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TMI Blog2022 (5) TMI 350X X X X Extracts X X X X X X X X Extracts X X X X ..... Pricing Officer clearly has not been followed by the Transfer Pricing Officer in this company while selecting as comparable. Therefore, this company has to be excluded. We, therefore, direct Transfer Pricing Officer to exclude this company from comparable. Flextronics Software Systems Ltd.is not a correct comparable owing to the diversified segment of software services and products are grouped together. Helios and Motherson (IT) Ltd. comparable fails the employee cost filter implied by the Transfer Pricing Officer himself and also the fact that the company is engaged in the services like information technology enables services/ business process outsourcing/off-shore delivery/project management and maritime practices makes it functionally dissimilar to be a right comparable. KALS Information Systems Ltd. - The reply of the company that the use of ready-made object laboratories is only to the tune of about (0.33 to 3) per cent. in the year 2005-06 and 2006-07 has been examined by the Tribunal and came to the conclusion that what has been written is that the company's use the ready-made object laboratories is only to the tune of maximum three per cent. and it doesn ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... this comparable. Capitalization of Software Expenses - assessee debited software expenses to its profit and loss account whereas the Assessing Officer altered the expenses to capital expenditure - HELD THAT:- We have also gone the judgment of the hon'ble apex court in the case of Empire Jute Co. Ltd. v. CIT [ 1980 (5) TMI 1 - SUPREME COURT] From the facts, relevant to the instant case, we find that the assessee has not acquired any capital asset of enduring in nature with regard to the software purchases. It is the user rights which has been purchased by the assessee and requires updation and modification at regular intervals. Hence, it cannot be said that the assessee has acquired any asset capital in nature by way of payment of software expenses. Hence, the addition made by the Assessing Officer is directed to be deleted. Computation of deduction under section 10A - exclusion of communication charges, expenditure incurred in foreign exchange from the export turnover - HELD THAT:- The issue of computation of deduction under section 10A has reached a finality in view of the judgment of the hon'ble Supreme Court in the case of CIT v. HCL Technologies Ltd. [ 2018 ( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g multiple year/prior years' data as used by the appellant in the transfer pricing documentation and holding that current year, (i. e., financial year 2006-07) data for comparable companies should be used despite the fact that the same was not necessarily available to the appellant at the time of preparing its transfer pricing documentation ; 1.5 collecting selective information of the companies by exercising power granted to him under section 133(6) of the Act that was not available to the appellant in the public domain and relying on the same for comparability purposes (and to the extent of completely ignoring reliable data available in public domain/annual reports in numerous cases) ; 1.5.1 and in doing so violating the fundamental principles of natural justice by relying on the information sourced under section 133(6) ; and also by 1.5.2 not sharing with the appellant, in case of a number of comparables, the information/reply received by the Transfer Pricing Officer/Assessing Officer under section 133(6). 1.6 rejecting comparability analysis in the transfer pricing documentation/appellant's fresh search and in conducting a fresh comparability ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the appellant in terms of functions performed, assets employed and risks assumed ; 1.11 ignoring the business/commercial reality that since the assessee is remunerated on an arm's length cost plus basis, i. e., it is compensated for all its operating costs plus a pre-agreed mark-up based on a benchmarking analysis, the appellant undertakes minimal business risks as against comparable companies that are full fledged risk taking entrepreneurs, and by not allowing a risk adjustment to the appellant on account of this fact ; 1.12 committing a number of factual errors in accept-reject of comparable companies included in/excluded from the final set of companies. ; 1.13 by following an inconsistent approach while computing the OP/TC margin of the appellant by treating foreign exchange loss as operating whereas treating the same as non-operating in some cases and operating in others in case of comparables ; and 1.14 disregarding judicial pronouncements in India in undertaking the transfer pricing adjustment. 2. The learned Assessing Officer erred in facts and in law in initiating the penalty under section 271(1)(c). 3. In I. T. A. No. 5554/Del ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 133(6) of the Act that was not available to the appellant in the public domain and relying on the same for comparability purposes (and to the extent of completely ignoring reliable data available in public domain/annual reports in numerous cases) ; 1.6.1 and in doing so violating the fundamental principles of natural justice by relying on the information sourced under section 133(6) ; and also by not sharing with the appellant, the information/ reply received by the Transfer Pricing Officer/Assessing Officer under section 133(6). 1.7 rejecting comparability analysis in the transfer pricing documentation and in conducting a fresh comparability analysis based on application of the following filters in determining the arm's length price for the international transactions ; 1.7.1 exclusion of companies having different financial year ending, (i. e., not March 31, 2007) ; 1.7.2 exclusion of companies with export sales that are less than 25 per cent. of their total revenue ; 1.7.3 retaining companies with related party transactions up to 25 per cent. of their sales ; 1.7.4 adopting employee cost to revenues greater than 25 per cent. of their ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... taking the transfer pricing adjustment. 2. Capitalisation of software expenses 2.1 The Dispute Resolution Panel and Assessing Officer both on facts and in law erred in not appreciating the fact that the software acquired is of revenue in nature. 2.2 The Dispute Resolution Panel and Assessing Officer both on facts and in law erred in not appreciating the fact that the nature of software acquired is primarily application software which has no enduring benefit. 3. Exclusion of communication charges from export turnover in computing deduction under section 10A 3.1 The Dispute Resolution Panel and Assessing Officer both on facts and in law erred in not appreciating the fact the definition of export turnover does not intend to exclude expenditure incurred in domestic currency from export turnover. 4. Exclusion of expenditure incurred in foreign currency from export turn over in computing deduction under section 10A 4.1 The Dispute Resolution Panel and the Assessing Officer failed to appreciate the nature of business of the appellant and erred in presuming that the appellant is engaged in providing the technical services and thereby erred i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7 Alcatel, Australia 8,87,83,545 8 Alcatel, China 81,16,793 9 Alcatel, Spain 20,20,71,314 10 Alcatel Italy 99,57,597 11 Alcatel, Denmark 20,42,740 12 Connectivity and band width charges Alcatel, France 6,37,63,934 13 Reimbursement of expenses Alcatel, Belgium 2,46,667 14 Purchase of fixed Alcatel, France 1,51,14,683 15 Alcatel Germany 10,67,206 16 Alcatel Spain 1,78,013 17 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s responsible for design, development, coding and testing functions based on the functional specifications received from the product management team of the respective country of the customer, the employees In the implementation team are expected to have sound knowledge in the telecom field, besides their expertise in the field of software. Alcatel Development India Private Limited usually recruits engineers with expertise in networks and communications. (a) Design : The first step in the software development life cycle for Alcatel Development India Private Limited begins with the technical design based on the functional specifications received. The technical design process translates the functional requirements into a representation of the software which ultimately is to be coded into machine readable form. (b) Coding : The next step is to write the code. Alcatel Development India Private Limited uses the chill programming language to write the code on the UNIX operating system. (c) Testing : The implementation team does unit testing at the work station level, Unit testing involves the developer to test his module independently. Industrialization team : A tele ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... exchange before it is fully implemented. Minimum shutdown time of the exchanges is planned for updation of the new features. Quality : The customer satisfaction and quality team (CSQ) does quality checks at all levels to ensure that internal standards and protocols are met. Alcatel Development India Private Limited has obtained capability maturity model (CMM) Level 3 certification. Maintenance. and support : As per its Software Development and Licence Agreement dated May 25th 1998, Alcatel Development India Private Limited provides technical assistance, maintenance support through its Technical Assistance Centre (TAC). Alcatel Development India Private Limited provides these services to Alcatel Bell NV without additional charge for the warranty period mentioned in the agreement to correct any errors, defects or malfunctions in the software it has delivered. In case of support beyond the warranty period or not related to the warranty performance, Alcatel Development India Private Limited bills at the normal rates. The TAC provides routine telephone assistance in investigating, diagnosing and troubleshooting problems in the covered software product. Alcatel Deve ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... routine intangibles. Alcatel Development India Private Limited uses the trademark, process, know-how, technical data software, operating/quality standards, etc., developed/owned by Alcatel- Lucent Group. All companies of the Alcatel-Lucent Group leverage from these intangibles for continued growth in revenues and profits. Accordingly, Alcatel Development India Private Limited does not own any significant non-routine intangibles. Risks : The various risks associated with this international transaction are as under : Market Risk : Alcatel Development India Private Limited does not have any significant exposure to this risk because it renders services exclusively for Alcatel-Lucent Group and therefore can forecast its revenues with fair degree of certainty. All market risks with respect to the product including customer acceptance are borne by Alcatel-Lucent Group. It is exposed to the intensely competitive conditions in the telecom industry and impact of technological advances. Product liability risk : Alcatel Development India Private Limited's risk is minimal as it does not have any interface with the ultimate customer. However, it would ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ises in Euros. Therefore, foreign exchange fluctuation risk is borne by Alcatel Development India Private Limited as its revenues are in foreign currency whereas its expenses are in Indian rupees. Further, those associated enterprises who deal in currency other than Euro also bear the foreign exchange risk in respect of this transaction. Inventory risk : Alcatel Development India Private Limited develops modules of the software which form part of the final product/service delivered to the final customer by the Alcatel-Lucent Group. Being only a service provider, Alcatel Development India Private Limited does not carry any inventory. Alcatel-Lucent Group bears the responsibility for the security, maintenance and inventory of all its products, both hardware and software, and bears the full cost of maintaining the storage of the Inventory. In effect, Alcatel Development India Private Limited is insulated from most of the risks in respect of its international transaction entered with its associated enterprises. Payment for Bandwidth and Connectivity Charges Function : Alcatel Development India Private Limited has entered into a Master Con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted has paid certain operating expenses to its associated enterprises. These are in the nature of training expenses. Risk : There are no inherent external risks involved in this international trans action except foreign exchange fluctuation risk which is borne by Alcatel Development India Private Limited as it has made the payment for these expenses in foreign currency. 7. Brief description of the method adopted by the assessee for transfer pricing study : For all the transactions given above, the assessee has adopted the transactional net margin method as the method for bench marking its transactions with it's associated enterprises's. The final lists of comparable chosen by the company are as follows : Sl. No. Name of the company NCP 2004-05 (%) NCP 2005-06 (%) NCP 2006-07 (%) Weighted Average (%) 1. Intertec Communications Ltd. 8.54 5.62 NA 6.68 2. PSI Data Systems Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2 Avani Clmcon Technologies Ltd 3.55 52.59 3 Bodhtree Consulting Ltd (Seg.) 7.40 109.79 4 Celestial Labs Ltd. 14.13 58.35 5 Datamatlcs Ltd. 54.51 7.27 6 E-Zest Solutions Ltd. 6.26 38.12 7 Flextronics Software Systems Ltd (Seg.) 848.66 25.31 8 Geometric Ltd. (Seg.) 158.38 10.71 9 Hellos Matheson Information Technology Ltd. 183.51 40.35 10 IGate Global Solutions Ltd. 747.27 7.49 11 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Before us, the learned authorised representative objected to the selection of comparables relied upon by the Transfer Pricing Officer. Avani Cincome Technologies Ltd. 11. The Transfer Pricing Officer held that the comparable is engaged in provision of software development services and clears all the filters. The learned Dispute Resolution Panel agreed to observation of the Transfer Pricing Officer and found that the company has stated that it is dealing purely in software development. The learned authorised representative argued that the comparable is functionally different and there was no segmental data available for the revenue from the sale of software development services and the software products. We find that this was not allowed as a comparable for the similarly placed companies owing to high operating margins and different asset base with regard to Motorola Solutions India Pvt. Ltd. During the year with regard to the assessee, we find that the comparable has replied that they are into software development only. We find that 97 per cent. of the revenue of the comparable is from software development which is similar to the functions of the assessee who is also ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er applied by the Transfer Pricing Officer, i. e., service income/total income 75 per cent. This company is engaged in providing diverse services like business process outsourcing, product engineering, software product development and knowledge process outsourcing. The segmental data is also not available. The inventory ratio to total revenue is 19.90 per cent., whereas the assessee company does not hold any inventory. Besides this, E-zest is into professional services and full risk bearing entrepreneur, whereas the assessed company is limited risk capital company dealing in software development and is performing limited functions like coding, testing. 10.14 The learned Departmental representative submitted that the Transfer Pricing Officer has rightly selected this comparable and relied upon the order of the Transfer Pricing Officer. 10.15 We heard both the parties and perused the records. The functions of both the companies are different. There is no segmental data available in the annual report of the company. The service income filter which was applied by the Transfer Pricing Officer clearly has not been followed by the Transfer Pricing Officer in this company while ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... intelligent network and broadband solutions, equipment and related services. Thus, the functions of both the companies are different. There is no segmental bifurcation available of Infosys Limited. Hence, the comparable may be scored through the list of comparable. Similar observation is applicable to Wipro Ltd. Thirdware Solutions Ltd. 21. The company is engaged in product development and earns revenue from trading of software licences and subscription. Further, the segmental information of different streams of revenue is not available. Megasoft Ltd. 22. The Transfer Pricing Officer while determining the arm's length price used the entity wise margins instead of segmental margins. Hence, needs to be obliterated. 23. With regard to the Akshay Software Technologies Ltd. and SQL Star International Ltd., the same cannot be considered as the revenue filter and the export turnover filter have not been met. Ishir Infotech Ltd. 24. The assessee contended that the comparable fails the employee cost filter as per annual report. However, the information provided under section 133(6) clears the employee filter. Lucid Software Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ays Ltd. [2007] 288 ITR 15 (Mad). L and T Ramboll Consulting Engineers Ltd. v. Asst. CIT in I. T. A. No. 886/Mds/2006. CIT v. G. E. Capital Services Ltd. [2008] 300 ITR 420 (Delhi) ; [2007] 164 Taxman 46 (Delhi). Amway India Enterprises v. Dy. CIT [2008] 301 ITR (A.T.) 1 (Delhi) [SB] ; [2008] 111 ITD 112S (Delhi-ITAT) [SB]. IBM India Ltd. v. CIT (Appeals) [2007] 290 ITR (A.T.) 183 (Bang). CIT v. K and Co. [2003] 181 CTR 378 (Delhi). Addl. CIT v. Asahi India Safety Glass [2006] 6 SOT 656 (Delhi). ITO v. Shivani Locks Ltd. [2008] 22 SOT 122 (Delhi). 28. Heard the arguments of both the parties and perused the material available on record. 29. We have gone through the various judgments relied upon by both the parties. We have also gone the judgment of the hon'ble apex court in the case of Empire Jute Co. Ltd. v. CIT [1980] 124 ITR 1 (SC) ; AIR 1980 SC 1946. From the facts, relevant to the instant case, we find that the assessee has not acquired any capital asset of enduring in nature with regard to the software purchases. It is the user rights which has been purchased by the assessee and requires updation and modificatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t from exports. The export turnover as defined in section 10A of the Income-tax Act would not include freight, tele communication charges or insurance attributable to the delivery of goods outside India and the expenses incurred in foreign exchange for providing technical services outside India. The same cannot be included in the total turnover as if numerator included the aforesaid amount, which the denominator doesn't include, the formula would render undesirable results. Therefore, the respondent is legally entitled to exclude the above said expenses from the total turnover as well. Hence, these appeals deserve to be dismissed at the outset. Discussion : 8. The whole controversy revolves around the claim of certain expenses attributable to the delivery of software outside India or in providing technical services from 'total turnover' by the respondent under section 10A of the Income-tax Act. It is an undisputed fact that neither section 10A nor section 2 of the Income-tax Act define the term 'total turnover'. However, the term 'total turnover' is given in clause (ba) of the Explanation to section 80HHC of the Income-tax Act which defin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nover of the undertaking.' 10. The question arises here that when the particular term has not been defined in any particular section, is it allowed to import the meaning of such term from the other provisions of the same Act ? Section 10A of the Income-tax Act is a special beneficial provision and the purpose of deduction under such section is to encourage and boost the new business undertakings situated in the free trade zone of this Nation by providing suitable deductions to such business entities. Sometimes, while calculating the deduction, disputes arise regarding the methodology of deduction which ought to be followed. Undisputedly, it is a matter of record that the respondent is engaged in the activity of trading of generic software and providing customized software development services for domestic as well as for foreign clients through its two units situated in Software Technology Park, Gurgaon (Now Gurugram) which falls under the definition of the section 10A of the Income-tax Act. The contention of the respondent is that it incurred expenditure in foreign exchange in sending professionals abroad as per the agreements with the foreign constituents. 11. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ame figure of export turn over as of total turnover. The respondent cited various judicial cases but all these cases pertain to deduction under section 80HHC. Further, the definition of total turnover has been defined in sections 80HHC and 80HHE of the Income-tax Act. As discussed earlier, the definition of total turnover has not been defined under section 10A of the Income-tax Act. 14. In the above backdrop, we are of the opinion that the definition of total turnover given under sections 80HHC and 80HHE cannot be adopted for the purpose of section 10A as the technical meaning of total turnover, which does not envisage the reduction of any expenses from the total amount, is to be taken into consideration for computing the deduction under section 10A. When the meaning is clear, there is no necessity of importing the meaning of total turnover from the other provisions. If a term is defined under section 2 of the Income-tax Act, then the definition would be applicable to all the provisions wherein the same term appears. As the term 'total turnover' has been defined in the Explanation to sections 80HHC and 80HHE, wherein it has been clearly stated that 'for the purpo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on should be preferred to the literal construction. Furthermore, in the instant case, we are dealing with an artificial liability created for counteracting the effect only of attempts by the assessee to reduce tax liability by trans fer . . . .' 17. The similar nature of controversy, akin this case, arose before the Karnataka High Court in CIT v. Tata Elxsi Ltd. [2012] 349 ITR 98 (Karn) ; [2012] 204 Taxman 321 (Karn) ; 17 taxmann.com 100 (Karn). The issue before the Karnataka High Court was whether the Tribunal was correct in holding that while computing relief under section 10A of the Income-tax Act, the amount of communication expenses should be excluded from the total turnover if the same are reduced from the export turnover ? While giving the answer to the issue, the High Court, inter alia, held that when a particular word is not defined by the Legislature and an ordinary meaning is to be attributed to it, the said ordinary meaning is to be in conformity with the context in which it is used. Hence, what is excluded from 'export turnover' must also be excluded from 'total turnover', since one of the components of 'total turnover' is export turn ..... X X X X Extracts X X X X X X X X Extracts X X X X
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