2020 (6) TMI 584 - AT - Income Tax

TP Adjustment - international transaction of provision of software development services SWD services to the assessee s Associated Enterprises AE - Comparable selection - HELD THAT - Assessee provided software research development services and marketing technical support services to its AEs, thus companies functionally dissimilar with that of assessee need to be deselected, thus companies functional dissimilar with that of assessee need to be deselected from final list. Non-grant of working capital adjustment (WCA) and risk adjustment - HELD THAT - It is now a settled proposition of law that necessary adjustments are to be made to the margins of comparables to give effect to the differences in the working capital positions of the tested party and of the comparables. The TPO ought to have given the assessee the benefit of the same. We hold and direct the TPO to allow working capital adjustment after verification of the assessee s computation and after affording opportunity of being heard to the assessee. Risk adjustment - HELD THAT - Reliance in this regard was placed on the decision of the Hon ble Delhi Bench of the Tribunal in the case of Honeywell Turbo Technologies (India) (P.) Ltd. v. DCIT 2017 (3) TMI 1533 - ITAT PUNE wherein the Tribunal granted an adjustment to be granted for differences in risk assumed by the tested party and the comparable entities. We are of the view that the question of allowing risk adjustment should be considered by the TPO afresh in the light of the submissions and after examining the computation of risk adjustment and affording opportunity of being heard to the assessee. Mistakes in computation of PLI - HELD THAT - We are of the view that in the light of the decision of the Tribunal in the case of Rolls- Royce India (P.) Ltd. 2015 (12) TMI 516 - ITAT DELHI the PLI should directed to be reworked by considering the provision for doubtful debts as operating expenditure. We hold and direct accordingly. Unexplained investment - Tax value of certain assets received by it free of cost from its AEs - Additions u/s 28(iv) - HELD THAT - The provisions of section 69 are not attracted because there is nothing brought on record to show that the assessee was the owner of these assets. From the fact that invoices were in the name of assessee, it cannot be said that assessee was the owner of the assets, especially in the light of the affirmation by Brocade Communication LLC that they are given all the assets free of cost to the assessee. Therefore, the addition u/s. 69 of the Act cannot be sustained. The entire value of assets has to be regarded as an addition made u/s. 28(1)(iv) of the Act, as was done by the AO in the order of assessment.. Deduction u/s. 10A - Addition made u/s. 28(1)(iv) will go to enhance its profits and that profit is eligible for claim of deduction u/s. 10A and therefore, the addition, even if sustained, will not have any impact on the tax liability - The plea of the assessee in this regard is supported by the decision of the Hon ble High Court of Karnataka in the case of Mpact Technology Services Pvt. Ltd. 2018 (8) TMI 202 - KARNATAKA HIGH COURT . The CBDT in Circular No.37/2016 dated 02.11.2016 has also taken the view that any disallowance of expenses which go to enhance the profits of eligible business, would be eligible for deduction on enhanced profits. In view of the above, we direct the AO to allow deduction u/s. 10A of the Act on the enhanced profits.

Issues Involved:
1. Transfer Pricing (TP) Adjustment
2. Inclusion and Exclusion of Comparable Companies
3. Working Capital Adjustment (WCA)
4. Risk Adjustment
5. Mistakes in Computation of Profit Level Indicators (PLI)
6. Taxation of Assets Received Free of Cost under Section 28(iv) and Section 69 of the Income-tax Act
7. Deduction under Section 10A of the Income-tax Act

Detailed Analysis:

1. Transfer Pricing (TP) Adjustment:
The primary issue involves the TP adjustment of ?17,69,47,938/- made by the TPO towards the international transaction of provision of software development (SWD) services to the assessee’s Associated Enterprises (AE), which was later reduced to ?15,48,94,050/- by the Dispute Resolution Panel (DRP). The assessee used the Transaction Net Margin Method (TNMM) with Operating Profit to Operating Cost (OP/OC) as the Profit Level Indicator (PLI). The TPO accepted only 4 out of 17 comparable companies selected by the assessee and added 4 more, resulting in a higher arithmetic mean mark-up of 29.40% compared to the assessee’s 16.72%.

2. Inclusion and Exclusion of Comparable Companies:
The Tribunal directed the exclusion of Infosys Ltd., Persistent Systems Ltd., Larsen & Toubro Infotech Ltd., and Thirdware Solutions Ltd. from the list of comparables, as these companies were excluded in similar cases due to functional dissimilarities, ownership of intangibles, and lack of segmental data. The Tribunal also remanded the comparability of Akshay Software Technologies Ltd., Sasken Communication Technologies Ltd., Maveric Systems Ltd., Sankhya Infotech Ltd., and 8K Miles Software Ltd. to the TPO for fresh consideration, emphasizing the need to afford the assessee an opportunity of being heard.

3. Working Capital Adjustment (WCA):
The Tribunal held that necessary adjustments should be made to the margins of comparables to reflect differences in working capital positions. The TPO was directed to allow the WCA after verification of the assessee’s computation and providing an opportunity for hearing.

4. Risk Adjustment:
The Tribunal directed the TPO to reconsider the question of allowing risk adjustment in light of the submissions and after examining the computation of risk adjustment. The Tribunal noted that Rule 10B(2) and Rule 10B(3) of the Income-tax Rules provide for adjustments towards differences in risk assumed by the parties.

5. Mistakes in Computation of Profit Level Indicators (PLI):
The Tribunal directed the reworking of PLI by considering the provision for doubtful debts as operating expenditure, in line with the decision of the Delhi Bench of the Tribunal in Rolls-Royce India (P.) Ltd. v. DCIT.

6. Taxation of Assets Received Free of Cost under Section 28(iv) and Section 69 of the Income-tax Act:
The Tribunal found that the provisions of Section 69 were not applicable as there was no evidence that the assessee owned the assets. The entire value of assets worth ?15,07,90,003/- was treated as an addition under Section 28(iv) of the Act. The Tribunal did not adjudicate on whether the value of assets could be taxed as a benefit/perquisite under Section 28(iv), considering the assessee's claim for deduction under Section 10A.

7. Deduction under Section 10A of the Income-tax Act:
The Tribunal upheld the assessee’s claim for deduction under Section 10A on the enhanced profits due to the addition made under Section 28(iv), supported by the decision of the Karnataka High Court in CIT v. Mpact Technology Services Pvt. Ltd. and CBDT Circular No.37/2016. The AO was directed to allow the deduction on the enhanced profits.

Conclusion:
The appeal by the assessee was partly allowed, with directions to the TPO to recompute the ALP and other adjustments as per the Tribunal's findings, and to allow the deduction under Section 10A on the enhanced profits.

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