2014 (11) TMI 690 - AT - Income Tax

Tribunal dismisses Revenue's appeal, instructs AO/TPO to exclude comparables and rework ALP

M/s. Flagstone Underwriting Support Services India P. Ltd. Versus The DCIT, Circle 1(3), Hyderabad

The Tribunal dismissed the Revenue's appeal and allowed the assessee's appeal for statistical purposes. The Tribunal directed the A.O./TPO to exclude the ... Transfer pricing adjustment - Back office support services in the field of investment and insurance management to AE - Exclusion of comparables – Held that:- Following the decision in Capital IQ Information Systems (India) (P.) Ltd. Versus Deputy Commissioner of Income-tax (International Taxation) [2014 (3) TMI 626 - ITAT HYDERABAD] - Coral Hub works as an agent by outsourcing its work to third party vendors and cannot be taken as a comparable to the ITES functions being involved by assessee - the company is not comparable functionally to the assessee, there is no reason to interfere with the order of CIT(A) - because of exceptional financial results due to merger/demerger, Moldtek Ltd., cannot be taken as comparable – Decided against revenue. Computation of deduction u/s 10A - Inclusion of communication charges from export turnover – Held that:- AO excluded the communication charges from export turnover holding that they are not to be included in the Export turnover - data link charges cannot be considered as attributable to export service, however, alternate plea was made that if the same was excluded from the export turnover, the same was also to be excluded from the total turnover while computing deduction u/s 10A - Following the decision in ITO vs. Saksoft [2009 (3) TMI 243 - ITAT MADRAS-D] - CIT(A) gave direction to exclude communication charges from the total turnover as well - there is no need to interfere with the direction of CIT(A) – Decided against revenue. Selection of comparables – Accentia Technologies Ltd. – Extra ordinary events - Held that:- Extra- ordinary event like merger and de-merger will have an effect on the profitability of the company in the financial year in which such event takes place - It is the contention of the assessee that in case of the company, there is amalgamation which has impacted the financial result - This fact has to be verified by the TPO - If it is found upon such verification that the amalgamation in fact ahs taken place, then the aforesaid comparable has to be excluded - the previous year there were extra ordinary events that took place in this company which warrants exclusion of this company as a comparable - this company cannot be considered as a comparable. Acropetal Technologies Ltd. (Seg.) – Held that:- The major source of income for the company is from providing Engineering Design Service and Information Technology Services - The functions performed by the Engineering Design Services segment of the company cannot be considered as comparable to the ITES/BPO functions performed by the Assessee - The performance of Engineering Design Services is regarded as providing high end services among the BPO which requires high skill whereas the services performed by the Assessee are routine low end ITES functions - this company could not have been selected as a comparable, especially when it performs engineering design services which only a Knowledge Process Outsourcing [KPO] would do and not a Business Process Outsourcing [BPO] - even though the company was excluded on the differentiation of high end services being provided by this company, as noticed assessee also provide high end services in CAD / CAE designing areas - These are High end services as considered by the Bangalore bench - functions of assessee are similar to the Company. Cosmic Global Ltd. – Held that:- While there was no objection for assessee objecting to the comparable even at a later stage when it comes to know of new facts, the assessee’s objections before the DRP have not been addressed by the DRP - It is for the TPO to determine whether this company falls within the filters as adopted by the TPO himself. If the assessee fails the employee cost filter, then the same cannot be accepted as a comparable company - selection of this comparable is to be restored to the file of the TPO for fresh examination, after giving due opportunity of hearing to the assessee – the matter is remitted back to the TPO. Wipro Limited - Industrial giants - Held that:- The TPO has excluded the companies whose turnover is less than Rs. One Crore on the ground that they may not be representing the industry trend - That very logic also applies to the companies having high turnover of over ₹ 200 crores as against the assessee's turnover of only ₹ 15 crores, and therefore, it would be fair enough to exclude those companies also - the companies cannot be treated as comparable, considering their substantially high turnover as compared to that of the assessee - these companies cannot be regarded as comparables - since the seven comparables are held not comparable in various decisions of coordinate benches, A.O. / TPO is directed to exclude the above comparables and reworkout the ALP - Assessee should be given an opportunity to make submissions on the risk adjustments/working capital adjustment if so required before finalising the order – Decided in favour of assessee. Issues Involved:1. Transfer Pricing (T.P.) Adjustments on Assessee's International Transactions.2. Selection of Comparable Companies.3. Exclusion of Communication Charges from Export Turnover and Total Turnover for Section 10A Deduction.Detailed Analysis:1. Transfer Pricing (T.P.) Adjustments on Assessee's International Transactions:The core issue in the appeal relates to the T.P. adjustments made by the Assessing Officer (A.O.)/Transfer Pricing Officer (TPO) concerning the assessee's international transactions under Section 92C of the Income-tax Act. The assessee, a wholly-owned subsidiary providing back-office support services, preferred an appeal before the Commissioner of Income Tax (Appeals) [CIT(A)] rather than the Disputes Resolution Panel (DRP). The TPO suggested an adjustment of Rs. 1,84,52,948 under Section 92CA of the Income-tax Act, which was added to the total income of the assessee by the A.O. Additionally, the A.O. made a disallowance of Rs. 20,37,817 on account of communication expenses as per Explanation 2 to Section 10A and recalculated the exemption under Section 10A.2. Selection of Comparable Companies:The CIT(A) concentrated on the selection of comparable companies. The TPO had selected 20 comparables, but the assessee objected to 9 of them based on functionality. The CIT(A) excluded two comparables, Coral Hub and Moldtek Technologies, based on the decisions of the Coordinate Bench and DRP in various cases. The CIT(A) noted that excluding these two comparables would bring the assessee's Arm's Length Price (ALP) within the acceptable range, rendering other T.P. adjustment grounds academic. The Revenue's appeal contested the exclusion of these two comparables, but the Tribunal upheld the CIT(A)'s decision, noting that Coral Hub outsourced its work and Moldtek Technologies had exceptional financial results due to merger/demerger, making them non-comparable.3. Exclusion of Communication Charges from Export Turnover and Total Turnover for Section 10A Deduction:The A.O. excluded communication charges from the export turnover while calculating deductions under Section 10A. The CIT(A), following various judicial precedents, directed the A.O. to exclude these charges from the total turnover as well. The Revenue's appeal against this direction was dismissed by the Tribunal, which upheld the CIT(A)'s decision as it aligned with the decisions of the Coordinate Bench and the Bombay High Court.Conclusion:The Tribunal dismissed the Revenue's appeal and allowed the assessee's appeal for statistical purposes. The Tribunal directed the A.O./TPO to exclude the seven comparables objected to by the assessee and rework the ALP. The Tribunal also instructed that the assessee should be given an opportunity to make submissions on risk adjustments/working capital adjustments before finalizing the order. The Tribunal's decision was pronounced in the open court on 19.11.2014.