While exercising jurisdiction u/s 92CA(3), the TPO can only determine the ALP of an international transaction and cannot examine the allowability of the claim by applying the benefit test or the conditions as provided under Section 37(1) of the Act


The assessee, was engaged in the business of manufacturing textiles machines for textile manufacturers in India.  During AY 2007-08, the assessee, entered into several international transactions with its AE viz. for import of raw materials, spare parts and components, export of components of textile machinery, purchase of office equipment, payment of royalty and management fees and reimbursement of expenses.

For the purpose of benchmarking its aforesaid international transaction, the assessee consolidated all the international transactions and applied TNMM as the most appropriate method on an entity level basis and concluded that its aforesaid international transactions were at ALP.

The TPO segregated the royalty transaction by treating it as an independent international transaction.  TPO applied CUP method and determined the ALP of said royalty payment at Nil on the ground that the assessee had failed to demonstrate receipt of technology, consequential economic benefit and proof as to whether its other group concerns or third parties were being charged for the identical royalty payment.

On appeal, the CIT(A) deleted the aforesaid TP adjustment and also accepted the benchmarking methodology adopted by the assessee. 

The Tribunal held that that the TPO was not justified in making the TP adjustment by determining the ALP of royalty payment as NIL when the assessee had produced the agreement between the assessee and its AE under which license was granted to the assessee to use technical know-how belonging to the AE for the purpose of manufacturing activity. Further, the Tribunal also observed that the jurisdiction of the TPO was limited to determine the ALP of its international transactions and could not be extended further to examine the allowability of the claim by applying the benefit test or the conditions as provided under Section 37(1) of the Act.

Decision of HC

The Revenue raised following substantial question of law before the HC:

Whether in the facts and circumstance of the case, the Tribunal was right in holding that the Transfer Pricing officer is not right in treating ALP for royalty payment as NIL even though the TPO had clearly established that the assessee had not derived any benefit out of royalty payment?

The Karnataka High Court upheld the order of the Tribunal by observing that the issue whether the TPO while exercising jurisdiction u/s 92CA(3), can only determine the ALP of an international transaction was no longer a res integra as the same was already covered in favour of the assessee by the Hon’ble Delhi High Court in CIT vs. EKL Appliances Ltd. [2012] 24 taxmann.com 199 (Delhi) and Hon’ble Bombay High Court in CIT vs. Lever India Exports Ltd [2017] 78 taxmann. com 88 (Bombay). The HC also observed that the Revenue has not challenged the finding of the Tribunal that ALP of royalty should be benchmarked in an aggregate manner at the entity level under TNMM.  The Appeal of Revenue was dismissed.

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