2022 (5) TMI 352 - AT - Income Tax

TP Adjustment in respect of royalty income - ALP of the software segment - HELD THAT - In the present-case. it is not in dispute that the royalty payment of Rs.3.83 crore is considered as an operating expenditure in computing the net profit margin of the software segment. page 266 of PB 1 The Net operating profit ratio based on operating cost of the software segment is 33.37% and the same is higher than the average profit margin of 21.84% of the comparable companies. TPO has accepted the ALP of the software segment. The margin of 33.37% is computed after factoring in the royalty payment of Rs. 3.83 crore. Thus, when the segment level profit margins are accepted by the TPO, it is impermissible to isolate the royalty payment and 'Separately evaluate the ALP of the same. In view of the above, the TP adjustment in respect of the royalty payment is liable to be deleted Interest on outstanding dues from AEs (outstanding for more than six months) - TPO treated the above debts outstanding for a period of more than six months in respect of transaction with assessee s AEs as a deemed loan and applied CUP method to benchmark the transaction - HELD THAT - As sales to AE is more than sales to non-AEs. Hence, the debtors are more in AE as compared to non-AE. More importantly, percentage of debtors to sales is less in AE as compared to that of non-AE. No interest is charged from both AE and non-AE. The Hon ble Rajasthan High Court in the case of PCIT v. Sharda Spuntex P Ltd. 2018 (5) TMI 1835 - RAJASTHAN HIGH COURT has held that when interest is not charged on non-AE debtors, there cannot be any occasion to make ALP adjustment for notional interest on delay in realization of trade debts from the AEs. The outstanding receivables from AE even though an international transaction, is a closely linked transaction to the international transaction of sales to AE. The receivables from AE arise due to sales to AE and hence it is closely linked transaction. The TPO has accepted the net profit margin of the software services segment. The net profit margin of the assessee in software segment is 33.18% which is higher than the net profit margin of the 11 comparable companies selected by the TPO at 24.32%. NPM of the assessee was within arm s length range even after working out the comparability adjustment on account of working capital. The working capital adjustment available to the assessee on comparison with all the comparable companies selected by the TPO would be (-)6.94 per cent (refer page 1350 to paper book Vol.1). Accordingly, the ALP margin post working capital works out to be 31.25 per cent which is lower than the margin of the assessee at 33.18 per cent (refer page 4 of TP order). Accordingly, the margin of the assessee includes the compensation for the credit period in connection with the delayed receivables and hence there is no need for a separate adjustment on account of interest should have been charged on debtors outstanding for more than six months. This is exactly in consonance with the direction of the DRP. The DRP has rightly held that if after working capital adjustment the margin of the assessee is within ALP range, no separate adjustment is required. Therefore, we fully endorse the directions of the DRP. Hence, the AO / TPO is directed to examine if the working capital adjusted margin of the assessee corresponding to the international transaction, which are related to such transaction is better than that of the comparables, no separate adjustment is required to be carried out in this regard. Accordingly, ground 2.1 to 2.6 are allowed for statistical purposes. Denial of tax benefit u/s 10A - AO disallowed the claim of deduction with respect of STPI Unit-2 Bangalore - HELD THAT - As A.R. submitted that the assessee enters into contract with various customers and execution of the work is carried out through various units of the assessee identifying the unit suitable to carry out the work - it is an internal matter of the company as to how the work should be executed and the client is not concerned about the units/undertakings through which his work was executed. Accordingly, the execution of work in Unit-2 in respect of contract entered with any of its clients should not be a reason to reject the deduction claimed u/s 10A of the Act. We find merit in the above said contentions. We notice that there is no bar in law to execute work from a new unit, so long as the condition of splitting up/reconstruction of the existing unit is not violated. Hence, we are of the view that the above said reasoning cannot be a ground to reject the claim for deduction u/s 10A of the Act. The second reasoning given by the A.O. is that the unit No.2 is only a paper unit or it is a case of splitting up or reconstruction of the existing unit. Before us, the Ld. A.R. submitted that the A.O. has not brought any material on record in support of the above said reasoning - Before us, the assessee has filed details of seating capacity and other infrastructure facilities pertaining to Unit-1 2 in support of the contentions made before us. A perusal of the same would show that the capacity of Unit-1 remains intact. We notice that the AO has not examined this issue by considering factual aspects presented before us. Since the A.O. has not examined the details now furnished before us by the assessee, we restore those details to the file of the A.O. for examining them. Assessee has furnished corrected Softex forms in respect of unit-2 as additional evidences before us and they constitute about 73% of the aggregate number of forms. These additional evidences require examination at the end of the A.O. Accordingly, we restore this issue to the file of the A.O. for examining the additional evidences furnished by the assessee. Considering the time period that has elapsed till date and the attached practical difficulties, we suggest that the A.O. may take a liberal view in respect of Softex forms. A.R. placed his reliance on the circular No.1/2013 issued by CBDT and submitted that the services rendered by the assessee falls in the category of ITES services prescribed by the CBDT. We are of the view that the above said claim of the assessee needs to be examined at the end of the AO. Addition on account of Mark to Market (MTM) losses - AR during the course of hearing, had submitted that if MTM losses if disallowed, the same goes to increase the business income of the assessee and consequently, the assessee ought to be granted the enhanced benefit of deduction u/s 10A - HELD THAT - As in assessee s own case in assessment year 2008-2009 we direct the A.O. to grant the benefit of deduction u/s 10A of the Act in respect of disallowance of MTM losses. It is ordered accordingly. Disallowance under section 40(a)(ia) - HELD THAT - The assessee has only provided a broad reconciliation of the various expenses codes, the nature of expenses and the corresponding tax withholding and in certain expenses reasons as to why tax withholding was not applicable. Therefore, the assessee admits that due to significant transaction, it is not possible to provide a reconciliation at transactional level. Therefore, we confirm the disallowance made u/s 40(a)(ia) of the Act. However, the A.O. is directed to allocate the expenses so disallowed over the STPI units of the assessee while computing the relief u/s 10A of the Act (The assessee shall provide a reasonable working to the A.O. as how the expenses so disallowed is attributable to each of the STPI units). Hence, ground allowed for statistical purposes. Disallowance u/s 14A - HELD THAT - The amount of expenditure directly relating to income which does not form part of total income, was voluntarily disallowed by assessee amounting to Rs.3,50,000 Rule 8D(2)(i) . There is no disallowance made by the A.O. invoking the provisions of section 14A r.w. Rule 8D(2)(ii). The disallowance made by the A.O. and confirmed by the DRP is sum of Rs.27,40,203 under Rule 8D(2)(iii). As per the order of Special Bench of the Tribunal in the case of VIREET INVESTMENT (P.) LTD. 2017 (6) TMI 1124 - ITAT DELHI only those investments, which have yielded exempt income has to be considered for the purpose of computing average value of investments for computing disallowance under Rule 8D. We direct the A.O. to compute disallowance accordingly. Short grant of TDS - HELD THAT - A.O. in the final assessment order, despite the directions of the DRP, without any discussion has granted TDS credit of only Rs.1,19,13,873 instead of Rs.1,78,59,370 claimed by the assessee. Therefore, we restore the issue raised to the files of the A.O. TP adjustment made on buy back of shares - TPO held that the assessee has paid for buyback from its internal accruals/reserves - HELD THAT - TPOs reasoning for rejection of two independent valuation reports have been rejected by the DRP on merits. The DRP has clearly brought out on record the various inconsistencies in the TPOs valuation. It is evident from the TPOs valuation that the TPO cherry picked the numbers and figures from different methods of valuation in both the valuation reports in the manner beneficial to revenue. The TPO has not explained the basis or rationale for adopting figures from different valuation reports. The assessee followed the valuation prescribed by RBI in AP (DIR Series) Circular No.16 dated 4.10.2004 for the purpose of determining the value of share buy back. The same is not disputed by the TPO. Further, the TPO has disturbed the independent valuation reports without bringing on record another independent valuation report to justify the addition. The TPOs valuation is also not as per the prescribed methods of determining the ALP. In view of the same. we affirm the findings of the DRP which deleted the TP addition of Rs.55,48,13,611 on buy back of shares. Consequently. deletion of the secondary TP adjustment of Rs. 3,98,07,877 by the DRP is also confirmed. Assessee has raised the additional 'grounds in non applicability of transfer pricing provisions for the buy back of shares and the consequent secondary adjustment of the notional interest. The assessee relied on the Bombay High Court decision in the case of Vodafone India Services P Ltd v Union of India 2014 368 ITR 1 and other AAR rulings in support of the contention that the transaction of buy back of shares by the assessee is outside the purview of Indian TP regulations in the absence of any income chargeable to tax for the assessee arising out of such transactions. However, as the issue is decided in favour of the assessee on merits, we need not adjudicate the additional grounds.

Summary

Issues involved:

1. Transfer Pricing Adjustments
2. Notional Interest on AE Debtors Outstanding for Over Six Months
3. Corporate Tax Adjustments
4. Denial of Tax Benefit under Section 10A
5. Addition on Account of Mark to Market Losses
6. Disallowance under Section 40(a)(ia)
7. Disallowance under Section 14A
8. Short Grant of Credit for Tax Deduction at Source
9. Levy of Interest under Sections 234B and 234D
10. Levy of Penalty under Section 271(1)(c)
11. Buyback of Shares and Secondary Adjustments

Issue-wise Analysis:

1. Transfer Pricing Adjustments:
The Tribunal reviewed the TPO's determination of the ALP of royalty as NIL and found it unsustainable. The TPO and DRP failed to provide a Comparable Uncontrolled Price (CUP) for the royalty payment. The Tribunal emphasized that in the absence of a CUP, the Transactional Net Margin Method (TNMM) should be applied, considering the net profit margin of all international transactions. The Tribunal concluded that the assessee's approach of aggregating the royalty payment with other international transactions was permissible, and the TP adjustment of Rs.3,83,20,329 was deleted.

2. Notional Interest on AE Debtors Outstanding for Over Six Months:
The Tribunal noted that the DRP had directed the AO/TPO to verify if the working capital adjusted margins of the assessee were higher than those of comparable companies. The AO/TPO failed to comply with this direction. The Tribunal directed the AO/TPO to examine if the working capital adjusted margin of the assessee was better than that of the comparables and, if so, no separate adjustment should be made. The issue was allowed for statistical purposes.

3. Corporate Tax Adjustments:
The Tribunal addressed various corporate tax adjustments, including the denial of tax benefits under section 10A, addition on account of mark to market losses, disallowance under section 40(a)(ia), disallowance under section 14A, and short grant of credit for tax deduction at source. Each of these adjustments was analyzed in detail.

4. Denial of Tax Benefit under Section 10A:
The Tribunal examined the AO's reasons for denying the deduction under section 10A for the new Bangalore Unit-2. The Tribunal found merit in the assessee's contentions and directed the AO to re-examine the issue in light of the corrected Softex forms and other relevant evidence. The issue was restored to the AO for further examination.

5. Addition on Account of Mark to Market Losses:
The Tribunal noted that the forward contracts were entered into for hedging purposes and were backed by underlying receivables. The Tribunal directed the AO to grant the benefit of deduction under section 10A in respect of the disallowance of MTM losses, following the Tribunal's decision in the assessee's own case for the previous assessment year.

6. Disallowance under Section 40(a)(ia):
The Tribunal confirmed the disallowance under section 40(a)(ia) due to the assessee's inability to provide a detailed reconciliation of expenses. However, the AO was directed to allocate the disallowed expenses over the STPI units while computing the relief under section 10A.

7. Disallowance under Section 14A:
The Tribunal directed the AO to compute the disallowance under section 14A by considering only those investments that yielded exempt income, following the Special Bench order in the case of Veerat Investments.

8. Short Grant of Credit for Tax Deduction at Source:
The Tribunal restored the issue of short grant of TDS credit to the AO for verification and directed the AO to grant the credit as claimed by the assessee.

9. Levy of Interest under Sections 234B and 234D:
The Tribunal noted that the levy of interest under sections 234B and 234D was consequential to the adjustments made and directed the AO to recompute the interest accordingly.

10. Levy of Penalty under Section 271(1)(c):
The Tribunal did not specifically address the issue of penalty under section 271(1)(c) as it was consequential to the adjustments made.

11. Buyback of Shares and Secondary Adjustments:
The Tribunal upheld the DRP's decision to delete the TP adjustment on buyback of shares, noting that the TPO's valuation was inconsistent and not based on prescribed methods. Consequently, the secondary TP adjustment for not charging interest on the excess amount paid for buyback was also deleted. The Tribunal did not adjudicate the additional grounds on the non-applicability of TP provisions for buyback of shares due to the favorable decision on merits.

Conclusion:
The Tribunal allowed the assessee's appeal partly and dismissed the Revenue's appeal. The issues were addressed comprehensively, with directions for re-examination or deletion of adjustments where applicable.