2019 (8) TMI 350 - AT - Income Tax

TPA - comparable selection - HELD THAT - Cerner Healthcare Solutions P. Ltd. Vs. ITO 2017 (1) TMI 1491 - ITAT BANGALORE which is for the same AY i.e. Assessment Year 2010-11 and we have noted that in para 2 of this Tribunal order, this is noted by the Tribunal in this case that Cerner Healthcare Solutions P. Ltd. Vs. ITO (supra) that Cerner Healthcare Solutions Pvt. Ltd. is a captive service provider engaged in the business of rendering software development services to its AE. Hence the functional profile of the present assessee and Cerner Healthcare Solutions Pvt. Ltd. is same and therefore, in our considered opinion, this Tribunal order is applicable in the present case. Respectfully following this Tribunal order, we hold that no interference is called for in the order of CIT (A) regarding exclusion of Tata Elxsi Ltd. We decline to interfere in the order of ld. CIT(A) on this issue. KALS information systems - comparability of this company has been examined by the Tribunal in a series of decisions including in the case of Trilogy e-business Software India Ltd. The Tribunal has also noted that in the balance sheet of this company as on 31.03.2010, there are inventories of ₹ 60,47,977/- and on the basis of these facts, this finding is given that this company is in the business of software products and therefore, it is held that the same cannot be compared with a pure software development services provider company. Hence, in the present case, we hold that because of this functional dissimilarity as held by the Tribunal in the case of DCIT vs. Electronics for Imaging India (P.) Ltd. (supra), no interference is called for in the order of ld. CIT(A) regarding this direction to exclude KALS information systems Ltd. Infosys Ltd. - Tribunal in that case has reproduced the relevant portion of the Tribunal order rendered in the case of DCIT vs. Electronics for Imaging India (P.) Ltd. 2016 (2) TMI 1123 - ITAT BANGALORE as per which it was held that Infosys Ltd. is having a huge brand value and intangibles as well as having bargaining power and the same cannot be compared with the assessee who is providing only software development services to its AE. Respectfully following this Tribunal order, we hold that Infosys Ltd. should be excluded. Persistent Systems Ltd ., it was held that this company is engaged in diversified activities and earning revenue from various activities including licencing of products, royalty on sale of products as well as income from maintenance contract, etc., and therefore, this company cannot be considered as functionally comparable with the assessee. Sasken Communication Technologies Ltd. , it was held that this company earns revenue from three segments but the segmental operating margins are not available and therefore, in the absence of relevant segmental data and particularly operating margins, this composite data cannot be considered as comparable with the assessee for software development services segment. Respectfully following this Tribunal order, we hold that these two comparables i.e. Persistent Systems Ltd. and Sasken Communication Technologies Ltd. should also be excluded. Larsen Toubro Infotech Ltd. - tribunal considered another Tribunal order rendered in the case of M/s. SumTotal Systems India Pvt. Ltd. 2014 (8) TMI 870 - ITAT HYDERABAD and held that this is not a good comparable because there are no segmental details and it is seen from the annual report that revenues are reported from software development services and products and how much is from services and how much is from products could not be analysed. Respectfully following this Tribunal order, we hold that in the present case, Larsen Toubro Infotech Ltd. also cannot be considered as a good comparable. TP analysis i.e. consideration of foreign exchange fluctuation gain / loss as operating in nature for the purpose of computation of margin of the assessee as well as the comparable companies - HELD THAT - Since the details in this regard is not available and there is no finding of any of the authorities below in this regard, we feel it proper to restore the matter back to the file of AO / TPO for fresh decision with the direction that if it is found that foreign exchange fluctuation gain / loss of the tested party i.e. of the assessee or of the comparable companies is in respect of the current year s turnover then the same should be considered for TP analysis but if such gain / loss is not in respect of current year s turnover, then the same should be ignored in case of both i.e. the tested party and of the comparable companies. In case the data in this regard regarding comparable company is not made available by the assessee, then it should be presumed that such foreign exchange gain / loss for comparable company is not in respect of current year s turnover because generally, the accounting of foreign exchange gain / loss is considered in the sales only if such gain / loss has been received in the year of sale itself and only when such gain / loss is received and accounted for in a later year then only the same is accounted for separately as exchange fluctuation gain / loss. Accordingly, ground no. 11 is allowed for statistical purposes. The AO/TPO should decide this issue as per above discussion after providing adequate opportunity of being heard to assessee. Working capital adjustment - Tribunal has given a direction to the AO to carry out the working capital adjustment as per the actual figures and not to apply any cap. In the present case also, we restore the matter back to the file of AO/TPO to work out the working capital adjustment on actual figure without applying any cap. ICRA Techno Analytics Ltd - this company is engaged in diversified activities of software development and consultancy, engineering services, web development hosting and substantially diversified itself into domain of business analysis and business process outsourcing, and therefore, this cannot be regarded as functionally comparable with that of assessee who is rendering software development services to its AE and on this basis, it was held that ICRA Techno Analytics Ltd. is not a good comparable Tata Elxsi Ltd - This company is engaged in development of niche product and development services which is entirely different from the assessee company, engaged in software development services and respectfully following this Tribunal order rendered in the case of DCIT vs. Electronics for Imaging India (P.) Ltd. 2016 (2) TMI 1123 - ITAT BANGALORE it was held by the Tribunal that there is no error or illegality in the direction of DRP to exclude this company from the set of comparables. In the present case also, no difference in facts could be pointed out by ld. DR of revenue and therefore, respectfully following this Tribunal order, we hold that there is no error or illegality in the order of ld. CIT(A) on this issue.

Summary

Issues Involved:
1. Adjustment to the arm's length price of international transactions.
2. Rejection of Transfer Pricing Documentation.
3. Selection and rejection of comparable companies.
4. Use of multiple year data for determining the arm's length price.
5. Use of FY 2009-10 data for determining the arm's length margin/price.
6. Application of certain quantitative and qualitative filters for comparability.
7. Rejection of advertisement, marketing, and distribution expenses as a comparability criterion.
8. Inclusion of functionally dissimilar companies as comparables.
9. Incorrect rejection of certain companies as comparables.
10. Consideration of foreign exchange fluctuations as operating in nature.
11. Consideration of provision for doubtful debts as operating in nature.
12. Provision for working capital adjustment.
13. Provision for risk adjustment.
14. Levy of interest under sections 234B, 234C, and 234D.
15. Initiation of penalty proceedings under section 271(1)(c).
16. Reduction of expenses from both export turnover and total turnover for Section 10A deduction.

Detailed Analysis:

1. Adjustment to the Arm's Length Price:
The learned CIT(A) upheld the adjustment made by the AO/TPO to the arm's length price of the international transactions of software development services rendered by the appellant to its AE.

2. Rejection of Transfer Pricing Documentation:
The CIT(A) upheld the AO/TPO's rejection of the Transfer Pricing Documentation, including the economic analysis undertaken by the appellant, by invoking provisions of section 92C(3)(a) and (c) without providing cogent reasons.

3. Selection and Rejection of Comparable Companies:
The CIT(A) upheld the AO/TPO's action of disregarding certain comparable companies selected by the appellant and instead conducted a fresh search, selecting additional comparable companies for determining the arm's length price.

4. Use of Multiple Year Data:
The CIT(A) upheld the AO/TPO's rejection of the use of multiple year data adopted by the appellant for determining the arm's length price.

5. Use of FY 2009-10 Data:
The CIT(A) upheld the AO/TPO's use of only FY 2009-10 data for determining the arm's length margin/price, which was not available to the appellant at the time of complying with the transfer pricing documentation requirements.

6. Application of Quantitative and Qualitative Filters:
The CIT(A) upheld the AO/TPO's application of certain quantitative and qualitative filters for comparability, including:
- Software development services less than 75% of the total operating revenue.
- Employee cost greater than 25% of the turnover.
- Export sales less than 75% of the sales.
- Related party transactions greater than 25% of the sales.
- Different financial year ending or data not falling within the 12-month period.
- Not applying an upper limit to the turnover filter.

7. Rejection of Advertisement, Marketing, and Distribution Expenses:
The CIT(A) upheld the AO/TPO's rejection of advertisement, marketing, and distribution expenses less than or equal to 3 percent of sales as a comparability criterion.

8. Inclusion of Functionally Dissimilar Companies:
The CIT(A) upheld the inclusion of companies such as Infosys Limited, Persistent Systems Limited, Larsen & Toubro Infotech Limited, and Sasken Communications Limited as comparables, which are functionally dissimilar.

9. Incorrect Rejection of Certain Companies:
The CIT(A) upheld the rejection of Akshay Software Technologies Limited and Teledata Marine Solutions Limited as comparable companies based on incorrect grounds.

10. Consideration of Foreign Exchange Fluctuations:
The CIT(A) upheld the AO/TPO's action of not considering foreign exchange fluctuations (gain/loss) as operating in nature for the purpose of computation of margin. However, the Tribunal directed the AO/TPO to consider such gains/losses if they pertain to the current year's turnover.

11. Consideration of Provision for Doubtful Debts:
The CIT(A) upheld the AO/TPO's action of not considering the provision for doubtful debts as operating in nature for the purpose of computation of margin.

12. Provision for Working Capital Adjustment:
The Tribunal directed the AO/TPO to work out the working capital adjustment on actual figures without applying any cap, following the precedents set by earlier Tribunal orders.

13. Provision for Risk Adjustment:
The CIT(A) upheld the AO/TPO's action of not providing risk adjustment to account for differences in the risk profile of the appellant and the comparable companies.

14. Levy of Interest Under Sections 234B, 234C, and 234D:
The CIT(A) upheld the AO's action of levying interest under sections 234B, 234C, and 234D of the Act.

15. Initiation of Penalty Proceedings Under Section 271(1)(c):
The CIT(A) upheld the AO's action of initiating penalty proceedings under section 271(1)(c) of the Act.

16. Reduction of Expenses from Both Export Turnover and Total Turnover:
The CIT(A) directed the AO to reduce the impugned expenses from both the export turnover and the total turnover while calculating deduction under Section 10A, following the judgment of the Hon'ble Karnataka High Court in the case of CIT Vs. Tata Elxsi Ltd.

Summary of Tribunal's Decision:
- Revenue's Appeals for AY 2010-11 and 2011-12: Dismissed.
- Assessee's Appeal: Allowed in terms indicated, including exclusion of certain comparables and directions for fresh consideration of foreign exchange fluctuation gains/losses and working capital adjustments.