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TMI Blog2015 (3) TMI 267X X X X Extracts X X X X X X X X Extracts X X X X ..... to be excluded from the list of comparable chosen by the TPO as the assessee before us is not developing any niche product. - Decided against revenue R. Systems International Ltd. the learned Authorised Representative of the assessee could not demonstrate that the revenue of ₹ 79.42 Crores is mainly from license fees or product development. In these factual circumstances, we find no reason to contradict the finding of the TPO that this company is mainly into software development services and therefore its inclusion by the TPO in the list of comparables cannot be faulted. This finding of ours is in tune with the decisions in transfer pricing appeals decided by the coordinate benches of this Tribunal, wherein the status of this company as being a software development services entity was not disputed. In this view of the matter, we uphold the inclusion of this company as a comparable company by the TPO - Decided against assessee. Deduction u/s. 10A - Held that:- It would be just and appropriate to direct the Assessing Officer that freight, telecommunication charges and insurance charges incurred in foreign currency are to be excluded from both export turnover as well as t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t, dt.30.10.2009 proposed a T.P. adjustment of ₹ 1,61,74,393 to the ALP of international transactions in respect of software development services rendered by the assessee. The Assessing Officer then issued a draft assessment order under Section 143(3) r.w.s. 144C of the Act proposing the incorporation of the T.P. Adjustment as determined by the TPO s order under Section 92CA of the Act. 2.2 Aggrieved by the Draft Assessment Order for Assessment Year 2006-07, the assessee filed its objections thereto before the DRP, Bangalore. The DRP vide its order under Section 144C(5) r.w.s. 144C(8) of the Act dt.27.9.2010 agreed with the findings of the TPO / Assessing Officer and rejected the assessee's objections. In consequence thereof, the Assessing Officer passed the impugned final order of assessment for Assessment Year 2006-07 under Section 143(3) r.w.s. 144C of the Act vide order dt.11.10.2010. 3. Aggrieved by the final order of assessment for Assessment Year 2006-07 dt.;11.10.2010, the assessee is in appeal before this Tribunal raising various grounds of appeal. The assessee, in the course of appellate proceedings, has subsequently filed the following concise grounds of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... limited risk nature of the services provided by the appellant and upholding the conclusion of the ld. TPO that no adjustment on account of risk differential is required in determining the ALP. 6. The Hon'ble DRP and the ld. Assessing Officer have erred in law and on facts in upholding the arm s length margin arrived at by the ld. TPO by not considering the lower range of 5 percent from the mean margin as allowed under the Act and this Income Tax Rules, 1962. 7. The Hon'ble DRP and the ld. A.O. / TPO have erred in fact and law in applying the provisions of transfer pricing to the appellant without appreciating the fact that appellant was entitled to 100 percent deduction of profits under Section 10A during the relevant year and therefore there would not be any motive to shift profits to the other country. Adjustments under the Section 10A of the Act. 8. The Hon'ble DRP and the ld. Assessing Officer have erred in law and on facts in concluding that the freight, telecommunication expenses, insurance expenses, and certain other expenses incurred by the appellant including expenses incurred in foreign currency are to be excluded from the export turnover for the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lting Ltd. 11.45 Total : 71.16 Arithmetic Mean (Average) 8.89 Since the assessee's net margin for transactions with its AEs computed at 14.00% was higher than the average net margin of the comparable companies, at 8.89%, the assessee concluded that its international transactions with its AEs was at Arm s Length and that therefore no T.P. Adjustment was required. 5.2 The TPO, while accepting TNMM as the MAM, rejected the assessee's T.P. Study and carried out his own search using Prowess and Capitaline , applying various filters. In this process the TPO rejected all 8 comparables selected by the assessee and selected the following 20 companies as his final set of comparables :- Sl. No. Company Name OP to Total Cost % 1. Aztec Software Limited 18.09 2. Geom,etric Software Limited (Seg) 6.70 3. iGate Global Solutions Ltd. (Seg) 15.61 4. Infosys Limited 40.38 5. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ll of ₹ 1,61,74,393 was treated as the T.P. Adjustment u/s.92CA of the Act. 5.4 Against the aforesaid T.P. Adjustment proposed by the TPO (supra), which was incorporated in the draft assessment order, the assessee filed objections before the DRP, Bangalore. The DRP rejected the assessee's objections and upheld the T.P. Adjustments proposed by the TPO. Accordingly, the T.P. Adjustment upheld by the DRP was incorporated in the impugned final order of assessment. The assessee is now in appeal before us against the final order of assessment for Assessment Year 2006-07 passed under Section 143(3) r.w.s. 144C of the Act dt.11.10.2010. 5.5 In the appellate proceedings before us, the learned Authorised Representative of the assessee filed a chart explaining as to how some of the comparable companies chosen by the TPO are not comparable to the assessee in the case on hand. These are broadly :- i) for the reason that the turnover of those companies were beyond ₹ 200 Crores and therefore cannot be compared with the assessee, whose turnover is ₹ 19.67 Crores; ii) for the reason that certain comparables were functionally dis-similar and therefore not functional ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ist of comparables selected by the TPO. 6.3.1 We have heard both the learned Authorised Representative of the assessee and the learned Departmental Representative for revenue and perused and carefully considered the material on record. In the case of Triology E-business Software India Pvt. Ltd. (supra), cited by the assessee, the co-ordinate bench of this Tribunal on the issue of the application of the turnover filter while selecting comparable companies for comparability analysis has held as follows :- Turnover Filter 11. The ld. counsel for the assessee submitted that the TPO has applied a lower turnover filter of ₹ 1 crore, but has not chosen to apply any upper turnover limit. In this regard, it was submitted by him that under rule 10B(3) to the Income-tax Rules, it was necessary for comparing an uncontrolled transaction with an international transaction that there should not be any difference between the transactions compared or the enterprises entering into such transaction, which are likely to materially affect the price or cost charged or paid or profit arising from such transaction in the open market. Further it is also necessary to see that wherever there ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ger than the Assessee (turnover of ₹ 13,149 crores as compared to ₹ 47.47 crores of Assessee). It was submitted that an appropriate turnover range should be applied in selecting comparable uncontrolled companies. 14. Reference was made to the decision of the ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010, wherein relying on Dun and Bradstreet s analysis, the turnover of ₹ 1 crore to ₹ 200 crores was held to be proper. The following relevant observations were brought to our notice:- 9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (sic) making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ses, either or both of whom are nonresidents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. Sec.92-A defines what is an Associated Enterprise. In the present case there is no dispute that the transaction between the Assessee and its AE was an international transaction attracting the provisions of Sec.92 of the Act. Sec.92C provides the manner of computation of Arm s length price in an international transaction and it provides:- that the arm s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated per ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ppropriate method, in the following manner, namely :- (a) . to (d) .. (e)transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ost appropriate method for determining the ALP of the international transaction. The disputes are with regard to the comparability of the comparable relied upon by the TPO. 20. In this regard we find that the provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables. The assessee s turnover is ₹ 47,46,66,638. It would therefore fall within the category of companies in the range of turnover between 1 crore and 200 crores (as laid down in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010) . Thus, companies having turnover of more than 200 crores have to be eliminated from the list of comparables as laid down in several decisions referred to by the ld. counsel for the assessee. Applying those tests, the following companies will have to be excluded from the list of 26 comparables drawn by the TPO viz., Turnover Rs. (1) Flextronics Software Systems Ltd. 848.66 crores (2) iGate Global Solutions Ltd. 747.27 crores (3) Mindtree Ltd. 590.39 crores ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... here the RPT exceeds 15%, such companies should not be taken as comparables. The operative portion of this order of the coordinate bench (supra) in paras 8.11 and 8.12 at pages 16 17 thereof is extracted hereunder :- 8.11 Megasoft Ltd. 8.12 Aztech Software Ltd. 8.13 Geometric Software Ltd. Ld. AR submitted that in each of the above companies the RPT filter exceeded 15%. According to him, RPT filter has been upheld by this Tribunal in a host of decisions including that of EMC Data (supra). Per contra, the ld. DR supported the orders of authorities below. We have perused the orders and heard the rival contentions. Application of RPT filter while selecting the comparables has been held to be an appropriate criteria by this Tribunal in a number of decisions. In the case of EMC Data (supra), it was held as under:- 16. As far as comparable companies at Sl.No.1 2 19 of the chart of comparable companies chosen by the TPO at page-4 of this order viz., Aztec Software Limited and Geometric Software Ltd. (Seg.) and Megasoft Ltd., is concerned, it is not in dispute before us that the related party transaction in the case of companies exceeds 15% and in view of the decisio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ra) for Assessment Year 2006-07, relied upon by the assessee, we find that the following three companies were excluded from the TPO s list of comparables as they were held to be functionally different from the assessee, who was into pure software development services :- i) KALS Information Systems Ltd. ii) Tata Elxsi Ltd. (Seg). iii) Accel Transmatics Ltd. (Seg.) and 8.2.2 In this context, the relevant observations and findings of the co-ordinate bench in the case of Agile Software Enterprises Pvt. Ltd. (supra) at para 8.7 to 8.9.3 thereof are extracted hereunder :- 8.7 KALS Information Systems Ltd: The ld. AR submitted that this company was a software product company and could not be compared with that of the assessee. The assessee was a software services company and not a software product company. Reliance was placed on the decision of Trilogy ebusiness Software (I) Pvt. Ltd. (supra). As per the ld. AR, same view was taken in EMC Data (supra) also. 8.7.1 Per contra, the ld. DR submitted that KALS Information Systems Ltd. could not be considered as a software product company. 8.7.2 We have perused the orders and heard the rival contentions. We find that KALS ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he submission made on behalf of the Assessee. We find that the TPO has drawn conclusions on the basis of information obtained by issue of notice u/s.133(6) of the Act. This information which was not available in public domain could not have been used by the TPO, when the same is contrary to the annual report of this company as highlighted by the Assessee in its letter dated 21.6.2010 to the TPO. We also find that in the decision referred to by the learned counsel for the Assessee, the Mumbai Bench of ITAT has held that this company was developing software products and not purely or mainly software development service provider. We therefore accept the plea of the Assessee that this company is not comparable. (e) Accel Transmatic Ltd. 48. With regard to this company, the complaint of the assessee is that this company is not a pure software development service company. It is further submitted that in a Mumbai Tribunal Decision of Capgemini India (F) Ltd v Ad. CIT 12 Taxman.com 51, the DRP accepted the contention of the assessee that Accel Transmatic should be rejected as comparable. The relevant observations of DRP as extracted by the ITAT in its order are as follows: In r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le is identical in the case of the Assessee as well as in the case of Triology E-Business Software India Pvt.Ltd. (supra). Respectfully following the decision of the Tribunal referred to above in the case of Triology E-Business Software India Pvt.Ltd.(supra), we direct that the following companies (listed as Sl.No.4 15 of the list of comparable companies chosen by the TPO and listed in para-4 of this order) be excluded from the list of 20 comparable arrived at by the TPO. 8.7.3 It might be true that a number of software development companies in their TP studies might have considered KALS Infosystems Ltd. as a comparable and not as a software product company. However this, in our opinion, will not dilute the findings in this regard given by the Tribunal. The assessee having relied on the decision of the Tribunal wherein it has been held that KALS is a software product company, unless the decision of a higher authority which is different from the one given by the coordinate Bench is shown by the revenue, it will not be possible to deviate from the view earlier taken by a coordinate Bench. Accordingly, we direct that KALS Information Systems Ltd. be excluded from the comparables ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e different from the assessee as have been narrated in para 6.6 above. Even the segmental details for revenue sales have not been provided by the TPO so as to consider it as a comparable party for comparing the profit ratio from product and services. Thus, on these facts, we are unable to treat this company fit for comparability analysis for determining the arms length price for the assessee, hence, should be excluded from the list of comparable parties. 15. In view of the above, the ld. counsel for the assessee fairly admitted that comparable company at Sl.No.6 viz., Flextronics Software Systems Pvt. Ltd. should be taken as a comparable, while comparable at Sl.No.24 viz., Tata Elxsi Ltd. should be rejected as a comparable. 18. In view of the aforesaid decision, we hold that Tata Elxsi has to be excluded from the list of comparable chosen by the TPO. 8.9.3 The assessee before us is not developing any niche product. As held by the coordinate Bench of the Tribunal (supra), Tata Elxsi Ltd. could not be considered as a software development company simplicitor. That Tata Elxsi Ltd. was functionally different, has been held by the coordinate Bench of the Tribunal in the case ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g to the Directors Report and the audited financial statements of the company. Attention of the Bench was drawn to the fixed asset schedule, wherein product development cost of ₹ 40,57,182 was capitalized and shown under the gross block of fixed assets. Our attention was also drawn to the company s reply dt.16.1.2009, wherein it has referred to one particular Loan Organisation System ( LOS ) product for retail lending for over 12 years consisting of three offerings that can be used independently interfaced with other banking and lending solutions or together and that the company has implemented the solutions in over 80 sites over the years. It also mentions that the license fee depends on the size of the customer s lending business and the number of loan portfolios that the customer does business in. Laying emphasis on this reply of the company, the learned Authorised Representative argued that the revenue of this company is essentially license fees received by the assessee for selling the software products which has been described as software development and customization services in its accounts. The learned Authorised Representative contended that, in view of this, R Sys ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee. This, therefore, satisfies the filter of revenue greater than 75% from software development services, applied by the TPO. In any case, a miniscule revenue of 0.64% cannot transform this company into a software product company; nor could it be excluded from the list of comparables by holding the revenue of 0.64% as a separate segment in itself. That the fixed assets include an amount of ₹ 40.57 lakhs towards product development cost, does not by itself, establish that the assessee generates revenue from product development. At best, in our view, it could simply be a tool, developed by the assessee for its software development activities. Anyway, as pointed out by the learned Departmental Representative, the amount of ₹ 40.57 lakhs on an asset base of about ₹ 14 Crores is too small a component to claim that it can generate revenue of the order of ₹ 79.42 Crores for it to be characterized as a software product company. We find that in the factual matrix of the case, the learned Authorised Representative of the assessee could not demonstrate that the revenue of ₹ 79.42 Crores is mainly from license fees or product development. In these factual circumst ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ther the aforesaid expenditure are required to be excluded from export turnover. 11. Ground No.11 - Charging of interest under Section 234B, 234C and 234D of the Act. 11.1 In this Ground, the assessee challenges the action of the Assessing Officer in charging the assessee interest under Section 234B, 234C and 234D of the Act. The charging of interest under the aforesaid sections is consequential and mandatory and the Assessing Officer has no discretion in the matter. In this view of the matter, we uphold the Assessing Officer s action in charging the said interest. The Assessing Officer is, however, directed to re-compute the interest chargeable under Section 234B, 234C and 234D of the Act, if any, while giving effect to this order. 12. In Ground No.11, the assessee contends that there has been an arithmetical mistake while computing the taxable income as ₹ 2,85,25,919 while adding the adjustment to the returned income. In this regard, the Assessing Officer is directed to examine the veracity of the assessee's claim and make the computation of income as per law. 13. In the result, the assessee's appeal for Assessment Year 2006-07 is partly allowed. Orde ..... X X X X Extracts X X X X X X X X Extracts X X X X
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