TaxTMI 
TaxTMI 
2015 (3) TMI 267
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....nterprises ('AEs'). For Assessment Year 2006-07, the assessee filed its return of income on 30.11.2006 declaring total income of Rs. 48,54,821 after claiming deduction of Rs. 1,92,86,469 under Section 10A of the Act. The case was taken up for scrutiny. In the course of assessment proceedings, the Assessing Officer noticed that the assessee had, inter alia, received payments in excess of Rs. 15 Crores for providing software development services, the details of which are as under :- i) Rendering of Engineering & Software Development Services : Rs. 19,67,38,380. ii) Reimbursement of expenses (received) : Rs. 71,28,098. In view of the above international transactions entered into by the assessee, the Assessing Officer made a reference under Section 92CA of the Act to the Transfer Pricing Officer ('TPO') for determining the Arm's Length Price ('ALP') of these international transactions, after obtaining the approval of the CIT-III, Bangalore. The TPO vide order under Section 92CA of the Act, dt.30.10.2009 proposed a T.P. adjustment of Rs. 1,61,74,393 to the ALP of international transactions in respect of software development services rendered by the assessee. The Assessing Offic....
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.... appellant at the time of preparing the TP documentation. 3. The Hon'ble DRP / the ld. Assessing Officer have erred in upholding the TPO's action of determining the operating profit margin of the appellant at lower level at 10.72 percent and not accepting the computation of operating income and operating costs as carried out by the appellant. 4. The Hon'ble DRP / the ld. Assessing Officer have erred in law and in facts in upholding the TPO's action of selecting companies as comparable to the appellant despite such companies failing the test of comparability on some or all of the factors such as having related party transactions, different scale of operations, functional dis-similarity, differing product led revenues, differing asset base, risk profile etc. and failure of his own filters. 5. The Hon'ble DRP / the ld. Assessing Officer have erred in upholding the TPO's action of not providing appropriate working capital adjustment to the appellant and also ignoring the limited risk nature of the services provided by the appellant and upholding the conclusion of the ld. TPO that no adjustment on account of risk differential is required in determining the ALP. 6....
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....atter, the other grounds at S.Nos.1 to 3 and 5 to 7 are dismissed as infrctuous. 5.2 It is seen that the assessee in its T.P. Study, had adopted TNMM as the Most Appropriate Method ('MAM'), using the search processes Prowess and Capitative, and after applying certain filters, the assessee selected the following eight companies as comparables to it; the details of which are extracted and reproduced hereunder :- S.No. Company OP/TC % 1. Akshay Software 10.19 2. Dynacons Systems & Solutions Ltd. 4.44 3. IKF Technology 12.23 4. Powersoft GSL 20.76 5. Shree Tulsi Online.Com Ltd. 1.71 6. Softsell Technology Ltd. 2.17 7. Sunbeam Infotech 8.21 8. VJIL Consulting Ltd. 11.45 Total : 71.16 Arithmetic Mean (Average) 8.89 Since the assessee's net margin for transactions with its AEs computed at 14.00% was higher than the average net margin of the comparable companies, at 8.89%, the assessee concluded that its international transactions with its AEs was at Arm's Length and that therefore no T.P. Adjustment was required. 5.2 The TPO, while accepting TNMM as the MAM, rejected the assessee's T.P. Study and ....
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....Adjustments proposed by the TPO. Accordingly, the T.P. Adjustment upheld by the DRP was incorporated in the impugned final order of assessment. The assessee is now in appeal before us against the final order of assessment for Assessment Year 2006-07 passed under Section 143(3) r.w.s. 144C of the Act dt.11.10.2010. 5.5 In the appellate proceedings before us, the learned Authorised Representative of the assessee filed a chart explaining as to how some of the comparable companies chosen by the TPO are not comparable to the assessee in the case on hand. These are broadly :- i) for the reason that the turnover of those companies were beyond Rs. 200 Crores and therefore cannot be compared with the assessee, whose turnover is Rs. 19.67 Crores; ii) for the reason that certain comparables were functionally dis-similar and therefore not functionally comparable to the assessee; iii) for the reason that Related Party Transactions ('RPT') of some of the comparable companies during the period under consideration were in excess of 15% of its revenues and hence ought not to be included as comparables. The chart also cites the judicial pronouncements of various benches of the ITAT wh....
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....e TPO has applied a lower turnover filter of Rs. 1 crore, but has not chosen to apply any upper turnover limit. In this regard, it was submitted by him that under rule 10B(3) to the Income-tax Rules, it was necessary for comparing an uncontrolled transaction with an international transaction that there should not be any difference between the transactions compared or the enterprises entering into such transaction, which are likely to materially affect the price or cost charged or paid or profit arising from such transaction in the open market. Further it is also necessary to see that wherever there are some differences such differences should be capable of reasonable accurate adjustment in monetary terms to eliminate the effect of such differences. It was his submission that size was an important facet of the comparability exercise. It was submitted that significant differences in size of the companies would impact comparability. In this regard our attention was drawn to the decision of the Special Bench of the ITAT Chandigarh Bench in the case of DCIT v. Quark Systems Pvt. Ltd. 38 SOT 207, wherein the Special Bench had laid down that it is improper to proceed on the basis of lower....
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....nsidered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (sic) making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the various benches of the Tribunal, when companies which arc loss making are excluded from comparables, then the super profit making companies should also be excluded. For the purpose of classification of companies on the basis of net sales or turnover, we find that a reasonable classification has to be made. Dun & Bradstreet & Bradstreet and NASSCOM ....
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....ciated Enterprise. In the present case there is no dispute that the transaction between the Assessee and its AE was an international transaction attracting the provisions of Sec.92 of the Act. Sec.92C provides the manner of computation of Arm's length price in an international transaction and it provides:- that the arm's length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :- (a) comparable uncontrolled price method; (b) resale price method; (c) cost plus method; (d) profit split method; (e) transactional net margin method; (f) such other method as may be prescribed by the Board. (2) The most appropriate method referred to in sub-section (1) shall be applied, for determination of arm's length price, in the manner as may be prescribed: Provided that where more than one price is determined by the most appropriate method, the arm's length price shall be taken to be the arithmetical mean of such ....
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....it margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the 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 amount of net profit margin in the open market; (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the international transaction. (2) For the purposes of sub-rule (1), the comparability of an international transaction with an uncontrolled transaction shall be judged with reference to the following, namely:- (a) the specific characteristics of the property transferred or services provided in either transaction; (b) the functions performed, taking into account assets employed or to be employed and the risks assumed, by the respective parties to the transactions; (c) the contractual terms (whether or not such term....
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....n the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010) . Thus, companies having turnover of more than 200 crores have to be eliminated from the list of comparables as laid down in several decisions referred to by the ld. counsel for the assessee. Applying those tests, the following companies will have to be excluded from the list of 26 comparables drawn by the TPO viz., Turnover Rs. (1) Flextronics Software Systems Ltd. 848.66 crores (2) iGate Global Solutions Ltd. 747.27 crores (3) Mindtree Ltd. 590.39 crores (4) Persistent Systems Ltd. 293.74 crores (5) Sasken Communication Technologies Ltd. 343.57 crores (6) Tata Elxsi Ltd. 262.58 crores (7) Wipro Ltd. 961.09 crores. (8) Infosys Technologies Ltd. 13149 crores." 6.3.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of Triology E-business Software India Pvt. Ltd.(supra), we hold the aforesaid 6 companies listed at para 6.1 of this order should be excluded from the list of comparable companies as their turnover is in excess of Rs. 200 Crores. The Assessing Officer is accordingly directed to re-compute the arithmetic mean of the co....
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....isions. In the case of EMC Data (supra), it was held as under:- "16. As far as comparable companies at Sl.No.1 & 2 &19 of the chart of comparable companies chosen by the TPO at page-4 of this order viz., Aztec Software Limited and Geometric Software Ltd. (Seg.) and Megasoft Ltd., is concerned, it is not in dispute before us that the related party transaction in the case of companies exceeds 15% and in view of the decision of the Tribunal in the case of 24 X 7 Customer.Com Pvt. Ltd. in ITA No.227/Bang/2010, followed by this Tribunal in the case of Logica Private Ltd. (supra) wherein it was held that where the RPT exceeds 15%, such companies should not be taken as comparable companies. Following the said decision, we hold that companies at Sl.Nos. 1 & 2 & 19 referred to above of the list of the comparable companies chosen by the TPO be excluded from the list of comparable companies while working out the ALP." There is no dispute that RPT filter in the case of Megasoft Ltd. was 17.08%, that of Aztech Software Ltd. was 17.78% and that of Geometric Software Ltd. was 19.34%. Coordinate Benches of the Tribunal are consistently following 15% as cut off mark for applying the RPT filter. ....
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....e services company and not a software product company. Reliance was placed on the decision of Trilogy ebusiness Software (I) Pvt. Ltd. (supra). As per the ld. AR, same view was taken in EMC Data (supra) also. 8.7.1 Per contra, the ld. DR submitted that KALS Information Systems Ltd. could not be considered as a software product company. 8.7.2 We have perused the orders and heard the rival contentions. We find that KALS Information Systems Ltd. was considered as a software product company in both Trilogy e-business(supra) as well as EMC Data (supra). In these decisions, a host of companies, inter alia, including KALS Information Systems Ltd. were deliberated upon and held as under:- "12. The following were the relevant observations of the Tribunal on the aforesaid comparable companies in the case of Triology E-Business Software India Pvt.Ltd.(supra): "(d) KALS Information Systems Ltd. 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....
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....s company, the complaint of the assessee is that this company is not a pure software development service company. It is further submitted that in a Mumbai Tribunal Decision of Capgemini India (F) Ltd v Ad. CIT 12 Taxman.com 51, the DRP accepted the contention of the assessee that Accel Transmatic should be rejected as comparable. The relevant observations of DRP as extracted by the ITAT in its order are as follows: "In regard to Accel Transmatics Ltd. the assessee submitted the company profile and its annual report for financial year 2005-06 from which the DRP noted that the business activities of the company were as under. (i) Transmatic system - design, development and manufacture of multi function kiosks Queue management system, ticket vending system (ii) Ushus Technologies - offshore development centre for embedded software, net work system, imaging technologies, outsourced product development (iii) Accel IT Academy (the net stop for engineers)- training services in hardware and networking,enterprise system management, embedded system, VLSI designs, CAD/CAM/BPO (iv) Accel Animation Studies software services for 2D/3D animation, special effect, erection, game asse....
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.... assessee having relied on the decision of the Tribunal wherein it has been held that KALS is a software product company, unless the decision of a higher authority which is different from the one given by the coordinate Bench is shown by the revenue, it will not be possible to deviate from the view earlier taken by a coordinate Bench. Accordingly, we direct that KALS Information Systems Ltd. be excluded from the comparables. 8.8 Accel Transmatics Ltd.: Ld. AR raised similar contentions for exclusion of this company as was made in the case of KALS Information Systems Ltd. (supra). Ld. DR also raised similar objections. We find that Accel Transmatics Ltd. has also been considered as a software product company by this Tribunal in the decisions cited at para 8.7.2 above. Relevant part of the decision has been reproduced by us therein. Accordingly, we direct that Accel Transmatics Ltd. be excluded from the comparables. 8.9 Tata Elxsi Ltd.: Ld. AR submitted that this company was engaged in research & development which resulted in creation of Intellectual Property Rights and therefore was a software product company. Reliance was placed on the decision of coordinate Bench of the Trib....
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....id decision, we hold that Tata Elxsi has to be excluded from the list of comparable chosen by the TPO." 8.9.3 The assessee before us is not developing any niche product. As held by the coordinate Bench of the Tribunal (supra), Tata Elxsi Ltd. could not be considered as a software development company simplicitor. That Tata Elxsi Ltd. was functionally different, has been held by the coordinate Bench of the Tribunal in the case of Yodlee Infotech Pvt. Ltd. (ITA No.1397/Bang/2010 dated 15.2.2013) as well. We therefore direct that Tata Elxsi Ltd. be excluded from the comparables." 8.2.3 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of Agile Software Enterprises Pvt. Ltd. for Assessment Year 2006-07 (supra), we hold that the above mentioned three companies i.e. i) KALS Information Systems Ltd. ii) Tata Elxsi Ltd. (Seg). and iii) Accel Transmatics Ltd. (Seg.) should be excluded from the TPO's final list of comparables. The Assessing Officer is directed to re-compute the ALP of the assessee's international transactions after excluding these three companies. 8.4 R. Systems International Ltd. (Segmental). 8.4.1 In the proceedings befor....
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....olios that the customer does business in. Laying emphasis on this reply of the company, the learned Authorised Representative argued that the revenue of this company is essentially license fees received by the assessee for selling the software products which has been described as 'software development and customization services' in its accounts. The learned Authorised Representative contended that, in view of this, R Systems International Ltd. is a product company and different from any software development services company like the assessee and pleaded for its exclusion from the list of comparable companies. 8.4.5 Per contra, the learned Departmental Representative pointed out that the product development cost of Rs. 45.07 lakhs shown in the fixed assets constitutes only a miniscule portion of the fixed assets which aggregate to about Rs. 14 Crores and it is inconceivable that such a product could have generated revenues of Rs. 79.41 Crores to the company. The learned Departmental Representative further pointed out that this company itself has categorized revenue of Rs. 79.41 Crores out of its total revenues of Rs. 88.59 Crores as 'Software Development and Customisation Service....
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.... a component to claim that it can generate revenue of the order of Rs. 79.42 Crores for it to be characterized as a software product company. We find that in the factual matrix of the case, the learned Authorised Representative of the assessee could not demonstrate that the revenue of Rs. 79.42 Crores is mainly from license fees or product development. In these factual circumstances, we find no reason to contradict the finding of the TPO that this company is mainly into software development services and therefore its inclusion by the TPO in the list of comparables cannot be faulted. This finding of ours is in tune with the decisions in transfer pricing appeals decided by the coordinate benches of this Tribunal, wherein the status of this company as being a software development services entity was not disputed. In this view of the matter, we uphold the inclusion of this company as a comparable company by the TPO and consequently dismiss the assessee's grounds raised in this appeal in this regard. 9. Accordingly, the grounds raised by the assessee at S. Nos. 1 to 7 in respect of transfer pricing issues stand disposed off as indicated above. CORPORATE TAX ISSUES 10. Groun....