Executive Summary
The Chennai bench of the Income Tax Appellate Tribunal („the Tribunal‟) recently pronounced its ruling in case of Visual Graphics Computing Services (India) Pvt Ltd („the taxpayer‟), wherein the Tribunal held that the Arm‟s Length Price („ALP‟) profits arrived by the Transfer Pricing Officer („TPO‟) cannot form the basis for arriving at the „ordinary profits‟ for computing the deduction allowable under Section 10A of the Income-tax Act, 1961(„Act‟);
Facts
The taxpayer is engaged in the business of preparing power point presentations, developing software for such presentations and rendering finance and accounting services to its Associated Enterprises (AEs). For the Assessment Year („AY‟) 2007-08, the tax payer had applied the Transactional Net Margin Method („TNMM‟) as the Most Appropriate Method („MAM‟) to benchmark the international transactions. The Operating Profit to Cost of comparable companies was 21.92% (ALP profits of Rs. 87 million) as against 33.24% (Profits of Rs. 132 million) earned by the taxpayer. Hence the TPO concluded that the no adjustment is warranted in respect of international transactions carried on by the taxpayer with its AEs
Based on the order of the TPO, the Assessing Officer (AO) passed a draft assessment order u/s 144C(1) wherein the ALP profit computed by the TPO was adopted as “Ordinary Profits”. The AO treated the profit of Rs 45 million (Difference between Rs. 132 million & Rs. 87 million) in excess of the ALP profit as extraordinary in the context of Section 10A and reduced the quantum of eligible deduction under Section 10A by Rs. 45 million, by invoking the
provisions of Section 10A(7) read with Section 80IA(10) of the Act.
On appeal by the taxpayer, the DRP confirmed the draft assessment order of the AO. Aggrieved with the order of the DRP/AO, the taxpayer filed an appeal with the Tribunal.
Issue before the Tribunal
Eligible amount of profits entitled for deduction under Section 10A cannot be determined based on ALP computed by the TPO
Ruling of the Tribunal
The provisions of TP regulations contained in Section 92 belong to a separate code enacted for computing income from international transactions having regard to ALP so as to confirm that there is no tax avoidance by the taxpayer;
Operation of TP provisions ends when the TPO passes an order holding that the operating profit of the taxpayer is compatible with ALP norms and no adjustment is necessary;
Limiting the profit eligible for tax holiday under Section 10A(7) read with Section 80IA(10) must be independent of the order of the TPO and it is not permissible for the AO to work out the 10A deduction on the basis of the ALP profit determined under the order of the TPO;
ALP is determined based on the MAM which can either be profit based or price based. In case of latter methods, profits are not considered but “derived” from prices and hence the adoption of ALP profits to determine what is “ordinary profits” for the purpose of Section 10A(7) cannot be justified.;
The Tribunal also considered the decision in the case of Tweezerman (India) Pvt Ltd1 wherein it was held that the AO was not justified to invoke provisions of Section 80IA(10) read with Section 10B(7) so as to reduce the eligible profits on the basis of the ALP computed by the TPO without showing how he determined that the tax payer had shown more than ordinary profits
Conclusion
The arm‟s length price cannot be applied to determine „ordinary profits‟ for computing the deduction allowable under Section 10A of the Income-tax Act, 1961(„Act‟)
This decision also needs to be viewed in light of the new provisions introduced by the Finance Bill 2012 relating to Specified Domestic Transaction („SDT‟) aimed at preventing abuse of tax beneficial deductions within the ambit of transfer pricing regulations.
Source: Visual Graphics Computing Services (India) Pvt Ltd vs.Assistant Commissioner of Income Tax, Chennai for AY 2007-08,
ITA No.2073/(Mds)/2011
The Chennai bench of the Income Tax Appellate Tribunal („the Tribunal‟) recently pronounced its ruling in case of Visual Graphics Computing Services (India) Pvt Ltd („the taxpayer‟), wherein the Tribunal held that the Arm‟s Length Price („ALP‟) profits arrived by the Transfer Pricing Officer („TPO‟) cannot form the basis for arriving at the „ordinary profits‟ for computing the deduction allowable under Section 10A of the Income-tax Act, 1961(„Act‟);
Facts
The taxpayer is engaged in the business of preparing power point presentations, developing software for such presentations and rendering finance and accounting services to its Associated Enterprises (AEs). For the Assessment Year („AY‟) 2007-08, the tax payer had applied the Transactional Net Margin Method („TNMM‟) as the Most Appropriate Method („MAM‟) to benchmark the international transactions. The Operating Profit to Cost of comparable companies was 21.92% (ALP profits of Rs. 87 million) as against 33.24% (Profits of Rs. 132 million) earned by the taxpayer. Hence the TPO concluded that the no adjustment is warranted in respect of international transactions carried on by the taxpayer with its AEs
Based on the order of the TPO, the Assessing Officer (AO) passed a draft assessment order u/s 144C(1) wherein the ALP profit computed by the TPO was adopted as “Ordinary Profits”. The AO treated the profit of Rs 45 million (Difference between Rs. 132 million & Rs. 87 million) in excess of the ALP profit as extraordinary in the context of Section 10A and reduced the quantum of eligible deduction under Section 10A by Rs. 45 million, by invoking the
provisions of Section 10A(7) read with Section 80IA(10) of the Act.
On appeal by the taxpayer, the DRP confirmed the draft assessment order of the AO. Aggrieved with the order of the DRP/AO, the taxpayer filed an appeal with the Tribunal.
Issue before the Tribunal
Eligible amount of profits entitled for deduction under Section 10A cannot be determined based on ALP computed by the TPO
Ruling of the Tribunal
The provisions of TP regulations contained in Section 92 belong to a separate code enacted for computing income from international transactions having regard to ALP so as to confirm that there is no tax avoidance by the taxpayer;
Operation of TP provisions ends when the TPO passes an order holding that the operating profit of the taxpayer is compatible with ALP norms and no adjustment is necessary;
Limiting the profit eligible for tax holiday under Section 10A(7) read with Section 80IA(10) must be independent of the order of the TPO and it is not permissible for the AO to work out the 10A deduction on the basis of the ALP profit determined under the order of the TPO;
ALP is determined based on the MAM which can either be profit based or price based. In case of latter methods, profits are not considered but “derived” from prices and hence the adoption of ALP profits to determine what is “ordinary profits” for the purpose of Section 10A(7) cannot be justified.;
The Tribunal also considered the decision in the case of Tweezerman (India) Pvt Ltd1 wherein it was held that the AO was not justified to invoke provisions of Section 80IA(10) read with Section 10B(7) so as to reduce the eligible profits on the basis of the ALP computed by the TPO without showing how he determined that the tax payer had shown more than ordinary profits
Conclusion
The arm‟s length price cannot be applied to determine „ordinary profits‟ for computing the deduction allowable under Section 10A of the Income-tax Act, 1961(„Act‟)
This decision also needs to be viewed in light of the new provisions introduced by the Finance Bill 2012 relating to Specified Domestic Transaction („SDT‟) aimed at preventing abuse of tax beneficial deductions within the ambit of transfer pricing regulations.
Source: Visual Graphics Computing Services (India) Pvt Ltd vs.Assistant Commissioner of Income Tax, Chennai for AY 2007-08,
ITA No.2073/(Mds)/2011
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