2019 (12) TMI 1318 - AT - Income Tax

TP Adjustment - prior period income of the company in the software development and ITeS segment for determination of ALP - HELD THAT - There is no dispute that the amount is the prior period income relevant to the assessment year 2009-10. All the expenses relating to this income had already been accounted for in the earlier assessment year 2009-10. Being so, this amount cannot be considered as operational income of the current assessment year 2010-11. Being so, the DRP is justified in observing that the TP study was undertaken of a particular year, in order to compare Arm s Length Margin based on independent comparables considering the fact that the operating cost of the income pertaining to prior period was debited in the preceding year and the prior period income cannot be treated as part of the operating revenue of subsequent year. Hence, this ground of appeal of the assessee is rejected. Determination of arm s length by the TPO in relation to the software development services segment - Comparable selection - HELD THAT - Larsen Toubro Infotech Ltd. is functionally different from the assessee company and also there is significant onsite services. It was observed that there is no segmental data available coupled with L T Infotech Ltd. is having huge brand value. Hence, it cannot be compared with the assessee company. iGATE Global Solutions Ltd exclusion - Against this comparable, the assessee has not raised any objection before the DRP. Hence, this issue does not arise out of the direction of the DRP. Accordingly, this ground of appeal of the assessee is rejected. Aftec Limited exclusion - As this issue does not arise from the direction of the DRP or the order of the TPO. Against this comparable, the assessee has not raised any objection before the DRP. Hence, this issue does not arise out of the direction of the DRP. Accordingly, this ground of appeal of the assessee is rejected. Determination of ALP in relation to the ITeS segment - Inclusion of comparable - HELD THAT - Informed Technologies India Ltd. is not functionally comparable with the assessee company which is engaged in KPO services. As seen from paper book pg. no.1085, the employee cost ratio was low at 29.93% of total operating income as compared to 59% and onsite expenses was at 13.21% of operating cost. By placing reliance on the on the decision of the Tribunal in the case of Aptara Technologies Pvt. Ltd. 2016 (5) TMI 1404 - ITAT PUNE we direct the A.O./TPO to exclude this company from the list of comparables. BNR Udyog Ltd is engaged in medical transcription, construction and financial activities as against the assessee s activity which is software development and information technology enabled services. Being so, it is not functionally comparable with the assessee s company. The turnover of BNR Udyog Ltd. was only INR 1.45 crores which is less than 10 times of the assessee s turnover of INR 29.78 crores. Further, related parties transactions carried on by BNR Udyog Ltd. is very significant. We are inclined to direct the Assessing Officer to exclude this company from the list of comparables. Accentia Technologies Ltd.company is engaged in medical transcription, medical coding and billing and receivable management services as against the assessee s business of software development and providing information enabled services. No segmental data is available and the company has considerable intangible assets coupled with onsite activity which is 13.79% of the total operating cost. Further, the company had undergone business restructuring during the F.Y. 2009-10 and amalgamation with Asscent Infoserve Private Limited and figures for FY 2009-10 are inclusive of figures of amalgating company - we direct the Assessing Officer/TPO to exclude this company from the list of comparables. Disallowance of deduction u/s. 10B - alternative claim u/s. 10A - HELD THAT - As decided in he case of CIT vs. Flytxt Technology (P) Ltd. 2017 (10) TMI 872 - KERALA HIGH COURT Tribunal is only required to consider the questions of law arising from the facts which are on record, there is no reason why such a question should not be allowed to be raised when it is necessary to consider that question in order to correctly assess the tax liability of an assessee. Even if the contention raised by the learned Senior Counsel for the revenue that the power conferred on the appellants under Section 263 only authorised him to examine whether the order passed by the Assessing Officer is erroneous and prejudicial to the interest of the revenue, that restriction of power cannot affect the powers of the Tribunal which is bound to exercise under Section 254 of the Act. No reason to think that the Tribunal has committed an illegality by directing the Assessing Officer to decide the matter afresh duly adverting to the claim of the assessee for the benefit of Section 10A. - Decided in favour of the assessee. Treatment of foreign exchange fluctuation gain or loss - As submitted that foreign exchange gain or loss must be considered as operating - HELD THAT - As relying on M/S INFAC INDIA PRIVATE LIMITED 2018 (10) TMI 1814 - ITAT CHENNAI we direct the Assessing Officer to exclude the gain or loss on account of foreign fluctuation from the operating expenses for computing the profit and loss. This ground of appeal of the assessee is partly allowed. Allowance of working capital adjustment - DR submitted that working capital adjustment should not have been allowed for the reason that the assessee has negative working capital - HELD THAT - As decided in Zafin Software Centre of Excellence Pvt. Ltd 2018 (5) TMI 1776 - ITAT COCHIN the capital employed by the assessee, including the working capital, and that of comparable companies needs to be taken into consideration. Without comparing the working capital employed by the comparable companies and that of the assessee, this Tribunal is of the considered opinion that there cannot be any transfer pricing adjustment. In view of the above order of the Tribunal, we are inclined to direct the Assessing Officer to consider the working capital adjustment as computed by him while determining the ALP of international transactions of the assessee with its AEs. Comparable selection - DRP had directed to exclude certain companies in the IT segment as they have substantial onsite revenues BUT had not fixed an upper filter for onsite revenue - HELD THAT - We find force in the argument of the Ld. DR that the DRP ought to have fixed the upper filter for onsite revenue so as to exclude certain companies in ITeS segment. In our opinion, it is appropriate to fix the upper filter of 75% for onsite revenue so as to exclude certain companies Since we have observed that upper filter for onsite revenue must be applied at 75%, the Assessing Officer is directed to examine the financials of each company with regard to upper filter for onsite revenue and exclude the same if the upper filter of onsite revenue is more than 75%. With this observation, we remit this issue with reference to the four comparables, i.e., Mindtree Ltd., Zylog System Ltd., Akshay Software Technologies Ltd. and LGS Global Ltd. to the file of the Assessing Officer for fresh consideration. This ground of appeal of the Revenue is partly allowed for statistical purposes. FCS Software Solutions Ltd. - No infirmity in the order of the DRP in holding that this company cannot be retained as comparable since the company was engaged in 3 segments, i.e., IT Consulting, Education and infrastructure, IT Consultancy Division provided application maintenance for which no segmental information was available. It also engaged in R D and had significant intangibles. Further, the company had undergone restructuring during the year. By placing reliance on the decision of Barclays Technology Centre India Pvt. Ltd. 2017 (9) TMI 1831 - ITAT PUNE we direct the Assessing Officer/TPO to exclude this company from the list of comparables. Sasken Communications Technologies Ltd. company cannot be retained as comparable since it was engaged in software products and the company had inventories amounting to ₹ 1.66 crores which indicated that the company is not a purely software development company. Further, the company had undergone restructuring during the year and it was engaged in R D and technology absorption and had significant intangibles. Thus we direct the Assessing Officer/TPO to exclude this company from the list of comparables. Eclerx Services Ltd s engaged in IT enabled services which is nothing but KPO services. Being so, it is not functionally comparable with the assessee company when compared to the services rendered by the assessee company. Even otherwise it fails on account of turnover filter and on account of related party transactions which is at 14.77% and incurred onsite expenses of 16.60%. Being so, the DRP is justified in excluding this company from the list of comparables. Accordingly, we direct the Assessing Officer/TPO to exclude this company from the list of comparables. This ground of appeal of the revenue is dismissed.

Summary

Issues Involved:
1. Non-allowance of prior period income in the computation of margins.
2. Erroneous data used by the TPO.
3. Determination of arm's length price by the TPO in relation to the 'Software Development Services' segment.
4. Determination of arm's length price by the TPO in relation to the 'ITeS' segment.
5. Non-allowance of Foreign Exchange gain or loss as an operating item.
6. Non-allowance of appropriate adjustments to the comparable companies by the TPO.
7. Variation of 5% from the arithmetic mean.
8. Disallowance of tax holiday under section 10B of the Act.
9. Other grounds including refund discrepancies and interest computation.
10. Penalty proceedings under section 271(1)(c).

Detailed Analysis:

1. Non-allowance of Prior Period Income in the Computation of Margins:
The assessee contended that the prior period income of ?55,451,678 should be included in the current year's margins. The TPO excluded this income, considering it a result of material error in prior financial statements. The DRP upheld the TPO's view, stating that the operating cost related to this income was debited in the previous year. The Tribunal agreed with the DRP, rejecting the assessee's appeal, and noted that the case laws cited by the assessee were not applicable.

2. Erroneous Data Used by the TPO:
This ground was not pressed by the assessee and was dismissed.

3. Determination of Arm's Length Price by the TPO in Relation to the 'Software Development Services' Segment:
The assessee challenged the inclusion of several companies as comparables. The Tribunal found that:
- Larsen & Turbo Infotech Ltd.: Excluded due to functional differences, significant onsite services, and lack of segmental data.
- iGATE Global Solutions Ltd., Aftec Limited, Thirdware Solutions Ltd.: These issues were not raised before the DRP, so the Tribunal dismissed these grounds.

4. Determination of Arm's Length Price by the TPO in Relation to the 'ITeS' Segment:
The Tribunal examined the inclusion of certain comparables:
- Informed Technologies India Ltd.: Excluded due to functional dissimilarity and low employee cost ratio.
- BNR Udyog Ltd.: Excluded due to significant related party transactions and functional dissimilarity.
- Accentia Technologies Ltd.: Excluded due to business restructuring, functional dissimilarity, and lack of segmental data.

5. Non-allowance of Foreign Exchange Gain or Loss as an Operating Item:
The DRP directed the AO to consider foreign exchange fluctuation as operating in nature. The TPO rejected this, citing non-availability of data. The Tribunal directed the AO to exclude gain or loss on foreign exchange fluctuation from operating expenses for computing profit and loss, relying on relevant case laws.

6. Non-allowance of Appropriate Adjustments to the Comparable Companies by the TPO:
This ground was not pressed by the assessee and was dismissed.

7. Variation of 5% from the Arithmetic Mean:
This ground was not pressed by the assessee and was dismissed.

8. Disallowance of Tax Holiday under Section 10B of the Act:
The Tribunal allowed the assessee's alternate claim for deduction under section 10A, citing the jurisdictional High Court's judgment in CIT vs. Flytxt Technology (P) Ltd.

9. Other Grounds Including Refund Discrepancies and Interest Computation:
These grounds were not pressed by the assessee and were dismissed.

10. Penalty Proceedings under Section 271(1)(c):
The Tribunal did not specifically address this issue in the detailed analysis provided.

Revenue’s Appeal:

1. Erroneous Allowance of Working Capital Adjustment:
The Tribunal upheld the DRP's direction to allow working capital adjustment, dismissing the Revenue's appeal.

2. Exclusion of Certain Comparables on Application of Upper Turnover Filter in ITes Segment:
The Tribunal remitted the issue to the AO to apply a 75% upper filter for onsite revenue and re-examine the comparables.

3. Suitability of FCS Software Solutions Ltd.:
The Tribunal upheld the DRP’s decision to exclude this company due to lack of segmental information and functional differences.

4. Sasken Communications Technologies Ltd.:
The Tribunal upheld the DRP’s decision to exclude this company due to lack of segmental information and functional differences.

5. Eclerx Services Ltd.:
The Tribunal upheld the DRP’s decision to exclude this company due to its engagement in KPO services, functional dissimilarity, and failing the related party transactions and turnover filters.

Conclusion:
The appeal of the assessee was partly allowed, and the appeal of the Revenue was partly allowed for statistical purposes.