2012 (5) TMI 314 - AT - Income Tax

Transfer pricing - arm s length price - extraordinary expense - selection of comparable - held that - Since the adjudication on this issue has resulted in operating margin of the assessee at 17.80% which is higher than the operating margin of 17.09% earned by the comparable companies selected by the TPO, international transactions undertaken by the assessee satisfies the arm s length criteria. - In such scenario, as agreed by both the counsel, adjudication of another Transfer Pricing issue in this regard is infructuous. Expenditure on activity of the shifting of office versus re-establishment of business - held that - The said expenses incurred on relocation of the office are essentially revenue expenses in as much as it did not result in enduring benefit in the capital field - allowed as revenue expenditure. Recruitment expenses - revenue or capital - held that - the assessee incurred an aggregate amount of Rs. 20,70,000/- as recruitment expenses, being expenses incurred in relation to hiring of employees, which were paid to consultants and for advertisement and other incidental expenses as revenue expenditure. We agree that the aforesaid expenditure are essentially on revenue account and did not result in either an enduring benefit in capital filed or creation of capital assets - Decided in favor of assessee.

Issues Involved:
1. Legality of the assessment order.
2. Addition due to difference in Arm's Length Price (ALP).
3. Rejection of comparable companies.
4. Selection of new comparable companies.
5. Adjustment for extraordinary expenses.
6. Treatment of office relocation expenses.
7. Treatment of recruitment expenses.

Issue-wise Detailed Analysis:

1. Legality of the Assessment Order:
The assessee challenged the assessment order dated 15.10.2010, completed under section 143(3) read with section 144C of the IT Act, 1961, as illegal and bad in law. The tribunal did not specifically address this issue as the primary focus was on the transfer pricing adjustments and related matters.

2. Addition Due to Difference in Arm's Length Price (ALP):
The assessing officer made an addition of Rs. 1,38,85,561 due to the alleged difference in the ALP of the international transaction of software design and development services provided to the holding company, based on the order passed under section 92CA(3) by the Transfer Pricing Officer (TPO).

3. Rejection of Comparable Companies:
The TPO rejected several comparable companies identified by the assessee, citing reasons such as related party transactions exceeding 15% of sales and persistent losses. The tribunal analyzed the TPO's reasons and found that the rejection of these companies was not justified. The tribunal emphasized that the comparability analysis should consider all relevant facts and circumstances, and the TPO's approach was found to be overly restrictive.

4. Selection of New Comparable Companies:
The TPO included new companies in the list of comparables, expanding the sales filter from Rs. 200 crores to Rs. 500 crores. The tribunal found that the TPO erred in including certain companies that were not functionally comparable to the appellant. The tribunal also noted inconsistencies in the TPO's approach, such as ignoring high depreciation in one company while rejecting another for the same reason.

5. Adjustment for Extraordinary Expenses:
The assessee claimed an adjustment of Rs. 1,11,73,078 for extraordinary expenses, including relocation expenses, additional rent, and salary for unproductive hours due to the office shift caused by the Municipal Corporation of Delhi's sealing drive. The TPO rejected this claim, but the tribunal found the assessee's arguments convincing. The tribunal held that the adjustment was justifiably claimed, and the operating margin after adjustment was higher than the comparable companies' margin, satisfying the arm's length criteria.

6. Treatment of Office Relocation Expenses:
The assessing officer treated the office relocation expense of Rs. 32,88,224 as capital expenditure and disallowed the claim under section 37(1). The tribunal disagreed, citing the Supreme Court's test for determining capital expenditure. The tribunal held that the relocation expenses were incurred to facilitate efficient business operations and did not result in enduring benefits in the capital field. Therefore, the expenses were allowable as revenue expenditure.

7. Treatment of Recruitment Expenses:
The assessing officer treated recruitment expenses of Rs. 20,70,000 as capital expenditure, arguing that human resource power is the main building block of the company. The tribunal disagreed, stating that recruitment expenses are revenue in nature as they do not result in enduring benefits or creation of capital assets. The tribunal allowed the deduction for recruitment expenses under section 37(1).

Conclusion:
The tribunal allowed the appeal filed by the assessee, holding that the TPO's reservations were not cogent and the assessee's claims for adjustments and deductions were justified. The tribunal's decision emphasized the importance of considering all relevant facts and circumstances in transfer pricing analysis and the proper classification of expenses for tax purposes.

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