TMI Blog2016 (5) TMI 1446X X X X Extracts X X X X X X X X Extracts X X X X ..... er : These two appeals by the related assessees are directed against two separate assessment orders dated 28.9.2010 and 30.9.2010 passed in pursuance of the directions of DRP u/s. 144(C) of the Income-tax Act, 1961 [hereinafter referred to as the Act ] for the assessment year 2006-07. 2. Common grounds have been raised in both the appeals arising from identical facts and circumstances, therefore, for the sake of convenience these two appeals are heard together and disposed of by this composite order. For the purpose of recording the facts, appeal in IT(TP)A No.1380/Bang/2010 is taken as the lead case. 3. The assessee has raised the following grounds:- 1 Assessment and reference to Transfer Pricing Officer are bad in law a) The final order issued by the Income Tax Officer Ward 11(2) [ ITO or AO ], is bad on facts and in law, and is in violation of the principles of natural justice. Without prejudice to the above, the order issued by the AO is bad in law insofar as the fact that the AO did not issue to LSI Technologies India Private Limited ( the Appellant or the Company ), a show cause notice, as per proviso to secti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... les e) The AO/TPO grossly erred in law in deviating from the uncontrolled party transaction definition as per the Income-tax Rules and arbitrarily applying a 25% related party criteria in accepting / rejecting comparables. f) The AO/TPO also erred on facts and in law in arbitrarily rejecting companies with different year ending (i.e. other than 31 March 2006) and inconsistently applying such filter. g) The AO/TPO grossly erred on facts in arbitrarily rejecting companies having software development revenue less than 75% of total operating revenue and inconsistently applying such filter, without considering the specific segmental results h) The AO/TPO erred on facts in arbitrarily rejecting companies earning less than 25% of revenue from exports. i) The AO/TPO also erred on facts in arbitrarily rejecting companies based on their financial results without considering the comparability. j) The AO/TPO erred on facts and in law in considering a set of secret data , i.e. data which was not available in public domain, in arriving at a fresh set of companies using his power under section 133(6), which is grossly unjustified. k) The AO/TPO a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n to the draft assessment order issued by the AO/TP order. b) The DRP erred in facts and law in confirming the draft order of the AO/TPO. 11 Initiation of penalty proceedings The Assessee submits that based on the facts and circumstances of the case, there was no basis for the AO to propose to initiate proceedings under section 271(1)(c) of the Act. 12 Relief a) The Appellant prays that directions be given to grant all such relief arising from the above grounds and also all relief consequential thereto. b) The Appellant craves leave to add to or alter, by deletion, substitution or otherwise, the above grounds of appeal, at any time before or during the hearing of the appeal. c) The Appellant further prays that the adjustment in relation toTransfer pricing matters made by the Ld. A.O/TPO and upheld by the Hon'ble DRP be deleted. 4. Ground Nos.1 to 6 are regarding TP adjustment. During the year under consideration, the assessee has recorded international transaction with its Associated Enterprises (AE) in respect of software development services as under:- Particulars Amount (Rs.) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Lucid Software Ltd. 8.92 4.48 12 Mediasoft Solutions P. Ltd. 6.29 3.23 13 R S Software (India) Ltd. 15.69 14.16 14 SIP Technologies Exports Ltd. 3.06 0.17 15 Bodhtree Consulting Ltd. 15.99 13.85 16 Accel Transmatics Ltd. (Seg.) 44.07 40.91 17 Synfosys Business Solutions Ltd. 10.61 6.37 18 Megasoft Ltd. 52.64 42.99 19 Lanco Global Solutions Ltd. 5.27 3.90 20 Flextronics Software Systems Ltd. 27.24 25.63 Arithmetic Mean 20.68 18.08 7. The TPO has worked out the arith ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d these companies by considering the comparability, then the assessee cannot raise this issue, after the TPO has accepted those comparable companies and included in the final set of comparables. 15. Having considered the rival submissions as well as relevant material on record, we find that the functional comparability of these 3 companies have been examined by this Tribunal in a series of decisions and therefore once these companies are found to be functionally not comparable to that of software development services provider in the capacity of captive service provider, then mere inclusion of these companies in the TP study analysis would not bar the assessee from raising such a plea before the DRP as well as this Tribunal. Accordingly, following the decision of the Special Bench in the case of DCIT v. Quark Systems (P.) Ltd. [2010] 38 SOT 307 (CHD) (SB , ) we admit the additional ground raised by the assessee for adjudication on merits. 16. On the comparability of 9 companies, ld. AR of assessee has submitted that out of these 9 companies, 3 companies are having more than 15% related party revenue, therefore in view of the settled proposition on the issue of threshold limi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... % of revenue from related parties. Therefore, in this case, good number of comparables are available and there is no difficulty in searching the comparables. Accordingly, in order to determine the ALP by considering the comparable uncontrolled transactions, it should be kept in mind that the uncontrolled transactions should be least influenced by the RPT. In the case of DCIT Vs. Textron Global Technology Centre Pvt. Ltd. in IT(TP)A No.29/Bang/2012 C.O. No.40/Bang/2012 Dt.20.3.2015 for the Assessment Year 2005-06. The Tribunal has held in para 17 as under :- 17. In view of the conclusion above that exclusion of comparable companies with RPT of less than zero percent is not valid, and that companies where RPT is less than 15% alone can be considered, then the comparable rejected by the CIT (Appeals) on the basis of the said filter will have to be included along with the four comparable retained by the CIT (Appeals). Although 12 comparable which were rejected on the basis of RPT being more than zero percent, one comparable viz., Four Soft Ltd, will have to be excluded since the RPT is at 19.89% and thus in excess of 15%. Sathyam Computers Ltd. and Infosys Technologies Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d as functionally comparable with the software development service provider company. He has relied upon the following decisions :- CASES PERTAINING TO ASSTT. YEAR : 2006 - 07 CASES PERTAINING TO OTHER ASSTT. YEARS Cypress Semiconductor technology India Private Limited IT (TP) A No. 1167/Bang 2010 Trilogy E Business Software India Pvt. Ltd vs. DCIT (AY : 2007-08) ITA No. 1054/BANG/2012. Verisign Services India Private Limited IT(TP)A No 1404 bang 2010 Conexant Systems India Pvt. Limited (AY : 2006-07 2007-08) (ITA No. 1429/Hyd/2010, ITA No. 1978/Hyd/2011). Misys Software Solutions India Private Limited IT(TP) A No.1425/Bang/2010 Symbol Technologies India Private limited Vs IT (TP) (AY 2007-08) A No. 1352/Bang/2010. Thoughtworks Technologies (India)Private Limited- IT(TP)A No.1326/Bang/2010 13.1.2 On the other hand, the learned Departmental Representative has relied upon the orders of the authorities below and submitted that the TPO has considered the objections of the assesse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the company is engaged in the R D activity resulting in creation of Intellectual Property Rights (IPRs). This company is not only into software products as explained in the Annual Report of this company but also is engaged in the embedded product development based on current and emerging technologies such as Multimedia, Wimax, Imaging, Imaging Process etc. The company actively engaged in developing house expertise in current and emerging markets through house development products and training. Further the software development business segment of this company also comprising of diversified activities such as hardware design, industrial design, engineering design and visual computing. Even this company in its response to notice under Section 133(6) has accepted that this company is not comparable with the software development services provider. In support of his contention, he has relied upon the following decisions :- CASES PERTAINING TO ASSTT. YEAR : 2006 - 07 CASES PERTAINING TO OTHER ASSTT. YEARS Cypress Semiconductor technology India Private Limited IT (TP) A No 1167/Bang 2010 Conexant Systems India P ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received in response to notice under Section 133(6), the company has described its business as software development company or pure software development service provider. This information itself is very vague as the segmental details of operating revenue has not been made available to examine how much is the ratio of sale from software product and sale of software service and development. Looking to the fact that it has developed a software product named as Muulam which is used for civil engineering structures and the product development expenditure itself is substantial vis- -vis the capital employed by the said company, this criteria for being taken as comparable party, gets vitiated. For the purpose of comparability analysis, it is essential that the characteristics and the functions are by and large similar as that of the assessee company and T.P. analysis/study can be made with fewest and most reliable adjustment. If a company has employed heavy capital in development of a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t out of these 6 comparable companies, the Tribunal in the case of Textron India Pvt. Ltd. (supra) has considered and decided the comparability of 5 companies in paras 13 to 17.4 as under:- 13.1 Kals Infosystems Ltd . 13.1.1 The learned Authorised Representative of the assessee has submitted that this company is into a product business and has earned revenue from sale of software product. Therefore this company is not functionally comparable with the assessee which is purely a software development service provider to its parent company. In support of his contention, he has referred the Annual Report of this company and submitted that it engaged in the software product as stated in the Annual Report and also incurred sales and marketing expenditure. The learned Authorised Representative has pointed out that comparability of this company has been examined by this Tribunal in a series of decisions and it has been held that this company cannot be considered as functionally comparable with the software development service provider company. He has relied upon the following decisions :- CASES PERTAINING TO ASSTT. YEAR : 2006 - 07 CASES PERT ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... In support of this contention for exclusion of this company from the list of comparables, the learned Authorised Representative of the assessee placed reliance on the decision of the co-ordinate bench of the Tribunal in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra). 13.1.4 The learned Departmental Representative has not disputed the facts considered by the co-ordinate bench of this Tribunal regarding the nature of functions and business, revenue earned by this company from the sale of software products. Therefore, by following the decisions of the coordinate bench (supra), we direct the A.O./TPO to exclude this company from the list of comparables. 13.2 Tata Elxsi Ltd. (Seg.) 13.2.1 The learned Authorised Representative of the assessee has submitted that this company is functionally not comparable with the assessee as it fails the test of R D expenditure to sale which is more than 3% filter. He has further contended that the company is engaged in the R D activity resulting in creation of Intellectual Property Rights (IPRs). This company is not only into software products as explained in the Annual Report of this company but al ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... carefully considered the material on record, including the judicial pronouncements relied on by the assessee. We find that the coordinate bench in the case of Huawei Technologies India Pvt. Ltd. for Assessment Year 2006-07 (supra) has excluded these two companies from the set of comparables holding as under at paras 14 15 thereof :- 14. As far as Lucid Software Ltd. and Tata Elxsi Ltd. chosen by the TPO as comparables, we find that the Mumbai Bench of the Tribunal in the case of Telcordia Technologies India Pvt. Ltd. (supra) while dealing with the case of software services provider like the assessee, considered the comparability of Lucid Software Ltd. with similar software services provider and the Tribunal held as follows :- 7.2 Lucid Software Limited. It has been submitted before us that this company, besides doing software development services, is also involved in development of software product. The learned AR has tried to distinguish by pointing out that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nds. 14.1 The assessee has also sought the exclusion of certain more companies from the list of comparables in the additional grounds raised before this Tribunal. The companies sought to be excluded are discussed as under : 14.2 As regards M/s. Aztec Software Technology Services Ltd. Megasoft Ltd , since these two companies have not satisfied with the filter of RPT at 15%, therefore, in view of the consistent view taken by the Tribunal and our finding in the foregoing paragraphs, these two companies stand excluded from the list of comparables. 14.3 In the additional grounds, the assessee is also seeking exclusion of some more companies on the ground of turnover filter. The turnover filter was neither applied by the assessee nor by the TPO for selecting comparable companies. Further, the assessee did not raise any such objection either before the TPO or before the DRP. Thus, this plea raised by the assessee does not pertain to any finding of the authorities below and therefore this issue does not emanate from the orders of the authorities below. Moreover, the assessee company sought exclusion of selected companies from the list of comparables of the TPO on the ground ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mely Accel Transmatics Ltd., Geometric Software Ltd., Flextronic Software System Ltd. and Infosys Technologies Ltd. has been examined in a number of cases by this Tribunal and therefore in view of the findings of the Tribunal on the issue of comparability of these companies, we incline to admit the additional grounds of the assessee raising objection on the ground of functional dis-similarity of these companies mentioned (supra) for deciding the issue on merits. 15. Accel Transmatics Ltd. (Seg.) 15.1 Though this company was part of the T.P. analysis of the assessee and also part of the 44 comparables selected by the assessee itself for bench marking its international transactions, however, the assessee objected the inclusion of this company in the list of comparables selected by the TPO on the ground that this company is functionally not comparable. The TPO as well as DRP rejected the contentions of the assessee. 15.2 Before us, the learned Authorised Representative of the assessee has submitted that the assessee is seeking exclusion of this company as this company provides software design and development product services. Since this is a software product company and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any cannot be considered as functional comparable to a pure software development services provider. The Tribunal in a number of decisions as relied upon by the assessee mentioned (supra) has given this consistent finding. In the case of Misys Software Solutions Pvt. Ltd. (supra), the functional comparability has been examined by the Tribunal in paragraphs 7.2 to 7.4.2 which is reproduced below :- 7.2 (5) Accel Transmatics Ltd . This company was selected as a comparable by the TPO and was retained as a comparable even though the assessee objected to its inclusion before the DRP. It is the contention of the assessee that the above company is functionally different from the companies engaged in business of providing software development services to its AEs. It is submitted that apart from software development services, this company is engaged in provision of Accel Animation Studies Services in the form of ACCEL IT and ACCEL Animation Services for 2D and 3D Animation. It was also engaged in various business activities, some of which are Ushus Technologies for off shore development centre for embedded software network system, imaging technologies; Accel IT Academy for t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... India Private Limited Vs. DCI, ITA No. ITA No 1386/PN/1O wherein KALS as comparable was rejected for AY 2006- 07 on account of it being functionally different from software companies. The relevant extract are as follows: 16. Another issue relating to selection of comparables by the TPO is regarding inclusion of Kals Information System Ltd. The assessee has objected to its inclusion on the basis that functionally the company is not comparable. With reference to pages 185-186 of the Paper Book, it is explained that the said company is engaged in development of software products and services and is not comparable to software development services provided by the assessee. The appellant has submitted an extract on pages 185-186 of the Paper Book from the website of the company to establish that it is engaged in providing of I T enabled services and that the said company is into development of software products, etc. All these aspects have not been factually rebutted and, in our view, the said concern is liable to be excluded from the final set of comparables, and thus on this aspect, assessee succeeds. Based on all the above, it was submitted on behalf of the assessee that KALS ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee s claim that this company was functionally different was accepted. DRP therefore directed the Assessing Officer to exclude ACCEL Transmatic Ltd. from the final list of comparables for the purpose of determining TNMM margin. 49. Besides the above, it was pointed out that this company has related party transactions which is more than the permitted level and therefore should not be taken for comparability purposes. The submission of the ld. counsel for the assessee was that if the above company should not be considered as comparable. The ld. DR, on the other hand, relied on the order of the TPO. 50. We have considered the submissions and are of the view that the plea of the assessee that the aforesaid company should not be treated as comparables was considered by the Tribunal in Capgemini India Ltd (supra) where the assessee was software developer. The Tribunal, in the said decision referred to by the ld. counsel for the assessee, has accepted that this company was not comparable in the case of the assesses engaged in software development services business. Accepting the argument of the ld. counsel for the assessee, we hold that the aforesaid company should be exclud ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... com vs DCIT (AY : 2004- 05) ITA No.227/Bang/2010 Agnity India Technologies P. Ltd. (ITA No. 1204/2011)(Del HC) Adaptec India Private Limited (AY : 2007-08) ITA No. 1801/Hyd/09. Misys Software Solutions India Private Limited IT(TP) A No.1425/Bang/2010 Turnover Mercedes Benz R D India Pvt. Ltd. (AY : 2007-08) ITA No. 1222/Bang/2011. Verisign Services India Private Limited IT(TP)A No 1404 bang 2010 - Turnover CSR India Pvt. Ltd. (AY : 2007-08) ITA No. 1119/Bang/2011, [2013] Thoughtworks Technologies (India)Private Limited- IT(TP)A No.1326/Bang/2010 - Turnover Witness Systems Software India Pvt Ltd (AY : 2007-08) ITA No. 1366/Bang/2011. FOR CASES INVOLVING JOINT OPERATION, LARGE INTANGIBLES, HIGH BRAND VALUE, RISK BEARING HIGH PROFIT MARGIN CASES Agnity India Technologies Pvt Ltd ITA No. 3856(Del)/2010], ITAT Delhi This ruling has been upheld by the High Court (ITA No. 1204/2011, dated July 2013). Scale of operation, brand value etc. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Mumbai Bench of the Tribunal in the case of Telcordia Technologies India Private Ltd. in ITA No.7821/MUM/2011 , wherein it was held as under:- 7.2 Lucid Software Limited 7.4 Infosys Technologies Ltd.: The parameter for identifying comparable entity has to be seen from the angle of functions formed by the company, size of the company in terms of the sale revenue, stage of business cycle and company s growth cycle. In the case of Infosys, there are huge intangible assets which as per the information provided by the learned AR are valued at ₹ 69,522 crores, which comprises of brand value itself at ₹ 22,915 crores. Based on such fund valuation, the profit of Infosys is predominantly due to its premium branding. It is India s No.2 software service exporter and Third in the World as an IT Service company. It is a giant company which is evident from its revenue fund from the sales which itself is more than ₹ 13145 crores and expenditure on advertisement/sales promotion and expenditure on R D is at ₹ 69 crores and ₹ 167 crores respectively, whereas in the case of the assessee the revenue is only 10.7 crores with no expenditure on advertis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... comparable has a software development services segment and therefore is functionally similar to the business activity of the assessee in providing software development services. The DRP has concurred the view of the TPO. 17.2 Before us, the learned Authorised Representative of the assessee has submitted that apart from the turnover dis-similarity, this company is also not functionally comparable with the assessee. 17.3 On the other hand, the learned Departmental Representative has submitted that the TPO has used the segmental data of this company and given a finding that this company is functionally comparable with the assessee. He has relied upon the orders of the TPO and DRP. 17.4 Having considered the rival submissions and relevant material on record, we note that the objection raised by the assessee regarding the activity of this company in R D and also acquiring IPRs has not been dealt with by the authorities below. Accordingly, in the facts and circumstances of the case, we direct the A.O/TPO to re-adjudicate this issue after considering the objections of the assessee on functional dis-similarity. 24. Since the functional comparability of 5 companies which are i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Private Ltd. in ITA No.7821/MUM/2011 , which was followed by the ITAT Bangalore Bench in the case of Logica Private Ltd. ITA No.1129/Bang/2011 for AY 07-08, wherein it was held as under:- 7.2 Lucid Software Limited It has been submitted before us that this company, besides doing software development services, is also involved in development of software product. The learned AR has tried to distinguish by pointing out that product development expenditure in this case is around 39% of the capital employed by the said company, and, therefore, such a company cannot be considered as tested party. Even as per the information received in response to notice under Section 133(6), the company has described its business as software development company or pure software development service provider. This information itself is very vague as the segmental details of operating revenue has not been made available to examine how much is the ratio of sale from software product and sale of software service and development. Looking to the fact that it has developed a software product named as Muulam which is used for civil engineering structures and the product development expenditure itself i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 33. We have heard the ld. DR and the ld. AR as well as considered the material on record. At the outset, we note that this issue is covered by the Hon'ble jurisdictional High Court in the case of ACIT v. Tata Elxsi Ltd., 349 ITR 98 [Karn], wherein the Hon ble High Court has held as under:- 10. The Bombay High Court had an occasion to consider the meaning of the word 'total turnover' in the context of Section 10-A, in the case of CIT v. Gem Plus Jewellery India Ltd. [2011] 330 ITR 175 [2010] 194 Taxman 192 (Bom.). Interpreting sub-Section (4) of Section 10-A, it is held as under: Profits derived from export of articles or things or Computer software = Profits of the business of the undertaking X Export turnover in respect of the articles or things or computer software Total turnover of the business carried on by the undertaking Under sub-section (4) the proportion between the export turnover in respect of the articles or things, or, as the case may be, computer software exported, to the total turnover of the business carried over by the un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... constituent part of the total turnover for the purposes of the application of the formula. Undoubtedly, it was open to Parliament to make a provision to the contrary. However, no such provision having been made, the principle which has been enunciated earlier must prevail as a matter of correct statutory interpretation. Any other interpretation would lead to an absurdity. If the contention of the Revenue were to be accepted, the same expression viz. export turnover would have a different connotation in the application of the same formula. The submission of the Revenue would lead to a situation where freight and insurance, though it has been specifically excluded from export turnover for the purposes of the numerator would be brought in as part of the export turnover when it forms an element of the total turnover as a denominator in the formula. A construction of a statutory provision which would lead to an absurdity must be avoided. The special bench of the Tribunal, in the case of ITO v. Sak Soft Ltd. [2009] 313 ITR (AT) 353/ 30 SOT 55 (Chennai) also had an occasion to consider the meaning of the word 'total turnover'. After referring to the various judgme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of total turnover in the denominator. The reason being the total turnover includes export turnover. The components of the export turnover in the numerator and the denominator cannot be different. Therefore, though there is no definition of the term 'total turnover' in Section 10-A, there is nothing in the said Section to mandate that, what is excluded from the numerator that is export turnover would nevertheless form part of the denominator. Though when a particular word is not defined by the legislature and an ordinary meaning is to be attributed to the same, the said ordinary meaning to be attributed to such word is to be in conformity with the context in which it is used. When the statute prescribes a formula and in the said formula, 'export turnover' is defined, and when the 'total turnover' includes export turnover, the very same meaning given to the export turnover by the legislature is to be adopted while understanding the meaning of the total turnover, when the total turnover includes export turnover. If what is excluded in computing the export turnover is included while arriving at the total turnover, when the export turnover is a component of tota ..... X X X X Extracts X X X X X X X X Extracts X X X X
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