IN THE HIGH COURT OF PUNJAB AND HARYANA AT CHANDIGARH. C.W.P. No.16681 of 2005 Date of decision: 17.12.2008 M/s Coca Cola India Inc. -----Petitioner Vs. Assistant Commissioner of Income Tax, Gurgaon & others. -----Respondents CORAM:- HON'BLE MR JUSTICE ADARSH KUMAR GOEL HON'BLE MR JUSTICE L.N. MITTAL Present:- Mr. Anuj Berry, Advocate & Mr. Vikas Suri, Advocate for the petitioner. Mr. Yogesh Putney, Sr. Standing Counsel for respondents. ----- Adarsh Kumar Goel,J.: 1. This petition questions application of Transfer Pricing Provisions in Chapter X of the Income Tax Act, 1961 (for short, “the Act”) to the petitioner and quashing of notices under Sections 148 and 92 CA(3) of the Act. 2. Case set out in the petition is that the petitioner is a company incorporated under the laws of United States of America C.W.P. No.16681 of 2005 and is, thus, a foreign company under Section 2(23A) of the Act. It has a Branch office in India. It is a part of International Coca Cola corporate group. The said group has other companies operating in India incorporated under the Companies Act, 1956. 3. The petitioner obtained permission under Section 29(1)(a) of the Foreign Exchange Regulation Act, 1973 (FERA) to operate a Branch office in India to render services to Coca Cola Group companies, as per conditions mentioned in the application for the said permission. There is a service agreement between the petitioner on the one hand and Britco Foods Company Private Limited (Britco) on the other. As per the said agreement, the petitioner provides advisory services to Britco to advise, monitor and coordinate the activities of bottlers, in consideration of which the petitioner receives fee calculated on the basis of actual cost plus 5%. The petitioner was assessed under the Act for the assessment year 1998-99 on 31.3.2004. The Assessing Officer, however, formed an opinion that income of the petitioner, chargeable to tax for the said year, had escaped assessment within the meaning of Section 147 of the Act. A notice dated 30.3.2005 was issued under Section 148 of the Act, requiring the petitioner to file a return and thereafter, some further information was sought from the petitioner for the purpose of assessment. The petitioner filed reply to the said notice, seeking 2 C.W.P. No.16681 of 2005 reasons for proposed reassessment. The reasons indicated that the Assessing Officer referred to Section 92 of the Act, which enables the Assessing Officer to determine profits which may reasonably deemed to have been derived, when less than ordinary profits are shown to have been derived by a resident. It was further stated in the said reasons that as per order dated 7.2.2005 under Section 92 CA (3) for the assessment year 2002-03, passed by the Transfer Pricing Officer-I, the profit declared by the petitioner was abnormally low, on account of which arm’s length price had been fixed. On that account, the income of the assessee had escaped assessment. Similar notices were issued for the assessment years 1999-2000, 2000-01 and 2001-02. 4. On July 14, 2005, notice under Section 92CA(3) of the Act was issued by the Additional Commissioner of Income Tax acting as Transfer Pricing Officer, on a reference made by the Assessing Officer under Section 92CA(1) of the Act for the assessment year 2003-04, to determine arm’s length price. Identical notices were issued for the assessment years 2004-05, 2005-06 and 2006-07. The Assessing Officer made assessment in respect of income of the petitioner for the assessment year 2002-03 vide order dated 24.3.2005 after getting determined arm’s length price of services rendered by the petitioner to its associated company, thereby 3 C.W.P. No.16681 of 2005 enhancing the income of the assessee. Against the said order, the petitioner has preferred an appeal which is still pending before the appropriate authority. 5. The petitioner filed the present writ petition in this Court on 19.10.2005. On 21.10.2005, notice was issued to the respondents and vide order dated 18.11.2005, stay of passing of final order for the assessment years 2003-04, 2004-05, 1998-99 to 2001-02 was granted. Similarly, on 15.12.2006, stay of passing of final order for the assessment year 2005-06 was granted and permission to amend the petition was also granted to challenge notice in respect of the said year. Similarly, on 26.5.2008, stay of passing of final order for the assessment year 2006-07 was granted. The petitioner has further amended the petition to challenge the notice in respect of assessment year 2006-07, which amendment has been allowed by a separate order. 6. Main contention raised in the writ petition is that provisions of Chapter X i.e. Sections 92 to 92F of the Act have been enacted with a view to prevent diversion of profits in intra-group transactions leading to erosion of tax revenue. The said provisions have been incorporated vide Finance Act, 2001 and further amended vide Finance Act, 2002. Having regard to the object for which provisions have been enacted, applicability of the said provisions has 4 C.W.P. No.16681 of 2005 to be limited to situations where there is diversion of profits out of India or where there may be erosion of tax revenue in intra group transaction. In the present case, there is neither any material to show diversion of profits outside India nor of erosion of tax revenue. If the price charged was less and profit of the petitioner was less, there was corresponding lesser claim for deduction by Britco. Question of diversion of profits out of India would arise only if price charged is higher and that too if the higher profit is not subject to tax in India, which is not the situation in the present case. Further contention is that there was no occasion for determining arm’s length price as the price determined by the petitioner itself is as per Section 92 (1) and (2) of the Act i.e. cost plus 5%. In such a situation, there was no occasion to make reference to the Transfer Pricing Officer. Even if the reference was sought to be made, the petitioner was entitled to be heard before such a decision is taken, so that it could show that reference to Transfer Pricing Officer was not called for. In objecting to notices for reassessment, contention raised is that provisions of Chapter X having been introduced only from 1.4.2002, there could be no reassessment for the period from 1.4.1997 to 31.3.2001. It is pointed out that prior to amendment w.e.f. 1.4.2002 under Section 92 of the Act, there was a provision for determination of reasonable profits deemed to have been derived by a resident and not a ‘non 5 C.W.P. No.16681 of 2005 resident’. Amended provision could not be applied to the petitioner for the period prior to 31.3.2001. 7. In the reply filed on behalf of the respondents, the impugned notices and orders have been defended. 8. As regards the period prior to assessment year 2002-03, when amended provisions of Chapter X were not operative, stand of the respondents is that the petitioner suppressed its profit in its transactions with its associated companies, which was clear from the proportion of amount of working capital employed to the declared profit and this resulted in escapement of income within the meaning of Section 147 of the Act. 9. As regards the period for and after the assessment year 2002-03, it was submitted that the said Chapter was applicable to the petitioner as the petitioner had entered into “international transaction” within the meaning of the said provisions with its “associated enterprises”. There was no condition that the said Chapter could apply only if the parties were not subject to the tax jurisdiction in India. Only requirement is that atleast one of the parties should be non-resident, apart from other requirements in the said chapter. 10. Following questions arise for consideration:- 6 C.W.P. No.16681 of 2005 (i) Whether inapplicability of unamended provisions of Section 92 of the Act (as it stood prior to 1.4.2002) to the petitioner created a bar to reassessment of escaped income of the petitioner (ii) Whether order passed by Transfer Pricing Officer under Chapter X after 1.4.2002 could be one of the reasons for reassessment for period prior to introduction of amended Chapter X in the Act? (iii) Whether provisions of Chapter X are attracted when both the parties to a transaction are subject to tax in India, in absence of allegation of transfer of profits out of India or evasion of tax?” (iv) Whether opportunity of being heard is required before referring the matter of determination of arm’s length price to Transfer Pricing Officer? 11. Before we consider the above questions, it will be appropriate to reproduce the relevant statutory provisions of Section 92 (unamended), Section 147, Section 92 (amended) to Section 92F (amended). Section 92 (unamended):- 7 C.W.P. No.16681 of 2005 “Where a business is carried on between a resident and a non-resident and it appears to the Assessing Officer that, owing to the close connection between them, the course of business is so arranged that the business transacted between them produces to the resident either no profits or less than the ordinary profits which might be expected to arise in that business, the Assessing Officer shall determine the amount of profits which may reasonably be deemed to have been derived therefrom and include such amount in the total income of the resident.” Section 147:- “If the Assessing Officer has reason to believe that any income chargeable to tax has escaped assessment for any assessment year, he may, subject to the provisions of sections 148 to 153, assess or reassess such income and also any other income chargeable to tax which has escaped assessment and which comes to his notice subsequently in the course of the proceedings under this section, or recompute the loss or the depreciation allowance or any other allowance, as the case may be, for the assessment year concerned (hereafter in this section and in sections 148 to 153 referred to as the relevant assessment year) : Provided that where an assessment under sub-section (3) of section 143 or this section has been made for the relevant assessment year, no action shall be taken under 8 C.W.P. No.16681 of 2005 this section after the expiry of four years from the end of the relevant assessment year, unless any income chargeable to tax has escaped assessment for such assessment year by reason of the failure on the part of the assessee to make a return under section 139 or in response to a notice issued under sub-section (1) of section 142 or section 148 or to disclose fully and truly all material facts necessary for his assessment for that assessment year. Explanation 1 : Production before the Assessing Officer of account books or other evidence from which material evidence could with due diligence have been discovered by the Assessing Officer will not necessarily amount to disclosure within the meaning of the foregoing proviso. Explanation 2 : For the purposes of this section, the following shall also be deemed to be cases where income chargeable to tax has escaped assessment, namely :- (a) Where no return of income has been furnished by the assessee although his total income or the total income of any other person in respect of which he is assessable under this Act during the previous year exceeded the maximum amount which is not chargeable to income-tax; (b) Where a return of income has been furnished by the assessee but no assessment has been made and it is noticed by the Assessing Officer that the assessee has understated the income or has claimed excessive loss, deduction, allowance or relief in the return; 9 C.W.P. No.16681 of 2005 (c) Where an assessment has been made, but - (i) Income chargeable to tax has been underassessed; or (ii) Such income has been assessed at too low a rate; or (iii) Such income has been made the subject of excessive relief under this Act; or (iv) Excessive loss or depreciation allowance or any other allowance under this Act has been computed.” Section 92 to 92F:- “92.(1) Any income arising from an international transaction shall be computed having regard to the arm’s length price. Explanation.—For the removal of doubts, it is hereby clarified that the allowance for any expense or interest arising from an international transaction shall also be determined having regard to the arm’s length price. (2) Where in an international transaction, two or more associated enterprises enter into a mutual agreement or arrangement for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises, the cost or expense allocated or apportioned to, or, as the case may be, contributed by, any such enterprise shall be determined having regard to the arm’s 10 C.W.P. No.16681 of 2005 length price of such benefit, service or facility, as the case may be. (3) The provisions of this section shall not apply in a case where the computation of income under sub-section (1) or the determination of the allowance for any expense or interest under that sub-section, or the determination of any cost or expense allocated or apportioned, or, as the case may be, contributed under sub-section (2), has the effect of reducing the income chargeable to tax or increasing the loss, as the case may be, computed on the basis of entries made in the books of account in respect of the previous year in which the international transaction was entered into. 92A. (1) For the purposes of this section and sections 92, 92B, 92C, 92D, 92E and 92F, associated enterprise, in relation to another enterprise, means an enterprise (a) which participates, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise; or (b) in respect of which one or more persons who participate, directly or indirectly, or through one or more intermediaries, in its management or control or capital, are the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise. 11 C.W.P. No.16681 of 2005 (2) For the purposes of sub-section (1), two enterprises shall be deemed to be associated enterprises if, at any time during the previous year, (a) one enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in the other enterprise; or (b) any person or enterprise holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in each of such enterprises; or (c) a loan advanced by one enterprise to the other enterprise constitutes not less than fifty-one per cent of the book value of the total assets of the other enterprise; or (d) one enterprise guarantees not less than ten per cent of the total borrowings of the other enterprise; or (e) more than half of the board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of one enterprise, are appointed by the other enterprise; or (f) more than half of the directors or members of the governing board, or one or more of the executive directors or members of the governing board, of each of the two enterprises are appointed by the same person or persons; or (g) the manufacture or processing of goods or articles or business carried out by one enterprise is wholly dependent on the use of know-how, patents, 12 C.W.P. No.16681 of 2005 copyrights, trade-marks, licences, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights; or (h) ninety per cent or more of the raw materials and consumables required for the manufacture or processing of goods or articles carried out by one enterprise, are supplied by the other enterprise, or by persons specified by the other enterprise, and the prices and other conditions relating to the supply are influenced by such other enterprise; or (i) the goods or articles manufactured or processed by one enterprise, are sold to the other enterprise or to persons specified by the other enterprise, and the prices and other conditions relating thereto are influenced by such other enterprise; or (j) where one enterprise is controlled by an individual, the other enterprise is also controlled by such individual or his relative or jointly by such individual and relative of such individual; or (k) where one enterprise is controlled by a Hindu undivided family, the other enterprise is controlled by a member of such Hindu undivided family or by a relative of a member of such Hindu undivided family or jointly by such member and his relative; or 13 C.W.P. No.16681 of 2005 (l) where one enterprise is a firm, association of persons or body of individuals, the other enterprise holds not less than ten per cent interest in such firm, association of persons or body of individuals; or (m) there exists between the two enterprises, any relationship of mutual interest, as may be prescribed. 92B.(1) For the purposes of this section and sections 92, 92C, 92D and 92E, “international transaction” means a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. (2) A transaction entered into by an enterprise with a person other than an associated enterprise shall, for the purposes of sub-section (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated 14 C.W.P. No.16681 of 2005 enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise. 92C.(1) The arm’s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :— (a) comparable uncontrolled price method; (b) resale price method; (c) cost plus method; (d) profit split method; (e) transactional net margin method; (f) such other method as may be prescribed by the Board. (2) The most appropriate method referred to in sub- section (1) shall be applied, for determination of arm’s length price, in the manner as may be prescribed : Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices, or, at the option of the assessee, a price which may vary from the arithmetical mean by an amount not exceeding five per cent of such arithmetical mean. (3) Where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the 15 C.W.P. No.16681 of 2005 basis of material or information or document in his possession, of the opinion that— (a) the price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or (b) any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in sub-section (1) of section 92D and the rules made in this behalf; or (c) the information or data used in computation of the arm’s length price is not reliable or correct; or (d) the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued under sub-section (3) of section 92D, the Assessing Officer may proceed to determine the arm’s length price in relation to the said international transaction in accordance with sub-sections (1) and (2), on the basis of such material or information or document available with him: Provided that an opportunity shall be given by the Assessing Officer by serving a notice calling upon the assessee to show cause, on a date and time to be specified in the notice, why the arm’s length price should not be so determined on the basis of material or information or document in the possession of the Assessing Officer. 16 C.W.P. No.16681 of 2005 (4) Where an arm’s length price is determined by the Assessing Officer under sub-section (3), the Assessing Officer may compute the total income of the assessee having regard to the arm’s length price so determined : Provided that no deduction under section 10A or section 10AA or section 10B or under Chapter VI-A shall be allowed in respect of the amount of income by which the total income of the assessee is enhanced after computation of income under this sub-section : Provided further that where the total income of an associated enterprise is computed under this sub-section on determination of the arm’s length price paid to another associated enterprise from which tax has been deducted or was deductible under the provisions of Chapter XVIIB, the income of the other associated enterprise shall not be recomputed by reason of such determination of arm’s length price in the case of the first mentioned enterprise. 92CA.(1) Where any person, being the assessee, has entered into an international transaction in any previous year, and the Assessing Officer considers it necessary or expedient so to do, he may, with the previous approval of the Commissioner, refer the computation of the arms length price in relation to the said international transaction under section 92C to the Transfer Pricing Officer. (2) Where a reference is made under sub-section (1), the Transfer Pricing Officer shall serve a notice on the 17 C.W.P. No.16681 of 2005 assessee requiring him to produce or cause to be produced on a date to be specified therein, any evidence on which the assessee may rely in support of the computation made by him of the arms length price in relation to the international transaction referred to in sub-section (1). (3) On the date specified in the notice under sub-section (2), or as soon thereafter as may be, after hearing such evidence as the assessee may produce, including any information or documents referred to in sub-section (3) of section 92D and after considering such evidence as the Transfer Pricing Officer may require on any specified points and after taking into account all relevant materials which he has gathered, the Transfer Pricing Officer shall, by order in writing, determine the arms length price in relation to the international transaction in accordance with sub-section (3) of section 92C and send a copy of his order to the Assessing Officer and to the assessee. (3A) Where a reference was made under sub-section (1) before the 1st day of June, 2007 but the order under sub- section (3) has not been made by the Transfer Pricing Officer before the said date, or a reference under sub- section (1) is made on or after the 1st day of June, 2007, an order under sub-section (3) may be made at any time before sixty days prior to the date on which the period of limitation referred to in section 153, or as the