Transfer Pricing: TNMM under Rule 10B(1)(e) contemplates ALP determination with reference to the relevant factors (cost, assets, sales etc.) of the assessee and not those of the AE or third party. Assessee’s study report cannot be discarded without showing how it is wrong. Finding that assessee is a risk bearing entity should be based on tangible material

The assessee’s compensation model is based on functions performed by it and the operating costs incurred by it and not on the cost of goods sourced from third party vendors in India. Allotting a margin of the value of goods sourced by third party customers from Indian exporters/vendors to compute the assessee’s profit is unjustified. To apply the TNMM, the assessee’s net profit margin realized from international transactions had to be calculated only with reference to cost incurred by it, and not by any other entity, either third party vendors or the AE. Rule 10B(1)(e) does not enable consideration or imputation of cost incurred by third parties or unrelated enterprises to compute the assessee’s net profit margin for application of the TNMM. Rule 10B(1)(e) contemplates a determination of ALP with reference to the relevant factors (cost, assets, sales etc.) of the enterprise in question, i.e. the assessee, as opposed to the AE or any third party. The approach of the TPO in essence imputes notional adjustment/income in the assessee’s hands on the basis of a fixed percentage of the FOB value of export made by unrelated party venders

S. 14A & Rule 8D: Expenditure on acquiring shares out of “commercial expediency” & to earn taxable income cannot be disallowed

The assessee borrowed funds and invested Rs 6 crore in shares of subsidiary companies. It claimed that the said subsidiaries were Special Purpose Vehicles (SPVs) formed out of “commercial expediency” in order to obtain contracts from the NHAI and that the SPVs so formed engaged the assessee as contractor to execute the works awarded to them (i.e. SPVs) by the NHAI. It was pointed that the turnover from the execution of the contracts was shown in the P&L A/c. It was claimed that the interest attributable to the investments made by the assessee in the SPVs could not be disallowed u/s 14A read with Rule 8D because it could not be termed as expense /interest incurred for earning exempted income. The CIT(A) and Tribunal (order attached) upheld that assessee’s claim and held that as the investments in the shares were made out of “commercial expediency” the expenditure incurred for that purpose could not be disallowed u/s 14A and Rule 8D. On appeal by the department to the High Court HELD dismissing the appeal:

CIT-DR’s behaviour termed “totally irresponsible, contemptuous and malicious”. Costs imposed & action for contempt of court to be initiated

In a rare and unfortunate incident of conflict between the Departmental Representatives and the Bench, the ITAT has passed severe strictures against the CIT-DR. Apparently he was not present in the court room when the matters were called out for hearing. Adjournment applications were also not filed. When he did appear, he was not prepared to argue the matter. When the Bench rejected his application for time and decided to hear the matter he alleged “in a malicious and contemptuous manner” that the “Bench is hurrying the justice and burying the justice”. After the hearing, he barged into the Chamber of the Sr. Member without permission and threatened that the Bench has insulted him and that he is going to lodge a complaint against them. The Bench has stated that the unprovoked utterances from the CIT-DR has come as a shock to them and that it cannot be taken lightly. It stated that the CIT-DR is not aware of his responsibilities, court discipline, procedure and proper court mannerism. It has termed his accusation that the Bench was hurrying justice and burying the justice as being “totally irresponsible, contemptuous and malicious” and against the glaring facts and proceedings which happened in the open court. It has stated that the CIT-DR’s behaviour deserves to be visited with appropriate action to “inculcate sense of judicial discipline and awareness of responsibilities of duties and further to protect the dignity of the court, which stands offended by the contemptuous conduct” It has directed the CIT-DR to pay costs of Rs 1000 which should be deducted from his salary. The Registry has been directed to forward a copy of the order to the CCIT and the CBDT Chairman for appropriate action. It has also directed that separate and appropriate action for initiating contempt of court proceeding would be taken in due course

Loss from shares dealing cannot be deemed to be from “speculation” under Explanation to s. 73 if company is not engaged in the “business” of shares dealing

The assessee was engaged in the business of trading of crafts paper, installation, job work, consultancy and commission. By all means, the transaction whereby it purchased the shares and incurred loss on account of the fall in the value of the share was a solitary one. The findings of the Tribunal that the transaction did not constitute the business carried on by the company, cannot be termed as perverse or unreasonable. No substantial question of law arises (Standipack 350 ITR 251 (Cal) noted)

S. 271(1)(c) penalty cannot be levied if the assessee discharges the primary burden by a cogent explanation and the AO is unable to rebut it. MAK Data (SC) explained

Merely because the assessment proceedings have been confirmed does not automatically mean that penalty u/s 271(1)(c) is justified. Unless the case is strictly covered by s. 271(1)(c), penalty cannot be invoked. For sustaining penalty, the bona fide explanation of the assessee must be looked at so that the contumacious conduct of the assessee for the purpose of sustaining the penalty would be taken as condition that is the main requirement u/s 271(1)(c). In Mak Data P. Ltd vs. CIT the Supreme Court held that when a difference is noticed by the AO between the reported and assessed income, the Explanation to Section 271(1) raises a presumption of concealment and the burden is on the assessee to show otherwise, by cogent and reliable evidence. When the initial onus placed by the Explanation has been discharged by the assessee, the onus shifts on the Revenue to show that the amount in question constituted undisclosed income. On facts, the onus cast upon the assessee has been discharged by giving a cogent and reliable explanation. If the department did not agree with the explanation, the onus was on the department to prove that there was concealment of particulars of income or furnishing inaccurate particulars of income. Such onus has not been discharged by the department and so the Tribunal’s finding cannot be interfered with (Dharmendra Textiles Processors 306 ITR 277 (SC) & Reliance Petroproducts 322 ITR 158 (SC) referred)

Bar in s. 129(6) on ex-Members practising before CESTAT does not apply to Members demitting office on probation

The bar under s. 129(6) that a Member “on ceasing to hold office” shall not be entitled to appear, act or plead before the Tribunal is applicable to a Member holding the post on substantive basis and not to a person demitting office as a probationer. The word ‘probation’ means the testing of the character, conduct or abilities of a person. A Member on probation cannot be said to be “holding office” because he has no vested right in the said office. The Service Rules also show that a distinction has been made between the appointment of a Member who is on probation and a Member who is confirmed. Also, the fact that the respondent sought a change in the place of posting and sought clarification does not mean that he had not unconditionally accepted the offer of appointment

Transfer Pricing: Existence of income is a jurisdictional requirement for the applicability of T. P. provisions & the AO must deal with it after giving personal hearing before making reference to TPO

It is clear from s. 92(1) that there must be income arising/ potentially arising by an international transaction for the application of the transfer pricing provisions. This is a jurisdictional requirement and has to be dealt with by the AO when specifically raised by the assessee before making reference to the AO. Grant of personal hearing before referring the matter to the TPO has to be read into s. 92CA(1) in cases where the very jurisdiction to tax under Chapter X is challenged by the assessee (Veer Gems 351 ITR 35 (Guj) disagreed with to the extent it holds that no hearing is required at the stage of reference to the TPO even on jurisdictional issues). If, after the hearing the assessee, the AO holds that there is an international transaction, that would be binding on the TPO

S. 37(1): Expenditure on acquiring master copy of software subject to obsolescence is deductible as revenue expenditure

The assessee’s claim that the master copies had high accelerated obsolescence and that even at the point of time of import it was difficult to say whether the version would be replaced by a new or updated version after one day or a month had not been disproved. Also the facts showed that there were periodical imports of the master copies and that the average price per copy was minimal. This was not a case where the master copies contained operating or system software, which normally did not require frequent up-gradation or changes. It is also not the case of an assessee which is the end user of software. It is a case where the assessee is required to repeatedly pay for the master copy media in view of frequent newer or updated versions of the application software from time to time. Once newer or better version of the application software is available, the earlier version is not saleable and does not have any market value for the seller i.e. the assessee. Also, as per the “matching concept” in accountancy, while determining whether expenditure is capital or revenue in nature, the question whether the expenditure would create an asset which is of value in further assessment periods and should be amortised (i.e. depreciated) as long as it has value (subject to the statutory provisions) requires to be considered. If the expenditure does lead to creation of an asset but of a limited or short life, it has to be treated as a liability and not as a fixed asset. The said expenditure cannot be valued for price for future financial years (Ashahi India Safety Glass 346 ITR 329 (Del), G.E. Capital Services 300 ITR 420 (Del), O.K. Play 346 ITR 57 (P&H), IAEC Pumps 232 ITR 316 (SC) referred)

Amount received by partner on his retirement is not chargeable to tax as capital gains

The Tribunal has correctly referred to the fact that N.A. Mody 162 ITR 420 (Bom) followed Tribhuvandas G. Patel 115 ITR 95 and that the same has been reversed by the Apex Court in Tribhuvandas G. Patel 263 ITR 515. This Court in Prashant S. Joshi 324 ITR 154 (Bom) has also referred to the decision of Tribuvandas G. Patel rendered by this Court and its reversal by the Apex Court. Moreover, the decision of this Court in Prashant S. Joshi placed reliance upon the decision of the Supreme Court in CIT v/s. R. Lingamallu Rajkumar 247 ITR 801 wherein it has been held that amounts received on retirement by a partner is not subject to capital gains tax

S. 9(1)(vi)/ Article 12: Equipment rental is taxable as “royalty” even if payer does not have control. The retrospective insertion of Explanation 5 to s. 9(1)(vi) is purely clarificatory

The High Court had to consider the following issues in the context of a bare-boat charter of a shipping vessel from a foreign party, the income whereof was held assessable as “royalty” u/s 9(1)(vi) & Article 12 in the hands of the foreign party: (i) whether the expression ‘use or right to use‘ in clause (iva) of Explanation 2 to s. 9(1)(vi) & Article 12 of the DTAA requires that there should be a “transfer of effective control for use” in favour of the lessee?, (ii) what is the impact of the retrospective insertion of Explanation 5 to s. 9(1)(vi) on the taxability of equipment royalty?, (ii) whether a ship can be regarded as “equipment”?, (iii) whether if the ship is used for plying between coastal waters, it can be said to be used for “international traffic”?, (iv) whether the two berths reserved for the ships chartered by the assessee can be said to be a “permanent establishment” of the foreign owner? & (v) whether a person who is treated as an “agent” u/s 163 can also be proceeded against u/s 201 for failure to deduct TDS?