TMI Blog2015 (6) TMI 1182X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee. The income of the section 10A unit has to be deducted at source itself and not after computing the gross total income. The total income used in the provisions of section 10A in this context means the global income of the assessee and not the total income as defined in section 2(45). Hence, the income eligible for exemption under section 10A would not enter into computation as the same has to be deducted at source level. TP adjustment - comparable companies adopted by the TPO for determining the ALP and making addition of the adjustment - HELD THAT:- Assessee is providing software design and development services to its parent company thus companies functionally dissimilar with that of assessee need to be deselected from final list. Companies not satisfied the 25% employee cost filter and thus has to be excluded from the list of comparables - IT(TP)A No.1330/Bang/2011 - - - Dated:- 30-6-2015 - SMT. P. MADHAVI DEVI, JUDICIAL MEMBER AND SHRI ABRAHAM P GEORGE, ACCOUNTANT MEMBER For the Appellant : Shri Hardev Singh, CA. For the Respondent : Shri Farhat Hussain Qureshi, CIT(DR) ORDER Per Smt. P. MADHAVI DEVI, JM: This is an appeal filed by t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mental Representative, however, supported the orders of the authorities below and submitted that the decision of the Hon ble Karnataka High Court has not been accepted by the revenue and the revenue is in further appeal before the Hon ble Supreme Court. 5. Having regard to the rival contentions and the material on record, we find that the Hon ble High Court of Karnataka in the case of Yokogawa India Ltd., (cited supra) has held as under: 20. From the aforesaid discussion it is clear that the income of the section 10A unit has to be excluded before arriving at the gross total income of the assessee. The income of the section 10A unit has to be deducted at source itself and not after computing the gross total income. The total income used in the provisions of section 10A in this context means the global income of the assessee and not the total income as defined in section 2(45). Hence, the income eligible for exemption under section 10A would not enter into computation as the same has to be deducted at source level. The judgment of the jurisdictional High Court is binding on us and therefore respectfully following the same, we direct the AO to set off the unabsorbed depreciat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eal before us. 8. The assessee has also raised additional grounds of appeal seeking exclusion of Helios Matheson Information Technology Ltd., Infosys Technologies Ltd., KALS Information Systems Ltd., Sasken Communication Technologies Ltd., Tata Elxsi Ltd., and Wipro Ltd., by applying functional test as well as turnover filter, along with an application for admission of the additional grounds of appeal. As regards the comparable companies which are challenged by the assessee, the learned counsel for the assessee has filed a chart giving details of the comparable companies and also the decisions on which, the assessee relies upon, for their exclusion from the list of comparables. On perusal of the same, we find that the assessee is relying upon the decision of this Tribunal in the case of Broadcom India Research (P) Ltd. vs. DCIT [IT(TP)A No.1180/Bang/2011 dated 28/01/2015] for exclusion of all the 10 companies enumerated in para.7 above. A copy of the said order is also filed before us. The learned Departmental Representative, however, opposed admission of the additional grounds of appeal and also tried to distinguish the facts of the case before us from the decision relied ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Fixed assets written off + loss on sale of fixed assets (Rs.21,227+Rs.31,095) 51322 49881 1441 Pro-operative Exps. Amortized 36084 35071 1013 Net Operating cost 174575320 169292749 5282571 Op. Profit 26325814 370356 Operating Profit to Op. Cost %age 15.55% 7.01% 2.2 International Transactions (as mentioned in the 92CF report) The following are the international transactions entered into by the tax payer with its Associated Enterprises (AEs) as per the 3CEB report and as per the reference received from the AO: a) Software Development Services ₹ 19,56,18,563/- b) Reimbursement of Expenses paid ₹ 38,67,469/- 11. The final list of comparables adopted by the TPO for the software development services in the case of the assessee as well as Broadcom India Resear ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... R Systems International Ltd (Seg.) 15.07% 112.01 22 S I P Technologies Exports Ltd 13.90% 3.80 23 Sasken Communication Technologies Ltd (Seg.) 22.16% 343.57 24 Tata Elxsi Ltd (Seg.) 26.51% 262.58 25 Thirdware Solutions Ltd 25.12% 36.08 26 Wipro Ltd (Seg.) 33.65% 961.09 Arithmetic Mean 25.14% Assessee s OP / TC for FY 2006-07 11.88% 12. Before dealing with the comparability of the companies objected to by the assessee, we need to consider the admission of additional grounds first. In the additional grounds of appeal, the assessee prays for exclusion of Flextronics Software Systems Ltd., iGate Global Solutions Ltd., Infosys Technologies Ltd., Mindtree Ltd, Sasken Technologies Ltd., Tata E ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iding the question of applying the aforesaid filter, if otherwise it is found to be a valid filter. On the question of the Assessee having chosen the aforesaid companies as comparables and therefore cannot be permitted to change its stand now, we are of the view that the decision of the Special Bench, Chandigarh in the case of Quark Systems (supra) clearly supports the plea of the Assessee. The Special Bench in the aforesaid decision in the case of Quark Systems (supra) has, after considering the OECD Commentaries, observed as follows: 35. In para 4.16 of latest report, the OECD provides the following guidelines : In practice, neither countries nor taxpayers should misuse the burden of proof in the manner described above. Because of the difficulties with transfer pricing analysis, it would be appropriate for both taxpayers and tax administrations to take special care and to use restraint in relying on the burden of proof in the course of the examination of a transfer pricing case. More particularly, as a matter of good practice the burden of proof should not be misused by tax administrations or taxpayers as a justification for making groundless or unverifiable assertions abo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssee is entitled to take note of the subsequent judicial pronouncements and seek to exclude a company which is functionally not comparable with that of the Assessee. As held by the Special Bench in the case of Quark Systems (supra), there cannot be any tax liability on the basis of admission and the determination of tax liability has to be in accordance with law. In the light of the aforesaid judicial pronouncement, we are of the view that the additional ground of appeal deserves to be admitted for adjudication. Accordingly, the additional ground is admitted for adjudication. 16. We will proceed to consider the comparability of companies chosen by the TPO as listed in para.-5 of this order. 17. The assessee is seeking exclusion of companies at Sl.No.6, 9, 10, 17, 23 and 24 of the final list of comparables adopted by the TPO, i.e. Flextronics Software Systems, iGate Global Solutions Ltd., Infosys Technologies Ltd., Mindtree Ltd, Sasken Technologies Ltd., and Tata Elxsi Ltd., by applying the turnover filter of more than ₹ 200 crores. In support of his contention, the learned counsel for the assessee placed reliance upon the decision of this Tribunal in the case of Genesis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oftware India Pvt.Ltd., we find that these companies are- 1) Accel Transmatic 2) Avani Cimcon Technologies Ltd. 3) Celestial Labs Ltd. 4) KALS Information Systems Ltd. 19. The Tribunal in the case of Trilogy E-Business Software India Pvt.Ltd., while considering the issue of improper selection of comparables has held as under: (b) Avani Cimcon Technologies Ltd. 39. As far as this company is concerned, the plea of the Assessee has been that this company is functionally different from the assessee. Based on the information available in the company s website, which reveals that this company has developed a software product by name DXchange , it was submitted that this company would have revenue from software product sales apart from rendering of software services and therefore is functionally different from the assessee. It was further submitted that the Mumbai Bench of the Tribunal to the decision in the case of Telcordia Technologies Pvt. Ltd. v. ACIT ITA No.7821/Mum/2011 wherein the Tribunal accepted the assessee s contention that this company has revenue from software product and observed that in the absence of segmental details, Avani Cincom cannot be co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the same deserves to be accepted. The reasons given by the Assessee for excluding this company as comparable are found to be acceptable. The decision of ITAT (Mumbai) in the case of Telcordia Technologies Pvt. Ltd. v. ACIT (supra) also supports the plea of the assessee. We therefore accept the plea of the Assessee to reject this company as a comparable. (c) Celestial Labs Ltd. 42. As far as this company is concerned, the stand of the assessee is that it is absolutely a research development company. In this regard, the following submissions were made:- i. In the Director s Report (page 20 of PB-Il), it is stated that the company has applied for Income Tax concession for in-house R D centre expenditure at Hyderabad under section 35(2AB) of the Income Tax Act. ii. As per the Notes to Accounts - Schedule 15, under Deferred Revenue Expenditure (page 31 of PB-II), it is mentioned that, Expenditure incurred on research and development of new products has been treated as deferred revenue expenditure and the same has been written off in 10 years equally yearly installments from the year in which it is incurred. An amount of ₹ 11,692,020/- has been debite ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed by the learned counsel for the Assessee, the discovery is in relation to a software discovery of new drugs. Moreover the company also is owner of the IPR. There is however a reference to development of a molecule to treat cancer using bio-informatics tools for which patenting process was also being pursued. As explained earlier it is a diversified company and therefore cannot be considered as comparable functionally with that of the Assessee. There has been no attempt made to identify and eliminate and make adjustment of the profit margins so that the difference in functional comparability can be eliminated. By not resorting to such a process of making adjustment, the TPO has rendered this company as not qualifying for comparability. We therefore accept the plea of the Assessee in this regard. 44. It was submitted that the learned DR in the above case vehemently argued that this company is into research in pharmaceutical products. The ITAT concluded that this company is owner of IPR, it has software for discovery of new drugs and has developed molecule to treat cancer. In the ultimate analysis, the ITAT did not consider this company as a comparable in clinical trial segmen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . The TPO without any basis has however concluded that the business mentioned in the DRHP are the services or businesses that would be started by utilizing the funds garnered though the Initial Public Offer (IPO) and thus in no way connected with business operations of the company during FY 06-07. We are of the view that in the light of the submissions made by the Assessee and the fact that this company was basically/admittedly in clinical research and manufacture of bio products and other products, there is no clear basis on which the TPO concluded that this company was mainly in the business of providing software development services. We therefore accept the plea of the Assessee that this company ought not to have been considered as comparable. (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 training. It was also submitted that as per the annual report, the salary cost debited under the software development expenditure was Q 45,93,351. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ervice 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 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... should be excluded are brought out. He submitted that the facts of the case before us are similar and, therefore, the said decision is applicable to the assessee's case also. 23. The learned DR however objected to the exclusion of these two companies from the list of comparables. On a careful perusal of the material on record, we find that the Tribunal in the case of Mercedes Benz Research Development India Pvt. Ltd. (cited supra) has taken a note of dissimilarities between the assessee therein and Lucid Software Ltd. As observed therein Lucid Software Ltd. company is also involved in the development of software as compared to the assessee, which is only into software services. Similarly, as regards Ishir Infotech Ltd., the Tribunal has considered the decision of the Tribunal in the case of 24/7 Co. Pvt. Ltd to hold that Ishir Infotech is also out-sourcing its work and, therefore, has not satisfied the 25% employee cost filter and thus has to be excluded from the list of comparables. As the facts of the case before us are similar, respectfully following the decision of the co-ordinate bench, we hold that these two companies are also to be excluded. 22. Respectfully fol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le company was mainly into customization of software products developed (which was akin to product software) internally and that the portion of the revenue from development of software sold and used for customization was less than 25% of the overall revenues. The TPO therefore held that less than 25% of the revenues of the comparable are from software products and therefore the comparable satisfied TPO s filter of more than 75% of revenues from software development services. The basis on which the TPO arrived at the PLI of 60.23% is given at page-115 and 116 of the order of the TPO. It is clear from the perusal of the same that the TPO has proceeded to determine the PLI at the entity level and not on the basis of segmental data. 25. In the order of the TPO, operating margin was computed for this company at 60.23%. It is the complaint of the assessee that the operating margins have been computed at entity level combining software services and software product segments. It was submitted that the product segment of Megasoft is substantially different from its software service segment. The product segment has employee cost of 27.65% whereas the software service segment has employee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f software development services provider. The following were the relevant observations in the case of M/S.Curam Software International Pvt. Ltd.(supra): 12. (4) Infosys Technologies Ltd. 12.1 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. 12.2 Before us, the assessee contended that this company is not functionally comparable to the assessee and in this context has cited various portions of the Annual Report of this company to this effect which is as under :- (i) The company has an Intellectual Property (IP) Cell to guide its employees to leverage the power of IP for their growth. In 2008, this company generated over 102 invention disclosures and filed an aggregate 10 patents in India and the USA. Till date this company has filed an aggregate of 119 patent applications (pending) in India and USA out of which 2 have been granted in the US. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fore us, the assessee contended that this company is functionally not comparable to the assessee for several reasons, which are as under : (i) This company owns significant intangibles in the nature of customer related intangibles and technology related intangibles and quoted extracts from the Annual Report of this company in the submissions made. (ii) The TPO had adopted the consolidated financial statements for comparability purposes and for computing the margins, which contradicts the TPO s own filter of rejecting companies with consolidated financial statements. 13.3. Per contra, the learned Departmental Representative supported the action of the TPO in including this company in the set of comparables. 13.4.1 We have heard both parties and carefully perused and considered the material on record. We find merit in the contentions of the assessee for exclusion of this company from the set of comparables. It is seen that this company is engaged both in software development and product development services. There is no information on the segmental bifurcation of revenue from sale of product and software services. The TPO appears to have adopted this company as a comparab ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h parties and carefully perused and considered the material on record. From the details on record, we find that this company is predominantly engaged in product designing services and not purely software development services. The details in the Annual Report show that the segment software development services relates to design services and are not similar to software development services performed by the assessee. 14.4.2 The Hon'ble Mumbai Tribunal in the case of Telecordia Technologies India Pvt. Ltd. V ACIT (ITA No.7821/Mum/2011) has held that Tata Elxsi Ltd. is not a software development service provider and therefore it is not functionally comparable. In this context the relevant portion of this order is extracted and reproduced below :- . Tata Elxsi is engaged in development of niche product and development services which is entirely different from the assessee company. We agree with the contention of the learned Authorised Representative that the nature of product developed and services provided by this company are different from the assessee as have been narrated in para 6.6 above. Even the segmental details for revenue sales have not been provided by the TPO ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ategy Services, I T design services and in Technology Consulting Services including product development consulting services. These services, the learned Authorised Representative contends, are high end ITES normally categorised as knowledge process Outsourcing ( KPO ) services. It is further submitted that this company has not provided segmental data in its Annual Report. The learned Authorised Representative submits that since the Annual Report of the company does not contain detailed descriptive information on the business of the company, the assessee places reliance on the details available on the company s website which should be considered while evaluating the company s functional profile. It is also submitted by the learned Authorised Representative that KPO services are not comparable to software development services and therefore companies rendering KPO services ought not to be considered as comparable to software development companies and relied on the decision of the co-ordinate bench in the case of Capital IQ Information Systems (India) (P) Ltd. in ITA No.1961(Hyd)/2011 dt.23.11.2012 and prayed that in view of the above reasons, this company i.e. e-Zest Solutions Ltd., o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t services and product development services. (ii) In the case of E-Gain communications Pvt. Ltd. (2008-TII-04-ITAT-PUNE-TP), the Tribunal has directed that this company be omitted as a comparable for software service providers, as its income includes income from sale of licences which has increased the margins of the company. The learned A.R. prayed that in the light of the above facts and in view of the aforecited decision of the Tribunal (supra), this company ought to be omitted from the list of comparables. 15.2 Per contra, the learned Departmental Representative supported the action of the TPO in including this company in the list of comparables. 15.3 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the material on record that the company is engaged in product development and earns revenue from sale of licenses and subscription. However, the segmental profit and loss accounts for software development services and product development are not given separately. Further, as pointed out by the learned Authorised Representative, the Pune Bench of the Tribunal in the case of E-Gain Communications Pvt. Ltd. (su ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nformation, a company be taken into account for comparability analysis. This principle is squarely applicable to the company presently under consideration, which is into product development and product design services and for which the segmental data is not available. The learned Authorised Representative prays that in view of the above, this company i.e. Persistent Systems Ltd. be omitted from the list of comparables. 17.2 Per contra, the learned Departmental Representative support the action of the TPO in including this company in the list of comparables. 17.3 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the details on record that this company i.e. Persistent Systems Ltd., is engaged in product development and product design services while the assessee is a software development services provider. We find that, as submitted by the assessee, the segmental details are not given separately. Therefore, following the principle enunciated in the decision of the Mumbai Tribunal in the case of Telecordia Technologies India Pvt. Ltd. (supra) that in the absence of segmental details / information a company cannot b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... one of its products, viz. Investor Protection Index Fund (IPIF). These measures will help the company enhance its products value and also mitigate risks. (iv) The TPO has applied the filter of excluding companies having peculiar economic circumstances. Quintegra fails the TPO s own filter since there have been acquisitions in this case, as is evidenced from the company s Annual Report for F.Y. 2007-08, the period under consideration. The learned Authorised Representative prays that in view of the submissions made above, it is clear that inter alia, this company i.e. Quintegra Solutions Ltd. being functionally different and possessing its own intangibles / IPRs, it cannot be considered as a comparable to the assessee in the case on hand and therefore ought to be excluded from the list of comparables for the period under consideration. 18.2 Per contra, the learned Departmental Representative supported the action of the TPO in including this company in the set of comparables to the assessee for the period under consideration. 18.3.1 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the details brought on recor ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mation Technology Ltd., and KALS Information Solutions Ltd. (Seg). The primary plea raised by the assessee to assail the inclusion of the aforesaid two companies from the list of comparables is to be effect that they are functionally incomparable and therefore, are liable to be excluded. In sum and substance, the plea set up by the assessee is that both the aforesaid concerns are engaged in development and sale of software products which is functionally different from the services undertaken by the assessee in its ITservices segment. 17. As per the discussion in para 6.3.2. of the order of the TPO, the reason advanced for including KALS Information Systems Ltd., is to the effect that the said concern s application software segment is engaged in the development of software which can be considered as comparable to the assessee company. The said concern is engaged in two segments namely application software segment and Training. As per the TPO, the application software segment is functionally comparable to the assessee as the said concern is engaged in software services. The stand of the assessee is that a perusal of the Annual Report of the said concern for F.Y. 2006-07 reveals th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the Annual Report, referred to in the written submissions addressed to the lower authorities, the assessee has correctly asserted out that the said concern was inter alia engaged in sale of software products, which was quite distinct from the activity undertaken by the assessee in the IT Services segment. At the time of hearing, neither is there any argument put forth by the Revenue and nor is there any discussion emerging from the orders of the lower authorities as to in what manner the functional profile of the said concern has undergone a change from that in the immediately preceding year. Therefore, having regard to the factual aspects brought out by the assessee, it is correctly asserted that the application software segment of the said concern is not comparable to the assessee s segment of IT services. 20. With regard to the inclusion of Helios Matheson Information Technology Ltd., the assessee has raised similar arguments as in the case of KALS Information Solutions Ltd. (Seg). We have perused the relevant para of the order of the TPO i.e., 6.3.21, in terms of which the said concern has been included as a comparable concern. The assessee pointed out that as in the case ..... X X X X Extracts X X X X X X X X Extracts X X X X
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