2017 (5) TMI 1756 - AT - Income Tax

Reopening of assessment u/s 147 - whether no tangible material came to the possession of AO authorizing him to initiate reassessment proceedings? - exchange fluctuation gain - HELD THAT - The assessee has not included this amount in the income computed under the regular provisions as also in the book profit. Since the addition has been deleted out of the computation of regular income, therefore, we deem it necessary to make no discussion on this receipt. The set of questions before us is that Assessing Officer has recorded the reasons on 10th October, 2006. At that point of time he was required to form his opinion prima facie. It was not incumbent on the Assessing Officer to arrive at a firm conclusion. Ld. counsel for the assessee has also not disputed about the legal position that fluctuation gain should be included in the book profit. His argument is that even after inclusion there is no taxable income under MAT also. To our mind this line of argument is to accept that the Assessing Officer to form a firm opinion about ultimately taxability of income which in his prima facie opinion escaped from taxation. Therefore, we are of the view that at that time when Assessing Officer recorded reasons he cannot be expected to anticipate the ultimate taxability of an item. We do not find any force in the contentions of ld. counsel for the assessee on the first fold of submissions. Assessee has not submitted the letter to the right official alleging therein that the return filed on 14th October, 2004 u/s 139(1) is to be treated as filed in response to the notice u/s 148 of the Act. Therefore, we do not find any merit in this contention of the ld. counsel for the assessee. We do not find any infirmity in the order of ld. CIT(A) for upholding the reassessment for Asst. Year 2004-05. Nature of expenditure - expenditure for purchase of library books and computer software - Revenue or capital expenditure - HELD THAT - In the present case, the assessee which is engaged in the business of providing contract research and development services to its associate enterprise is dependent on the latest information, technology developments at the international level and the future projections. To assist in its attainment of object of running the business prudently, it needs to use latest books and software. In the present era, it is well evident that the computer software are changing every now and then and similarly due to overall in-depth knowledge sharing, the assessee needs to update with the help of books. Expenditure on library books and computer software are not providing any enduring benefit to the assessee generally and they become obsolete and unusable in a very short span of time which may be less than one year or little more and certainly if an assessee observes that majority of expenditure is having a life span of less than a year, then such expenditure on computer software and library books has been rightly treated as revenue expenditure by the assessee. We are, therefore, of the view that in the given facts and circumstances of the case and the type of business activity the assessee is engaged into, assessee has rightly claimed the expenditure on library books and computer software as revenue expenditure and lower authorities erred in treating them as capital expenditure. We, therefore, allow the related grounds of the assessee for AYs 2004-05 to AY 2007-08. TP Adjustment - deferred revenue expenditure written off in five assessment years which has been considered as a part of operating cost by the Revenue Authorities for the purpose of calculating Arms Length Price, applying the TNMM Method - HELD THAT - It is only the operating cost which the assessee can get reimbursed; whereas the impugned expenditure is undisputedly non-operating in nature relating to a period prior to the commencement of commercial operation and has also been disallowed by the assessee suo moto in computing the total income. We also find support to this view from the decision of Co-ordinate Bench of in the case of Pole to Win India (P.) Ltd. 2015 (9) TMI 555 - ITAT BANGALORE wherein it has been held that the expenses which have been disallowed while computing the taxable income are excludable from the computation of operating margin. We are of the view that the deferred revenue expenditure written off at ₹ 70.98 lacs for all the five years should be excluded from the computation of operating cost in order to calculate Arms Length Price as per TNMM Method. Accordingly, this common ground of the assessee for AY 2004-05 to AY 2008-09 is allowed. Selection of comparable - Services provided by Alphageo (India) Ltd includes 2D and 3d surveys, Seismic data acquisition in 2D and 3D, Seismic data processing/reprocessing/special processing, Seismic data interpretation and Reservoir data acquisition and analysis. It shows that Alphageo (India) Ltd is not into research and development but is only engaged in the provision of data into organized forms. Assessee-company SRPTL is into the field of research and development, whereas, Alphageo (India) Ltd is not into research and development but only engaged in provision of data into organized forms. It cannot be taken as a comparable for calculating Arms Length Price with Associate Enterprise by applying TNMM Method. We, therefore, respectfully following the decisions referred above, direct the ld. TPO to exclude M/s. Alphageo (India) Ltd from the list of comparable companies for AY 2004-05 to AY 2008-09. Celestial Labs Limited is basically engaged in the development of tailor made software packages and software tools and does not involve in the research and development activities. The fact that Celestial Labs Limited is not a good comparable to a company involved in research and development activity. Vimta Labs Limited in the list of comparable as not pressed and dismiss the same and direct the ld. TPO to retain Vimta Labs Limited in the final list of comparable companies for calculating the Arm s length price of International transaction entered by SRTPL with Associate Enterprise SABIC. In the result this ground of the assessee is dismissed Exclude Depreciation from operating cost for calculating Profit Level Indicator (PLI) for undertaking transfer pricing analysis or alternatively to provide depreciation adjustment to compute operating margin - HELD THAT - There is a huge difference in asset turnover ratio so much so that assessee s asset turnover ratio is ranging between 17% to 29%; whereas the asset turnover ratio of the comparable is ranging between 71% to 177.8%. It is an admitted fact not disputed by the revenue also that there is a variation in adoption of method of calculating depreciation and also there is a huge difference of asset turnover ratio depicted in the above table. At this level, we agree that the depreciation adjustment has to be provided to calculate the operating profit margin as if evident that there has been substantial under utilization of the assets vis- -vis comparable companies resulting in high depreciation cost to the assessee as compared to its revenues and various depreciation methods followed by the assessee and the comparable companies. We therefore, hold that in the absence of any depreciation adjustment, being granted to the assessee, it would not be possible to make a fair comparability with the comparable and there is a need for reasonable examination/ adjustment whereby the operating margin earned by the assessee would be comparable to the operating margin earned by the comparable companies after providing deprecation adjustment. Whether for calculating operating margin, depreciation is to be excluded from the operating cost or a depreciation adjustment to be allowed by applying the percentage of depreciation to the total cost (excluding depreciation) of the assessee to be applied to other comparable companies? - We observe that the Co-ordinate Bench of Tribunal in the case of Siemens Healthcare Diagnostics Ltd 2014 (12) TMI 892 - ITAT AHMEDABAD has adjudicated similar issue and have held that the depreciation cost to be excluded from the operating cost for calculating operating profit margin by relying on the decision of the Schefenacker Motherson Ltd. 2009 (6) TMI 125 - ITAT DELHI We find substance in the plea of the assessee of excluding deprecation from operating cost because the ultimate object is to calculate the Arms Length Price with the AE. To arrive at Arms Length Price, comparable are taken as a basis to compute as to whether assessee has charged less revenue as compared to the prevailing market rate or has shown higher cost. The assessee s revised PLI is much better than the average of the comparable .In the given facts of the case, where the asset turnover ratio of the assesseecompany i.e. SRTPL is too low as compared to the asset turnover ratio of the comparable and also due to difference in the method of calculating depreciation and respectfully following the decisions referred above relating to this issue, we are of the view that depreciation should be excluded from the operating cost for the purpose of calculating profit level indicator for doing the transfer pricing analysis of the arm s length price of the international transaction entered with Associate Enterprise. We therefore allow the common ground raised by the assessee. However as the chart showing revised PLI calculated after excluding depreciation cost from the operating cost has been filed before us , we direct the learned Transfer Pricing Officer to verify the calculation shown in the above chart wherein operating cost has been taken after excluding depreciation. Needless to mention that the Assessing Officer will allow adequate opportunity of being heard to the assessee for furnishing necessary details. In the result, we allow the assessee s ground of appeal for calculating the Profit level Indicator of assessee and comparable after excluding depreciation from the operating cost. Penalty u/s 271(1)(c) - addition of foreign exchange gain under MAT provisions for AY 2007-08 - HELD THAT - The amount of notional foreign exchange gain is not under dispute by the Revenue and therefore, the calculation of notional foreign exchange gain submitted by assessee in its financial statement and income tax returns is free from any error. This is also a fact that the assessee is a private limited company and is a part of Saudi Basic Industries Corporation and is engaged in the business of providing contract research and development. As on 31.03.2005, the assessee was having a asset base of ₹ 34.85 crores and is regularly furnishing income tax return; books of accounts are audited and no major defect has been pointed out by the Revenue Authorities. We further observe that assessee has given plausible reasons for reducing the book profit by the amount of notional foreign exchange gain and has also referred to various judgments. For imposing a penalty under Section 271(1)(c) of the Act, the assessee should have either concealed the particulars of income or furnished inaccurate particulars of income. In the given facts, we observe that the assessee has furnished accurate particulars of income and in a bonafide belief has made a claim which was actually not sustainable in law. We find that the assessee should not have been visited with penalty under Section 271(1)(c) of the AcT. Penalty in respect of transfer pricing adjustment - We have allowed the grounds of the assessee for excluding Alphageo from list of comparable, excluding depreciation and deferred revenue expenditure from operating cost of assessee and comparable for calculating operating profit margin, retaining Vimta Lab as comparable. Further we have dismissed revenue s appeal of including Celestial Lab as comparable. We have accordingly directed the learned Transfer Pricing officer to perform Transfer pricing analysis of International transaction with Associate Enterprise in light of our decision on quantum issue. We are, therefore, of the view that as the ld. AO will re-compute the ALP as per our discussions above, there remains no basis for confirming penalty under Section 271(1)(c) of the Act imposed

Summary

Issues Involved:
1. Reopening of Assessments for AY 2004-05 and 2005-06.
2. Disallowance of Expenditure for Purchase of Library Books and Computer Software.
3. Transfer Pricing Adjustments.
4. Calculation of Arm’s Length Price and Depreciation Adjustment.
5. Inclusion/Exclusion of Comparable Companies.
6. Standard Deduction +/- 5% under Section 92C(2).
7. Penalty under Section 271(1)(c) for AY 2007-08 and 2008-09.

Detailed Analysis:

1. Reopening of Assessments for AY 2004-05 and 2005-06:
The assessee challenged the reopening of assessments by the issuance of notice under Section 148. The AO reopened the assessments on grounds that the exchange fluctuation gain was not included in the book profit. The Tribunal initially quashed the reassessment proceedings, but the High Court set aside the Tribunal's order, allowing the AO to proceed. The Tribunal upheld the reopening, stating that the AO was justified in forming a prima facie opinion that income had escaped assessment.

2. Disallowance of Expenditure for Purchase of Library Books and Computer Software:
The AO treated the expenditure on library books and computer software as capital expenditure, whereas the assessee claimed it as revenue expenditure. The Tribunal observed that the nature of the assessee's business required constant updates, making such expenditures non-enduring. Citing the Supreme Court's decision in Alembic Chemicals Works Co Ltd, the Tribunal allowed the expenditure as revenue in nature for AY 2004-05 to AY 2007-08.

3. Transfer Pricing Adjustments:
The AO and TPO made adjustments to the international transactions, treating deferred revenue expenditure as operating costs. The Tribunal held that such expenditures, incurred before the commencement of commercial operations, should not be included in operating costs for transfer pricing purposes. The Tribunal directed the exclusion of deferred revenue expenditure from operating costs for AY 2004-05 to AY 2008-09.

4. Calculation of Arm’s Length Price and Depreciation Adjustment:
The assessee argued for the exclusion of depreciation from operating costs for calculating the Profit Level Indicator (PLI). The Tribunal agreed, noting the significant differences in asset turnover ratios and depreciation methods between the assessee and comparables. The Tribunal directed the TPO to exclude depreciation from operating costs for calculating PLI.

5. Inclusion/Exclusion of Comparable Companies:
- Alphageo India Ltd: The Tribunal excluded Alphageo from the list of comparables, noting its business activities in seismic surveys were not comparable to the assessee's R&D services.
- Celestial Labs Limited: The Tribunal upheld the exclusion of Celestial Labs, as it was engaged in software development, not R&D activities.
- Vimta Labs Limited: The Tribunal retained Vimta Labs as a comparable, as the assessee did not press its exclusion.

6. Standard Deduction +/- 5% under Section 92C(2):
The assessee's claim for a standard deduction of +/- 5% was dismissed as not pressed, in light of the post-amendment provisions of Section 92C(2).

7. Penalty under Section 271(1)(c) for AY 2007-08 and 2008-09:
- AY 2007-08: The Tribunal deleted the penalty related to transfer pricing adjustments, as the quantum additions were to be recalculated. The penalty on foreign exchange gain under MAT provisions was also deleted, citing the assessee's bona fide belief and reliance on judicial precedents.
- AY 2008-09: The Tribunal deleted the penalty related to transfer pricing adjustments, as the quantum issues were to be re-examined.

Conclusion:
The appeals of the assessee were partly allowed, with directions for recalculations and adjustments as per the Tribunal's findings. The revenue's appeals were partly allowed or dismissed based on the Tribunal's detailed analysis of each issue. The Tribunal's order emphasized the importance of functional comparability, appropriate adjustments for depreciation, and the bona fide nature of the assessee's claims in penalty proceedings.