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Income Tax Appellate Tribunal, BANGALORE BENCH ‘ B ’
Before: SMT. P. MADHAVI DEVI & SHRI JASON P. BOAZ
O R D E R Per Shri Jason P. Boaz, A.M. : This appeal by the assessee is directed against the order of assessment for Assessment Year 2006-07 dt.18.10.2010 passed under Section 143(3) rws 144C(13) of the Income Tax Act, 1961 (in short 'the Act') in pursuance of the directions of the Dispute Resolution Panel (‘DRP’), Bangalore issued under Section 144C(5) rws 144C(8) dt.17.9.2010.
The facts of the case, briefly, are as under :- 2.1 The assessee-company is a wholly owned subsidiary of Misys International S.A., Luxembourg, which is part of Misys Group based in U S A. The assessee is engaged in the 2 IT(TP)A No.1425/Bang/2010 provision of software development and product support services to its group companies. For Assessment Year 2006-07, the assessee filed its return of income on 27.11.2006 declaring income of Rs.3,800 after claiming deduction under Section 10A of the Act. The return was processed under Section 143(1) and subsequently the case was taken up for scrutiny. A reference under Section 92CA of the Act was made by the Assessing Officer to the Transfer Pricing Officer (‘TPO’) in respect of determination of the Arm’s Length Price (ALP) of the international transactions entered into by the assessee with its Associated Enterprises (AEs). The TPO passed an order under Section 92CA of the Act dt.26.10.2009 making an adjustment of Rs.4,25,58,502 to the international transactions of the assessee in respect of its software development services. 2.2 After receipt of the order of the TPO u/s.92CA of the Act, the Assessing Officer passed the draft assessment order under Section 143(3) of the Act, incorporating the T.P. Adjustment of Rs.4,25,58,502 proposed by the TPO. Aggrieved by the draft order of assessment dt.21.12.2009 for Assessment Year 2006-07, the assessee filed its objections thereto before the DRP, Bangalore, which disposed off the assessee's objections vide directions issued u/s.144C(5) rws 144C(8) of the Act dt.17.9.2010. Pursuant thereto, the Assessing Officer passed the final order of assessment under Section 143(3) rws 144(13) of the Act vide order dt.18.10.2010 wherein the income of the assessee was determined at Rs.4,53,97,008, inter alia, including T.P. Adjustment of Rs.4,22,40,024 and disallowance of the assessee's claim for deduction under Section 10A of the Act amounting to Rs.31,53,184.
3 IT(TP)A No.1425/Bang/2010 3.1 Aggrieved by the final order of assessment for Assessment Year 2006-07 dt.18.10.2010, the assessee is in appeal before the Tribunal raising the following grounds :- “
Transfer Pricing Related.
1. That on the facts and in the circumstances of the case, the learned ITO, Ward 12(1), Bangalore / the learned Joint Director of Income Tax (Transfer Pricing)-II, Bangalore and the learned Dispute Resolution Panel (the Panel) erred in making adjustment in arm’s length price of the appellant’s international transactions with related parties by Rs.42,240,024.
2. That on the facts and circumstances of the case, the learned A.O. and the learned Panel erred in upholding the rejection of T P documentation by the learned TPO.
3. That the learned A.O./TPO and the learned Panel erred in ignoring the limited risk nature of the services provided by the appellant and in upholding the conclusion of the learned TPO that no adjustment on account of risk differential is required while determining the Arm’s Length Price of the international transactions of the appellant. 3.1 That the learned TPO and the learned Panel erred in collecting selective information of the companies by exercising power granted to him under Section 133(6) of the Act that was not available to the appellant in the public domain and relying on the same for comparability purposes. 3.2 That the learned TPO erred in not applying multiple year/prior year data for comparable companies while determining ALP. 3.3 That the learned TPO erred in using data as at the time of assessment proceedings, instead of that available as on the date of preparing the TP documentation for comparable companies while determining the ALP. 3.4 That the learned TPO erred in including companies in the comparability analysis which are different from the appellant in functions, asset base and risk profile. 3.5 That the learned TPO erred in rejecting companies similar to the appellant in functions, asset base and risk profile hwile performing comparability analysis. 3.6 That the learned TPO erred in not allowing the benefit of range of +/- 5% as provided in proviso to section 92C(2) of the Act, while determining the ALP. 3.7 That the learned TPO erred in upholding the erroneous actions of the learned TPO as stated in Grounds 3.1 to 3.6 above.
4. That on the facts and in the circumstances of the case the learned A.O. has wrongly computed the adjustment in ALP post receipt of the directions from the learned Panel, and it is a mistake apparent from record. The total adjustment determined by the learned Panel with regards to the ALP is Rs.42,176,329 instead of Rs.42,240,024 as determined by the learned A.O., thereby increasing the adjustment by Rs.63,695. Other than Transfer pricing Related. 5.1 That the learned A.O. and the learned Panel, erred in law and facts in reducing an adhoc amount of communication expenses of INR 80,91,499 from export turnover while computing the deduction under Section 10A of the Act.
4 IT(TP)A No.1425/Bang/2010 5.2 That on the facts and in the circumstances of the case, the learned A.O. and the learned Panel, erred in assuming that the communication expenses of INR 80,91,499 have been incurred for delivery of software outside India. 5.3 That the learned A.O. and the learned Panel, erred in reducing an adhoc amount of communication expenses form the export turnover on the incorrect premise that the “Authorised Representative” of the assessee has agreed to exclude the said communication expenses. 5.4 Without prejudice to the above, the learned A.O. and the learned Panel, erred in reducing the entire amount of communication charges out of the export turnover of unit II only, whereas the amount of communication expenses pertain to both Unit I and Unit II. 6.1 That the learned A.O. and the learned Panel, erred in law and facts in reducing an adhoc amount of expenses incurred in foreign currency pertaining to 10A units of INR 1,22,50,000 from export turnover while computing the deduction under Section 10A of the Act. 6.2 That the learned A.O. and the learned Panel, erred in not appreciating that the appellant is in the business of software development as distinct from rendering technical service outside India. 6.3 That the learned A.O. and the learned Panel, erred in reducing an adhoc amount of expenditure incurred in foreign currency from the export turnover on the incorrect premise that the AR of the assessee has agreed to exclude the said foreign currency charges. 6.4 That the learned A.O. and the learned Panel, erred in not appreciating the fact that the expenses incurred in foreign currency are for the purpose of travel of employees for training and travel of management personnel and the same is not in any way attributable to rendering technical services outside India.
That the learned A.O. and the learned Panel, erred in not following the decisions of the jurisdictional ITAT in adjusting the communication charges and expenses incurred in foreign currency while computing the deduction under Section 10A of the Act.
Without prejudice to the above, the learned A.O. and the learned Panel, erred in not reducing the said communication expenses of INR 80,91,499 and expenses incurred in foreign currency of INR 1,22,50,000 pertaining to the 10A units from the total turnover and not following the rulings of the jurisdictional ITAT.
That the learned A.O. and the learned Panel, erred in consequently levying interest under Section 234B of the Act.” 3.2 Grounds No. 1 to 4 – pertain to the Transfer Pricing Adjustment made. Grounds No.5 to 8 – pertain to the computation of the deduction u/s. 10A of the Act. Ground No.9 – relates to the charge of interest u/s.234B of the Act.
5 IT(TP)A No.1425/Bang/2010 TRANSFER PRICING ISSUES (Grounds 1 to 4) 4.1 In the course of proceedings before us, the learned Authorised Representative for the assessee that the assessee wishes to press only the grounds related to the comparability of the companies raised in Ground No. 3.4 and is not pressing any other issue related to the Transfer Pricing issues. In view of the Grounds at S.Nos. 1 to 3.3, 3.5 to 3.7 and 4 not being pressed by the assessee, they are rendered infructuous and are accordingly dismissed. Before proceeding to deal with the ground of appeal No. 3.4, the brief facts relating to the T.P. issues are summarized hereunder :- 4.2 The assessee is engaged in the provision of software development and product support services to its group companies. For the year under consideration, the assessee has reported the following international transactions :- Contract Software Development Services Rs.70,26,88,856 Reimbursement of expenses paid Rs.67,45,015 Reimbursement of expenses received Rs.95,45,517.
4.3 The financial results reported by the assessee during the year under consideration :- Particulars Amount (Rs.) Operating Revenue 70,26,88,856 Operating Cost 62,74,10,496 Operating Profit 7,52,78,360 Operating Profit on Cost (OP/OC) 12% 4.4 The assessee, taking itself as the tested party, conducted a T.P. Study by applying the Transactional Net Margin Method (‘TNMM’) and adopted OP/OC as on the Profit Level Indicator (‘PLI’). After conducting the search on the data bases ‘Prowess’ and ‘Capitaline’, the assessee
6 IT(TP)A No.1425/Bang/2010 identified 44 companies as comparables with an average profit margin of 11% on cost. As the margin of the assessee at 12% was above the arithmetical mean margin of the comparables, the assessee concluded that its international transactions were at Arm’s Length. 4.5 The TPO, however, on examination of the assessee's T.P. Study rejected it for the various reasons given in his order under Section 92CA of the Act. The TPO, thereafter, conducted his own search adopting various filters / criteria and finally selected the following twenty companies as the final set of comparable companies :- Sl.No. Company Name Sales OP to Total Cost % 1. Aztec Software Limited 128.61 18.09 2. Geometric Software Limited (Seg.) 98.59 6.70 3. Infosys Limited 9028.00 40.38 4. KALS Info Systems Ltd. 1.97 39.75 5. Mindtree Consulting Limited 448.79 14.67 6. Persistent Systems Limited 209.18 24.67 7. R Systems International Ltd. (Seg) 79.42 22.20 8. Sasken Communication Ltd. (Seg.) 240.03 13.90 9. Tata Elxsi Ltd. (Seg.) 188.81 27.65 10. Lucid Software Limited 1.02 8.92 11. Mediasoft Solutions P. Ltd. 1.76 6.29 12. R S Software (India) Ltd. 91.57 15.69 13. SIP Technologies & Exports Ltd.91.57 6.53 3.06 14. Bodhtree Consulting Ltd. 5.32 15.99 15. Accel Transmatics Ltd. (Seg.) 8.02 44.07 16. Synfosys Business Solutions Ltd. 4.49 10.61 17. Flextronics Software Systems Ltd. 595.12 27.24 18. Lanco Global Solutions Ltd. 35.63 5.27 19. Megasoft Ltd. 56.15 52.74 20. iGate Global Solutions Ltd. (Seg.) 527.91 15.61 Average 20.68%
7 IT(TP)A No.1425/Bang/2010 4.6 The TPO thereafter proceeded to determine the Arm’s Length Price (‘ALP’) of the international transactions by applying the arithmetic mean margin of 20.68% of the final list of comparables chosen by him. After allowing for working capital adjustment of 2.18%, the TPO completed the ALP as follows :- Particulars Amount (Rs.) Arm’s Length Mean Margin 20.68% Less : Working Capital Adjustment 2.18% Adjusted Mean Margin 18.50% Operating Cost 63,69,56,013 ALP 118.50% of OC 75,47,92,875 Price Shown as received 71,22,34,373 Shortfall being the T. P. 4,25,58,502 Adjustment u/s.92CA 4.7 Based on the above computation, the TPO proposed an adjustment of Rs.4,25,58,502 to the software development services segment of the assessee which was incorporated by the Assessing Officer in the draft order of assessment. The objections filed by the assessee before the DRP regarding the comparability of the companies selected by the TPO were rejected and subsequent thereto the Assessing Officer passed the impugned assessment order. Aggrieved by the final order of assessment dt.18.10.2010 for Assessment Year 2006-07, the assessee is before the Tribunal in appeal. 4.8 We have heard the rival contentions and perused and carefully considered the material on record including the impugned order of assessment for Assessment Year 2006-07, the directions of the DRP, the submissions put forth by both the learned Authorised Representative for the assessee and the learned Departmental Representative for Revenue and the judicial
8 IT(TP)A No.1425/Bang/2010 decisions cited and placed reliance upon. We now proceed to consider the comparability of individual companies objected to by the assessee. Companies whose exclusion from TPO’s list of comparables is sought by the assessee. 5.0 Out of the 20 comparable companies finally selected by the TPO, the assessee seeks exclusion of the following companies :- i) Aztec Software Ltd. ii) Geometric Software Ltd. (Seg.) iii) Infosys Technologies Ltd. iv) KALS Info-Systems Ltd. v) Tata Elxsi Ltd. (Seg.) vi) Lucid Software Ltd. vii) Accel Telematics Ltd. viii) Megasoft Ltd. In support of its contentions for exclusion of the above 8 companies from the list of comparables to the assessee, the learned Authorised Representative for the assessee relied on various Tribunal decisions, including that of the Delhi High Court in the case of Agnity India Technologies Ltd., Logica Pvt. Ltd. (ITA No.1129/Bang/2011), Ariba Technologies India Pvt. Ltd. in IT(TP)A No.1179/Bang/2014 for Assessment Year 2006-07 and Huawei Technologies India Pvt. Ltd. in IT(TP)A No.1338/Bang/2010) for Assessment Year 2006-07. 6.0 1) Aztec Software Ltd., 2) Geometric Software Ltd. 3) Mega Soft Ltd.
9 IT(TP)A No.1425/Bang/2010 6.1 Aztec Software Ltd. - This company was selected as a comparable by the assessee itself in its T.P. Study. The assessee, however, had objected to the inclusion of this company in the final set of comparables before the DRP on the ground that it had related party transactions of 17.78%, which is above the list of 15% specified as the yardstick by different co-ordinate benches of this Tribunal in various cases. In support of the above contention, for exclusion of Aztec Software Ltd., the learned Authorised Representative of the assessee placed reliance on the decision of the co-ordinate bench of this Tribunal in this case of Huawei Technologies India P. Ltd. for Assessment Year 2006-07 (supra). 6.2 Geometric Software Ltd.(Seg.) - The assessee objected to the inclusion of this company in the final set of comparables before the authorities below on the ground that this company had RPT of 19.34%, which is above the limit of 15% specified as the yardstick by different co-ordinate benches of this Tribunal in various cases. In support of the above contention, for exclusion of Geometric Software Ltd., the learned Authorised Representative for the assessee placed reliance on the decision of a co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra). 6.3 Megasoft Ltd. - This company was chosen as a comparable by the assessee itself in its T.P. Study. The assessee, however, objected to the inclusion of this company in the final list of comparables before the DRP on the ground that the RPT in this case in 17.08% which is above the limit of 15% specified as the yardstick by different co-ordinate benches of this Tribunal in various cases. In support of its contention, for exclusion of this company from the list of comparables, the learned Authorised Representative of the assessee placed reliance on the 10 IT(TP)A No.1425/Bang/2010 decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra). 6.4 Per contra, the learned Departmental Representative supported the order of the TPO including these three companies in the list of comparables to the assessee. 6.5.1 We have heard the rival contentions and have perused and carefully considered the material on record, including the judicial decision relied on by the assessee. We find that the co-ordinate bench of this Tribunal, in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra) has excluded the above three companies from the set of comparables on grounds of having RPT in excess of 15% and at paras 16 & 17 of its order has held as under :- “16. As far as Megasoft Ltd., Aztec Software Ltd., and Geometric Software Ltd., chosen by the TPO as comparables are concerned, it is not in dispute that the related party transactionsof those comparable companies was more than 15%. This Tribunal in the case of 24/7 Customer Com Pvt. Ltd., (supra), had held that where comparables have related party transactions which are in excess of 15% of its total receipts, then such companies cannot be chosen for the purpose of comparison. Following are the relevant observations of the Tribunal:- “ 13.0 RELATED PARTY TRANSACTIONS In respect of the ground raised at S.No.1 regarding acceptance of comparable companies having related party transactions as proposed by the TPO, the learned counsel for the assessee argued that the transfer pricing regulations do not stipulate any minimum limit of related party transactions which form the threshold for exclusion as a comparable. In this regard, the learned counsel for the assessee objected to the TPO’s setting a limit of 25% on related party transactions. He objected to the inclusion of comparables being related party transactions in excess of 15% of sales / revenue. In support of this proposition, the learned counsel for the assessee placed reliance on the decision of the Hon'ble Bench of the ITAT, Delhi in the case of Sony India (P) Ltd. reported in 2008-TIOL-439-ITAT-Delhi dt.23.12.2008. The learned counsel for the assessee drew our attention to para 115.3 of the order wherein the Tribunal has held that - “ ………..We are further of the view that an entity can be taken as uncontrolled if its related party transactions do not exceed 10 to 15% of total revenue. Within the 11 IT(TP)A No.1425/Bang/2010 above limit, transactions cannot be held to be significant to influence the profitability of the comparables. For the purpose of comparison what is to be judged is the impact of the related party transactions vis-à-vis sales and not profit since profit of an enterprise is influenced by large number of other factors ….” Respectfully following the decision of the Tribunal in the case of Sony India (P) Ltd (supra), the Assessing Officer / TPO are directed to exclude after due verification those comparables from the list with related party transactions or controlled transactions in excess of 15% of total revenues for the financial year 2003-04.”
17. In view of the above, the aforesaid comparable should also be excluded for the purpose of comparison while determining the ALP of the international transaction in question.”
6.5.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra), we hold that these three companies, namely Aztec Software Ltd., Geometric Software Ltd. and Megasoft Ltd. shall be excluded from the set of comparables for the software development services segment of the assessee. 7.1 (4) KALS Infosystems Ltd. This company was selected as a comparable by the TPO and was retained as a comparable even though the assessee objected to its inclusion before the DRP. It is the contention of the assessee that this company is into software products, and training apart from provision of software development services and therefore being functionally different, from the assessee who is purely into provision of software development services, ought to be excluded from the list of comparable companies. In support of this contention for exclusion of this company from the list of comparables, the learned Authorised Representative of the assessee placed reliance on the decision of the co-ordinate bench of the Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra).
12 IT(TP)A No.1425/Bang/2010 7.2 (5) Accel Transmatics Ltd. This company was selected as a comparable by the TPO and was retained as a comparable even though the assessee objected to its inclusion before the DRP. It is the contention of the assessee that the above company is functionally different from the companies engaged in business of providing software development services to its AEs. It is submitted that apart from software development services, this company is engaged in provision of Accel Animation Studies Services in the form of ACCEL IT and ACCEL Animation Services for 2D and 3D Animation. It was also engaged in various business activities, some of which are Ushus Technologies – for off shore development centre for embedded software network system, imaging technologies; Accel IT Academy for training services in hardware and networking, VLSI designs, CAD/CAM/BPO, etc., the learned Authorised Representative for the assessee contends that in view of the above services rendered, it is evident that this company is functionally different from the assessee in the case on hand and therefore ought to be excluded from the list of comparables to the assessee. In support of this contention, the learned Authorised Representative for the assessee placed reliance on the decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra). 7.3 Per contra, the learned Departmental Representative supported the orders of the TPO in including these two companies as comparables to the assessee in the case on hand. 7.4.1 We have heard the rival contentions and perused and carefully considered the material on record, including the judicial pronouncement relied on by the assessee. We find that the co- ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for 13 IT(TP)A No.1425/Bang/2010 Assessment Year 2006-07 (supra) has excluded these two companies from the list of comparables to assessee's engaged in the software development services as they are functionally different. At paras 12 and 13 of its order, the co-ordinate bench has held as under :-
“12. In so far Kals Info Systems Ltd., and Accel Transmatics Ltd. chosen by the TPO as comparables, this Tribunal in the case of Triology E-Business Software India Pvt. Ltd. (supra) has taken a view that these companies are not comparable to the software service provider companies as they are functionally different. The following are the relevant observationsof the Tribunal in this regard :- (d) KALS Information Systems Ltd.
As far as this company is concerned, the contention of the assessee is that the aforesaid company has revenues from both software development and software products. Besides the above, it was also pointed out that this company is engaged in providing training. It was also submitted that as per the annual repot, the salary cost debited under the software development expenditure was Rs. 45,93,351. The same was less than 25% of the software services revenue and therefore the salary cost filter test fails in this case. Reference was made to the Pune Bench Tribunal’s decision of the ITAT in the case of Bindview India Private Limited Vs. DCI, No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006-07 on account of it being functionally different from software companies. The relevant extract are as follows: “16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. The assessee has objected to its inclusion on the basis that functionally the company is not comparable. With reference to pages 185-186 of the Paper Book, it is explained that the said company is engaged in development of software products and services and is not comparable to software development services provided by the assessee. The appellant has submitted an extract on pages 185-186 of the Paper Book from the website of the company to establish that it is engaged in providing of I T enabled services and that the said company is into development of software products, etc. All these aspects have not been factually rebutted and, in our view, the said concern is liable to be excluded from the final set of comparables, and thus on this aspect, assessee succeeds.” Based on all the above, it was submitted on behalf of the assessee that KALS Information Systems Limited should be rejected as a comparable.
We have given a careful consideration to the submission made on behalf of the Assessee. We find that the TPO has drawn conclusions on the basis of information obtained by issue of notice u/s.133(6) of the Act. This information which was not available in public domain could not have been used by the TPO, when the same is contrary to the annual report of this company as highlighted by the Assessee in its letter dated 21.6.2010 to the TPO. We also find that in the decision referred to by the learned counsel for the Assessee, the Mumbai Bench of ITAT has held that this company was developing 14 IT(TP)A No.1425/Bang/2010 software products and not purely or mainly software development service provider. We therefore accept the plea of the Assessee that this company is not comparable. (e) Accel Transmatic Ltd.
With regard to this company, the complaint of the assessee is that this company is not a pure software development service company. It is further submitted that in a Mumbai Tribunal Decision of Capgemini India (F) Ltd v Ad. CIT 12 Taxman.com 51, the DRP accepted the contention of the assessee that Accel Transmatic should be rejected as comparable. The relevant observations of DRP as extracted by the ITAT in its order are as follows: “In regard to Accel Transmatics Ltd. the assessee submitted the company profile and its annual report for financial year 2005-06 from which the DRP noted that the business activities of the company were as under. (i) Transmatic system - design, development and manufacture of multi function kiosks Queue management system, ticket vending system (ii) Ushus Technologies - offshore development centre for embedded software, net work system, imaging technologies, outsourced product development (iii) Accel IT Academy (the net stop for engineers)- training services in hardware and networking, enterprise system management, embedded system, VLSI designs, CAD/CAM/BPO (iv) Accel Animation Studies software services for 2D/3D animation, special effect, erection, game asset development. 4.3 On careful perusal of the business activities of Accel Transmatic Ltd. DRP agreed with the assessee that the company was functionally different from the assessee company as it was engaged in the services in the form of ACCEL IT and ACCEL animation services for 2D and 3D animation and therefore assessee’s claim that this company was functionally different was accepted. DRP therefore directed the Assessing Officer to exclude ACCEL Transmatic Ltd. from the final list of comparables for the purpose of determining TNMM margin.”
Besides the above, it was pointed out that this company has related party transactions which is more than the permitted level and therefore should not be taken for comparability purposes. The submission of the ld. counsel for the assessee was that if the above company should not be considered as comparable. The ld. DR, on the other hand, relied on the order of the TPO.
We have considered the submissions and are of the view that the plea of the assessee that the aforesaid company should not be treated as comparables was considered by the Tribunal in Capgemini India Ltd (supra) where the assessee was software developer. The Tribunal, in the said decision referred to by the ld. counsel for the assessee, has accepted that this company was not comparable in the case of the assesses engaged in software development services business. Accepting the argument of the ld. counsel for the assessee, we hold that the aforesaid company should be excluded as comparables.”
15 IT(TP)A No.1425/Bang/2010 13. In view of the aforesaid decision of the Tribunal, Kals Info Systems Ltd., and Accel Transmatics Ltd. are to be excluded for the purpose of comparison while determining the ALP of the impugned transaction in this appeal. It is ordered accordingly.” 7.4.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra), we hold and direct that these two companies, namely KALS Infosystems Ltd. and Accel Telemetrics Ltd. are to be excluded from the set of comparable companies for the software development services segment of the assessee. 8. (6) Tata Elxsi Ltd. (7) Lucid Software Ltd. 8.1 Both the above companies were selected as comparables by the TPO. Tata Elxsi Ltd. was retained as comparable inspite of the assessee's objection to its inclusion before the DRP. It is the contention of the assessee that these two companies are functionally different from companies engaged in the business of providing software development services and therefore ought to be excluded as comparables to the assessee in the case on hand who is only providing software development services to its AEs.
8.1.1 In respect of Lucid Software Ltd., it was submitted by the learned Authorised Representative that this company apart from providing software development services was also into development of software products such as ‘Muulam’ which is used for civil engineering structures. It was further submitted that a substantial portion of its capital i.e. upto 39% was employed as product development expenditure. The learned A.R. submitted that in view of the 16 IT(TP)A No.1425/Bang/2010 above activities of this company i.e. Lucid Software Ltd., it was functionally different from the assessee in the case on hand who is merely providing software development services to its AEs.
8.1.2 In respect of Tata Elxsi Ltd., the learned A.R. submitted that this company is engaged in development of niche products and development services and also in research and development activities which has resulted in the creation and ownership of IPRs. In view of the above activities of this company i.e. Tata Elxsi Ltd., the ld. A.R. submits that this company is functionally different and ought to be excluded from the list of comparables to the assessee who is into only the business providing of software development services to its AEs.
8.1.3 In support of the assessee’s contentions for exclusion of the above two companies from the list of comparable companies to the assessee, the ld. A.R. relied on the decision of the co- ordinate bench in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra).
8.2 Per contra, the learned Departmental Representative supported the orders of the TPO in including the above two companies as comparables to the assessee in the case on hand.
8.3.1 We have heard the rival contentions and perused and carefully considered the material on record, including the judicial pronouncements relied on by the assessee. We find that the co- ordinate bench in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra) has excluded these two companies from the set of comparables holding as under at paras 14 & 15 thereof :-
17 IT(TP)A No.1425/Bang/2010 “ 14. As far as Lucid Software Ltd. and Tata Elxsi Ltd. chosen by the TPO as comparables, we find that the Mumbai Bench of the Tribunal in the case of Telcordia Technologies India Pvt. Ltd. (supra) while dealing with the case of software services provider like the assessee, considered the comparability of Lucid Software Ltd. with similar software services provider and the Tribunal held as follows :- “7.2 Lucid Software Limited. It has been submitted before us that this company, besides doing software development services, is also involved in development of software product. The learned AR has tried to distinguish by pointing out that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received in response to notice under Section 133(6), the company has described its business as software development company or pure software development service provider. This information itself is very vague as the segmental details of operating revenue has not been made available to examine how much is the ratio of sale from software product and sale of software service and development. Looking to the fact that it has developed a software product named as “Muulam” which is used for civil engineering structures and the product development expenditure itself is substantial vis-à-vis the capital employed by the said company, this criteria for being taken as comparable party, gets vitiated. For the purpose of comparability analysis, it is essential that the characteristics and the functions are by and large similar as that of the assessee company and T.P. analysis/study can be made with fewest and most reliable adjustment. If a company has employed heavy capital in development of a product then profitability in the sale of product would be entirely different from the company, who is involved in service sector. Therefore, this company cannot be treated as having same function and profitability ratio. In our view, due to non-availability of full information abut the segmental details as to how much is the sale of product and how much is from the services, therefore, this entity cannot be taken into account for comparability analysis for determining arm’s length price in the case of the assessee.”
In view of the aforesaid decision of the Mumbai Bench of the Tribunal, which is in relation to A.Y. 2006-07, we are of the view that Lucid Software Ltd. and Tata Elxsi Ltd. are also to be excluded as comparables while determining the ALP of the international transaction impugned in this appeal.” 8.3.2 As far as the company Tata Elxsi Ltd., is concerned, following the decision of the co- ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra), we hold and direct that this company be excluded from the 18 IT(TP)A No.1425/Bang/2010 list of comparables for the software development services of the assessee. It is ordered accordingly.
8.3.3 However, in respect of the company Lucid Software Ltd., we find that the assessee has not raised any objection to its inclusion before any of the lower authorities at any stage of proceedings. It is also seen that even before us, the assessee has neither raised any specific ground for exclusion of this company in the Form 36 filed before us nor raised any additional ground seeking its exclusion. The assessee has not given any explanation or reason for not raising any objection to this company in the earlier proceedings. In this view of the matter, seeking exclusion of this company during appeal proceedings when no ground was raised in this regard even before the authorities below is not acceptable and we are therefore unable to accept the assessee's submissions in this regard. This company, namely; Lucid Software Ltd., will remain in the set of comparables as selected by the TPO and confirmed by the DRP. 9. (8) Infosys Technologies Ltd. 9.1 The learned Authorised Representative of the assessee contended that this company is a giant company, an industry leader with significant brand value, brand related profits, R&D activity resulting in owning of IPRs, on site presence and huge turnover of approx. Rs.13,149 Crores in this year and therefore, being functionally different, is clearly not comparable to an assessee who is only providing software development services to its AEs, as is the assessee in the case on hand. In support of this contention, the learned Authorised Representative of the assessee placed reliance on the decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra).
19 IT(TP)A No.1425/Bang/2010 9.2 Per contra, the learned Departmental Representative supported the order of the TPO in including this company as a comparable to the assessee in the case on hand. 9.3.1 We have heard both parties and perused and carefully considered the material on record; including the judicial decision cited and relied on by the assessee. We find that a co- ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra) has, inter alia, excluded this company from the list of comparables holding as under at paras 10 & 11 thereof :- “10. Insofar as Infosys Ltd., Flextronics Software Systems Ltd., iGate Global Solutions Ltd., Mindtree Consulting Ltd., Persistent Systems Ltd., and Sasken Communication Ltd. chosen by the TPO as comparables, it is not in dispute that the turnover of these companies is more than Rs.200 Crores. The turnover of the assessee in the present case is 114.13 Crores (Approx.). It has beenheld by this Tribunal in the case of Trilogy E-Business Software India Pvt. Ltd. (supra) that companies with a turnover of more thn Rs.200 Crores cannot be taken as comparables while determining the ALP in the case of companies having turnover of less than Rs.200 Crores. The following are the relevant observations of the Tribunal in this regard :- “ (1) Turnover Filter 11. The ld. counsel for the assessee submitted that the TPO has applied a lower turnover filter of Q 1 crore, but has not chosen to apply any upper turnover limit. In this regard, it was submitted by him that under rule 10B(3) to the Income-tax Rules, it was necessary for comparing an uncontrolled transaction with an international transaction that there should not be any difference between the transactions compared or the enterprises entering into such transaction, which are likely to materially affect the price or cost charged or paid or profit arising from such transaction in the open market. Further it is also necessary to see that wherever there are some differences such differences should be capable of reasonable accurate adjustment in monetary terms to eliminate the effect of such differences. It was his submission that size was an important facet of the comparability exercise. It was submitted that significant differences in size of the companies would impact comparability. In this regard our attention was drawn to the decision of the Special Bench of the ITAT Chandigarh Bench in the case of DCIT v. Quark Systems Pvt. Ltd. 38 SOT 207, wherein the Special Bench had laid down that it is improper to proceed on the basis of lower limit of 1 crore turnover with no higher limit on turnover, as the same was not reasonable classification. Several other decisions were referred to in this regard laying down identical proposition. We are not referring to those decisions as the decision of the Special Bench on this aspect would hold the field. Reference was also made to the OECD TP Guidelines, 2010 wherein it has been observed as follows:-
20 IT(TP)A No.1425/Bang/2010 “Size criteria in terms of Sales, Assets or Number of Employees: The size of the transaction in absolute value or in proportion to the activities of the parties might affect the relative competitive positions of the buyer and seller and therefore comparability.”
The ICAI TP Guidelines note on this aspect lay down in para 15.4 that a transaction entered into by a Rs. 1,000 crore company cannot be compared with the transaction entered into by a Rs. 10 crore company. The two most obvious reasons are the size of the two companies and the relative economies of scale under which they operate. The fact that they operate in the same market may not make them comparable enterprises. The relevant extract is as follows [on Rule 10B(3)]: “Clause (i) lays down that if the differences are not material, the transactions would be comparable. These differences could either be with reference to the transaction or with reference to the enterprise. For instance, a transaction entered into by a Rs 1,000 crore company cannot be compared with the transaction entered into by a Rs 10 crore company. The two most obvious reasons are the size of the two companies and the relative economies of scale under which they operate.”
It was further submitted that the TPO’s range (Rs. 1 crore to infinity) has resulted in selection of companies like Infosys which is 277 times bigger than the Assessee (turnover of Rs. 13,149 crores as compared to Rs. 47.47 crores of Assessee). It was submitted that an appropriate turnover range should be applied in selecting comparable uncontrolled companies.
Reference was made to the decision of the ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, wherein relying on Dun and Bradstreet’s analysis, the turnover of Q 1 crore to Q 200 crores was held to be proper. The following relevant observations were brought to our notice:- “9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (sic) making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the various benches of the Tribunal, when companies which arc loss making are excluded from comparables, then the super profit making companies should also be excluded. For the purpose of classification of companies on the basis of net sales or turnover, we find that a reasonable classification has to be made. Dun & Bradstreet & Bradstreet and NASSCOM have given different ranges. Taking the Indian scenario into consideration, we feel that the classification made by Dun & Bradstreet is more suitable and reasonable. In view of the same, we hold that the turnover filter is very important and the companies having a turnover of Rs.1.00 crore to 200 crores have to be taken as a particular range and the assessee being in that range having turnover of 8.15 crores, the companies which also have turnover of 1.00 to 200.00 crores only should be taken into consideration for the purpose of making TP study.”
15. It was brought to our notice that the above proposition has also been followed by the Honourable Bangalore ITAT in the following cases:
21 IT(TP)A No.1425/Bang/2010 1. M/s Kodiak Networks (India) Private Limited Vs. ACIT (ITA No.1413/Bang/2010) 2. M/s Genesis Microchip (I) Private Limited Vs. DCIT (ITA No.1254/Bang/20l0).
Electronic for Imaging India Private Limited (ITA No. 1171/Bang/2010). It was finally submitted that companies having turnover more than Rs. 200 crores ought to be rejected as not comparable with the Assessee.
The ld. DR, on the other hand pointed out that even the assessee in its own TP study has taken companies having turnover of more than Q 200 crores as comparables. In these circumstances, it was submitted by him that the assessee cannot have any grievance in this regard.
We have considered the rival submissions. The provisions of the Act and the Rules that are relevant for deciding the issue have to be first seen. Sec.92. of the Act provides that any income arising from an international transaction shall be computed having regard to the arm’s length price. Sec.92-B provides that “international transaction” means a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. Sec.92-A defines what is an Associated Enterprise. In the present case there is no dispute that the transaction between the Assessee and its AE was an international transaction attracting the provisions of Sec.92 of the Act. Sec.92C provides the manner of computation of Arm’s length price in an international transaction and it provides:- (1) that the arm’s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :— (a) comparable uncontrolled price method; (b) resale price method; (c) cost plus method; (d) profit split method; (e) transactional net margin method; (f) such other method as may be prescribed by the Board. (2) The most appropriate method referred to in sub-section (1) shall be applied, for determination of arm’s length price, in the manner as may be prescribed: Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices:
22 IT(TP)A No.1425/Bang/2010 Provided further that if the variation between the arm’s length price so determined and price at which the international transaction has actually been undertaken does not exceed five per cent of the latter, the price at which the international transaction has actually been undertaken shall be deemed to be the arm’s length price. (3) Where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the basis of material or information or document in his possession, of the opinion that— (a) the price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or (b) any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in subsection (1) of section 92D and the rules made in this behalf; or (c) the information or data used in computation of the arm’s length price is not reliable or correct; or (d) the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued under sub-section (3) of section 92D, the Assessing Officer may proceed to determine the arm’s length price in relation to the said international transaction in accordance with subsections (1) and (2), on the basis of such material or information or document available with him: 18. Rule 10B of the IT Rules, 1962 prescribes rules for Determination of arm’s length price under section 92C:- “10B. (1) For the purposes of sub-section (2) of section 92C, the arm’s length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely :— (a)……. to (d)…….. (e)transactional net margin method, by which,— (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; (ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; 23 IT(TP)A No.1425/Bang/2010 (iv) the net profit margin realised by the enterprise and referred to in sub-clause (i) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profit margin thus established is then taken into account to arrive at an arm’s length price in relation to the international transaction. (2) For the purposes of sub-rule (1), the comparability of an international transaction with an uncontrolled transaction shall be judged with reference to the following, namely:— (a) the specific characteristics of the property transferred or services provided in either transaction; (b) the functions performed, taking into account assets employed or to be employed and the risks assumed, by the respective parties to the transactions; (c) the contractual terms (whether or not such terms are formal or in writing) of the transactions which lay down explicitly or implicitly how the responsibilities, risks and benefits are to be divided between the respective parties to the transactions; (d) conditions prevailing in the markets in which the respective parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs of labour and capital in the markets, overall economic development and level of competition and whether the markets are wholesale or retail.
(3) An uncontrolled transaction shall be comparable to an international transaction if— (i) none of the differences, if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged or paid in, or the profit arising from, such transactions in the open market; or (ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences. (4) The data to be used in analysing the comparability of an uncontrolled transaction with an international transaction shall be the data relating to the financial year in which the international transaction has been entered into : Provided that data relating to a period not being more than two years prior to such financial year may also be considered if such data reveals facts which could have an influence on the determination of transfer prices in relation to the transactions being compared.
” 19. A reading of the provisions of Rule 10B(2) of the Rules shows that uncontrolled transaction has to be compared with international transaction having regard to the factors set out therein. Before us there is no dispute that the TNMM is the most appropriate method for determining the ALP of the international transaction. The disputes are with regard to the comparability of the comparable relied upon by the TPO.
In this regard we find that the provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables. The assessee’s turnover is Q 47,46,66,638. It would therefore fall within the category of companies in the range of turnover between 1 crore and 200 crores (as laid down in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, . Thus, companies having turnover of more than 200 crores have to be eliminated from the list of comparables as laid down in several decisions referred to by the ld. counsel for the assessee. Applying those tests, the following companies will have to be excluded from the list of 26 comparables drawn by the TPO viz., 24 IT(TP)A No.1425/Bang/2010 Turnover Rs. (1) Flextronics Software Systems Ltd. 848.66 crores (2) iGate Global Solutions Ltd. 747.27 crores (3) Mindtree Ltd. 590.39 crores (4) Persistent Systems Ltd. 293.74 crores (5) Sasken Communication Technologies Ltd. 343.57 crores (6) Tata Elxsi Ltd. 262.58 crores (7) Wipro Ltd. 961.09 crores. (8) Infosys Technologies Ltd. 13149 crores.” 9.3.2 Following the aforesaid decision of the co-ordinate bench of this Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra), we hold and direct that Infosys Technologies Ltd. be excluded from the set of comparables in the software development services segment of the assessee. It is ordered accordingly. CORPORATE TAX ISSUES (Ground Nos. 5 to 8) 10. Ground Nos. 5 to 8 : Computation / Deduction u/s. 10A of the Act. 10.1 The assessee in the Grounds raised
at S.Nos. 5 to 7 challenges the action of the authorities below (i.e. the Assessing Officer and the DRP) in excluding expenses incurred in foreign currency and communication expenses from export turnover while computing the deduction under Section 10A of the Act. Without prejudice to its above contention that the aforesaid sums should not be excluded from the export turnover, while computing the deduction under Section 10A of the Act, the assessee in Ground No.8 has also made an alternate plea that the expenses that are reduced from export turnover should also be reduced from total turnover, placing reliance on the decision of the Hon'ble Karnataka High Court in the case of CIT V Tata Elxsi Ltd. (2012) 349 ITR
98. (Kar). 10.2 We have heard both the learned Authorised Representative and the learned Departmental Representative in the matter. Taking into consideration the decision rendered by 25 IT(TP)A No.1425/Bang/2010 the Hon'ble High Court of Karnataka in the case of Tata Elxsi Ltd. (supra), we are of the view that it would be just and appropriate to direct the Assessing Officer that communication charges and expenses incurred in foreign currency are to be excluded from both export turnover as well as total turnover while computing the deduction under Section 10A of the Act, as has been prayed by the assessee in its alternate plea at Ground raised at No.8. In view of the acceptance of the alternate plea of the assessee, we are of the view that no adjudication is called for on Ground No.7 as to whether the aforesaid expenditure are required to be excluded from export turnover.
11. Ground No.9 – Charging of interest under Section 234B of the Act. 11.1 In this Ground, the assessee challenges the action of the Assessing Officer in charging the assessee interest under Section 234B of the Act. The charging of interest under the aforesaid sections is consequential and mandatory and the Assessing Officer has no discretion in the matter. This proposition has been upheld by the Hon'ble Apex Court in the case of Anjum Hon'ble Ghaswala & Others (252 ITR 1) (SC) and in this view of the matter, we uphold the Assessing Officer’s action in charging the said interest. The Assessing Officer is, however, directed to re-compute the interest chargeable under Section 234B of the Act, if any, while giving effect to this order. In the result, the assessee's appeal is partly allowed. Order pronounced in the open court on 23rd Sept., 2015. Sd/- Sd/- (P. MADHAVI DEVI) (JASON P BOAZ) Judicial Member Accountant Member *Reddy gp