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TMI Blog2016 (2) TMI 571X X X X Extracts X X X X X X X X Extracts X X X X ..... erefore, upheld on this score. Foreign Exchange Fluctuation - Held that:- . On going through all the Agreements entered into by the assessee with its AEs, to which our attention was drawn by the ld. AR, it is manifest that these have been made effective from 1.4.2007, being the current year alone. Under such circumstances, there can be no ground for arguing that the Agreements were entered in the preceding year and the remuneration as realized in the current year on the basis of the foreign exchange rates as applicable, adversely affected its profit margin for the current year, thereby requiring an upward revision in PLI of the assessee. Once the Agreements have been entered into with effect from the first day of the previous year, there can be no scope for comparing the rate of foreign exchange during the year with that of the preceding year or any other earlier year, so as to claim any adjustment. It is, therefore, held that neither the assessee can claim any adjustment on account of foreign exchange fluctuation rate in its profit nor such an adjustment, on the facts and circumstances of the instant case, is warranted in the profit margin of comparables. Revenue sharing fo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... heir incurring in the earlier years went on to reduce the eligible income of the Noida unit, in our considered opinion, when the excess amount is reversed in the current year, the same should also be made eligible for the benefit of deduction u/s 10A of the Act. We, therefore, overturn the assessment order on this point, and direct the inclusion of a sum of ₹ 1,22,342/- in the eligible profit for the purposes of deduction. Disallowance of deduction u/s 10A being the amount of depreciation disallowed - Held that:- The opening written down value to the extent of ₹ 2,55,500/- was excessive and ought to have been reduced. Once this amount is reduced, the assessee’s claim for depreciation on such amount to the tune of ₹ 1,53,300/- also becomes disallowable. We, therefore, approve the action of the AO in making addition for a sum of ₹ 1,53,300/-. However, the disallowance of depreciation to this extent will correspondingly enhance the eligible profits of Noida unit and the resultant amount of deduction u/s 10A to this extent. Thus, the disallowance so made would be set off with the increased claim of deduction u/s 10A resulting into no ultimate addition on this ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pted the assessee as a tested party and also the TNMM as the most appropriate method. However, the assessee s PLI, computed on the basis of profit of four years including projected profit of three years, was rejected. The TPO considered the operating profit margin of the assessee for the current year alone, calculated on the basis of actual figures. He made certain amendments in the list of comparables in the sense that some of the comparables chosen by the assessee were removed while a few new were introduced. Average PLI of comparables, being OP/OC computed at 23.82%, was applied as a benchmark for working out the transfer pricing adjustment amounting to ₹ 20,18,08,602/- for this international transaction. The assessee challenged the draft order before the Dispute Resolution Panel (DRP). The TPO in his order giving effect to directions given by the DRP, did not make any adjustment in relation to the international transaction of ITES. As regards the other international transaction of `Software development services , he recomputed the profit margin of comparables at 19.73%. By applying the same to the total operating cost incurred by the assessee, the TPO downscaled transfer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uent years as well. On going through the assessee s Annual accounts, it emerges that under the heading Other current assets as appearing in the Balance sheet, there is an item of Unbilled revenue amounting to ₹ 3,24,77,983/-. On further inquiry, it transpired that this amount represents work-in-progress of the assessee accounting for expenses incurred during the year for which the work is still incomplete and no revenue is received. The ld. AR accepted that all the expenses booked in the Profit Loss Account match with the corresponding revenue actually realized and this provision of work-in-progress is a standard accounting procedure adopted for excluding expenses incurred on work done for which revenue is yet to be accounted for. This divulges that the assessee debits expenses to its Profit Loss account only to the extent for which corresponding revenue is recognized in accounts and as such, there is no possibility of shifting revenue or expenses from one year to another, so as to distort the figure of profit for each year independently. We are, ergo, unable to approve this argument raised on behalf of the assessee. 6.3. Further, section 92(1) provides that: Any ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld on this score. (b) Foreign Exchange Fluctuation 7.1. The ld. AR contended that the adjustment on account of difference in foreign exchange rates for the year under consideration vis- -vis the earlier year was claimed by the assessee by means of adjustment to its operating profit, which was wrongly refused by the TPO. He submitted that the value of Indian Rupees appreciated in comparison with all the major foreign currencies, especially the US dollars. It was argued that the average exchange rate for USD in the Financial year 2006-07 was ₹ 45.25 in comparison with ₹ 40.29 for the Financial year 2007-08, relevant to the assessment year under consideration. The effect of such fluctuation in the foreign exchange rate, as explained by the ld. AR was, that decline of 10.96% was registered in the assessee s revenue, which was required to be adjusted against its profit margin for the current year. He submitted that the authorities below erred in not allowing such adjustment to the assessee s PLI. The ld. DR opposed granting of any adjustment in the PLI of the assessee in principle and also on merits. He submitted that adjustment, if any, can be allowed only in the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 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. 7.3. A bare perusal of sub-clause (i) of Rule 10B(1)(e) brings out that the net profit margin realized by the enterprise from an international transaction is to be computed in relation to a particular base. Sub-clause (ii) provides that the net profit margin realized by the enterprise from the comparable uncontrolled transaction is computed having regard to the same base. Sub-clause (iii) provides that the net profit margin realized by a comparable company, determined as per sub-clause (ii) above, is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, ..... which could materially affect the amount of net profit margin in the open market. It is this adjusted net profit margin of the unrelated transactions or of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... provisions, which is hereby repelled. Our view is supported by several orders passed by the Delhi benches of the tribunal on this issue including DCIT vs. Claas India Pvt. Ltd. (ITA No.1783/Del/2011) dt. 12.08.2015 and Saxo India Pvt. Ltd. VS. ACIT (ITA No. 6148/Del/2015) dt. February, 2016. Resultantly, it is held that foreign exchange fluctuation adjustment, or for that matter any other adjustment, can be legally made only in the profit margin of the comparables, if it is otherwise factually warranted and not in the profit margin of the assessee. 7.4. On going through all the Agreements entered into by the assessee with its AEs, to which our attention was drawn by the ld. AR, it is manifest that these have been made effective from 1.4.2007, being the current year alone. Under such circumstances, there can be no ground for arguing that the Agreements were entered in the preceding year and the remuneration as realized in the current year on the basis of the foreign exchange rates as applicable, adversely affected its profit margin for the current year, thereby requiring an upward revision in PLI of the assessee. Once the Agreements have been entered into with effect from the fir ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the rival submissions and perused the relevant material on record. It is observed that the assessee adopted TNMM as the most appropriate method in its TP study report. The TPO accepted the same. It was only for the first time that the assessee raised this alternative submission before the DRP for applying the alleged internal CUP method, which came to be turned down by the DRP. 8.3. It is noticed that the assessee has treated itself as a tested party in its transfer pricing study report, which has been accepted by the TPO. Under the CUP method as prescribed under Rule 10B(1)(a), price charged for services rendered in a comparable uncontrolled transaction is identified which is then adjusted to account for differences, if any, between the international transaction undertaken by the assessee and comparable uncontrolled transactions. Such adjusted price is taken as ALP in respect of the services provided by the assessee in the international transaction. From the machinery provision contained in Rule 10B(1)(a) in this regard, it is clear that the internal CUP provides for comparing the assessee s international transaction with another comparable uncontrolled transaction undertaken ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed in such list. 11. Before going into the question of comparability of the companies assailed before us, it is relevant to understand the nature of business carried out by the assessee. We have briefly noticed above that the assessee is engaged in providing software development services to its AEs. The assessee is providing end-to-end systems integration and consulting services in focused vertical market segments including Securities and Investment Banking, Airlines Transport and Technology. The assessee s TP study report discloses that it is providing customized software application development for its AE within which it focuses on the services of Application development, Reengineering and legacy applications, Maintenance of existing applications, Enterprise application integration and specialized quality assurance and testing services. The assessee is providing services in two kinds of projects, namely, Integrated projects (in which work is done both by the assessee and its US based AE to be finally delivered to the client) and Non-integrated projects (in which work is done by the assessee alone and this work is end product in itself). The above narration of facts indicates ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... A passes the same reasons vis-a-vis company C , then company A will find its place in the list of comparables of company C , notwithstanding the fact that it was held to be incomparable to company B . The crux of the matter is that the mere fact that company A has been held to be not comparable in a judicial order passed in the case of company B , does not per se make it incomparable in all the subsequent cases to follow. Not only company A held to be incomparable to company B can be comparable to company C , but company X held to be comparable to company Y can also be incomparable to company Z , depending upon the functional profile and the applicability or otherwise of the related factors. There can be no hard and fast rule that if a particular company has been held to be not comparable in the case of another company, then such former company would cease to be comparable to the assessee company also. Comparability of each company needs to be ascertained only after matching the functional profile and the relevant factors of the other company. Ergo, this contention raised on behalf of the assessee cannot be accepted. With the above parameters and the factual ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... vel. We, therefore, order for the elimination of this company from the list of comparables. (ii) Bodhtree Consulting, Persistent Systems Ltd., Quintegra Solutions Ltd., Tata Elxsi, Thirdware Solutions Ltd . 15.1. The assessee accepted these companies as comparable before the TPO which is apparent from his order. No issue was raised before the DRP contesting the comparability of these companies. It is only for the first time that the assessee has challenged before us that these companies are not comparable. It was, therefore, prayed that these companies be excluded from the list of comparables. This was opposed by the ld. DR, who argued that once the assessee has accepted a particular company as comparable before the TPO and/or DRP, it cannot be allowed to resile from its stand in contesting before the Tribunal that the same is not comparable. 15.2. The Special Bench of the Tribunal in DCIT vs. Quark Systems Pvt. Ltd., (2010) 132 TTJ (Chd) (SB) 1, has held that a company which was included by the assessee and also by the TPO in the list of comparables at the time of computing the ALP, can be excluded by the Tribunal if the assessee proves that the same was wrongly included ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uded in the list of comparables. 16.3. The ld. AR s contention this company, being in KPO business as against the assessee s BPO business, is unsubstantiated. Neither it has been shown that the assessee is rendering BPO services nor that e-Zest is providing KPO services. We, therefore, approve the view taken by the authorities below on this issue. (iv) Infosys Technologies Ltd. 17.1. The TPO noticed that this company was finding place in the accept/reject matrix but was rejected in the TP documentation by claiming that it failed functional comparability. The TPO found this company to be into software development services qualifying all the filters applied by him. The assessee raised certain objections against the inclusion of this company, but without any success. The TPO included the same in the final list of comparables. The assessee is aggrieved against its inclusion in the ultimate set of comparables. 17.2. We have considered the rival submissions and perused the relevant material on record. It can be seen that the TPO has included this company in the list of comparables by rejecting the assessee s contention about the brand of this company helping in earning huge ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tion of this company is available in the paper book which has been divided into two parts, namely, `Application software segment and `Training segment . It is the `Application software segment of this company, which has been adopted by the TPO. The development of software and all software products have been clubbed under the Application software segment. Since the figures of this company taken by the TPO for making comparison with the assessee include the effect of software products as well, apart from software development services, the same cannot be considered as comparable. It is obvious that a product company cannot be compared with a company engaged in providing software development services because of difference in the inherent characteristics of both. We, therefore, order for the removal of this company from the set of comparables. (vi) Wipro Ltd. (Seg.) 19.1. The TPO included this company in the list of comparables by overruling the assessee s objections about the super normal profits earned by this company; very high turnover; owning significant IPRS in the form of patents; and engaged in R D activity. The assessee failed to persuade the DRP to fall in line w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essee is aggrieved against the non-inclusion of these companies in the final list of comparables. 22.2. We have heard the rival submissions and perused the relevant material on record. It is found that the predominant view of the Tribunal in several cases is that the transactions of a company having more than 25% of Related Party Transactions (RPTs) are considered as controlled, thereby failing the test of comparability. This view has been taken in several decisions including the Delhi Bench in Toluna India Pvt. Ltd. (supra) and Actis Advisers Pvt. Ltd. Vs. DCIT, (2012) 20 ITR 138 (Del.)(Trib.). and Mumbai Bench in Stream International Services Pvt. Ltd. Vs. ACIT (IT) (2013) 141 ITD 492 (Mum.). 22.3. Adverting to the facts of the instant case, it is noticed that the TPO recorded RPT as a percentage of sales at a level higher than 25% for both the companies so as to exclude them. The ld. AR contended that while computing the related party transactions, the TPO also considered Reimbursement of expenses (Net) , which ought not to have been included. 22.4. We do not find any substance in this argument for the reason that the reimbursement of expenses debited by the assessee t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which was more than twice of the total revenue, thereby affecting the working capital and causing abnormal margin/loss. When we go through the Schedule of Investments of this company, which is available at page 608 of the paper book, it transpires that Investment of ₹ 5 crore in Siptech Solutions Ltd., was made in some earlier year inasmuch as the same figure is appearing in the balance sheet of the preceding year as well. Thus, it is clear that there is no abnormal activity of this company. Since this company is also exclusively engaged in providing software development services, we hold it to be comparable. (iv) VMF Soft Tech Ltd. 25.1. This was originally the assessee s comparable, which was excluded by the TPO by observing that it was outsourcing a major part of its work. 25.2. We have perused the Annual accounts of this company, which are available in the paper book. It can be seen that out of total Software expenses amounting to ₹ 55.11 lac, this company outsourced this activity by means of sub-contract by incurring expenses of ₹ 53.95 lac. Thus, it is palpable that this company has outsourced its major activity and, hence, cannot be compared wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tal income of the assessee having regard to the ALP so determined. This shows that the total income of an assessee entering into an international transaction, is required to be necessarily computed having regard to its ALP without any exception. Thus, the ld. AR s argument that since its income is subject to deduction u/s 10A, the provisions of the Chapter-X of the Act should not be applied, in our considered opinion, has no force in view of the clear statutory mandate contained in proviso to section 92C(4), which reads as under:- `Provided that no deduction under section 10A or section 10AA or section 10B or under Chapter VI-A shall be allowed in respect of the amount of income by which the total income of the assessee is enhanced after computation of income under this sub-section: . 26.3. A circumspect perusal of this proviso read along with subsection (4) of section 92C divulges that when the total income of an assessee from an international transaction is computed having regard to its ALP, then, no deduction u/s 10A or any other section including those covered under Chapter VIA of the Act shall be allowed in respect of the amount of income by which the total income of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n be made where the assessee enjoys benefit of deduction u/s 10A or 80HHE, etc., is only obiter dicta inasmuch as the addition was found to be not sustainable on the other main grounds as discussed in the body of the order. On the contrary, we find that the decision of the Special bench in Aztech Software (supra) permitting the applicability of sections 92C and 92CA to an assessee availing the benefit of section 10A of the Act is its ratio decidendi. On a specific query, the ld. AR could not point out any judgment of some Hon ble High Court deciding this point either way. In view of the fact that there is already a Special Bench decision in the case of Aztech Software (supra) which supports the making of transfer pricing adjustment notwithstanding the eligibility of deduction u/s 10A to the assessee, apart from clear statutory mandate contained in proviso to section 92C(4), we are more inclined to go with the view of the Special Bench. 26.5. It is, therefore, held that the eligibility of the assessee to deduction u/s 10A of the Act does not operate as a bar for determining the ALP of international transaction undertaken by it and further the enhancement of income due to such tra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n refunded in the instant year. Since these expenses at the time of their incurring in the earlier years went on to reduce the eligible income of the Noida unit, in our considered opinion, when the excess amount is reversed in the current year, the same should also be made eligible for the benefit of deduction u/s 10A of the Act. We, therefore, overturn the assessment order on this point, and direct the inclusion of a sum of ₹ 1,22,342/- in the eligible profit for the purposes of deduction. 29.1. Ground no. 9 is against not allowing deduction u/s 10A on a sum of ₹ 1,53,300/-, being the amount of depreciation disallowed. The assessee claimed depreciation during the assessment year 2007-08 on `Provision of computer software amounting to ₹ 3,65,000/-, which was disallowed. Since the closing WDV of last year i.e., 2,55,500/- (Rs.3,65,000 1,09,500/-) would be included in the opening written down value of current year, the AO opined that the depreciation claimed in the current year on this amount should also be disallowed. Accordingly, depreciation amount of ₹ 1,53,300/- (Rs.2,55,500x60%) was disallowed. 29.2. Having heard both the sides and perused the r ..... X X X X Extracts X X X X X X X X Extracts X X X X
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