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TMI Blog2019 (9) TMI 1664X X X X Extracts X X X X X X X X Extracts X X X X ..... t segment without appreciating that economies of scale is not relevant in the software industry and turnover criterion is not prescribed in Rule 10B of IT Rules. 3. On the facts and in the circumstances of the case the learned CIT(A) erred in law in directing the AO to provide for depreciation adjustment without appreciating the fact that such criterion is not prescribed in Rule 10B of IT Rules. 4.On the facts and in the circumstances of the case the learned CIT(A) erred in law in deleting the disallowance u/s 40(a)(ia) without appreciating the fact that the assessee had purchased software which is in nature of a license paid for usage of the software and the consideration for such licenses would fall within the definition of the royalty defined in Explanation 9(1)(iv) and hence deduction of tax at source under Section 194J should have been done by the assessee. 5. On the facts and in the circumstances of the case the learned CIT(A) erred in law in deleting the disallowance u/s 14A r.w.r. 8D without appreciating the fact that as per provisions of Section 14A there is no differentiation to be made on the basis of the source of investment earning exempt income and in light of B ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on facts and in law in conducting a fresh benchmarking analysis using non contemporaneous data and substituting the Respondent's analysis with fresh benchmarking analysis on his own conjectures and surmises and in doing so determined a new arm's length price. Thus, the Respondent prays that the fresh benchmarking analysis conducted by the Ld. AO/ Ld. TPO is liable to be quashed. 3 Comparability Analysis adopted by the TPO for determination of arm's length price. a) The Ld CIT(A) erred in confirming the action of the Ld. AO/ Ld. TPO who erred in comparing the benchmarking of the Respondent's international transaction (i.e., software development services) with companies operating as full-fledged entrepreneurs without considering the differences in the functions performed, assets employed and risk undertaken by the Respondent vis-à-vis comparable companies identified. b)The Ld. CIT(A) erred in accepting the action of the Ld.AO/TPO/Ld. TPO in applying arbitrary filters to arrive at a fresh set of companies as comparable to the Respondent without functional comparability of such comparable companies identified. c) That without prejudice and any event, KALS ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g the action of Ld.AO/TPO in rejecting application of multiple year data while computing the margin of alleged comparable companies as such data had an influence in determining the transfer pricing policy of the Respondent. 5. Non-allowance of appropriate adjustments to the comparable companies, by the AO/TPO. The Ld. CIT(A) erred in upholding the action of the Ld. AO/the Ld. TPO in not allowing appropriate adjustments under Rule 10B to account for, inter alia, differences in (a) marketing expenditure adjustment, (b) research and development expenditure adjustment, (c) risk profile between the Respondent and the comparable companies; and (d) working capital adjustment. Further, the Ld. TPO erred in restricting the working capital adjustment in the case of the Company to 1.71%. The Ld. AO / the Ld. CIT(A) erred in upholding the same. 6. Variation of 5% from the arithmetic mean The Ld. CIT(A) erred in upholding, the action of the Ld. AO/the Ld. TPO in not granting the benefits of proviso to section 92C(2) of the Act available to the Respondent. 7. Tax deduction at source on purchase of computer software The CIT(A) erred in not holding that the payments for purchase of com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... argin by using OP/TC as PLI and computed its margin at 16.61%. Assessee selected following 17 comparables with an average margin of 12.66%: Company Name Prowess, Capitaline, Segmental Markup on Total cost Akshay Software Technologies Ltd. 6.17% Aztecsoft Ltd. 8.38% Birla Technologies Ltd. -1.77% CG Vak Software & Exports Ltd. 5.73% Computech International Ltd. 1.94% Helios & Matheson Information Technology Ltd. 28.52% LGS Global Ltd. 22.00% PSI Data Systems Ltd 2.94% Powersoft Global Solutions 19.26% Quinnox Consultancy Services Ltd. 11.70% R S Software (India) Pvt.Ltd. 18.20% R Systems International Ltd. 9.66% Sagarsoft(India)Ltd 11.82% Sonata Software Ltd 13.49% Thirdware Solutions Ltd. 25.54% Vama Industries Ltd 23.31% Number of Companies 17 Mean 12.66% Assessee thus held transaction with its associated enterprise to be at arms length. 3.1 Ld.TPO dissatisfied with comparables selected by assessee, applied various filters and excluded certain comparables from assessee's list. He thus shortlisted following 11 comparables with an average margin of 21.61%: Sl. No. Comparables selected by the TPO NCP Margins as per TPO order (%) (WC adj 1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... P study, assessee has been classified into various product groups: * the application group; * networking and advanced services group; * network management services group; * operating Systems group; * quality management group and technology group; It has been submitted in TP study that workflow of software development services provided by assessee can be summarised as follows: * Novell US prepares a product requirement document(PRD) which is developed y the product management team of Nov ell based on the inputs from the customer, the marketing team of the product group and the core team management of Novell US, and the product engineering group of Novell India. * The product is initiated once the PRD is received. The product engineering team of Novell India makes an engineering requirement specification. The project engineering team at Novell India develops the project based on the inputs received from Novell US to ensure that the deliveries are tied into the product release. * Based on the project plan developed, the product engineering team of Novell India performs specific functions which comprise of defining and designing the functional specifications for the pr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Ltd vs ITO reported in (2016) 70 Taxmann.com 189; * Societe Generale Global Solutions Centre Pvt.Ltd vs DCIT reported in (2016) 69 Taxmann.com 336; * Capgemini India Pvt.Ltd vs ACIT reported in (2015) 58 Taxmann.com 175; * Wills Processing Services India Pvt.Ltd vs DCIT reported in (2013) 30 Taxmann.com 350. 8. Ld.AR submitted that, application of turnover filter has been upheld by this Tribunal in several decisions including Genesis integrating systems India Pvt. Ltd. vs DCIT reported in [2012] 20 taxmann.com 715, wherein, Persistent Systems Ltd., L&T Infotech Ltd., and Infosys Ltd., were excluded on high turnover filter, and it has been held that appropriate turnover range should be applied in selecting comparables of uncontrolled companies. He submitted that this Tribunal in case of Genesis Integrating Systems India Pvt.Ltd., (supra) observed as under: "For the purpose of classification of companies on the basis of net sales or turnover, a reasonable classification has to be made. Dun & Bradstreet and NASSCOM have given different ranges. Taking the Indian scenario into consideration, the classification made by Dun & Bradstreet is more suitable and reasonable. In view of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... next most important task in creating a software product is extracting the requirement of the customers and then precisely describing the software to be written possibly in a rigorous way. In practice, most successful specifications are written to understand and fine tune applications that were already well developed, although safety critical software systems are often carefully specified prior to application and development. The architecture of a software system refers to an abstract specification of the software system and is concerned with making sure that the software system will meet the requirements of the product as well as ensuring that future requirements can be addressed. The architecture step also addresses interfaces between the software system and other software products, as well as the underlying hardware or the host operating system. Thereafter, a design is reduced to code and where the code is to be written by two different engineers, they must work together and the testing of software falls on to the shoulders of software engineers. The next important task is documenting the internal design of software for the purpose of future maintenance and enhancement. A large p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment company or a software trading company. Therefore, the companies that are functionally different from that of the tax payer are to be excluded."... 9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which are making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the various benches of the Tribunal, when companies which are loss making are excluded from comparables, then the super profit making companies should also be ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... m 263 followed similar view to exclude identical comparables by applying turnover filter, wherein all the decisions relied upon by Ld. CIT DR has been considered and dealt with. Therefore, respectfully following above decisions, we uphold exclusion of Infosys Ltd, Larsen & Toubro Infotech Ltd., and Persistent Systems Ltd., by Ld. CIT (A) from final list. Now coming to Zylog Systems Ltd., Mindtree Ltd., it has been submitted that these companies also have turnover more than 200 crores and therefore should be excluded. In support, reliance was placed on decisions of this Tribunal in case of Triology E Business Software India Pvt.Ltd., vs DCIT reported in (2013) 29 Taxmann.com 310 and decision of Hon'ble Bombay High Court in case of CIT vs Pentair Water India Pvt. Ltd in ITA No. 18/2015 vide order dated 16/09/15. Hon'ble High Court in case of Paintair water India Pvt.Ltd (supra) held that, turnover is a relevant criteria for choosing companies as comparables for determining ALP of international transaction. Even otherwise, all above referred comparables are functionally not similar with that of assessee, which is only a captive software development service provider, which does not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iation Adjustment 14.5.1. An extract of my predecessor's order is reproduced as under; During the appellate proceedings, it is submitted that the appellant company as a policy of charging a higher rate of depreciation as compared to the Companies selected by the TPO, therefore, there is need for making an adjustment to eliminate the difference in the accounting policies for the tested parties and the comparable companies. Having heard the contention of the appellant, as per Rule 10B(3), the margin of the comparables and the tested party have to b computed on the same base considering the accounting policies followed. Accordingly, instead of allowing any adjustment on this account, the AO is directed to compute the margin in respect of the comparables after excluding the depreciation from the cost and also in the case of the appellant the depreciation to be excluded from the cost for computing the arm's length difference. The appeal on the above issue is disposed accordingly". 14.5.2 Similar claim has been made in this year and I see no reason to differ with my predecessor and hence, the TPO is directed to follow this direction in the current year. It is ordered accordingly. ..... X X X X Extracts X X X X X X X X Extracts X X X X
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