TMI Blog2016 (9) TMI 1458X X X X Extracts X X X X X X X X Extracts X X X X ..... ilar with that of assessee need to be deselected from final list. Companies with export revenue less than 75% applied by the TPO need to be deselected. Exclusion of sub-contracting charges from export turnover while computing deduction under Section 10A - Held that:- As in the case of Tata Elxsi Ltd vs. ACIT [1980 (4) TMI 12 - PUNJAB AND HARYANA HIGH COURT] expenses reduced from the export turnover ought to be reduced from the total turnover as well. Exclusion of forex loss from export turnover while computing the deduction under Section 10A - Held that:- It is pertinent to note that the turnover is considered on mercantile basis and not on realization basis. Therefore any loss on account of fluctuation of forex rate would be a business loss and should have effect of reduction of profits and corresponding eligible profits for deduction under Section 10A - Such loss cannot be reduced from export turnover based on the invoices and the loss on realization is a business loss not affecting the turnover. Therefore we direct the Assessing Officer to recompute the deduction under Section 10A by considering the profit after loss on Forex fluctuations on realization and not by reducing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Recovery of withholding taxes of employees on Restricted Stocks Unit granted and remitted to local tax authorities. 13,610,607 3. The only dispute in these appeals is regarding the Arm s Length Price ( ALP ) of software development services to the AE and consequent adjustment by the TPO apart from the issue of exclusion of expenses incurred in foreign currency while computing the deduction under Section 10A of the Act. The other international transactions have been accepted by the TPO at ALP. The operating profit claimed by the assessee is 11.42%. The assessee selected 10 comparable companies in its TP Study analysis and claimed its international transactions at arm s length as under : Comparables selected by Assessee and their arithmetic mean: Sl.No. Name of the company NCP2008-09 (%) NCP 2009-10 (%) NCP 2010-11 (%) Weighted Average (%) 1 Akshay Software Technologies Ltd. 12.47 -3.16 0.66 3.33 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 5 ICRA Techno Analytics Ltd. 24.83 23.79 6 Infosys Ltd. 43.39 44.21 7 Larsen Toubro Infotech Ltd. 19.83 20.86 8 Mindtree Ltd. (seg) 10.66 10.34 9 Persistent Systems Solutions Ltd. 22.12 22.16 10 Persistent Systems Ltd. 22.84 23.60 11 R S Software (India) Ltd. 16.37 17.24 12 Sasken Communication Technologies Ltd. 24.13 25.46 13 Tata Elxsi Ltd. (seg) 20.91 19.95 AVERAGE MARGIN 24.82 24.77 After giving working capital adjustment, the TPO computed the adjusted average PLI at 24.77% and proposed an adjustment und ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ct'), is bad in law and on facts and is in violation of the principles of natural justice. Without prejudice to the generality of the above, the order issued by the AO is bad in law in so far as the fact that the AO did not issue to Applied Materials India Private Limited ( the Appellant or the Company ), a show cause notice as per proviso to section 92C(3) of the Act. 1.2 The AO has erred in law in making a reference to the Additional Commissioner of Income Tax (Transfer Pricing) 1(1) [ TPO ], inter alia, since he has not recorded an opinion that any of the conditions in section 92C(3) of the Act, were satisfied in the instant case. Accordingly, the order passed by the TPO is without jurisdiction 1.3 The directions issued by the Ld. Dispute Resolution Panel ( DRP/ Ld. Panel ) did not take cognizance of the objections raised by the Appellant in relation to the transfer pricing matters. 1.4 The order passed by the AO is without jurisdiction, inter alia, in so far as it purports to give effect to an invalid directions of the Ld. Panel. 1.5 The directions issued by the Ld. Panel and the order passed by the AO is without jurisdiction, inter alia, in so far as it purp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 6.2 The AO/ TPO erred on facts in rejecting the comparable companies arrived at in the Transfer Pricing Study without considering the functional and risk analysis of the Appellant and the Ld. Panel also erred in confirming the same. 6.3 The AO/ TPO erred in law in applying arbitrary filters to arrive at a fresh set of companies as comparables to the Appellant, without establishing functional comparability and the Ld. Panel also erred in confirming the same. 6.4 The AO/ TPO erred on facts in arbitrarily accepting companies without considering the turnover and size of the Assessee and comparables. The Ld. Panel also erred in confirming the same. In view of the high turnover of Infosys Ltd, L T Infotech Ltd., Mindtree Ltd., Persistent Systems Ltd , Sasken Communication Technologies Ltd., and Tata Elxsi Ltd therefore, the said companies ought to stand excluded from the final list of comparables. 6.5 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 and the Ld. Panel also erred in confirming the same. 6.6 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... priate adjustment to the comparable companies by the Ld. Panel and AO/ TPO AO/ TPO erred in law and on facts in not allowing appropriate adjustments under Rule 10B to account for, inter alia, differences in (i) accounting practices, (ii) marketing expenditure adjustment, (iii) research and development expenditure adjustment, (iv) working capital, and (iv) risk profile between the Appellant and the comparable companies. 9. Variation of 5% from the arithmetic mean The AO/ TPO erred in law in not granting the benefits of proviso to section 92C(2) of the Act available to the Appellant. 10. Reduction of expenses from export and total turnover for computation of deduction under section 10A of the Act 10.1 The Ld. Panel erred in upholding the action of the Ld. AO in reducing subcontracting charges of ₹ 594,413,108 incurred towards export of computer software from the export turnover, without considering the fact that these expenses were not incurred for the purpose of rendering any technical services outside India. 10.2 The Ld. Panel erred in upholding the action of the Ld. AO in reducing travel expenses incurred in foreign currency amounting to ₹ 9,284,032 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s pass through cost while determining the operating profit/margins of the assessee. He has also relied upon the decision of the Delhi Bench of the Tribunal in the case of DCIT Vs. Cheil Communications India Pvt. Ltd. (2015) 11 taxmann.com 205. Thus the learned Authorised Representative has submitted that sub-contract charges ought to be considered as pass through cost and should be excluded both from the operating cost as well as operating income of the assessee for the purpose of computing the operating margins of the software development segment. Alternatively, the learned Authorised Representative has submitted that the comparables should also be having sub-contract charges if this is not considered as pass through cost. 6. On the other hand, the learned Departmental Representative has submitted that while computing the margins on the cost of software development services segment, the assessee itself considered the cost of sub-contracting charges as part of the operating cost. Further the subcontracting activity is a routine business activity carried out in software development services segment. The TPO has applied employee cost filter and the cost of employee in the case of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee on this issue. 8. As regards the alternative plea raised by the ld. AR that the comparables should also have similar activity, we find that the TPO has applied a filter of cost of employee which subsumes the outsourcing activity of both assessee as well as the comparables. Accordingly, the issue is decided against the assessee. 9. The next ground in the assessee's appeal is regarding seeking exclusion of 4 comparable companies retained by the DRP. We will deal with the comparability of these 4 companies as under : (i) E-Just Solution Ltd. 9.1.1 The learned Authorised Representative has submitted that the assessee raised the objection before the DRP for exclusion of this company from the set of comparables but the DRP has not adjudicated the objections of the assessee. He has referred the objections raised before the DRP at page No. 1373 of the paper book as well as referred the relevant part of the Annual Report of this company at page Nos.39, 42 50 of the Annual Report. The learned Authorised Representative has submitted that this company is engaged in the diversified activity and reported the income under only one segment. Therefore it cannot be considered as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y of software products. Thus without having the separate segmental details and data these diversified activities cannot be compared with the assessee. He has further pointed out that the company Persistent Systems Ltd. also engaged in developing products and therefore the activities are not comparable with that of the assessee. In support of his contention, he has relied upon the decision of this Tribunal dt.24.2.2016 in the case of DCIT Vs. Electronics for Imaging India Pvt. Ltd. (supra) and submitted that this company was found to be not comparable with the software development services provider. He has further pointed out that in assessee's own case for the Assessment Year 2010-11, the DRP vide its order dt.24.11.2014 has excluded Persistent Systems and Solutions Ltd. from the list of comparables by holding that this company is not comparable to the assessee. 9.2.3 On the other hand, the ld. DR has submitted that the TPO as well as DRP has examined the functional comparability of these companies and found that these companies are comparable with the assessee. These two companies have satisfied all the filters applied by the TPO and DRP therefore the minor variation in the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion for services and product is not available. Further, the assessee has also pointed out that there was an acquisition and restructuring during the year under consideration. 25. The DRP has noted the fact that this company has reported the entire receipt from sales and software services and product. Therefore, no segmental information was found to be available for sale of software services and product. Further, the DRP has noted that as per Note 1 of Schedule 15, this company is predominantly engaged in outsource software development service. Apart from the revenue from software services, it also earns income from licence of products, royalty on sale of products, income from maintenance contract, etc. These facts recorded by the DRP has not been disputed before us. 26. Therefore, when this company is engaged in diversified activities and earning revenue from various activities including licencing of products, royalty on sale of products as well as income from maintenance contract, etc., the same cannot be considered as functionally comparable with the assessee. Further, this company also earns income from outsource product development. In the absence of any segmental data of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as well as ld. AR and considered the relevant material on record. The DRP has reproduced the break-up of revenue in the impugned order as under:- Amount in Rs. lakhs ______________________________________________________________________________ Year ended Year ended March 31, 2010 March 31, 2019 Software Services 37,736.22 40,531.20 Software products 2,041.00 6,146.43 Other services 372.77 1,297.05 Total revenues 40,150.89 47,974.68 29. Thus, there is no dispute that this company earns revenue from 3 segments. However, the segmental operating margins are not available. Therefore, in the absence of segmental relevant data and particularly operating margins, this composite data cannot be considered as comparable with the assessee for software development services segment. Accordingly, we do not find any error or illegality in the findings of the DRP. We further note that the DRP has not adjudicated the o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of segmental reporting it cannot be considered as functionally comparable with the assessee. 12.3 We have considered the rival submissions as well as the relevant material on record. As regards the decision of the co-ordinate bench in the case of Arowana Consulting Ltd. Vs. ITO (supra), the Tribunal has dealt with only one objection of employee cost in paras 8 9 as under : 08. What is left for consideration is assessee s grievance regarding M/s. Akshay Software Technologies Ltd. DRP directed exclusion of the said company for a reason that its employee cost was more than 89% of its total operating expenditure. We find that assessee had employee cost in excess of 90% of its operating expenditure. In our opinion, it is normal to have a high percentage of employee cost in a software development company, especially so, when the company is involved in development of software for clients at the site of the clients. Reason given by the DRP, in our opinion, was not correct. Higher employee cost is a normal feature for a software development company for the simple reason that it is a skill oriented business. The skill-set required for the employees in the case of the assessee, req ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ble. Accordingly, we reject this ground of assessee. (ii) LGS Global Ltd. 13.1 The TPO rejected this company on the ground that the Annual Report did not give break up of employee cost and thus he could not compute its employee cost factor. The DRP upheld the rejection on the basis that the separate details of employee cost were not available. 13.2 Before us, the ld.AR of the assessee has submitted that this company has shown purchase and employee cost under a composite head which is 83.91% of the sale. Therefore this company satisfied the employee cost of 25% of total sales. The learned Authorised Representative has pointed out that in case of service provider the major component is employee cost and there is hardly any purchases therefore even if the employee cost is not separately reported, the composite of purchase and employee cost constitute 83.91% of sales. Thus he has submitted that this company should be included in the list of comparables. 13.3 On the other hand, the learned Departmental Representative has relied upon the orders of the authorities below and submitted that there is no dispute that this company has not reported employee cost separately and there ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he assessee has submitted that the total employee cost of this company is 11.51 of the total operating revenue therefore it fails the employee cost filter of 25%. Further he has pointed out that this company also fails the software development services revenue filter of 75%. He has referred the details at page Nos.39 and 53 of the Annual Report and submitted that the income from software development is ₹ 81.40 Crores out of total revenue of ₹ 141 Crores. Therefore this company fails this filter. 16.3 In a rejoinder the ld. DR has submitted that the TPO has considered only Information Technology transactions segment and therefore it satisfies software development services income filter as well as employee cost filter. 16.4 We have considered the rival submissions as well as the relevant material on record. As per the segmental reporting at page 53 of the Annual Report the income from Information Technology Services is ₹ 81.40 Crores out of the total income of ₹ 141 Crores. Therefore the revenue from Information Technology transactions services is less than 75% and consequently this company does not satisfy the filter of information technology revenue ap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee who is rendering software development services to its AE. 16. In view of the above facts, we do not find any error or illegality in the findings of the DRP that this company is functionally not comparable with that of a pure software development service provider. Nothing has been brought before us to show that the facts recorded by the DRP as well as by the co-ordinate bench of this Tribunal are not correct. Accordingly, in view of the decision of the co-ordinate bench of this Tribunal in the case of DCIT Vs. Electronics for Imaging India Pvt. Ltd. (supra), we do not find any error or illegality in the order of the DRP on this issue. (iii) Infosys Ltd. 18. We have heard the learned D.R. as well as learned A.R. and considered the relevant material on record. At the outset, we note that the co-ordinate bench of this Tribunal in the case of DCIT Vs. Electronics for Imaging India Pvt. Ltd. (supra) has considered this issue in para 17 as under : (2) Infosys Ltd. 17. The assessee objected against the selection of this company on the ground that this company has a big name and brand value and therefore it has a bargaining power. It also contended that the turnover ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se of the assessee, the availability of the comparable is not an issue and therefore we do agree with the view taken by the coordinate Benches of the Tribunal that the threshold limit of tolerance range should not exceed 15% as far as RPT revenue is concerned. Therefore, we direct the AO/TPO to apply 15% RPT filter in respect of all the comparables. In view of the facts recorded by the DRP as well as the decision of the coordinate bench, we do not find any reason to interfere with the directions of the DRP. (v) Tata Elxsi Ltd. (Seg.) : 20. We have heard the learned Departmental Representative as well as learned Authorised Representative and considered the relevant material on record. The DRP has rejected this company by discussing the fact at page 16 as under : We further note that the DRP has also recorded the fact that export revenue of this company is 73.30% which is less than 75% applied by the TPO. Therefore this company does not qualify the export earning filter applied by the TPO. Further the co-ordinate bench of this Tribunal in the case of DCIT Vs. Electronics for Imaging India Pvt. Ltd. (supra) has considered this issue in paras 30 to 33 as under : 3 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ice for the assessee, hence, should be excluded from the list of comparable parties. 33. No contrary view has been brought to our notice regarding comparability of this company with that of a pure software development service provider. Accordingly, in view of the decision of the Mumbai Bench of the Tribunal in the case of Telcordia Technologies Pvt. Ltd. (supra), we do not find any reason to interfere with the finding of the DRP. In view of the facts recorded by the DRP as well as thedecision of the Tribunal in the case of DCIT Vs. Electronics for Imaging India Pvt. Ltd. (supra), we do not find any error or illegality in the directions of the DRP to exclude this company form the set of comparables. 21. The revenue is also seeking inclusion of the following companies which were rejected by the DRP. (i) Evoke Technology Pvt. Ltd. (ii) Mindtree Limited (Seg.) (iii) R S Software India Pvt. Ltd. 21.1 At the time of hearing, the learned Authorised Representative of the assessee has submitted that the assessee has no objections if these three companies are restored to the set of comparables as the assessee did not raise any objection before the DRP but the DRP rejec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to be reduced from its export turnover they should also be reduced from the total turnover in view of the judgment of Hon'ble jurisdictional High Court in the case of CIT Vs. Tata Elxsi Ltd. (supra). 22.3 On the other hand, the ld. DR has relied upon the orders of the authorities below. 22.4 We have considered the rival submissions as well as the relevant material on record. The DRP has directed the Assessing Officer that the travel expenses incurred in foreign currency should also be excluded from the export turnover while computing the deduction under Section 10A of the Act by following the Hon'ble jurisdictional High Court in the case of Tata Elxsi Ltd. (supra). We do not find any contradictions in the proposition of law applicable in respect of the definition of turnover and total turnover as laid down by the Hon'ble High Court in the case of Tata Elxsi Ltd. (supra). A similar issue has been raised by the revenue regarding exclusion of telecommunication and travel expenses from export turnover which is also covered by the decision in the case of Tata Elxsi Ltd. (supra). The Hon'ble High Court while dealing with the definition of export turnover as well as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... export by the undertaking of articles, things or computer software received in, or brought into India by the assessee in convertible foreign exchange but so as not to include inter alia freight, telecommunication charges or insurance attributable to the delivery of the articles things or software outside India. Therefore in computing the export turnover the Legislature has made a specific exclusion of freight and insurance charges. The submission which has been urged on behalf of the Revenue is that while freight and insurance charges are liable to be excluded in computing export turnover, a similar exclusion has not been provided in regard to total turnover. The submission of the Revenue, however, misses the point that the expression total turnover has not been defined at all by Parliament for the purposes of section 10A. However the expression export turnover has been defined. The definition of export turnover excludes freight and insurance. Since export turnover has been defined be Parliament and there is a specific exclusion of freight and insurance, the expression export turnover cannot have a different meaning when it forms a constituent part of the total turnover ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ess and domestic business, the legislature intended to have a formula to ascertain the profits from export business by apportioning the total profits of the business on the basis of turnovers. Apportionment of profits on the basis of turnover was accepted as a method of arriving at export profits. In the ease of Section 80HHC, the export profit is to be derived from the total business income of the assessee, whereas in Section 10-A, the export profit is to be derived from the total business of the undertaking. Even in the case of business of an undertaking, it may include export business and domestic business, in other words, export turnover and domestic turnover. The export turnover would be a component or part of a denominator, the other component being the domestic turnover. In other words, to the extent of export turnover, there would be a commonality between the numerator and the denominator of the formula. In view of the commonality, the understanding should also be the same. In other words, if the export turnover in the numerator is to be arrived at after excluding certain expenses, the same should also be excluded in computing the export turnover as a component of total tur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... one and the same. Therefore, we do not see any merit in these appeals. The substantial question of law framed is answered in favour of the assessee and against the revenue. Following the decision of Hon'ble jurisdictional High Court , the alternative plea of the assessee regarding the sub-contracting charges therefore allowed and the ground of the revenue s appeal stand dismissed. 23.1 The next ground is regarding exclusion of forex loss from export turnover while computing the deduction under Section 10A of the Act. The Assessing Officer has reduced the amount of forex loss from export turnover while computing the deduction under Section 10A of the Act. The ld. AR of the assessee has submitted that the sum was reduced from the export turnover while computing the deduction available under Section 10A , it must also be correspondingly be reduced from its total turnover in view of the ratio of the judgment of Hon'ble jurisdictional High Court in the case of Tata Elxsi Ltd. (supra). 23.2 On the other hand, the learned Departmental Representative has relied upon the orders of the authorities below. 23.3 We have considered the rival submissions as well as the releva ..... X X X X Extracts X X X X X X X X Extracts X X X X
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