Madras High Court
M/S.Virtusa Consulting Services vs The Deputy Commissioner Of Income Tax on 4 February, 2021
Author: T.S.Sivagnanam
Bench: T.S.Sivagnanam, R.N.Manjula
T.C.A.No.996 of 2018
IN THE HIGH COURT OF JUDICATURE AT MADRAS
DATED : 04.02.2021
CORAM
THE HONOURABLE MR.JUSTICE T.S.SIVAGNANAM
and
THE HONOURABLE MS.JUSTICE R.N.MANJULA
Judgment Reserved On Judgment Pronounced On
18.01.2021 04.02.2021
T.C.A.No.996 of 2018
M/s.Virtusa Consulting Services
Private Limited,
No.34, IT Highway, Navallur,
Chennai – 600 130. .. Appellant
[cause title substituted vide order
dated 11.11.2020 in CMP.No.10142/2020]
-vs-
The Deputy Commissioner of Income Tax,
Company Circle 5 (2),
121, M.G. Road, Nungambakkam,
Chennai – 600 034. .. Respondent
Appeal under Section 260A of the Income Tax, 1961 against the
order dated 18.08.2017 made in I.T.A.No.615/Mds/2016 on the file of the
Income Tax Appellate Tribunal Bench 'D', Chennai for the assessment year
2011-12.
1/39
https://www.mhc.tn.gov.in/judis/
T.C.A.No.996 of 2018
For Appellant : Mr.Kamal Sawhney
Senior Counsel
Mr.Prashan Mehar Chandani
M/s.Amritha Sathyajith
for Mr.Arun Karthick Mohan
For Respondent : M/s.R.Hemalatha
Senior Standing Counsel
JUDGMENT
This appeal filed by the assessee under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as “the Act”) is directed against the order dated 18.08.2017 passed by the Income Tax Appellate Tribunal Bench 'D', Chennai (for brevity “the Tribunal”), in I.T.A.No.615/Mds/2016 for the assessment year 2011-12.
2.The tax case appeal was admitted on 03.01.2019 on the following substantial questions of law:-
i.Whether, under the facts and circumstances of the case and in law, the Tribunal was justified in rejecting the approach of considering foreign associated enterprises as tested party based on the available supporting material and evidences, which clearly demonstrate the least complex nature of the appellant's overseas subsidiaries ?2/39
https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 ii.Whether, under the facts and circumstances of the case and in law, the impugned order of the Tribunal is improper and erroneous for not having dealt with the grounds of appeal (transfer pricing as well as corporate tax) raised, submissions made and arguments placed during the hearing by the Senior Legal Counsel, thereby resulting in violation of the principles of natural justice in the absence of cogent reasons ?
iii.Whether, under the facts and circumstances of the case and in law, the Transfer Pricing Officer was justified in not resorting to internal TNMM (transactional net margin method) over external TNMM for benchmarking the international transactions with overseas subsidiaries ?
iv.Whether, under the facts and circumstances of the case and in law, the Transfer Pricing Officer was justified in not restricting the quantum of transfer pricing adjustment in subsidiary segment to the actual profits retained by overseas subsidiaries from the underlining international transactions ?
v.Whether, under the facts and circumstances of the case, the first respondent is right in recomputing the deduction claimed under Section 10A of the Act based on the overall profit margin of the appellant in the absence of a proven arrangement to evidence that the assessee had booked extraordinary profits in the 10A units ?
3/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 vi.Whether, under the facts and circumstances of the case, the first respondent is right in recomputing the deduction claimed under Section 10AA of the Act based on the overall profit margin of the appellant in the absence of a proven arrangement to evidence that the assessee had good extraordinary profits in the 10AA units ? And vii.Whether, under the facts and circumstances of the case, the first respondent was right in not granting the deduction under Sections 10A and 10AA of the Act on the enhanced income, which has arisen due to disallowance made under Section 14A of the Act ?”
3.The appellant/assessee is a Multinational Company based in India engaged in the business of software development services globally. For the assessment year under consideration [AY 2011-12], the assessee filed its return of income declaring a taxable income of Rs.83,00,45,031/- under the normal provisions after claiming deduction of Rs.84,42,86,994/- under Section 10A of the Act and Rs.15,40,15,372/- under Section 10AA of the Act. The assessee declared a book profit of Rs.183,86,58,684/- as computed under Section 115JB of the Act. The case was selected for scrutiny and notice was issued along with a questionnaire. The Assessing Officer on 4/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 scrutiny found that the assessee had undertaken international transactions and accordingly made a reference to the Transfer Pricing Officer [TPO] for determining the Arm's Length Price [ALP] of the international transactions. The Profit and Loss Account of the assessee was segmented into three for transfer pricing analysis, namely, (1) Subsidiary Segment, (2) Citi Segment and (3) Others/Third Party Segment. The assessee during the previous year relevant to the assessment year 2011-12 had entered into international transactions with its Associated Enterprises [AEs] as tabulated hereunder:
S. Category International Amount Method adopted Conclusion No transactions (in INR) by the appellant in transfer pricing documentation
1. Subsidiary Provision of software 258,52,55,650 Transactional Net 38.68% Segment development services to Margin Metthod (Tested Party) overseas subsidiaries (TNMM) at vs subsidiary segment 13.60% Receipt of software 199,97,48,610 level (External development services comparables) from overseas subsidiaries
2. Citi Segment Provision of software 138,41,31,011 Comparable US$472.30 development services to Uncontrolled Price [Citibank] Citibank and group [CUP] Method vs. entities US$ 467.38 [third party]
3. Others Reimbursement of 34,62,76,975 At actuals transactions expenses received and paid 5/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018
4.The assessee considered the Transactional Net Marginal Method [TNMM] as the Most Appropriate Method [MAM] and for application of TNMM, the assessee considered itself to be tested party and operating profit/operating cost as the profit level indicator. The assessee selected 22 comparable companies in the transfer pricing documentation with weighted average operating profit/operating cost of 13.60%. Subsequently, when the transfer pricing assessment proceedings were being carried on, the assessee revised its segmentation and provided profitability of all the three segments as below:
S.No Particulars Subsidiary Citi Third Party Total Segment Segment Segment 1 Revenue 2,64,58,84000 5,85,71,50,000 5,25,66,11,000 13,75,96,45,000 2 Foreign exchange 4,38,80,119 9,71,36,698 8,71,77,183 22,81,94,000 gain 3 Total Operating 2,66,97,64,119 5,95,42,86,698 5,34,37,88,183 13,98,78,39,000 revenue [1+2] 4 Software 1,82,18,39,413 4,35,45,25,929 3,89,00,65,659 10,06,64,31,000 development expenses including depreciation 5 Selling, 41,49,97,806 91,86,73,835 82,44,81,358 2,15,81,53,000 administration and [Refer Note 1] other general overheads 6 Total Operating 2,23,68,37,219 5,27,31,99,764 4,71,45,47,017 12,22,45,84,000 costs [4+5] 7 Net operating 45,29,26,900 68,10,86,934 62,92,41,166 1,76,32,55,000 profit [3-6] 8 Net Operating 20.25% 12.92% 13.35% 14.42% Profit margin 6/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 S.No Particulars Subsidiary Citi Third Party Total Segment Segment Segment [7/6] 9 Percentage of 15.68% 15.68% 15.68% selling, admin and other overheads to turnover
5.During the assessment year under consideration, the assessee had incurred selling, administrative and general overheads amounting to Rs.2,15,81,53,000/- at an entity level. Out of this total cost, a cost of Rs.39,53,04,288/- was considered to be directly identified cost to subsidiary segment. The assessee would state that if the entire overheads of Rs.2,15,81,53,000/- were to be allocated based on turnover, the maximum allocation of all the three segments would be as hereunder:
(i) Subsidiary Segment – Rs.41,49,97,806/-;
(ii)Citi Segment – Rs.91,86,73,385/-, and
(iii)Third Party Segment – Rs.82,44,81,358/-.
Therefore, the assessee additionally allocated Rs.1,96,93,518/- to the subsidiary segment. The TPO rejected the benchmarking analysis carried out by the assessee in the transfer pricing documentation by rejecting the Comparable Uncontrolled Price Method [CUP Method] for international 7/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 transactions entered into with Citi Bank group entities. The TPO proceeded with a TNMM analysis at segment level [Subsidiary Segment and Citi Segment] for benchmarking the international transactions undertaken with overseas subsidiaries and Citi bank entities. The TPO revised the segment provided by the assessee. Further, the TPO rejected transfer pricing analysis undertaken by the assessee and undertook a fresh search for external comparables and arrived at a final list of 12 comparable companies with average operating margin of 18.94%. The TPO compared the operating margin of Subsidiary Segment, i.e. 3.51% with average operating margin of external comparables, i.e. 18.94% and made adjustment of Rs.39,43,73,743/-.
6.Aggrieved by such order, the assessee filed its objections before the Dispute Resolution Panel [DRP]. By order dated 30.12.2015, the DRP while issuing directions upheld the adjustment made by the TPO of Rs.39,43,73,743/- with respect to international transactions undertaken with overseas subsidiaries. Accordingly, final assessment order was passed by the Assessing Officer dated 29.01.2016 under Section 143(3) r/w. 144C(13) of the Act. Aggrieved by the same, the assessee preferred an appeal to the 8/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 Tribunal. In the appeal, the assessee approached the matter with two different approaches. In the first approach, the assessee contended that their overseas subsidiaries who are least complex entities to the international transactions as tested party. The second approach to consider the assessee as a tested party. The Tribunal rejected the selection of the tested party as contended by the assessee stating that the assessee failed to produce material evidences/documents to establish the functional profile and risks assumed by the overseas AEs; the Indian transfer pricing provisions do not allow to select foreign AE as tested party for benchmarking the international transactions and it is the Indian Enterprise which should be taken as the tested party. With regard to the other aspects, the Tribunal did not adjudicate the same. In this appeal, the first issue which is raised by the assessee is with regard to the selection of the tested party.
7.Mr.Kamal Sawhney, learned senior counsel appearing for Mr.Arun Karthick Mohan, learned counsel for the assessee submitted that the tested party is usually the participant in a transaction having least complex functions, for which profitability can be ascertained most reliably and 9/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 reliable data on comparables can be found and the tested party will also be the party with the least intangibles. It is submitted that the assessee has overseas subsidiaries across the Globe in Countries such as United Kingdom, German, Japan, Australia, Singapore, Switzerland, etc. The overseas subsidiaries predominantly provide on-site software support and related services in the local geography under the instructions and supervision of the assessee, namely, Polaris India presently known as Virtusa Consulting Private Limited. After referring to the revenue generated by the assessee from overseas subsidiaries during the assessment year under consideration submitted that the majority of the revenue earned by the assessee from overseas subsidiaries situate in Australia, UK, Germany and Japan which constitutes approximately 91% of the total revenue from overseas subsidiaries. It is submitted that these overseas subsidiaries in the four Countries operate as captive service providers and typically the entire revenue earned by the overseas is pulled back in the assessee's books thereby retaining only a Arm's length mark up on their costs at overseas level. The assessee being the principal entity of the group undertakes critical functions and bears all risks as compared to the overseas AEs predominantly provide on-site software support and related services in 10/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 the local geography under the instruction and supervision of the assessee and given the least complex nature, the overseas subsidiaries should be considered as tested party for benchmarking the international transactions with overseas subsidiaries.
8.The learned counsel referred to various documents to demonstrate the substantial least complex nature of the overseas subsidiaries. The learned counsel contended that the Tribunal committed a serious error in rejecting the ground canvassed by the assessee to consider foreign AEs as tested party to determine the ALP despite their least complex nature in the supply chain by ignoring the various evidences/documents furnished by the assessee to the said effect. Further, the Tribunal did not consider that the TPO in the assessee's own case for the subsequent assessment years, i.e. AY 2012-13, AY 2013-14 and AY 2014-15 accepted the assessee's approach on considering the foreign AEs as tested party under similar facts and circumstances. Further, it is submitted that the Tribunal did not adjudicate the other contentions despite very detailed submissions made by the assessee duly represented by the learned senior counsel. In this regard, the learned counsel submitted that the Tribunal erred in concluding that the 11/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 assessee has confined its arguments only to the selection of tested party and committed a serious error in observing that other transfer pricing grounds relating to segmentation, internal TNMM vs. external TNMM, selection of comparable companies, restriction of quantum of transfer pricing adjustment to the actual profits retained by overseas subsidiaries from underlying international transactions and claim of economic adjustments as not present despite the fact detailed submissions were made on behalf of the assessee. Further the Tribunal erred in concluding that the assessee did not press on the corporate tax matters despite detailed submissions were made on behalf of the assessee on various dates before the Tribunal. Therefore it is submitted that this appeal has been admitted to consider sever substantial questions of law of which the issues raised in ground Nos.4 to 6 were never adjudicated by the Tribunal and therefore, it is submitted that it is the endeavour of the assessee to convince this Court to direct the TPO to reconsider the matter so far as the issues which have been raised in substantial questions of law Nos.1 to 3 by remanding the matter for a fresh consideration and the other issues to be considered by the Tribunal.
9.It is further submitted that after the impugned order was passed by 12/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 the Tribunal, the assessee filed a miscellaneous application before the Tribunal on 28.09.2017 stating about the grounds which were raised before the Tribunal and the Tribunal did not the consider the evidences/documents submitted by the assessee to demonstrate the least complex nature by the overseas AEs and therefore the observation of the Tribunal that sufficient evidence was not furnished is incorrect. Further, it was submitted that the Tribunal referred to the decision of the Mumbai Tribunal in the case of Aurionpro Solutions Limited vs. Additional Commissioner of Income Tax [2013 (33) Taxman.com 187] which decision would not be applicable to the assessee's case. The assessee in the miscellaneous application pointed out the factual difference between the case of Aurionpro Solutions Limited and that of the assessee. Further, the assessee contended under the CUP method only the transaction has to be seen and not who is the tested party. The concept of tested party will apply only when Cost Plus Method [CPM] or Re-sale Price Method [RPM] or TNMM is applied. In this regard, the assessee referred to Rule 10B(1) of the Income Tax Rules, 1962 ['the Rules' for brevity]. Further, it was submitted that the decision relied on by the assessee in the case of General Motors India Private Limited vs. DCIT/ACIT [2013 (27) ITR(T) 373 (Ahm-Trib.)] and Ranbaxy 13/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 Laboratories Limited vs ACIT [2016 (68) Taxman.com 322 (Delhi-Trib.)] were relied on by the assessee which were not properly construed by the Tribunal.
10.It is submitted that the Tribunal though referred to the decision in Ranbaxy Laboratories Limited held that the decision is on the basis of OECD guidelines only and does not taken income tax provisions into consideration. It is submitted that the Indian Regulations do not laid down any specific procedure or guidelines for the choice of tested party. However, it would be relevant to refer Section 92 and Rule 10B(1)(e) of the Rules which uses the term 'enterprise' for application of TNMM. It was further submitted that Section 92F of the Act defines the term 'enterprise' as “a person (including a permanent establishment of such person) who is, or has been, or is proposed to be engaged in any activity......”. Section 2(31) defines a person to include a company and in terms of Section 2(17) 'company' means any Indian Company or any body corporate incorporated by or under the laws of country outside India. Therefore, it was submitted that a tested party can either be a Indian entity or foreign entity depending upon the function profile of the transacting entities. Further, the approach 14/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 of considering least complex entities as tested party has been principaly approved in Advanced Pricing Agreements [APA] signed with Central Board of Direct Taxes [CBDT]. Further, the assessee also pointed out the various contentions which were raised before the Tribunal in relation to comparability analysis. Further with regard to the corporate tax matters, it was pointed out that the first issue pertain to re-working of deduction under Sections 10A and 10AA of the Act.
11.The second issue was pertaining to disallowance under Section 14A of the Act r/w. Rule 8D of the Rules. The third issue pertain to tax at distributed dividends under Section 115O of the Act. Therefore, the assessee prayed that the order may be rectified and the grounds which have been raised may be adjudicated on merits. The Tribunal by order dated 02.08.2016 dismissed the miscellaneous application on the ground that what is permissible is only the rectification of error which is prima facie apparent on record and the assessee already having filed this appeal before this Court, the Tribunal cannot canvass such issues in the miscellaneous application. The learned counsel for the assessee submitted that the Tribunal ought to have considered that for the subsequent assessment years, namely, AY 15/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 2012-13, AY 2013-14 and AY 2014-15, the TPO has accepted the assessee's approach of considering foreign Associated Enterprise as tested party under similar facts and circumstances and there was no reason to take a different view for the assessment year under consideration. The learned senior counsel submitted that the following issues were not adjudicated by the Tribunal.
“4.The Learned TPO/AO and the Hon’ble DRP have erred in law and in facts by disproportionately allocating the overheads costs [being offshore costs] to the subsidiary segment. The revised allocation procedure adopted by the Ld. TPO resulted in 27.75% of the selling, administrative and other general overheads getting allocated to the AE segment vis-a-vis 12.81% to the Citi and third party segment thereby leading to a clear anomaly in the allocation mechanism.
5.The Learned TPO/AO and the Hon’ble DRP have erred, in law and in facts by rejecting the detailed transfer pricing analysis prepared by the Appellant in accordance with the provisions of the Income-tax Act, 1961 (the Act) without appreciating the fact that the margins earned by the Appellant in the subsidiary segment [20.25 percent] were higher than those even earned by the third party comparables [18.94 percent] chosen by the Ld. TPO.
16/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018
6.The learned TPO / AO and the Hon’ble DRP failed to appreciate the business model adopted by the Appellant with its subsidiaries wherein the entire revenue and cost of the overseas subsidiaries were pulled back into the books of the Appellant by way of a back-to-back arrangement after leaving only an arm’s length profit for the onsite support services provided by the overseas subsidiaries in majority of the cases.
26.The learned AO and the Hon’ble DRP have erred in restricting the exemption as claimed by the Assessee to INR 48,47,11,120 (as against the claim INR 84,42,86,994 in the return of income) for 10A Units and to INR 6,40,45,234 (as against the claim INR 15,40,15,372 in the return of income) in respect of the 10AA Unit.
27.The learned AO and the Hon'ble DRP have failed to understand the profitability computation of 10A and non10A units.
28.The learned AO and the Hon’ble DRP failed to appreciate the fact that the 10A units and non 10A units are operating at a consistent profitability for the past two years.
29.The learned AO and the Hon’ble DRP failed to appreciate that the SEZ is in the second year of operation and was in operation for only 3 months in the previous AY.
30.The learned AO and the Hon’ble DRP failed to appreciate the fact that separate statement of Profit & Loss 17/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 for each of its units are maintained and also that it is not mandatory to maintain separate books of accounts for expenses incurred in the different units for the purpose of claiming deduction under section 10A and section 10AA.
33.The learned AO and the Hon’ble DRP have failed to appreciate that no expenditure has been incurred towards earning the dividend income and therefore, the learned AO and Hon'ble DRP have erred in disallowing an amount of INR 1,99,85,908.
34.Without prejudice to the above, having made the disallowance, the learned AO ought to have granted deduction under section 10A on the enhanced income on account of the aforesaid disallowance.”
12.Therefore, it is submitted that the matter may be remanded to the Tribunal to decide the above issues which were not considered while passing the final order dated 18.08.2017. It is further submitted that it is not in dispute that the assessee did not include the foreign AEs as tested parties in their TP study. However, the matter was raised before the TPO. The assessee has raised such a contention which have been noted by the TPO in its order dated 29.01.2015. However, the TPO would state that the assessee did not include the foreign AEs as tested parties in their TP documentation 18/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 and such plea cannot be permitted to be raised. The assessee in their objections before the DRP had specifically contended that the TPO erred in not considering the fact that international transactions entered into by the assessee with its subsidiaries is at arm's length by taking the overseas subsidiaries as tested parties. The DRP while issuing directions observed that it is not known as to why the subsidiaries were not taken as tested parties in the TP documentation, therefore, the stand of the assessee cannot be accepted. It is submitted that this finding of the DRP is erroneous and therefore the assessee would pray for a remand to the TPO for considering afresh the issue relating to tested party.
13.Further the learned counsel referred to the affidavit filed before the Tribunal in support of the miscellaneous application which contains a tabulated statement pointing out the issues which were not considered by the Tribunal and therefore, those issues may be remanded to the Tribunal for fresh consideration. It is further submitted that the definition of 'Enterprise' and 'Associated Enterprise' in the Act nowhere indicates that the Enterprise shall mean the assessee and the Associated Enterprise will mean other than the assessee and that these words have been used interchangeably and the 19/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 finding of the Tribunal that the Enterprise will mean the assessee and Associated Enterprise will mean the other party to whom the assessee has sold or purchased the goods is incorrect. In support of such contention, reliance was palced on the decision in the case of Yamaha Motor India Limited vs. ACIT [2014 (50) Taxman.com 444 (Delhi-Trib.)]. It is submitted that the tax case appeal filed before the High Court of Delhi against the said judgment in Commissioner of Income Tax vs. Yamaha Motor India Limited in I.T.Nos.737 and 754/2015 was dismissed by judgment dated 14.03.2016. Further, it is submitted that the decision of the Mumbai Tribunal in Aurionpro Solutions Limited does not laid down the correct legal position which was noted in several decisions even by the Tribunal subsequently and in this regard referred to the decision in the case of General Motors India Private Limited. For the same proposition, reliance was placed on the decision in the case of WNS Global Services Private Limited vs. Income Tax Officer, Ward 10(1), Mumbai in I.T.A.No.7378/Mum/2012, Income Tax Appellate Tribunal, 'K' Bench, Mumbai. For the same proposition, reliance was also placed on the decision in the case of Tata Consultancy Services Limited vs. ACIT, 20/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 Mumbai in I.T.A.NO.5713/Mum/2013, Income Tax Appellate Tribunal, 'J' Bench, Mumbai. It is submitted that there are several decisions which have been rendered after the decision in Aurionpro Solutions Limited and in the assessee's own case for the subsequent three years, the Transfer Pricing Officer agreed with the assessee who had selected the foreign Associated Enterprise as tested party in similar facts and circumstances.
14.Further, with regard to the argument that there is no reference to tested party under CUP Method, reliance was placed on the decision in the case of India Debt Management Private Limited vs. DCIT, Mumbai in I.T.(TP).A.No.7518/Mum/2014, Income Tax Appellate Tribunal, 'K' Bench, Mumbai. Further, it is submitted that the TPO, DRP as well as the Tribunal erred in holding that the assessee had resorted to change its method of assessment by taking a different stand that what was taken in their TP documentation. It is submitted that there is no bar for the assessee to take a different stand before the TPO/DRP/Tribunal and merely because the assessee did not select the foreign AEs as tested parties in the TP documentation, it does not preclude the assessee from subsequently requesting the foreign AEs to be taken as tested parties. In this regard, 21/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 reliance was placed on the decision in Mattel Toys India Private Limited vs. DCT [MANU/IU/0886/2013 (ITAT, Mumbai Bench)]. For the same proposition, reliance was placed on the decision of the Income Tax Appellate Tribunal, 'C' Bench, Kolkata in the case of Almatis Alumina Private Limited vs. DCIT in I.T.A.No.726 & 2361/Kol/2017 dated 16.04.2019.
15.M/s.R.Hemalatha, learned senior standing counsel for the revenue elaborately referred to the order passed by the Tribunal and in particular the arguments which were advanced by the learned senior counsel for the assessee before the Tribunal which has been recorded by the Tribunal in paragraph Nos.20, 21 and 22. Further, it is submitted that in terms of Rule 10D, the information and documents are to be kept and marked and the assessee in their return of income had stated that they treated themselves as the tested party and without filing a revised return, there cannot be a change of stand. In this regard, the learned counsel referred to Rule 10E and the report of the auditor which is required to be submitted in Form No.3CED. Therefore, it is submitted that when the assessee in their TP documentation has not stated that their foreign AEs are to be treated as tested party, they 22/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 cannot now change their stand and if permitted, it would amount to changing the “Goal post”. Referring to the order dated 29.01.2015 passed by the TPO, it was pointed out that the assessee was attempting to change the entire transaction and bring material which was not part of their TP documentation. Further, the learned senior standing counsel referred to the finding rendered by the DRP in paragraph 3.1, wherein the DRP rejected the stand taken by the assessee that the foreign AEs are to be treated as tested parties and the said finding is legal and proper. Further the learned counsel pointed out that based on the information furnished by the assessee in their return of income and the certificate of the auditor submitted in Form No.3CED, show cause notice was issued by the TPO and the present stand taken by the assessee is a new plea which cannot be permitted to be raised. Therefore, it is submitted that the Tribunal rightly rejected the case of the assessee.
16.In reply, Mr.Kamal Sawhney, learned senior counsel for the assessee submitted that Form No.3CED is only regarding the transaction claim and it does not relate to a tested party. Further it is submitted that no new or fresh claim has been made by the assessee and in fact the TPO had 23/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 rejected the TP analysis done by the assessee and had done his own analysis and selected 12 comparables and the assessee had furnished all material before the TPO along with their submissions dated 18.01.2015 submitted to the TPO on 20.01.2015. It is reiterated that the Indian company, namely, the assessee bears the entire risks and hence, it is more complex and the least complex is required to be taken into consideration. In this regard, the learned senior counsel referred to the TP study done by the assessee and in particular to the risks assumed as mentioned in paragraph 4.03.3 and with regard to the intangible assets as pointed out in paragraph 4.06. Therefore, it is submitted that the TPO ought to have selected the foreign AE of the assessee as the tested party.
17.We have elaborately heard the learned counsels for the parties and carefully perused the materials placed on record.
18.First we take up for consideration the submission of the learned senior counsel for the assessee that the grounds which have been listed out supra have not been adjudicated by the Tribunal and therefore, it is prayed that the matter may be remanded to the Tribunal to adjudicate the issues 24/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 which have been specifically raised by the assessee. The arguments of the learned senior standing counsel stems from the finding recorded by the Tribunal in the impugned order, more particularly, the observation in paragraph 24 of the impugned order, wherein the Tribunal observes that the only issue that arises for consideration is whether the assessee Company has to be taken as tested party for the purpose of determination of Arm's Length Price or by applying the least complex theory, the AE outside the Country has to be taken as the tested party. The Tribunal further observes in paragraph 18 of the impugned order that even though the assessee has raised many issues before the Tribunal, the learned senior counsel for the assessee confined himself only to the selection of tested parties. The assessee filed miscellaneous application before the Tribunal on 28.09.2017 after the impugned order was passed in which a specific plea has been raised, duly supported by an affidavit of the Senior Manager, Direct Tax of the assessee, wherein they have stated that during the hearing of the appeal by the Tribunal, the learned senior counsel for the assessee argued and presented the following grounds of appeal:
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https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 Transfer pricing grounds of grounds of appeal S.No. Particulars Ground No. 1 Approach 1 – Considering the overseas subsidiaries of 6, 7, 8 and 9 Petitioner Company as tested party 2 Approach 2 – Considering the Petitioner Company as tested party Part a) – Contentions in relation to segmentation 4, 5, 20 and 21 adopted by Ld. Transfer Pricing Officer (TPO) 15, 16, 17, 18 and 19 Part b) – Contentions in relation to comparability analysis adopted by Ld. TPO Corporate tax grounds of appeal S.No. Particulars Ground No. 1 Re-computation of deduction claimed under section 26 to 30 10A and 10AA of the Income Tax Act, 1961 (the Act) 2 Disallowance made under section 14A of the Act 33 and 34 3 Tax on dividends distributed under section 115O of the 36 Act
19.The above stand has been further elaborated in the miscellaneous application, in our opinion, in a very detailed manner. The question would be as to whether the Tribunal could have confined itself to the issue with regard to the selection of tested parties alone by referring to the submission made on behalf of the appellant/assessee. We find that there is nothing on record to show that the assessee had given up the other issues rather the 26/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 assessee has in an elaborate manner set out all the issues which they seek to canvass before the Tribunal and prayed for adjudication. Even assuming a submission was made on behalf of the assessee, the submission having not been supported by a sworn statement cannot be taken as if the assessee has given up the other submissions which they have raised in the appeal. Furthermore, we find that there is no reason as to why the assessee should forego the other issues which they have raised before the Tribunal especially when the matter was hotly contested at all levels. Therefore, we are of the opinion that the Tribunal should and shall adjudicate all such issues which have been raised before it by the assessee in the grounds and more specifically pointed out in the miscellaneous application. Therefore, we accept the arguments made on behalf of the assessee that the Tribunal should consider the issues which were raised before it rather foreclosing the assessee from canvassing those points based upon the alleged concession which would not bind the assessee.
20.Now, we move on to consider the issue as to whether the assessee has to be taken as tested party for the purpose of determination of ALP or by applying the least complex theory, the AE outside the Country has to be 27/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 taken as tested party. The Tribunal while considering the said question proceeded to examine the scheme of transfer pricing as provided under the Act. It referred to section 92B which defines 'International transaction', section 92A which defines 'Associated Enterprise', Rule 10D which deals with the most appropriated method for determination of ALP and Rule 10B(1)(e) which provides the method for determination of ALP by adopting TNMM. After referring to these statutory provisions, the Tribunal would observe that the main object is to compute the net profit margin realised by the enterprise from the international transaction; the comparison shall be with regard to the transaction of unrelated enterprise from comparable uncontrolled transaction. Thus the Tribunal opined that the net profit margin of the enterprise shall be computed in the international transaction by comparing comparable uncontrolled transaction. The Tribunal noted the definition of Enterprise as defined in section 92F(iii) and reading the said provision along with Rule 10B(1)(e) of the Rules, the Tribunal held that the net profit margin of the Enterprise which is in India, has to be determined by applying the Transfer Pricing Regulations. The Tribunal was largely guided by the decision of the Mumbai Tribunal in Aurionpro Solutions Limited, wherein it was held that the tested party for the purpose of 28/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 determination of ALP is always the assessee and not the AE.
21.The assessee had referred to the decision of the Delhi Tribunal in Ranbaxy Laboratories Limited which was distinguished by observing that the said decision had proceeded on the basis of OECD guidelines. The Tribunal further went on to observe that the determination of least complex party and functions performed by the AE outside the Country are not available on record and it is not known the amount of risk assumed by AE and its capital employed and the complexity of the functions performed by it. It is further observed that in the absence of any such documentation with regard to assumption of risk, complex functions, the capital employed, etc., the decision in Ranbaxy Laboratories Limited cannot be applied in the case of the assessee unless it is established with material evidence that the AE outside the Country performed least complex operation with a minimum risk. The Tribunal further has observed that the assessee miserably failed to establish functional risk assumed by the AE and in the absence of any material on record with regard to the risk assumed by the AE, the assessee has to be taken as tested party for the purpose of transfer pricing adjustment. Thus, the assessee was non-suited on the ground that they have failed to 29/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 establish functional risk assumed by the AE outside the Country. This finding appears to be factually incorrect as could be seen from the grounds raised before the Tribunal as well as the grounds which were canvassed before the TPO and specifically raised in the objections filed before the DRP.
22.The Tribunal had distinguished the decision in Ranbaxy Laboratories Limited on the ground that the Delhi Bench of the Tribunal has proceeded on the basis of the OECD guidelines. However, we find in paragraph 25 of the judgment of the Tribunal the principles that emerge in selection of tested party has been culled out wherein it has been held that the tested party normally should be the least complex party to the controlled transaction and that there is no bar for selection of tested party either local or foreign party and neither the Act nor the guidelines on transfer pricing provides so and the selection of tested party is to further the object of comparability analysis by making it less complex and requiring fewer adjustment. Therefore, we do not agree with the reasons given by the Tribunal for not considering the decision in Ranbaxy Laboratories Limited. 30/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018
23.Furthermore from the grounds canvassed in the miscellaneous application filed before the Tribunal on 28.09.2017, after the impugned order was passed by the Tribunal, would clearly show that all materials were available on file. Therefore, to non-suit the assessee stating that they miserably failed to establish functional risk is incorrect. If such is the conclusion which we have to arrive at, we have no hesitation to set aside the order of the Tribunal and we shall do so.
24.Before doing so, we may point out the following. The assessee in ground Nos.6 to 8 before the Tribunal had contested the issue relating to consideration of the foreign AE as tested party. The assessee has submitted evidences and documents relating to the assessee's transfer pricing documentation, global transfer pricing reports of the foreign AE at United Kingdom, Australia and German; extracts of inter-company service agreement, reconciliation of operating credits earned by the overseas subsidiaries, etc. So far as the risks assumed by the assessee, the same has been elaborately brought out in the TP documentation as could be seen from paragraph 4.03.3 under the sub heading Risks Assumed and paragraph 4.06 under the sub heading Associates Employed. This vital material has not 31/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 been considered by the TPO but the assessee has been precluded from canvassing the said issue on the ground that the stand taken during the course of TP proceedings was not what was the subject matter of the TP documentation/TP study of the assessee. The question would be whether this could be the reason for rejecting the assessee's plea. This issue has been considered by the Tribunal in several decisions.
25.In Yamaha Motor Private Limited, the question arose as to whether the word 'Associated Enterprise' can be given a restrictive meaning to mean the other party to whom the assesee has sold or purchased goods. It was held that under the Act and the Rules, the words 'Enterprise' and 'Associated Enterprise' have been used interchangeably and the arguments that the Enterprise will mean the assessee and the Associated Enterprise will mean the other party to whom the assessee has sold or purchased goods is incorrect. As could be seen from the definition of Enterprise given in section 92F(iii) and Associated Enterprise as defined in Section 92A of the Act, it is evidently clear that the statute does not indicate that 'Enterprise' shall mean the assessee and the 'Associated Enterprise' will mean the other party. As pointed out earlier, the words 'Enterprise' and 'Associated 32/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 Enterprise' have been used interchangeably. Therefore, the conclusion of the Tribunal in this regard is not sustainable.
26.The Tribunal was largely guided by the decision in Aurionpro Solutions Limited. The learned senior counsel for the assessee has referred to various decisions of the Tribunal which were rendered subsequently, more particularly, the decision of the Ahemdabad Tribunal in the case of General Motors India Private Limited, which had taken note of the decision of the Mumbai Tribunal in Aurionpro Solutions Limited and noted the facts of the said case and held that the said decision cannot be applied as the main issue in Aurionpro Solutions Limited was the percentage of interest to be calculated on the loan advanced by the assessee to its AE. Thus, on facts the decision in Aurionpro Solutions Limited could not have been applied to the facts of the assessee's case before us. As already pointed out, it is not a case where there were no material produced by the assessee to establish the functional risk assumed by the foreign AEs. The material was available before the TPO but the TPO non-suited the assessee on the ground that such contention by referring to the foreign AEs as tested party was not 33/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 part of TP documentation. This finding is incorrect. Interestingly in the case of in the case on hand the TPO rejected the data placed by the assessee in their TP documentation and undertook a fresh search for external comparables and arrived at a final list of 12 comparables. Therefore, when the TPO himself has not attached any sanctity to the TP documentation as submitted by the assessee, could not have foreclosed the assessee from canvassing the issue that the subsidiaries are least complex entities which should be taken note of.
27.The revenue seeks to pin the assessee based upon the auditor's certification as filed in Form 3CED. As could be seen from the statutory form, it pertains only to the transactional claims and has got nothing to do with a tested party. The revenue cannot compare the case of the assessee with that of the assessee who fails to claim in his return of income a deduction or a benefit which he would be otherwise entitled to. In fact the TPO was rightly aware of his role when he has made an observation in paragraph 17.2 of the order dated 29.01.2015, wherein he would state that his office is responsible to ensure sufficiency of information/data and accordingly cannot be precluded to conduct a fresh search. However, when 34/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 such is the legal position, as rightly understood by the TPO, the assessee should not have been foreclosed. Therefore, we are of the clear view that the findings rendered by the TPO, DRP and the Tribunal foreclosing the assessee's claim to refer to the foreign AEs as tested party is legally not sustainable.
28.For all the above reasons, the tax case appeal is allowed, the orders passed by the Tribunal, DRP and the TPO are set aside. Accordingly, the matter stands remanded to the Tribunal to decide the following grounds which were raised before it in the Appeal Petition:
(i) The Learned TPO/AO and the Hon’ble DRP have erred in law and in facts by disproportionately allocating the overheads costs [being offshore costs] to the subsidiary segment. The revised allocation procedure adopted by the Ld. TPO resulted in 27.75% of the selling, administrative and other general overheads getting allocated to the AE segment vis-a-vis 12.81% to the Citi and third party segment thereby leading to a clear anomaly in the allocation mechanism.
(ii) The Learned TPO/AO and the Hon’ble DRP have erred, in law and in facts by rejecting the detailed 35/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 transfer pricing analysis prepared by the Appellant in accordance with the provisions of the Income-tax Act, 1961 (the Act) without appreciating the fact that the margins earned by the Appellant in the subsidiary segment [20.25 percent] were higher than those even earned by the third party comparables [18.94 percent] chosen by the Ld. TPO.
(iii) The learned TPO / AO and the Hon’ble DRP failed to appreciate the business model adopted by the Appellant with its subsidiaries wherein the entire revenue and cost of the overseas subsidiaries were pulled back into the books of the Appellant by way of a back-to-back arrangement after leaving only an arm’s length profit for the onsite support services provided by the overseas subsidiaries in majority of the cases.
(iv) The learned AO and the Hon’ble DRP have erred in restricting the exemption as claimed by the Assessee to INR 48,47,11,120 (as against the claim INR 84,42,86,994 in the return of income) for 10A Units and to INR 6,40,45,234 (as against the claim INR 15,40,15,372 in the return of income) in respect of the 10AA Unit.
(v) The learned AO and the Hon'ble DRP have failed to understand the profitability computation of 10A and non10A units.
(vi) The learned AO and the Hon’ble DRP failed to 36/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 appreciate the fact that the 10A units and non 10A units are operating at a consistent profitability for the past two years.
(vii) The learned AO and the Hon’ble DRP failed to appreciate that the SEZ is in the second year of operation and was in operation for only 3 months in the previous AY.
(viii) The learned AO and the Hon’ble DRP failed to appreciate the fact that separate statement of Profit & Loss for each of its units are maintained and also that it is not mandatory to maintain separate books of accounts for expenses incurred in the different units for the purpose of claiming deduction under section 10A and section 10AA.
(ix) The learned AO and the Hon’ble DRP have failed to appreciate that no expenditure has been incurred towards earning the dividend income and therefore, the learned AO and Hon'ble DRP have erred in disallowing an amount of INR 1,99,85,908.
(x) Without prejudice to the above, having made the disallowance, the learned AO ought to have granted deduction under section 10A on the enhanced income on account of the aforesaid disallowance.”
29.The issue regarding the assessee's plea to consider foreign AE as tested party to determine the Arm's Length nature of the underlying international transaction stands remanded to the Transfer Pricing Officer 37/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 for a fresh decision on merits and in accordance with law having due regard to the orders passed by the Transfer Pricing Officer in the assessee's own case for the subsequent assessment years.
(T.S.S., J.) (R.N.M., J.)
04.02.2021
Index: Yes/ No
Speaking Order : Yes/ No
cse
To
1.The Deputy Commissioner of Income Tax,
Company Circle 5 (2),
121, M.G. Road, Nungambakkam,
Chennai – 600 034.
2.The Income Tax Appellate Tribunal Bench 'D', Chennai. 38/39 https://www.mhc.tn.gov.in/judis/ T.C.A.No.996 of 2018 T.S.Sivagnanam, J.
and R.N.Manjula, J.
cse Pre-delivery judgment made in T.C.A.No.996 of 2018 04.02.2021 39/39 https://www.mhc.tn.gov.in/judis/