M/s Livingstones Versus Deputy commissioner of Income Tax, 16 (3), Mumbai and vice-versa
Income Tax
2015 (3) TMI 1025 – ITAT MUMBAI – [2014] 29 ITR (Trib) 362 (ITAT [Mum])
ITAT MUMBAI – AT
Dated:- 23-10-2013
ITA NO. 7303/Mum/2011, ITA NO. 7460/Mum/2011
Income Tax
SHRI P.M. JAGTAP AND SHRI AMIT SHUKLA, JJ.
For the Appellant : Shri Vijay Mehta
For the Respondent : Shri Ajeet Kumar Jain
ORDER
Amit Shukla (Judicial Member).-
These cross-appeals are directed against the impugned order dated August 25, 2011 passed by the Commissioner of Income-tax (Appeals)-50, Mumbai, for the quantum of assessment passed under section 143(3) for the assessment year 2007-08. The main issue involved in these appeals are transfer pricing adjustment on account of sale transactions with associated enterprise. The assessee has challenged the addition of Rs. 51,32,512 on account of transfer pricing adjustment in respect of sale made to the associated enterprise by applying comparable un
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
s) :
Sl. No.
Class of transactions in the financial year 2006-07
Amount
Method used
1.
Purchase of rough diamonds
10,88,53,365
Transactional net margin method
2.
Sale of cut and polished diamonds
1,26,34,59,644
Transactional net margin method
For benchmarking the transactions with its associated enterprise, the assessee has adopted the transactional net margin method as the most appropriate method, wherein the profit level indicator margin of the comparables were 4.53 per cent., whereas the assessee's operating margin on sales with its associated enterprise was at 8.22 per cent. Thus it was reported that assessee's transaction with the associated enterprise were at arm's length price.
2.1. The Transfer Pricing Officer, (TPO) to whom the matter was referred by the Assessing Officer (AO) under section 92CA(1), for examining the arm's length price of the transactions with associated enterprises, required the assessee to furnish the copy of inv
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
the rates paid to the associated enterprise in comparison to non-associated enterprise should not be considered as additional price to be charged from the associated enterprise on sales made to them and upward adjustment be made on the value of such international transaction. In response, the assessee submitted that there are various reasons for non comparability of associated enterprise and non-associated enterprise transactions solely based on invoices, because there are : (i) differences on account of period and price fluctuation ; (ii) differences on account of volume of sales ; (iii) differences on account of bad debt risk ; (iv) differences on account of marketing expenses ; and (v) adjustment on account of geographical differences. Such a reasoning given by the assessee has been rejected by the Transfer Pricing Officer on the ground that, when these parties are entering into international transaction, the prices are negotiated, keeping in view the price prevailing in the uncontr
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ite VS1
3250.08
82.28
270667.65
1,21,85,458
25 P/CT D CUT white VVS1
2773.20
41.11
114005.15
51,32,512
6P/CT D CUT White VVS1
201.35
69.94
14083.40
6,34,035
Total
398756.20
1,79,52,005
2.2. Accordingly the Transfer Pricing Officer made an adjustment of Rs. 1,79,52,005 to the arm's length price of the exports of diamonds to the associated enterprise.
2.3. Further while analysing the details of realisation period of sale proceeds from associated enterprises as well as non the Transfer Pricing Officer, noticed that the credit period given to the associated enterprise and also the realisation period as compared to non-associated enterprises were more. From the reply dated September 24, 2010 furnished by the assessee, he noted that the details of average realisation period, which showed that average period of realisation of the assessee from the associated enterprises were 210 days, whereas the average realisation period in respect of e
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
enefit to its associated enterprise by allowing more days of interest free credit vis-a-vis the non-associated enterprises. Thus, an adjustment is warranted on account of delayed average realisation period. Following the comparable uncontrolled price Method, because no person in uncontrolled transactions will permit use of money without interests, so as to consider the trans action to be at arm's length. The assessee was also asked to furnish the average borrowing cost of its fund. The assessee vide its submis sion dated October 11, 2010 submitted the details of the various loans availed by it from different banks. It is observed that the maximum interest paid by the assessee is 15.25 per cent. If we make an adjust ment on account of involvement of personal security, loss of business opportunity other cost risk, etc., the rate should not be less than 16 per cent. An adjustment of Rs. 4,65,23,007 is to be made on account of delayed credit realisation period from the associated enter
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
, type of shape, type of colour and fluorescence, purity and various grades of diamonds. All these factors needs to be differentiated and they have affect the pricing of the diamonds, and these differences are not possible to mention in the invoices. In support of this contention, the assessee submitted Rapport report, and certificate from International Gemological Institute, to point out various sub-classifications within each category of diamond and the impact on pricing of the diamonds. The assessee has also highlighted the various instances, wherein it had sold the same category of diamond to the same customer in same invoices but at much different rates. This goes to show that, even though the diamonds which are falling in the same category, but due to various distinct differences in the sub-classification, the pricing gets affected and, therefore, there are differences in pricing also. Further, it was also submitted that its operating margin was 8.22 per cent. on sales which is q
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ate proceedings, the assessee also filed additional evidence with regard to particular transactions in the case of Simona NV (third party), which has been benchmarked by the Transfer Pricing Officer and had made the adjustment in respect of two categories of transactions, this has resulted into adjustment of Rs. 1,28,19,493. From the said additional evidence which was in the form of letter from the said party the assessee had contended that the said non-associated enterprise had not purchased the diamonds, but had forwarded the said consignment of diamonds to the associated enterprise of the assessee, on the ground that the price charged by the assessee was too high and, therefore, the said price cannot be used for benchmarking the price charged with the associated enterprise. Simona NV, vide letter dated October 14, 2010 had categorically stated that prices charged by the assessee for the sale of diamonds were exorbitant and since the said non-associated enterprise could not pass on s
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
cing Officer had ended by that time as the order of the Transfer Pricing Officer was passed on October 18, 2010. After detail reasoning the learned Commissioner of Income-tax (Appeals) has admitted this additional evidence, because it goes to the very root of the transfer pricing adjustment. The admission of this additional evidence has also not been challenged by the Department in its appeal.
3.2. Thus after admitting this additional evidence and considering the entire material on record, this issue of transfer pricing adjustment of Rs. 1,79,52,005 on the export of diamonds made to the associated enterprises, the learned Commissioner of Income-tax (Appeals) partly rejected the assessee's contention after giving very detail reasoning, which is reproduced hereinbelow for the sake of ready reference which are appearing from pages 8 to 10 of the appellate order :
“1. In respect of the applicability of the
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ellant in this regard are rejected.
2. The appellant has further mentioned that diamond industry is very price sensitive and that there are various judicial precedents in the Indian context, wherein, it has been held that each diamond is unique, and hence, the prices of different diamond cannot be compared. In this regard it is stated that the appellant has not demonstrated with any facts or figures, how such a mention is relevant to the appellant's case. Further what are those judicial pronouncements which have held about the uniqueness of the diamond in the Indian context has not been submitted by the appellant. It is further mentioned here that it is the facts of the case and not disputed by the appellant that what has been compared by the Transfer Pricing Officer is the price of the diamonds which were same as per the description mentioned in the invoices raised by the appellant.
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ave been made are in fact not comparable transactions at all. In this regard it is stated that the appellant was given sufficient opportunity by the Transfer Pricing Officer. The proceedings before the Transfer Pricing Officer were initiated on March 18, 2010 and the order under section 92CA(3) was passed on October 18, 2010. During the course of the proceedings the authorised representative attended before the Transfer Pricing Officer at least for 8 times on various dates. Accordingly it cannot be arrived, at that the appellant was not given sufficient opportunity to make its submissions or it was not given sufficient or reasonable opportunity by the Transfer Pricing Officer. However it may be mentioned here that the additional evidence which the appel lant filed and seems to be considered in the instant proceedings, is a letter dated October 14, 2010 of M/s. Simona NV. Keeping in view that last submission was filed by the appellant on October 13, 2010 and the order under section 92CA
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ference were of circular nature” it is seen that in respect of the said two categories of diamonds, Transfer Pricing Officer had used sales made to Simona N. V. vide invoice No. 187 dated March 13, 2007 and vide invoice No. 215 dated March 31, 2007 as comparable uncontrolled transaction and made adjustments accordingly. In this respect, as submitted by the appellant and also confirmed by the Transfer Pricing Officer vide his remand report dated July 20, 2011, the said sales to non-associated enterprise (Simona N.V.) were eventually sold to associated enterprise, since the non-associated enterprise found the prices to be very high. Accordingly, the said transaction cannot be regarded as comparable uncontrolled transactions ; accordingly conse quent benchmarking and hence the adjustment done by the Transfer Pricing Officer would not be valid. In view of these set of facts the consequent adjustment made amounting to Rs. 1,28,19,493 in respect of these two categories of diamonds is directe
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
year was only Rs. 0.70 crores as against the sale of Rs. 126.34 crores made to associated enterprise. Further, there are also various other dffferences such as difference in credit risk, marketing expenses, etc. The appellant also stated that an appropriate adjustment would have to be made to the prices charged to non-associated enterprises to make them comparable to the prices charged to associated enterprises. The appellant also submitted the calculation of the said adjustment and contended that the prices charged to associated enterprises were at arm's length.
8. I have gone through the arguments and I do not agree with the appellant's contention. The appellant has not submitted any basis of calculation of the said discount adjustment. Further, the appellant has not brought anything on record to suggest that the associated enter prises were eligible for discount based on the quantity sold. In its submission the ap
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ties and the prices charged from them can be benchmarked for determining the arm's length price. Secondly, he has accepted the additional evidence in the form of letter dated October 14, 2010 of M/s. Simona NV after giving the detail reasoning and based on such letter, he came to the conclusion that no adjustment on account of such transaction can be made, as the sale itself was not undertaken and hence cannot be considered for comparable uncontrolled transaction and, therefore, adjustment on such a transaction is not valid. Accordingly sum of Rs. 1,28,19,493 based on such transaction was deleted. Lastly, on the balance transaction, wherein, the adjustment of Rs. 51,32,512 was made by the Transfer Pricing Officer has been confirmed by him. Against this, the assessee as well as the Department had come in appeal before us.
4. Learned counsel, Shri Vijay Mehta on behalf of the assessee submitted before us that first of all, no valid reason had been given by the Transfer Pricing Offic
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
tion of diamond have rate variations because of the shape, weight, clarity, colour fluorescence, polish, etc. Such a huge dissimilarity in the products itself cannot lead to application of comparable uncontrolled price method, which requires very high degree of product similarity. He drew our attention to Rapport report and certificate of International Gemological Institute, along with the literature on shapes and sizes of the diamonds in support the contention that, there is a huge difference in the grading and pricing of the diamonds. Even in the transfer pricing study report this issue has been highlighted in detail and our specific attention was drawn to page 129 of the paper book and also on pages 39 and 40 of the paper book. Even from the perusal of the invoices, he submitted that, it can be seen that Transfer Pricing Officer has not taken piece wise or carat wise description but has gone by the pricing by the category of diamond which was sold to the associated enterprise as wel
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
ransactional net margin method method should be accepted as the most appropriate method in the case of the assessee but also the same comparables.
5. Per contra, the learned Commissioner of Income-tax (Departmental representative), Shri Ajit Jain, submitted that, from the very perusal of the transaction as highlighted by the Transfer Pricing Officer at page 2 of his order, it can be seen that there is a clear cut description of piece per carat, the kind of cut and the description of the clarity of the diamonds. Under such description, the assessee has not only sold the diamonds to the associated enterprise but also to the third party customers and, therefore, in such a situation the negotiated price with the associated enterprise as well as with the unrelated parties has to be compared and benchmarked. This is what Transfer Pricing Officer has done after applying the comparable uncontrolled price method. In this case, there was an internal comparable uncontrolled price, therefore, the
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
sactional net margin method is to be applied then, examination of comparables has to be done because neither the Transfer Pricing Officer nor the Commissioner of Income-tax (Appeals) has carried out any comparability analysis. Some of the comparables as highlighted by the assessee are also into jewellery business, whereas the assessee is purely engaged in the business of selling of cut and polished diamonds. In any case, if transactional net margin method has to be accepted then the matter is required to be sent back to the Transfer Pricing Officer for fresh consideration.
5.1. As regards deletion/adjustment of Rs. 1,28,19,493 on account of transaction with M/s. Simona NV, learned Commissioner of Income-tax (Departmental representative) strongly relied upon the findings given by the Transfer Pricing Officer in the remand report, which has been dealt at page 7 of the appellate order and further submitted that the transaction with the said party has to be seen for the purpose of compari
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
arned counsel as well as by the learned Departmental representative, the relevant finding by the Commissioner of Income-tax (Appeals) and by the Transfer Pricing Officer and also the material referred to, before us. The assessee is mainly engaged in the manufacturing and selling of cut and polished diamonds and for this purpose it has purchased rough diamonds from associated enterprise and had also sold cut and polished diamonds to its associated enterprise. The transaction with the associated enterprise constitutes more than 66 per cent. of the entire sale. The operating margin as shown by the assessee on its sales was at 8.22 per cent. For benchmarking the arm's length price of its international transaction with its associated enterprise, the assessee has adopted transactional net margin method as the most appropriate method, after analysing various other methods and also as to why other methods cannot be applied in the case of the assessee. For comparability analysis under trans
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
its associated enterprise or the transactional net margin method should be the most appropriate method.
7.1. The application of the arm's length price is based on comparison of the conditions in controlled transaction with the conditions in transaction between independent enterprise, i.e., uncontrolled transaction, so as to determine the market price or the margin on which the two related parties are carrying on their transaction. The determination of the arm's length price has to be done as per the methodology prescribed under section 92C read with rule 10B. All these methods are either based on price or on profit which determine the transfer price by examining comparable matching transaction, comparable adjustable transaction and comparable profit transaction. Rule 10B(1)(a) provides that the comparable uncontrolled price method, i.e., comparable uncontrolled price, is a comparison of the prices of property or services transferred in a controlled transaction with the price c
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
mparable uncontrolled price method can be applied with certain adjustments. There can be an internal comparable uncontrolled price, when one of the group entity enters into a comparable transaction with an unrelated party where the goods or services under consideration are the same or similar. There can be an external comparable uncontrolled price also, if a transaction between two independent enterprises involves goods or services under comparable conditions. As pointed out by learned counsel, in diamond industry/business within the same product of diamond, there is a huge dissimilarity and variation of features which leads to difference in the prices. The pricing of the diamonds depends upon various parameters/factors like size of the diamond, carat weight, various types of shape, colour fluorescence, clarity, grade, polishing, height and depth angle, girdle thickness, etc., which leads to differential pricing of the diamonds. In such a condition it becomes very difficult to apply co
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
the details of piece per carat, type of cut and the clarity of the diamond. Under this description, invoices has been raised not only to the associated enterprise but also to the third party customers. If on the similar nature of transaction and description of goods the prices have been negotiated by two parties, one in controlled situation and another in uncontrolled transaction, then such a pricing can be examined for the purpose of benchmarking the price which had been charged by the assessee unless it is shown that within such invoices there were different kinds of diamonds under sale transaction. Though we have already held that in the sale of diamonds, it is very difficult to benchmark the price by applying the comparable uncontrolled price method, however on the peculiar facts of the present case, it is seen that in the nature of sale transaction undertaken by the assessee and the price which has been charged from the associated enterprise appears to be on similar description of
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
3
21.12
315.00
68.76
321.17
6.17
130.26
4*
25P/CT D CUT White VS1
2773.20
328.89
8.50
370.00
41.11
114005.15
5
100 P/CT D CUT White SI
1599.92
360.53
63.84
370.01
9.47
5683.98
6
100 P CT D CUT White VVS1
144.49
481.71
16.04
485.00
3.29
475.70
7
10 P/CT D CUT White VVS2
485.47
648.66
70.32
673.73
25.07
12169.22
8*
6P/ CT D CUT White VVS1
201.35
847.02
2.37
916.96
69.94
14083.40
9
6P/CT D CUT White VVS2
100.89
793.15
14.38
823.79
30.64
3091.22
10
6P/CT D CUT White VS2
42.84
635.00
43.43
662.17
27.17
1164.17
11
10P/CT D CUT White VVS1
431.09
715.57
9.89
720.70
5.13
2213.19
* Subject matter of transfer pricing adjustment.
7.3. Out of all these transactions, nine transactions have been accepted by the Transfer Pricing Officer, as the price difference was less than 5 per cent. and it was only with regard to three transactions, which have been given at serial Nos. 2, 4 and 8, the Transfer Pricing Officer has
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
products have been sold on negotiation and, therefore, the prices of the two transactions can be compared. In a way, we uphold the contention of the learned Commissioner of Income-tax (Appeals) that there was internal comparable uncontrolled price available in the case of the assessee for determining the transfer price. Once a direct method of internal comparable uncontrolled price is available then there is no need to resort to transactional net margin method.
7.4. Now coming to the deletion of addition of Rs. 1,28,19,493 by the Commissioner of Income-tax (Appeals), which is subject matter of ground Nos. 1, 2 and 3 in the Department's appeal. Out of the three transactions, which has been adversely viewed by the Transfer Pricing Officer, two transactions pertained to sale made by the assessee to one M/s. Simona NV. Now it has been brought on the record before the Commissioner of Income-tax (Appeals), which has also been a subject matter of remand before the Transfer Pricing Office
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
VBA adding 1 per cent. to your invoice amount on account of occurred expenses. Goods were invoiced as follows :
(1) Invoice No. 07/101 dated March 16, 2007 (1027.02 carats for US$ 458,660.00)
(2) Invoice No. 07/103 dated April 13, 2007
(709.00 carats for US$ 353,490.41).”
The said letter has been subject to remand before the Transfer Pricing Officer, who has given his remark, which has been incorporated and dealt with by the Commissioner of Income-tax (Appeals) also as discussed herein the foregoing paragraphs, from the above letter and relevant finding of the Commissioner of Income-tax (Appeals), it is quite conclusive that, the said party has not purchased the diamonds sent on these two invoices and ultimately, it has been sold to associated enterprise only. Thus, such a transaction cannot be considered for benchmarking and determining the arm's length price. Once the particular transaction, which is the subject matter of comparison for transfer pricing adjustment, has not ev
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
e-tax (Appeals) was that the assessee's sales with its associated enterprise aggregated to Rs. 126.43 crores, whereas in case of the non-associated enterprise it was only Rs. 70 lakhs, thus there was a huge difference of volume which should be taken into consideration while examining the price differences and accordingly the adjustment should be made. Besides this, it was also submitted that price differences in diamond business are also on account of price fluctuation and differential time period. Further, in case of third party there is always a risk of bad debt which is not there in the case of the associated enterprise and also the marketing expenses in the case of the associated enterprise is less. If these differences are taken into consideration and accordingly adjustment is made, then there is no requirement for making any upward adjustment of the arm's length price. The learned Commissioner of Income-tax (Appeals) has rejected this contention, mainly on the ground that
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
s, the contractual terms of the parties, the geographical market conditions in which the transaction takes place, the time and period of the transaction and various other risk factors like bad debt risk, foreign currency risk, etc. All these factors have to be taken into account for determination of the price in a given transaction. In this particular transaction, the assessee has sold a total quantity of 2773.20 to its associated enterprise with an average rate of 328.89 dollars, whereas to the third party, the assessee has merely sold quantity of 8.50 carats with the rate of 370 dollars. Thus there is a huge difference in volume of sale and it is quite a normal phenomena that if the purchases and sales are made in huge quantity then there is always a chance of negotiation of preferable price by the purchaser and there is difference in the price as compared to the one where very small quantity of sale or purchase takes place. Such difference of volume, definitely has a bearing on the
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
under rule 10B. Accordingly, we hold that such a price difference in the aforesaid transaction has to be ignored and adjustment has to be made for comparing the negotiated price charged from the associated enterprise as well as from the third party and if such an adjustment is carried out then there is no requirement for making any kind of upward adjustment in this case. Therefore, the decision of the Commissioner of Income-tax (Appeals) in confirming the adjustment of Rs. 51,32,512 to the arm's length price is reversed and the said addition is deleted. Accordingly, the ground raised by the assessee is treated as allowed, whereas ground Nos. 1, 2 and 3 as raised by the Revenue stands dismissed.
9. The other issue involved in the Departmental appeal is with regard to the transfer pricing adjustment of Rs. 4,65,23,007 on account of notional interest on delayed collection of payment on sale invoices from associated enterprises in comparison to non-associated enterprises. The Transfer
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
so the assessee had not charged any interest on such delayed payment. In fact in the diamond industry, payment beyond the credit period is usual business practice and none of the entities charge any interest on such delayed payments. In support of this, a certificate/letter from Gem and Jewellery Export Promotion Council was filed before the Commissioner of Income- tax (Appeals). Besides this various judicial precedents were also cited which has been dealt by the Commissioner of Income-tax (Appeals) in pages 13 to 15 of the appellate order. The learned Commissioner of Income-tax (Appeals) duly appreciated the assessee's contention and also relying upon the various decisions of the Income-tax Appellate Tribunal, has deleted the said addition.
11. Before us, learned counsel reiterated the submissions made before the lower authorities and also relied upon the decisions of the co-ordinate bench of the Tribunal in the case of Lintas India P. Ltd. v. Asst. CIT reported in [2013] 152 TTJ
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =
y the third party which has been placed in the paper book from pages 176 to 179. The learned Departmental representative on the other hand strongly supported the findings of the Commissioner of Income-tax (Appeals).
12. We have carefully considered the rival submissions and also perused the relevant finding of the Transfer Pricing Officer as well as the Commissioner of Income-tax (Appeals) and also the material on record. It is an undisputed fact that the assessee has not charged any interest from the third party in respect of delayed payments even when the time period of realisation has exceeded more than 300 to 400 days. From the perusal of the details as submitted by learned counsel in the paperbook, it is seen that there are many instances in which more than 200 days have been exceeded in realisation of payments in case of third parties. Once on such delayed payments with third party no interest has been charged, then to work out the notional interest in case of delayed payment by
= = = = = = = =
Plain text (Extract) only
For full text:-Visit the Source
= = = = = = = =