STARENT NETWORKS (INDIA) PRIVATE LIMITED,,PUNE vs. JOINT COMMISSIONER OF INCOME-TAX,,

The assessee has raised the following grounds of appeal:-

The ground of appeal No.1 raised by the assessee is general in nature and the same is dismissed.

The grounds of appeal No.2, 3, 6, 7 and 9 are not pressed and hence, the same are dismissed as not pressed. The ground of appeal No.12 is premature and hence the same is also dismissed. The issue in ground of appeal No.13 against levy of interest under section 234A, 234B, 234C and 234D is consequential and hence, the same is also dismissed.

The remaining grounds of appeal No.4 and 5 are against transfer pricing adjustment made in the hands of assessee on account of international transactions undertaken by the assessee. The issue in ground of appeal No.8 is in respect of risk adjustment to be allowed, which as per the learned Authorized Representative for the assessee is covered in favour of assessee. The issue in ground of appeal No.10 is to give the benefit of +/- 5% range of variation in respect of arm's length price of international transactions when compared with mean margins of comparables.

The issue in ground of appeal No.11 is corporate issue of disallowance of personnel expenses of ₹ 1,14,09,276/-.

Briefly in the facts of the case, the assessee had furnished return of income declaring total income of ₹ 1,26,38,809/-. The case of assessee was picked up for scrutiny. Since the assessee had undertaken international transactions of export of software development to the tune of ₹ 81,51,27,231/-, the Assessing Officer made reference under section 92CA(1) of the Act to the

The first issue which is to be addressed by way of grounds of appeal No.4 and 5 is against transfer pricing adjustment made in the hands of assessee.

The learned Authorized Representative for the assessee pointed out that though the TPO mentions that the assessee had adopted CPM method but there is no dispute that the method which has been adopted by both the assessee and TPO i.e. TNMM method. He then, referred to the order of Tribunal in assessee’s own case relating to assessment year 2006-07, order dated 03.10.2011 and pointed out that TNMM method was also applied in the preceding year to benchmark international transactions undertaken by the assessee. The learned Authorized Representative for the assessee pointed out that first dispute was with regard to inclusion / exclusion of certain concerns. He referred to the list of comparables finally selected by the TPO and pointed out that the concern ICRA Techno Analytics Ltd. is to be included, which was rejected by the TPO on the ground that it does not satisfy RPT filter. Our attention was drawn to the tabulated chart in this regard and pointed out that difference was on account of reimbursement of expenses which has no bearing on margins, so the same had to be excluded while calculating RPT percentage. He placed reliance on the order of Mumbai Bench of Tribunal in

The learned Departmental Representative for the Revenue on the other hand, referred to observations of TPO at page 22 of its order with regard to exclusion of ICRA Techno Analytics Ltd.

We have heard the rival contentions and perused the record. The assessee had entered into international transactions of export of software development with its associated enterprises totaling ₹ 81.51 crores during the year. The assessee had benchmarked international transactions by applying TNMM method and compared its margins with list of comparables selected by it. However, since the assessee had taken weighted average of three years data of said concerns, the TPO asked the assessee to re-work margins of comparables on the basis of data of contemporaneous period i.e. year ending 31.03.2009. The assessee selected 29 companies as comparable and as against its PLI of 15.61%, the mean margins of comparables was computed at 14.24%. However, the TPO finally selected six companies as comparables, which read as under:- Sr. Name of the comparable OP/OC (%) Working capital No. adjusted margin (%) 1 Bodhtree Consulting Ltd. 62.29 60.12 2 Goldstone Technologies Ltd. 4.15 3.91 3 KALS Information Systems 41.91 40.04 Ltd. (application software seg) 4 L G S Global Ltd. 20.50 14.34 5 R S Software 9.88 9.28 6 Compucom Software 41.98 39.58 27.88

The assessee in the first instance is aggrieved by exclusion of concern ICRA Techno Analytics Ltd. on the ground that the said concern fails RPT filter. The assessee has explained that RPT of said concern was not more than 25% and ICRA Techno Analytics Ltd. should be considered as comparable. In this regard, it has filed details and pointed out that reimbursement of expenses should not be included while calculating RPT percentage as it has no bearing on the profits of said concern. We find merit in the plea of assessee with regard to reimbursement of expenses, where it is on cost to cost basis, then the cost incurred on behalf of related parties is recovered from related party and hence, the net effect to Profit and Loss Account is Nil. Accordingly, we hold that reimbursement of expenses should not be included while calculating RPT percentage. The said concern is functionally comparable to the assessee and the same is not disputed. The only issue is the calculation of percentage of RPT.

The Mumbai Bench of Tribunal in M/s. Jacobs Engineering India Pvt. Ltd. Vs. DCIT (supra) has held that recovery of overhead charges being reimbursement of expenses is to be excluded being not commercial transaction involving profit element. We find merit in the plea of assessee and accordingly, direct the inclusion of ICRA Techno Analytics Ltd. in final set of comparables.

The second aspect of transfer pricing provisions is in respect of exclusion of concern Bodhtree Consulting Ltd. being functionally not comparable. In this regard, the learned Authorized Representative for the assessee referred to the order of Tribunal in assessee’s own case in ITA No.164/PUN/2013, order dated 09.02.2018, wherein in assessment year 2008-

The next concern which the assessee is aggrieved from inclusion of concern i.e. KALS Information Systems Ltd. on the ground that it is a product company.

The Tribunal in assessee’s own case in earlier year has also considered exclusion of KALS Information Systems Ltd. being product company and had applied the ratio laid down by the Hon’ble Bombay High Court in CIT Vs. PTC Software (I) Pvt. Ltd. in Income Tax Appeal No.732 of 2014, judgment dated 26.09.2016. The relevant findings of Tribunal are in paras 23 and 24 of the order of Tribunal, which are being referred to but are not being reproduced for

The next concern which the assessee wants to exclude from the final set of comparables is Compucom Software Ltd.

The learned Authorized Representative for the assessee pointed out that the TPO notes that assessee had included the said concern in its TP study report. However, when data of the said concern was seen, then it was found it was engaged in ITES services and providing software services but the same could not be included while benchmarking arm's length price of international transactions undertaken by the assessee. In this regard, he further pointed out that TPO did not dispute the functional differences but had included the said concern in the final list of comparables on the ground that the assessee had included the same in its TP study report. He then, placed reliance on the ratio laid down by Chandigarh Special Bench of Tribunal in the case of Quark Systems Pvt. Ltd. in ITA Nos.100 & 115/CHD/2009, relating to assessment year 2004-05, order dated 22.10.2009 and DCIT Vs. Barclays Technology Centre India Pvt. Ltd. in ITA No.1855/PN/2014, relating to assessment year 2009-10, order dated 22.07.2016, wherein the Tribunal had held that the assessee was at liberty to exclude concern/s which was not functionally comparable when it receives contemporaneous data, though initially it had selected the same concern in its TP study report.

The learned Departmental Representative for the Revenue placed reliance on the orders of authorities below.

We have heard the rival contentions and perused the record. While benchmarking international transactions undertaken by the assessee, endeavour should be made to compare the margins shown by the assessee with margins of concern which are functionally comparable. Merely because one concern was picked up by the assessee in its TP study report, which admittedly, was not functionally comparable, then the same cannot be continued to be part of final list of comparables selected for benchmarking international transactions. Accordingly, we find no merit in the approach adopted by the TPO in this regard.

Now, coming to the functionality of said concern Compucom Software Ltd., wherein it is not disputed that the said concern was engaged in ITES sector and also software development services. However, in the absence of segmental details, the margins shown by the said company cannot be applied to benchmark the international transactions undertaken by the assessee. In this regard, we find support from the decision of Chandigarh Special Bench of Tribunal in the case of Quark Systems Pvt. Ltd. (2010) TIOL-31-ITAT-CHD-SB, wherein it was held that if some inconsistency in comparable companies, then it should be removed from the final list of comparables, notwithstanding the fact that the assessee had earlier considered it as comparable concern. Applying the said ratio to the facts of the present case and since the TPO had accepted functional difference of the concern Compucom Software Ltd., we hold that it is to be excluded from final set of comparables.

The assessee has further raised ground of appeal No.5, wherein it wants inclusion of two concerns TVS Infotech Ltd. and Quintegra Solutions Ltd., which were identified by the assessee during the course of TP proceedings. The said two concerns were excluded as they had shown negative adjusted margins for the year under consideration; TVS Infotech Ltd. had shown margins of (-) 12.94% and Quintegra Solutions Ltd. at (-) 4.22%.

The learned Authorized Representative for the assessee pointed out that the concern TVS Infotech Ltd. should not be excluded from final set of comparables as it was not persistent loss making concern. The learned Authorized Representative for the assessee during the course of hearing was asked to furnish the details of margins shown by the said concern in earlier years and later years. However, he pointed out that the details were not available. In the absence of details being not available, we find no merit in the plea of assessee and we hold that TVS Infotech Ltd. is to be excluded.

Now, coming to the next concern i.e. Quintegra Solutions Ltd. The learned Authorized Representative for the assessee pointed out that the Tribunal in assessment year 2007-08 had remitted the matter back to the file of Assessing Officer/TPO for verification vis-à-vis inclusion of Quintegra Solutions Ltd.

The learned Departmental Representative for the Revenue pointed out that the TPO had excluded the said concern as being not comparable because of findings in preceding year.

We have heard the rival contentions and perused the record. With regard to inclusion of Quintegra Solutions Ltd., we find that the Tribunal in assessee’s own case for assessment year 2007-08 had remitted the issue to the file of TPO, wherein as per the assessee, the TPO had accepted the assessee’s contention that the said concern was functionally comparable to the assessee. He has referred to the final order passed for assessment year 2007- 08 at pages 674 to 680 of Paper Book. Following the findings of TPO in preceding year in the case of assessee itself in assessment year 2007-08, wherein Quintegra Solutions Ltd. was held to be functionally comparable to the assessee and the margins were included in the final list of comparables, we hold that the said concern is to be included in the final list of comparables and accordingly, the mean margins of comparables are to be re-worked. In case the PLI shown by the assessee is within +/- 5% range of mean margins of comparables, then no adjustment is to be made in the hands of assessee, otherwise TPO shall workout the addition on account of arm's length price of international transactions. Consequently, grounds of appeal No.4, 5 and 10 are partly allowed.

Now, coming to risk adjustment asked for by the assessee for applying transfer pricing provisions.

The Tribunal in assessee’s own case relating to assessment year 09.02.2018 in paras 34 to 36 allowed the issue in respect of economic adjustment in the hands of assessee, following the ratio laid down by the Delhi Bench of Tribunal in the case of Sony India Pvt. Ltd. reported in 114 ITD 448. The relevant findings are in paras 34 to 36 of the order of Tribunal, dated

The corporate issue by way of ground of appeal No.11 is against the disallowance of personnel expenses.

The assessee during the year under consideration had debited an amount of ₹ 2.35 crores under the head ‘Performance Linked Incentives’, which was sub-head of ‘Personnel Expenses’. The assessee was asked to submit the parameters adopted for measuring the performance of its employees. The assessee was also asked to substantiate its claim of expenditure by producing documentary evidence to support the incentives given to the employees. The assessee explained that it was paying performance bonus to its employees based on their individual performance rating. The assessee on the basis of performance of its employees had categorized them into five buckets i.e. A, B, C, D and E and percentage of bonus was computed on the basic salary of employees as per percentage decided by the assessee company. The annual pay cycle for the performance bonus was January to June and July to December. The Assessing Officer was of the view that details submitted by the assessee were too generic in nature and do not substantiate the claim of assessee. The Assessing Officer compared unit-wise segmental profit and loss statement, wherein unit-I had taxable income and whereas income of unit-II and Bangalore unit was exempt under section 10A of the Act. The Assessing

The learned Authorized Representative for the assessee pointed out that activities of each of the units may be same but head count, qualifications and activities performance were not considered. The learned Authorized Representative for the assessee stressed that the accounts of assessee company were audited under the Companies Act and also under the Income- tax Act and actual salary expenditure was debited. Where the Assessing Officer had failed to point out any discrepancy, then there was no point in working out the aforesaid disallowance. Our attention was drawn to page 22 of Paper Book-I in para (e), wherein three units were functioning in different fields and the assessee having booked the actual expenses was found, then the

The learned Departmental Representative for the Revenue stressed that the issue may be sent back to the file of Assessing Officer for necessary verification in this regard.

We have heard the rival contentions and perused the record. The assessee was running three units during the year under consideration, out of which one unit i.e. unit No.I was showing taxable profits. The other two units i.e. unit No.II and Bangalore units were 10A units and the profits of said units were not taxable in the hands of assessee. The Assessing Officer noted the personnel expenses debited by the assessee company and was of the view that expenses debited to taxable unit were on the higher side as against expenses debited to units which were enjoying tax-free benefits. He was of the view that where all the units were providing same facilities to its parent company i.e. Starent Networks Corporation, then there was no merit in having higher personnel cost in the taxable unit. The assessee on the other hand, has strongly objected to the working adopted by the Assessing Officer, which is without any basis as against entries made in the books of account of assessee, which are backed by audited accounts both under the Companies Act and Income-tax Act. The main plea raised by the assessee is that observation of

The perusal of above said explanation reflects that the assessee was performing different functions though all the functions were under the umbrella of provision of software to its principal i.e. Starent Networks Corporation. In view thereof, observations of Assessing Officer that three units are performing same functions cannot be accepted. The assessee had adopted formula to benchmark the performance of employees under its employment for working out eligible bonus due to them. In view of methodology adopted by the assessee on the basis of performance ratings of employees, bonus was calculated for the stipulated period and was passed on to the employees, then merely because expenditure in taxable unit-I being percentage on personnel expenses/sales ratio being higher of taxable unit-I cannot be the basis for disallowing part of expenditure out of total claim made in unit-I. Admittedly, unit-II and Bangalore unit had lower personnel expenses/sales ratio and the profits of said units were not taxable in the hands of assessee being 10A units but that differences could not be the basis for computing disallowance in the

In the result, appeal of assessee is partly allowed.