Consulting Engineering Corporation vs. JDIT (ITAT Delhi)

DATE: October 31, 2014 (Date of pronouncement)
DATE: November 3, 2014 (Date of publication)
AY: 2003-04
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(i) As the work done by the branch in India required high technical and managerial skill, it is not preparatory and auxiliary work of a back office but constitutes a permanent establishment (ii) Attribution of profits under Rule 10B(2) on the basis of the H.O's profits in the absence of data on uncontrolled transactions is proper, (iii) As risks were shared by the H.O. and the PE, 50% 50% of the profits determined as per rule 10 are attributable to operations carried out by the PE in India

(i) The benefit of the ratio of first part of Morgan Stanley and Co. Inc. (2007) 292 ITR 416 (SC) is not available for the assessee as on careful examination of activities and modus operandi of the assessee, we have reached to a conclusion that the important work assigned to Indian branch office was preparation of drawing, designs and doing structural calculations which require high technical and managerial skill, therefore, this important facet of the Indian Brach cannot be said to be a preparatory and auxiliary work of a back office but at the same time, we note that the US office minimise their cost of services and other expenses by assigning and appointing highly technical and materially skilled professional to discharge main function of US Head office in India at low cost. The Apex Court in Morgan Stanley (supra) in para 15 held that even employees which are highly experienced in their specialised fields lends their expertise to Indian entity in that that sense there is a service PE under Article 5(2)(1) of Indo-US DTAA. Consequently, the assessee is a PE in India as per provisions of Article 5(2)(b) and (c) of Indo-US DTAA;

(ii) Coming to the issue of attribution of profits to PE in India, the transfer pricing analysis report shows that the assessee itself has adopted the mark up to the cost at 1.83% and at the same time, the AO found that the net profit earned by the Head Office of the assessee in US tax return was 8.5% which was based on sales. The revenue authorities have observed that the assessee has not submitted record of uncontrolled transactions and the record of analysis, how the uncontrolled transactions are comparable to the case of the assessee as per requirement of Rule 10B(2) of the Income Tax Rules, 1962. In this situation, the AO was right in adopting the profit of 8.5% for AY 2003-04 and 10.6% for AY 2004-05 to calculate attributable profit;

(iii) The AO has not brought out any fact or material into existence that the risk of marketing and quality control activity have taken place and all developmental activities have taken place in India. In this situation, it cannot be said that risk is involved exclusively either on the Head office or on the PE branch office in India. Obviously, from stage of discussion and obtaining the contract till its final marketing to the respective client have been undertaken by the US Head office but at the same time this fact cannot be ignored that the PE branch office in India contributed towards all development activities at the cheaper cost of service and human resources in comparison to USA, therefore, we are of the view that for earning higher profit in comparison to USA, comparable companies as adopted in transfer pricing study, the US Head office earned higher profit due to low cost of services and human input by Indian PE. At the same time, although we note that the risk factor was also borne by the Indian PE branch, we also note this fact that certain risk in regard to capital investment, bad debts and other legal obligations were borne by the US Head office, therefore, the AO rightly adopted the global profit of the US Head office for benchmarking the percentage of profit and the AO attributed 100% profit to the Indian PE. The CIT(A) has taken into account this very fact that the Indian branch takes some risk as the important drawing and designing calculations are carried out by the Indian company and impliedly other risks as stated above were taken by the US Head office and, therefore, in the totality of these facts and circumstances, the CIT(A) was justified in holding that 50% of the profits determined by the AO after applying rule 10 were to be attributable to the operations carried out by the PE in India.

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