TaxTMI 
TaxTMI 
2013 (5) TMI 834
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....of the case and in law in confirming the order of the AO in reducing the expenditure incurred in foreign currency of Rs. 71,56,489/- and telecommunication expenses of Rs. 28, 1 0,371/- from export turnover while computing deduction under section 10A of the Act. 2.3 The AO ought to have appreciated that foreign travel expenditure was incurred on staff travel and not in connection with providing any technical services outside India and as such the same cannot be excluded from the export turnover. 2.4 The AO ought to have appreciated that telecommunication charges were not incurred for the purpose of delivery of software outside India and as such the same cannot be excluded from the export turnover. 2.5 The AO and learned DRP erred in facts and circumstances of the case and in law in not appreciating that foreign travel expenditure and telecommunication charges were not included as part of the export turnover and as such the same cannot be excluded from export turnover, while computing the deduction under section 10A of the Act. 2.6 Without prejudice to the above, the entire quantum of foreign travel expenditure and telecommunication expenses should not be reduced from the exp....
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....xport turnover'. Section 10B was first inserted by the Finance Act, 1988 with effect from the assessment year 1989-90. In the section as first inserted exemption was given to the entire profits and gains derived by the assessee from a hundred per cent export oriented undertaking. Detailed provisions were made in sub-section (4) as to the manner of computing the total income of the assessee for the purpose of granting the exemption. There was no definition of 'export turnover' or 'total turnover' because the exemption was not linked to any formula in which the export turnover and total turnover were the ingredients. The section was amended by the Finance Act, 1993 with retrospective effect from the assessment year 1991-92. A perusal of this Finance Act shows that the amendment made to the section is not in any way relevant for our purpose. The section was again amended by the Finance Act, 1994. Some amendments took effect from the assessment year 1994-95 and some of them took effect from the assessment year 1995-96. These amendments are also not relevant for our purpose. Thereafter amendments were made to the section by the Income-tax (Second Amendment) Act, 1998. These amendments a....
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....ined and what should be the ingredients thereof. It is to be noted that both in sections 10A and 10B, only the expression 'export turnover' is defined and there is no definition of the term 'total turnover'. 20. Section 80HHC is also a section which grants deduction in respect of profits retained for export business. Clause (b) of the Explanation below the section defines 'export turnover' as meaning the sale proceeds received in or brought into India by the assessee in convertible foreign exchange of any goods or merchandise which are exported out of India, but does not include freight or insurance attributable to the transport of the goods beyond the customs station as defined in the Customs Act, 1961. Clause (ba) inserted by the Finance (No. 2) Act, 1991 with retrospective effect from 1-4-1987 defined the term 'total turnover' and stated that it shall not include freight or insurance attributable to the transport of the goods or merchandise beyond the customs station as defined in the Customs Act. The proviso to this clause, which took effect from 1-4-1991 clarified that total turnover would also exclude the incentives referred to in the various clauses of section 28. In Circu....
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....la since otherwise it would produce anomalous or absurd results. This order was upheld by the Calcutta High Court in Chloride India Ltd.'s case (supra). Subsequently, a Special Bench was constituted in Calcutta in the case of IFB Agro Industries Ltd.(supra), consisting of three Members of the Tribunal since the Assessing Officer took the view in that case that the order of the Tribunal in the case of Chloride India Ltd. (supra) pertained to the assessment year 1986-87 in which year the expression 'total turnover' was not defined in the section whereas from the assessment year 1987-88 clause (ba) has been inserted in the Explanation defining 'total turnover' which excluded only freight or insurance and, therefore, sales-tax or excise duty cannot be excluded from total turnover. The order of the Special Bench in IFB Agro Industries Ltd.'s case (supra). The question before the Special Bench was whether the excise duty and salestax should be excluded from the total turnover "for the purpose of bringing parity between the numerator, viz., export, turnover and the denominator 'total turnover' in the said formula, inasmuch as export turnover does not include excise duty and the sales-tax ....
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....ales-tax which do not include an element of profit should be excluded from 'total turnover'." It would be seen that the ultimate decision of the Special Bench rested on the reason that anything which has an element of profit alone can be included in the total turnover. The Special Bench has also recognized that it is possible to restrict the general meaning of turnover considering the particular context of the statute under consideration. 21. A perusal of the judgment of the Bombay High Court in Sudarshan Chemicals Industries Ltd.'s case (supra ) shows that not only did the High Court hold that excise duty and sales tax cannot be included in the total turnover for the purpose of section 80HHC as they do not have any element of profit, but have also held that parity should be maintained between the export turnover and the total turnover which are the numerator and denominator respectively in the formula. This would be clear from the following observations of the court (at page 773 of the report) : "Further, the meaning of export turnover in clause (b) of the Explanation to section 80HHC, therefore, clearly shows that export turnover did not include excise duty and sales tax. T....
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....e of Sudarshan Chemicals Industries Ltd. (supra) and the Calcutta High Court in the case of Chloride India Ltd. (supra) were all of the view that parity should be maintained between the export turnover and the total turnover appearing in section 80HHC of the Act. 24. We now proceed to a consideration of the judgment of the Supreme Court in the case of LMW (supra). This case arose with reference to the assessment year 1993-94. The short point which arose for consideration before the Supreme Court was whether excise duty and sales-tax were includible in the total turnover which was the denominator in the formula contained in section 80HHC(3) as it stood at the relevant time. It must be remembered that clause (b) of the Explanation defined 'export turnover' as the sale proceeds received or brought into India in convertible foreign exchange, of any goods or merchandise exported out of India, but excluding freight or insurance attributable to the transport of the goods beyond the customs station. Clause (ba) defined 'total turnover' as not including freight or insurance attributable to the transport of the goods beyond the customs station. In this case the following propositions were ....
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....Bench of the Tribunal quoted above, we hold that the expenditure on foreign travel and telecommunication should be reduced both from the export turnover and the total turnover of the assessee. Hence, this ground of appeal of the assessee is allowed. 9. Ground No.3 of the appeal is directed against the order of the DRP confirming the order of the Assessing Officer in determining the Arm's Length Price (ALP) of international transaction of software development service by making upward transfer pricing adjustment of ` 5,23,19,210/-. 10. The brief facts of the case, as noted by the DRP, are that the assessee is a wholly owned subsidiary of M/s J&B Software Inc. USA. During the year J&B software Inc., USA and its subsidiaries were acquired by 3i Infotech. The assessee provides software development services to J&B Software Inc., USA and also to unrelated entities. The assessee is remunerated on hourly rate and fixed price basis depending on the project contract, and so the assessee had, as per its claim, had a very limited risk bearing software development service provider with respect to the transactions with AE's. During the year, the assessee had international transactions for `....
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....see in respect to its transactions with the AE. Further, the economic analysis for the determination of the ALP was undertaken in accordance with the provisions of the Act, read with the Rules. Based on the transfer pricing study, it was concluded that the price received by the assessee with respect to its international transactions with AEs were consistent with the arm's length principles. Though the comparability analysis undertaken by the assessee was based on well accepted transfer pricing principles, the assessee submitted, it was inappropriate on the part of the TPO to reject the comparability analysis which was undertaken by the Company in accordance with the provisions of the Act, read with the Rules. In this context, the assessee also referred to the Central Board of Direct Taxes ("CBDT") Circular 14 issued in 2001, which read with Section 92C(3), which puts the primary onus on the assessee to determine the ALP in accordance with the rules and substantiate the same with the prescribed documentation. Where such onus is discharged by the assessee and the data used for determining the ALP is reliable and correct then there cannot be any intervention by the Assessing Offic....
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.... the assessee had used 3 years' data, instead of one year data, the assessee informed. But the assessee contended that retention of loss making comparable companies alongside profitable companies tends to even out the risk profile of comparable companies, and so a company with losses cannot be rejected outright as a comparable on that ground alone, if it is still a going concern or its losses do not exceed its net worth. Appropriate analysis for reasons for losses has to be undertaken before selection or rejection of a comparable company. The assessee felt that loss filter applied by the TPO was erroneous and should be rejected. Reference was drawn to the decision of the Income Tax Appellate Tribunal (ITAT), Delhi in Sony India Private Limited (reference: ITA No. 1189/Del/2005, 819&820/DeI!2oo7). In the said case, the Tribunal had observed that the facts and circumstances surrounding the company should determine its status as a comparable, not its financial result. The Tribunal had also stated that exclusion of loss-making comparable is not justified as the loss situation is normal for the business. Further, Para 3.65 of the Transfer Pricing Guidelines for Multinational Enterpr....
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....the time of assessment. This would lead to anomaly since if this approach is adopted then the arm's length margins earned by the comparable companies will not be as per the provisions of the Act but 'will depend upon the date of performing the search/updating of margin, which is not the intention of the legislature. On segmental approach, the assessee informed that during the previous financial year, the assessee was in the process of setting up its operations to cater to the needs of the domestic customers. Though during the current year, assessee earned ` 3.86 Crores from domestic operations, as it was only the second year of operations with respect to domestic segment, the assessee company could not reach the breakeven point; it incurred a loss of ` 5.8 Crores with respect to domestic operations. In continuation of the same the assessee had determined the profits earned from rendering services to its associated enterprises vis-a-vis services rendered to unrelated parties. The assessee incurred software development expenses for sale in the domestic market. These include Cheque truncation software (CTS), Cheque Clearing Software (CC), Post-dated cheque Software (PDC), Ip....
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....e at which the international transaction has been undertaken does not exceed 5% of the ALP determined as per first proviso the same is deemed to be at arm's length price. In respect of the same, the CBDT issued a Circular No. 5/2010 dated 3 June 2010 giving explanatory notes to the provisions of the Finance (No.2) Act, 2009. Para 37 to 37.5 in the aforesaid circular talks about the amendment made in the proviso to Section 92C(2). Para 37.5 contains the applicability of the said amendment and it dearly states that the amendment has been made with effect from 1st April 2009 and the same will apply in respect of assessment year 2009-10 and subsequent assessment years, i.e., prospectively. The assessee also submitted that the following companies in the final set of comparables have very high margin: S.No Name of th Company Margins earned during FYE 2008 1. Magnasoft Consulting India Pvt. Ltd 32.08 2. 3K Technologies Ltd. 25.40 The assessee also stated that extreme profit margin companies should not be considered as they do not demonstrate normal industry trend. The extraordinary variations in profitability are indicators of several abnormal busine....
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....es provided by the assessee is given below: Name of the company Margin computed by the TPO Correct Margin Nettlinx Ltd 30.29 25.48 Magnasoft Consulting India Pvt. Ltd 32.08 26.23 7seas Entertainment Ltd 37.66 29.69 Trigyn Technologies Ltd 24.42 20.29 Cybertech Systems and Software Ltd 31.55 1.29 13. The DRP, after considering the submission of the assessee, held as under: "23. The Panel considered the objections of the assessee in detail. The objection of the assessee was that the TPO rejected the segmental approach adopted by the assessee, and applied entity approach, instead. The assessee for its contention relied on various judicial decisions, wherein it was held that the segmental results needed to be considered for transfer pricing analysis. In most of these decisions referred to by the assessee, the TPO did not accept the entity level approach followed by the assessee and applied most appropriate method at segment level. The reason for the TPO to go for entity approach is very clear and that was because the assessee did not have an audited segmental account. Once the assessee did not have a segmental account, it is always very diffic....
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....functional difference in the cases of 3K Technologies Limited, KALS Information Systems Limited and Magnasoft Consulting, the Panel did not find any strong reason to convincingly reject these comparables, thus no interference. On the calculation error, it was decided that the TPO would work out the PLI and use that to calculate average PLI, and the arm's length price. 27. On the deduction of 5%, the provisions of the Act are quite clear. This is not to be given as standard deduction, but used as limit which would encourage the taxpayers to have more market prices in its dealing with AEs, and in case it fails to do so, the entire difference between the PLl of the taxpayer and that of the comparables is to be the adjustment. It may also be recalled that the Transfer Pricing provisions were brought on the statute by the Finance Act 2001 w.e.f. 1.4.2002. It is with a view to avoid hardship to the tax payers in the initial years of implementation of these provisions, the Government of India, through a Press Note issued by the Ministry of Finance (Dept. of Revenue) on 22.08.2001, expressed its intention of not making any adjustment if the price adopted by the assessee was up to 5% less....
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....tablishing them. Emphasis of the assessee's submission was on the policy issue rather than on the specific reason relevant for the business nee. So, the action of the TPO on adopting single year data cannot be faulted, and so needs no interference." 14. The ld. AR of the assessee submitted that the DRP erred in confirming the TPO's order rejecting the transfer pricing document maintained by the assessee. It was submitted that the TPO erred in rejecting the following five comparable companies adopted by the assessee without providing any reason: 1. M/s Akshay Software Technologies Ltd. 2. M/s Bodhtree consulting Ltd 3. M/s Quintegra Solutions Ltd 4. M/s R.S. Software (India) Ltd 5. M/s SIP Technologies & Exports Ltd. 15. Further, the TPO ignored the three comparable companies viz M/s 3K Techologies Ltd., M/s Kals Information Systems Ltd. and M/s Magnasoft Consulting India Pvt. Ltd., originally included in the show cause notice without assigning any reason. Further, in respect of the comparable companies adopted by the TPO, the assessee raised the following objections: (i) The learned Transfer Pricing Officer (TPO) erred in not accepting the argument of the assessee tha....
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....mit for Related Party Transactions filter, should have considered the threshold limit for Related Party Transactions filter as prescribed in the recent Income Tax Appellate Tribunal ("ITAT") decision in the case of Sony India Private Limited wherein the Honourable Delhi Tribunal observed that a limit of 10 percent to 15 percent on total revenue may be considered. (xiv) The learned Transfer Pricing Officer ('TPO") erred in the computation of the margins of some of the comparables companies proposed by the TPO. (xv) The learned Transfer Pricing Officer ("TPO") ought to have accepted the use of multiple year data for computing the final margin of the comparables. (xvi) With regard to the use of contemporaneous data, the TPO ought to have accepted the submission of the assessee that the data to be employed for the determination of the transfer price in the transfer pricing documentation ought to be the latest available data. (xvii) The word "shall" though ordinarily mandatory, is sometimes not so interpreted if the context or the intention otherwise demands. (xviii) The learned TPO ought to have accepted the fact that current year data u.ere not available in the pub....
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.... as per TPO's criteria only two companies selected by the assessee will get eliminated and the recomputed average margin of comparable companies would be 8.2% as against 34.17% segmental margin earned by the assessee. 18. It was argued that the DRP erred in confirming the action of the TPO in not considering the segmental results provided by the assessee and rejecting the segmental results on the ground that they were unaudited, without appreciating the fact that the expenditure has been identified and apportioned towards rendering services to AEs and unrelated parties by adopting appropriate allocation key. 19. It was argued that the PLI calculated by the TPO of the companies selected as comparables with the assessee-company was 20.76% whereas the segmental margin earned by the assessee on transactions with AEs was 34.17% and hence, the price determined by the assessee was at ALP. He submitted that the TPO was not justified in comparing the PLI of all the transactions of the assesseei.e domestic as well as international which was 2.79% with the comparable companies selected by him and thereby making an adjustment of ` 5.23 crores to the ALP of the assessee . 20. The ld. AR of t....
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.... Thus, the assessee entered into transactions with its AE of ` 26,02,80,790/-. In the audit report submitted u/s 92AE, the assessee's auditor has certified that ` 26,02,80,790/- is transaction at ALP on the basis of TNM method. 24. During the course of hearing, the assessee prepared segmentwise Profit and Loss Account in respect of its transactions with AE and transactions with others and claimed that it has earned profit of 34.17% of the cost in respect of AE transactions and incurred loss of 60.30% of cost in respect of transactions with non-AEs. The TPO rejected the above working of the assessee on the ground that the segment-wise Profit & Loss Account prepared by the assessee was unaudited. The TPO, on the basis of the comparable cases observed that ALP should be determined by taking profit @ 20.76% of the cost in respect of transactions with AE. According to the TPO, the assessee has shown 2.79% of the cost as its profit of the entire entity. He, therefore, added ` 5.23 crores to the ALP of the assessee. 25. The assessee, before the DRP submitted that its profit in respect of AE was 34.17% of the cost which is more than the rate of profit adopted by the TPO and therefore, TP....
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....ower than the one comes out from comparable cases only then he could make necessary adjustment. In the present case while working out the PLI shown by the assessee he included the domestic receipt which gives lesser figure and then compared this result with the comparable cases, after the comparison he applied the difference only to the international receipts. To our mind that is not the appropriate step permissible in law and the learned CIT(A) has rightly appreciated this aspect." 29. We, thus, find that the lower authorities were not justified in not excluding profit or loss in respect of domestic transactions for determining the profit declared by the assessee in respect of AE transactions. They were not justified in adopting the profit level achieved by the assessee in respect of all its transactions including domestic transactions as the profit level declared in respect of AE transactions. Further, we find that the assessee had furnished separately its working of the profit declared by it in respect of its AE transactions before the TPO as well as before the DRP. The lower authorities could not point out any specific defect in the said working of the assessee. As per the sai....