IN THE ITAT MUMBAI BENCH ‘L’
Essar Shipping Ltd.
v.
Deputy Commissioner of Income-tax, Range 5(1), Mumbai
K.C. SINGHAL, VICE PRESIDENT
AND R.S. SYAL, ACCOUNTANT MEMBER
IT APPEAL NOS. 4624 AND 4565 (MUM.) OF 2006
[ASSESSMENT YEAR 2002-03]
NOVEMBER 21, 2008
Section 92C of the Income-tax Act, 1961 - Transfer pricing - Computation of arm’s length price - Assessment year 2002-03 - Whether transfer pricing provisions are always applicable when transactions are entered into with associated enterprises and one holds larger voting power in other - Held, yes - Whether transfer pricing provisions provide for allowing deduction towards pro tanto addition to income on account of determination of arm’s length price in case of receipt of dividend from associated enterprises - Held, no - Whether, therefore, where there is a receipt of dividend by one enterprise from other associated enterprise, which is chargeable to tax in India, then application of transfer pricing provisions could not be ruled out to that extent on plea that it would amount to double taxation - Held, yes
Section 92C of the Income-tax Act, 1961, read with rule 10B, of the Income-tax Rules, 1962 - Transfer pricing - Computation of arm’s length price - Assessment year 2002-03 - Assessee had taken on hire one ship from its associate enterprise, namely, EIL which was engaged in operation of ships - Assessing Officer referred matter to Additional Commissioner, Transfer Pricing, under section 92CA(1) for computing arm’s length price of bare boat hire charges - Assessee had worked out amount of hire charges at arm’s length price at US$ 94,550 per month on basis of Comparable Uncontrolled Price Method (CUP Method) - Additional Commissioner, however, rejected said method - Thereafter, assessee submitted an alternate working before Additional Commissioner on basis of cost plus method - Additional Commissioner accepted assessee’s working as per cost plus method, except for reducing claim of dividend on ground that no dividend was, in fact, received by assessee - He, accordingly, reduced dividend of US$ 274 per day from payments made to EIL and, thus, determined amount payable to EIL at Rs. 2,26,02,767 - Assessing Officer upheld order of Additional Commissioner and held that inclusion of dividend by assessee of US$ 274 per day was erroneous - On appeal, Commissioner (Appeals) upheld order of Assessing Officer - Whether as per cost plus method sum of direct and indirect cost along with gross profit mark-up, etc., is taken as arm’s length price in relation to supply of property of provision of services by enterprise - Held, yes - Whether, therefore, what is relevant is to include gross profit mark up and not to reduce anything from cost - Held, yes - Whether therefore, Commissioner (Appeals) was not justified in reducing US$ 274 per day from lease rental by taking it as provision for dividend instead of normal gross profit mark-up for purposes of determination of arm’s length price under section 92C - Held, yes
Facts
The assessee-company had taken on hire one ship from its associated enterprise, namely, EIL, which was engaged in the operation of ships. The Assessing Officer referred the matter to the Additional Commissioner Transfer Pricing under section 92CA(1) for computing the arm’s length price of bare boat hire charges. The assessee contended that it had paid charter hire charges at US$ 94,550 per month to EIL. It also stated that it had entered into an agreement with EIL for taking the above ship for a period of one year and as per Clarkson report, the average one year time charter rates for a similar size of vessel was US$ 12,582 per day. By considering the age of the ship taken on hire, the amount of hire charges at the arm’s length price was worked at US$ 94,550 per month on the Comparable Uncontrolled Price Method (CUP method). The Additional Commissioner, however, rejected said method. Therefore, the assessee submitted an alternate working before the Additional Commissioner, on cost plus method. The Additional Commissioner, had accepted the assessee’s working as per cost plus method, except for reducing claim of the dividend on the ground that no dividend was, in fact, received by the assessee.
He, accordingly, reduced dividend of US$ 274 per day from payments made to EIL and, thus, determined the amount payable to EIL at Rs. 2,26,02,767. The Assessing Officer made an addition for the differential amount of Rs. 22,24,314 to the income of the assessee.
On an appeal, the Commissioner (Appeals) confirmed the action of the Assessing Officer.
On second appeal :
Held
Section 92C deals with the computation of the arm’s length price. Certain methods have been prescribed for determining such price in the international transactions and it has been mentioned in sub-section (2) of section 92C that the most appropriate method shall be applied for the determination of the arm’s length price. [Para 11]
The assessee had justified the charter hire payment by relying on CUP method. That method, as explained in clause (a) of rule 10B, deals with the determination of the arm’s length price on the basis of comparable uncontrolled transaction. The emphasis under that method is to rely on such comparable cases for the price shown, which are not related to the assessee. In simple words, it is just like showing some comparable case justifying the price paid for the services received. Such comparable uncontrolled transaction can also take the shape of any reliable date justifying the market price of similar services. In the instant case, the assessee had relied on the Clarkson Report as the comparable uncontrolled transaction. That report refers to the modern ships which are not more than ten years old and the average one year time charter rate for such vessel has been given at US$ 12,582 per day for the year-in-question. The assessee had computed the charter hire payment made to EIL at the rate of around 25 per cent of the rate as prescribed in Clarkson Report on the ground that the ships hired by it were 22 years old. There was absolutely no material worth the name by which one could justify the reduction at 75 per cent due to age factor of the ship. In principle one was agreeable with the assessee that the adjustment in the price was permissible as per sub-rule (a)(ii) of rule 10B(1). But keeping into consideration such a vast age gap of the two ships one was not inclined to hold that the ad hoc deduction of 75 per cent would bring the case within the adjustable range. [Para 12]
One was also not convinced with the submission of the assessee that the same rate of hire charges had been paid in the preceding year, which had been accepted in the assessment made under section 143(3) and resultantly the same rate should not be brought within the shadow of doubt in the instant year. The provisions for the computation of income from the international transaction having regard to the arm’s length price had been introduced for the first time in the assessment year 2002-03 and the same year was involved in the instant case. Such provisions were not applicable to the preceding year when the same amount of hire charges had been accepted by the revenue. Hence, there was no question of relying on the assessment order for the preceding year to justify the charter hire payment made in the relevant year in the light of the provisions which had seen the light of the day for the first time in the current year. [Para 13]
It was also contended by the assessee that the provision of transfer pricing should not be applied on the ground that the entire amount of dividend receivable from EIL was taxable in its hands and if the amount of lease rental as payable was reduced, that would amount to double taxation on the same income to that extent. In the instant case no dividend was paid/proposed by EIL in respect of the current year as well as for the succeeding year. It implied that the income earned by EIL had remained in its coffers and was not disbursed to the assessee by way of dividend. When the dividend itself was not received, there could not be any point of double taxation of the amount to that extent. Further, there was also no merit in the contention of the assessee that the possibility of EIL paying dividend in the next year out of the accumulated profit could not be ruled out. [Para 14]
One was not agreeable with the proposition that if the assessee-company had received dividend from the associated enterprise, then to that extent, no addition on account of transfer pricing provisions was possible. Firstly, only the transactions with the associated enterprise are brought within the purview of transfer pricing provisions. The definition of the associated enterprise as per section 92A makes it explicitly clear that one enterprise is considered as an associated enterprise of the other if one holds a larger interest in the other by way of management or control or capital, etc. Sub-section (2) of the said section further lists certain cases in which two enterprises shall be deemed to be associated enterprises. One of such deeming clause is that one holds directly or indirectly shares carrying not less than twenty six per cent of the voting power in each of such enterprises Therefore, the transfer pricing provisions are always applicable when the transactions are entered into with the associated enterprises and one holds larger voting power in the other. There is no provision in this section, which provides for allowing deduction towards the pro tanto addition to the income on account of determination of arm’s length price in case of receipt of dividend from the associated enterprises. [Para 15]
Therefore, if there is a receipt of dividend by one enterprise from the other associated enterprise, which is chargeable to tax in India, then the application of the transfer pricing provisions could not be ruled out to that extent on the plea that it would amount to double taxation. The intention of the Legislature becomes further clear on reading of the second proviso to section 92C(3), which also applies to section 92CA by virtue of sub-section (4) providing for not allowing deduction under section 10A, 10AA or 10B under Chapter VI-A in respect of the amount of income by which the total income of the assessee is enhanced after computation of income under this sub-section. [Para 16]
Therefore, the working of the assessee at the arm’s length price as per CUP Method did not merit acceptance. Now the question arose as to how such price should be determined. The assessee had submitted an alternate working before the Additional Commissioner, Transfer Pricing on the cost plus method and the Additional Commissioner, had accepted the assessee’s working as per cost plus method, except for reducing the claim of the dividend on the ground that no dividend was, in fact, received by the assessee. In such a situation, it became apparent that the cost plus method with which the Additional Commissioner, had proceeded could not be substituted with any other method at the instant stage. The Commissioner (Appeals) had approved of the action of the Assessing Officer by which the inclusion of dividend by the assessee of US$ 274 per day had been held to be erroneous. The assessee was in appeal against that exclusion and the revenue was not aggrieved on that issue. Resultantly, one was confined only to considering whether the Commissioner (Appeals) was justified in excluding US$ 274 per day from the hire charges. The cost plus method as per clause (c) of rule 10B(1) provides for taking the direct and indirect cost of production incurred by the enterprises in respect of property transferred or services provided to an associate enterprise and also in determining the amount of a normal gross profit mark up to such cost. The sum of direct and indirect cost along with the gross profit mark-up, etc., is taken as arm’s length price in relation to the supply of property or provision of services by the enterprise. What is relevant for further inclusion in the cost plus method apart from the direct and indirect costs is to add up the amount of normal gross profit. When the interest on loan and depreciation were considered together, constituting the direct and the indirect costs the amount came to US$ 2767 as lease rental per day. That amount was to be increased further by the amount of a normal gross profit mark-up. The authorities had excluded the dividend portion at 10 per cent from that claimed by the assessee in the calculation made available to the Additional Commissioner, Transfer Pricing on a misnomer. What is relevant is to include the gross profit mark-up and not reduce anything from the cost. The 10 per cent gross profit rate was reasonable one for the inclusion in the direct and indirect costs for determining the arm’s length price on cost plus method. Even if one goes by such a reasonable gross profit mark-up of 10 per cent on such cost the figure would result in US$ 274. Therefore, the Commissioner (Appeals) was not justified in reducing US$ 274 per day from the lease rental by taking it as a provision for dividend instead of the normal gross profit mark-up for the purposes of determination of the arm’s length price under section 92C. Therefore, the appeal of the assessee on that issue deserved to be allowed. [Para 17]
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