2014 (11) TMI 9 - AT - Income Tax

Selection of comparables Abnormal profit making concerns Determination of ALP International transaction of software services to Associate Enterprises - Held that - Following the decision in Maersk Global Centres (India) Private Ltd. Vs. ACIT 2014 (3) TMI 891 - ITAT MUMBAI - concerns which earn abnormally high profit margins cannot be excluded straight away but it would require further investigations to ascertain the reasons for their high profits - assessee is justified in asserting that the margins of 64.48% of the concern considered for the year under consideration is not a normal business trend - the inclusion of the concern in the final set of comparables would not lend credibility to the comparability analysis and therefore, the same deserves to be excluded. The plea of the assessee for exclusion of Bodhtree Consulting Ltd. from the final list of comparables cannot be shut out merely because the said comparable has been adopted by the assessee in its Transfer Pricing Study - it would be imperative for the assessee to justify exclusion of a concern from the list of comparables if in the initial Transfer Pricing Study undertaken by it, such a concern has been adopted as a comparable - the profit margins of the concern are fluctuating widely and are abnormally high for the period under consideration - assessee has justifiably demonstrated that the concern M/s. Bodhtree Consulting Ltd. is liable to be excluded from the final set of comparables, even though the said concern was considered as a comparable initially in its Transfer Pricing Study - the concern, M/s. Bodhtree Consulting Ltd. be excluded from the final list of comparables for carrying out the comparability analysis thus, the AO is directed to re-work the arm s length price of international transactions of software services rendered by the assessee to its Associate Enterprise Decided in favour of assessee.

Issues Involved:
1. Rejection of benchmarking approach and transfer pricing adjustment.
2. Modification of benchmarking analysis and selection of comparables.
3. Consideration of single year data versus multiple year data.
4. Adjustment for differences in risk levels and assets employed.

Detailed Analysis:

1. Rejection of Benchmarking Approach and Transfer Pricing Adjustment:
The primary issue involves the rejection of the benchmarking approach adopted by the assessee and the resulting transfer pricing adjustment of Rs. 19,689,494. The Assessing Officer (AO) and the Dispute Resolution Panel (DRP) concluded that the international transaction for provision of software services to the associated enterprise (AE) was not at arm's length.

2. Modification of Benchmarking Analysis and Selection of Comparables:
The AO/DRP modified the benchmarking analysis conducted by the appellant using the Transactional Net Margin Method (TNMM). The AO/DRP applied additional quantitative/qualitative filters selectively, leading to the inclusion and exclusion of certain comparables. Specifically, the AO/DRP erred in:
- Conducting selective fresh analysis resulting in cherry-picking of comparables.
- Rejecting companies functionally similar to the appellant's business operations.
- Disregarding the fresh search provided by the assessee using data for FY 2008-09 without providing cogent reasons.

The TPO selected the following comparables: L G S Global Ltd., FCS Software Solutions Ltd., Mindtree Ltd., Bodhtree Consulting Limited, Persistent System Ltd., and Larsen & Turbo Infotech Ltd., with an arithmetic mean of 28.82%. The TPO determined an adjustment of Rs. 1,96,89,494 to align the international transactions with the arm's length price.

3. Consideration of Single Year Data versus Multiple Year Data:
The AO/DRP considered only the single year data for FY 2008-09, disregarding the multiple year data considered by the appellant. The appellant argued that multiple year data should be used in accordance with Rule 10B(4) of the Income-tax Rules, 1962.

4. Adjustment for Differences in Risk Levels and Assets Employed:
The AO/DRP failed to allow an adjustment for the differences in the level of risk borne and assets employed by the comparables and the appellant. The appellant contended that it is a routine captive service provider with lower risk compared to the entrepreneurial companies selected by the TPO. The provisions of Rules 10B(2), 10B(3), and 10C were disregarded.

Exclusion of Bodhtree Consulting Limited:
The appellant argued for the exclusion of Bodhtree Consulting Ltd. from the final set of comparables due to its abnormal profit margins (64.48%) and wide fluctuations over the years. The Tribunal agreed, citing the need for further investigation to ascertain whether high profits reflect normal business conditions or abnormal circumstances. The Tribunal referenced the Special Bench decision in Maersk Global Centres (India) Private Ltd. and the Bangalore Bench decision in M/s. Mindteck (India) Ltd., concluding that Bodhtree Consulting Ltd. should be excluded from the comparables.

Inclusion of Akshay Software Technologies Limited and Correction of Margin for Mindtree Limited:
The appellant also raised issues regarding the inclusion of Akshay Software Technologies Limited and the correction of the margin for Mindtree Limited. However, these issues were rendered academic following the exclusion of Bodhtree Consulting Limited, as the arm's length price variation fell within the permissible range of +/- 5%.

Conclusion:
The Tribunal directed the AO to rework the arm's length price of the international transactions of software services rendered by the assessee to its AE, excluding Bodhtree Consulting Limited from the final set of comparables. The appeal of the assessee was partly allowed, and the order was pronounced on 21st October 2014.

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