TMI Blog2017 (9) TMI 1257X X X X Extracts X X X X X X X X Extracts X X X X ..... xtension of business. Hence, the said proviso to Section 36(1)(iii) does not apply to the facts of the present case. In the result, the ground No. 3 of the appeal of the assessee is allowed. Disallowance of expenses of Capital nature claimed as revenue expenditure - Held that:- In the absence of the evidence to substantiate that the payment is made for post implementation of project, we agree with the finding arrived at by the Ld. AO that the payment is for a capital asset. In view of the same, the ground of appeal is hereby dismissed. However, while giving effect to our order, the AO is directed to grant depreciation u/s 32 of the Act on the claim of the assessee after verification. Needless to say that assessee be given an opportunity of hearing and producing working of the claim of the depreciation with respect to the actual cost of the assets and amount of depreciation and rates of depreciation allowance applicable on it. In view of this The ground no 4 of the appeal of the assessee is allowed on alternative arguments with above directions. Disallowance of interest incurred on short term loans - Held that:- Since in Ground No. 3 above, we have already held that there has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... In view of the above findings, we hold that for intra group services (where the evidences have been furnished), the assessee has satisfied the need, benefit and rendition test. However we would also like to mention that out of seven services the assessee has not furnished evidences for following three services namely- country services, information technology, project management. In the absence of any evidences, the test of necessity, need and rendition cannot be commented upon and the assessee is given an opportunity to furnish the evidences for these three services before the AO/TPO for necessary verification. The ld TPO may examine them and decide the issue with respect to those services in accordance with law. With respect to the method as the ld TPO has not examined the comparability analysis under the TNMM method of Intra Group services, he must examine the comparability analysis of IGS ( intra Group Services) and determine ALP. Disallowance of royalty payment which is paid to the overseas entity in the US - Held that:- According to us the royalty payments needs to be tested on the basis of factum and quantum both aspects. It also needs to be looked at the functions to be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ushal, CA, Shri Aditya Gupta, CA, Shri Sandeep Puri, CA, Ms. Chinu Bhasin, CA Revenue by: Shri N C Swain CIT DR, Shri TM Shivkumar, CIT DR ORDER PER PRASHANT MAHARISHI, A. M. 1. Assessee filed Appeal No 2538/Del/2014 against the order of Deputy Commissioner of Income Tax, Circle-2(1), New Delhi [hereinafter referred to as the ld AO ] passed u/s 143(3) read with section 144C of the Income Tax Act, 1961[ Hereinafter referred to as The Act'] in pursuance of the direction issued by the Dispute Resolution Panel [ hereinafter referred to the Ld DRP'] u/s 144C(5) of the Act dated 30.12.2013. 2. For the same year, the Revenue has also filed an appeal in ITA No. 2518/ Del/2013. 3. The assessee has raised the following grounds of appeal in ITA No. 2538/Del/2014 for the Assessment Year 2009-10:- 1. Ground No. 1 - Double addition on account of income suo moto offered to tax in the income 1.1 On the facts and Circumstances of the case, the learned AO has erred in making addition of ₹ 109,111,565 on account of income relating to financial year 2008-09 (i.e. financial year relevant to tire subject assessment Wear) reported as prior period income in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7; 34,745,337 as capital expense debited to the profit and loss account since the invoices contain reference to Lawful intercept ('LI') project. 4.2 On the facts and circumstances of the case and in law, the learned AO/ Hon'ble DRP has erred in not taking cognizance of the fact that the above expenses relate to post implementation professional and training services provided by Narus Inc.. including demonstration of equipment before regulatory bodies in relation to equipment supplied. 4.3 Without prejudice to the above grounds, on the facts and circumstances of the case and in law the learned AO/ Hon'ble DRP has erred in not allowing depreciation under section 32 of the Act on the above expenditure. 5. Ground No. 5- Disallowance of interest incurred on short term loans 5.1 On the facts and circumstances of the case, the learned AO/ Hon'ble DRP has erred in disallowing interest expense of ₹ 7,776,975 incurred on short term loans availed by the Appellant, by invoking the proviso to section 36(l)(iii) of the Act. 5.2 Without prejudice to the above ground, on the facts and circumstances of the case and in law, the learned AO/ Hon'ble DRP has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g to availing of intra-group services and payment of royalty (hereinafter referred to as impugned transactions ) entered into by the Appellant with its associated enterprises ( AEs ). 8.2 the learned TPO/ AO/ DRP have erred in not accepting the economic analysis undertaken by the Appellant in accordance with the provisions of the Act read with the Income- tax Rules, 1962 ( the Rules ) in respect of the impugned transactions and instead, conducting a fresh economic analysis to hold that the same are not at arm's length. 8.3 the learned TPO/ AO/ DRP have erred in applying the Comparable Uncontrolled Price ( CUP ) method and determining the ALP of the impugned transactions as NIL, without identifying any uncontrolled comparable transactions. 8.4 the learned TPO/ AO/ DRP have erred in disregarding the elaborate documentary evidence submitted as part of assessment proceedings to erroneously assume that 'no benefit' has been conferred upon the Appellant from the impugned transactions. 8.5 the learned TPO/ AO/ DRP have erred in disregarding the supplementary analysis furnished by the Appellant in respect of the impugned transactions during the course of assessment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ith its Associate Enterprises. The Transfer Pricing Officer passed order u/s 92CA(3) of the act on 24.01.2013 proposing adjustment. 7. The AO incorporating the transfer pricing adjustments passed a draft assessment order u/s 144C of the Income Tax Act on 11.03.2013 whereby the total income was determined at ₹ 95,72,59,660/-. 8. The assessee filed its objection before the Dispute Resolution Panel who issued direction u/s 144C (5) on 30.12.2013. Subsequently, the Ld. AO issued the final assessment order wherein he computed the total income of the Appellant at ₹ 80,39,91,690. Pursuant to rectification application filed by the applicant, the Ld. AO passed an order u/s 154 dated 22.07.2014 . 9. Following additions/ adjustments were proposed which are contested by the rival parties in these appeals: Additions Amount Returned Income 30,58,21,372 Foreign Exchange Fluctuation loss 65,28,578 Interest cost capitalization 4,54,131 Income pertaining to current year reported in next year ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... O observed that the ECBs have been utilized for acquisition of capital assets, and thus the interest incurred till the date such assets have been put to use should be disallowed. The AO while disallowing the expenditure relied on the case of Breeze Constructions (P.) Ltd vs ITO, Ward 3(1) [ITA No. 4779 of 2011]. Reasons for disallowance by the ld AO are as under:- 3.4 The reply of the assessee has been considered and same is found not acceptable in view of the following facts: A. First argument of the assessee that issue does not fall within the proviso to section 36(1)(iii) of the Act is not correct. The assessee has failed to understand the provisions of section 36(1)(iii). The case law of Core Health Care Ltd. relied upon by the assessee pertained to AY 1992-93 i.e. prior to insertion of proviso to section 36(1)(iii). It is important to stress here that in the judgment relied upon by the assessee. The ratio of the judgment is as under: Sec. 36(1) (iii) of the Income-tax Act, 1961, has to be read on its own terms: it is a code of itself It makes no distinction between money borrowed to acquire a capital asset or a revenue asset. All that the section requires is that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... )(iii) of the Act, read with the Proviso to the said section makes it clear that the primary condition for disallowance of interest expense on funds borrowed for acquisition of an asset is that such asset should have been acquired for the purpose of extension of the business. It is further been stated that since capital goods acquired by the assessee (using the ECB proceeds) have been acquired for use in the existing business activity of provision of telecommunication services and not for the purpose of starting another business activity, acquisition of such capital goods dies not result into extension of the business of the asset and thus, proviso to section 36(1)(iii) has no applicability in the instant case. It is may be pertinent to refer the recent jurisdictional decision of the ITAT DELHI BENCH A' in the case of Breeze Constructions (P.) Ltd. v. income-tax Officer, Ward 3(1) in IT Appeal No. 4779 (Delhi) of 2011 [assessment year 2007-08 dated May 4, 2012, wherein the assessee stated that its entire business has been set up and therefore, contended that proviso of section 36(1)(iii) cannot be applied in the case of the assessee, as there was no extension of existing bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ual Benefit Societies which fulfill such conditions as may be prescribed, shall be deemed to be capital borrowed within the meaning of the clause. 7.4 A reading of the above makes it amply clear that interest paid, in respect of capital borrowed for acquisition of an asset for extension of existing business or profession; for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction. By implication this proviso is also applicable when assets are acquired for new business. If the proviso is interpreted to signify that the same will not be applicable to such acquisition of assets, it will defeat the whole purpose of the proviso. Thus, we find that Ld. Counsel of the assessee's plea that proviso is not applicable, is not sustainable. In the background of the aforesaid discussion and precedent, Ld. Commissioner of Income Tax (Appeals) has passed a reasonable order which does not need any interference on our part and accordingly, we uphold the same. As regard the assessee' ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ls within the purview of proviso to section 36(1)(iii) of the Income tax Act, 1961. The assessee has claimed that extension of existing undertaking was not present in the instant case is not correct. Hence, in view of the above discussion the plea taken by the assessee is not acceptable and the proviso to section 36(1)(iii) gets attracted for both set up of new business as well as for extension of the business (as held in the judgment of Humble ITAT Delhi Bench in the case of Breeze Constructions (P) Ltd v. Income-tax Officer, Ward 3(1) in IT Appeal No. 4779 (Delhi) of 2011) and interest expenditure till the date of put to use shall be added to the cost of the asset. 3.5 The assessee has failed to furnish any details relating to the date put to use of the assets acquired by using the ECBs availed during the year. It is important here to highlight that though the assessee has stated that the ECBs availed have been used for purchasing capital goods, but it has been unable to provide the date of put to use of such purchased assets. It is difficult to understand how a company such as the assessee does not have the details of put to use of the assets purchased by utilizing the ECB ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... It was contended that the interest was paid in respect of capital borrowed for the purpose of business and was thus an allowable deduction because the company had commenced its business on 7 th April, 2007. It was contended that the distinction has to be drawn between 'expansion' and extension' of the business. The taxpayer was in the telecom business continued with the same activity. The acquisition of capital assets for growth of the existing business is not hit by the proviso to section 36(1) (iii) of the Act. Reliance was placed on the decision of ITAT in the case of ITW Signode 110 TTJ 170 wherein it has been held that the term 'extension' connotes that the taxpayer has extended its operations from present activity to another activity. 7.4 The issue has been considered by the Panel. In the proviso to section 36(1)(iii), the word extension has been used which is to be taken as synonymous to the word expansion held in case of Nahar Poly Films Ltd. Vs. CIT, Ludhiana 201 Taxmann 304 (P H). The word expansion' is not different from extension' of business and therefore, the interest expenditure on the utilization of borrowed funds for the acquis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... imary condition for disallowance of interest expense on funds borrowed for acquisition of an asset is that such assets should have been acquired for the purpose of extension of the business. However, in the present case, the assets have been utilized by the appellant for carrying on its existing telecommunication business and not for the purpose of extension of such business. 1.10 In the present case, the capital goods acquired by utilization of ECBs were telecom equipment. That the Appellant is engaged in the business of provision of telecommunication connectivity services to its customers is an undisputed fact. Thus, the capital assets were not utilized for extension of business but for carrying on the existing business. 1.11 The Hyderabad bench of the Hon'ble Tribunal in the case of ITW Signode 110 TTJ 170, has held that the term extension connotes that the assessee has extended its operations from the present activity to another activity . 1.12 Further, the principle that 'Extension' of a business implies starting of a new business activity has been affirmed in the following judicial precedent: DCIT vs. Gujarat Alkalies Chemicals Ltd. [2008] 299 ITR ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of existing business or profession from the proviso to Section 36(1)(iii). Thus, it is evident that prior to the aforesaid amendment, there was admittedly a distinction between ―capital borrowed for the purposes of the business or profession and ―capital borrowed for acquisition of an asset for extension of existing business or profession . Had there not been a distinction between the aforesaid terms, the legislature would not have sought to amend the law to remove such discrepancy. Further, the appellant's case clearly falls in the category of the former, i.e. ―capital borrowed for the purposes of the business or profession as the appellant has not started a new activity/ line of business using the ECB loans. Thus, the disallowance of interest on ECBs made by the Ld. AO is bad in law and ought to be deleted. 1.17 Accordingly, in the light of the above factual and legal background of the case, the action of the Ld. AO in making an addition of ₹ 4.54 Lacs in view of the proviso to Section 36(1)(iii) of the Act is totally erroneous and warrants to be deleted. 1.18 Without prejudice, where the aforesaid interest amount is disallowed, the same should ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er authorities on facts of the present case. While arriving at the above finding we also draw support from the decision of Hon'ble Supreme Court in the case of DCIT vs. Gujarat Alkalies Chemicals Ltd. [2008] 299 ITR 85 (SC) cited by the Ld. AR wherein it was held that extension' implies starting of a new business activity. Keeping in view the above said meaning we are of the view that the telecom equipment purchased by the Appellant using the ECB loans was for continuation of the existing business only and not for the extension of business. Hence, the said proviso to Section 36(1)(iii) does not apply to the facts of the present case. In the result, the ground No. 3 of the appeal of the assessee is allowed. 19. Ground no. 4 of the appeal of the Assessee is regarding disallowance of expenses of Capital nature claimed as revenue expenditure. During the year under consideration, an invoice of USD 87,724 was issued by Narus Inc. (Vendor) for 25% value of the Purchase Order per Agreement on account of Additional Implementation Service for India International Long Distance (ILD) Lawful Intercept (LI) Project. Similarly, invoices for USD 5,11,480 and USD 92,750 raised by Narus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elates to the capital expenditure which has been claimed as revenue expenditure by the taxpayer. The AO observed that the taxpayer claimed revenue expenditure on Lawful Intercept (LI) Project. The invoices have been raised by Narus Inc. (the service provider). The last invoice for the year bearing no. 1419 dated 26.3.2009 is for 35% of the LI Project. The AO did not agree with the submission of the taxpayer that all the expenses so claimed are in respect of post implementation professional and training services provided by Narus Inc. as no documentary evidence was submitted. 11.2 The taxpayer has submitted that claim made by it is fully allowable for the reason that the expenditure is for post installation activity being demonstration of equipment before regulatory bodies and professional training services provided by Narus Inc. In the alternative, the taxpayer has requested for allowing depreciation u/s 32 of the Act. 11.3 The claim of the taxpayer has been examined. It is a fact that the expenses on account of the equipment purchased for the LI Project have been capitalized by the taxpayer. The impugned expenditure is also for the same project on demonstration of equipmen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he Ld. AO that the payment is for a capital asset. In view of the same, the ground of appeal is hereby dismissed. However, while giving effect to our order, the AO is directed to grant depreciation u/s 32 of the Act on the claim of the assessee after verification. Needless to say that assessee be given an opportunity of hearing and producing working of the claim of the depreciation with respect to the actual cost of the assets and amount of depreciation and rates of depreciation allowance applicable on it. In view of this The ground no 4 of the appeal of the assessee is allowed on alternative arguments with above directions. 24. Ground no. 5 of the appeal of the Assessee is regarding disallowance of interest incurred on short term loans. During the financial year, the appellant had taken a working capital loan of ₹ 80,77,12,489 from Citibank, which was utilized by the appellant for the purpose of its business activities. Further, interest expense of ₹ 77,76,965 was incurred on such loans which was claimed as an expense in the return of income for the AY 2009-10. Basis the Cash Flow Statement, the ld AO held that the entire Short Term Loan of ₹ 807, 71, 24, 891 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sets for carrying out its business operations however no details for the same were furnished. It is important here to highlight that though the assessee has stated that the loan was used for purchasing capital goods, but it has been unable to provide the date of put to use of such purchased assets. It is difficult to understand how a company such as the assessee does not have the details of put to use of the assets purchased by utilising the loans obtained during the year. 11.7 As the assessee has not submitted the details of put to use of assets acquired by using the short term loans availed during the year, April 1, 2009 is considered as the date of put to use of such assets. Accordingly, based on an assumption that loans taken at last would have been utilised for acquiring the fixed assets, interest expense of ₹ 7,776,975 is disallowed.‖ 26. The assessee preferred objection before the Dispute Resolution Panel who vide direction dated 30.12.2013 vide para No. 12.3 has held as under: 12.3 The issue has been considered by the Panel. In the proviso to section 36(1)(iii), the word extension has been used which is to be taken as synonymous to the word expansio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... horities on this matter of disallowance of interest of ₹ 77,76,975/-. 27. The contentions of AR are similar to as raised in support of ground no. 3 above regarding disallowance of interest on External commercial borrowings. Therefore for the sake of brevity, the contentions have not been reproduced here. 28. Before us, the ld. DR relied upon finding of the lower authorities. 29. Since in Ground No. 3 above, we have already held that there has been no extension of existing business, the proviso to Section 36(1)(iii) is not applicable in the facts of the present case. Hence, the above finding would squarely apply to the present ground also. In the result the said ground no 5 of the appeal of the assessee is allowed. 30. Ground no. 6 of the appeal of the Assessee is regarding disallowance of circuit accruals. During the year under consideration, Circuit charges aggregating to ₹ 192.22 crores (Rs. 135.17 crores towards infrastructure cost and ₹ 57.05 crores towards last mile charges for services provided by other telecom operators) were incurred. Infrastructure cost represents bandwidth charges paid to other telecom operators for provision of bandwidth req ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of 30 days from the date of rendering of services in all businesses. In the present case, it is not understandable as to why the invoices remained unpaid till the closure of the current assessment year. It is important to highlight that the assessee has not been able to substantiate that these invoices were actually paid in the subsequent year and it appears that these invoices form part of the payments made during the current assessment year itself. 7.5 In view of the above discussion, it is clear that the assessee has made excess provision for circuit charges which is not supported by any supporting/ workings and hence, the aforesaid accrual of ₹ 20.63 crores is being disallowed. Even the invoices amounting to ₹ 15.10 crores cannot be relied upon in view of the discrepancies highlighted above. 7.6 The assessee has raised a further contention that circuit charges of ₹ 187,042,096 disallowed in the draft assessment order of the earlier assessment year should be allowed as a deduction in the current assessment year. In this regard, the assessee has submitted that since the aforesaid circuit accruals, as on March 31, 2008, were reversed in the current assessme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceipt of this order, so that AO may get adequate time to make verification, and assist the AO in the process of verification. (ii) To the AO: The AO is directed to: (a) Make verification of the additional invoices aggregating to ₹ 1.97 crores and in case he is satisfied with the veracity of their crystallization during FY 2008-09, to exclude the corresponding amount being the expenses accrued during FY 2008-09 for bandwidth usage availed of by the taxpayer, (b) exclude the sum of ₹ 15.10 crores, which stands verified by him during the course of assessment proceedings, being the expenses accrued during FY 2008- 09 for bandwidth usage availed of by the taxpayer, (c) allow the deduction for ₹ 3.08 crores, being the amount disallowed in AY 2008-09 by the AO himself, for the reason that the said amount is part and partial of the total circuit accrual (provision) made during FY 2007-08 of ₹ 154.88 crores and which has been reversed on 1.4.2008. However, the AO shall clearly record in the draft order that the said relief is subject to the fact that in case the taxpayer gets relief by any Higher judicial authority on this account in AY 2008-09 (where the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the start of the year till such month are made. All the payments made against the aforesaid accruals are accounted for in an account namely prepaid circuit ledgers and later on reduced from the circuits accrual account at the end of the month. 4.6 Before embarking on the merits of the case, it is important to highlight the accounting procedure followed by the company in connection with the circuit accruals. In light of the above the facts are submitted as under: Circuit Charges - Background Circuit Charges are incurred towards infrastructure cost and last mile charges for services provided by other telecom operators. Broadly Circuit Charges are classified into following two categories: a. Infrastructure cost: This represents bandwidth charges paid to local Indian telecom operators for provision of bandwidth required for transmission of data. b. Last mile charges: This represent charges paid to other telecom operators towards provision of telecom connectivity services over the last leg of communication i.e. from the customer's premises to point of presence of AT T Global Network Services India Private Limited (appellant) and vice-versa. System for recording Circuit a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for which the discrepancies identified, the same are logged / resolved via dispute management process, are approved for payment. At the month end, two files are generated i.e. General Ledger Expense Feed and General Ledger Accruals Feed. For creating the General Ledger Expense Feed file GAIM selects all invoice costs for the current or prior period where the invoice payment status is accepted. General Ledger Accruals Feed file contains only current year expense and is a year to date (YTD) file. As GAIM works on calendar year basis i.e. from January to December, thus the accruals for the period starting from January to March are excluded / added on proportionate basis. b) Logic used by GAIM to calculate the Circuit Accruals The logic used by GAIM to calculate the accrual includes the following key steps: Circuit Accruals are calculated for both active and ceased circuits taking into account the activation date and the cease date i.e. no accruals will be posted prior to the activation date or after the cease date. For the current and prior period GAIM will look at each tariff code for each circuit to determine if there is any invoice cost and circuit accru ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e appellant. 4.12 Appellant has been able to produce documentary evidence subsequent utilization/reversal of more than 85% of the expenses represented by year - end circuit accruals, which itself evidences that even the balance accruals have also been created on a reasonable basis and hence, no disallowance in this regard can be made against appellant. 4.13 Accordingly, the allegation of the Ld. AO that no documentary evidence has been produced by the appellant in respect of the circuit accruals is erroneous and the addition warrants to be deleted 34. We have carefully considered the rival contentions and perused the order of the ld TPO/ AO/ DRP . The assessee has explained the basis of creating the provisions for circuit accruals, which is calculated automatically and scientifically by the software. As submitted assessee has been followed this basis on a global basis. As explained by the appellant, the process is scientific in a way that as and when a request for new circuits is placed by the customer to appellant, the request is created in favour of third party vendor who in turn is required to provide service. Such requests are converted into orders by the Customer Acce ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... matched against the prior year accrual balance brought forward manually. Accordingly, only the current year accrual balances are booked in the profit and loss account. 35. We find that the process explained is entirely automated process which captures the details vis- -vis each circuit, amount to be booked against each circuit and the accrual to be created. Further, assessee has been creating the provision on an year on year basis in accordance with the mercantile system of accounting in accordance with accounting standard issued by the ICAI otherwise correct expenditure would not be captured as per the matching principle. The assessee has also demonstrated through evidences that the provision so created is either reversed or expensed off in the subsequent year. The assessee has also been able to submit evidences for most of the reversals before the lower authorities. It is also not the claim of the revenue that the amount of provisioning made by the assessee is incorrect or not based on proper documentation and estimations. We also find that the lower authorities allow the entire claim of expenditure in the next year when such reversals are made. Thus, we are of the view that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 38. The assessee entered into following international transactions with its AE during AY 2009-10 which are stipulated below: 1. Provision of network Considered to be at ALP by connectivity services (INR TPO; 175.08 cr) 2. Availing of intra group TPO determined the ALP at services (INR 25.16 cr) INR 5.85 cr whereas DRP determined the ALP to be NIL; 3. Payment of Royalty (INR 9.34 TPO determined the ALP at cr) NIL which was confirmed by Hon'ble DRP; 4. Interest paid on ECB (INR Considered to be at ALP by 0.96 cr) TPO The only two international transactions in dispute are intra group services' and Payment of Royalty'. 39. The assessee explained the summary of intra group services and how the ALP of each service has been determined by the TPO/DRP. Before we discuss the issue it is important to understand the nature of intra group services. The assessee submitted a detailed synopsis giving the nature of services, the approach adopted by the assessee, the basis of allocation, and the approach adopted by the DRP in determining the ALP. 1. These services are discussed in detail in succeeding paragraphs: A. Global Customer Service Centre ( GCSC') ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... GCSC should be INR 75,000 (INR 50,ooo salary cost plus INR 25,000 running cost) without giving any cogent reasons. Assuming that 48 employees would be required for rendering aforesaid services, the Ld. TPO determined INR 4.32 cr as the average cost of the GCSC which should have been allocated to the Appellant. 1.16 It is pertinent to note that the approach adopted by the Ld. TPO is arbitrary and without any reasoning. However, the allocation methodology adopted by the AEs/Appellant is based on commercial/business realities and on a scientific basis. Approach adopted by the Hon'ble DRP The Hon'ble DRP rejected the arm's length nature of the aforesaid transaction on an arbitrary basis and held the ALP to be NIL. B. Service delivery and service management Nature of services 1.17 The service delivery team is responsible for processing customer orders and handling service provisioning. The AE has a team of over 78 people for service delivery and over 30 people for service management. Once the contract has been signed with the customer, the service delivery team is responsible for setting up, configuring and testing the network. Some of the key functions per ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... approach adopted by the Ld. TPO is arbitrary and without any reasoning. However, the allocation methodology adopted by the AEs/Appellant is based on commercial/business realities and on a scientific basis. Approach adopted by the Hon'ble DRP The Hon'ble DRP rejected the arm's length nature of the aforesaid transaction on an arbitrary basis and held the ALP to be NIL C. Global Sales Enablement ( GSE') Nature of services 1.24 The GSE team provides pre-sales support to the group companies in the Asia Pacific region. It is responsible for building customised solutions for customers and provides services like technical design, inputs on pricing and legal/contractual aspects of the bid. 1.25 The GSE division is split into two teams, one engaged in pre-sales support, specification design, identification of customer requirements etc. and the other team assists AGNS India in pricing of the services to be provided to the customer. The pre sales team comprises of 21 people and pricing team comprises of 5 people. 1.26 The cost of the GSE pricing team is allocated to AGNS India on the basis of number of pricing requests related to India as a percentage of to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... country services team is a cross -functional team providing in - country support for other functional teams. The team is based out of Hong Kong and Singapore and renders support services in the nature of pre-sales arrangements, contract management, service delivery, order updates, on-going communication with customers and life cycle management of AGN nodes. 1.34 The cost of country services team is allocated to AGNS India on the basis of percentage of time spent by country services team on AGNS India. Submission before TPO: Refer page 163 of Paper book Vol-I TPO's observation in the TP order: Refer page no. 226 and 227 of the Appeal set DRP Submission: Refer page no. 121 of the Appeal Set DRP Directions: Refer page no. 42 and 43 of Appeal Set Basis of allocation 1.35 This cost has been allocated on the basis of percentage of time spent by Country services team on AGNS India. The amount allocated to AGNSI during the relevant period is INR 0.005 cr. Approach adopted by the Appellant 1.36 The cost paid by the Appellant for country services was benchmarked following an aggregated approach using the TNMM. Approach adopted by the Ld. TPO 1.37 The Ld. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1.43 The Ld. TPO rejected the arm's length nature if the aforesaid transaction in an arbitrary manner and determined the ALP as NIL. 1.44 It is pertinent to note that the approach adopted by the Ld. TPO is arbitrary and without any reasoning. However, the allocation methodology adopted by the AEs/Appellant is based on commercial/business realities and on a scientific basis. Approach adopted by the Hon'ble DRP The Hon'ble DRP rejected the arm's length nature of the aforesaid transaction on an arbitrary basis and held the ALP to be NIL F. Billing support Nature of services 1.45 The billing team is responsible for raising invoices for all customers in the Asia Pacific region (excluding Japan). AT T group has a team over 37 people based out of Hong Kong. The functions performed by the billing team are as follows: - Review pricing terms of the contracts; - Setting up of systems for different products and services after notification from delivery team; - Monitor billing inventory and ensure that invoices are raised on contractual intervals - Compare actual services installed with services contracted - Answer questions from clients/c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... across Asia Pacific region. The team comprises of 9 people. 1.53 The project management team is engaged in general project management, monitoring of all implementation issues and addressing faced by the customers Submission before TPO: Refer page 165 of Paper book Vol-I TPO's observation in the TP order: Refer page no. 228 and 229 of the Appeal set DRP Submission: Refer page no. 125 of the Appeal Set DRP Directions: Refer page no. 42 and 43 of Appeal Set Basis of allocation 1.54 This cost has been allocated on the basis of number of India sites as percentage of number of Asia Pacific (excl Japan) sites. During 2008, 42 sites were operational in AGNS India out of total of 998 sites in the Asia Pacific region. During the relevant period, 4.2 percent of the total cost of the project management team was allocated to AGNS India. The amount allocated to AGNSI during the relevant period is INR 0.24 cr. Approach adopted by the Appellant 1.55 The cost paid by the Appellant for project management services was benchmarked following an aggregated approach using the TNMM. Approach adopted by the Ld. TPO 1.56 The Ld. TPO rejected the arm's length nature o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... page 209 to 426 of Paperbook Volume I] 1.60 To support its case, the assessee also submitted the legal submissions which is reproduced as under: 2. Legal Submission: Method to be applied for benchmarking the transaction i.e. CUP v/s TNMM 2.1 The Appellant carried out benchmarking analysis for payment of support services on an aggregated basis under TNMM method. It is hereby submitted that due to close inter-linkages of the support services paid by the Appellant with the core service activity carried out by it i.e. provision of network connectivity services, it was considered appropriate to assess the impact of all the international related party transactions of the Appellant at the operating level. The TPO however rejected the aggregated approach and applied CUP as the most appropriate method for benchmarking the transaction of support services provided to its AE. 2.2 At this juncture, it may be pertinent to quote the relevant Sections of the Income tax Act, 1961 ( the Act') and Rules of the Income Tax Rules, 1962 ( the Rules'), dealing with the issue of selecting the most appropriate method for determining the ALP of an international ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realised 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 or the specified domestic transaction Most appropriate method. 10C. (1) For the purposes of sub-section (1) of section 92C, the most appropriate method shall be the method which is best suited to the facts and circumstances of each particular international transaction or specified domestic transaction, and which provides the most reliable measure of an arm's length price in relation to the international transaction or the specified domestic transaction, as the case may be. (2) In selecting the most appropriate method as specified in sub- rule (1), the following factors shall be taken into account, namely:-- (a)............ (b)............ (c) the availability, coverage and reliability of d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt's entire business operations would be interrupted and would come to a standstill. Therefore, the aforementioned services are indispensable for ensuring continuity in business operations. Hence, it can be reasonably construed that the support services are closely linked to the primary transaction of network connectivity services. 2.8 The Appellant relies on the decision of Hon'ble ITAT in case of Demag Cranes Components (ITA No. 1683/PN/2011) where it has upheld the aggregation of closely linked transactions. (Refer Para 31 on Page no. 110 of the Case Law Compendium) (Para 31, Page 22of the order) 2.9 The Appellant also relies on the jurisdictional High Court in the case of Sony Ericsson Mobile Communications India Pvt. Ltd. and others [ITA No. 16/2014] whereby it held that the aggregation of transactions is desirable in the case where the transactions are inter-linked. (Refer Para 137 on Page no. 512 of the Case Law Compendium) 2.10 Lastly the Appellant would like to draw attention to OECD Guidelines 1.42 which states that: Ideally, in order to arrive at the most precise approximation of fair market value, the arm's length principle should be applied o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Limited vs. ACIT ITA No. 8753 / Mum / 2010. (Refer Para 8 on Page no. 131 of the Case Law Compendium) 2.15 Thus, the Appellant submits that the objections raised by the TPO/DRP that there is no need for services is unjustified and not tenable in law. Commercial Expediency 2.16 The Appellant further submits that the nature of services to be availed is entirely prerogative of the tax payer and his commercial wisdom which cannot be questioned even by a tax authority and it is not always necessary to co-relate the benefits received and the amount paid for the services. 2.17 The aforesaid argument is supported by the observations made by the Hon'ble Supreme Court in the case of Commissioner of Income-tax vs. Dhanrajgirji Raja Narasingirji (91 ITR 544)(Refer Page no. 114 of the Case Law Compendium) 2.18 Further, the reliance can be placed upon the recently pronounced decision of the Hon'ble Delhi High Court in the case of CIT vs Cushman and Wakefield (India) Pvt Ltd. (ITA 475/ 2012), wherein, it was held that the authority of the TPO is to conduct a TP analysis to determine the ALP and not to determine whether the tax payer derives a benefit from the service. The H ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... - DCIT vs. M/s. Diebold Software Services Pvt. Ltd (ITA No. 4347/Del/2o12) (Del.) (Refer Para 5 on Page no. 120 of the Case Law Compendium) - Platinum Guild India Private Limited vs. DCIT (ITA No. 7720/Mum/2012) (Mum.) (Refer Para 10 on Page no. 391 of the Case Law Compendium) - Merck Ltd. Vs. DCIT (148 ITD 513) (Mum.) (Refer Para 24.5 to 24.7 on Page no. 353 and 354 of the Case Law Compendium) 2.23 Based on the legal principles enunciated above it is concluded that the TP adjustment can be made by the TPO/DRP only by applying any specific method as stated u/s 92C(2) of the Act. In facts of the present case even though the TPO/DRP mentions that CUP should be used for benchmarking the transaction, the method is not applied in its true sense, since no comparable uncontrolled transaction is used for benchmarking the transaction. According to Hon'ble DRP since no benefit is received the value of transaction is treated as NIL, which is unjustified and not tenable under the TP Regulations. Benefit Test 2.24 The Appellant submits that one of the contention of the Hon'ble DRP to treat the value of services as NIL is that no benefit is received by the Appellant. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ce no benchmarking methodology has been adopted by the TPO/Hon'ble DRP, the benchmarking adopted by the Appellant in its TP study i.e. TNMM on an aggregated basis, should be adopted and the adjustment made on the values of support services should be deleted. 40. The main thrust of assessee's submission is that in respect of each intra group services the assessee has been able to justify the basis of allocation of cost, need for service and the benefit it derived out of these services. In support of its arguments, the assessee also filed the back-up documentation before the lower authorities for verification. 41. The Ld. DR on the other hand has supported the order of DRP and AO and submitted that 1) That there was no need for such services in first place 2) Even if there was need, the assessee has not been able to demonstrate that the services have been rendered. 3) The assessee has not been able to meet the benefit test. 4) Assessee has not been able to substantiate its case by way of proper documentation 5) Similar disallowance has already been held in AY 2008-09 42. We have carefully considered the rival contentions. Before us, the Ld. AR has subm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e may be, contributed by, any such enterprise shall be determined having regard to the arm's length price of such benefit, service or facility, as the case may be. 45. According to the above provisions following principles emerge:- i. An international Transaction is entered in to between two or more associated enterprises for jointly acquiring or developing some property or for obtaining services. ii. The parties to transaction enter in to mutual agreement or arrangement to share cost or expenses incurred or to be incurred in respect of joint property. iii. The cost or expenses incurred should be in connection with a benefit or services of facility provided or to be provided to any one or more of such enterprise. The expectation of mutual benefit is important consideration for the acceptance of arrangement for pooling of resources by the enterprises. iv. The enterprises would require that each participant's proportionate share of the contribution is consistent with the proportionate share of overall benefits expected to be received from the arrangement. v. Transfer price of cost or expenses allocated or apportioned to such enterprise or contributed by such ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he IT team provides internal IT support function including helpdesk, internal network monitoring support and IT system and maintenance. No. of IT users in India as percentage of No. of IT users in Asia Pacific (excl Japan) (Refer TP Order on Pg 227 of Appeal Set) Team of 21 people based in Singapore. 1.2 4. Billing support The billing team is responsible for raising invoices for all customers in the Asia Pacific region (excluding Japan). No. of India invoices as percentage of No. of Asia Pacific (excl Japan) (Refer TP Order on Pg 228 of Appeal Set) Team of 37 people based in Hong Kong. Total 62812 invoices were raised, 6344 related to India 10.10% of billing deptt cost was allocated to India 0.97 5. Service delivery and service management The services delivery team is responsible for processing customer orders and handling service provisioning, setting up and configuring the network and testing th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lowing objectives: Maintenance and fixing repairs or outages for customers of the Appellant; Processing customer orders and handling service provisioning; Pre-sales support, building customized solutions for customers and provide services like technical design, inputs on commercial (pricing) legal and contractual aspects of the bid, specification design, identification of customer requirements etc.; Contract management, service delivery, order updates, on-going communication with customers and life cycle management of AGN nodes; IT support function including helpdesk, internal network monitoring support and IT system and maintenance; Review of pricing terms of contracts, process invoices reversals and adjustments, resolve customer disputes etc.; and General project management, monitoring of all implementation issues addressing issues being faced by customers 48. The assessee also contended that in telecom business credibility, reliability and speed of data, network and system is what defines the usage of network. So the assessee contended that it would rely on the best of resources and system which in the instant case is available at APAC level w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the receipt of the services. Regarding the receipt of the services from AE, the assessee can be asked to maintain and produce the evidence of receipt of services, which a businessperson keeps and maintains regarding services related from the third party. The burden cannot be higher on the assessee for evidencing the receipt of services of higher level merely because the services have been rendered by its AE. Against these evidence placed by the assessee before the lower authorities ld. DRP has merely stated that assessee has not been able to provide sufficient evidence and that the AE has provided such services to the assessee. We failed to understand what ‗sufficient evidence' was and what was lacking in the case of the assessee. We could not find any instances placed where the TPO / DRP held that the evidence placed by the assessee are not substantiated by rendition of service by the AE. The assessee has also relied on the Hon'ble Delhi Tribunal in the case of GE Money Financial Services Pvt Ltd. Vs ACIT in ITA No. 5882/Del-2010 and TNS India Pvt. Ltd. V. ACIT: (2014) 32 ITR (Trib.) 44 (Hyd. )whereby on similar facts the Hon'ble Delhi Tribunal has rejected the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... payer to necessarily undertake a cost-benefits analysis and a mere absence of such analysis should not necessarily lead to a pre-conceived notion that no benefits have been received by the assessee and should not form a basis to disallow the said payment. We also hasten to add that that for determination of ALP , the benefit to the user must arise otherwise, it fails the basic test of determining ALP. If there is no benefit to the user naturally nobody would pay for the services and hence ALP of such transaction is always Nil because they are worthless. Such is not the case here. To support its contention, the assessee has relied upon the decision of the Hon'ble Delhi High Court in the case of CIT vs Cushman and Wakefield (India) Pvt Ltd. (ITA 475/ 2012), wherein, it was held that the authority of the TPO is to conduct a TP analysis to determine the ALP and not to determine whether the tax payer derives a benefit from the service. The Hon'ble Delhi High Court has opined that the determination of benefit to the tax payer is not in the domain of the TPO. In this regard, the Appellant also placed reliance on the following judicial precedents to bring home the point that the be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... we justify the use of TNMM as the most appropriate method. 53. In view of the above findings, we hold that for intra group services (where the evidences have been furnished), the assessee has satisfied the need, benefit and rendition test. However we would also like to mention that out of seven services the assessee has not furnished evidences for following three services namely- country services, information technology, project management. In the absence of any evidences, the test of necessity, need and rendition cannot be commented upon and the assessee is given an opportunity to furnish the evidences for these three services before the AO/TPO for necessary verification. The ld TPO may examine them and decide the issue with respect to those services in accordance with law. With respect to the method as the ld TPO has not examined the comparability analysis under the TNMM method of Intra Group services, he must examine the comparability analysis of IGS ( intra Group Services) and determine ALP. 54. Another issue which has been raised is the disallowance of royalty payment which is paid to the overseas entity in the US. In the present case, the Appellant entered into an under ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 33. The TPO has made the disallowance in question mainly on the basis of the benefit test. In this regard, it is seen that the payment of royalty cannot be examined divorced from the production and sales. Royalty is inextricably linked with these activities. In the absence of production and sale of products, there would be no question arising regarding payment of any royalty. Rule 10A(d) of the ITAT Rules defines ‗transaction' as a number of closely linked transactions. Royalty, then, is a transaction closely linked with production and sales. It cannot be segregated from these activities of an enterprise, being embedded therein. That being so, royalty cannot be considered and examined in isolation on a standalone basis. Royalty is to be calculated on a specified agreed basis, on determining the net sales which, in the present case, are required to be determined after excluding the amounts of standard bought out components, etc., since such net sales do not stand recorded by the assessee in its books of account. Therefore, it is our considered opinion that the assessee was correct in employing an overall TNMM for examining the royalty. The TPO worked out the difference i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iqueness of these intangibles lies in continuous existence Even though many telecommunication brands exist within India as well as outside India, the same cannot be considered as substitutes to AT T brand, since every brand has its own specific features restricted to its group entities. Every brand has its own unique selling proposition [LISP), which tends to differentiate it from other available brands in the market, thereby creating a niche for itself. A well defined and strong brand helps to drive sales, build customer loyalty, create brand value, and acts as a catalyst for business growth, since it differentiates the product or service offering of a particular company from other available alternatives in the open market. 62. To justify the benefit test assessee further submitted that Indian telecommunications industry is characterized by several telecom players such as Bharti, Idea, Tata, Vodafone, etc. In such a competitive industry, having a brand name such as AT T (which is a globally renowned brand) impacts the business. It is noteworthy that for more than a century, AT T Group has consistently provided innovative, reliable, (nigh-quality products and services and excell ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... different industries/ geographical location /duration and amounts. No analysis of the royalty agreements between the various parties and the accompanying circumstances and conditions therein has been done by assessee. We also agree that even a minor difference in royalty agreement may have a significant effect on the royalty rates. 67. According to us the royalty payments needs to be tested on the basis of factum and quantum both aspects. It also needs to be looked at the functions to be performed by the parties for royalty payments. It also nees to be looked in to nature of the use of the intangibles which are covered in License Agreement with AT T Corp, pursuant to which it was granted the right to use licensed marks in marketing material for publicity, advertising, signs, product brochures, instruction manuals and in other form of advertising. These intangibles, which are licensed to AGNS India, are key value drivers for the business and benefit it by enabling it to expand its presence in the marketplace. What would be the duration of payments of such license royalty is also determinative of the factor of the payments as it cannot also continue for an indefinite period . It ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the responsibility of providing legal advice and legal support to the business and support functions including inter-alia drafting, negotiating and finalizing contracts and legal documents; managing secretarial work, ensuring adherence to legal compliances such as maintenance of register and records and required legal filings with the authorities. Legal team leads matters involving litigation and dispute resolution work, assists; provides legal opinions and clarifications and operational and transactional legal support to the business. Tax Function -Tax function is primarily focused on ensuring adherence to compliances required under different direct and indirect tax law such as income tax, service tax, customs duty etc. tax function in also responsible for handling tax related matters pending before various authorities and their litigation also, it is involved in planning for future tax strategies, keeping the business informed for the changes in the tax laws and for supporting business decisions from a tax perspective as and when called upon. For the above functions as well, the assessee has made direct payments to outside parties, which goes on to substantiate that paym ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as having business activity in India for more than 10 years. It had fully developed support service functions like Legal, HR, International Public Affairs, and Global Strategy etc. The allocation of expenses was on the basis of services received by the taxpayer company from ACSI. It has also submitted that both companies are tax-paying so this is not an arrangement for tax avoidance. 8.3 The Panel has examined the issue. The AO has not demonstrated that services were not rendered by ACSI. He has raised some suspicion. The taxpayer company, on the other hand, has demonstrated the services were received. The claim of the taxpayer on this account has been allowed by the Panel in assessment year 2008-09. The AO has not brought out any new facts for the current year which are distinguishable from the preceding year. In view of it, the claim made by the taxpayer deserves to be allowed as incurring of expenses is not in dispute. The AO is directed to delete the proposed disallowance and modify the order accordingly.‖ 74. Before us, the ld DR relied upon the draft assessment order whereas the AR placed the following contentions: 5.2 The appellant has incurred support servic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is clear from the support service agreement, activities performed by ACSI under support service agreement are essential and integral to any business organization. Existence of a business organization without presence of such support functions (such as legal, tax, HR, IPA support services etc.) cannot be assumed. 5.11 It was further submitted that the aforesaid support functions were already established and housed in ACSI and had appellant not availed such services from ACSI, it would have been required to establish separate teams of its own to perform such functions. This would have resulted into duplication of efforts and costs for the group's Indian operations. 5.12 Accordingly, support services cost of ₹ 116,176,903 was allocated by ACSI to appellant, towards support services rendered by ACSI to appellant. 5.13 Invoices, along with the basis of allocation of expenses incurred by ACSI, workings of the amounts so invoiced by ACSI to appellant and tax deducted at source thereon (the same can also be verified from the quarterly withholding tax statements filed by appellant) were submitted before the learned AO 5.14 No business would be able to carry out its bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed voluntarily on the ground of commercial expediency and in order indirectly to facilitate the carrying on of the business would be deductible under this section. The question whether it was necessary for commercial expediency or not is a question that has to be decided from the point of view of the businessman and not by the subjective standard of reasonableness of the Revenue. -Binodiram Balchand vs. Commissioner of Income Tax (48 1TR 548) -Calcutta Landing and Shipping Co Ltd vs. CIT (65 ITR 1) (Cal High Court) 5.18 The Hon'ble jurisdictional High Court of Delhi, in the case of CIT Vs B Dalmia Cement Ltd (254 ITR 377) held that reasonableness of the business expenditure can be judged only from the point of view of a businessman. No businessman can be compelled to maximize his profits. 5.19 Applying the principles laid down in the aforesaid judicial precedents to the present case, it clear that once it is established that appellant has actually incurred the aforesaid support services cost for the purposes of availing support services rendered by ACSI no expenditure cannot be disallowed on the premise of commercial expediency/ need for incurring such expenditure. ..... X X X X Extracts X X X X X X X X Extracts X X X X
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