2015 (1) TMI 1360 - AT - Income Tax

Tribunal adjusts comparables for Transfer Pricing and deductions under Section 10A, examines lease rental income, dismisses Stay Petition.

The Tribunal partially allowed the assessee's appeal by directing significant adjustments in the selection of comparables for Transfer Pricing purposes ... Arm's length price - comparability analysis for transfer pricing - functional comparability - selection and exclusion of comparable companies - working capital adjustment in comparables - deduction under section 10A-treatment of export turnover and total turnover - deduction under section 57(iii) for expenditure relating to income from other sourcesComparability analysis for transfer pricing - functional comparability - selection and exclusion of comparable companies - arm's length price - working capital adjustment in comparables - Validity of the TPO's selection of comparable companies for testing the ALP of the assessee's software development international transactions and consequential directions on retained comparables and working capital adjustment - HELD THAT: - The Tribunal examined the TPO's final set of comparables and, by applying precedents in which similar facts and a comparable taxpayer profile were considered, held that a large subset of the companies chosen by the TPO were functionally dissimilar to a pure software development services provider and therefore ought to be excluded. The Tribunal identified that the assessee's functional profile closely matched that of the taxpayer in the earlier co-ordinate-bench decisions relied upon and found those decisions to be good precedent for the present year. Following those authorities, the Tribunal directed exclusion of specific companies which either carried out product development, owned intangibles/IPR, provided KPO/high-end services, had atypical economic events or otherwise failed functional or segmental comparability tests. In respect of one comparable (Megasoft Ltd.), the Tribunal found it could be retained but with a reworking of its margins on the basis of segmental (software services) results rather than entity-level results and directed the AO/TPO to recompute the margin accordingly. The Tribunal also directed that the working capital adjustment for computation of ALP be made considering only the finally retained comparables.Directed exclusion of fourteen named companies from the final list of comparables; Megasoft Ltd. to be retained with its margin reworked on segmental basis; AO/TPO to recompute ALP and to apply working capital adjustment only on the finally retained comparables; grounds 1-7 partly allowed.Deduction under section 10A-treatment of export turnover and total turnover - Whether foreign travel and telecommunication expenditures excluded from export turnover must also be excluded from total turnover when computing deduction under section 10A - HELD THAT: - The Tribunal considered the definition of 'export turnover' in the Explanation to section 10A and the assessee's submissions. Although the expenditures in question were incurred in foreign exchange for providing services outside India, the Tribunal found that the claim to exclude those amounts from total turnover for computing the section 10A deduction was supported by the jurisdictional High Court decision in CIT v. Tata Elxsi Ltd. Consequently, the Tribunal directed the AO to exclude the specified foreign travel and telecommunication amounts from total turnover while computing the eligible deduction under section 10A.AO directed to exclude the foreign travel and telecommunication amounts from total turnover for computation of deduction under section 10A.Deduction under section 57(iii) for expenditure relating to income from other sources - Claim for allowance of expenditure relating to lease rental income treated as 'Income from other sources' - HELD THAT: - The assessee contended before the DRP that where lease rental received on sub-leasing is assessed under 'Income from other sources', related expenditure should be allowable under section 57(iii). The Tribunal noted that the assessee had raised the claim before the DRP but that the matter requires factual and legal examination by the AO. The Tribunal did not decide the claim on merits but held that if expenditure was incurred for earning such lease rental income, the AO should examine the claim and grant relief if the assessee is eligible under law.Claim remitted to the AO for examination; ground allowed for statistical purposes.Final Conclusion: Appeal partly allowed: transfer pricing grounds (grounds 1-7) partly allowed by directing exclusion of specified comparables and reworking Megasoft Ltd.'s margin with recomputation of ALP using finally retained comparables; AO/TPO to apply the working capital adjustment on the retained set. For the section 10A claim, AO directed to exclude specified foreign travel and telecommunication expenditures from total turnover when computing the deduction. The claim regarding expenditure relating to lease rental income is remitted to the AO for verification and appropriate relief if eligible. Issues Involved:1. Transfer Pricing (TP) issues, including the selection of comparables for determining the Arms Length Price (ALP) of international transactions.2. Corporate tax issues, specifically the exclusion of foreign travel and telecommunication expenditures from export turnover and total turnover while computing the deduction under Section 10A of the Income Tax Act.3. Deduction of expenditure related to lease rental income under Section 57(iii) of the Income Tax Act.Detailed Analysis:1. Transfer Pricing (TP) Issues:The primary grievance of the assessee was the selection of comparables for testing the ALP of international transactions. The assessee, a software development company, had filed its return declaring income after claiming deductions under Section 10A of the Act. The Transfer Pricing Officer (TPO) reworked the segmental results, leading to a TP adjustment confined to the software development segment. The TPO selected 26 comparables, but the assessee disputed many of these selections.The Tribunal referred to a similar case, NXP Semiconductors India Pvt. Ltd., where 26 comparables were considered, and 14 were excluded for functional dissimilarities. The Tribunal directed the exclusion of the following companies from the list of comparables:- Accel Transmatic Ltd. (Seg.)- Avani Cimcon Tech. Ltd.- Celestial Labs Ltd.- E-Zest Solutions Ltd.- Helios & Matheson Information Tech. Ltd.- Infosys Technologies Ltd.- Ishir Infotech Ltd.- KALS Information Systems Ltd. (Seg.)- Lucid Software Ltd.- Persistent Systems Ltd.- Quintegra Solutions Ltd.- Tata Elxsi Ltd.- Thirdware Solutions Ltd.- Wipro Ltd.The Tribunal also directed the TPO to rework the results of M/s Megasoft Ltd. based on segmental data and to re-compute the ALP of international transactions with the revised list of comparables.2. Corporate Tax Issues:Foreign Travel and Telecommunication Expenditures:The assessee contested the exclusion of foreign travel expenditure from export turnover while computing the deduction under Section 10A. The Tribunal upheld the exclusion of foreign travel expenditure from export turnover but directed that such expenditure, along with telecommunication expenses, should also be excluded from total turnover, in line with the decision of the jurisdictional High Court in CIT Vs M/s Tata Elxsi Ltd. This adjustment ensures a fair computation of the deduction under Section 10A.3. Deduction of Expenditure Related to Lease Rental Income:The assessee claimed that expenditure related to earning lease rental income, if considered under the head 'Income from other sources,' should be allowed as a deduction under Section 57(iii) of the Act. The Tribunal directed the Assessing Officer (AO) to examine this claim and provide appropriate relief if the expenditure was incurred for earning the lease rental income.Conclusion:The Tribunal's order resulted in a partial allowance of the assessee's appeal, directing significant adjustments in the selection of comparables for TP purposes and the computation of deductions under Section 10A. The AO was also instructed to examine the claim for deduction of expenditure related to lease rental income. The Stay Petition filed by the assessee was dismissed as infructuous.