2022 (2) TMI 1283 - AT - Income Tax

Transfer pricing selections set aside; recalculation of related-party ratios, segmental allocations; working-capital allowed; s.154 rectification ordered

M/s. Red Hat India Private Limited Versus Additional/Joint/Deputy/Assistant Commissioner of Income-Tax/ Income Tax Officer, National Faceless Assessment Centre, Delhi

ITAT (MUMBAI) set aside several comparable selections made by the TPO, excluding some and remitting others for fresh scrutiny with opportunity to be ... TP Adjustment - comparable selection - Subscription segment - HELD THAT:- Innovana Thinklabs Limited - when the Ld. TPO has himself applied this filter of turnover he cannot go against it and as such Innovana is not suitable comparable vis-à-vis assessee, hence ordered to be excluded. K7 Computing Pvt. Ltd. (K7) - Assessee is a limited risk reseller having no plant and equipments, owning no intangible assets, having no expenses on promotions and is not selling its product. So K7 is not a valid comparable vis-à-vis K7, hence ordered to be excluded. Service Segment - MT Education Services Pvt. Ltd. (MT) - When this comparable does not qualify Ld. TPO’s own turnover filters it is not a valid comparable vis-à-vis assessee, hence, ordered to be excluded. Assessee challenging the impugned rejection made by the Ld. TPO viz. Compucom Software Ltd. (segment), Chitale’s Personalised Learning Pvt. Ltd. and Anthena Eduspark Ltd - A.R. taken us to his detail search strategy available at page A1146 of the paper book where the word ‘royalty’ is not part of the search process. Moreover, when the assessee’s business morale has already been accepted by the Tribunal in assessee’s own case in earlier years rejecting comparable of the assessee without examining the same is not sustainable. So the Ld. TPO is directed to reexamine the comparables for benchmarking the international transactions qua service segment by providing opportunity of being heard to the assessee. Software Support Segment - Aspire System India Pvt. Ltd. (Aspire) - Assessee sought exclusion of Aspire from the final set of comparables for benchmarking SDS segment on the ground that it fails Related Party Transaction (RPT) filters as its RPT/ sales ratio is more than 25%. The assessee computed the significant related party transactions at 37.58% whereas the Ld. TPO computed it at 23.55%. The TPO is directed to recalculate the RPT/sales ratio by providing opportunity of being heard to the assessee. So this comparable is remitted back to the Ld. TPO to decide afresh. Interglobe Technology Quotient Pvt. Ltd. (Interglobe) - When the assessee has challenged filter applied by the Ld. TPO it has to be considered in the light of the financials of Interglobe by providing an opportunity of being heard to the assessee. This comparable is also remitted back to the Ld. TPO to decide afresh. Kelton Tech Solutions Ltd. (Kelton) - Since there is a no estopple against the statute the assessee can challenge its own comparable if wrongly chosen inadvertently. Since this comparable fails TPO’s own filter of export sales to total sales ratio it needs to be reconsidered by the Ld. TPO after providing opportunity of being heard to the assessee. So this comparable is also remitted back to the Ld. TPO to decide afresh after providing opportunity of being heard to the assessee. Nihilent Analytics Ltd. (Nihilent) - This company cannot be a valid comparable vis-à-vis assessee, who is a low risk entity working on cost + markup model. Hence, Nihilent is ordered to be excluded as a comparable. Nihilent Ltd. - As segmental financials are not available it cannot be a valid comparable vis-à-vis assessee which is a routine software development service provider working on cost + markup model, hence ordered to be excluded. Dun and Bradstreet Technologies & Data Services Pvt. Ltd. (Done & Bradstreet) - As perused a transfer pricing study of the assessee available at page A305, A412 & A413 of the paper book supported with relevant financials. Dun & Bradstreet is into providing vide area of sources such as D&B analytic services, risk management solutions, sales and marketing solution services, supply management solution etc. It has also come on record that the assessee has earned abnormally high margin of 58.19% as is evident from the annual report of Dun & Bradstreet and as such is not a valid comparable vis-à-vis assessee who is a routine software development service provider to its AE working on cost + markup model, hence order to be excluded. Infobeans is also ordered to be excluded as a comparable being not a comparable to the assessee. Maveric Systems Ltd. (Maveric) - TPO is directed to reconsider Maveric as a comparable in view of its segmental reporting and by bifurcating the turnover between product or service categories by providing opportunity of being heard to the assessee. SagarSoft India Ltd. (SagarSoft) - Since it is a factual aspect, which needs to be examined at initial level, Ld. TPO may verify the same to reconsider SagarSoft as a comparable after providing opportunity of being heard to the assessee. IT Enabled Support Services (ITES) Segment - Manipal Digital Systems Pvt. Ltd. (Manipal) - Since the assessee has relied upon information drawn from the website of the assessee and has not brought on record complete annual reports we direct the Ld. TPO to re-examine this comparable in the light of the objections raised by the assessee by providing opportunity of being heard to the assessee. MPS Ltd. (MPS) - Activities of MPS are akin to a IT service provider and not an ITES service provider. So we direct to exclude MPS from the final set of comparables. Claim for working capital adjustment in all the four segments - HELD THAT:- Assessee is entitled for working capital adjustment. The Ld. TPO is directed to verify the computation furnished in transfer pricing study and detailed working capital adjusted margin computation furnished by the assessee and accordingly provide the working capital adjustment to the assessee in view of the settled principle laid down by the Tribunal, in order to provide level playing field for assessee as well as comparable company. Claim for Proportionate Adjustment - HELD THAT:- We have perused the judgments rendered by the Hon’ble Bombay High Court in the case of Hindustan Unilever Ltd. [2016 (7) TMI 1245 - BOMBAY HIGH COURT] and Tara Jewels Exports Pvt. Ltd. [2015 (12) TMI 1130 - BOMBAY HIGH COURT] relied upon by the Ld. A.R. for the assessee which are on the identical issue. This settled legal position has not been controverted by the Ld. D.R. for the Revenue having been decided against the Revenue in number of cases by the Hon’ble Bombay High Court. The ratio of the judgment (supra) is “margin arrived at by the Ld. TPO to be applied to determine the arm’s length price also applied to the transactions entered by the assessee with non AE also, leading to the enhancement of sale consideration qua the transactions with non AE also which is not a level playing field”. So in order to arrive at the correct result proportionate adjustment needs to be extended to the AEs. So the Ld. TPO is directed to grant the proportionate adjustment Rectification of mistake - Correct working of adjustment for subscription and service segment - HELD THAT:- TPO shall dispose of the application moved by the assessee under section 154 of the Act after verifying the working brought on record by the assessee to arrive at the correct adjustment made in this case within a period of three months. Revenue recognition - unearned revenue qua subscription services - HELD THAT:- When due taxes have been deducted and paid to the Income Tax Authorities while making such payment to Red Hat US in terms of the agreement entered into between the assessee and the Red Hat US in accordance with the consistent revenue recognition policy adopted by the assessee, upheld by the Tribunal in assessee’s own case for earlier years, addition made by the Ld. AO/DRP on account of unearned revenue qua subscription services is not sustainable in the eyes of law. Addition on account of employee stock option plan (ESOP) expenses - AO proposed the disallowance on the grounds inter alia that assessee has failed to submit copies of email exchange, resolution of board of directors and minutes of meetings wherein the decision to cross charge was taken - HELD THAT:- Since it is the case of the assessee that the Ld. DRP has failed to appreciate the additional evidence brought on record by the assessee and the AO has failed to examine the “recharge agreement” and “internal memorandum prior to the execution of recharge agreement” and has never sought “valuation report” or the “incentive plan”, we are of the considered view that this issue is required to be remitted back to the AO to decide afresh after providing opportunity of being heard to the assessee. Issues Involved:1. Transfer Pricing Adjustments2. Corporate Tax Adjustments3. Deduction for Education and Secondary and Higher Education Cess4. Deduction for Contribution to Prime Minister’s National Relief Fund5. Levy of Interest under Section 234B6. Initiation of Penalty Proceedings under Section 274 read with Section 271(1)(c)Detailed Analysis:1. Transfer Pricing Adjustments:Subscription Segment:- The Tribunal found errors in the TPO's economic analysis, such as rejecting comparables and introducing new ones without valid reasons.- The Tribunal directed the exclusion of Innovana Thinklabs Ltd. and K7 Computing Pvt. Ltd. as comparables and instructed the TPO to reconsider nine comparables chosen by the assessee.Service Segment:- Similar errors were noted in the TPO's approach, leading to the exclusion of MT Education Services Pvt. Ltd. and the inclusion of three comparables after re-examination.Software Support Segment:- The Tribunal questioned the TPO's selection of comparables, directing the exclusion of seven and reconsideration of two comparables.IT Enabled Support Services Segment:- The Tribunal instructed the TPO to re-examine Manipal Digital Systems Pvt. Ltd. and exclude MPS Ltd. due to functional dissimilarity.Working Capital Adjustment:- The Tribunal ruled that the assessee is entitled to working capital adjustment and directed the TPO to verify the computations provided by the assessee.Proportionate Adjustment:- The Tribunal upheld the assessee's claim for proportionate adjustment, referencing the Bombay High Court's judgments in similar cases.2. Corporate Tax Adjustments:Unearned Revenue from Subscription Services:- The Tribunal found that the AO/DRP erred in not following the ITAT's earlier orders recognizing the assessee's revenue recognition policy under AS-9.- The Tribunal ruled in favor of the assessee, stating that the addition made by the AO/DRP on unearned revenue is not sustainable.Employee Stock Option Plan (ESOP) Expenses:- The Tribunal noted that the AO/DRP failed to appreciate additional evidence and directed a fresh examination of the issue.3. Deduction for Education and Secondary and Higher Education Cess:- The ground was dismissed as it was not pressed by the assessee during arguments.4. Deduction for Contribution to Prime Minister’s National Relief Fund:- The Tribunal directed the AO to decide the issue based on the evidence provided by the assessee, as it was a mistake apparent on record.5. Levy of Interest under Section 234B:- The Tribunal directed the AO to deal with the issue in accordance with the law, as it is consequential in nature.6. Initiation of Penalty Proceedings under Section 274 read with Section 271(1)(c):- The Tribunal found this ground premature and did not provide a finding.Conclusion:The Tribunal partly allowed the appeal for statistical purposes, directing the TPO/AO to re-examine several issues and comply with the directions provided. The Tribunal emphasized the need for a level playing field and adherence to established legal principles and precedents.