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Income Tax Appellate Tribunal, BANGALORE BENCHES “ C ” BENCH: BANGALORE
Before: SHRI A.K. GARODIA & SHRI PAVAN KUMAR GADALE
O R D E R PER SHRI PAVAN KUMAR GADALE, JM : These are the cross appeals filed by the assessee and revenue against the order of Commissioner of Income Tax (Appeals)-5, Bangalore passed under Section 2 IT(T.P)A No.1029/Bang/2017 & 143(3) r.w.s. 144C(3) and 250 of the Income Tax Act, 1961 (the Act) Since the issues are common, they are Heard together and disposed off by consolidated order. For the sake of convenience, we shall take up the assessee appeal and facts narrated therein.
At the time of hearing the learned Authorised Representative submitted that the Ground Nos.1 to 5 are general in nature and Ground No.8 is not pressed and the effective grounds of appeal are Ground Nos.6 &7 which read as under :
3. The Brief facts of the case are that the assessee is a subsidiary of Rhombus (K M Ltd.) Grand KM which is a wholly owned subsidiary of Rhombus Inc., US and engaged in rendering software design, development services to Rhombus US and compensated on cost-plus mark up basis and the services provided, and is also engaged in the Business of software development segment(SDS) and filed the Return of Income on 23.11.2011 with total income of Rs.89,564 and book profits under Section 115JB of the Act of Rs.3,69,23,157. The case was selected for scrutiny and Notice under Section 143(2) and 142(1) of the Act were issued. In 3 IT(T.P)A No.1029/Bang/2017 & compliance, the ld. AR submitted the details and clarifications. The Assessing Officer found that the Assessee is having International Transactions exceeding the limit and Hence with the prior approval of learned CIT, Bangalore, the matter was referred to the TPO for determination and computation of Arm’s Length Price (ALP). The assessee s PLI on operating profit to cost is 12.03% dealt at page 3 para 3 of the TPO order. Similarly international transactions under Section 92CE of Income tax Act at paras 3.1 which are as under :
The TPO called for documents mentioned under Section 92D along with the Agreements .The assessee has filed the details by letter dt.21.04.2014 and as per the TP Study and TP documents, the assessee has chosen 16 comparables in 4 IT(T.P)A No.1029/Bang/2017 & TNMM as Most Appropriate Method (MAM). The assessee has selected comparables engaged in same industry vertical as of the assessee including aero space and defence industry. The TPO has rejected the TP Study and found defects in the TP analysis carried out by the assessee referred at page 4 of the TPO order, whereas the TPO has applied the filters for Software Development Services segment and rejected the comparables and selected final set of comparables referred at para9 of Tpo order with Arithmetic Mean of 24.82 %.Further the TPO has granted Working Capital Adjustment and Risk Adjustment and computed the ALP at para 12.4 as under :
5 IT(T.P)A No.1029/Bang/2017 & The TPO has passed order under Section 92CA of the Act dt.28.01.2015. The Assessing officer subsequently passed the Draft assessment order with Transfer Pricing Adjustment under Section 92CA of Rs.3,76,57,899 and other additions of foreign exchange loss, and restricting the claim under Section 10A of the Act and Assessed the total income at Rs.3,94,85,126 and passed under Section 143(3) r.w.s. 144C(1) Dt.9.3.2015. Subsequently, the final assessment order was passed under Section 143(3) r.w.s. 144C(3) dt.17.4.2015. Aggrieved by the assessment order, the assessee has filed an appeal with the learned CIT(Appeals) .whereas the learned CIT(Appeals) dealt on the grounds of appeal
, findings of the Ao and the submissions of the assessee and has granted partial relief on and partly allowed appeal of the assessee. Aggrieved by the Cit(A) order, the assessee has filed an appeal with the Tribunal.
4. At the time of hearing, the learned Authorised Representative has argued for exclusion of four comparables and inclusion of comparable and restricted his arguments to the extent of comparables only and filed chart and Paper Book to support the submissions. Contra, the learned Departmental Representative supported the orders of learned CIT(Appeals) and filed written submissions.
5. We heard the rival contentions and perused the material on record. Prima facie, the learned Authorized Representative has argued only on the exclusion and inclusion of the comparables and filed chart and relied on the judicial decisions.
6 IT(T.P)A No.1029/Bang/2017 & The learned Authorised Representative argued for Exclusion of four comparables which are functionally dissimilar. (i) Acropetal Technologies Ltd. has a margin of 27.89% and functionally dissimilar and employee cost is more than 25% and failed the employee cost filter. The TPO has considered the cost towards the technical sub-contractor as e-expenses in the computation of employee cost. The company follows different modules and sub-contracts majority of it works to third party vendor.Further fails the revenue filter of 75% applied by the ld. TPO as the income from Software Development Services is Rs.81.40 Crores out of the total revenue of Rs.141 Crores. The ld. AR relied on the co-ordinate bench decision in the case of Finastra Software Solutions (India) Pvt. Ltd. Vs. ACIT ( IT(TP)A No.529/Bang/2016 dt.2.5.2018), Sales Force.com India Pvt. Ltd. Vs. DCIT in IT(TP)A No.697/Bang/2016 A Y 2011-12 dt.21.12.2018). Zynga Game Network India Pvt. Ltd. Vs. ACIT in IT(TP)A No.360/Bang/2016 Dt.12.07.2017 Assessment Year 2011-12). AT & T Global Business Service India Pvt. Ltd. Vs. ACIT in IT(TP)A No.171/Bang/2016 and Commonscope Networks (India) Pvt. Ltd. Vs. ITO in IT(TP)A No.166/Bang/2016 dt.22.02.2017; Capital IQ India Ltd. Vs. DCIT in IT(TP)A No.196/Hyd./2011 dt.23.11.2012. We find though the learned Authorised Representative has relied on catena of judicial decisions, we Support our view relying on the decision of Finastra Software Solutions (India) Pvt. Ltd. Vs. ACIT
7 IT(T.P)A No.1029/Bang/2017 & (supra) . The Hon'ble Tribunal has observed at page 8 para 15 and excluded the comparable read as under : “ 15. We will first deal with the plea of the Assessee for exclusion of comparable companies chosen by the TPO. The first company which the Assessee seeks exclusion is Accropetal Technologies Ltd. On exclusion of this company, we have heard the rival submissions. We find that the TPO has himself applied a filter for exclusion of companies for the purpose of comparison, viz., revenue from software development service should be more than 75% of the total operating revenue. The admitted factual position is that revenue from software development service of this company was 81.40 Crores out of the total operating revenue of Rs.141 Crores. Thus the revenue from software development is admittedly less than 75% of the total operating revenue of this company. Therefore his company has to be excluded from the list of comparable companies. It was also brought to our notice that the ITAT Bangalore in the case of Applied Materials Pvt.Ltd., in IT (TP) A.No.17 & 39/Bang/2016 for AY 2011-12 order dated 21.9.2016 noticing the aforesaid facts excluded this company from the list of comparable companies in the case of a software development service provider such as the Assessee. We therefore hold that this company should be excluded from the list of comparable companies.” (ii) Icra Technologies ltd. (iii) Persistent Systems Ltd. and (iv) Sasken Communication Technologies Ltd. have been excluded by the Tribunal in the decision of Finastra Software Solutions (India) Pvt. Ltd. Vs. ACIT (supra). The Hon'ble Tribunal has dealt and observed at page 9 para 17 which is read as under : “17. The following 7 companies were excluded by the Tribunal ITAT Bangalore in the case of Applied Materials Pvt.Ltd., a company which is also engaged in providing software development services in IT (TP) A.No.17 & 39/Bang/2016 for AY 2011-12 order dated 21.9.2016. Following the said decision the ITAT Bangalore in the case of Commonscope Networks (India) Pvt.Ltd. IT (TP) A.No.166 and 181/Bang/2016 for AY 2011-12 order dated 22.02.2017 (vide Paragraph-9 of the said order). The seven companies so excluded were E- Inforchips Ltd., ICRA Technonogies Ltd., Infosys Ltd., Larsen & Toubro Infotech Ltd., Persistent Systems Ltd., Sasken Communication Technologies Ltd., and Tata Elxsi Ltd. Respectfully following the said decisions, we direct exclusion of these 7 companies from the list of comparable companies.”
8 IT(T.P)A No.1029/Bang/2017 & We find the three comparables are excluded on the functional profile of dissimilarity by the co-ordinate bench in the case of Common scope India Pvt. Ltd. Vs. ITO in IT(TP)A No.166/Bang/2016 and 181/Bang/2016 at page 16 para 9 as under :
9 IT(T.P)A No.1029/Bang/2017 & We considering the co-ordinate bench decisions, direct the TPO to exclude the 4 comparables form the final list of comparables selected for the purpose of determining the ALP.
10 IT(T.P)A No.1029/Bang/2017 &
The Lrd AR at the time of hearing submitted that the comparable FCS Software Solutions pvt Ltd is only pressed for inclusion, which is functionally comparable and is engaged in providing Software Development Services . The learned Authorised Representative relied on the co-ordinate bench decision Finastra Software Solutions (India) Pvt. Ltd. Vs. ACIT (supra) and VMware Software India Pvt Ltd. Vs. DCIT in IT(TP)A No.1311/Bang/2014 Dt.6.1.2017. We found the co-ordinate bench in the case of Finastra Software Solutions (India) Pvt. Ltd. Vs. ACIT (supra) observed at para 19 page 10 as under : “ 19. As far as the plea for including the other two companies viz., Thinksoft Global Ltd., and FCS Software Ltd., we find both these companies were excluded by the TPO for the reason that the working capital adjustment was very high. ITAT Bangalore Bench in the case of VMware Software India Pvt.Ltd. Vs. DCIT in IT (TP) A.No.1311/Bang/2014 order dated 6.1.2017 has held that a company which is otherwise comparable cannot be excluded for the reason that the working capital adjustment to be done was very high. In view of the aforesaid decision, we are of the view that this company, which was otherwise found to be comparable, be included in the list of comparable companies.” Whereas the comparable FCS Software Ltd. was included for the purpose of determination of ALP, and it was also considered for inclusion in the case of VMware Software India Pvt. Ltd. in IT(TP)A No.1311/Bang/2014 dt.6.1.2017 at page 22 para 27 which is read as under : “ 27. We have considered the rival submissions as well as relevant material on record. The TPO has rejected these two companies on the ground of high working capital adjustment. The working capital adjustment was computed by the TPO at 4.30% which was restricted to 1.71%. Therefore the TPO has initially proposed these two companies to be included in the set of comparables but finally excluded from the set of comparables on the ground that their respective lost of working capitals are very high and impacting the profit margin of more than 4%. We note that the co-ordinate bench of this Tribunal in the case of ARM 11 IT(T.P)A No.1029/Bang/2017 & Embedded Technologies Pvt. Ltd. Vs. DCIT (supra) has considered an identical issue in paras 20 to 23 as under : “ 20. Coming to the ground for inclusion of M/s. Thinksoft Global Solutions Ltd and FCS Software Solutions Ltd, we find that TPO herself had suggested these in the show cause notice, but had thereafter come to a conclusion that working capital adjustment required for these two companies exceeded 4% of profits and could not be therefore taken as proper comparables. Reasons given by the TPO for excluding these two companies, appear at paras 3.6.5.1, of her order which reads as under : b) Two companies proposed in the show-cause notice are functionally similar to the taxpayer. However, when the working capital of these companies is considered, the profit margin gets distorted. It may not be out of context to mention that our search for comparable is primarily focus on those companies whose profit margin is predominantly from operating business and not from financial activities. This prerequisite is not different in case of software development companies as they do not need any interest bearing funds to manage their working capital requirement. Therefore, with the purpose to identify only those uncontrolled comparables who are having profit margin from core operating activities and not from financial activities, the following two companies having working capital impact of more than 4% on profit have been excluded.
TPO has accepted that these companies were functionally similar to that of the assessee. However, according to her, the margins of these companies had not come from its core operating activities but from financial activities. Profit and Loss account of M/s. Thinksoft Global Solutions for the relevant previous year is placed at paper book page.247. Software service revenues of the said company came to Rs.920921452/-. Other income of the said company came to Rs.35,738,801/-. Break-up of the other income as given at schedule 10 placed at paper book page.256 show that out of such amount Rs.26,536,978/- was exchange gain. Interest received from deposits with banks and others came to Rs.29,15,080/- only. For better clarity this break-up is given hereunder : Other income Interest received on deposits with banks .. 2,371,740 Interest received from others .. 543,310 Profit on sale of fixed assets .. 6,276,773 Exchange gain (Net) .. 26,536,978 Miscellaneous income .. 10,000 35,738,801 We cannot say that the ‘other income’ arose out of any financial services done by the assessee and would take away the sheen of its software services income. The amount, in our opinion, was insignificantly small and not enough to warrant a conclusion that its operating margins had come not from its core operational activities.
Coming to FCS Software Solutions Ltd, profit and loss account placed at paper book page 321 shows that its revenue from software development and other services was Rs.1902547907/-. As against 12 IT(T.P)A No.1029/Bang/2017 & Rs.7875588/-. Break-up of such miscellaneous income as given at schedule M, placed at paper book page. 328 reads as under : Interest .. 2,875,685 Rent income .. 4,515,000 Amount W/Back .. 484,902 7,875,588 23. Compared to the software development services income, interest received by M/s. FCS Software Solutions Ltd, was in our opinion, insignificantly small. Thus the reasoning given by TPO for rejecting these two companies as proper comparables, was in our opinion, incorrect. We set aside the orders of the lower authorities in this regard and direct these two companies to be included in the list of comparables for working out the average PLI.” Following the order of co-ordinate bench of this Tribunal, we direct the A.O./TPO to include these two companies in the set of comparables for determining the ALP.”
We considering the ratio of the co-ordinate Bench decisions, direct the TPO to include the comparable in the final list in determination of ALP. And the appeal of the assessee is partly allowed for statistical purposes. Now we shall take up the Appeal in IT(TP)A No.1029/Bang/2017. 7. The revenue has raised the following grounds of appeal :
13 IT(T.P)A No.1029/Bang/2017 & 14 IT(T.P)A No.1029/Bang/2017 &
The learned Departmental Representative argued Ground of appeal
Nos.1 & 2 in respect of foreign exchange loss occurred towards the settlement of advance received from holding company which is not eligible for deduction under Section 43A of the Act. Further learned CIT (Appeals) has erred in allowing foreign 15 IT(T.P)A No.1029/Bang/2017 & exchange loss which is notional in nature. Contra, the ld. AR relied on the learned CIT (Appeals) order.
9. We found the learned CIT (Appeals) has dealt on this issue at para 10 page 61 as under :
16 IT(T.P)A No.1029/Bang/2017 &
When a query was raised to the learned Authorised Representative with respect to disclosure of loss in the Balance Sheet., the learned Authorised Representative demonstrated with copy of Balance Sheet, but there is no clarity on foreign Exchange loss claim. Therefore we considering the facts and submissions and the disclosure, Restore this disputed issue to the file of learned CIT (Appeals) to adjudicate afresh and allow this ground of appeal
of Revenue for statistical purposes.
11. Ground No.3, the ld DR argued that the learned CIT (Appeals) has erred in directing the Assessing Officer to reduce the foreign exchange expenditure from both the export turnover and total turnover for the purpose of deduction under Section 10A of the Act. The ld. AR supported the orders of the learned CIT (Appeals) and Hon'ble jurisdictional High Court decision in the case of Tata Elxsi Limited Vs. CIT reported in 349 ITR
98. We found this issue was considered by the jurisdictional High Court in the case of Tata Elxsi Limited Vs. CIT (supra) and ld Cit(A) fallowed the Hon’ble High court decision and Granted Relief.
17 IT(T.P)A No.1029/Bang/2017 & Accordingly we are not inclined to interfere with the order of Cit (A) and confirm the same and dismiss this ground of Appeal of the Revenue.
12. The Ld Dr argued on Ground of Appeal Nos.4 to 7, that the learned CIT (Appeals) has erred in selecting the comparables which are functionally different and the learned CIT (Appeals) erred in excluding E-infochip Ltd. in the absence of segmental data. whereas the learned Authorised Representative relied on the learned CIT (Appeals) order and the decision of Saxo India Pvt. Ltd. Vs. ACIT in IT (TP)A No.6148/Del/2015 Dt.5.2.2015 at page 22 paras 10.1 to 10.2 which is read as under : “ (i) E-Infochips Limited: 10.1. The Transfer Pricing Officer included this company in the list of comparables. On being called upon to explain as to why it should not be considered as a comparable, the assessee contended that there was functional dissimilarity inasmuch as this company was engaged in software development and IT enabled services and also Products. The Transfer Pricing Officer observed that the revenues of this company from Products was only 15% of total revenue and hence the same qualified to be eligible for comparison. The DRP did not allow any relief. 10.2. After considering the rival submissions and perusing the relevant material on record, we find that the Annual report of this company is available in the paper book with its Profit and loss account at page 1025. Schedule of Income indicates its operating revenue from software development, hardware maintenance, information technology, consultancy etc. Revenue from hardware maintenance stands at Rs. 3.92 crore, which has been considered by the Transfer Pricing Officer himself as sale of products. Such sale of products constitutes 15% of total revenue. There is no segmental information available as regards the revenue from sale of products and revenue from software development segment. As the assessee is simply engaged in rendering software development services and there is no sale of any software products, this company, in our considered opinion, ceases to be comparable. It is obvious that from the common pool of income from both the streams of software products and software services, one cannot deduce the revenue from software services and no one knows the impact of revenue from Products on the overall kitty of profit, which may be significant. Since no segmental data of this company is available indicating operating profit from software development services, we order to exclude this company from the list of comparables.”
18 IT(T.P)A No.1029/Bang/2017 &
The ld. DR could not controvert the findings of the learned CIT (Appeals) and relied on the TPO order. Hence we find no merit in the submission of the ld. DR and confirm the order of the learned CIT (Appeals) on excluding the comparables. 15. The Ground Nos.8 & 9 are with respect to Working Capital Adjustment where the ld. DR has submitted that the learned CIT (Appeals) is not justified in allowing the Working Capital Adjustment where this issue was dealt in assessee's own case for the Asst. Year 2009-10 in IT(TP)A No.23/Bang/2015 and 61/Bang/2015 Dt.22.07.2015 at page 18 paras 13 & 14 read as under : “13. As regards ground No.3(f), learned counsel for the assessee submitted that the Assessing Officer/TPO while considering the working capital adjustment to be made while computing the ALP has arrived at the working capital adjustment in the case of the assessee at 5.97%, but while giving effect to the working capital adjustment, has restricted the said adjustment to 1.71%. The learned counsel for the assessee submitted that the TPO has not given any basis for such restriction of the Working Capital Adjustment. He submitted that the CIT (Appeals) also has not applied his mind to this issue but has summarily confirmed the order of the Assessing Officer and therefore it has to be set aside.
On going through the TPO’s order as well as annexure D refered to in the transfer pricing order on Working Capital Adjustment, we find that the TPO has computed it at 5.97% but has not given any basis for restricting the adjustment to 1.71%. In various cases relating to transfer pricing adjustment, this Tribunal has been directing to give Working Capital Adjustment on actual basis and the TPO having arrived at 5.97%, ought to have adopted the same instead of restricting it to 1.71%. in view of the same, we deem it proper to remand this issue to the file of the TPO/A.O. for working out the ALP after giving adjustment of working capital as per the calculation of the A.O. in annexure D annexed to the transfer pricing order. This ground of appeal is accordingly allowed.”