Income Tax Appellate Tribunal - Delhi
H&S Software Development And Knowledge ... vs Ito, New Delhi on 20 March, 2018
IN THE INCOME TAX APPELLATE TRIBUNAL
(DELHI BENCH 'I-2' : NEW DELHI)
BEFORE SHRI N.K. SAINI, ACCOUNTANT MEMBER
and
SHRI KULDIP SINGH, JUDICIAL MEMBER
ITA No.516/Del./2015
(ASSESSMENT YEAR : 2010-11)
M/s. H & S Software Development vs. DCIT, Ward 11 (1),
and Knowledge Management Centre New Delhi.
Pvt. Ltd.,
MVLi Park Unit No.501 & 502,
5th Floor, Near Red Cross Society,
Sector 15, Part II,
Gurgaon - 122 001 (Haryana)
(PAN : AABCH2697E)
(APPELLANT) (RESPONDENT)
ASSESSEE BY : S/Shri Manoneet Dala & Vishnu Goel, ARs
S/Shri Gaurav Bhutani & Veenu Agarwal, CAs
REVENUE BY : Shri H.K. Choudhary, CIT DR
Date of Hearing : 25.01.2018
Date of Order : 20.03.2018
ORDER
PER KULDIP SINGH, JUDICIAL MEMBER :
The Appellant, M/s. H & S Software Development and Knowledge Management Centre Pvt. Ltd. (hereinafter referred to as 'the taxpayer') by filing the present appeal sought to set aside the impugned order dated 27.11.2014, passed by the AO in consonance with the orders passed by the ld. DRP/TPO under 2 ITA No.516/Del/2015 section 143 (3) read with section 144C of the Income-tax Act, 1961 (for short 'the Act') qua the assessment year 2010-11 on the grounds inter alia that :-
"1. That on the facts and in the circumstances of the case and in law, the Ld. Assessing Officer ("AO") erred in assessing the total income of the Appellant at Rs.22,530,675/- as against income of Rs.1,932,894/- returned by the Appellant, after making transfer pricing adjustment of Rs.20,288,060/- and reducing expenditure amounting to Rs.2,091,983/- from 'export turnover' for the purposes of computing deduction under section 10A of the Act.
For Transfer Pricing Matters:
2. That on facts and circumstances of the case and in law, the reference made by the Ld. AO suffers from jurisdictional error as the Ld. AO did not record any reasons in the assessment order based on which he reached the conclusion that it was "expedient and necessary" to refer the matter to the Ld. Transfer Pricing Officer ("TPO") for computation of the arm's length price, as is required under section 92 CA (1) of the Act.
3. That on the facts and circumstances of the case and in law, the Ld. AO erred in determining the arm's length price ("ALP") of the Appellant's international transactions at Rs.161,838,198/- as against Rs.l41,550,138/- determined by the Appellant and recommending an addition of Rs.20,288,060/- on that account to the Appellant's income by:
3.1 modifying the comparability analysis conducted in the transfer pricing documentation of the Appellant on inappropriate and inadequate grounds:
3.2 rejecting the applicability of functional filter applied in the search process by the Appellant:3 ITA No.516/Del/2015
3.3 adopting a new search criterion and inconsistently applying certain additional quantitative filters:
3.4 rejecting the comparable companies selected by the Appellant without providing cogent and sufficient reasoning:
3.5 selecting companies which were not comparable to the Appellant on various grounds:
3.6 confirming the selection of current year (i.e. financial year 2009-10) data for comparability;
3.7 erred in not appreciating the fact that there is no motive pm the part of the Appellant to shift the profits to any other jurisdiction since it claims tax holiday benefits as per the Software Technology Park of India.
For Corporate Tax Matters:
4. Based on the facts and circumstances of the case, the Ld. AO has erred in law as well as on facts in holding that the expenditure incurred by the Assessee in foreign currency towards communication charges amounting to Rs.1,84,211/- has to be excluded from the export turnover for the purpose of computing the amount of deduction under section 10A of the Act, without appreciating the fact that the said expenses are not attributable to deliver any article or thing or computer software outside India and have not been incurred in providing technical services outside India.
The same relates only to the input services used by the Assessee for software development in India.
4.1 Without prejudice to the above, based on the facts and circumstances of the case, the Ld. AO has erred in law as well as on the facts of the case by excluding the foreign currency expenditure towards communication charges amounting to Rs.1,84,211/- from 'export turnover' without reducing the same from the 'total turnover' for the purpose of computing deduction under section 10A of the Act.
4 ITA No.516/Del/2015
5. Based on the facts and circumstances of the case, the Ld. AO has erred in law as well as on facts in holding that the expenditure incurred by the Assessee in foreign currency towards database fees amounting to Rs.19,07,772/- has to be excluded from the export turnover for the purpose of computing the amount of deduction under section 10A of the Act, without appreciating the fact that the said expenses have not been incurred in providing technical services outside India. The same relates only to the input services used by the Assessee during the course of its normal operations in India.
5.1 Without prejudice to the above, based on the facts and circumstances of the case, the Ld. AO has erred in law as well as on the facts of the case by excluding the foreign currency expenditure towards database fees amounting to Rs.19,07,772/- from 'export turnover' without reducing the same from the 'total turnover' for the purpose of computing deduction under section 10A of the Act.
6. That on the facts and circumstances of the case and in law the Ld. AO/ Ld. TPO erred in not examining the validity of initiation of penalty proceedings u/s 271 (1) (c) of the Act.
7. That on the facts and circumstances of the case and in law, the Ld. AO erred in charging and computing interest under section 234B, 234C and 234D of the Act."
2. Briefly stated the facts necessary for adjudication of the controversy at hand are : M/s. H & S Software Development and Knowledge Management Centre Pvt. Ltd. (H&S KMC), the taxpayer performs back office functions relating to creation and maintenance of database of prospective employees and candidates 5 ITA No.516/Del/2015 who have sent their resumes to Heidrick & Struggles (H&S) Group. The database is Search Palace, Heidrick & Struggles group's proprietary software tool, used to perform all of Heidrick & Struggles group's services whereas Group company is the owner of intangibles associated with Search Palace. The taxpayer is also responsible for maintaining and developing the software and other related tools. Thus, H&S KMC India, the taxpayer's activities are supporting H&S's intangible creation and maintenance activities particularly as it applies to the software tools. During the year under assessment, the taxpayer entered into international transaction with its Associated Enterprises (AE) as under :-
S.No. Nature of transactions TNMM Arm's length price as per taxpayer
(i) Database support and TNMM 14,15,50,138 research services
(ii) Database Fees TNMM 19,07,772
(iii) Restricted share units cost TNMM 12,91,126
(iv) Reimbursement of NA 21,03,646 expenses received
(v) Reimbursement of NA 52,744 expenses received
(vi) Reimbursement of NA 2,43,511 expenses paid
3. The taxpayer in its TP analysis applied Transactional Net Margin Method (TNMM) as the Most Appropriate Method (MAM) with Operating Profit / Operating Cost (OP/OC) as the Profit Level 6 ITA No.516/Del/2015 Indicator (PLI) in order to benchmark its international transactions by selecting 7 comparables having the average margin of 13.62% vis-à-vis taxpayer's margin of 13.81% and found its international transaction at arm's length.
4. However, TPO after accepting the method used by the taxpayer for TP analysis applied some additional filters and rejected 6 comparables out of 7 comparables chosen by the taxpayer and selected 11 new comparables having margin of 33.14% vis-à-vis taxpayer's margin of 13.81% and thereby made adjustment of Rs.240,44,219/- on account of arm's length. TPO, however, denied the working capital adjustment by adopting OECD methodology and applying the SBI prime lending rate, which was however granted by the ld. DRP.
5. The taxpayer carried the matter before the ld. DRP who has disposed of the objections by giving part relief as to providing working capital adjustment to the taxpayer. Feeling aggrieved, the taxpayer as well as Revenue have come up before the Tribunal by way of filing cross appeals. However, the cross appeal filed by the Revenue has already been dismissed vide ITA No.6662/Del/2014 order dated 04.01.2018 by the coordinate Bench of the Tribunal.
6. We have heard the ld. Authorized Representatives of the parties to the appeal, gone through the documents relied upon and 7 ITA No.516/Del/2015 orders passed by the revenue authorities below in the light of the facts and circumstances of the case.
GROUND NO.1
7. Ground No.1 is general in nature, hence does not require any specific adjudication.
GROUNDS NO.2 & 3
8. The ld. TPO after applying various filters chosen 1 comparable from 7 comparables selected by the taxpayer and introduced his own 11 comparables. The final list of comparables selected by the TPO for benchmarking the international transactions after directions issued by the ld. DRP by allowing working capital adjustment to the taxpayer is as under :-
Sl. Name of the comparable company Adjusted No. Average margin (2010) 1 Accentia Technology Ltd. 39.29% 2 Cosmic Global 15.78% 3 e4e Healthcare Ltd. 20.02% 4 Fortune Infotech Ltd. 20.39% 5 ICRA Techno Analystics Ltd. 22.49% 6 Infosys BPO Ltd. 28.89% 7 TCS Eserve International Ltd. 55.25% 8 TCS Eserve Ltd. 61.19% 9 Eclerx Services Ltd. 54.42% 10 Interglobe Technologies Ltd. 6.48% 11 Jindal Intellicom Ltd. 14.27% 12 Igate Global Solutions Ltd. 22.97% AVERAGE 30.12% 8 ITA No.516/Del/2015
9. TPO on the basis of average margin of comparable at 30.12% vis-à-vis 13.81% of the taxpayer computed Arm's Length Price (ALP) as under :-
Operational Cost 12,43,76,113 Arm's Length Price at a Margin of 16,18,38,198.24 30.12% Price Received 14,15,50,138 Proposed Adjustment u/s 92CA 20,288,060 Hence, adjustment U/s. 92CA is revised in this case to Rs.20,288,060/- in place of Rs.2,40,44,219/- as made in the original order."
10. The ld. AR for the taxpayer in order to cut short its arguments sought exclusion of Accentia Technologies Limited, TCS Eserve Ltd. and TCS Eserve International Limited from the final set of comparables alleged to have been wrongly accepted as comparables by the TPO/DRP. We shall examine comparability of aforesaid comparables one by one as under.
ACCENTIA TECHNOLOGIES LIMITED (ACCENTIA)
11. Before TPO, the taxpayer has raised objection for its inclusion as comparable but TPO overruled the objection and observed that Accentia is into health care recycle management which is predominantly ITES and retained Accentia as a valid comparable.
9 ITA No.516/Del/2015
12. However, the ld. AR for the taxpayer sought exclusion of Accentia on grounds inter alia that it is functionally dissimilar.; that its segmental information is not available; that it has undergone extra ordinary events during the year under assessment and relied upon the decision of the coordinate Bench of the Tribunal in taxpayer's own case for AY 2007-08 in ITA No.6455/Del/2012, (relevant paras 15 - 19 - available at pages 130-131 of convenience paper book), Ameriprise India Pvt. Ltd. in ITA No.7014/Del/2014 for AY 2010-11 (relevant paras 8 - 8.2 available at pages 46 - 48 of convenience paper book) and Equant Solutions India Pvt. Ltd. in ITA No.1202/Del/2015 for AY 2010-11(relevant para 20 available at pages 83 - 87 of convenience paper book).
13. Perusal of relevant page 25 of convenience paper book of annual report of Accentia proves that currently, Accentia is offering the entire gamut of services under Healthcare Receivables Cycle management viz., Medical Transcription, Medical Coding and Billing and Receivables Management services, to different clients; in some cases separately and in some case, all the three different service are offered to the same client. The delivery of these services is using third party software in most cases and in some cases, using proprietary software. Same is the case with hardware infrastructure too. Furthermore, perusal of page 29 of the 10 ITA No.516/Del/2015 convenience paper book, which is schedule forming part of the consolidated balance sheet, shows that due to acquisition, there has been huge addition to the fixed assets by way of recognition of goodwill amounting to Rs.19,06,51,057/-. So, during the year under assessment, Accentia has acquired IG Group of companies consisting of three companies viz. Tactiq Ltd., Centric Ltd. and Neologiq Ltd., which are engaged in Full Product Development Lifecycle involving Electronic Design and development etc.
14. When we examine pages 30 & 31 of the Schedule forming part of the profit and loss account of Accentia, it becomes apparently clear that apart from the income of the Accentia, medical transcription, billing an decoding, it is also into developing own software products, but the said income is not shown separately rather the entire income is shown under head medical transcription, billing and collection, income from coding etc. So, its segmental information is not available.
15. Taking into consideration aforesaid facts qua Accentia, it was found to be an unsuitable comparable vis-à-vis taxpayer in its own case for AY 2007-08 (supra) and since then there is no change in the business model. Furthermore, Accentia has also not been found a suitable comparable in cases of Ameriprise India Pvt. Ltd. (supra) and Equant Solutions India Pvt. Ltd. (supra) by the 11 ITA No.516/Del/2015 coordinate Bench of the Tribunal vis-à-vis a routine ITES service provider like the taxpayer.
16. Keeping in view the facts inter alia that Accentia is into the field of medical transcription, billing and coding and also developing its own software products; that it has undergone extra ordinary events making huge addition in its assets impacting profitability because of acquisition and its segmental information is not available; it is not a suitable comparable vis-à-vis taxpayer which is a routine ITES service provider. So, we order to exclude Accentia from the final set of comparables.
TCS ESERVE LIMITED (TCS ESERVE)
17. TPO retained TCS Eserve as a comparable despite objections raised by the taxpayer. Now, the taxpayer sought exclusion of TCS Eserve on the grounds inter alia that it is functionally dissimilar; that it is a big brand being part of Tata Group; that it has highly fluctuating margin and incomparable size of operation. When we examine functional profile of TCS Eserve from page 45 of convenience paper book, TCS Eserve operation broadly comprise of transaction processing and technical service. Transaction process includes the broad spectrum of activities involving the processing, collections, customer care and payments 12 ITA No.516/Del/2015 relation to the services offered by Citigroup to its corporate and retail clients. Technical services involve software testing, verification and validation of software at the time of implementation and data centre management activities whereas the taxpayer is into providing back office services related to maintenance and database working on minimal risk.
18. Moreover, the taxpayer is a big brand of Tata Group and has paid royalty to the tune of Rs.42907 thousands to Tata Sons Limited. Moreover, TCS Eserve is having highly fluctuating margins which is tabulated by the taxpayer in its synopsis and reproduced as under for ready reference :-
Particulars FY 2010- FY 2009- FY 2008- FY 2007-08 11 10 09 Operating revenue 15,045,559 14,051,005 12,247,385 9,967,959 Growth (Y-o-Y) 7% 15% 23% NA Operating Cost 8,508,785 8,384,788 11,129,169 7,564,985 Growth (Y-o-Y) 1% -25% 47% NA Operating Profit 6,536,774 5,666,217 1,118,216 2,402,974 Growth (Y-o-Y) 15% 407% -53% NA OP/OC 76.82% 67.58% 10.05% 31.76%
19. Furthermore, when we compare the sales turnover of TCS Eserve which is Rs.1359.41 crores vis-à-vis Rs.14.15 crores of the taxpayer during the year under assessment, as is evident from page 47 of the convenience paper book, no doubt, apparently high turnover is not a ground to reject any comparable but when we examine it in the light of the fact that TCS Eserve is a big brand 13 ITA No.516/Del/2015 working as a full-fledged risk bearing entrepreneur, it certainly impacts its profitability.
20. Comparability of TCS Eserve was examined by the coordinate Bench of the Tribunal in Ameriprise India Pvt. Ltd. (supra) having similar business model like the taxpayer and has been ordered to be excluded from the final set of comparables by determining following findings :-
"12.5 We have gone through the annual report of Company and have carefully considered the reasoning given by coordinate Bench in the case of Techbook International P. Ltd. (supra). On perusal of Schedule 'O' - Notes to Accounts of the Standalone financials of the Company, it is clear that the Company is engaged in "transaction processing" and "technical services"
activities. No separate segmental details are available. On a careful reading of the decision of coordinate Bench in Techbook International P. Ltd. (supra) it is clear that Schedule 'O' - Notes to Accounts in respect to carried out by Company and relevant segmental details were never brought to the attention of the Bench. We find that in the absence of the availability of any such segregation of the total revenue of this company, it is not possible to separately consider its profitability from rendering of `Transaction processing services'. Thus, the entity level figures render this company as unfit for comparison. Following the above reasons also taken note in the case of TCS e-Serve International Limited, we order for the elimination of this company from the final set of comparables."
21. In view of what has been discussed above and following the decision rendered by the coordinate Bench of the Tribunal in Ameriprise India Pvt. Ltd. (supra), we are of the considered view 14 ITA No.516/Del/2015 that because of functional dissimilarity having high brand value, highly fluctuating margin and huge size of the company and its operation, TCS Eserve is not a valid comparable vis-à-vis the taxpayer which is into providing back office services related to maintenance and database working on minimal risk having meager turnover of Rs.14.15 crores.
TCS ESERVE INTERNATIONAL LTD.
(TCS ESERVE INTERNATIONAL
22. TPO retained this comparable despite objections raised by the taxpayer and DRP also concurred with the TPO in retaining this company as a comparable. Now, the taxpayer sought exclusion of TCS Eserve International on grounds inter alia that it is functionally dissimilar; that segmental data is not available; that it is providing services predominantly to the CITI Group; that the company's revenue and profitability has increased by 174% and 286% in FY 2008-09 and 2009-10 respectively as compared to preceding years; that it has huge brand value; that it has acquired CITI Group and relied upon the decisions of the coordinate Bench of the Tribunal in Ameriprise India Pvt. Ltd. (supra) and Equant Solutions India Pvt. Ltd. (supra).
23. When we examine profile of the TCS Eserve International from page 39 of the convenience paper book, its operations broadly 15 ITA No.516/Del/2015 comprise of transaction processing and technical services. Transaction processing includes the broad spectrum of activities involving the processing, collections, customer care and payroll relation to the services offered by Citigroup to its corporate and retail clients. Technical services involve testing, verification and validation of software at the time of implementation of data centre management.
24. Furthermore, when we examine notes forming part of the financial statement, available at page 41 of the convenience paper book, no segmental information is available qua ITES services and technical services. From the Director's report available at pages 42 & 43 of the convenience paper book referring Notes of Accounts of Annual Report, TCS International provides services pre- dominantly to Citi Group. This information is corroborated based on the extract of the acquisition provided below, where in the acquisition of Citi ABC arm also comes along with a $ 2.5 billion contract over a period of 9.5 years. Moreover, finance results of TCS Eserve International detailed at page 42 of the convenience paper book shows that acquisition led to huge profits which is extracted as under :-
"OPERATIONS & BUSINESS REVIEW 16 ITA No.516/Del/2015 Financial Year 2009-10 is the second year of operations for the Company and first full year as a step down subsidiary of Tata Consultancy Services Limited (TCS). Company has recorded all-round growth in volume of business and profitability in the year. Total income at Rs.150.40 crore was nearly three times higher as compared with last year income of Rs.54.64 crore. Of this, the operating income constituted Rs.149.29 crore, higher by 173% over previous year figure of Rs.54.46 crore and is entirely constituted of exports income. Other income amounting to Rs.110.53 lakhs is essentially the income earned from investment of surplus funds as against the previous year's Other Income of Rs.18.59 lakhs and is in line with the growth in operational income.
Reflecting growth in business, your Company registered a Profit after Tax of Rs.44.95 crore as previous year loss of Rs.24.54 crore. Your Company was able to expand its margins in this fiscal on the back of improved operational performance and increased utilization of infrastructure capacities created in the last year. The SEZ units of the Company at Gurgaon and Chennai have retained the status of "Net Foreign Exchange earner" within the meaning of the Special Economic Zones, Act, 2005. As on March 31, 2010, 1592 employees were on rolls of the company."
25. Moreover due to acquisition of TCS Eserve International by the Tata Group to whom it has paid Rs.3,737 thousands as Tata Brand Loyalty, its margin has been directly impacted.
26. The coordinate Bench of the Tribunal in Ameriprise India Pvt. Ltd. (supra) has held as under :
"11.2 We have heard the rival submissions and perused the relevant material on record. Notes to Accounts indicate that this company is engaged in the business of providing IT enabled services/BPO services primarily to Citigroup entities globally. The operations 17 ITA No.516/Del/2015 of this company : 'broadly comprise of transaction processing and technical services. Transaction processing includes the broad spectrum of activities involving processing, collections, customer care and payments in relation to the services offered by Citigroup to its corporate and retail clients. Technical services involve software testing, verification and validation of software at the time of implementation and data centre management activities.' It is manifest that this company is engaged in rendering BPO services to the banking and financial services industry (BFSI) and Travel, Tourism and Hospitality (TTH). It is providing services to BFSI and TTH and such services include `Transaction processing' and `Technical services'. In other words, the remuneration of this company from the above referred two segments includes compensation for rendering `Technical services' and `Transaction processing'. Insofar as the `Transaction processing' services are concerned, these are ITES, which are broadly similar to those rendered by the assessee, though not specifically similar. However, the `Technical services' involve software testing, verification and validation of software item, implementation and data centre management activities. The `Technical services' rendered by this company are in the nature of servicing and maintenance of software. At this stage, it is relevant to note that a company providing software services may be of two types, viz., a company providing software development services and a company providing software services other than software development services (hereinafter also called 'a company providing non-development software.)"
27. In the light of the profile of TCS Eserve International discussed in the preceding paras which is a big brand operating as full-fledged risk bearing company and its profitability has increased by 174% and 286% in FY 2008-09 and 2009-10 respectively due to acquisition and the fact that it is functionally 18 ITA No.516/Del/2015 dissimilar, it cannot be a valid comparable vis-à-vis taxpayer which is into providing back office services related to maintenance and database working on minimal risk as a captive service provider. So, we order to exclude TCS Eserve International as a comparable from the final list of comparables.
GROUNDS NO.4, 4.1, 5 & 5.1
28. AO has denied the benefit of inclusion of expenditure incurred by the taxpayer in foreign currency towards communication charges to the tune of Rs.1,84,211/- and expenditure incurred by the taxpayer in foreign currency in database fee amounting to Rs.19,07,772/- for the purpose of deduction u/s 10A of the Act by ignoring the settled proposition of law in various judgments rendered by the Tribunal as well as Hon'ble High Court particularly in DCIT vs. Binay Semantics Ltd.
- (2007) 109 TTJ 556 wherein it is held as under :-
"7.4 I have carefully considered the submission of the appellant as well as the order of the AO. The AO is not right in excluding other income while computing the profit eligible for deduction u/s 10A once again when the appellant itself had deducted it while computing the eligible deduction u/s 10A. This amounts to double disallowance. Therefore, the AO is directed to delete the deduction of Rs.1,41,274/- while calculating 10A deduction.
There is merit in excluding the 20% of the telecommunication expenses as calculated by him from the total turnover a well. This issue has been decided by the Higher Authorities in Tata Elxsi and other cases (supra).19 ITA No.516/Del/2015
Therefore, AO is directed to exclude the telecommunication expenses amounting to Rs.5,307,691/- (pertaining to this assessment year) from the total turnover while calculating the deduction u/s 10A of the IT Act. To this extent, relief is given to the assessee."
29. When it is not in dispute that for the purpose of section 10A, the term "total turnover" is to be interpreted by computing the entire export turnover as well as domestic turnover and in case, expenses are to be excluded from export turnover, the same are to be excluded from the total turnover for the purpose of computing the deduction u/s 10A of the Act. So, we are of the considered view that the AO has erred in not excluding the communication charges and expenditure incurred by the taxpayer in foreign currency in database fees of Rs.1,84,211/- and Rs.19,07,772/- respectively from the total turnover for the purpose of calculating the deduction u/s 10A of the Act. So, Grounds No.4, 4.1, 5 & 5.1 are determined in favour of the assessee.
30. Resultantly, the appeal filed by the taxpayer is partly allowed.
Order pronounced in open court on this 20th day of February, 2018.
Sd/- sd/-
(N.K. SAINI) (KULDIP SINGH)
ACCOUNTANT MEMBER JUDICIAL MEMBER
Dated the 20th day of March, 2018/TS
20 ITA No.516/Del/2015
Copy forwarded to:
1.Appellant
2.Respondent
3.CIT
4.CIT (A)
5.CIT(ITAT), New Delhi. AR, ITAT
NEW DELHI.