9911796707
TMI Blog2020 (5) TMI 704X X X X Extracts X X X X X X X X Extracts X X X X ..... for the assessee. The business operation of the M/s GD Egypt of procuring sales order for the assessee and its entire activity has been carried out from outside India and no part of the business activity has been carried out in the India by M/s GD Egypt. The business connection has to be looked into the business operations of M/s GD Egypt in India and not business connection between the operation of the GD Egpyt and business of the assessee in India, because any workfor which the assessee is making payment will always be associated and part of the business of the assessee. Obviously, in the instant case no business connection exist and thus the finding of the learned DRP on the issue is set aside. DRP has held that the services rendered by M/s GD Egypt require expertise and knowledge in the specific area of work and such expertise cannot be developed overnight, but it is the result of long period of the work in this line of activities coupled with accumulated experience of operations and therefore the payment made by the assessee to GD Egypt partakes the character of the FTS under domestic law. In the instant case, the assessee has not invoked any Double Taxation Avoidance Agreeme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1. On the facts and in law, the Ld. TPO/AO and Hon'ble DRP erred in determining the adjustment of ₹ 1,94,67,549/- to the value of international transactions pertaining to Software Development Services Segment. 2. That on facts and in law, the Hon'ble DRP and Ld. TPO/AO failed to appreciate the business model and business realities of the Appellant and its Associated Enterprises ("AE") while conducting the transfer pricing analysis and adopted an entirely flawed approach to reach a conclusion that the Appellant is not compensated at arm's length for its Software Development Services Segment. 3. On the facts and in law, the Ld. TPO erred in not discharging his statutory onus to establish that any of the conditions specified in clause (a) to (b) of section 92C(3) of the Act have been satisfied before disregarding the arm's length price determined by the Appellant and proceeding to determine the arm's length price himself. 4. On the facts and in law, the Hon'ble DRP and Ld. TPO/AO have erred in rejecting the economic analysis undertaken by the Appellant without proper justification and conducting a fresh search using arbitrary filters for identifying companies comparable ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e DRP that the treatment of foreign exchange gain/loss should be considered as a non-operating item, while finalizing the order section 143(3) read with section 144C of the Act. 14. Without prejudice, on facts and in law, the Ld. AO/TPO and Hon'ble DRP erred in not appreciating that adjustment, if any, in computing the profit margin of SIM card Assembly Segment ought to have been restricted to international transaction with AE's and not the whole segment. 15. On facts and in law, the Hon'ble DRP and Ld. TPO/AO ered in applying the profit margin of comparable companies to that of the Appellant without taking into account economic & commercial reasons and factual data to support the losses incurred in the SIM card assembly segment. 16. On facts and in law, the Hon'ble DRP and the Ld. TPO/AO have failed to make appropriate adjustments to account for varying risk profiles of the Appellant vis-à-vis the comparables and in the process also neglected the Indian transfer princing regulations, OECD guidelines on transfer pricing and judicial procedure. 17. On the facts and in law, the Hon'ble DRP and the Ld. TPO/AO grossly erred in taking the margin on SIM Card assembly segme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e DRP grossly erred in not appreciating that the Appellant had actually written off Debtors aggregating to ₹ 29,73,346/- as bad debts which represents income relating to earlier year's which remained unpaid and could not be realized and hence written off. C. Other Grounds 26. On the facts and in the circumstances of the case, the Ld. AO erred in levying interest under section 234B and 234D of the Act. 27. On the facts and in law, the Ld. AO and the Hon'ble DRP erred on facts and in law in initiating penalty under section 271(1)(c) of the Act. 2. Briefly stated facts of the case are that the assessee company is engaged in the business of trading of 'currencies verification' and 'currency processing machines', its after sales warranty services and software services etc. For the year under consideration, the assessee filed return of income on 07/10/2010 declaring total income of ₹ 17,77,56,570/-. The return of income filed by the assessee was selected for scrutiny assessment and statutory notices under the Income-tax Act, 1961 (in short 'the Act') were issued and complied with. In view of the international transactions undertaken by the assessee with its Associated ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o 100 of the paper book is reproduced as under: "5.3.1 Functions G&D India renders software development services to G&D GmbH wherein it develops application software(s) for G&D GmbH. In this regard, G&D India has entered into a 'software development agreement' effective from December 12, 2005. G&D India is primarily engaged in the following software business: • Development of software for the Smartcard module, which is sold to G&D GmbH. The chip set module software is developed as per the general requirements of the markets and is primarily developed for G&D GmbH. About 90% of the total development activity relates to the development software used as a part of the Smartcard module and is sold as a part of the Smartcard. The software development process for the development of the chip set module is further explained in the following parts. • Development of application software as per the specific requirements of the clients of G&D group. The services are offered to G&D GmbH and Giesecke & Devrient Asia Pte Ltd. Further, these services are provided to the SIM card distribution division of G & D India. This accounts for about 10 per cent of the total revenue. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ") which defines resources and deliverables required to complete the product. Initial product idea is presented along with the business case, requirements, architecture and project plan before the management of G&D GmbH. This process allows management to control the allocation of resources to a project starting from its approval and till it is ready to be launched into development. The time schedule as to when to complete each phase of the module is also decided along with the management approval. 5.3.1.3.3 Software specification and Requirement analysis G&D GmbH defines the exact specifications/requirement of the project, methodologies and tools to be used in the project, time lines for the completion of the project and standards thereof. The function pertaining to the conceptualization of services is a key aspect and is undertaken by G&D GmbH. G&D Indian provides its inputs in the requirement analysis phase of the software development process, but this is restricted to the information required by G&D GmbH. Thus, G&D GmbH is wholly responsible for defining the specifications and requirements of the software developed by G&D India. 5.3.1.3.4 Product Validation and Data F ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... undertake the project and also identifies the areas where G&D India's assistance would be required. G&D GmbH deploys a Senior R&D and Marketing Management team to analyze the software requirement and design an architecture based on the analysis. The project team at G&D India works in close co-ordination with the project team at G&D GmbH. The resources are mobilized depending upon the requirements of the project. Thus, the overall project responsibility remains with G&D GmbH which is also responsible for monitoring and managing the entire project. 5.3.1.6 Support Services As per the services agreement entered into between G&D GmbH and G&D India, G&D GmbH may specify post-delivery support obligations. With regard to the support services, based on follow-up with customers, if there is any but in the software, the customers would reach out to Sales & Marketing team of G&D GmbH are subsequently the Engineering Team is informed of the problem in the software. G&D GmbH then takes a call on which team shall be appointed to resolve the software bungs. 5.3.2 Assets G&D India maintains and deploys necessary human resources and infrastructure for development of software. However ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nal software product developed. As the technology is ever-evolving, G& D GmbH is constantly upgrading the software. 5.3.3.5 Manpower Risk G&D India has skilled workforce to perform various functions relating to development of software. There is a risk of trained manpower leaving the company. Software industry is plagued with high risk of attrition. Thus, G&D India bears the manpower risk. However, since G&D India functions as a captive unit, G&D GmbH in turn also faces manpower risk. 5.3.3.6 Service liability risk Service liability risk refers to the risk associated with the possibility of facing legal action form customers, due to defects in the products provided. G&D India provides software services only to its AEs. The risk of service liability to customers of G&D GmbH rests with G&D GmbH. However, in case of any default, G&D India is liable to rework. 5.3.3.7 Credit risk Since G&D GmbH sells the products to third party customers on credit terms, any risk such as bad debts arising out of credit transactions are borne by G&D GmbH. G&D India does not bear any credit risk as it provides services only to its AEs. 5.3.3.8 Foreign exchange risk G&D India invoices ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rt of the final deliverable; • G&D India only participates in the decision-making process regarding capacity utilization with the final decision vesting with G&D GmbH; • G&D India is allocated a specific budged in the Group's global R&D scheme; • G&D India determines the number of employees to be employed in its software development centre based as deductive analysis of the work outsourced by G&D GmbH; and • The capex decision in relation to the software development centre at G&D India was taken by G&D GmbH." 3.3 The assessee used Transactional Net Margin Method (TNMM) and net operating profit margin based on cost as profit level indicator (PLI). The assessee selected eight comparables with an average PLI of 10.60% using multiple year data. The assessee computed its own margin (PLI) at 12.00% for the software development services and concluded that in view of its margin (PLI) being higher than the average margin of the comparables, the International transaction of the software developer services was at arm's length. The learned TPO rejected few comparables chosen by the assessee and selected few comparables from his side. In the final accept /reject mat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessee that Infosys has incurred substantial R&D expenditure and is developing intellectual property and therefore it is different from the taxpayer, the learned TPO held that R&D expenses (₹ 438 crores) constitute only 2.07% of the revenue, which cannot be said to be substantial by any standard. In view of the observations, the learned TPO included the company as comparable. 3.6 Before the Learned DRP, the assessee contested that Infosys sells software product for banking industry in the name of the "Finnacle", and thus being mixed product and software development segment, the company cannot be treated as comparable at the entity level. The learned DRP, however rejected this contention of the assessee holding that revenue from software product was of ₹ 925 Crores out of its operating revenue of ₹ 21,140 crores, which constitute only 4.3% of the operating revenue. The contention of high turnover of the Infosys and renders end to end solutions was also rejected by the learned DRP. The objection on the ground of expenditure on R&D was also rejected by the learned DRP. 3.7 Before us, the learned Counsel of the assessee submitted that the company M/s Infosys Technol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he list of comparables by rejecting the assessee's contentions. The assessee is providing and assigning software services to its AE alone without acquiring any intellectual property rights in the work done by it in the development of software. The Hon'ble Delhi 31 ITA NO. 5924/Del/2012 (Giesecke&Devrient India Pvt. Ltd.) High Court in CIT vs. Agnity India Technologies (P) Ltd. (2013) 219 Taxmann 26 (Del) considered the giantness of Infosys Ltd., in terms of risk profile, nature of services, number of employees, ownership of branded products and brand related profits, etc. in comparison with such factors prevailing in the case of Agnity India Technologies Pvt. Ltd., being, a captive unit providing software development services without having any IP rights in the work done by it. After making comparison of various factors as enumerated above, the Hon'ble Delhi High Court held Infosys Ltd. to be noncomparable with Agnity India Technologies Pvt. Ltd. The facts of the instant case are similar to the extent that the extant assessee is also not owning any branded products and having no expenditure on R&D etc. When we consider all the above factors in a holistic manner, there remains absol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... submitted that as a non-resident operates out of India, no part of its income accrues arises in India and accordingly such sum would not be liable for withholding tax under the provisions of the section 195 of the Act. Further the assessee relied on the Circular No. 23 of 1969 issued by the Central Board of the Direct Taxes (CBDT) and subsequently reiterated by the CBDT in Circular No. 786 of 2000. 6.2 The Learned Assessing Officer rejected the contention of the assessee. According to him in view of section 9(1)(vii)(b) of the Act the income by way of fees for technical services payable by a resident, except where services are utilized outside India or for the purpose of making of earning an income from any source outside India, then such income shall be deemed to accrue or arise in India. The learned Assessing Officer held that payment by the resident assessee in connection with his business in India to a person outside India making use of his expertise in sale of goods in a particular country is nothing but a fee which has been paid by the resident assessee to the non-resident for services rendered by him, which is construed as fee for technical services. According to the Assess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... connection' when applies to the taxpayer's case do lead to a logical conclusion that there is a strong and vibrant business connection between the taxpayer and the GD Egypt. In this context, the decision in ADIT Vs. Star Cruise India Travel Services, wherein ITAT Mumbai held that: "the expression 'business connection' does not cover mere canvassing for business by an agent in India. It postulates a real and intimate relation between business activity carried on outside India and business activity within India, the relation between the two contributing to the earning of income by the non-resident in his business activity. The business operations carried out outside India and inside India must have such a relationship as to contribute to business operations as a whole." It is also a fact that a transaction cannot be finalized until and unless GD Egypt is involved and therefore, the relationship between the two is such that the action cannot be completed without the payment of the said payment of the said commission to GD Egypt. Under these facts, the Panel holds that there is a business connection between GD Egypt with GD India." 6.4 Further, the learned DRP held that service ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... erience of operations. The Panel therefore, believes that the payments made by the taxpayer to GD Egypt partakes the character of FTS under the domestic law." 6.5 Further, the learned DRP held that in view of the explanation below section 9(2), which has been inserted by the Finance Act 2010 with retrospective effect from 01/06/1976, even the income of non-resident deemed to accrue or arise in India irrespective of whether or not business connection in India or the non-resident has rendered services outside India. According to the learned DRP in view of the explanatory memorandum to the Finance Bill 2010, the situs of rendering services is not relevant and it is the situs of the payer and the situs of utilization of the services which will determine the taxability of such services in India. 6.6 The learned DRP held that the provision of section 9(1)(vii) are applicable in the case of the assessee observing as under: "11.4.7 Thus, it is established that amounts remitted are chargeable to tax in India. The next step to ascertain is if the case of the taxpayer is covered under clause (b) of section 9(1)(vii) of the Act or not? According to the said section, FTS payable by a reside ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s income outside India; and (c) fees for technical services payable by a non-resident if the payment is relatable to a business or profession carried on by him in India or to any other source of his income in India. 16.3 The expression 'fees for technical services' has been defined to mean; 16.4 The aforesaid amendment has come into force with effect form 1-6-1976, and will apply in relation to the assessment year 1977-76 and subsequent years. In view of the above, it is evident that the intention of the legislature clarified by the Explanatory circular on the introduction of the amendment in the Act has been to consider "such person" appearing in section 9(1)(vii)9b) with reference to the resident payer for the said amount because the expression "if the payment is relatable to a business or profession carried on by him outside India" refers to the business or profession carried out by him vis. Resident payer in this context and not the non-resident payee. In view of the clear disposition of the relevant provisions of the Act and that the payments are being made by the resident taxpayer is not for any business carried out by it outside India but from India, the Panel hold ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he claim of the assessee that M/s GD Egypt has rendered services out of the India and payment has been also made to the said company outside India. The claim of the assessee that payment in the hands of M/s GD Egypt is not taxable in India and therefore no tax was deducted at source on said payment. The contention of the Revenue is that said payment is income taxable in India in the hands of M/s GD Egypt due to following reasons: (i) The payment is income deemed to accrued u/s 9(1) of the Actin view of the business connection in India (ii) The payment is in the nature of ' Fee for technical services FTS)" in terms of section 9(1)(vii)(b) as deemed income 6.13 According to the Revenue , therefore sum paid to M/s GD Egypt is chargeable under the provisions of the Act and tax was to be deducted on said payment in terms of section 195 of the Act and deduction of the tax has attracted applicability of section 40(a)(i) of the Act for disallowance of said expenditure on commission. 6.14 Though, the identical issue was there in assessment year 2009-10, but in the said assessment year, the Tribunal held that in view of the circular no. 23 of 1969 and 786 of 2000, issued by the Central ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , Hon'ble Andhra Pradesh High Court in the case of GVK Industries Ltd. versus Income Tax Officer, (1997) 228 ITR 564 analysed various decisions of the courts and laid certain principles to decide existence of 'business connection', as under: "12. Clause (i) of sub-s. (1) of s. 9, extracted above, brings within the fold of the said expression all income accruing or arising, whether directly or indirectly, through or from any business "connection in India," or through or from any property in India, or through or from any asset or source of income in India, or through the transfer of a capital asset situate in India. Here the contention of Mr. Dhanuka that the NRC had no business connection requires examination. 13. "The expression business connection" is also used in s. 163(1)(b) which regards every person in India, who has any business connection with the nonresident, as an agent of that non-resident. 14. The import of that expression has been explained in various judicial pronouncements. 15. In CIT vs. R. D. Aggarwal and Co. (1965) 56 ITR 20 (SC), the expression "business connection," as used in s. 42 of the Indian IT Act, 1922, fell for consid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re carried out in India in respect of which the income is sought to be assessed. In CIT vs. Hindustan Shipyard Ltd. 1975 CTR (AP) 97 : (1977) 109 ITR 158 (AP), the respondent-company entered into an agreement with a Polish company for the purchase of diesel engines with accessories. The agreement provided that the Polish company would render services for the effective fulfillment of the contract of sale, which included organizing of a training course in Poland for technical employees of Hindustan Shipyard at the expense of the Polish company. In the context of the question referred to this Court under s. 256(1) of the Act, the Division Bench which dealt with the case, considered the scope of the expression business connection within the meaning of ss. 9(1)(i) and 163(1)(b) of the Act and held that to conform to the requirements of that expression it is necessary that the common thread of mutual interest must run through the fabric of the trading activities carried on outside and inside the taxable territory which has been described as a real and intimate connection and that there must be something more than a mere transaction of purchase and sale between principal and principal i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g to the non-resident foreign company could not be assessed through its agent. That order was affirmed by the Tribunal. On a reference to the High Court of Patna, it was held that the sum of £ 7,000 was not the income which the foreign-company had received in India or an income which had accrued to the foreign company within the meaning of s. 5(2) of the Act and that the sum paid to the foreign company at London for technical advice given from London could not be attributed to the operation carried on in India. It was further held that there was no continuity between the business of the non-resident and the activity in the taxable territories in respect of the income and, therefore, there was no business connection between the foreign company and the assessee- company and the income could not be deemed to accrue or arise to the foreign company in India within the meaning of s. 9(1) as such, the said sum paid to the foreign company at London was not assessable in the hands of the assessee-company even as agent of the foreign company. 20. From the above discussion the following principles emerged: (i) whether there is a business connection between an Indian company and a no ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... looked into the business operations of M/s GD Egypt in India and not business connection between the operation of the GD Egpyt and business of the assessee in India, because any workfor which the assessee is making payment will always be associated and part of the business of the assessee. Obviously, in the instant case no business connection exist and thus the finding of the learned DRP on the issue is set aside. 6.22 Further, the learned DRP has held that the services rendered by M/s GD Egypt require expertise and knowledge in the specific area of work and such expertise cannot be developed overnight, but it is the result of long period of the work in this line of activities coupled with accumulated experience of operations and therefore the payment made by the assessee to GD Egypt partakes the character of the FTS under domestic law. 6.23 In the instant case, the assessee has not invoked any Double Taxation Avoidance Agreement (DTAA) and therefore we are examining only the FTS under domestic law. 6.24 This issue has been examined by the Tribunal in the case of Evergreen international Ltd.(supra) as under: "4.8.6 Thus, in the instant case, the first issue arises, whether the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tal income of the non-resident, whether or not,- (i) the non-resident has a residence or place of business or business connection in India; or (ii) the non-resident has rendered services in India." 6.25 In view of the above decision, the payment made for procuring of export sale order for Indian taxpayer by any foreign entities from outside India cannot be held as Fee for Technical Services. 6.26 In view of holding that payment for services of GD Egypt are not in the nature of Fee for Technical Services (FTS) , the other finding of the learned DRP of the applicability of explanation below section 9(2) i.e. there is no requirement of rendering services in India for income deemed to accrue or arise in India as per section 9(1)(vii) of the act, are rendered merely academic, and we are not required to examine applicability of the same in the year under consideration. 6.27 In view of the above, the payment made by the assessee is not chargeable under the provisions of the Act in the hands of GD Egypt, no tax is required to be deducted in terms of section 195of the Act and consequently no disallowance could be made under section 40(a)(i) of the Act for non-deduction of the tax at ..... 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