Income Tax Appellate Tribunal - Delhi
Techbooks International Pvt. Ltd., ... vs Assessee on 6 July, 2015
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCHES : I : NEW DELHI
BEFORE SHRI R.S. SYAL, AM AND SHRI A.T. VARKEY, JM
ITA No.240/Del/2015
Assessment Year : 2010-11
Techbooks International Pvt. Ltd., Vs. DCIT,
A-37, Sector 60, Circle-3,
Noida. Noida.
PAN: AAACT6050A
(Appellant) (Respondent)
Assessee By : Shri C.S. Aggarwal, Sr. Advocate &
Shri R.P. Mall, Advocate
Department By : Shri R.K. Jha, Sr. DR &
Shri Vijay Choudhary, Sr. DR
Date of Hearing : 02.07.2015
Date of Pronouncement : 06.07.2015
ORDER
PER R.S. SYAL, AM:
This appeal by the assessee emanates from the final assessment order passed by the Assessing Officer (AO) on 22.12.2014 under section 143(3) read with section 144C of the Income-tax Act, 1961 ITA No.240/Del/2015 (hereinafter also called 'the Act') in relation to the assessment year 2010-11.
2. The first major issue raised in this appeal is against the addition made by the AO on account of transfer pricing adjustment to the tune of Rs.20,48,76,996/- in the international transaction of 'Provision of IT Enabled data conversion services' (hereinafter also referred to as `the ITES' for brevity). Succinctly, the assessee was incorporated as a wholly owned subsidiary of Aptarausa. It is engaged in the development of customized electronic data. It converts data from hard copy or files into XML/SGML/HTML, creating electronic style files and modifying the user interface for CD-ROM delivery. In the process, raw data received from the customers in hard copy/electronically, is converted into electronic form. Thereafter, the data is arranged and formatted. Thus, it can be said that the assessee is primarily engaged in providing ITES to its associated enterprise (AE). Apart from certain reimbursement of expenses, the assessee reported an international transaction of 'Provision of IT enabled data conversion services' with 2 ITA No.240/Del/2015 the transacted value of Rs.129,58,11,907/-. The assessee adopted the transactional net margin method (TNMM) as the most appropriate method for demonstrating that this international transaction was at arm's length price (ALP). On a reference made by the AO to the Transfer Pricing Officer (TPO) for determining the ALP of the assessee's international transactions, the latter accepted the TNMM as the most appropriate method. However, the use of multiple-year data was discarded. After considering the Transfer pricing study report along with various objections raised by the assessee during the course of proceedings before him, the TPO shortlisted nine comparable companies with their arithmetic mean of the Profit level indicator (PLI) of Operating Profit/Operating Costs (OP/OC) at 33.71%. By applying this profit margin to the operating costs incurred by the assessee in rendering the ITES, the TPO worked out a transfer pricing adjustment of Rs.20,48,76,996/-. The assessee largely remained unsuccessful before the Dispute Resolution Panel (DRP). That is how, the AO made addition of Rs.20.48 crore on account of transfer pricing adjustment in 3 ITA No.240/Del/2015 the international transaction of 'Provision of IT enabled data conversion services.' The assessee is in appeal against this addition.
3. We have heard the rival submissions and perused the relevant material on record. The assessee has agitated certain issues about determination of the ALP of the international transaction of the provision of ITES before us, which we will consider herein below. I. FOREIGN EXCHANGE FLUCTUATION GAIN/LOSS 4.1. The first issue argued before us is against the exclusion of foreign exchange fluctuation gain/loss from the operating revenue/cost of the assessee as well as the comparables. We find merit in the contention raised on behalf of the assessee about the inclusion of foreign exchange gain/loss in the operating revenue/costs of the assessee as well as that of the comparables. When we advert to the nature of such foreign exchange gain earned by the assessee, it prima facie appears that the same is in relation to the revenue earned from its AE in connection with the provision of the ITES. When the foreign exchange gain directly results from the consideration received for rendering ITES to AE, we fail to 4 ITA No.240/Del/2015 appreciate as to how such foreign exchange fluctuation gain can be considered as non-operating. What is true for foreign exchange gain from the transactions of the revenue nature being considered as part of operating revenue is equally true for the foreign exchange loss being considered as part of operating costs from the transactions of the revenue nature.
4.2. The Special Bench of the Tribunal in ACIT Vs Prakash I. Shah (2008) 115 ITD 167 (Mum)(SB) has held that the gain due to fluctuations in the foreign exchange rate emanating from export is its integral part and cannot be differentiated from the export proceeds simply on the ground that the foreign currency rate has increased subsequent to sale but prior to realization. It went on to add that when goods are exported and invoice is raised in currency of the country where such goods are sold and subsequently when the amount is realized in that foreign currency and then converted into Indian rupees, the entire amount is relatable to the exports. In fact, it is only the translation of invoice value from the foreign currency to the Indian rupees. The 5 ITA No.240/Del/2015 Special bench held that the exchange rate gain or loss cannot have a different character from the transaction to which it pertains. The Bench found fallacy in the submission made on behalf of the Revenue that the exchange rate difference should be detached from the exports and be considered as an independent transaction. Eventually, the Special Bench held that such exchange rate gain arising from exports cannot be viewed differently from sale proceeds.
4.3. In the context of transfer pricing, the Bangalore Bench of the Tribunal in SAP Labs India Pvt. Ltd. Vs ACIT (2011) 44 SOT 156 (Bangalore) has held that foreign exchange fluctuation gain is part of operating profit of the company and should be included in the operating revenue. Similar view has been taken in Trilogy E Business Software India (P) Ltd. Vs DCIT (2011) 47 SOT 45 (URO) (Bangalore). The Mumbai Bench of the Tribunal in S. Narendra Vs Addtl. CIT (2013) 32 taxman.com 196 has also laid down to this extent. In view of the foregoing discussion, we are of the considered opinion that the amount 6 ITA No.240/Del/2015 of foreign exchange gain/loss arising out of revenue transactions is required to be considered as an item of operating revenue/cost. 4.4. Since, the TPO has computed PLI of the assessee as well as comparables by ignoring the amount of forex gain/loss, we set aside the impugned order and remit the matter to the file of TPO/AO to recompute the assessee's margin as well as that of the comparables by considering foreign exchange gain/loss as an item of operating revenue/cost. We want to make it clear that our finding in this regard is restricted to considering forex gain/loss from the transactions of the revenue nature as part of operating revenue/cost. If some part of forex gain/loss turns out to be relatable to transactions on capital accounts, then that part cannot be considered as part of operating revenue/cost. Similar view has been taken by the Tribunal in the assessee's own case for the immediately preceding assessment year, namely, 2009-10, a copy of which order has been placed on page 908 of the paper book. 7 ITA No.240/Del/2015 II. BANK CHARGES 5.1. The ld. AR submitted that the bank charges incurred by it should have been considered as non-operating expenses which have been taken by the TPO as operating expenses. It was further submitted that the TPO erred in making an effective comparison of the operating costs by considering such bank charges as non-operating in the case of comparables.
5.2. Having heard both the sides and perused the relevant material on record, it is obvious that the assessee incurred bank interest which has been treated as non-operating. There is, as such, no bifurcation available of the bank interest and bank charges in the Annual accounts of the assessee. It is noticed that the assessee is not aggrieved against the treatment of bank interest as non-operating. We do not see much difference between the nature of bank charges and bank interest. As the amount of bank interest has been admitted as an item of non-operating expense, the amount of bank charges also assumes the same character as that of bank interest. In our considered opinion, both the bank charges 8 ITA No.240/Del/2015 as well as bank interest should have been considered as non-operating in the case of the assessee as well as comparables. The TPO is directed to verify whether the treatment of bank interest and bank charges in the case of the assessee's computation of ALP and that of the comparables is in accordance with our above observations. Needless to say, the assessee will be afforded a reasonable opportunity of being heard. III. PROVISION FOR DOUBTFUL ADVANCES 6.1. The ld. AR contended that the TPO erred in taking Provision for doubtful advances amounting to Rs.17,11,167/- as operating in its case and provision for doubtful debts as non-operating in the case of the comparables. In the oppugnation, the ld. DR submitted that there is no amount of provision for `doubtful debts' in the case of the assessee for the year in question and the only provision appearing in its books is that of `doubtful advances'.
6.2. Having heard both the sides and perused the relevant material on record, we find that the assessee has not created any provision for `doubtful debts'. The only provision made by it is of `doubtful 9 ITA No.240/Del/2015 advances'. Both the provision for bad debts as well as doubtful advances are in the realm of the operations of the business. It is not the case of the either side that the assessee made any excess provision. In our considered opinion, the same has been rightly taken as an item of operating expense of the assessee. The TPO is directed to treat the amount of provisions for doubtful debts/advances as operating in the case of the comparables as well.
IV. RISK ADJUSTMENT 7.1. The ld. AR vehemently argued that the TPO erred in not allowing any risk adjustment. It was submitted that the assessee is a captive unit providing ITES to its AE alone, thereby running no risk of any bad debts etc. Per contra, the ld. DR opposed the grant of risk adjustment by relying on the relevant parts of the order of the TPO.
7.2. We have heard the rival submissions and perused the relevant material on record. The TPO has referred to several tribunal decisions in which risk adjustment has been denied to the assessee. At the same time, the ld. AR has also drawn our attention towards some of the 10 ITA No.240/Del/2015 tribunal decisions, in which such an adjustment has been allowed. In fact, there cannot be a general rule of allowing or not allowing risk adjustment. Risk is nothing but a possible adverse perception in the given circumstances, which may or may not finally fructify. Generally, risks and rewards go side by side. Higher the risk, more the profit; and vice versa. Level of risk depends on the facts and circumstances of each case. Where the assessee succeeds in ably demonstrating that the comparables finally selected bore relatively more risks than it, then there should be no denial of the risk adjustment. If, however, the assessee fails in specifically pointing out the extra risks undertaken by the comparables, then, of course, there cannot be any question of granting risk adjustment. Under the transfer pricing regime, initial onus is always on the assessee to show the reasons for claiming any specific adjustment by pointing out differences between it and the comparables. Risk adjustment can be allowed provided the assessee places on record some appropriate material to demonstrate that the risks undertaken by the comparable companies were relatively more than it, warranting downward adjustment in their profit rates. Further, the variation in such 11 ITA No.240/Del/2015 risks, if any, should be capable of quantification on some reasonable and logical basis.
7.3. The ld. AR stated before us that the assessee was not having any risk at all inasmuch as its services were to be compensated by the AE with an appropriate mark-up in comparison with the full-fledged risk bearing comparable companies. We are not inclined to accept such a generalized and bald statement. The mere fact that the assessee is a captive unit rendering ITES to its AE alone, does not per se make it a no-risk entity. There are several risks attached to such entities dealing with a single customer. If such lone customer, on whom the enterprise's entire survival depends, closes down its business either voluntarily or due to reasons beyond his control, the possibility of realization of debts for the services already rendered, becomes a potential risk. Further, the fear of termination of agreement between such an enterprise and the solitary customer also poses a grave threat to the existence of such an enterprise. In that sense of the matter, an enterprise serving a single customer, also assumes marked risks. As the assessee is wholly dependent on its AE for securing business, its entire existence also 12 ITA No.240/Del/2015 depends on the same AE. If such AE runs out of business or its business is reduced, the assessee is bound to bear severe jolts. The contention of the ld. AR that the assessee did not have any risk is prima facie not acceptable in view of Schedule 13 of its Profit & Loss Account containing details of operating and other expenses. It transpires from such Schedule that the assessee has claimed deduction for 'Provision for doubtful advances' amounting to Rs.17,11,167/-. On a pointed query, the ld. AR submitted that this provision was created in respect of expenses incurred by the assessee in rendering the services to the AE and not on the realization of sale proceeds. We fail to appreciate the rationale of this contention that the assessee assumes no risk of realization of invoices from its AE, but there may be a risk of advances given for expenses incurred during the course of rendering services. Ultimately risk is risk, whether it is of realization of invoices or of advances given for conducting operations. Since the aspects of incurring expenses and earning revenue are two sides of the same coin, we find that the existence of risk to the assessee cannot be denied. Be that as it may, it is further found that though there is no Provision for doubtful 13 ITA No.240/Del/2015 debts (arising from realization of invoices) during the year, but, the assessee did create provision for doubtful debts in the preceding year amounting to Rs.10,79,665/-. This provision for bad debts is from the revenue side. To contend that the assessee was not running any risk in providing the services is, therefore, patently incapable of acceptance. Since the ld. AR has failed to objectively demonstrate the relatively higher risks undertaken by the comparables on an overall basis vis-à-vis the assessee, we are disinclined to grant any risk adjustment. V. SELECTION OF COMPARABLES
8. The assessee is aggrieved against the inclusion of five companies in the list of comparables and the exclusion of six companies selected by it. In order to analyze whether the disputed companies are comparable or not, we need to concentrate on the nature of work performed by the assessee. It is has been noted above that the assessee is engaged in rendering ITES by converting data from hard copy or files into XML/SGML/HTML, thereby processing raw data received from the 14 ITA No.240/Del/2015 customers in hard copy/electronically into electronic form, which is then arranged and formatted.
A. Challenge to the inclusion of some companies.
9.1. Firstly, we will deal with the companies which have been included by the TPO in the final set of comparables and the assessee claims them to be incomparable. A submission common to some of such companies was made by the ld. AR that certain Benches of the Tribunal in other cases have held them to be not comparable. In that view of the matter, it was urged that those companies, being ex facie incomparable, be automatically excluded from the list of comparables drawn by the TPO. 9.2. We express our reservations in accepting such a broad proposition. It is axiomatic that if company 'A' is functionally different from company 'B', then, such company cannot be considered as comparable. Two companies can be considered as comparable when both are discharging the overall similar functions, though there may be some minor differences in such functions, not marring the otherwise comparability. Notwithstanding the functional similarity, many a times a 15 ITA No.240/Del/2015 company ceases to be comparable because of other reasons as well. To cite an example, if company 'A', though functionally similar to company 'B', but has related party transactions (RPTs) breaching a particular level, then, such company cannot be considered as comparable to company 'A' in the year in which the RPTs breach such a level. If, however, in the subsequent year, the related party transactions fall below that barrier, then such company would again become comparable. To put it simply, if company 'A' has been held to be incomparable vis-a-vis company 'B', then it is not essential that company 'A' would be incomparable to company 'C' also. What is relevant to consider is, firstly, the functional profile of company 'A' vis-a-vis company 'C'. If both are functionally similar, then notwithstanding the fact that company 'A' was held to be incomparable to company 'B', it may still be comparable to company 'C'. Despite the fact that company 'A' is functionally similar to company 'B', it may still have been declared as incomparable to company 'B' because of other relevant reasons. If company 'A' passes the same reasons vis-a-vis company 'C', then company 'A' will find its place in the list of comparables of company 16 ITA No.240/Del/2015 'C', notwithstanding the fact that it was held to be incomparable to company 'B'. The crux of the matter is that the mere fact that company 'A' has been held to be not comparable in a judicial order passed in the case of company 'B', does not per se make it incomparable in all the subsequent cases to follow. Not only company 'A' held to be incomparable to company 'B' can be comparable to company 'C', but company 'X' held to be comparable to company 'Y' can also be incomparable to company 'Z', depending upon the functional profile and the applicability or otherwise of the related factors. There can be no hard and fast rule that if a particular company has been held to be not comparable in the case of another company, then such former company would also cease to be comparable to the assessee company also. The comparability of each company needs to be ascertained only after matching the functional profile and the relevant reasons of the other company. Ergo, this contention raised on behalf of the assessee cannot be accepted. With the above parameters and the factual matrix, we will distinctly examine the companies chosen by the TPO to ascertain if they are really comparable.
17ITA No.240/Del/2015
i) Accentia Technologies Ltd.
10.1.1. The assessee objected to the inclusion of this company in the list of comparables on several reasons including peculiar economic circumstances owing to acquisition of Asscent Infoserve Pvt. Ltd. during the financial year relevant to the assessment year under consideration. The TPO discussed the functional comparability of this company and, in the ultimate analysis, came to hold that it was functionally comparable with the assessee company and hence includible.
10.1.2. We have heard the rival submissions and perused the relevant material on record. We have also gone through the Annual report of this company, a copy of which has been placed on page 435 onwards of the paper book. Notes to Accounts of this company, which have been placed on page 443 of the paper book, indicate about the amalgamation of Asscent Infoserve Pvt. Ltd. with it as approved by the shareholders in the court convened meeting held on 25.4.2009 and, subsequently, sanctioned by the Hon'ble High Court on 21.8.2009. The Mumbai Bench of the Tribunal in Petro Araldite (P) Ltd. Vs. DCIT (2013) 154 18 ITA No.240/Del/2015 TTJ (Mum) 176, has held that a company cannot be considered as comparable because of exceptional financial results due to mergers/demergers. Similar view has been bolstered by the Delhi Bench of the Tribunal in several cases including Ciena India Pvt. Ltd. Vs. DCIT (ITA No.3324/Del/2013) vide its order dated 23.4.2015. In view of the fact that there was merger of Asscent Infoserve Pvt. Ltd. with Accentia Technologies Ltd. by way of amalgamation during the year itself, we hold that this company cannot be considered as comparable due to this extra-ordinary financial event. Accordingly, the same is directed to be excluded from the final list of comparables.
ii) TCS E-Serve International Ltd.
10.2.1. The assessee objected to the inclusion of this company on the ground that it provided financial information processing and customer contact services with high level of foreign expenditure and abnormal profits. The TPO noticed that this company was also offering ITES. He did not treat high turnover of this company as a relevant factor in 19 ITA No.240/Del/2015 considering the comparability. Eventually, this company was included in the final set of comparables.
10.2.2. We have heard the rival submissions and perused the relevant material on record. Relevant parts of the Annual report of this company are available on pages 458 onwards of the paper book. 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 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 20 ITA No.240/Del/2015 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 services'). In order to properly appreciate the vital difference between these two types of companies, it is significant to note that a company which develops software is called a company rendering software development services. Software 21 ITA No.240/Del/2015 development services also include maintenance of software and updation of the software so as to suit the ever changing requirements of the users. A company using, inter alia, a software for obtaining the desired results, is called a company providing non-development software services. Thus, it is crystal clear that there is a phenomenal difference between a company providing software development services and a company providing software non-development services in terms of expertise, professional qualification and experience required for rendering such services. A company providing software non-development services performs a relatively low-end service. Thus the line of distinction is that whereas a company providing software development services helps in the creation, maintenance or updation of a software, on the other hand, a company providing non-development software services obtains the desired result with the use of an existing software. Further, whereas the output of the former is a software in itself or a stage in the ultimate creation of a software, the output of the later is the processed information from the raw data obtained with the help, inter alia, of a software. From the above discussion, it is overt that a company 22 ITA No.240/Del/2015 providing software development services is distinct from and incomparable with a company providing non-development software services.
10.2.3. We find that the assessee is a company providing non- development software services, in the nature of conversion of data from hard copy or files into electronic format. The assessee is not providing any software development services to its AE. On the other hand, this company is also providing `Technical services' to its AE involving software testing, verification and validation of software, which are akin to software maintenance services falling, within the overall category of software development services. The TPO has taken entity level figures of TCS E-Serve International Ltd. for comparison. There is no bifurcation available in respect of the revenues of this company from Transaction processing (which are in the nature of ITES, the same as provided by the assessee) and Technical services (which are in the nature of software development, absent in the assessee's case). In the absence of the availability of any such segregation of the total revenue 23 ITA No.240/Del/2015 of this company, it is not possible to separately consider its profitability from rendering of `Transaction processing services'. As such, the entity level figures render this company as unfit for comparison. Ergo, we order for the removal of this company from the final set of comparables.
iii) TCS e-Serve Ltd.
10.3.1. The TPO proposed to treat this company as comparable. The assessee objected to its inclusion by contending that it was providing financial information processing and customer contact services with high operating revenue and peculiar economic circumstances leading to abnormal profits. The TPO repelled the assessee's objections and included it in the final set of comparables.
10.3.2. We have heard the rival submissions and perused the relevant material on record. A copy of the Annual report of this company is available on page 466 of the paper book. The company's overview has been discussed on page 467 of the paper book, which divulges that this company : "is in the business of providing business process management services in the banking and financial services (BFSI), vertical ( i.e. 24 ITA No.240/Del/2015 industry vertical) to help its customers achieve their business objectives by providing innovative best-in-class services." We find that this company is also providing ITES. Unlike TCS e-Serve International Ltd., this company is not providing any technical services involving software testing, verification and validation of software etc. Since the functional profile of this company on a broader basis is no different from that of the assessee, both being involved in rendering ITES, we are not inclined to treat this company as incomparable. The ld. AR argued that the nature of the ITES provided by this company is different from that of the assessee and hence the same be excluded. We are disinclined to sustain this objection. Matching of the exact functional similarity is dispensed with under the TNMM, which is not so under the Comparable uncontrolled price method. The TNMM approves comparability on the basis of broader overall similarity. When we consider the nature of services provided by this company, being the ITES, which is similar to that of those rendered by the assessee, again the ITES, we cannot order its exclusion simply for the reason that the verticals of ITES are somewhat different. If one goes to make a comparison in the way 25 ITA No.240/Del/2015 suggested by the ld. AR under the TNMM, then it will be very difficult, if not impossible, to find out a ditto comparable. A company which satisfies the broader parameters of comparability in the overall same segment, cannot be excluded due to somewhat different nature of such overall activity. An examination of the comparables chosen by the assessee, which have been accepted by the TPO, also satisfy only the test of overall similarity and not the peculiar similarity, as has been now contrastly contended for the exclusion of this company. This argument, therefore, fails.
10.3.3. In so far as the objection of the ld. AR about the high profit/high turnover of this company is concerned, we find that the Hon'ble Delhi High Court in ChrysCapital Investment Advisors (India) P. Ltd. Vs. DCIT has held , vide its judgment dated 27.4.2015, that high profit or high turnover is not a criteria to exclude an otherwise comparable company. It is further noticed that the Hon'ble Delhi High Court in CIT Vs. Agnity India Technologies (P.) Ltd. (2013 ) 219 Taxman 26 (Del) examined the comparability of Infosys Technologies 26 ITA No.240/Del/2015 from the angle of its inclusion or otherwise in the list of comparable of Agnity India Technologies, a captive unit providing ITES to its AE alone. In that case, the TPO treated three companies as comparable, namely, Satyam Computer Service Ltd., L&T Infotech Ltd. and Infosys Technologies. The DRP excluded Satyam Computer only. The Tribunal excluded only Infosys Technologies Ltd., by impliedly retaining L&T Infotech Ltd. as a good comparable. On appeal by the Revenue, the Honourable High Court upheld the Tribunal order excluding Infosys on the strength of certain relevant distinguishing features including its giantness in terms of sales, nature of work and other factors. Thus it follows that L&T Infotech Ltd., which is otherwise a vast company with much higher turnover, finally found the status of a comparable with a captive company providing ITES to its AE alone.
10.3.4. Coming back to the facts of our case, we find that since TCS e- Serve Ltd. is functionally comparable with the assessee company on an overall basis and no special reasons for its higher profit/turnover have been brought to our notice. Consequently, we hold that the authorities 27 ITA No.240/Del/2015 below were justified in including this company in the list of comparables.
iv) i-Gate Global Solutions Sdn. Bhd.
10.4.1. The TPO included this company in the list of comparables despite the assessee's objections about such company offering both IT and ITES services and the peculiar circumstance of amalgamation of i- Gate Global Solutions Sdn. Bhd., with this company during the financial year 2009-10.
10.4.2. We have gone through the Annual report of this company which is available on page 446 onwards of the paper book. Notes to accounts of this company indicate amalgamation of i-Gate Global Solutions Sdn. Bhd. This amalgamation took place with the approval of the members of the company on 12.8.2009 and subsequently sanctioned by the Hon'ble High Court by its order dated 24.2.2010. As the financial results of this company also include the results of amalgamating company, in our considered opinion, this is an extraordinary financial event, which renders it unfit for comparison with 28 ITA No.240/Del/2015 the assessee company. While discussing the comparability of Accentia Technologies Ltd. (supra), we have referred to certain decisions in which it has been held that a company loses the tag of comparability due to amalgamations, mergers, etc., taking place during the year in question. Adopting the same reasoning, we order for the exclusion of this company from the list of comparables.
v) Infosys BPO 10.5.1. The TPO included this company in the list of comparables. The assessee's objections against its inclusion were overturned. 10.5.2. After considering the rival submissions and perusing the relevant material on record, we find from the Annual report of this company, which is available on page 449 onwards of the paper book, that there was acquisition by this company of McCamish Systems LLC. Such information is available on page 456 of the paper book. Acquisition of McCamish Systems LLC during the year, being an extraordinary financial event, renders it incomparable. Following the 29 ITA No.240/Del/2015 reasons taken note of above, we order for the elimination of this company from the final set of comparables.
B. Challenge to the exclusion of some companies.
11. The assessee is aggrieved against the exclusion of six companies from the final set of comparables by the TPO. We will deal with these companies hereinafter.
i) R. Systems International Ltd. (Seg.); Jindal Intelicom Pvt. Ltd.;
and Caliber Point Business Solutions Ltd.
12.1.1. The assessee included these three companies in its list of comparables. However, the TPO eliminated R. Systems (Seg.) on the ground that it was following different year ending, namely, 31st December and, hence, was not comparable. Jindal Intelicom Pvt. Ltd., was excluded on the ground that March, 2010 ending financials of the company were for 15 months. Since the annual figures for the financial year ending 31.3.2010 were not available, this company was also rejected. Caliber Point Business Solutions Ltd. was also rejected because of different year ending. The ld. AR fairly accepted that the above 30 ITA No.240/Del/2015 referred three companies were either following calendar year for maintaining their accounts or their figures were for more than 12 months in contrast to the assessee following financial year ending 31st March. It was, however, submitted that these three companies should not have been excluded for this reason alone when they were otherwise functionally similar, a fact which has not been disputed by the TPO. The ld. DR opposed this contention by submitting that the data for the year ending of these companies was not similar to that of assessee company and hence such companies were rightly excluded. 12.1.2. After considering the rival submissions and perusing the relevant material, it is noticed that the assessee company is having financial year ending covering the period 1.4.2009 to 31.3.2010. In that view of the matter, a valid comparison can be made only if the comparable companies too have the same financial year. In this regard, we consider it appropriate to note the relevant part of sub-rule (4) of Rule 10B which provides that: "the data to be used in analyzing the comparability of an uncontrolled transaction with an international 31 ITA No.240/Del/2015 transaction shall be the data relating to the financial year in which the international transaction had been entered into." It is obvious from the language of sub-rule (4) that the comparability of an uncontrolled transaction can be analyzed only with the "data relating to the financial year" in which the international transaction has been entered into. In other words, if the tested party has March year ending, then, the comparables must also have the data relating to the financial year ending 31st March itself. If such a data is not available, then, a company albeit comparable, also disqualifies. Espousing the facts of the extant case, we find that insofar as the functional comparability of these three companies is concerned, the TPO has not disputed the same. The only reason given for their exclusion is the non-availability of data for the relevant financial year. The ld. AR contended that though the year ending of the above referred three companies was either different or financial year included results for 15 months, yet, the assessee was in a position to put forward the data of these three companies for the financial year 1.4.2009 to 31.3.2010 from their Annual reports only. It was so stated on the basis of the availability of the quarterly data from the Annual reports of 32 ITA No.240/Del/2015 these companies, which could be adjusted for the financial year ending 31.3.2010. If the contention of the assessee is correct, that the relevant data for the concerned financial year can be deduced from the information available from their annual reports, then, there can be no objection to the inclusion of these companies in the list of comparables with the adjusted data for the relevant financial year itself. Under such circumstances, we set aside the impugned order and remit the matter to the file of TPO/AO for examining this aspect of the matter. It is clarified that only if the assessee succeeds in providing the relevant data of these companies for the concerned financial year on the basis of the information available from their Annual reports only, the TPO should include these companies in the list of comparables by considering their OP/OC on the basis of the financial year ending 31.3.2010. If however, even though their quarterly data is available and can be compiled for the relevant financial year, but the amounts of operating profit or operating cost etc. for the relevant financial year are not directly available without any apportionment or truncation, then these companies should not be considered as comparable.
33ITA No.240/Del/2015
ii) CG-VAK Software and Exports Ltd. (Seg.) 12.2.1. The assessee included the segmental figures of this company in the list of comparables. The TPO eliminated this company on the ground that it was providing software services and ITES and its turnover from ITES was only 0.83 crore, which was less than the requisite turnover.
12.2.2. Having heard both the sides on this issue, we find that the TPO has accepted the functional comparability of this company on segmental level. The ld. DR was also fair enough to candidly accept the functional similarity of the relevant segment of this company. In such circumstances, the question arises as to whether the relevant segment of this company can be excluded from the list of comparables merely on the ground that the revenue from this segment is only Rs.83 lacs? In our considered opinion, the quantum of turnover can be no reason for the exclusion of a company which is otherwise comparable. We have noticed above the judgment of the Hon'ble jurisdictional High Court in the case of ChrysCapital Investment Advisors (India) P. Ltd (supra) in 34 ITA No.240/Del/2015 which it has been held that high turnover or high profit can be no reason to eliminate an otherwise comparable company. The same applies with full force in the converse manner as well to a low turnover/low profit company. We, therefore, hold that a company cannot be excluded from the list of comparables on the ground of its low turnover. In principle, we direct the inclusion of the relevant segment of this company in the list of comparables. The TPO is directed to include the operating profit/operating costs of the ITES segment of this company in the list of comparables, after due verification of the necessary figures for determination of the operating profit margin etc.
iii) Micro Genetics Systems Ltd.
12.3.1. The TPO excluded this company from the list of comparables by observing that its turnover was only Rs.2.44 crore and, hence, it failed the turnover filter.
12.3.2. We do not find any reason to exclude this company from the list of comparables merely on the ground that its turnover is less. The reasons given above while considering the comparability of CG-VAK 35 ITA No.240/Del/2015 Software and Exports apply to this company as well. We, therefore, order for the inclusion of this company in the list of comparables. However, the TPO is directed to verify the correctness of OP/OC of this company before its inclusion in the set of comparables.
iv) Axis IT & T Ltd.
12.4.1. The TPO excluded this company by mentioning that it failed export filter as the total exports of this company were only 43.16% of the total operating revenue. Here again, we find that the only reason given by the TPO for the exclusion of this company is its failing export filter. Relevant details of the figures of this company have not been made available. We, therefore, set aside the impugned order on this score and remit the matter to the file of TPO/AO for examining the functional comparability of this company. If this company is found to be similar on entity or segment level, then, the entity or the relevant segment should be included in the final set of comparables after due verification of the rate of operating profit margin etc. 36 ITA No.240/Del/2015 12.5. In view of the foregoing discussion, we set aside the impugned order and remit the matter of determination of ALP of the international transaction of `Provision of IT enabled data conversion services' to the file of TPO/AO for a fresh decision in accordance with our above observations/directions and also the interest aspect as discussed infra. Apart from the issues discussed in this order, the decision of the TPO on all other aspects of the determination of the ALP of this international transaction should be considered as final, as no other issue has been agitated before us.
VI. INTEREST ON DELAYED/NON-REALIZATION OF EXPORT PROCEEDS 13.1. On going through the Master Service Agreement between the assessee company and its AE, it was observed by the TPO that the AE was allowed much longer period for payment than was allowed normally in an uncontrolled situation. The TPO considered the prescription of clause 8.4 of the Agreement which provides that all amounts under this Agreement should be paid within 150 days from the date of invoice. In 37 ITA No.240/Del/2015 his opinion, 60 days credit facility is ordinarily given without any interest payment and any delay in payment thereafter was liable to be compensated with interest @ 1.5% to 2% per month on the outstanding amount. The assessee was required to give working of interest on late realization or non-realization of export proceeds during the financial year 2009-10. Such working given by the assessee has been made Annexure-1 to the order of the TPO. On a perusal of the statement of non/late realization of export invoices furnished by the assessee, the TPO held that the assessee ought to have charged @ 15% p.a. on receivables as on 1.4.2009 which were outstanding for more than 60 days; and export proceeds not realized within 60 days from the date of invoice during the year. These two amounts were calculated at Rs.3.16 crore and Rs.2.69 crore, making total TP adjustment for interest at Rs.5.86 crore. That is how, the TP adjustment on account of interest to be charged on non-realisation of export proceeds to the tune of Rs.5.86 crore and odd was proposed and added by the AO in the final assessment order. The assessee is aggrieved against this addition. 38 ITA No.240/Del/2015 13.2. The ld. AR contended that the Agreement between the assessee and its AE does not provide for any charging of interest and, hence, there can be no question of any notional/hypothetical interest income as has been determined by the TPO. To support the non-charging of interest, he relied on the judgment of the Hon'ble Bombay High Court in the case of Vodafone India Services Pvt. Ltd. Vs. Union of India and Others (2014) 368 ITR 1 (Bom.). He buttressed the same argument by relying on the judgment of the Hon'ble jurisdictional High Court dated 27.3.2015 in CIT vs. Cotton Naturals (I) Pvt. Ltd. (Del.). The view canvassed by the ld. AR against the not making addition on account of interest was strongly countered by the ld. DR.
13.3. We are not persuaded to accept this argument. The argument that the Agreement does not provide for charging any interest on late realization of invoice value and hence no interest can be charged, deserves the fate of dismissal under the transfer pricing provisions. Chapter X of the Act has been enshrined to determine the income from an international transaction at ALP, being in the same manner as is 39 ITA No.240/Del/2015 determined between two independent parties. It means that if an income is not charged or under charged by an Indian entity from its foreign AE, which ought to have been properly charged if the transaction had been between two independent parties, then such under charged or uncharged income needs to be brought to tax by determining the ALP of the international transaction giving rise to such income. 13.4. Coming to other argument that no interest is chargeable under the present circumstances on the strength of the judgment in the case of Vodafone India Services Pvt. Ltd. (supra), we find that the point of controversy in that case was quite distinct. Addition on account of the excess share premium was made which, in the opinion of the TPO, should have been received by that assessee from the issuance of shares. It is on this excess share premium short received, that the amount of interest was also charged. The Hon'ble Bombay High Court overturned the opinion of the TPO by holding that the amount of less share premium received over and above the actual premium received cannot be added as TP adjustment because the receipt of premium itself, being a 40 ITA No.240/Del/2015 capital receipt, is not chargeable to tax. When the amount of premium is a capital receipt, the Hon'ble High Court held that the so called short premium charged also cannot assume the character of revenue. Apart from the deletion of addition on account of share premium, the Hon'ble Bombay High Court in Vodafone India Services Pvt. Ltd. Vs. Union of India and Others (2014) 369 ITR 511 (Bom.) and Shell India Markets P. Ltd. VS. ACIT (2014) 369 ITR 516 (Bom) has held that interest on such short realized premium also cannot be construed as an item of transfer pricing adjustment. It is obvious that the facts of the instant case are absolutely different from those considered in the case of Vodafone India Services Pvt. Ltd. (supra). The base amount on which interest was calculated by the TPO in the case of Vodafone India (supra) was itself a capital receipt not chargeable to tax and not a trading debt arising during the course of business, which issue has been discussed in the immediately succeeding paras. Instantly, we are concerned with the late realization by the assessee of trading debt from its AE which is otherwise a revenue receipt and has also been offered for taxation. 41 ITA No.240/Del/2015 13.5. At this juncture, it is apposite to note that the Finance Act, 2012 has inserted Explanation to section 92B with retrospective effect from 1.4.2002. Clause (i) of this Explanation, which is otherwise also for removal of doubts, gives meaning to the expression 'international transaction' in an inclusive manner. Sub-clause (c) of clause (i) of this Explanation, which is relevant for our purpose, provides as under:-
` Explanation.--For the removal of doubts, it is hereby clarified that--
(i) the expression "international transaction" shall include--
(a) ............
(b) ...........
(c) capital financing, including any type of long-term or short-term borrowing, lending or guarantee, purchase or sale of marketable securities or any type of advance, payments or deferred payment or receivable or any other debt arising during the course of business;....' 13.6. On circumspection of the relevant part of the Explanation inserted with retrospective effect from 1.4.2002, thereby also covering the assessment year under consideration, there remains no doubt that apart from any long-term or short-term lending or borrowing, etc., or any type of advance payments or deferred payments, 'any other debt arising during the course of business' has also been expressly 42 ITA No.240/Del/2015 recognized as an international transaction. That being so, the payment of interest or receipt of interest on the loans accepted or allowed in the circumstances as mentioned in this clause of the Explanation, also become international transactions, requiring the determination of their ALP. If the payment of interest is excessive or there is no or low receipt of interest, then such interest expense/income needs to be brought to ALP. The expression 'debt arising during the course of business' in common parlance encompasses, inter alia, any trading debt arising from the sale of goods or services rendered in the course of carrying on the business. Once any debt arising during the course of business has been ordained by the legislature as an international transaction, it is, but, natural that if there is any delay in the realization of such debt arising during the course of business, it is liable to be visited with the TP adjustment on account of interest income short charged or uncharged.
13.7. The Hon'ble Bombay High Court in the case of CIT vs. Patni Computer Systems Ltd., (2013) 215 Taxmann 108 (Bom.) dealt, inter alia, with the following question of law:-
43 ITA No.240/Del/2015
"(c) Whether on the facts and circumstances of the case and in law, the Tribunal did not err in holding that the loss suffered by the assessee by allowing excess period of credit to the associated enterprises without charging an interest during such credit period would not amount to international transaction whereas section 92B(1) of the Income-tax Act, 1961 refers to any other transaction having a bearing on the profits, income, losses or assets of such enterprises?"
13.8. While answering the above question, the Hon'ble High Court noticed that an amendment to section 92B has been carried out by the Finance Act, 2012 with retrospective effect from 1.4.2002. Setting aside the view taken by the Tribunal, the Hon'ble High Court restored this issue to the file of the Tribunal for fresh decision in the light of the legislative amendment.
13.9. The foregoing discussion divulges that non-charging or under- charging of interest on the excess period of credit allowed to the AE for the realization of invoices amounts to an international transaction and the ALP of such an international transaction is required to be determined.
44 ITA No.240/Del/2015 13.10. In so far as the reliance of the ld. AR on the judgment in Cotton Naturals (I) Pvt. Ltd. (supra) is concerned, we find the facts of that case to be distinguishable. In that case, a loan was advanced by that assessee to a wholly owned subsidiary in the USA. The assessee selected the Comparable Uncontrolled Price (CUP) method to benchmark the interest received on the loan and claimed that the interest received @ 4% was comparable. The TPO held that the arm's length interest rate should be taken at 14% per annum. This was reduced to 12.20% by the DRP by adopting the prime lending rate fixed by the RBI. The Tribunal relying on certain decisions upheld the assessee's claim. When the matter finally came up before the Hon'ble High Court, it held that the amount in question was given in foreign currency, i.e., in US Dollars and was also to be repaid in the same currency, i.e., US Dollars. In that view of the matter, it was held that the currency in which the loan is to be repaid normally determines the rate of return on the money lent and the interest rate applicable to loans granted and to be returned in Indian rupee would not be a relevant comparable. The prime lending rate was, therefore, held to be not applicable. From the above narration 45 ITA No.240/Del/2015 of facts, it is clear that, firstly, in the case of Cotton Naturals (I) Pvt. Ltd. (supra), that assessee charged interest on loans given to its AE. The controversy was only about the rate of interest, which ought to have been charged. In the case under consideration, the assessee did not charge any interest on the amounts remaining parked with its foreign AE due to late or non-realization of invoices in time. As the assessee before us did not charge any interest, the judgment in Cotton Naturals (I) Pvt. Ltd.(supra) rather supports the view canvassed by the Revenue on the basic issue of chargeability of interest. Be that as it may, the amendment to section 92B made with retrospective effect from 1.4.2002 sets the controversy to rest inasmuch as it provides in unambiguous terms that any other debt arising during the course of business is an international transaction. Ex consequenti, transfer pricing adjustment on account of interest income is mandated in case of late/non realization of invoice value from AE. The view canvassed by the ld. AR on this issue is, therefore, found to be devoid of merit and hence jettisoned. 46 ITA No.240/Del/2015 13.11. Now, we come to the computation of the ALP of the international transaction of 'debt arising during the course of business.' This has two ingredients, viz., the amount on which interest should be charged and the arm's length rate at which the interest should be charged.
13.12. In so far as the first aspect is concerned, we find that the TPO has taken normal credit period of 60 days and accordingly made addition on account of transfer pricing adjustment for the period in excess of 60 days. In our considered opinion, transfer pricing adjustment on account of interest for the entire period of delay beyond 60 days cannot be treated as a separate international transaction of trading debt arising during the course of business. It is noticed that the assessee entered into an agreement with its AE for realization of invoices within a period of 150 days. This implies that the interest amount on non-realization of invoices up to 150 days was factored in the price charged for the services rendered. Annexure-1 to the TPO's order gives details of the instances of late realization or non-realization of advances up to the year 47 ITA No.240/Del/2015 ending. First three and a half pages of this Annexure indicate number of days for which there was delayed realization. Such delay ranges from 175 days to 217 days. The remaining pages disclose no realization of invoices up to 31st March, 2010. When we consider the dates of invoices in the remaining pages, it is manifested that in certain cases these invoices have been raised on 31st August, 30th or September or 31st October, 2009. In all such cases, the period of 150 days already stood expired as on 31st March, 2010 and the assessee ought to have charged interest on the delay in realizing such invoices along with the first three and a half pages in which there is an absolute and identified delay in realization of invoices beyond the stipulated period. When the interest for realization of trade advances up to 150 days is part and parcel of the price charged from the AE, then the delay up to this extent cannot give rise to a separate international transaction of interest uncharged. Rather interest for the period in excess of normally realizable period in an uncontrolled situation upto 150 days needs to be considered in the determining the ALP of the international transaction of the `Provision of IT Enabled data conversion services'. This can be done by 48 ITA No.240/Del/2015 increasing the revenue charged by the comparable companies with the amount of interest for the period between that allowed by them in realization of invoices and 150 days as allowed by the assessee, so as to bring such comparables at par with the assessee's international transaction of provision of the ITES. To illustrate, if the comparables have allowed credit period of, say, 60 days and the assessee has realized its invoices in 180 days, then interest for 90 days (150 days minus 60 days) should be added to the price charged by the comparables and the amount of their resultant adjusted operating profit be computed. Rule 10B permits making such an adjustment. Sub-rule (2) to rule 10B stipulates that for the purposes of sub-rule (1), the comparability of an international transaction with an uncontrolled transaction shall be judged, inter alia, with reference to the : `(c) the contractual terms (whether or not such terms are formal or in writing) of the transactions ...' . Then sub-rule (3) mandates that an uncontrolled transaction shall be comparable to an international transaction if `reasonably accurate adjustments can be made to eliminate the material effects of such differences'. Applying the prescription of rule 10, it becomes vivid that 49 ITA No.240/Del/2015 difference on account of the `contractual terms of the transactions', which also include the credit period allowed, needs to be adjusted in the profit of comparables. As the TPO has taken the entire delay beyond that normally allowed as a separate international transaction, which position is not correct, we hold that the effect of delay on interest up to 150 days over and above the normal period of realization in an uncontrolled situation, should be considered in the determination of the ALP of the international transaction of 'Provision of IT Enabled data conversion services' and the period of delay above 150 days, namely, 30 days in our above illustration (180 days minus 150 days) should be considered as a separate international transaction in terms of clause (c) of Explanation to section 92B.
13.13. In so far as the question of rate of interest is concerned, we find that this issue is no more res integra in view of the judgment of the Hon'ble jurisdictional High Court in the case of Cotton Naturals (I) Pvt. Ltd. (supra), in which it has been held that it is the currency in which the loan is to be repaid which determines the rate of interest and hence 50 ITA No.240/Del/2015 the prime lending rate should not be considered for determining the interest rate. Under such circumstances, we set aside the impugned order and remit the matter to the file of TPO/AO for a fresh determination of addition on account of transfer pricing adjustment towards interest not realized from its AE on the debts arising during the course of business in line with our above observations.
14. In the result, the appeal is allowed for statistical purposes.
The order pronounced in the open court on 06.07.2015.
Sd/- Sd/-
[A.T. VARKEY] [R.S. SYAL]
JUDICIAL MEMBER ACCOUNTANT MEMBER
Dated, 06th July, 2015.
dk
Copy forwarded to:
1. Appellant
2. Respondent
3. CIT
4. CIT (A)
5. DR, ITAT
AR, ITAT, NEW DELHI.
51