The following important judgement is available for download at itatonline.org.
Mitsubishi Corporation India Pvt. Ltd vs. DCIT (ITAT Delhi)
In a case of "sogo shosha" business model (high volume, low risk, trading of goods), the "berry ratio" (benchmarking gross profit and/ or net revenues (after subtraction of cost of sales) against operating expenses is an appropriate PLI. To avoid discrimination under Article 24(3) of the India-Japan DTAA, the benefit of no disallowance u/s 40(a)(ia) (in the cast of residents) for want of TDS if the recipient has paid the tax has to be extended to non-residents u/s 40(a)(i)
(iii) In case the normal PLI of operating profit to operating costs (including inventory costs) or operating profit to sales was applied, every comparable which is picked up for comparing trading activity of the assessee, which is admittedly an integral part of sogo shosha activities of the MCJ group, will, therefore, have its inherent limitations because functional profile of the assessee's trading activity is, and cannot be, the same as that of the comparables. It is, therefore, important to find out a way, by selecting the appropriate profit level indicator, to eliminate this critical difference between sogo shosha activity of the assessee and any other trading activity that the comparables may have. As a matter of fact, it is the level of inventory which is crucial factor in determining the kind of trading activity an assessee has carried out. The CBDT has defined wholesale trader with reference to, inter alia, its monthly inventory level being less than 10% and prescribes a lower tolerance range at one third the level of normal tolerance range. This notification is in the context of tolerance range, prescribing lesser tolerance range for the whole traders implying that the margin of profits for wholesalers must move in a lower range which can only happen when margins are also lower vis-à-vis margins in wholesale trading, but this also indicates that lower inventory levels lead to lower inventory risks and generally resultant lower profit levels also. There is thus a direct relationship between the normal inventory levels and the normal profitability;
(ix) In typical cases of pure international trading, there is neither any processing of goods involved nor is there use of any significant trade or marketing intangibles. The inventory levels are also extremely low, at least with respect to the goods traded, since the nature of activity does not require maintenance of inventories and there is sufficient lead time between order being received and the actual procurement activity. There are no other factors, in addition to the operating costs, which affect direct relationship between operating costs and operating profits. Therefore, except in a situation in which significant trade or marketing intangibles are involved or in a situation in which there is further processing of the goods procured before selling the same or in a situation which necessitates employment of assets in infrastructure for processing or maintenance of inventories, the use of berry ratio does seem to be quite appropriate;
(xii) As regards cases where the non-resident has filed a ROI, as s. 40(a)(i) does not have an exclusion clause similar to the second proviso to s. 40(a)(ia), payments made to non-residents, without deduction of tax at source will be disallowable even in a situation when the non-resident recipient has taken into account such payments in computation of his income, has paid taxes on the same and filed the income tax return. However, this creates discrimination in terms of Article 24(3) of the India Japan DTAA in the deductibility of payments made to resident entities vis-à-vis non-resident Japanese entities. Accordingly, the relaxation under second proviso to s. 40(a)(ia) is to be read into s. 40(a)(i) as well and it is required to be treated as retrospective in effect in the same manner as second proviso to s. 40(a)(i) has been treated. Such an interpretation will lead to the deduction parity as envisaged in Article 24(3) of Indo Japan DTAA.
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Regards,
Editor,
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