JANUARY 15, 2019

By Hiral Raja

CHAPTER X of the Income Tax Act, 1961 deals with special provisions relating of avoidance of income tax. Section 92 states that any income arising from an international transaction shall be computed having regards to the arm's length price. Section 92F(ii) defines arm's length price as a price that is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions.

Section 92C deals with computation of arm's length price. It states that arm's length price in relation to an international transaction needs to be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or functions performed:

(a) Comparable uncontrolled price method;

(b) Resale price method;

(c) Cost plus method

(d) Profit split method;

(e) Transactional net margin method;

(f) Any other method.

Rule 10A, 10AB, 10C and 10CA prescribe the manner for adoption of most appropriate method and computation of arm's length price.

Further Section 92C requires the taxpayers to obtain accountants report in Form 3CEB confirming the determination of arms length price and such report is required to be filed by the taxpayers along with the return of income.

The assessing officer during the course of assessment can refer the computation of arm's length price in relation to any international transaction to the Transfer Pricing Officer (TPO). The report of the TPO is binding on the assessing officer and he has to prepare draft assessment order considering the arm's length computation done by the TPO. The Tax payer has a time limit of thirty days to accept the draft assessment order or raise objection against it. In case the tax payer accepts the draft assessment order, then the assessing officer can proceed to issue final assessment order which can be challenged by the tax payer before Commissioner (Appeals). However if the tax payer decides to raise objection to the draft assessment order, then he can file objections against the said draft assessment order before Dispute Resolution Panel (DRP) and the assessing officer can pass the final assessment order only after incorporating the findings in the order passed by the DRP. Hence in both the above cases, the taxpayer can challenge all the additions/adjustments (including computation of arm's length price) either before Commissioner (Appeals) or before Dispute Resolution Panel. The order passed by the Commissioner (Appeals) or assessing officer (pursuant to the DRP order) can be further challenged before Appellate Tribunal.

It needs to be noted that determination of Arm's length price is carried out by taxpayers and is validated by the Chartered Accountants while issuing Form 3CEB (which is filed along with the return of income). Also during the transfer pricing assessment, detailed transfer pricing study report highlighting the FAR analysis, selection of most appropriate method and approach for determination of arm's length price is submitted before the Transfer Pricing Officer.

As far as income department is concerned, the process of determination of Arm's Length price is undertaken by expert wing of Income Tax department i.e. Transfer Pricing officer. Further if the draft assessment order is objected, then said computation is once again confirmed/redetermined by Dispute Resolution Panel (Collegium of three commissioners) and in case final assessment order is issued and is appealed, then said computation is once again confirmed/redetermined by Commissioner (Appeals). In case appeal is filed either by the department or by the taxpayer against the order passed by DRP/Commissioner (appeals), then computation of arms length price is confirmed/redetermined by the Appellate Tribunal.

The moot question that arises for consideration is whether the issues pertaining to computation of arm's length price arising out of the order of Appellate Tribunal can be further challenged before High Court?

Hon'ble Karnataka High Court in the case of Principal Commissioner of Income Tax vs. M/s. Softbrands India Pvt. Ltd. - 2018-TII-54-HC-KAR-TP had an occasion to examine the said issue. In the said appeal, the issue raised before the Hon'ble High court was whether the appellate tribunal was right in rejecting certain comparables used by TPO while determining the arm's length price and whether the tribunal was right in applying the related party transactions filter @ 15% while identifying the comparables for determination of arm's length price? Hon'ble Karnataka high Court, post analyzing the provisions of Section 260A of the Income tax Act held as under:

(i) Provisions of Section 260A of the Income Tax Act:

a. U/s. 260A(1), an appeal shall lie to the High Court from every order passed in appeal by the Appellate Tribunal, if the High Court is satisfied that the case involves a substantial question of law. Section 260 (3) states that where the High Court is satisfied that a substantial question of law is involved in any case, it shall formulate that question.

b. Section 260A(3) further states that the appeal shall be heard only on the question so formulated, and the respondents shall, at the hearing of the appeal, be allowed to argue that the case does not involve such a question. However the High court can decide the appeal on any other substantial question of law not formulated by it, if it is satisfied that the case involves such question.

c. Section 260A(6) further states that the High Court may determine any issue which:

i. has not been determined by the Appellate Tribunal; or

ii. has been wrongly determined by the Appellate Tribunal by reason of a decision on such question of law as is referred to in subsection (1).

(ii) Post comparison of above said provisions of Section 260 A of the Income Tax Act, 1961 with provisions of Section 100 and 103 of the Code of Civil Procedure, 1908, it is clear that scheme of both Section 260A of the Income Tax Act, 1961 and Section 100 r/w Section 103 of the code of civil procedure are similar and pari materia in same terms. The requirement of existence of substantial question of law is sine qua non for maintaining an appeal before the High Court.

(iii) The High Court has a duty to formulate the substantial question of law and can also frame substantial question of law at a later stage, if such substantial question of law is involved in the appeal. High Court needs to hear the appeal and decide only on the substantial question of law framed by it.

(iv) The extended powers given to the High Court to decide an issue u/s. 260A (6) can be determined by the High Court only if the High court comes to conclusion that 'by reason of the decision on substantial question of law rendered by it', such a determination of issue of fact also would be necessary and incidental to the answer given by it to the substantial question of law arising and formulated by it.

(v) Both clause (a) and clause (b) of Section 260A(6) are circumscribed by the words 'by reason of a decision on such question of law as is referred to in subsection (1)'.

a. If an issue has not been determined by the Appellate Tribunal, which was required to be determined in terms of answer to the substantial question of law given by the High Court, such an issue not determined by the Tribunal could also be decided by the High Court.

b. If an issue has been wrongly decided according to the answer given by the High Court to a substantial question of law framed by it, then also the High Court can set it right to fall in line with the answer given by the High Court to such a question of law raised before it.

Subsection (6) does not give any extended power, beyond the parameters of substantial question of law to the High Court to disturb the finding of fact given by the Tribunal.

(vi) Reliance was also placed on various decisions of the Hon'ble Supreme Court with respect to the issues that can get covered under substantial question of law as well as to highlight that in absence of any demonstrated perversity in the findings of the Tribunal, the High Court cannot interfere and a finding of fact may give rise to substantial question of law, only if it is perverse.

(vii) Income tax Appellate Tribunal is the final and highest fact finding body under the Income Tax Act. It is manned by judicial members and Accountant members. The orders passed by the Appellate Tribunal should normally put an end to the findings of facts/factual aspects of assessment. While dealing with such issues, the Tribunal is expected to act fairly, reasonably and rationally and needs to scrupulously avoid perversity in the order and needs to reflect due application of mind while assigning the reasons for returning particular findings.

(viii) The dispute in case of computation of arm's length price arises predominantly on account of pairing and matching of comparables with the transfer pricing analysis done by the tax payers, while computing the arm's length price.

(ix) The issues pertaining to identification of comparables, short listings of them, applying of filters are all fact finding exercises and therefore Tribunal being final fact finding authority, the orders passed by the Tribunal on finding of facts are binding of the lower authorities as well as High Court. The High Court, while dealing with the appeals under section 260A cannot disturb such findings, unless such findings are ex-facie perverse and unsustainable and exhibit a total non- application of mind by the Tribunal to the relevant facts of the case and evidence before the Tribunal.

(x) High Court cannot be expected to undertake the exercise of computation of comparables itself which is essentially a fact finding exercise. If the High court takes the path of making such comparable analysis, it will drag the High court into whirlpool of data analysis and will defeat the purpose of provisions of Section 260A of the Income Tax Act.

(xi) The sustainable key to entering into the jurisdiction of High Court under section 260A of the Income Tax Act is existence of substantial question of law involved in the matter. The jurisdiction of the High Court u/s. 260A of the Income tax Act is only available in case of exfacie and perversity of the findings of the Tribunal duly established with relevant evidence and facts. Unless it is so, all other matters of factual finding, including the inconsistent view taken by the different Tribunals in different cases to determine aspects of determination of arm's length price depending upon the relevant facts available before it cannot lead to formation of substantial question of law.

(xii) Reliance was also placed on Madras High Court decision in case of Commissioner of Income Tax, Chennai Vs. Same Deutz-Fahr India (P) Ltd. - 2017-TII-104-HC-MAD-TP, Delhi High Court decision in case of Principal, Commissioner of Income Tax-9 Vs. WSP Consultants India (P) Limited - 2017-TII-88-HC-DEL-TP, Bombay High Court in the case of Commissioner of Income Tax, Pune vs. PTC Software (I) (P) Ltd. - 2016-TII-75-HC-MUM-TP confirming that inclusion of comparables and determination of arm's length price were questions of facts and unless a perversity is shown in the findings of the fact, no substantial question of law would arise for the High Court to entertain such an appeal.

Hence the above decision of the Karnataka High Court has given a clear verdict that the determination of arm's length price (including identification of comparables, filters etc) is a question of fact and hence litigations pertaining to such issues need to end at the level of Appellate Tribunal, being final fact finding authority. The High Court would not entertain appeal on such matters relating to determination of arm's length price and disturb the findings of the Tribunal, unless a perversity is shown in the findings of the facts considered by the Tribunal.

This decision will surely help in a long way to close the disputes pertaining to computation of arm's length price at the Appellate Tribunal level and will bring early certainty as well as avoid unnecessary prolonged litigation by taking such matters to the High Court and Supreme Court.

(The views expressed are strictly personal)