The Hindu Business Line : Penalty under transfer pricing regulations

In respect of international transactions, the ITAT, in the Cargill India case, concluded that notices issued without application of mind and without considering relevancy of the prescribed information and documents under rule 10-D vitiated their legality.

H. P. Ranina

Penalty under Section 271-G of the Income-Tax Act, 1961, can be imposed on any person who has entered into an international transaction but fails to furnish information or documents as required under Section 92-D(3). Since heavy penalty is attracted for non-compliance, it has to be shown that the notice under Section 92-D(3) complied with the provision, both in letter and in spirit.

Under Section 92-D(3), the assessing officer (AO) or the Commissioner (Appeals), may require any information or document as may be prescribed. The word “any” information or document cannot ordinarily mean “all” the documents prescribed under rule 10-D of the Income-tax Rules, 1962.

Serving of notice

The statutory scheme envisages that the transfer pricing officer (TPO) should serve a notice requiring the assessee to produce evidence in support of his computation of the arm’s length price.

Therefore, an opportunity to prove that the arm’s length price is correct has to be allowed to the assessee. It is a mandatory requirement of the regulations.

Thereafter notices under Section 92-D(3) may be issued requiring the assessee to furnish information on “specified points”, depending upon the facts of the case. Only in case of failure of the assessee to support its arm’s length price by filing necessary evidence, would the question of requiring the assessee to furnish prescribed information arise.

Section 273-B provisions override Section 271-G. In other words, no penalty can be imposed for failure of the person to furnish documents in time if such failure is proved to be due to a “reasonable cause”. Notice under Section 92-D(3) has to be confined to the furnishing of information or document as may be “prescribed”.

There is no power under Section 92-D(3) given to the TPO to require the taxpayer to furnish non-specified information or such information or document already filed by the taxpayer. The case of any person other than the taxpayer for notice under Section 92-D(3) stands on a different footing than of the taxpayer to whom notice under Section 92-CA(3) has been issued.

Cargill case

This point was considered by the Delhi Bench of the Income-tax Appellate Tribunal (ITAT) in Cargill India P. Ltd vs CIT (ITA No. I844/Del/07). The assessee was a wholly-owned Indian subsidiary of a company which in turn was a wholly-owned subsidiary of C of the US.

The assessee, in India, in the relevant period, was engaged in the business of import, export and domestic trading in edible oils, fertilisers, grains, oil seeds and other food products, including processed food.

The assessee was also engaged in the business of procuring crude oil. The assessee had carried out various transactions with its foreign associate enterprises valued at Rs 20,23,20,68,761, and filed an audit report along with the return.

As the total value of international transactions with the associated enterprises exceeded Rs 5 crore, the AO made a reference to the TPO for determining the arm’s length price of those transactions.

The TPO did not accept the book value of various transactions shown by the assessee and proposed an addition of Rs 50,17,08,483. This order was incorporated and addition on account of adjustments for transfer pricing was made in the assessment order.

It was claimed by the Revenue that the assessee failed to comply with directions of the TPO and did not submit documents sought from the assessee in time and, therefore, committed a default under Section 271-G.

Casual issue of notice

The AO imposed a penalty of Rs 40,46,41,376 on the assessee under the above provision. This was confirmed by the Commissioner (Appeals). On appeal, the Delhi Bench of the ITAT held that the TPO in this case issued a first notice on September 22, 2005. The notice was issued in a casual manner. The TPO had not examined the records of the assessee nor the nature or details of the international transactions.

There was total lack of application of mind as to what information was required in this case. It was an omnibus notice without any regard for the unwarranted heavy burden it was likely to place on the assessee.

It was an unintelligible notice where all the information and documents maintained under rule 10-D were required in addition to the information referred to above. The second notice issued on similar lines on October 13, 2005, asking for submission of documents by November 7, 2005, did not improve the situation.

A third notice dated November 8, 2005, was again issued quoting Section 92-D and calling upon the assessee to file information and documents latest by November 21, 2005. This notice also had all infirmities noted in the first notice. The notices could not be treated as proper and legal in terms of Section 92-D(3) of the Act.

The Tribunal held that under Section 92-D(3), the notices cannot be treated as valid and legal to justify application of Section 271-G of the Act and levy penalty of more than Rs 40 crore.

These are omnibus notices issued without application of mind and without considering the documents already placed by the taxpayer on record and without consideration as to which of the specific clauses of sub-rule (1) or other sub-rules was attracted or which relevant information was needed in this case.

Need to specify

As penalty of 2 per cent is imposable under Section 271-G in respect of international transactions, it is necessary to specify in the show-cause notice under Section 271-G, the specific international transactions and the documents/information in respect thereof which the taxpayer failed to furnish in time. This would enable him to file a proper reply in defence. Without details of such default, it would not be possible to file an adequate reply.

The Tribunal concluded that the notices issued without application of mind and without considering relevancy of the prescribed information and documents under rule 10-D vitiated their legality. The notices could not be treated as proper and valid in terms of Section 92-D(3) of the Act. The failure, therefore, of the taxpayer to comply with such notices in time would not justify levy of penalty.

The aforesaid decision lays down the correct principle of law. However, in view of the substantial issue of law being involved, the Revenue is bound to go in appeal to the High Court.

(The author, a Mumbai-based advocate specialising in tax laws, can be contacted at ranina@bom2.vsnl.net.in)

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