9911796707
TMI Blog2015 (11) TMI 1719X X X X Extracts X X X X X X X X Extracts X X X X ..... t activity:- The assessee earned an OP/TC of 14.60 percent for FY 2008-09, with respect to the provision of software development services to its AEs. As the OP/TC of 14.60 percent was higher than the average OP/TC earned by comparable companies identified in the transfer pricing report, it was concluded that the international transactions were at arm's length. 5. The comparable companies selected by the TPO in his TP order for the AY 2009-10 are as follows:- 6. The arm's length price (ALP) worked out by the TPO was as under:- 7. Aggrieved by the order of the lower authorities, the assessee is in appeal before us on the following grounds of appeal:- "1. The learned Assessing Officer ("AO"), the learned Deputy Commissioner of Income Tax (Transfer Pricing Officer - II), Bangalore ("Transfer Pricing officer" or "TPO") and the Honourable Commissioner of Income Tax (Appeals) ("Hon'ble CIT (A)") have erred in law and facts of the case in proposing a transfer pricing adjustment under section 92CA of the Income-tax Act, 1961 ("the Act") amounting to Rs. 91,03,983/- in relation to the provision of software development services to the Associated Enterprises ("AEs"). 2. The learn ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Software Technologies Ltd. 12,23,21,483 11,31,49,350 8.11% 3 Bodhtree Consulting Ltd. 16,05,75,212 9,89,56,821 62.27% 4 R S Software (India) Ltd. 1,49,57,12,634 1,36,01,02,589 9.97% 5 Tata Elxsi Ltd. (Seg.) 3,78,43,03,000 3,14,63,15,000 20.28% 6 Sasken Communication Technologies Ltd. 4,05,31,20,000 3,18,69,97,000 7.91% 7 Persistent Systems Ltd. 5,19,69,10,000 3,67,52,70,000 41.40% 8 Zylog Systems Ltd. 7,34,93,51,475 6,81,69,98,160 7.81% 9 Mindtree Ltd. (Seg.) 7,93,22,79,326 5,74,06,73,058 5.52% 10 Larsen & Toubro Infotech 19,50,83,81,374 15,64,12,76,626 24.72% 11 Infosys Ltd. 2,02,64,00,00,000 1,39,17,00,00,000 45.61% AVERAGE MEAN 24.32% 9. With respect to Sl.Nos.5, 6, 7, 8, 9, 10 & 11 of the final list of comparables selected by the TPO, the ld. counsel for the assessee pleaded that these comparables have to be rejected since the turnover filter is more than Rs. 200 crores. 10. It has been held by this Tribunal in the case of Trilogy E-Business Software India Pvt. Ltd. in ITA No.1054/Bang/2011 dated 23.11.2012 that companies with a turnover of more than Rs. 200 crores cannot be taken ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the two companies and the relative economies of scale under which they operate. The fact that they operate in the same market may not make them comparable enterprises. The relevant extract is as follows [on Rule 10B(3)]: "Clause (i) lays down that if the differences are not material, the transactions would be comparable. These differences could either be with reference to the transaction or with reference to the enterprise. For instance, a transaction entered into by a Rs. 1,000 crore company cannot be compared with the transaction entered into by a Rs. 10 crore company. The two most obvious reasons are the size of the two companies and the relative economies of scale under which they operate." 13. It was further submitted that the TPO's range (Rs. 1 crore to infinity) has resulted in selection of companies like Infosys which is 277 times bigger than the Assessee (turnover of Rs. 13,149 crores as compared to Rs. 47.47 crores of Assessee). It was submitted that an appropriate turnover range should be applied in selecting comparable uncontrolled companies. 14. Reference was made to the decision of the ITAT Bangalore Bench in the case of Genesis Integrating Systems (India) Pvt. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2010). It was finally submitted that companies having turnover more than Rs. 200 crores ought to be rejected as not comparable with the Assessee. 16. The ld. DR, on the other hand pointed out that even the assessee in its own TP study has taken companies having turnover of more than Rs. 200 crores as comparables. In these circumstances, it was submitted by him that the assessee cannot have any grievance in this regard. 17. We have considered the rival submissions. The provisions of the Act and the Rules that are relevant for deciding the issue have to be first seen. Sec.92. of the Act provides that any income arising from an international transaction shall be computed having regard to the arm's length price. Sec.92-B provides that "international transaction" means a transaction between two or more associated enterprises, either or both of whom are non-residents, in the nature of purchase, sale or lease of tangible or intangible property, or provision of services, or lending or borrowing money, or any other transaction having a bearing on the profits, income, losses or assets of such enterprises, and shall include a mutual agreement or arrangement between two or more associate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... half; or (c) the information or data used in computation of the arm's length price is not reliable or correct; or (d) the assessee has failed to furnish, within the specified time, any information or document which he was required to furnish by a notice issued under sub-section (3) of section 92D, the Assessing Officer may proceed to determine the arm's length price in relation to the said international transaction in accordance with sub-sections (1) and (2), on the basis of such material or information or document available with him:" 18. Rule 10B of the IT Rules, 1962 prescribes rules for Determination of arm's length price under section 92C:- "10B. (1) For the purposes of sub-section (2) of section 92C, the arm's length price in relation to an international transaction shall be determined by any of the following methods, being the most appropriate method, in the following manner, namely :- (a)....... to (d)........ (e) transactional net margin method, by which,- (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsactions in the open market; or (ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences. (4) The data to be used in analysing the comparability of an uncontrolled transaction with an international transaction shall be the data relating to the financial year in which the international transaction has been entered into : Provided that data relating to a period not being more than two years prior to such financial year may also be considered if such data reveals facts which could have an influence on the determination of transfer prices in relation to the transactions being compared." 19. A reading of the provisions of Rule 10B(2) of the Rules shows that uncontrolled transaction has to be compared with international transaction having regard to the factors set out therein. Before us there is no dispute that the TNMM is the most appropriate method for determining the ALP of the international transaction. The disputes are with regard to the comparability of the comparable relied upon by the TPO. 20. In this regard we find that the provisions of law pointed out by the ld. counsel for the assessee as well as the decisions referred ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dia) Pvt. Ltd. in IT(TP)A No.271/Bang/2014, order dated 14.08.2014, wherein it was held as follows:- 26.3 KALS Information Systems Ltd.:- As far as this company is concerned, it is not in dispute before us that this company has been considered as not comparable to a pure software development services company by the Bangalore Bench of the Tribunal in the case of M/s. Trilogy e-business Software India Pvt. Ltd. (supra). The following were the relevant observations of the Tribunal:- "(d) KALS Information Systems Ltd. 46. As far as this company is concerned, the contention of the assessee is that the aforesaid company has revenues from both software development and software products. Besides the above, it was also pointed out that this company is engaged in providing training. It was also submitted that as per the annual repot, the salary cost debited under the software development expenditure was Rs. 45,93,351. The same was less than 25% of the software services revenue and therefore the salary cost filter test fails in this case. Reference was made to the Pune Bench Tribunal's decision of the ITAT in the case of Bindview India Private Limited Vs. DCI, ITA No. ITA No 1386/PN/1O ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Bench decision in the case of Trilogy E-Business Software India (P.) Ltd. (supra) and 24/7 Customer.com (P) Ltd. 28 taxmann.com 258 (Bang). The CIT(A) observed that in the above decisions it has been made clear that there is no bar in considering companies with abnormal profits/losses as comparables unless the assessee demonstrates and establishes that some abnormal event took place which led to abnormal results. Hence, the CIT(A) rejected the contentions of the assessee for exclusion of Bodhtree Consulting Ltd. as a comparable. 15. The assessee has now raised grounds before us stating that the same is functionally dissimilar which is into development of software products. The ld. counsel for the assessee also stated that there is mismatch on the revenue-cost. Reliance was placed on the decision of the Bangalore Bench of the Tribunal in the case of CISCO Systems (India) Pvt. Ltd. (supra) and Delhi Bench of the Tribunal's decision in Ciena India Pvt. Ltd., ITA No.1453/Del/2014 respectively. 16. We have heard both the parties and perused the material on record. In the case of CISCO Systems (India) Pvt. Ltd. (supra), the coordinate Bench of this Tribunal held that Bodhtree Consultin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... des that : "Revenue from software development is recognized based on software development and billed to clients." If some software development project is incomplete at the end of the year, this Note may entail two situations , viz., the first, in which the expenses incurred in respect of such software development may be capitalized, which appears to be a more rational manner of depicting the true and fair view of the profitability of the enterprise; and the second, in which such expenses may be straightway taken as revenue cost for the year of its incurring itself, which may not reflect a true and fair view of the profits on year to year basis. The contention of the ld. AR is that whereas Bodhtree fell into the second situation, the assessee was in the first situation. Though this contention about Bodhtree accounting for expenses in the year of incurring but considering income only on the conclusion of the project in the subsequent year sounded a little awkward, we attempted to find out the amount of capitalized expenses in respect of incomplete projects at the end of the year. Apparently, we could not find out any such capitalized value of work-inprogress in the balance sheet of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ntial to perform a risk adjustment to bridge the disparities in risk profile. 21. It was submitted that in the case of lntellinet Technologies India Private Ltd., ITA No.1237/Bang/2010, order dated 30.03.2012, the jurisdictional Bench of ITAT has held that the single customer risk borne by a captive service provider is only an 'anticipated' risk vis-a-vis the 'existing' market risk borne by independent comparables. and has allowed market risk adjustment. 22. In the case of lntellinet Technologies India Private Ltd., the coordinate Bench of this Tribunal held as under:- "7. Having heard both the parties and having considered the rival contentions, we find that the assessee has claimed the risk adjustment which is not allowed by the TPO on the ground that the assessee also has the risk of having a single customer. The question before us is as to whether the risk of having a single customer is equivalent to the marketing and technical risk attached to the comparables. According to the TPO, the assessee has the 'single customer risk' meaning, if the single customer refuses to have any dealings with the assessee, the assessee would lose all of its business and there would be no prof ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... justment. 25. The TPO in the order has stated that the profit margin computed in TNMM is a composite figure which includes two components. They are the profit margin on account of operating profit and profit margin on account of cost of capital recovered. Therefore, when the arithmetical average of net profit margins computed in the case of uncontrolled comparables is considered as arm's length profit margin in transfer pricing that arise from operating business, then the average cost of capital computed in the case of uncontrolled comparables should also be considered as arm's length price of the cost of capital in transfer pricing exercise. Accordingly, the average cost of capital computed in the case of the uncontrolled comparables should be an upper cap for the purpose of allowing working capital adjustment. 26. It was submitted that the TPO in the order has advocated limiting the working capital adjustment contending that the adjustment would be negative for the assessee/tested party, since it does not have significant debtors/inventory and generally, the assessee/tested party receives the money in advance for the services from the AEs. Whereas, the entrepreneurial companies ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ding of reasons, then it is the statutory requirement and, therefore, there is no scope for further inquiry. But even when the statute does not impose such an obligation it is necessary for the quasi-judicial authorities to record reason as it is only visible safeguard against possible injustice and arbitrariness and affords protection to the person adversely affected. Reasons are the links between the material on which certain conclusions are based and the actual conclusions. They disclose how the mind is applied to the subject-matter for a decision, whether it is purely administrative or quasi-judicial. They should reveal rational nexus between the facts considered and the conclusion reached. Only in this way can opinions or decisions recorded be shown to be manifestly just and reasonable. 29. In view of the decision in the case of Dresser-Rand India Pvt. Ltd. (supra) rendered by the Mumbai Bench of the Tribunal, the restriction placed by the TPO in providing the working capital adjustment was not justified. The AO/TPO is directed to allow the actual adjustment towards the differences in the working capital position between the assessee and the entrepreneurial companies selected ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee as its share of IT usage charges. These expenses being IT usage charges are recurring in nature and required to be paid every year depending on the yearly usage of IT system. The Company does not acquire any right or ownership in any of the assets upon payment of such allocation charges. 35. The AO has disallowed the above software expenditure on the ground that the same is capital in nature and hence provided depreciation on the same at a rate of 30% (Assuming that the software has been put to use for less than 180 days). 36. Before us, it was submitted that In this regard, the entire software expenditure amounting to Rs. 11,951,844 is allowable as deduction under section 37(1) of the Act on the following grounds:- a. The above referred expenditure has been incurred on obtaining or renewing the licenses for use, of certain application software and as this expenditure was incurred with the prime objective of carrying on the business activities more effectively and profitably leaving the capital base untouched. b. The test of enduring benefit is more prone to failure in the case of computer software where the pace of advancement is so rapid that whatever technolo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the facts and circumstances of each particular case. 38. It was also submitted that as per section 37(1) of the Act, "Any expenditure (not being in the nature described in section 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing income chargeable under the head "profits and gains from business or profession". 39. Thus for an expenditure to be deductible in terms of section 37(1) of the Act, the following conditions are to be satisfied - a. The expenditure should not be of the nature described in sections 30 to 36 of the Act; b. It should not be in the nature of personal expenses; c. It should have been laid out or expended wholly and exclusively for the purpose of the business; and d. It should not be in the nature of capital expenditure. 40. The ld. counsel for the assessee submitted that in the instant case, all the above conditions are satisfied and thus the application software expenditure including maintenance expenses is revenue in nature and is eligible for deduction under section 37(1) of the A ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
