Cost allocation method based on headcount for support services upheld following consistency principle from prior year

The ITAT Delhi upheld the cost allocation method based on headcount for support services, following consistency principle from assessee's own case for AY 2017-18. Regarding intangible assets depreciation, the tribunal allowed assessee's additional ground for depreciation at 25% on written down value of intangible assets, directing the AO to grant depreciation following the tribunal's earlier order in AY 2010-11 that had modified CIT(A)'s decision on valuation of intangible assets including customer contracts and assembled workforce.

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1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered in the appeal are:

(a) Whether the Assessing Officer was justified in disallowing support services costs amounting to INR 9,58,81,838 by changing the cost allocation methodology from headcount ratio to salary expenses ratio for the Assessment Year 2019-20;

(b) Whether the cost allocation key based on headcount ratio, as accepted by the Transfer Pricing Officer and upheld in earlier years, should be disturbed for the year under consideration;

(c) Whether the assessee is entitled to claim depreciation allowance on intangible assets acquired in FY 2009-10, specifically relating to customer contracts and assembled workforce, in the impugned assessment year, consequent to the Tribunal's earlier order for AY 2010-11.

2. ISSUE-WISE DETAILED ANALYSIS

Issue (a) and (b): Disallowance of support services cost by changing cost allocation methodology

Relevant legal framework and precedents: The dispute arises under the Income Tax Act, 1961, specifically sections 143(3), 144C(13), and 92CA relating to scrutiny assessment and transfer pricing. The principle of arm's length price (ALP) and appropriate cost allocation methodology under transfer pricing regulations are central. The Tribunal refers to precedents including CIT vs EHPT India Private Limited (350 ITR 41), Orange Business Services India Solution Pvt Ltd vs DCIT, and Cable and Wireless India Ltd vs DCIT, which upheld the appropriateness of the headcount ratio as a cost allocation key.

Court's interpretation and reasoning: The Assessing Officer (AO) disallowed INR 9,58,81,838 by substituting the headcount ratio with salary expense ratio for allocating shared costs, alleging the headcount method to be "inappropriate and wholly unscientific" and that costs were not allocated monthly as required. However, the Transfer Pricing Officer (TPO) had accepted the headcount ratio as ALP in the transfer pricing proceedings. The Dispute Resolution Panel (DRP) and the Tribunal noted that the issue is a legacy one, recurring in AYs 2017-18 and 2018-19, where the Tribunal had already held that the headcount ratio is an appropriate and accepted cost allocation key. The Tribunal emphasized the principle of consistency and noted that no change in facts or circumstances had been demonstrated to justify disturbing the earlier accepted methodology.

Key evidence and findings: The Tribunal relied on the TPO's acceptance of the headcount ratio, the AO's own acknowledgment of the similarity of facts across years, and the Tribunal's prior rulings on identical issues for AYs 2017-18 and 2018-19. The DRP's directions also confirmed that no fresh inquiry was warranted, and the AO was to pass a speaking order based on existing records.

Application of law to facts: The Tribunal applied the principle that once a cost allocation method is accepted as ALP by the TPO in transfer pricing proceedings, the AO cannot re-examine the same under the guise of allowability of expenses under section 37 of the Act. The Tribunal held that the headcount ratio is a sound and appropriate methodology, supported by judicial precedents, and disallowance based on salary expense ratio was unwarranted.

Treatment of competing arguments: The AO argued that the salary expense ratio was more scientific and accurate, and that the annual allocation blurred real-time figures. The assessee relied on prior Tribunal decisions and judicial precedents to support the headcount ratio. The Tribunal rejected the AO's arguments, emphasizing consistency, acceptance by the TPO, and lack of change in facts.

Conclusions: The Tribunal allowed the grounds challenging the disallowance and deleted the addition of INR 9,58,81,838, restoring the headcount ratio as the appropriate cost allocation key for the impugned year.

Issue (c): Claim of depreciation on intangible assets acquired in FY 2009-10

Relevant legal framework and precedents: The issue involves the classification of expenditure on acquisition of customer contracts and assembled workforce as capital expenditure and entitlement to depreciation under section 32(1)(ii) of the Income Tax Act. The Tribunal's earlier order for AY 2010-11 had held that the entire amount of INR 22,16,00,276 qualifies as intangible assets eligible for depreciation at 25%.

Court's interpretation and reasoning: The AO had earlier treated the expenditure as capital and allowed depreciation only on INR 16,05,41,276. The CIT(A) upheld this limited allowance. The Tribunal modified this to allow depreciation on the full amount. In the present appeal, the assessee claimed additional depreciation of INR 41,59,697 for the impugned year, based on the written down value of intangible assets recognized in AY 2010-11.

Key evidence and findings: The Tribunal relied on its own prior order for AY 2010-11 and consistent treatment of intangible assets acquired. The issue was admitted as arising from admitted facts and supported by the assessee's own case law for AYs 2017-18 and 2018-19.

Application of law to facts: The Tribunal applied the principle of consistency and the binding effect of its earlier order, directing the AO to grant the depreciation allowance accordingly.

Treatment of competing arguments: There was no dispute on the admitted facts. The AO was directed to comply with the Tribunal's earlier ruling.

Conclusions: The Tribunal allowed the additional ground and directed the AO to grant depreciation on the intangible assets as per the earlier order.

3. SIGNIFICANT HOLDINGS

"The cost allocation key on the basis of headcount should not be disturbed for the year under consideration."

"The cost allocation on the basis of 'headcount' has been affirmed to be an appropriate allocation key by the Hon'ble jurisdictional High Court... The same cannot be subjected to retest by the ld. AO in the peculiar facts and circumstances of the instant case, under the garb of examining the same in the context of allowability of deduction u/s 37 of the Act."

"No adjustment has been made on the impugned transactions in the hands of Genpact India Private Limited in AYs 2017-18 and 2018-19... In view of the aforesaid observations and respectfully following the judicial precedents... and also by following the principle of consistency, we hold that the cost allocation key on the basis of headcount should not be disturbed for the year under consideration."

"We direct the ld. AO to grant depreciation consequent to the order of the tribunal in AY 2010-11 and allow the additional ground raised by the assessee."

Core principles established include the binding effect of transfer pricing officer's acceptance of ALP methodology, the principle of consistency in tax assessments across years, and the recognition of intangible assets acquired in business combinations as eligible for depreciation under the Act. The Tribunal emphasized that the AO cannot revisit accepted transfer pricing methodologies under the pretext of expense allowability and that prior Tribunal decisions on identical facts are binding and must be followed.

Final determinations:

(i) The disallowance of INR 9,58,81,838 on account of support services cost by substituting headcount ratio with salary expense ratio is deleted;

(ii) The headcount ratio remains the appropriate and accepted cost allocation key for AY 2019-20;

(iii) The assessee is entitled to claim depreciation on intangible assets acquired in FY 2009-10 in the impugned year as per the Tribunal's earlier order for AY 2010-11.

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