2017 (4) TMI 1448 - AT - Income Tax

TPA - comparable selection - HELD THAT - Assessee is engaged in the business of providing digital imaging services falling within the category of IT enabled Services (ITeS) to its AEs. The assessee-company is compensated by the AE at cost 17% mark-up basis thus companies functionally dissimilar with that of assessee need to be deselected from final list. Accentia Technologies Ltd (seg) - the extraordinary event is a relevant factor for considering the comparability of company only when it has resulted into abnormal influence on the functions and profit margins of the company. Undisputedly the TPO took the segmental result/data of this company for determination of ALP hence it becomes relevant and crucial to verify whether an extraordinary event of merger or demerger happened in the ITES segment or not We therefore set aside the issue of comparability of this company to the record of TPO/AO and direct to decide the same as per law and functional comparability of this company. Eclerx Servivces Ltd - this company provides data analysis and data process solution and is recognised as experts in chosen market financial cruises retail and manufacturing It was found to have being providing complete business solutions. The nature different field of services provided by this company clearly show that it is not functionally comparable with the software development services. Accordingly we direct the TPO/AO to exclude this company from the set of comparables. Infosvs BPO Ltd engaged in the business of software product therefore it is clear that the company apart from having its own IPR and brand value also engaged in the software product. Therefore this company cannot be considered functionally similar to that of assessee and accordingly we direct the AO/TPO to exclude from the list of comparables. Accentia Technologies Ltd (seg) company is engaged in providing engineering design services and software development services. In the segment ITES this company is deriving income from engineering design services and software development services and segmental data of this company does not give separate revenue and margin relating to the software development services. Therefore in view of the facts that this company is engaged in the various different functions including the design engineering services this company cannot be considered as functionally comparable with the assessee. Applying turnover filter of 1 to 200 crores - the turnover cannot be relevant criteria in a service sector where fixed overheads are nominal and the cost of service is in direct proportion to the services rendered. Following this reasoning we hold that the above companies cannot be excluded from the list of comparables. Therefore we direct that E-Clerk and Infosys Services cannot be excluded on the ground of turnover but these comparables came to be excluded in the ground of functionality Application of 0% RPT - DRP was not justified in applying 0% RPT. Accordingly we reverse the findings of the DRP to this extent. Treat foreign exchange gain as part of operating income - HELD THAT - The direction of the DRP is in line with settled proposition of law where foreign exchange fluctuation had arisen on account of sale proceeds the same may be treated as operating income. Therefore we do not find any reason to interfere with the directions of the DRP. Grant of working capital adjustment. The finding of the DRP is in line with settled proposition of law. Therefore we do not intend to interfere with the directions of the DRP. Deduction u/s 10A computation - reduce expenses incurred in foreign currency unrealized sales foreign exchange loss communication expenses internet charges freight and foreign travel expenses both from export turnover as well as from total turnover. Case of TATA ELXSI LTD. 2011 (8) TMI 782 - KARNATAKA HIGH COURT followed.

Summary

Issues Involved:
1. Transfer Pricing Adjustment.
2. Selection of Comparables.
3. Application of Filters by TPO.
4. Foreign Exchange Fluctuation.
5. Working Capital Adjustment.
6. Reduction of Expenses from Export Turnover and Total Turnover.

Detailed Analysis:

1. Transfer Pricing Adjustment:
The assessee-company, a wholly-owned subsidiary of ScanCafe Inc., USA, engaged in providing digital imaging services, reported international transactions amounting to ?17,58,08,037/-. The assessee justified the arm's length nature of these transactions using the Transactional Net Margin Method (TNMM) with a profit margin of 17.1%. The Transfer Pricing Officer (TPO) accepted TNMM as the appropriate method but rejected the assessee’s comparables, leading to a TP adjustment of ?1,17,43,778/-. The TPO identified a different set of comparables and computed an adjusted arithmetic mean of 26.63%.

2. Selection of Comparables:
The assessee contested the inclusion of certain companies as comparables, namely Accentia Technologies Ltd., Acropetal Technologies Ltd. (seg), E-Clerx Services Ltd., ICRA Online Ltd., and Infosys BPO. The Tribunal, referencing previous decisions, found these companies not comparable due to functional dissimilarities. For instance, E-Clerx Services Ltd. was excluded as it provides high-end services involving specialized knowledge, whereas the assessee provides low-end ITES services. Infosys BPO was excluded due to its substantial brand value and involvement in software products, making it functionally dissimilar to the assessee.

3. Application of Filters by TPO:
The TPO applied several filters, such as excluding companies with less than ?1 crore in ITES income, companies with service income less than 75% of total revenue, and companies with more than 25% related party transactions. The Tribunal upheld the application of these filters but directed the TPO to exclude companies that had undergone extraordinary events like mergers or acquisitions if such events affected the comparability.

4. Foreign Exchange Fluctuation:
The assessee argued that foreign exchange fluctuations should be treated as operating in nature. The Dispute Resolution Panel (DRP) upheld this contention, and the Tribunal agreed, noting that foreign exchange gains arising from sales proceeds should be considered as operating income.

5. Working Capital Adjustment:
The DRP directed the TPO to grant working capital adjustment, a decision aligned with settled legal principles. The Tribunal upheld this direction, finding no reason to interfere.

6. Reduction of Expenses from Export Turnover and Total Turnover:
The Assessing Officer (AO) reduced telecommunication and freight expenses incurred in foreign currency from the export turnover for calculating the benefit under Section 10A of the Act. The DRP directed that these expenses should be reduced from both export turnover and total turnover, in line with the jurisdictional High Court's decision in CIT vs. Tata Elxsi Ltd. The Tribunal upheld this direction.

Conclusion:
The Tribunal partly allowed the assessee’s appeal by directing the exclusion of certain companies from the list of comparables and upheld the inclusion of foreign exchange gains as operating income. The revenue's appeal was also partly allowed, reversing the DRP's application of a 0% related party transaction filter but upholding other directions. The cross objections filed by the assessee were dismissed as withdrawn.