SYNAMEDIA INDIA PRIVATE LIMITED,BANGALORE vs. DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE- 6(1)(2), BANGALORE

This appeal is against the final order of assessment passed by the National e-Assessment Centre, Delhi u/s. 143(3) r.w.s. 144C(13) of the Income-tax Act, 1961 [the Act] dated 30.4.2021 for the assessment year 2016-17.

The assessee is the subsidiary of Synamedia Ltd., UK and provides software development services among pre-sales and marketing and sales support services and technical support services to Synamedia, UK. The assessee filed return of income for AY 2016-17 on 30.11.2016 declaring a total income of Rs.97,71,24,230. The case was selected for scrutiny under CASS and a notice u/s. 143(2) was duly issued and served on the assessee. The case was referred to the Transfer Pricing Officer (TPO) for computation of arm’s length price (ALP) with regard to the international transactions of the assessee with its Associated Enterprise (AE). The TPO passed an order u/s. 92CA dated 23.10.2019 determining the total adjustment of Rs.39,73,04,165 which was subsequently rectified to Rs.38,89,77,407. The AO passed a draft assessment order incorporating the TP adjustment. Aggrieved, the assessee raised objections before the DRP. Based on directions of DRP, the TP adjustment was enhanced to Rs.40,32,45,354 and the AO passed the final assessment order in accordance with the directions of the DRP. The assessee is in appeal before the Tribunal against the final order of assessment.

The assessee raised 19 grounds with respect to the TP adjustment made by the TPO. The assessee also filed additional grounds with regard to certain inclusion of comparables. The effective grounds of appeal are listed as under:-

For AY 2014-15, the Assessee had received Rs.2,98,36,64,473/- from its AE in respect of the software development services provided. The Assessee had selected Transaction Net Margin Method (“TNMM”) as the Most Appropriate Method (“MAM”) and operating profit / operating cost is the Profit Level Indicator. The assessee had computed the margin of 11.12% in the segmental financials pertaining to software development services in which the assessee has made a suo motu TP adjustment of Rs.8,31,45,517/- (page 174 of paper book).

The TPO, determined the 35th to 65th percentile at 20.87% to 30.89% with median at 26.36% based on the weighted average operating profit/total cost of the 17 comparable companies in software development segment.

The TP Officer did not grant any adjustment towards working capital. The TPO made revised the operating income of the assessee and re-computed the profit margin of the Assessee at 14.23% against the margin of 11.12% determined by the Assessee in the TP study. Based on the same the TPO arrived at the TP adjustment as per table below:-

The TPO therefore passed the order dated 28.10.2019 under section 92CA of the Act and determined an adjustment of Rs.33,47,71,300/- in the software development segment. The TPO also made an adjustment towards Interest on delayed receivables. The TPO imputed interest on the delayed receivables applying the rate of IT(TP)A No.350/Bang/2021 Page 6 of 25 LIBOR- 6 months + 450 basis points and made an adjustment of Rs.6,25,32,865/-. A rectification order dated 20.01.2020 was passed by the TPO and the adjustment with respect to interest on delayed receivables was reduced to Rs.5,42,06,107/-. The TPO accordingly determined a total TP adjustment of Rs.38,89,77,407/- in his order.

Aggrieved the assessee raised objections before the DRP. Insofar as it relates to the Assessee’s Software Development Services segment, the DRP did not provide any relief and rejected the objections of the Assessee. The Assessee also contended before the DRP that the TPO had not considered the correct margin with regard to the following comparables:

The DRP directed the TP Officer to verify and adopt the figures as per the annual report of the above comparable companies. With respect to the mechanism of computation of imputed interest on delayed receivables, the DRP rejected the objection of the Assessee and upheld the order of the TPO benchmarking the same as a separate international transaction and further held that SBI short term FD interest rate was appropriate as against the LIBOR rate duly considered by the TP Officer in his order.

The TPO has passed the order giving effect to the directions of the DRP and has computed the interest on delayed receivables invoice wise with reference to the amount received beyond the credit period / not received within the credit period of 60 days as per the agreement. The TPO considered the SBI short term FD rate as directed by the DRP which resulted in enhanced adjustment of Rs.6,84,74,054/- against the adjustment of Rs.5,42,06,107/- as per the rectification order.

In relation to the software development segment, the TPO verified and rectified the margin of the comparable companies and determined the 35th to 65th percentile of 20.87% to 30.87% with a median of 26.36%. There was therefore no change to the adjustment determined by the TP Officer in the software development segment which is as follows:-

Aggrieved by the TP adjustment made in the final assessment order, the Assessee has filed the present appeal before the Tribunal.

With regard to the exclusion of Nihilent Ltd., Persistent Systems Ltd. Aspire Systems India Pvt. Ltd., Infosys Ltd., Thirdware Solutions Ltd., L&T Infotech Ltd., Infobeans Technologies Ltd, the ld. AR submitted that these companies are functionally different from the assessee and therefore need to be IT(TP)A No.350/Bang/2021 Page 8 of 25 excluded. In this regard the ld. AR relied on the decision of the coordinate Bench of the Tribunal in the case of Sandisk India Device Design Centre P. Ltd., IT(TP)A No.288/Bang/2021.

We have considered the rival submissions and perused the material on record. This Tribunal in the case of Sandisk India Device Design Centre P. Ltd. (supra) had considered the comparability of Persistent Systems Ltd., Infosys Ltd., Thirdware Solutions Ltd., L&T Infotech Ltd., Nihilent Ltd., Aspire Systems India Pvt. Ltd. & Infobeans Technologies Ltd. and held as under:-

We notice that the co-ordinate bench has excluded M/s Infosys Ltd in AY 2008-09 by following the decision rendered by another co-ordinate bench in the case of 3DPLM Software Solutions Ltd (IT(TP)A No. 1303/Bang/2012 dated 28-11-2013, wherein the decision rendered in the case of Triology E Business Software India P Ltd (ITA No. 1054/Bang/2011) was followed and it was held that M/s Infosys Technologies Ltd is not functionally comparable since it owns significant intangible and has huge revenues from software products. It was further observed that the break-up of revenue from software services and software product is not available. 6.1 It was stated that there is no change in facts. Accordingly, following the decision rendered in the assessee's own case in AY 2008-09, we direct exclusion of M/s Infosys Ltd.

In AY 2008-09, the co-ordinate bench has excluded M/s Persistent Systems Ltd also by following the decision rendered in the case of 3DPLM Software Solutions Ltd (supra), where in it was held that M/s Persistent Systems Ltd is engaged in product development and product design services while the assessee is a software development service provider. Further, the segmental details were not available. 7.1 It was stated that there is no change in facts. Accordingly, following the decision rendered in the assessee's own case in AY 2008-09, we direct exclusion of M/s Persistent Systems Ltd. We also notice that in AY 2008-09, the co-ordinate bench has excluded M/s Thirdware Solutions Ltd also by following the decision rendered in the case of 3DPLM Software Solutions Ltd. (supra), where in it was held that M/s Thirdware solutions Ltd is engaged in product development and earns revenue from sale of licenses and subscription. Further, the segmental details were not available.

As far as exclusion of Larsen & Toubro Infotech Ltd., is concerned, the Tribunal in the very same case of LG Soft (P.) Ltd. (supra) in another order dated 27-9-2019 in MP No. 95/Bang/2019 held that exclusion of Larsen & Toubro Infotech Ltd., was omitted to be adjudicated in the original order dated 28-5-2019 passed by the Tribunal referred in the earlier paragraph and held that Larsen & Toubro Infotech Ltd., is also not a comparable company because there were extraordinary events that occurred in the relevant previous year and that it possessed brand and intangibles and there was no segmental information of sub-contracting expenses”. 3.3 There is nothing on record brought by the Ld.CIT.DR in order to establish that these are comparable with assessee that is a captive service provider which functions at the strict supervision and instructions by the AE’s. Further we note that turnover criteria has to be applied with an upper limit which is not been considered by the Ld. TPO. The TPO has applied less than 1 crore turnover limit to eliminate the comparables however it failed to apply upper limit considering the functions performed assets owned and risk assumed by assessee under this segment for the year under consideration.” 17.8 Before us, the Ld.AR has not been able to place anything on record contrary to the above observation. We therefore respectfully following the above view, direct the Ld.AO/TPO to exclude Persistent Systems Ltd., L& T Infotech Ltd., Thirdware Solutions and Infosys Ltd. from the final list. 17.9 In respect of Nihilent Ltd., Infobeans Technologies Ltd. and Aspire Systems (India) Pvt. Ltd., Hon’ble Mumbai Tribunal in case of Red Hat India Pvt. Ltd. vs. Addl. CIT (supra) observed as under: “Comparable Sought to be excluded by the assessee Aspire System India Pvt. Ltd. (Aspire) 40. The assessee sought exclusion of Aspire from the final set of comparables for benchmarking SDS segment on the ground that it fails Related Party Transaction (RPT) filters as its RPT/ sales ratio is more than 25%. The assessee computed the significant related party

The assessee sought exclusion of Nihilent Ltd. as a comparable on the ground that it is functionally dissimilar vis-à-vis assessee. This objection was also raised before the Ld. DRP but rejected. The assessee relied upon website of the company which is made available at page A412 of the paper book wherein Nihilent Ltd. is shown to be engaged in providing advanced analytics, artificial intelligence, blockchain, business intelligence, data signs, cloud services etc. The annual financials of this company available at page A412 & A413 of the paper book shows that it is rendering Enterprise transformation and change management, Digital transformation services and Enterprise IT services but segmental financials are not available as is apparent from its financials available at page A305, A412 & A413 of the paper book. When this company is into various segments but segmental financials are not available it cannot be a valid comparable vis-à-vis assessee which is a routine software development service provider working on cost + markup model, hence ordered to be excluded.” “Infobeans Technologies Ltd. (Infobeans) 49. The assessee sought exclusion of Infobeans on the ground that it is also functionally dissimilar being into providing business IT services (CAD) (application development and maintenance, Big Data, UX and UI, Automation engineering services, including product engineering and lifestyle solutions and business process management) in verticals of storage and virtualization, media and publishing, HR and Payroll and e-commerce. It is also providing software engineering services primarily in Custom Application Development (CAM), enterprise mobility and Big Data Analytics (BDA).

Perusal of financials available at page A303, A418 to A421, Infobeans shows that it is into diversified services but its segmental financials are not available without which it is difficult to compute the IT(TP)A No.350/Bang/2021 Page 12 of 25 correct profit margin of the relevant segment. So Infobeans is also ordered to be excluded as a comparable being not a comparable to the assessee.” 17.10 Perusal of the annual report, filed before us in respect of the above two comparables, we note that the segmental financials are not available in respect of Nihilent and Infobeans and the RPT in respect of Aspire Systems India Pvt. Ltd. is more than 25% being the threshold limit considered by the Ld.TPO. Nothing has been placed before us by the Ld.DR in order to take a different view. Respectfully following the Hon’ble Mumbai Tribunal, we direct the Ld.TPO to exclude Nihilent, Infobeans and Aspire Systems from the final set.

Respectfully following the decision of the coordinate bench of the Tribunal in Sandisk India Device Design Centre P. Ltd. (supra), we exclude these companies viz., Persistent Systems Ltd., Infosys Ltd., Thirdware Solutions Ltd., L&T Infotech Ltd., Nihilent Ltd., Aspire Systems India Pvt. Ltd. & Infobeans Technologies Ltd., from the comparables.

With regard to inclusion of Evoke Technologies Ltd., the TPO had based on the filters applied excluded the company. The DRP confirmed the TPO’s order to exclude the company on the basis that as per the financial results, the branch revenue is unaudited and therefore cannot be included in the revenue of the company. On this basis the DRP held that the company cannot be considered as a comparable in view of unreliable data provided in the annual report.

The ld. AR submitted that the company is functionally comparable and qualifies all filters of the TPO. The ld. AR submitted that the branch is a sub-set of an entity and the result of the branch are already included in the audited financial statement of the entity. He

We heard both the parties. We notice that the coordinate Bench in the case of Mindteck India Ltd. (supra) has considered the issue of inclusion of Evoke Technologies P. Ltd. and held that –

Considering the facts being identical for the year under consideration, we respectfully follow the decision of the coordinate Bench and remit the issue to the TPO for consideration in the light of the decision stated above.

With regard to inclusion of Synfosys Business Solutions Ltd., the TPO excluded the company from the list of comparables by stating that the company fails the persistent loss filter. The DRP stated that the company does not fail the persistent loss filter, but confirmed the exclusion by observing as below:-

The ld. AR submitted that the DRP has erroneously considered the earnings in foreign exchange instead of the export turnover which is the filter applied by the TPO. In this regard, the ld. AR drew our attention to page 2195 of PB No.4, wherein as per the annual report of IT(TP)A No.350/Bang/2021 Page 15 of 25 the company, the export turnover is stated to be 11.8 crores. The ld DR relied on the decision of the lower authorities.

We heard the rival submissions and perused material on record. We notice that the DRP for the purpose of exclusion of the company has considered the earnings in foreign exchange during AY 2016-17 and concluded that the company fails the export turnover filter of 75%. This in our view is not correct since it is not the earnings in foreign exchange that needs to be considered while applying the export turnover filter. The ld. AR contended that the company is functionally comparable to assessee. Since the exclusion of the company is done based on mistaken fact of foreign exchange earning as export turnover, we are of the considered view that the issue should be remitted back to the TPO to consider the issue afresh. We therefore remand this issue back to the TPO with a direction to consider the export turnover of the company and decide the inclusion in accordance with law.

The assessee raised additional ground for inclusion of Insummation Technologies Pvt. Ltd. and Sagarsoft India Ltd. Keeping in view the ratio laid down by the Hon’ble Supreme Court in the case of NTPC Ltd., 229 ITR 383 (SC), we admit the additional grounds for adjudication.

The ld. AR submitted that the coordinate Bench of the Tribunal in the case of Mindteck India Ltd. (supra), has considered the inclusion of Sagar Soft India Ltd. and the issue of Insummation Technologies

The ld. DR contended that this inclusions are not proposed by the assessee before the lower authorities and therefore cannot be considered for inclusion.

We heard the rival submissions and perused material on record. We notice that the coordinate Bench in the case of Mindteck India Ltd. (supra) has considered the issue of inclusion of Sagar Soft India Ltd. and has held as under:-

Respectfully following the decision of the coordinate Bench, we remit the issue to the AO/TPO with similar directions. It is ordered accordingly.

With regard to inclusion of Insummation Technologies, we notice that the coordinate Bench in the case of Prism Network P. Ltd. (supra) has held that the companies cannot be excluded merely because they did not figure in the search matrix of the TPO. The relevant observations of the Tribunal in this regard is extracted below:-

The TPO treated the trade receivables beyond 60 days as an international transaction and adopted notional interest rate of 4.985% being LIBOR-6 months + 450 basis points, without providing the method of computation of such rate to the Assessee. The TPO therefore made adjustment of Rs.6,25,32,865/-. The DRP had directed the TPO to adopt the SBI short term deposit interest rate and directed the TP Officer to verify and compute interest on delayed receivables for the relevant financial year. The DRP did not give any show cause notice or opportunity of hearing, before proposing to adopt SBI short term deposit interest rate. The TPO on giving effect to the directions of the DRP has determined the adjustment for interest on delayed receivables at Rs.6,84,74,054/- against the adjustment of Rs.6,25,32,865/- made in the TP order.

The ld. AR submitted that it is a debt-free company and hence it is not required to pay any interest (Page 10 of Paper book-Vol I). The IT(TP)A No.350/Bang/2021 Page 19 of 25 ld AR further submitted the Assessee there are payables to the AE and the AE had not charged interest from the assessee and hence interest could not be imputed on the receivables of the Appellant. It is further submitted that the DRP and the TPO has not appreciated that the Assessee is not charging interest to both AE’s and non-AE’s. The TPO and the DRP have selectively considered interest on trade receivables without considering the interest on payables. The ld AR without prejudice prayed that the interest on payables to the AE required to be netted-off while computing the notional interest on receivables. The ld AR placed reliance on the decision of the Delhi Tribunal in the case of Bechtel India Pvt Ltd (ITA No.1478/Del/2015) and this order of the Tribunal is accepted by the Hon’ble Delhi High Court and the SLP filed in this regard before the Supreme Court is dismissed.

The ld. AR further submitted that DRP revised the interest rate by adopting the SBI short term deposit interest rate, resulting in enhancement of the adjustment without giving an opportunity to the Assessee to explain the issue. Therefore it is submitted that the failure to give an opportunity before enhancement has resulted in violation of principles of natural justice. Reliance is placed upon the decision of this Tribunal in the case of Verifone India Technology Private Limited [IT(TP)A No.290/Bang/2021] wherein, the ITAT under similar circumstances has remitted the issue to the TPO for determining the ALP, i.e., interest on delayed receivables by following the Rules.

The ld. DR supported the orders of the lower authorities.

We have considered the rival submissions and perused the material on record. We notice that the coordinate bench of the Tribunal in the case M/s. Barracuda Networks India Private Limited vs DCIT - IT(TP)A No.229/Bang/2021, has considered the similar issue and held that -

The foregoing discussion discloses that non-charging or under- charging of interest on the excess period of credit allowed to the AE, for the realization of invoices amounts to an international transaction and the ALP of such an international transaction is required to be determined. In view of the above observations. the reliance placed by the ld. counsel for the assessee on earlier decisions cannot be accepted. Similarly, Considering the above discussion, it is held that deferred trade receivable constitutes international transaction.

Having concluded that deferred trade receivables constitute international transaction, we come to the computation of the ALP of the international transaction of 'debt arising during the course of business.' This has two ingredients, viz., the amount on which interest should be charged and the arm's length rate at which the interest should be charged. On this aspect we can take useful guidance from the decision of the ITAT Delhi Bench in the case of Techbooks International (P.) Ltd. v. Deputy Commissioner of Income-tax, Circle-3, Noida [2015] 63 taxmann.com 114 (Delhi - Trib.), wherein the Tribunal laid down guidelines on the manner of determination of ALP, as follows: “13.11 Now, we come to the computation of the ALP of the international transaction of 'debt arising during the course of business.' This has two ingredients, viz., the amount on which interest should be charged and the arm's length rate at which the interest should be charged. 13.12 In so far as the first aspect is concerned, we find that the TPO has taken normal credit period of 60 days and accordingly made addition on account of transfer pricing adjustment for the period in excess of 60 days. In our considered opinion, transfer pricing adjustment on account of interest for the entire period of delay beyond 60 days cannot be treated as a separate international transaction of trading debt arising during the course of business. It is noticed that the assessee entered into an agreement with its AE for realization of invoices within a period of 150 days. This implies that the interest

We are of the view that the issue with regard to determination of ALP in respect of the international transaction of giving extended credit period for receivables should be directed to be examined afresh by the AO/TPO on the guidelines laid down in the decision referred to in the earlier paragraph, after affording Assessee opportunity of being heard. As held in the aforesaid decision the prime lending rate should not be IT(TP)A No.350/Bang/2021 Page 25 of 25 considered and this reasoning will apply to adopting short term deposit interest rate offered by State Bank of India (SBI) also. The rate of interest would be on the basis of the currency in which the loan is to be repaid. We hold and direct accordingly.

Respectfully following the above decision of the coordinate bench we remit the issue back to the AO/TPO with a direction to examine the issue afresh after giving a reasonable opportunity of being heard to the assessee. The AO/TPO is also directed to consider the ratio laid down in the above decision while considering the issue afresh.

In the result, the appeal by the assessee is partly allowed.