Income Tax Appellate Tribunal - Delhi
Mckinsey Knowledge Centre Pvt. Ltd.,, ... vs Dcit, New Delhi on 15 December, 2016
IN THE INCOME TAX APPELLATE TRIBUNAL
DELHI BENCHES : I : NEW DELHI
BEFORE SHRI R.S. SYAL, AM & SMT. BEENA A. PILLAI, JM
ITA No.154/Del/2016
Assessment Year : 2011-12
McKinsey Knowledge Centre Pvt. Ltd., Vs. DCIT,
3rd Floor, Block-III, Circle-16(2),
Vatika Business Park, New Delhi.
Sector-49,
Sohna Road,
Gurgaon.
PAN: AACCM2356G
ITA No.499/Del/2016
Assessment Year : 2011-12
DCIT, McKinsey Knowledge
Circle-16(2), Centre Pvt. Ltd.,
New Delhi. 3rd Floor, Block-III,
Vatika Business Park,
Sector-49,
Sohna Road,
Gurgaon.
PAN: AACCM2356G
(Appellant) (Respondent)
Assessee By : Shri Porus Kaka, Sr. Advocate &
Shri Divesh Chawla, Advocate
Department By : Shri Amrendra Kumar, CIT, DR &
Shri Neeraj Kumar, Sr. DR
Date of Hearing : 13.12.2016
Date of Pronouncement : 15.12.2016
ITA No.154/Del/2016
ORDER
PER R.S. SYAL, AM:
These two cross appeals - one by the assessee and the other by the Revenue - are directed against the final assessment order dated 10.12.2015 passed by the Assessing Officer (AO) u/s 143(3) read with section 144C of the Income-tax Act, 1961 (hereinafter also called 'the Act') in relation to the assessment year 2011-12.
A. RESEARCH AND INFORMATION SERVICES
2. The first issue raised by the assessee in its appeal is against the transfer pricing adjustment in respect of 'Provision for Research and Information Services.' Briefly stated, the facts of the case are that McKinsey is a `Management consulting' concern headquartered in New York with more than 90 branch offices in over 50 countries. The McKinsey group caters to the management needs of diverse range of industries, such as, automotive and assembly, banking and securities, insurance, pharmaceuticals and medical products, private equity et al. The assessee was established in February, 1999 to provide research and 2 ITA No.154/Del/2016 information services to McKinsey group of companies for assistance in their projects. The information is required to be given to queries placed by consultants, which is obtained by accessing various internet based databases, such as, Bloomberg, Reuters, One Source, Dow Jones, Dialong and Datastream. In the year 2004, the assessee also started providing IT support services to McKinsey group of companies. Two international transactions were reported by the assessee in Form No.3CEB for the year under consdieration, which include 'Provision for research and information services' to McKinsey & Co. Inc., USA, currently under consideration, with transacted value of Rs.1,36,09,15,539/-. The AO referred the matter of determination of the arm's length price (ALP) of both the international transactions to the Transfer Pricing Officer (TPO). The TPO noticed that the assessee used Transactional Net Margin Method (TNMM) as the most appropriate method for declaring its international transaction of 'Provision for research and information services' at ALP. The assessee declared its Profit level indicator (PLI), being, Operating profit/Operating cost (OP/OC) at 15.17%. 16 comparables companies, including some non- 3 ITA No.154/Del/2016 Indian entities, were chosen by the assessee to show that the assessee's PLI was at ALP. The TPO observed that the assessee was showing profit margins at net level in this segment over the years. It was seen that OP/OC of this segment for the F.Ys. 2007-08, 2008-09 and 2009-10 was 35.34%, 131.48% and 53.34%, respectively. As against this huge profit margin, the assessee had shown its OP/OC for the current year only at 15.17%. 14 companies including all non-Indian entities chosen by the assessee were excluded and some new companies were introduced by the TPO in the list of comparables. A final list of 8 comparable companies, including the two chosen by the assessee, has been drawn on pages 35 and 36 of the TPO's order, which is as under : -
Company Name OP/OC
Aditya Birla Capital Advisors Pvt. Ltd. 38.50%
Aptico Ltd. 25.17%
ICRA Ltd. 82.40%
ICRA Management Consulting Services Ltd. 16.14%
Kitco Ltd. 27.48%
IDC (India) Ltd. 10.29%
Birla Sunlife Asset Management Company Ltd. 52.05%
Ladderup Corporate Advisory Pvt. Ltd. 52.42%
Average 38.06%
4
ITA No.154/Del/2016
3. Applying the mean profit margin of 38.06% to the assessee's Operating costs relating to transactions with its AE amounting to Rs.1,18,20,33,553 under this segment, the TPO proposed transfer pricing adjustment of Rs.27,05,45,360/-. The assessee approached the Dispute Resolution Panel (DRP) against the draft order incorporating the transfer pricing adjustment under this segment. After considering the directions given by the DRP, the AO made total addition on account of transfer pricing adjustment in both the segments of the assessee at Rs.25,94,83,125/- as against the original transfer pricing adjustment recommended by the TPO amounting to Rs.28,45,51,840/- in both the segments, including 'Provision for research and information services segment' at Rs.27,33,96,137/-. The assessee is aggrieved against the addition to this extent.
4. We have heard the rival submissions and perused the relevant material on record. It is evident that there is no dispute on the selection of TNMM as the most appropriate method or the PLI of OP/OC etc. In fact, no other aspect of the TPO's order has been challenged except the 5 ITA No.154/Del/2016 inclusion of four new comparables introduced by the TPO, namely, Aditya Birla Capital Advisors Pvt. Ltd., ICRA Ltd., Birla Sunlife Asset Management Company Ltd. and Ladderup Corporate Advisory Pvt. Ltd.
5. Before embarking upon the comparability or otherwise of these companies, it is sine qua non to ascertain the correct nature of the operations carried out by the assessee under this segment. The TPO has recorded on page 2 of his order that the `Research and Analytics' services provided by the assessee under the instant segment include: (a) Knowledge on call; (b) Practice research; and (c) Analytics group, the detailed elaboration of which, as extracted from the Transfer pricing study report, is as under : -
• Knowledge on call group: Provides generalist research and information support. The services offered include financial analyses, fact packs, press search, document search, etc. The group consists of around 130 personnel, mostly with 0-2 years of experience.
• Practice research group: This sub-group is focused on domain specific research support. With a team size of over 90, it provides sector data and analyses, capital market insights, perspectives and industry trends.
• Analytics group: The primary focus of the analytics group is on data intensive analysis requiring expertise in analytical tools and techniques. It undertakes data analysis, model/tool development, 6 ITA No.154/Del/2016 proprietary database management, practice specialized analytics, etc."
6. The ld. AR contended that the assessee rendered these services to worldwide McKinsey group of companies pursuant to an 'Master Services Agreement' dated 1.4.2010 with McKinsey Inc., USA, whose copy is available on page 182 onwards of the paper book. Clause 1 of the Agreement, defining the nature of work, is reproduced as under:-
"1. Engagement of McKC The Client hereby engages McKC to render the below mentioned services (the "Services"):
(a) Develop, maintain and service the software and information/research related products and services; and
(b) Knowledge management systems and infrastructure issues which would encompass infrastructure support, application support, application operations group and survey development center and such other services as may be requested from time to time."
7. On a specific query, the ld. AR contended that this Agreement is common to both the services provided by the assessee. He submitted that only the later part of sub-clause (a) of clause (1) of the Agreement, which talks of 'Information/research related products and services', is relevant for the services under the instant segment. Since there is not 7 ITA No.154/Del/2016 much elaboration about the exact nature of services rendered under this segment available in the Agreement, and it was claimed that the nature of services continues to remain the same over the years, we asked the ld. AR to take us through the predecessor Agreement. From such earlier Agreement, we find that the description of services is verbatim reproduction of what has been set out in the Master Services Agreement reproduced above.
8. The ld. AR contended that the assessee under this segment has rendered data processing services which are in the nature of Business process outsourcing (BPO). This was countered by the ld. DR, who submitted that the assessee provided Knowledge process outsourcing (KPO) services to its AE and non-AEs and the contention of the assessee that it was merely collating data from the databases, was not correct. Referring to certain documents, he submitted that the work force of the assessee consisted of Researchers, Experts and Analysts. He also referred to the earlier Master Agreement for identical services, which indicated that there was a charge of US $ 1500 per day for Analytics 8 ITA No.154/Del/2016 manager. The ld. DR also took us through the extract from website of McKinsey group which, specifically, covers McKinsey Knowledge Centre, namely, the assessee. It has been shown that the assessee is:
"providing industry and functional expertise, advanced analytics, business research and proprietary tools and data". In the background of the portrayal of the assessee's nature of work, the ld. DR contended that the assessee was not mere collating data before onward transmission to McKinsey group companies, but, also conducting extensive research. He stated that the assessee is basically doing data intensive analysis requiring expertise in analytical tools and techniques. He, ergo, summed up that the assessee is rendering KPO services.
9. The first question which has been debated and falls for our consideration is to decide if the assessee rendered BPO or KPO services. Before answering this question, let us appreciate these two concepts. In common parlance, BPO means outsourcing of some of the basic and routine business functions to a third party, which may be back office or front office operations. While front office services are related to client 9 ITA No.154/Del/2016 interaction and customer support, back office services are related to finance and HR etc. On the other hand, KPO is outsourcing of specialized and knowledge based services/processes, such as, R&D, market research, analytical based services and engineering design, Capital and insurance market services. In fact, KPO is an extension of BPO, which requires high skill and expertise of people who carry it out. The Hon'ble Delhi High Court in Rampgreen Solutions Pvt. Ltd vs. CIT (2015) 377 ITR 533 (Del) has held that : `the expression 'BPO' and 'KPO' are, plainly, understood in the sense that whereas, BPO does not necessarily involve advanced skills and knowledge; KPO, on the other hand, would involve employment of advanced skills and knowledge for providing services'.
10. Armed with the above understanding, let us see if the services rendered by the assessee in this segment are BPO or KPO? Here It is relevant to note that McKinsey group of companies is engaged in providing management consultancy services to its clients in the fields of business technology, operations, strategy, organization marketing and 10 ITA No.154/Del/2016 sales and corporate finance. These companies, seek assistance of the assessee for enabling them to render services of consultancy. We have extracted above from the Transfer pricing study report that the assessee is providing broadly three types of services under this segment, namely,
(a) Knowledge on call; (b) Practice research; and (c) Analytics group. On a specific query, the ld. AR admitted that no separate revenues or costs record of the above three types of services was maintained and it was all in a common pool.
11. Services under the 'Knowledge on call' group are of general research and information support, elementary in nature, requiring the assessee to pick up the relevant data from internet based databases. These services include financial analyses, fact packs, press search, document search, etc. A specimen of such services given by the ld. AR is a request made for providing off-the-shelf company profiles of certain companies, which the assessee compiled, organized into templates in Excel, Power Point etc. and then transmitted outside India as its output. 11 ITA No.154/Del/2016
12. Services under 'Practice research' are focused on domain specific research support collating data of a particular line of business as requested, compiling and then sending after necessary conversion in to the desired format. The information given under this sub-group is sector data and analyses, capital market insights, perspectives and industry trends. A specimen of such services given by the ld. AR is a request made by Roger Rouhana seeking details about private banking players in Asia, to which the assessee furnished the details by mentioning that: "it did an exhaustive press search to gauge which all banks have commitments to expand Private banking business in Asia and brief on what they intend to do." Bank-wise description of immediate goals covered in press was submitted.
13. Services under the 'Analytics group' are most complex services, which the assessee itself has described in its transfer pricing study report that : `the primary focus its analytics group is on data intensive analysis requiring expertise in analytical tools and techniques'. It undertakes data analysis, model/tool development, proprietary database 12 ITA No.154/Del/2016 management, practice specialized analytics, etc. A specimen of such services is a request by a group company - "currently working to update the list of hospitals with newly accessed stent data." The assessee was requested to: 'match stent "decile" from file hospital list with the respective hospitals in file stent data.' It was further requested to put the hospital 'ID No.' in the stent data file from Column 'A' of the Hospital List File. Then, there are details and certain assumptions which should be taken by the assessee. Then, caveat has been added requesting not to change name of file 'Stent data' and not to change the name of 'tab index' and its structure. Thereafter, specific proforma was given in which the information was desired. The assessee compiled the data as requested after due research, which report runs into 67 pages, and the same has also been placed before us.
14. A close look at the nature of services in all the three sub-groups transpires that there is a varying degree of complexity in all the three sub-groups. However, a common thread running through these is that in each of these sub-groups, the assessee has to carry out research from the 13 ITA No.154/Del/2016 internet based databases or other sources to compile the data, which is then customized/processed in accordance with the requirements of the requestor before transmitting it outside India after organizing into templates in Excel, Power Point etc. Thus, it is evident that the assessee is making value addition to the information accessed by it from databases etc.
15. The assessee has itself given full composition of its team of 621 persons rendering such services as comprising of `Research Manager', `Research Team Leader/Knowledge Expert', `Knowledge/Practice Specialist', `Senior Research Analyst', `Research Analyst', `Junior Research Analyst'. This means that the assessee was rendering the services under this segment with the help of so many researchers, specialists and analysts.
16. The matter does not end at mere designations of its work force. It is further noticeable that in the earlier year also the assessee was rendering similar services when the charge was on per diem basis. The assessee charged for Analytics manager at 1500 US $ per day for seven 14 ITA No.154/Del/2016 hours, Team leader/Expert at 850 US $ per day for seven hours, Project leader/Analytics specialist at 750 US $ per day for seven hours, Sr. Analyst at 600 US $ per day for seven hours, Analyst at 500 US $ per day for seven hours and Junior Analysts at 375 US $ per day for seven hours. Such huge amounts charged for Analytics manager, Team leader/Expert and Project leader/Analytics specialist, etc. do not justify the assessee's stand of accessing data or conducting a research of casual nature.
17. The ld. AR placed a great deal of emphasis on the stand of the AO on the nature of services rendered in denying deduction u/s 10A and on the nature of services at the time of selecting comparables. He invited our attention towards the fact that the AO in earlier years, while considering similar services, denied the benefit of deduction u/s 10A by opining that the services provided by the assessee were not IT enabled services as these were not making any value addition in the outbound information to the McKinsey group of companies. It was thus contended that the Revenue was not entitled to shift its original stand 15 ITA No.154/Del/2016 that the assessee was not making any value addition to the information accessed from internet based databases before providing it to McKinsey group companies.
18. It was submitted by the ld. AR that the Tribunal reversed the finding of the AO and restored the claim of deduction u/s 10A for the A.Y. 2006-07, whose copy has been provided in the paper book. It was further stated that the Hon'ble High Court has upheld the decision of the Tribunal on this issue.
19. At this juncture, it would be apt to consider the relevant parts of section 10A. Sub-section (1) of the section provides that : `Subject to the provisions of this section, a deduction of such profits and gains as are derived by an undertaking from the export of articles or things or computer software for a period of ten consecutive assessment years beginning with the assessment year relevant to the previous year in which the undertaking begins to manufacture or produce such articles or things or computer software, as the case may be, shall be allowed from the total income of the assessee'. Explanation 2 to this section 16 ITA No.154/Del/2016 explains the term `computer software' to mean : `(a) any computer programme recorded on any disc, tape, perforated media or other information storage device; or (b) any customized electronic data or any product or service of similar nature, as may be notified by the Board, which is transmitted or exported from India to any place outside India by any means'. Thus it is apparent that deduction is available not only for export of `computer programme' as such but also for export of customized electronic data or product of a similar nature, which is admittedly the case of the assessee. Now, let us see what sort of customized electronic data was being exported by the assessee, which entitled it to deduction by the tribunal as affirmed by the Hon'ble High Court.
20. Copies of the tribunal order passed for the A.Y. 2006-07 reversing the view of the AO on the denial of deduction u/s 10A and then the judgment of the Hon'ble High Court affirming the view of the tribunal have been placed by the ld. AR in its paper book. It can be seen from the tribunal order, that the AO denied deduction by holding that the services 17 ITA No.154/Del/2016 undertaken by the assessee were not I.T. Enabled Services as the added value for customer was not generated, least significantly, through the use of information and communication technologies using network software. The assessee was found to have used network software only to send customized date electronically on Excel sheet, Power point, etc. The AO observed that there was no value addition through the network software which is most vital aspect for determination of service as I.T. enabled service or otherwise. He further noticed that the use of network software in the case of the assessee was limited only for the purpose of transmission of customized date to its parent company. The assessee, inter alia, contended in first appeal, as has been reproduced on page 5 of the tribunal order, that the assessee, after receiving the request was collating the information from specialized data sources/data bases. `(d) The data was then customized/processed in accordance with the requirements of the requestor; (e) The customized/processed data was then organized into templates in Excel, Power Point etc. and was transmitted outside India through electronic means; (f) Thus, the assessee was engaged in data processing/customization of data as it 18 ITA No.154/Del/2016 enabled conversion of data into information by use of computer system based on the requirements of the requestor and the information was exported electronically'. Allowing the assessee's claim, the CIT(A) held : `that it is evident that the appellant is customizing data, what is accessed by the appellant in the databases and what is delivered to its parent company are two different products, i.e. data is customized to suit the needs of the requester and thereafter exported out of India'. After recording the observations of the AO and CIT(A), the tribunal noted on page 7 of its order that :`It is clear from the modus operandi that what was accessed by the assessee at the STP Unit and what was delivered to McKinesey (Parent Company) after the conversion took place were two different products/services which is described as customization of data/data processing. The STP Unit undertook the series of operation of the data received form various databases before it was finally delivered to the customer. Thus, there was value addition made by the STP Unit on the data. We, therefore, are not in agreement with the findings of AO that there was no value of addition on the data obtained from various data bases from parent company'. The appeal filed by the Revenue 19 ITA No.154/Del/2016 against the tribunal order has been dismissed by the Hon'ble High Court vide its judgment dated 27.3.2015, thereby countenancing the conclusions drawn by the CIT(A) and the tribunal overturning the view of the AO.
21. There is no force in the contention of the ld. AR that the AO having held that the assessee did not make any value addition to the data from databases and hence was ineligible for deduction u/s 10A, could not have taken a contrary view in determining the nature of the assessee's activity as that of the KPO. It is rather the other way around. The assessee has vehemently argued before the authorities below that it was making a great value addition to the data received from databases before exporting it, and when such a contention has been accepted for the purposes of deduction u/s 10A, now it cannot switch back to contend that it is simply collecting data from databases before sending it to its group companies. It is overt that the AO's stand on the assessee doing no value addition to the data sourced from databases, has been jettisoned. All the appellate authorities up to the Hon'ble High Court 20 ITA No.154/Del/2016 have approved the assessee's viewpoint of value addition made by the assessee by undertaking series of operations to the data received form various databases before finally delivering to the customer.
22. It is thus established that the assessee is carrying on research from the internet based databases or other sources to compile the data, which is then customized/processed in accordance with the requirements of the requestor through a series of operations carried out by its Research Managers, Knowledge Experts, Practice Specialists and Senior Research Analyst etc. before finally transmitting it outside India after organizing into templates in Excel, Power Point etc. Thus, it is evident that the assessee is making value addition to the information accessed by it from databases etc. When we apply the requisites of KPO to the services rendered by the assessee under this segment, there remains hardly any doubt that the assessee is rendering KPO services under this segment involving huge expertise and skills.
21 ITA No.154/Del/2016
23. Having seen the nature of services rendered by the assessee under this segment, let us examine the comparability or otherwise of the companies assailed by the assessee before us.
24. Before that, we would like to deal with a submission advanced by the ld. AR, which is common to most of such companies, 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 excluded from the list of comparables drawn by the TPO.
25. 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 a company cannot be considered as comparable. Two companies can be treated 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 company ceases to be comparable because of other reasons as well. To 22 ITA No.154/Del/2016 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. In the like manner, a company might have been treated as non-comparable due to the TPO adopting its entity level results for comparison with the segmental results of the case before him, but in a later case, the TPO may take only the related segment results. In such a later case, the company treated as non-comparable to the first company may become comparable to the second company. 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 23 ITA No.154/Del/2016 fact that company 'A' is functionally similar to company 'B', it still might 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 '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. Thus, it is clearly deductible that if a particular company has been held to be not comparable in the case of another company, then such former company will 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 24 ITA No.154/Del/2016 reasons of the other company. Ergo, this preliminary contention raised on behalf of the assessee is rejected as devoid of merits. Now, we take up, one by one, the companies assailed before us as not comparable,.
(i) Aditya Birla Capital Advisors Pvt. Ltd., 26.1. The TPO proposed this company as comparable which was objected by the assessee on the ground that it was a company rendering asset management services and, hence, functionally dissimilar. The TPO treated it as comparable, which was approved by the DRP. The assessee is aggrieved against such inclusion.
26.2. After considering the rival submissions and perusing the relevant material on record, we find that this company, as noted by the TPO himself on page 20 of his order : `offers Investment Management and advisory services as Aditya Birla Private Equity to domestic and global investors'. This company is `managing a series of private equity funds to invest in and harvest business growth opportunities'. When we view the Annual report of this company, a copy of which is placed on page 246 of the paper book, it turns out that: "The company's focus continues 25 ITA No.154/Del/2016 on the alternative assets excluding Realty and Hard Infrastructure investments. At the current activity levels, the Company has raised and managements two sector- agnostic domestic funds, namely, Aditya Birla Private Equity Fund-I and Aditya Birla Private Equity - Sunrise Fund'. Break-up of "Revenue from Operations" given on page 253 of the paper book gives the description of the nature of its revenues, namely:
"Management Fees." Thus, it is apparent that the nature of business of this company, being raising of funds and deploying the same, is entirely different from what the assessee is doing in this segment, namely, rendering services in the nature of Knowledge on call, Practice research and Analytics. This company is, therefore, directed to be excluded from the list of comparables.
(ii) Birla Sun Life Asset Management Company Ltd.
27.1. This company was proposed by the TPO as comparable, which was objected by the assessee on the ground of functional dissimilarity. Such objection was rejected and the same was finally included in the final tally of comparables.
26 ITA No.154/Del/2016 27.2. Having heard both the sides and perused the relevant material on record, it is found that this company, as noted by the TPO on page 22 of his order, is : "the investment manager of Birla Sun Life Mutual Funds, is a joint venture between the Aditya Birla Group and the Sun Life Financial Inc. of Canada." The TPO has further recorded that this company is managing assets of large investor base with solutions offering a range of investment options including diversified sector specific equity schemes. Page 280 of the paper book is a copy of Profit & Loss Account of this company which describes its revenue as:
"Management and Advisory Fees, Portfolio Management Fees, Real Estate Management Fees and Investment Income." It is further pertinent to note from page 287 of the paper book that this company is registered with SEBI as an Investment manager to Birla Sun Life Mutual Fund. Apart from rendering these services, this company has also its own investment portfolio from which dividend has been received and it has also earned profit on sale of investments, depicted on page 281 of the paper book. Page 303 of the paper book clearly mentions under Notes to accounts - point (xiv) - Segment information for the year ending 31st 27 ITA No.154/Del/2016 March, 2011, that: "The company's operations mainly relate to providing asset management services and portfolio management services ....... Hence separate........segment reporting is not required as the company's business is restricted to single segment, i.e., Asset Management Services." It is discernible from the Annual report of this company and the references made by the TPO in his order to its nature of business that there is no similarity whatsoever between its functional profile and the assessee. This company is also directed to be eliminated from the list of comparables.
(iii) ICRA Limited.
28.1. The assessee objected to the inclusion of this company in the final set of comparables by contending that it is functionally dissimilar. Not convinced, the TPO included the same.
28.2. After going through the rival submissions and perusing the relevant material on record, we find from the Annual report of this company which is available on pages 309 onwards of the paper book that it is providing `Rating services' comprising of Credit Rating, Bank 28 ITA No.154/Del/2016 Loan Rating, Corporate Governance Rating, Stakeholder Value and Governance Rating, Rating of Claims Paying Ability of Insurance Companies, Project Finance Rating and also `Grading Services' comprising of IPOs, Micro Financial Institutions, Construction Entities, Real Estate Developers and Projects, etc. The description of the nature of services rendered by this company makes it vivid that it has no proximity to the nature of services rendered by the assessee under this segment, which is basically in the nature of carrying out research from the internet based databases for compiling the data, which is then customized/processed in accordance with the requirements of the requester and then organized into templates in excel, power point, etc., before transmitting outside India. There being no closeness with the functions performed by the assessee, this company is directed to be excluded from the list of comparables.
(iv) Ladderup Corporate Advisory Pvt. Ltd.
29.1. Against the TPO's proposal for the inclusion of this company, the assessee objected that the same was a company rendering 29 ITA No.154/Del/2016 Investment banking services. Not convinced, the TPO included the same in the list of comparables.
29.2. Having heard the rival submissions and perused the relevant material on record, we find from the TPO's order page 26 that this company: "provides one-stop financial advisory and fund raising solutions in Investment Banking, Capital Markets, Wealth Management Project Finance and Growth stage investing." Profit & Loss Account of this company, copy placed on page 469 of the paper book, shows Operational income of Rs.11.18 crore whose description has been given in Schedule 11 as: "Financial and Management Consultancy Fees." The ld. AR has placed on record an extract from the website of this company, which shows that on July, 22, 2010, being a period relevant to the year under consideration, this company: "received a Category-1 Merchant banking registration from the Securities and Exchange Board of India." On an overview of the nature of business carried out by this company, it is manifest that the same is absolutely different from the assessee's 30 ITA No.154/Del/2016 research services. We, therefore, order for the exclusion of this company from the list of comparables.
30. The ld. DR vehemently argued that the companies considered by the TPO are broadly similar. It was contended that dot-to-dot functional comparability is compromised under the TNMM and hence no fault can be found with the selection of four comparables by the TPO which have been challenged.
31. We are not agreeable with this line of argument. The Hon'ble jurisdictional High Court in Rampgreen Sales Pvt. Ltd. vs. CIT (2015) 377 ITR 533 (Del) has held that the comparables should be selected on the basis of similarity. Thus it is evident that the functional comparability can't be seen on a broader categorization but on functional level. The Hon'ble Court further laid down that selection of comparables does not differ with the method adopted. Ex consequenti, it is no more open to argue that the functional dissimilarity of the companies under the overall broader category can be ignored under the TNMM.
31 ITA No.154/Del/2016
32. Next line of argument by the ld. DR was to acceptance by the TPO of two cases from the assessee's list of comparables, viz., ICRA Management Consulting Services Ltd. (16.14%) and IDC (India) Ltd. (10.29%). It was submitted that these two companies were also doing the same nature of work as was done by the entities argued by the ld. AR for exclusion. He submitted that the TPO applied broad functional comparability for selecting comparable companies, including the above two companies from the assessee's list. As per the ld. DR, the TPO did not go by the strict comparability. He urged that if the companies argued by the ld. AR for exclusion are eliminated on the basis of strict comparability, then the two companies as chosen by the assessee and approved by the TPO should also be excluded and a fresh selection process of comparables be directed.
33. Despite the fact that no such ground has been taken in the appeal filed by the Revenue, he raised such an oral ground and requested for its consideration and decision. In support of this argument, he relied on the order of the Delhi bench of the tribunal in ITO vs. Gurinder Kaur 32 ITA No.154/Del/2016 (2006) 102 ITD 189 (Del) in which it has been laid down that it is open to the respondent in an appeal before the Tribunal to raise new points or contentions provided they do not involve investigation into facts and an opportunity is given to other side to meet the contentions. Au contraire, the ld. AR strongly objected, firstly, to the making of such an oral request of the ld. DR despite this issue not being challenged in its appeal and secondly, for the exclusion of the two companies which were earlier accepted by the TPO as comparable.
34. We are inclined to accept the request of the ld. DR about his entitlement to raise a fresh issue de hors no formal application under rule 27 of the ITAT Rules, 1963 or such a ground not taken in the departmental cross appeal. An oral request can be accepted as a substitute of a formal application. Delhi bench of the tribunal in ITO vs. Gurinder Kaur (2006) 102 ITD 189 (Del), following Hukumchand Mills Ltd. vs. CIT (1967) 63 ITR 232 (SC), has held that even without rule 27, it is open to the respondent in an appeal before the Tribunal to raise a new ground in defence of the order appealed against.
33 ITA No.154/Del/2016
35. Now, we espouse the contention of the ld. DR for the exclusion of two comparables companies chosen by the assessee and approved by the Officer in the proceedings. The TPO, as per the ld. DR, accepted the same notwithstanding the fact that these were not functionally strictly similar. We do not approve such a stand of the Revenue. Once TPO expressly accepts a company with low margin as comparable vis-a-vis the assessee's high margin, after due application of mind, then the ld. DR cannot be allowed to contend that the TPO fell in error in accepting such comparability and the same should be excluded. There is no dearth of decisions to the effect that DR cannot improve the assessment order. It is the prerogative of the AO/TPO to accept or reject a company as comparable after considering all the relevant aspects. Once the TPO/AO accept a company offered by the assessee as comparable, then that becomes final qua the Revenue. The DR cannot step into the shoes of the TPO to undo what was done by him. If this line of argument is accepted and given a logical conclusion, then invariably all the cases pending before the tribunal will require restoration to the TPO, not only for excluding the companies approved by the TPO, but also for 34 ITA No.154/Del/2016 undertaking a fresh process of selection on the basis of comparability, which the DR considers as appropriate. Crux of the matter is that the DR cannot improve the order of the TPO. Even if the independent order of the AO/TPO went wrong qua the Revenue, then remedy lies elsewhere in accordance with other relevant provisions of the Act, but certainly not with the DR.
36. We are conscious of the order of the Special Bench of Tribunal in DCIT vs. Quark Systems Pvt. Ltd. (2010) 132 TTJ (Chd) (SB) 1 holding that a company included by the assessee in its list of comparables and also accepted by the TPO as such at the time of computing the ALP, can be excluded, if the assessee proves before the tribunal that the same was wrongly included. The ratio of this decision cannot be applied to instant facts. It is so for the reason that a company treated as comparable may have lower or higher profit margin than that of the assessee. If the profit margin of such company is high, the TPO will accept the comparability without any hesitation, even if he finds it as incomparable. The assessee, in such circumstances, can challenge the suo motu wrong inclusion of 35 ITA No.154/Del/2016 this company in the list of comparables before the tribunal, because undue advantage was taken by the TPO in accepting a company as comparable, which was actually not. On the other hand, if the TPO accepts a company as comparable despite finding its profit margin lower than that of the assessee, it shows that he was fully satisfied with the comparability of such a company and consciously accepted it as comparable after due application of mind. Unlike the first situation, in which the TPO was not fair to correct the assessee's mistake in including a wrong company as comparable, entitling the assessee to seek redressal of its grievance before the tribunal, in the second situation, the TPO explicitly accepted a company after having full opportunity of examining the assessee's mistake in including a wrong company as comparable. Now, if the TPO has supposedly done some wrong, the DR cannot assume the role of a TPO to point out that the later should not have done this or that and hence it may be corrected before the tribunal. There is appropriate compartmentalization of the powers and limitations of the authorities under the Act. No one can usurp the power of another, even if he is senior in rank. Role of DR, in an appeal by the assessee, is 36 ITA No.154/Del/2016 limited to defending the order of the AO. He cannot do what the TPO could have done but failed to do. The Hon'ble Bombay High Court in CIT vs. Maersk Global Service Centre (I) Pvt. Ltd. vide its judgment dated 22.8.2014 in ITA No. 692/693 of 2012 has upheld the view taken by the tribunal in not allowing the Revenue's representative to travel beyond the order of the Transfer Pricing Officer and the Assessing Officer so as to make out some different case.
37. Insofar as the reliance of the ld. DR on Gurinder Kaur (2006) 102 ITD 189 (Del) is concerned, we find that the same does not buttress his point of view. In that case, it was held that it is open to the respondent in an appeal before the Tribunal to raise a new ground in defence of the order appealed against provided they do not involve investigation into facts and an opportunity is given to other side to meet the contentions.
38. Now let us examine if the contention of the ld. DR for excluding the two companies is in defence of the final order of the AO? On a specific query, it was submitted by the ld. DR that through the exclusion of the two companies chosen by the assessee, he was trying to defend 37 ITA No.154/Del/2016 the addition ultimately made by the AO. In our considered opinion, this proposition is short sighted. On a micro level, the ld. DR cannot be said to defending the order of the AO/TPO by seeking the exclusion of the companies, whose inclusion was approved by the TPO himself. Even on macro level, the ld. DR cannot be said to defending the order of the AO/TPO by contending that he was supporting the sustenance of transfer pricing addition by urging the exclusion of these two companies. The fresh comparables chosen by the TPO and challenged before us have been held above as not comparable. With their exclusion, the transfer pricing addition will either stand deleted or get reduced to a considerable extent. Now, if we accept the contention of the ld. DR and direct the exclusion of these two companies, the consequential nil or lower addition will move northwards. Thus, it is manifest that the exclusion of these two companies as contended by the ld. DR, does not in any manner has the effect of defending the order.
39. The ld. DR took two new aspects for consideration which were not taken note of by the TPO/DRP. He took pains in explaining the first 38 ITA No.154/Del/2016 one that there was an internally comparable uncontrolled transaction available in this case by which the assessee rendered similar services under this segment to M/s Samsung. He contended that the TPO went wrong in applying the TNMM when a comparable uncontrolled transaction was available. It was submitted that the Comparable Uncontrolled Price (CUP) method should be directed to be applied and the matter be sent back to the AO/TPO for redetermining the ALP of the international transaction under this segment by considering M/s Samsung as an internally comparable uncontrolled transaction.
40. He explained the second aspect that the assessee was showing higher profit in earlier years in respect of its Gurgaon STP unit because of the availability of the deduction u/s 10A. The Agreement with its AE for remuneration on per diem basis, which was prevalent up to the last year was giving handsome returns. He submitted that the period of deduction from Gurgaon unit expired in the last year and that is the reason for the assessee converting to a new model of remuneration of cost plus 15% from this year onwards. Such new method was claimed to 39 ITA No.154/Del/2016 have resulted into shifting of income from India vis-à-vis the earlier years. It was argued that the assessee resorted to tax avoidance by changing the model of remuneration. Relying on Mcdowell & Co. Ltd. vs. CTO (1985) 154 ITR 148 (SC), the ld. DR urged that the assessee's attempt to thwart the payment of legitimate taxes in India should be put to rest. Taking support from the definition of `international transaction' as given in clause (e) of Explanation to section 92B, the ld. DR contended that there should be a separate determination of the ALP of this transaction.
41. We are not convinced with both the above submissions made on behalf of the Revenue. Insofar as the first argument is concerned, it is seen that admittedly the assessee, apart from rendering services to its AE, also rendered services to M/s Samsung, a non-AE, which fact is evident from table of revenue placed by the assessee on page 165 of the paper book. This page shows total revenue amounting to Rs.143.34 crore under the segment of `Research analysis and information services'. As against this, the revenue from AE is to the tune of Rs.136.09. This 40 ITA No.154/Del/2016 shows that the remaining revenue of Rs.7.25 crore was earned by the assessee from its non-AE, which has been stated to be M/s Samsung. We find that the TPO neither considered M/s Samsung as an internally comparable uncontrolled transaction for benchmarking this international transaction, nor determined separate OP/OC from such transaction. On a specific query, the ld. AR submitted that no OP/OC from the transaction with non-AE was separately available for comparison as the same was not even questioned by the TPO. Application of the TNMM as the most suitable method has also not been disputed by the TPO. As the TPO has himself not considered M/s Samsung, a non-related enterprise, as a relevant comparable, we fail to see how the ld. DR can ask for considering it so. At the cost of repetition, we observe that the DR has no role in the selection of comparables, which power vests with the TPO alone. His job is to defend the order of the AO/TPO and not improving the same.
42. Similar is the position for the second argument advanced by the ld. DR. The entire scenario of the higher profit rate in the preceding year 41 ITA No.154/Del/2016 on the basis of the fixed price model of remuneration and lower profit rate in the current year on the basis of cost plus model of remuneration was not only before the TPO, but he also took a note of the same in his order. He has nowhere held the switching over to the new model of remuneration as a tax avoidance device. Now, at this stage, it is not open to the ld. DR to bring the case within the fold of tax avoidance, which the AO/TPO did not.
43. Even otherwise, we find that there is no logic in advancing such an argument. The rationale of the transfer pricing provisions is to ensure that the assessee in India declares price/profit in/from an international transaction which is compatible with the price/profit rate declared by unrelated parties in a comparable uncontrolled situation. Object of section 92, as it transpires from its language, is that any income arising from an international transaction should be computed having regard to the arm's length price. This provision is not aimed at maximization of chargeable profit from an international transaction. Notwithstanding the fact that the assessee earned more profit in earlier year, there can be no 42 ITA No.154/Del/2016 transfer pricing adjustment in a later year so long as the international transaction is at ALP. Rule 10B of Income-tax Rules, 1962 provides, under all the methods, to determine the ALP with reference to the price/profit of comparable instances for the current year alone. Law nowhere enjoins for determining the ALP w.r.t. the price/profit of the earlier years. What is required to be seen is to check the price charged or profit earned by comparables in uncontrolled transactions during the year and then compare it with the price charged or profit earned by the assessee from its international transaction. If the assessee's price/profit is at ALP, even if it is lower than that of the preceding year, the same has to be accepted. There is no significance of the earlier year's higher/lower price or profit insofar as the determination of ALP of a later year's international transaction is concerned.
44. Reverting to the facts of the instant case, we find that even if the OP/OC of the assessee for the current year is less than that of the preceding years, nothing turns out on this score, so long as such price charged or profit earned is at ALP w.r.t. the comparable uncontrolled 43 ITA No.154/Del/2016 transactions taken by the TPO for the current year. Even if we accept the contention of the ld. DR that the assessee declared more profit in the preceding years to avail higher amount of deduction u/s 10A, then it was for the AO to appropriately restrict the amount of deduction. Allowing excess deduction in earlier years on the basis of exaggerated profits, if any, cannot be a reason to disturb the ALP of the international transaction for the current year.
45. Now we, espouse the next leg of the submission of the ld. DR w.r.t. the clause (e) of Explanation to section 92B. Before that, let us have a look at the relevant provision, whose relevant part reads as under:-
`Explanation.--For the removal of doubts, it is hereby clarified that--
(i) the expression "international transaction" shall include--
(e) a transaction of business restructuring or reorganisation, entered into by an enterprise with an associated enterprise, irrespective of the fact that it has bearing on the profit, income, losses or assets of such enterprises at the time of the transaction or at any future date;'
46. This provision simply provides that a transaction of business restructuring or reorganisation, entered into by an enterprise with an 44 ITA No.154/Del/2016 associated enterprise, irrespective of the fact that it has bearing on the profit, income, losses or assets of such enterprises at the time of the transaction or at any future date shall be treated as an international transaction. We are unable to comprehend the applicability of this part of the Explanation to the facts of the instant case. Firstly, there is no business restructuring or reorganization. The business continues as such. It is only the model of remuneration that has changed from a fixed rate to cost plus basis. Further, there is no dispute about the existence of such an international transaction of `Research and Information Services', which is instantly under consideration. This contention is also, ergo, repelled.
47. In view of the foregoing discussion, we are of the considered opinion that notwithstanding the argument of the ld. DR of functionally dissimilarity, the two companies as included by the assessee and approved by the TPO as comparable, cannot be excluded on the request of the ld. DR. The AO/TPO is directed to determine the ALP of the 45 ITA No.154/Del/2016 international transaction of `Research and information services' in accordance with the above discussion.
B. INFORMATION TECHNOLOGY SUPPORT SERVICES
48. The assessee reported another international transaction of 'Provision of Information Technology support services' to McKinsey & Co. Inc., USA with transacted value of Rs.6,74,54,761/-. The assessee used TNMM as the most appropriate method with PLI of OP/OC. 14 companies were selected as comparable with average margin of 17.13%. The assessee's own margin at 15.40% was shown to be at ALP. The TPO made certain inclusions and exclusions in/from the list of comparables drawn by the assessee and a final tally of 8 comparables was made with average OP/OC at 29.53%. This arm's length profit rate was applied for proposing a transfer pricing adjustment of Rs.1,02,66,664/-. The AO made necessary addition after considering the direction given by the DRP.
49. The assessee has disputed the inclusion of E-Clerx Services Ltd. and non-inclusion of two comparable companies cited by the assessee, 46 ITA No.154/Del/2016 namely, Informed Technologies India Ltd., and Micro Genetics Ltd. No other aspect of determination of ALP under this segment was challenged.
50. We have heard the rival submissions and perused the relevant material on record. It goes without saying that the comparability or otherwise of a company can be judged only after having an insight into the nature of services provided by the assessee. The TPO has extracted nature of services under this segment on page 2 of his order by borrowing them from the Transfer Pricing study report to the effect that these : `include database administration, support for maintenance of application infrastructure, loading and correction of data of servers, etc.' Relevant discussion about the ALP of the international transaction starts from page 48 of the TPO's order. There is no elaboration of the nature of services under this segment except the TPO noting on page 66 of his order that the assessee is 'engaged in KPO activities'. On a pointed query, the ld. AR contended that the assessee was merely rendering help-desk services under this segment, which is a simplest form of BPO 47 ITA No.154/Del/2016 services. We find an apparent conflict between the description of services as stated by the ld. AR and as recorded in the order of the TPO.
51. In an attempt to ascertain the correct nature of services, we refer to the Master Services Agreement entered into by the assessee with McKinsey and Co. Inc., USA w.e.f. 1st April, 2010. It is a common Agreement between the assessee and McKinsey, USA for providing both the `Research and information services' and also `IT support services'. The preamble part of this agreement provides as under:-
"WHEREAS:
(A) The Client is in need of assistance in the development, maintenance and service software and information/research related products and services. Further, the Client requires assistance with respect to knowledge management systems and infrastructure related issues like server problems, hosting of Notes databases, problems with documents in the Notes databases."
52. The ld. AR while arguing "Research and Information Services"
submitted that only "information/research related products and services"
from the preamble part are covered under `Research and information services' and the remaining part pertains to IT Support Services, namely, `assistance in the development, maintenance and service 48 ITA No.154/Del/2016 software,... assistance with respect to knowledge management systems and infrastructure related issues like server problems, hosting of Notes databases, problems with documents in the Notes databases'.
53. We have also reproduced above Clause 1 of the Master Services Agreement defining the nature of work, with the caption : `Engagement of McKC'. While arguing the segment of "Research and Information Services", the ld. AR submitted that only "information/research related products and services" covered under Clause 1(a) are relevant for `Research and information services' segment and the remaining part of clause 1(a) and whole of the clause 1(b) pertains to `IT support services'. Therefore, it is deducible that the nature of service covered under the `IT Support services' segment are `(a) Develop, maintain and service the software ... and (b) Knowledge management systems and infrastructure issues which would encompass infrastructure support, application support, application operations group and survey development center and such other services as may be requested from time to time'. Thus, it is overt that there is a vast difference about the nature of services as 49 ITA No.154/Del/2016 argued by the ld. AR under this segment as that of `help desk services', being BPO; and what is coming out from the Master Services Agreement as also inclusive of `Knowledge management systems and infrastructure issues which would encompass infrastructure support, application support, application operations group and survey development center', which are KPO in nature.
54. Page 8 of the 4th Paper book of the assessee gives details of 27 employees engaged in rendering `IT Support Services'. When we look at their designations given therein, it comes out that they consist of 17 IT Analysts, apart from Fast Regional Manager- Asia Pac, 2 Operations Managers, Technology Line Leader, Team Leader, and only 1 Team Assistant. Such a team of experts cannot be recruited only for rendering help-desk services. This prima facie disapproves the assessee's contention of rendering help desk services alone. Unlike the other segment of `Research and information services' for which the ld. AR placed on record correspondence of the assessee with the McKinsey companies to divulge the nature of services under all the three sub- 50 ITA No.154/Del/2016 groups separately, namely Knowledge on call, Practice research and Analytics, no evidence the ld. AR has been placed on record to show the nature of services rendered under the segment of `IT Support services'.
55. In view of the apparent conflict in what the assessee is stating and what is prima facie coming out from record, without there being any material to show the exact nature of services, we are helpless to decide the comparability or otherwise of the companies challenged before us. Under these circumstances, we set aside the impugned order to this extent and remit the matter to the AO/TPO for first determining and elaborating the correct nature of services in the order and then deciding the comparability of the companies challenged before us. Needless to say, the assessee will be allowed a reasonable opportunity of being heard in this regard.
C. INTEREST ON RECEIVABLES
56. The next issue raised by the ld. AR is against the transfer pricing adjustment on account of interest on receivables. Briefly stated the facts of the case are that on examination of the assessee's balance sheet, it 51 ITA No.154/Del/2016 was noticed by the TPO that payments against the invoices raised by the assessee were not received within the stipulated time as provided in the Agreement. On being called upon to explain that why the delayed payments be not treated as unsecured loans advanced to the AEs, the assessee submitted that it was not an international transaction warranting benchmarking. The TPO rejected this contention and held that interest was chargeable at arm's length level in respect of delayed receipt of invoice values. The DRP affirmed the view of the TPO, against which the assessee has come up in appeal before us.
57. The ld. AR submitted at the outset that the Delhi bench of the tribunal in Ameriprise India Pvt. Ltd. vs. ACIT in ITA No.2010/Del/2014 (authored by the AM of this order) has held such interest on receivables as an international transaction. He submitted that in certain other orders, a contrary view has been taken. It was, therefore, contended that a reasonable view be taken. In the opposition, the ld. DR supported the impugned order.
52 ITA No.154/Del/2016
58. We have heard the rival submissions and perused the relevant material on record. It is seen that similar issue cropped up in the case of Ameriprise (supra) and also Techbooks International Pvt. Ltd. vs. DCIT in ITA No.240/Del/2015. In the former case, the bench, after taking note of the view taken in Techbooks (supra) noted 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;....' 53 ITA No.154/Del/2016
59. On going through the relevant part of the Explanation inserted with retrospective effect from 1.4.2002, thereby also covering the assessment year under consideration, the Bench found 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 recognized as an international transaction. That being so, the payment/non-payment of interest or receipt/non-receipt of interest on the loans accepted or allowed in the circumstances as mentioned in this clause of the Explanation, also becomes 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 need to be brought to its 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 54 ITA No.154/Del/2016 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. Thus, the contention taken by the assessee before the TPO that interest on receivables is not an international transaction, was found by the Bench to be bereft of any force.
60. We find that 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:-
"(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?"
61. 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 55 ITA No.154/Del/2016 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.
62. 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.
63. The Delhi Bench in Ameriprise (supra) and Techbooks (supra) did not approve the reasoning about such interest subsuming in working capital adjustment. It found that the working capital adjustment is in respect of international transaction of rendering services to the AE. Interest for the credit period allowed as per the Agreement is factored in the price charged for the rendering of services. In the oppugnation, the non-realization of invoice value beyond the stipulated period is a separate international transaction, whose ALP is required to be determined. Granting of working capital adjustment has been held to be 56 ITA No.154/Del/2016 confined to the international transaction of rendering of services, whose ALP is separately determinable. On the other hand, the international transaction of interest receivable from its AEs for late realization of invoices beyond such stipulated period is a separate international transaction. Allowing working capital adjustment in the international transaction of rendering services has been held to have no impact on the determination of ALP of the international transaction of interest on receivables from AEs beyond the stipulated period allowed as per the Agreement. In our considered opinion, whereas, the international transaction of purchase/sale of goods from/to AE contemplates comparison of the price charged/paid for such goods by impliedly including the interest for the period allowed for realization of invoices as per the terms of the agreement, the international transaction of charging interest on late recovery of trade receivable covers the period which starts with the termination of the period of credit allowed under the agreement, which is subject matter of the international transaction of purchase/sale of goods. There is one more fallacy in the argument about the subsuming of interest income in the working capital adjustment. It is 57 ITA No.154/Del/2016 simple that working capital adjustment is ordinarily computed by considering the average of the opening and closing values of inventories, receivables and payables. A transfer pricing adjustment on account of interest on delayed realization of invoice value has nothing to do with the closing or opening values. It depends on the period of realization on transaction to transaction basis. To put it differently, suppose an invoice is raised on 1st May; period allowed for realization is two months; and the invoice is actually realized on 31st December. Notwithstanding the fact that interest on such late realization would become chargeable for a period of 6 months (from 1st July to 31st December), but the amount of invoice will not be receivable as at the end of the financial year on 31st March. As such, this receivable would not have an impact on the working capital adjustment in any manner, but would call for addition on account of the late realization of invoice value for a period of six months. Following the orders in Ameriprise (supra) and Techbooks (supra), we uphold the view taken by the TPO on this issue. Interest on late realization of invoices is directed to charged in line 58 ITA No.154/Del/2016 with the directions given in the above orders of the Delhi Bench of the tribunal.
D. FOREX LOSS
64. The only issue raised by the Revenue in its appeal is against the treatment of foreign exchange (forex) gain/loss as an item of operating nature in the computation of the ALP of both the transactions. The ld. DR. submitted that such forex gain/loss was rightly considered by the TPO as non-operating in the computation of the ALP and hence such a view should not have disturbed. This was opposed by the ld. AR, who contended that forex gain/loss relates to the trading transactions of the assessee and hence the same was operating in the computation of OP/OC under the TNMM.
65. 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 has not been controverted by the ld. DR that the same is in 59 ITA No.154/Del/2016 relation to the trading items emanating from the international transactions. If the foreign exchange gain/loss directly results from the trading items, we fail to appreciate as to how such foreign exchange fluctuation loss can be considered as non-operating.
66. 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 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 60 ITA No.154/Del/2016 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 fluctuation gain/loss arising from exports cannot be viewed differently from sale proceeds.
67. 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.
68. The reliance of the ld. DR on Safe Harbour rules to contend that foreign exchange gain or loss be taken as non-operating, is not sustainable. There is no doubt that in such rules, forex gain/loss has been treated as non-operating. However it is relevant to note that such rules 61 ITA No.154/Del/2016 are not applicable to the assessment year under consideration. Even the reliance of the ld. DR on certain decisions taking cognizance of safe harbour rules for the period anterior to their insertion in other contexts does not improve the case of the Department because the Hon'ble Delhi High Court in Pr. CIT VS. Cashedge India Pvt. Ltd., vide its judgment dated 4.5.2016 in ITA 279/2016, has held that : `So far as the question of fluctuation of foreign exchange was concerned, the ITAT ruled that the relevant provision, i.e. `Safe Harbour Rules' had not been notified for the concerned assessment year and were, therefore, inapplicable'. Thus the Hon'ble High Court did not disturb the operating nature of forex gain/loss as held by the tribunal. In view of the foregoing discussion, we are of the considered opinion that the amount of foreign exchange gain/loss arising out of revenue transactions is required to be considered as an item of operating revenue/cost, both for the assessee as well as the comparables. The ground taken by the Department is, therefore, dismissed.
62 ITA No.154/Del/2016
69. To sum up, we set aside the impugned order and remit the matter to the file of AO/TPO for a fresh determination of the ALP of both the international transactions in conformity with the foregoing discussion.
70. The other grounds taken by the assessee in its appeal are either general or consequential, not requiring specific adjudication.
71. In the result, the appeal of the assessee is partly allowed for statistical purposes and that of the Revenue is dismissed.
The order pronounced in the open court on 15.12.2016.
Sd/- Sd/-
[BEENA A. PILLAI] [R.S. SYAL]
JUDICIAL MEMBER ACCOUNTANT MEMBER
Dated, 15th December, 2016.
dk
Copy forwarded to:
1. Appellant
2. Respondent
3. CIT
4. CIT (A)
5. DR, ITAT
AR, ITAT, NEW DELHI.
63