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TMI Blog2016 (8) TMI 79X X X X Extracts X X X X X X X X Extracts X X X X ..... n rate in software industry is highest, recruitment of employees and imparting of training to them cannot be considered as of enduring benefit. Addition being expenditure on quality audit by treating the same as capital expenditure being in the nature of enduring benefit to the company - Held that:- Keeping in view the fact that the expenditure on account of quality audit incurred by the assessee even if treated to be of enduring nature, it is to be treated as expenditure in the nature of revenue field as the test of benefit of enduring nature breaks down in this case. Because quality audit creates positive image of the product of the assessee; it fulfills the requirement of certain clients which contracts with the assessee company only with such certification; that by making such expenditure, assets of the assessee company has not been enhanced in any manner. So, we are of the opinion that DRP has erred in deciding this issue against assessee TDS u/s 195 - AO treating the payment for acquisition of software as fee for technical services / royalty - Held that:- Judgment cited as DIT vs. Infrasoft Ltd. [2013 (11) TMI 1382 - DELHI HIGH COURT] is applicable to the facts and circ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nditure incurred in relation to Recruitment and Training of employees is enduring in nature and thereby allowing deduction of only 1/5th of the total expenditure of ₹ 53,90,160 only. 2. That on the facts and circumstances of the case and in law, the Ld. AO erred in holding that the quality audit expense for certification is not in the nature of revenue expenditure and thereby disallowing sum of ₹ 3,60,220. 3. That on the facts and circumstances of the case and in law, the Ld. AO erred in disallowing sum of ₹ 1,80,120 for purchase of software under section 40 (a) of the Act holding such payment to be covered under the head fee for technical services / royalty and thereby holding that the assessee was required to withhold taxes on such payment. 4. That on the facts and circumstances of the case and in law, the Ld. AO erred in treating the payment of ₹ 1,68,17,587 towards Retention Bonus as capital expenditure to be spread over five years and thereby allowing deduction of ₹ 42,04,257, being only 1/5th of the expenditure. II. Transfer Pricing Grounds 5. That on the facts and in the circumstances of the case and in law, the o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... anies which were not comparable to the Assessee. 10.5 In not providing adjustment for the differences in the working capital profile of the Assessee vis a vis comparables. 10.6 In including retention bonus as a part of operating expenses. 11. The Ld. AO/TPO erred in facts and in law in not providing Assessee any opportunity of being heard on subjective grounds taken by him. 12. The Ld. AO/TPO erred in law in not giving the full effect to the directions of DRP. 13. The learned TPO and the learned AO erred in not allowing the benefit of range of +/- 5% as provided in proviso to Section 92C(2) of the Act to the Appellant, while determining the arm' s length price. 14. The Ld. AO erred in determining interest U/S 234B and 234C of the Income Tax Act. 2. Briefly stated the facts of this case are : a reference has been made by the AO under section 92CA (3) of the Income-tax Act, 1961 (for short the Act ) to the Transfer Pricing Officer (TPO) to determine the Arm s Length Price (ALP) in respect of the international transactions entertained into by the assessee during the financial year 2007-08. Assessee company is a provider of engineering and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... computed as under :- Operating Revenue Rs.46,16,24,534/- Operating Cost (Revised) Rs.43,55,59,139/- Operating Profit ₹ 2,60,65,395/- OP / OC 5.98% 6. Ld. TPO, after considering the contentions made by the assessee, came to the conclusion that retention bonus paid by the assessee company is to protect its revenue and is paid to earn operational income and thus to be treated as operating expenditure and recomputed the tested party margin of OP/OC at 5.98%. 7. Ld. TPO applied the filters viz. functional profile, companies having export sales of more than 25% of the total income, companies having employee cost to total cost of 25%; related party transaction is considered at 25% and used the data for financial year 2007-08 for benchmarking the international transaction. 8. By applying the aforesaid filters, the ld. TPO, out of 25 comparables chosen by the assessee for benchmarking its international transaction, accepted 5 comparables only and proposed to select 10 comparables having arithmetic mean at 27.02%. A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ave heard the ld. Authorized Representatives of the parties to the appeal, gone through the documents relied upon and orders passed by the revenue authorities below in the light of the facts and circumstances of the case. 12. At the very outset, ld. AR for the assessee by moving an application under Rule 11 of the Income Tax Appellate Tribunal Rules sought to raise the additional ground as under :- That on the facts and in circumstances of the case the authorities below should have excluded following comparables:- 1. Bodhtree Consulting Ltd. 2. Zylong Systems Ltd. 3. Lanco Global Systems Ltd. 4. Goldstone Technologies Ltd. 5. FCS Software Solutions Ltd. 6. Kals Information System Ltd. On the grounds inter alia that the assessee has sought to exclude FCC Software and Kals Information before the lower revenue authorities but rejected the plea raised by the assessee; that the plea raised by the assessee for exclusion of the companies referred in the additional ground is based upon the findings and rulings of the Tribunal which were not available in the public domain at that time; that the assessee cannot be estopped to seek exclusion of the comparables fro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ound, because question of comparability, if any, is ultimately to be determined by the TPO by providing an opportunity to be heard to the parties. So, we hereby allow the application under consideration without prejudice to the merits of the case. 15. Though corporate tax grounds as well as transfer pricing grounds are inter-linked but, for the sake of brevity, all the grounds under both the heads are being discussed separately. CORPORATE TAX GROUNDS GROUND NO.1 16. AO/DRP disallowed a sum of ₹ 43,12,128/- out of recruitment expenses of ₹ 37,89,007/- and training expenses of ₹ 5,39,01,601/- by allowing 1/5th of these expenses by treating the same as enduring benefit to the assessee company as its benefit do not restrict one year only and remaining to be apportioned in the next five years. DRP also agreed with the AO and observed that recruitment and training expenses gave long term benefit to the company because the recruited and trained employees are generally working not for the year in which they are recruited but they contribute to the profit of the company for a long period. 17. Ld. AR for the assessee contended that recruitment and t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mployee will work for specific period, as the attrition rate in software industry is highest, recruitment of employees and imparting of training to them cannot be considered as of enduring benefit. So, by following the law laid down by the Hon ble Calcutta High Court Hindustan Aluminium Corporation Ltd. vs. CIT (supra) and Hon ble jurisdictional High Court in CIT vs. Munjal Showa Ltd. , we hereby decide ground no.1 in favour of the assessee. GROUND NO.2 21. AO, in compliance to the directions issued by the ld. DRP, made addition of ₹ 3,60,220/- debited by the assessee to the profit and loss account during the year under assessment being expenditure on quality audit by treating the same as capital expenditure being in the nature of enduring benefit to the company. Ld. AR for the assessee contended that quality data expenses are in the nature of revenue expenditure necessary for smooth conduct of business and also is the requirement of many clients with such certificate be obtained before awarding the contract. The ld. AR for the assessee further contended that quality data is just to facilitate the assessee s trading operations and conduct of business in a more p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n enhanced in any manner. So, we are of the opinion that DRP has erred in deciding this issue against assessee. Consequently, ground no.2 is determined in favour of the assessee. GROUND NO.3 23. Assessee claimed to have incurred expenses of ₹ 3,00,200/- for purchase of PTC software. AO, in compliance to the directions passed by the ld. DRP, made addition of ₹ 1,80,120/- on the ground that the assessee has failed to comply with the provisions of section 195 of the Act and disallowed the amount of depreciation amounting to ₹ 1,80,120/-. 24. Ld. AR challenging the impugned order contended inter alia that provisions contained u/s 40(a)(i) are not applicable to depreciation; that depreciation is a statutory deduction and it is obligatory for the AO to allow the deduction of deprecation irrespective of the claim of the assessee. 25. Now the question arises for determination is as to whether the AO/DRP have erred in treating the payment for acquisition of software as fee for technical services / royalty. 26. Ld. DRP, while relying upon the decision rendered by ITAT, Delhi in the case of Grarcemac Corp. vs. ADIT (ITA No.1331 1336 of 2008) he ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... extensive with the owner/ transferor who divests himself of the rights he possesses pro tanto. 90. The license granted to the licensee permitting him to download the computer programme and storing it in the computer for his own use is only incidental to the facility extended to the licensee to make use of the copyrighted product for his internal business purpose. The said process is necessary to make the programme functional and to have access to it and is qualitatively different from the right contemplated by the said paragraph because it is only integral to the use of copyrighted product. Apart from such incidental facility, the licensee has no right to deal with the product just as the owner would be in a position to do 91. There is no transfer of any right in respect of copyright by the Assessee and it is a case of mere transfer of a copyrighted article. The payment is for a copyrighted article and represents the purchase price of an article and cannot be considered as royalty either under the Income Tax Act or under the DTAA. 28. Judgment cited as DIT vs. Infrasoft Ltd. (supra) is applicable to the facts and circumstances of the case in which undisputedly n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessee debited an amount of ₹ 2,10,21,984/- on account of retention bonus paid to its employees, out of which AO/DRP disallowed an amount of ₹ 1,68,17,587/- being 4/5th of the total liability of ₹ 2,10,21,984/- by treating the same as capital expenditure on the grounds that the said expenditure was incurred due to amalgamation of Bangalore branch of US company by the assessee which is to be amortized over a period of five successive years in equal proportion by invoking the provisions of section 35DD of the Act and that the retention bonus paid to the employees are not in the nature of normal business expenditure but expenditure which would result into enduring benefit. 33. Undisputedly, an amount of ₹ 2,10,21,984/- on account of retention bonus was paid by the assessee company prior to filing of the income-tax return. 34. Ld. AR for the assessee contended that AO/DRP have erred in treating the retention bonus as amalgamation expenses because it was not a case of amalgamation rather it was a case of sale of Bangalore branch of US company by the assessee company. 35. In the backdrop of the aforesaid facts and circumstances, the first question arise ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which it would have otherwise required to spend on the training and recruitment of new employees. All software company have to give such incentives to its employees in order to retain them. In order to ascertain that whether the payment of retention bonus actually entailed any extra expenditure by the assessee as compared to the earlier years and subsequent years, the assessee was requested by this panel to provide the details of the employees cost and the total operating cost for the F.Y.2005-06 to F.Y.2010-11. The details filed by the assessee vide letter dated 23.08.2012 are as follow. Trend of employee cost to total operating cost Financial Year Employee Cost Total Operating Cost Employee cost as a percentage to total operating cost 2006-07 149,200,190 222,227,392 67.14% 2007-08 280,561,911 411,874,588 68.12% 2008-09 557,348,550 774,705,588 71.94% 2009-10 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion, by whatever name called, due to, or received by, a partner of a firm from the firm shall not be regarded as salary for the purposes of this section. 42. So, when the retention bonus has been paid by the assessee company to the erstwhile employees of SCICOM in order to ensure the smooth functioning of the business to arrest the attrition rate prevalent in the software industry, it would certainly enhance the profitability of the assessee company. So, we are of the considered view that payment of retention bonus made by the assessee company partakes character of salary payable to its employee for the business purposes and has to be treated as revenue expenditure. Had the employees of erstwhile company not been retained by the assessee company its business would have adversely affected and this fact goes to prove that the retention bonus was paid as an incentive to the employee, which is salary as per Explanation 2 to section 15 of the Act, and is a business expenditure not creating any enduring benefit. Since assessee company had undisputedly paid the retention bonus before filing the return of income of the relevant assessment year these expenditure are entitled to be a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... therwise rejected by the TPO as well as ld. DRP and for exclusion of Kals Information System Ltd. otherwise accepted by the TPO/DRP, which are discussed as under:- AARMAN SOFTWARE PRIVATE LIMITED 48. TPO as well as DRP have rejected this company as comparable on the sole ground that its annual report for the year ending March 2008 is not available in the public domain. However, ld. AR brought on record the annual report of this comparable company lying at page 799 to 812 of Volume IV of the paper book, which fact has not been controverted by the ld. DR. So, we are of the considered view that when functional dissimilarity between the assessee company vis- -vis comparable company is not in dispute, the TPO is required to reconsider this comparable for benchmarking the international transaction. So, the matter is ordered to be restored to the TPO to decide afresh after providing an opportunity of being heard to the assessee company. CG-VAK SOFTWARE EXPORTS LIMITED 49. Ld. TPO rejected this company as a comparable on the ground that it fails employee cost filter; that employees cost should be more that 25% of the total cost whereas assessee for benchmarking inte ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tended that it should have been allowed working capital adjustment to account for the differences between the working capital deployed by the assessee and that of comparables. At the outset, it is made clear that for allowing any adjustment for differences in respect of functions, assets and risks etc., as a general rule, the margins of comparables are adjusted to eliminate the influence of such differences on the margins of each comparable rather than adjusting the margins of tested party, i.e., the assessee in this case. The reason is obvious that margin of tested party cannot be adjusted to bring it at par with each of the comparable because degree of difference in functions, assets and risks of each of comparable with that of the assessee differs in case of each comparable. To carry out the adjustment, the availability of relevant information to accurately identify the difference and then quantify impact of such difference is a pre-requisite. In this case, we only know the amount of working capital deployed by the comparables on the first and last day of the accounting period. We have no means to ascertain the working capital deployed by the comparables through the year. In fac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the facts of the case of the assessee. The request for such adjustments cannot be summarily rejected unless some analysis of the case of the assessee is made vis-a-vis comparables companies. We thus set aside the matter to the file of the Ld. TPO/AO to consider these aspect of adjustment while deciding the issue afresh vis-a-vis the comparable companies in the business of software development as discussed hereinabove in the present order of the Tribunal. It is needless to mention over here that while considering these aspects opportunity would be given to the assessee to present its case in this regard. The assessee is required to cooperate with the Ld. TPO in furnishing the details, break up, datas, etc. or any other necessary information to the satisfaction of the TPO so that reasonably accurate adjustment, if any, can be made as per Indian Transfer Pricing Law (i.e. Rule 10B (3)(iii)) on account of risk and working capital. Ground No.6 7 are thus allowed for statistical purposes. 55. Identical issue has also been dealt with by the ITAT, Delhi Bench E , New Delhi in case cited as M/s. Nokia India Pvt. Ltd. vs. Addl. CIT (ITA No.551/Del/2011) and determined the issue in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ony India (P.) Ltd v. Dy. CIT[2008] 114 ITD 448 (Delhi) Thus in light of the provisions of Rule 10B(1)(e) and the Hon'ble ITAT judgments, it has been pleaded to grant the Appellant the benefit of working capital adjustment. 5.3 Ld. Departmental Representative on the other hand relied upon the order of the TPO. 5.4 The DRP in its order has not dealt with the issue properly and has held that for the sake of consistency and to protect the interest of the revenue, the adjustment made by the TPO has to be upheld. 6. We have carefully considered the submissions in light of the material produced and precedent relied upon. It is an undisputed fact that on the same set of facts and in the same business model the assessee has been provided the working capital adjustments in the preceding assessment years. Under the circumstances, in our considered opinion, it was incumbent upon the TPO to consider the same in the current year. 56. Keeping in view the fact that the issue in question has been settled in the cases cited as Qualcom India Pvt. Ltd. and M/s. Nokia India Pvt. Ltd. (supra and the fact that assessee in this case is engaged in providing software d ..... X X X X Extracts X X X X X X X X Extracts X X X X
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