TaxTMI 
TaxTMI 
2014 (11) TMI 849
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.... 10B of the Act, respectively/ 2. The learned AO has erred in law and in facts by disregarding the methodology adopted by Appellant in allocating the common/indirect costs among its various business segments. 3. The learned AO has erred in law and in fact, in disallowing the software expenses incurred amounting to Rs. 77,82,476 which were in the nature of 'reimbursements' and hence no taxes were required to be deducted in relation to such payments made. 2. The assessee is a company. It is engaged in the business of rendering software development services, besides marketing and sales support services, management services, etc. The assessee was entitled to claim deduction u/s. 10A and 10B of the Act. While computing the eligible deduction, the AO reduced from the export turnover communication expenses in the nature of lease line charges and internet charges from the export turnover. According to the assessee, such exclusion is not contemplated by the provisions of Explanation 2 (iv) to section 10A of the Act, which defines 'export turnover'. The assessee made an alternative prayer that in the event of such charges being excluded from the export turnover, the same....
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....after due application of mind during the course of assessment proceedings and passing of the order. 6. However, from AY 2008-09 onwards, the AO disregarded the methodology adopted by the assessee to allocate the common expenses among its business segments. The AO has reallocated the common expenses on the basis of the revenue (turnover) of each of the business segments (excluding the product replacement services segment as no common expenses are allocable as the entire operations of this segment having been outsourced). The AO, while adopting the turnover/revenue basis for apportionment of common expenses was of the view that the same is adopted for the sake of continuity as well as to follow commonly accepted and royal method to distribute the expenses. Further, the AO has opined that the revenue method has been held to be much superior to the head count method in as much as it takes care of all issues and revenue generating activity including asset base, marketing effort, complexity of the business, value creation and profitability of each individual segments of the business of the Assessee. 7. The DRP confirmed the action of the AO. 8. At the time of hearing, it was bro....
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....said case, the Hon'ble High Court held that the assessee's contention therein that in the service industry head-count method would be more proper is a plausible view though it could possibly be a debatable view. It was held that merely because there can be more than one method of apportioning common expenses between STPI and domestic unit, it cannot be said that the method of head-count followed by the assessee should be discarded that too midway even though it was not questioned at any time in the past. While referring to the observations of the Hon'ble Supreme Court in the case of Hukumchand Mills, the Hon'ble High court observed that where alternative methods of apportioning of expenses are recognized and there is no statutory or fixed formula, the endeavour can only be towards approximation without any great precision or exactness and if such is the endeavour, it can hardly be said that there is an attempt to distort the profits. Thus it can be seen that where two basis of apportionment are available, following one of the basis consistently is to be accepted. As the claim of deduction u/s 10A during the relevant assessment year is the 9th year in which the assessee is claiming ....
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....ure of 'reimbursements' and there is no element of profit involved in such transactions. 11. The AO noticed that the assessee had not deducted tax at source on payments made on software expenses which were claimed as revenue expenses. The assessee submitted that the software expenses were payments made by it to CSI and were reimbursements hence tax at source was not to be deducted. The AO however held that the absence of profit element in cross-charges as claimed by the Assessee was neither explained by assessee nor could it be independently verified and ascertained. The AO was of the view that as TDS has not been deducted on the revenue expenses claimed and therefore the said amount is liable for disallowance u/s.40(a)(ia) of the Income-tax Act. Thus a sum of Rs. 77,82,476/- being inter-company charges paid by the Assessee to CSI was accordingly brought to tax u/s.40(a)(ia) of the Act. The DRP confirmed the action of the AO. 12. At the time of hearing, a query was put to the ld. counsel for the assessee as to whether the debit notes raised by CSI for software purchase and the agreement for use of the software purchased from CSI were filed before the lower authorities and as ....
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....ALP) in respect of receipts by the Assessee from it's AE in respect of transaction of rendering software development services. In support of the claim of the Assessee that the price paid as above was at Arm's Length, the Assessee filed a Transfer Pricing analysis. The Assessee adopted TNMM as the most appropriate method. The Profit Level Indicator (PLI) chosen was Operating profit to operating cost. The assessee proposed 17 comparable companies out of which the TPO accepted 5 comparable companies and rejected the 12 comparables. On his own, the TPO selected 6 companies and arrived at a final set of 11 comparables and their operating margins as follows:- Sl. No. Name of the Comparable Sales (in Rs.) Cost (in Rs.) Margin 1. Kals Information Systems Ltd 2,14,04,686 1,87.93,813 l3.89% 2. Akshay Software Technologies Ltd. 12,23,21,483 11,31,49,350 8.11% 3. Bodhtree Consulting Ltd. 16,05,75,212 9,89,56,821 62.27% 4. R S Software (India) Ltd. 1,49,57,12,634 1,36,01,02,589 9.97% 5. Tata Elxsi Ltd. (segmental) 3,78,43,03,000 3,14,63,15,000 20.28% 6. Sasken Communication Technologies Ltd....
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....n rendered by the Bangalore Bench in the case of SAP Labs India Pvt. Ltd. v. ACIT, [2011] 44 SOT 156 (Bang). The assessee brought to the notice of the DRP that if the foreign exchange fluctuation is considered as income from operations, then the operating margins of the assessee would be as follows:- Margin computation for year ending March 31, 2009 Particulars As per TOP Considering forex as operating Income Income from software development services 9,65,43,04,981 - 9,65,43,04,981 Other income (forex gain) - 37,89,23,185 Operating Revenue ('OR') 9,65,43,04,981 10,03,32,28,166 Expenditure Segmental cost 890,42,73,643 8,90,42,73,643 Less: Interest cost 1,75,11,868 1,75,11,868 888,67,61,775 888,42,73,643 Add: Miscellaneous expenses 1,78,20,078 1,78,20,078 Operating Cost ('OC') 8,90,45,81,853 8,90,45,81,853 Operating Profit ('OP') 74,97,23,128 1,12,86,46,313 OP/OC 8.42% 12.67% 19. The DRP, however, did not agree with the submissions made by the assessee and it held as follows:- " ........ However, ....
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....ollows:- "13. The learned TPO/learned AO have erred, in law and in facts, by not treating foreign exchange fluctuation as being 'operating' in nature in computing the operating margins of the Appellant and the comparable companies." 22. The ld. DR placed reliance on the order of the DRP on this issue. 23. We have considered the rival submissions. In the course of hearing before us, the ld. counsel for the assessee also filed a segment wise break up of foreign exchange fluctuation gain, the same is given as Annexure-I to this order. It can be seen from the aforesaid chart given by the assessee that the total foreign exchange gain on account of realization of proceeds from debtors, taken to creditors, inter-company statements etc. was a sum of Rs. 179,01,08,756. Out of the above, the assessee on his own has excluded foreign exchange fluctuation on account of advances towards share capital charged to P&L account and foreign exchange fluctuation in the matter of purchase of fixed assets charged to P&L account. It is thus clear from the chart that a sum of Rs. 37,89,23,185 which was sought to be added as part of the operating income on rendering software development servi....
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....ed, it is not in dispute that in the list of comparables chosen by the assessee, this company was also included by the assessee. The assessee, however, submits before us that later on it came to the assessee's notice that this company is not being considered as a comparable company in the case of companies rendering software development services. In this regard, the ld. counsel for the assessee has brought to our notice the decision of the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. v. ITO, ITA No.7633/Mum/2012, order dated 6.11.2013. In this case, the Tribunal followed the decision rendered by the Mumbai Bench of the Tribunal in the case of Wills Processing Services (I) P. Ltd., ITA No.4547/Mum/2012. In the aforesaid decisions, the Tribunal has taken the view that Bodhtree Consulting Ltd. is in the business of software products and was engaged in providing open & end to end web solutions software consultancy and design & development of software using latest technology. The decision rendered by the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. (supra) is in relation to A.Y. 2008-09. It was affirmed by the learned counsel for the A....
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....om Pvt. Ltd. in ITA No.227/Bang/2010 has held that a company owning intangibles cannot be compared to a low risk captive service provider who does not own any intangible and hence does not have an additional advantage in the market. It is submitted that this decision is applicable to the assessee's case, as the assessee does not own any intangibles and hence Infosys Technologies Ltd. cannot be comparable to the assessee ; (ii) the observation of the ITAT, Delhi Bench in the case of Agnity India Technologies Pvt. Ltd. in ITA No.3856 (Del)/2010 at para 5.2 thereof, that Infosys Technologies Ltd. being a giant company and market leader assuming all risks leading to higher profits cannot be considered as comparable to captive service providers assuming limited risk ; (iii) the company has generated several inventions and filed for many patents in India and USA ; (iv) the company has substantial revenues from software products and the break up of such revenues is not available ; (v) the company has incurred huge expenditure for research and development; (vi) the company has made arrangements towards acquisition of IPRs in 'AUTOLAY', a com....
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....he following were the relevant observations of the Tribunal:- "(d) KALS Information Systems Ltd. 50. As far as this company is concerned, the contention of the assessee is that the aforesaid company has revenues from both software development and software products. Besides the above, it was also pointed out that this company is engaged in providing training. It was also submitted that as per the annual repot, the salary cost debited under the software development expenditure was Rs. 45,93,351. The same was less than 25% of the software services revenue and therefore the salary cost filter test fails in this case. Reference was made to the Pune Bench Tribunal's decision of the ITAT in the case of Bindview India Private Limited Vs. DCI, ITA No. ITA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. The relevant extract are as follows: "16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. The assessee has objected to its inclusion on the basis that functionally the company is not comparable. With referen....
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....he following reasons : (i) Tata Elxsi Ltd.,: The company operates in the segments of software development services which comprises of embedded product design services, industrial design and engineering services and visual computing labs and system integration services segment. There is no sub-services break up/information provided in the annual report or the databases based on which the margin from software services activity only could be computed. The company has also in its response to the notice u/s.133(6) stated that it cannot be considered as comparable to any other software services company because of its complex nature. Hence, Tata Elxsi Ltd., is to be excluded from the list of comparables. (ii) Flextronics Software Systems Ltd. : The learned TPO has considered this company as a comparable based on 133(6) reply wherein this company reflected its software development services revenues to be more than 75% of the "software products and services" segment revenues. Flextronics has a hybrid revenue model and hence should be rejected as functionally different. Based on the information provided under "Revenue recognition" in its annual report, it can be inferred th....
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....oned by the taxpayer are the same and these were there in the earlier FY 2005-06, there is no reason why the taxpayer is objecting to it. How the company is functionally similar in the earlier FY 2005-06 but the same is not functionally similar for the subsequent FY 2006-07 even when no facts have been changed from the preceding year. Thus the taxpayer is arguing against this comparable as the company was not considered as a comparable by the taxpayer for the present FY 2006-07." 21. We have heard the rival submissions and considered the facts and materials on record. After considering the submissions, we find that Tata Elxsi and Flextronics are functionally different from that of the assessee and hence they deserve to be deleted from the list of six comparables and hence there remains only four companies as comparables, as listed below:" 32. Following the aforesaid decision of the Tribunal, we hold that M/S.Tata Elxsi Ltd. should not be regarded as a comparable. 27. LIST OF COMPANIES WHICH WERE CHOSEN AS COMPARABLE BY THE ASSESSEE, BUT WHICH WERE REJECTED AS COMPARABLE BY THE TPO, WHICH THE ASSESSEE WANTS TO INCLUDE IN THE LIST OF COMPARABLE:- Evoke Technol....
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....Mercer Consulting (India) Pvt. Ltd. v. DCIT, ITA No.966/DEL/2014, wherein the Delhi Bench of the Tribunal, on the question of applying the filter of different accounting year of the comparable, observed as follows:- "R. Systems International Limited 20. The assessee included this case in a list of comparables. The TPO applied a filter of excluding companies whose data for the financial year 2008-09 was not available. As the data considered by R. Systems International Ltd. was for the year ending other than March, the TPO held that this case was not comparable. The assessee is contesting the exclusion of this case. 21 The ld. AR fairly conceded that R. Systems was following calendar year for maintaining its annual accounts and, as such, the assessee adopted data for 31.12.08 for including it in the list of comparables. It was, however, stressed that this case ought not to have been excluded on this count alone, when it was otherwise comparable. The ld. DR opposed this contention by placing reliance on certain decisions in which it has been held that if the data for the financial year of the comparable case similar to that of the tested party is not availab....
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....ition that an otherwise comparable company having a different financial year cannot be considered as comparable. But if the data relating to the financial year in which the international transaction has been entered into is directly available from the annual accounts of that comparable, then it cannot be held as not passing the test given under sub-rule (4) of rule 10B. In the case under consideration before the Mumbai Bench, there is no mention of the audited quarterly data of such comparable being available for consideration. It is quite natural that if the data of the financial year is not available or not capable of being directly deduced from the annual accounts of such company, then such case deserves to be excluded. If, however, the audited accounts of such comparable directly give the figures in such a manner that the data of the financial year in which the assessee has entered into an international transaction can be easily deduced, then there is no reason for excluding such an otherwise comparable case. 26. We find that R. Systems International Ltd. has been excluded by the TPO solely for the reason that its financial year is different without considering that th....
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.... the assessee, doing so was not proper. If all the employee costs are properly considered, then this company can pass the filter applied by the TPO for excluding it. (iv) We have considered the submission of the ld. counsel for the assessee and are of the view that prima facie the submissions of the ld. counsel are acceptable. We, however, feel that it would be just and appropriate to direct the TPO to consider including this company as a comparable afresh in the light of the facts brought to our notice by the ld. counsel for the assessee. We hold and direct accordingly. 33. The ld. counsel for the assessee also submitted before us that the assessee had sought for risk adjustments, but the same has not been considered by the TPO. In this regard, our attention was drawn to the following submissions made before the revenue authorities:- "17.1 The Appellant functions under a limited risk environment with most of the risk being assumed by its AE. The Appellant bears lesser limited business risks than independent comparable companies due to the nature of its revenue model as it is guaranteed profits by way of a mark-up on costs incurred, in provision of the software....
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....ves two vital preconditions. They are that difference in risk level exists between the tested party and the uncontrolled comparables; and that it is possible to calculate in terms of numbers the differences in risk so that adjustment can be made. But in case of the taxpayer, both the prerequisites are missing. Neither the difference in risk level of the tested parts and uncontrolled comparables has been established nor is it possible to convert the difference in risk level, if there is any. into numbers. If there is any difference. for a moment academically speaking, it rests in the realm of quality and not quantity. There is no reliable method to convert the qualitative difference into quantitative difference and to make adjustment on account of risk level. As per the provisions of Rule 10B(3), if any adjustment should be made, it should be reasonably accurate to eliminate the material effects of such differences. But in case of risk adjustment, neither reasonably accurate adjustment can be made for want of method to do so nor has it been established that there is a material effect that is affecting the comparisons due to risk level. If the taxpayer is suggesting that there exists....
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....f ALP is remanded to the TPO to be considered afresh in the light of directions given earlier. Thus, ground Nos.B 4 to 17 raised by the assessee are decided accordingly. 37. In ground Nos.B. 18 & 19, the assessee has challenged the addition made by the TPO which was confirmed by the DRP in the matter of determination of ALP in the spares replacement services transaction with the AE. 38. As far as these grounds are concerned, the factual aspects, as we have already seen, are that the assessee provides spares replacement services in relation to CSI products sold by affiliate in India. The assessee procures spare parts from CSI and supplies it to the channel partner/ customers in India. The product replacement services are provided through third party logistics services provider, who delivers the spare parts to customers/channel partners as and when required. The assessee is remunerated on a cost plus mark-up basis for provision of product replacement services. 39. In justification of the price it received, the assessee submitted as follows:- "4.2 Functions Buys spare parts from Cisco Keeps inventory Supplies to end customers at its own cos....
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.... Ltd. 2% 23. Speedy Multimodes Ltd. 37% 24. TM International Logistics Ltd. 10% 25. Deeksha Travels Pvt Ltd. 16% 26. DTDC Couriers & Cargo Ltd. 6% 27. Hindustan Cargo Ltd. 5% 28. Indo Arya Central Transport Ltd. 4% 29. Primier Road Carriers Ltd. 0% Average margin 7% As per the above analysis, the taxpayer claimed that its margins from the replacement services are at par with the comparables and hence should be accepted at arms length." 40. The TPO rejected the claim of the assessee for the reason that while doing the search process on the database, the assessee had considered itself as a logistic company and therefore comparability criterion adopted by the assessee was not proper. The TPO also rejected the TNMM as not suitable for determination of ALP insofar as it relates to the product replacement services segment of the assessee. The TPO adopted resale price method as the most appropriate method and finally determined the ALP as follows:- 4.12 Thus the following 2 companies have been considered as final comparables. Company Name Sales Trading Income Change in Stock ....
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.... 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 market and the adjusted price arrived at is taken to be an arm's length price in respect of the property transferred or services provided in the international transaction; Thus, it can be seen that in this method a comparison has to be with transaction of a comparable in an uncontrolled market conditions i.e with an unrelated third party in a free market. In the case before us, there is no such comparable uncontrolled transaction to be compared with the transactions of the assessee with its AE. Therefore, the CUP method is not applicable. (b) Resale Price Method (RPM) by which the price at which property purchased or services obtained by the enterprise from an associated enterprise is re-sold or are provided to an un-related enterprise (emphasis provided by us) is identified and such resale price is reduced by the amount of a normal gross profit margin accruing to the enterprise or to an unrelated enterprise from the purchas....
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.... any one transaction. These two methods cannot be made applicable to the facts before us. The only remaining method is the Transactional net margin method (TNMM)by which the net profit margin realized by an enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise and is compared to net profit margin realized by an unrelated enterprise from an uncontrolled transaction or a number of such transactions and the adjustments for the difference is made. The assessee has adopted the transactional net margin method, as the most appropriate method as seen above. We have already found that the other methods prescribed by Rules are not applicable to the facts of the case before and therefore, the TNMM method is the most appropriate method for computing the ALP relating to the international transactions of the assessee with its associated enterprise. 8. Coming to the next issue i.e selection of comparables, we find that the Rule-10B of sub-rule-2 & 3 clearly provides the criteria to be considered in selection of comparables. One of the import....
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....ssee has challenged the action of the revenue authorities in making an addition on account of determination of ALP in respect of administration and other support services transaction to its AE. The Transfer pricing analysis done by the Assessee in support of its claim that the consideration received from its AE for rendering administrative and other support services was at Arm's Length, contained the following details. In this segment related to ADMINISTRATION and support services, the Assessee provided certain administrative support services to Cisco Systems Services BV. The Assessee had also entered into an agreement with Cisco Systems Inc. USA for provision of certain management services. The taxpayer had selected 12 companies as comparables for the Administrative and other Support Segment and 14 companies for the Management Services on the basis of search conducted in the public databases Prowess and Capital line Plus.. The arm's length price of the international transactions provided to the associated enterprises (AE) was determined by applying transactional net margin method (TNMM), stating to be the most appropriate method in the facts and circumstances of the case. The oper....
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....done by the assessee was not accepted. 45. The FAR analysis done by the Assessee in its TP Study described the nature of services performed by the Assessee as reproduced below:- "Administrative Support Services: Cisco India provides certain administrative support services to Cisco Systems Services BV, India Branch office pursuant to Administrative Support Services Agreement entered into. The services provided are primarily in the nature of finance, treasury, risk management, legal, general, administration and other similar activities, human resource and employee related activities, MIS and related activities etc. in relation to the services provided. Cisco India is remunerated on a cost plus basis. Management Support Services: Cisco India has entered into an agreement with Cisco Systems Inc. USA for provision of certain management services in the nature of strategic oversight of sales organization, setting direction for individuals and their teams within the organization in terms of market, product arid services, customer segments, sales support for strategic or high value customers, support services such as legal and finance etc. In rel....
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....iable and correct. The provisions of Sec. 92C(3)9(C ) were invoked by the TPO and the document of the Assessee was rejected. 48. The TPO thereafter carried his own search of the database 'Prowess'. The search word used by the TPO was "non-financial services/ technical consultancy, rendering services, customer care, advertising". Apart from the filters applied by the assessee in adopting its TP analysis, the TPO adopted the following additional filters:- 1. Companies whose data were not available for F.Y. 2008-09 were excluded. 2. Companies whose income were less than 1 crore were excluded. 3. Companies where the service income is less than 75% of the total operating revenue were rejected. 4. Companies where related party transactions were more than 25% were excluded. 5. Persistent loss making companies for 3 years were excluded. 6. Companies with different financial year were excluded. 7. Companies which were functionally different were excluded. 8. Companies whose financial results were effected by taking economic circumstances and which were having diminishing revenue were also excluded. 49. By ad....
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.... as transfer pricing adjustment u/s. 92CA in respect of taxpayer's international transactions. 9.2 Management Segment Operating cost in respect of exports 1136594862 Total arms length sales @ 124.11% of operating cost as discussed above 141,06,27,883 Actual sales price received 1250254745 Adjustment u/s. 92CA 16,03,73,138 The amount of Rs. 16,03,73,138/- is treated as transfer pricing adjustment u/s. 92CA in respect of taxpayer's international transactions." 51. The addition suggested by the TPO by way of adjustment to the ALP was incorporated by the AO in the draft assessment order. The assessee filed objections to the draft assessment order of the AO incorporating the directions of the TPO. Major objection raised by the Assessee before DRP and also before the Tribunal was: (1) That in relation to the international transaction pertaining to provision of administration support services by the Assessee to CSS BV - India Branch Office, which was assessed to tax in India, the TPO did not make any adjustment in the hands of CSS BV - India BO for the same transaction. Hence the TPO has adopted an inconsistent approach by....
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....ata of the said comparable company relevant to the financial year of the tested party can be culled out and are available in the public domain. 53. Apart from the above, objections were raised with regard to the mode of rejection and acceptance of comparables adopted by the TPO. The DRP in its order did not deal with all these objections, but nevertheless confirmed the order of the TPO. 54. Before us, the ld. counsel for the assessee reiterated the submissions as were made before the DRP. With regard to the comparables chosen by the assessee which were rejected by the TPO and the comparables which were ultimately selected by the TPO, objections were put forth. 55. The ld. DR placed strong reliance on the orders of the TPO and the DRP. 56. We have considered the rival submissions. The major argument put forth by the assessee before the Tribunal was that the administration support service and marketing support services were rendered by the assessee to one of its AEs, CSS BV - India BO. The said AE was assessed to tax in India as it had a PE in India. In such assessment in the case of the AE, this transaction was accepted without any adjustment. Besides the above, it was p....
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....e regarded as a comparable as the functions performed are entirely different. Office Care Services Ltd.: This company renders house keeping maintenance work and manpower support services, which are not akin to the nature of services performed by the assessee and therefore was rightly rejected by the TPO. Forbes Facility Services Pvt. Ltd.: This company renders to its holding company mechanized house keeping and providing integrated facility services. The nature of the industry being different and the nature of services to be performed being routine upkeep of products sold, it cannot be considered as comparable with that of the assessee. Competent Automobiles Company Ltd.: This company is in the automobile sector. The assessee has taken the segmental results of the services and spare parts division. In our view, this company cannot be considered as a comparable. DLF Services Ltd.: This company is a group company of DLF Ltd. and is in the business of providing services facility management to clients of commercial complexes. In our view, the industry is different and the nature of services performed is also different and therefore, rightly rejected ....
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....d this company, therefore, cannot be considered for the purpose of comparison. I C R A Management Consulting Ltd.: This company is a management and development consulting firm. For want of proper details, it is not possible to ascertain the exact nature of services rendered by this company and therefore was rightly rejected by the TPO as not comparable. I C R A Techno Analytics Ltd.: This company is a group company of ICRA Ltd. and engaged in software development and consultancy services, engineering services, web development and hosting. It is the claim of the assessee that this company diversified itself into the domain of business analytics and business process outsourcing. In our view, this company cannot pass the test of functional comparability and was rightly rejected by the TPO. KPMG India Pvt. Ltd.: For want of financial statements, this company was rightly rejected as comparable by the TPO. Larsen & Toubro Infotech Ltd.: This company is a global IT service and solutions provider and cannot be regarded as a comparable. Mahindra Consulting Engineers Ltd.: This company is engaged in providing infrastructure consulting. In our view....