2020 (6) TMI 237 - AT - Income Tax

TP Adjustment - comparable selection - Software Development Segment - HELD THAT - Companies functionally dissimilar with that of assessee's software development segment involved in captive software service provider need to be deselected as comparable selection. ITES segment - Companies functionally dissimilar with that of assessee's ITES segment need to be deselected as comparable selection. Non granting of adjustment on account of risk profile - HELD THAT - As submitted that assessee is a low risk bearing company and therefore while computing risk adjustment risks assumed by the comparables for earning revenue in the particular segment needs to be analysed. Assessee is directed to provide for necessary details in respect of all comparables finally selected. Ld.AO/TPO shall then compute the risk as adjustment in accordance with law. In the light of aforestated observations and directions, the transfer pricing issues raised by assessee is set aside to Ld.AO/TPO. Ld.AO/TPO is directed to pass a detailed order by considering all the submissions advanced by assessee. Erroneous computation of working capital adjusted mark-up of certain comparable - HELD THAT - We direct Ld.AO/TPO to provide for correct working capital adjustment and to compute margines of comparables in accordance with law. Deduction u/s 10 A disallowance - HELD THAT - Both parties submitted that, the issue now squarely covered with the decision of Hon ble Karnataka High Court in case of Tata Elxsi Ltd., vs CIT 2011 (8) TMI 782 - KARNATAKA HIGH COURT wherein held that, what is reduced from export turnover should also be reduced from the total turnover. CIT(A) granted relief to assessee following the aforestated view expressed by Hon ble Karnataka High Court. No infirmity in the view taken by Ld. CIT(A) and same is upheld. Comparable deselected having huge turnovers more than 200 crores - HELD THAT - Admittedly these comparables have huge turnover as compared to that of assessee. TPO while applying turnover filter, excluded comparables less than 1 crore turn over, without fixing upper limit. As this Tribunal in case of a whole new has been consistently following the turnover limit of 1 to 200 crores in our view these comparables do not satisfy the criteria. We also note that these comparables have been examined by this Tribunal in a series of decision and has been excluded for having huge turnovers, owning huge intangibles and brand which makes it not comparable with a captive service provider like that of assessee. Accordingly, we do not find any infirmity in exclusion of these comparables. Application of different range of filter - TPO applied RPT filter being less than 25% - HELD THAT - There is no comparables left for computing margin under software development service segment. It is imperative under such circumstances to revisit remaining comparables excluded by Ld. CIT(A) by applying 0% RPT filter, under software development service segment. We direct Ld. AO/TPO to carry out functional comparability of remaining comparables in light of various decisions and also as decided in assessee s own case for immediately preceding and succeeding assessment years. We direct Ld. AO/TPO to keep threshold for related party transaction at 15%. Similarly, in regards to ITES segment, Ld.CIT(A) excluded 18 comparables, out of which few has been alleged for exclusion on functional dissimilarities which has been dealt with herein below. We direct Ld. AO/TPO to reconsider balance comparables in light of various decisions and also as decided in assessee s own case for immediately preceding and succeeding assessment years. We direct Ld. AO/TPO to keep threshold for related party transaction at 15%. Comparables for Software Development Service Segment - HELD THAT - E infochips Ltd - As assessee is simply engaged in rendering software development services and there is no sale of any software products, this company, in our considered opinion, ceases to be comparable. It is obvious that from common pool of income from both streams of software products and software services, one cannot deduce revenue from software services and no one knows impact of revenue from Products on overall kitty of profit, which may be significant. Since no segmental data of this company is available indicating operating profit from software development services, we direct Ld.TPO to exclude this company from list. Celestial Labs Ltd - Discovery is in relation to software discovery of new drugs. Moreover, the company also owns IPR. As explained earlier it is a diversified company and therefore cannot be considered as comparable functionally with that of the Assessee. We therefore accept the plea of the Assessee in this regard. Further for assessment year immediately preceding the year under consideration this Tribunal excluded this company for very same reasons. Revenue has not brought anything contrary on record to show that there is any change in financials of this comparable for year under consideration vis-a-vis assessment year 2006-07. We therefore do not find any reason to deviate from the view taken by this Tribunal in assessee s own case. We direct Ld. AO/TPO to exclude this comparable from the finalist. Flextronics Software Systems Ltd. - This comparable has been selected by Ld.TPO in final list and excluded by Ld.CIT(A) for the reason that it fails 0% RPT filter - HELD THAT - As we have already held that) % RPT is not an appropriate filter, we reject the reasoning by Ld. CIT(A) for its exclusion. We direct Ld. TPO to retain this company from final list. ITES segment - Comaparability - Eclerx Services Ltd company supports core and complex activities for its clients using proprietary processes and scalable offshore delivery model. It is also been observed therein that this company is engaged in diversified activity of providing services including analytic services etc and is not functionally comparable with a simple BPO service provider. Moldtech Technologies Ltd.company has underwent merger of Techmeant Tools Pvt.Ltd., and demerger of plastic packaging business. Undoubtedly, functions of this comparable involve high level of knowledge and skill which is not the case of assessee before us. As noted by Ld.TPO assessee is providing contract services to its associated enterprises that may require technical support however can be treated as a back-office support services not equivalent to KPO - this comparable is directed to be excluded from final list.

Summary

Issues Involved:

1. Adjustment to the arm's length price of international transactions.
2. Comparability analysis of various companies for software development and ITES segments.
3. Application of related party transaction filters.
4. Use of single-year data vs. multiple-year data.
5. Use of information collected by the TPO under section 133(6).
6. Adjustment on account of differences in the risk profile.
7. Computation of working capital adjusted mark-up.
8. Exclusion of telecommunication expenses and foreign currency expenditure from total turnover for Section 10A deduction.
9. Standard deduction of 5% from the arm's length price.
10. Inclusion/exclusion of specific comparables based on size, turnover, and brand.

Detailed Analysis:

1. Adjustment to the Arm's Length Price of International Transactions:
The assessee challenged the adjustments made by the AO to the arm's length price of international transactions in the software development services (SWD) and information technology services (ITES) segments. The Tribunal reviewed the comparability analysis and directed the exclusion of certain companies from the final list of comparables due to functional dissimilarities, such as KALS Information Systems Ltd., Lucid Software Ltd., e-Zest Solutions Ltd., Avani Cincom Technologies Ltd., and Thirdware Solutions Ltd.

2. Comparability Analysis of Various Companies:
The Tribunal addressed the inclusion/exclusion of various comparables. For the software development segment, companies like KALS Information Systems Ltd., Lucid Software Ltd., e-Zest Solutions Ltd., Avani Cincom Technologies Ltd., Thirdware Solutions Ltd., and Persistent Systems Ltd. were excluded due to functional differences. Similarly, for the ITES segment, Vishal Information Technologies Ltd. was excluded for outsourcing its job, which failed the employee cost filter.

3. Application of Related Party Transaction Filters:
The Tribunal noted that the CIT(A) applied a 0% related party transaction (RPT) filter, which was not appropriate. Instead, the Tribunal directed the AO/TPO to apply a 15% RPT filter, consistent with various Tribunal decisions.

4. Use of Single-Year Data vs. Multiple-Year Data:
The assessee argued against the use of single-year data by the TPO. The Tribunal did not provide specific directions on this issue but emphasized the need for a detailed order considering all submissions.

5. Use of Information Collected by the TPO under Section 133(6):
The Tribunal did not provide specific directions on this issue but emphasized the need for a detailed order considering all submissions.

6. Adjustment on Account of Differences in the Risk Profile:
The Tribunal acknowledged the assessee's claim of being a low-risk bearing company and directed the AO/TPO to compute the risk adjustment by analyzing the risks assumed by the comparables.

7. Computation of Working Capital Adjusted Mark-Up:
The Tribunal directed the AO/TPO to provide the correct working capital adjustment and compute the margins of comparables in accordance with the law.

8. Exclusion of Telecommunication Expenses and Foreign Currency Expenditure from Total Turnover for Section 10A Deduction:
The Tribunal upheld the CIT(A)'s decision to exclude telecommunication expenses and foreign currency expenditure from the total turnover for computing the deduction under Section 10A, following the Karnataka High Court's decision in Tata Elxsi Ltd. vs. CIT.

9. Standard Deduction of 5% from the Arm's Length Price:
The Tribunal did not provide specific directions on this issue but emphasized the need for a detailed order considering all submissions.

10. Inclusion/Exclusion of Specific Comparables Based on Size, Turnover, and Brand:
The Tribunal upheld the CIT(A)'s decision to exclude companies like Infosys Technologies Ltd., Wipro Ltd., Infosys BPO Ltd., and others due to their large turnovers, ownership of intangibles, and brand value, which made them incomparable with the assessee, a captive service provider.

Conclusion:
The Tribunal provided detailed directions on the inclusion/exclusion of comparables, application of RPT filters, and computation of adjustments, emphasizing the need for a detailed order considering all submissions and providing proper opportunities to the assessee. The Tribunal upheld the CIT(A)'s decisions on certain issues, such as the exclusion of telecommunication expenses and foreign currency expenditure from total turnover for Section 10A deduction.