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TMI Blog2016 (8) TMI 324X X X X Extracts X X X X X X X X Extracts X X X X ..... ct. Accordingly, we are of the opinion that the ALP of the impugned payment for royalty has been wrongly determined as NIL by the TPO and the issue needs to be examined afresh. Accordingly we set aside the order of Assessing Officer/TPO on this issue and restore the same to the file of the TPO for examination of the same afresh in accordance with the law, after affording opportunity of being heard to the assessee. - Decided in favour of assessee for statistical purposes. - ITA No.-2666/Del/2014 - - - Dated:- 5-7-2016 - SHRI S.V. MEHROTRA, ACCOUNTANT MEMBER AND SHRI SUDHANSHU SRIVASTAVA, JUDICIAL MEMBER For The Assessee : Sh. Percy Pardiwala, Adv. For The Revenue : Sh. A.M. Govil, CIT-DR ORDER PER SUDHANSHU SRIVASTAVA, JUDICIAL MEMBER: This appeal has been preferred by the assessee against the assessment order passed by the AO pursuant to the directions of the Dispute Resolution Panel (DRP) for AY 2009-10. 2. The facts of the case are that the taxpayer filed its return of income on 30.09.2009 declaring total income of ₹ 73,15,61,449/-. Since the taxpayer had undertaken international transactions with its associated enterprises, a reference was m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7 Buy B Buy Back of equity shares 1,162,615,075 4. The taxpayer furnished the TP Study and selected TNMM as the most appropriate method to benchmark its international transactions. The taxpayer had selected 10 comparables in its transfer pricing study. The three year weighted average cost plus margin of comparables was 12.29 percent and IBM Daksh's cost plus margin was 10.32 percent. The taxpayer applied the 5% range and held that the transaction was at arm's length. The TPO, however, did not agree with the various filters used by the taxpayer in its TP Study and by using, certain more filters he rejected 7 comparables from taxpayers set (10 companies from TP study and 2 companies from fresh search directed by TPO during assessment proceedings) and selected 4 new comparables. He, thus, selected a set of 9 comparables (5 from taxpayer's set and 4 new companies) whose average margin was 22.70% as against that of taxpayer's at 10.32%. Thus, AO/TPO made an addition of ₹ 55,11,71,637 in the ITES segment. Further, the TPO noticed that the taxpayer had made a payment of ₹ 28,36,01,903 towa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld the TPO s action of rejecting those companies who were maintaining accounts in terms of period other than the financial year for the purpose of determination of Arm s Length Price. d) Upheld the TPO s action of rejecting companies having diminishing revenues/persistent losses for the previous years and having a negative net-worth on the ground of being of an exception. e) Upheld the TPO s action of using a Related Party Transaction (RPT) filter of 25% as RPT would have substantial impact on the margins of such companies. f) Upheld the inclusion/exclusion of the following comparables by the TPO a) Coral Hub Ltd. - Inclusion by TPO upheld b) Eclerx Services Ltd. - Inclusion by TPO upheld c) Acropetal Technologies Ltd. - Inclusion by TPO upheld d) Caliber Point Business Solution Ltd. - Exclusion by TPO upheld e) R System International - Exclusion by TPO upheld f) Datamatics Financial Services Ltd. - Exclusion by TPO upheld g) In House Production Ltd. - Exclusion by TPO upheld h) NIIT Smart Serve Ltd. - Exclusion by TPO upheld iii. The assessee s third objection before the DRP was with regard to the denial of adjustment on account of working capit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessment proceedings, instead of using data available at the time of preparing the TP documentation for comparable companies. In doing so, the Ld. TPO has ignored the fact that this data was not available to the Appellant at the time of complying with the TP documentation requirements. 2.3 not applying multiple year/prior year data for comparable companies, while determining the arm s length price. 2.4 rejection of comparabilityanalysis undertaken by the Appellant in the TP documentation, ignoring that such analysis was in accordance with the provisions of the Act read with the Income Tax Rules, 1962, ( the Rules ). 2.5 rejecting certain companies identified by the Appellant in the TP documentation, although such companies are comparable. 2.6 including additional companies as part of the final set of companies, although such companies do not satisfy the test of comparability. 2.7 directing the Appellant toconduct a fresh benchmarking analysis using non contemporaneous data andsubstituting the Appellant s analysis of filters and comparables with fresh benchmarking analysis based on his own conjectures and surmises. 2.8 applying certain arbitrary f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion 27i(i)(c) of the Act mechanically and without recording any satisfaction for its initiation. 7. The Ld. AO erred on facts and in law in withdrawing interest under section 244A and charging interest under section 234D and 234 B of the Act. The above grounds are without prejudice to each other. The appellant craves leave to alter, amend or withdraw all or any of the grounds herein or add any further grounds as may be considered necessary either before or during the hearing. 7. On ground no. 2 regarding comparable, the Ld. AR submitted that the assessee is contesting five of the nine companies selected by the TPO as comparable viz. Acropetal Technologies Ltd. (Seg.), Coral Hub, Cosmic Global, Eclarx Services and Infosys BPO Ltd. The Ld. AR drew our attention to the decision of the Hyderabad Bench of the Tribunal in the case of M/s Capital IQ Information Systems (India) Pvt. Ltd. vs. ACIT in ITA Nos. 124/Hyd./2014 170/Hyd./2014 wherein the coordinate bench has considered Infosys BPO Ltd., Eclerx Services Ltd., Cosmic Global Ltd. and Acropetal Technologies Ltd. (Seg.) and has excluded these companies from the list of comparables on the following grounds: i) In ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... approved by the Reserve Bank of India and as such the same is undoubtedly at Arm s Length. He also drew our attention to page 389 wherein the payment of Royalty has been discussed in the Transfer Pricing Study. Our attention was also drawn to pages 679 to 696 of the Paper Book which contain submissions before the TPO/DRP justifying the payment of royalty. It was submitted that IBM s corporate image is managed by IBM U.S. with input from worldwide subsidiaries. The content of television, newspapers and billboards advertising is devised in the U.S. and adapted for local requirements in conjunction with an external advertising agency. Ongoing management of the brand, production costs and costs of placement are borne mostly by IBM U.S. Promotional activities are managed by headquarters operations in the U.S. These include promotional events, trade shows, exhibitions and direct mailing activities. All promotional material is standard and is provided for these types of activities but may be marginally changed for local requirements. In performing or delivering global services, standard IBM service models are used. These employ global processes, best practice methods and risk assessment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rs, there are no available substitutes for the property transferred to or utilised by IBM Daksh or any of its other affiliates. The MRA not only grants IBM Daksh rights to intangibles in existence at the time of the signing, but rights to all future upgrades, enhancements, and newly developed intangibles as well, for no additional charge.IBM Daksh has paid an effective royalty of 2.92% to IBM World Trade Corporation on sales made to non-AE s during FY 2008-09 and it is pertinent to note that there has been a substantial increase in profits of IBM Daksh from 7.56% in FY 2005-06 to 22.61% in FY 2008-09. IBM Daksh was granted access to IBM's IP (Including brand) effective from 1 April 2005 and has paid royalty for the use of the same. The use of the said IP including brand has resulted in increased revenue of 83.87% during FY 2005-06 over-revenue of FY 2004-05 (during FY 2004-05, there was no royalty transaction because Daksh was not part of the IBM Group). Thus, there is a clear nexus between the payment of royalty for the use of IBM's IP including brand and the benefits derived by IBM Daksh from the use of the same for the purpose of its business. Further, IBM Daksh has main ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Length Price of royalty cannot be linked with profit/income resulting there from. The ld. AR also submitted that the observation of the TPO in Para 12 that the tax payer had bench marked the transaction related to the payment of royalty under TNMM after aggregating it with other transaction was factually incorrect. It was submitted that most of the revenue of the assessee is derived from non-AE concerns and Royalty has been paid only on non-AE transactions. It was submitted that the Department cannot deny that substantial benefit has accrued to the assessee and hence the ALP cannot be NIL. 12. Ground no. 4 was not pressed and it was submitted that since the total turnover as well as the export turnover are the same in the year under consideration and hence it has become academic in nature. 13. On ground no. 5 on the issue of prior period expenses, it was submitted that in these cases, the bills for services rendered were received after the close of the financial year and hence they were eligible deductible expenses and not essentially prior period items. 14. The Ld. DR, in response, submitted that Cosmic Global Ltd. was earlier selected by the assessee itself and therefore ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... E mail Data (Back office and transaction processing) and Blended services The TP Report further specifies that IBM Daksh undertakes the following broad functions Rendering services to clients of group entities in accordance with the contracts entered into by the group entities Liaising with clients at the operational level Training employees to maintain the quality of services provided 16. The TP report also specifies that the entity operates as a BPO services company within a globally integrated enterprise from its centres located in Gurgaon, Mumbai, Bangalore, Kolkata and Pune. BPO services are provided to third- party clients as well as the AEs IBM US and IBM UK. The comparability of the disputed companies is discussed as under: (i) Infosys BPO Ltd. It is the assessee s contention that the company should be excluded on the grounds of large scale operations, presence of substantial amounts of selling and marketing expenses, presence of intangible assets and dissimilarity in the scale of operations. It is also seen that this company was initially objected to as being incomparable before the TPO on the ground of turnover fil ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the world and is recognized as experts in chosen markets-financial services and retail and manufacturing. It is claimed to be providing complete business solutions by combining people, process improvement and automation. It is claimed to have employed over 1500 domain specialists working for the clients. It is claimed that eClerx is a different company with industry specialized services for meeting complex client needs, data analytics KPO service provider specializing in two business verticals - financial services and retail and manufacturing. It is claimed to be engaged in providing solutions that do not just reduce cost, but help the clients increase sales and reduce risk by enhancing efficiencies and by providing valuable insights that empower better decisions. M/s eClerx Services Pvt. Ltd. is also claimed to have a scalable delivery model and solutions offered that include data analytics, operations management, audits and reconciliation, metrics management and reporting services. It also provides tailored process outsourcing and management services along with a multitude of data aggregation, mining and maintenance services. It is claimed that the company has a team dedicated ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... set of comparables to the file of the TPO. Needless to say, the TPO will afford a reasonable opportunity to the assessee of being heard before such adjudication. (iv) Acropetal Technologies Ltd. (Seg.) The objection of the assessee with reference to this company is that the company is involved in engineering design services and high end services and has products in its inventory. It is also involved in R D activities and in developing sophisticated delivery system. It is seen that this company was excluded from the comparables by the Hyderabad Bench of ITAT in Capital IQ Information Systems (India) vs ACIT in ITA Nos. 124/Hyd/2014 and 170/Hyd/2014 on the ground of being high-end. It is seen that the functional profile of the company is entirely different from that of the assessee and therefore, drawing support from the co-ordinate Bench s decision in Capital IQ Informations Systems (supra) we direct that this company be excluded from the list of comparbles. (v) Coral Hub ( formerly Vishal Information Technologies Ltd.- The assessee s objections are that the functional asset risk profile is dissimilar. The Hon ble Delhi High Court in Rampgreen Solutions (P) Ltd. (supra) h ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l difference by observing that outsourcing was common in ITeS industry and the same would not have a bearing on profitability. Plainly, a business model where services are rendered by employing own employees and using one's own infrastructure would have a different cost structure as compared to a business model where services are outsourced. There was no material for the Tribunal to conclude that the outsourcing of services by Vishal would have no bearing on the profitability of the said entity. Drawing strength from the ratio laid down by the Hon ble Delhi High Court, we direct the exclusion of Coral Hub from the final list of comparables. 17. Before proceeding to adjudicate on the issue of royalty, it will be worthwhile to refer to some precedents laid down by the Hon ble Delhi High Court as well as the co-ordinate Benches of the ITAT. The Hon ble Delhi High Court in the case of CIT vs. EKL Appliances 345 ITR 241 (Del) has observed as under: 16. The Organization for Economic Cooperation and Development ( OECD‟, for short) has laid down transfer pricing guidelines for Multi-National Enterprises and Tax Administrations. These guidelines give an introduction ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... umstance would be an investment in an associated enterprise in the form of interest - bearing debt when, at arm s length, having regard to the economic circumstances of the borrowing company, the investment would not be expected to be structured in this way. In this case it might be appropriate for a tax administration to characterize the investment in accordance with its economic substance with the result that the loan may be treated as a subscription of capital. The second circumstance arises where, while the form and substance of the transaction are the same, the arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner and the actual structure practically impedes the tax administration from determining an appropriate transfer price. An example of this circumstance would be a sale under a long-term contract, for a lump sum payment, of unlimited entitlement to the intellectual property rights arising as a result of future research for the term of the contract (as previously indicated in paragraph 1.10). While in this case it may be proper to resp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ndependent enterprises behaving in a commercially rational manner. 19. There is no reason why the OECD guidelines should not be taken as a valid input in the present case in judging the action of the TPO. In fact, the CIT (Appeals) has referred to and applied them and his decision has been affirmed by the Tribunal. These guidelines, in a different form, have been recognized in the tax jurisprudence of our country earlier. It has been held by our courts that it is not for the revenue authorities to dictate to the assessee as to how he should conduct his business and it is not for them to tell the assessee as to what expenditure the assessee can incur. We may refer to a few of these authorities to elucidate the point. In Eastern Investment Ltd. v. CIT , (1951) 20 ITR 1, it was held by the Supreme Court that there are usually many ways in which a given thing can be brought about in business circles but it is not for the Court to decide which of them should have been employed when the Court is deciding a question under Section 12(2) of the Income Tax Act . It was further held in this case that it is not necessary to show that the expenditure was a profitable one or that in fact ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r to merit deduction. Pursuant to public protest, the word necessarily was omitted from the section. 21. The position emerging from the above decisions is that it is not necessary for the assessee to show that any legitimate expenditure incurred by him was also incurred out of necessity. It is also not necessary for the assessee to show that any expenditure incurred by him for the purpose of business carried on by him has actually resulted in profit or income either in the same year or in any of the subsequent years. The only condition is that the expenditure should have been incurred wholly and exclusively for the purpose of business and nothing more. It is this principle that inter alia finds expression in the OECD guidelines, in the paragraphs which we have quoted above. 22. Even Rule 10B (1)(a) does not authorise disallowance of any expenditure on the ground that it was not necessary or prudent for the assessee to have incurred the same or that in the view of the Revenue the expenditure was unremunerative or that in view of the continued losses suffered by the assessee in his business, he could have fared better had he not incurred such expenditure. These are ir ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elhi High Court has opined in CIT vs. Cushman and Wakefield (India)(P) Ltd 367 ITR 730 (Del.): This is the distinction between the jurisdiction of the AO and the TPO; the TPO determines whether the stated transaction value represents the ALP or not (including whether the ALP is nil), while the AO makes the decision as to validity of the deduction under section 37. This means the decision as to whether the expenditure was laid out or expended wholly and exclusively for the purposes of the business is a fact determination or verification to be undertaken by the AO. This includes whether the referrals actually occurred (and thus took place for the 'purpose of the business'), independent of their valuation which the TPO determines. That determination is not and cannot be made by the TPO. Nor is the authority of the AO under section 37 curtailed in any manner by a reference under section 92C. 19. The Hyderabad Bench of the ITAT in Zuari Cement Ltd. vs. DCIT in 57 taxmann.com 206 (Hyderabad Trib.) has held as under: Leave alone that amount; even the sub license fee for the use of trade mark is also faulty. Under the guise of TPO provisions, the TPO cannot determ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... isakhapatnam Bench of the ITAT has opined in the case of LG Polymers India (P) Ltd. Vs ACIT in 16 ITR (T) 240 as under : However, in the instant case, the TPO did not examine the arms length price of the impugned royalty payment in accordance with the provisions of Sec.92C of the Act. It is also the contention of the assessee that the TPO did not indicate to the assessee that he proposes to treat the impugned transaction as a sham one nor did he call for any objection from the assessee in that regard. The Learned A.R also relied up on host of case law in connection with this issue. Further the observation of DRP with regard to the trade mark registration, though defended before us by the assessee, requires examination at the end of the Assessing Officer/TPO. Accordingly we are of the view that the ALP of the impugned royalty payment and the issue relating to the trademark registration need to be examined afresh. Accordingly we set aside the order of Assessing Officer/TPO/DRP on this issue and restore the same to his file for examination of the same afresh in accordance with the law, after affording necessary opportunity of being heard. 21. In the instant case, the assess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... om 260 (Mumbai Tribunal), the Bench held that CUP method cannot be applied if the relevant information is not available. No such comparable transaction has been brought on record by the Assessing Officer or even by the DRP. No such comparable case has been placed before us by the revenue even now. 23. Therefore, on an overall consideration of the facts of the case and the judicial precedents available, it is our considered opinion that it is not necessary for the assessee to show that any legitimate expenditure incurred by him was also incurred out of necessity. It is also not necessary for the assessee to show that any expenditure incurred by him for the purpose of business carried on by him has actually resulted in profit or income either in the same year or in any of the subsequent years. The only condition is that the expenditure should have been incurred wholly and exclusively for the purpose of business and nothing more. The TPO has no role to play in examining the decision of commercial nature. Under the guise of TPO provisions, the TPO cannot determine the ALP at NIL as held by the Hon'ble Delhi High Court in the case of EKL Appliances Ltd., {supra}. Therefore, ..... X X X X Extracts X X X X X X X X Extracts X X X X
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