2016 (8) TMI 1160 - AT - Income Tax

Tribunal directs reassessment of Arm's Length Price and deems credit period with Associated Enterprises reasonable.

The Tribunal directed the Assessing Officer and Transfer Pricing Officer to determine the Arm's Length Price excluding certain companies as comparables. ... Arm's length principle - Comparable selection in transfer pricing - Transaction Net Margin Method (TNMM) - Segmental information for comparability - Determination of ALP for receivables / interest on delayed paymentsComparable selection in transfer pricing - Segmental information for comparability - Transaction Net Margin Method (TNMM) - Exclusion of certain comparable companies (E-Infochips Bangalore Ltd., KALS Information Systems Ltd., Tata Elxsi Ltd. (Seg.)) from the final comparable set - HELD THAT: - The Tribunal examined whether the three challenged companies could be included as comparables for benchmarking the assessee's software development services under TNMM. The Tribunal relied on segmental reporting and functional similarity as determinative criteria and followed coordinate-bench decisions holding that where segmental information is absent or the company is functionally diversified (including product development, specialised/complex services or ITES), it cannot reliably serve as a comparable for a captive software development service provider. Applying that principle to the facts on record, the Tribunal found no segmental data or found functional dissimilarity for each of the three companies and therefore directed their exclusion from the comparable set. [Paras 1, 2, 3]E-Infochips Bangalore Ltd., KALS Information Systems Ltd., and Tata Elxsi Ltd. (Seg.) are to be omitted from the list of comparable companies.Arm's length principle - Transaction Net Margin Method (TNMM) - Remand to Assessing Officer / Transfer Pricing Officer to determine ALP after excluding directed comparables - HELD THAT: - Having excluded the specified comparables, the Tribunal directed the AO/TPO to re-determine the arm's length price in light of these exclusions. The Tribunal made clear that if, on such redetermination, the price charged by the assessee for the international transaction is found to be within the arm's length range, no adjustment would be required. The direction effectively remits the matter for fresh computation of ALP by the assessing authorities in accordance with the Tribunal's comparability findings. [Paras 4]AO/TPO to determine ALP afresh keeping in view the Tribunal's directions and exclude the specified comparables; no adjustment if the reassessed price is within ALP.Determination of ALP for receivables / interest on delayed payments - Arm's length principle - Validity of adjustment for imputed interest on receivables from associated enterprises and the reasonableness of the assessee's credit period - HELD THAT: - The Tribunal considered the TPO's proposal to impute interest for delayed receipt of amounts from the AE by allowing a 30-day credit period and charging interest thereafter (later modified by DRP to LIBOR+250 bps). The assessee demonstrated that it is a captive developer, functionally and financially dependent on the AE, and that its actual average receivables period (79 days) was below the industry average (112 days) shown by the assessee's working. In absence of any written agreement, industry benchmark or comparable on record to justify presuming a shorter credit period, the Tribunal held that the assessee's credit terms were reasonable and that revenue authorities cannot presume different terms. [Paras 8]The addition for imputed interest on receivables is disallowed; the assessee's credit period of 79 days is held reasonable and the ground is allowed.Final Conclusion: The appeal is partly allowed: the Tribunal directs exclusion of E-Infochips Bangalore Ltd., KALS Information Systems Ltd., and Tata Elxsi Ltd. (Seg.) from the comparable set and remits the matter to the AO/TPO to recompute ALP accordingly; the imputation of interest on receivables is set aside as the assessee's credit period is held reasonable. Issues Involved:1. Selection of comparables for Transfer Pricing analysis.2. Imputation of interest on receivables from Associated Enterprises (AEs).Detailed Analysis:1. Selection of Comparables for Transfer Pricing Analysis:Issue:The assessee objected to the selection of certain companies as comparables by the Transfer Pricing Officer (TPO). Specifically, the companies in question were E Infochips Bangalore Ltd., KALS Information Systems Ltd., and Tata Elxsi Ltd. (Seg.).Analysis:- E Infochips Bangalore Ltd.:The assessee argued that this company is functionally different and lacks segmental information. The ITAT had previously rejected this company as a comparable in several cases, including Pegasystems Worldwide India Pvt. Ltd., CNO IT Services (India) Pvt. Ltd., and Allscripts (India) Pvt. Ltd. The Tribunal found that this company is engaged in both software development and ITES, and segmental information is not available. As a result, it was concluded that this company should be excluded from the list of comparables.- KALS Information Systems Ltd.:The assessee contended that this company is functionally different as it deals with software products. The ITAT had rejected this company in cases like Pegasystems Worldwide India Pvt. Ltd., CNO IT Services (India) Pvt. Ltd., and Planet Online Pvt. Ltd. The Tribunal noted that this company is engaged in the development of software and software products, and its inventory indicates the use of readymade libraries for sales. Consequently, the Tribunal directed the exclusion of this company from the list of comparables.- Tata Elxsi Ltd. (Seg.):The assessee argued that this company's business is of a complex nature, functionally different, and lacks segmental information. The ITAT had rejected this company in cases such as Pegasystems Worldwide India Pvt. Ltd., CNO IT Services (India) Pvt. Ltd., and Planet Online Pvt. Ltd. The Tribunal found that this company is engaged in multiple segments, and the segmental information necessary for comparability is not available. Therefore, the Tribunal directed the exclusion of this company from the list of comparables.Conclusion:The Tribunal directed the Assessing Officer (AO) and TPO to determine the Arm's Length Price (ALP) excluding the aforementioned companies from the list of comparables. If the price charged by the assessee for its international transactions is found to be within the arm's length, no adjustment is required.2. Imputation of Interest on Receivables from AEs:Issue:The TPO proposed to charge interest on the amount receivable from AEs, assuming a credit period of 30 days and an interest rate of 12% per annum. The assessee contested this imputation, arguing that the receivables from AEs are on account of services rendered and do not fall within the definition of international transactions.Analysis:- The TPO observed that the assessee received payments after the unspecified credit period and proposed to charge interest at 12% per annum after allowing a credit period of 30 days. The Dispute Resolution Panel (DRP) provided partial relief by directing the TPO to adopt LIBOR + 250 basis points instead of 12%.- The assessee argued that it is a captive developer, fully funded by the AE for all working capital requirements, and the business operates based on mutual agreements. The assessee also provided a working of the average Debtors ratio of 18 companies, which was 112 days, whereas the assessee's ratio was 79 days, significantly below the industry average.Conclusion:The Tribunal concluded that the credit period extended by the assessee to its AE is reasonable, particularly when there is no benchmark available. The Tribunal allowed the ground in favor of the assessee, stating that the revenue authorities cannot presume terms of payment without any written agreement or industry benchmark.Final Judgment:The appeal of the assessee was partly allowed for statistical purposes. The Tribunal directed the AO/TPO to rework the ALP determination, excluding the disputed comparables, and to consider the reasonable credit period extended by the assessee to its AE.