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Income Tax Appellate Tribunal, DELHI BENCH ‘I-2’ : NEW DELHI
Before: SHRI S.V. MEHROTRA & SHRI KULDIP SINGH
PER KULDIP SINGH, JUDICIAL MEMBER :
The Assistant Commissioner of Income-tax, Circle 12 (1), New Delhi (hereinafter referred to as ‘the Revenue’) by filing the present appeal sought to set aside the impugned order dated 23.02.2011, passed by the AO under section 143(3)/144C of the Income-tax Act, 1961 (for short ‘the Act’) qua the assessment year 2007-08 in consonance with the orders passed by the ld. DRP/TPO on the grounds inter alia that :-
“1. Whether Ld. CIT (A) was correct on facts and circumstances of the case and in law in directing to exclude M/s. Mold-Tex Technologies from the list of comparables?
2. Whether Ld. CIT (A) was correct on facts and circumstances of the case and in law in restricting the addition from Rs.2,08,34,850/- to Rs.1,63,19,800/- made in the income of the assessee being difference between the Arm’s Length Price?
3. Whether Ld. CIT (A) was correct on facts and circumstances of the case and in law in directing the AO to exclude the telecommunication expenses amounting to Rs.9,15,422/- from the total turnover while calculating the deduction u/s 10A?”
Briefly stated the facts of this case are : H&S Software Development and Knowledge Management Centre Pvt. Ltd. (H&S KMC Ltd.) is a wholly owned subsidiary of Hendrick & Struggles Inc. USA (HSI) which is in turn a subsidiary of Hendrick & Struggles International Inc., USA (HSII) and is into providing Information Technology (IT) Enabled Back Office support services related to creation and maintenance of database of prospective employers and candidates who have submitted their resumes to HSII. This database is Search Palace and HSII’s proprietary software tool used to perform all of HSII’s services. HSI is the owner of intangibles associated with Search Palace and is also responsible for maintaining and developing this software tool and other related tools.
During the year under assessment, assessee company has declared an income of Rs.2,07,56,617/- under the head profit and gains of business or profession and income of Rs.3,534/- i.e. interest income under the head ‘Income from other sources’. The assessee company has made claim for deduction u/s 10A of the Act amounting to Rs.2,07,56,617/- by filing Form No.56F along with the return of income.
However, pursuant to the order passed by the Transfer Pricing Officer (TPO), AO made an addition on account of Arms Length Price (ALP) to the tune of Rs.2,08,34,850/- qua international transactions with Associated Enterprises (AEs) during Financial Year 2006-07.
Assessee company by using Transactional Net Margin Method (TNMM) as the most appropriate method with Operating Profit / Operating Cost (OP/OC) as the Profit Level Indicator (PLI) by selecting 11 comparables with three years weighted average margin at 6.88% vis-à-vis assessee’s margin at 12.20% and found its international transaction at arm’s length.
TPO accepted the TNMM with OP/OC as PLI as applied by the assessee company, but rejected seven comparable companies selected by the assessee company and identified 21 companies by making independent search on the basis of functions, assets and risks of the assessee company and finally chosen 25 comparable companies. TPO also used current year data as against three years data used by the assessee company. As per TPO study, arithmetic mean of PLI came to 29.05% and thereby made adjustment of Rs.2,08,34,850/- to make the international transactions of the assessee company at arm’s length.
Assessee company carried the matter before the ld. CIT (A) who has upheld the order passed by TPO except excluding Mold- Tek Technologies Limited as a comparable, out of which margin of the margin companies came down to 25.40% and thereby determined the ALP of assessee company’s international transaction at Rs.15,51,19,800. Feeling aggrieved, assessee company has come up before the Tribunal by way of filing the present appeal.
We have heard the ld. Authorized Representatives of the 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.
GROUNDS NO.1 & 2
Ld. DR for the revenue confined his arguments on the issue that the CIT (A) has erred on facts and circumstances of the case and in law to exclude Mold-Tek Technologies Limited from the list of comparables and thereby restricting the addition from Rs.2,08,34,850/- to Rs.1,63,19,800/-. Now we are to examine if Mold-Tek Technologies Ltd. is a valid comparable for the purpose of determining the Arms Length Price (ALP) of international transactions of the assessee. This is TPO’s comparable who has observed that as per the information and annual report submitted by the company, the IT Division of the company is mainly engaged in ITES, it qualifies all filters applied and as such, is a valid comparable. However, ld. AR for the assessee raised objections before the TPO for inclusion of this company on the ground that the margins are abnormally high.
However, CIT (A) accepted the assessee’s contention and has directed to exclude this company form the list of comparables by making following observations :-
“6.9 I have considered the submission and the order of the TPO. The segmental reporting of the company as quoted in the earlier paragraphs creates a sufficient doubt about the truthfulness of the results of ITES segment.
This company has two segments, ITES and Plastic division. ITES is having 100% exemption whereas on the profits of plastic division the company has to pay tax. It is not uncommon to see such financial results where the tax exempt unit has extraordinary profit while the taxpaying unit suffers losses under, the same management control. The extraordinary profit in the ITES segment reaching upto 113% for the FY 2006-07 is a pointer in this direction. In the subsequent audited accounts, this fact of ending the tax holiday for ITES segment is mentioned by the annual report and some corrective entries have been passed. The employee cost filter might not have been used by the TPO but in the presence of extraordinary deviation from the ratio of employee cost to sales of the appellant's case cannot be simply brushed aside. As submitted by the appellant, this ratio (Employee' cost / Sales) is 48.93% in the case of the appellant and 7.6% in the case of Mold-Tek Technologies Ltd. By implication, either Mold- Tek Technologies Ltd. has employed larger capital against the man power to get the kind 'of productivity to generate profit of 113% or the employees are so extraordinary that they have accepted the lower wages and so hard for the company to generate that kind of profitability. In either situation, the company becomes not comparable to the appellant. Even on functionality ground Mold-Tek Technologies Ltd. is not comparable because the appellant is in the back office research services area whereas this comparable is mainly dealing in engineering design and detailing services, website design services, software testing, in-house software development etc. Therefore, I hold that this company should be excluded from the list of comparables.”
When we examine the functional profile of assessee company vis-à-vis Mold-Tek Technologies Ltd., both are functionally dis-similar. Undisputedly, assessee company is into ITES services as a captive service providers whereas Mold-Tek is operating in two business segment i.e.
(i) plastic divisions which is into manufacturing of lube and oils, paints, pet projects, consumer products etc.; and (ii) IT Division specialized in providing structural design and detailing services which could be categorized as structural engineering services.
CIT (A) has also excluded this company as comparable on ground of abnormal growth which is 204% in FY 2006-07 with a CAGR of 113% for 3 years.
Assessee relied upon the decisions rendered by ITAT, Hyderabad Bench in the case of Capital IQ Information Systems (India) Private Ltd. (ITA No.1961/Hyd/2011) (available at pages 812 to 839 of the Paper Book-III, wherein comparability of Mold- Tek Technologies Ltd. has been examined with Capital IQ Information Systems (India) Private Ltd. (supra) and ITES company almost on identical ITES company. Coordinate Bench in Capital IQ Information Systems (India) Private Ltd. (supra) while taking into consideration the factum of merger from 01.10.2006 impacting results of the company and also that the activity of the company is functionally different, it being engaged in providing high end engineering consulting services and structural engineering consulting services which are in the nature of KPO services and that the company was having super-abnormal profit at 113% and by following the decision rendered by ITAT, Delhi Bench in Adobe Systems India Pvt. Ltd. (ITA No.5043/Del/2000 dated 21.01.2011), order to exclude this company from the list of comparables.
The contention of the ld. DR that the findings of the CIT (A) are based upon conjectures and surmises is not tenable in the light of the facts discussed herein above. So, keeping in view the functional disparity and factum of super abnormal profit and by following the decision rendered by ITAT, Hyderabad Bench in case cited as Capital IQ Information Systems (India) Private Ltd. (supra), we hereby uphold the order passed by CIT (A).
GROUND NO.3 14. Expenses of Rs.9,05,422/- on account of communication expenses has been disallowed by the AO from the export turnover but allowed by the ld. CIT (A). The ld. DR for the revenue by relying upon the order passed by the AO contended that the ld. CIT (A) has erred in directing the AO to exclude the telecommunication expenses amounting to Rs.9,05,422/- from the total turnover while calculating the deduction u/s 10A of the Act.
The ld. AR for the assessee to support the order passed by ld. CIT (A) relied upon the decisions rendered by the ITAT, Delhi Bench in (i) DCIT vs. Global Logic India (P) Ltd. – (2013) 56 SOT 373; and (ii) DCIT vs. Binary Semantics Ltd. – 109 TTJ 556; and Hon’ble Karnataka High Court in case of CIT vs. Tata Elxsi Ltd. – 115TTJ 423 (Karnataka).
The issue, “as to whether telecommunication expenses are required to be excluded from the total turnover while calculating the deduction u/s 10A” has already been addressed by the ITAT, Delhi Bench in case of DCIT vs. Global Logic (supra) wherein the issue has been decided in favour of the assessee by holding that freight, telecommunication and insurance charges during the year that are reduced from the export turnover then such sum will also have to be reduced from the total turnover of the company for the purposes of computation of deduction u/s 10A.
16. Hon’ble Bombay High Court in judgment cited as CIT vs. Gem Plus Jewellery India Ltd. – 330 ITR 175 (Bom.) also answered this issue in favour of the assessee by making following observations :-
“10. Freight and insurance do not have an element of turnover. For this reason in addition, these two items would have to be excluded from the total turnover particularly in the absence of a legislative prescription to the contrary. The first question of law would therefore, have to be answered against the revenue and in favour of the assessee.”
In view of what has been discussed above, the CIT (A) has rightly directed the AO to exclude the telecommunication expenses amounting to Rs.9,05,422/- from the total turnover while calculating the deduction u/s 10A of the Act. So, this ground is determined against the revenue.
So, finding no illegality and perversity in the impugned order passed by ld. CIT (A), we hereby dismiss the appeal filed by the revenue. Order pronounced in open court on this 18th day of January, 2017.