2015 (4) TMI 373 - AT - Income Tax

Transfer pricing adjustment - improper selection of comparable - Held that - Respectfully following the decision of Trilogy E-Business Software India Pvt.Ltd.(2013 (1) TMI 672 - ITAT BANGALORE) we direct that KALS Information Systems Limited and Accel Transmatics Ltd., be excluded from the list of 20 comparable arrived at by the TPO. Tata Elxsi and Infosys Limited has to be excluded from the list of comparable chosen by the TPO as relying on case of Logica Pvt.Ltd. 2015 (3) TMI 401 - ITAT BANGALORE Aztec Software Limited and Geometric Software Ltd. (Seg.) and Megasoft Ltd., are concerned, it is not in dispute before us that the related party transaction in the case of companies exceeds 15% and in view of the decision of the Tribunal in the case of 24 X 7 Customer.Com Pvt. Ltd. 2013 (1) TMI 45 - ITAT BANGALORE followed by this Tribunal in the case of Logica Private Ltd. (supra) wherein it was held that where the RPT exceeds 15%, such companies should not be taken as comparable companies. Following the said decision, we hold that said companies should be excluded from the list of the comparable companies chosen by the TPO while working out the ALP. After excluding the aforesaid comparable from the list of comparable chosen by the TPO, the arithmetic mean of profit margin of the remaining 7 comparable would be 11.30% (unadjusted) and 9.87% after working capital adjustment. The Assessee s profit margin operating profit on cost is 10.15% which is within the / - 5% range permitted under second proviso to Sec.92CA(2) of the Act and therefore the addition made by the TPO and confirmed by the DRP needs to be deleted. Accordingly the same is deleted - Decided in favour of assessee. Disallowance of deduction claimed u/s.10A in respect of profits of the Assessee s Bangalore unit - Held that - the Bangalore unit was not formed by reconstruction of an existing unit or the business of the new unit had not commenced prior to registration with the STPI and therefore deduction u/s.10A of the Act ought not to have been denied on the profits of the Bangalore unit. The deduction claimed by the Assessee is directed to be allowed - Decided in favour of assessee. Exclude telecommunication charges and insurance charges incurred both from export turnover and total turnover - Held that - Taking into consideration the decision rendered by the Hon ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd 2011 (8) TMI 782 - KARNATAKA HIGH COURT , we are of the view that it would be just and appropriate to direct the Assessing Officer to exclude telecommunication charges and insurance charges incurred be excluded both from export turnover and total turnover, as has been prayed for by the assessee in the alternative - Decided in favour of assessee.

Summary

Issues Involved:
1. Transfer Pricing Adjustment.
2. Disallowance of Deduction under Section 10A.
3. Exclusion of Lease Line Expenses from Export Turnover.

Issue-wise Detailed Analysis:

1. Transfer Pricing Adjustment:
The primary dispute centered on the addition made due to the determination of Arm's Length Price (ALP) for international transactions involving software development services. The Transfer Pricing Officer (TPO) selected 20 comparable companies and calculated an arithmetic mean of 20.68%. After adjustments, the ALP was determined, resulting in a shortfall of Rs. 3,90,70,524, treated as a transfer pricing adjustment.

The assessee contested the comparability of certain companies chosen by the TPO:
- KALS Information Systems Limited and Accel Transmatic Ltd. were deemed not functionally comparable, as supported by the Tribunal's decision in Trilogy E-Business Software India Pvt. Ltd. These companies were excluded from the list of comparables.
- Tata Elxsi Ltd. was excluded based on its engagement in niche product development services, making it functionally different from the assessee.
- Infosys Limited was excluded due to its status as a full-fledged risk-assuming entrepreneur with significant intangibles, making it incomparable to the assessee.
- Companies like iGate Global Solutions Ltd., Mindtree Consulting Ltd., Sasken Communications Ltd., and Flextronics Software Systems Ltd. were excluded due to the application of the turnover filter, which considers size as a critical factor in comparability.

After these exclusions, the arithmetic mean of the remaining comparables was 11.30% (unadjusted) and 9.87% after working capital adjustment. The assessee's profit margin of 10.15% fell within the permissible range, leading to the deletion of the transfer pricing adjustment.

2. Disallowance of Deduction under Section 10A:
The assessee claimed a deduction under Section 10A for its Bangalore unit, which was initially disallowed by the Assessing Officer (AO) on the grounds of being formed by reconstruction of an existing unit and commencing business prior to STPI registration. The Tribunal had previously ruled in favor of the assessee for earlier assessment years, a decision upheld by the Karnataka High Court. Following this precedent, the Tribunal directed the allowance of the deduction under Section 10A for the Bangalore unit.

3. Exclusion of Lease Line Expenses from Export Turnover:
The assessee challenged the exclusion of Rs. 5,40,722 as lease line expenses from the export turnover while computing the deduction under Section 10A. The Tribunal, referencing the Karnataka High Court's decision in CIT v. Tata Elxsi Ltd., directed that such expenses should be excluded from both export turnover and total turnover. This alternative prayer was accepted, making further adjudication on the exclusion from export turnover unnecessary.

Conclusion:
The appeal by the assessee was allowed, with the Tribunal directing the exclusion of certain companies from the list of comparables for transfer pricing, the allowance of the deduction under Section 10A for the Bangalore unit, and the exclusion of lease line expenses from both export turnover and total turnover.