Delhi High Court Rules Existence of International Transaction Must Be Established Before Transfer Pricing Benchmarking

In a recent judgment, the Delhi High Court underscored the imperative of establishing the existence of an 'international transaction' before initiating any transfer pricing benchmarking analysis. This ruling emphasizes that the foundational step in transfer pricing assessments is the identification of such transactions between associated enterprises (AEs), as defined under Section 92B(1) of the Income Tax Act, 1961.

The case in question involved an Indian entity engaged in producing liquor for renowned brands like Jim Beam. The core issue was whether the Advertisement, Marketing, and Promotion (AMP) expenditures incurred by the assessee for a brand owned by its AE constituted an 'international transaction'. The Transfer Pricing Officer (TPO) observed that the assessee had incurred substantial AMP expenses, suggesting an intent to enhance the AE's brand presence in India. The TPO posited that since the AE legally owned the brand, it was the primary beneficiary of the assessee's promotional efforts.

However, the Income Tax Appellate Tribunal (ITAT) ruled in favor of the assessee, stating that the Revenue had not provided concrete evidence to demonstrate the existence of an international transaction between the assessee and its AE. The ITAT emphasized that merely inferring the existence of such a transaction based on high AMP expenditure was insufficient. The Tribunal held that without tangible material evidence, it would be erroneous to assume that the expenditure was incurred for the AE's benefit solely because it appeared excessive.

Upon appeal, the Delhi High Court concurred with the ITAT's findings. The Court highlighted that the mere relationship between the parties does not automatically imply the existence of an international transaction. There must be concrete evidence of an arrangement or understanding between the assessee and the AE regarding the incurrence of AMP expenses for the AE's benefit. The Court asserted that initiating a benchmarking analysis without first establishing the existence of an international transaction is procedurally incorrect.

This judgment reinforces the principle that the identification of an international transaction is a prerequisite for any transfer pricing analysis. Tax authorities must base their assessments on tangible evidence rather than presumptions or inferences drawn from the nature of expenses incurred by the assessee. The ruling serves as a critical reminder that adherence to procedural protocols is essential to ensure fair and accurate transfer pricing assessments.