2018 (7) TMI 2111 - AT - Income Tax

Depreciation on website development cost - @25% or 60% - HELD THAT - Assessee is entitled to claim of depreciation @ 60% as relying on own case 2012 (3) TMI 330 - ITAT DELHI TP Adjustment - benchmarking adopted by the assessee and the approach followed by the CIT (A) for the international transactions of the assessee at arm s length - assessee has chosen Transactional Net Margin Method TNMM) being the most appropriate method with profit level indicator of Net Cost Plus (NCP) i,e Net Profit/Total Expenses i.e. comparison has been done at net level - HELD THAT - We are of the opinion that the selection of most appropriate method by the TPO of resale price method is incorrect as resale price method is inapplicable to the facts of the assessee. Apart therefrom, while determining the arm's length price, the TPO has benchmarked the margin of profit earned in subagent segment with the margin of profit earned by the assessee from its direct customers. In doing so, TPO has failed to appreciate that AE of the assessee is not the customer of the assessee, and it is assessee who is the acting as subagent of the AE and in respect of such transactions, assessee has also been remunerated. Since the direct customer segment and subagent segment are materially different as such, the margin of profit earned by the assessee in respect of transactions entered with its AE is not comparable with the margin of profit earned by the assessee with its direct customers. Further, if the approach of the TPO is to be applied then the effect of the comparison would be that assessee will receive 15,90 percent of the total gross profit earned by the AE, and in such circumstances proper adjustment would be to allocate the proportionate operating expenses incurred by the AE, and in such circumstances, the effect would be that there would be downward adjustment to the book value of international transactions of the assessee, which itself contravenes the section 92(3) of Income Tax Act. In summary, appeal of the revenue in relation to the benchmarking adopted by the assessee and the approach followed by the CIT (A) for the international transactions of the assessee is arm s length and the grounds raised by the Revenue are dismissed

Summary

Issues Involved:
1. Transfer Pricing (TP) Adjustment
2. Disallowance of Website Development Expenses

Issue-wise Detailed Analysis:

1. Transfer Pricing (TP) Adjustment:
The primary issue revolves around the TP adjustment of INR 8,043,918. The appellant contended that the Dispute Resolution Panel (DRP) erred by summarily rejecting their objections without considering the merits and facts. The appellant argued that the Transfer Pricing Officer (TPO) wrongly modified their business characterization and applied the Cost Plus Method (CPM) based on conjectures. They also claimed that the TPO did not serve a show-cause notice, violating natural justice principles. The appellant further argued that the TPO's application of CPM was erroneous and that the benefit of the +/- 5% range as per Section 92C(2) was not provided. Additionally, the appellant contended that there was no intention to shift profits outside India, and the TPO's observations were baseless.

The tribunal observed that the TP adjustment issue was already decided in the appellant's favor for the previous assessment year (2005-06) by the Co-ordinate Bench of the Tribunal, which was upheld by the Hon’ble Delhi High Court. The tribunal noted that the appellant’s business segments (direct customer and sub-agent) were not comparable due to differences in functions and risks. The TPO’s approach of using the Resale Price Method (RPM) was deemed incorrect as it was not applicable to the appellant’s business model. The tribunal also rejected the TPO’s gross margin comparison and upheld the Transactional Net Margin Method (TNMM) as the most appropriate method. Consequently, the tribunal directed the TPO to follow the previous order and pass a fresh order accordingly.

2. Disallowance of Website Development Expenses:
The second issue pertains to the disallowance of INR 3,714,202 as website development expenses. The appellant argued that the Assessing Officer (AO) wrongly treated the entire amount as depreciation instead of allowing depreciation at the rate applicable to software (60%) or intangible assets (25%). The appellant also contended that the AO ignored the fact that similar expenses were allowed in previous assessment years and that the jurisdictional High Court had allowed such expenses as revenue expenditure under Section 37(1) of the Act.

The tribunal found that this issue was also covered by the previous decision of the Co-ordinate Bench for the assessment year 2005-06, which was upheld by the Hon’ble Delhi High Court. The tribunal noted that the AO had accepted the depreciation on the block of assets of website development cost at 60% in the previous year. Therefore, the tribunal held that the appellant was entitled to claim depreciation at 60% for the website development cost. The tribunal allowed the appellant’s ground on this issue and directed the AO to follow the previous order.

Conclusion:
The tribunal allowed the appeal partly, directing the TPO and AO to follow the previous orders of the Tribunal and Hon’ble Delhi High Court for the respective issues. The TP adjustment issue was allowed for statistical purposes, and the disallowance of website development expenses was decided in favor of the appellant. The order was pronounced in the open court on 30th July 2018.