2019 (9) TMI 1595 - AT - Income Tax

TP Adjustment - Determination of Arms Length Price (ALP) of the international transaction for rendering software development services (SWD) by the assessee to its Associated Enterprises (AE) under the provisions of section 92 - Comparable selection - exclude is L T Infotech Ltd - HELD THAT - As relying on the light of the decision pointed out by the learned DR, the issue of comparability of this company should be sent back to the AO / TPO for fresh examination as was directed by the Tribunal in the case of CGI Information Systems and Management Consultants Pvt. Ltd., 2018 (10) TMI 1797 - ITAT BANGALORE . We hold and direct accordingly. Exclusion of provision of bad and doubtful debts from the operating cost of the comparable companies - While considering the international transaction in the distribution segment, the TPO has himself considered provision for bad and doubtful debts as part of the operating expenditure and by the same logic he should have treated provision for bad and doubtful debts as part of the operating cost in the hands of the comparable companies also. As far as the software development segment of the assessee is concerned, there is no provision for bad and doubtful debts. As in the case of Principal CIT Vs. Business Process Outsourcing India Pvt. Ltd., 2018 (7) TMI 380 - KARNATAKA HIGH COURT wherein in an appeal against the order of the Tribunal holding that provision for bad and doubtful debts should be considered as part of the operating expenditure, the Hon ble High Court confirmed the order of the Tribunal and dismissed the appeal of the Revenue as one not giving rise to any substantial question of law - we are of the view that provision for bad and doubtful debts should be treated as operating expense while computing the PLI OP/OC of the comparable companies which ultimately remains for comparison.

Summary

Issues:
- Correctness of determination of Arms Length Price (ALP) of international transaction for rendering software development services by the assessee to its Associated Enterprises (AE) under section 92 of the Income Tax Act, 1961.

Analysis:
1. The appeal by the assessee was against the final order passed by the DCIT regarding the determination of ALP for software development services provided to its AE. The key issue was whether the ALP was correctly determined under section 92 of the Act for the Assessment Year 2013-14.

2. The assessee received a sum for the SWD services provided to its AE, and the operating profit to operating cost ratio was calculated at 13%. The assessee selected 5 comparable companies for its Transfer Pricing (TP) study, with an average profit margin of 12.52%. The Transaction Net Margin Method (TNMM) was chosen for ALP determination. The TPO accepted 1 comparable company chosen by the assessee and selected 6 others, resulting in adjustments to the ALP.

3. Following objections by the assessee, the DRP rejected 3 comparable companies chosen by the assessee, leading to a revised computation of ALP. The revised adjustment was incorporated in the final assessment order by the AO, prompting the assessee's appeal before the Tribunal.

4. During the Tribunal proceedings, the assessee requested the exclusion of one comparable company and challenged the treatment of bad and doubtful debts in operating expenditure by the TPO. The company in question, L & T Infotech Ltd., was deemed functionally different from the assessee. The Tribunal referred to previous decisions and remanded the issue back to the AO/TPO for fresh examination.

5. The Tribunal also addressed the treatment of bad and doubtful debts as operating expenses in the PLI OP/OC of comparable companies, citing a High Court decision. The provision for bad and doubtful debts was deemed an operating expense for comparison purposes.

6. The Tribunal partially allowed the assessee's appeal, directing a fresh examination of comparability and endorsing the treatment of bad and doubtful debts as operating expenses. Other grounds were not pursued for adjudication, resulting in the partial allowance of the appeal.