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TMI Blog2015 (4) TMI 56X X X X Extracts X X X X X X X X Extracts X X X X ..... alone. To be more specific, the adjustment is to be made only to the transactions with the AE. Exclusion of expenses incurred on travel expenses in foreign currency and expenses incurred towards communication expenses from export turnover while computing deduction under section 10A n the ground that these expenses are incurred in rendering technical services rendered to clients outside India - Held that:- Taking into consideration the decision rendered by the Hon’ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd [2011 (8) TMI 782 - KARNATAKA HIGH COURT ] we are of the view that it would be just and appropriate to direct the Assessing Officer to exclude expenses incurred in foreign currency towards travelling and expenses incurred towards communication both from export turnover and total turnover, as has been prayed for by the assessee. - Decided in favour of assessee Non-grant of set-off of brought forward business loss and unabsorbed depreciation against the alleged income - DRP directing the AO to set-off of brought forward business loss and unabsorbed depreciation before computing the deduction under Section 10A - Held that:- The carried forward business lo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the assessee u/s. 92CA of the Act. At the time of hearing of the appeal, it was submitted that the comparable companies chosen by the TPO and the addition made by the AO in the draft assessment order which was confirmed by the DRP are identical to the case decided by the Tribunal in ITA No.1054/Bang/2011 for AY 07-08 in M/s. Trilogy E-Business Software India Pvt. Ltd. Vs. DCIT, Circle 12(4), Bangalore, Yodlee Infotech Vs. ITO ITA No.1397/Bang/2010 for A.Y.2006- 07 as considered by this Tribunal in the case of M/s. Actiance India Private Limited Vs. The ITO in IT(TP)A.No.1295/Bang/2010 order dated 17.10.2014. It was also submitted that the business profile of the Assessee and that of the Assessee in the case of M/s. Trilogy E-Business Software India Pvt.Ltd. (supra), Yodlee Infotech (supra) and M/s. Actiance India Pvt. Ltd. (supra) were also identical. This submission was found to be correct at the time of hearing. With this background we will now consider the factual basis of the present case and the decision rendered in the case of Trilogy E-Business Software India Pvt.Ltd. (supra), Yodlee Infotech (supra) and M/S.Actiance India Pvt.Ltd. (supra). 4. The assessee is a compan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in Annexure-I to this order, arrived at arithmetic mean of 20.48%. After factoring the working capital adjustment of -1.65%, the adjusted arithmetic mean was determined at 22.13%. The computation of the ALP by the TPO in this regard was as follows:- Computation of Arms Length Price: The arithmetic mean of the Profit Level indicators is taken as the arms length margin. (Please see Annexure B for details of computation of PLI of the comparables). Based on this, the arms length price of the software development services rendered by the taxpayer to its AE(s) is computed as under: Arithmetic mean PLI Less: Working capital Adjustment (Annexure-C) Adj.Arithmetic mean PLU 20.48% -1.65% 22.13% Arm s Length Price: Operating Cost Rs.18,00,23,193 Arms Length Margin 22.13% of the operating cost Arms Length Price (ALP) At 119.17% of operating cost Rs.21,98,62,325/- Price received vis- -vis the Arms Length Price: The price charged by the ta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tware development services. One of the criteria or filter so applied by the Assessee was choosing companies having sales of ₹ 5 Crores to ₹ 250 Crores. It was therefore his submission that he cannot seek to exclude the comparable companies viz., Sasken Communication Technologies Ltd. Persistent Systems Ltd., on the basis of Turnover filter of above ₹ 200 Crores, as these companies have turnover below ₹ 250 Crores and therefore are to be considered as comparable on the basis of Assessee s own admission. 11. At the time of hearing it was also noticed that the Assessee has not raised a specific ground of objection before DRP on the application of turnover filter by excluding companies which have turnover above ₹ 200 crores from the list of comparable companies on the basis of the decision rendered in the case of Trilogy E-Business (supra) rendered by the ITAT Bangalore Benches. The learned counsel for the Assessee has filed before us an application for admission of additional ground of appeal in which he has raised a ground objecting to selection of companies whose turnover is above ₹ 200 crores as a comparable company with that of the Assessee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l 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 are some differences such differences should be capable of reasonable accurate adjustment in monetary terms to eliminate the effect of such differences. It was his submission that size was an important facet of the comparability exercise. It was submitted that significant differences in size of the companies would impact comparability. In this regard our attention was drawn to the decision of the Special Bench of the ITAT Chandigarh Bench in the case of DCIT v. Quark Systems Pvt. Ltd. 38 SOT 207, wherein the Special Bench had laid down that it is i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s 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 bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the various benches of the Tribunal, when companies which arc loss making are excluded from comparables, then the super profit making companies should also be excluded. For the purpose of classification of companies on the basis of net sales or turnover, we find that a rea ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ty 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:- (1) 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 persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :- (a) comparable uncontrolled price method; (b) resale price method; (c) cost plus method; (d) profit split method; (e) transactional net margin method; (f) such other method as may be prescribed by the Board. (2) The most appropriate method referred to in subsection (1) shall be applied, for determination of arm s length price, in the manner as may be prescribed: Provided that where more th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 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 subclause (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 profit margin thus established is then taken into account to arrive at an arm s length price in relation to the international transaction. (2) For the purposes of sub-rule (1), the comparability of an international transaction with an uncontrolled transaction shall be judged with reference to the following, namely:- (a) the specific characteristics of the property transferred or services provided in either transaction; (b) the functions performed, taking int ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he 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 (4) Persistent Systems Ltd. 293.74 crores (5) Sasken Communication Technologies Ltd. 343.57 crores (6) Tata Elxsi Ltd. 262.58 crores (7) Wipro Ltd. 961.09 crores ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... TA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. The relevant extract are as follows: 16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. The assessee has objected to its inclusion on the basis that functionally the company is not comparable. With reference to pages 185-186 of the Paper Book, it is explained that the said company is engaged in development of software products and services and is not comparable to software development services provided by the assessee. The appellant has submitted an extract on pages 185-186 of the Paper Book from the website of the company to establish that it is engaged in providing of I T enabled services and that the said company is into development of software products, etc. All these aspects have not been factually rebutted and, in our view, the said concern is liable to be excluded from the final set of comparables, and thus on this aspect, assessee succeeds. Based on all the above, it was submitted on behalf of the assessee that KALS Information Systems Limited should be rej ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... was functionally different was accepted. DRP therefore directed the Assessing Officer to exclude ACCEL Transmatic Ltd. from the final list of comparables for the purpose of determining TNMM margin. 49. Besides the above, it was pointed out that this company has related party transactions which is more than the permitted level and therefore should not be taken for comparability purposes. The submission of the ld. counsel for the assessee was that if the above company should not be considered as comparable. The ld. DR, on the other hand, relied on the order of the TPO. 50. We have considered the submissions and are of the view that the plea of the assessee that the aforesaid company should not be treated as comparables was considered by the Tribunal in Capgemini India Ltd (supra) where the assessee was software developer. The Tribunal, in the said decision referred to by the ld. counsel for the assessee, has accepted that this company was not comparable in the case of the assessees engaged in software development services business. Accepting the argument of the ld. counsel for the assessee, we hold that the aforesaid company should be excluded as comparables. 17. The facts ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ysis, the software development and services segment comprises of three sub-services namely : a) Product Design Services i.e. design and development of hardware and software. b) Innovation Design Engineering i.e. Mechanical Design with a focus on Industrial Design; and c) Visual Computing Labs i.e. Animation and Special Effects for Movies and TV. ii) As the software development and services segment comprises of hardware, software and animation services, there is no sub-services break-up / information provided in the Annual Report OR the Databases, the learned Authorised Representative contends that this company should be rejected as a comparable as it is functionally different from the assessee. 15.2 Per contra, the learned Departmental Representative supported the orders of the authorities below on this issue. 15.3.1 We have heard both parties and perused and carefully considered the material on record including the judicial decisions relied upon. From the record, we find that this company is predominantly engaged in product designing services and not purely software development services. The references made to the Annual Report by the learned Authorised Repres ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of 23.11% (which is the margin for software service segment) alone should be considered for comparability. On the above submission, we find that the TPO considered the segmental margin (Software service segment) in the case of Geometric, Kals Info systems, R Systems, Sasken Communication and Tata Elxsi. Before DRP the Assessee pointed out that the segmental margin of 23.11% alone should be taken for comparability. The DRP has not given any specific finding on the above plea of the Assessee. Perusal of the order of the TPO shows that the TPO relied on information which was given by this company in which this company had explained that it has two divisions viz., BLUEALLY DIVISION and XIUS-BCGI DIVISION. Xius- BCGI Division does the business of product software (developing software). This company develops packaged products for the wireless and convergent telecom industry. These products are sold as packaged products to customers. While implementing these standardized products, customers may request the company to customize products or reconfigure products to fit into their business environment. Thereupon the company takes up the job of customizing the packaged software. The company al ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o far as it relates to providing software services by Megasoft alone should be taken for the purpose of comparison. 22. The learned counsel for the Assessee submitted before us that if the aforesaid 9 comparable companies are excluded from the list of 20 comparable companies chosen by the TPO and segmental results (software development segment) alone of comparable company chosen by the TPO M/S. Megasoft Ltd., is taken for comparability, then the profit margin of the Assessee would be well within the (+) (-) 5% range of the arithmetic mean of the remaining comparable companies and therefore the price received by the Assessee would be considered as at Arms Length. He prayed for a limited direction to the TPO on the lines set out above and determine the ALP. It also submitted that the other issues raised by the Assessee in the grounds of appeal need not be gone into. 23. We are of the view that the prayer sought for by the learned counsel for the Assessee is acceptable and accordingly, the TPO is directed to compute ALP after excluding the 8 comparable companies dealt with in this order. The TPO is also directed to take only the software development segment margin of the compara ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ost including the purchases made from unrelated parties or it is to be restricted to the purchase made from the AE. The second fold of submission is that the benefit of the proviso of section 92C(2) ought to have been given to the assessee, because in the automotive component segment, the TPO has himself given the benefit of this proviso. The contention of the learned DR was that this argument was not taken up by the assessee before the learned TPO. Therefore, it be remitted to the TPO for verification and re-adjudication. However, we find that in the TP study report, the assessee has disclosed the details of purchases in textile machinery segment from the AE. These are available on page 47 of the TP study report and they read as under: We find that the Assessing Officer has worked out the Arm s Length cost of operating revenue by reducing the total revenue with Arms Length mean margin which was worked out at 8.26%. In other words, the total sales have been reduced by this percentage in order to achieve the cost. This cost was further reduced by the purchases with unrelated parties and thereafter the learned TPO computed the ALP of the purchases made by the assessee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... raw material acquired from assessee's associate concerns. In the present case, the AO has calculated the operating profit on the entire sales of the assessee, which in our considered opinion, is not justified, when it is admitted position that only 45.51 per cent of raw material has been acquired by the assessee from its associate concerns for the purpose of manufacturing items. The assessee has stated that the operating profit if applied to 45.51 per cent of the turnover would come to ₹ 35,52,573 as against operating profit of ₹ 24,35,175 booked by the assessee, and the difference thereof would only be called for to be made as addition to the profit shown by the assessee. We, therefore, direct the AO to modify the assessment and make the adjustment only to the extent of difference in the arm's length operating profit with adjusted profit with reference to the 45.51 per cent of the turnover, and not to the total turnover of the assessee. Therefore, to this extent, the addition made by the AO and further confirmed by the CIT(A) is reduced. We order accordingly. 33. Therefore, the transfer pricing adjustment is to be worked out with the ALP determined for the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the export turnover while computing deduction u/s.10A of the Act, the Assessee has also made an alternate prayer that expenses that are reduced from the export turnover should also be reduced from the total turnover and in this regard has placed reliance on the decision of the Hon ble Karnataka High Court in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn). 27. We have heard the ld. counsel for the assessee and the ld. DR on the issues raised in ground No.9(a) to (d). Taking into consideration the decision rendered by the Hon ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn), we are of the view that it would be just and appropriate to direct the Assessing Officer to exclude expenses incurred in foreign currency towards travelling and expenses incurred towards communication both from export turnover and total turnover, as has been prayed for by the assessee in ground No.9(d ). In view of the acceptance of the alternative prayer in ground No.9, we are of the view that no adjudication is required on ground No.9 (a) to (c). 28. Ground No.10 raised by the Assessee reads as follows: 10. Non-grant of set-off of brought forward bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessed income ₹ 3,57,11,933 28. As on the first day of the previous year relevant to AY 06-07, the Assessee had the following unabsorbed depreciation and brought forward loss:- Business Loss Rs.8,39,67,017 Unabsorbed Depreciation Rs.3,22,16,422 Capital Loss Rs.40,87,032 The AO did not allow set off of any of the above loss either against income from business of Sec.10A unit or other business income nor against income from House Property or Income from other sources. 30. Before DRP the Assessee raised objection (objection No.28) wherein the Assessee pleaded (i) allowing setting off the brought forward loss/unabsorbed depreciation against addition made consequent to Transfer Pricing adjustment of ₹ 2,49,98,778 and bringing to tax income from Sec.10A unit which was held to be taxable consequent to reworking of deduction u/s.10A of the Act at ₹ 10,00,929/-. (ii) Allowing setting off of unabsorbed depreciation against dividend income from received from foreign subsidiary of ₹ 96,60,230 and in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... blur the difference between commercial profits and tax profits . Further, though s. 10A was amended to make it a deduction provision, it continues to remain in Chapter III and was not moved to Chapter VI-A. The result is that even now s. 10A is in the nature of an exemption provision and the profits of the eligible unit have to be deducted at source level and do not enter into the computation of income. Consequently, the losses suffered by non-eligible units cannot be set-off against the eligible profits; (b) On issue (ii), s. 10A(6) as amended by the FA 2003 w.r.e.f. 1.4.2001 provides that depreciation and business loss of the eligible unit relating to the AY 2001-02 onwards is eligible for set-off carry forward for set-off against income post tax holiday. This amendment does not militate against the proposition that the benefit of relief u/s 10A is in the nature of exemption with reference to commercial profits. However, to give effect to the legislative intention of allowing the carry forward of depreciation and loss suffered in respect of any year during the tax holiday for being set off against income post tax holiday, it is necessary that a notional computation ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ccordance with Sec.70 to 72 and 32(2) of the Act. 36. We have considered the rival submissions. The legal position that emanates from the decisions referred to above can be summed up thus:- (i) The carried forward business loss of Sec.10A unit cannot be set off or carried forward during the tax holiday period against any income. (ii) The carried forward business loss to the extent it pertains to non- 10A unit can be set off against income of non-10A unit. (iii) Sec.10A is an exemption provision and therefore will not enter the computation of total income and therefore there is no question of any carried forward loss being set off against the profits eligible for deduction u/s.10A of the Act; and (iv) the profit or loss of Sec.10A unit during the tax holiday period is quarantined and loss if any is carried forward to the assessment years immediately following the last of the assessment years for which the Assessee is entitled to claim exemption u/s.10A, for being set off in accordance with law as if it were any other loss to be dealt with in accordance with Sec.70 to 72 and 32(2) of the Act. 37. We are also of the view that the DRP s order/directions on this issue ..... X X X X Extracts X X X X X X X X Extracts X X X X
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