2014 (12) TMI 681 - AT - Income Tax

Export of software development services Selection of comparables Functionally dissimilar company - Avani Cincom Technologies Ltd. - Persistent Systems Ltd. - Softsol India Ltd. - Held that - Following the decision in M/s. 3DPLM Software Solutions Ltd. (Successor to Delmia Solutions Private Ltd.) Versus Dy. Commissioner of Income Tax 2014 (12) TMI 612 - ITAT BANGALORE - it was the duty of the TPO to have necessarily furnished the information so gathered to the assessee and taken its submissions thereon into consideration before deciding to include this company in its final list of comparables - Non-furnishing the information obtained u/s 133(6) of the Act to the assessee has vitiated the selection of this company as a comparable - even in the earlier year this company was not selected on the basis on any search process carried out by the TPO but only on the basis of information collected u/s 133(6) - the assessee has brought on record evidence that this company is functionally dissimilar and different from the assessee and hence is not comparable - the finding excluding it from the list of comparables rendered in the immediately preceding year is applicable in this year also thus this company cannot be considered as a comparable to the assessee Decided in favour of assessee. Functionally dissimilar company Celestial Biolabs Ltd. - KALS Information Systems Ltd. - Held that - Following the decision in M/s. 3DPLM Software Solutions Ltd. (Successor to Delmia Solutions Private Ltd.) Versus Dy. Commissioner of Income Tax 2014 (12) TMI 612 - ITAT BANGALORE - this company is held to be functionally dissimilar and different from a software service provider informatics as it is into bio software products and is not comparable to a mere software service provider - the TPO has not carried out any independent FAR analysis for this company for this year viz. Assessment Year 2008-09 thus this company is functionally different and cannot be considered as a comparable to the assessee who is a software service provider and AO is directed to omit this company from the final list of comparables. Functionally dissimilar company Infosys Technologies Ltd. Held that - Following the decision in M/s. 3DPLM Software Solutions Ltd. (Successor to Delmia Solutions Private Ltd.) Versus Dy. Commissioner of Income Tax 2014 (12) TMI 612 - ITAT BANGALORE - this company be omitted from the final set of comparables for the reason that this company is functionally different as it has its own intangibles IPR brand and has huge revenues from software products whereas the assessee is a mere software services provider - assessee has brought on record sufficient evidence to establish that this company is functionally dis-similar and different from the assessee and hence is not comparable - this company owns its own intangibles has huge software product revenues brand etc. and therefore cannot be considered as a comparable to the assessee who is a mere software service provider Decided in favour of assessee. Functionally dissimilar company Wipro Ltd. Tata Elxsi Ltd. - Lucid Software Ltd. - Held that - Following the decision in M/s. 3DPLM Software Solutions Ltd. (Successor to Delmia Solutions Private Ltd.) Versus Dy. Commissioner of Income Tax 2014 (12) TMI 612 - ITAT BANGALORE - this company be omitted from the final set of comparables for the reason that it is not functionally comparable to software service providers as it is into development of software products etc. - this company is engaged both in software development and product development services - There is no information on the segmental bifurcation of revenue from sale of product and software service - this company being into software development etc is functionally different and cannot be considered as a comparable to the assessee who is a software service provider. Thirdware Solutions Ltd. (Segment) Held that - Following the decision in M/s. 3DPLM Software Solutions Ltd. (Successor to Delmia Solutions Private Ltd.) Versus Dy. Commissioner of Income Tax 2014 (12) TMI 612 - ITAT BANGALORE - this company is to be excluded from the final list of comparables as it is engaged in product development and its income is also from trading in software licences and is therefore not comparable to a software development service provider like the assessee thus this company cannot be considered as a comparable to the assessee. Inclusion of Companies as comparables Held that - The TPO in his order u/s 92CA has not explained as to how these companies fail the RPT filter thus the matter is to be remitted back to the AO/TPO for examination of the computation given by the assessee on the percentage of RPT and for fresh adjudication Decided in favour of assessee. Risk Adjustment Held that - The TPO has not allowed any adjustment by observing that this has been considered and discussed in detail in the order for earlier years as held in Intellinet Technologies India (P.) Ltd. v. ITO 2012 (6) TMI 237 - ITAT BANGALORE - the TPO ought to have given risk adjustment to the margins of the comparables for bringing them on par with the assessee and remanded the issue back to the file of the TPO thus the matter is remitted back to the AO/TPO for market risk adjustment. Reimbursement of Expenses incurred not to be considered for computing ALP Held that - The breakup of the expenses are not given in detail in the absence of which it is not clear whether it is actually incurred following the decision in LG Soft India (P.) Ltd. Versus Deputy Commissioner of Income-tax Circle - 12(2) 2013 (9) TMI 191 - ITAT BANGALORE - there appears to be need of examination and discussion of the same the matter is to be remitted back to the AO/TPO for detailed examination and verification Decided in favou of assessee. Deduction u/s.10A Reduction of telecommunication expenses from export turnover - Held that - Following the decision in CIT v. Tata Elxsi Ltd 2011 (8) TMI 782 - KARNATAKA HIGH COURT has held that while computing the deduction u/s 10A if the export turnover in the numerator is to be arrived at after excluding certain expenses then the same should also be excluded from the total turnover in the denominator the AO is directed to exclude the expenses on communication and travel incurred in foreign currency both from export turnover as well as from the total turnover while calculating the eligible deduction u/s 10A Decided in favour of assessee.

Summary

Issues Involved
1. Transfer Pricing Adjustment
2. Comparability of Companies
3. Working Capital Adjustment
4. Risk Adjustment
5. Reimbursement of Expenses
6. Deduction under Section 10A of the Income Tax Act

Detailed Analysis

1. Transfer Pricing Adjustment
The primary issue was the adjustment of the Arm's Length Price (ALP) of international transactions. The assessee contested the adjustment of Rs. 5,96,07,719 made by the TPO, which was upheld by the DRP. The Tribunal examined the grounds related to the transfer pricing adjustment and noted that the assessee did not wish to press general grounds but focused on the comparability of individual companies selected by the TPO.

2. Comparability of Companies
The Tribunal analyzed the comparability of several companies included by the TPO and excluded by the assessee:

- Avani Cincom Technologies Ltd.: Excluded as it was into software products, not comparable to the assessee's software development services.
- Celestial Biolabs Ltd.: Excluded due to its involvement in bio-informatics software products/services, making it functionally different from the assessee.
- KALS Information Systems Ltd.: Excluded as it was engaged in software product development, not purely software services.
- Infosys Technologies Ltd.: Excluded due to its significant intangibles, brand value, and software product revenues, making it incomparable to the assessee.
- Wipro Ltd.: Excluded for having significant intangibles and being engaged in both software and product development services.
- Tata Elxsi Ltd.: Excluded as it was predominantly engaged in product designing services.
- Thirdware Solutions Ltd.: Excluded due to its involvement in product development and trading in software licenses.
- Lucid Software Ltd.: Excluded as it was engaged in software product development.
- Persistent Systems Ltd.: Excluded for being involved in product development and design services.
- Softsol India Ltd.: Excluded due to failing the Related Party Transaction (RPT) filter of 15%.

The Tribunal also remanded the issue of comparability of ICRA Techno Analytics Ltd., Aditya Birla Minacs IT Services Ltd., and Aditya Birla Minacs Technologies Ltd. back to the TPO for re-examination.

3. Working Capital Adjustment
The Tribunal directed the TPO to recompute the eligible working capital adjustment based on the revised set of comparables.

4. Risk Adjustment
The Tribunal remanded the issue of risk adjustment back to the TPO, directing them to consider the assessee's limited risk profile and make appropriate adjustments.

5. Reimbursement of Expenses
The Tribunal remanded the issue of reimbursement of expenses to the TPO for detailed examination. It was directed that if the receipts were mere recovery of expenses without any service element, they should not be considered as part of the cost base for computing the mark-up.

6. Deduction under Section 10A of the Income Tax Act
The Tribunal addressed the issue of reducing telecommunication expenditure and expenditure incurred in foreign currency from export turnover while computing the deduction under Section 10A. Following the Karnataka High Court's decision in CIT v. Tata Elxsi Ltd., the Tribunal directed that these expenses should also be excluded from total turnover. Consequently, the alternate grounds raised by the assessee were allowed, and there was no need to adjudicate the other grounds related to this issue.

Conclusion
The Tribunal partly allowed the assessee's appeal, making significant adjustments to the list of comparable companies, directing recomputations for working capital and risk adjustments, and clarifying the treatment of reimbursements and deductions under Section 10A.