF HORIBA LIMITED, JAPAN WHICH IS MAINLY ENGAGED IN MANUFACTURING AND SALE OF MEASURING INSTRUMENTS. TH E ASSESSEE IN INDIA UNDERTAKES THE DISTRIBUTION OF VARIOUS FINISHED GOO DS MANUFACTURED BY ITS HOLDING COMPANY (AE) IN INDIA. THE DISTRIBUTION OF FINISHED GOODS INCLUDES AUTOMOTIVE TEST EQUIPMENT AND MEDICAL D IAGNOSTIC EQUIPMENT. FOR THE SEGMENT OF TRADING OF MEDICAL EQUIPMENT AND AUTO COMPONENTS, THE ASSESSEE HAD DISCLOSED FOLLOWING TRANSACTIONS W ITH ITS AE: NATURE OF TRANSACTION VALUE RS. METHOD APPLIED PLI NO. OF COM -PARABLES ARMS LENGTH PRICE RESULT OF ASSESSEE PURCHASE OF GOODS FOR RESALE 11,84,32,963 RPM GP 12 16.24% 36.47% AS REGARDS THE OTHER SEGMENTS LIKE PURCHASE OF FIXE D ASSETS, PROVISION OF SUPPORT SERVICES, THE ASSESSEE HAD SEPARATELY SHOWN THE TRANSACTION AND ALSO SEPARATELY BENCHMARKED THE SAME, WHICH IS NOT THE ISSUE BEFORE US. IN THE TRANSFER PRICING STUDY REPORT, THE ASSESSEE HAS BENCHMARKED THE PURCHASE OF GOODS FOR RESALE BY ADOPTING RESALE PRI CE METHOD (RPM) AS THE MOST APPROPRIATE METHOD. TO BENCHMARK THE OVERA LL GROSS PROFIT MARGIN OF 36.47%, THE ASSESSEE HAD CHOSEN 12 COMPARA BLE COMPANIES WHICH WERE MOSTLY DEALING IN MEDICAL EQUIPMENT OR A UTO COMPONENTS. THE AVERAGE ARITHMETIC MEAN OF THESE COMPARABLES WA S ARRIVED AT 16.24%. ACCORDINGLY, IT WAS REPORTED THAT ASSESSEE S GROSS PROFIT MARGIN WERE AT ARMS LENGTH. 4. THE LD. TPO, THOUGH ACCEPTED THAT ASSESSEE IS EN GAGED IN THE DISTRIBUTION OF VARIOUS FINISHED PRODUCTS MANUFACTU RED BY ITS AE, 4 ITA NO. 6638/DEL/2015 HOWEVER, REJECTED THE ASSESSEES ADOPTION OF RPM AS MOST APPROPRIATE METHOD. THE MAIN REASONS FOR REJECTION OF RPM BY T HE LD. TPO, WERE; FIRSTLY, IN THE CASES WHERE RMP IS APPLIED IT IS ASSUMED TH AT ONLY THE SAME KINDS OF GOODS ARE DISTRIBUTED AND IT IS A CASE OF PURE DISTRIBUTOR. THE DIFFERENT KINDS OF GOODS GIVE RISE TO DIFFERENT GROSS MARGINS. SECONDLY, THE ASSESSEE IS DISTRIBUTING MEDICAL EQUIPMENT AND AUTOMOTIVE EQUIPMENT AND BOTH THESE PRODUCTS HAVE B EEN CLUBBED TOGETHER FOR THE APPLICATION OF RPM WHICH WILL NOT GIVE CORRECT GROSS PROFIT MARGINS FOR EACH SEGMENT. HE ALSO REQUIRED T HE ASSESSEE TO GIVE THE SEGMENTAL GROSS PROFIT MARGIN FOR THE AUTO MOTIVE COMPONENTS AND FOR THE MEDICAL EQUIPMENT. AS PER TH E WORKING SUBMITTED BY THE ASSESSEE, HE NOTED THAT THE GROSS MARGIN FROM AUTOMOTIVE COMPONENT WAS AT 44% AND FROM SALE OF MED ICAL EQUIPMENT, GROSS MARGIN WAS AT 25%.THUS, HE CAME TO THE CONCLUSION THAT THE PRICING STRUCTURES OF BOTH THES E CLASSES OF PRODUCTS ARE DIFFERENT. LASTLY, HE RE-CHARACTERIZED THE ASSESSEE AS FULL RISK DIST RIBUTOR AND OBSERVED THAT A FULL-FLEDGED DISTRIBUTOR PERFORMS A WHOLE RANGE OF MARKETING AND SELLING FUNCTIONS; EMPLOYS AND DEVELO PS VALUABLE MARKETING INTANGIBLE ASSETS; AND ASSUMES A RANGE OF RISK ASSOCIATED WITH ITS ACTIVITY SUCH AS INVENTORY RISK , BAD DEBT RISK AND MARKET RISKS ETC. FROM THE TRANSFER PRICING REPO RT HE ALSO HIGHLIGHTED THE FUNCTIONAL ANALYSIS AND NOTED THE F OLLOWING FUNCTIONS PERFORMED BY THE ASSESSEE:- I. MARKET RESEARCH II. PURCHASE ORDER III. PROVISION OF GOODS 5 ITA NO. 6638/DEL/2015 IV. CUSTOM CLEARANCE AND TRANSPORTATION V. WAREHOUSING AND INVENTORY CONTROL VI. QUALITY CONTROL VII. SALES AND MARKETING VIII. MARKET RISK IX. INVENTORY RISK X. PRODUCT LIABILITY RISK XI. CREDIT RISK XII. FOREIGN EXCHANGE RISK HE ALSO TOOK NOTE OF VARIOUS ASSETS UTILIZED WHICH WERE MOSTLY IN THE FORM OF TANGIBLE ASSETS. 5. IN THE LIGHT OF AFORESAID REASONS, TPO CA ME TO THE CONCLUSION THAT RPM WOULD NOT BE THE APPROPRIATE METHOD; INSTEAD TN MM SHOULD BE ADOPTED AS MAM FOR BENCH MARKING THE NET PROFIT MAR GIN OF THE ASSESSEE. HE TOOK THE SAME SET OF COMPARABLES AND BENCHMARKED THE ASSESSEES NET PROFIT MARGIN WHICH WAS DETERMINED BY HIM AT 1. 31% AND THE ARITHMETIC MEAN OF THE 7 COMPARABLE WAS ARRIVED AT 5.38%. THE LISTS OF COMPARABLES WITH THEIR MARGINS UNDER TNMM WERE AS U NDER: S.NO. NAME OP/TC (%) 1. FRONTLINE ELECTRO MEDICAL LTD. 2.58 2. INDIA MOTOR PARTS & ACCESSORIES LTD. 9.05 3. JULLUNDUR MOTOR AGENCY (DELHI) LTD. 6.62 4. SATYATEJ COMMERCIAL COMPANY LTD. 1.59 5. ADS DIAGNOSTIC LTD. (SEG.) 11.21 6. HICKS THERMOMETERS (INDIA) LTD. 1.93 7. STANES MOTOR PARTS LTD. 4.72 AVERAGE 5.38 ACCORDINGLY, UPWARD ADJUSTMENT OF RS. 3,63,80,656/- WAS MADE. 6 ITA NO. 6638/DEL/2015 6. THE LD. DRP TOO CONFIRMED THE ACTION OF THE TPO THAT RPM CANNOT BE HELD TO BE THE MOST APPROPRIATE METHOD ON THE FA CTS OF THE PRESENT CASE FOR BENCH MARKING THE ARMS LENGTH PRICE ALBEIT CAN BE DONE BY ADOPTING TNMM AS THE MAM. THE DRP FURTHER OBSERVED THAT IN THE CASE OF THE ASSESSEE IT IS AN UNDISPUTED FACT THAT THE A SSESSEE IS NOT ONLY DEALING IN TOTALLY TWO INDEPENDENT PRODUCTS, I.E., AUTOMOTIVE AND MEDICAL EQUIPMENT, BUT ALSO INVOLVED IN LEASING OF EQUIPMEN T. IN SUCH A SITUATION, WHERE ASSESSEE IS HAVING TWO DIFFERENT B USINESS MODELS FOR EARNING REVENUE, RPM CANNOT BE USED AS MAM. FURTHER , ONCE THE ASSESSEE IS FULL-FLEDGED DISTRIBUTOR CARRYING VARIO US FUNCTIONS AS ILLUSTRATED BY THE TPO, THEN IN SUCH A SITUATION AL SO, RPM CANNOT BE ADOPTED. ACCORDINGLY, THE DRP CONFIRMED THE APPLICA TION OF TNMM AS THE CORRECT METHOD. 7. BEFORE US, THE LD. COUNSEL SHRI KAPIL HIRANI AFT ER NARRATING THE ENTIRE FACTS AND BACKGROUND OF THE CASE SUBMITTED T HAT, IT IS AN UNDISPUTED FACT HERE IN THIS CASE THAT ASSESSEE IS ENGAGED IN DISTRIBUTION OF VARIOUS FURNISHED PRODUCTS WITHOUT ANY VALUE ADD ITION. IT IS PURELY INVOLVED IN BUYING AND SELLING FUNCTION. ONCE THE A SSESSEE IS PERFORMING PURE DISTRIBUTION FUNCTIONS AND THE BUSINESS MODEL IS BASED ON DISTRIBUTION OF VARIOUS FINISHED PRODUCTS OF ITS AE , THEN RPM IS TO BE CONSIDERED AS MAM. IN SUPPORT, HE RELIED UPON THE F OLLOWING JUDICIAL PRONOUNCEMENTS: JUDICIAL PRONOUNCEMENTS : I. MATTEL TOYS INDIA PVT. LTD. (MUMBAI ITAT)- (2013)158 T TJ 461, WHEREIN IT HAS BEEN HELD THAT WHERE THE ASSESSEE IS A DISTRIBUTOR AND GETS THE FINISHED GOODS FROM ITS AE AND RESELLS THE SAME TO INDEPENDENT PARTIES WITHOUT ANY VALUE ADDITION , IN SUCH 7 ITA NO. 6638/DEL/2015 A SITUATION, RPM CAN BE THE BEST METHOD TO EVALUATE THE TRANSACTIONS WHETHER THEY ARE AT ALP. THUS IN CASE OF DISTRIBUTION ACTIVITIES I.E., IMPORT OF PRODUCTS AND SERVICES FRO M THE AE AND RESALE TO THE INDEPENDENT PARTIES WITHOUT ANY VALUE ADDITION, THE RPM WOULD BE THE MOST APPROPRIATE METHOD ON FOR DETERM INING THE ALP. II. DANISCO (INDIA) PVT. LTD. (DELHI ITAT) - (2014 ) 151 ITD 460- WHEREIN IT HAS BEEN HELD THAT FIRST EXAMINE WHETHER THERE AS ANY VALUE ADDITION ON IMPORTED GOODS AND IF THE ANSWER IS IN THE NEGATIVE THEN APPLY RPM AS A MOST APPROPRIATE METHO D FOR TRADING TRANSACTION OF IMPORTED GOODS. III. STAR DIAMOND GROUP (MUMBAI ITAT) - (2011) 141 TTJ 21 (UO)/ITA NO. 3923/MUM/2008- RPM IS THE MOST APPROPR IATE METHOD FOR DETERMINING THE ALP WITH RESPECT TO IMPORT S BY A TRADER ASSESSEE. IV. KODAK POLYCHROME GRAPHICS (I) (P) LTD - (MUMBAI ITAT) (2015) 171 TTJ 224 (MUM) - THE ASSESSEE IS, IN FACT, ENGAGED IN DISTRIBUTION ACTIVITIES. IN SUCH AN ACTIVITY RPM CA N BE CONSIDERED TO BE MOST APPROPRIATE METHOD BECAUSE BENCH MARKING IS DONE AT A GROSS LEVEL. V. ITO VS. L'OREAL INDIA PVT. LTD. (MUMBAI ITAT) - ITA NO. 5423/MUM/2009- HELD - RPM IS ONE OF THE STANDARD METH OD AND OECD GUIDELINES ALSO STATES THAT IN CASE OF DIST RIBUTION AND MARKETING ACTIVITIES WHEN THE GOODS ARE PURCHASED FROM AE'S WHICH ARE SOLD TO UNRELATED PARTIES, RPM IS THE MOST APPROPRIATE METHOD. IN THE CASE BEFORE US, THERE IS NO DISPUTE TO THE FACT THAT THE ASSESSEE BUYS PRODUCTS FROM ITS AES AND SELLS TO UNRELATED PARTIES WITHOUT ANY FURTHER PROCE SSING. 8 ITA NO. 6638/DEL/2015 VI. NOKIA INDIA (P) LTD. (DELHI ITAT) - (2015) 167 TTJ 243 (DEL)- A CLOSE SCRUTINY OF THE ABOVE TWO SUB-CLAUSES ALONG W ITH THE REMAINING SUB CLAUSES OF RULE 10B(L)(B) MAKES IT CL EAR BEYOND DOUBT THAT RPM IS BEST SUITED FOR DETERMINING ALP OF A N INTERNATIONAL TRANSACTION IN THE NATURE OF PURCHASE OF GOODS FROM AN AE WHICH ARE RESOLD AS SUCH TO UNRELATED PART IES. FURTHER CONCLUDED THAT RPM IS BEST SUITED FOR DETERMI NING ALP OF AN INTERNATIONAL TRANSACTION IN NATURE OF PURCHA SE OF GOODS FROM AN AE WHICH ARE RESOLD AS SUCH TO UNRELATED PA RTIES. VII. L'OREAL INDIA PVT. LTD. (BOMBAY HIGH COURT) - IT AP PEAL NO. 1046 OF 2012- RPM IS ONE OF THE STANDARD METHOD AND TH E OECD (ORGANIZATION OF ECONOMIC COMMERCIAL DEVELOPME NT) GUIDELINES ALSO STATE IN CASE OF DISTRIBUTION OR MARK ETING ACTIVITIES WHEN THE GOODS ARE PURCHASED FROM ASSOCIAT ED ENTITIES AND THERE ARE SALES EFFECTED TO UNRELATED PAR TIES WITHOUT ANY FURTHER PROCESSING, THEN, THIS METHOD C AN BE ADOPTED VIII. SWAROVSKI INDIA PRIVATE LIMITED (DELHI ITAT) ITA N O. 5621/DEL/2014- ADVERTING TO THE FACTS OF THE INSTANT CASE, WE FIND THAT THE ASSESSEE PURCHASED CRYSTAL GOODS AND C RYSTAL COMPONENTS FROM ITS AE. NO VALUE ADDITION WAS MADE TO SUCH IMPORTS. THE GOODS WERE SOLD AS SUCH. IN THE GIVEN CIRCUMSTANCES, THE RPM IS THE MOST APPROPRIATE METH OD FOR DETERMINING THE ALP OF THE INTERNATIONAL TRANSACTION OF' IMPORT OF CRYSTAL GOODS AND CRYSTAL COMPONENTS. 8. AS REGARDS THE TPOS AND DRPS OBSERVATION THAT ASSESSEE HAS TWO DIFFERENT SEGMENTS FOR DISTRIBUTION OF FINISHED GOO DS WITH DIFFERENT GROSS 9 ITA NO. 6638/DEL/2015 PROFIT MARGINS, HE FIRST OF ALL SUBMITTED THAT, THE RE IS NO RESTRICTION IMPOSED BY LAW THAT RPM CANNOT BE APPLIED WHERE THE RE ARE DISTRIBUTION OF TWO DIFFERENT PRODUCTS. UNDER THE RPM METHOD THE FOCUS IS MORE ON FUNCTIONS RATHER THAN SIMILARITY OF PRODUCTS BECAUS E PRODUCT DIFFERENTIATION DOES NOT MATERIALLY AFFECT THE GROS S PROFIT MARGINS, AS IT REPRESENTS GROSS COMPOSITION AFTER THE COST OF SALE S FOR SPECIFIC FUNCTIONS PERFORMED. THOUGH PRODUCT SIMILARITY IS MOST DESIRE D BUT FOR APPLYING RPM IT IS NOT MANDATORY THAT PRODUCT SHOULD BE SIMI LAR AS IN THE CASE OF CUP METHOD. THE MAIN FOCUS IS ON THE FUNCTIONS PERF ORMED. IN SUPPORT OF, HE STRONGLY RELIED UPON THE DECISION OF ITAT MU MBAI BENCH IN THE CASE OF MATTEL TOYS INDIA P. LTD. (SUPRA). WITHOUT PREJUDICE, HE SUBMITTED THAT DURING THE COURSE OF TRANSFER PRICING PROCEEDI NGS WHEN ASSESSEE WAS REQUIRED TO GIVE THE SEPARATE WORKING OF THE GROSS PROFIT MARGINS FOR THE SALE OF AUTOMOTIVE COMPONENTS AND MEDICAL EQUIPMENT , THE SAME WAS DULY PROVIDED AND IT WAS REPORTED THAT UNDER THE AU TOMOTIVE PRODUCTS THE GROSS MARGIN WAS44% AND FROM MEDICAL EQUIPMENT T HE GROSS PROFIT MARGIN WAS 25% AND IN THAT CASE ALSO, VIS-A-VIS THE COMPARABLES, THE ASSESSEES GROSS PROFIT MARGIN ARE FAR MORE AND HEN CE THESE SEPARATE GROSS MARGIN CAN ALSO BE ACCEPTED AS ARMS LENGTH P RICE. 9. REGARDING DRPS OBSERVATION THAT THE ASSES SEE WAS ALSO ENGAGED IN LEASING OF EQUIPMENT, THE LD. COUNSEL CLARIFIED THAT THE SAME PERTAIN TO A DIFFERENT SEGMENT ALL TOGETHER, I.E., THE PURC HASE OF FIXED ASSETS, WHICH HAS BEEN SEPARATELY BENCHMARKED BY APPLYING C UP METHOD AND IT HAS NO CORRELATION WITH THE FUNCTIONS OF PURCHASE A ND RESALE OF GOODS. REGARDING VARIOUS FUNCTIONS AS HIGHLIGHTED BY THE T PO AS WELL AS THE DRP IN HOLDING THAT ASSESSEE IS A FULL-FLEDGED DIST RIBUTOR, HE SUBMITTED THAT THE COSTS RELATED TO FUNCTIONS SUCH AS MARKET RESEARCH, PURCHASE 10 ITA NO. 6638/DEL/2015 ORDER, WARE HOUSING, INVENTORY CONTROL, QUALITY CON TROL, SALES AND MARKETING ETC. IS THE NORMAL COST EVEN FOR THE NORM AL DISTRIBUTORS PERFORMING FUNCTIONS OF DISTRIBUTION. UNDER THE COM PARABLE UNCONTROLLED TRANSACTIONS WHO ARE ENGAGED IN DISTRIBUTION FUNCTI ON, THEY ALSO UNDERTAKE SIMILAR KINDS OF FUNCTIONS AND, THEREFORE , ON THIS GROUND ALONE RPM CANNOT BE REJECTED. IF THE VERSION OF THE TPO I S TO BE ACCEPTED THEN IN NO CASES RPM METHOD CAN BE APPLIED. IN SUPPORT H E STRONGLY RELIED UPON THE FOLLOWING OECD GUIDELINES: 2.21 THE RESALE PRICE METHOD BEGINS WITH THE PRICE AT WHICH A PRODUCT HAS BEEN PURCHASED FROM AN ASSOCIATE D ENTERPRISE IS RESOLD TO AN INDEPENDENT ENTERPRISE. TH E PRICE (THE RESALE PRICE) IS THEN REDUCED BY AN APPROP RIATE GROSS MARGIN ON THIS PRICE (THE 'RESALE PRICE MARGI N') REPRESENTING THE AMOUNT OUT OF WHICH THE RESELLER WOULD SEEK TO COVER ITS SELLING AND OTHER OPERATING EXPENSES AND, IN THE LIGHT OF THE FUNCTIONS PERFORMED (TAKING INTO ACCOUNT ASSETS USED AND RISK ASSUMED), M AKE AN APPROPRIATE PROFIT. WHAT IS LEFT AFTER SUBTRACTI NG THE GROSS MARGIN CAN BE REGARDED, AFTER ADJUSTMENT FOR OTHER COSTS ASSOCIATED WITH THE PURCHASE OF THE PRODUCT (EG . CUSTOM DUTIES), AS AN ARM'S LENGTH PRICE FOR THE ORI GINAL TRANSFER OF PROPERTY BETWEEN THE ASSOCIATED ENTERPRI SES. THIS METHOD IS PROBABLY USEFUL WHERE IT IS APPLIED TO MARKETING OPERATIONS. 10. LASTLY THE LD. COUNSEL SUBMITTED THAT IN THE SU CCEEDING YEARS, I.E., AY 2012-13 AND AY 2013-14 THE LD. TPO HAS HIMSELF ACC EPTED RPM AS THE MOST APPROPRIATE METHOD EVEN THOUGH THE ASSESSE E IN THOSE YEARS 11 ITA NO. 6638/DEL/2015 ALSO ASSESSEE WAS CARRYING DISTRIBUTION OF SIMILAR PRODUCTS AS A FULL RISK DISTRIBUTOR. THUS, ON THE PRINCIPLE OF CONSISTENCY ALSO RPM SHOULD BE APPLIED IN THIS YEAR ALSO TO BENCHMARK THE TRANSACT ION OF SALE AND PURCHASE OF GOODS FROM THE AE FOR RESALE IN INDIA. 11. ON THE OTHER HAND, LD. CIT DR, SHRI TM SHIV KU MAR, SUBMITTED THAT, WHENCE THE ASSESSEE IS PURCHASING TWO DIFFERE NT PRODUCTS WHICH HAS DIFFERENT GROSS PROFIT MARGINS THEN THESE TWO D IFFERENT PRODUCTS CANNOT BE CLUBBED TOGETHER TO ARRIVE AT APPROPRIATE GROSS PROFIT MARGIN FOR THE PURPOSE OF BENCH MARKING. THE HUGE VARIATIO N IN THE GROSS PROFIT MARGIN (I.E. 44% FOR THE AUTOMOTIVE PRODUCTS AND 25% FOR THE MEDICAL EQUIPMENT) TOGETHER CANNOT GIVE PROPER BENCHMARKING ANALYSIS. ON THIS FACTOR ALONE RPM CANNOT BE SAID TO BE THE CORRECT M ETHOD TO APPLY IN THE PRESENT CASE. THE REASON BEING THE MANNER OF PRICIN G FOR BOTH THE PRODUCTS IS DIFFERENT AND SO ALSO THE INCOME. FURTHE R THE COST RELATED TO ALL THE VARIOUS FUNCTIONS AS HIGHLIGHTED BY THE TPO WOULD AGAIN IS VITAL FACTOR, BECAUSE UNDER THE DISTRIBUTION FUNCTION, ON LY THE GROSS COMPENSATION AFTER THE COST OF SALES IS TAKEN AND, THEREFORE, IT IS DIFFERENT TO APPLY RPM IN THE CASE OF FULL RISK DISTRIBUTOR. HE ALSO POINTED OUT TO THE OBSERVATIONS OF THE DRP THAT ASSESSEE HAD TWO M ODELS ONE OUTRIGHT SALE OF EQUIPMENT AND OTHER LEASING OF EQUIPMENTS A ND, THEREFORE, IN THIS SITUATION ALSO RPM CANNOT BE CONSIDERED. IN THE NUT SHELL, WE STRONGLY RELIED UPON THE OBSERVATION AND THE FINDING OF THE DRP AS WELL AS THE TPO. 12. WE HAVE HEARD THE RIVAL SUBMISSIONS AND PERUS ED THE RELEVANT FINDING GIVEN IN THE IMPUGNED ORDER QUA THE ISSUE, WHETHER UNDER THE FACTS AND CIRCUMSTANCES OF THE CASE RPM SHOULD BE C ONSIDERED AS MOST APPROPRIATE METHOD OR NOT? IT IS AN UNDISPUTED FACT THAT THE ASSESSEE 12 ITA NO. 6638/DEL/2015 UNDER THE SEGMENT OF PURCHASE OF GOODS FOR RESALE F ROM ITS AE IS PURELY INTO DISTRIBUTION OF FINISHED GOODS IN INDIA. IT PU RCHASES AUTOMOTIVE TEST EQUIPMENT AND MEDICAL DIAGNOSTIC EQUIPMENTS, MANUFA CTURED BY ITS AE AND IS SOLD TO THIRD PARTY CUSTOMER IN INDIA WITHOU T ANY FURTHER VALUE ADDITION. SINCE IT WAS PURELY PERFORMING THE DISTRI BUTION FUNCTION, THEREFORE, TO BENCHMARK THE ARMS LENGTH TRANSACTIO N, ASSESSEE ADOPTED RPM IS THE MOST APPROPRIATE METHOD (MAM). THE RPM H AS BEEN DESCRIBED IN RULE 10B(1) AND (B) IN THE FOLLOWING M ANNER: DETERMINATION OF ARM'S LENGTH PRICE UNDER SECTION 9 2C. 10B. (1) FOR THE PURPOSES OF SUB-SECTION (2) OF SEC TION 92C, THE ARM'S LENGTH PRICE IN RELATION TO AN INTERNATIONAL TRANSACTION SHALL BE DETERMINED BY ANY OF THE FOLLOWING METHODS, BEING THE MOST APPROPRIATE METHOD, IN THE FOLLOWING MANNER, NAMELY : (B) RESALE PRICE METHOD, BY WHICH, (I) THE PRICE AT WHICH PROPERTY PURCHASED OR SERVICE S OBTAINED BY THE ENTERPRISE FROM AN ASSOCIATED ENTERPRISE IS RESOLD OR ARE PROVIDED TO AN UNRELATED ENTERPRISE, IS IDENTIFIED; II. SUCH RESALE PRICE IS REDUCED BY THE AMOUNT OF A NORMAL GROSS PROFIT MARGIN ACCRUING TO THE ENTERPRI SE OR TO AN UNRELATED ENTERPRISE FROM THE PURCHASE AND RES ALE OF THE SAME OR SIMILAR PROPERTY OR FROM OBTAINING A ND PROVIDING THE SAME OR SIMILAR SERVICES, IN A COMPAR ABLE UNCONTROLLED TRANSACTION, OR A NUMBER OF SUCH TRANSACTIONS; (III) THE PRICE SO ARRIVED AT IS FURTHER REDUCED BY TH E EXPENSES INCURRED BY THE ENTERPRISE IN CONNECTION WI TH THE PURCHASE OF PROPERTY OR OBTAINING OF SERVICES; IV. THE PRICE SO ARRIVED AT IS ADJUSTED TO TAKE INTO ACCOUNT THE FUNCTIONAL AND OTHER DIFFERENCES, INCLUD ING DIFFERENCES IN ACCOUNTING PRACTICES, IF ANY, BETWEE N THE INTERNATIONAL TRANSACTION AND THE COMPARABLE 13 ITA NO. 6638/DEL/2015 UNCONTROLLED TRANSACTIONS, OR BETWEEN THE ENTERPRIS ES ENTERING INTO SUCH TRANSACTIONS, WHICH COULD MATERIA LLY AFFECT THE AMOUNT OF GROSS PROFIT MARGIN IN THE OPE N MARKET; (IV) THE ADJUSTED PRICE ARRIVED AT UNDER SUB-CLAUSE (IV) IS TAKEN TO BE AN ARM'S LENGTH PRICE IN RESPECT OF THE PURCHASE OF THE PROPERTY OR OBTAINING OF THE SERVIC ES BY THE ENTERPRISE FROM THE ASSOCIATED ENTERPRISE; THUS, THE RPM METHOD IDENTIFIES THE PRICE AT WHICH THE PRODUCT PURCHASED FROM THE A.E. IS RESOLD TO AN UNRELATED P ARTY. SUCH PRICE IS REDUCED BY NORMAL GROSS PROFIT MARGIN, I.E., THE GR OSS PROFIT MARGIN ACCRUING IN A COMPARABLE CONTROLLED TRANSACTION ON RESALE OF SAME OR SIMILAR PROPERTY OR SERVICES. THE RPM IS MOSTLY APP LIED IN A SITUATION IN WHICH THE RESELLER PURCHASES TANGIBLE PROPERTY OR O BTAIN SERVICES FROM AN A.E. AND RESELLER DOES NOT PHYSICALLY ALTER THE TAN GIBLE GOODS AND SERVICES OR USE ANY INTANGIBLE ASSETS TO ADD SUBSTANTIAL VAL UE TO THE PROPERTY OR SERVICES, I.E., RESALE IS MADE WITHOUT ANY VALUE AD DITION HAVING BEEN MADE. 13. IN THE CASE OF MATTEL TOYS INDIA P. LTD. (SUPR A), THE TRIBUNAL AFTER ANALYZING THE RPM METHOD, OBSERVED AND HELD AS UNDE R:- -------------SINCE IN RPM ONLY MARGINS ARE SEEN WI TH REFERENCE TO ITEMS PURCHASED AND SOLD OR EARNED BY AN INDEPENDENT ENTERPRISE IN COMPARABLE UNCONTROLLED TRANSACTIONS VIS-A- VIS THE ONE IN THE CONTROLLED T RANSACTIONS, THEREFORE, IN SUCH A SITUATION, THE NATURE OF PRODUCTS HAS NOT MUCH RELEVA NCE THOUGH THEIR CLOSER COMPARABLE MAY PRODUCE A BETTER RESULT. THE FOCUS IS MORE ON SAME OR SIMILAR NATURE OF PROPERTIES OR SERVICES RATHER THAN SIMILAR ITY OF PRODUCTS. IN RPM OTHER ATTRIBUTES OF COMPARABILITY THAN THE PRODUCT ITSELF C AN PRODUCE A RELIABLE MEASURE OF ARM'S LENGTH CONDITIONS. THE MAIN REASON IS THAT TH E PRODUCT DIFFERENTIATION DOES NOT MATERIALLY AFFECT THE GROSS PROFIT MARGIN AS IT REPRESENTS GROSS COMPENSATION 14 ITA NO. 6638/DEL/2015 AFTER THE COST OF SALES FOR SPECIFIC FUNCTION PERFORMED . THE FUNCTIONAL ATTRIBUTE IS MORE IMPORTANT WHILE UNDERTAKING THE COMPARABILITY ANALYSIS UNDER THIS METHOD. THUS, IN OUR OPINION, UNDER THE RPM, PRODUCTS SIMILAR ITY IS NOT A VITAL ASPECT FOR CARRYING OUT COMPARABILITY ANALYSIS BUT OPERATIONAL COMPARABILITY IS TO BE SEEN. SINCE THE GROSS PROFIT MARGIN IS THE MAIN CRITERIA WHILE EVALUATING THE TRANSACTIONS IN THE RPM WHEREIN PRICE IS IDENTIFIED AT WHICH PROP ERTY OR SERVICES ARE RESOLD AND NORMAL GROSS PROFIT MARGIN IS DERIVED AT BY THE ENTE RPRISE WHICH IS DEDUCTED FROM THE RESALE PRICE OF SUCH PROPERTY OR SERVICE IN COMP ARABLE UNCONTROLLED TRANSACTIONS. THE GROSS PROFIT MARGIN EARNED BY THE INDEPENDENT EN TERPRISE IN COMPARABLE UNCONTROLLED TRANSACTIONS IS SERVED AS A GUIDANCE FA CTOR. THIS IS ALSO WHAT HAPPENS IN THE CASE OF A DISTRIBUTOR WHEREIN THE PROPERTY AN D SERVICE ARE PURCHASED FROM THE A.E. AND ARE RESOLD TO OTHER INDEPENDENT ENTITIES, W ITHOUT ANY VALUE ADDITIONS. THE GROSS PROFIT MARGIN EARNED IN SUCH TRANSACTIONS BECO MES THE DETERMINATION FACTOR TO SEE THE GROSS COMPENSATION AFTER THE COST OF SALES. I N THE INSTANT CASE, THE ASSESSEE IS A DISTRIBUTOR OF MATTEL TOYS AND GETS THE FINISHED G OODS FROM ITS A.E. AND RESELLS THE SAME TO INDEPENDENT PARTIES WITHOUT ANY VALUE ADDIT ION. IN SUCH A SITUATION, RPM CAN BE THE BEST METHOD TO EVALUATE THE TRANSACTIONS WHETHER THEY ARE AT ALP. 39. SOME OF THE CASE LAWS RELIED UPON BY THE LEARNED COU NSEL ALSO SUPPORT OUR ABOVE CONCLUSION THAT IN CASE OF DISTRIBUTION ACTIVITIES I .E., IMPORT OF PRODUCTS AND SERVICES FROM THE A.E. AND RESALE TO THE INDEPENDENT PARTIES WITHOUT ANY VALUE ADDITION, THE RPM WOULD BE THE MOST APPROPRIATE METHOD FOR DETERMI NING THE ALP. THIS VIEW HAS BEEN UPHELD BY THE TRIBUNAL, MUMBAI BENCH, IN TEX TRONIX INDIA P. LTD. (SUPRA), L'OREAL INDIA P. LTD. (SUPRA AND STAR DIAMO ND GROUP V/S DDIT, 141 TTJ 21. THE OECD GUIDELINES AND ICAI GUIDELINES AS HAVE BEEN REFERRED TO BY THE LEARNED COUNSEL HAVE ALSO EXPRESSED ON THE SIMILAR LINE THAT RPM WOULD BE THE BEST METHOD WHEN RESALE TAKES PLACE WITHOUT ANY VALUE AD DITION TO A PRODUCT FOR BENCH 23 15 ITA NO. 6638/DEL/2015 MARKING THE ALP. 40. ON THE OTHER HAND, UNDER THE TNMM, THE ALP IS DETERMI NED BY COMPARING THE OPERATING PROFIT RELATED TO AN APPROPRIATE BASE I.E. , COST OR SALE OR ASSETS OF THE 'TESTED PARTY' WITH THE OPERATING PROFIT OF AN UNCONTROLLED PARTY E NGAGED IN COMPARABLE TRANSACTIONS. UNDER THE TNMM, NET MARGIN OR OPERATING PROFIT IS COMPARED AGAINST WITH THE INDEPENDENT ENTITIES AGAI NST THOSE ACHIEVED IN RELATED PARTY TRANSACTIONS. UNDER THE TNMM, THE MAJOR THRUST IS TO DERIVE AT THE OPERATING PROFIT AT THE TRANSACTIONAL LEVEL AND TO IDENTIFY THE OPERATING EXPENSES OF BOTH THE TESTED PARTY AS WELL AS THE INDEPENDENT PARTIES. TH IS REQUIRES A LOT OF ADJUSTMENTS TO DERIVE AT THE ACTUAL OPERATING PROFIT. IF THE ALP OF A NY TRANSACTION CAN BE DETERMINED BY APPLYING ANY OF THE DIRECT METHODS LIK E CUP, RPM, CPM THEN THEY SHOULD BE GIVEN THE PREFERENCE AND ONCE THESE TRADIT IONAL METHODS HAVE BEEN RENDERED INAPPLICABLE THEN ONLY TNMM SHOULD BE RESO RTED TO. ON THE FACTS OF THE ASSESSEE'S CASE, IN OUR OPINION, THE ASSESSEE BEING A DISTRIBUTOR WHO IS PURCHASING THE GOODS FROM ITS A.E. AND RESELLING THEM TO INDEPE NDENT PARTIES / UNRELATED PARTIES, RESALE PRICE METHOD WOULD BE THE MOST APPRO PRIATE METHOD FOR DETERMINING THE ALP OF THE TRANSACTIONS BETWEEN THE ASSESSEE AN D THE AE. 14. FROM THE AFORESAID DECISION IT IS QUITE OSTENSI BLE THAT IN CASE OF A DISTRIBUTOR, WHEREIN THE GOODS ARE PURCHASED FROM A E AND RESOLD TO OTHER INDEPENDENT ENTITIES WITHOUT ANY VALUE ADDITION, TH EN RESALE PRICE METHOD SHOULD BE RECKONED AS MAM. ONE OF THE MAIN R EASON GIVEN BY THE TPO AS WELL AS THE DRP IS THAT THE ASSESSEE IS A FULL-FLEDGED/FULL RISK DISTRIBUTOR AND PERFORMING HOST OF FUNCTIONS, THERE FORE, RPM SHOULD NOT BE TAKEN US THE MAM, BECAUSE ALL THESE FUNCTIONS RE QUIRED HUGE COST WHICH MAY NOT REPRESENT CORRECT GROSS PROFIT MARGIN . WE ARE UNABLE TO APPRECIATE SUCH PROPOSITION, BECAUSE IN A COMPARABL E UNCONTROLLED TRANSACTIONS SCENARIO, A NORMAL DISTRIBUTOR WILL UN DERTAKE ALL KIND OF 16 ITA NO. 6638/DEL/2015 FUNCTIONS WHICH ARE RELATED TO SALES OF THE PRODUCT . THE FUNCTIONS LIKE MARKET RESEARCH, SALES AND MARKETING, WARE-HOUSING, INVENTORY CONTROL, QUALITY CONTROL ETC. AND ALSO RISK LIKE MARKET RISK , INVENTORY RISK, CREDIT RISK ETC ALL ARE UNDERTAKEN BY ANY DISTRIBUTOR FOR SALE OF PRODUCTS. NO COMPARABLE INSTANCES HAVE BEEN BROUGHT EITHER BY TH E TPO OR BY THE LD. DRP THAT THE OTHER DISTRIBUTORS ARE NOT PERFORMING SUCH FUNCTIONS. WHAT IS IMPORTANT IS TO SEE IS, WHETHER THERE IS ANY VAL UE ADDITION OR NOT ON THE GOODS PURCHASED FOR RESALE? IF THERE IS NO VALU E ADDITION AND IF THE FINISHED GOODS WHICH ARE PURCHASED FROM AE ARE RESO LD IN THE MARKET AS IT IS, THEN GROSS PROFIT MARGIN EARNED ON SUCH TRAN SACTION BECOMES THE DETERMINATIVE FACTOR TO ANALYSE THE GROSS COMPENSAT ION AFTER THE COST OF SALES. THUS, WE HOLD THAT UNDER THE FACTS OF THE PR ESENT CASE, RPM SHOULD BE HELD AS MAM. 15. THE OTHER MAIN OBJECTION OF THE DEPARTMENT BEFORE US IS THAT, THERE IS A HUGE VARIATION IN THE GROSS PROFIT MARGI N OF THE TWO PRODUCTS DISTRIBUTED BY THE ASSESSEE AND, THEREFORE, UNDER T HE RPM SAME CANNOT BE CLUBBED TOGETHER, BECAUSE IT WILL NOT YIELD PROP ER ARMS LENGTH RESULT. AS ALREADY CLARIFIED BY THE ASSESSEE BEFORE THE AUT HORITIES BELOW AS WELL AS BEFORE US THAT, ASSESSEE HAS SEPARATELY WORKED O UT THE GROSS PROFIT MARGIN FOR BOTH THE ITEMS DISTRIBUTED AND EVEN THEN THE ASSESSEES GROSS PROFIT MARGIN IS HIGHER THAN THE COMPARABLES. HOWEV ER, IN ORDER TO EXAMINE WHETHER THE GROSS PROFIT MARGIN FOR BOTH TH E PRODUCTS ARE AT ARMS LENGTH MARGIN OR NOT VIS-A-VIS THE COMPARABLE S, WE ARE OF THE OPINION THAT FOR THE LIMITED PURPOSE OF BENCHMARKIN G THE GROSS MARGINS OF THE COMPARABLES SELECTED BY THE ASSESSEE FOR BOT H THE PRODUCTS, I.E., AUTOMOTIVE COMPONENTS AND MEDICAL EQUIPMENT SHOULD BE SEPARATELY BENCHMARKED; AND IF ON COMPARISON IT IS FOUND THAT THE GROSS PROFIT MARGIN OF THESE COMPARABLES CHOSEN BY THE ASSESSEE AS WELL AS ACCEPTED 17 ITA NO. 6638/DEL/2015 BY THE DEPARTMENT ARE WITHIN THE ARMS LENGTH RANGE , THEN NO ADJUSTMENT SHOULD BE MADE. WITH THIS LIMITED DIRECT ION THE MATTER IS REMITTED BACK TO THE TPO/AO ONLY TO VERIFY THE GROS S MARGINS OF THE COMPARABLE COMPANIES. 16. IN THE RESULT, GROUNDS NO. 1 & 2 ARE ALLOWED . 17. IN VIEW OF THE FINDING GIVEN ABOVE THAT RPM IS THE MAM, THEN THE ISSUES RAISED IN GROUND NOS. 3 TO 6 WILL BECOME INF RUCTUOUS AND PURELY ACADEMIC, BECAUSE THESE ARE THE GROUNDS RELATING TO CERTAIN ADJUSTMENTS, IF TNMM IS APPLIED AND TAKEN AS MAM. THUS, GROUND N OS. 3 TO 6 ARE TREATED AS ACADEMIC AND HENCE, ARE DISMISSED FOR ST ATISTICAL PURPOSES. 18. GROUND NO. 7 IS ADMITTED TO BE PRE-MATURE AND GROUND NO. 8 IS CONSEQUENTIAL. ACCORDINGLY, BOTH THE GROUNDS ARE DI SMISSED. 19. IN THE RESULT, THE APPEAL OF THE ASSESSEE IS PA RTLY ALLOWED. ORDER IS PRONOUNCED IN THE OPEN COURT ON 18 TH APRIL, 2017. SD/- SD/- ( J.S. REDDY ) (AMIT SHUKLA) ACCOUNTANT MEMBER JUDICIAL MEMBER DATED: 18.04.2017 *KAVITA ARORA COPY FORWARDED TO: 1. APPELLANT 2. RESPONDENT 3. CIT 4. CIT(APPEALS) 5. DR: ITAT ASSISTANT REGISTRAR 18 ITA NO. 6638/DEL/2015 ITAT NEW DELHI DATE 1. DRAFT DICTATED ON 24.03.2017 2. DRAFT PLACED BEFORE AUTHOR 10.04.2017 3. DRAFT PROPOSED & PLACED BEFORE THE SECOND MEMBER 4. DRAFT DISCUSSED/APPROVED BY SECOND MEMBER. 5. APPROVED DRAFT COMES TO THE SR.PS/PS 6. KEPT FOR PRONOUNCEMENT ON 18.04.2017 7. FILE SENT TO THE BENCH CLERK 17.04.2017 8. DATE ON WHICH FILE GOES TO THE AR 9. DATE ON WHICH FILE GOES TO THE HEAD CLERK. 10. DATE OF DISPATCH OF ORDER. 19 ITA NO. 6638/DEL/2015