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Mercedes-Benz Research and Development India Pvt. Ltd. Versus The Assistant Commissioner of Income Tax, Circle 12 (1) , Bangalore.

2016 (3) TMI 1114 - ITAT BANGALORE

Transfer pricing adjustment - most appropriate method for TP analysis - Held that:- It was fairly admitted that rate per hour is not available for strict comparison. It was also submitted that the assessee has not taken NASCOM rates as the basis in comparing the rate per hour. This indicates that assessee’s comparability under the CUP method is based on various assumptions of (a) estimating the offshore profits, (b) estimating number of employees, (c) estimating the working hours per employee pe .....

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5.8 Under section 92C of the Act, ALP has to be examined adopting the most appropriate method. - In view of absence of reliable data either to adopt Cost Plus Method or to analyse the data on the basis of CUP method, either internal CUP or external CUP, we are of the opinion that under given facts and circumstances of the case, TNMM is the only option available to the TPO to analyse the assessee’s transactions in order to arrive at the ALP. Therefore, we reject the assessee’s contentions o .....

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opportunity and its working should be considered after due examination. The grounds relating to this issue are allowed for statistical purposes. - Exclusion of foreign exchange fluctuation from the working of operating margins of the company - Held that:- We direct the AO/TPO to consider the foreign exchange gain or loss as part of the operating cost or revenue, as the case may be, for both the assessee as well for the comparable companies - Risk adjustment - Held that:- As found that t .....

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CIT-II(DR) ORDER Per B. Ramakotaiah, Accountant Member This is an appeal by the assessee against the order of the Assessing Officer under section 143(3) r.w.s. 144C(13) of the Act, consequent to the directions of the DRP under the Transfer Pricing (TP) provisions. 2. The main issues to be considered in this appeal are :- (a) The most appropriate method for TP analysis; and (b) if TNMM is the most appropriate method, then the comparability of certain companies, working of operating margins and r .....

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providing software research and development services to Daimler AG, its AE. The parent company (AE) is involved in research in automobile and aircraft fields along with manufacturing and assessee supplements the research work as a captive service provider. The uniqueness of assessee service function, it was contended that, was not comparable to other software development services being provided by other companies. As per TPO, the business profile (para 2.2 of TP order), is that it contributes t .....

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receipts are at arm s length. Assessing Officer reported the same to the TPO for ALP analysis and TPO vide his order u/s. 92CA of the Act, rejected the methods relied on by the assessee, mostly on the basis of his analysis in AY 2007-08, adopted TNMM as Most Appropriate Method (MAM), selected comparables by using various filters, adopted single year data and arrived at average profit margin of comparable companies at 23.65% and proposed an adjustment of ₹ 8,98,28,017. AO has issued a draft .....

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ecords the TP study and MAM as under:- 5. TP Study Furnished by the Taxpayer: The taxpayer furnished the TP study along with the documents maintained in this regard vide its letter dated 16.10.2009. The salient features of the TP report and the issues arising there from are discussed below: 5.1 The taxpayer company has been selected as the tested party. 5.2 The taxpayer company has been characterized as contract software development service provider in the TP study done by the taxpayer. 5.3 Cost .....

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report does not mention any search criterion or the data base used to search the comparables. The taxpayer simply picked up 5 big software companies for comparing man hour rate. 6. Most Appropriate Method The taxpayer claims to have applied Cost Plus Method as the most appropriate method in its documentation u/s. 92D. Detail reasons for which CPM is not applicable in the facts and circumstances of the case of the taxpayer have been discussed in the show-cause letter and the order of the TPO for .....

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eferred an appeal on the issue in AY 2006-07 and without adjudicating the issue, the ITAT has set aside the matter relating to TNMM comparables. Assessee preferred a Misc. Application and ITAT while acknowledging the same, however, restored the MAM also to the TPO. It was the contention that assessee cannot be compared to other companies as they are only supplementing or testing in the software development services and so the method being adopted since inception should be accepted. Ld. counsel r .....

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TNMM is most appropriate, as it does not effect functional differences, if any, as stated in OECD guidelines and relied on by DRP. Ld. CIT(DR) also referred to Rule 10C to submit that TNMM is the most appropriate method. 5.4 We have considered the rival contentions and perused the details placed on record. As stated by the ld. counsel, the issue of selecting the most appropriate method in the earlier two years has been set aside to the TPO. For the AY 2006-07, the same was done by way of Misc. .....

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xamined the assessee s original as well as revised 3ECB report. In the analysis and selection of method for determination of ALP vis-à-vis export of services, the assessee has adopted CUP and also Cost Plus Method as most appropriate method. 5.5 Against the Cost Plus Method, the assessee states that OECD guidelines called for adoption of this method in cases where semi-finished goods are sold between associates or where there are long term buy and supply arrangements or in the case or pro .....

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e any significant business risks. Thereafter, the assessee has taken 15% of the profits of companies who have R&D activities as per decision of ITAT in Rolls Royce case and analysed the Cost Plus Method. 5.6 However, as the ld. TPO has stated in the report, there is no data furnished by the assessee with reference to Cost Plus method. Even when we enquired, the ld. counsel fairly admitted that assessee would prefer CUP method over Cost Plus Method. In view of this, in the absence of any data .....

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hod. More over, even though the assessee is stated to have been operating on Cost Plus 5% Method, OP/Cost as computed by the assessee itself is at 3.2% and if foreign exchange gain was added to the operating margin, then only it comes to 5%. Generally in a Cost Plus situation, the entire cost spent by the assessee with a mark-up of 5% would be billed to the AE on a periodical basis. The conversion generally done at the prevailing rate of USD or foreign currency involved. Therefore, the basic con .....

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ue. 5.7 The next contention of the assessee is with reference to CUP method. The assessee states in the Annexure III to 3CEB report that there are no internal comparables within the group as entire services of assessee are bought back by AE. Offshore software development work by other companies may represent external comparables. However, data in respect of the same which is available in terms of Euros per hour is not comparable without making suitable adjustments to the differences in the natur .....

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h arm s length transactions takes place. The assessee has given Annexure-IV working out the USD rates and INR rates worked out at rate per hour to submit that this was external CUP and assessee s margin at ₹ 1333.63 is higher than other comparable companies. After examining Annexure-VIII of the report, we have asked the ld. counsel about the working adopted by the assessee in arriving at the rate per hour either in USD terms or INR terms. It was submitted that by taking general accounts an .....

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has not taken NASCOM rates as the basis in comparing the rate per hour. This indicates that assessee s comparability under the CUP method is based on various assumptions of (a) estimating the offshore profits, (b) estimating number of employees, (c) estimating the working hours per employee per day per month, and then dividing the profit by so many assumptions/ numbers. This analysis of the assessee cannot be relied on as an external CUP. As can be seen from the above, there is no internal CUP .....

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for analyzing the most appropriate method to be selected. Under the Indian TP regulations, there is no priority or preference to any of the methods. There are also no regulations which prescribe any circumstances under which method is to be adopted, except for PSM. The above 5 methods are categorised generally as 1.Traditional methods i.e., CUP, RPM and CPM, and 2. Transactional profit methods of PSM and TNMM. In the absence of reliable data to undertake the exercise under the traditional method .....

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tentions on CUP/CPM as most appropriate method and approve the approach taken by the TPO for analyzing transactions under TNMM. 6. Having decided the most appropriate method, the other contentions of the assessee on comparability and working of operating margins and risk adjustment require adjudication. 6.1 The first objection of the assessee is on selection of certain comparable companies and rejection of certain comparables selected by the assessee. TPO in his analysis has finally selected the .....

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% 12 Flextronics (Aricent) 7.86% 13 iGate Global Solutions Ltd. 13.99% 14 LGS Global Ltd. 27.52% 15 Mindtree Ltd. 16.41% 16 Persistent Systems Ltd. 20.31% 17 Quintegra Solutions Ltd. 21.74% 18 R S Software (India) Ltd. 7.41% 19 R Systems International (Seg) 15.30% 20 Sasken Communication Technologies Ltd. (Seg) 7.58% Arithmetic Mean 23.65% 6.2 Assessee is objecting to the companies listed at Sl.Nos. 1 to 11. These companies are elaborately considered by the Coordinate Bench in the case of NXP Se .....

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is company to the file of the Assessing Officer / TPO afresh; holding as under at para 9.5.1 to 9.5.2 of its order :- 9.5.1 We have heard both parties and perused and carefully considered the material on record. It is seen from the record that the TPO has included this company in the final set of comparables only on the basis of information obtained under section 133(6) of the Act. In these circumstances, it was the duty of the TPO to have necessarily furnished the information so gathered to the .....

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arables in the case of Triology E-Business Software India Pvt. Ltd. (supra). No doubt this company has been deleted as a comparable in the case of Triology E-Business Software India Pvt. Ltd. (supra) and this can be a good guidance to decide on the comparability in the case on hand also. This alone, however, will not suffice for the following reasons :- (i) The assessee needs to demonstrate that the FAR analysis and other relevant facts of the Triology case are equally applicable to the facts of .....

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are also applicable to the year under consideration i.e. Assessment Year 2008-09. 9.5.3 It is a well settled principle that the assessee is required to perform FAR analysis for each year and it is quite possible that the FAR analysis can be different for each of the years. That being so, the principle applicable to one particular year cannot be extrapolated automatically and made applicable to subsequent years. To do that, it is necessary to first establish that the facts and attendant factors h .....

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of the case on hand and that the profile of the assessee for the year under consideration is similar to that of the earlier Assessment Year 2007-08. In view of facts as discussed above, we deem it fit to remand the matter back to the file of the Assessing Officer / TPO to examine the comparability of this company afresh by considering the above observations. The TPO is directed to make available to the assessee information obtained under section 133(6) of the Act and to afford the assessee adeq .....

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reproduced supra). The Assessing Officer / TPO is directed to make available to the assessee information obtained under Section 133(6) of the Act and to afford the assessee adequate opportunity of being heard and make submissions in the matter, which shall be duly considered before passing orders thereon. It is ordered accordingly. 10. Celestial Biolabs Ltd. 10.4.1 We have heard both parties and perused and carefully considered the material on record; including the judicial decisions cited and p .....

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assessment year, and there cannot be an assumption that it would continue to be applicable for this year as well, the same parity of reasoning is applicable to the TPO as well who seems to have selected this company as a comparable based on the reasoning given in the TPO s order for the earlier year. It is evidently clear from this, that the TPO has not carried out any independent FAR analysis for this company for this year viz. Assessment Year 2008-09. To that extent, in our considered view, th .....

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the earlier years i.e. Assessment Year 2007-08 is applicable for this year also. We agree with the submissions of the assessee that this company is functionally different from the assessee. It has also been so held by co-ordinate benches of this Tribunal in the assessee's own case for Assessment Year 2007-08 (supra) as well as in the case of Triology E-Business Software India Pvt. Ltd. (supra). In view of the fact that the functional profile of and other parameters of this company have not .....

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this Tribunal in the case of 3DPLM Software Solutions Ltd. (supra), we direct the Assessing Officer / TPO to omit this company from the final set of comparables as it is functionally different from the assessee in the case on hand, who is purely a provider of software development services. 11. KALS Information System Ltd. 11.4.1 We have heard both parties and perused and carefully considered the material on record; including the judicial decisions cited and placed reliance upon. We find that a c .....

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y to the assessee based on information obtained u/s.133(6) of the Act. This information which was not in the public domain ought not to have been used by the TPO, more so when the same is contrary to the Annual Report of the company, as pointed out by the learned Authorised Representative. We also find that the co-ordinate benches of this Tribunal in the assessee's own case for Assessment Year 2007-08 (supra) and in the case of Triology E-Business Software India Pvt. Ltd. (supra) have held t .....

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essment Year 2007-08 (cited supra) are applicable for this year i.e. Assessment Year 2008-09 also, this company ought to be excluded from the list of comparables. In this view of the matter, we hold that this company i.e. KALS Information Systems Ltd., is to be omitted from the list of comparable companies. It is ordered accordingly. 11.4.2 Following the above decision of the co-ordinate bench of this Tribunal in the case of 3DPLM Software Solutions Ltd. (supra), we direct the Assessing Officer .....

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8-09 has held that this company has to be excluded from the list of comparables for software development service providers as it is engaged in software product development and the relevant observations of the order at para 16.3 thereof is extracted hereunder :- 16.3 We have heard the rival submissions and perused and carefully considered the material on record. It is seen from the details on record that the company i.e. Lucid Software Ltd., is engaged in the development of software products wher .....

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engaged in the software product development and not software development services, it is functionally different and dis-similar and is therefore to be omitted from the list of comparables for software development service providers. The assessee has also brought on record details to demonstrate that the factual and other circumstances pertaining to this company have not changed materially from the earlier year i.e. Assessment Year 2007-08 to the period under consideration i.e. Assessment Year 200 .....

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st of comparables as it is functionally different; (being engaged in software product development) from the assessee in the case on hand who is rendering only software development services. It is ordered accordingly. 14. Tata Elxsi Ltd. 14.4.1 We have heard both parties and perused and carefully considered the material on record; including the judicial decisions cited. We find that a co-ordinate bench of this Tribunal in the case of M/s. 3DPLM Software Solutions Ltd. (supra) for Assessment Year .....

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rvices 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. 13.4.2 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 th .....

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een provided by the TPO so as to consider it as a comparable party for comparing the profit ratio from product and services. Thus, on these facts, we are unable to treat this company as fit for comparability analysis for determining the arm s length price for the assessee, hence, should be excluded from the list of comparable portion. As can be seen from the extracts of the Annual Report of this company produced before us, the facts pertaining to Tata Elxsi have not changed from Assessment Year .....

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g services and not purely software development services like the assessee in the case on hand. It is ordered accordingly. 12. Infosys Technologies Ltd. 12.4.1 We have heard both parties and perused and carefully considered the material on record; including the judicial decisions cited and placed reliance upon. We find that a co-ordinate bench of the Tribunal in the case of M/s. 3DPLM Software Solutions Ltd. (supra), for Assessment Year 2008-09 had held that this company be excluded from the fina .....

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e 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 breakup of revenue from software services and software products is not available. In this view of the matter, we hold that this company ought t .....

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ed the material on record; including the judicial decisions cited. We find that a co-ordinate bench of this Tribunal in the case of M/s. 3DPLM Software Solutions Ltd. (supra) for Assessment Year 2008-09 has held that this company ought to be excluded from the list of comparables holding as under at paras 12.4.1 and 12.4.2 of its order, which is extracted hereunder :- 12.4.1 We have heard both parties and carefully perused and considered the material on record. We find merit in the contentions of .....

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mparability analysis carried out by the TPO is that he adopted comparison of the consolidated financial statements of Wipro with the stand alone financials of the assessee; which is not an appropriate comparison. 12.4.2 We also find that this company owns intellectual property in the form of registered patents and several pending applications for grant of patents. In this regard, the coordinate bench of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. (ITA No.227/Bang/2010) has held that .....

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omit this company from the set of comparable companies in the case on hand for the year under consideration. 13.4.2 Following the above decision of the co-ordinate bench of this Tribunal (supra), we direct the TPO to exclude this company from the list of comparables as it is engaged both in software development and product development, owns IPR s, intangibles, etc. and cannot be held as comparable to a pure software service provider, as is the assessee in the case on hand. It is ordered accordin .....

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ssions. The Special Bench of the ITAT in the case of Maersk Global Centres (supra) had an occasion to deal with the question as to whether high profit margin making companies should be excluded as a comparable. The Special Bench after considering several aspects held in para 88 of its order that the potential comparable companies cannot be excluded merely on the ground that their profit is abnormally high. The Special bench held that in such cases it would require further investigation to ascert .....

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ear. The results of Bodhtree from FY 2003 to 2008 excluding FY 2007 as given by the learned counsel for the assessee were also perused. Perusal of the same shows, that there has been a consistent change in the operating margins. The chart filed by the assessee in this regard is given as an annexure to this order. It appears to us that the revenue recognition method followed by the assessee is the reason for the drastic variation in the profit margins of this company. In the given circumstances, .....

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owever, 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, ITA No.7633/Mum/2012, order dated 6.11.2013. In this case, the Tribunal followed the decision rendered by the Mumbai Benc .....

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o 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 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 op .....

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he finding rendered in the above cited decision applies to the facts and circumstances of the case on hand, which is for Assessment Year 2008-09. In this view of the matter, following the above decision of the co-ordinate bench of the Tribunal, we direct the TPO to include this company form the set of comparable companies to be applied to the assessee. It is ordered accordingly. 17. Thirdware Solutions Ltd. 17.3.1 We have heard both parties and perused and carefully considered the material on re .....

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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 .....

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ision of the co-ordinate bench of this Tribunal in the case of M/s. 3DPLM Software Solutions Ltd. (supra) for 2008-09, we direct the TPO to exclude this company from the list of comparables as it is functionally different from the assessee in the case on hand who is rendering purely software development services. It is ordered accordingly. 21. Softsol India Ltd. 21.4.1 We have heard the rival contentions and perused and carefully considered the material on record. We find that a co-ordinate benc .....

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cess of 15% following the decision of another bench of this Tribunal in the case of 24/7 Customer.Com Pvt. Ltd. in ITA No.227/Bang/2011. As the facts for this year are similar and material on record also indicates that RPT is 18.3%, following the afore cited decisions of the co-ordinate benches (supra), we hold that this company is to be omitted from the list of comparables to the assessee in the case on hand. 21.4.2 Following the decision of the co-ordinate bench of this Tribunal in the case of .....

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d. (supra) for Assessment Year 2008-09 had excluded this company from the list of comparables holding that this company is into rendering of product development services and high end technical services in the category of KPO Services and therefore cannot be considered as comparable to an assessee rendering purely software development services. The relevant portion of the order of the co-ordinate bench at para 14.4 thereof is as under :- 14.4 We have heard the rival submissions and perused and ca .....

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find that while the assessee is into software development services, this company i.e. e-Zest Solutions Ltd., is rendering product development services and high end technical services which come under the category of KPO services. It has been held by the co-ordinate bench of this Tribunal in the case of Capital I-Q Information Systems (India) (P) Ltd. Supra) that KPO services are not comparable to software development services and are therefore not comparable. Following the aforesaid decision of .....

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t from the assessee in the case on hand who is rendering purely software development services. It is ordered accordingly. 6.3. Not only in the above case, in other cases given below also the same decision was taken :- (a) 3DPLM Software Solutions Ltd. v. DCIT, IT(TP)A No.1303/Bang/2012 dated 28.11.2013. (b) Curam Software International Pvt. Ltd. v. ITO, ITA No.1280/Bang/2012 dated 31.7.2013. (c) Invensys Development Centre India Pvt. Ltd., IT(TP)A No.1692/Hyd/2012 dtd. 12.11.2014. (d) Net Cracke .....

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nies was that they failed RPT filter. The objection of the assessee was that TPO has included the reimbursement cost in operating cost. It is submitted that the reimbursement cost does not have any effect on profitability and if they are excluded, then they are within the filter range adopted by the TPO. Detailed objections and working as provided in objections to DRP at page 72 to 74 are referred in support of the contentions. 7.2 The above companies were considered by the Coordinate Bench in t .....

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et of comparables for the reason that this company failed the Related Party Transaction (RPT) filter, having 33.65% RPT. 25.2 In this appeal before us, the learned Authorised Representative contended that the reason far which the TPO has rejected this company as a comparable is incorrect since he had calculated the RPT figure at 33.6% wrongly. It is submitted that the RPT for this company is only 5.03% and that the TPO has computed the same wrongly by considering reimbursements also as RPT. In v .....

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tually proposed this company for inclusion as a comparable based on the search process carried out by him. In the search process the TP0 had applied the RPT filter at 25%. It is seen that after having selected this company as a comparable after using the RPT filter, the TPO rejected the case on the very same issue of RPT filter. Evidently, therefore the computation of RPT is erroneous in either one of the two computations made by the TPO. We find that the TPO has not explained his computation of .....

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Technologies Ltd. 26.1 This company was selected by the TPO on the basis of the search conducted by him and was proposed as a comparable company in the show cause notice issued to the assesses. The assessee had no objection to the inclusion of this company in the set of comparables. The TPO, however, excluded this company from the final set of comparables for the reason that this company failed the Related Party Transaction filter, having 94.08% RPT. 26.2 In this appeal before us, the learned A .....

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arned Departmental Representative supported the orders of the TPO in excluding this company from the final set of comparables on the ground that it failed the RPT filter applied by the TPO. 26.4 We have heard both parties and perused and carefully considered the material on record. It is clear from the record that the TPO had actually proposed this company for inclusion as a comparable based on the search process carried out by him. In the search process, the TPO had applied the RPT filter at 25 .....

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deem it fit to remand the issue of the comparability of this company to the file of the TPO for fresh consideration after affording the assessee adequate opportunity of being heard and making submissions thereon which shall be considered by the TPO before taking decision in the matter. 7.3 Even though the assessee contended that the reimbursement costs are included in the working , the actual working of TPO is not verifiable. Therefore, following the above order of Coordinate Bench, we restore t .....

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ompany. This issues was already considered in the assessee s own case in A.Y. 2006-07 as under:- II) Foreign Exchange gains/Loss impact (ground no.12) 5.8 The Tribunal in the case of Trilogy E-Business had directed that the foreign exchange gain or loss should be considered as operating revenue or cost while computing the operating margin of the assessee as well as the comparable. The relevant finding of the Tribunal read as follows: 79 (B) As far as foreign exchange gain/loss being considered a .....

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to be added to operating revenue. Following the same, the AO is directed to accept the claim of the Assessee in this regard..................... . 5.8.1 In conformity with the above finding, we direct the AO/TPO to consider the foreign exchange gain or loss as part of the operating cost or revenue, as the case may be, for both the assessee as well for the comparable companies. 8.1 In conformity with the above finding, we direct the TPO to consider accordingly. Ground is allowed. 9. The last iss .....

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