Written Submissions-54

Challenging (a) transfer pricing adjustment on international transactions of sale of garments

Written Submissions-54

challenging (a) transfer pricing adjustment on international transactions of sale of garments

BEFORE THE INCOME TAX APPELLATE TRIBUNAL

[____ BENCH], [CITY]

In the matter of: Alpha Apparel Private Limited (“the Appellant/Assessee”)

Versus Deputy Commissioner of Income-tax, Circle [__] (“the Respondent/Revenue”)

May it please Your Honour,

Subject

Written Submissions on behalf of the Appellant challenging (a) transfer pricing adjustment on international transactions of sale of garments by rejecting Internal CUP/Internal TNMM in favour of External TNMM, and (b) disallowance under section 14A of the Income-tax Act, 1961 (“the Act”) despite absence of exempt income, for Assessment Year (“AY”) 2013–14.

(i) Name of the assesses ------------ and address---------------.

(ii) PAN----------------.

(iii) Ayr-----------------.

(iv) DIN of the order appealed------------------.

(v) Appeal No. --------------.

Reference

Show Cause notice dated ………. DIN--------------------.

1. Issues Raised in this Appeal

(i) Transfer Pricing—Most Appropriate Method (MAM): Whether, on undisputed facts of back-to-back invoicing for identical products, quantities and prices, where the Associated Enterprise (“AE”) acted as a pure pass-through without any commission or economic benefit, the Internal CUP method adopted by the Appellant is the correct MAM for benchmarking sale of garments to the AE, and whether rejection of Internal CUP by the TPO/DRP is contrary to law and the principle of consistency.

(ii) Alternative—Internal TNMM: Whether, when audited segmental accounts demonstrate that AE and non-AE margins lie within the permissible range (±3%) and common costs have been allocated on a consistent “standard production cost” basis, rejection of Internal TNMM in favour of External TNMM is unjustified.

(iii) Section 14A Disallowance: Whether any disallowance under section 14A r.w. Rule 8D can be sustained in a year in which the Appellant has not earned any income exempt from tax.

2. Facts of the Case (Brief and Uncontroverted)

(i) Business & Transactions. The Appellant, Alpha Apparel Private Limited, is engaged in the manufacture and sale of readymade garments to both AE and non-AE customers worldwide. During AY 2013–14, the Appellant reported international transactions including purchase/sale of raw materials, sale of readymade garments, sale of spares/machinery, reimbursement of costs, and sale of designs.

(ii) Benchmarking Adopted.

i. For sale of readymade garments, the Appellant adopted Internal CUP based on a bill-to AE / ship-to end-customer model, supported by (a) back-to-back invoices, (b) purchase orders of end-customers, (c) AE financial statements disclosing pass-through treatment with no revenue recognition, and (d) email trails evidencing that product pricing was directly negotiated between the Appellant and the third-party customers; the AE merely facilitated supply chain coordination.

ii. For other transactions (e.g., sale/purchase of raw materials, sale of machinery), CUP was also adopted and accepted by the TPO.

(iii) TPO’s Departure. The TPO rejected Internal CUP only for the sale of garments, applied External TNMM with three comparables, and proposed an upward adjustment of ₹16.00 crore (approx.; hypothetical), while accepting CUP for other similar transactions. The DRP affirmed.

(iv) Internal TNMM (Alternate). The Appellant furnished audited segmental accounts prepared on a consistent basis allocating common costs (employee cost, depreciation, manufacturing overheads) using a standard production cost key. Segmental margins for AE (-5.75%) and non-AE (-4.80%) fell within ±3%. The TPO accepted the basis for employee cost allocation but rejected it for depreciation, and thereby discarded Internal TNMM in favour of External TNMM.

(v) Section 14A. The Appellant held strategic investments (subsidiary/firm) but earned no exempt income during the year. It nevertheless made a suo motu nominal disallowance of ₹0.80 lakh (hypothetical) for incidental monitoring. The AO invoked Rule 8D and made a large disallowance; the DRP sustained it.

(vi) Consistency Across Years. In the immediately succeeding AY 2014–15, for the same sale-of-garments pattern, the TPO accepted CUP and made no TP adjustment. For other transactions in the impugned year, the TPO himself accepted CUP. No change in factual matrix is alleged by the Revenue.

3. Reasons Stated by the AO/TPO (Impugned)

(i) CUP Rejection for Garment Sales.

i. Although back-to-back invoicing and identical price/quantity were not factually disputed, the TPO opined that the arrangement “does not qualify as CUP” and that involvement of AE without apparent commercial benefit casts doubt.

ii. The TPO further stated that “full financials” of the AE were not furnished; hence, possibility of commission could not be ruled out.

(ii) Internal TNMM Rejection: The TPO accepted standard production cost allocation for employee cost but rejected depreciation allocation on the same key and, on that basis alone, discarded Internal TNMM.

(iii) Section 14A: The AO applied Rule 8D on the premise that common books imply some expenditure “in relation to” investments, irrespective of actual exempt income.

4. Reasons Stated by the DRP (Summarised)

(i) On CUP: No independent party would agree to a “mere back-to-back invoicing” without commercial benefit; therefore, CUP was not appropriate.

(ii) On Internal TNMM: The DRP echoed the TPO that depreciation cannot be allocated on the same basis as employee cost.

(iii) On Section 14A: Since there are common accounts, some allocation under Rule 8D is warranted, notwithstanding the absence of exempt income.

5. Grounds of Appeal (Concise)

(i) That the authorities below erred in law and on facts in rejecting Internal CUP for benchmarking sale of garments to the AE despite perfect product identity, quantity and price parity, and undisputed pass-through nature of the AE.

(ii) That the rejection of Internal TNMM (alternate) on a hyper-technical criticism of depreciation allocation—while accepting the same allocation basis for employee cost—is perverse and contrary to settled principles favouring Internal over External TNMM when reliable audited segmentals exist.

(iii) That the External TNMM comparables are functionally dissimilar and their use violates Rule 10B/10C when reliable internal comparables exist.

(iv) That the principle of consistency is violated, given acceptance of CUP in (i) the immediately succeeding AY for the same transaction pattern, and (ii) the impugned year for other similar transactions.

(v) That the disallowance u/s 14A r.w. Rule 8D is unsustainable in the absence of any exempt income in AY 2013–14.

6. Submissions on Facts

(i) Back-to-Back Invoicing; Identity of Product, Quantity, Price: The Appellant’s invoice to AE and the AE’s invoice to the end-customer are identical in item description, style/sku, quantity and unit price. Purchase orders from end-customers mirror these details. Shipment is directly from the Appellant to the end-customer; the AE functions as a coordination node (“bill-to AE / ship-to customer”). This is not disputed by the TPO.

(ii) AE as Pure Pass-Through; No Commission: The AE’s audited financials explicitly state that sales of the Appellant’s goods are not recognised as AE revenue and that the AE acts as a pass-through without economic benefit. The only agency commission disclosed relates to a different group entity (not the Appellant). Thus, the TPO’s doubt about “possible commission” is factually unsustainable.

(iii) Price Discovery by the Appellant: Email trails show the Appellant negotiated and fixed prices directly with end-customers. The AE did not determine price and had no value-adding FAR in respect of price-setting.

(iv) Internal TNMM Segmentals Are Audited and Reliable: The Appellant prepared audited segmental accounts allocating direct costs on actuals and common costs (employee cost, depreciation, factory overheads) using a consistent standard production cost key reflecting consumption of capacity/resources. The TPO accepted this key for employee cost but rejected it for depreciation, a contradictory stance since both costs arise from common factors of production (people and plant) deployed across AE and non-AE output.

(v) Margins within Range: On Internal TNMM, AE margin (-5.75%) and non-AE margin (-4.80%) lie within ±3%. Negative margins reflect industry-wide demand compression and fixed-cost absorption issues in the year; the pattern is consistent across both segments, showing no AE skew.

(vi) Consistency Across Years/Transactions.

i. AY 2014–15: CUP accepted for the same sale-of-garments model.

ii. AY 2013–14: CUP accepted for other transactions (e.g., sale/purchase of raw materials; sale of machinery).

iii. No material change in facts to justify a different treatment in the impugned year for sale of garments alone.

7. Submissions on Law

A. Internal CUP is the Correct MAM:

(i) Rule 10B(1)(a) — CUP Method: CUP compares the price in a comparable uncontrolled transaction with the price in the controlled transaction. Where there is exact product identity and price parity in back-to-back sales, CUP is the most direct and reliable method; TNMM is not a residuary first-choice when perfect CUP exists.

(ii) Transaction-level FAR, not Enterprise-level: The TPO’s objection that the AE “did more” ignores that FAR analysis under transfer pricing must be applied to the specific transaction being benchmarked. For the garments sold here, the AE did not bear inventory/market risk or add functions affecting price; it merely coordinated documentation. The transactional comparability under CUP is perfect.

(iii) Pass-Through AE; No Economic Benefit: The AE’s financial statements disclose pass-through treatment. No commission from the Appellant is recognised. Thus, price remains untainted by AE’s margin expectations, further validating CUP.

(iv) Internal over External Comparability: Jurisprudence favours internal comparables over external ones when available and reliable, because they remove market/context noise and align FAR most closely.

(v) Principle of Consistency: Having accepted CUP (i) for the same pattern in the next AY and (ii) for other transactions in the impugned year, the Revenue cannot, absent a material change, adopt a contrary stance for the specific sale of garments in this year. Consistency is a facet of tax certainty and fairness.

B. Internal TNMM—Reliable Alternative that Also Confirms ALP:

(i) Rule 10B(1)(e) — Net Margin Method: When properly segmented and audited internal data exist, Internal TNMM is preferred over External TNMM. The Appellant’s segmentals reflect consistent and rational allocation bases tied to production drivers.

(ii) Consistency of Allocation Keys: Acceptance of the same standard production cost key for employee cost but rejection for depreciation is arbitrary. Both are capacity-linked common costs; both should follow the same logical allocator. The criticism does not go to the reliability of segmentals.

(iii) Margins Within Permissible Range: With AE margin (-5.75%) versus non-AE (-4.80%), the spread is within ±3%, indicating no erosion of profits due to AE dealings. Thus, even on Internal TNMM, the transaction is at ALP.

(iv) External TNMM Unsuitable Here: The selected external comparables face functional/market differences (product mix, market geography, scale, intangibles, capacity utilisation). Resorting to external data despite robust internal evidence violates Rule 10C’s “most appropriate method” standard.

C. Section 14A—No Exempt Income, No Disallowance:

(i) Triggering Provision: Section 14A applies where expenditure is incurred in relation to income not includible in total income. If no exempt income is earned in the year, the section does not trigger.

(ii) Rule 8D Cannot Override the Act: Rule 8D prescribes a method to quantify expenditure once section 14A applies; it cannot expand the scope of section 14A to years with zero exempt income.

(iii) Strategic Investments: Investments in subsidiaries/partnership firms are business-expedient and cannot, without exempt receipts, justify a notional disallowance. The Appellant nevertheless made a small suo motu disallowance on a conservative basis.

8. Case Law in Support (Illustrative)

(i) Back-to-Back/Pass-Through & CUP Superiority

i. DCIT v. Calance Software (P.) Ltd. [2017] 82 taxmann.com 390 (Delhi - Trib.)— ITAT held that where AE sells to an independent customer at the same price as the assessee to AE in a back-to-back arrangement, CUP is the best method; FAR is to be applied at the transaction level.

The assessee rendered software development services to its AE in “back-to-back” contracts that the AE had with independent customers. The AE passed the same work and full consideration to the assessee. The assessee benchmarked using internal CUP; the TPO rejected CUP, applied TNMM, and argued that the AE’s FAR (functions, assets, risks) was broader than the assessee’s.

ITAT held that for true back-to-back transactions where the service rendered and the price are identical, the AE’s price to the independent end-customer is the best CUP—a direct, reliable benchmark. CUP is not a residual method to be displaced by TNMM when perfect CUP data exists. FAR analysis must be transaction-specific; when the transaction is the same, enterprise-level FAR differences are irrelevant. Accordingly, the ALP adjustment for the back-to-back dealings was deleted. A separate, small non-back-to-back service transaction (with only one low-priced comparable) was remanded to the TPO for limited verification of margins.

ii. AT & S India (P.) Ltd. v. DCIT — Identical products/quantities/prices between controlled and uncontrolled sales justify Internal CUP.

The assessee exported printed circuit boards (PCBs) to its AE; the AE sold the same PCBs in identical quantities to independent European customers at the same price, supported by back-to-back invoices. ITAT held that when controlled and uncontrolled sales are product-identical, quantity-matched, and price-equal, internal CUP is the most appropriate method because it provides the most direct, reliable benchmark. Accordingly, the AE’s onward sale price to third parties served as the CUP for the assessee’s export price, satisfying the arm’s-length standard and warranting deletion of the TP adjustment. The Tribunal also clarified: (i) adopting a foreign AE as tested party lacks legal sanctity under Indian TP rules (differences in GAAP, cost allocation, revenue recognition impede comparability); and (ii) even if the taxpayer’s TP report used TNMM, it may argue on appeal that CUP better determines ALP on the facts. Result: Internal CUP preferred; adjustment deleted.

iii. Arkay Logistics Ltd. v. DCIT [2020] 113 taxmann.com 584 (Mumbai - Trib.)— Internal CUP preferred where back-to-back chartering to AE mirrors third-party pricing; TNMM cannot displace a valid internal CUP.

The assessee charter-hired six vessels from third-party vendors and on-hired the same vessels to its AE on a back-to-back basis. Although its TP study chose TNMM, it also furnished an internal CUP: the hire rates paid to non-AEs versus the higher rates charged to the AE. The TPO rejected CUP solely because the study had selected TNMM and made an upward adjustment under TNMM. The Tribunal held that when a valid internal CUP exists—here, identical asset, terms, and timing, with AE pricing mirroring third-party pricing—CUP is the most appropriate method; a taxpayer is not estopped from invoking CUP merely because the study used TNMM. TNMM cannot displace a direct, reliable CUP (following Calance Software). Separately, a company trading in digital certificates and providing DGFT/customs/excise/service-tax services, with financials not publicly available (Axis Integrated Systems), was functionally dissimilar and excluded as a comparable (following Li & Fung). Result: CUP accepted; TP adjustment deleted.

(ii) Internal TNMM Over External TNMM

i. Prodapt Solutions (P.) Ltd. v. DCIT [2019] 109 taxmann.com 282 (Chennai - Trib.) — When audited segmentals exist, Internal TNMM is superior; TP adjustment must be confined to AE segment after proper allocation.

For a software service provider with both AE and non-AE customers, the Tribunal held that Internal TNMM is preferable where reliable/audited segmental accounts exist. Prodapt furnished project-wise (later certified) AE/non-AE segmentals showing higher margins in the AE segment. The TPO rejected them as self-serving and the DRP wrongly directed an adjustment on the entire turnover, including third-party sales. Relying on Birlasoft (ITAT & Delhi HC), the ITAT ruled that the AO/TPO must first allocate revenues and costs to AE and non-AE segments and perform an internal profitability comparison; if segmentals are reliable, internal TNMM is superior to external benchmarking. Further, following Yongsan Automotive, any TP adjustment must be confined strictly to international transactions with AEs, not to domestic/non-AE dealings. The matter was remanded to compute ALP only for the AE segment after proper allocation and opportunity of hearing. Outcome: Segmental internal TNMM preferred; adjustment limited to AE transactions.

ii. Pos-Hyundai Steel Manufacturing India Pvt. Ltd. v. CIT [2021] 125 taxmann.com 383 (Madras) — Reiterates preference for Internal TNMM when reliable segmentals are available.

The Court reiterated the hierarchy in TP analysis: internal comparables have primacy; TNMM using external comparables is a fallback only when reliable internal comparables/segmentals are unavailable. POS Hyundai imported steel from AEs, initially used CUP, but on appeal tried to switch to TNMM. The TPO/CIT(A) found usable internal comparables existed (AE vs non-AE prices for identical grades), so CUP remained the Most Appropriate Method; the TNMM plea was treated as an afterthought and rejected on facts, not on estoppel. Claims for volume discount failed for lack of evidence. The ITAT’s fact findings were upheld—no perversity shown under section 260A. Net takeaway: when reliable internal data/segmentals exist (whether for internal CUP or internal TNMM), they control the benchmarking; external TNMM can be invoked only in the absence of internal comparables. Appeal dismissed in favour of Revenue.

(iii) Principle of Consistency

i. Radhasoami Satsang v. CIT [1992] 60 Taxman 248 (SC) — Absent material change in facts or law, the Revenue should not adopt a contrary view across years on a fundamental aspect already accepted.

The Supreme Court held that when a fundamental aspect has been consistently accepted by the Revenue across years, a contrary view cannot be taken later absent any material change in facts or law. Though res judicata doesn’t strictly apply to tax, assessments are quasi-judicial and principles of finality and consistency prevail (Parashuram Pottery; Sankaralinga Nadar; Hoystead). For decades, the Department accepted that Radhasoami Satsang’s offerings/properties were held under a legal obligation for religious/charitable purposes and granted refunds. Without new facts, the Revenue later denied s.11/12 exemption citing revocability. The Court found properties vested in the Sabha, no personal benefit to the Satguru, and even on revocation assets wouldn’t revert; activities were religious—so s.11/12 exemption was allowed. The Court cautioned, however, that the ruling is fact-specific and not of broad general application.

(iv) Section 14A—No Exempt Income, No Disallowance

i. CIT v. Chettinad Logistics (P.) Ltd. [2017] 80 taxmann.com 221 (Madras) — Disallowance under section 14A cannot be made when no exempt income is earned in the year; Rule 8D cannot expand the statutory trigger.

Madras High Court in CIT v. Chettinad Logistics (2017) reaffirmed that Section 14A is triggered only when an assessee seeks to set off expenditure against income which does not form part of total income. Where no exempt income (e.g., dividend) is earned in the relevant year, no disallowance under Section 14A can be made. Rule 8D is merely a computational mechanism to quantify expenditure relatable to exempt income; it cannot expand the statutory trigger in Section 14A or justify disallowance on a notional/anticipated basis. CBDT Circular No. 5/2014 was rejected to the extent it suggests disallowance even without actual exempt income. Following Redington (India) Ltd. (Mad), the Court emphasized that tax is levied on real income of the year, not hypothetical future income. Since the CIT(A) had recorded that no dividend was earned, the Tribunal’s remand to verify funding/segmentation was unnecessary. The addition was unsustainable and the Revenue’s appeal failed.

ii. (Additionally consistent views from multiple High Courts/ITATs; the core principle is now well-settled.)

Note: The above authorities are cited for legal principles; the Appellant will furnish full copies at hearing and relies on their ratio decidendi, not on any specific factual parity beyond the principles stated.

9. Prayer: In light of the undisputed factual matrix, the statutory framework under Sections 92C, 92CA and Rules 10B/10C, and the settled judicial principles:

(i) On Transfer Pricing—Internal CUP (Primary):

i. Allow the Ground; hold Internal CUP as the Most Appropriate Method for benchmarking the international transaction of sale of garments to the AE;

ii. Delete in full the transfer pricing adjustment of ₹16.00 crore (hypothetical) made by rejection of Internal CUP; and

iii. Direct the AO/TPO to accept the transaction price as at arm’s length.

(ii) On Transfer Pricing—Internal TNMM (Alternate without prejudice): Without prejudice to the primary relief, accept Internal TNMM based on audited segmentals, uphold the standard production cost allocation basis for all common costs (including depreciation), and delete the adjustment since AE and non-AE margins lie within ±3%.

(iii) On Section 14A: Delete the disallowance under section 14A r.w. Rule 8D in toto, there being no exempt income during AY 2013–14; in any event, restrict disallowance to the nominal suo motu amount already offered by the Appellant.

(iv) On Consistency: Record a finding that, in the absence of any material change, the Revenue cannot deviate from having accepted CUP for (i) the same transaction model in the immediately succeeding AY, and (ii) other transactions of the Appellant in the impugned year itself.

(v) Consequential Reliefs: Grant all consequential reliefs including interest recomputation and deletion of resultant demand; stay and/or vacate any coercive recovery measures.

Respectfully submitted, the Appellant prays that this Hon’ble Tribunal be pleased to allow the appeal and grant the reliefs set out above. The Appellant further prays for liberty to submit additional documents/compilations and written notes during hearing, and to address any further queries the Bench may have.

Place: [City]

Date: [•]

For the Appellant–Assessee

[Name], Advocate

Enrolment No.: [•]

Address: [•]

Email: [•] | Phone: [•]

Annexures (Indicative list to be tendered at hearing)

1. Sample back-to-back invoices (Assessee → AE; AE → end-customer) showing identical style, quantity, unit price.

2. End-customer purchase orders mirroring the above.

3. AE audited financial statements with disclosures evidencing pass-through and absence of commission from the Appellant.

4. Email correspondence evidencing price negotiation by the Appellant directly with customers.

5. Audited segmental accounts with notes on standard production cost allocation for common costs.

6. TPO order for succeeding AY accepting CUP; relevant pages from impugned year accepting CUP for other transactions.

7. Compendium of case law relied upon.

Executive Recap (for Bench Convenience)

• CUP fits perfectly: Identical product/quantity/price and pass-through AE with zero commission—textbook Internal CUP.

• Internal TNMM corroborates: Audited segmentals; consistent, rational cost allocators; margins within ±3%, confirming ALP even on alternate method.

• External TNMM unnecessary and inferior given robust internal evidence.

• Consistency binds the Revenue across years/transactions.

• Section 14A cannot be invoked without exempt income; Rule 8D is merely a computation rule, not a charging provision.

Accordingly, the entire TP adjustment and the section 14A disallowance merit deletion.

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