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2012 (12) TMI 1018 - AT - Income TaxTransfer pricing addition - comparable selection criteria - functional similarity - Held that - The assessee is engaged in the business of provision of software development services. The assessee in the relevant previous year entered into the international transaction of rendering the software development services to its associated enterprise. Unrelated enterprise having controlled transaction can not be considered as comparable to the assessee while applying TNMM. As a company having substantiated related party transaction may influence the profits of the company - enterprise is to be considered as uncontrolled for the purpose of benchmarking analysis of the ratio of related party transaction to the relevant base i.e. sales or cost does not exceed the limit of 25%. The related party transaction referred here are those which have a bearing on the net profit of the enterprise. Computation of deduction u/s. 10A. - Held that - We hold that freight telecommunication or insurance charges during the year that are reduced from the export turnover then such sum will also have to be reduced from the total turnover of the company for the purpose of computation of deduction u/s. 10A.
Issues Involved:
1. Transfer Pricing Adjustment 2. Communication Expenses and Section 10A Deduction Issue-wise Detailed Analysis: 1. Transfer Pricing Adjustment: The appeal by the Assessee challenges the order of the Assessing Officer (AO) which included an addition of Rs. 7,87,94,571 due to alleged differences in the arm's length price of international transactions for software design and development services. The AO's decision was based on the Transfer Pricing Officer (TPO)'s order under section 92CA(3) of the Income-tax Act. The Assessee, a private limited company affiliated with Global Logic USA, used the Transactional Net Margin Method (TNMM) to benchmark its international transactions, selecting itself as the tested party with an operating profit/operating cost (OP/OC%) of 14.36%. The Assessee initially selected 8 comparable companies with an average OP/OC of 11.70%, indicating no adjustment was necessary. The TPO, however, rejected certain filters and included three companies with abnormally high profit margins (Saksoft Ltd., Datamatics Technologies Ltd., and 3D PLM Software Ltd.) in the final set of comparables, resulting in an average mean of 27.67%. This led to an adjustment of Rs. 78,794,571. Upon appeal, the Dispute Resolution Panel (DRP) upheld the TPO's order. The Assessee argued that companies with significant related party transactions should be excluded from the comparables. The Tribunal agreed, referencing Rule 10B(1)(e) and various case laws (e.g., Sony India Pvt. Ltd. vs. ACIT, 114 ITD 448) that support excluding companies with related party transactions exceeding 25% of total revenue. After excluding the companies with significant related party transactions, the Tribunal recalculated the average OP/OC% of the remaining companies to be 14.92%. Since the Assessee's OP/OC% of 14.36% fell within the safe harbor range of +/- 5%, the Tribunal concluded that the international transactions were at arm's length and deleted the TPO's adjustment. 2. Communication Expenses and Section 10A Deduction:The second issue involved the AO's reduction of communication expenses amounting to Rs. 1,79,10,869 from the export turnover for computing the deduction under Section 10A of the Income-tax Act. The AO held that these expenses were necessary for the delivery of software and thus should be excluded from the export turnover. The Assessee contended that only 5% of the internet charges were attributable to the delivery of software and that any reduction in export turnover should also be reflected in the total turnover. The Tribunal agreed, citing the Supreme Court's decision in C.I.T. vs. Lakshmi Machine Works (290 ITR 667) and various Tribunal decisions that support the exclusion of such expenses from both export turnover and total turnover for a fair computation of the deduction under Section 10A. Therefore, the Tribunal directed the AO to recompute the deduction under Section 10A after reducing the communication expenses from both the export turnover and the total turnover. Conclusion:The appeal by the Assessee was partly allowed. The Tribunal deleted the transfer pricing adjustment proposed by the TPO and directed the AO to recompute the Section 10A deduction by adjusting the communication expenses from both the export turnover and the total turnover. Order pronounced in the open court on 21/12/2012.
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