M/S INFINEON TECHNOLOGIES INDIA PVT. LTD.,,BANGALORE vs. ADDL.C.I.T,

against the order of Commissioner of Income Tax (Appeals)-IV, Bangalore dt.11.10.2013 for the Assessment Year 2002-03.

2.1 The assessee, a company that renders software development services to its Associated Enterprises (AEs), filed its return of income for Assessment Year 2002-03 on 30.10.2002 declaring income of Rs.9,08,420 after claiming deduction of Rs.59,53,692 under Section 10B of the Income Tax Act, 1961 (in short 'the Act'). The assessee, subsequently, filed a revised return of income on 13.11.2003 wherein the income declared was Rs.16,43,091; after claiming deduction of Rs.1,31,84,858 under Section 10B of the Act. The case was selected for scrutiny and thereafter the Assessing Officer made a reference to the Transfer Pricing Officer (TPO) under Section 92CA of the Act for determination of the Arm’s Length Price (ALP) in respect of the international transactions reported by the assessee in Form 3CEB. The TPO passed an order under Section 92CA dt.16.3.2005, proposing a TP Adjustment of Rs.3,17,60,790

3 IT(T.P) A Nos.1760 & 1885/Bang/2013 in respect of the software development services segment of the assessee's operations. After receipt of the TPO’s order, the Assessing Officer completed the order of assessment for Assessment Year 2002-03 under Section 143(3) of the Act vide order dt.28.3.2003 wherein the assessee's income was determined at Rs.3,72,94,620 which included the TP Adjustment of Rs.3,17,60,790.

2.2 Aggrieved by the order of assessment dt.28.3.2003 for Assessment Year 2002-03, the assessee preferred an appeal before the CIT (Appeals)

– IV, Bangalore, who disposed off the appeal vide order dt.11.10.2013, allowing the assessee partial relief.

3.1 The Grounds raised in the assessee's appeal are as under :

4 IT(T.P) A Nos.1760 & 1885/Bang/2013

5 IT(T.P) A Nos.1760 & 1885/Bang/2013 3.2 Revenue has raised the following grounds in its appeal :

6 IT(T.P) A Nos.1760 & 1885/Bang/2013 4.1 Before proceeding to address the grounds of appeal raised by the assessee and revenue (supra), the brief facts related to the TP issues are summarized hereunder :

4.2 The assessee company is engaged in the provision of software development services to its AEs. For the year under consideration, the assessee has reported that it has entered into the following international transactions :

Sl.No. International Transaction Value (Rs.) 1 Provision of Software Development Services. 7,48,91,856 2 Marketing Services. 2,07,67,512 3 Reimbursement of communication expenses 25,00,627 received.

4.3 The assessee carried out a TP Study in respect of the international transactions reported adopting TNMM as the Most Appropriate Method (MAM). Based on the comparability analysis conducted, the assessee identified 6 companies as comparable companies to the assessee with the Profit Level Indicator (PLI) at 10.79%. Since the assessee profit margin for software development services was 8.63% and fall within the + / - 5% range, the assessee presumed that its international transactions in the software development services was at arm’s length.

4.4 The TPO rejected the assessee's TP Study / Analysis and for the reasons given in his order under Section 92CA of the Act, adopted CUP as 7 IT(T.P) A Nos.1760 & 1885/Bang/2013 the MAM in place of TNMM adopted by the assessee. After adopting CUP as the MAM, the TPO adopted the average industry hourly rate as under : (i) $ 18 per man hour for offshore work; and (ii) $ 58 per man hour for on-site work.

Based on the above, the TPO proposed a TP Adjustment of Rs.3,17,60,790, which was incorporated by the Assessing Officer in the order of assessment for Assessment Year 2002-03.

4.5 On appeal by the assessee, the learned CIT (Appeals) vide order dt.11.10.2013 granted the assessee partial relief. In the impugned order, the learned CIT (Appeals) has struck down the CUP method adopted by the TPO as the MAM and instead directed the TPO to apply TNMM as the MAM in the case on hand, by quoting the decision of the Hon'ble Apex Court in the case of DIT (International Taxation) Vs. Morgan Stanley & Co. (292 ITR 416) (SC). Having applied TNMM as the MAM, the learned CIT (Appeals) applied the list of comparable companies adopted in the case of Sun Microsystems India P. Ltd.; for the same assessment year 2002-03. After selecting the same set of comparables as was taken in the aforesaid case (supra) to be the set of comparable companies to the assessee in the case on hand, the learned CIT (Appeals) directed the TPO to – (i) exclude companies having turnover in excess of Rs.200 Crores from the list of comparables;

8 IT(T.P) A Nos.1760 & 1885/Bang/2013 (ii) apply the functional test and exclude companies that are functionally dissimilar from the assessee from the list of comparables; and (iii) the learned CIT (Appeals) further held that once working capital adjustment is granted, there is no necessity of providing any further adjustments. Both Revenue and the assessee are aggrieved by the findings rendered by the learned CIT (Appeals) and are in appeal before the Tribunal.

4.6.1 Before us, the learned Authorised Representative for the assessee assailed the orders of, both, the TPO and the learned CIT (Appeals). According to the learned Authorised Representative, the TPO rejected the TNMM adopted as MAM by the assessee and adopted CUP method as the MAM by merely stating that TNMM is not the appropriate method without giving any reason or rationale for the same. It is submitted that after having adopted CUP as the MAM the TPO has arbitrarily adopted certain rates for on-site and offshore works, without undertaking any comparability analysis. It is contended that the TPO has not detailed as to how the rates per man hour were worked out and how these rates are applicable to the assessee in the case on hand.

4.6.2 In respect of the impugned order of the learned CIT (Appeals), the learned Authorised Representative submitted that it suffers from various infirmities both on principles and procedure, and in this regard contended as under :

9 IT(T.P) A Nos.1760 & 1885/Bang/2013 (i) At para 4.4 of the impugned order, the learned CIT (Appeals) has observed that -

“ Adjustments made on account of the arm’s length price by the tax authorities can be deleted in appeal only if the appellate authorities are satisfied and record a finding that the arm’s length price submitted by the assessee is fair and reasonable. Merely by finding fault with the transfer price determined by the revenue authorities additions on account of “adjustments” cannot be deleted” and that such finding has no legal sanction or basis.

(ii) The learned CIT (Appeals) rejected the CUP Method adopted by the TPO by quoting from the decision of the Hon'ble Apex Court in the case of Morgan Stanley & Co. (supra); which is a case of Service PE. As per para 5 of the impugned order, the learned CIT (Appeals) has accepted that the assessee is in the business of provision of software development services while Morgan Stanley and Co. is in the business of providing IT Enabled Services (ITES). Therefore, it is contended that the learned CIT (Appeals) has erred in comparing an ITES company with that of the assessee in the case on hand, which is in the business of provision of software development services to its AE; (iii) In para 5.1 of the impugned order, the learned CIT (Appeals) states that “The assessee is involved in the manufacture of computer software which is an IT Enabled Service.” Evidently, there is a mistake of characterization of the assessee by the learned CIT (Appeals), thus

10 IT(T.P) A Nos.1760 & 1885/Bang/2013 rendering the entire decision of the learned CIT (Appeals) as incorrect and invalid.

(iv) The learned Authorised Representative also assailed the decision of the learned CIT (Appeals), in adopting the set of comparables adopted by the TPO in the case of Sun Microsystems India P. Ltd. for Assessment Year 2002-03 as arbitrary, for the following reasons :- a) It has been done without conducting any FAR analysis. b) Without conducting any search process for selection of comparable companies. c) Without specifying any filters for identification of comparable companies; and d) Without even giving any valid reason of how the set of comparables selected in the case of Sun Microsystems India P. Ltd. can be applied to the assessee in the case on hand. It was contended that in view of the above it is clear that the basic and fundamental steps in carrying out a TP comparability analysis have not been undertaken by the learned CIT (Appeals) while deciding the set of comparable companies. e) After arbitrarily adopting the set of comparable companies of another case, the learned CIT (Appeals) –

11 IT(T.P) A Nos.1760 & 1885/Bang/2013 i) Applied the upper turnover filter of Rs.200 Crores, but did not mention which of the companies are to be excluded by applying this filter; and ii) Held that functionally not comparable companies are to be excluded, without specifying which of the companies are not functionally comparable to the assessee.

4.6.3 The learned Authorised Representative of the assessee submitted that in view of all the above infirmities and errors pointed out in the orders of the TPO and learned CIT (Appeals), the impugned order of the learned CIT (Appeals) ought to be set aside.

4.7 The learned Departmental Representative for Revenue also assailed the impugned order of the learned CIT (Appeals) on almost similar grounds as those submitted by the assessee. According to the learned Departmental Representative, the directions contained / issued by the learned CIT (Appeals) in the impugned order virtually amounts to setting aside the order of assessment, which is beyond the scope and mandate of the powers of the CIT (Appeals). The learned Departmental Representative also contended that if any criteria / filter is relaxed, then the entire set of comparable companies will get changed; thereby implying that the entire TP comparability analysis exercise requires to be carried out afresh.

4.8.1 We have heard the rival contentions, perused and carefully considered the material on record; including the submissions made and 12 IT(T.P) A Nos.1760 & 1885/Bang/2013 the orders of the authorities below. The main thrust of the arguments put forth by both sides is that the impugned order of the learned CIT (Appeals) is erroneous and therefore needs to be set aside. We find substantial merit in the contention of both the assessee and revenue in respect of the manner in which the impugned order of the learned CIT (Appeals) has been framed. It is settled principle that a proper TP comparability analysis is carried out for each taxpayer, for each assessment year to decide the Most Appropriate Method to be adopted, filters to be applied and the comparable companies to be selected. In our view, it is not appropriate to merely quote a particular judicial pronouncement in order to decide the MAM to be adopted (supra) or to cite another to decide the final set of comparable companies (supra). The least the learned CIT (Appeals) ought to have done is to mention how the facts of the cited / relied upon judicial pronouncements are similar to that of the assessee in the case on hand, to warrant such an application of the decision in those cases to the assessee's case. We find that this fundamental exercise has not been carried out. Further, as pointed out by the learned Authorised Representative of the assessee, there appear to be errors in the classification of the services rendered by the assessee while applying the judicial pronouncements; i.e. whether it provides software development services or ITES. We also observe, as mentioned in the grounds of appeal, that the directions issued by the learned CIT (Appeals) to the TPO/A.O. amount to setting aside the issues for determination by them which are beyond the mandate of the provisions of Section 251(1)(a) of the Act. Further, while taking decisions

13 IT(T.P) A Nos.1760 & 1885/Bang/2013 changing the MAM and the entire set of comparable companies, the learned CIT (Appeals) ought to have afforded adequate opportunity of being heard in the matter to both the TPO as well as the assessee. In the factual matrix of the case, as discussed above, we have no hesitation whatsoever in holding that the impugned order of the learned CIT (Appeals) suffers from errors and infirmities, both on principle and in procedure.

4.8.2 On a careful perusal and consideration of the TPO’s order under Section 92CA of the Act, we find that, as contended by the learned Authorised Representative, the TPO adopted CUP Method in place of TNMM adopted by the assessee without rendering any finding or reasoning as to why TNMM was rejected and CUP Method was adopted. The TPO has merely stated that TNMM is not the appropriate method and that CUP is the appropriate method. We also find that the TPO has adopted certain rates for offshore and on-site work without assigning any reasons as to how these rates are applicable to the assessee's case, which is sine quo non for applying CUP method. We also notice that the TPO has adopted TNMM as the MAM in the subsequent assessment year 2005-06 in the case on hand, as seen from the documents placed at pages 7 to 41 of the paper book. This, however, cannot be the reason or basis for deciding the MAM in the year under consideration.

4.8.3 Taking into consideration the facts and circumstances of the case as discussed from paras 4.1 to 4.8.2 of this order (supra), we deem it appropriate to set aside the orders of the authorities below and 14 IT(T.P) A Nos.1760 & 1885/Bang/2013 remand / restore the entire issue of TP comparability analysis to the file of the TPO/A.O. to decide the matter afresh, including the determination of the MAM and the comparable companies. Needless to add that the assessee shall be afforded adequate opportunity of being heard and to file details and submissions, which shall be duly considered by the TPO/A.O. before coming to decisions in the matter. In this view of the matter, we are not adjudicating the grounds raised on merits in both the appeals of the assessee and revenue. We hold and direct accordingly.

Order pronounced in the open court on the 3rd day of Nov.,2017.