2025 (8) TMI 902 - AT - Income Tax

Assessee wins partial relief: exclude functionally dissimilar comparable; reassess two comparables after applying TPO filters and hearing opportunity

M/s. Dell International Services India Pvt. Ltd. Versus DCIT, Circle –2 (1) (1), Bangalore

M/s. Dell International Services India Pvt. Ltd. Versus DCIT, Circle –2 (1) (1), Bangalore - TMI 1. ISSUES PRESENTED and CONSIDERED 1. Whether the Transfer Pricing Officer (TPO) was justified in making a Transfer Pricing (TP) adjustment of Rs. 2,39,71,904/- in respect of international transactions for provision of Technical Support Services (TSS) to Associated Enterprises (AEs) by rejecting the TP study submitted by the assessee and selecting a different set of comparable companies. 2. Whether the TPO erred in including Quest Global Engineering Pvt. Ltd. as a comparable company despite the assessee's objection that it is functionally not comparable. 3. Whether the assessee's request for inclusion of DCM Ltd. (IT business segment) and Telecommunication Consultants India Ltd. (TCIL) as comparable companies should be accepted. 4. Whether the filters and criteria applied by the TPO in selecting comparable companies were appropriate and consistent with the legal framework under section 92CA of the Income Tax Act. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1: Legitimacy of the TP Adjustment and Methodology Adopted by the TPO Legal Framework and Precedents: The Transfer Pricing provisions under the Income Tax Act require that international transactions between Associated Enterprises be conducted at arm's length price (ALP). The Transaction Net Margin Method (TNMM) is an accepted method for determining ALP, with Operating Profit to Operating Cost (OP/OC) or Operating Profit to Total Cost (OP/TC) commonly used as Profit Level Indicators (PLI). The TPO's role under section 92CA includes verification and if necessary, revision of TP study submitted by the assessee, applying appropriate filters and comparables. Court's Interpretation and Reasoning: Both the assessee and the TPO applied TNMM but differed in choice of PLI (assessee used OP/TC; TPO used OP/OC), databases (Prowess and Capitaline), number and identity of comparables, and the financial periods considered. The TPO rejected the assessee's TP study citing inadequacies and applied his own filters to select six comparables, arriving at an average margin of 27.83%, substantially higher than the assessee's 11.75%. The TPO's adjustment of Rs. 2,39,71,904/- was based on this higher margin. Key Evidence and Findings: The assessee's TP study applied detailed filters including sales thresholds, R&D expenses, net fixed assets, net worth, forex earnings, and marketing expenses to select five comparables with an arithmetic mean margin of 11.75%. The TPO applied a different set of filters focusing on availability of financial data for FY 2013-14, segmental revenue composition, related party transactions, net worth positivity, loss history, export revenues, and FAR (Functions, Assets, Risks) analysis, selecting six comparables with an average margin of 16.99% (not 27.83% as initially stated, indicating possible typographical error in the judgment). The TPO's final arm's length price was computed applying 16.99% margin on operating cost, leading to the adjustment. Application of Law to Facts: The Tribunal noted that the TPO's methodology and filters were within the scope of section 92CA and the TNMM method is an accepted approach. The difference in PLI (OP/OC vs. OP/TC) was not found to be a material error. The TPO's selection of comparables was justified based on the financial and functional criteria applied. Treatment of Competing Arguments: The assessee argued that the TPO's selection of comparables was flawed and that the adjustment was excessive. The TPO and Revenue contended that the assessee's comparables were not functionally comparable and that the filters applied by the TPO were more appropriate. The Tribunal found the TPO's approach reasonable except for the inclusion of Quest Global Engineering Pvt. Ltd., which was separately addressed. Conclusion: The TP adjustment was generally upheld subject to reconsideration of comparable companies as per issues below. Issue 2: Inclusion of Quest Global Engineering Pvt. Ltd. as Comparable Legal Framework and Precedents: Functional comparability is a core requirement for selection of comparable companies in TP analysis. Differences in business activities, functions performed, risks assumed, and assets employed can render a company non-comparable. Court's Interpretation and Reasoning: The Tribunal examined the functional profiles of the assessee and Quest Global. The assessee provides post-sales technical support services for EMC products, including tele-call advisory, installation support, annual maintenance, and residency services involving skilled manpower deployed at customer sites. Quest Global, however, is engaged in engineering design and analysis services, including consulting in advanced technology areas such as gas turbines, power generation, and aircraft engines, which are distinct from the assessee's technical support services. Key Evidence and Findings: The assessee submitted detailed functional analysis and contended that Quest Global's single business segment and large scale operations differ materially from the assessee's service portfolio. The TPO's inclusion of Quest Global was based on segmental data but did not sufficiently consider functional differences. The Tribunal found that the functional profiles and business risks of Quest Global are not comparable to those of the assessee. Application of Law to Facts: Given the fundamental differences in nature of services and scale of operations, Quest Global does not meet the functional comparability criteria. Treatment of Competing Arguments: The Revenue argued that Quest Global was a suitable comparable based on segmental data and financial parameters. The Tribunal rejected this, emphasizing the primacy of functional comparability over purely financial metrics. Conclusion: Quest Global Engineering Pvt. Ltd. is to be excluded from the list of comparable companies used for TP adjustment. Issue 3: Inclusion of DCM Ltd. and Telecommunication Consultants India Ltd. (TCIL) as Comparables Legal Framework and Precedents: Inclusion of comparables requires that the companies be functionally comparable and meet the prescribed filters. Availability of segmental financial data and public domain information are relevant for verification. Court's Interpretation and Reasoning: The assessee sought inclusion of DCM Ltd. based on its IT services segment and TCIL based on its consultancy and service contracts segment, both argued to be functionally comparable to the assessee's technical support services. The TPO excluded these companies citing unavailability of relevant annual reports (in case of TCIL) and other filter criteria. Key Evidence and Findings: The assessee produced segmental details and annual reports for the relevant years, demonstrating that the IT services segment of DCM Ltd. and the consultancy segment of TCIL are comparable in nature to the assessee's services. The Tribunal noted that the TPO's exclusion of TCIL based on non-availability of annual reports for AY 2014-15 was factually incorrect as the report was available in the public domain and submitted by the assessee. Application of Law to Facts: The Tribunal held that the issue of inclusion of DCM Ltd. and TCIL requires fresh consideration by the AO/TPO applying the filters consistently and giving the assessee a reasonable opportunity to substantiate its claim with relevant documents. Treatment of Competing Arguments: The Revenue maintained that the companies did not meet the filters and were not comparable. The Tribunal directed reconsideration without pre-judgment. Conclusion: The AO/TPO is directed to reconsider the inclusion of DCM Ltd. and TCIL as comparables after affording the assessee an opportunity to file documents and make submissions. Issue 4: Appropriateness of Filters and Criteria Applied by the TPO Legal Framework and Precedents: The selection of comparables must be based on objective and reasonable filters consistent with the nature of the international transaction and the functions performed. The filters should be applied uniformly and transparently. Court's Interpretation and Reasoning: The Tribunal reviewed the filters applied by both the assessee and the TPO. The assessee's filters were more detailed and included criteria related to sales, R&D expenses, net fixed assets, net worth, forex earnings, and marketing expenses. The TPO's filters focused on availability of data for the relevant year, segmental revenue composition, related party transactions, net worth positivity, loss history, export revenues, and FAR analysis. Key Evidence and Findings: The Tribunal found that the TPO's filters were not disputed by the assessee during hearing and were reasonable in the context of the services rendered. However, the application of these filters must be consistent and supported by evidence, especially in relation to inclusion or exclusion of specific companies. Application of Law to Facts: The Tribunal directed that the AO/TPO apply these filters afresh in reconsidering the inclusion of DCM Ltd. and TCIL, ensuring procedural fairness and adherence to statutory mandates. Treatment of Competing Arguments: The assessee accepted the filters but sought inclusion of certain companies excluded by the TPO. The Revenue supported the TPO's filters and selection. The Tribunal balanced these views by ordering reconsideration. Conclusion: The filters applied by the TPO are appropriate but must be applied fairly and consistently in reconsideration of comparables. Final Disposition: The appeal is partly allowed for statistical purposes. The Tribunal excludes Quest Global Engineering Pvt. Ltd. from the list of comparables and directs the AO/TPO to reconsider the inclusion of DCM Ltd. and Telecommunication Consultants India Ltd. applying the filters and affording the assessee an opportunity to produce evidence.