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Income Tax Appellate Tribunal, “C” BENCH : BANGALORE
Before: SHRI N.V. VASUDEVAN & SHRI ABRAHAM P. GEORGE
IT(TP)A No.1118 & 1087 /Bang/2014 Page 2 of 27 O R D E R Per N.V. Vasudevan, Judicial Member These are cross appeals by the Revenue and assessee against the order dated 26.6.2014 of the CIT(Appeals)-IV, Bangalore relating to assessment year 2009-10.
ITA 1118/B/14 (Revenue’s appeal)
First we shall take up for consideration appeal by the Revenue. Ground Nos. 1, 5 & 6 are general in nature and calls for no specific adjudication.
Ground Nos. 2 & 3 read as follows:-
“2. On the facts and in the circumstances of the case the learned CIT(A) erred in law in directing the AO to exclude the reimbursement of certain expenses both from the export turnover as well as from total turnover for the purpose of computation of deduction u/s 10A, without appreciating the fact that the statute allows exclusion of such expenditure only from export turnover by way of specific definition of export turnover as envisaged by Sub-clause (4) of Explanation 2 below Sub-section (8) of Section 10A and the total turnover has not been defined in this Section. 3/. On the facts and in the circumstances of the case the learned CIT(A) erred in directing the AO to compute deduction u/s 1OA in the above manner by placing reliance on the decision of Hon’ble High Court of Karnataka in the case of M/s Tata Elxsi Ltd., which has not become final since the same has not been accepted by the Department and SLPs are pending before the Hon’ble Supreme Court.”
IT(TP)A No.1118 & 1087 /Bang/2014 Page 3 of 27
These grounds are with regard to exclusion of internet charges and travelling expenses incurred in foreign currency from export turnover without reducing the same from the total turnover, while computing deduction u/s. 10A of the Act.
According to the AO, as per the definition of export turnover given in clause (iv) to Explanation 2, the expenses incurred for freight expenses attributable to the delivery of the product or software outside India should be reduced from the export turnover. However, the provisions of section 10A do not provide for exclusion of such expenditure from total turnover. In the absence of a definition for total turnover in section 10A, the normal definition of total turnover has to be adopted and as such the expenses which are reduced from the export turnover in accordance with the specific definition cannot be reduced from the total turnover.
On appeal by the assessee, the CIT(Appeals) following the decision of the Hon’ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd., 349 ITR 98 (Karn), held that whatever is excluded from the export turnover, has also to be excluded from the total turnover.
Aggrieved by the order of the CIT(Appeals), the revenue is in appeal before the Tribunal.
The grievance of the Revenue is that the decision of Hon'ble High Court of Karnataka in Tata Elxsi (supra) has not attained finality and a IT(TP)A No.1118 & 1087 /Bang/2014 SLP by the department is pending before the Hon'ble Supreme Court. We are of the view that as of today, law declared by the Hon'ble High Court of Karnataka which is the jurisdictional High Court is binding on us. We therefore hold that the order of CIT(A) does not call for any interference and accordingly the same is confirmed.
Ground No.4 raised by the Revenue will be dealt with while dealing with grounds No.2 to 9 of the assessee’s appeal.
In the result, the appeal by the Revenue is dismissed.
1087/B/14 (Assessee’s appeal)
Ground No.1 is general in nature and calls for no specific adjudication.
In grounds 2 to 9, the assessee has challenged the action of the DRP in confirming the addition suggested by the TPO by way of adjustment of arm’s length price (ALP) in respect of international transaction of rendering software development services by the assessee to its AE. In ground No.3 filed by the revenue the revenue has challenged the order of the CIT(A) whereby he held that forex loss/gain is operating in nature and therefore has to be regarded as part of the operative income for the purpose of determining the profit margins of the Assessee as well as that of the comparable companies. The facts in this regard are as follows.
IT(TP)A No.1118 & 1087 /Bang/2014 Page 5 of 27 13. Nvidia is a worldwide leader in graphics and digital media processors dedicated to creating 7 products that enhance the interactive experience on consumer and professional computing platforms. Its products have broad market reach and are incorporated into a variety of platforms, including consumer and enterprise PCs, notebooks, workstations, mobile phones and game consoles. The assessee provides research and development services to NVIDIA International, from its Bangalore, Pune and Hyderabad facilities. It also provides marketing support services to NVIDA Singapore Pte. Ltd. NVIDIA India is compensated on a cost plus mark-up basis for the provision of research and development services to NVIDA International and marketing support services provided to NVIDIA Singapore. The details of segmental financials are as follows:-
Description Research & Development Services (Software) (Rs.) Operating Revenues 208,44,86,068 Operating Expenses 183,33,97,561 Operating Profit/Loss 25,10,88,507 Op Profit on cost 13.70%
The issue raised by the Assessee in Grounds No.2 to 9 relates to the determination of Arm’s Length Price (ALP) in respect of receipts by the Assessee from it’s AE in respect of transaction of rendering software development services. In support of the claim of the Assessee that the price paid as above was at Arm’s Length, the Assessee filed a Transfer
IT(TP)A No.1118 & 1087 /Bang/2014 Pricing analysis. The Assessee adopted TNMM as the most appropriate method. The Profit Level Indicator (PLI) chosen was Operating profit to operating cost. The assessee proposed 21 comparable companies out of which the TPO accepted 8 comparable companies and rejected the 13 comparable companies proposed by the Assessee. On his own, the TPO selected 3 companies and arrived at a final set of 11 comparables and their operating margins as follows:-
Sl. Name of the Comparable Sales Cost Margin No. (in Rs.) (in Rs.) 1 Kals Information Systems Ltd 2,14,04,686 1,87.93,813 l3.89% 2 Akshay Software Technologies 12,23,21,483 11,31,49,350 8.11% Ltd. 3 Bodhtree Consulting Ltd. 16,05,75,212 9,89,56,821 62.27% 4 R S Software (India) Ltd. 1,49,57,12,634 1,36,01,02,589 9.97% 5 Tata Elxsi Ltd. (segmental) 3,78,43,03,000 3,14,63,15,000 20.28% 6 Sasken Communication 4,05,31,20,000 3,18,69,97,000 27.91% Technologies Ltd. 7 Persistent Systems Ltd. 5,19,69,10,000 3,67,52,70,000 41.40% 8 Zylog Systems Ltd. 7,34,93,51,475 6,81,69,98,160 7.81% 9 Mindtree Ltd. (seg) 7,93,22,79,326 5,74,06,73,058 5.52% 10 Larsen and Toubro Infotech 19,50,83,81,374 15,64,12,76,626 24.72% 11 Infosys Ltd. 2,02,64,00,00,000 1,39,17,00,00,000 45.61% 24.32% Average mean
The margins of the Assessee as computed by the TPO was 13.70%, which was not within the (+) or (-) 5% range of the arithmetic mean of the final set of comparable companies chosen by the TPO. The TPO therefore proceeded to determine the ALP of the international transaction by applying the arithmetic mean of the final list of comparable companies chosen by him. After allowing working capital adjustment, the TPO computed the ALP as follows:-
IT(TP)A No.1118 & 1087 /Bang/2014 Page 7 of 27
Arm’s Length Mean Margin on cost 24.32% Less: Working Capital Adjustment (Annex.C1 read with -1.71% para3.7) Adjusted margin 22.61% Operating Cost 183,33.97,561 Arms Length Price 124.73% of Operating Cost 224,76,28,749 Price Received 208,44,86,068 Shortfall being adjustment u/s 92CA 16,34,42,681
The assessee filed objections before the CIT(A) to the proposal made by the TPO in the order passed u/s. 92CA of the Act. The CIT(A) confirmed the order of the TPO in so far as it relates to selection of comparable companies. The CIT(A), however, held that forex loss/ gain is operating in nature and has to be considered as part of the operating profits for the purpose of computing profit margin of the Assessee. The AO passed fair assessment order in which the addition proposed by the TPO was added to the total income of the assessee. Aggrieved by the order of the CIT(A), the Assessee as well as the Revenue are in appeal before the Tribunal.
The first aspect that needs consideration is the computation of revenues from software development services. In ground No. 3 raised by the revenue, the revenue has challenged the order of the CIT(A) whereby he held that forex loss/gain is operating in nature and therefore has to be regarded as part of the operative income for the purpose of determining the profit margins of the Assessee as well as that of the comparable companies. It was the plea of the assessee before the CIT(A) that the TPO
IT(TP)A No.1118 & 1087 /Bang/2014 Page 8 of 27 erred in not treating the foreign exchange fluctuation as part of the operating profits and adding the same to the income from software development services. The assessee specifically brought to the notice of the CIT(A) that the TPO while computing the operating margin, has not included the income from foreign exchange fluctuation on the ground that the same is non-operating in nature. The assessee brought to the notice of the DRP that the ITAT Bangalore Bench in the case of Trilogy E- Business Software India Private Ltd. in has held that foreign exchange gain/loss has to be considered as operating in nature. The Tribunal followed the decision rendered by the Bangalore Bench in the case of SAP Labs India Pvt. Ltd. v. ACIT, [2011] 44 SOT 156 (Bang). The CIT(A) agreed with the submissions of the Assessee and held that foreign exchange fluctuation as being ‘operating’ in nature in computing the operating margins of the Appellant and the comparable companies.
The ld. DR placed reliance on the order of the TPO on this issue. The learned counsel for the Assessee relied on the order of the CIT(A).
We have considered the rival submissions. In our view, the CIT(A) has relied on the decisions rendered by the Tribunal in the case of SAP Labs (Supra). In the given facts and circumstances, we uphold the order of the CIT(A) holding that the foreign exchange gain from software
IT(TP)A No.1118 & 1087 /Bang/2014 development services has to be considered as part of the income from software development services while computing the margin of the assessee.
20. The next aspect that requires consideration is with regard to the comparability analysis carried out by the TPO. As we have already seen, the assessee had chosen a list of 11 comparable companies, which are given in the earlier part of this order. We have also seen that out of the 21 comparable chosen by the assessee, the AO accepted only 8 companies as comparable with that of the assessee and excluded the remaining 13 companies. The TPO on his own conducted a search of database and arrived at a list of 3 new comparable companies. The final list of 11 comparable companies and their margins were taken for arriving at an arithmetic mean of 24.32% of the comparables.
21. Before us, the ld. counsel for the assessee has filed a chart in which he has questioned the action of the TPO in including/retaining some of the comparable chosen by the TPO in the final list of comparables chosen by him. The assessee has also submitted that some of the comparable chosen by the Assessee ought not to have been rejected by the TPO. We will deal with each of such comparable companies in the following paras.
IT(TP)A No.1118 & 1087 /Bang/2014 Page 10 of 27 COMPANIES INCLUDED IN THE FINAL LIST OF COMPARABLES WHICH THE ASSESSEE WANTS TO BE EXCLUDED:- 22. Bodhtree Consulting Ltd.:- As far as this company is concerned, it is not in dispute that in the list of comparables chosen by the assessee, this company was also included by the assessee. The assessee, however, submits before us that later on it came to the assessee’s notice that this company is not being considered as a comparable company in the case of companies rendering software development services. In this regard, the ld. counsel for the assessee has brought to our notice the decision of the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt.
Ltd. v. ITO, order dated 6.11.2013. In this case, the Tribunal followed the decision rendered by the Mumbai Bench of the Tribunal in the case of Wills Processing Services (I) P.
Ltd., ITA No.4547/Mum/2012. In the aforesaid decisions, the Tribunal has taken the view that Bodhtree Consulting Ltd. is in the business of software products and was engaged in providing open & end to end web solutions software consultancy and design & development of software using latest technology. The decision rendered by the Mumbai Bench of the Tribunal in the case of Nethawk Networks Pvt. Ltd. (supra) is in relation to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Following the aforesaid
IT(TP)A No.1118 & 1087 /Bang/2014 decision of the Mumbai Bench of the Tribunal, we hold that Bodhtree Consulting Ltd. cannot be regarded as a comparable. In this regards, the fact that the assessee had itself proposed this company as comparable, in our opinion, should not be the basis on which the said company should be retained as a comparable, when factually it is shown that the said company is a software product company and not a software development services company.
Infosys Ltd.:- As far as this company is concerned, it is not in dispute before us that this company has been considered to be functionally different from a company providing simple software development services, as this company owns significant intangibles and has huge revenues from software products. In this regard, we find that the Bangalore Bench of the Tribunal in the case of M/s. TDPLM Software Solutions Ltd. v. DCIT, by order dated 28.11.2013 with regard to this comparable has held as follows:-
“11.0 Infosys Technologies Ltd. 11.1 This was a comparable selected by the TPO. Before the TPO, the assessee objected to the inclusion of the company in the set of comparables, on the grounds of turnover and brand attributable profit margin. The TPO, however, rejected these objections raised by the assessee on the grounds that turnover and brand aspects were not materially relevant in the software development segment. 11.2 Before us, the learned Authorised Representative contended that this company is not functionally comparable to the assessee in the case on hand. The learned Authorised Representative drew our attention to various parts of the Annual Report of this company to submit that this company commands substantial brand value, owns intellectual property rights and is a market leader in software
IT(TP)A No.1118 & 1087 /Bang/2014 development activities, whereas the assessee is merely a software service provider operating its business in India and does not possess either any brand value or own any intangible or intellectual property rights (IPRs). It was also submitted by the learned Authorised Representative that :- (i) the co-ordinate bench of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. in has held that a company owning intangibles cannot be compared to a low risk captive service provider who does not own any intangible and hence does not have an additional advantage in the market. It is submitted that this decision is applicable to the assessee's case, as the assessee does not own any intangibles and hence Infosys Technologies Ltd. cannot be comparable to the assessee ; (ii) the observation of the ITAT, Delhi Bench in the case of Agnity India Technologies Pvt. Ltd. in ITA No.3856 (Del)/2010 at para 5.2 thereof, that Infosys Technologies Ltd. being a giant company and market leader assuming all risks leading to higher profits cannot be considered as comparable to captive service providers assuming limited risk ; (iii) the company has generated several inventions and filed for many patents in India and USA ; (iv) the company has substantial revenues from software products and the break up of such revenues is not available ; (v) the company has incurred huge expenditure for research and development; (vi) the company has made arrangements towards acquisition of IPRs in ‘AUTOLAY’, a commercial application product used in designing high performance structural systems. In view of the above reasons, the learned Authorised Representative pleaded that, this company i.e. Infosys Technologies Ltd., be excluded form the list of comparable companies. 11.3 Per contra, opposing the contentions of the assessee, the learned Departmental Representative submitted that comparability cannot be decided merely on the basis of scale of operations and the brand attributable profit margins of this company have not been extraordinary. In view of this, the learned Departmental Representative supported the decision of the TPO to include this company in the list of comparable companies. 11.4 We have heard the rival submissions and perused and carefully considered the material on record. We find that the assessee has brought on record sufficient evidence to establish that this IT(TP)A No.1118 & 1087 /Bang/2014 company is functionally dis-similar and different from the assessee and hence is not comparable and the finding rendered in the case of Trilogy E-Business Software India Pvt. Ltd. (supra) for Assessment Year 2007-08 is applicable to this year also. We are inclined to concur with the argument put forth by the assessee that Infosys Technologies Ltd is not functionally comparable since it owns significant intangible and has huge revenues from software products. It is also seen that the break up of revenue from software services and software products is not available. In this view of the matter, we hold that this company ought to be omitted from the set of comparable companies. It is ordered accordingly.” The decision rendered as aforesaid pertains to A.Y. 2008-09. It was affirmed by the learned counsel for the Assessee that the facts and circumstances in the present year also remains identical to the facts and circumstances as it prevailed in AY 08-09 as far as this comparable company is concerned. Respectfully following the decision of the Tribunal referred to above, we hold that Infosys Ltd. be excluded from the list of comparable companies.
KALS Information Systems Ltd.:- As far as this company is concerned, it is not in dispute before us that this company has been considered as not comparable to a pure software development services company by the Bangalore Bench of the Tribunal in the case of M/s.
Trilogy e-business Software India Pvt. Ltd. (supra). The following were the relevant observations of the Tribunal:-
“(d) KALS Information Systems Ltd. 46. 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 IT(TP)A No.1118 & 1087 /Bang/2014 Page 14 of 27 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.
47. 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 software products and not purely or mainly software development service provider. We
IT(TP)A No.1118 & 1087 /Bang/2014 Page 15 of 27 therefore accept the plea of the Assessee that this company is not comparable.” Following the aforesaid decision of the Tribunal, we hold that KALS Information Systems Ltd. should not be regarded as a comparable.
Tata Elxsi Ltd.:- As far as this company is concerned, it is not in dispute before us that in assessee’s own case for the A.Y. 2007-08, this company was not regarded as a comparable in its software development services segment in order dated 29.3.2013.
Following were the relevant observations of the Tribunal:-
II. UNREASONABLE COMPARABILITY CRITERIA : 19. The learned Chartered Accountant pleaded that out of the six comparables shortlisted above as comparables based on the turnover filter, the following two companies, namely (i) Tata Elxsi Ltd; and (ii) M/s. Flextronics Software Systems Ltd., deserve to be eliminated for the following reasons : (i) Tata Elxsi Ltd., : The company operates in the segments of software development services which comprises of embedded product design services, industrial design and engineering services and visual computing labs and system integration services segment. There is no sub-services break up/information provided in the annual report or the databases based on which the margin from software services activity only could be computed. The company has also in its response to the notice u/s.133(6) stated that it cannot be considered as comparable to any other software services company because of its complex nature. Hence, Tata Elxsi Ltd., is to be excluded from the list of comparables. (ii) Flextronics Software Systems Ltd. : The learned TPO has considered this company as a comparable based on 133(6) reply wherein this company reflected its software development services IT(TP)A No.1118 & 1087 /Bang/2014 Page 16 of 27 revenues to be more than 75% of the "software products and services" segment revenues. Flextronics has a hybrid revenue model and hence should be rejected as functionally different. Based on the information provided under "Revenue recognition" in its annual report, it can be inferred that the software services revenues are earned on a hybrid revenue model, and the same is not similar to the regular models adopted by other software service providers. The learned representative pleaded that a regular software services provider could not be compared to a company having such a unique revenue model, wherein the revenues of the company from software/product development services depends on the success of the products sold by its clients in the marketplace. Hence, it would be inappropriate to compare the business operations of the assessee with that of a company following hybrid business model comprising of royalty income as well as regular software services income, for which revenue break-up is not available. He finally submitted that this was a good reason to exclude this company also from the list of comparables.
On the other hand, the learned DR supported the order of the lower authorities regarding the inclusion of Tata Elxsi and Flextronics Software Systems Ltd., in the list of comparables. He reiterated the contents of para 14.2.25 of the TPO's order. He also read out the following portion from the TPO's order : "Thus as stated above by the company, the following facts emerge :
1. 1. The company's software development and services segment constitutes three sub-segments i) product design services; ii) engineering design services and iii) visual computing labs.
2. The product design services sub-segment is into embedded software development. Thus this segment is into software development services.
3. The contribution of the embedded services segment is to the tune of Rs.230 crores in the total segment revenue of Rs.263 crores. Even if we consider the other two sub-segments pertain to IT enabled services, the 87.45% (›75%) of the segment's revenues is from software development services.
IT(TP)A No.1118 & 1087 /Bang/2014 Page 17 of 27 4. This segment qualifies all the filters applied by the TPO." Regarding Flextronics Software Systems, the following extract from page 143 of TPO's order was read out by him as his submissions : "It is very pertinent to mention here that the company was considered by the taxpayer as a comparable for the preceding assessment year i.e., AY 2006-07. When the same was accepted by the TPO as a comparable, the same was not objected to it by the taxpayer. As the facts mentioned by the taxpayer are the same and these were there in the earlier FY 2005-06, there is no reason why the taxpayer is objecting to it. How the company is functionally similar in the earlier FY 2005-06 but the same is not functionally similar for the subsequent FY 2006-07 even when no facts have been changed from the preceding year. Thus the taxpayer is arguing against this comparable as the company was not considered as a comparable by the taxpayer for the present FY 2006-07."
We have heard the rival submissions and considered the facts and materials on record. After considering the submissions, we find that Tata Elxsi and Flextronics are functionally different from that of the assessee and hence they deserve to be deleted from the list of six comparables and hence there remains only four companies as comparables, as listed below:”
Following the aforesaid decision of the Tribunal, we hold that M/S.Tata Elxsi Ltd. should not be regarded as a comparable.
As far as Persistent Systems Ltd., a comparable by the Assessee in his TP study but was objected to by the Assessee before TPO as not comparable, this Tribunal in the case of IT(TP) A.No.108(Bang) 2014 order dated 12.12.2014 in the case of Yodlee Infotech Pvt.Ltd. Vs. ITO held as follows:-
IT(TP)A No.1118 & 1087 /Bang/2014 Page 18 of 27
“5.12 ………… This Tribunal in the case of 3DPLM Software Solutions Ltd. Vs DCIT [IT(TP)A 1303/Bang/2012 dated 28-11-2013] had also held that Persistent Software Systems Pvt. Ltd., was in product designing services and into software product development. In the same decision it was also held that M/s. Infosys Technologies Ltd, had considerable intangibles like IPR, and was also into software product development. It was also held that M/s. Tata Elxsi Ltd., was developing niche products and into product designing services. Hence, these companies would in any case have to be excluded from the comparables being functionally different.”
Following the said decision, we direct that Persistent Systems Ltd., be excluded from the final list of comparable companies chosen by the TPO.
The AO/TPO is directed to compute the arithmetic mean of the profit margins of the remaining comparable companies after excluding the companies from the final list of 11 comparable companies chosen by the TPO and compare the same with the profit margin of the Assessee in accordance with the provisions of Sec.92C of the Act.
No other arguments were raised on the other issues raised in the concise grounds of appeal No.2 to 9 and therefore the issue with regard to determination of ALP of the international transaction of providing software development services to the AE by the Assessee is decided as set out in the earlier paragraphs. Ground No.4 raised by the revenue is dismissed.
IT(TP)A No.1118 & 1087 /Bang/2014 Page 19 of 27
Ground No.10 reads as follows:-
“Grounds relating to corporate tax matters 10. The learned CIT(A) has erred in law and in facts, 10.1 By confirming with the learned AO that the building at Nanakramguda R.R Dist, Hyderabad, belonging to the Appellant (acquired after its amalgamation with Portal Player India Private Limited with effect from 1 April 2007), was put to use in the AY 2007-08. 10.2 By confirming the re-computation of the eligible depreciation for the AY 2009-10 and the consequent disallowance of the excess depreciation of Rs 1,409,854 from the profits of STP unit, by the learned AO.”
The grievance of the assessee lies in the action of the AO in disallowance of depreciation on building. Relevant facts of the case are that the Assessee has three STPI Units in Bangalore, Pune & Hyderabad and one Non-STPI Unit in Bangalore. The AO noted that a company by name M/s. Portal Player Pvt. Ltd. [“PPPL”] was amalgamated with the assessee company w.e.f. 01.04.2007. Consequently the ownership of the property being land and building at Hyderabad belonging to PPPL vested with the assessee and was shown under the head “Fixed Assets”. Consequent on amalgamation, the work-in progress in the books of the amalgamating entity as on 31.03.2007 along with expenses incurred by the assessee till
IT(TP)A No.1118 & 1087 /Bang/2014 22.04.2007 was capitalized as addition to the block of the building in the fixed assets and depreciation was claimed. According to the work-in progress in the books of the amalgamating entity also included building that was put to use by the amalgamating company in financial year 2006-07.
The AO therefore re-worked the value of the building after reducing the depreciation for the F.Y. 2006-07 allowed to the amalgamating company and accordingly, disallowed the claim of excess depreciation.
Before the CIT(Appeals), it was submitted that during the F.Y. 2006- 07, the construction of the building was not complete and the value of the building was shown as “capital work-in progress” in the balance sheet of PPPL as on 31.03.2007. The construction of the building was completed in the month of April, 2007 and upon its completion, it was leased to the assessee company. Subsequently, the value of the said building was capitalized in the books of Nvidia India.
The CIT(Appeals) on consideration of the facts and circumstances of the case, observed that the sole issue was whether the building was put to use in the financial year 2006-07. He held that the assessee was not able to establish whether PPPL claimed depreciation on this building in AY 2007-08. He confirmed the action of the AO in absence of the details.
The limited prayer of the ld. counsel for the assessee before us was that the required details were inadvertently not filed before the CIT(Appeals). He sought to file before documents to show that PPPL had IT(TP)A No.1118 & 1087 /Bang/2014 Page 21 of 27 not claimed depreciation on the building in AY 2007-08. On a perusal of the aforesaid documents, we are of the view that it would be just and appropriate to set aside the order of the CIT(Appeals) on this issue and remand the issue to the Assessing Officer for fresh consideration. The assessee is at liberty to file the documents to show that no depreciation was claimed by PPPL on the building in question. The assessee will also be at liberty to establish its claim for depreciation by producing all the relevant documents. It is ordered accordingly. Thus ground No.10 raised by the assessee is treated as allowed for statistical purposes.
Ground No.11 raised by the reads as follows:-
“11 The learned CIT(A) has erred in law and in facts, by not appreciating the fact that the non-STP unit of the Appellant had incurred expenses in the nature of advertisement exclusively for the promotion of products of NVIDIA Singapore Pte. Limited in India. Accordingly, the learned CIT(A) has erred in confirming that the advertisement expenses incurred by non-STPI unit should be apportioned between all units in the ratio of turnover.”
During the AY 2009-10, NVIDIA India has incurred total advertisement expenses of Rs 25,053,976 [Rs. 676,870 STP Unit and Rs. 24,377,106 Non STP Unit]. During the assessment proceedings the AO questioned as to why the whole of the advertisement expenses is debited to the Non STP unit. In this regard, it was submitted that the Non-STP unit is engaged in providing marketing support services to NVIDIA Singapore Pte. Ltd (“NVIDIA Singapore”) and in this regard, the advertisement
IT(TP)A No.1118 & 1087 /Bang/2014 expenses of Rs. 24,377,106 have been incurred by the NVIDIA India’s Non-STP unit. The AO held that all the group companies may be benefitted due to increase in popularity of the brand and Company through marketing in India. Accordingly, without providing any other justification, he apportioned 15% of whole of the expenses of the Non-STP unit (i.e. expenditure on employees and operating and other expenses) amounting to Rs. 75,027,928 to the STP unit. With this apportionment, the profit of the Non-STP unit has been increased by Rs. 11,254,190 and profit of the STP unit has decreased by an equivalent amount.
The Assessee submitted that the software development activity is undertaken by NVIDIA India from its STP registered units at Bangalore, Pune and Hyderabad. The STP units are not engaged in any sales and marketing activities. On the other hand, the Non - STP unit at Bangalore is engaged in providing only marketing support services to its group companies overseas. In respect of this marketing support activity, the assessee has entered into a Service Representative Agreement with its group Company, NVIDIA Singapore. For these services, the assessee is remunerated on a cost plus basis. Under the agreement with NVIDIA Singapore, the assessee undertakes advertising and promotion of NVIDIA Group products within India such as participating in trade shows and exhibitions and performing product presentations. The advertisement expenses of Rs. 24,377,106 referred by the AO in his order has been IT(TP)A No.1118 & 1087 /Bang/2014 incurred by the assessee’s Non-STP unit in the course of rendering the marketing support activities.
Further, the assessee submitted that the TPO has made an independent analysis of the international transactions of the Marketing Support Services segment by comparing the net margins under the TNMM and has accepted that the assessee’s margin is not less than the TPO’s margin and has not made any adjustments accordingly. Also, the independent analysis of the TPO includes analysis of the income as well as expenses and NVIDIA India being remunerated at cost plus basis, whatever is charged as expense would be included under income with the margin.
The Appellant also submitted that separate set of accounts were maintained by it for both STP and Non-STP unit and expenditure pertaining to each unit is clearly identifiable and is debited to respective unit. There is a clear demarcation of expenses and income between STP Unit and Non STP unit as disclosed in Form 56F. Advertisement expenses amounting to Rs. 24,377,106 has been shown under the Non-STP unit. The details of the expenditure incurred by the respective units is also enclosed as Annexure-I to this order.
The CIT(Appeals), however, did not agree with the submissions of the assessee and he held as follows:-
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“6.1 Before me, it was submitted that only software development activity is undertaken by the STPI units registered at Bangalore, Pune & Hyderabad and these units are not engaged in any sales and marketing activities, whereas the Non-STPI units are engaged in providing only marketing support services to its group companies overseas. In respect of the marketing support activity, the appellant has entered into a service representative agreement with its group company Nvidia Singapore and the advertisement expenses referred by the AO has been incurred by this unit in the course of rendering marketing support activities. In [2011] 16 taxmann.com 305 (Delhi) Commissioner of Income- tax v. EHPT India (P.) Ltd., the Hon’ble High Court of Delhi laid down the proposition that in case distortion of profits is detected between STPI & Non-STPI units for the purposes of deduction u/s. 10A apportionment of expenditure can be made, but on very sound basis. I have considered the facts and circumstances of the case and I find the explanation of the assessee is self- contradictory as the STPI unit at Pune has been apportioned a part of this expenditure at Rs. 6.76 lakhs, whereas no part of this expenditure has been apportioned to the Bangalore & Hyderabad units. There is definitely some substance in the finding of the AO that such expenditure benefits all the group companies including the STPI units in India on account of increase in popularity of the brand and company via marketing, advertising and promotion of group products by way of trade shows, exhibitions and product presentations. Thus, in my view, the expenditure incurred requires to be apportioned among all units in India as debiting large part of the amount to the Non-STPI unit results in the serious distortion of profits among the STPI units. But I find that the AO has apportioned, on adhoc basis, a part, only to the Bangalore STPI unit. To add a sound basis to the apportionment the AO is directed to apportion the entire expenditure claimed by the Non-STPI unit as well as the STPI unit among all 4 units on turnover basis. It is ordered accordingly.”
The ld. counsel for the assessee reiterated submissions made before the CIT(Appeals). The ld. DR relied on the order of CIT(Appeals).
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We have heard the rival submissions. Perusal of the order u/s. 92CA of the Act shows that the issue with regard to provision of marketing support services by the Bangalore Non-STP unit to NVIDIA Singapore was subject matter of TP analysis made by the assessee.
The TPO considered the analysis done by assessee and held as follows:-
“2.4 In respect of marketing support services, the taxpayer has earned an operating profit margin of 10.18%. In this segment, the taxpayer considered 15 comparables under TNMM. The average operating profit margin of these 15 comparables is arrived at 10.71% on cost by considering the weighted average based on the three years data i.e. FY 2006-07, FY 2007-08, and FY 2008-09 wherever available. The operating profit to total cost ratio is taken as the profit level indicator (PLI) in TNMM analysis. The TPO has made an independent analysis of the international transactions of the Marketing Support Services segment by comparing the Net margins under TNMM. The mean margin of the comparables shows a operating profit on cost at 10% (Please see Annexure — E). The taxpayer’s margin is not less than the TPO’s margin. Hence the transaction is treated as having been made at arm’s length.”
It is thus clear from the order of TPO that non-STP unit of the assessee rendered services exclusively to NVIDIA Singapore and none of the other STP-units had the benefit of those services. This aspect has not been considered by the CIT(A) at all. On the other hand, the CIT(A) as well as the AO proceeded on the assumption that non-STP unit as well as STP
IT(TP)A No.1118 & 1087 /Bang/2014 units in India would benefit from the advertisement done for NVIDIA Singapore. It is seen that NVIDIA Singapore has acknowledged that software products and advertisement is attributable to those products.
Non-STP units of assessee are engaged in software development activities and do not engage in sales or marketing activities or software product. In these circumstances, we find merit in the contention of assessee that advertisement expenses apportioned by the AO and confirmed by the CIT(A) was without any basis. The said addition is accordingly directed to be deleted. Ground No.11 by the assessee is allowed.
Ground No.12 is with regard to not granting full credit in respect of TDS to the extent of Rs.91,37,908. Credit was not given for the reason that the same was not appearing in Form 26AS. The CBDT in Instruction No.5/2013 dated 8.7.2013 had directed all the Assessing Officers to verify the TDS certificate and not go only on the basis of entry in Form 26AS. We are of the view that it would be just and appropriate to direct the AO to verify the claim of assessee for credit of TDS in light of the CBDT Instruction referred to above. The AO will afford opportunity of being heard to the assessee in this regard.
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In the result, the appeal by the assessee is partly allowed.
Pronounced in the open court on this 14th day of August, 2015.