2023 (1) TMI 1200 - AT - Income Tax

TP Adjustment - comparable selection - HELD THAT - Assessee reported international transactions in respect of Software Development Service (SWD), IT Enabled Services (ITeS). The arm's length price of the international transactions in SWD/ITeS segments provided to the associated enterprises (AE) has been determined by applying Transactional Net Margin Method (TNMM), stating to be the most appropriate method in the facts and circumstances of the case. The operating profit to operating cost ratio has been taken as the profit level indicator (PLI) in TNMM analysis. Companies functionally dissimilar with that of assessee need to be deselected. All comparable companies sought for inclusion by the assessee in SWD and ITES segment are remanded to the Ld.AO/TPO for reconsideration based on the details filed by the assessee. The Ld.AO is directed to verify the same in accordance with Law, by granting proper opportunity of being heard to the assessee. Direction to the Ld.AO/TPO to adopt correct margin in respect of the comparables that would be finally retained - We direct the Ld.AO/TPO to compute the margine as per rules while passing the OGE.

Summary

Issues Involved:
1. Transfer Pricing Adjustments
2. Corporate Tax and Other Grounds

Detailed Analysis:

I. Transfer Pricing Adjustments

1. Aggregate TP Adjustment:
- The learned AO, TPO, and DRP made an aggregate TP adjustment of Rs. 18,16,94,876, which includes Rs. 11,53,50,416 for the Software Development (SWD) services segment and Rs. 6,63,44,460 for the Information Technology enabled Services (ITeS) segment.

2. Interest on Delayed Receivables:
- The AO incorrectly mentioned the adjustment on account of IT-enabled services as interest on delayed receivables.

3. Rejection of TP Documentation:
- The AO, TPO, and DRP erred in rejecting the TP documentation maintained by the assessee by invoking provisions of subsection (3) of 92C of the Act.

4. Comparability Analysis:
- The AO, TPO, and DRP erred in rejecting the comparability analysis carried in the TP documentation and conducted a fresh comparability analysis by introducing various filters while determining the Arm's Length Price (ALP).

5. Financial Data Consideration:
- The AO, TPO, and DRP did not consider the financial data of the preceding two years in cases where the current year's data was unavailable while determining the ALP.

6. Financial Year Ending:
- The AO, TPO, and DRP arbitrarily rejected companies merely on the ground that they have a different financial year ending or the data does not fall within the 12-month period.

7. Service Income Filter:
- The AO, TPO, and DRP applied the service income filter of 75% to sales, leading to a narrower comparable set.

8. Export Earning Filter:
- The AO, TPO, and DRP applied an export earning filter of 75% of the total sales, leading to a narrower comparable set.

9. Employee Cost to Sales Ratio:
- The AO, TPO, and DRP rejected companies having a ratio of employee cost to sales of less than 25%.

10. Turnover Limit:
- The AO, TPO, and DRP did not apply the upper limit on turnover while selecting the comparable companies.

11. RPT Ratio Calculation:
- The AO, TPO, and DRP erred in calculating the RPT ratio by dividing revenue transactions by total revenue or expenditure transactions by total expenses.

12. Acceptance of Companies as Comparable:
- The AO, TPO, and DRP accepted companies that ought to have been rejected as comparables in the SWD and ITeS segments.

13. Rejection of Companies as Comparable:
- The AO, TPO, and DRP rejected companies that ought to have been accepted as comparables in the SWD and ITeS segments.

14. Provision of Bad and Doubtful Debts:
- The AO, TPO erred in not considering the provision of bad and doubtful debts as operating in nature.

15. Operating Margins Calculation:
- The AO, TPO erred in computing the operating margins of certain comparable companies.

16. Working Capital Adjustments:
- The AO, TPO, and DRP did not allow appropriate adjustments towards working capital.

17. Risk Difference Adjustments:
- The AO, TPO, and DRP did not allow appropriate adjustments towards the risk difference between the assessee and the comparable companies.

II. Corporate Tax and Other Grounds

18. Interest under Section 234A:
- The AO erred in levying interest under section 234A of the Act amounting to INR 1,143,238 even though the assessee filed its return within the due date prescribed under Section 139(1) of the Act.

19. Interest under Section 234C:
- The AO erred in levying interest under Section 234C of the Act amounting to INR 4,588,402 as against INR 3,875,685 determined as per the return of income.

20. Interest under Section 234B:
- The AO erred in computing interest under section 234B of the Act.

21. Penalty Proceedings:
- The AO erred in proposing to initiate penalty proceedings under section 274 read with section 271(1)(c) of the Act.

Tribunal's Findings and Directions:

1. Exclusion of Comparables:
- The Tribunal directed the exclusion of certain comparables from the final list for both SWD and ITeS segments based on turnover criteria and functionality tests. Specific companies like Larsen & Toubro Infotech Ltd., Persistent Systems Ltd., Infosys Ltd., Aspire Systems (India) Pvt. Ltd., and others were excluded due to their turnover exceeding the threshold or functional dissimilarity.

2. Inclusion of Comparables:
- The Tribunal remanded the inclusion of certain comparables back to the AO/TPO for reconsideration based on the details filed by the assessee.

3. Correct Margin Computation:
- The Tribunal directed the AO/TPO to compute the margins as per rules while passing the final order.

4. Other Grounds:
- The Tribunal left open the remaining grounds and comparables not considered for the assessee to contest in appropriate circumstances.

5. Final Decision:
- The appeal filed by the assessee was partly allowed, with directions for the AO/TPO to exclude certain comparables and reconsider others.

The judgment highlights the importance of adhering to proper comparability criteria and the need for detailed functional and risk analysis in transfer pricing cases. The Tribunal's directions aim to ensure a fair and accurate determination of the arm's length price.