Income Tax Appellate Tribunal - Delhi
Posco Engineering & Construction ... vs Assessee on 16 October, 2007
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCH: 'I' NEW DELHI
BEFORE SHRI R. S. SYAL, ACCOUNTANT MEMBER
AND
SHRI I. C. SUDHIR, JUDICIAL MEMBER
ITA No. 5787/Del/2013
(ASSESSMENT YEAR-2008-09)
POSCO Engineering & Vs Addl. Director of Income Tax,
Construction Company Range-3, International Taxation,
Limited, 6th Floor, Park Centra Civic Centre,
Building, Tower-B, Sector 30, New Delhi-110002
NH-8, Gurgaon, Haryana-
122002
(APPELLANT) (RESPONDENT)
PAN No. AAECP2664A
Assessee by: Shri Pawan Kumar, Shri Vishal
Anand, Shri Nitin Vaid & Shri Arzoo
Batta
Revenue by: Shri Sanjeev Sharma, Shri Yogesh
Kumar Verma & Shri Vivek Kumar
Date of Hearing 14.2.2014
Date of Pronouncement 26.2.2014
ORDER
PER R. S. SYAL, AM:
This appeal by the assessee is directed against the order passed by the Assessing Officer u/s 144C(1) r.w.s. 143(3) of the Income Tax Act, 1961 (hereinafter also called `the Act') on 27.9.2013 in relation to the assessment year 2008-09.
2. The first two grounds are general which were neither specifically argued nor require any adjudication. The ld. AR 2 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
submitted that there were basically two issues in the present appeal viz., A. Income from contract with Steel Authority of India Ltd.; B. Transfer Pricing Adjustment.
3. The factual scenario is that the assessee originally filed two returns separately for its Project office and Liaison office with different Permanent Account Numbers. Such returns were revised for a number of times. The assessee admitted that it was earlier under a bona fide belief that separate returns were required to be filed in respect of Liaison office and Project office. The assessee gave its nod to common assessment in respect of both the segments. A draft assessment order u/s 144C(1) was passed on 30.11.2012. The assessee filed its objection before the Dispute Resolution Panel (DRP). Upon the receipt of Directions from the DRP, the Assessing Officer passed the final confirmatory order which is impugned in the present appeal.
A. INCOME FROM CONTRACT WITH STEEL AUTHORITY
4.1. We are first espousing the issue of income from contract with Steel Authority of India Ltd. The facts apropos this issue are that the assessee is a non-resident company incorporated in and also Tax resident of Korea. It is mainly engaged in Engineering and construction for Iron, energy and public works etc. It entered into a 3 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Contract Agreement dated 16.10.2007 read with the Amendment agreement dated 17.12.2008, as a Consortium consisting of the assessee (as its leader) and another partner, Nagarjuna Construction Company (NCC) on one hand and Steel Authority of India (hereinafter called `the SAIL') on the other, for setting up a Blast Furnace Complex at IISCO Burnpur, West Bengal. The assessee claimed deduction for some expenses incurred on this project without offering any revenue. The assessee stated during the course of assessment proceedings that it received 5% mobilization advance from SAIL as under : -
Sl Particulars As at
No. 31.03.2008
1. Offshore supply of Equipments EURO
38,00,033
2. Fee for Technical Services
Design & Engineering EURO 1,50,900
3. Foreign Supervision Charges EURO 2,22,000 (Onshore services)
4. Onshore supply of Equipments INR 15,03,47,944 4.2. The above amounts were not offered for taxation on the premise that these were simply in the nature of advance and contained no element of income. It was submitted that the liability to tax would arise in subsequent years on the actual supply of onshore equipments and rendering of onshore services (Foreign Supervision Charges). In so far as the amount towards offshore 4 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
supply of equipments and Design & engineering was concerned, it was claimed that no income was chargeable to tax in any year as these activities were completed outside India without any involvement of its Indian office. A detailed explanation was separately filed before the AO submitting reasons for its conclusions in respect of the above four components of the receipts. As regards the non-taxability of income from offshore supply in India, the assessee submitted that SAIL remitted Euro 38,00,033 as mobilization advance towards offshore supply of equipments portion, for which the title of goods was transferred from the origin of supply of goods, that is, high sea. Not only that, the amount was also received outside India. Apart from that, import duty on such goods was directly paid by SAIL to Customs Authorities and marine freight as well as inland freight for movement of such equipments from foreign ports to the site of SAIL was also paid by SAIL through NCC. Insurance policy against transit risk was also taken by SAIL through NCC. In the light of the above facts, it was claimed that no income from offshore supply of equipments was at all chargeable to tax in India in any year. As regards the receipt on account of Design & Engineering services, the assessee stated that the said amount was also not chargeable to tax in any year because such designs were also supplied offshore which were part and parcel of the offshore supply of equipments. The assessee accepted before the A.O that 5 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
it has a Supervisory P.E in India as per Article 5(3) of the Double Taxation Avoidance Agreement between India and Korea (hereinafter called `the DTAA'). The assessee claimed that its Permanent Establishment (PE) had no role in making such offshore supplies and Design & engineering services. The assessee agreed that Foreign Supervision Charges were in the nature of onshore services and hence exigible to tax. Similarly, it was also conceded that onshore supply of equipments was also liable for taxation in India. However, these two items were claimed to be not chargeable to tax during the year because neither any onshore services were rendered nor any onshore supply of equipments was made during the relevant financial year. Amount received @ 5% of the Contract price towards Foreign Supervision Charges and onshore supply of equipments was claimed to be in the nature of advance.
4.3. The Assessing Officer held that the assessee had a Fixed place P.E/Supervisory P.E/Services P.E in terms of Article 5 of the DTAA and was also having business connection in India in terms of Sec. 9(1)(i) of the Act. Thereafter, he proceeded to vet various clauses of the Contract Agreement. After entertaining objections from the assessee, the Assessing Officer came to initially hold that it was a case of composite contract with SAIL and the bifurcation of consideration into various segments. as done by the assessee, 6 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
was not appropriate. He held that 5% of mobilization charges received during the year in respect of onshore supply of equipments amounting to Rs. 15,03,47,944/- were liable to be included in the total income for the year. He further held that 5% of mobilization charges received during the year in respect of Foreign Supervision Charges amounting to Rs. 1,37,77,320/- (equivalent of Euro 2,22,000) were also liable to be included in the total income. It was still further held that 5% of mobilization charges received during the year in respect of Offshore supply of equipment at Euro 38,00,033 was to be considered for the determination of business income of the assessee as per Article 7 of the DTAA and also Sec. 9(1)(i) of the Act. He however, restricted the income to 90% of such amount as attributable to Permanent Establishment in India and the profit margin of 30.65% was applied thereon. As regards 5% of mobilization charges received during the year in respect of Design & Engineering, the AO initially held it to be Royalty within the meaning of Sec. 9(1)(vi) of the Act (as per para 8 of the order) and then also as 'Fees for Technical Services' within the meaning of Sec. 9(1)(vii) of the Act (as per para 9 of the assessment order). However, while computing the total income, he included 90% of this amount as attributable to the P.E. By applying profit margin of 30.65%, he clubbed this amount along with that of offshore supply and made 7 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
total addition on these two counts at Rs. 6,76,37,014/-. That is how the AO computed total income of the assessee as under: -
Sl Particulars Amount (Rs) Amount (Rs)
No.
1. Loss as per revised (-) Rs.
return dated 21.05.2009 84,04,207.00
2. Additions on account of 2,15,27,090
adjustment made by
TPO
3. Additions on account of 15,03,47,944
5% receipt against 1st
Milestone (onshore
activities)
4. Additions on account of 1,37,77,320
Foreign Supervision
Charges
5. Additions on account of 6,76,37,014 25,32,89,368.00
offshore Design &
Engineering and
Offshore supply
Total Income 24,48,85,161
4.4. The assessee is aggrieved against such computation of total income on account of offshore supply, onshore supply, onshore services and Design & Engineering services.
4.5.1. We have heard the rival submissions and perused the relevant material on record. The first question which requires to be decided and which has been strenuously argued by the ld. DR is whether it is a case of composite contract? We note that the 8 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Assessing Officer proceeded with the presumption in the earlier part of the assessment order that it is a case of a composite contract with total consideration as one unit. He, therefore, initially held that the entire Contract agreement was to be considered as composite contract without any further bifurcation into offshore and onshore supply of equipments as well as services. However, while computing the total income on the penultimate page of the assessment order, he bifurcated the income in respect of three broad categories, viz., onshore activities, Foreign Supervision Charges (that is, onshore services) and offshore supply clubbed with offshore Design & Engineering.
4.5.2. There is no dispute that the assessee entered into one Contract Agreement with SAIL, a copy of which is available on pages 1008 to 1193 of the paper book. The preamble of the Contract Agreement indicates that it has been entered into for setting up a Blast Furnace Complex. Article 2 of the Contract Agreement has been captioned as 'Contract Prices and Terms of Payment'. The Contract price has been mentioned as the aggregate of Euro 8,34,58,671 and Indian rupees 1088,67,81,000. Para 2.1 of Article 2 talks of : `Contract Price (Reference GCC clause 11 & Appendix 1). Appendix 1 is on pages 1021 to1040 pages of the paper book. Page 1021 is `Price Schedule' which spells out Contract Price break-up with various Tables. Table 1B is 9 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
`Summary of Prices', which is available on page 1023 of the paper book. This Table contains the break-up of the aforementioned Contract price of Euro 8,34,58,671 and Indian rupees 1088,67,81,000. First item in this Table is the price of Design & Engineering (Imp.) at Sr. No. 1, for which consideration of Euro 30,18,000 has been given. Item at Sr. no. 3 of Table 1B is consideration for `Supply of Plant (Imp)' for which consideration has been given as Euro 61161860. Serial no. 5 of Table 1B is `Supply of Refectory (Imp)' with consideration of Euro 14599951. At serial no. 7 of Table 1B is `Supply of Commissioning Spares (Imp)' whose consideration is Euro 238860. In the like manner, item at serial no. 12 of Table 1B is `Foreign Supervision Charges', whose consideration is Euro 440000. The above description of the detail of the price for various components shows that albeit a composite price has been given as per Article 2 of the Contract Agreement as Contract Price, but it is a sum total of the clearly demarcated prices for onshore supplies and services and offshore supplies and Designs. In our considered opinion, the Assessing Officer was initially not correct in holding that the contract was a composite one devoid of any bifurcation towards onshore and offshore supplies and services, which stand was subsequently altered to the correct position. We, therefore, hold that it is wide off the mark to categorize the present contract agreement as a 10 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
composite one since all its major four components are distinctly identifiable with separate consideration for each.
4.5.3. In this connection, it is of paramount importance to consider the judgment of the Hon'ble Supreme Court in the case of Ishikawajma -Harima Heavy Industries Ltd. vs. Director of IT (2007) 288 ITR 408 (SC), which has been heavily relied on behalf of the assessee. In that case, the assessee was a resident of Japan. It was to develop, design, engineer and procure equipments and material supplies, etc. to erect and construct storage tanks of 5 MMTPA capacity. The project was to be completed in 41 months. The contract involved (i) offshore supply; (ii) offshore services;
(iii) onshore supply; (iv) onshore services; and (v) construction and erection. The price was payable for offshore supply and offshore services in US Dollars and for onshore supply and onshore services and construction and erection partly in US Dollars and partly in Indian Rupees. It filed an application before the Authority for Advance Rulings for determination of its tax liability with reference to "offshore supply and offshore services". No issue was raised as regards the liability to pay income-tax on onshore supply, onshore services and its activity relating to construction and erection. It was contended before the Authority that the contract was a divisible one and hence there was no liability to pay tax on offshore supply and offshore services. The 11 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Authority, after considering the provisions of section 5 r/w s. 9 as well as DTAA, opined that the assessee was liable to pay taxes. In further appeal, the Hon'ble Court held that the contract was a composite arrangement. It noted that price was given separately for each of these segments. It was also noticed that the onshore supply, onshore services and construction did contain element of income and hence tax was payable in India, which proposition was not disputed by the assessee as well. However, as regards the taxation of income from offshore supply and offshore services, even though it was a composite contract, the Hon'ble Supreme Court held that income from such offshore supply of equipments and the offshore services did not fall within the purview of s. 9(1)(vii) since the entire services were rendered outside India and the PE of the assessee had no role to play in the transaction.
4.5.4. Coming back to the facts of the instant case, we find that here also a composite contract was entered into between the assessee together with NCC and SAIL. There is a separate mention of consideration for supply of equipments and for rendition of services. Simply because the supply of equipment and the rendition of services is to one party and for a common purpose, we are unable to find any logic in treating the entire amount as one composite payment attributable commonly both to the supply of equipment and rendering of services, more so when there is a 12 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
specific identifiable amount relatable to these segments. There is no qualitative difference between two situations, viz., first, when one contract is made for two or more works specifying the consideration for each work separately; and second, when two or more contracts are made for each such work. Be that as it may, it is observed that the AO has ultimately completed the assessment by separately including the above referred four components in the total income of the assessee. It shows that he impliedly accepted the break-up of the contract price into four broad divisions as correct.
4.6. Apart from the assessee's contention that the amount received during the year was in the nature of advance and not income, both the sides have extensively argued on the taxability or otherwise of such amounts as has also been adjudicated by the Assessing Officer in favor of the Revenue. As such, it has become imperative to consider and decide the principles for determining the taxability, if any, of such four components of income included by the AO in the total income of the assessee, as under :-
I. Income from offshore supply of equipments II. Income from onshore supply of equipments.
III. Income from onshore services.
IV. Income from Design & Engineering services 13 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
I. INCOME FROM OFFSHORE SUPPLY OF EQUIPMENT 4.7.1. The case of the assessee is that the receipt of Euro 38,00,033 during the year related to the offshore supply of equipments and hence the profit element contained in such an amount could not be charged to tax. Per contra, the ld. strongly refuted this argument by submitting that there was no offshore supply and the title to such goods passed in India and hence the entire amount has been rightly charged to tax. In the alternative and without prejudice to his main argument, it was put forth by the ld. DR that the said sale consideration includes compensation towards rendering some services in connection with installation and commissioning of equipments in India and to that extent, the income be charged to tax in India.
4.7.2. We will examine and evaluate these contentions, one by one, under the following sub-heads:-
1. Where title to the goods passed ?
2. Whether sale price includes any consideration for services rendered or to be rendered in India ?
3. Taxability of price for offshore supply of equipment and compensation for services rendered in India
4. Attribution of income to services rendered in India.
1. Where title to the goods passed ?14 ITA No. 5787/Del/2013
POSCO Engineering & Construction Company Ltd.
1.a. The assessee stated before the AO that that the invoices for offshore supply were issued directly by POSCO-E&C Korea in the name of SAIL and the title of goods was transferred by virtue of transfer of risk to SAIL from the origin of supply of goods, that is, high sea. The payment against such offshore supply was remitted to the assessee abroad directly by SAIL in foreign currency and no amount on this count was received in India. It was also stated that import duty against offshore supply was paid by SAIL in India. The marine freight as well as Inland freight for movement of offshore equipments supply from foreign ports to the site of SAIL was also paid by SAIL through NCC. The insurance policy against the transit risk of said offshore equipment supply was taken by SAIL through NCC. The position as enumerated above has not been controverted by the Assessing Officer. Further, when the assessee challenged the addition proposed by the A.O on this issue before the Dispute Resolution Panel (DRP), it was reiterated that the title of goods passed outside India. The DRP accepted this argument vide para 4.2.5 of its Direction u/s 144C(5). However, it was observed that even though the title of goods passed outside India, but it was the performance guarantee which was important and decisive of the taxability of income. That is how the assessee's contention came to be rejected by the DRP.
15 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
1.b. In the oppugnation, the ld. DR forcefully argued that the permanent establishment of the assessee played an active role in the supply of offshore equipment. On a specific query to indicate the precise role of the PE in the offshore supply of equipments, the ld. DR failed to substantiate his point of view. He kept on harping on the general submissions that the construction of plant, which also includes offshore acquisition of equipment, could not have become possible without the role of the PE and it was for the PE to decide as to when the equipment was to be acquired from abroad. In our considered opinion, these submissions are totally irrelevant in so far as the question of passing of title of goods is concerned.
1.c. The ld. DR then invited our attention towards various clauses of the Contract agreement to demonstrate that it was the responsibility of the assessee to provide training, testing and commissioning of such equipments in India, which showed that the assessee was required to put the equipment in a deliverable state in India. Referring to section 19 of the Sale of Goods Act, 1930, it was stated that property in the goods passes only when the parties intend it to pass. He further invited our attention towards section 21 of the Sale of Goods Act which provides that : `Where there is a contract for the sale of specific goods and the seller is bound to do something to the goods for the purpose of putting them into a deliverable state, the property does not pass until such thing is 16 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
done and the buyer has notice thereof.' Accentuating on these provisions of the Sale of Goods Act, it was argued that since so many activities were to be done in India in connection with the training, installation and commissioning of the equipments alleged to be sold offshore, the property in the equipment will pass in India only on completing such activities in India. He summed up his arguments by stating that the property in goods passed in India on doing of such activities and putting them into a deliverable state in India.
1.d. Having heard both the sides and perused the relevant material on record, we find that there is material on record to indicate, which we will advert to in detail infra, that apart from imparting training to employees of SAIL in India, the assessee was obliged to carry out certain activities associated with the installation and commissioning of such equipment in India. The question is whether carrying on of such activities in India is decisive of the question that the title to goods passed in India? Though the contention of the ld. DR looks attractive at first flush, but loses its shine when the provisions of the Sales of Goods Act are considered in entirety. It is noticed that the contention similar to the one now raised by the ld. DR before us, was earlier also attempted before the Special Bench tribunal in Motorola Inc. VS. DCIT (2005) 95 ITD 269 (Del)(SB). It can be seen from para 231 17 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
of the special bench order that the ld. DR therein also pressed into service the applicability of sections 19 and 21 of the Sale of Goods Act to canvass view that the title of goods passed in India. Such contention met with the fate of dismissal. The special bench, after considering sections 26 and 40 of the aforesaid Act, noticed that :
`S. 40 further says that it is open to the parties to agree that even where the property in the goods has passed, the seller may undertake the risk of deterioration in the goods necessarily incident to the course of transit. This is what the parties in the present case have undertaken in the sense that though the title to the GSM equipment passed in USA, the risk continued to remain with the assessee (seller) and the risk passed to the cellular operator only on delivery in India. Therefore, the result is that merely because the risk passed in India, it cannot be said that the sale took place in India. Therefore, no income can be said to have arisen in India." Thus, the contention of the ld. DR that since risk passed in India and hence the title of the goods should also be considered as passing in India, is not tenable. We further find that the facts and circumstances of the instant case are mutatis mutandis similar to those as were prevailing in the case of Ishikawajma -Harima (supra). As, both the Hon'ble Supreme Court and the Special bench of the tribunal have held that title to goods shall be considered to have passed outside India when delivery was made on high sea and the payment was also received outside India, we 18 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
cannot deviate from the settled position. In our case too, the authorities below have not controverted this argument of the assessee that the delivery of goods was made outside India and also the payment was received outside India. We, therefore, hold that the title of goods in respect of said offshore supply of equipments was transferred outside India.
2. Whether sale price includes any consideration for services rendered or to be rendered in India ?
2.a. Having held that supply of such equipments was offshore, now we espouse the next argument of the ld. DR that the sale price also includes some consideration for services rendered or to be rendered in India. The ld. DR vehemently argued that certain costs for doing of some activities in India in relation to offshore supply of equipments were not specifically charged and hence were in- built in the price so charged. This was contradicted by the ld. AR by stating that consideration for the supply of equipments and refractory was exclusively towards the price of goods and no part of it was towards rendering of any services in India. It was shown that there was a distinct charge of `Foreign Supervision charges' in the Summary of prices at Euro 4440000, which the assessee also considered as chargeable to tax in India. This amount was claimed to be towards rendering of all services in India in connection with the supply of offshore equipments.
19 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
2.b. We find from Table 1B, whose copy is available on page 1023 of the Paper book, which is an integral part of the Contract agreement and has been captioned as `Summary of Prices' that there is a charge for supply of offshore equipment and also there is a separate charge towards `Foreign supervision charges' to the tune of Euro 444000. The description of such foreign supervision charges has been given in Table 13B, a copy of which is available on page 1036 of the paper book. When we turn to such Table, the description of `Foreign supervision charges' is found as : "Foreign supervision charges in India during Erection, Start up, Commissioning and Performance Guarantee tests." Getting a separate charge for foreign supervision charges for the setting up of plant makes it clear that such supervision charges are not part and parcel of the price of equipment as referred to in columns 3, 5 and 7 of Table 1B. It implies that there was distinct charge for foreign supervision charges which has been construed by the assessee itself as onshore services chargeable to tax in the relevant year. To this extent, it is manifested that foreign supervision charges do not form part of sale consideration of the equipment supplied offshore.
2.c. However, we find from Summary of Prices on Table 1B, as was rightly pointed out by the ld. DR, that "Training charges" have been separately set out at Sr. No. 13 and under the Price column, it 20 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
has been mentioned as `Not Quoted'. Then there is reference of Table 14B to give the portrayal of `Training' on page 1037 of the paper book. Under the Description column it has been mentioned as : "Providing training to Employer's Technical personnel in Plant Operation and Maintenance in similar operating plants, etc." Under the next column of Price for training in India, it has been mentioned as "Included".
2.d. When we consider Table 1B (Summary of prices) in juxtaposition to Table no. 13B (Foreign supervision charges) on one hand and Table no. 14B (Training charges) on the other, the following three points emerge. First is that the training is exclusively in India. It can be seen from Table 14B that after the Description column, the next column is `Estimated Man days for Employer's Personnel for Training in India'. Then the next column is `Price for Training in India'. From these columns, it is proved beyond any shadow of doubt that the training was to be given in India. Second point is that charges for `Foreign supervision charges' are certainly distinct from `Training charges' in their connotation as well as ambit. Whereas the former are towards Foreign supervision charges in India during Erection, Start up, Commissioning and Performance Guarantee tests, the later are towards providing training to Employer's Technical personnel in Plant Operation and Maintenance in similar operating plants, etc. 21 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
These two things are distinct from each other also becomes obvious from the Working Consortium Agreement dated 25.1.2008 which divides the works/activities between the assessee and NCC. As per this chart, which has been reproduced on page 15 of the assessment order, there is broader heading of `Services' under which two separate categories, viz., `Supervision of erection' and 'Training' have been mentioned. When we proceed to the next column of this Table, it emerges that both these services are the responsibility of the assessee alone and NCC is not liable to render such services. Thus it is clear that `training' is distinct from `foreign supervision'. Third point, which assumes great significance, is that whereas there is a separate charge for the `Foreign supervision charges', the consideration for the `Training charges' is `Not quoted' and the same is `Included', obviously in the price of equipment. The reason for our conclusion that the training charges are included in the `Price' of the equipment is that the only other charge as per the Summary of Price for the onshore services is `Foreign supervision charges'. When we consider the detail of such charges on page 1036 of the paper book, it transpires that there is no ad hoc consideration. In fact, it has been calculated by estimating 7400 man days for rendering such foreign supervision and there is a specific rate per man day, culminating into the calculation of total charge on this account at Euro 4440000. On having a glance at the detail of `training charges' on 22 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
page 1037, it comes out that against the column `Estimated Man days for Employer's Personnel for Training in India', it has been mentioned as `Included'. Similarly against the next column of `Price for Training in India', again it has been mentioned as `Included'. Once the foreign supervision is found to have been exclusively charged and our attention has not been drawn towards any material to indicate that the charge for training was embedded in any other component of price charged, the natural corollary which follows is that the Training charges are `Included' in the sale price of equipments. It is simple and plain that if a seller has to incur training expenses or repair cost during the warranty period, then either there is a specific consideration for the same and if it is not there, then such costs are to be considered as in-built in the price of equipment. Ordinarily, when any product is sold with warranty, the price charged by the seller always includes compensation for the repairs cost to be incurred during the warranty period. In contrast to that, if there is no warranty clause and similar product is sold by another seller, the sale price is bound to be at a lower level vis-a-vis the seller who sells its products with warranty. This leads us to the irresistible conclusion that when the assessee has undertaken to bear training costs at its own and there is no separate compensation for that, which is `Included', then such compensation is included in the sale price charged for offshore supply of equipments. In such a case, the sale 23 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
price so charged is required to be split towards the price of goods simplicitor and compensation for training and other charges which the seller has undertaken to bear.
2.e. Apart from training charges, there are also other costs incurred by the assessee in connection with supply of such offshore equipments. `General Conditions of Contract' which is part of the Contract Agreement contains Clause no. 30 which has been referred to as Defect Liability clause on page 1145 of the Paper Book. First para of clause clause 30.2 states that the defect liability period shall be twelve (12) months from the date of commissioning mentioned in the commissioning certificate. Second para of this clause reads as under :
"If during the Defect Liability Period any defect is found in the design, engineering, materials and workmanship of the plant and equipment ---------the contractor shall promptly in consultation with and agreement with the employer and at its cost, repair, replace or otherwise, make good such defect sales any damage to the facilities caused by such defect."
2.f. Again, Clause No.23 of the 'General Conditions of Contract' on page 1135 of the Paper book has been named as `Test and Inspection'. Para 1 of this clause reads as under : -
"The contractor shall at its own expense carry out at the place of manufacture and/or on the site of such 24 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
tests and/or inspections of the plant and equipment and in part of the facilities as are specified in the contract."
2.g. There are certain other clauses also which show that the assessee has undertaken to bear expenses in connection with the supply of goods.
2.h. The above discussed clauses indicate that the assessee undertook to incur some expenses towards test and inspection at site that is in India; conduct repair during defect liability period again in India etc. These expenses are to be borne by the assessee. Though the mention of words 'at its own expense' for test and inspection in Clause 23.1 and the words 'at its cost' for defect liability prima facie indicate that compensation for such liability is included in the sale price of the offshore supply of equipment, but it cannot be so concluded outrightly. The possibility of compensation for such things being included in Foreign supervision charges cannot be ruled out without verification. In fact, our attention has not been drawn towards the further break-up of total Man days under `Foreign supervision charges' for reaching a positive conclusion as to whether or not the compensation for such charges is included therein. With this truncated information, we cannot reach a sure conclusion. It is palpable that if the charges for such things are not included in any other component of price, then these have to be considered as part and parcel of the sale price, which would require its splitting up to determine the amount 25 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
attributable to such testing charges etc. in India. As such details are not readily available, we are of the considered opinion that it would be in the fitness of things if the impugned order on this issue is set aside and the matter is restored to the file of the Assessing Officer. He will examine as to whether the costs for tests and inspection, liquidated damages and defect liability along with any such other costs are specifically charged distinct from the sale consideration of offshore supply of equipment. If on such an analysis, he comes to the conclusion that there is no separate charge in respect of all or any of these items, then, a portion of sale price of offshore supply of equipment needs to be attributed to such activities performed in India.
2.i. It is, therefore, held that the sale price of offshore supply of equipment also includes some consideration for services rendered or to be rendered by the assessee in India. In so far as training charges are concerned, these are surely included in the sale price, but the question of consideration for other factors, such as tests and inspection, liquidated damages and defect liability, requires examination at the end of the Assessing Officer.
3. Taxability of price for offshore supply of equipment and compensation for services rendered in India 26 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
3.a. The ld. AR stuck to his stand that no part of the price of offshore supply included any consideration for services rendered in India and hence income on account of such offshore supply of equipments was not chargeable to tax in the hands of the non- resident assessee. Without prejudice to his main arguments for the taxability of the entire consideration for the offshore supply of equipments in India, the ld. Departmental Representative also vehemently contended that the income arising out of such offshore supplies is partly attributable to activities carried out in India and hence a part of such profits should be charged to tax. We have held above that the price shown towards offshore supply of equipments has two components, viz., one is the price for offshore supply of equipment simplicitor (Point 1 above); and second is the consideration for some services rendered in India (Point 2 above).
3.b. Now comes the question of taxability of price for offshore supply of equipment simplicitor and compensation for services rendered in India. The assessee is a non-resident. Sec. 4 of the Act, which is a charging section, provides that where any Central Act enacts that income-tax shall be charged for any assessment year at any rate or rates, income-tax at that rate or those rates shall be charged for that year in accordance with, and subject to the provisions of this Act in respect of the total income of the previous year of every person. Sec. 5(2) of the Act deals with the scope of 27 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
total income of non-residents and provides that subject to the provisions of the Act, the total income of non-resident includes income from whatever sources which is received or is deemed to be received in India or accrues or arises or is deemed to accrue or arise in India during such year. Clause (a) of this sub-section talks of the income which 'is received or is deemed to be received in India'. It is not the case of the Revenue that the income from offshore supply was received by the assessee in India. The expression 'income deemed to be received' in India has been defined under s. 7 of the Act, which refers to the annual accretion in the previous year to the balance at the credit of an employee participating in a recognized provident fund, etc. It is apparent that the nature of amount under consideration is quite distinct from the items specified in this section. Then cl. (b) of section 5(2) talks of income which accrues or arises or is deemed to accrue or arise in India. There can be no dispute as regards the scope of income which accrues or arises in India. Sec. 9 of the Act enlists certain incomes which are `deemed to accrue or arise in India'. Income from supply of offshore equipments cannot be in the nature of 'Salaries', `Dividend', `Interest', `Royalty' or `Fees for technical services', which items of income have been specifically dealt with in cls. (ii) to (vii) of s. 9(1).
28 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
3.c. Then comes cl. (i) of section 9(1), which mandates that all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India or through or from any asset or source of income in India or through the transfer of a capital asset situated in India shall be deemed to accrue or arise in India. The Hon'ble Supreme Court in CIT vs. R.D. Aggarwal & Co. (1965) 56 ITR 20 (SC) has held that mere sale does not result into business connection attracting the deeming provisions of s. 9(1)(i). It is trite law that income accrues at the place where the title to goods passes to the buyers on the payment of price. The Hon'ble Supreme Court in Seth Pushalal Mansinghka (P) Ltd. vs. CIT (1967) 66 ITR 159 (SC) has held that income accrues at the place where the title to goods passes to the buyers on the payment of price to the bankers of the assessee. In so far as the price for offshore supply of equipment simplicitor (Point 1 above) is concerned, profit from the same cannot be charged to tax as the assessee is a non-resident and there is absence of territorial nexus of such income with India. Respectfully following the verdict of the Hon'ble Supreme Court in above cases and also Ishikawajma -Harima (supra), we hold that since the title of such goods passed outside India and the payment was also received by the assessee outside India, no income can be said to have either accrued or deemed to have accrued in India.
29 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
3.d. At this juncture, it is relevant to mention that the general provision bringing income from any business connection in India within the sweep of section 9(1)(i) further explains by way of Explanation 1 (a) that : `in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India '. The crux of the above provision, in so far as it is relevant for our purpose, is that a non-resident is liable to tax if he earns business income from the operations carried out in India.
3.e. As both the sides have extensively argued on the position of the assessee qua the `Business profits' under the DTAA, it would be apposite to appreciate such position as well. Article 5 discusses about the existence of a Permanent Establishment (PE). Then Article 7 of the DTAA deals with the Business profits. It would be in order to note down the prescription of paras 1 and 2 of Article 7 of the DTAA as under : -
ARTICLE 7 Business profits
1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the 30 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment.
2. Subject to the provisions of paragraph (3), where an enterprise of a Contracting State carries on business in the other Contracting State through permanent establishment situated therein, there shall be in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment.
............................".
3.f. The ld. AR has candidly admitted the assessee of having a PE in India as per Article 5 of the DTAA during the year in question. Art. 7(1) of the DTAA states that the profits can be taxed in India only to such extent which are attributable to the PE in the other contracting State. To put it simply, the business profits of a resident of Korea can be taxed in India to the extent which are attributable to its PE in India. In other words, if there is no PE then the business profits of the non-resident cannot be taxed in India. Even if there is a PE, but no part of the business profits is attributable to such PE, then also there does not arise a question of taxability as per Art. 7. But if PE plays some role in the earning of 31 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
the income by the non-resident, then such proportionate amount of profit is chargeable to tax as business profit.
3.g. It can be seen that the position under the DTAA is almost analogous to the position as stipulated by Explanation (1)(a) to section 9(1)(i). Crux of both the provisions is that only that part of the business income of the non-resident can be charged to tax in India, which is attributable to operations carried out in India due to business operations as per section 9(1) of the Act or is attributable to the PE as per Article 7 of the DTAA. Thus it is vivid that the principle of apportionment of income with reference to the territorial nexus is not only explicit but also forms an integral part of both section 9(1) of the Act read with Explanation (1)(a) as well as Article 7 of the DTAA. If a particular income is not attributable to the operations carried out in India and thus has no territorial nexus with India, then a non-resident cannot be charged to tax for that income. Per contra, if a particular income is attributable to the operations carried out in India and thus has territorial nexus with India, then there can be no escape from charge of such income to tax. In case of a composite income, which is partly relatable to the operations carried out in India and partly to outside India, a proportionate part of income which is so relatable to the operations carried out in India, has to be charged to tax. This position has been accepted by the Hon'ble Summit Court 32 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
in Ishikawajma -Harima (supra) when it summed up its conclusion on offshore supply in para 73 of the judgment, the relevant part of which is as under : -
"73. We, therefore, hold as under :
Re : Offshore supply :
(1) That only such part of the income, as is attributable to the operations carried out in India can be taxed in India.
(2) Since all parts of the transaction in question, i.e. the transfer of property in goods as well as the payment, were carried on outside the Indian soil, the transaction could not have been taxed in India.
(3) The principle of apportionment, wherein the territorial jurisdiction of a particular State determines its capacity to tax an event, has to be followed.
(4) The fact that the contract was signed in India is of no material consequence, since all activities in connection with the offshore supply were outside India, and therefore cannot be deemed to accrue or arise in the country. .........."
3.h. After holding that no income was chargeable to tax because no part of the consideration was towards the services to be rendered in India, the Hon'ble Supreme Court in CIT & Anr. VS. Hyundai Heavy Industries Co. Ltd. (2007) 291 ITR 482 (SC) has further held that : `No such taxability can also arise in the present case as there was no allegation made by the Department that the price at which billing was done for the supplies included any 33 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
element for services rendered by the PE.' It follows that if a part of some composite income is attributable to the operations carried on in India and other part is not, then such part of income as is so attributable to the operations carried out in India has to be charged to tax. In the case of Ishikawajma -Harima (supra), the income from onshore supply and onshore services was suo motu offered for taxation by the assessee and rightly so because it had nexus with India. To sum up, income for which everything is done in India is fully taxable but the principle of apportionment applies to tax that part of the composite income which is relatable to operations carried out in India, leaving aside that part of income which is not so. Applying the above principle, it is palpable that that the second component of the sale price of offshore equipments, which is quid pro quo for services rendered in India (Point 2 above), is chargeable to tax in India.
4. Attribution of income to services rendered in India.
4.a. We have held above that the consideration for services rendered in India is also included in the sale price of offshore equipments. Such part of the sale consideration constitutes remuneration for the operations carried out in India as per the mandate of Sec. 9(1)(i) and the amount attributable to the role of Permanent Establishment in terms of Article 7(1) of the DTAA. To this extent, the amount is chargeable to tax in India.
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4.b. Now comes the question of determination of such income or the attribution of income from sale price of offshore equipment to services rendered in India. The ld. DR argued that 35% of the total profit from offshore supply should be attributed to such services rendered in India. For this proposition, he drew strength from the judgment of the Hon'ble Delhi High Court in Rolls Royce PLC Vs DIT (IT) (2011) 339 ITR 147 (Del) in which it has been held that 35% of the profit should be attributed to activities carried out in India. Sounding a contra note, it was stated on behalf of the assessee that even though some operations were carried out in India, still no part of the sale price of offshore equipments could be attributed to such operations. The ld. AR relied on the judgment of the Hon'ble Uttarakhand High Court in the case of Samsung Heavy Industries Ltd. vs. Director of Income-tax (IT), a copy of which has been placed on page 490 onwards of the case law paper book. It was submitted that in this judgment, the Hon'ble High Court has held that no profits out of the sale proceeds of supply of offshore equipment could be attributed to the operation carried out in India.
4.c. On a proper analysis of this judgment, we find that the facts of the instant case are quite distinguishable. In that case, the assessee entered into contract with ONGC and received certain amount of money. The Assessing Officer held that 25% of the revenue received allegedly for 'outside India activities' should be 35 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
brought within the taxing network of this country. The Hon'ble High Court observed that the assessee was tax resident of Korea. It observed that : "There was no finding anywhere that the revenue earned and said to have been on account of out of India activity earned was, in fact, on account of within India activity". It was in view of such finding that the Hon'ble High Court came to hold that 25% of gross receipts could not be attributed to the activities carried out in India. In contrast to this judgment, we find that there is sufficient material to indicate that several activities concerned with offshore supply of equipments were to be carried out in India. The ld. DR has invited our attention towards several clauses of the Contract agreement which amply indicate that not only certain training was to be imparted on Indian soil, but also repairs and maintenance of machinery along with test and inspection was also to be done by the assessee in India at its own expense. When there is a clear-cut mention of the assessee being liable to incur certain expenses on Indian soil in connection with the offshore supply of equipment for which there is no separate charge, the consideration for rendering of such services is definitely attributable to the operations carried out in India and, hence, chargeable to tax.
4.d. The further reliance of the ld. AR on the judgment of the Hon'ble Supreme Court in the case of Hyudai Heavy Industries Company Ltd. (supra) is also not appropriate. This aspect in that 36 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
case has been dealt with in para 11 by noticing that the profits on supply of fabricated platform could not be said to be attributable to the P.E because the installment of P.E emerged only after the contract with ONGC was concluded. The Hon'ble Apex Court further held that no part of profits of such supplies could be attributed to the independent P.E unless it was established by the Department that the supplies were not at arm's length price. Further no such taxability was held to be arising : "as there was no allegation made by the department that the price at which billing was done for the supplies included any element of services rendered by the P.E". When we turn to the facts of the extant case, it can be easily deduced that the Revenue has proved beyond doubt that the price charged by the assessee for supply of offshore equipment also includes consideration for certain services rendered in India. This makes it clear that the price for such services is liable to be considered for taxation as per Sec. 9(1)(i) of the Act and also Article 7(1) of the DTAA.
4.e. Reverting to the issue of apportionment of profit to the services rendered in India, we find that such attribution cannot be done in an arbitrary manner. It is a question of fact which varies from case to case. In a given case, the nature of services to be rendered may be quite cost or labour intensive, while in another case, it may not be so. There cannot be any straitjacket sacrosanct 37 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
formula for such attribution. As we have restored a part of this issue to the file of the AO as per point 2 above for determining as to whether the testing charges in India and repair charges during the defect liability period etc. were included in sale price of goods, it would be appropriate if the AO after such determination gives value to such services if these are included in the sale price of offshore supply of equipments. As regards training expenses, we have already held that compensation for such training in India is part and parcel of the sale price of offshore supply of equipments. The value to such training is directed to be assigned by the AO after considering the number of man days and rate per man day for such training and considered for taxation. We order accordingly.
II. INCOME FROM ONSHORE SUPPLY OF EQUIPMENTS
5. Though as per original Contract Agreement dated 16.12.2007, the assessee was not to make any onshore supply of equipments, which was in the exclusive domain of NCC, the assessee agreed to supply some onshore equipment as per the Amendment agreement dated 17.12.2008. It has been admitted by the assessee before the AO that it received Rs.15.03 crore from SAIL through NCC during the financial year relevant to the assessment year under consideration. This amount has been included by the Assessing Officer in the total income of the assessee. The assessee agrees in principle that the income from onshore supply of equipment is 38 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
chargeable to tax in India. However, the case of the assessee is that since the above amount was in the nature of advance and not for actual supply of any equipment during the year, the same cannot be charged to tax. As it has been accepted by the assessee that such amount is chargeable to tax in the correct year, which is otherwise also a settled legal position as per the judgment of the Hon'ble Supreme Court in Ishikawajma -Harima (supra), we hold in principle that this amount is chargeable to tax in the correct year. The determination of the correct year will be discussed infra.
III. INCOME FROM ON SHORE SERVICES
6. Here again the assessee agrees that `Foreign supervision charges' are for the services rendered in India. The word `Foreign' has been used qua the assessee, being a non-resident. We have set out above the nature of such charges while discussing the taxability of offshore supply of equipments. The stand of the assessee and the Revenue towards this amount is similar to the income from onshore supply of equipments as discussed in the preceding para. The assessee contends that the amount has been received as advance in this year and the income will be offered for taxation in the correct year. The Revenue has taxed the amount received in the year in question. As it has been accepted by the assessee that such amount is chargeable to tax in the correct year, which is otherwise also a settled legal position as per the judgment of the Hon'ble 39 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Supreme Court in Ishikawajma -Harima (supra), we hold in principle that this amount is chargeable to tax in the correct year. The determination of the correct year will be discussed infra.
IV. INCOME FROM DESIGN & ENGINEERING SERVICES
7.1. The facts concerning this issue are that the assessee received Euro 150900 towards Design and engineering which were claimed to be in the nature of advance. The amount was stated to be not at all chargeable to tax on the ground that the Design and engineering was to be done outside India and then imported into India without any role of the P.E in this transaction. It was also claimed that the offshore design and engineering was inextricably linked to the offshore supplies and hence would cease to be chargeable to tax in India. The Assessing Officer held that the equivalent amount of Euro 150900 received on account of Design and engineering was royalty as per Sec. 9(1)(vi) of the Act (as para 8 of the assessment order) or alternatively fees for technical services as per Sec. 9(1)(vi) of the Act (as per para 9 of the assessment order). However, while computing the total income, he clubbed it with offshore supply of equipment and attributed 90% of the profit to the Permanent Establishment and hence included in the total income.
40 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
7.2. The ld. AR contended that the amount for Design and engineering was wholly related to the offshore supply of equipments. Such Drawings and engineering was also done outside India. Since the assessee is a non-resident, the income accruing outside India should not be charged to tax.
7.3. We are not convinced with the submissions advanced on behalf of the assessee in this regard. The primary question for our consideration is to decide the nature of Drawings and Documents for which such amount has been received. Page 1042 onwards of the paper book, which is a part of Appendix-2, being the Time Schedule to the Contract agreement, throws light on the nature of Drawings and Documents. It starts with the Basic Engineering and extends to Drawings/Documents for Information/Review and then to As-Built Drawings and Documents. When we peruse the details under such broad categories, it can be seen that it refers to Site plan, Process flow sheet, GA & Sectional drawings for foundation of buildings and equipment, Layout and sections of roads, railway tracks, Colour Scheme, Soil Investigation Report, Preliminary Outline Drawings, Excavation outline Drawings, Design calculation for all electrical works, Conduit drawings and Cut out details etc. etc. We are unable to appreciate as to how such Designs and engineering can be considered as part of equipment to be supplied by the assessee from abroad. In fact, such Design and 41 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
drawings deal with every aspect of the erection and commissioning of the plant right from foundation of buildings and roads till the completion of the entire project. All such drawings are customized. It is totally incorrect to say that such Drawings and designs for which consideration of Euro 150900 was received be considered as offshore supply of equipments and hence exempted from taxation. Our view is fortified from the judgment of the Hon'ble jurisdictional High Court in Director of Income Tax Vs Rio Tinto Technical Services (2012)340 ITR 507 which reversed the finding given by the Tribunal that the consideration received was for a composite contract and hence could not be bifurcated. It has been held that in the absence of any bifurcation, an estimated allocation has to be made for tax purposes. From the above judgment, it is manifest that the contention of the ld. AR that the fees for design and drawing should be considered as part of supply of offshore equipment, is not sustainable.
7.4. The ld. AR then argued that such consideration should alternatively be considered as Royalty. In support of this contention, he relied on clause 15 of the General Conditions of Contract on page no. 1103 of the paper book by which it has been provided that the copyright in all drawings, documents and other materials shall remain with the contractor. This contention in our considered opinion is again bereft of any force. Second para of the 42 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
same clause 15 makes it unequivocal that SAIL shall have right to use these drawings, documents and other material, data and information for execution of Contract and operation and maintenance of the facilities. It is further axiomatic that such drawings and other related documents are customized for this project of SAIL. Such drawings are not useful for any other project. In order to categorize the consideration as `Royalty', it is sine qua non that the same must pass through the definition of "royalty" given in Explanation 2 to Sec. 9(1)(vi) as under : -
Explanation 2.--For the purposes of this clause, "royalty" means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head "Capital gains") for--
(i) the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property ;
(ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property ;
(iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property ;
(iv) the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill ;43 ITA No. 5787/Del/2013
POSCO Engineering & Construction Company Ltd.
(iva) the use or right to use any industrial, commercial or scientific equipment but not including the amounts referred to in section 44BB ;
(v) the transfer of all or any rights (including the granting of a licence) in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films ; or
(vi) the rendering of any services in connection with the activities referred to in sub-clauses (i) to (iv), (iva) and
(v).
7.5. It can be easily seen from the above definition that royalty basically means a consideration for transfer of rights in respect of patent, invention etc. or imparting any information concerning the work of patent, invention, model, design, secret formula or trademark etc. It does not by any standard contemplate the drawings and designs customized for a particular project which are not capable of use for any other purpose.
7.6. On the contrary, we find that the amount in question is in the nature of 'fees for technical services' as defined u/s 9(1)(vii) of the Act. Such definition is contained in Explanation 2 which reads as under:-
Explanation [2].--For the purposes of this clause, "fees for technical services" means any consideration (including any 44 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
lump sum consideration) for the rendering of any managerial, technical or consultancy services (including the provision of services of technical or other personnel) but does not include consideration for any construction, assembly, mining or like project undertaken by the recipient or consideration which would be income of the recipient chargeable under the head "Salaries".] 7.7. A bare perusal of this Explanation defining the term 'fees for technical services' makes it clear that it refers to rendering of any of technical services apart from managerial or consultancy. It also includes the provision of services of technical or other personnel.
As the nature of afore-discussed drawings and designs customized to the assessee's requirements are result of the rendering of technical services, we are of the considered opinion that the consideration for the same qualifies to be categorized as 'Fees for technical services'. The Hon'ble jurisdictional High Court in Rio Tinto Technical Services (supra) vide para 22 of this judgment in the context of remuneration for such services has held that the Tribunal has not specifically examined Explanation 2 to Sec. 9(1)(vii) which defines 'fees for technical services'.
7.8. At this stage it is relevant to deal with the contention of the ld. AR that if such amount is considered as fees for technical services, then the same should be held as not chargeable to tax as per the judgment of the Hon'ble Supreme Court in the case of Ishikawajma -Harima (supra). It can be seen from para 16 read 45 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
with para 23 of this judgment that only two issues were dealt with viz, : (a) the taxation of the price of goods supplied, by way of offshore supply price of which was specified in Ex. D, cl. 2.1; and
(b) the taxation of consideration paid for rendition of services described in the contract as offshore services at Ex. D. For the time being, we are concerned only with the price of design and engineering, which has been considered as offshore services in the case of Ishikawajma -Harima (supra) as under :-
1. xxxxxx
2...........
3. Offshore services (Exhibit D-2.2) is the price of design and engineering including detail engineering in relation to supplies, services and construction and erection and cost of any other services to be rendered from outside India.
4........."
7.9. The Hon'ble Apex Court considered the price of Design and engineering as `fees for technical services' as per section 9(1)(vii)(c) of the Act and dealt with the same in paras 66 and 70 by noticing that : " ... s. 9(1)(vii), read in its plain, envisages the fulfilment of two conditions : services, which are source of income sought to be taxed in India must be (i) utilized in India and (ii) rendered in India. In the present case, both these conditions have not been satisfied simultaneously." Thus it is apparent that the 46 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Hon'ble Supreme Court held consideration for offshore services not chargeable to tax because the twin conditions - the services which are the source of income must be utilized in India and such services must be rendered in India - were not cumulatively fulfilled, since the services were not rendered in India. However, it is relevant to note that the legislature has stepped in by substituting Explanation below Sec. 9(2) reading as under:-
[Explanation.--For the removal of doubts, it is hereby declared that for the purposes of this section, income of a non-resident shall be deemed to accrue or arise in India under clause (v) or clause (vi) or clause (vii) of sub-section (1) and shall be included in the total income of the non-
resident, whether or not,--
(i) the non-resident has a residence or place of business or business connection in India; or
(ii) the non-resident has rendered services in India.] 7.10. This substitution has been done by the Finance Act, 2010 w.r.e.f 1.6.1976. The above Explanation makes it clear that, inter alia, the 'fees for technical services' shall be deemed to accrue or arise in India and shall be included in the total income of the non- resident, whether or not the non-resident has rendered services in India. Thus it is manifest that the legislature has nullified the effect of the judgment of the Hon'ble Supreme Court in Ishikawajma - Harima (supra) to the extent it provided that technical services must be rendered in India so as to qualify for taxation. With this 47 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
retrospective substitution of the Explanation, also covering the year under consideration, the view canvassed by the ld. AR that since such services were not rendered in India and hence no tax liability should arise, has been rendered unsustainable.
7.11. We come back to the prescription of Sec. 9(1)(vii)(b) as per which income by way of fees of technical services payable by a person who is resident of India shall be deemed to accrue or arise in India except where the fees are payable in respect of services utilized in a business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India. The positive mandate of this provision is fully applicable to the present facts as the fees for technical services has been paid by SAIL, who is resident of India, and further the services provided by the assessee are not going to be used by SAIL for carrying on its business outside India or for earning income from any source outside India.
7.12. The ld. AR has not disputed that the language of Article 13 of the DTAA, in so far as the facts of the instant case are concerned, is not different from that of Sec. 9(1)(vii). We, therefore, hold in principle that the consideration for Designs and drawings is liable for inclusion in the total income of the assessee u/s 9(1)(vii) of the Act. On a specific query from the Bench, it was admitted by the ld. AR that he wanted the taxability of this amount 48 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
to be considered only under the Act and not the DTAA. As such, we are desisting from examining the position of such fees for technical services under the DTAA. Accordingly it is held that the total amount of Euro 30,18,000 as per Table 1B to be received by the assessee as Design and engineering (Imp.) over the period, is in the nature of `Fees for technical services' chargeable to tax within the meaning of section 9(1)(vii) of the Act. However, we will deal infra with the extent of inclusion of any income on this count in the total income of the assessee for the year under consideration.
HOW MUCH IS INCOME FOR THE CURRENT YEAR ?
8.1. After having considered the broader principles of taxation in respect of i) Income from offshore supply of equipments; ii) Income from onshore supply of equipments; iii) Income from onshore services; and iv)Income from Design & Engineering services, let us see how these are applicable for the purposes of determination of income for the year in question. The Revenue has held that the amount received during the year designated as advance is for the rendering of actual services or supply of goods and hence it is chargeable to tax to the extent as indicated above. On the other hand, the assessee claimed that neither any goods were supplied nor any services were rendered during the year and hence no income chargeable to tax has arisen.
49 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
8.2. On a specific query, the ld. AR submitted that the assessee had not taken up any contract which required it to follow either the projection completion method or percentage completion method. He submitted that the assessee was following Accounting Standard
- 9 to show the income on the actual rendering of services or actual supply of equipment. As the AO has no where held that the income of the assessee should be computed as per the percentage completion or project completion method, we refrain from considering this aspect of the matter. Accordingly, we are proceeding with the contention of the ld. AR that the assessee was offering income on the actual rendering of services or supplying the equipment, offshore or onshore.
8.3. The assessee argued before the Assessing Officer that the amounts received by it were only in the nature of 5% advance of the Contract price and no activity was carried out in the financial year relevant to the assessment year under consideration. The Assessing Officer rejected this contention by observing from clause 12 of the `General Conditions of Contract' on page 1093 of the Paper book, which provides that: `No initial mobilization advance will be provided to the Contractor and the payments will be linked with the progress.' It is in the light of this clause that the AO repelled the contention of the assessee that amount received during the year was only in the nature of advance and 50 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
neither any goods were supplied nor services rendered. On the other hand, the assessee drew support for its contention from clause 2.1 of Appendix 3 which provides as under : -
"2.1.1 Five per cent (5%) of the Total Contract Price specified in the Appendix-1 excluding Taxes, Duties and Training Charges shall be released on submission of following drawings/documents/data.
a) Area layout of BF Complex showing location & disposition of all units of BF complex
b) Preliminary Technological layout of BF complex indicating the location & disposition of different technological units.
c) General Arrangement and elevation drawings for BF proper, hot blast stoves, Gas cleaning plant.
d) Basic process flow diagram and major process parameters for main technological units like BF, stove, stock house, water system, Gas facilities, GCP.
e) Electrical single line diagram for BF complex
f) PFDs for all utility and services.
2.1.2 Five per cent (5%) of the Total Contract Price specified in the Appendix-1 excluding Taxes, Duties and Training Charges shall be released on submission (approval/approved as noted) drawings/data, un-priced copy of Purchase order/Factory indents by the Contractor as specified below:
a) Paul Wurth Bell less top charging system 51 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
b) Cast house equipment like Mudgun, Drilling m/c and tilting runner
c) Under burden probes with gas analyzer
d) Profilometer
e) BF Bleeder valves
f) Slag granulation and its associated equipment, auxiliaries.
g) Waste gas heat recovery system equipment
h) Hot blast stove - Checker supporting system
i) Gas cleaning plant and its associated equipment, auxiliaries.
j) Blast furnace hearth refractories including graphite, semi-graphite, carbon, micro-pore carbon, mullite bricks, etc.
k) BF all types of stave cooling plate like Cu, C.I & S. G. Iron cooling plates.
2.1.3. Seventy Seven and a half percent (77.5%) of the Total Contract Price specified in the Appendix - 1, excluding taxes, duties and training charges shall be released towards progress payments and 100% of the taxes and duties on submission of documentary evidence along with release of progress payment of 77.5% as per Sub-Clause 2.3.
2.1.4 to 2.1.8........................"
8.4. Before we proceed to evaluate the rival contentions in this regard, it needs to be highlighted that one of the parties to this Contract agreement is SAIL, which is a Government of India 52 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
undertaking. As such, the terms of the contract cannot be considered as smokescreen or not reflecting the true intention of the parties. In the absence of anything to the contrary brought out by the Assessing Officer or the ld. DR, we shall proceed with the presumption that there is no façade or cover-up in the terms of the Contract agreement.
8.5. Coming back to our context, it can be seen that there is an apparent conflict between the language of clause 12 of the `General Conditions of Contract' on one hand which supports the stand of the Revenue that the payment will be linked with the progress and no initial mobilization advance will be provided; and clause clause 2.1 of Appendix 3 on the other, which supports the point of view of the assessee. Mechanism for resolving such conflicts has been provided in Article 1 of the Contract agreement itself. Clause 1.2 of Article 1 gives detail of `Contract Documents' by mentioning as under:
"The following documents shall constitute the Contract between the Employer and the Contractor, and each shall be read and construed as an integral part of the Contract:
(a) This Contract Agreement and Appendices hereto
(b) Special Conditions of Contract and Annexures hereto
(c) General Conditions of Contract and Annexures hereto
(d) Contract Technical Specifications and Drawings
(e) General Technical Specification 53 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
8.6. Clause 1.3 of Article 1 gives the `Order of Precedence' as under:
"In the event of any ambiguity or conflict between the Contract Documents listed above, the order of precedence shall be the order in which the Contract Documents are listed in Article 1.2 (Contract Documents) above."
8.7. On going through clause 1.3 in juxtaposition to clause 1.2 of Article 1 of the Contract Agreement, it becomes easy to understand that in the event of any conflict, as is prevailing before us, the order of precedence shall be the order in which the Contract Documents are listed in clause 1.2. Clause 2.1 on page 1048 of the paper book favoring the assessee has been placed in Appendix 3, which falls under sub-clause (a) of clause 1.2 of Article 1 of the Contract agreement. Clause 12.1 on page 1093 of the paper book favoring the Revenue has been placed in 'General conditions of contract', which falls under sub-clause (c) of clause 1.2 of Article
1. Thus, it is evident that due to conflict in the language of these two provisions, sub-clause (a) shall have precedence over sub- clause (c) of clause 1.2 of Article 1. The result is that the initial mobilization advance of 5% cannot be linked with the progress of work but will have to be considered in terms of clause 2 on page 1048 of the Paper book, which provides that the first 5% of the Total Contract Price shall be released on submission of drawings/documents/data concerning items specified in sub-
54 ITA No. 5787/Del/2013POSCO Engineering & Construction Company Ltd.
clauses a) to f). The assessee raised invoice for this first 5% on 6.3.2008 for which the payment was received a few days later. The second installment of 5% was to be released on submission of approval/approved drawings/data and also un-priced copy of Purchase order/Factory indents by the assessee of the items listed in sub-clauses a) to k). The invoice for the second 5% installment was raised in the next year. This shows that by the end of the financial year namely, 31.3.2008, the assessee definitely submitted drawings/documents/data of items listed in sub-clauses a) to f) of clause 2.1.1. and also started doing the activities making it eligible for the receipt of second 5% installment, which required it to submit approval/approved drawings/data and also un-priced copy of Purchase order/Factory indents of the items listed in sub-clauses
a) to k) as per clause 2.1.2. It explains that till the invoicing for the release of second 5% installment, the assessee was to simply procure copies of purchase orders to be placed by it for the purpose of submission of equipment to SAIL after approval of the drawings and documents as mentioned above. This goes to prove that no supply of equipments was contemplated till the invoice for the second installment of 5% was raised, which event took place in the next year. This chain of events brings us to the point that the assessee definitely submitted drawings/documents/data as per sub- clauses (a) to (f) of clause 2.1.1 of Appendix 3 and started placing the purchase orders of certain equipments to be supplied to SAIL 55 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
in terms of clause 2.1.2 of Appendix 3 after approval. The release of these two installments of 5% each does not contemplate the supply of any equipment to SAIL either offshore or onshore. Thus the level of activity definitely done by the assessee for SAIL up to 31.3.2008 is restricted to the supplying of drawings/documents/data as per sub-clauses (a) to (f) of clause 2.1.1 and also some part of approval by SAIL of drawings/data and placing of purchase orders for the equipments as mentioned in sub- clauses a) to k) of clause 2.1.2. This also proves the fallacy of the assessee's contention that it did not supply any equipment or render any services to SAIL and the entire amount received by it was in the nature of advance. Thus income attributable to such services rendered in India is chargeable to tax during the year in question. It can be further seen that the assessee has claimed deduction of more than Rs.1 crore towards expenses incurred on this project. It goes on establish that the assessee did some activity in respect of the SAIL project during the year in question.
8.8. The ld. AR referred to certain bills issued by the assessee in the year 2009 coinciding with the completion stage of 77.5%. He submitted that the invoice was raised in such later year and income was accordingly offered for taxation at that stage. Certain details of the equipment supplied were also shown. On being called upon to show the dates of delivery of such goods, both onshore and 56 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
offshore, he stated that such information was not available. It is relevant to note that the terms of the Contract Agreement provide for the `release' of payment on achieving certain milestones as referred to on page 1048 and 1049 of the paper book. The release of the payment has no direct and inseparable connection with the actual doing of work. As the assessee raised invoice for the first 5% of the entire contract price before the close of the current year including towards supply of equipment without actually supplying them, similarly it was to raise invoice and get 77.5% of the total contract price on the submission of documentary evidence as per sub-clause 2.3. The actual supply of equipments was to necessarily start much before this milestone of release of 77.5% of contract price. It is of importance to note that the assessee entered into contract with SAIL in 2007 and also set up its project office. Not only that, it also received two installment of 5% of the contract price. It is not possible that after doing so, it sat idle till the raising of invoice for 77.5% in the year 2009. On a specific query, it was admitted by the ld. AR that the supply of offshore and onshore equipments was to be made over the period of contract and it was not a case of entire supply of equipments having been effected on the date of raising invoice in the year 2009. He admitted of not readily having the dates of actual supply of equipments for which the invoice was raised in 2009. We want to make it clear that as no income can be charged to tax simply on the receipt of advance, 57 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
similarly the taxability cannot be postponed to the `release' of the amount for which invoice is made much after the supply of goods. The relevant point of taxation is the actual supplying of goods and actual rendering of services and not when the invoice is raised as per the peculiar terms of the contract or the amount is received. As the relevant dates of actual supply of equipments are not available, this aspect is also directed to be examined by the AO and resultantly charging income to tax for the period during which actual goods were supplied or services rendered.
8.9. With the above observations, we proceed to lay down the mechanism for determining how much income was earned by the assessee during the year under the following distinct heads:-
I. Income from offshore supply of equipments.
It has two components, viz., offshore supply of equipments and rendering of services in India. In so far as profit from offshore supply simplicitor is concerned, the same is not chargeable to tax in the hands of the non-resident due to transfer of title of equipments outside India. However, consideration for rendering of services in India, which is in-built in the price of equipment, is chargeable to tax at the point of rendering of such services. The Assessing Officer is directed to verify the dates of actual supply of offshore equipments taking place in the next year and see if any 58 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
pre-supply training etc. in this regard was given by the assessee to the personnel of SAIL in India during the year under consideration. If it was so given, then he will compute the value of such training as discussed supra and charge the relevant amount to tax.
II. Income from onshore supply of equipments Income from onshore supply of equipments is otherwise fully chargeable to tax. Since no such supply was made during the year, naturally there can be no income attributable to such supply of equipments simplicitor. However, the Assessing Officer is directed to verify if any services were rendered by the assessee in this year in connection with such onshore supply of goods. If it turns out to be so and the price for such services is not separately charged, then the value for such services should be determined and then considered for the purposes of inclusion in the total income of the assessee for the current year.
III. Income from onshore services Foreign supervision charges represent the amount charged by the assessee for rendering services in India during erection, start-up, commissioning and performance guarantee tests. This amount is otherwise chargeable to tax in India. Erection and commissioning may be of building structure or plant. It has been noticed above that no supply of plant commenced up to 31.3.2008. Thus no 59 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
income can be charged to tax in respect of erection commissioning etc. of plant and machinery. However, the Assessing Officer is directed to verify if the assessee was involved in erection of building structure also. If the answer is found to be in affirmative, then he will value such services, if any, actually rendered during the year. The value so determined will be included in the total income for the current year.
IV. Income from Design & Engineering services Such amount is chargeable to tax as fees for technical services as per section 9(1)(vii) of the Act. The assessee definitely rendered some technical services during the year for becoming entitled to receipt of 5% of the total contract price. The A.O. is directed to examine the actual services rendered during the year and value them for the purposes of inclusion in the total income for the year in question. It should be kept in mind that if the value of such services so rendered in India breaches 5% of total consideration of such services, then such higher amount should be charged to tax. Such higher amount will be deemed to be income accruing or arising to the assessee.
8.10. With the above observations, we set aside the impugned order on this issue and restore the matter to the file of the Assessing Officer for working out the income for the year under 60 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
consideration in the terms as set out in the immediately preceding paras. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in such fresh proceedings.
B. TRANSFER PRICING ADJUSTMENT
9. The next issue raised through various grounds is against the addition of Rs.2,15,27,090/- on account of transfer pricing adjustment.
10. At the outset, we want to make it clear that the ld. AR did not press ground No.5.2 by which it was claimed that the assessee did not have any PE in terms of Article 5 (3) of the DTAA. In fact, it was accepted by the ld. AR that PE may be considered in existence during the year in question. Such ground is therefore, rejected.
11. The factual matrix of the addition on merits is that the assessee entered into a Construction contract with its AE for the construction of plant at Bawal, Haryana. The contract was awarded to the assessee in June, 2007 which was to be completed by March, 2008. The assessee sub-contracted the project to an independent third party, namely, ENG Construction Pvt. Ltd. It received consideration for construction contract from its AE at Rs. 19,80,58,253/- which was declared as an international transaction. There was another international transaction of `Reimbursement of expenses' amounting to Rs. 96,73,257/-, which has not been 61 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
disputed by the TPO. In so far as the consideration for construction contract from its AE is concerned, the assessee followed Cost plus method (CPM) in its TP study to demonstrate that this transaction was at arm's length price (ALP). It was shown in the TP documentation that the assessee received operating income of Rs.19.80 crore from its AE and paid Rs.19.15 crore to ENG Construction, thereby leaving Operating profit of Rs.65.31lakh giving OP/OC percentage at 3.41%. The assessee chose eleven comparable cases listed on page 3 of the Transfer Pricing Officer's (TPO) order giving average of OP/OC at 3.42%. It was, thus, claimed that this international transaction was at arm's length price. The TPO observed on page 4 of his order that certain expenses like Power and fuel, Raw material, Personnel, etc., were required be excluded and only Manufacturing expenses were eligible for inclusion in the cost base. Without disturbing the selection of comparable cases and moving with such limited expenses, he recomputed the mean OP/OC of such comparables at 26.74%. By applying this percentage of comparable cases, he initially proposed TP adjustment of Rs.4,46,82,666/- for comments to the assessee. The assessee raised certain objections before the TPO as regards the exclusion of expenses from the cost base. The Officer got partly satisfied and came to hold that `Salaries' could also be treated as Operating expense of the comparables, but did not move from his earlier stand as regards other expenses like 62 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
Depreciation, Power and fuel, Travelling expenses and conveyance. By the inclusion of the amount of Salaries, the TPO re-worked out the average OP/OC of comparables on page 12 of his order at 14.65%. In the final analysis, the TPO applied Transactional Net Margin Method (TNMM) and used average margin of comparables at 14.65% to propose addition u/s 92CA at Rs.2,15,27,090/-. The assessee was unsuccessful before the Dispute Resolution Panel (DRP) in this regard. The Assessing Officer in the final order passed u/s 144C made the above addition. The assessee is aggrieved against such addition.
12. We have heard the rival submissions and perused the relevant material on record. Section 92(1) of the Act provides that any income arising from an international transaction shall be computed having regard to arm's length price. Computation of ALP has been prescribed u/s 92C. Sub-section (1) of section 92C, in so far as assessment year under consideration is concerned, enlists five specific methods and one general method for the computation of ALP. Sub-section (2) of Section 92C states that the most appropriate method referred to in sub-section (1) shall be applied for the determination of ALP in the manner as may be prescribed. The manner has been enshrined under Rule 10B read with Rule 10C. From the above narration of the relevant provisions, it is apparent that one of the prescribed methods is 63 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
required to be adopted for the purposes of determination of ALP. Adverting to the facts of the instant case, we find that the assessee initially started with `Cost plus method'. However, during the course of proceedings before the TPO, TNMM was suggested and the TPO has worked out ALP by applying such method. The assessee has not raised any objection before us on the application of TNMM. The modus operandi for computation of ALP as per TNMM has been prescribed in Rule 10B(1)(e). Sub-clause (i) of Rule 10B (1)(e) states that the net profit margin realized by the enterprise is computed in relation to costs incurred or sales effected or assets employed or having regard to any other relevant base. Sub-clause (ii) of Rule 10B (1)(e) states that the net profit margin realized by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction, etc., is computed having regard to the 'same base'. Sub-clause (iii) provides for adjustment to be made to the net profit margin determined in sub-clause (ii) by taking into consideration the differences, if any, between the international transaction and comparable uncontrolled transaction. An overview of various sub-clauses of Rule 10B (1)(e) brings out two things which are relevant for our purpose. First, that it is a `net operating profit margin' realized by the enterprise which is considered and second, that such net operating profit margin is to be seen with reference to any one of the bases provided in sub-rule
(i), such as, costs incurred or sales effected or assets employed, 64 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
etc. The assessee initially made a claim for adopting the base as `Direct costs' alone, which, in our considered opinion, has no sanction of law. When the rule provides for the base as `costs incurred', it cannot be a part of such costs. It has to be the `total cost' and not any fraction thereof. It is seen that the TPO proceeded with determination of ALP by considering the base of total costs. However, he skipped certain expenses, as discussed supra. The manner in which he selected certain expenses and ignored others, is equally not sustainable. The correct position is that total operating cost refers to cost of goods sold, administration, selling, distribution expenses and depreciation etc. Net operating profit margin, being the numerator, in the formula is excess of Operating revenue over Operating costs. There can be no question of viewing net operating profit margin with reference to a part of `total costs'. It needs to be necessarily seen with reference to the total costs or total sales etc. When the rule provides that net operating profit margin is numerator and total costs are denominator, if base of costs is adopted, then it is not permissible to deviate from the same. The Special Bench of the Tribunal in the case of LG Electronics India Pvt. Ltd. vs. DCIT (2013) 140 ITD 41 (Del) (SB) has held that the steps given in the Rule are required to be religiously followed for determination of ALP under the respective method. It has also been laid down by the Special Bench that : "When the Rule prescribes a particular method to be 65 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
followed and the steps so given are unambiguous, it is impermissible to substitute such steps with any other mode." Proceeding with the computation of ALP under this method, we notice that there is a further requirement of having a `similar base' for comparables as has been chosen for the assessee. It is not possible to compare the net operating profit earned by the assessee with reference to the base of sales with the net operating profit margin earned by comparables with reference to total costs. In the same manner, it is equally not possible to have a common base but change its components for the asessee vis-à-vis the comparables. As the TPO has embarked upon the determination of ALP by considering the denominator of `total cost', all the aspects of `total operating cost' such as cost of goods sold, administration, selling, distribution expenses and depreciation etc. are required to be considered both for the assessee and comparables as well.
13. When we mull over the first computation of OP/OC of the comparables by the TPO at 26.74%, it comes to light that he excluded the expenses such as Power and fuel, Raw material, Personnel etc., from `Total cost' base as is apparent from 3.1 of his order. When the assessee objected to such exclusion, the TPO further included only Salaries and determined average of OP/OC of the comparables at 14.65%. It divulges that certain other important expenses, such as, Power and fuel, Raw material etc. 66 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
still do not find their destination in the base of `Total operating cost' of comparables. Such a fractured base of `total cost', in our considered opinion, has no sanction of law. It has to have all the operating expenses, both direct and indirect in the `total operating costs'. The ld. DR took pains in explaining that even the assessee was wrong in computing `total costs' by which the ratio of OP /TC from its international transaction was computed. It is axiomatic that when the delegated legislature provides in unequivocal terms that the `total operating costs' should to be considered, the TPO or the assessee cannot at their sweet-will choose to substitute such base with any other suitable base as per their convenience. We, therefore, set aside the calculation of OP/OC as made by the assesee as well as the TPO in respect of the assessee and comparables and direct the AO/TPO to de novo compute OP/TC of the assessee as well as comparables by considering `net operating profit margin' as numerator and `total operating costs' as denominator. We want to make it clear that there is no dispute on the selection of TNMM as the most appropriate method; selection of profit level indicator as OP/TC; and selection of comparables. No departure should be made on the above matrixes in such fresh proceedings. It is on the basis of such fresh calculation that the correct ALP will be determined for viewing if any addition on account of TP adjustment is called for. It goes without saying that 67 ITA No. 5787/Del/2013 POSCO Engineering & Construction Company Ltd.
the assessee will be allowed a reasonable opportunity of being heard in this regard.
14. In the result the appeal is partly allowed for statistical purposes.
Order pronounced in the open Court on 26/02/2014.
Sd/- Sd/-
(I. C. SUDHIR) (R. S. SYAL)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Dated: 26/02/2014
*Subodh*
Copy forwarded to:
1.Appellant
2.Respondent
3.CIT
4.CIT(Appeals)
5.DR: ITAT
ASSISTANT REGISTRAR
Initial
Date
1. Draft dictated on 14.02.2014 PS
2. Draft placed before author 24.02.2014 PS
3. Draft proposed & placed before the second JM/AM
member
4. Draft discussed/approved by Second Member. JM/AM
5. Approved Draft comes to the Sr.PS/PS PS/PS
6. Kept for pronouncement on PS
7. File sent to the Bench Clerk PS
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.
**