TaxTMI 
TaxTMI 
2019 (9) TMI 727
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....ormation Technology Enables Services ("ITeS") Corporate Tax Grounds: Disallowance under section 10AA of the Act: 2. That on the facts and circumstances of the case and in law, the AO, erred in reducing the deduction under section 10AA of the Act by INR 2,64,12,11,474 by invoking the provisions of section 10AA(9) read with section 80IA(10) of the Act, alleging that the Appellant earned more than 'ordinary profits' to its associated enterprise ('AE') and the DRP erred in affirming said addition. 3. That on the facts and circumstances of the case and in law, the AO / DRP failed to appreciate that once the arm's length price in respect of the international transactions has been determined by the TPO under section 92CA(3) of the Act, and the prices charged by the Appellant have been found to be at arm's length nor an adjustment has been made to the ALP of the international transactions the provisions of section 10AA(9) read with section 80IA(10) of the Act could not be invoked on the premise that Appellant earned 'more than ordinary profits' by way of such international transactions. 4. That on the facts and ci....
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....ase and in law, the AO erred in arbitrarily selecting comparable companies pursuant to DRP directions, disregarding the fact that the comparable chosen were functionally not comparable. 10. Without prejudice to the above, that on facts and circumstances of the case and in law the AO erred in retaining Acropetal Technologies Ltd as a valid comparable despite specific directions by the DRP for its exclusion from the original set of comparable companies proposed in the draft assessment order. 11. Without prejudice to the above, that on facts and circumstances of the case and in law the AO / DRP erred in making an addition of INR 1,98,96,325 to the income of the Appellant as excess exemption claimed under section 10AA of the Act, alleging computational error disregarding the fact that there has already been disallowance of alleged extra ordinary profits, thus leading to double adjustment. Disallowance under section 40(a)(i) of the Act 12. That on facts and circumstances of the case and in law, the AO erred in considering the payments of INR 7,67,38,079 to non-residents for purchase of software as 'royalty' thereby, disallowing the payments ma....
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....s, namely, Microland Ltd and Caletech Services Pvt. Ltd. despite specified directions by the DRP for inclusion of said comparable companies. 20. That on the facts and circumstances of the case and in law, the AO has erred in not following the directions of the DRP to provide working capital adjustment and to adopt correct margins of comparable companies as provided by the Appellant before the DRP. 21. That on the facts and circumstances of the case and in law, the AO / DRP / TPO erred in not providing appropriate economic adjustments, as required under Rule 10B(1)(e)(iii) of the Rules. 22. That on facts and circumstances of the case and in law, the AO / DRP / TPO have erred in ignoring the provisions of Rule 10B(4) of the Rules and judicial pronouncements, which advocate usage of multiple year data of comparable companies for the purpose of determination of the ALP. 23. That on the facts and circumstances of the case and in law, the AO / TPO erred in not providing the Appellant the benefit of range as per the proviso to section 92C(2) of the Act. Levy of interest 24. That on facts and circumstances of the case and in law, the AO....
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.... Act. The DRP also upheld the disallowance of expenditure in relation to purchase of off-the-shelf software under section 40(a)(i) of the Act, holding the same to be in the nature of royalty paid for use of license on which TDS was to be deducted. The Assessing Officer passed final assessment order, against which the assessee is in appeal before us. 6. The learned Authorized Representative for the assessee in this regard pointed out that the Assessing Officer has compared the OP/OC i.e. margins of assessee at 150.55% with the margins of comparable companies at 27.72%, to come to a conclusion that the assessee has earned super normal profits. However, the concept of OP/OC was relevant only for transfer pricing analysis and not for working out the super normal profits. The learned Authorized Representative for the assessee further pointed out that in fact the net profit of assessee was only 63% and similar net profit was shown in both preceding and succeeding years. The second plea raised by learned Authorized Representative for the assessee was that there was no arrangement to generate more than ordinary profits of eligible units and in the absence of the same, provisions of sect....
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....h in the present year is 63% only. The learned Authorized Representative for the assessee pointed out that similar net profit range has been shown both in preceding and succeeding years. 9. Now, coming to the issue at hand as to whether any disallowance is merited under section 10AA of the Act. The basic condition for application of the said provisions of the Act are an arrangement between the parties, which is so arranged as to enable the assessee to earn super normal profits. The TPO/Assessing Officer/DRP has not pointed out any such arrangement whatsoever between the assessee and the comparable companies selected. In the absence of the same, provisions of section 10AA(9) r.w.s. 80IA(10) of the Act are not attracted. This issue has been elaborated upon by us in various decisions, as also in the case of sister concern i.e. Eaton Industries Pvt. Ltd. The said issue has been decided in turn, relying on the ratio laid down by Tribunal in Honeywell Automation India Ltd. Vs. DCIT in ITA No.18/PN/2011, order dated 25.02.2015. The said decision was in an appeal filed by assessee against exercise of jurisdiction under section 263 of the Act. The relevant findings are in paras 17 to 24,....
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.... STPI unit, under which the assessee was providing Business Support Services and the operating margin on total cost of the said division was 7.39%. The Assessing Officer/TPO benchmarked the said transaction of Business Support Services by applying TNM method as the most appropriate method and made some addition to the Arm's Length price of the said international transaction. However, in respect of the Engineering Design Services, no addition was made under the transfer pricing provisions. Further, the assessee had claimed deduction under section 10A of the Act in respect of the Engineering Design and Development Services provided to its Associated Enterprises which was allowed by the Assessing Officer. The Commissioner was of the view was that because of the high operating profit margin on total cost at 270%, when compared to the operating margin on total cost of the other division of the assessee at 7.39%, the Assessing Officer had not applied his mind in allowing the deduction under section 10A of the Act in view of the provisions of section 10A(7) r.w.s. 80IA(8) and 80IA(10) of the Act. The transactions which have been undertaken by the assessee in the Engineering Design Service....
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....ofit margin of the comparables chosen by the assessee while carrying out the comparability analysis under the TNM Method and therefore according to him the profits declared by the assessee in the 10A units was not the ordinary profits and had to be restricted under section 10A(7) r.w.s. 80IA(10) of the Act. 21. We find that similar issue for grant of deduction u/s 10A of the Act by invoking provisions of section 10A(7) r.w.s. 80-IA(10) of the Act, arose before the Tribunal in M/s. Honeywell Automation India Ltd. Vs. DCIT (supra). The Tribunal had considered the provisions of section 10A(7) of the Act and it was observed that the said provisions are attracted where closely connected party are taxable in India. In this regard, the relevant portions of the order of the Tribunal dated 25.02.2015 (supra) read as under :- "7. Before proceeding further, we may briefly touch-upon the relevant provisions of the Act, which have a bearing on the controversy before us. Sub-section (7) of section 10A of the Act reads as under :- " (7) The provisions of sub-section (8) and sub-section (10) of section 80-IA shall, so far as may be, apply in relation to the undertaking r....
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....ertaking from the export of articles or things or computer software for a period of ten assessment years beginning with the assessment year relevant to the previous year in which the undertaking begins to manufacture or produce such articles or things or computer software, as the case may be, while computing the total income of an assessee. Shorn of other details, for the present it would suffice to note that the three units of the assessee, namely, Unit No.I & II at Pune and Unit at Chennai are recognized as STPI Units in accordance with the Software Technology Park Scheme of the Government of India and they are eligible for the benefits of section 10A of the Act. 10. The bone of contention in the present case between the assessee and the Revenue is invoking of section 10A(7) r.w.s. 80-IA(10) of the Act. Section 80-IA(10) of the Act, reproduced above, empowers the Assessing Officer to re-compute the profits and gains of the eligible business for the purposes of deduction u/s 10A of the Act if it appears to him that the profits declared by the assessee are more than the ordinary profits which might be expected to arise in such an eligible business. So however, the aforesai....
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....99. The provisions of section 10A(6) r.w.s. 80-I(9) of the Act, which were before the Hon'ble Karnataka High Court are quite similar to the provisions of section 10A(7) r.w.s. 80-IA(10) of the Act before us. The Hon'ble Karnataka High Court, upheld the stand that the requirements of the provisions of section 80-I(9) of the Act are two-fold, namely that there should be a close connection between the assessee and the other person, which may be a reason for the assessee to earn higher profits but, more importantly there should be material to indicate that assessee had indulged in an arrangement with the other person so as to produce to the assessee more profits than ordinarily what profits the assessee might have expected to arise from such business. As per the Hon'ble Karnataka High Court, it was for the Assessing Officer to indicate any material or evidence to disclose any such arrangement between the assessee and the other person. The aforesaid judgement of the Hon'ble Karnataka High Court justifies the assertion of the assessee before us that the onus for justifying the invoking of section 80-IA(10) r.w.s. 10A(7) of the Act is on the Revenue based on cogent material. At this point....
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....duced to the assessee more than the 'ordinary profits' within the meaning of section 10A(7) r.w.s. 80-IA(10) of the Act. According to the Ld. Representative, the transactions of the assessee by way of rendering software engineering services to its associated enterprises abroad are not arranged so to yield any extraordinary profits to the assessee. The Ld. Representative pointed out that assessee was charging the same rate for services rendered to associated enterprises as well as to the non-related parties. The details of rates charged by the assessee to the third parties vis-à-vis the related parties have also been placed in the Paper Book along with sample copies of invoices raised on the and non-related parties. It was also pointed out with reference to the submissions made to the Assessing Officer, which have been reproduced in para 2.6 of the assessment order, that the assessee has continued to charge similar rates even after the tax holiday period of STPI Unit had ended. 13. At the time of hearing, it was explained that the tax holiday u/s 10A of the Act was available for Unit No.I at Pune upto assessment year 2007-08; that for Unit No.II at Pune upto assessme....
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....s to show that the higher profits are not attributable to any arrangement with associated enterprises but due to business reasons. 15. Apart therefrom, it has also been pointed out that assessee is a public limited company listed on the stock-exchange wherein the overseas Honeywell entities owned 81.24% of shareholding and the public shareholding is to the extent of 18.76%. It was pointed out that initially TATA group was also owning shares in the assessee company to the extent of 40% and Honeywell entities held 41% and the balance 19% was held by the public. This pattern had changed from November, 2004 onwards when the TATA group gave up its shareholding in the assessee company. On the basis of the aforesaid shareholding pattern, a plea setup by the assessee is that if there was any manipulation of profits by assessee charging higher rates to its overseas Honeywell group entities resulting in shifting of profits from overseas entities to the assessee-company, it would not be a prudent exercise by the Honeywell group because it does benefit the Honeywell group as a whole. Since there is a significant public shareholding in the assessee company, it would mean that the any e....
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....g Officer to precisely determine the eligible profits, but only a prima-facie satisfaction about presence of more than the ordinary profits would suffice. It is sought to be emphasized that because of the presence of the words ".......as may be reasonably deemed to have been derived......." in section 80-IA(10) of the Act, a much lighter burden of proof is put on the Assessing Officer for computing tax avoidance. As per the Ld. CIT-DR, similar to the Transfer Pricing Provisions, the said Provision does not require a precise accuracy on the part of the Assessing Officer. At this point, the Ld. CIT-DR relied upon the decision of the Hon'ble Kerala High Court in the case of Abdul Vahab P. vs. ACIT, (2012) 249 CTR 102 (Kerala) wherein the word "appears" has been understood to imply a 'prima-facie' satisfaction of the Assessing Officer. Therefore, it is sought to be made out that a prima-facie satisfaction of the Assessing Officer is enough to apply the provisions of section 10A(7) r.w.s. 80-IA(10) of the Act. 18. It is further submitted that the word "arrangement" used in section 80-IA(10) of the Act is to be understood as any agreement with the associated enterprise and in su....
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....ess profits according to him can be computed by an appropriate method by remanding the matter back to the file of the Assessing Officer. In any case, it has been contended section 80-IA(10) of the Act requires computing of 'more than ordinary profits' in the eligible business. Comparable companies are in the same line of the business and having similar functions performed, assets employed and risks assumed as the assessee, therefore, comparable companies are carrying on eligible business, and thus the profits margin of comparable reflect ordinary profits. 21. With regard to the assessee's plea that even after the expiry of section 10A benefits, assessee was declaring healthy profits, the Ld. CIT-DR pointed out that what matters in future years is the actual amount of the taxes paid and not merely the profits generated in the Unit. It was also contended that the fact that assessee has rendered services to the non-related parties at the same rates is also not relevant for the purposes of application of section 10A(7) r.w.s. 80-IA(10) of the Act. It was also submitted by him that fact of the assessee being reimbursed the travelling costs, etc. cannot be responsible for assess....
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....f the aforesaid Provision is that the tax concessions are not abused by manipulation of profits. In our considered opinion, the aforesaid explanation in the CBDT Circular (supra) signifies the legislative intent and it is also manifested in the language of section 10A(7) r.w.s. 80-IA(10) of the Act. We say so for the reason that the phraseology of section 80-IA(10) of the Act itself suggests that the profits and gains of an eligible business cannot be tinkered with by the Assessing Officer merely because they are more than the ordinary profits or that they are quite high. The existence of substantial or more than ordinary profits by itself does not sufficiently empower the Assessing Officer to disregard them and determine the profits which he may consider to be reasonably deemed to have been derived therefrom. The presence of the expression "the course of business ............ is so arranged ............. that the business transacted ............... produces to the assessee more than ordinary profits" is significant and its understanding has to be prefaced by the legislative objective of plugging abuse of the tax concessions granted u/s 10A of the Act by manipulation of profits bet....
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....term arrangement in plain language means any agreement or understanding between the parties concerned. On this basis, the Ld. CIT-DR submitted that undeniably there is an agreement between the assessee and the associated enterprises whereby the services have been provided by the assessee to them and therefore the same is to be understood as an "arrangement" within the meaning of section 10A(7) r.w.s. 80-IA(10) of the Act. Along with the aforesaid, it has also been emphasized, on the basis of the language of section 80-IA(10) of the Act that, the Assessing Officer is not required to be prove that there is an arrangement for producing more than ordinary profits. Whereas, as per the Ld. CIT-DR, section provides that arrangement leading to production of more than ordinary profit will satisfy the necessary condition of section 80-IA(10) of the Act. Thus, according to the Ld. CIT-DR, in the instant case there is an arrangement and it has lead to production of more than the ordinary profits. According to the Ld. CIT-DR, the meaning of the words "so arranged" in section 80-IA(10) of the Act only seeks to ensure that there was an agreement between the assessee and associated enterprise. ....
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.... or understanding between the company and its creditors or any class of them, or between the company and its members or any class of them, or between the company and its members or any class of them, which would necessarily mean that it must be an agreement or understanding which affects their rights" [underlined for emphasis by us] 27. The aforesaid clearly points out that the Hon'ble High Court imparted meaning to the word "arrangement" in the context of section 391(1) of the Companies Act, 1956 to mean that it must be an agreement or understanding which affects the rights between the company and its creditors or any class of them and between the company and its members or any class of them. By the same analogy in the present context, we have to understand the meaning of the expression "as arranged" in section 10A(7) r.w.s. 80-IA(10) of the Act to mean a situation whereby the course of business has been so arranged that the business transacted produces to the assessee more that the ordinary profits with an intent to abuse the tax concessions granted in section 10A of the Act. Moreover, if one is to understand the import of the expression "so arranged" in section 80-IA....
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.... proved otherwise by the person alleging it otherwise. The manner of satisfaction outlined in the section should be based on evidence and not on surmise or suspicion. The question is not whether the onus is light or heavy but whether the AO has discussed objectively the conditions mentioned in the section to disturb the results declared by the appellant. In this case, the AO has failed to adduce any evidence or reason to satisfy the invoking of s. 80-1(9). First of all, a mere substantial profit does not give rise to any valid view that there could be any arrangement. It is a case of joint venture listed Indian company, where all arrangements are open for scrutiny and acceptance not only by digital group worldwide but also from joint venture partners and shareholders. Digital group overseas will not pay undue sum, which it cannot recoup entirely to exclusion of others. Hence nothing can be arranged to the exclusive benefit of overseas partner. One cannot presume the existence of close connection or possibility of an arrangement for earning more than ordinary profits. In this case the profits earned is comparable with the profits earned by other companies in the same industry. Hence....
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....ed so as to inflate profits with the intent to abuse tax concession u/s 10A of the Act. At this point, we may make a reference to the stand of the Assessing Officer that the operating profit margins of the assessee are substantially higher than the average operating margin of the comparables selected by the assessee in its Transfer Pricing Study. This has formed the basis for the Assessing Officer to say that assessee has earned more than ordinary profits which might be expected to arise in such a business. Be that as it may, the aforesaid is not enough to say that the course of business has been so arranged to result in more than ordinary profits. However, from the side of the Revenue, it was pointed out that the Transfer Pricing comparability analysis itself suggests that the profit margins of the assessee are more than the ordinarily accepted margin in this line of business. The moot question is as to whether the same can be considered as a material to indicate that the course of business between the assessee and the associated enterprises has been so arranged, so as to result in 'more than the ordinary profits' within the meaning of section 10A(7) r.w.s. 80-IA(10) of the Act. I....
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.... international transactions with associate enterprises on the basis of the arm's length price. The second segment relating to computation of the arm's length price, is a set of rules for the purposes of transfer pricing matters and those procedures and rules can be used only for the purpose serving the object of section 92. When the Transfer Pricing Officer states that there is no need of transfer pricing adjustment, the matter should end there and any other adjustment that the Assessing Officer would like to make with reference to the first segment must be made independent of the order of the Transfer Pricing Office under section 92CA. To state in simple terms, the transfer pricing regime is different from regular computation of income. Section 10A belongs to that part of regular computation of income and it should be computed independent of transfer pricing regulations and transfer pricing orders. It is not therefore, permissible for the Assessing Officer to work out section 10A deduction on the basis of arm's length price profit generated out of the order of the Transfer Pricing Officer. In fact these issues have already been considered in various o....
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.... associated enterprises is so arranged that the business transacted between them produces to the assessee more than the ordinary profits with the intent of abusing tax concession. Quite clearly, in the entire assessment order, there is no whisper of any material or evidence in this regard. In-fact, the approach of the Assessing Officer is quite misdirected as the following discussion in his order shows :- "Accordingly, the section only encumbers the A.O. to examine if the profits derived from the eligible business by the assessee is more than the ordinary profits, then the A.O. has to arrive as to what could be the reasonable profit from the such eligible business and such profit has to be then taken as reasonably deemed to have been derived from the eligible business for the purposes of computing deduction under the section." 33. The aforesaid discussion in the assessment order reveals that as per the Assessing Officer, the existence of close connection and more than ordinary profits is enough to assume an arrangement as contemplated u/s 80-IA(10) of the Act. The aforesaid understanding, in our view, is directly contrary to the judgement of the Hon'ble Karnataka ....
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....tion under section 10B(7) r.w.s. 80IA(8) and 80IA(10) of the Act arose before the Tribunal in Spicer India Ltd. Vs. CIT (supra) and the Tribunal vide order dated 08-07-2015 in similar circumstances had reversed the order of the Commissioner passed under section 263 of the Act. 24. Where the Assessing Officer in his order considered the claim of assessee under section 10A of the Act and allowed the same, merely because the Commissioner is not agreeable to the view adopted by the Assessing Officer, the exercise of jurisdiction under section 263 by the Commissioner cannot be upheld. We place reliance on the ratio laid down by the Hon'ble Supreme Court in the case of Malabar Industrial Company Ltd. Vs. CIT 243 ITR 83 (SC) and CIT Vs. Max India Ltd. 295 ITR 282 (SC). In order to invoke the provisions of section 263 of the Act, the order must be both erroneous and prejudicial to the interest of revenue. Where the Commissioner does not agree with the view of the Assessing Officer the same cannot be basis/justification for invoking the provisions of section 263 of the Act. Further, the opinion of the Commissioner was not formed on any other material but on the basis of the order p....
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....l contentions and perused the record. We find that the issue raised in the present appeal is squarely covered by the order of Tribunal in the case of John Deere India Pvt. Ltd. (supra). As far as reliance of DRP in the case of Cummins Inc (supra) is concerned, we find that the said order of Tribunal was recalled in Miscellaneous Application and thereafter the issue was decided in favour of assessee, in turn, relying on the ratio laid down in the case of John Deere India Pvt. Ltd. (supra). The Tribunal vide para 90 the case of John Deere India Pvt. Ltd. (supra) held as under:- "90. In conclusion, we hold that purchase of software by the assessee being copyrighted article is not covered by the term 'royalty' under section 9(1)(vi) of the Act. Where the assessee did not acquire any copyright in the software, is not covered under Explanation 2 to section 9(1)(vi) of the Act. We further hold that amended definition of 'royalty' under the domestic law cannot be extended to the definition of 'royalty' under DTAA, where the term 'royalty' originally defined has not been amended. As per definition of 'royalty' under DTAA, it is payment received in consideration for use or right to ....
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.... arises is in respect of inclusion of Microgenetics Systems Ltd. and exclusion of Universal Print Systems Ltd. The assessee had benchmarked the said segment following TNMM method. In the fresh search, assessee included Microgenetics Systems Ltd. as functionally comparable as it was engaged in IT Infrastructure management and ITES support services. The DRP had directed the TPO to include the comparable at segmental level, subject to verification of filters applied by him. However, the Assessing Officer/TPO held that comparable does not satisfy the consistent loss making filter. The assessee before us has filed tabulated details in respect of preceding and succeeding years. In all the years under consideration, the OP/OC on segmental level is positive and it is not loss making concern. The Assessing Officer / TPO in such circumstances, directed to include the segmental results of Microgenetics Systems Ltd. for benchmarking the transactions of assessee in ITES segment. 19. Now, coming to the next concern i.e. Universal Print Systems Ltd., wherein the plea of assessee before us is that it is functionally not comparable. The learned Authorized Representative for the assessee has poin....