2013 (3) TMI 658 - AT - Income Tax

Method of computing ALP and selection of comparables - Held that - TNMM was determined as the most appropriate method to determine the ALP by assessee - Rejected by TPO - TPO adopted Resale Price Method as the appropriate method - The assessee is engaged in product replacement service transaction - he has no right to fix the resale price or to choose the customer to whom the products are to be sold - thus assessee cannot he held to be a trader or distributor of the goods - TNMM is to be regarded as the most appropriate method as per Hon ble Tribunal the decision in the appellant s own ITA No.1410(Bang)/2010 Held that - Assessee is performing the function of storing the spare parts imported and supply - The comparables adopted by the assessee are also performing similar functions - As per TPO the assets employed and the risk undertaken by these companies are also higher than the assessee hence rejected - This issue ids remitted bck to TPO with a direction to recompute the ALP by adopting the proper comparables - Matter remanded back The assessee co. is involved in undertaking of the required coding of the programs and it is also responsible for physical testing of the products such as integration testing software testing system testing performance and regression testing etc - The size of the comparable is an important factor in comparability process - Tata Elxsi and Flextronics are functionally different from that of the assessee and hence they deserve to be deleted from the list of six comparables and hence there remains only four companies as comparables Held that - Assessee incurred net foreign exchange loss incurred in the normal course of carrying on the business operations as operating in nature and thus included as part of total operating costs - profit/loss on foreign exchange fluctuation is treated as part of operating cost - Decided in favor of revenue

Issues Involved:
1. Transfer Pricing Adjustments for Product Replacement Services
2. Transfer Pricing Adjustments for Software Development Services
3. Corporate Tax Matters including Deduction under Section 10A and Disallowances

Detailed Analysis:

1. Transfer Pricing Adjustments for Product Replacement Services

Facts and Background:
M/s. Cisco Systems India P. Ltd. (the assessee) provides product replacement services to its parent company, Cisco Systems Inc., USA (Cisco US). The assessee purchases spare parts from Cisco US, maintains stock, and facilitates delivery to Cisco US's customers in India. The assessee is compensated with a 1% mark-up on the price of the product replacements and duties, and a 10% mark-up on logistics, warehousing, and other expenses.

Transfer Pricing Study:
The assessee used the Transactional Net Margin Method (TNMM) to determine the Arm's Length Price (ALP) for the product replacement services transaction. The assessee identified 23 comparable companies and determined an arithmetic mean margin of 3.76% on value-added costs, compared to the assessee's margin of 37.14%.

TPO's Analysis:
The Transfer Pricing Officer (TPO) characterized the assessee as a trader/distributor of spare parts and rejected the TNMM method, adopting the Resale Price Method (RPM) instead. The TPO identified different comparables and determined an adjustment of Rs. 20,28,61,348 to the assessee's income.

Tribunal's Decision:
The Tribunal referred to its earlier decision in the assessee's own case for AY 2006-07, where it was held that TNMM is the most appropriate method for determining ALP. The Tribunal directed the Assessing Officer to recompute the ALP using TNMM and proper comparables, considering the benefit of +/- 5% range as per the amended provisions of the Act.

2. Transfer Pricing Adjustments for Software Development Services

Facts and Background:
The assessee provides software development services to Cisco Technology Inc. and is remunerated on a cost-plus 10% mark-up basis. The assessee used TNMM to determine the ALP, identifying 28 comparable companies with an arithmetic mean margin of 14.53% on operating costs, compared to the assessee's margin of 14.99%.

Issues Raised:
- Use of multiple year data
- Use of section 133(6) without cross-examination
- Application of turnover filter
- Selection of comparables with abnormally high margins
- Functionally dissimilar comparables
- Treatment of foreign exchange gains/losses

Tribunal's Decision:
The Tribunal applied the turnover filter as per the decisions in Genisys Integrating Systems India Ltd. and Trilogy E-business Software India Pvt. Ltd., limiting comparables to those with turnovers between Rs. 200 crores and Rs. 2000 crores. This resulted in only six comparables being considered. The Tribunal also excluded Tata Elxsi Ltd. and Flextronics Software Systems Ltd. due to functional dissimilarities. The Tribunal directed the TPO to consider +/- 5% range and to treat foreign exchange gains/losses consistently for both the assessee and comparables.

3. Corporate Tax Matters

Reduction from Export Turnover for Section 10A Deduction:
The Assessing Officer reduced various expenses (lease line charges, internet charges, telephone charges, international assignee costs, and travel expenses incurred in foreign currency) from the export turnover for computing the deduction under section 10A.

Tribunal's Decision:
The Tribunal referred to the Karnataka High Court's decision in the assessee's own case for AY 2004-05, which held that if expenses are excluded from export turnover, they should also be excluded from total turnover. The Tribunal allowed the assessee's appeal on this issue.

Levy of Interest under Section 234D:
The issue of interest under section 234D was deemed consequential, and the Tribunal directed the Assessing Officer to provide consequential relief.

Other Grounds:
Certain other grounds were raised but not seriously argued. The Tribunal did not address these, as the primary adjustments would bring the adjusted Arithmetic Mean within the Arm's Length Price.

Conclusion:
The appeal was partly allowed for statistical purposes, with specific directions to the Assessing Officer and TPO to recompute ALP and deductions as per the Tribunal's findings and applicable legal provisions.

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