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Income Tax Appellate Tribunal, DELHI BENCH ‘I-1’ : NEW DELHI
Before: SHRI R.S. SYAL & SHRI KULDIP SINGH
PER KULDIP SINGH, JUDICIAL MEMBER :
Since common questions of facts and law have been raised in both the aforesaid appeal and cross objection, the same are being discussion.
The Appellant, M/s. Aircom International India Pvt. Ltd. (hereinafter referred to as ‘the assessee’) in by filing the present appeal sought to set aside the impugned order dated 28.10.2009 passed by the Commissioner of Income-tax (Appeals)-XX, New Delhi qua the assessment year 2005-06 on the grounds inter alia that :-
“1) Whether the Ld. CIT (A) in the facts and circumstances of the case erred in calculating the mean PLI of the comparables by inclusion of a comparable having margin below (-) 0.05%which was a filter applied by the assessee and not disputed either by the TPO or by the CIT(A).
2) Whether the Ld. CIT(A), in fact a d circumstances of the case, erred to reject a comparable on the grounds of having related party transaction is of more than 15 to 20% when if fact such transactions were never routed through the profit and loss account.
3) Whether the Ld. CIT(A). in facts and circumstances of the case erred in not holding the approach of the TPO as unjustified and having consequently applied the amended filters of the TPO on the comparables of the assessee itself, when the criteria of industry selection of the assessee was not focused.
4) Whether the ld. CIT (A) in facts and circumstances of the case erred in rejecting filters of revision of lower turnover limit, negative growth phase, wages to sales and Net Fixed Assets to Sales.
5) Whether the Ld. CIT(A) in facts and circumstances of the case erred in holding that Stock adjustment should be taken as expense when there are no statutory guidelines on this issue and consistency of approach have been followed by the TPO.
6) Whether the Ld. CIT(A), in facts and circumstances of the case erred in holding that Forex Gain/Loss and Miscellaneous Income is non operating in nature.”
The Objector, DCIT, Circle 1(1), New Delhi (hereinafter referred to as ‘the Revenue’), by filing the present cross objection, sought to set aside the impugned order dated 28.10.2009 passed by the Commissioner of Income-tax (Appeals)-XX, New Delhi qua the assessment year 2005-06 on the grounds inter alia that :-
That on the facts and in the circumstances of the case and in law, the Ld. Commissioner of Income Tax Appeals ("CIT(A)") erred in not holding the order passed by the Ld. Assessing Officer ("Ld. AO") as bad in law and void ab-initio.
2. That the Ld. CIT(A) erred in not recognizing that the reference made by the Ld. AO suffered from jurisdictional error. The Ld. AO had not recorded any reasons in the assessment order based on which he reached the conclusion that it was "expedient and necessary" to refer the matter to the Ld. TPO for computation of the arm's length price, as is required under section 92CA(1).
3. The Ld. CIT(A) erred on facts and in law in the assessment of the arm's length price of the respondent's international transactions from associated enterprises in the software development segment in the following manner.
3.1 The Ld. CIT(A) erred in modifying the search strategy and comparable companies set adopted by the respondent without valid and sufficient reason, thereby disregarding both Section 92C(3) of the Income Tax Act, 1961 and the recent decisions rendered by the Hon'ble Tribunal
3.2 The Ld. CIT(A) erred in upholding the Ld. TPO's approach of determining the arm's length margin based on data for financial year 2004-05, despite the fact that the same was not available to the respondent at the time of preparing its TP Documentation report and accordingly erred in rejecting the comparable company data used by the respondent for establishing the arm's length nature of its software development international transactions in its TP Documentation.
3.3 The Ld. CIT(A) has erred by selecting certain companies, which were not comparable on the basis of functions performed and assets used and which had entered into related party transactions during the financial year 2004-05, in order to determine the arm's length margin applicable to the respondent under the software development segment.
3.4 The Ld. CIT(A) erred in not making an adjustment to the arm's length margin of the external service providers for the differential working capital held by the respondent.
3.5 That the Ld. CIT(A) erred by ignoring the business/commercial reality in as much as the respondent is remunerated on a cost plus basis, i.e., it is compensated for all its costs plus a pre- agreed mark-up, the respondent undertakes minimal business risks as against comparable companies and consequently should have been allowed an adjustment to the price for the degree of risk undertaken.
./2009 CO No.50/Del/2010 3.6 That the Ld. CIT(A) erred by not accepting the submissions of the respondents with regard to the operating profit / total cost for the comparable companies and consequently treating finance charges and amortisation as non operating expenses.
3.7 That the Ld. CIT(A) erred on facts and in law in applying the amended provision as per the Finance Act 2009 instead of the provision regarding the arm's length range applicable to the financial year) 2004-05. The CIT(A) ought to appreciate that even a price which varies 5% in either direction of the arithmetic mean margins of the comparables may be considered as an arm's length price as per the proviso to section 92C (2).
Briefly stated the facts of this case are : the assessee company is engaged in the business of software solution and consultancy services in the area of telecommunication industry, which is a 100% subsidiary of Aircom International Limited, UK.
Assessee for the year under assessment declared an income of Rs.1,24,21,791/- vide return of income filed on 31.10.2006, which was subjected to scrutiny and consequent upon the TP order passed by the Transfer Pricing Officer dated 27.10.2008, an adjustment of arm’s length price of software services is made to the tune of Rs.38,11,534/-. Consequently, Assessing Officer determine the total assessed income at Rs.1,62,33,325/- by making disallowance / addition to the returned income of the assessee to the tune of Rs.1,24,21,791/-. assessee during the year under assessment, the AO made reference u/s 92CA(1) of the Act to the TPO for computation of the arm’s length price.
Out of 11 international transactions entered into by the assessee, the ld. TPO disputed international transaction qua software development valuing at Rs.2,38,71,774/- referred at Sl.No.5 by ld. CIT (A) in para 4.1 of the impugned order. For benchmarking the international transactions, the assessee used Transactional Net Margin Method (TNMM) as the most appropriate method with cost plus percentage as the Profit Level Indicator (PLI) and came to the conclusion that average net cost plus of comparable is 6.91% as compared to 10.37% of the assessee in the software development segment an treated the adjustment at arm’s length.
However, ld. TPO for benchmarking the international transaction applied following filters :-
• Foreign stake of the company should not be more than 26%
• Financials should be available for FY 03 or subsequent years
• The turnover of the comparables should be between 0.5 crores to 20 crores • Given product of the company must contribute more than 95% of the total turnover. • Operating profit margins must be greater than - 0.5%. • Comparable companies should not be involved in significant related party transaction. • The comparables should have similar business profile as that of the assessee.
TPO by applying the aforesaid filters rejected all the 19 comparables chosen by the assessee on the basis of filters as well as on the basis of functional comparability but has accepted the TNMM method and PLI of OP/TC. TPO selected 5 new comparables on the basis of his own search after applying new filters and modifying some of the filters of the assessee.
TPO tabulated the OP/TC margins of all the final 5 comparables as under :-
S.No. Name of the Company OP/TC (%) 1. AMB Knowledgeware Limited 3.23% 2. Compulink Systems Limited (seg) 21.79% 3. Four Soft Limited 25.21% 4. Gebbs Infotech 16.52% 5. Exensys Software Solutions Ltd. 73.24% Mean 27.99%
Arithmetic mean PLI 27.99% Arms Length Price :
Operating Cost Rs.21,629,274
Arms Length Price (ALP) @ 127.99% Rs.27,683,308 Of operating cost of Software Development Services
Price Received vis-à-vis the Arms Length Price :
The price charged by the taxpayer to its Associated Enterprises is compared to the Arms Length price as under :
Arms Length Price of software Rs.27,683,308 development services Price received Rs.23,871,774 Shortfall beign adjustment u/s 92CA Rs.38,11,534
However, ld. CIT (A) introduced 9 comparables out of 19 comparables of the assessee and 4 comparables out of 5 comparables of TPO and also recomputed the margin of the 2 comparables and held the TP adjustment within range of +/- 5%.
Feeling aggrieved, the revenue has come up before the Tribunal by challenging the impugned order passed by the ld. CIT (A) by way of filing the present appeal. Assessee has also filed cross objection impugning the order passed by the AO. parties to the appeal, gone through the documents relied upon and orders passed by the revenue authorities below in the light of the facts and circumstances of the case.
14. The ld. DR for the Revenue challenging the impugned order contented inter alia that the CIT (A) has excluded M/s Four Soft as comparable without computing the actual RPT/Sales percentage without assigning any reason whereas TPO has excluded this comparable on the ground that its RPT/Sales are more than 26%; that the CIT (A) has erred in reducing the lower limit of sales turnover filter of Rs.1 crore adopted by the TPO to Rs.0.50 crore without assigning any reason; that the CIT (A) has also rejected wage/sales ratio between 25% to 50% filter on the ground that companies can outsource their activities whereas wage/sales ratio is 37%; that the CIT (A) included one comparable, M/s. VJIL Consulting, which was rejected by the TPO on the ground that VAT has been paid by all other comparables without appreciating that TPO had given specific finding that in no other case including assessee, VAT was paid by the companies; that the TPO had taken one exclusion filter as operating margin < 0.05% and selected M/s.
Astro Bio Systems as one of the comparables having margin of (-)
18.26% whereas aforesaid exclusion filter was adopted by assessee ./2009 CO No.50/Del/2010 in its TPO study; that TPO excluded all the comparables chosen by the assessee on ground of functional dis-similarity because the assessee is not a routine software developer as it is a captive service provider and provides specific software for the product suite of AIRCOM, hence the business is product oriented and not software oriented.
Undisputedly, on the basis of search made by ld. TPO in the light of the filters, ld. CIT (A) selected 13 comparables for benchmarking international transactions which are as under :-
S.No. Name of the Company OP/TC 1. Ace Software 13.65% 2. Ancent Soft International 6.67% 3. IKF Technology 1.87% 4. Magnum Ltd. 10.29% 5. Soyuz Impex 2.00% 6. Space Computers 44.58% 7. E. Star Infotech 21.67% 8. VJIL Consulting 6.70% 9. Astro Bio Systems -18.26% 10. ABM Knowledgeware 2.12% 11. Exensys Software Solutions Ltd. 71.13% 12. Gebbs Infotech 16.52% 13. Compulink Software Systems 21.90% Ltd. Average 15.45% Aircom India 10.37%
However, on the other hand, ld. AR for the assessee relied upon the impugned order passed by CIT (A). routine software developer rather it is engaged in designing and developing of software for the product suite of AIRCOM.
However, TPO has not discussed in detail as to the nature of the work rather disposed off the objection raised by the assessee, meaning thereby TPO has not disputed the nature of the work of the assessee as a software developer. TPO also not disputed the TNMM as most appropriate method with PLI of OP/TC.
17.1 The ld. DR for the Revenue conceded that he has only to dispute the comparable introduced by the ld. CIT (A) by tampering the filters applied by the TPO which makes the assessee’s international transaction at arm’s length because TPO applied the filter of turnover only to oust the low capital base company. In other words, ld. DR challenged the modification of the RPT filters in selecting M/s. Four Soft by reducing the lower limit of sales turnover filter from Rs.1 crore to Rs.0.50 crore which was adopted by the assessee itself and CIT (A) has rejected wage/sales between 25% to 50% filter by ignoring the fact that the assessee’s wage/sales ratio is 37% and the CIT (A) has selected M/s. Astro Bio Systems having margin of (-) 18.26% without rejecting the exclusion filter as operating margin < 0.05% and this filter was adopted by the assessee itself. Ld. DR also contended that the impugned order is required to be set aside to be decided afresh by the TPO.
However, on the other hand, ld. AR for the assessee repelled all the arguments addressed by the ld. DR by contending that in case all the grounds raised by the Revenue in its appeal are decided in its (Revenue) favour, even then the international transaction of the assessee qua software development valued at Rs.2,38,71,774/- is at arm’s length and brought on record a chart prepared in accordance with TP study as well as data applied by the ld. TPO which is reproduced as under for ready perusal :-
S. Name Source Margin Margin Case 1: Case 2: Case 3 : Case 4 : Working Remarks No. of the (%) – (%) – Excluding Case 1 + Case 2+ Case 3 + Capital Company Unadjust Unadjust Companies Excluding Excluding Excluding Adjust- -ed -ed Having Companies Companies Companies ment (as per Margin Falling Falling Falling Margins TPO) Less Employee Net Fixed Diminishing If taken Than (-) Cost Assets revenue In case 4 0.05 Filter (NFA) filter Percent Filter 1. Ace Software TP Study 13.65 13.65 13.65 - - - - -This comparable will fail both employee cost filter (6.77%) & NFA filter (56.68%) (Refer page 1255) 2. Ancent TP Study Soft 6.67 6.67 6.67 6.67 - - - -This International comparable will fail both employee cost (1.15%) & NFA filter (2.76%) (Refer page 1255) 3. IKF TP Study 1.87 1.87 1.87 - - - - -This Technology comparable will fail both employee cost (1.15%) & NFA filter (2.76%) (Refer page 1255) TP Study 4. Magnum 10.29 10.29 10.29 10.29 - - - -This Limited comparable will fail both employee cost (2.87%) & NFA filter (90.67%) (Refer page 1255) TP Study 5. Soyuz Impex 2.00 2.00 2.00 2.00 2.00 2.00 1.76 TP Study 6. Space 44.58 44.58 44.58 - - - - -This Computers comparable will fail both employee cost (1.65%) & NFA filter (831.14%) (Refer page 1255) 7. E-Star TP Study 21.67 21.67 21.67 21.67 21.67 21.67 16.3 Infotech TP Study 8. VJIL 6.70 6.70 6.7 6.7 6.7 - - -This Consulting comparable will fail diminishing revenues filter (rejected By TPO- Pg 257 & CIT(A) – Pg 1300) 9. Astro Bio TP Study -18.26 -18.26 - - - - - -This Systems Comparable will fail margin less than -0.05 Percent (Page 1302)
ABM TPO 2.12 3.23 2.12 2.12 2.12 2.12 -8.01 Knowlegeware TPO 11. Compu Link 21.9 21.9 21.9 - - - - -This Systems comparable will fail both the NFA filter (242.07) and employee cost (78.05%) (Refer page 1255) TPO 12. Gebbs 16.52 16.52 16.52 16.52 16.52 16.52 15.73 Infotech 13. Exensys TPO 71.13 73.24 71.13 71.13 - - - Does not Software Pass TPO’s NFA filter (109.19%) -Amalga- mation (Several Decisions) (Refer Page 1255) Average 15.45 15.70 18.26 17.14 9.80 10.58 6.45
Four Soft TPO 25.21 25.21 25.21 25.21 25.21 25.21 15.68 -During the Limited Year extra Ordinary Events have Occurred (refer Page 48 of AR) -Refer case Laws -engaged In sale of Software Products. The margin Of Foursoft Is 25.21%. Average 16.15 16.38 18.79 18.03 12.37 13.50 8.29
So far as exclusion of M/s. Four Soft as a comparable by the ld. CIT (A) is concerned, in any case, it has to be excluded due to extra ordinary events i.e. merger/amalgamation. Moreover, this product. So, CIT (A) has rightly excluded this company from the final list of comparables.
In view of the afore-extracted chart, accepted by the ld. AR, that in case all the grounds raised by the Revenue are determined against the assessee, the captioned transaction is still at arm’s length, to our mind, the merits of this issue are not required to be formally adjudicated upon. So, these grounds are treated as allowed and consequently, the impugned order is set aside and remit the matter to the file of AO/TPO, to examine the veracity of the aforesaid chart by deeming as if all the grounds raised by the Revenue, except exclusion of “Four Soft Ltd.” in this appeal are allowed and re-determine the ALP of the international transaction by providing an opportunity of being heard to the assessee.
CROSS OBJECTION
At the very outset, ld. DR for the Revenue contended that cross objection field by the assessee seeking working capital and risk adjustment are not maintainable in view of the provisions contained u/s 253 (4) of the Act and relied upon the decisions rendered by coordinate Bench of ITAT, Bangalore in case of ACIT vs. Shri Raju H Patadia in dated 19.10.2016. reproduced below for ready perusal :-
“16. From a bare perusal of the above provision, it is clear that the legislature has chosen to use the expression 'against such order or any part thereof which means that cross-objections can be filed with reference to same ground of appeal which is adversely decided against the respondent in appeal. If, there has been no adjudication on any of the grounds of appeal raised before the CIT(A), the cross objections cannot be filed on such a ground, though raised but not decided specifically. If the assessee is aggrieved by non-adjudication per se, assessee can come before the Tribunal only by way of an appeal only. Thus, having regard to plain provisions of statute, in absence of non- adjudication of ground by the CIT(A), assessee can come only by way of appeal before the Tribunal, not by way of cross objections. In the present case, the CIT(A) had no occasion to deal with the issue raised by way of cross objections, as the assessee never contested this issue either before the AO or before the CIT(A). The cross objections do not widen the scope of subject matter of & CO 12/Bang/2016 appeal. Therefore, the cross objections are not maintainable and dismissed as such.”
Keeping in view the facts and circumstances of the case, wherein ld. CIT (A) has admittedly not adjudicated the issue as to entitlement of the working capital and risk adjustment of the assessee and mandate of section 253(4), the assessee is left with only remedy of filing an appeal and cross objection is not controvert this position of facts and law. So, we are of the considered view that cross objection filed by the assessee is liable to be dismissed being not maintainable.
In view of what has been discussed above, the appeal filed by the Revenue is allowed for statistical purposes and the file is ordered to be restored to TPO to recompute the arm’s length price of international transactions in question after verifying the computation given by the assessee referred to in preceding para 18 of this order. However, cross objection filed by the assessee is hereby dismissed. Order pronounced in open court on this 28TH day of February, 2017.