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Income Tax Appellate Tribunal, “B” BENCH : BANGALORE
Before: SHRI N.V. VASUDEVAN & SHRI JASON P. BOAZ
IN THE INCOME TAX APPELLATE TRIBUNAL “B” BENCH : BANGALORE
BEFORE SHRI N.V. VASUDEVAN, VICE PRESIDENT AND SHRI JASON P. BOAZ, ACCOUNTANT MEMBER
IT(TP)A No.205/Bang/2014 Assessment year : 2009-10
Inteva Products India Automotive Vs. The Deputy Commissioner of Private Limited Income Tax, (formerly Meritor LVS India Circle 11(4), Pvt. Ltd.), Bangalore. No.69, Al-Ameen Towers, Hosur Road, Near Lalbagh Main Gate, Bangalore – 560 027. PAN: AABCM 9623K APPELLANT RESPONDENT
Appellant by : Shri M.P. Lohia, CA Respondent by : Ms. Neera Malhotra, CIT(DR-II)(ITAT), Bengaluru.
Date of hearing : 29.07.2019 Date of Pronouncement : 02.08.2019
O R D E R Per N V Vasudevan, Vice President
This appeal by the assessee is against the order of assessment dated 30.01.2014 of the DCIT, Circle 11(4), Bangalore passed u/s. 143(3) r.w.s 144C of the Income-Tax Act, 1961 [“the Act”].
The only issue that arises for consideration in this appeal is with regard to correctness of addition of Rs.3,41,08,231 on account of determination of arm’s length price (ALP) in respect of an international
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transaction of rendering of software development services by the assessee to its AE.
The assessee is a company engaged in the business of manufacture of automobile components. The assessee also renders software development services. During the previous year, the assessee rendered software development services to its wholly owned subsidiary company. It is not in dispute that the transaction of rendering software development services to its wholly owned subsidiary was an international transaction and therefore consideration received by the assessee for rendering such services has to pass the arm’s length test as laid down in section 92 of the Act. It is also not disputed that Transactional Net Margin Method (TNMM) was the adopted as the Most Appropriate Method (MAM) for determining the ALP. The Profit Level Indicator (PLI) chosen for the purpose of comparison was Operating Profit to Operating Cost (OP/OC). The AO made a reference to the TPO u/s. 92CA of the Act for determining the ALP. The TPO adopted OP/OC of the assessee at 5.22% as follows:-
Financial Results for the AY 2008-09 Operating Revenue 21,21,89,929 Operating Expenses 20,16,58,202 Operating (Profit/Loss) 1,05,31,727 Op Profit on cost % 5.22%
The assessee, however, claimed that OP/OC was 9.16%. This difference is basically due to the fact that certain other income were not considered as part of operating income by the TPO. The assessee had chosen a set of 6 comparable companies and average arithmetic profit margin of these companies was 10.74%. In its TP study, the assessee compared the aforesaid profit margin with the profit margin of the assessee
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which was computed by the assessee at 9.16% and the assessee claimed that transaction with the AE was at arm’s length i.e., after giving benefit of +/- 5% addition to the profit margins as was required under second proviso to section 92C of the Act.
The TPO rejected all the six comparable companies and he chose a set of 11 comparable companies, whose arithmetic average profit margin was 24.32%. The comparables chosen by the TPO were as follows:-
Sl Name of the Sales (in Rs.) Cost (in Rs.) Margin No. Comparable 1 Kals Information 2,14,04,686 1,87,93,813 13.89% Systems Ltd. 2 Akshay Software 12,23,21,483 11,31,49,350 8.11% Technologies Ltd. 3 Bodhtree Consulting 16,05,75,212 9,89,56,821 62.27% Ltd. 4 R S Software (India) 1,49,57,12,634 1,36,01,02,589 9.97% Ltd. 5 Tata Elxsi Ltd. 3,78,43,03,000 3,146,63,15,000 20.28% (Segmental) 6 Sasken Communication 4,05,31,20,000 3,18,69,97,000 27.91% Technologies Ltd. (Seg) 7 Persistent Systems Ltd. 5,19,69,10,000 3,67,52,70,000 27.91% 8 Zylog Systems Ltd. 7,34,93,51,475 6,81,69,98,160 7.81% 9 Mindtree Ltd. (Seg) 7,93,22,79,326 5,74,06,73,058 5.52% 10 Larsen and Toubro 19,50,83,81,374 15,64,12,76,626 24.72% Infotech 11 Infosys Ltd. 2,02,64,00,00,000 1,39,17,00,00,000 45.61% Average Mean 24.32% 6. The TPO computed the addition to be made to total income on account of determination of ALP as follows:-
3.0.3. Computation of Arm Length:
'The arithmetic mean of the Profit Level indicators is taken as the arms length margin. Please see Annexure B for details of computation of. PLI of
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the comparables. Based on this, the arms length price of the services rendered by the taxpayer to its AE(s) is computed as under:
Software Development Services.
Arm's Length Mean Margin on cost 24.32% Less: Working Capital Adjustment 0.20% (Annex. C) Adjusted margin 24.12% Operating Cost Rs.20,16,58,202 Arms Length Price(ALP)@ 124.12% Rs.25,02,98,160 of operating cost Rs.21,61,89,929 Price Received Shortfall being adjustment u/s 92 CA Rs.3,41,08,231
The above shortfall of R.s.3,41,08,231/-is treated as transfer pricing adjustment u/s 92CA in respect of software development segment of the taxpayer's international transactions.” 7. Aggrieved by the aforesaid addition made by the TPO which was incorporated in the draft assessment order by the AO, the assessee preferred objections before the Disputes Resolution Panel (DRP) and DRP confirmed the order of AO/TPO. The AO incorporated the directions of the DRP in its final order of assessment.
Aggrieved by the aforesaid final order of assessment, the assessee has preferred the present appeal before the Tribunal. In this appeal, the assessee seeks exclusion of 7 out of 11 comparable companies chosen by the TPO. The 7 companies which the assessee seeks to exclude are; KALS Information Systems Ltd., Bodhtree Consulting Ltd., Tata Elxsi Ltd., Sasken Communication Technologies Ltd., Persistent Systems Ltd., Larsen and Toubro Infotech and Infosys Ltd.
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At the time of hearing, the ld. counsel for the assessee filed before us a decision of the coordinate Bench in the case of Sterling Commerce Solutions (India) Pvt. Ltd., for AY 2009-10 in IT(TP)A 186 & 286/B/2014, order dated 31.10.2017 wherein in the case of a company engaged in the provision of software development services such as the Assessee, the aforesaid 7 companies were regarded as not comparable with a software development service provider such as the assessee. We will set out the conclusions of the Tribunal on all the aforesaid 7 companies as follows:-
(1) Kals Information Systems Ltd.
As far as this company is concerned, it is not in dispute before us that this company has been considered as not comparable to a pure software development services company by the Bangalore "Bench of the Tribunal in the aforesaid case by following several decisions Pune Bench Tribunal's decision of the ITAT in the case of Bindview India Private Limited v. DCI, ITA No. ITA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. Following those decisions of co-ordinate Bench of the Tribunal, we direct that Kals Informations Systems Ltd. be excluded from the final list of comparables on the functional comparability.
(2) Bodhtree Consulting Ltd.
As far as this company is concerned, in the decision cited by the learned counsel for the Assessee held that this company is in the business of software products and engaged in providing open and end to end web solutions, data warehousing, software consultancy and design & development of software using latest technology. It is a product company. The tribunal also referred to decision of the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. v. ITO, ITA No.7633/Mum/2012, order dated 6.11.2013. In this case, the Tribunal followed the decision rendered by the Mumbai Bench of the Tribunal in the case of Wills Processing Services (I) P. Ltd., ITA No.4547/Mum/2012. In the aforesaid decisions, the Tribunal has taken the view that Bodhtree Consulting Ltd. is in the business of software products and was engaged in providing open &
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end to end web solutions software consultancy and design & development of software using latest technology. The decision rendered by the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. (supra) is in relation to A.Y. 2008- 09. Following the aforesaid decision of the Mumbai Bench of the Tribunal, we hold that Bodhtree Consulting Ltd. cannot be regarded as a comparable.
(3) Tata Elxsi Ltd.
As far as this company is concerned, the Tribunal in the decision cited by the learned counsel for the Assessee held that this company is not a comparable with a SWD service provider such as the assessee company since this company provides product design service, innovation design engineering services, visual computing labs, systems integration and support. Further in assessee's own case for the A.Y. 2007-08, this company was not regarded as a comparable in its software development services segment in ITA No.1076/Bang/2011, order dated 29.3.2013. Therefore this company being functionally different from that of the assessee and hence deserves to be deleted from the list of six comparable companies.
(4) Sasken Communication Technologies Ltd. (Seg) (5) Persistent Systems Ltd. (6) Larsen & Toubro Infotech Ltd., and (7) Infosys Ltd.:
As far as the aforesaid 4 companies are concerned, the tribunal in the decision cited by the learned counsel for the Assessee, excluded these companies from the list of comparable companies chosen by the TPO by following the decision rendered by ITAT Bangalore in the case of Yodlee Infotech (P.) Ltd. v. ITO, [IT (TP) A No. 108/Bang/2014, dated 12.12.2014]Yodlee Infotech (P.) Ltd. (supra), wherein this Tribunal held that Infosys Ltd. has to be regarded as functionally different from a company providing simple software development services, as this company owns significant intangibles and has huge revenues from software products. As far as Persistent Systems Ltd., is concerned, this Tribunal in the case of 3DPLM Software Solutions Ltd. v. DCIT [IT (TP) A 1303/Bang/2012 dated 28-11-2013] held that Persistent Software Systems Pvt. Ltd., was in product designing services and into software product development. In the same decision
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it was also held that M/s. Infosys Technologies Ltd, had considerable intangibles like IPR, and was also into software product development. As far as Sasken Communication Ltd., and Larsen & Toubro Infotech Ltd., are concerned, it was held in the decision cited by the learned counsel for the Assessee that Sasken communication Ltd., & Larsen & Toubro Infotech Ltd., are developing software products and was more into R & D and hardware and not comparable with a company providing SWD services.
The ld. DR, however, submitted that ITAT Bangalore Benches have taken a contrary view for the same AY 2009-10 in respect of 3 companies viz., Bodhtree Consulting Ltd., Larsen & Toubro Infotech and KALS Information Systems Ltd.
With reference to KALS Information Systems Ltd., the ld. DR relied on the decision in the case of DCIT v. AOL Online India Pvt. Ltd. [2017] 84 taxmann.com 70 [Bang. Trib.] wherein at para 9 &10 the Tribunal took the view that this company was to be regarded as a comparable company. We shall first consider the claim of revenue in this regard on the specific observations of the Tribunal in the order cited supra by the ld. DR. The Tribunal has held as follows:-
“9. We have gone through the records and the order passed by the coordinate bench of the Tribunal in the matter referred herein above In our view, the issue as emerging from the finding of the TPO has not been addressed by the coordinate bench while adjudicating the exclusion of Kals Information Systems Ltd. Hence, as Kals Information Systems Ltd, is functionally similar to that of the assessee and as there is no software product developed in the year under consideration, we deem it appropriate to retain this company as a comparable. 10. The ld. AR for the assessee has also raised the issue of company having inventory / gains of 52%. This issue of having the inventory / gains of 52.97%, in our view cannot withhold the inclusion of Kals Information Systems Ltd, as the DRP as well as
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the TPO have separately dealt the working capital adjustment and have taken into consideration the aspect of inventory. It is an admitted position in law that while calculating working capital adjustment, the TPO is required to consider account receivable (current asset)/ inventory (current assets), and accounts payable (current liability). Since the issue of inventory would be been taken into consideration by the TPO while granting the working capital adjustment, therefore this company cannot be rejected on this ground. We therefore reject the argument of the assessee and direct the AO/ TPO to consider KALS Information Systems Ltd, as a comparable.” 12. We have perused the annual report of this company. A copy of the annual report at page 1392 of assessee’s PB shows that in Note 1 to financial statements that this company is engaged in development of software and software products since its inception. Similarly in Note 3, the company derives its revenues primarily from the software services and software products. In Note 9 of the Notes to Accounts, segmental information is provided and the treatment of revenue shown in the segmental revenue is only application software and training. In Schedule 5 of the balance sheet as on 31.3.2019, inventories have been shown at Rs.71,47,977. All these facts go to show that KALS Information Systems Ld. Was also developing software products. In the submissions before the TPO dated 22.11.2012, the assessee has pointed out in Annexure-H a list of software products of this company. The Tribunal in the decision cited supra by the ld. DR has made a reference on revenue recognition in respect of software development. That does not necessarily show that this company renders only software development services. The directors report mentioned by the Tribunal in the aforesaid decision also makes a reference to this company providing open and end-to-end web solutions, off-shoring data management, etc. These observations in the director’s report were in conflict with the other paras of financial statements of the company. In the decision cited by the ld. Counsel for the assessee in the case of Sterling
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Commerce Solutions (India) Pvt. Ltd. (supra), the Tribunal has elaborately discussed the exclusion of KALS Information Systems Ltd. on the basis of functional comparability. We are of the view that in the light of discussion above, KALS Information Systems Ltd. has to be excluded from the list of comparable companies.
As far as Laresen & Toubro Infotech is concerned, the ld. DR placed reliance on the decision of ITAT Delhi Bench in the Agnity India Technologies (P) Ltd. v. ITO, 154 ITD 293 (Del) wherein this company was regarded as a comparable company and the observations of the Tribunal are contained in para 14 of this order. The Tribunal has followed its own order in assessee’s own case for AY 2006-07 and also made a reference to the fact that Tribunal’s order for AY 2006-07 was upheld by the Hon’ble Delhi High Court. From a perusal of this order, it is not clear as to what was the filter used in the aforesaid case based on which Larsen & Toubro Infotech was regarded as a comparable company. However, from a perusal of para 11 of the Tribunal’s order, it is clear that this company was excluded in the aforesaid decision by application of turnover filter. In the case of Sterling Commerce (supra) cited by the ld. Counsel for the assessee for excluding this company as a comparable, this company was regarded as not comparable by application of turnover filter. However, in the case of Autodesk Ltd., Vs. DCIT IT(TP)A Nos.303/Bang/2015 order dated 8.6.2018, this Tribunal has considered the exclusion of comparable companies on the basis of turnover filter and after a detailed discussion, has come to the conclusion that turnover filter is a valid filter and has to be applied in TP cases. The turnover filter has also approved by the Hon’ble High Court of Karnataka in CIT v. Meritor LVS India Pvt. Ltd. [predecessor of assessee] in ITA No.68/2013, order dated 28.9.2018. In view of the aforesaid decision, we are of the view that Larsen & Toubro Infotech has to be excluded as a comparable company.
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The ld. DR submitted that Bodhtree Consulting Ltd. has to be excluded from the list of comparable companies and in this regard has placed reliance on the decision of ITAT Bangalore in the case of NMS Communications Pvt. Ltd. [2017] 85 taxmann.com 123 [Bang. Trib.] wherein the Tribunal has held as follows:-
“12(i) Bodhtree: It is submitted that in the annual report it has been mentioned that it has only one segment that is hardware segment. Actually it is engaged in providing services such as business intelligence, data warehousing, data cleansing, data management which can be classified as ITeS. Thus it was submitted that it is functionally dissimilar to a pure software development company. Reliance was placed on the decision in ITO v. Infinera India Ltd. [2016] 157 ITD 637/67 taxmann.com 8 (Bang. - Trib.). (ii) On the other hand, the learned CIT (DR) submitted that no comparable can be excluded without undertaking exercise of FAR analysis of tested party and comparables and reliance in this regard was placed on the decision of the co-ordinate bench in the case of (i) Sony Mobile Communications India (P.) Ltd. v. Asstt. CIT [2014] 43 taxmann.com 108/147 ITD 399 (Delhi - Trib.) (ii) Virage Logic International India v. Jt. DIT [2016] 72 taxmann.com 11 (Delhi - Trib.) (iii) ECI Telecom India v. Asstt. CIT [2016] 74 taxmann.com 107 (Mum. - Trib.). He also submitted that no new segment exclusion can be entertained. (iii) We have considered rival submissions and perusal material on record. This company was included by the TPO. It was contested that this company cannot be included because of abnormal profit at 63.24%. However the TPO had rejected this contention by holding that no company can be excluded on reason of abnormal profits or losses. This finding has been confirmed by the Hon'ble DRP. (iv) Being aggrieved, the assessee is before us in the present appeal. (v) On perusal of Annual Report of the company which is placed at pages 1 to 37 of the paper book, it is clear that the
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company is engaged in only one segment i.e. software development segment. Clause 3 of Schedule 12 mentions as under: 3. Revenue recognition Revenue from software development is recognised based on software developed and billed to clients. In Annexure III to the Director's Report placed at page 12 of the Annual Report (page 15 of the paper book) Segment-wise and product-wise performance is mentioned as under: Segment-wise and product-wise performance: Bodhtree has only one segment, namely software development. Being a software solutions company, it is engaged in providing open and end-to-end web solutions, off shoring Data Management, Data Warehousing, software consultancy, design and development of solutions, using the latest technologies. Outlook: With some new offerings being developed by the company in the sectors of business intelligence, spend data management and data cleansing operations, the outlook for the current financial year is one of cautious optimism. (vi) From the above, it is clear that the Bodhtree is engaged only in software development and even in the Schedule to the Profit & loss A/c or balance-sheet, no closing stock is shown. Therefore, it cannot be held that the company is engaged in development of software products only. The co-ordinate bench decisions on which reliance was place, are not applicable to the facts of the case as from the perusal of the said decisions it is clear that the Hon'ble Tribunal had not adverted to the Annual Report. (vii) In the result, this company cannot be rejected as comparable entity and direct AO/TPO to include same in the list of comparables.”
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However, we find from the decision cited by the ld. Counsel for the assessee in the case of Sterling Commerce (supra) that Bodhtree Consulting Ltd. was excluded a comparable company on the ground that it was not a pure software development company, but also a software product company. The observations of the Tribunal in the case cited by the learned DR proceeds only on the basis of observations in the annual report of this company. The comparability of this company with a SWD service provider such as the Assessee was considered by this Tribunal in the case of ASM Technologies Ltd., IT(TP) A.No.158/Bang/2014 order dated 30.9.2014 and it was held that this company was a software product company hence not comparable. The revenue’s appeal before the High Court on this issue has also been rejected in ITA 86/2015 order dated 13.7.2018. In the light of the aforesaid decisions of the Tribunal cited by the ld. Counsel for the assessee, we are of the view that Bodhtree Consulting Ltd. has to be regarded as not a comparable company.
In view of the above conclusion on exclusion of comparable companies, we are of the view that the grounds of appeal regarding incorrect computation of operating margin of assessee and certain comparable companies as set out in ground revised ground No.5 and the question of granting risk adjustment as raised in revised ground No.6 and other grounds of appeal regarding TP adjustment do not require any adjudication.
The only other ground which requires adjudication is ground No.9 raised by the assessee which reads as follows:-
“Ground No.9 – Not allowing tax holiday to eligible unit u/s 10A of the Act before setting off the loss from non-eligible unit Erred in not allowing the tax holiday of Rs.2,80,46,630 to the eligible unit (Bangalore unit) under section 10A of the Act before
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setting off the losses from the non-eligible unit (Pune unit) and accordingly, calculating the available carry forward loss at Rs.4,14,65,740 instead of Rs.6,95,12,370 as per the return of income filed by the Appellant.”
As far as this ground is concerned, the issue is with regard to the set off of losses of the non-10A unit against the eligible profits of the 10A unit while allowing deduction u/s.10A of the Income Tax Act, 1961 (Act). The assessee had claimed deduction u/s 10A of the Act before setting of losses of the non-10A unit. The AO was of the view that deduction u/s 10A of the Act was not in the nature of exemption provision and, therefore, the business loss and unabsorbed depreciation of the earlier years has to be first set off against the income of the eligible unit and only on the reminder deduction u/s 10A of the Act has to be allowed. The view of the AO was confirmed by the CIT(A), hence this ground of appeal by the Assessee before the Tribunal.
At the time of hearing it was agreed by the parties before us that this issue is no longer res integra and has been concluded by the Hon’ble Supreme Court in the case of Yokogawa India Ltd., 391 ITR 274 by its order dated 16.12.2016 and in the aforesaid decision the Hon’ble Supreme Court took the following view :-
• “That from a reading of the relevant provisions of section 10A it is more than clear that the deductions contemplated therein is qua the eligible undertaking of an assessee standing on its own and without reference to the other eligible or non-eligible units or undertakings of the assessee. The benefit of deduction is given by the Act to the individual undertaking and resultantly flows to the assessee. • This is also more than clear from the contemporaneous Circular No. 794, dated 9-8-2000.
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• If the specific provisions of the Act provide [first proviso to sections 10A(1); 10A(1A) and 10A(4)] that the unit that is contemplated for grant of benefit of deduction is the eligible undertaking and that is also how the contemporaneous Circular of the department (No.794 dated 9-8-2000) understood the situation, it is only logical and natural that the stage of deduction of the profits and gains of the business of an eligible undertaking has to be made independently and, therefore, "immediately after the stage of determination of its profits and gains. • At that stage the aggregate of the incomes under other heads and the provisions for set off and carry forward contained in sections 70, 72 and 74 would be premature for application. The deductions under section 10A therefore would be prior to the commencement of the exercise to be undertaken under Chapter VI for arriving at the total income of the assessee from the gross total income. The somewhat discordant use of the expression 'total income of the assessee' in section 10A has already been dealt with earlier and in the overall scenario unfolded by the provisions of section 10A the aforesaid discord can be reconciled by understanding the expression "total income of the assessee" in section 10A as 'total income of the undertaking'. • For the aforesaid reasons it is held that though section 10A, as amended, is a provision for deduction, the stage of deduction would be while computing the gross total income of the eligible undertaking under Chapter IV and' not at the stage of computation of the total income under Chapter VI. ” 20. The effect of the aforesaid decision would be that the provision of set off and carry forward as contemplated under Chapter-VI of the Act would not be attracted and therefore intra head set off sought by seeking to rely on the provision of section 70(1) of the Act and seeking to restrict the deduction u/s 10A and 10AA of the Act to the extent of gross total income as contemplated u/s 80A(2) of the Act, cannot be sustained. We therefore hold that deduction u/s.10A of the Act has to be allowed without setting off losses of non-10A unit before allowing the deduction under section 10A of the Act. In view of the aforesaid decision of the Hon’ble Supreme Court,
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the AO is directed not to set off the losses of non-10A units against profits of 10A units before allowing deduction u/s. 10A of the Act.
All other grounds were not pressed for adjudication.
In the result, the appeal by the assessee is partly allowed.
Pronounced in the open court on this 2nd day of August, 2019.
Sd/- Sd/-
( JASON P. BOAZ ) ( N.V. VASUDEVAN) Accountant Member VICE PRESIDENT
Bangalore, Dated, the 2nd August, 2019.
/ Desai Smurthy /
Copy to:
The Appellant 2. The Respondent 3. The CIT 4. The CIT(A) 5. The DR, ITAT, Bangalore. 6. Guard file
By order
Assistant Registrar, ITAT, Bangalore.