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Comparable Benchmarking Under Transfer Pricing Provisions
In a recent tax tribunal in Mumbai it was held that companies with segmental results and with relatively low turnover cannot be treated as comparable for benchmarking under transfer pricing provisions. Taxand India looks at the DHL Express case in detail and its implications.
Facts of the Case
In its Transfer Pricing documentation, the taxpayer identified Transaction Net Margin Method ("TNMM") as the most appropriate methodology. It established its transactions with AEs to be at arm's length by benchmarking its profit margins with those earned by the comparables companies.
During the transfer pricing audit, the Transfer Pricing Officer ("TPO") rejected some of the comparables selected by the taxpayer, for the reason that the turnover of such companies was less than 20% of the taxpayer's turnover.
Ruling of the Tribunal
The Tribunal observed that the existence of large differences between large business and small business operating in the same field was a universal fact. It noted that economies of scale were generally not available to small businesses and hence such businesses were generally less profitable. It also held that the companies could not be considered as comparables merely because they were accepted as comparables by the TPO in an earlier year. It noted that the reasons why such companies were accepted as comparables earlier were not available in the facts of the case. Nevertheless, it noted that it was a settled principle that the decisions in assessment in one year would not be binding on the assessment in another year. Accordingly, it ruled that the companies having turnover less than 20 percent of the taxpayer's turnover could not be considered as comparable.
The ruling that segmented financial data cannot be accepted for benchmarking is at variance with the past approach of the Tribunal and the Revenue, which had accepted segmental financial data of comparables for benchmarking in other recent rulings. In light of these and considering the language of the present ruling, it should still be acceptable to consider segmental data, particularly when direct comparables are not available. Nevertheless, the rejection of segmental data of comparables following a strict application of this ruling could result in lesser number of comparables.
The ruling brings to fore the varying conclusions reached by the Tribunals on issues concerning Transfer Pricing. While the taxpayers need to consider these principles laid down by the Tribunals and Courts, the application of these principles would depend on the facts and circumstances of each case.
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