Income Tax Appellate Tribunal - Delhi
Sona Okegawa Precision Forgings Ltd., ... vs Department Of Income Tax on 23 July, 2010
IN THE INCOME TAX APPELLATE TRIBUNAL
(DELHI BENCH "G" DELHI)
BEFORE SHRI A.D. JAIN AND SHRI A.K. GARODIA
ITA NO. 260(Del)2010
Assessment year: 2004-05
Asstt.Commissioner of Income Tax, M/s. Sona Okegawa Precision
Circle 9(1), CR Bldg., New Delhi. V. Forgings Ltd. Indra Prakash
Bldg., BK Road, New Delhi.
(Appellant) (Respondent)
Appellant by: Shri Nikhil Chaudhary, Sr. DR
Respondent by: S/Shri Vidur Puri & Baldev Raj, CAs
ORDER
PER A.D. JAIN, J.M.
This is Department's appeal for the assessment year 2004-05, taking the following ground:-
"The ld.Commissioner of Income Tax(Appeals) erred, in law and on the facts and circumstances of the case, in deleting the addition of Rs. 43,68,838/- being the difference in the arm's length price and the value of the International Transaction on account of Royalty. The AO made this addition on the basis of TPO's order passed u/s 92CA(3) of the I.T. Act."
2. The facts are that during the assessment proceedings, the AO noticed the following International Transactions entered into by the appellant during the financial year 2003-04, as reported in Form 3CEB, filed along with the 2 ITA 260(Del)10 return of income.
S.No. Type of International Transaction Method Value of
selected transactions
1. Purchase of raw material, dies,jigs and TNMM 1,19,43,197
special tools
2. Purchase of consumables &raw materials TNMM 69,98,605
3. Sale of finished goods TNMM 6,05,40,938
4. Sales return of finished goods sold - 4,30,104
5. Royalty CUP 1,00,32,469
6. Payment of commission TNMM 70,933
7. Payment of dividend CUP 43,31,250
3. A reference was made by the AO under section 92CA(1) of the Act to the Transfer Pricing Officer (TPO) for computation of Arm's Length Price in respect of these International Transactions. The TPO, however, did not agree with the analysis undertaken by the assessee for determination of the arm's length price of royalty to Associated Enterprises (International Transaction), the assessee had with its associated enterprises and consequently the TPO made/suggested an adjustment of Rs. 43,68,838/- on account of difference in arm's length price to the value of International Transactions.
4. The TPO after going through the transfer pricing documentation and other details filed by the assessee during the proceedings under section 92CA of the I.T. Act, determined the arm's length price of royalty paid to 3 ITA 260(Del)10 Associated Enterprises (International Transaction) after taking into account the following:
i) The assessee used the CUP method for determining the arm's length price for royalty paid to collaborator,i.e., AE and compared the rate of royalty with the rate allowed 8% on domestic sale and 5% on export sale as permitted and allowed under the regulations of Government of India. As the appellant has not entered into agreement or payment of royalty with any other unrelated enterprise in India or elsewhere. Thus there are no comparable uncontrolled transactions. Accordingly, TPO held that the appellant had not determined the arm's length price for the payment of royalty in accordance with the provision of Sec. 92C(1) and (2).
ii) The TPO further observed that royalty has been paid on total sale irrespective of sales made to same Associated Enterprise or other enterprises. Royalty has been paid @ 3% of he sales.
Sales made to the AE amounted to Rs. 6,05,40,938/-. Accordingly, the corresponding royalty paid to the AE on these sales comes to Rs.18,16,228/-, therefore, TPO held that it should not allow and to that extent it is an excess payment and the royalty payment is not at arm's length to that extent. Accordingly, an adjustment of Rs. 18,16,228/- is made on the royalty account.
4 ITA 260(Del)10
iii) The TPO further noticed that the assessee has incurred following expenses in respect of the two personnel of the Associated Enterprises -
Expenses incurred on Mr. Keichi Osawa
(Technical Advisor)
Salary related expenses 4,26,415
Payment made for car 1,67,356
Payment made for residential accommodation 2,82,000
Total 8,75,771
Expenses incurred on Mr. Tadao Katsuchi
(Joint Managing Director)
Salary related expenses 10,38,649
Payment made for car 1,58,190
Payment made for residential accommodation 4,80,000
Total 16,76,839
5. The TPO was of the opinion that since as per the agreement the royalty payment was also towards the improvement of technical information relating to process which is developed by the AE, therefore, the assessee was not required to incur the expenditure on the two personnel deputed by the AE. Hence the TPO held that the amount of Rs. 25,52,610/- paid to the Mr. Keichi Osawa (Technical Advisor) and Mr. Tadao Katsuchi (Joint Managing Director) is not at arm's length and therefore to that extent adjustment is required.
5 ITA 260(Del)10
6. Thus, the AO/TPO made an adjustment of Rs. 43,68,838/- on account of arm's length price of royalty paid to Associated Enterprise as well as of expenses incurred on the personnel send by the AE to the assessee.
7. By virtue of the impugned order, the learned CIT(A) has deleted the additions made by the AO, which brings the Department before us by way of the present appeal.
8. Challenging the impugned order, the ld. DR has argued that the ld. CIT(A) has erred in deleting the addition of Rs. 43,68,838/- correctly made by the AO, being the difference in the arm's length price and the value of International Transaction on account of royalty, overlooking that the AO had made the addition on the basis of the TPO's order passed u/s 92CA(3) of the I.T. Act.
9. The learned counsel for the assessee, on the other hand, has placed strong reliance on the impugned order. It has been contended that the ld. CIT(A) has rightly deleted the addition wrongly made by the AO; and that the TPO did not bring any material on record to show that the prices were not at arm's length.
10. We have heard the parties and have perused the material on record. The addition of Rs. 43,68,838/- comprises of two components, i.e., the expenditure on deputation of personnel of Associated Enterprise (addition of 6 ITA 260(Del)10 Rs.25,52,610/-) and royalty paid to AE on sale made to AE (addition of Rs. 18,16,228/-).
11. Apropos the expenses of personnel on deputation of Associated Enterprise, it is seen that the assessee had appointed one Mr. Tadao Katsuchi as Joint Managing Director of the company as per shareholding of the company of MMC Japan. During the assessment year 2004-05 , i.e., the year under consideration, the assessee paid to him, a sum of Rs.16,76,839/- by way of salary allowance and perquisites. This expenditure did not relate to the payment of royalty, the Joint Managing Director having not been appointed under the know-how lease agreement with MMTL. The remuneration was determined by the company on the basis of similar payment to the assessee's own employees. It was not shown otherwise. This payment did not qualify the test for arm's length price concerning payment of royalty.
12. Further, the assessee appointed as Technical Adviser Mr. Keichi Osawa. He was appointed under the agreement. On the assessee's request, he was deputed by MMTL. During the year, payment of Rs.8,75,771/- was made to him. The deputation of the said Technical Adviser did not affect the amount of royalty due to Associated Enterprise ('AE', for short) and the payment of royalty to MMTL. The expenses by way of payment of salary, 7 ITA 260(Del)10 allowance and perquisites were not a part of royalty payment and it could not have been reduced from the actual royalty payment so as to compute the royalty payment at an arm's length price. It is these two amount of Rs. 16,76,839/- and Rs.8,75,771/-, that go to make up the amount of Rs.25,52,610/-, which was added on the first count by the AO, which addition has been deleted by the ld. CIT(A). The payment was an obligation of the assessee as per the know-how licence agreement, as noted by the ld. CIT(A). Besides, the TPO failed to take into account the fact that the assessee never bore the cost of about Rs. 75.38 lakhs, representing the cost of salary paid in Japan to the ex-patriates deputed . It is noteworthy that in assessment year 2002-03, the TPO had accepted the payment of royalty to MMTL. The same had also been done by the AO for assessment year 2003-
04. Such payment was held to be at an arm's length price. There was no nexus of Mr. Tadao Katsuchi as Joint Managing Director of the assessee company with the payment of royalty. Such appointment had been made under the Shareholder Agreement. Section 6 of the Shareholder Agreement provides for the payment of technical advisory services in India. As per section 6.01, after the effective date of the agreement and on the written request of SOPF (the assessee), MMTL may despatch a technically qualified Engineer of MMTL to the assessee as a Technical Adviser. As per section 8 ITA 260(Del)10 6.2 (2), the assessee was to bear, inter alia, gasoline in India, postage, telephone and facsimile cost incurred by the Technical Adviser in performing the services under the Agreement. In fact, the agreement made it clear that MMTL was to depute a Technical Adviser on the assessee's request and the remuneration paid to the Technical Adviser was to be borne by the assessee. Pertinently, such request for deputing the Technical Adviser was made by the assessee to MMTL only in the year 2003-04. The agreement did not state that the deputation of Technical Adviser and the payment of royalty to MMTL, inter alia, would affect the quantum of royalty being paid to the AE. As such, there was no reason for the TPO to hold that the expenses incurred on the deputation of Technical Adviser ought to be incurred by the AE and not by the assessee, since it was the assessee who was paying the royalty. The expenditure in question was no doubt incurred for business purposes and it was this which was the determining the factor, as rightly noted by the ld. CIT(A). It has not been shown that the payment was not as ought to have been made by a prudent business-man under similar circumstances, in the course of its/his normal business activities.
13. The payments made by the assessee to the Joint Managing Director and the Technical Adviser were thus correctly found by the ld. CIT(A) to be genuine business expenditure.
9 ITA 260(Del)10
14. So far as regards the other limb of the addition, the assessee was paying royalty @ 3% on export as well as domestic sales net of imported raw material and brought out components. The actual payment of royalty was of Rs. 12.82 lakhs. This was erroneously computed for sales to MMTL, at Rs. 18,16,228/-. As per the contract, the assessee was to pay royalty @ 3% on export and domestic sales net of imported raw mateial and brought out components, whereas the TPO wrongly computed it @ 3% on gross sales. This, despite the fact that the assessee had submitted before the TPO, a detailed working in this regard. Therein, it had been clearly mentioned that the payment of royalty to the AE was of Rs.12.82 lakhs. Moreover, this royalty of 12.82 had been recovered as a part of sale consideration of the components sold to them at an arm's length price in accordance with the Cost Plus Method and the TNM Method, which was accepted by the TPO. Also, the sale price in the case of buy back of components was undisputedly a negotiated price determined on the actual cost to the assessee, which included royalty paid. The break up thereof was duly submitted by the assessee before the TPO. On the basis of this, the arm's length price stood justified on acceptable margin under TNM Method.
15. It remains undisputed that as per the OECD guidelines, the assessee was not a contract manufacturer. Rather, it was an independent company.
10 ITA 260(Del)10
16. The royalty was paid by the assessee under the Technology Agreement, computed on the basis of the entire production/sales. This remains undisputed. Further, it is also undisputed, as noted by the ld. CIT(A), that for the purpose of computing the fees to be paid for production, no distinction was made between the products sold to the AE or to independent parties. As such, the fee was paid on the sales made to the AE also. There was no material brought by the TPO to demonstrate that the price on sales made to the AE was not at an arm's length . That being so, it was at market determined prices that the sales were made by the assessee. Moreover, it goes unchallenged that the fees paid under the Technology Agreement comprises an integral part of the cost of production, which was recovered from the sale price. It was thus, that so far as regards the sales made to the AE, the amount of fees paid under the Technology Agreement was recovered by the assessee from the AE as part of sale price. This being so, such fee paid became revenue neutral, that is to say, in case the assessee did not pay the fees on the sales made to the AE, a corresponding reduction in the price charged to the AE would have to be given by the assessee, lest the cost for the sale come down. Such latter methodology was not advisable, for it would create problems in the accounting. Also, the impact on the taxable profits would be nil.
11 ITA 260(Del)10
17. It was on taking into consideration all of the above that the ld. CIT(A) deleted the addition wrongly made by the AO. We do not find any reason to record any variance with the well reasoned elaborate findings of fact recorded by the ld. CIT(A). The same are hereby upheld. The grievance sought to be raised by the Department is thus found to be without substance and shorn of merit. The same is hereby rejected.
18. In the result, the appeal filed by the Department is dismissed.
Order pronounced in the open court on 23.07.2010.
Sd/- sd/-
(A.K. Garodia) (A.D. Jain)
Accountant Member Judicial Member
Dated: 23.07.2010
*RM
copy forwarded to:
1. Asstt.Commissioner of Income Tax,
Circle 9(1), CR Bldg., New Delhi. .
2. M/s. Sons Okegawa Precision Forgings Ltd. Indra Prakash Bldg., BK Road, New Delhi.
3. CIT
4. CIT(a)
5. DR true copy by order Deputy Registrar