Income Tax Appellate Tribunal - Delhi
Honda R & D (India) Pvt. Ltd., New Delhi vs Department Of Income Tax on 29 January, 2015
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCHES: I : NEW DELHI
BEFORE SHRI R.S. SYAL, AM AND SHRI A.T. VARKEY, JM
ITA No.5853/Del/2011
Assessment Year : 2005-06
ACIT, Vs. Honda R&D (India) Pvt. Ltd.,
Circle-12(1), 118, KS House,
New Delhi. 1st Floor, Shahpur Jat,
New Delhi.
PAN : AABCH3071N
(Appellant) (Respondent)
Assessee By : Shri Nageswar Rao, Shri Aniket &
Shri Deepak Agrawal, Advocates.
Department By : Shri Peeyush Jain, CIT, DR
ORDER
PER R.S. SYAL, AM:
This appeal by the Revenue arises out of the order passed by the CIT(A) on 31.10.2011 in relation to the assessment year 2005-06. ITA No.5853/Del/2011
2. The first two grounds are against the deletion of addition of Rs.80,99,741/- made by the Assessing Officer (AO) on account of transfer pricing adjustment.
3. Briefly stated, the facts of the case are that the assessee was established in India in June, 2003 as a 100% subsidiary of Honda R&D Company Ltd, Japan, for undertaking research and development activities in relation to Honda Automobile and Power Equipment companies. Since research and development was to be mainly carried out by the Japanese company, the assessee was floated for conducting research and development activities in India. Apart from the others, the assessee reported an international transaction of: 'Sale of services' with the value of Rs.15,05,91,025. The Transactional Net Margin Method (TNMM) was employed as the most appropriate method to demonstrate that this international transaction was at arm's length price (ALP). The assessee was compensated at cost plus 3% mark-up, which was claimed as arm's length price because of the similar pattern adopted by its holding company across the globe for compensating the other AEs 2 ITA No.5853/Del/2011 for performing similar activities. The TPO examined the nature of activities carried out by the assessee on pages 5-7 of his order dated 8.10.2008. It was concluded that major part of the assessee's income was from its AEs on account of R&D activities. As the assessee had not given any comparable uncontrolled transactions, the TPO carried out search for finding some external comparable uncontrolled transactions. In this process, the following three companies were chosen as comparables, after due notice to the assessee :-
Name of the Company OP/TC
i) National Research Development Corporation Ltd. (5.80%)
ii) Panacea Biotech 17.17%
iii) Suven Life Science 14.26%
Average 8.54%
4. Considering the above as arm's length margin, the transfer pricing adjustment of Rs.80,99,741/- was proposed by the TPO, which, in turn, came to be made by the AO. During the course of first appellate proceedings, the assessee contended that it merely provided market 3 ITA No.5853/Del/2011 research and testing services to its parent company, whereas the TPO adopted companies with full-fledged R& D activities. The assessee conducted a fresh search and filed the results of such search with the ld. CIT(A) through written submissions dated 19.11.2010. In its search, the assessee selected following six companies as comparables :-
i) Idma Laboratories
ii) Hi Tech Laboratories
iii) Venus Diagnostics
iv) Capital Trust Ltd.,
v) Cyber Media Ltd.,
vi) ITDC.
5. The ld. CIT(A) sent the material filed by the assessee to the TPO requiring him to send a remand report on the same. The TPO vide his remand report dated 14.12.2010, a copy of which is available on record, reiterated that the activities carried out by the assessee were rightly classified by him as R&D. As regards six comparables chosen by the assessee, the TPO agreed with the first three companies as correctly 4 ITA No.5853/Del/2011 comparables. The remaining three companies at sl. nos. iv) to vi) of the above list were held to be incomparable. The ld. CIT(A), after considering the submissions advanced on behalf of the assessee along with the remand report of the TPO, came to hold that apart from the three companies admitted by the TPO to be comparable, another company, namely, ITDC, was also comparable. This position about the inclusion of ITDC in the final set of comparables was taken by the ld. CIT(A) in the light of the direction given by the Dispute Resolution Panel (DRP) for its inclusion in the list of comparables for the assessment year 2007-08. On the basis of the results of these four companies, the ld. CIT(A) held that no addition was called for. The Revenue is aggrieved against the deletion of the addition on account of transfer pricing adjustment.
6. We have heard the rival submissions and perused the relevant material on record. The ld. DR has limited himself in arguing against the inclusion of ITDC and non-inclusion of National Research Development Corporation Ltd., Panacea Biotech and Suven Life 5 ITA No.5853/Del/2011 Science, which were initially chosen by the TPO as comparable vide his order dated 8.10.2008.
7. We will take up these companies one by one for the purposes of ascertaining their comparability or otherwise.
i) Indian Tourism Development Corporation (ITDC).
8.1. Before deciding the comparability of this company, it is of foremost importance to consider the functional profile of the assessee. In this regard, it is noticed that the assessee entered into Research and Service Agreement (hereinafter also called 'the Agreement') with Honda R&D Company Ltd., Japan on 1.8.2003. Article 1 of this Agreement stipulates that the Japanese company is engaged in research and development activities relating to certain products to be manufactured and marketed by Honda Motor Company Ltd., or its licensees. The Japanese company sub-contracted a portion of the R&D activities to the assessee. This Article further lists out the following services to be rendered by the assessee to its parent company:-
(1) Market research, information-gathering and analysis;6 ITA No.5853/Del/2011
(2) Design research and concept-making;
(3) Product planning and proposals to R&D;
(4) Study, analysis and development of the products referred to
above;
(5) Technical consultation about R&D's designated products;
(6) Arrangement for the purchase of goods and samples, and
export and import processing for R&D;
(7) Assisting R&D in intellectual property affairs;
(8) Assisting R&D in entering into contracts with third parties;
(9) Recruiting human resources for research and development;
(10) Administrative support and services; and
(11) Providing services incidental to R&D activities including without limitation computer-related services.
8.2. Article 2 of the Agreement with the marginal note `Other Services', provides as under:-
"In Association with the main services described in Article 1 above, R&D (i.e. Japanese company) may also request HRID (i.e. assessee company) to perform the following services:7 ITA No.5853/Del/2011
(1) Filing and processing of applications for patents, utility models, designs, trademarks, and copyrights; (2) Technical and administrative assistance and consultation about matters to be specified by R&D; and (3) Such other services as the parties hereto may from time to time agree upon."
8.3. A bare perusal of the contents of Article 1 clearly brings out that the assessee undertook to carry on Market research; Design research and concept making; Product planning and proposals; Study, analysis and development of the products; Technical consultation about its holding company's designated products, etc. Article 2 provides for performing services in the nature of filing and processing of applications for patents, models and designs, trademarks and copyright, etc. 8.4. At this juncture, it is apposite to note the contents of para 1 of the Article 3, which reads as under:-
"Article 3. Ownership of Proprietary Rights.
1. R&D (i.e. the Japanese company) shall exclusively own or have the right to use all ideas, concepts, inventions, 8 ITA No.5853/Del/2011 patents, utility models, designs, trademarks, copyrights, drawings, records and any and all work results conceived, generated or produced during, or as a result of, the services performed by HRID (i.e. the assessee company) under this Agreement (the "Work Results")"
8.5. Para 1 of the Article 3 makes the things manifest about the output of the assessee's activities which has been described as the "Work Results." This Article provides that the Japanese company shall have exclusive right to use all the inventions, patents, designs, trademark, copyrights, etc., conceived, generated or produced by the assessee in performing the services undertaken by it. When we consider the contents of Article 3 in juxtaposition to those of Article 1, there remains absolutely no doubt that the assessee was mainly engaged in performing services qua the R&D activity dealing with design, research, product planning, study, analysis and development of the products, apart from doing market research and information-gathering, which is again nothing but connected with its major activity of undertaking research for its Associated enterprise. Article 2 manifests about 9 ITA No.5853/Del/2011 the services to be rendered in filing and processing of applications for patents, utility models, designs, trademarks, and copyrights. It is but natural that only if some designs, models etc. are made by the assessee described in the Agreement as 'Work Results', that they would need registration for the purpose of trademark and copyright etc. The above narration of the activities carried out by the assessee amply divulges that it was engaged in the research and development activity on behalf of its holding company, which is again only a R&D company of the group.
8.6. The ld. AR vehemently argued that the stipulations in the Agreement were not decisive of the actual services rendered by the assessee to its AE. To buttress his point of view that the assessee was only in conducting marketing survey and not in any core research and development activity, he placed reliance on page 60 and 107 of the paper book filed in relation to the appeal for assessment year 2007-08. 8.7. A perusal of page 60 of the paper book for the AY 2007-08 sets out the Outline of the work done by the assessee under the Agreement, 10 ITA No.5853/Del/2011 which has two divisions. Under the first division of 'Wheeler Division', the first item is 'Local development.' The narration against this item has been given as 'Cast wheel Development.' There is also a mention of 'New Designed undercowl developed, New Graphics introduced.' The second classification under this division is: 'New Products - Launch Support, Survey, Market research, etc.' In the narration part against this classification, the assessee has outlined the activity as: 'New model introduction, Development, Direction, Survey, etc., and Development plan support', 'Self Start Development, Launch Support', 'Graphics change, Launch support.' The third classification under the first division is 'Existing Products: Survey, Report, despatch'. The assessee has outlined the activity done by it with the description as 'Competitors New Model product performance investigation', 'Honda Bike, competitors bike rusting condition survey', 'Competitors future plan forecast and strategy survey.' In the last classification under this division, namely, 'Quality improvement', there is a mention of 'Market quality countermeasure support', 'MP quality regular investigation.' The second Division in this table is 'Power Product Division.' It has 11 ITA No.5853/Del/2011 again classifications, such as, 'R&D Structure', 'Local Development', 'Factory Support sale', 'Market Study' and 'Information gathering dispatch.' Against such classifications, there is again reference to some sort of research, such as, : 'Power volume line separation of AC/DC of electric power Genset', 'EU 3 5 Local Adaptability execution.' Even a cursory look at the outline of the work carried out by the assessee discloses that there is hardly any doubt about the assessee being engaged in research and development activities and the minor activity relating to market surveys, etc., is again helpful in the rendition of R&D services. It is obvious that R&D activity always encompasses conceptualization as the first step, which stems from and progresses on the market survey about the choice of customers, usefulness of the products and other relevant angles from the prospective of the prospective customers. The fact that the assessee was involved in the core R&D activity gets fortified from page 107 of the paper book for the AY 2007-08, on which the ld. AR has placed great reliance. This page gives manpower status. There are two divisions. Under the Motorcycle division, the assessee has given the number of personnel working in 12 ITA No.5853/Del/2011 each department, such as, Styling Design (8), Marketing Research (4), Engineering Design (5), Testing (4), and Administration (9). Under the Power Products division, the number of employees are: Marketing Research (1), Testing (2) and Engineering Design (2). When we consider the description of the Departments, such as, Styling Design, Marketing Research, Engineering Design, Testing and Administration, there remains no doubt whatsoever that the entire focus of the assessee's activity is on research and development for the products to be manufactured by its group concerns. Notwithstanding the contents of the Agreement, the material towards which the ld. AR has drawn our attention, also shows that the assessee is engaged only into research and development connected with the products to be manufactured by its group concerns.
8.8. Now let us examine the assessee's comparability or otherwise with ITDC. For that, we need to concentrate on its functional profile. It can be seen from the TPO's remand report, which has not been controverted by the ld. AR, that this Corporation falls in large 13 ITA No.5853/Del/2011 hospitality companies in India. Its divisions are Ashok Travels and Tours, Ashok Group of Hotels, Ashok International Trade Division, Ashok Creativity, Ashok Institute of Hospitality and Tourism Management and Ashok Consultancy. Ashok Travels and Tours is one of the largest travel and tour operators in India providing a host of travel related services and attractive packages for inbound and outbound tourist traffic. It is an IATA approved agency and member of national and international travel and tourism organizations. Given the nature of activities carried out by the assessee vis-à-vis Indian Tourism Development Corporation, we fail to appreciate as to how these two can be considered as comparable with each other. ITDC is in entirely different business activity bearing no resemblance worth the name with the assessee's nature of activity, which is R&D. We find no reason to uphold the impugned order on this score, which frustrated the view taken by the TPO in his remand report on the issue of incomparability of ITDC.
14 ITA No.5853/Del/2011 8.9. As regards the reliance of the ld. CIT(A) on the DRP's inclusion of ITDC in the list of comparables for the AY 2007-08, we find that the same does not merit acceptance for two reasons. First, the direction given by the DRP for a later year can have no binding force in the context of an earlier year. The second reason is that the Department, even if aggrieved by the direction given by the DRP on 12.7.2011 for the assessment year 2007-08 could not have filed appeal against the order passed by the AO giving effect to such direction. Sub-section (2A) to section 253 empowering the Revenue to file appeal against the order passed by the AO pursuant to the direction given by the DRP u/s 144C(5), has been inserted by the Finance Act, 2012 w.e.f. 1.7.2012. It is, therefore, abundantly clear that the direction given by the DRP for the AY 2007-08 could not have been challenged by the Revenue before the Tribunal and was binding.
8.10. In view of the foregoing reasons, we are of the considered opinion that ITDC cannot be considered as a comparable company to qualify for inclusion in the final set of comparables for determining the 15 ITA No.5853/Del/2011 ALP of the assessee's international transaction. The impugned order on this issue is set aside.
ii. National Research Development Corporation Ltd., Panacea Biotech and Suven Life Science
9. Now we are left with the other three companies, namely, National Research Development Corporation Ltd., Panacea Biotech and Suven Life Science, which were considered by the TPO as comparable. On this issue, we find that no reasons have been given in the impugned order for not considering these three companies as comparable. What to talk of giving any reasons for their exclusion, the ld. CIT(A) failed to even discuss the comparability or otherwise of these three companies. The ld. CIT(A) appears to have gone by the remand report alone overlooking the original order passed by the TPO on 8.10.2008 in which these three companies were considered as comparable. It goes without saying that the remand proceedings are in addition to and not in substitution of the original proceedings. Once the TPO selected the three companies in his original order, which were not adversely commented in the remand 16 ITA No.5853/Del/2011 report, it implied that they survived for the consideration of the ld. first appellate authority. In such a situation, it became the duty of the ld. CIT(A) to either include the same in the final set of comparables or give reasons for their exclusion. Since there is no whisper in the impugned order about the comparability or otherwise of these three companies, we consider it appropriate to remit this matter to the file of the ld. first appellate authority for deciding it afresh as per law, after allowing a reasonable opportunity of being heard to the assessee. These two grounds are, therefore, partly allowed.
10.1. Ground nos. 3 and 4 are against the direction of the ld. CIT(A) for allowing depreciation for full year as against half year allowed in respect of assets shown to have been purchased on 30.9.2004. On going through the details of additions to fixed assets, the AO observed that many assets were purchased/put to use for less than 180 days. The assessee, on being called upon to furnish the details in this regard, submitted copy of bills, but did not file any evidence regarding putting to use the above assets. It was, therefore, held by the AO that 17 ITA No.5853/Del/2011 the claim of depreciation was to be restricted to 50%. The assessee contended before the ld. CIT(A) that these assets were purchased on 30.09.2004 and put to use on the same date as these were earlier being used by Liaison office of the parent company which was operating in the same premises in which the assessee was carrying on its operations during the relevant period. It was further submitted that: 'No physical movement of assets was required since the appellant company was operating from the same premises as that of the L.O.' It was, therefore, claimed that these second-hand assets were immediately put to use by the assessee. The ld. CIT(A) deleted the disallowance by observing that the assessee produced invoices raised by Writer Relocations (Packing and Moving Company) which transported the assets from New Delhi to Gurgaon, which was the assessee's premises. The Revenue is aggrieved against the deletion of disallowance.
10.2. Having heard the rival submissions and perused the relevant material on record, we find that there are certain apparent contradictions in the impugned order on this issue. The assessee contended before the 18 ITA No.5853/Del/2011 ld. CIT(A) that no physical movement of assets was required since the assessee company was operating from the same premises as that of the L.O., whose assets were purchased and put to use on 30.09.2004. After recording this submission, the ld. CIT(A) returned a finding that the assessee produced invoices raised by Writer Relocations which had transported the assets from New Delhi to Gurgaon. It is beyond our comprehension as to how the assets could have required transfer from New Delhi to Gurgaon, when no physical movement of assets was required as per the assessee's version since the assessee and LO were operating from the same premises. It is further worth noting that though the ld. CIT(A) called for a remand report from the AO on the question of comparables, but he did not consider it expedient to admit the additional evidence on this issue without seeking the comments of the AO. In our considered opinion, the Department has also rightly challenged the admission of additional evidence by the ld. CIT(A) in contravention of the provisions of Rule 46A of IT Rules. As the fact about the date of putting to use of such assets is not borne out from the material on record, we consider it necessary to set aside the impugned order on this issue 19 ITA No.5853/Del/2011 and remit the matter to the file of ld. CIT(A) for rendering a fresh decision, under a due process of law, after ironing out the contradictions in the impugned order.
11.1. The last two grounds are against the deletion of disallowance of Rs.11,61,150/- relating to Repairs and maintenance of residential apartment and Rs.23,56,686/- in respect of international travel holiday trip of the expatriate employees. The AO observed that the assessee had claimed deduction relating to repairs and maintenance expenses of Rs.11,61,150/- towards residence allotted to its employees. The AO held this amount to be not deductible as the company was paying rent against the said property. Similarly, international travel holiday trip was allowed to the employees, the expenses for which amounting to Rs.23.56 lac were held to be not allowable. The ld. CIT(A) ordered for the deletion of these two additions.
11.2. After considering the rival submissions and perusing the relevant material on record, it is patent from the assessment order that the repair expenses amounting to Rs.11.61 lac were incurred in respect 20 ITA No.5853/Del/2011 of rented accommodation provided by the assessee to its employees. We fail to appreciate as to how this expenditure cannot be allowed as deduction when the employees to whom such rented premises were allotted, on which the repair work was carried out, were discharging duties for the assessee company. This is an expenditure incurred for the welfare of its employees and deserves to be allowed. As regards the other expenses amounting to Rs.23.56 lac, we again find that the assessee allowed international travel holiday trip to its employees. This is nothing but a part of package to the employees. By no standard, these two expenses can be considered as not allowable. We, therefore, uphold the impugned order on this issue. These two grounds fail.
12. In the result, the appeal is partly allowed.
The order pronounced in the open court on 29.01.2015.
Sd/- Sd/- [A.T. VARKEY] [R.S. SYAL] JUDICIAL MEMBER ACCOUNTANT MEMBER Dated, 29th January, 2015. dk 21 ITA No.5853/Del/2011 Copy forwarded to: 1. Appellant 2. Respondent 3. CIT 4. CIT (A) 5. DR, ITAT AR, ITAT, NEW DELHI. * 22