Before applying the Transfer Pricing provisions, ‘Existence of Income’ is a jurisdictional requirement

Case: Vodafone India Services Pvt Ltd vs UOI (Bombay High Court)

Facts:  The assessee, an Indian Company issued equity shares at a premium of Rs. 8591 per share to its holding company while the NAV of per share was Rs. 53775/-. The assessee claimed that the transfer pricing provisions do not apply as there was no income arising to it.

·         The AO referred the issue to the TPO without dealing with preliminary objection.

·         Assessee contented his stand before TPO but TPO held that he could not decide whether income had arisen or not because his jurisdiction was limited to determine the ALP of the transaction referred to him by AO.

·         The AO passed the draft assessment order u/s 144C(1) without considering the assessee’s objection and held that he was bound u/s 92-CA(4) with the TPO’s determination and could not consider the contention whether the transfer pricing provisions applied.

·         As per the requirement of law, the assessee filed objections before the DRP on the merits of the adjustment made in draft assessment order.

·         Also, assessee filed a writ petition before the High Court challenging the jurisdiction of TPO/AO to make the adjustment.

Argued by Assessee before HC	Held by High Court
It was a precondition before the transfer pricing provisions apply that there has to be income arising to the assessee. As the allotment of shares at a premium does not give rise to income, the transfer pricing provisions do not apply,	It is clear from s. 92(1) that there must be income arising/ potentially arising by an international transaction for the application of the transfer pricing provisions. This is a jurisdictional requirement and has to be dealt with by the AO when specifically raised by the assessee before making reference to the AO. Grant of personal hearing before referring the matter to the TPO has to be read into s. 92CA(1) in cases where the very jurisdiction to tax under Chapter X is challenged by the assessee If, after the hearing the assessee, the AO holds that there is an international transaction, that would be binding on the TPO;
There was a breach of natural justice because neither the TPO nor the AO had heard the assessee on, or decided, the fundamental issue as to whether the transfer pricing provisions applied at all	The department’s contention, based on CBDT Instruction No.3 dated 20.05.2003, that the action of the AO in referring the international transaction is a mere administrative act is not acceptable. The AO is bound to hear the assessee in respect of jurisdictional issues before making the reference. The failure to do so is an illegality;
The DRP does not offer an alternative remedy because the DRP has no power to quash the draft assessment order even if it is satisfied that the same is without jurisdiction	The assessee’s contention that the DRP does not offer an alternative remedy because it does not have the power to quash the assessment order even if it is satisfied that the same is without jurisdiction is not acceptable because in Vodafone 37 taxmann.com 250 it was held that the DRP’s power to confirm would include the power not to confirm and to annul the draft assessment order
The DRP cannot take an unbiased view because one of its members is the DIT (TP)	The assessee’s contention that the DRP would not give a fair hearing as one of its members is the DIT (TP) is not acceptable because it overlooks the fact that these are not appeal proceedings but to finalize the draft assessment order. Also, the DIT(TP) who approved the TPO’s order is not on the panel

The High Court also advised that the Revenue should keep in mind the sage advice of Nani Palkhivala that the department should not cause misery and harassment to the taxpayer and the gnawing feeling that he is made the victim of palpable injustice. In this case it would be natural for the assessee to feel harassed as neither the AO nor the TPO gave a hearing or dealt with the preliminary objection. It is hoped that the revenue will be more sensitive to the just demands of the assessee and not treat the assessee as an adversary who has to be taxed, no matter what;

To conclude, HC put the balls in DRP’s court : The DRP should decide the assessee’s objection regarding chargeability of alleged shortfall in share premium as a preliminary issue. In case the DRP’s decision on the preliminary issue is adverse, the assessee shall be entitled to challenge it in a writ petition if it can show that the DRP’s decision on the preliminary issue is patently illegal notwithstanding the availability of alternate remedy before the ITAT

Source:  www.rpmd.in/files/docs/rpmd-vol-1.1.pdf


CA Rahul Jain
rahuljain@rpmd.in