M/S UNISYS INDIA PRIVATE LTD,BANGALORE vs. DCIT, BANGALORE

This appeal by the assessee is against the order dated 21.10.2010 of the Dy. CIT, Circle 12(5), Bangalore passed u/s. 143(3) r.w.s. 144C(13) of the Income-tax Act, 1961 [“the Act”].

The grounds of appeal filed by the assessee are classified into two parts viz., Transfer Pricing (TP) related grounds and other than TP related grounds.

We shall first take up for consideration grounds of appeal relating to TP. The Assessee or M/S.Unisys India Private Limited (‘Unisys India’) was incorporated in India on November 28, 1994. All shares of the Assessee are held by Unisys Mauritius Limited, which is ultimately held by Unisys Corpn., USA. During FY 2005-06, Unisys India was essentially engaged in providing IT enabled services(ITES) and software development (IT) to its overseas group companies. The Assessee is organized into two operating divisions one in Bangalore and one in Mumbai. The Bangalore division primarily provides Software and BPO Services while Mumbai division is primarily engaged in purchase and resale of Unisys Products and Provision of Support Services.

The international transactions with associated enterprises (AEs) reported in Form 3CEB relevant to this appeal were as follows:-

The OP/TC margin earned by the assessee in the Software Development segment was 10.63%. The margin of comparable companies in the transfer pricing documentation prepared by the assessee was 7.92% with working capital adjustment.

The TPO, however, did not agree with the Transfer Pricing Analysis carried out by the Assessee. He suggested 36 comparable companies and after hearing the objections of the assessee, finally chose 33 comparable companies as follows:-

The assessee prayed for working capital adjustment to its margin as well as margins of the comparables chosen by the TPO. The TPO did not allow the aforesaid claim of the assessee for the following reason:-

The TPO finally determined the ALP of the international transaction on rendering software development services to the AE as follows:-

On appeal by the assessee, the CIT(Appeals) confirmed the adjustment of Rs.1,81,05,618 made by the AO by way of adjustment, consequent to determination of ALP.

We have heard the submissions of the ld. counsel for the assessee and the ld. DR on the TP adjustment made in respect of software development services segment. The ld. counsel for the assessee prayed

The aforesaid decision of the Delhi Bench of the Tribunal has since been confirmed by the Hon’ble Delhi High Court in the case of Agnity India Technologies Pvt. Ltd., judgment dated 10.7.2013. We are of the view that the decision of the Delhi Bench of the Tribunal as confirmed by the Hon’ble Delhi High Court referred to above will be squarely applicable to the case of the assessee. Accordingly, we direct Infosys Technologies Ltd. be excluded from the final list of comparable companies chosen by the TPO.

The next company from the list of comparables chosen by the TPO that is sought by the assessee to be excluded is Satyam Computer Services Ltd. The DRP in its directions at page 9 has accepted the claim of assessee that Satyam Computer Services Ltd. cannot be regarded as a comparable. Despite the aforesaid directions of the DRP, the TPO while passing the final assessment order after the directions of the DRP, has failed to exclude the aforesaid company from the list of comparables. We have perused the order of the DRP and we find that in para 5.2(iv), the DRP has given a clear direction that the objection by the assessee to include Satyam Computer Services Ltd. is found acceptable. In view of the above, we direct the AO/TPO to exclude Satyam Computer Services Ltd. from the final list of comparables.

The next submission of the ld. counsel for the assessee is with regard to the margins of Visualsoft Technologies Ltd., which is at Sl.No.15

On the above objections, the DRP has observed that the margin of this company provided before the DRP were segmental margins and the TPO has taken entity level margin for comparison because of non- availability of segmental information in the public domain. The DRP was IT(TP)A No. 8/Bang/2011 Page 9 of 18 therefore of the view that the action of the TPO does not call for any interference.

Before us, the ld. counsel for the assessee drew our attention to page 606 of the paperbook in which the assessee has placed the Annual report of Visualsoft Technologies Pvt. Ltd. for the year ending March, 2006. The ld. counsel for the assessee submitted that the information provided by the assessee before the DRP was based on the annual report which is available in the public domain and the observations of the DRP in this regard are erroneous and contrary to material on record. The ld. counsel therefore prayed that the margins as claimed by the assessee in the objections before the DRP should be considered.

The ld. DR, on the other hand, submitted that the issue requires verification by the AO/TPO and therefore objections of the assessee in this regard should be directed to be verified by the AO/TPO.

We have given a very careful consideration to the rival submissions and are of the view that the basis on which the DRP came to the conclusion that the segmental details are not available in the public domain is erroneous, as the data taken by the assessee are based on the annual report of this company, a copy of which is placed at page 456 of the assessee’s paperbook. We are therefore of the view that it would be just and appropriate to set aside the directions of the DRP in this regard and direct the TPO/AO to verify the claim of the assessee and if found correct,

The next objection of the assessee is that the TPO has not given working capital adjustments. In this regard, the ld. counsel for the assessee drew our attention to the objections filed by the assessee to the DRP in which the Assessee has highlighted as to how working capital adjustment is essentially an adjustment for the opportunity cost of making investments in working capital (ie entities, accounts receivable/debtors and accounts payable/creditors) which require capital and operating assets. At arms length. an uncontrolled entity will expect to earn a market rate of return on that capital, independent of its operations. However, the amount of capital required varies greatly, because the level of inventories, debtors and creditors measured as a percentage of the total cost varies. There is an effect on profits from investing in different levels of working capital due to differences reflected in cash collection cycle. Such differences in collection cycle imply differences in credits granted to customers and such a credit function is akin to an additional service for which markets are willing to pay. High levels of working capital create costs ether in the form of incurred interest or in the form of opportunity costs. Therefore no profit maximizing/entrepreneurial firm would hold working capital without a return. A working capital adjustment analysis seeks to adjust the profitability of each comparable company based on the working capital position of the assessee to reflect the differences in working capital investment. Thus, the IT(TP)A No. 8/Bang/2011 Page 11 of 18 adjustment tries to isolate the interest effects (taking into account the time value of money) that result from the opportunity costs of holding working capital. The interest effects in the comparable company’s data are not completely eliminated hut rather adjusted to the assessee’s level of interest effects. Prime lending rate (PLR) is used as the appropriate cost of capital because it can be determined with reasonable accuracy and is the best available estimate of the cost of capital. For this purpose the PLR is secured from CMIE (ie Center for Monitoring Indian Economy) and Reserve Bank of India Publications.

The assessee also gave a working capital margin calculation. The same is at page 165 to 168 of the assessee’s paperbook. The DRP, however, did not agree with the claim of the assessee for the very same reason assigned by the TPO. The ld. counsel for the assessee drew our attention to application filed by the assessee seeking to file the annual report of the assessee and the comparable companies chosen for the purpose of calculating working capital adjustment. According to ld. counsel, the information based on which working capital adjustments were calculated by the assessee was available in the public domain i.e., in the annual reports of the respective companies and therefore the assessee did not file these annual reports before the TPO/DRP. It was further submitted that since the aforesaid documents are necessary for the purpose of proper adjudication of the dispute before the Tribunal, the same should be admitted as additional evidence.

We have considered the prayer of the ld. counsel for the assessee and are of the view that the same deserves to be accepted. Accordingly, the annual reports of the comparable companies chosen for the purpose of calculating working capital adjustment are accepted as additional evidence.

The TPO is accordingly directed to compute the ALP after giving effect to the directions referred to above.

The other issues raised in the grounds of appeal regarding TP adjustment in the software development sector were not argued and accordingly the same are not decided.

The ld. counsel for the assessee then drew our attention to the determination of the ALP in the ITES sector. As far as ITES segment is concerned, the assessee in its TP study submitted that the OP/TC margin earned by the assessee in the ITES segment was 12.62%. The single year margin of comparable companies in the transfer pricing documentation prepared by the assessee was 7.90% after working capital adjustment and thus the Assessee claimed that the price charged by it was at Arm’s Length.

The TPO rejected the claim of the assessee and he chose a set of 6 comparable companies as follows:-

The TPO after denying the benefit of working capital adjustment determined the ALP in the ITES segment as follows:-

Adjustment on account of determination of ALP of Rs.1,21,45,823 was added to the total income by the AO in the final assessment order. On appeal by the assessee, the DRP confirmed the order of TPO. Before us, the limited prayer of the ld. counsel for the assessee is to exclude Allsec

Before us, the ld. counsel for the assessee brought to our notice the decision of ITAT Hyderabad Bench in the case of CES Pvt. Ltd. v. ACIT, for AY 2006-07. In the aforesaid decision, the objection by a company engaged in the business of providing ITES to regard it as a comparable was as follows:-

The ITAT Hyderabad Bench accepted the claim of the assessee in this regard in para 17 of its order, which reads as follows:-

In light of the decision of the ITAT Hyderabad Bench in the case of a company similar to that of the assessee in the present case, we are of the view that Allsec Technologies Ltd. should be excluded from the list of comparable companies.

The next claim of the assessee with regard to the action of the Revenue in not allowing working capital adjustment. While deciding similar ground in software development services segment, we have already held that working capital adjustment needs to be allowed, subject to verification

We shall now go to non-TP related issues raised by the assessee.

The first ground in this regard is with regard to action of the AO and the DRP in not allowing club expenses of Rs.89,746 as a deduction u/s. 37(1) of the Act. On the above issue, the Revenue authorities disallowed the claim of the assessee on the ground that the same were personal in nature and cannot be regarded as expended wholly and exclusively for the purpose of business. Before us, the ld. counsel for the assessee brought to our notice that the Hon’ble Supreme Court in the case of CIT v. United Glass Mfg. Co. Ltd., in Civil Appeal No.1647 & 1648/2012, judgment dated 12.9.2012, had taken the view that club membership fees of employees incurred by the assessee is business expenses u/s. 37 of the Act. In view of the aforesaid decision of the Hon’ble Supreme Court, we are of the view that the claim of assessee in this regard has to be allowed.

The other ground of appeal with regard to corporation tax matters is disallowance of employee provident fund liability amounting to Rs.34,965 u/s. 36(1)(va) of the Act.

It is not disputed that the aforesaid employees’ contribution to provident fund was paid by the assessee on or before the due date for filing return of income for AY 2006-07. In such circumstances, no disallowance can be made u/s. 36(1)(va). In this regard, the ld. counsel for the assessee has placed reliance on the decision of Hon’ble High Court of Karnataka in the case of CIT v. Sabari Enterprises & Ors., 298 ITR 141 (Karn) wherein it was held that employees’ contributions to provident fund are allowable deductions, even though made beyond the due date of furnishing return of income as per section 139(1). In view of the aforesaid decision of Hon’ble jurisdictional High Court, we are of the view that the disallowance made by the revenue authorities has to be deleted. Accordingly, the same is directed to be deleted.