Avenues Asia Advisors Pvt Ltd vs. DCIT (Delhi High Court)

Analysis of the decision in Rampgreen Solutions Private Limited v. Commissioner of Income Tax (2015) 377 ITR 533 (Del)

(i) The first and the foremost issue that arises in this case is with respect to the applicability of tests laid down in Rampgreen Solutions Private Limited v. Commissioner of Income Tax (2015) 377 ITR 533 (Del), which was rendered on 10th August, 2015. This decision has clearly laid down the various principles on the basis of which determination of comparables needs to be undertaken while fixing the ALP and the margin that needs to be assigned. This Court had specifically rejected the proposition that broad functionality is sufficient to find the comparable entity though the TNMM method allows broad flexibility tolerance in the selection of comparables. This proposition having been rejected, the Court in Rampgreen Solutions (supra) held as under:

“43. In our view, the aforesaid approach would not be apposite. In so far as identifying comparable transactions/entities is concerned, the same would not differ irrespective of the transfer pricing method adopted. In other words, the comparable transactions/entities must be selected on the basis of similarity with the controlled transaction entity. Comparability of controlled and uncontrolled transactions has to be judged, inter alia, with reference to comparability factors as indicated under rule 10B(2) of the Income Tax Rules, 1962. Comparability analysis by the transactional net margin method may be less sensitive to certain dissimilarities between the tested party and the comparables. However, that cannot be the consideration for diluting the standards of selecting comparable transactions/entities. A higher product and functional similarity would strengthen the efficacy of the method in ascertaining a reliable arm’s length price. Therefore, as far as possible, the comparables must be selected keeping in view the comparability factors as specified. Wide deviations in profit level indicator must trigger further investigations/analysis.

44. Consideration for a transaction would reflect the functions performed, the significant activities undertaken, the assets or resources used/consumed, the risks assumed. Thus, comparison of activities undertaken /functions performed is important for determining the comparability between controlled and uncontrolled transactions/entity. It would not be apposite to ignore functional dissimilarity only for the reasons that its impact may be reduced on account of using arithmetical mean of the profit level indicator.”

(ii) A perusal of the above decision reveals that the following steps ought to be undertaken in identification of comparable transactions/entities.

• The principle governing the identification of comparable transactions would be the same, irrespective of whichever transfer pricing method is adopted.

• Comparable transactions must be selected on the basis of a similarity with the controlled transaction/entity.

• Rule 10B (2) of the Income Tax Rules, 1962 ought to be borne in mind while choosing the factors of comparability in respect of uncontrolled transactions.

• Even while adopting the TNMM method, the standard for selection of the comparable transactions/entitles cannot be diluted.

• Wide deviation in the Profit Level Indicator (‘PLI’) would require further investigation/analysis.

• For comparison of transactions, factors such as the nature of capital, resources used, the risks assumed, etc. ought to be considered. Broadly, therefore, the dictum by this Court was that though in the TNMM method there is sufficient tolerance, mere broad functionality is by itself insufficient.