9911796707
TMI Blog2015 (12) TMI 1410X X X X Extracts X X X X X X X X Extracts X X X X ..... bjections to the draft order passed by the Ld. AO under section 143(3) read with section 144C(1) of the Act. The Hon'ble DRP while issuing directions under section 144C(5) of the Act did not consider the facts and merits of Appellant's objections to the proposed adjustments, and merely relied on the reasoning given by the Additional Commissioner of Income-tax, Transfer Pricing Officer - I (2) vide order under section 92CA(3) of the Act dated October 27, 2011 ("TP Order"). On the facts and in the circumstances of the case, the Ld. TPO and the Ld. AO have erred in proposing and the Hon'ble DRP has further erred in confirming the transfer pricing adjustment of Rs. 145,259,630/- without due application of mind and without affording a reasonable opportunity of being heard in the matter to the Appellant on the following grounds: 1.1. The DRP has erred on the facts and circumstances of the case and in law in rejecting/disregarding the comparability analysis (most appropriate method) without giving any cogent basis and without demonstrating the inadequacy or infirmity in the economic analysis conducted by the Assessee. In this regard, the Ld. TPO erred in demonstrating correctness of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ble to the Assessee at the time of maintenance of Transfer Pricing Documentation. Further, the Ld. TPO also erred by not providing the complete information which was called pursuant to issuance of notice under Section 133(6) of the Act and by conducting the assessment based on unfair analysis. 1.9. The Ld. TPO erred by misconstruing the functional and risk profile of the Assessee and by not allowing risk adjustments. The Ld. TPO also erred in the facts and circumstances of the case and in law by selecting comparable having dissimilar functional profile vis-a-vis the Assessee. 1.10. The Ld. TPO has erred in the facts and circumstances of the case and in law by applying the wages-to-sales ratio based upon conjectures and surmises and further, applying an arbitrary filter of 25 percent without following a cogent economic basis and without establishing any statistical veracity of the presumption/ hypothesis framed. Further, the Ld. TPO has also erred by juxtaposed application of two or more methods to conclude a single benchmarking analysis as application of wages-to-sales screen tantamount to adoption of the costplus method. 1.11. By using an incorrect computation of Net Cost Pl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... CEB as per the provisions of Section 92E of the Act relating to international Transactions in access of Rs. 5 crores. The AO as per the provisions of Sec. 92CA(3) referred the matter to the Transfer Pricing Officer (TPO) who proposed an addition of Rs. 16,86,58,151/-. The AO then proposed the draft assessment order u/s 144C(5) of the Act which was forwarded to the assessee who filed objections in Form no. 35A to the Dispute Resolution Penal (DRP) on 27.01.2012 and highlighted the following events which contributed to shift in its functional matrix: (i) Formation of Global Delivery Organization in India in September, 2005. (ii) Relocation of key Personnel to India in July 2006. (iii) Establishment of Chief Technology Officer in December 2006. (iv) Appointment of General Manager Sales in October 2007. 6. It was stated before the DRP that the entire pricing decision based on project costing estimates, resource requirements, time commitments has entirely shifted to Infogain India (the assessee). It was further stated that "as per the submissions in the TP report at page 43, the assessee does not undertake any contract risk and credit risk but the market risk, Product liabilit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d marketing services and Infogain India after the development process is over delivers directly to clients. The flow charts are only representative of functions and not funds. We however see that the assessee has, by virtue of this diagram carried out a contractual obligation no doubt but has not provided these services to the overseas AE as it was earlier, rather than it has delivered the Software on behalf of its overseas AE. Another issue that has not been sufficiently documented at all is that whether the software developed in totality is partially developed onsite and partially in India. If we were to go strictly by the economic analysis carried out in the TP report, Conceptualization and scoping, System Requirement and design, Coding, Documentation and Testing is done majorly in India. We however have no project wise data to prove this. No specific contracts to support this. Also going by the TP Report it is evident that this Inference is drawn on the basis of interviews and discussions with key management people. Again we do not have any details of these interviews undertaken. Going by the theory of the assessee in this year, it is presented that the overseas AE has offloade ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ALP is to identify a comparable transaction. In the case of Profit Split Method, the way that has to be done is also mentioned. We do not find that the assessee has demonstrated this comparability anywhere. The TP Report is subjective and completely inadequate to support its conclusions. We are constrained to reject the same for the reasons given above and agree with the action of the TPO. We are of the opinion that Profit Split Method is not the most appropriate method in this case for this year as the same was not demonstrated by the assessee and the TPO was right in proceeding with the analysis on the basis of TNMM. The objection is rejected." 8. As regards to the objection of the assessee that the TPO collected selective information of companies by exercising power u/s 133(6) of the Act that was not available to the assessee in public domain and relying on the same for comparability purposes, the DRP observed that Sec. 97CA(6) of the Act gives power to obtain information u/s 133(6) of the Act and if this provision is involved, it cannot be considered illegal and abuse of power by TPO. It has further been observed that: "If the use of justifiable powers u/s 133(6) can lead to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... riefly summarized, the arguments put forth by TPO are based on the law as it exists. Persuasive value of OECD guidelines have also been considered and the relevant case laws. The TPO has articulated the relationship between Rule 10B(4) and 10D(4). Rule 10D(4) refers to maintenance of documentation, while Rule 10B(4) is very clear that for the purposes of benchmarking an international transaction, data of the comparables used should be of the year in which the transaction took place. The proviso can be invoked only if it is established that earlier years circumstances do have a bearing in the performance of the year under audit. The Delhi High Court in Schefenacker Motherson Ltd. Vs ITO 2009-TIOL-376-ITAT Delhi has upheld the use of current year data. ITAT Hyderabad in M/s Deloitte Consulting India Pvt. Ltd. ITA No. 1082 and 1084 of 2010 in order dated 22.07.2011 has again reaffirmed the use of single year data. Jaipur ITAT in case of Sakata Insx. Order in 2012 has upheld use of current year data. Thus the weight of judicial decisions is in favour of single year. The DRP does not find merit in this objection of the assessee and is rejected." 12. Accordingly, the DRP directed the TP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... customers. It was submitted that under the offshore service delivery model, the entire project is developed and managed offsite (i.e. in India) by Infogain India while an employee of the AE acts as the onsite coordinators for managing client expectations and acting as an interface/communication channel between the client/customer and Infogain India. It was explained that under the dual shore model, Infogain US outsources only part of the software project to Infogain India, while the other part is executed by it onsite team requirement analysis, design and implementation support. However, the software engineers engaged in providing onsite services to the client/customers work under the direction of the Practice Directors ("PDs") stationed in India. It was further stated that the Infogain India is responsible for program and project execution, customer satisfaction and technical support. The said work is undertaken through coordinated efforts of various teams including Global Resource Management, Global Process Management, Delivery Practices, Strategic Delivery Practice and Local Delivery Management. It was further stated that during the initial years of the formation of the Infogain ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ia. Leads in relation to regions where its AEs operate are forwarded to respective AEs, while those from rest of the world are handled and harnessed by Infogain India; * Infogain India also engages in outreach campaigns which are carried out from India. These campaigns include advertising through newsletters, information collection on potential clients and through e-mails and tele-marketing; and * Infogain India also conducts and participates in seminars, exhibitions and conferences by various IT associations, etc. to increase its visibility and market presence. However, the aforesaid marketing functions performed by Infogain India are ancillary to the marketing functions performed by Infogain US. Additionally, Infogain India also provides support in marketing and advertising initiatives (such as, preparation of forecast, etc.) also to a limited extent. Customer Service and Warranty Functions With Infogain India being responsible for the delivery of software services it is also responsible for provision of any after sales support and technical support required by the customers in respect to these services. General management functions The functions listed below are co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cts Function * Identification of clients *Contract formulation, negotiation, commitment Infogain US/Infogain India (to limited extent) * Lead Generation, Soliciting orders and initiating sales Infogain US/Infogain India (leads generated by a website that is operated and maintained by Infogain India are passed to Infogain US) * Client r elationship management Infogain US * Formulating sales strategy Infogain US * Engagement management Infogain US/Infogain India (to limited extent) Project Management including Defining of Functional Specifications Functions * Overall project management Infogain India, as PDs are now based out of India. (Although Infogain US is responsible for onsite project management, the onsite engineers work under the direction of the PDs in India) * Conceptualization, Requirement analys is and Scoping Infogain India/Infogain US (However, the deliver y team at Infogain US wor k under the direction of the PDs located at Infogain India.) * System requir ement/architecture requirement design Infogain India/AEs Coding, Testing and Documentation Function * Undertakes code generation Infogain India/Infogain US * Testing of the so ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d that the activities performed by Infogain India and Infogain US are inextricably linkage and collaborative functions performed by Infogain India and Infogain US. Therefore, the Profit Split Method (PSM) has been selected as most appropriate method for the determination of Arm's length price in respect of International transactions between Infogain India and Infogain US. It was further stated that none of the direct methods (CUP, RPM and CPLM) can be applied to establish Arm's length value of the assessee's international transactions due to paucity of comparables. It was stated that the Rules provide that, under the TNMM, the net profit margin realized by the enterprise from a comparable uncontrolled transaction is taken into account to arrive at an Arm's length in relation to the international transaction. However, from the functional analysis of the assessee, it is clear that the operations of Infogain India and Infogain US are inextricably linked, involving fungibility of human resources, making it difficult to evaluate either entity separately as both the entities were vested with critical functions and risks for providing software services to the end-customers. Therefore, the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the decision of the ITAT Delhi Bench 'G', New Delhi in the case of ITO, Ward 7(1), New Delhi Vs Net Freight (India) P. Ltd., New Delhi in ITA No. 4670/Del/2009 for the assessment year 2004-05, order dated 31.12.2013. 17. In his rival submissions the ld. DR strongly supported the order of the TPO/AO and further submitted that each assessment year is an independent, therefore, the findings given in the assessment year referred by the ld. Counsel for the assessee i.e. assessment year 2011-12 are not conclusive for the assessment year under consideration i.e. assessment year 2008-09. It was further submitted that in the assessee's case there was no international transaction, therefore, the PSM was not the most appropriate method. It was stated that for applying the PSM, risks is to be quantified in scientific manner on creditable objectives information which had not been done in the present case. It was further stated that in assessee's case no external data was available for uncontrolled transaction to substantiate the relative contribution by each entity, therefore, the split was not evenly placed. It was further stated that few of the functions were not listed and that the comm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fogain India i.e. assessee and Infogain US i.e. parent company. Rule 10B(1)(d) of the Income Tax Rules, 1962, defines the Profit Split Method as follows: "Profit Split Method, which may be applicable mainly in international transactions involving transfer of unique intangibles or in multiple international transactions which are so inter related that they cannot be evaluated separately for the purpose of determining the arm's length price of any one transaction, by which- (i) The combined net profit of the associated enterprises arising from the international transaction in which they are engaged, is determined; (ii) The relative contribution made by each of the associated enterprise to the earnings of such combined net profit, is then evaluated on the basis of the functions performed, assets employed or to be employed and risks assumed by each enterprise and on the basis of reliable external market data which indicates how such contribution would be evaluated by unrelated enterprises performing comparable functions in similar circumstances; (iii) The combined net profit is then split amongst the enterprises in proportion of their relative contributions, as evaluated under s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f Aztech Software and Technology Ltd. Vs ACIT reported at 107 ITD 147 discussed the various methods of determination of ALP as well as the OECD in Transfer Pricing Guidelines for multinational enterprise. The Coordinate Bench in the case of Global One India Pvt. Ltd. Vs ACIT in ITA No. 5571/Del/2011 for the assessment year 2007-08 after taking note of the decision of the Special Bench in the case of Aztech Software and Technology Ltd. Vs ACIT (supra), OECD in transfer pricing guidelines for multinational enterprise and tax administration, the United Nations-Practical manual on Transfer Pricing for developing countries and then after deliberating on the methodology and precedence available thereon arrived at a conclusion in para 17.3 to 18.2 of the order dated 15.04.2014 as under: "17.3. Before us there are two methods for consideration, i.e. PSM and TNMM. The Special Bench of the Tribunal, in the case of Aztech Software and Technologies Services Ltd. vs. ACIT, reported in 107 ITD, at page , states as follows: "Profit Split Method (PSM) Rule 10B (1) (d) prescribes PSM as follows: (i) The combined net profit of the associated enterprises arising from the international transac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed in a controlled transaction (or in controlled transactions that are appropriate to aggregate under the principles of paragraphs 3.9-3.12) by determining the division of profits that independent enterprises would have expected to realize from engaging in the transaction or transactions. The transactional profit split method first identifies the profits to be split for the associated enterprises from the controlled transactions in which the associated enterprises are engaged (the "combined profits"). References to "profits" should be taken as applying equally to losses. See paragraphs 2.124-2.131 for a discussion of how to measure the profits to be split. It then splits those combined profits between the associated enterprises on an economically valid basis that approximates the division of profits that would have been anticipated and reflected in an agreement made at arm's length. See paragraphs 2.132-2.145 for a discussion of how to split the combined profits." 17.5. On residual analysis, it is stated as follows: "C.3.2.2 Residual analysis 2.121 A residual analysis divides the combined profits from the controlled transactions under examination in two stages. In the first s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t benchmarks. In this regard, it should be noted that industry wide risk premiums used to calculate the discount do not distinguish between particular companies let alone segments of business, and estimates of the relative timing of receipts can be problematic. Such an approach, therefore, would require considerable caution and should be supplemented where possible by information derived from other methods." 17.6. The United Nations - Practical Manual on Transfer Pricing for Developing Countries - Chapter VI - Transfer Pricing Methods, states as follows: "6.3.13.1. The Profit Split Method is typically applied when both sides of the controlled transaction contributes significant intangible property. The profit is to be divided such as is expected in a joint venture relationship. 6.3.13.2. The Profit Split Method seeks to eliminate the effect on profits of special conditions made or imposed in a controlled transaction(or in controlled transactions that it is appropriate to aggregate) by determining the division of profits that independent enterprises would have expected to realize from engaging in the transaction or transactions. Figure 5 illustrate this. 6.3.13.3 The Profit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re calculated in order to work back to a transfer price." 17.8. In "Practical Guide to U.S. Transfer Pricing by Robert T Cole, Chapter 10, PSM authored by Arlow N. Higinbotham, pg nos.10-52, it is stated as follows: "Thus, to summarize, RPSM provides a test of arm's length transfer pricing between value- added stages of an integrated enterprise that is consistent with the separate enterprise standard under conditions of resource mobility and competitive capital and product markets. By valuing functional activities and capital in terms of the competitive norms of the market place, RPSM attributes extra- normal profit or loss in proportion to the relative investment cost (or other valuation) of the non-routine intangible assets to which such extraordinary profits pertains. This approach is consistent with the IRS statutory objective u/s 482 of requiring consideration for intangible property transferred in a controlled transaction to be commensurate with the income attributable to the intangible. It is also consistent with the result that would obtain at arm's length under a hypothetical joint venture agreement between the different parties contributing their respective investment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fit margin in the open market; (iv)The net profit margin realized 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. The TNMM requires establishing comparability at a broad functional level. It requires comparison between net margins derived from the operation of the uncontrolled parties and net margin derived by an AE on similar operation. Under this method, the net profit margin realized by an AE from an international transaction is computed in relation to a particular factor such as costs incurred, sales, assets utilized etc. The net profit margin realized by an AE is compared with net profit margin of the uncontrolled transactions to arrive at the ALP. The TNMM is similar to RPM and CPM to the extent that it involves comparison of margin earned in a controlled situation with margins earned from comparable uncontrolled situation. The only difference is that, in the RPM and CPM methods, comparison is of margins of gross profits and wher ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rability, and in particular those of paragraphs 2.69-2.75, must be applied. 2.59. A transactional net margin method is unlikely to be reliable if each party to a transaction makes valuable, unique contributions, see paragraph 2.4. In such a case, a transactional profit split method will generally be the most appropriate method, see paragraph 2.109. However, a one-sided method (traditional transaction method or transactional net margin method) may be applicable in cases where one of the parties makes all the unique contributions involved in the controlled transaction, while the other party does not make any unique contribution. In such a case, the tested party should be the less complex one. See paragraphs 3.18-3.19 for a discussion of the notion of tested party." 18.2. In the working draft of a chapter of the practical Manual in Transfer Pricing for Developing Countries, in Chapter 5 Transfer Net Margin Method is discussed at para2.1. "Transactional Net Margin method 2.1. Definition and choice of tested party The transactional net margin method ('TNMM') is a profit based method that can be used to apply the arm's length principle. The TNMM can be applied on either the r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the present case, the different activities performed by the Infogain India i.e. assessee and Infogain US are inextricably linked and both the entities are contributing significantly to the value chain of provision of software services to the end customers. In the instant case Global Delivery Organization Group (GDO) in India is responsible for delivery of services to the customers globally. The primary objective of the group is to bring synergies amongst geographic groups and project, to make efficient use of the available resources, to broaden areas of service offerings, to improve opportunity fulfillment ration, and to maximize customer satisfaction with each project execution. However, the TPO had not considered the role of the GDO. In the present case, the TPO mentioned that the shifts in the assessee's case started from 2005 onwards, however, the assessee chose to change the method in the financial year under consideration, the explanation of the assessee was that though the transition process started from September 2005 which was very gradual and led to the complete shift in the functional matrix of Infogain Group over a period of 2-3 years, therefore, the pricing model was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sible for the significant delivery functions while Infogain US is responsible for the marketing client identification and customers relation management functions. However, the activities performed by the Infogain India and Infogain US are inextricably linked with both entities contributing significantly to the value chain of provision of software services to the end customers. 24. Therefore, by keeping in view the aforesaid discussion and considering the totality of the facts we are of the view that Profit Split Method was rightly applied by the assessee for determining the arm's length price. Moreover, in the instant case, it is an admitted fact that in the preceding years as well as in the succeeding year i.e. assessment year 2011-12, the same method i.e. Profit Split Method has been accepted by the department. Therefore, we are of the view that the TPO/AO was not justified in applying the TNMM method instead of Profit Split Method adopted by the assessee. For the aforesaid view we are fortified by the following decisions of the Coordinate Bench: * Global One India P. Ltd. Vs ACIT in ITA No. 5571/Del/2011 order dated 15.04.2014 * M/s Orange Business Services India Networks P ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
