Income Tax Appellate Tribunal - Bangalore
M/S Hewlett - Packard Global Soft ... vs Acit, Bangalore on 28 June, 2018
IN THE INCOME TAX APPELLATE TRIBUNAL
'A' BENCH, BENGALURU
BEFORE SHRI SUNIL KUMAR YADAV, JUDICIAL MEMBER
and
SHRI INTURI RAMA RAO, ACCOUNTANT MEMBER
IT(TP)A No.1394/Bang/2012
(Assessment year: 2005-06)
and
ITA No.1332/Bang/2010
(Assessment year: 2006-07)
M/s.EIT Services India Pvt. Ltd.
(formerly known as Hewlett Packard Global Soft
Pvt. Ltd. (in the case of erstwhile M/s.RelQ
Software Private Ltd.), Plot 39/40,
Electronics City Phase II, Hosur Road,
Bengaluru-560 100.
PAN:AAACR 9468 C ... Appellant
Vs.
Asst. Commissioner of Income-tax
Circle 2(1)(2),
Bengaluru. ... Respondent
AND
IT(TP)A No.163/Bang/2012
(Assessment year: 2005-06)
Asst. Commissioner of Income-tax
Circle 11(4),
Bengaluru. ... Appellant
Vs.
M/s.Hewlett Packard Global Soft Pvt. Ltd.
(Formerly known as 'M/s.Relq Software Pvt. Ltd.)
Plot No.39/40, Electronic City, Phase-II,
Hosur Road,
Bengaluru-560100. ... Respondent
PAN:AAACR 9468 C
Assessee by : Shri T.Suryanarayana, Advocate.
Revenue by : Shri C.H.Sundar Rao, CIT(DR)
Date of hearing : 31/05/2018
Date of pronouncement : 28/06/2018
IT(TP)A No.63 & 1394/12 & ITA 1332/10
Page 2 of 16
O R D E R
Per INTURI RAMA RAO, AM :
IT(TP)A No.1394/Bang/2012 is an appeal filed by the assessee directed against the order of the ld. Commissioner of Income- tax(Appeals)-IV, Bengaluru, dated 30/11/2011 for the assessment year 2005-06. ITA No.1332/Bang/2010 is an appeal also filed by the assessee directed against the order of assessment passed u/s 143(3) r.w.s. 144(c) of the Income-tax Act, 1961 [hereinafter referred to as 'the Act' for short] for the assessment year 2006-07. IT(TP)A No.163/Bang/2012 is the cross appeal filed by the revenue for the assessment year 2005-06. Since common issue is involved, all these appeals were heard together and are disposed of vide this common and consolidated order for the sake of convenience.
IT(TP)A No.1394/Bang/2012:
2. The assessee raised the following grounds of appeal:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 3 of 16
3. Briefly the facts of the case are as under: The assessee is a domestic company engaged in the business of providing software development services to its AE. During the previous year relevant to assessment year under consideration, the assessee-company had three wholly subsidiaries viz., (i) RelQ Inc - USA, (ii) RelQ Europe Ltd., - UK and (iii) RelQ Software (APAC) Pte Ltd - Singapore. The assessee filed return of income on 31/10/2005 declaring total income of IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 4 of 16 Rs.2,16,98,110/- after claiming exemption of Rs.5,05,45,401/- u/s 10A of the Income-tax Act, 1961 [hereinafter referred to as 'the Act']. The assessee also reported the following international transactions:
The assessee-company also submitted transfer pricing study. To bench mark the above international transactions the assessee-company adopted TNMM as the most appropriate method for the purpose of determining the ALP in respect of software development services. Profit to cost was selected as the PLI. For the purpose of bench marking the transactions, the assessee-company has selected 10 comparable entities which are engaged in the business of providing software development services whose average profit margin of the preceding two financial years was computed at 10.79%.
4. The Transfer Pricing Officer (TPO) rejected the above TP study report and proceeded to identify different set of comparables by applying the following filters:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 5 of 16 Finally the TPO selected the following companies applying the above filters whose PLI was computed at 26.3% after granting working capital adjustment of 3.8%.
1. Bodhtree consulting ltd
2. Lanco Global Systems ltd
3. Exensys Software Solutions ltd
4. Sankhya Infotech ltd
5. Sasken Network Systems ltd
6. Four soft ltd
7. Thirdware Solution limited
8. R S Software (India) Ltd
9. Geometric Software Solutions Co.ltd
10.Tata Elxsi Limited (seg)
11.Visual soft Technolgies ltd (se Sasken communicaton
12.Technologies ltd(seg)
13.Igate(seg.)
14.Flextroriics (seg)
15.IS L&T Infotech
16.Satyam
17.lnfosys The TPO held that the transaction of provision of software development services to the AE is at arm's length as it +/-5% within the range under the proviso to section 92C(3) of the Act. Thus no ALP adjustment was suggested by the TPO in respect of software development services.
However, in respect of loans advanced by the assessee-company to its AE, the TPO has suggested ALP adjustment of Rs.97,16,44/- computed at the rate of 12% on the monthly outstanding balances rejecting the arguments of the assessee-company that the loans advanced to subsidiary company is out of business expediency, vide order dated 10/10/2008 passed u/s 92CA of the Act.
5. After receipt of the TPO order, the Assessing Officer passed assessment order vide order dated 28/11/2008 passed u/s 143(3) at total income of Rs.14,45,81,280/-. While doing so, the AO restricted the exemption u/s 10A to Rs.1,41,41,763/- by reducing the amount of Rs.25,73,104/- from export turnover as the said sum of Rs.25,73,104/- was not brought into India in convertible foreign exchange (b) the expenses of Rs.32,49,125/-incurred on telecommunication and insurance was reduced from export turnover. Further a sum of Rs.6,31,97,430/- incurred in foreign currency towards providing technical services outside IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 6 of 16 India also reduced from export turnover thereby restricting the deduction u/s 10A by Rs.1,41,41,763/-. The AO also added back a sum of Rs.9,90,54,905/- being the amount written back off as doubtful debts and the AO also made addition of ALP adjustment of Rs.97,16,440/- as suggested by the TPO.
6. Being aggrieved, an appeal was preferred before the ld.CIT(A) who confirmed the addition on account of ALP adjustment in respect of interest free loan granted to the AE and allowed benefit relating to restriction of deduction u/s 10A following the decision of the Hon'ble Karnataka High Court in the case of CIT vs. Tata Elxsi (349 ITR 98).
7. Being aggrieved, the assessee-company is in appeal before us.
8. Ground Nos.1 and 7 are general in nature. Ground Nos.2, 3, 4 were not pressed by the assessee-company. Ground No.5 challenges the addition of ALP adjustment on account of interest free loan granted by the assessee to its AE. It is submitted that loans were advanced by the assessee-company to its AE out of business expediency. The submissions made by the assessee-company in respect of transaction of loans are as under:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 7 of 16 The above arguments were rejected by the TPO. On appeal before the ld.CIT(A), the ld.CIT(A) confirmed the findings of the TPO.
9. Being aggrieved, the assessee-company is before us. The ld.AR vehemently submitted that loans advanced to sister concern were converted into share application money as on 30/3/2007. Therefore, transaction of advancing loans cannot be treated as international transactions and reliance in this regard was placed on the co-ordinate bench decision in the case of Micro Inks Ltd. vs. ACIT (36 taxmann.com
50)(Ahmedabad) and also Bombay Tribunal in the case of Shrenuj & Co. Ltd. vs. Addl.CIT (57 taxmann.com 274)(Mumbai). Without prejudice to the above contention, It is further submitted that for the purpose of bench marking the transactions of loans given to overseas subsidiaries libor has to be adopted but not the domestic rate of interest. He also submitted that in any event interest rate to be adopted for the purpose of bench marking the transaction of advancing loans is that the rate of interest prevailing where the loan had been consumed and not to be determined on the basis of rate prevailing in India. Reliance in this regard was placed on the decision of Hon'ble Bombay High Court in the case of CIT vs. Tata Autocomp Systems Ltd. (56 taxmann.com
206)(Bombay) and decision of Hon'ble Delhi High Court in the case of CIT vs. Cotton Natural (I) (P.) Ltd. (55 Taxmann.com 523)(Delhi).
10. On the other hand, ld.CIT(DR) opposed the above submissions. The intention being advancing loans should alone be considered and in any event, conversion of loan into equity took place only in subsequent period i.e. on 31/3/2007 and therefore, the cases relied upon by the learned counsel for the assessee are not applicable. He also placed reliance on 37 SOT 358. He further submitted that the plea of conversion of loan into equity was never taken before the lower authorities, since it is a factual issue and cannot be admitted and decided by this Tribunal.
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 8 of 16
11. We heard rival submissions and perused material on record. The undisputed facts of the case are that the assessee-company had advanced interest-free loans to its wholly owned subsidiaries situated abroad. There is no dispute that these subsidiaries are associated companies of the assessee-company. In terms of provisions of sub- section (1) of section 92B of the Act, borrowing or lending of money is an international transaction provided other ingredients specified u/s 92B(1) of the Act are satisfied. By virtue of sub-clause (c) of clause (i) of Explanation to section 92B inserted from 01/04/2001 the term 'international transaction' is defined as under:
"(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;"
Therefore, on the reading of the above provision, it is clear that transaction of advancing interest-free loans to subsidiary companies constitutes international transaction. Then the question to be considered is whether the borrowed funds have been lent at Arm's length or not. In other words, the question is what rate of interest on such borrowing to be adopted. For this purpose, notional interest is to be calculated by applying arms' length interest rate to the loan. Then the question that crops up is, what is arm's length rate of interest to be adopted in order to determine the arm's length adjustment? The co-ordinate bench of the Tribunal in Dy. CIT v. Tech Mahindra Ltd. (12 taxmann.com 132) held that ALP of interest in case of loans advanced to AE would be determined on the basis of rate of interest being charged in the country where the loan is received or consumed. The Hon'ble Bombay High Court, in the case of Tata Autocomp Systems Ltd. (supra) upheld this view after observing that the department had not preferred any appeal against the decision of the Tribunal in the aforesaid case. Therefore, domestic rate of interest cannot be applied for the purpose of determining the ALP of the transaction. In the light of this decision, we remit the issue of determining the ALP of the transaction of advancing interest-free loan to AE to the AO/TPO to adopt the rate of interest prevailing in the country where loans were received by the AE. The fact that these loans were IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 9 of 16 converted into equity in the subsequent period, in any way cannot come in the way of determination of ALP of transaction as conversion of loan had taken place in the subsequent period. Re-characterisation of the transaction in the absence of finding that it is a colorful device or the economic substance of the transaction differs from its form is not permissible in the light of the ratio laid down by the Hon'ble Delhi High Court in the case of CIT vs. EKL Appliances (345 ITR 241).
12. In the result, the appeal filed by the assessee is partly allowed for statistical purposes.
ITA No.1332/Bang/2010:13. The assessee raised the following grounds of appeal:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 10 of 16 IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 11 of 16
14. For the parity of reasons stated in IT(TP)A No.1394/Bang/2012, the grounds raised on the issue of determination of ALP of interest-free loans to AE are restored to the file of the AO/TPO for the purpose of determining the ALP in respect of interest-free loans advanced granted to the wholly owned subsidiaries abroad by adopting rate of interest prevailing in the country where loans were consumed.
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 12 of 16 Non-TP issues:
15. The ground No.15 challenges the disallowance of Rs.70,55,968/- being loss on account of foreign exchange conversion debited to P&L Account. The facts relating to this issue are clearly set out by the Hon'ble DRP vide para.13 & 14 of its order which read as under:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 13 of 16 The above finding clearly reveals that though the Hon'ble Hon'ble DRP agreed in principle that loss on account of difference in conversion of foreign exchange on trading items, revenue account or trading account or circulating capital of business is revenue in nature, in the light of the decision of the Hon'ble Apex Court in the case of CIT vs. Woodword Governor India Pvt.Ltd. (312 ITR 254) but in absence of the details whether advances made were in the nature of current account or capital account, relief was not granted to the assessee. Even before us, no material or evidence is placed before us to show that these foreign currency loans are revenue account or circulating capital. Therefore, we do not find any reason to differ with the Hon'ble DRP. Hence, the grounds of appeal are dismissed.
16. The next ground of appeal relates to deduction of foreign travel, insurance and telecommunication expenses incurred in foreign currency. The AO reduced the same from export turnover. The Hon'ble DRP also confirmed the findings of the AO. However, in the light of the decision of the Hon'ble jurisdictional High Court in the case of CIT vs. Tata Elxsi (supra) we direct the AO to reduce the same from total turnover as well as the export turnover for the purpose of calculating the benefit u/s 10A of the Act. The decision of the jurisdictional High Court in the case of Tata Elxsi (supra) was approved by the Hon'ble Apex Court in the case of CIT vs. HCL Technologies Ltd.(404 ITR 719)(SC) by holding as under vide para.17:
"17) The similar nature of controversy, akin this case, arose before the Karnataka High Court in CITvs.Tata Elxsi Ltd. (2012) 204 Taxman 321/17. The issue before the Karnataka High Court was whether the Tribunal was correct in holding that while computing relief under Section10A of the IT Act, the amount of communication expenses should be excluded from the total turnover if the same are reduced from the export turnover? While giving the answer to the issue, the High Court, IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 14 of 16 inter-alia, held that when a particular word is not defined by the legislature and an ordinary meaning is to be attributed to it, the said ordinary meaning is to be in conformity with the context in which it is used. Hence, what is excluded from 'export turnover' must also be excluded from 'total turnover', since one of the components of 'total turnover' is export turnover. Any other interpretation would run counter to the legislative intent and would be impermissible."
18) Accordingly, the formula for computation of the deduction under Section10A of the Act would be as follows:
Export turnover as defined in Explanation 2(iv) to section Export Profit = total Profit of the Business XX 10A of the Income-tax Act Export turnover as defined in Explanation 2(iv) to section 10A of the Income-tax Act + domestic sale proceeds
19) In the instant case, if the deductions on freight, telecommunication and insurance attributable to the delivery of computer software under Section10A of the IT Act are allowed only in Export Turnover but not from the Total Turnover then, it would give rise to inadvertent, unlawful, meaningless and illogical result which would cause grave injustice to the respondent which could have never been the intention of the legislature.
20) Even in common parlance, when the object of the formula is to arrive at the profit from export business, expenses excluded from export turnover have to be excluded from total turnover also.
Otherwise, any other interpretation makes the formula unworkable and absurd. Hence, we are satisfied that such deduction shall be allowed from the total turnover in same proportion as well."
17. In the result, the appeal filed by the assessee is partly allowed.
IT(TP)A No.163/Bang/2012:
18. The revenue raised the following grounds of appeal:
IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 15 of 16
19. The only issue raised in these grounds of appeal relates to computation of deduction u/s 10A of the Income-tax Act, 1961 [hereinafter referred to as 'the Act' for short]. While computing deduction u/s 10A of the Act, the Assessing Officer had deducted telecommunication and insurance expenses only from export turnover. On appeal, ld.CIT(A) directed the AO to deduct telecommunication and insurance expenses both from export turnover as well as total turnover. Being aggrieved, the revenue is in appeal before us.
20. We heard rival submissions and perused the material on record. The decision of the ld.CIT(A) is in consonance with the decision of the Hon'ble jurisdictional High Court in the case of CIT vs. Tata Elxsi (349 ITR
98) wherein the Hon'ble High Court held that the same is required to be reduced from export turnover as well as total turnover. This decision was approved by the Hon'ble Apex Court in the case of CIT vs. HCL IT(TP)A No.63 & 1394/12 & ITA 1332/10 Page 16 of 16 Technologies Ltd.(404 ITR 719)(SC). Therefore, the grounds of appeal filed by the revenue in this regard are dismissed.
21. In the result, the appeal filed by the revenue is dismissed.
22. In the result, IT(TP)A No.1394/Bang/2012 and ITA No.1332/Bang/2010 are partly allowed for statistical purposes and IT(TP)A No.163/Bang/2012 is dismissed.
Order pronounced in the open court on 28th June, 2018 Sd/- sd/-
(SUNIL KUMAR YADAV) (INTURI RAMA RAO)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Place : Bengaluru.
D a t e d : 28/06/2018
srinivasulu, sps
Copy to :
1 Appellant
2 Respondent
3 CIT(A)
4 CIT
5 DR, ITAT, Bangalore.
6 Guard file
By order
Senior Private Secretary
Income-tax Appellate Tribunal
Bangalore