9911796707
TMI Blog2013 (6) TMI 746X X X X Extracts X X X X X X X X Extracts X X X X ..... 6-07. 2. The DRP has erred in concurring with findings of the AO/TPO and disregarding the economic analysis undertaken by the Appellant for establishing the arm's length price of the international transactions related to the provision of software development services without appropriate justification. 3. The TPO/AO has erred in determining the arm's length margin/price using only financial year 2005-06 data which was not available to the Appellant at the time of complying with the Transfer Pricing document requirements. Further, the TPO has erred in using single year data pertaining to financial year 2005-06 as against multiple year data used by the Appellant. 4. The TPO/AO has erred in law and on facts, in applying certain filters and not undertaking an objective comparative analysis for selection of comparable companies. In arriving at the arm's length price of the international transactions entered by the Appellant with its associated enterprises, the TPO and the AO have erred in rejecting certain comparables identified by the Appellant on the following factors • Related party transaction greater than 15% of operating revenues (as against the related party filter of 25 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ess of Software Development and providing marketing services. The assessee is a captive service provider and is engaged in the business of running Software Design and Development Services (Software Services) and business support services to its AEs. The assessee has been operating through the following units:- a) Hyderabad Unit; the Software Development Services are rendered through its development Centre in Hyderabad which is registered under the Software Technology Parks (STPI) scheme of Government of India as a 100% Export Oriented Unit (EOU). The Development Centre, Hyderabad is engaged in the carrying out design, development and testing for enhancement and improvement of Qualcomm existing products and development of new products. The Development Centre at Hyderabad is engaged in providing software services to its AEs. b) Mumbai & New Delhi Units; the assessee renders business support services to its associated enterprises through these units i.e. Mumabi & New Delhi. c) Bangalore Unit; pursuant to the merger of Qualcomm Bangalore Design Centre Private Limited and Spike Technologies India Private Limited with the assessee w.e.f 1st April, 2005, the assessee also has a STPI Un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ppropriate method to determine the ALP. The assessee used available data updated till 25th August 2006, to select comparable companies. It was the assessee's case that as financial data for the F.Y 2005-06 was not available in all comparable cases, the assessee considered financial data of F.Y 2003-04 along with the data for F.Y 2004-05, wherever available. The assessee selected 36 comparables for the software services with weighted average operating profit/operating cost of 12.06%. The A.O referred the matter u/s 92CA (1) of the Act to the Transfer Pricing Officer (TPO) for determination of ALP of the international transactions entered by the assessee with its AEs. 8. The Ld. TPO examined the transfer pricing study submitted by the assessee. However, he did not concur with the analysis undertaken by the assessee. The Ld. TPO was of the view that in determining arms length price of international transaction of the assessee, the financial information of comparable companies pertaining to the current financial year 2005-06 should be used, since it is contemporacious as in accordance with the requirements under Rule 10B(4) of the Rules. The Ld. TPO also rejected certain comparable co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ansfer pricing study by the assessee, was also rejected by the Ld. DRP. 13. The Ld. DRP also rejected the assessee's objection in not allowing benefit of +/- 5 % while determining the ALP. 14. The Ld. DRP also rejected the assessee's claim to use Multiple Year Data for the purpose of computing operating margins and comparable companies. The Ld. DRP upheld the order of the TPO in selecting the current years data only. 15. In the light of the order of the Ld. DRP, the AO then passed final order by making addition of ₹ 13,19,23,215/- on account of ALP in respect of transactions of software development segment entered into by the assessee with its associate enterprise. This action of the authorities below has been questioned by the assessee on the above grounds of its appeal before the Tribunal. 16. In support of the grounds, the Ld. A.R submitted that the compatibility analysis undertaken by the assessee was based on well accepted TP principle and in absence of any information to the contrary, it was inappropriate to reject the comparability analysis which was undertaken by the assessee in accordance with the provisions of the Act read with Rules. He submitted that as per Ci ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... neous data available by the prescribed date should have been allowed. 18. On the issue of application of certain filters raised in Ground No-4 of the appeal, the Ld. A.R submitted that the Ld. T.P.O has rejected certain comparables identified by the assessee on the factors that related party transaction is greater than 15% of operating revenues, there was functional dissimilarity, consistent loss making companies were there and they were having diminishing revenues. 19. We thus proceed to decide whether comparables selected by the assessee vis a vis the TPO are proper and justified to benchmark the international transactions entered into by the assessee with its AEs during the relevant period. In this case, the assessee initially selected a set of 36 comparables in its TP study reports. However, before us, it was submitted by the assessee that 20 comparables out of 36 comparables were rightly excluded for consideration. IT was submitted that it was accepted by both the assessee and the TPO that 20 comparables identified by both the parties are not to be considered to benchmark the international transactions in question. This leaves 16 comparables for consideration. Out of remaini ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... year and if it is found correct then include it as a comparable company in determining the A.L.P. The same is thus rejected as comparable. B. AKSHAY SOFTWARE LTD. (Akshay Software). 23. In its show cause notice, the Ld. T.P.O proposed to reject Akshay Software on the basis of applying related party transaction filter of 15%. In its order the Ld. T.P.O has however, rejected the company on the basis of functional dissimilarity. 24. The contention of the Ld. A.R remained that the Ld. T.P.O has rejected the company on the basis of functional dissimilarity without providing any opportunity of being heard to the assessee. He submitted that the Akshay Software is also engaged in Software services with miniscule revenue from sale of products. He referred Page No. 90 of the paper book volume 2 i.e. profit and loss account of the company in support. The Ld. A.R submitted that Akshay Software is functionally comparable to the assessee and has to be considered as comparable. He pointed out that Ld. T.P.O himself in the assessment year 2007-08 has accepted Akshay Software as comparable in the light of identical functions. 25. The Ld. D.R on the other hand tried to justify the action of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es and this may not give a substantial and fair base for computation of ALP. The Act does not provide specifically as to what percentage of related party transactions have material effect on the overall margins. However, some guidance may be taken from the definition of A.E in Section 92A (2) (a) of the Act, wherein it is prescribed that one enterprise holding 26% shares in other enterprise can be considered as an A.E. He submitted that as the provisions of Section 92A (2) (a) are from the TP Chapter itself, a limit of 25% may be considered more reasonable to be applied on the threshold for the related party transactions. The threshold of 25% is also recognized statistically as being a threshold for removal of extreme in the calculations of statistically disbursal. It was submitted that interquartile range (IQR) is a widely employed statistical tool that incorporates the distance between the first and 3rd quartiles IQR is not affected by outliers or extreme values and incorporations 25% as the breakeven point. It was submitted that even as per OEC guidelines, it is accentuated that large number of similar entities should be taken to make comparison broad based. Accordingly, compani ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ware as comparable, where the related party transactions are 22.99% being less than 25% and accepting the assesses's contention that receipts and payments on account of reimbursement should not be considered while computing RPT. In the year under consideration, the RPT is marginally in access of the threshold limit of 15% adopted by the T.P.O even if receipt and payment on account of reimbursement is execluded as done in A.Y 2007-08 by the Ld. T.P.O. We thus find that RPT ratio is not excessive so as to reject the Aztec Software as comparable on this account. We, therefore, accept Aztec Software as comparable to determine ALP in the assessee's case in the year. The A.O/TPO is accordingly directed to accept Aztec Software as comparable for determination of ALP in the case of the assessee for the year. 30. So far as KPIT is concerned, the Ld. TPO has rejected it as comparable for the reason that it has related party transactions more than 15% in view of the decision of the Tribunal in the case of Soni India(P) Ltd. (Supra). During the course of hearing, it was admitted by the Ld. Counsel for the assessee that RPT are more than 15% but he has submitted that the threshold limit of 25% ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for financial year 2005-06, R.S. Software (India) had reported an operating profit from computer software development services, especially maintenance activities hence is functionally similar to the assessee. The same is evident from the profit and loss account of the company made available at Page No. 95 of the paper book volume (ii). It was submitted further that negative net worth cannot be a criteria for evaluating the current profitability of the comparable as the negative net worth is on account of brought forward losses of earlier years, which are not relevant for the purpose of comparison. The adoption of negative net worth criteria for rejection of functionally comparable companies is not acceptable as it would be unjust and uncalled for. Based on the provisions of the Income Tax Rule 1962, comparables for the Provision of Software services would have to be companies which provide same or similar services as the assessee and are comparable in terms of functions performed risk assumed and assets utilized. Hence for the purpose of determining the comparables, the assessee had considered functions performed, risk assumed and assets utlized for the international transaction a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... prima facie find substance in the contention of the Ld. A.R that functions performed by Aftek Infosis were different from the function performed by the assessee, hence comparability of the said company is required to be reconsidered as comparable to the assessee for F.Y 2005-06 by the Ld. TPO after verifying the above facts and hearing the assessee in this regard. It is ordered accordingly. 34. Regarding Asian CERC, the Ld. A.R submitted that in the F.Ys 2003-04 & 2004-05 the company had limited export earnings from software development activity, which is evident from the annual report of the company made available at page no. 97 of the paper book-ii. On the other hand 100% of the assessee's revenue is earned from exporting income. Since there is a complete difference in the selling segment of both the companies, the degree of risk (e.g "foreign exchange gain/loss)" and function performed by both the companies would also be different, submitted the Ld. A.R. The Ld. DR however tried to justify the order of the Ld. TPO. 35. On perusal of Annual report for the year of the company we prima facie find substance in the contention of the Ld. A.R that based on the aforesaid reasons Asia ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nclude companies, which have fairly diversified areas of specialization perform additional functions viz. marketing etc. and bear more risk occurring to any third party independent service provider. In view of limited functions performed and limited risks born by the assesee it can be characterized as a contract service provider operating in a "risk mitigated environment" viz a viz the comparable companies who perform "entrepreneurial risk taking functions" and therefore bear "entrepreneurial risks". He submitted that it is an established theory that rewards follow risks and therefore companies that bear entrepreneurial risks" are rewarded with more profits for the additional risks borne by them. In this regard he referred page no. 145 to 148 of the paper book volume I for summary of the key risks identified by the assessee which are borne by the comparables companies vis-a-vis the assessee who is insulated from these risks. He submitted further that the assessee bears lesser business risk than independent comparable companies due to the nature of its revenue model. It is guaranteed profits by way of a mark-up on costs incurred regardless of its success or failure. The assessee has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... orking capital adjustment. He placed reliance on the following decisions wherein it has been held that adjustments (including working capital adjustment) need tobe made to the margins of the comparables to eliminate difference on account of different functions, assets and risks : 1. Philips Software Centre Private Limited vs. ACIT (2008)119 TTJ 721 (Bang) 2. Mentor Graphics Private Limited vs. ITO (2007) 109 ITD 101 (Delhi) 3. E-Gain Communication Pvt. Ltd vs. ITO (2009) 118 ITD 243 (Pune) 4. Sony India (P) Ltd. vs. DCIT (2008) 114 ITD 448 (Delhi) 5. Schefenacker Motherson Limited vs. ITO (2009) 123 TTJ 509 (Delhi) 40. Ld. DR on the other hand tried to justify the orders of the authorities below on the issues of making of suitable adjustment to account for difference in the risk profile and for making of appropriate adjustment to account for differences in working capital employed by the assessee vis-a-vis the comparables companies for software development services. He submitted that the Ld. TPO has denied these claimed adjustment by the assessee after discussing these issues in detail. The Ld. DR submitted that interest as operating cost has been considered or not, is no ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... objected the rejection of the claim of the assessee in the use of multiple year data for the purposes of computation of operating margins of other comparable companies. This issue has been raised in ground No. 3 of the appeal. 43. In support of the grounds Ld. AR submitted that the provisions laid down under Rule 10B(4) of the I.T. Rules makes it clear that the data to be used in analyzing the comparability of an uncontrolled transaction as international transaction shall be the data relating to the financial year in which the international transaction has been entered into, provided that data relating to a period not being not more than two years prior to such financial year may also be considered if such data reveals facts which could have an influence on the determination of the transfer prices in relation to the transactions being compared. He submitted further that the fresh Government note dated 22.8.2001 provides that the tax payers have been allowed the use of multiple year data pertaining to comparable transactions in determining the arms length price. Rule 10B (4) provides that transfer pricing documentation should, as far as possible, be contemporaneous and should exist ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f an uncontrolled transactions shall be the date relating to the financial year in which international transaction has been entered into . Thus the only restriction on use of data in comparability analysis is that the data should pertain to the same financial year. He submitted further that under section 92D (1) of the Act, every person entering into an international transaction is required to keep and maintain such information and document in respect thereof as may be prescribed. Rule 10D(1) of the Rules, requires maintenance of a record of the analysis performed to evaluate comparability as well as a record of the analysis performed to evaluate comparability as well as a record of the actual working carried out for determining the ALP. Rule 10D(4) of the Rules , requires that the information and documentation to be maintained under Rule 10D(4) should be contemporaneous as far as possible and should exist latest by the due date of filing of the income-tax return. The Ld. DR submitted that the requirement of existence of information and documentation by the due date of filing of return does not override the provisions of Rule 10B(4) of the Rules regarding mandatory use of current f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... from other sources also like accounts made available to the shareholders, stock exchange, registrar of the companies etc. Many of these companies have their own websites which the taxpayer could have aaccessed. Even quarter to quarter results are being published by many of these companies. The companies cannot be rejected as comparables merely because of his claim that the data was not uploaded by the data basis. 47. In the rejoinder the Ld. AR with assistance of some data tried to indicate the impact on the margin of the comparable companies considering various combinations of the comparable companies. 48. Considering the above submission we find that the provisions of Rule 10B (4) are unambiguous and mandatory particularly in view of the use of word 'shall' and not 'may'. Rule 10B(4) prescribes that the data tobe maintained by the taxpayer should be contemporaneous and should exist latest by the specified date. The Rule 10D (4) is thus not directly on the issue of data to be used in comparability analysis. Even if a broader view is taken and both the Rules are read together it would simply mean that the current year's data (as per Rule 10(4) as existing by the specified date ( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... round No.8 remained that as per the proviso to section 92C(2) of the Act an assessee has the option of charging a price to its AEs which may vary from the ALP by plus / minus 5 %. Section 92C(3) further states that the ALP shall be determined by the AO in accordance with the sub sections (1) and (2) of section 92C. Therefore it should be appreciated that the Ld. TPO/AO is mandatorily required to calculate the ALP in accordance with section 92C(1) and 92C(2) of the Act. The Ld. AR also referred relevant extract from explanatory memorandum of Finance Bill 2002 and classification made in notes on clauses - Income Tax (Finance Bill 2002). He also referred CBDT circular No. 12(1) dated 23.8.2001 and placed reliance on the following decisions :- UE Trade Corporation (India) (P) Ltd. vs. ACIT, ITAT Nos. 4405 and 4406/D/2009 Sony India (P) Ltd. v. DCIT (2008) 114 ITD 448 (Delhi) SAP Labs India v. ACIT (2010) TII-44-ITAT-BANG Cummins India Ltd. vs. DCIT & ors. ITA Nos. 277/Pune/07 & Others (Asstt. years 2003-04 and 2004-05) order dated 28.2.2011 Toshiba India Pvt. Ltd. (2010) TII-14-ITAT-Delhi. 50. The Ld. AR also cited recent decision of Delhi Bench of the Tribunal in the case of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amending the proviso to section 92C(2) of the Act with retrospective effect from 1.4.2002 to provide for the tolerance band. The effect of this amendment is that there will be no TP adjustment in cases of marginal variation upto to +/-5% but substantial variations would result in appropriate TP adjustments. He submitted that the decision rule contained in the proviso to section 92C (2) of the Act containing tolerance band is akin to a similar decision rule of confidence intervals used in the statistical inference. There is no scope for any "standard deduction under this Rule . In other words, if the ALP falls outside the tolerance band TP adjustment would have to be made for the difference between the LP determined by the AO based on the arithmetical mean of prices and the price shown by the assesee. Ld. DR placed reliance on the following decisions :- DCIT vs. Global Vantedge Pvt. Ltd. 2010 -TIOL-24-ITAT-Delhi] Marubeni India Pvt. Ltd., vs. ACIT, ITA 809/D/2009 dated 18.3.2011. 53. Ld. DR submitted further that to avoid any controversy the proviso to section 92C was proposed tobe amended by the Finance (2) Bill 2009. After the amendment the TPO/AO has to take the arithmetic me ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s Ltd. vs. ACIT (37 SOT 270) • Customer Service India (P) Ltd. v. ACIT (30 SOT 486) • Global Vantedge Pvt. Ltd. v. DCIT (1 ITR 326) • Schefenacker Motherson Limited v. ITO (123 TTJ 529) • SDRC India (P) Ltd. (2209-TIOL-185- ITAT-Del) • ACIT v. Toshiba India Private Limited (2010-TII-14-ITAT-DEL-TP Benguluru Tribunal • SAP Labs India (ITA No. 398 & 418/Bang/2008) • Philips Software Centre (P) Ltd. vs. ACIT (119 TTJ 721) Mumbai Tribunal ITO vs Zydus Altana Healthcare PVt. Ltd. (2010-TII-29-ITAT-MUM-TP) • Tecnimount ICB Pune Tribunal • ACIT v. MSS India Pvt. Ltd. (123 TTJ 657)(32 SOT 132) • Cummins India Limited v. DCIT (ITA 148/PN/07) 56. The issue raised in ground No. 8 is now fully covered by the decision of the Special Bench of the Tribunal in the case of IHG IT Services (India) Pvt. Ltd. vs. ITO (2013) 23 ITR (Trib) 608 (Del) (SB). In this case after discussing the history of section 92C(2) of I.T. Act as well as amendments made therein time to time and the decisions of Pune Bench in the case of Piagio Vehicles P. Ltd. vs. DCIT (2012) 53 SOT 253 (Pune) and Delhi Bench in the case of Asstt. CIT vs. UE Trade Corporati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . He submitted that the use of word "deduction" would indicate that the income in question will first enter into the computation of total income and then the "deduction" as provided in the substituted section would be allowed. Further, proviso I to section 10A (1) states that where profits and gains from the eligible undertaking were not included in the computation of total income u/s 10A of the Act prior to its substitution, then the undertaking will be entitled to deduction under the new section 10A for the un-expired tax held period of 10 years. He pointed out referring to substituted section 10A that the proviso clearly refers to "income not included in computation of total income" while the amended section 10A, refers to a "deduction". Therefore, this indicate the conscious shift by the Legislature to provide for a "deduction" in the place of the erstwhile "exemption" of profits. The intention of Legislature was to specifically change the wording and to consciously use the term "deduction" . Therefore this indicate the conscious shift by the legislature to provide for a "deduction" in the place of "exemption" of profits. The intention of the legislature was to specifically cha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 10A of the Act. However the Bangalore unit has suffered a loss and hence no deduction was claimed u/s 10A of the Act. In its return of income filed for the year, the assessee had set of the losses of Bangalore unit of ₹ 1,49,49,710/- with profit derived from Mumbai unit. The AO did not allow the set off of the losses of Bangalore Unit on the basis that income of STPI unit is exempt u/s 10A of the Act and hence cannot be adjusted with other income. During the year the assesee claimed set off of carry forward business losses amounting to ₹ 4,54,30,632/- pertaining to assessment year 1998-99 against the profits of the assessment year under consideration. The AO disallowed the set off on the ground that no documentary evidence of brought forward losses and its allowability were furnished during the course of assessment. Ground No. 9 61. Having gone through the decisions relied upon by the parties we find that facts of the case of the assessee are distinguishable from the facts of the case before the Special Bench. The assessee has incurred losses in its STPL unit in the asstt. year 2006-07 under consideration and hence the question of claiming deduction u/s 10A of the Act ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... income as per provisions of section 70-72 of the Act read with section 10A(6)(ii) of the Act. The effect of the revised provisions of section 10A of the Act and the decisions of the Tribunal cited by the AR has been explained with the help of following example :- Particulars Unit A Eligible for 10A deduction Unit B Non eligible for 10A deduction Total for the assessee Taxable income / (loss) before deduction under section 10A INR (3,00,000) INR 10,00,000 INR 7,00,000 Less: Deduction under section 10A Nil NA Nil Taxable income after deduction under section 10A Nil INR 10,00,000 INR 10,00,000 Less: Set off of loss of Unit A as per section 70 of the Act (i.e. intra head adjustment) Nil INR (3,00,000) INR (3,00,000) Taxable income/(loss) after adjustment of losses as per section 70 of the Act Nil INR 7,00,000 INR 7,00,000 63. We find that the facts of the case Navin Bharat Industries Ltd. vs. DCIT (Supra) before third member bench of the Tribunal relied upon by Ld. AR are almost similar to the facts of the case of the assessee. In that case also the assessee had claimed set off of loss in a section 10A undertaking against profits of other units. Such adjustment ..... X X X X Extracts X X X X X X X X Extracts X X X X
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