2015 (7) TMI 864 - AT - Income Tax

Disallowance of a part of deduction claimed u/s 10A - main plank of AR s submission is even assuming that provisions of section 10A(7) are applicable, still AO without satisfying the conditions of section 80IA(1) cannot estimate the profit for computation of deduction u/s 10A - whether disallowance of deduction u/s 10A of the Act by applying the provisions of section 80IA(1) is valid? - Held that - As relying on AT Kearney India Pvt. Ltd. Vs. Add. CIT 2014 (9) TMI 128 - ITAT DELHI it is noticed that in the present case also AO has simply relied on the TP study report of assessee to conclude that the profit earned by assessee cannot be considered to be reasonable profit earned from eligible business and on that basis has disallowed part of the deduction u/s 10A. Therefore, since AO has not conclusively proved the fact that there is an arrangement between assessee and its AE by which the transactions were so arranged as to produce more than the ordinary profits in the hands of assessee, disallowance of part deduction claimed by applying the provisions of section 80IA(10), in our view is not justified. Since ld. CIT(A) upheld the disallowance without examining the aforesaid aspect, order of ld. CIT(A) deserves to be set aside. The conditions of section 80IA(1) having not been fully complied by AO, disallowance of deduction claimed u/s 80IA(10), in our view is not justified. Accordingly, we delete the addition made by AO in this regard. - Decided in favour of assessee.

Summary

Issues Involved:
1. Disallowance of a part of the deduction claimed under Section 10A of the Income Tax Act.
2. Applicability of Section 10A(7) and Section 80IA(10) of the Income Tax Act.
3. Examination of whether the profit earned by the assessee is at arm's length.

Detailed Analysis:

1. Disallowance of a part of the deduction claimed under Section 10A of the Income Tax Act:
The assessee, engaged in software development, claimed a deduction under Section 10A amounting to Rs. 148,27,467 for AY 2007-08. The AO observed that the profit margin earned by the assessee on export of software to its AE was 50%, significantly higher than the average profit margin of 15% of comparable companies. The AO allowed a profit margin up to 20%, disallowing 30% of the total turnover as excess profit, resulting in a disallowance of Rs. 87,34,406 from the deduction claimed under Section 10A. The CIT(A) initially deleted this addition, but ITAT remitted the matter back to CIT(A) for reconsideration under Section 10A(7).

2. Applicability of Section 10A(7) and Section 80IA(10) of the Income Tax Act:
Upon remand, the CIT(A) applied the provisions of Section 10A(7) and Section 80IA(10), concluding that the profit margin of 50% was significantly higher than the average of 15% for comparable companies, indicating a close connection between the assessee and its AE. The CIT(A) upheld the AO's decision to restrict the profit margin to 20% and disallow the excess profit from the deduction claimed under Section 10A, amounting to Rs. 87,34,406.

3. Examination of whether the profit earned by the assessee is at arm's length:
The assessee argued that the AO did not satisfy the conditions of Section 80IA(10), which requires proving that an arrangement between the assessee and its AE resulted in more than ordinary profits. The assessee cited various judicial decisions to support its contention. The ITAT observed that the AO relied solely on the TP documentation without providing a conclusive finding or material evidence that the profit earned by the assessee was not at arm's length due to an arrangement with its AE. The ITAT emphasized that excess profit could be due to various factors and not necessarily due to an arrangement between related parties. The ITAT concluded that the AO did not fulfill the conditions of Section 80IA(10) and thus, the disallowance of the deduction under Section 10A was not justified. Consequently, the ITAT set aside the order of the CIT(A) and deleted the addition made by the AO.

Conclusion:
The ITAT allowed the appeal of the assessee, ruling that the disallowance of part of the deduction claimed under Section 10A was not justified as the AO did not conclusively prove an arrangement that resulted in more than ordinary profits. The conditions of Section 80IA(10) were not fully complied with, leading to the deletion of the addition made by the AO. The appeal was pronounced in favor of the assessee on 30th June 2015.