- The Assessee excluded companies that had substantial transaction to the tune of more than 25% with related parties. The Transfer Pricing Officer held that it was an appropriate filter to eliminate the influence of the control transactions.
- The Commissioner of Income Tax (Appeals) held that even if one comparable without related party transaction was arrived on the comparability analysis, there was no rationale to retain the comparables which had related party transactions. He was of the opinion that only if it was not possible to find out any comparable without the related party transaction, the Transfer Pricing Officer had to apply a suitable filter to identify such comparables, margins which were not influenced by the related party transaction to make a purposive interpretation of uncontrolled transaction.
- Thus, it was held that there was no need to include any comparable which had a related party transaction as there were a number of comparables available for the study which did not have any related party transactions. Holding this, he excluded certain comparables.
- Nil percentage criteria would result in the selection of very few companies which may not give sufficient base for comparable. If the related party transactions did not have a material effect on the overall profit margins then that company could still be considered as a comparable. The Act does not provide directly as to what percentage of related party transactions can have a material effect on the overall margins.
- But, however, guidance can be taken from definition of the Associated Enterprise from Section 92A(2)(e), wherein it is prescribed that one enterprise holding 26% shares in the other enterprise can be considered as an associate enterprise. Similarly in the provisions of Section 40A(2)(b) the persons having a substantial interest is described as a person carrying not less than 20% of voting power in that company. Thus it is found that 20% or 26% interest is considered as substantial interest.
- As the provisions of Section 92A(2)(a) are from the transfer pricing chapter itself, a limit of 25% is applied as the threshold limit for the related party transactions. If the limit is reduced further it would only result in eliminating more and more companies, on the other hand, if the limit is relaxed then companies with predominantly related party transactions would get included which would not represent uncontrolled transactions. The companies having more than 25% related party transactions should, therefore, be rejected as comparables.
- Hence, keeping in view the entirety of the facts, the decision of the Commissioner of Income Tax (Appeals) on the issue of Related Party Transaction could not be upheld.
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