2016 (11) TMI 1402 - AT - Income Tax

Transfer pricing adjustment - Held that - Assessee is a captive service provider for its associated enterprises abroad primarily USA-based entities. The assessee is a part of Ness Technology Inc. USA group which is a leading global information technology services concern. The assessee company has four units in India located at Bangalore Hyderabad Mumbai and Pune and is providing software development services to its group enterprises thus companies functionally dissimilar with that of assessee need to be deselected from final list of comparable. International Transactions on recovery of expenses - Recovery of mark-up or profit element in the hands of assessee - Held that - All the material clearly brings out a pertinent feature that in the entire transaction involving payment of expenditure by the assessee its recovery from the associated enterprises which-in turn recovers it from the end clients there is no involvement of any profit-element in the hands of the associated enterprises. Therefore it would be wrong on the part of the income tax authorities to take a position and infer notionally about recovery of mark-up or profit element in the hands of assessee. It has also been brought out that it is a standard practice in the I.T. Industry to recover out of pocket expenses incurred during the course of providing services for the clients on a cost to cost basis. Under these circumstances in our view the Transfer Pricing Officer erred in proceeding to infer a non-existent understanding between assessee and its associated enterprises so as to impute income qua the instant transaction in terms of section 92(1) of the Act. Another pertinent fact which has not been rebutted by the Revenue before us is to the effect that in similar situation from assessment year 2004-05 to 2010-11 no transfer pricing adjustment has been made by the Assessing Officer in relation to the International Transactions on recovery of expenses. Determination of arm s length price for the service charges at 10% of the expenses recovered - Held that - Section 92C prescribes the manner of determination of the arm s length price and sub-section (1) thereof specifically lays down various methods by which the determination of arm s length price has to be made. It is quite clear that there is no adhocism permissible in the manner of computation of arm s length price of an international transaction whereas the action of the Transfer Pricing Officer in considering the arm s length price @10% of the expenses recovered is not only adhoc but it also does not conform to any of the methods prescribed in section 92C(1) of the Act. On this count itself the action of the TPO is suspect even if it is to be understood that the impugned transaction was an international transaction requiring computation of income having regard to its arm s length price. Thus the action of the Transfer Pricing Officer/Assessing Officer in making an addition deserves to be set-aside.

Issues Involved:
1. Assessment of total income.
2. Transfer pricing adjustments.
3. Reference to Transfer Pricing Officer (TPO).
4. Rejection of economic analysis and use of single-year data.
5. Selection and rejection of comparable companies.
6. Risk adjustment.
7. Benefit of +/- 5% range.
8. Adjustment to international transactions of reimbursement of expenses.
9. Levy of interest under Sections 234B and 234C.
10. Initiation of penalty proceedings under Section 271(1)(c).

Detailed Analysis:

1. Assessment of Total Income:
The assessee contested the assessment of total income at ?65,05,53,290 against ?38,75,66,510 as declared in its return. The Tribunal noted the Assessing Officer's adjustment based on the Transfer Pricing Officer's (TPO) recommendations, which were partly upheld by the Dispute Resolution Panel (DRP).

2. Transfer Pricing Adjustments:
The primary dispute involved the transfer pricing adjustment of ?26,29,86,783. The TPO's adjustment was based on the premise that the international transactions with associated enterprises (AEs) were not at arm's length. The Tribunal examined the comparables selected by the TPO and DRP, leading to the exclusion of certain companies like E-Infochips Limited, Infosys Limited, and Wipro Technology Services Ltd. due to functional dissimilarities and other discrepancies.

3. Reference to Transfer Pricing Officer (TPO):
The assessee argued that the reference to the TPO under Section 92CA(1) was erroneous. However, the Tribunal did not find substantial merit in this contention and focused on the outcomes of the TPO's analysis.

4. Rejection of Economic Analysis and Use of Single-Year Data:
The assessee's use of a three-year weighted average data for comparables was rejected in favor of single-year data for FY 2010-11. The Tribunal upheld the use of single-year data, aligning with the TPO's methodology.

5. Selection and Rejection of Comparable Companies:
The Tribunal scrutinized the selection and rejection criteria applied by the TPO and DRP. It upheld the exclusion of E-Infochips Limited, Infosys Limited, and Wipro Technology Services Ltd. due to functional differences and lack of segmental data. The Tribunal also noted that the inclusion of companies like CAT Technologies Ltd. and CG-VAK Software & Exports Ltd. by the DRP was justified despite their involvement in medical transcription and IT consultancy activities.

6. Risk Adjustment:
The Tribunal acknowledged the assessee's contention for risk adjustments as per Rule 10C(2)(e) but did not provide explicit relief, focusing instead on the comparability analysis.

7. Benefit of +/- 5% Range:
The Tribunal noted that with the exclusion of certain comparables, the assessee's margin fell within the +/- 5% range of the arm's length price, rendering the transfer pricing adjustment moot.

8. Adjustment to International Transactions of Reimbursement of Expenses:
The TPO's addition of ?3,19,51,284 as a markup on reimbursement of expenses was contested. The Tribunal found that the expenses were recovered on a cost-to-cost basis without any service element, and thus, the addition was unwarranted and set it aside.

9. Levy of Interest under Sections 234B and 234C:
The Tribunal noted that the interest under Sections 234B and 234C was consequential and did not require specific adjudication.

10. Initiation of Penalty Proceedings under Section 271(1)(c):
The Tribunal dismissed the ground related to the initiation of penalty proceedings as premature.

Conclusion:
The Tribunal partly allowed the assessee's appeal by excluding certain comparables and setting aside the transfer pricing adjustment on reimbursement of expenses, while the Revenue's appeal was dismissed. The order emphasized the importance of functional comparability and adherence to prescribed methods in transfer pricing analysis.

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