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TMI Blog2020 (3) TMI 228X X X X Extracts X X X X X X X X Extracts X X X X ..... challenging the action of CIT(A) in enhancing the income thereby consequently enhancing the income of the assessee by invoking the provisions contemplated in subsection (7) of section 10A of the Act. 6. Heard both parties and perused the material available on record. The contentions of CIT(A) that the assessee earned more than ordinary profit in the eligible business in respect of Software Design Engineering Services for both the A.Ys. 2003-04 and 2005-06 and the deduction u/s. 10A should be restricted to the ordinary profit earned by the comparable companies. The assessee earned net margin of 92.98% and comparable companies is at the average net margin of comparable at 26.62% and by invoking the provisions of sub-section (7) of section 10A proposed to disallow by restricting the deduction to ordinary profit. The contention of assessee is that the AO did not make any addition in terms of sub-section (7) of section 10A of the Act and enhancement proposed by the CIT(A) is not warranted u/s. 251(2) of the Act. The case of CIT(A) is that the deduction u/s. 10A is to be restricted to the extent of ordinary profit earned by the assessee be that of comparable companies by invoking the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 80-I, it is provided that where an Assessee has several units, some in the free trade zone and some outside, the profits of the unit in the free trade zone will be computed after taking the cost of the goods transferred to or from the unit on the basis of the market value of such goods. The applied sub-section (9) of section 80-I empowers the Income-tax Officer to determine the reasonable profits that could be attributed to the qualifying undertaking in the free trade zone in cases where, owing to the close connection between the Assessee and any other persons or for any other reason, the course of the business is so arranged that the industrial undertaking set up in the free trade zone derives more than ordinary profits which may be expected to arise in that business. This provision has been made with a view to avoiding abuse of the new tax concessions by manipulation of profits between associate concerns or different units of the same concern." [underlined for emphasis by us] 23. Quite clearly, the provisions of section 10A(7) of the Act intend to plug abuse of tax concession by manipulation of profits between associated concerns or between different units of the same concern. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The mere existence of (i) a close connection between the assessee and the other person; and, (ii) more than ordinary profits is not sufficient to justify invoking of section 80-IA(10) of the Act in the absence of there being any material to say that the course of business between them is "so arranged" to abuse the tax concessions granted u/s 10A of the Act by manipulating profits between associated persons. Ostensibly, the same is required to be demonstrated on the basis of a cogent material and evidence. In other words, the presence of the expression "so arranged" has to be understood in the context of the abuse of tax concession which is sought to be plugged by the provisions of section 10A(7) r.w.s. 80-IA(10) of the Act. 24. On this aspect, the Ld. CIT-DR had vehemently argued, based on the judgement of the Hon‟ble Bombay High Court in the case of Bank of India Ltd. (supra) that the meaning of the word "arranged‟ in section 80-IA(10) of the Act has to be understood to mean an agreement or an understanding between the parties concerned. The relevant portion of the decision of the Hon‟ble Bombay High Court has been reproduced in the earlier part of this order, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f abusing the tax concessions. Therefore, the meaning of the words "so arranged" have to be understood in the context in which they are placed in section 80-IA(10) of the Act. A mere agreement between the assessee and the associated enterprises for transacting business is not enough to invoke section 80-IA(10) of the Act. 26. In-fact, even the Hon‟ble Bombay High Court in the case of Bank of India Ltd. (supra) has also appreciated the contextual meaning of the expression "arrangement". The issue before the Hon‟ble Bombay High Court was with regard to the scheme of re-construction or arrangement contained in section 391(1) of the Companies Act, 1956. In the context of section 391(1) of the Companies Act, 1956, the Hon‟ble High Court was dealing with the meaning of the word "arrangement". After having explained the meaning of the term arrangement in plain language, which we have referred earlier, the Hon‟ble High Court went on to say as under in the context of the word "arrangement" qua section 391(1) of the Companies Act, 1956 :- "Section 391(1), however, in any opinion somewhat restricts this otherwise unlimited import of the term "arrangement" in so f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... address the argument of the Ld. CITDR that the burden cast on the Assessing Officer in section 10A(7) r.w.s. 80-IA(10) of the Act is much lighter and even a prima-facie satisfaction of an existence of tax avoidance is sufficient. In this context, we may refer to the decision of the Bangalore Bench of the Tribunal in the case of Digital Equipment India Ltd. (supra), wherein similar argument from the side of the Revenue has been addressed. The Bangalore Bench of the Tribunal was dealing with invoking of section 10A(6) r.w.s. 80-I(9) of the Act for assessment year 1995-96, which are pari-materia to section 10A(7) r.w.s. 80-IA(10) of the Act invoked by the Revenue before us. The following discussion is relevant :- "The requirements under the section are : (a) There must be a close connection between the appellant and other person. (b) The course of business between them should be so arranged that it produces to the appellant more than the ordinary profits from such business. To satisfy the above test the AO has to adduce evidence and reasons cogently and the same is open to verification by the appellate authorities. The primary rule of evidence is that "what is apparent is r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bly deemed to have been derived from the eligible business for the purposes of computing the deduction u/s 10A of the Act. We find that in the entire assessment order, there is no material or any evidence which has been brought out to say that the course of business between assessee and the associated enterprises has been so arranged that the business transacted has produced to the assessee more than the ordinary profits. 31. No doubt, there is a close connection between assessee and the associated enterprises and to that extent section 10A(7) r.w.s. 80- IA(10) of the Act has been rightly examined by the income-tax authorities. The second aspect that the course of business was so arranged so as to result in more than ordinary profits is not at all forthcoming from the order of the Assessing Officer. There is no material or evidence referred to in the assessment order to indicate that the course of business has been so arranged so as to inflate profits with the intent to abuse tax concession u/s 10A of the Act. At this point, we may make a reference to the stand of the Assessing Officer that the operating profit margins of the assessee are substantially higher than the average ope ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ransactions having regard to the arm's length price so as to confirm that there is no avoidance of tax by an assessee. Therefore, where in a case, the Transfer Pricing Officer suggests that the operating profit declared by an assessee is compatible to the arm's length price norms and no adjustment is necessary, the operation of all those provisions come to an end. If the, Assessing Officer has to make any other adjustment towards computing deduction available under section 10A, the computation has to be made in the context of section 10A(7) read with section 80-IA(10). It is clear that in a case of transfer pricing assessment, it has got two segments. The first segment consists of rules and procedures for computing the income other than the income arising out of international transactions with associate enterprise. The second segment consists of rules and procedures in connection with computation of income from international transactions with associate enterprises on the basis of the arm's length price. The second segment relating to computation of the arm's length price, is a set of rules for the purposes of transfer pricing matters and those procedures and rules ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssee under section 10A. The said adjustment made by the assessing authority in computing the deduction under section 10A is accordingly, deleted." 32. In our considered opinion, the result of the Transfer Pricing assessment can at best be taken as an indicator for the Assessing Officer to investigate as to whether or not there exists any arrangement which has resulted in more than ordinary profits qua the requirements of section 10A(7) r.w.s. 80-IA(10) of the Act. Even if it is accepted that the difference between the operating margins of the assessee and the comparables show existence of more than the ordinary profits in the hands of the assessee, so however, it was still imperative for the Assessing Officer to establish on the basis of substantive evidence and corroborative material that qua section 10A r.w.s. 80-IA(10) of the Act, the course of business between the assessee and the associated enterprises is so arranged that the business transacted between them produces to the assessee more than the ordinary profits with the intent of abusing tax concession. Quite clearly, in the entire assessment order, there is no whisper of any material or evidence in this regard. In-fact, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... integration activity and combined both the sub-segments for the computation of arm‟s length price in its report noted 7 comparable companies at mean margin 7.26%, which are below : S. No. Company Name Operating Profit Margin 1 Aimil Ltd. 4.00% 2 Alstom Projects India Ltd. 2.00% 3 Continental Controls Ltd. 6.00% 4 Eurotherm Del India Ltd. 8.00% 5 Nelco Ltd. (Segmental Data) 12.32% 6 Utility Powertech Ltd. 8.00% 7 Wellwin Industry Ltd. (Segmental Data) 10.48% Mean 7.26% 11. The assessee was asked to explain the difference in the operating profit margins of comparable companies. Operating Profit Margin (Loss) of the assessee is (2.31)% for the aggregated system integration segment and (3.1)% for the aggregated distribution segment. 12. The assessee explained that the IS-Infra business should not be taken into consideration for the purposes of benchmarking the profitability of the systems integration business. The IS-Infra business was a new initiative that the company was exploring from the perspective of business expansion. This new business initiative involved working on infrastructure related projec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ificant related party transactions, and not with external comparables. Such an internal comparison is well recognised in accordance with established transfer pricing principles, and provides a more reliable comparable analysis as compared to comparison with external comparables. We note that the Assessing Officer/TPO did not accept the contentions of assessee, made upward adjustment of Rs. 2,44,04,000/- by taking margin at 7.26% of operating profit of Rs. 8,26,04,000/-. 15. Before the CIT(A) the assessee prayed that the AO be directed to benchmark its international transactions of the IS-Infra business with the internal comparables rather than external comparables. For incorrect inclusion of the Nelco as comparable company. 16. On the basis of Annual Report of Nelco, the assessee contended that Automation and Control segment, which is taken as comparable by the TPO to the Systems Integration segment of the assessee, comprises of revenue from software services as well. Supervisory control and Data Acquisition (SCADA) which cater to Power Sector, Railways and Oil and Gas Production. Drives Automation and Traction Electronic the markets for which are industrial automation in steel ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... its/losses earned by the companies operating in that industry. Para 3.45 of OECD guidelines states to consider a range of results when using TNMM. OECD Guidelines do not prescribe considering the range of results of only profit making companies and ignoring companies incurring losses. Proviso to sub-section (2) of section 92C of the Act considers the entire range of results where more than one result is obtained and there is no rule under the Indian transfer pricing legislation for a blanket rejection of loss making companies but however, the TPO noted that at the time of transfer pricing documentation, assessee applied filter to reject the companies having negative worth showing that the assessee has rejected companies whose capital has been eroded as a result of continuous losses, that persistent operating loss makers have been rejected by assessee on the most conservative approach and requested to include Mahindra Ashtec Limited and Artson Engineering Ltd. as comparables as they are not persistent loss making companies. 19. The TPO/CIT(A) rejected Mahindra Ashtec Limited as noncomparable on account of showing minimal profitability for FY 2001-2002 to FY 2003-04 and Artson on a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... omation and control, network systems and property development. The first division of automation and control is further divided into four structures which is already reproduced by us in the aforementioned paragraphs. The ld. DR contended that the automation and control division is inclusive of software which is similar to the business overview performed by the assessee in system integration. We note that from page 26 of the of the paper book where the business overview of assessee is provided to say that the assessee is a leading performer in the Indian Automation and Control Industry. System integration is the largest of the three broad segments into which the operations of assessee have been classified to say 60% of assessee‟s total turnover is in the division of system integration. The said system integration is engaged in the manufacture, system design, integration, installation and commissioning of integrated automation solutions. Further, we note that industrial automation control is the highest Strategic Business Units of assessee which provides integrated automation solutions including systems products and services to process industries. That is to say the ultimate o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uring the years 2002, 2003 and 2004 and Artson Engineering Ltd. also continuously incurred losses for the years 2002 to 2004. Further, he observed that there is a drop in the turnover of these companies indicating abnormal business situation, considering the same, the TPO held these two companies cannot be accepted as comparable companies. The ld. AR contended that the assessee supplied detailed information regarding these two companies supporting its view that these are not continuously loss making companies, in spite of having furnishing the information to TPO without discussing the same excluded both the companies from final list of comparables. 26. Before the CIT(A), the assessee contended that to determine margin of an industry, all the companies including loss making companies requires to be considered. The OECD guidelines do not prescribe considering the range of results of only profit making companies and subsection (2) of section 92C considering the entire range of results where more than one result is obtained. The CIT(A) observed that the assessee itself applied filter to reject the companies having negative worth which clearly shows persistent operating loss making com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... find no infirmity in the order of CIT(A) and it is justified. 29. In the result, the appeal of assessee is partly allowed. ITA No. 619/PUN/2015, A.Y. 2003-04 (Revenue's Appeal) 30. The ground No. 1 is relating to deleting the disallowance made by the Assessing Officer regarding deduction claimed u/s. 10A by invoking section 145 of the Act. We find ground No. 1 raised by the Revenue is interlinked with ground Nos. 2 and 3 raised by the assessee in its appeal in ITA No. 583/PUN/2015. In the aforementioned paragraphs by placing reliance in assessee‟s own case for earlier year i.e. A.Y. 2011-12 allowed the claim of deduction made by the assessee u/s. 10A(7) and 10AA(9) of the Act. Therefore, ground No. 1 raised by the Revenue becomes infructuous in view of our decision in assessee‟s appeal. Thus, ground No. 1 raised by the Revenue is dismissed. 31. Ground No. 2 raised by the Revenue challenging the action of CIT(A) in deleting the addition made on account of prior period expense. We note that the assessee incurred certain expenses on travelling, conveyance, vehicle hire charges, hotel expenses, bank guarantee commission, expenses at customer site etc. have been discharg ..... X X X X Extracts X X X X X X X X Extracts X X X X
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