Manoj Kumar Aggarwal (Accountant Member)

1. Aforesaid appeal by assessee for Assessment Year (AY) 2013-14 arises out of final assessment order dated 26-09-2017 passed by Ld. Assessing Officer (AO) u/s 143(3) r.w.s. 144C pursuant to the directions of Ld. Dispute Resolution Panel-2, Bengaluru (DRP) u/s 144C(5) dated 13-09-2017. The assessee carried out certain international transactions with its Associated Enterprises (AE) which were subjected to determination of Arm’s Length Price (ALP) before Ld. Transfer Pricing Officer-2, Chennai (TPO) vide order dated 31-10- 2016. Incorporating the proposed adjustment, draft assessment order was passed by Ld. AO on 30-12-2016 which was subjected to further objections before Ld. DRP. Subsequently, final assessment order was passed by Ld. AO pursuant to the directions of Ld. DRP which is in further appeal before us. The grounds raised by the assessee read as under: -

1. General

On the facts and the circumstances of the case, the impugned order passed by the learned Deputy Commissioner of Income Tax / Assessing Officer ('AO') / Transfer Pricing Officer ('TPO') is erroneous and contrary to the principles of natural justice and bad in law

Grounds in relation to transfer pricing adjustment made by the AO/TPO The learned TPO and the learned AO, under the directions issued by the Hon'ble Dispute Resolution Panel ('DRP'):

2. Erred in law and on facts of the case in considering advertisement, marketing and promotion ('AMP') expenditure incurred by the Assessee wholly and exclusively for its domestic business operations within the realm of international transactions, and proposing an adhoc brand promotion fee of 1% amounting to INR 91,26,589, based on their own conjectures and surmises.

2.1 Erred in law by violating the provisions of Section 92C of theread with rule 10AB of Income Tax Rules, 1962 ('the Rules'), which explicitly requires that determination of arm's length price shall take into account the price which has been charged or paid, or would have been charged or paid, in similar uncontrolled transaction and under similar circumstances. The Ld. TPO has not determined or performed or shared any details of such uncontrolled transactions

2.2 Erred in law and on facts by applying an ad-hoc and hypothetical value amounting to 1 % of gross sales as the brand promotion fees, using the Other Method as per Rules 10AB of the Rules, without providing any comparable data to substantiate the arm's length basis as stipulated in Rule 10B(4),

2.3 Erred in law and on facts in stating that the Appellant's AMP expenses result in benefits to the Associated Enterprises (AEs) of the Appellant in various forms, without placing any evidence or material on record.

2.4 Erred in not appreciating that the Appellant is characterized as a fullfledged risk bearing distributor undertaking marketing and distribution functions on its own accord, based on economic and commercial factors prevailing in India

2.5 Erred in law and on facts in ignoring the fact that the AMP expenses incurred by the Appellant were in respect of its own business requirements and all the benefits resulting from such expenditure accrue to the Appellant directly (in the form of increased sales and market share). The TPO failed to appreciate that benefits, if any, accruing to the AEs are purely incidental.

2.6 Erred in not appreciating the fact that the "Roca" brand is a globally renowned brand developed over several decades by maintaining high standards of quality and service, and it is the Appellant which directly gains from associating itself with the "Roca" brand and not vice versa.

2.7 Erred in failing to establish the fact that there was any binding agreement /arrangement between the AEs and the Appellant which obligated the Appellant for rendering brand building services,

2.8 Erred in law and on facts in disaggregating the marketing function from the distribution function and separately considering the AMP expenses as an international transaction, even after accepting the arm's length nature of the margins earned by the Appellant in the distribution segment,

2.9 Erred in law and on facts in making the brand fee adjustment having reference to the reimbursement of advertisement and marketing costs received by the Appellant in AY 2009-10, without appreciating the start-up nature of the Roca operations of the Appellant in AY 2009-10 vis-a-vis the operations in AY 2013-14,

2.10 Erred in making an adjustment contrary to the position taken in a subsequent year wherein, for similar set of facts, upon submission of similar arguments in response to the show-cause notice issued for AY 2014-15, the TPO appreciated the economic and commercial rationale of the marketing and distribution functions performed by the Appellant and accepted the arm's length nature of the international transactions

Grounds in relation to corporate tax adjustments made by the AO

The learned AO, under the directions issued by the Hon'ble DRP:

3. Erred in law and on facts in applying Section 14A of theread with Rule 8D to disallow expenditure amounting to INR 7,411,181 stating that they were incurred in connection with earning exempt income, without appreciating the fact that the Appellant has not incurred any expenses towards earning exempt income

3.1 Erred in facts by misinterpreting that investments earning exempt income have been made out of borrowed funds instead of own funds / internal accruals. The Ld. AO/DRP failed to appreciate that borrowed funds in the nature of CCD's issued in FY 2008-09 were for specific purposes of acquisition of M/s. Glamouroom Taps Private Limited (which was later amalgamated with the company w.e.f 01.04.2008)

3.2 Erred in failing to establish nexus between interest expenditure and exempt income earned.

3.3 Erred in disregarding the fact that no expenditure has been incurred for the purpose of earning exempt income.

4. Erred in law and on facts in characterizing 'connectivity charges' paid by the Assessee as 'Royalty' and in disallowing such payments for short deduction of taxes under Section 40(a)(ia) of theamounting to INR 4,291,259.

4.1 Erred in law by disregarding the Hon'ble Tribunal decision in the Appellant's own case in I.T.A No. 1169/Mds/2014 for AY 2009-10, wherein the identical issue was considered and held that such payments towards connectivity expenses could not be disallowed on account of short deduction of taxes under section 40(a)(ia) of the.

5. Erred in law in disallowing the claim of provision created towards slow / nonmoving and obsolete inventory amounting to INR 9,594,639 under Section 36 of the.

5.1 Erred in law and facts in failing to appreciate that the provision was not a mere estimate and were created on scientific basis and consistently following the principles prescribed under the Accounting Standards issued by the ICAI.

6. Erred in law and on facts in disallowing the claim of depreciation on software amounting at the rate of 60 percent restricting the same to 25 percent applicable to the block 'intangible assets' amounting to INR 4.647,480.

6.1 Erred in law by disregarding the rate of depreciation prescribed under Part A (III) (5) of New Appendix I to the Income-tax Rules, 1962 ('the Rules') with respect to software.

7. Erred in law on facts in disallowing claim of provision created for VAT assessment demand amounting to INR 900,000 under section 36 of the.

7.1 Erred in law and on fact by disallowing the provision for VAT assessment demand contending that the expenditure is not relatable to the impugned assessment year

7.2 Erred in appreciating the fact that the Company remitted the demand within the due date of filing return under section 139(1) of theand accordingly eligible for claim under section 43B of the.

8. Erred in law and on facts in Initiating penalty u/s 271(1)(c) of the

8.1 Erred in law and on facts in initiating penalty u/s 271(1)(C) pf the that an adjustment which has resulted from a mere difference of opinion between the learned AO / Transfer Pricing Officer ('TPO') and the Appellant

8.2 The AO failed to appreciate that the Appellant had acted in good faith and with due diligence, and therefore it was not a case of deemed concealment in terms of Explanation 7 to section 271(1)(c) of the

8.3 The Appellant craves leave to add, alter, amend and/or withdraw any of the above grounds of appeal and to submit such statements, documents and papers as may be considered necessary either at or before the hearing of this appeal as per law.

2. Group No.1 is general in nature. Ground No.8 does not call for specific adjudication on our part. For ease of adjudication, the issues that fall for our consideration could be grouped as under: -

3. The Ld.AR advanced arguments and placed on record earlier orders of the Tribunal in support of submissions. The Ld. CIT-DR also advanced arguments and controverted the submissions made by Ld. AR. Having heard rival submissions and after due consideration of relevant material on record, our adjudication would be as under. The assessee being resident corporate assessee is stated to be engaged in manufacturing and distribution of a wide range of bathroom products such as sanitaryware, tap fittings, tiles and other allied products under the flagship brands “parryware” and “Roca”. The sanitaryware and other allied products include vitreous sanitaryware, seat covers, plastic cisterns, bath tubs, kitchen sinks and electronic flushing systems etc.

4. TP adjustment on AMP expenditure

4.1 The Ld. TPO noted that the assessee incurred advertisement expenditure as under: -

The Ld. TPO show caused the assessee as to why 1% of gross sales be not considered as brand building exercise for AE as done in last year.

4.2 The assessee submitted that the AMP expenses were less than that of comparable companies and there was no legal basis for this adjustment. The assessee also relied on the decision of Hon’ble Delhi High Court in the case of Maruti Suzuki India Ltd. (MSIL) to substantiate its claim that adjustment on account of AMP expenditure cannot be made. However, Ld. TPO maintained the position that any expenditure incurred to promote the brand per se promotes an intangible whose ultimate beneficiary is a foreign entity. There was a possibility of having arrangements where expenses are debited to one entity in one country and gains are enjoyed by another entity in another country. By incurring such expenditure, the value of brand increases. On one hand the assessee was not getting any compensation for promoting the brand of its parent company in any form whereas on the other hand, the assessee was being charged for all kinds of services. The brand building adds to the value of the marketing intangibles and in due course of time the benefits of the same accrue to the AE in the form of higher royalty, higher sale of raw material, spares, higher technical fees and dividends etc. Accordingly, rejecting the claim of the assessee, Ld. TPO estimated such compensation at 1% of relevant sales which led to impugned adjustment of Rs.91.26 Lacs. The same, upon confirmation by Ld. DRP, is in further appeal before us.

4.3 From the facts, it emerges that this adjustment made by Ld. TPO is primarily guided by adjustment made in the earlier years. Similar issue, in AY 2012-13, has been adjudicated by this Tribunal in ITA No.3328/Chny/2016 dated 29.05.2018 in assessee’s favor for the reason that determination as done by Ld. TPO at 1% of gross sales is adhoc figure and not a figure arrived by calculation or method as provided in Sec. 92C(1) much less Rule 10AB of Income Tax Rules, 1962. Therefore, the adjustment so made without following any prescribed method is not sustainable and accordingly, deleted. We find that similar factual matrix exist in this year. The Ld. TPO has merely presumed that there exist an arrangement between the assessee and its AE for promotion of the brand. No such arrangement has been shown to us. Therefore, taking a consistent stand in the matter, the impugned adjustment stand deleted. The corresponding grounds stands allowed.

5. Disallowance u/s. 14A of the:

5.1 The assessee earned exempt dividend income of Rs.480.78 Lacs whereas the assessee debited interest expenditure of Rs.387.70 Lacs. Accordingly, Ld. AO proceeded to make disallowance u/s.14A of the rejecting assessee’s plea that it had not availed any loan for investment and the investments were out of own funds. The various other pleas were also rejected. Finally, applying Rule 8D, Ld. AO computed disallowance of Rs.74.11 Lacs which was interest disallowance u/r 8D(2)(ii) for Rs.44.63 Lacs and indirect expense disallowance u/r 8D(2)(iii) for Rs.29.47 Lacs. The Ld. DRP confirmed the same against which the assessee is in further appeal before us. 5.2 We find that similar issue in AY 2012-13 has been adjudicated by Hon’ble Madras High Court (TCA No.775 of 2018 dated 04.12.2018) as under: -

13. The Assessing Officer is required to decide as to whether it was correct for disallowing the interest on debentures under Section 14A of the act when the assessee’s case is that the interest expenditure was incurred on debenture issued in the financial year 2008-09 for the specific purpose of acquiring the company in the past and not for investment in future. Furthermore, the assessing officer has to consider the submission of the assessee that the interest incurred by the assessee is specifically towards acquisition of shares in M/s Glamouroom Taps Pvt. Ltd. which company subsequently stood amalgamated with the assessee company and such amalgamation has been approved by the court with effect from 01.04.2008. We make it clear that the assessing officer shall take an independent decision in the matter without being any manner influenced with the observation made or the directions issued by the DRP on 31.08.2016 or by the Tribunal in its order dated 15.03.2017.

Respectfully following the same, the issue of disallowance u/r 8D(2)(ii) as well as u/r 8D(2)(iii) stand restored back to the file of Ld. AO on similar lines. The Ld. AO shall take consistent view as taken on AY 2012-13 on this issue. This ground stand allowed for statistical purposes.

6. Disallowance u/s. 40(a)(ia) of the:

6.1 The assessee paid Rs.42.91 Lacs towards connectivity expenses for dedicated leased lines provided by various vendors and deducted TDS @ 2%. However, the Ld. A.O opined that the tax should have been deducted at 10%. Accordingly, there was short deduction of tax. Considering the same, the AO disallowed the expenditure of Rs.42.91 Lacs u/s. 40(a)(ia) of the. The Ld. DRP confirmed the same against which the assessee is in further appeal before us. 6.2 We find that this issue is covered in assessee’s favor. The Tribunal, in latest decision for AY 2012-13, ITA No.3328/Chny/2016 dated 29.05.2018, relying upon decision for AY 2009-10 (ITA No.1169/Mds/2014 dated 18.12.2015), held that disallowance u/s 40(a)(ia) is not attracted in case of short deduction of tax at source. Respectfully following the consistent view of Tribunal, the impugned disallowance stand deleted.

7. Disallowance of provision for inventory

7.1 The assessee created provision of Rs.95.94 Lacs towards provision for inventories which was stated to be towards slow moving and obsolete traded goods on account of diminishment in the value of stock held in the course of business. The opening balance in the provision as on 01.04.2012 was Rs.1391.98 Lacs which was increased by further provision of Rs.95.94 Lacs made during the year giving closing provision as on 31.03.2013 for Rs.1487.93 Lacs. The Ld. AO held that there was no such section which specifically allows deduction of provision of inventories and accordingly, denied the deduction so claimed by the assessee. The Ld. DRP upheld the action of Ld. AO against which the assessee is in further appeal before us.

7.2 From the financial statements of the assessee, it could be ascertained that the assessee is valuing the inventories at lower of cost price or net realizable value which is prescribed method of valuation of inventories. The Ld. AR has submitted that same method has been adopted to value the inventories. This being the case, no further deduction of provision would be admissible to the assessee since any decrease in value of inventories at year-end would subsume in method of valuation as adopted by the assessee. In other words, when the valuation is done on lower of cost or net realizable value then any decrease in value of obsolete or slow moving stock on valuation date would automatically take care of the loss suffered by the assessee on this account. Accordingly, a separate provision made, in this regard, could not be allowed to the assessee. The Ld. AR has cited many case laws to support this deduction. However, in the given factual matrix, the same are not applicable. Therefore, the adjustment made by Ld. AO, in this regard, could not be faulted with. The corresponding grounds raised by the assessee stand dismissed.

8. Depreciation on software:

8.1 The assessee claimed depreciation @ 60% on software. However, Ld. AO held that the same would be eligible for depreciation @ 25% only and accordingly, added the differential of Rs.46.47 Lacs to the income of the assessee. The Ld. DRP upheld the action of Ld. AO against which the assessee is in further appeal before us.

8.2 We find that softwares as purchased by the assessee are necessarily to be used along with computers and are eligible for depreciation of 60%. This view has been taken by Chennai Tribunal in ACIT vs. M/s TVS Finance & Services Ltd. (ITA No.1094/Mds/2011 dated 31.01.2012). The bench, noticing the entries in Appendix I of Income Tax Rules, 1962, held that the rate of depreciation mentioned at III(5) for computers including computer software would be 60%. Considering the same, we direct Ld. AO to allow depreciation of 60% on software.

9. Provision for VAT assessment demand:

9.1 The assessee debited a sum of Rs.9 Lacs under the head ‘Rates and Taxes’, which was provision for VAT demand of earlier years for non- submission of statutory ‘C’ forms. It was stated that the assessee was served with notices for payment of demand on 04.04.2013 along with assessment orders for financial year 2006-07, 2007-08 and 2008- 09 and accordingly, the assessee was aware of the probable demand. Hence, the provision was created. However, Ld. AO denied the deduction which was upheld by Ld. DRP. Aggrieved, the assessee is in further appeal before us.

9.2 From the fact, it emerges that this liability pertains to earlier years. In such a case, the same could be allowed to the assessee only upon crystallization of the liability. From assessee’s submissions, it is quite clear that the liability has been crystalized only on 04.04.2013 and therefore, the deduction of mere provision in this year could not be allowed to the assessee. It is very clear that this is a prior period item and the liability, in this respect, has not crystallized during this year. Therefore, the corresponding grounds stand dismissed. No other ground has been urged in the appeal.

Conclusion

10. The appeal stand partly allowed to the extent indicated in the order.