TaxTMI 
TaxTMI 
2013 (8) TMI 812
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....e alleged difference in the arm's length price of the 'international transaction' of (i) provision of software services, and (ii) marketing support services, on the basis of the order passed under section 92CA(3) read with section 144C(5) of the Act by the Transfer Pricing Officer ("the TPO"). 2.1. That the assessing officer / DRP erred on facts and in law in disregarding the internal benchmarking undertaken by the assessee for determining the arm's length price of the international transactions applying TNMM on the ground that (i) the transactions undertaken with unrelated party at 20.60% of the total revenue, is lower than the quantum of transaction undertaken with associated enterprises, hence, it does not provide a robust measure of comparability, and (ii) internal benchmarking was adopted to gloss over the entity level loss. 2.2. That the assessing officer/DRP erred on facts and in law in evaluating the international transactions applying TNMM at entity level by comparing the net operating profit margin of the assessee with uncontrolled net operating profit margin of comparable uncontrolled enterprises. 3. That the assessing officer/DRP erred on facts and in law in holding ....
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....ant previous years. Since an internal comparables were available for benchmarking the international transactions of provision of software design and development services, the appellant applied Transactional Net Margin Method ("TNMM") as the most appropriate method and considered internal comparables for applying TNMM. The result of the benchmarking analysis, as aforesaid, is tabulated as under: Onsite software development services 7.55% -9.29% Offshore software development services -50.81% -56.73% 3.4. In respect of the international transactions of rendering onsite software development services to the associated enterprise, the appellant earned operating profit margin (OP/TC) of 7.55%, the average operating profit margin of (-) 9.29% earned on similar transactions with unrelated parties, such international transactions were considered to be at arm's length. 3.5. While rendering offshore software development services to the AE, the appellant earned operating profit margin (OP/TC) of (-) 50.81% as against average operating profit margin of (-) 56.37% on similar transactions with unrelated third parties. Accordingly, the international transaction of provision of software desi....
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....d by the appellant to gloss over entity level loss. 3.10. The Dispute Resolution Panel (DRP), affirming the conclusions of the TPO, held that "in view of DRP, internal comparables can be used but only if they provide a correct measure of comparability. If the transaction with non AEs constitutes a minor share of 20.60% of total transaction it cannot provide a robust measure of comparability as considerations other than market factors can be embedded in it." 3.11. The TPO has, instead, undertaken the benchmarking analysis applying TNMM considering external comparables. The TPO, for application of TNMM, carried out a fresh search of comparables and applied additional filters, e.g., wages/ sales ratio, persistent losses, declining operating profit and onsite revenue filter for selection or rejection of external comparable companies. 3.12. The TPO, considering average operating profit margin (OP/OC%) of 25 external comparable companies at 24.31% (after working capital adjustment) as against a loss of 6.53% of the appellant, computed an adjustment of Rs. 3,80,75,810 allegedly on account of difference in international transactions of rendering of software development services. 4. Aft....
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....harged by the appellant, as under: Nature of service Per Man Month rate paid to appellant Per Man Month rate paid to unrelated party Software Development USD 3834 3700 (till 31.12.2007) USD 4000 (01.01.2008 onwards) USD 3700 (Up to December, 2010) 4.5. Since price paid by Hughes Network Systems Inc. to the appellant (USD 3700-4000) is higher than the price paid to unrelated parties, i.e. Aricent Technologies India Limited (USD 3700) for the offshore software development services, the international transaction of provision of offshore software development services undertaken by the appellant with its associated enterprise too are to be regarded as at arm's length applying CUP method. Transfer Pricing adjustment of Rs. 9,12,80,860 in respect of international transactions of payment of marketing and management support services: 4.6. In order to rebut the conclusion arrived at by the TPO, the appellant by way of additional evidence in terms of application dated 18- 01-2013 under rule 29 of the ITAT Rules, has placed on record, the following: (i) Affidavit of Mr. Ajay Gupta, Vice President (Sales & Marketing) of Hughes Sytique Corporation, USA ('HSC, USA') declaring the work p....
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....applied. 6.2. Rule 10B(1)(a) of the Income-tax Rules ("the Rules") provides that for application of CUP, the price charged or paid for services provided in a comparables uncontrolled transaction or a number of such transactions are to be compared with price charged from international transaction undertaken by the enterprise (tested party) from the international transaction undertaken with an associated enterprise. Rule 10B(1)(a) of the Rules reads as follows: "10B. (1) For the purposes of sub-section (2) of section 92C, the arms length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely: (a) comparable uncontrolled price method, by which, (i) the price charged or paid for property transferred or services provided in a comparable uncontrolled transaction, or a number of such transactions, is identified; (ii) such price is adjusted to account for differences, if any, between the international transaction and the comparable uncontrolled transactions or between the enterprises entering into such transactions, which could materially affect the price in the open mark....
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....of those inputs, there is no good reason to resort to transactional profit methods. It would thus follow that in a situation in which the assessee has followed one of the standard methods of determining ALP, such a method cannot be discarded in preference over transactional profit methods unless the revenue authorities are able to demonstrate the fallacies in application of standard methods. In any event, any preference of one method over the other method must be justified by the Transfer Pricing Officer on the basis of cogent material and sound reasoning. Let us, in the light of this factual position, revert to the facts of this case." 6.7. Reliance in this regard is also placed on the decision of Mumbai Bench of Tribunal in the case of Serdia Pharmaceuticals (India) Private Limited vs. ACIT (ITA No. 2469/3032/2531 of Mum), wherein the Hon'ble Tribunal while dealing with the priority of application of methods, has held as under: "64......... as long as CUP method can be reasonably applied in determining the arm's length price of an international transaction in a particular fact situation, and unless another method is proven to be more reliable a method vis-à-vis the fact ....
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....h as the local factors and the economies available or unavailable to the appellant in particular, having bearing over the comparison of price charged from unrelated parties and AE." 6.10. In case of the appellant, it would be appreciated, the most direct comparison has been provided by way of comparable uncontrolled transactions entered into by the associated enterprise with unrelated parties, in India, for rendering similar software development services. The aforesaid internal comparison undisputedly provides the most reliable and direct benchmark for establishing the arm's length price of such international transactions of rendering software development services entered into by the appellant. Therefore, in the case of the appellant, CUP could appropriately be applied considering internal comparable uncontrolled transactions entered into by the appellant with unrelated parties. 6.11. The TPO was not justified in ignoring the aforesaid comparable uncontrolled transactions placed on record and instead embarking upon a less direct benchmarking exercise by resorting to comparison of profits of external comparables. Without prejudice rejection of internal TNMM by the TPO: 6.12. Rul....
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....ethods. This similarity means that in order to be applied reliably, the transactional net margin method must be applied in a manner consistent with the manner in which the resale price or cost plus method is applied. This means in particular that the net margin of the taxpayer from the controlled transaction (or transactions that are appropriate to aggregate under the principles of Chapter I) should ideally be established by reference to the net margin that the same taxpayer earns in comparable uncontrolled transactions. Where this is not possible, the net margin that would have been earned in comparable transactions by an independent enterprise may serve as a guide. A functional analysis of the associated enterprise and, in the latter case, the independent enterprise is required to determine whether the transactions are comparable and what adjustments may be necessary to obtain reliable results". (emphasis supplied) 6.14. The revised OECD Transfer Pricing Guidelines issued on 22nd July, 2010, too, recommended the use of internal comparable data for benchmarking analysis, as under: "C.3.4.4 Reliance on data from the taxpayer's own operations ("internal data"): 2.141 "Where compa....
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....dinate bench of Delhi Tribunal in the case of Destination of the World vs. DCIT [ITA No 5534/Del/2010] and Interra Information Technologies India (P) Ltd. Vs. DCIT (ITA No. 5568&5680/Del/2011), too, held that transfer pricing analysis should be done by taking recourse to internal uncontrolled transactions. (iv) Reliance is also placed on the decision of Hon'ble Mumbai Bench of the Tribunal in the case of UCB India (P) Ltd. v ACIT 30 SOT 95 (Mumbai). 6.16. The TPO rejected the internal benchmarking carried out by the appellant disputing the comparison in relation to volume/quantum of transactions with related and unrelated parties, holding that such unrelated party transactions constituted minor share of 20.30% of the total revenues and, therefore, did not provide robust benchmark. 6.17. In the case of the appellant, the revenue derived from unrelated party transactions at 20.30% of the aggregate revenue of the appellant, cannot be the reason for disregarding internal comparability analysis undertaken by the appellant. It would be appreciated that the appellant in the course of its business enters into several software development contracts of small volume. In other words, aggreg....
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.... (b) obtains customers and solicit orders and sell the appellant's products/ services, its licenses and services. (c) Rendering of strategic and leadership services to the appellant, i.e. performing regular reviews of operations of the appellant and including reviewing of financial statements, staffing status, cash flow requirement, facilities management, etc. (d) Formulation of business strategies for the appellant and supporting the appellant in the execution of the business strategy. (e) Assisting appellant in maintaining the goodwill of customers, keeping customers informed on contract progress, identifying and resolving customers concerns about products/ services, monitoring and reporting on customer satisfaction to the appellant. (f) Monitoring and expediting the receipt, customs clearance, transportation and installation of products. (g) Notifying the appellant of any claim/ litigation involving products/ services 6.24. In terms of the arrangement with the appellant, the aforementioned costs are charged out on cost plus 7% basis to the appellant. The benefit of entire cost incurred by the AE, viz., HSC USA, is to be derived by the appellant. The appellant, accordingly,....
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.... whole after considering TPO's reasons and our own analysis, DRP concurs with the disallowance made by the TPO." Assessee's contentions on AO & DRP order: 8. There is no bar under the Act to have transactions with the group companies and the querist is free to conduct business in the manner most suitable to it and the commercial or business expediency of incurring any expenditure is to be seen from the assessee's point of view. It is also a settled law that it is the prerogative of the businessman to organize its affairs in a manner best suited to it and the revenue authority cannot step into the shoes of the businessman. 8.1. It is further submitted, that the assessee is free to conduct business in the manner that assessee deems fit and the commercial or business expediency of incurring any expenditure is to be seen from the assessee's point of view. Attention in this regard is invited to the following decisions: - CIT vs. Malayalam Plantations Limited: 53 ITR 140 (SC) - CIT v. Walchand & Co. etc. (1967) 65 ITR 381 - J K Woollen Manufacturers v. CIT: 72 ITR 612(SC) - CIT v. Birla Cotton Spg. And Wvg. Mills Ltd.: 82 ITR 166 (SC) - Madhav Prasad Jatia v. CIT U.P.: 118 ITR 20....
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.... not contemplated or authorised." 8.4. The Tribunal in the case of M/s. Ericsson India Pvt. Ltd. vs. DCIT (ITA No. 5141/Del/2011), too, following the law laid down by the Hon'ble jurisdictional High Court, held that "..... it would be wrong to hold that the expenditure should be disallowed only on the ground that these expenses were not required to be incurred by the assessee......." 8.5. In the case of Dresser Rand India Pvt. Ltd. vs. Addl. CIT (ITA No 8753/Mum/2010) the Hon'ble Mumbai bench of the Tribunal, while dealing with similar management fee paid to the associated enterprise held that benefits derived by the assessee is not a relevant criteria for determination of arm's length of an expenditure incurred by the assessee. 8.6. Further, in the case of LG Polymers India Pvt. Ltd vs Addl. CIT (ITA No 524/Vizag/2010), the Hon'ble Visakhapatnam Bench of the Tribunal held as under "13. We agree with the views of the Learned A.R on this issue. As submitted by him, it is the prerogative of the assessee to regulate its business affairs and it is not open for the department to question the same. Similar views have been expressed by the Hon'ble Supreme Court in the case of Dhanrajg....
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.... the appellant is inter-facing the customers and soliciting the software development business. The associated enterprise has the necessary contacts and network to reach the customers to get the business for the appellant. The appellant on the other hand does not have any other person or network and therefore depends solely on HSC USA for selling the products and services of the appellant. 9.2. Assessee does not have any sales or marketing office outside India and therefore the entire third party business of the appellant is generated as a result of the market support services provided by HSC, USA. During the relevant financial year the business of the appellant from unrelated third parties has increased to almost Rs. 10 cr from Rs 2.97 cr. The increase in revenue of more than 3 times of the revenue of immediately preceding year is pursuant to the significant marketing activity undertaken by HSC, USA. (ii) Whether the price paid for such services satisfies the arm's length test: 10. The associated enterprise, HSC USA, does not undertake any business activity of its own and was created solely for the purpose of rendering marketing and aforesaid management support services to the a....
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....also all input / output devices including printer, monitor and other devices, etc. Reference is made to CIT vs. IBM World Trade Corporation : 130 ITR 739 (Mum). 11.3. Further, the issue stands covered by the decision of Special Bench of Mumbai Tribunal in the case of DCIT vs. Datacraft India Ltd. (2010) 6 Taxman.com 85 and Delhi High Court in the case of CIT v. BSES Rajdhani Powers LLD.: ITA 1266/2010, wherein, depreciation at a higher rate of 60% on computer accessories and peripherals were allowed. 11.4. Therefore, UPS and other computer accessories should not be termed as plant and machinery and should be allowed depreciation @60% i.e. at the computer equipment rates. Accordingly, the disallowance of Rs. 14,95,560 calls for being deleted. 12. Ground of appeal Nos. 5 is consequential 13. Ld. CIT(DR) Shri Piyush Jain supported the orders of AO and DRP on all these issues. Alternatively it is pleaded that if additional evidence is sought to be admitted, in that case it will be desirable that TPO also considers the same. Thus, the matter may be set aside. 14. We have heard rival contentions and perused the material available on record. Firstly, we should adjudicate whether the ....