Income Tax Appellate Tribunal - Delhi
Transwitch India Pvt. Ltd., New Delhi vs Assessee
ITA NO. 6083/DEL/2010
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCH "H" NEW DELHI
BEFORE SHRI A.D. JAIN, JUDICIAL MEMBER
AND
SHRI SHAMIM YAHYA, ACCOUNTANT MEMBER
I.T.A. No. 6083/Del/2010
A.Y. : 2006-07
Transwitch India Pvt. Ltd., vs. Deputy Commissioner of Income
A-27, Mohan Cooperative Indl. Tax,
Estate, New Delhi - 110 044 Circle 16,
(PAN : AAACT4902H) New Delhi
(Appellant ) (Respondent )
Assessee by : Sh. Ajay Vohra, Sh. Neeraj Jain,
Advocates, Ms. Archana Gupta,
Sh. Abhishek Aggarwal and Sh. R.
Katyal, CAs'
Department by : Dr. B.R.R. Kumar, Sr. D.R.
ORDER
PER SHAMIM YAHYA: AM This appeal by the assessee is directed against the order of the Assessing Officer dated 15.10.2010 passed u/s. 143(3) read with section 144C of the IT Act, 1961.
2. The assessee has submitted the modified grounds which read as under:-
"1. That on the facts and circumstances of the case the impugned assessment dated 15.10.2010 completed under 1 ITA NO. 6083/DEL/2010 section 143(3) read with section 144C of the Income-tax Act, 1961 ('the Act') on the basis of directions issued by the Dispute Resolution Panel ("DRP"), is illegal and bad in law.
2. That the assessing officer erred on facts and in law in completing the assessment under section 143(3) read with section 144C of the Income Tax Act. 1961 ('The Act") at income of Rs. 3,65,27,090 against returned income of Rs. 1,72,83,305.
3. That the assessing officer erred on facts and in law in making an addition of Rs.1,38,85,561/- on account of alleged difference in the Arm's Length Price of the 'international transaction' of provision of software design and development services to its holding company on the basis of the order passed under section 92CA(3) of the Act by the Transfer Pricing Officer (TPO).
3.1 That the Learned TPO erred on facts and in law in rejecting the following comparable companies allegedly for the reason that related party transactions therein exceeded 15% of their total sales without appreciating the fact that by 2 ITA NO. 6083/DEL/2010 considering consolidated financial statement, the related party transactions get evened out.
(i) ASM Technologies Ltd.
(ii) Blue Star Infotech Ltd.
(iii) Ontrack Systems Ltd.
(iv) Pentasoft Tech. Ltd.
(v) PSI Data Systems Ltd.
(vi) Subex Systems Ltd.
4. That the Learned TPO erred on facts and in law in rejection the following comparable companies on the ground that the same were persistent loss making companies:
(i) Cressanda Solutions Ltd.
(ii) Cyberspace Multimedia Ltd.
(iii) Essel Software & Services Limited
(iv) Melstar Information Technologies Limited
(v) SQL Star International Limited
3
ITA NO. 6083/DEL/2010
5. That the Learned TPO has erred on facts and in law in considering the following companies as comparable companies not appreciating that the same were functionally not comparable to the appellant:
1. ICSA India Ltd.
2. MYM Limited
3. KALS Info Systems India Ltd.
4. Vishesh Infotechnics Ltd.
5. Synergy Technologies Ltd.
6. Without prejudice that the Learned TPO erred on facts and in law in not considering operating profit margin of Synergy Login Systems at 5.84% computed on the basis of stand alone financial statement instead of 30.42% computed on the basis of consolidated financial statement.
6.1 That the Learned TPO erred on facts and in law in selecting MYM limited as a comparable ignoring the fact that the company had abnormally high depreciation of 22% of its revenue and at the same time rejecting Orient Info Technology on the ground that it had extra-ordinary high depreciation.
4
ITA NO. 6083/DEL/2010
7. That the Learned TPO erred on fact and in law in selecting Vishesh Infotechnics Ltd. and Helios & Matheson Information Technology Ltd. ignoring the fact that these company had carried out extensive restructuring activity during the year.
8. Without prejudice that the learned TPO erred on facts and in law in not making appropriate adjustment to the extent of 15% (as per decision of the Hon'ble ITAT Delhi in the case of Rolls Royce Plc vs DDIT) to the profit margin of ICSA India Limited and Vishesh Infotechnics Ltd. on account of such companies having been engaged in research and development activities.
9. That the Learned TPO erred on facts and in law In including the following new companies in the list of com parables by expanding the sales filter from Rs. 200 crores to Rs. 500 crores:
(i) Mphasis B F L Ltd.
(ii) Sasken Communication Tech Ltd.
5
ITA NO. 6083/DEL/2010
10. That the Learned TPO erred on facts and in law in not allowing an adjustment of Rs. 1,11,73,078 while determining ALP in case of the appellant on account of extraordinary expense (loss) comprising of
(i) relocation expense (including brokerage) for new premise - Rs. 3,288,224
(ii) Additional rent paid fro 2 months - Rs. 3,972,626
(iii) Salary paid for unproductive/idle hours - Rs. 4,578,633
11. That the assessing officer/the TPO erred on facts and in law in not allowing risk adjustment out of the ALP determined for various risks assumed by the appellant during the course of business which were different from those assumed by companies included by the TPO.
12. Without prejudice, the assessing officer / the TPO erred on facts and in law .in not allowing benefit of variation between the ALP determined by TPO and the price shown by the appellant to the extent of (+) / (-) 5% in terms of proviso to Section 92C(2) of the Income Tax Act.
6
ITA NO. 6083/DEL/2010
13. That the Learned assessing officer erred on facts and in law in treating the office relocation expense incurred amounting to Rs.32,88,224 for shifting of office by the appellant in order to avoid the drive undertaken by MCD for sealing the office premises of commercial establishments located in residential areas as capital expenditure and disallowing the claim of the appellant for revenue expense made u/s 37(1).
14. That the Learned assessing officer considering the activity of shifting of office premises at par with that of "Re- establishment of Business" thereby indicating that the appellant derived some enduring benefit of continuing nature as a result of this shifting of office.
15. That the Ld. assessing officer has erred on facts and in law by treating recruitment expense amounting to Rs.20,70,000 incurred for fee paid to consultants and recruitment agencies, advertisement etc. as capital expenditure and disallowing, the claim of the appellant for revenue expenses made u/s 37(1).
16. That if the contention of Learned assessing officer that the office relocation expenses were actually capital expenditure 7 ITA NO. 6083/DEL/2010 was to be accepted for the sake of argument, then Learned assessing officer should have allowed adjustment of RS.32,88,224 incurred on shifting of office premises from the ALP determined by TPO, as capital expenditure could not have been treated as part of Operating Cost for determination of ALP of internati09-al transaction undertaken by the appellant and vice-versa. The appellant craves leave to add, alter, amend or vary from the aforesaid grounds of appeal before or at the time of hearing."
3. The brief facts of the case are as under:-
"The appellant Transwitch India P. Ltd. (or 'TIPL'), a company incorporated under the Companies Act, 1956, is a wholly owned subsidiary of Transwitch Corporation, USA. The appellant operates a design centre for its parent company for design and development of software and related services. The appellant is a captive unit of its parent company and has no business transactions with any outside entity.
During the financial year under consideration, the appellant had undertaken the international transactions of provision of 8 ITA NO. 6083/DEL/2010 software development services amounting to Rs. 15,95,61,82!- with its associated enterprise.
The appellant has applied Transactional Net Margin Method (TNMM) as the most appropriate method with OP/TC as the Profit Level Indicator (PU) for benchmarking the international transaction of provision of software development service.
The appellant had considered three years weighted average profit margin of (OP/OC) of 34 comparable companies. The result of TNMM analysis is as under:
Weighted average OP/ OC % of34 comparable)companies - 7.93% OP/OC % of the appellant - 8.39% The operating profit margin (OP/OC) earned by the appellant at 8.39% was higher than the weighted average of operating profit margin of comparable companies at 7.93%. Accordingly, the international transaction of provision of software design and development services was considered to be at arm's length price.
9
ITA NO. 6083/DEL/2010 The TPO vide show cause notice dated 29.7.2009, however, sought to reject some of the comparable companies identified by the appellant ( on the ground of RPT exceeding 15% of sales and persistent loss, etc) and sought to include 14 new comparables in the list of comparables.
In response thereto, vide reply dated 4.9.2009 , the appellant out of the aggregate of 38 companies, had submitted operating profit margin (OP/OC) of 23 companies on the basis of current year data, as under:
Weighted average OP/ OC % of24 comparable companies (-) 1.37% OP/ OC % of the appellant 8.39% The operating profit margin (OP/OC) earned by the appellant at 8.39% being higher than the weighted average of operating profit margin of 23 comparable companies at (-) 1.37%, the international transaction of provision of software design and development services was considered to be at arm's length price.
The TPO, however, in his order, rejected the following companies out of the set of 23 comparable .companies identified by the appellant in the Transfer Pricing documentation for the reasons as under:
10
ITA NO. 6083/DEL/2010
S. No. Name Reason
1. ASM Technologies Ltd. - Related party transaction exceeds 15% of the sales.
2. Blue Star Infotech Ltd. - Related party transaction exceeds 15% of 'the sales.
3. Ontrack Systems Ltd. - Related party transaction exceeds 15% of the sales.
4. Pentasoft Tech. Ltd. - Related party transaction exceeds 15% of the sales.
5. PSI Data Systems Ltd. Related party/transaction exceeds 15% of the sales.
6. Subex Systems Ltd. - Related party transaction exceeds 15% of the sales.
7. Cressanda Solutions Ltd. Persistently loss making.
8. Cyber Space Multimedia Ltd. Persistently loss making.
9. Essel Software and Services Ltd. Persistently loss making.
10. Melstar Info Technology Persistently loss making.
11. Orient Info Technologies Ltd. Extraordinarily high depreciation during the year.
12. Space Computers and Systems Ltd. - No service income, only trading income during the year.
13. SQL Star IntI. Ltd. Persistently loss making.
The appellant objected the inclusion of 13 comparable companies identified by the TPO on various grounds. However, the TPO has considered 9 companies as comparables out of his own list of 13 companies along with 11 com parables out of 23 comparables 11 ITA NO. 6083/DEL/2010 identified by the appellant and arrived at a set of 20 comparable companies, as under:
S. No. Name OP/TC (200603) 1. Computech IntI. Ltd. 04.59 2. Goldstone Technologies Ltd. 04.78 3. IKF Tech Ltd. 11.57 4. IT People India Ltd. 07.77 5. Maars Software International Ltd. 12.51 6. Megasoft Ltd. 24.67 7. R S Software Ltd. 14.36 8. Shri Tulsi Online Com Ltd. 03.32 9. Visual Soft Technologies Ltd. 13.05 10. VMF Softech Limited 06.50
11. Helios & Matheson Information technologies ltd. 25.08
12. ICS (India) Limited 30.44
13. Kals Info System 45.09
14. Mphasis B F I Ltd. 26.24
15. MYM Tech Ltd. 33.72
16. Sasken Communication Tech Ltd. 07.28 12 ITA NO. 6083/DEL/2010
-17. Synergy Login Systems Ltd. 30.42
18. Syntairos Technologies Ltd. 20.21
19. Vishesh Infotechnics Ltd. 20.76
20. Astra Bio Systems Ltd. -0.52 Arithmatic Mean 17.09% The TPO accordingly, in the order passed under section 92CA(3) of the Act, computed an adjustment of Rs. 1,38,85,561/- to the arm's length price of the 'international transactions' applying TNMM as under:
Total cost of provision of services by the assessee (a) - Rs. 148129154 OP/OC 17.09 Margin @ 17.09% as discussed above (b) 2,53,18,235 Arm's length price A (a+b) 17,34,47,389 Price at which international transaction has been undertaken B - Rs. 15,95,61,828 Difference A-B 1,38,85,561 % of difference with B above 8.70%
4. We first take up ground no. 10 raised by the assessee for adjudication. The said ground reads as under:-
"That the Learned TPO erred on facts and in law in not allowing an adjustment of Rs. 1,11,73,078 while 13 ITA NO. 6083/DEL/2010 determining ALP in case of the appellant on account of extraordinary expense (loss) comprising of
(i) relocation expense (including brokerage) for new premise - Rs. 3,288,224
(ii) Additional rent paid fro 2 months - Rs. 3,972,626
(iii) Salary paid for unproductive/idle hours - Rs.
4,578,633"
4.1 On this issue before the TPO assessee has submitted as under:-
"During the financial year 2005-06, the assessee shifted its office due to the sealing drive of Municipal Corporation of Delhi. The assessee shifted its office from Safdarjung Enclave to Mohan Cooperative Industrial Estate. The Assessee had to pay two (2) months of extra rent for the year and brokerage to engage the new office. Further, because of shift in the office, the employees of the assessee were idle and unproductive from 01-March-06 to 25-March- 06 as the normal operations commenced from the new office with effect from 25-March, 2006 ........................................................................................... 14
ITA NO. 6083/DEL/2010 The above evidence demonstrates that the assessee could not carry out normal operations in this period. The costs mentioned above were unproductive costs and were not billed to the parent company. As per the service agreement between the assessee and its parent company, the remuneration for software development services rendered by the assessee was fixed at $35 per man our. The unproductive hours during the period 1-March-06 to 25-March-06 were not billed to the parent company. This resulted in reduced revenue during the financial year under consideration.
The adjusted NCPM of the assessee, after excluding the above mentioned abnormal cost is 17.23%."
4.2 The TPO was not in agreement with the assessee's submissions and rejected the same by holding as under:-
- The newspaper article refers to an office in GK-I whereas in the submission quoted above and the Customs License the office of the assessee was in Safdarjung Enclave. The newspaper clipping is clearly unreliable. 15
ITA NO. 6083/DEL/2010
- As per the newspaper article it is dear that MCD had not sealed the premises in GK-l as on 1st March, 2006 and the assessee's argument that no work was done during the month of March, 2006 i.e. the last month of the relevant FY is not acceptable.
- The assessee has not given a copy of the MCD notice whereby its office premises were ordered to be shut down.
- No communication with its parent showing the assessee's inability to carry out any work during March 2006 has been submitted in the course of hearings.
- Further, Customs License indicating change of address with effect form 22.3.2006 also does not indicate that the earlier license had lapsed and no business could be affected. In fact the license had already been renewed upto 31.12.2006 on 8.3.2006 at the old address.
- Even if for the sake of argument it is accepted that the assessee's office premises were sealed the nature of assessee's business is such that shifting of business from one premise to the other can be effected over a weekend with out causing any disruption. Hence, the assessee's 16 ITA NO. 6083/DEL/2010 argument that unproductive hours during the period 01.03.06 to 25.3.2006 were not billed to the parent company has no merit
- The assessee has shown additional rent paid to MGF Developments Ltd amounting to ` 39,72,626/- for the month of February and March, 2006 for his new premises at Mohan Cooperative Industrial Estate. The fact that the assessee has already rented new premises in February, 2006 defeats the assessee's argument that its work suffered in March, 2006 because of the sealing drive. The assessee's submission of closure of business on account of sealing drive is consequently untenable unacceptable.
- As discussed above the assessee's claim that the sealing drive reduced its revenues remains unsubstantiated. Consequently its claim of abnormal cost amounting to ` 1,11,73,078/- is also not acceptable. Such costs are normal business requirements and adjustment for the same are not justified.
- Lastly, and most importantly no such claim for adjustment of abnormal cost had been made by the assessee in its 17 ITA NO. 6083/DEL/2010 transfer pricing report and the assessee's argument appears to be a desperate measure to somehow increase its NCPM.
In view of the points discussed above, the assessee's claim for adjusted net cost plus markup of 17.23% is not tenable and is hereby rejected." 4.3 Assessee's submissions relating to ground no. 10 are as under:-
Re:- Comparability adjustments :
The cardinal principle of the transfer pricing regulations is to compare like with like and to eliminate differences, if any, by suitable adjustment. During the relevant previous year, owing to the sealing drive undertaken by the Municipal Corporation of Delhi ('MCD'), the appellant had to shift its office premises from Safdarjung Enclave (a residential area) to Mohan Cooperative Industrial Estate (a commercial area) on a very short notice. As a result of the aforesaid shifting of office premises, the appellant had to incur following abnormal costs:
Particulars Amount (Rs)
Relocation expense (including brokerage) 32,88,224
18
ITA NO. 6083/DEL/2010
for new premise
Additional rent paid for 2 months 39,72,626
Salary paid for unproductive/Idle hours 45,78,633
Total 1,18,39,483
After making adjustment for the aforesaid abnormal expenses, the operating margin ('OP/OC') of the appellant increases to 17.80%, as computed below:
Particulars Amount
Cost of provision of software service 14,81,29,154
Less: Abnormal expenses
a. Office relocation expense 32,88,224
b. Additional rent paid 39,72,626
c. salary paid for unproductive/Idle hours 45,78,633
Adjusted Cost of provision of service 13,62,89,671
Operating Revenue of the appellant 16,05,59,393
Adjusted profit of the appellant 2,42,69,722
Adjusted OP/OC% 17.80%
19
ITA NO. 6083/DEL/2010
Since, the adjusted operating margin of the appellant at 17.80% is higher than the operating margin of 17.09% earned by the comparable companies selected by the TPO, it is respectfully submitted that the international transactions undertaken by the appellant satisfies the arm's length criteria.
The TPO, however, rejected the aforesaid claim of comparability adjustment on account of abnormal expenses incurred by the appellant. The contentions of the TPO for rejecting the appellant's claim towards comparability adjustments and the appellant's response to such contentions are summarized below:
a) TPO's Contention: The appellant has not provided the copy of MCD notices whereby its office premises were ordered to be shut down and that the office premises of the appellant was not sealed by the MCD Appellant's Response:
It is respectfully submitted that the appellant had placed on record a newspaper clipping wherein the fact that the appellant was at the relevant time operating from a residential area was clearly stated. Therefore, it was probable that the said premises, from which the assessee operated at the relevant time, could have been sealed on 20 ITA NO. 6083/DEL/2010 account of the unauthorized use of a residential premises for commercial purpose. It would be appreciated that in such an event, the operation of the appellant would have faced certain halt leading to disruption of business and loss of goodwill and significant revenue. In order to avoid such an eventuality, the appellant decided to shift its office premises to a commercial area and in the process incurred the aforesaid abnormal expenses. It is respectfully submitted that the appellant had to shift its office owing to the sealing drive by the MCD and the fact whether its office was actually sealed or not is irrelevant. It is therefore, respectfully submitted that the rejection of appellant's claim towards comparability adjustment on the ground that its premises was not actually sealed is unjustified and unfounded.
b) TPO's Contention: No communication with its parent showing assessee's inability to carry out any work during March 2006 has been submitted in the course of the hearings Appellant's Response:
It is submitted that the assessee is responsible for conducting and managing its business. Further, this is an irrelevant consideration and does not have any bearing on the allowability of comparability 21 ITA NO. 6083/DEL/2010 adjustments on account of abnormal expenses incurred by the appellant.
c) TPO's Contention: Custom license indicating change of address with effect from 22.03.2006 also does not indicate that the earlier license had lapsed and no business could be affected. In fact the license had already been renewed up to 31.12.2006 on 08.03.2006 at the old address.
Appellant's Response:
It is respectfully submitted that the appellant had placed on record approval from the Software Technology Park of India ('STPI') authorizing change in the address from Safdarjung Enclave to Mohan Co-operative Industrial Estate. The custom license was initially granted to the appellant in respect of its premises at A-2/9 and A -218, Safdarjung Enclave, New Delhi - 110029. The appellant had also placed on record copy of custom license approving the change of address w.e.f. March 22, 2006 to Mohan Co-operative Industrial Estate. However, the fact that the appellant was entitled to carry on its operation under the same custom license from its new premises at Mohan Co-operative Industrial Estate is evident from the. noting made by the custom officials on the license, acknowledging the change of 22 ITA NO. 6083/DEL/2010 address from Safdarjung Enclave to Mohan Co-operative Industrial Estate. It is therefore, submitted that the rejection of appellant's claim towards comparability adjustments by the TPO on the aforesaid ground is not tenable.
d) TPO's Contention: The nature of appellant's business is such that shifting of business from one premises to another can be effected over a weekend, without causing disruption to the business of the appellant.
Appellant's Response:
It is respectfully submitted that before the operations of the appellant could be shifted from one premises to another, the necessary equipments & devices such computers systems, servers, storage devises, power backup devices etc. had to be dismantled from the existing premises and re-installed at the new premises. A detailed list of equipments which were shifted from the old premises at Safdarjung Enclave to new premises at Mohan Co-operative Industrial Estate was also placed on record before the TPO. The dismantling and re- installation of such equipments requires considerable time and technical skills. It is respectfully submitted that the operations of the appellant could not have commenced till the time such equipments and devices were dismantled and re-installed at the new premises. In 23 ITA NO. 6083/DEL/2010 view of the aforesaid, it is respectfully submitted that the contention of the TPO, that the operations of the appellant could have been shifted over a weekend is unfounded and based upon misconceived understanding ofthe facts and circumstances of the case.
e) TPO's Contention: The appellant had already paid additional rent for two months for its new premises. This fact defeats the appellant's argument that its work suffered due to the sealing drive.
Appellant's Response:
It is respectfully submitted that even though the appellant had leased the new premises and paid rent for the months of February and March, it could not have commenced its commercial operations from such premises, till the time necessary infrastructure in the form of fixtures, power supply etc. was established. Further, as submitted above, before the operations of the appellant could be shifted from one premises to another, the necessary equipments & devices had to be installed at the new premises. It is respectfully submitted that the aforesaid activities also require considerable time and the appellant therefore, had to pay rent for the period during which the aforesaid infrastructure was established at the new premises.
24
ITA NO. 6083/DEL/2010
f) TPO's Contention: the claim of the appellant that the sealing drive reduced its revenue is unsubstantiated Appellant's Response:
It is respectfully submitted that the appellant had placed on record its quarterly capacity utilization statement demonstrating the fall in its capacity utilization during the quarter January to March 2006. The capacity utilization of the appellant during the quarter January to March 2006 fell to 72% as against the normal capacity utilization of 87% to 94% during the financial year ending December 31, 2005. Further, the fact that the appellant had to shift its office premises at a very short notice, sufficiently substantiates the low capacity utilization of the appellant during the last quarter of financial year 2005-06.
g) TPO's Contention: No claim for such comparability adjustment was made by the assessee in the TP documentation Appellant's response:
It is respectfully submitted that the TPO is required to compute the arm's length price after considering all the facts and material placed before him by the assessee. It would be inappropriate to reject the claim of the assessee towards comparability adjustment merely on the ground that the same was not included in the TP study. Section 25 ITA NO. 6083/DEL/2010 92CA(3) of the Act specifically requires the TPO to take into consideration all the evidence which the assessee may produce during the course of hearing. The relevant extract of section 92CA(3) is reproduced below:
"(3) On the date specified in the notice under sub-
section (2), or as soon thereafter as may be. after hearing such evidence as the assessee may produce. including any information or documents referred to in sub-section (3) of section 92D and after considering such evidence as the Transfer Pricing Officer may require on any specified points and after taking into account all relevant materials which he has gathered, the Transfer Pricing Officer shall, by order in writing, determine the arm's length price in relation to the international transaction in accordance with sub- section (3) of section 92C and send a copy of his order to the Assessing Officer and to the assessee. "
It is further respectfully submitted that the fact that the aforesaid claim for a comparability adjustment on account of abnormal cost aggregating to Rs. 1,18,39,483 was not made in the Transfer Pricing documentation, would not act as an estoppel against the assessee and 26 ITA NO. 6083/DEL/2010 the TPO was required to consider the claim made by the assessee in the course of the assessment proceedings before him. Reliance in this regard is also placed on the decision of the Supreme Court in the case of CIT vs. C.Parakh & Co. (India) Ltd. 29ITR 661, wherein it was held as under:
"'On the question of the admissibility of the deduction of Rs 1,23,719, the contention of the appellant is that as the respondent had itself split up the commission of Rs 3,12 699 paid to the managing agents, and appropriated Rs 1,23,719 thereof to the profits earned at Karachi and had debited the same with it, it was not entitled to go back upon it, and claim the amount as a deduction against the Indian profits. We do not see any force in this contention. Whether the respondent is entitled to a particular deduction or not will depend on the provision of law relating thereto, and not on the view which it might take of its rights, and consequently, if the whole of the commission is under the law liable to be deducted against the Indian profits, the respondent cannot he estopped from claiming the benefit of such deduction, by reason of the fact that it erroneously allocated a part of it towards the profits earned in Karachi. What has therefore to be determined is whether, notwithstanding the apportionment made 27 ITA NO. 6083/DEL/2010 by the respondent in the profit and loss statements, the deduction is admissible under the law.
Reliance is also placed on the following decisions of the Benches of the Tribunal, wherein it is held that the fact that the assessee did not make a claim in the Transfer Pricing documentation, the same would not act as an estoppels and the said claim could even be made before the appellate authority:
- DCIT vs. Quark Systems Pvt. Ltd. (ITA No. 1 15/Chd/2009)
- Honeywell Automation India Pvt. Ltd. vs. DCIT (ITA No. 4/PN/08)
- Sapient Corporation Pvt. Ltd.vs. DCIT (ITA NO. 5263/De1/2010)
- DCIT vs. BP India Services Pvt. Ltd. (ITA No. 4425/Mum/20 10)
- DCIT vs Quark Systems Pvt. Ltd. (ITA NO.1 00/CHD/2009) In view of the aforesaid, it is respectfully submitted that the TPO ought to have considered the claim of the appellant made vide letter dated 22.10.2009 towards adjustment for abnormal expenses irrespective of the fact that such claim was not made by the appellant in the Transfer pricing documentation.
It is respectfully submitted that the transfer pricing regulations clearly provide for adjustments in margins of the enterprise entering into international transactions for any differences between such 28 ITA NO. 6083/DEL/2010 international transactions and the transaction of the comparables or between the enterprise entering into international transactions and comparable companies.
Reliance is also placed on the following decisions of the Benches of the Tribunal, wherein undertaking economic adjustment for improved comparability of the entities being compared for benchmarking experience has been emphasized.
- Mentor Graphics (Noida) : Private Limited: 109ITD 101 (Del),
- Sony India (P) Limited: 106 ITD 175 (Del).
- Skoda Auto India (P) Ltd. vs. ACIT : 122 ITJ 699 (Pune)
- Schefenacker Motherson Ltd. vs. ITa (in ITA Nos. 4459 & 4469/Del/07),
- Honeywell Automation India Pvt. Ltd. vs. DCIT (ITA No. 4/PN/08),
- Egain Communication Pvt. Ltd. vs. ITa: 118 ITD 243 (Pune) In the case of the appellant, while undertaking the benchmarking analysis applying TNMM, in order to make comparison of like to like, the following comparability adjustments on account of abnormal expenses incurred by the appellant for shifting of its office premises are required to be made.
29
ITA NO. 6083/DEL/2010 4.4 Ld. Departmental Representative on the other hand relied upon the order of the TPO's in this regard.
4.5 We have heard the rival contentions in light of the material produced and precedent relied upon. We find that assessee has cogently rebutted the TPO's reservation on assessee's plea in this regard.
4.6 As regards TPO's contention that assessee has not provided the copy of MCD notices whereby its offices premises were ordered to be shut down and that the office premises of the assessee was not sealed by the MCD. In order to avoid such an eventuality, the assessee decided to shift its office premises to a commercial area and in the process incurred the aforesaid abnormal expenses. Hence, there is considerable cogency in the assessee's submission that the rejection of assessee's claim towards comparability adjustment on the ground that its premises was not actually sealed is unjustified and unfounded. 4.7 As regards TPO's contention that no communication with its parent showing assessee's inability to carry out work during March, 2006 has been submitted in the course of the hearings. Assessee has rightly contended that the assessee is responsible for conducting and 30 ITA NO. 6083/DEL/2010 managing its business. This reservation of the TPO was irrelevant consideration and we agree with the same.
4.8 Another TPO's contention was that Custom license indicating change of address with effect from 22.3.2006 also does not indicate that the earlier license had lapsed and no business could be affected. In fact the license had already been renewed upto 31.3.2006 on 8.3.2006 at the old address. In this regard assessee has contended that assessee has placed on record approval from the Software Technology Park of India (STPI) authorizing change in the address from Safdarjung Enclave to Mohan Cooperative Industrial Estate. The custom licnese was initially granted to the assessee in respect of its premises at A-2/9 and A-2/8, Safdarjung Enclave, New Delhi - 29. The assessee had also placed on record the copy of the custom license approving the change of address w.e.f. March, 22, 2006 to Mohan Cooperative Industrial Estate. However, the fact that the assessee was entitled to carry on its operation under the same custom license from its new premises at Mohan Cooperative Industrial Estate is evident from the noting made by the custom officials on the licenses, acknowledging the change of address from Safdarjung Enclave to Mohan Cooperative Industrial Estate. Thus, we find that assessee has cogently rebutted TPO reservation in this regard. 31
ITA NO. 6083/DEL/2010 4.9 Another TPO's contention is the nature of assessee's business is such that shifting of business from one premises to another can be effected over a weekend, without causing disruption to the business of the assessee. In this regard we agree with the contention of the assessee that before the operations of the assessee could be shifted from one premises to another, the necessary equipments and devices computers systems, servers, storage devices, power backup devices etc. had to be dismantled from the existing premises and re-installed at the new premises. The dismantling and re-installation of such equipments requires considerable time and technical skills. As such, we do not agree with the TPO's contention that the shifting could have been done over a weekend time.
4.10 Another TPO contention is that that the assessee had already paid additional rent for two months for its new premises. This fact defeats the assessee's argument that its work suffered due to the sealing drive. In this regard, assessee has submitted that even though the assessee had leased the new premises and paid rent for the months of February and March, it could not have commenced its commercial operations from such premises, till the time necessary infrastructure in the form of fixtures, power supply etc. was established. Further, before the operations of the assessee could be 32 ITA NO. 6083/DEL/2010 shifted from one premises to another, the necessary equipments and devices had to be installed at the new premises. The entire process and activity require considerable time and the assessee therefore, had to pay rent for the period during which the aforesaid infrastructure was established at the new premises. Hence, we find ourselves in agreement with the assessee's contention in this regard. 4.11 Another TPO's contention is that claim of the assessee that the sealing drive reduced its revenue is unsubstantiated. In this regard, assessee has submitted that the assessee had placed on record its quarterly capacity utilization statement demonstrating the fall in its capacity utilization during the quarter January to March, 2006. The capacity utilization of the assessee during the quarter January to March, 2006 fell to 72% as against the normal capacity utilization of 87% to 94% during the financial year ending December, 31, 2005. Further, the fact that the assessee had to shift its office premises at a very short notice, sufficiently substantiates the low capacity utilization of the assessee during the last quarter of financial year 2005-06. We find our ourselves in agreement with the assessee's submission in this regard.
4.12 Another TPO's contention is that no claim for such comparability adjustment was made by the assessee in the TP 33 ITA NO. 6083/DEL/2010 documentation. In this regard assessee has submitted that the TPO required to compute arms length price after considering all the facts and material placed before him by the assessee. It has been pleaded that it would be inappropriate to reject the claim of the assessee towards comparability adjustment merely on the ground that the same was not included in the TP Study. Section 92CA(3) of the Act specifically requires the TPO to take into consideration all the evidence which the assessee may produce during the course of hearing. Thus, the assessee's contention has considerable cogency that the aforesaid claim for a comparability adjustment on account of abnormal cost aggregating to ` 1,18,39,483/- was not made in the Transfer Pricing documentation, would not act as an estoppels against the assessee and the TPO was required to consider the claim made by the assessee in the course of assessment proceedings before him. The assessee reliance in this regard upon the Hon'ble Supreme Court decision in the case of C.I.T. vs. C. Parakh & Co. (India) Ltd. 29 ITR 661 which is also germane. In this regard assessee has also placed reliance upon the catena of decisions of the Tribunal wherein it has been held that the fact that the assessee did not make a claim in the Transfer Pricing Documentation, the same would not act as an 34 ITA NO. 6083/DEL/2010 estoppel and the said claim could even be made before the appellate authority.
5. In the background of the aforesaid discussions and precedents relied upon, we find that TPO's reservation on the assessee's clam is not cogent one and the assessee has quite convincing rebutted TPO's reservation. Under the circumstances, in our considered opinion, adjustment for impugned expenditure totaling to ` 1,18,39,483/- was justifiably claimed by the assessee. After making the adjustment for the aforesaid abnormal expenses, the operating margin (OP/OC) of the assessee increases to 17.80%. Since the adjusted operating margin of the assessee at 17.80% is higher than the operating margin of 17.09% earned by the comparable companies selected by the TPO, we agree with the submissions of the assessee that international transactions undertaken by the assessee satisfies the arm's length criteria. Hence, we hold that TPO has wrongly rejected the aforesaid claim of comparability adjustment on account of abnormal expenses incurred by the assessee and allow the assessee's appeal on this issue.
5.1 Since the adjudication on this issue has resulted in operating margin of the assessee at 17.80% which is higher than the operating margin of 17.09% earned by the comparable companies selected by the TPO, international transactions undertaken by the assessee 35 ITA NO. 6083/DEL/2010 satisfies the arm's length criteria. In such scenario, as agreed by both the counsel, adjudication of another Transfer Pricing issue in this regard is infructuous. Accordingly, we are not dealing with the other issues of transfer pricing raised by the assessee in the ground of appeal.
6. Now we take up the ground no. 13 which reads as under:-
"That the Learned assessing officer erred on facts and in law in treating the office relocation expense incurred amounting to Rs.32,88,224 for shifting of office by the appellant in order to avoid the drive undertaken by MCD for sealing the office premises of commercial establishments located in residential areas as capital expenditure and disallowing the claim of the appellant for revenue expense made u/s 37(1)."
7. It has further been submitted that Assessing Officer is wrong in considering the activity of the shifting of office at par with the re- establishment of business. On this issue Assessing Officer found that assessee has claimed office relocation expenses of ` 32,88,224/-. Justification for claiming the office relocation expenses as revenue expenditure was submitted as under:-
36
ITA NO. 6083/DEL/2010 "It is s submitted that during the year under consideration, the Company had shifted its office from Safdurjung Enclave (a residential area) to Mohan Co-operative Industrial Estate at a very short notice. Details of office relocation expenses alongwith copies of invoice and supporting documents ore enclosed as Annexure I. It is submitted that relocation expenses consists of brokerage charges paid to broker for new premises, packing and forwarding charges, shifting charges of UPS, STP; circuit and loading unloading charges. It is further submitted that appropriate TDS was also deducted and deposited by the Company on the above payments.
In this connection, it is submitted that above expenditure has been merely incurred to guard against various security / other concerns which may arise on the assessee by virtue of the presence of a commercial establishment in a residential area. The said expenditure has been incurred to facilitate efficient conduct of the business by shifting the office premises to a commercial area. No enduring benefit or an advantage in the capital field has been derived by the assessee on account of the 37 ITA NO. 6083/DEL/2010 aforesaid expenditure. It is submitted that the same has been incurred in the normal course of business and are allowable as revenue deduction.
In this regard, kind attention is invited to the decision of the Hon'ble Supreme Court in the case of Empire Jute Co. Ltd. Vs C.I.T. (124 ITR 1), wherein the test for determining as to what constitutes capital expenditure has been laid down in the following terms:-
"It is not every advantage of enduring nature acquired by an assessee that brings the case within the principle laid down in this test. What is material to consider is the nature of the advantage in a commercial sense and it is only where the advantage is in the capital field that the expenditure would be disallowable on an application of this test. If the advantage consists merely in facilitating the assessee's trading operations or enabling the management and conduct of the assessee's business to be carried on more efficiently or more profitably while leaving the fixed capital untouched, the expenditure would be on revenue account, even 38 ITA NO. 6083/DEL/2010 though the advantage may endure for an indefinite future...."
The ratio decidendi laid down in the aforesaid judgment has been reiterated by the Supreme Court in Ld. Commissioner of Income Tax Vs Associated Cement Companies Ltd. (172 ITR 257), and again in the case of Alembic Chemical Works Co. Ltd. Vs C.I.T.(177 ITR 377). Further, in the case of C.I.T. vs Brakes India Ltd. (161 Taxman 47), Hon'ble' Chennai High Court held that "expenses incurred by the assessee on relocating its plant by way of readjustment within the some factory shed to achieve better productivity were deductible as business expenditure." (Copy enclosed as Annexure- II).
Hence, in view of the above, it is submitted that relocation expenses are in the nature of revenue expenditure and shall be allowed as allowable deduction under section37 of the Act."
8. Assessing Officer was not convinced by the assessee's arguments. He held that this expenditure is capital in nature. In this regard, Assessing Officer also placed reliance upon the Hon'ble Patna High Court decision in the case of C.I.T. vs. Jamshedpur Engg. And 39 ITA NO. 6083/DEL/2010 Machine Mfg. Co. Ltd. (1986) 157 ITR 730 in which it has been specifically observed that the expense incurred in connection with the shifting including the expenses in the form of payments made to the lawyers could not be categorized as revenue expenditure in nature.
9. Upon assessee's appeal DRP affirmed the Assessing Officer's action.
10 Assessee is aggrieved on account of this finding of the Assessing Officer.
11. In this regard, it has been submitted that the relocation expenses were incurred by the assessee on shifting of its office from Safdarjung Enclave to Mohan Cooperative Industrial Estate due to drive of MCD for sealing of premises. By shifting the operations to a new premises situated in a commercial area, the assessee was able to ward off the impending risk of sealing of MCD and save its business from discontinuance. The said expenses incurred on relocation of the office are essentially revenue expenses in as much as it did not result in enduring benefit in the capital field, as per the test laid down by the Hon'ble Supreme court in the case of Empire Jute Company vs. C.I.T. 125 ITR 1 (SC) and reiterated in C.I.T. vs. Madras Auto Service Pvt. Ltd. 233 ITR 468. Therefore, we hold that the claim of the assessee 40 ITA NO. 6083/DEL/2010 for relocation expenses of ` 32,88,224/- ought to be allowed in full under the provisions of section 37(1) of the IT Act.
12. Now we take up the ground no. 15 which reads as under:-
"That the Ld. assessing officer has erred on facts and in law by treating recruitment expense amounting to Rs.20,70,000 incurred for fee paid to consultants and recruitment agencies, advertisement etc. as capital expenditure and disallowing, the claim of the appellant for revenue expenses made u/s 37(1)."
13. On this issue assessee submitted before the Assessing Officer as under:-
"Recruitment expenses incurred by the assessee consist of payment made to consultants for hiring the employees, advertisement expenses for recruitment new employees etc. (details enclosed as Annexure III). The same has been incurred in the normal course of business and is allowable revenue deduction under section 37 of the Act. Following the ratio decidendi of the decision of the Supreme Court in the case of Empire Jute (supra), it is submitted that no enduring benefit has been derived by the assessee by 41 ITA NO. 6083/DEL/2010 virtue of incurring the above expenditure. Further, appropriate TDS was also deducted and deposited by the company on the above payments.
It is submitted that company is in the business of development of computer software and major expenditure was incurred by the company on salaries and allowances paid to the employees. Hence, company was necessarily required to incur the expenditure on recruitment of employees.
Hon'ble Delhi ITAT decision in the case of DCIT vs. Bechtel India P Ltd. (ITA Nos. 4278/Del/2005) and 1803/Del/2006) had noted that recruitment and training expenses incurred by the assessee company was not related to the capital filed and having regard to the nature of its business, the same was clearly of revenue nature being incurred for the purpose of increasing the efficiency of its business. Accordingly, Tribunal had allowed the deduction to the assessee on account of expenditure incurred on recruitment and training expenses. (copy enclosed as Annexure -IV).
42
ITA NO. 6083/DEL/2010 Further, in the case of Bhel-GE Gas Turbine Services (P) Ltd. vs. JCIT (ITA No. 490/Del/2005), Hon'ble Delhi ITAT has also allowed the deduction on account of recruitment expenses being revenue in nature. (Copy enclosed as Annexure V).
Hence, in view of the above, it is submitted that recruitment expenses are in the nature of revenue expenditure and shall be allowed as allowable deduction under section 37 of the Act."
13.1 The Assessing Officer was not convinced by the above arguments. He held that assessee is engaged in the business of development of computer software and the human resource power is the main basis power, based on which the assessee is earning its income. Expenses incurred in relation to the main building blocks of the company i.e. human resource power will give the enduring benefits to the assessee, therefore, the expenses incurred in relation to the same can not be allowed to the assessee by considering the same as revenue in nature. Therefore, the Assessing Officer held that expenses incurred in relation to the recruitment of main staff of the assessee company, which is a software developer is considered to be capital in nature and the same was therefore disallowed. 43
ITA NO. 6083/DEL/2010
14. Upon the assessee's appeal the DRP upheld the Assessing Officer's action.
15. We have heard the rival contentions in light of the material produced and precedent relied upon. Ld. counsel of the assessee submitted that during the year consideration, the assessee incurred an aggregate amount of ` 20,70,000/- as recruitment expenses, being expenses incurred in relation to hiring of employees, which were paid to consultants and for advertisement and other incidental expenses as revenue expenditure. We agree that the aforesaid expenditure are essentially on revenue account and did not result in either an enduring benefit in capital filed or creation of capital assets as per the test laid down by the Hon'ble Supreme Court in the case of Empire Jute Co. Ltd. vs. C.I.T. 124 ITR 1. Thus, we hold that recruitment expenses of ` 20,70,000/- essentially revenue expenditure is to be allowed.
16. In the result, the appeal filed by the assessee stands allowed in the manner as aforesaid.
Order pronounced in the open court on 30/3/2012. Sd/-
Sd/- Sd/-
Sd/-
[A.D. JAIN]
JAIN] [SHAMIM YAHYA]
JUDICIAL MEMBER ACCOUNTANT MEMBER
Date 30/3/2012
"SRBHATNAGAR"
Copy forwarded to: -
1. Appellant 2. Respondent 3. CIT 4. CIT (A)
5. DR, ITAT
TRUE COPY
By Order,
Assistant Registrar, ITAT, Delhi Benches
44