Vildirect: IncomeTax-caselaws-2015-VIL-1048-ITAT-BLR

2015-VIL-1048-ITAT-BLR

Income Tax Appellate Tribunal BANGALORE

IT(TP).A No. 1317/Bang/2010

Date: 26.05.2015

TESCO HINDUSTAN SERVICE CENTRE PVT. LTD.

DEPUTY COMMISSIONER OF INCOME-TAX, CIRCLE 12 (4) , BANGALORE

For the Appellant : K. R. Vasudevan, Advocate
For the Respondent : C. H. Sundar Rao, CIT-I(DR)

BENCH

N. V. Vasudevan (Judicial Member) And Abraham P. George (Accountant Member)

JUDGMENT

N. V. Vasudevan (Judicial Member)

This appeal by the assessee is against the order dated 13.8.2010 of the Deputy Commissioner of Income Tax, Circle12(4), Bangalore passed u/s. 143(3) r.w.s. 144C of the Act.

2. The Assessee is a part of Tesco Group. Tesco Group runs a chain of retail stores in several countries in Europe and Asia. The Group is headquartered in UK, and its flagship company, Tesco Plc., is listed in Stock exchanges in UK. The core business of Tesco Group is in the UK. Tesco Group also has several stores in Hungary, Poland, the Czech Republic, the Slovak Republic, Thailand, South Korea, Taiwan, the Republic of Ireland and Malaysia. The Assessee has entered into an agreement with Tesco Stores to provide Business Process services, Information Technology Enabled Services (ITES) as well as Software Development Services (IT services). ITES rendered by the Assessee include customer services, stores help desk, Financial services, one stop processes, pension service, property services and online advertising services. IT services include software development, quality deployment, testing and support services. All the above transactions were international transactions with an Associated Enterprise (AE) and have to pass the Arm’s Length Price (ALP) test as provided u/s.92 of the Income Tax Act, 1961 (Act). In this appeal the dispute is with regard to addition made consequent to determination of ALP and consequent upward revision and adjustment made to the price at which international transactions were carried out by the Assessee with its AE in respect of (1) Software development Services and (2) IT enabled Services.

3. Financial Results of EMC India for the F Y 2005-06

Description	Amount
Operating Revenue	Rs. 101,79,12,068
Operating Profit (PBIT)	Rs. 1,07,04,828
Operating Profit to Cost Ratio	11.76 %

The segmental details pertaining to software development Services, IT enabled services are as under (as per the TP report).

P & L Account	Software development services	I T Enabled Services	Total
Revenue	Rs.68,69,78,783	Rs.33,09,33,282	Rs.101,79,12,065
Total costs	Rs.61,46,50,852	Rs.29,61,56,385	Rs.91,08,07,237
Operating Profit	7,23,27,931	Rs.3,47,76,897	Rs.10,71,04,828
Operating Profit to Cost	11.77 %	11.74%	11.76%

*Excluding loss on sale of assets, donation, fringe benefit tax, interest

International Transactions (as mentioned in the 92 CE report) :

Business Process services	Rs. 33,09,33,282/-
Software development Services	Rs. 68,69,78,783/-
Lease Rent	Rs. 1,73,40,000/-
Reimbursement of expenses-Payable	Rs. 2,53,967/-
Reimbursement of expenses-Receivable	Rs. 2,32,47,077/-
Rent Deposit received	Rs. 2,00,00,000/-

TP ADJUSTMENT RELATING TO IT SERVICES (Software Development Services

4. Comparable companies ultimately selected by TPO and their arithmetic mean are given as Annexure-I to this order (Page 121 of TPO’s order). The arithmetic mean of the 22 comparable companies chosen by the TPO was 20.48%. After allowing working capital adjustment of 1.87%, the adjusted arithmetic mean was arrived at by the TPO at 18.61%. The computation of the ALP by the TPO in this regard was as follows:-

“20.6 Computation of Arms Length Price:

The arithmetic mean of the Profit Level indicators is taken as the arms length margin. (Please see Annexure B For details of computation of PLI of the comparables). Based on this, the arms length price of the software development services rendered by you is computed as under:

Arithmetic mean PLI	20.48%
Less: Working capital
Adjustment Annexure-C)	1.87%
Adj.Arithmetic mean PLI	18.61%

Arm’s Length Price:

Operating Cost (Rs.61,46,50,852 + reimbursement of expenses received of Rs. 1,56,87,128	Rs.63,03,37,980
Arms Length Margin	18.61% of the operating cost
Arms Length Price (ALP) At 123.58% of operating cost	Rs.74,76,43,878/-

20.7 Price received vis-à-vis the Arms Length Price:

The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length Price as under:

Arms Length Price (ALP) At 123.58% of operating cost	Rs.74,76,43,878
Price charged in the international transactions	Rs.70,26,65,911
Shortfall being adjustment u/s.92CA	Rs.4,49,77,967

The above shortfall of Rs.4,49,77,967/- is treated as transfer pricing adjustment u/s 92CA.”

5. Against the said adjustment proposed by the TPO which was incorporated in the draft assessment order by the AO, the assessee filed objections before the DRP. The DRP rejected those objections and confirmed the transfer pricing adjustment suggested by the TPO. The adjustment confirmed by the DRP was added to the total income of the assessee by the AO in the fair order of assessment. Against the said order of the Assessing Officer, the assessee has preferred the present appeal before the Tribunal.

6. The assessee filed a chart showing how the TPO has not given working capital adjustment as prayed for by the Assessee, the turnover and the margins of the 22 comparable companies finally chosen by the TPO after giving effect to adjustment towards working capital as allowed by the TPO and also as claimed by the Assessee. The Chart also explains as to how some of the comparable companies chosen by the TPO are not comparable (a) for the reason that the turnover of those companies were beyond Rs. 200 crores and therefore cannot be compared with the Assessee whose turnover is less than 75 Crores, (b) for the reason that these companies were not functionally comparable; (c) for the reason that the related party transaction (RPT) carried out by the comparable companies during the previous year was beyond 15% of its revenue and hence ought not to be included as a comparable. The Chart also gives the cases decided by various Benches of the ITAT where the comparable companies have been held to be not comparable with that of an Assessee providing IT Software development Services. We will proceed to consider the comparability of companies chosen by the TPO and listed in Annexure-I to this order.

7. The ld. counsel for the assessee brought to our notice that out of the 22 comparable companies chosen by the TPO, the following companies will have to be excluded as the turnover of these companies are more than Rs. 200 crores and cannot be compared with the Assessee whose turnover is less than Rs. 200 crores:

(1) Flextronics Software Systems Ltd.

(2) iGate Global Solutions Ltd.

(3) Mindtree Ltd.

(4) Persistent Systems Ltd.

(5) Sasken Communication Technologies Ltd.

(6) Infosys Technologies Ltd.

8. Our attention was drawn to the observations of the Tribunal in the case of Trilogy E-Business Software India Pvt.Ltd. (supra) (ITA No.1338/Bang/2010) for assessment year (07-08) on the application of turnover filter and it was submitted that the aforesaid comparable companies have to be excluded from the final list of comparable selected by the TPO. Reliance was also placed on the decision of the Tribunal rendered in Assessee’s case for AY 06-07 on the same issue in IT(TP) No.1274/Bang/2010 dated 18.7.2014.

9. We have considered the submission of the learned counsel for the Assessee and the learned DR. In the case of Trilogy E-Business Software India (P) Ltd. (supra), this Tribunal on application of the turnover filter while selecting comparable companies for comparability analysis held as follows:

“(1) Turnover Filter

11. The ld. counsel for the assessee submitted that the TPO has applied a lower turnover filter of Rs. 1 crore, but has not chosen to apply any upper turnover limit. In this regard, it was submitted by him that under rule 10B(3) to the Income-tax Rules, it was necessary for comparing an uncontrolled transaction with an international transaction that there should not be any difference between the transactions compared or the enterprises entering into such transaction, which are likely to materially affect the price or cost charged or paid or profit arising from such transaction in the open market. Further it is also necessary to see that wherever there are some differences such differences should be capable of reasonable accurate adjustment in monetary terms to eliminate the effect of such differences. It was his submission that size was an important facet of the comparability exercise. It was submitted that significant differences in size of the companies would impact comparability. In this regard our attention was drawn to the decision of the Special Bench of the ITAT Chandigarh Bench in the case of DCIT v. Quark Systems Pvt. Ltd. 38 SOT 207, wherein the Special Bench had laid down that it is improper to proceed on the basis of lower limit of 1 crore turnover with no higher limit on turnover, as the same was not reasonable classification. Several other decisions were referred to in this regard laying down identical proposition. We are not referring to those decisions as the decision of the Special Bench on this aspect would hold the field. Reference was also made to the OECD TP Guidelines, 2010 wherein it has been observed as follows:-

“Size criteria in terms of Sales, Assets or Number of Employees: The size of the transaction in absolute value or in proportion to the activities of the parties might affect the relative competitive positions of the buyer and seller and therefore comparability.”

12. The ICAI TP Guidelines note on this aspect lay down in para 15.4 that 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. 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. Ltd. v. DCIT, ITA No.1231/Bang/2010, wherein relying on Dun and Bradstreet’s analysis, the turnover of Rs. 1 crore to Rs. 200 crores was held to be proper. The following relevant observations were brought to our notice:-

“9. Having heard both the parties and having considered the rival contentions and also the judicial precedents on the issue, we find that the TPO himself has rejected the companies which .ire (sic) making losses as comparables. This shows that there is a limit for the lower end for identifying the comparables. In such a situation, we are unable to understand as to why there should not be an upper limit also. What should be upper limit is another factor to be considered. We agree with the contention of the learned counsel for the assessee that the size matters in business. A big company would be in a position to bargain the price and also attract more customers. It would also have a broad base of skilled employees who are able to give better output. A small company may not have these benefits and therefore, the turnover also would come down reducing profit margin. Thus, as held by the various benches of the Tribunal, when companies which arc loss making are excluded from comparables, then the super profit making companies should also be excluded. For the purpose of classification of companies on the basis of net sales or turnover, we find that a reasonable classification has to be made. Dun & Bradstreet & Bradstreet and NASSCOM have given different ranges. Taking the Indian scenario into consideration, we feel that the classification made by Dun & Bradstreet is more suitable and reasonable. In view of the same, we hold that the turnover filter is very important and the companies having a turnover of Rs. 1.00 crore to 200 crores have to be taken as a particular range and the assessee being in that range having turnover of 8.15 crores, the companies which also have turnover of 1.00 to 200.00 crores only should be taken into consideration for the purpose of making TP study.”

15. It was brought to our notice that the above proposition has also been followed by the Honourable Bangalore ITAT in the following cases:

1. M/s Kodiak Networks (India) Private Limited Vs. ACIT (ITA No.1413/Bang/2010)

2. M/s Genesis Microchip (I) Private Limited Vs. DCIT (ITA No.1254/Bang/20l0).

3. Electronic for Imaging India Private Limited (ITA No. 1171/Bang/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 nonresidents, 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 associated enterprises for the allocation or apportionment of, or any contribution to, any cost or expense incurred or to be incurred in connection with a benefit, service or facility provided or to be provided to any one or more of such enterprises. Sec.92A defines what is an Associated Enterprise. In the present case there is no dispute that the transaction between the Assessee and its AE was an international transaction attracting the provisions of Sec.92 of the Act. Sec.92C provides the manner of computation of Arm’s length price in an international transaction and it provides:-

(1) that 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, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe, namely :-

(a) comparable uncontrolled price method;

(b) resale price method;

(c) cost plus method;

(d) profit split method;

(e) transactional net margin method;

(f) such other method as may be prescribed by the Board.

(2) The most appropriate method referred to in subsection (1) shall be applied, for determination of arm’s length price, in the manner as may be prescribed:

Provided that where more than one price is determined by the most appropriate method, the arm’s length price shall be taken to be the arithmetical mean of such prices:

Provided further that if the variation between the arm’s length price so determined and price at which the international transaction has actually been undertaken does not exceed five per cent of the latter, the price at which the international transaction has actually been undertaken shall be deemed to be the arm’s length price.

(3) Where during the course of any proceeding for the assessment of income, the Assessing Officer is, on the basis of material or information or document in his possession, of the opinion that-

(a) the price charged or paid in an international transaction has not been determined in accordance with sub-sections (1) and (2); or

(b) any information and document relating to an international transaction have not been kept and maintained by the assessee in accordance with the provisions contained in sub-section (1) of section 92D and the rules made in this behalf; 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 employed or to be employed by the enterprise or having regard to any other relevant base;

(ii) the net profit margin realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base;

(iii) the net profit margin referred to in subclause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, 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.

(2) For the purposes of sub-rule (1), the comparability of an international transaction with an uncontrolled transaction shall be judged with reference to the following, namely:-

(a) the specific characteristics of the property transferred or services provided in either transaction;

(b) the functions performed, taking into account assets employed or to be employed and the risks assumed, by the respective parties to the transactions;

(c) the contractual terms (whether or not such terms are formal or in writing) of the transactions which lay down explicitly or implicitly how the responsibilities, risks and benefits are to be divided between the respective parties to the transactions;

(d) conditions prevailing in the markets in which the respective parties to the transactions operate, including the geographical location and size of the markets, the laws and Government orders in force, costs of labour and capital in the markets, overall economic development and level of competition and whether the markets are wholesale or retail.

(3) An uncontrolled transaction shall be comparable to an international transaction if-

(i) none of the differences, if any, between the transactions being compared, or between the enterprises entering into such transactions are likely to materially affect the price or cost charged or paid in, or the profit arising from, such transactions 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 to by the ld. counsel for the assessee clearly lay down the principle that the turnover filter is an important criteria in choosing the comparables. The assessee’s turnover is Rs. 47,46,66,638. It would therefore fall within the category of companies in the range of turnover between 1 crore and 200 crores (as laid down in the case of Genesis Integrating Systems (India) Pvt. Ltd. v. DCIT, ITA No.1231/Bang/2010) . Thus, companies having turnover of more than 200 crores have to be eliminated from the list of comparables as laid down in several decisions referred to by the ld. counsel for the assessee. Applying those tests, the following companies will have to be excluded from the list of 26 comparables drawn by the TPO viz.,

	*Turnover Rs.*
(1) Flextronics Software Systems Ltd.	848.66 crores
(2) iGate Global Solutions Ltd.	747.27 crores
(3) Mindtree Ltd.	590.39 crores
(4) Persistent Systems Ltd.	293.74 crores
(5) Sasken Communication Technologies Ltd.	343.57 crores
(6) Tata Elxsi Ltd.	262.58 crores
(7) Wipro Ltd.	961.09 crores.
(8) Infosys Technologies Ltd.	13149 crores.”

10. Respectfully following the aforesaid decision of the Tribunal in the case of Trilogy E-Business Software India Pvt.Ltd. (supra) and Assessee’s case for AY 06-07, we hold that the aforesaid companies should be excluded from the list of comparable companies. The AO is directed to compute the Arithmetic mean by excluding the aforesaid companies from the list of comparable.

11. Improper selection of comparables: It was submitted by the learned counsel for the Assessee that the following 2 companies are not functionally comparable with that of the Assessee.

a) KALS Information Systems Limited

b) Accel Transmission Limited.

In this regard our attention was drawn to the decision of the Hon’ble ITAT Bangalore Bench in the case of Trilogy E-Business Software India Pvt.Ltd. (supra) wherein these companies were held to be not functionally comparable with that of a pure software developer like the Assessee.

12. The following were the relevant observations of the Tribunal on the aforesaid comparable companies in the case of Trilogy E-Business Software India Pvt.Ltd.(supra), which was followed by the ITAT Bangalore Bench in the case of 3DPLM Software Solutions Ltd. IT (TP)A.No.1109/Bang/2010 for AY 2006-07 order dated 10.5.2013:

“(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 Q 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 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 Information Systems Limited should be rejected as a comparable.

47. We have given a careful consideration to the submission made on behalf of the Assessee. We find that the TPO has drawn conclusions on the basis of information obtained by issue of notice u/s.133(6) of the Act. This information which was not available in public domain could not have been used by the TPO, when the same is contrary to the annual report of this company as highlighted by the Assessee in its letter dated 21.6.2010 to the TPO. We also find that in the decision referred to by the learned counsel for the Assessee, the Mumbai Bench of ITAT has held that this company was developing software products and not purely or mainly software development service provider. We therefore accept the plea of the Assessee that this company is not comparable.”

“(e) Accel Transmatic Ltd.

48. With regard to this company, the complaint of the assessee is that this company is not a pure software development service company. It is further submitted that in a Mumbai Tribunal Decision of Capgemini India (F) Ltd v Ad. CIT 12 Taxman.com

51, the DRP accepted the contention of the assessee that Accel Transmatic should be rejected as comparable. The relevant observations of DRP as extracted by the ITAT in its order are as follows:

“In regard to Accel Transmatics Ltd. the assessee submitted the company profile and its annual report for financial year 2005-06 from which the DRP noted that the business activities of the company were as under.

(i) Transmatic system - design, development and manufacture of multi function kiosks Queue management system, ticket vending system

(ii) Ushus Technologies - offshore development centre for embedded software, net work system, imaging technologies, outsourced product development

(iii) Accel IT Academy (the net stop for engineers)- training services in hardware and networking, enterprise system management, embedded system, VLSI designs, CAD/CAM/BPO

(iv) Accel Animation Studies software services for 2D/3D animation, special effect, erection, game asset development.

4.3 On careful perusal of the business activities of Accel Transmatic Ltd. DRP agreed with the assessee that the company was functionally different from the assessee company as it was engaged in the services in the form of ACCEL IT and ACCEL animation services for 2D and 3D animation and therefore 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 assessees engaged in software development services business. Accepting the argument of the ld. counsel for the assessee, we hold that the aforesaid company should be excluded as comparables.”

13. The facts and circumstances under which the aforesaid companies were considered as comparable is identical in the case of the Assessee as well as in the case of Trilogy E-Business Software India Pvt.Ltd. (supra). Respectfully following the decision of the Tribunal referred to above in the case of Trilogy E-Business Software India Pvt.Ltd.(supra), we direct that the said companies be excluded from the list of 22 comparable arrived at by the TPO.

14. As far as comparable company viz., Geometric Software Ltd. (Seg.) & Aztech Software Ltd., are concerned, it is not in dispute before us that the related party transaction in the case of this company exceeds 15% (19.98 % in the case of Geometric Software Ltd. & 17.78% in the case of Aztech Software Ltd.) and in view of the decision of the Tribunal in the case of 24 X 7 Customer.Com Pvt. Ltd. in ITA No.227/Bang/2010, followed by this Tribunal in the case of Logica Private Ltd. (supra) wherein it was held that where the RPT exceeds 15%, such companies should not be taken as comparable companies. Following the said decision, we hold that said companies referred to above be excluded from the list of comparable companies while working out the ALP.

15. As far as Megasoft Ltd., a comparable chosen by the TPO is concerned, this Tribunal in the case of Trilogy E-Business Software India Pvt. Ltd. (supra) followed in the case of 3DPLM Software Solutions Ltd., (supra) had held that only segmental data should be taken for the purpose of comparison. Following are the relevant observations of the Tribunal:-

“37. The next plea of the Assessee is that if at all this company is considered as a comparable then the segmental margin of 23.11% (which is the margin for software service segment) alone should be considered for comparability. On the above submission, we find that the TPO considered the segmental margin (Software service segment) in the case of Geometric, Kals Info systems, R Systems, Sasken Communication and Tata Elxsi. Before DRP the Assessee pointed out that the segmental margin of 23.11% alone should be taken for comparability. The DRP has not given any specific finding on the above plea of the Assessee. Perusal of the order of the TPO shows that the TPO relied on information which was given by this company in which this company had explained that it has two divisions viz., BLUEALLY DIVISION and XIUS-BCGI DIVISION. Xius-BCGI Division does the business of product software (developing software). This company develops packaged products for the wireless and convergent telecom industry. These products are sold as packaged products to customers. While implementing these standardized products, customers may request the company to customize products or reconfigure products to fit into their business environment. Thereupon the company takes up the job of customizing the packaged software. The company also explained that 30 to 40% of the product software (software developed) would constitute packaged product and around 50% to 60% would constitute customized capabilities and expenses related to travelling, boarding and lodging expense. Based on the above reply, the TPO proceeded to hold that the comparable company was mainly into customization of software products developed (which was akin to software development) internally and that the portion of the revenue from development of software sold and used for customization was less than 25% of the overall revenues. The TPO therefore held that less than 25% of the revenues of the comparable are from software products and therefore the comparable satisfied TPO’s filter of more than 75% of revenues from software development services. Having drawn the above conclusion, the TPO did not bother to quantify the revenues which can be attributed to software product development and software development service but adopted the margin of this company at the entity level. In terms of Rule 10B(3)(b) of the Rules, an uncontrolled transaction shall be comparable to an international transaction if -

(ii) reasonably accurate adjustments can be made to eliminate the material effects of such differences.

38. Neither the TPO nor the DRP have noticed that there is bound to be a difference between the Assessee and Megasoft and the profit arising to the Megasoft as a result of the existence of the software product segment and no finding has been given that reasonably accurate adjustments can be made to eliminate the material effects of such differences. For this reason, we are inclined to hold that the profit margin of 23.11% which is the margin of the software service segment be taken for comparability. In view of the above conclusion, we do not wish to go into the question as to whether less than 25% of the revenues of the comparable are from software products and therefore the comparable satisfied TPO’s filter of more than 75% of revenues from software development services.”

16. In view of the aforesaid decision of the Tribunal, segmental margins in so far as it relates to providing software services by Megasoft alone should be taken for the purpose of comparison.

17. As far as Tata Elxsi Ltd., a comparable chosen by the TPO is concerned, it was held in the case of 3DPLM Software Solutions Ltd., (supra) that this company is functionally different from a pure software development service provider such as the Assessee and it should be excluded for comparability purposes.

18. In view of the aforesaid decision, we hold that Tata Elxsi has to be excluded from the list of comparable chosen by the TPO.

19. After excluding the aforesaid comparable from the list of comparable chosen by the TPO, the TPO is directed to compute the arithmetic mean of profit margin of the remaining comparables and allow the benefit of +/- 5% range in accordance with the provisions of Sec.92C of the Act and rework the ALP. The relevant grounds of appeal of the Assessee are treated allowed to the extent indicated in this order and all other arguments raised in the grounds of appeal were not argued and need no adjudication.

TP ADJUSTMENT IN THE IT ENABLED SERVICES TRNSACTIONS WITH AE:

20. FINAL SET OF COMPARABLE COMPANIES CONSIDERED BY THE TPO AND THE OP TO TOAL COST %

Sl. No.	Company Name	OP to Total Cost %
1.	Maple eSolutions Ltd.	32.66
2.	Allsec Technologies Ltd	28.51
3.	Datamatics Financial Services Ltd. (Seg.)	24.99
4.	Transworks Information Services Ltd.	19.56
5.	Cosmic Global Ltd.(Seg.)	16.03
6.	Vishal Information Technologies Ltd.	19.56
7.	Asit C.Mehta Financial Services Ltd. (earlier known as Nucleus & GIS (India) Ltd.	34.52
8.	Goldstone Infratech Ltd. (Seg.) (earlier known as Goldstone Teleservices Ltd.)	29.01
9.	Spanco Ltd. (seg.) (earlier known as Spanco Telesystems & Solutions Ltd.)	20.86
10.	Ace Software Exports Ltd.	7.72
11.	Apex Knowledge Solutions Pvt.Ltd.	20.48
12.	R Systems International Ltd. (Seg.)	15.11
13.	Flextronics Software Systems Ltd. (Seg.)	14.54
	Average	24.00

21. The computation done by the TPO with RPT and other details are given as Annexure-II to this order which is at page-217 of the TPO’s order. The TPO finally passed an order u/s. 92CA of the Act and on the basis of the comparables set out above, arrived at arithmetic mean of 24.00%. After factoring the working capital adjustment of 2.06%, the adjusted arithmetic mean was determined at 21.94%. the computation of the ALP by the TPO in this regard was as follows:-

“39.5 Computation of Arms Length Price:

The arithmetic mean of the Profit Level indicators is taken as the arms length margin. (Please see Annexure E For details of computation of PLI of the comparables). Based on this, the arms length price of the software development services rendered by you is computed as under:

Arithmetic mean PLI	24.00%
Less: Working capital
Adjustment(Annexure-F)	2.06%
Adj.Arithmetic mean PLI	21.94%

Arm’s Length Price:

Operating Cost (Rs.29,61,56,385 +reimbursement of expenses Received Rs. 75,59,949	Rs.30,37,16,334
Arms Length Margin	21.94% of the operating cost
Arms Length Price (ALP) At 121.94% of operating cost	Rs.37,03,51,698

*excluding exchange loss, donation, loss on sale of assets, fringe benefit tax.

39.6 Price received vis-à-vis the Arms Length Price:

The price charged by the tax payer to its Associated Enterprises is compared to the Arms Length Price as under:

Arms Length Price (ALP) At 121.94% of operating cost	Rs. 37,03,51,698
Price charged in the international transactions	Rs.33,84,93,234
Shortfall being adjustment u/s.92CA	Rs.3,18,58,464

The above shortfall of Rs.3,18,58,464/- is treated as transfer pricing adjustment u/s 92CA.”

22. Against the said adjustment proposed by the TPO which was incorporated in the draft assessment order by the AO, the assessee filed objections before the DRP. The DRP rejected those objections and confirmed the transfer pricing adjustment suggested by the TPO. The adjustment confirmed by the DRP was added to the total income of the assessee by the AO in the fair order of assessment. Against the said order of the Assessing Officer, the assessee has preferred the present appeal before the Tribunal.

23. We have considered the rival submissions. As far as comparable companies chosen by the TPO at S.No.1,3,6,7 & 8 viz., Maple ESolution Ltd., Datamatics Financial Services Ltd., Vishal Information Technological Services Ltd., Asit C.Mehta Financial Services Ltd., and Gold Stone Infratech Ltd., in the list of comparable companies chosen by the TPO, we find that the Hyderabad Bench of the ITAT in the case of HSBC Electronic Data Processing India Ltd. Vs. ACIT, ITA No.1624/Hyd/2010 by order darted 28.6.2013 considered comparability of these companies in the case of a company engaged in rendering IT enabled services to its AE similar to that of the Assessee in the present case. The tribunal held that the aforesaid companies are not comparable. The following were the relevant observations of the Tribunal.

"8. The first objection is with reference to selection of comparable data by the TPO with reference to the following five companies-

(a) Vishal Information Technologies Ltd.

(b) Goldstone Infratech Ltd.

(e) Nucleus Netsoft & GIS(India) Ltd. (now known as (Asit C. Mehta Financial Services Ltd.)

Vishal Information Technologies Ltd.

9. The assessee’s objection with reference to inclusion of this comparable is on the reason that the company is functionally different, also does not satisfy the filters such as employee cost and on-site revenue filter. It was submitted that employee cost forms a major portion of the total cost of BPO services and in the assessee’s case employee cost is 62% of the total cost, whereas in the selected company the employee cost is less than 2%, which indicates that most of the work was outsourced and the outsourcing cost was at 88.64% of the operating cost. It was further submitted that the ITAT Bangalore in the case of First Advantage Off-shore Services (ITA No.1252/Bang/2010) has directed to use employee turnover filter in a consistent manner for selection of comparables and in the case of Maersk Global Services Centre (India) Pvt. Ltd. (14 ITR(Trib) 541) the Mumbai Bench of the Tribunal has analysed and rejected this company as comparable for the reason that it has outsourced a considerable portion of it’s business and is functionally different. Moreover, it was also submitted that the DRP in the later year of 2008-09 vide its order dated 3.8.2012 has rejected this company as a comparable (name changed to Coral Hub Ltd.), vide para 18 of the order, wherein ultimately, it was decided that there is major difference in functionality and the business model and the DRP Bench was of the view that Coral Hub (formerly known as Vishal Information Technology Ltd.) was not a suitable comparable and needs to be dropped from the final set of comparables. Based on the above submissions, it was submitted that this company cannot be used as a comparable and has to be excluded.

9.1. The learned Departmental Representative, however relied on the orders of the TPO.

9.2. After considering the rival contentions, we find considerable force in the contentions advanced by the learned counsel. There is no dispute with reference to the fact that most of the cost incurred by the company taken as comparable is outsourcing cost, as can be seen from the Annual report placed in the paper-book and ITAT, Mumbai in the case of Maersk Global Service Centre (supra) has analysed and rejected this company as comparable, due to the reason that it has outsourced a considerable portion of its business and it is functionally different. This factor was also approved by the DRP in assessee’s own case in the later year, as can be seen from the copy of the order placed on record, for assessment year 2008-09. In view of this, we direct the Assessing Officer to exclude this company from the list of comparables.

Goldstone Infratech Ltd

10. The assessee’s objection for inclusion of this comparable is on the basis of the filter on foreign exchange earnings, diminishing revenue filter and functionality, being run on lease basis. It was submitted that this company was rejected in the case of Stream International Services Pvt. Ltd. V/s. ADIT(International Taxation) by the Mumbai Bench of the Tribunal, vide its order dated 11.1.2013 in ITA No.8997/Mum/2010 for assessment year 2006-07.

10.1. After considering the rival contentions, we are of the opinion that the business model of the above company is different from that of the assessee. In this case, the foreign exchange revenue is less than 1% of the total turnover. Therefore, it fails the filter provided by the Assessing Officer, on the basis of the foreign exchange earnings. Further, the Revenue from BPO is failing over a period of three years. This issue was considered by the coordinate Bench (Mumbai Bench) of the Tribunal in the case of Stream International Services Ltd.(supra) wherein it was considered as under-

“14. The inclusion of second case objected to by the Id. AR is that of Goldstone Infratech Limited (Seg) (earlier known as Goldstone Teleservices Limited). Here it is relevant to note that the TPO, inter alia, applied filter of ‘Companies with export revenues more than 25% of the revenues’. Annual accounts of Goldstone Teleservices Limited indicate total revenue of the company at Rs. 30.89 crore from three segments, viz., Telecommunication at Rs. 13.63 crore, BPO at Rs. 5.02 crore and Insulator at Rs. 12.23 crore. The break up of such revenue of Goldstone Teleservices Limited has been provided at page 236 of the paper book. Schedule forming part of the annual accounts of Goldstone Teleservices Limited divulges earnings in foreign currency at Rs. 4.24 lakh. Such detail is available at page 239 of the paper book. When we compare earning in foreign currency at Rs. 4.24 lakh with the earnings of BPO at Rs. 5.02 crore or for that purpose of the entity as a whole at Rs. 30.89 crore, it becomes manifest that this case does not pass through the filter adopted by the TPO, being, the ‘companies whose export revenues are more than 25% of the revenues’.

Therefore, we are of the opinion, that this company cannot be considered as a comparable for the purpose of determining the ALP in this case. We direct the same to be excluded.

Datamatic Financial Services Ltd.

11. The assessee’s objection to inclusion of this comparable is on the basis of Related Party Transactions filter. It was submitted that RPT exceeds 25% of the sales and therefore, to be excluded. The assessee relied on the decision of the coordinate Bench of the Tribunal (Mumbai Bench) in the case of Stream International Services (supra), wherein, wherein with reference to this comparable company, it was held as under :

“11. The first is M/s. Datamatics Financial Services Limited. It can be observed that the TPO applied filter of “Companies with less than 25% related party transactions”. The learned Counsel for the assessee took us through the Annual accounts of Datamatics Financial Services Limited, and submitted that the gross income of this company for the year ending on 31.03.2006 was at Rs. 2.31 crore as against total expenses of Rs. 1.84 crore. Referring to pages 319 and 320 of the paper book, our attention was drawn towards Annexure-2 to demonstrate that the “Transactions with the Associated Parties within the meaning of section 92A and 92B of the Income-tax Act, 1961” showed one major transaction with Datamatics Limited towards ‘Reimbursement of expenses’ at Rs. 99.14 lakh. The learned AR contended that the transactions of Datamatics Financial Services Limited with other AEs amounted to Rs. 14.31 lakh making total of transactions with the AEs at Rs. 1.13 crore. It was submitted that the percentage of transaction with related parties is much more than 25%, being, the filter adopted by the TPO himself and hence the same should be excluded.

12. In the opposition, the learned Departmental Representative contended that the major transaction of Rs. 99.14 lakh of Datamatics Financial Services Limited with Datamatics Limited was towards ‘Reimbursement of expenses’. Since the reimbursement of expenses does not include any profit element, the Id. DR urged that the same be excluded. He stated that once this transaction is excluded, the other transaction of Rs. 14.31 lakh are less than 25% of the total transaction with related parties.

13. We do not find any force in the contention advanced by the learned Departmental Representative for the exclusion of transactions with Datamatics Limited towards ‘Reimbursement of expenses’ from the overall transactions entered into by Datamatics Financial Services Ltd. with its AEs. Section 92F(v) defines ‘transaction’ in the context of transfer pricing provisions to include an arrangement, understanding or action in concert whether or not it is formal or in writing or whether or not it is intended to be enforceable by legal proceeding. There is no reference to any transaction having necessarily including profit element or mark-up so as to fall within the definition of ‘transaction’ under Chapter X of the Income-tax Act. Since the TPO applied filter of having companies with less than 25% related party transactions, it is not open to argue that the transactions of reimbursement of expenses duly reported by Datamatics Financial Services Limited as an ‘international transaction’ within the meaning of section 92B should be ignored simply because they represent reimbursement of expenses. If the contention of the Id. DR that the reimbursement of expenses not involving profit element should not be construed as a transaction, is taken to a logical conclusion, it would mean that all such dealings will cease to be transactions for the purposes of ChapterX of the Act. Once these dealings are not considered as ‘transactions’, these will also cease to be international transactions, going out of the purview of section 92 itself. Obviously, such a view point is contrary to the clear intention and the language of the relevant provisions. A pure reimbursement of expenses by one AE to another AE is very much a ‘transaction’ as per section 92F(v) and consequently is equally an international transaction as per section 92B requiring consideration as per section 92 of the Act. Be that as it may, the learned Departmental Representative could not demonstrate the fact that such reimbursement of expenses was without any markup. As the so called comparable case of Datamatics Financial Services Limited was included by the TPO in the final list of comparables, in our considered opinion, the same is liable to be excluded as it involves related party transactions at much higher level, as against the filter adopted by the TPO himself, being companies with less than 25% related party transactions. We order accordingly.”

In view of the above, since this company fails in this filter adopted by the TPO, we direct the TPO to exclude this company from the list of comparables adopted.

Maple e-Solutions Ltd.

12. The objection of the assessee with reference to this company is with regard to the financials of the company, on the ground of unreliability of data. It was submitted that selection of this company was rejected in the case of CRM Services India Pvt. Ltd in ITA No.468/Del/2009 and also in the case of Stream International Services (supra). Further, the assessee also relied on the DRP order in assessment year 2007-08, with reference to the above company.

12.1. We have considered the rival sub missions. We agree with the objections of the assessee. In the case of Stream International Services P. Ltd. (supra), it is held with reference to this company as under :

“18. We are unable to uphold the contention raised by the learned Departmental Representative. It is apparent from two orders passed - one by the Delhi Bench and the other by the Hyderabad Bench of the Tribunal - that the case of Maple eSolutions Limited has been directed to be excluded from the list of comparables. As the assessment year under consideration is 2006-2007 and the Delhi Bench of the Tribunal has also considered the same assessment year while directing the exclusion of the case of Maple e Solutions Limited from the list of comparables, we are unable to accept the contention of the Id. DR in this regard. It is more so because no contrary view has been brought by the Ld. DR to our notice. Respectfully following the precedents, we direct the exclusion of this case from the final list of comparables."

Since the DRP in assessee’s own case for assessment year 2007-08 also considered and excluded this company, we uphold the assessee’s objection in this regard and direct the Assessing Officer to exclude this company from the comparables adopted.

Nucleus Netsoft & GIS(India) Ltd.

13. The last objection was with reference to the above company, which is on similar facts as that of Vishal Information Technologies, discussed above. It was submitted that this company is functionally different and fails under the employee cost filter. It was further submitted that there is a scheme of amalgamation of earlier company by the orders of the Hon’ble High Court of Judicature of Bombay, on 22.2.2006 and in view of amalgamation, the financials have changed and the business model also changed. Referring to the annual report placed on record, it was submitted that as against Rs. 24.02 lakhs of employee costs for the year ending 31st March, 2005, the employee cost has increased to Rs. 132.59 lakhs. Further, the data processing charges is also to the extent of Rs. 1.04 crores, which indicates that the assessee is outsourcing the work. Accordingly, it cannot be selected as a comparable. Due to amalgamation during the year, the assessee’s business model has changed and because of employee cost filter also, this comparable has to be excluded.

13.1. After considering the rival submissions, we are of the opinion that this company cannot be selected as a comparable not only on the reason of failing employee cost filter, but also due to amalgamation during the year, which has changed the business model of the company.

14. In view of the foregoing discussion, we agree with the assessee’s objection that the above five comparables should be excluded.

24. The facts and circumstances and the Assessment year for which the aforesaid companies were not considered as comparable are identical to the case decided by the Hyderabad Bench of ITAT and that of the case of the Assessee. Respectfully following the decision of the Hyderabad Bench of ITAT, we direct the TPO to exclude the aforesaid companies from the list of comparable while arriving at the arithmetic mean of comparable. The relevant grounds of appeal of the Assessee are allowed.

25. The learned counsel further submitted that the comparable company chosen by the TPO viz., Apex Knowledge Solution Pvt.Ltd., should be excluded from the list of comparable companies chosen by the TPO. In this regard our attention was drawn to the decision of the ITAT Bangalore Bench in the case of Google India Pvt. Ltd. Vs. DCIT ITA No.1368/Bang/2010 (AY 06-07) order dated 19.10.2012.

26. We have considered the submission of the learned counsel for the Assessee. We find that in the case of Google India Pvt.Ltd. (supra), this Tribunal in the case of TP adjustment in IT enabled services segment of an Assessee for AY 06-07 considered the comparability of the company M/s.Apex Knowledge Solution Pvt.Ltd. in the IT Enabled Services segment. The tribunal in para-16 of its order held that the said company is not functional comparable as it provides services such as E-publishing knowledge based services etc. In view of the above, we direct the TPO to exclude the aforesaid company also from the final list of comparable companies for the purpose of determining the ALP.

27. The learned counsel for the Assessee submitted that after excluding the aforesaid 6 companies from the list of comparable and if the (-) (+) 5% adjustment under proviso to Sec.92C is considered than the Assessee’s margin would be held to be at Arm’s Length. The AO/TPO is accordingly directed to work out the profits margins after excluding the aforesaid companies and determine the ALP.

28. In ground No.36 the Assessee has projected the following grievance:

“36. Reimbursement of Expenses are not related to services rendered but are pure cost reimbursements and hence should not be marked up.

- The appellant wishes to reiterate the fact that the Honourable DRP ought to have appreciated that reimbursements received are not in respect of any services rendered but in fact constitute payments made for administrative convenience.

- The Honourable DRP has not accepted the reimbursement of expenses at cost and erroneously added it back to the cost base for the purpose of a mark-up.

29. We have already seen that the Assessee received a sum of Rs. 2,32,47,077 from its AE and the same has been shown as an international transaction with AE by the Assessee in the report u/s.92CE of the Act. According to the TPO, the Assessee did not give any details with regard to reimbursement of expenses (received) to the extent of Rs. 2,32,47,077. According to the TPO, the Assessee only took a stand that the transfer pricing provisions do not provide any detailed guidelines or framework on the method of computation of ALP in respect of reimbursement. The TPO therefore called upon the Assessee vide letter dated 22-07-2009, to give nature of reimbursement of expenses and also clarify whether such expenses are routed through the profit and toss account, if yes, to specify the head(s) under which it is shown, If no, specify as to why such expenditure should not be included as part of the Assessee’s operating cost and thus for mark-up. According to the TPO, the Assessee did not offer any comments. Therefore the TPO presumed that the reimbursement of expenses received is not routed through profit and loss account and these expenses are incurred in connection with rendering software development services. According to the TPO, no independent party would render such services without any mark up. The TPO therefore added the reimbursement of expenses (received) of Rs. 2,32,47,077/- to the operating revenues as well as the operating costs for the purpose of aggregation of transactions and determining arm’s length price under TNMM. Further the TPO observed that the reimbursement of expenses pertaining to each segment is not available. He proceeded to apportion the expenses between the software development and ITES segments in the ratio of segment turnover (67.48% : 32.52%). Thus the reimbursement of expenses were added to the revenues and costs in the above ratio i.e. Rs. 1,56,87,128/- in the software development segment and Rs. 75,59,948 in the ITES segment for comparability analysis under TNMM.

30. Before DRP, the Assessee submitted that the reimbursement of expense received are nothing but expenses incurred on behalf of related parties for administrative convenience. The Assessee pointed out that during the previous year, it had paid expat tax for the employees deputed by Tesco Stores Limited, UK (parent company) to work as part of various projects conducted by the assessee. The assessee also paid a certain amount as interest for the delay in the payment of Tax Deducted at Source (TDS). All these expenses were cross charged by the assessee to Tesco Stores Limited, UK who reimbursed the same at cost, without any mark up. The details of expat tax and interest paid on delay in the payment of TDS were also provided as given below:-

Expat Tax Details for the financial year 2005-2006
Sl. No.	Name of the Expat	Tax (Rs)	Interest (Rs)	Total Income Tax (Rs)
1	Tim Sea	2,240,802	145,652	2,386,454
2	Sangenu Park	2,101,111	136,572	2,237,683
3	Henry Kang	2,395,230	155,690	2,550,920
4	Philip Greenwood	4,806,569	312,247	5,118,996
5	Ushir Bhatt	2,572,258	67,197	2,739,45
6	David Briggs	3,911,924	254,275	4,166,199
7	Peter Hanlon	1,654,880	107,567	1,762,447
8	Roger Morgan	1,360,427	88,428	1,448,855
9	Sarah Morgan	878,935	57,131	936,066
	Total	21,922,137	1,424,939	23,347,076

31. The ledger entries pertaining to the abovementioned transactions were provided as Appendix 25A to the objections filed before the DRP. The challans in support of the payment of the abovementioned expat tax and the interest on delayed payment of TDS were also provided as Annexure to the objections before the DRP. Sample invoice copies of the reimbursements received were also provided as Annexure to the objections filed before the DRP.

32. The assessee also placed reliance on Circular no. 87-2R dated 27 September 1999 of the Canada Customs and Revenue Agency wherein it has been stated that often the price the recipient is willing to pay for the service does not exceed the cost of supply to the service supplier.

“163. Arm’s length service suppliers would usually expect to recover their costs plus an element of profit. However, in determining an Arm’s Length charge for service, one must also take into account the economic alternatives available to the recipient of the service. Often, the price the recipient is willing to pay for the service does not exceed the cost of supply to the service supplier.”

The above has been explained by means of an example:

“For example, in many cases, the services provided through intra-group arrangements are administrative or ancillary in nature, and the participants would only have been prepared to centralize the activity if they could share in the cost savings. Cost may represent an arm’s length charge in such situations.

164. Determining whether a mark-up is appropriate and, where applicable, the quantum of the mark-up, requires careful consideration of factors such as:

- the nature of the activity;

- the significance of the activity to the group;

- the relative efficiency of the service supplier; and

- any advantage that the activity creates for the group.

For example, the relative efficiency of arm’s length service suppliers may not be comparable to the intra-group services where the intra-group services ore offered as a convenience to the group and not as an ordinary and recurrent activity.”

“165. As discussed in paragraph 7.36 of the OECD Guidelines, it is important to distinguish between the situation of a taxpayer who renders services for the other members of a group; and a taxpayer who acts solely as an agent on behalf of the group to acquire services from an arm’s length party. In the latter situation, the arm’s length compensation would be limited to rewarding the agency role. In such a case, it would not be appropriate to determine an arm’s length charge by referring to a mark-up on the cost of the services acquired from an arm’s length party. Whether a taxpayer is providing a service or merely acting as an agent on behalf of the group is a question of fact.”

33. The DRP however did not agree with the submissions of the Assessee and held as follows:

“The reason why the TPO has considered a mark up is that arm’s length service suppliers would usually expect to recover their cots plus element of profit. Therefore, in determining arm’s length charge for service one must also take into account the economic alternatives available to the recipient of the service. We agree with the reasoning of the TPO.”

34. Aggrieved by the order of the DRP, the Assessee has raised Ground No.36 before the Tribunal. We have heard the rival submissions. The learned counsel for the Assessee reiterated submissions made before the DRP. The learned DR relied on the order of the DRP.

35. We have considered the rival submissions. As observed in the OECD commentaries referred to in the Circular of the Canada Customs and Revenue Agency, it is important to distinguish between the situation of a taxpayer who renders services for the other members of a group; and a taxpayer who acts solely as an agent on behalf of the group to acquire services from an arm’s length party. In the latter situation, the arm’s length compensation would be limited to rewarding the agency role. In such a case, it would not be appropriate to determine an arm’s length charge by referring to a mark-up on the cost of the services acquired from an arm’s length party. Whether a taxpayer is providing a service or merely acting as an agent on behalf of the group is a question of fact.

36. In the present case, the details given before the DRP clearly shows that what the Assessee received as reimbursement from the AE is nothing but the expat tax paid and interest paid on delay in the payment of TDS. There can be no element of service in such payment. The taxpayer should be considered as having acted solely as an agent on behalf of the group to acquire services from an arm’s length party. In such cases, it would not be appropriate to determine an arm’s length charge by referring to a mark-up on the cost of the services acquired from an arm’s length party. We therefore hold that the reimbursement of expenses be excluded from the revenues and costs in the ratio i.e. Rs. 1,56,87,128/- in the software development segment and Rs. 75,59,948 in the ITES segment for comparability analysis under TNMM as was done by the TPO and direct the TPO to compute the ALP after such exclusion. Ground No.36 is accordingly allowed.

37. Assessee in the ground No.38 of grounds of appeal before the Tribunal has also projected its grievance regarding the action of the learned Assessing Officer and the Dispute Resolution Panel in excluding while computing deduction u/s.10A of the Act telecommunication charges and insurance expenses of and expenses incurred in foreign current from the export turnover. It is the plea of the Assessee that at all times during the relevant previous year, it was engaged in development of computer software and not in rendering any technical services. Without prejudice to its contention that the aforesaid sums should not be excluded from the export turnover while computing deduction u/s.10A of the Act, the Assessee has also made an alternate prayer that expenses that are reduced from the export turnover should also be reduced from the total turnover and in this regard has placed reliance on the decision of the Hon’ble Karnataka High Court in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn).

38. We have heard the ld. counsel for the assessee and the ld. DR on the issues raised in this regard. Taking into consideration the decision rendered by the Hon’ble High Court of Karnataka in the case of CIT v. Tata Elxsi Ltd [2012] 349 ITR 98 (Karn), we are of the view that it would be just and appropriate to direct the Assessing Officer to exclude telecommunication charges and insurance charges incurred be excluded both from export turnover and total turnover, as has been prayed for by the assessee in the alternative. In view of the acceptance of the alternative prayer, we are of the view that no adjudication is required on the ground whether the aforesaid sums are required to be excluded from the export turnover.

39. In the result the appeal by the Assessee is partly allowed.

Pronounced in the open court on this 26^th day of May, 2015.

DISCLAIMER: Though all efforts have been made to reproduce the order accurately and correctly however the access, usage and circulation is subject to the condition that VATinfoline Multimedia is not responsible/liable for any loss or damage caused to anyone due to any mistake/error/omissions.