G. S. Pannu, A. M.-The captioned cross-appeals filed by the Revenue and assessee pertaining to A.Y. 2011-12 are directed against the order of the DCIT, Cen. Cir.6(1), (in short the Assessing Officer ) passed under section 143(3) r.w.s. 144C(13) of the Income Tax Act, 1961 ( in short the Act) dated 29/12/2015 , which is in conformity with the direction of the Dispute Resolution Pannel-2, Mumbai dated 27/11/2015.
2. Grounds of appeal raised by the assessee as well as Revenue are as under:-
ASSESSEE’S GROUNDS OF APPEAL
Based on the facts and in the circumstances of the case and in law, the Appellant respectfully craves leave to prefer an appeal against the order passed by the Deputy Commissioner of Income-tax, Central Circle - 6 (I), Mumbai ['Learned AO'], under Section 143(3) r.w.s 144C(13) of the Income- tax Act, 1961 ('Act') (' Assessment order'), in pursuance of the directions issued by Dispute Resolution Panel - 2 ('Hon'ble DRP'), Mumbai, on the following grounds:
On the facts and circumstances of the case and in law, the Learned AO, based on the directions of the Hon'ble DRP has:
General Ground
I. erred in assessing the total income of the Appellant at Rs. 65,05,53,290 against Rs. 38,75,66,510 as computed by the Appellant in its return of income;
Transfer Pricing Grounds
2. erred in making a transfer pricing adjustment of Rs. 26,29,86,783 to the total income of the Appellant on the premise that the international transactions entered by the Appellant with its associated enterprises (' AE') were not at arm's length;
Reference made to the Transfer Pricing Officer
3. erred in referring the Appellant's case to the Learned Transfer Pricing Officer ('TPO') under Section 92CA(1) of the act, without satisfying the conditions specified therein;
Rejection of economic analysis undertaken by the Appellant and using single year data
4. erred in rejecting the transfer pricing analysis undertaken by the Appellant under Section 92C of the Act using 3 year weighted average data of comparables and determining the arm's length margin/ price using data only for financial year ('FY') 2010-11, which was not available to the Appellant at the time of complying with the transfer pricing documentation requirements;
Selection/Rejection of comparables
5. erred in applying certain rejection criteria/ filters, in an arbitrary, subjective and erroneous manner for the purpose of selection of comparable companies;
6. erred in rejecting certain comparables selected by the Appellant disregarding the fact that the said comparables satisfy all the filters applied by the learned TPO;
7. erred in introducing certain additional comparables, without appreciating the fact that these comparables fail to meet all the comparability criteria;
Appellant's comparable company rejected by the learned TPO/Hon'ble DRP
8. erred in rejecting Maveric Systems Limited and Thinksoft Global Services Limited as comparable companies grounds that the companies are engaged in software testing services, and undertake research and development activities, disregarding the fact that software testing forms a part of the overall software development life cycle and that no filter with respect to research and development expenses was applied by the learned TPO/the Appellant;
9. erred in rejecting Caliber Point Business Solutions Limited, Helios and Matheson Information Technology Limited and R Systems International Limited as comparable companies on the basis that the companies follow a financial year other than April-March, disregarding the fact that the appellant has submitted margins for the period of April-March based on quarterly results;
10. erred in rejecting LGS Global Limited as a comparable company on the basis that the company fails the export turnover filter, disregarding the fact that the company meets the aforesaid filter applied by the TPO for selection of comparables;
11. erred in rejecting Goldstone Technologies Limited as a comparable company on the basis that the said company fails the export turnover filter and related party transaction filter and no segmental breakup of its activities are available, disregarding the fact that the company meets both the aforesaid filters and segmental details are available in public domain;
12. erred in rejecting Quintegra Solutions Limited as a comparable company on the basis that the company is functionally different and has substantial related party transactions, disregarding the fact that the company is engaged in providing software services similar to the Appellant and has related party transactions well within the prescribed limits.
13. erred in rejecting Saven Technologies Limited as a comparable company on the basis that it has substantial related party transactions without appreciating that the consolidated financial statements of the company was used by the Appellant wherein the impact of related party transactions is eliminated;
Additional Comparables introduced by the Learned TPO
14. erred in considering Acropetal Technologies Limited as a comparable without appreciating that the company is functionally different, owns significant intangibles and has earned supernormal profits and/ or having exceptional year of performance during FY 20 I 0-11;
15. erred in considering E-Infochips Limited as a comparable without appreciating that the company is functionally different and has earned supernormal profits and! or having exceptional year of performance during FY 2010-11;
16. erred in considering iGate Global Solutions Limited as a comparable without appreciating that the company is functionally different and operates under peculiar circumstances during the year;
17. erred in considering Persistent Systems & Solutions Limited as a comparable without appreciating that the company is functionally different;
18. erred in considering Infosys Limited as comparable to the Appellant without appreciating that the said company is functionally different, earned super normal profits, owns significant intangibles, brand/ proprietary products vis-a-vis the Appellant which does not own any intangibles and is not comparable from a function, asset and risks stand point;
19. erred in considering Wipro Technologies Limited as comparable to the Appellant without appreciating that the said company is functionally different and operates under peculiar economic circumstances.
Risk Adjustment
20. erred in not granting the Appellant the benefit of risk adjustments which is required to be undertaken to account for the differences in level of risks assumed between the comparable companies and the Appellant in terms of Rule 10C(2)(e) of the Rules;
Benefit of +/- 5%
21. Benefit of +/-5% under proviso to Section 92C(2) of the Act be granted to the Appellant if the adjustment under transfer pricing falls within the range specified therein.
Adjustment made to international transaction of reimbursement of expenses given by AE to Appellant
22. erred in making a transfer pricing adjustment of Rs. 3,19,51,284 in relation to the international transaction of reimbursement of expenses received by the Appellant from the AE disregarding the fact that these expenses are primarily the liability of the AE and are incurred initially by the Appellant only for administrative convenience without there being any service! income element involved therein [as these expenses are not even routed through profit and loss account];
23. erred in arbitrarily levying a mark-up of 10% on the expenses recovered by the Appellant without providing any rationale/ basis for arriving at the said mark-up;
Interest under Section 234B of the Act of Rs. 6,05,83,706
24. erred in levying interest of Rs. 6,05,83,706 under Section 234B of the Act;
25. without prejudice to the above, erred in computing interest under Section 234B at Rs. 6,05,83,706 instead of Rs. 5,14,69,706;
Interest under Section 234C of the Act of Rs. 53,67,503
26. erred in levying interest under Section 234C of the Act on assessed income without appreciating that the interest under section 234C is applicable on returned income;
Penalty Proceedings
27. erred in initiating penalty proceedings under Section 271 (1)(c) of the Act.
Each of the above ground of appeal is without prejudice to and independent of one another.
The Appellant craves leave to add, alter, amend or delete the above ground of appeal at or before the time of hearing of the appeal, so as to enable the Hon'ble Income tax Appellate Tribunal to decide this appeal according to law.
REVENUE’S GROUNDS OF APPEAL:-
1. Whether, on facts and circumstances of the case, the DRP is justified in directing the assessing Officer to include M/s CAT technology Ltd and M/s CG-VAK software & Exports Ltd as comparables despite the fact that said comparables were also engaged in the business of 'medical transcription' and 'IT Consultancy" activities wherein, the assessee is engaged in providing software development services to its group entities.
2. Whether, on facts and circumstances of the case, the DRP is justified in directing in directing the A0 to include M/s CAT technologies Ltd and M/s CG-VAK software & Exports Ltd as com parables despite the fact that said com parables having lesser turnover vis-a-vis with the turnover of the assessee ignoring the recent decision of the jurisdictional high court in the case of M/s Pentair water India P Ltd in Tax appeal no. 18 of 2015 dated 16/09/2015, wherein the Honorable high court has held that the turnover would be the relevant criteria for the selection of the com parables.
3. Whether, on facts and circumstances of the case, the DRP is justified in directing the AO to exclude M/s Sankhya Info Tech Ltd as comparables despite the fact that the said comparable was engaged in providing IT solutions to the various sectors like Aviation, defence, manufacturing and financial service, which is similar to the activity of the assessee company.
4. Whether, on facts a and circumstances of the case, the DRP is justified in directing the AO to exclude M/s E-Zest Solution as com parables despite the fact that the said comparable was engaged in software development services which is similar to the activity of the assessee company.
3. As the aforesaid cross- grounds show, the substantive dispute in the cross-appeals relate to the transfer pricing adjustment made to the stated value of the international transactions entered into by the assessee with its Associated Enterprises (AEs). Before we proceed to consider the respective Grounds of appeal, a brief background can be summarized as follows.
4. The assessee is a company incorporated under the provisions of the Companies Act, 1956 and is a wholly owned subsidiary of Ness Technology Inc., USA. The assessee company is engaged in providing software development services only to its associated enterprises who are primarily based in United States. The assessee company is being compensated on ‘cost plus mark-up’ basis. Thus, the role of the assessee company is of a risk mitigated captive service provider for its associated enterprises. For the year under consideration, it filed a return of income declaring a total income of Rs. 38,75,66,510/-, which was subject to scrutiny assessment. The Assessing Officer noted that assessee had undertaken international transactions within the meaning of section 92B of the Act on account of Provisions of software development services and Recovery of expenses (service charges) and as a consequence the matter was referred to the Transfer Pricing Officer under section 92CA(1) of the Act for determination of the arm's length price of such international transactions. The Transfer Pricing Officer passed an order under section 92CA(3) of the Act dated 29/01/2015, wherein he worked out an adjustment of Rs. 36,49,98,330/- to the stated value of international transactions as under:-
| (i) Provision for software development services – |
33,30,47,046/- |
(ii)Recovery of expenses (Service Charges) - |
Rs. 3,19,51,284/- |
Total : |
Rs.36,48,98,332/- |
4.1 The Assessing Officer passed a draft assessment order dated 11/2/2015 under section 143(3) r.w.s. 144C of the Act proposing an adjustment of Rs. 36,48,98,332/- to the returned income against which assessee raised objections by approaching the Dispute Resolution Panel (DRP) on various grounds. The DRP accepted some of the objections raised by the assessee and vide its order dated 27/11/2015 directed the Assessing Officer to rework the adjustment in order to work-out the arm's length price of the international transactions. Accordingly, in compliance with the directions of the DRP, the Assessing Officer has recomputed the adjustment to the international transactions for Provision to software development services at Rs. 23,10,35,499/- instead of Rs. 33,30,47,046/- worked out by the Transfer Pricing Officer. In so far as the adjustment of Rs. 3,19,51,284/- proposed by the Transfer Pricing Officer on account of international transactions of Recovery of expenses is concerned, the same has been confirmed by the DRP. Accordingly, the Assessing Officer has passed a final assessment order under section 143(3) r.w.s. 144C(13) of the Act dated 29/12/2015, whereby an addition of Rs. 26,29,86,783/- has been made to the returned income on account of determination of arm's length price of the international transactions undertaken by the assessee with its associated enterprises. Against such additions, assessee is in appeal before us on the above stated Grounds of appeal, whereas in the cross- appeal, the Revenue has challenged the action of the DRP in directing the Assessing Officer to include two concerns in the list of comparables which were rejected by the Transfer Pricing Officer as well as in directing the Assessing Officer to exclude two concerns in the list of comparables which were included by the Transfer Pricing Officer, which had resulted in the scaling down of adjustment proposed by the Transfer Pricing Officer. In this background, we may now proceed to consider the specific Grounds which have been argued before us at the time of hearing.
5. As noted earlier, assessee is a captive service provider for its associated enterprises abroad, primarily USA-based entities. The assessee is a part of Ness Technology Inc. USA group, which is a leading global information technology services concern. The assessee company has four units in India, located at Bangalore, Hyderabad, Mumbai and Pune and is providing software development services to its group enterprises. The stated value of the international transactions of Provision of software development services provided by the assessee during the year is Rs. 359,61,45,404/-, which has been bench-marked by adopting the ‘Transactional Net Margin Method’ (TNMM) as most appropriate method; and, the selection of the TNM method has not been disturbed by the Transfer Pricing Officer. The assessee’s Operating Profit margin to Total Cost ratio is 13.16% which is also not in dispute. In it’s Transfer Pricing Study, assessee had selected a set of comparables, whose average profit margin was within the +/-5% range vis-a-vis assessee’s margin and, therefore, the plea of the assessee was that no adjustment is required to be made to the stated value of the international transactions in order to determine it’s arm's length price. The Assessing Officer, however, has determined an amount of Rs. 23,10,35,499/-, which was required to be added so as to bring the stated value of the transactions to its arm's length price relating to the international transactions for Provision of software development services. On this aspect assessee has raised multiple Grounds of appeal but in the course of hearing, arguments have been confined to three Grounds of appeal which we deal hereinafter.
6. By way of Ground of appeal No.15, the plea of the assessee is that M/s. M/s.E-Infochips Limited has been wrongly included in the list of comparables because the said concern is functionally dissimilar. It is pointed out that the said concern is engaged in rendering variety of services, i.e. software development services, sale of software products and I.T enabled services; and, further that no segmental data is available in respect of different segments, whereas the assessee is rendering pure software development services to its associated enterprises. On this aspect, Ld. Representative for the assessee referred to para 11.2.2 of the order of DRP and pointed out that the said concern was primarily engaged in providing IT enabled services and products and, therefore, it is wrongly directed by the DRP that the said concern is includible as a comparable. It is also pointed out that the said concern fails the service income filter of 75% adopted by the assessee in its Transfer Pricing Study, and such filter has been otherwise accepted by the Transfer Pricing Officer. In support, reference has been made to para 11.2.2 of the order of the DRP wherein, it is noted that the revenues earned by the said concern from software development services constitute 73.27% of the total revenue, thus, it is canvassed that the said concern is excludible from final set of comparables due to the aforesaid differences.
7. On the other hand, Ld. Departmental Representative pointed out that the Transfer Pricing Officer has noted in para 4.1.6 of his order that the said concern was mainly engaged in software development services and, therefore, it is includible as a good comparable for the purpose of bench marking the international transactions undertaken by the assessee by way of Provision of Software Development Services.
8. We have carefully considered the rival submissions. In the context of the objections raised by the assessee, we have perused the Annual Report of the said concern, a copy of which has been placed in the Paper Book at pages 418 to 429. A perusal of the same reveals that apart from providing software development services, the said concern is also engaged in selling software products. The Annual Report also reveals that the said concern is also engaged in manufacturing EVM and VDB Electronic Boards, which is a hardware related activity. Notably, the Annual Report reveals that all the activities have been clubbed and considered as single reportable business segment, and segmental data for software services is not available so as to be used for benchmarking the transactions which are being tested. On the contrary, in so far as the activity of the assessee, which is under benchmarking is concerned, it relates to pure software development services and it does not involve sale or development of software products or hardware. It is also quite evident that M/s.E-Infochips Limited is undertaking I.T enabled services, which also is distinct from the software development activities undertaken by the assessee. In fact, at the time of hearing, Ld. Representative for the assessee had relied upon the decision of the Delhi Bench of the Tribunal in the case of Saxo India Pvt. Ltd. vs. ACIT, ITA No.6148/Del/2015 dated 5th February, 2016, wherein under an identical situation, M/s.E-Infochips Limited has been found to be incomparable to a concern engaged in rendering pure software development services. Notably, the Tribunal has referred to the Annual Report of the said concern and made the following observations:-
“10.2 After considering the rival submissions and perusing the relevant material on record, we find that the Annual report of this company is available in the paper book with its Profit and loss account at page 1025, Schedule of Income indicates its operating revenue from software development, hardware maintenance, information technology, consultancy etc. Revenue from hardware maintenance stands at Rs. 3.92 crore, which has been considered by the Transfer Pricing Officer himself as sale of products. Such sale of products constitutes 15% of total revenue. There is no segmental information available as regards the revenue from sale of products and revenue from software development segment. As the assessee is simply engaged in rendering software development services and there is no sale of any software products, this company, in our considered opi8nion, ceases to be comparable. It is obvious that from the common pool of income from both the streams of software products and software services, one cannot deduce the revenue from software services and no one knows the impact of revenue from Products on the overall kitty of profit, which may be significant. Since no segmental data of this company is available indicating operating profit from software development services, we order to exclude this company from the list of comparables.”
8.1 It is also pertinent to note that the aforesaid observations of our Co-ordinate bench are in relation to the assessment year 2011-12, which is also the assessment year under consideration before us.
8.2 On the basis of the aforesaid discussion, in our view, the said concern cannot be considered as a good comparable and deserves to be excluded from the final set of comparables for benchmarking the international transactions of Provision of software development services undertaken by the assessee. Thus, on this aspect we uphold the stand of assessee and Ground of appeal no. 15 is allowed.
9. The next issue argued before us is by way of Ground of appeal No.18, whereby the assessee has contended that M/s. Infosys Limited is liable to be excluded from the list of comparables. On this aspect, assessee has made varied submissions by pointing out that the said concern is functionally different as it undertakes multiple activities; owns significant intangibles, brand/proprietary products in contrast to the assessee which does not own any intangibles; further, that the said concern has earned super-normal profits; and, therefore, the said concern is quite distinct in terms of the Functions, Assets and Risks (FAR) profile.
9.1 In this context, Ld. Departmental Representative has defended the stand of the Revenue by referring to the discussion in the order of the Transfer Pricing Officer, wherein it is stated that the said concern is “mainly engaged in software products and broadly comparable to that of the assessee.” It is further pointed out that the DRP has also rejected the plea of the assessee for exclusion of the said concern because the activities were found to be similar to that of the assessee i.e. providing software development services.
9.2 On this aspect, we have carefully considered the rival submissions. A pertinent point raised by the assessee is to the effect that on the basis of level of respective turnovers, the said concern is incomparable. It has been pointed out that the turnover of the assessee is to the tune of Rs. 359,61,45,000/-, whereas M/s. Infosys Limited has a turnover of about Rs. 25,385.00 crores for the year under consideration. In this context, it was put to the parties in the course of hearing as to whether any turnover filter was applied either by the assessee in its Transfer Pricing Study or by the Transfer Pricing Officer in the course of the transfer pricing proceedings. In response, it has been stated before us that no turnover filter was used either by the assessee in its Transfer Pricing Study or by the Transfer Pricing Officer while selecting the comparables for the purpose of benchmarking the international transaction of software development services. Therefore, in this background, it would be inappropriate at this stage to device a new filter and reject/accept a concern as comparable because it would not be feasible to see as to whether the other concerns which were a part of the accept-reject matrix qualify such new filter or not?. We may hasten to add here that we are not proposing to say that the turnover filter is not a relevant filter. The only point we are trying to make is that it would be inappropriate to apply a particular filter with respect to a particular concern without applying it across the entire spectrum of the concerns which have been considered as comparable. Therefore, on this aspect of the matter, we do not deal any further.
9.3 So, however, the other pleas of the assessee to support exclusion of the said concern from the final set of comparables are quite justified. Notably, the said concern is also engaged in the production of software products such as ‘Finacle’, ‘Flypp’and ‘Infosys iSmart as is evident from the copy of the Annual Report of such concern, which has been placed in the Paper Book at pages 483 to 500. In fact, we find that the Transfer Pricing Officer has himself accepted the fact that the said concern is engaged in software products. Apart therefrom, it is quite well understood that Infosys has a brand image which is quite incomparable to the assessee before us, which is wholly acting as a captive service provider for its associated enterprises. In this view of the matter, it is quite evident that the said concern cannot be compared to an assessee who is undertaking pure software development services as a captive service provider.
9.4 At the time of hearing, Ld. Representative for the assessee had also pointed out that the said concern was excluded by the DRP itself in the case of the assessee for the earlier assessment year of 2010-11 on account of its functional profile being different, against which the Department has not preferred any appeal to the Tribunal. It is therefore, contended that in the absence of any change in facts, the DRP ought to have rejected the said concern in this year too.
9.5 In our considered opinion, qualitatively speaking, the activities undertaken by M/s.E-Infochips Limited are not comparable to the pure software development services undertaken by the assessee as a captive service provider to its associated enterprises. Factually, it is also emerging that there is no segmental break-up available with respect to the production and sale of software products undertaken by the said concern, which is an aspect incomparable to the activities of the assessee. For the said reasons, we do not find any justification for inclusion of the said concern and the same is hereby directed to be excluded from the final set of comparables. Thus, on this aspect also assessee succeeds.
10. The next point argued by the assessee is way of Ground of appeal No.19, whereby it is pointed out that Wipro Technology Services Ltd., has been wrongly included as a comparable without appreciating that the said concern is functionally dissimilar and is operating under peculiar economic circumstances. In this context, it is seen that the Transfer Pricing Officer in para 4.1.6 has discussed the issue, and accordingly to him, the said concern is comparable to the assessee because it has reported revenues from software development and technology infra-services. Similarly, while dealing with the objection of the assessee, the DRP has affirmed the stand of the Transfer Pricing Officer on the ground that the activities of the said concern are broadly comparable to that of the assessee.
10.1 Against the aforesaid stand of the Revenue, the Ld. Representative for the assessee pointed out that the said concern was earlier owned by the Citi Group (i.e. upto financial year 2008-09) and was engaged in providing I.T Services only to the Citi Group entities. Subsequently, from January, 2009 onwards the said concern was taken over by Wipro group and even after such take-over the said concern continued to provide services primarily to the Citi Group entities globally. In support, reference has been made to the notes to account annexed to the Annual Report of the said concern for the instant year, copy of which has been placed in the Paper Book at pages 501 to 517 before us. In this background, it is sought to be pointed out that the agreement under which the said concern continues to provide services to the Citi Group entities was part of the take over arrangement and such services are being provided at the pre-determined consideration. It is pointed out that such pre-determined consideration was between the two associated enterprises, namely, the said concern and the other Citi Group enterprises. The Ld. Representative for the assessee pointed out that the fact that price at which the said concern agreed to continue providing services to Citi Group even after take-over by WIPRO group and in the absence of any specific details available on this aspect (in public domain), such a transaction cannot be considered as an uncontrolled transaction, and, thus it is not a valid benchmark. In this context, Ld. Representative for the assessee also pointed out that the DRP has noted the aforesaid aspect but has not given any weightage to the same, which is quite unjustified. In this regard, the Ld. Representative for the assessee placed strong reliance on the decision of the Delhi Bench of the Tribunal in the case of Saxo India Pvt. Ltd.(supra), wherein the said concern has been directed to be excluded from the set of comparables by noticing the aforesaid peculiar facts. Our attention has drawn to the following discussion in the order of the Tribunal in the case of Saxo India Pvt. Ltd.(supra):-
vii) Wipro Technology Services Ltd.
“ 16.1. The assessee objected to the inclusion of this company in the list of comparables by arguing that apart from this company being functionally different and the availability of insufficient segmental information, there were also significant related party transactions. The TPO did not accept the assessee’s contention of the related party transactions and proceeded to include it in the final set of comparables.
16.2. We have heard the rival submissions. Page 57 of the TPO’s order is reproduction of the assessee’s contention about the related party transactions as under :-
“Wipro Technology Services Limited (formerly Citi Technology Services Limited) (‘the Company’) was incorporated on 15 September, 2004. The entire share capital of the Company was held by Citicorp Banking Corporation, a company incorporated under laws of Delaware, USA, upto 20 January, 2009. Wipro Limited (Wipro) executed an agreement with Citigroup Inc. for acquiring all of Citigroup interest in the Company w.e.f. 21 January 2009. On 21 January 2009, Wipro signed a master service agreement (MSA) with Citigroup Inc. for the delivery of technology infrastructure services and application development and maintenance services for the period of six years. The MSA provides for the delivery of at least $500 million in service revenues over the period of the contract. After the acquisition by Wipro, the name of the Company was changed to Wipro Technology Services Limited (‘WTS’ or ‘the Company’) on 16 March 2009.”
16.3. It is observed from the above contention reproduced in the TPO’s order that Wipro Technology Services Ltd., which was earlier Citi Technology Services Ltd., was held by Citi Corp. Banking Corporation, USA upto 20th January, 2009. Wipro Ltd., parent company of the assessee, executed an agreement with Citi Group Inc., for acquiring Citi Technology Services Ltd., now called Wipro Technology Services Ltd. On 21.1.2009, Wipro Ltd. signed a master agreement with Citi Group Inc., for the delivery of technology Infrastructure Services and application development and maintenance services for the period of six years, which also includes the year under consideration. This shows that income from software development support and maintenance services was earned by Wipro Technology Services Ltd., from Citi Group Inc., by means of master service agreement entered into between Wipro Ltd., its parent company and Citi Group Inc., a third person.
16.4. We have noticed above from the language of Rule 10B(1)(e)(ii) that it is the net profit margin realized from a comparable uncontrolled transaction, which is considered for the purposes of benchmarking. The epitome of 'comparable uncontrolled transaction’ is that the companies or transactions in order to fall within the ambit of sub-clause (ii) of rule 10B(1)(e), should be both comparable as well as uncontrolled. 'Uncontrolled transaction’ has been defined in Rule 10A(a) to mean: ‘a transaction between enterprises other than associated enterprises, whether resident or non-resident.’ This shows that in order to be called as an uncontrolled transaction, it is sine qua non that the same should be between the enterprises other than the associated enterprises. Section 92B(2) provides that: 'A transaction entered into by an enterprise with a person other than an associated enterprise shall, for the purposes of sub-section (1), be deemed to be a transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise’. On going through the prescription of sub-section (2) of section 92B, it is clearly borne out that a transaction with a non-AE shall be deemed to be a transaction entered into between two AEs if there exists a prior agreement in relation to the relevant transaction between the third person and the AE or the terms of the relevant transaction are determined in substance between the third person and the AE. When we consider section 92B(2) in combination with Rule 10A(a), it follows that the transaction between non-AEs shall be construed as a transaction between two AEs, if there exists a prior agreement in relation to the relevant transaction between third person and the AE. If such an agreement exists, the third person is also considered as an AE and the transaction with such third person becomes international transaction within the meaning of section 92B. Once there is a transaction between two associated enterprises, it ceases to be an ‘uncontrolled transaction’ and, thereby, goes out of reckoning under Rule 10B(1)(e)(ii).
16.5. Adverting to the facts of the instant case, we find that Wipro Technology Services Ltd. earned a revenue from Master services agreement with Citigroup Inc. for the delivery of technology infrastructure services. This agreement was, in fact, executed between the assessee’s AE, Wipro Ltd., and Citigroup Inc., a third person. This unfolds that the transaction of earning revenue from software development support and maintenance services by Wipro Technology Services Ltd., is an international transaction because of the application of section 92B(2) i.e., there exists a prior agreement in relation to such transaction between Citigroup Inc. (third person) and Wipro Ltd. (associated enterprise). In the light of this structure of transaction, it ceases to be uncontrolled transaction and, hence, Wipro Technology Services Ltd., disqualifies to become a comparable uncontrolled transaction for the purposes of inclusion in the final list of comparables under Rule 10B(1)(e)(ii). We, therefore, direct removal of this company from the list of comparables.”
10.2 Based on the above decision of our Co-ordinate Bench and also relying upon the following decisions, it is canvassed that the said concern is incomparable for the reason that the transactions sought to be compared are not uncontrolled transactions, thus it cannot be used as a benchmark to arrive at an arm’s length price of the tested transactions:-
1. FIL India Business Services Pvt. Ltd. vs. DCIT, ITA No.6867/Del/2014 Dated 12th May, 2016.
2. Equant Solutions India Private Limited, vs. DCIT, ITA No. 1202/Del/2015 dated 21st January, 2016-09-12
3. M/s. Ion Trading India Private Limited vs. ITO, ITA No. 1035/Mum/2015 dated 21st January, 2016.
4. Xchanging Technology Services India Private Limited vs. DCIT, ITA No.1222/Del/2015 dated 8th September,2015
10.3 Apart from the aforesaid, Ld. Representative for the assessee has pointed out that the said concern enjoys the benefits of an established brand name, and it has earned super-normal profit @ 52.09% on total cost and such features also make it incomparable to the assessee company.
11. The Ld. Departmental Representative appearing for the Revenue has not disputed the factual matrix brought out by the assessee but referred to the discussion by the Transfer Pricing Officer to include the said concern in the final set of comparables. According to the Transfer Pricing Officer, the said concern has derived income from Software Development and Technology Infra Services and, therefore, it is a good comparable.
11.1 Having carefully considered the rival submissions, in our considered opinion, the said concern deserves to be excluded from the final set of comparables. It is quite clear that the comparable transactions executed by Wipro Technology Services Ltd. are in terms of an arrangement with related parties at the time of initiation of the arrangement, though in the relevant period, the relationship had undergone a change. The Delhi Tribunal in the case of Saxo India Pvt. Ltd.(supra) has clearly brought out that in the light of the structuring of the transaction, the transactions executed by Wipro Technology Services Ltd. do not qualify to be ‘uncontrolled transactions’ and, therefore, the same cannot be considered for the purposes of comparability analysis having regard to the provisions of Rule 10B(1)(e)(ii) of the Rules. In view fo the aforesaid discussion, we, therefore, direct the Assessing Officer/TPO to exclude the said concern from the final set of comparables.
12. At the time of hearing, it was pointed out by the Ld. Representative for the assessee that if assessee succeeds on the exclusion of the aforesaid three concerns from the final set of comparables, the margin of the assessee would fall within +/-5% range vis-a-vis margin of the residual comparables and thus, in view of the proviso to section 92C(2) of the Act no addition would survive. It has also been pointed out that even the Grounds raised in the appeal of the Revenue on the aspect of transfer pricing adjustment would also be rendered in fructuous inasmuch as , even if the Ground of appeal of the Revenue is allowed, still the margin of the assessee would fall within +/- 5% range vis-a-vis the margin of the comparables concerned. In view of the aforesaid submission and noticing that the three concerns namely, E-Infochips Limited, Infosys Limited and Wipro Technologies Services Ltd. have been directed to be excluded from the final set of comparables by us, the other Grounds relating to the transfer pricing adjustment in the segment of software development services are rendered academic and do not call for any adjudication for the present. As a consequence, Ground of appeal Nos. 1 to 21 (except Ground Nos. 15,18 & 19 which are allowed) in the appeal of the assessee and Ground Nos. 1 to 4 of the Revenue are rendered academic in nature and are accordingly treated as infructuous.
13. Now we may consider Grounds of appeal No. 22 & 23 in the appeal of the assessee, which relate to an addition of Rs. 2,19,51,284/- made by the Assessing Officer on account of transfer pricing adjustment in relation to the international transactions of reimbursement of expenses received by the assessee from its Associated Enterprises. In brief, the relevant facts in order to appreciate the said controversy can be summarized as follows. During the year under consideration, assessee had incurred certain expenses on behalf of its associated enterprises, which was subsequently recovered from the associated enterprises on cost to cost basis without any mark-up. Such reimbursements, which totalled to Rs. 31,95,12,842/-
, were in the nature of cost of travel, accommodation, visa expenses, per diem and other day to day expenses. On being show caused by the Transfer Pricing Officer as to why such recoveries be not subject to service charge of 10%, assessee explained that it was a standard practice to recover certain out of pocket expenses incurred during the course of rendering services to the clients on a cost to cost basis and that it was only for administrative convenience that the payments towards such expenses were initially made by the assessee and later on recovered. The Transfer Pricing Officer was not satisfied with the explanation furnished by the assessee. The Transfer Pricing Officer observed that there was an element of service in such an arrangement and further noted that such expenses were recovered by the assessee from its associated enterprises after a certain time lag, during which period it had to bear the financial costs. For the aforesaid reasons, the Transfer Pricing Officer added 10% mark-up as means to compensate the assessee which came to Rs. 3,19,51,284/- and such amount was determined as income in the hands of the assessee.
13.1 Before us, the Ld. Representative for the assessee vehemently pointed out that the lower authorities have not appreciated the facts in their proper perspective. It has been explained that the impugned expenses relate to cost of travel, accommodation, visa expenses, per diem and other day to day expenses, which were incurred by the assessee’s employees in the course of rendering services or other such expenses incurred on the specific request of the associated enterprises. Since the associated enterprises were responsible for such costs, assessee initially incurred the expenditure but later on recovered it from the associated enterprise and that there was no service element involved so as to justify earning of any service charge. Before us, Ld. Representative for the assessee also referred to voluminous material placed in the Paper Book, which was also available to the lower authorities, to point out that there was no profit-element in such arrangement of recovery of out of pocket expenses..
13.2 On the other hand, Ld. Departmental Representative appearing for the Revenue emphasised that there was a considerable time lag between the incurring of such expenditure by the assessee company and its ultimate recovery from the associated enterprises and, therefore, it reflected incurrence of financial cost by the assessee, which ought to have been compensated by the associated enterprises, and, therefore, the transfer pricing adjustment in this regard made by the TPO/Assessing Officer is justified.
13.3 We have considered the rival submissions. At the outset, in our considered opinion, it would be appropriate to cull out appropriate facts which are relevant to decide the controversy. Notably, assessee is rendering services to its associated enterprises abroad for which it is to be compensated on a cost plus mark-up basis and such transactions have been separately bench-marked. In the course of rendering such services, assessee also incurred certain costs relating to travel, accommodation, visa, per diem and other day-to-day expenses, which were expended by its personnel. Further, assessee also incurred certain out of pocket expenses on the specific request of its associated enterprises. The responsibility for the aforesaid type of expenses was of the associated enterprises but the payment towards these costs were initially made by the assessee and thereafter, recoveries were made from the associated enterprises. Before the DRP, assessee also pointed out that such expenses, which are recovered by it from its associated enterprises, are in-turn recovered by the associated enterprises from the ultimate clients on a cost to cost basis. In this context, assessee furnished sample copies of debit notes raised by it on its associated enterprises alongwith copies of the corresponding debit notes raised by the associated enterprises on the ultimate clients. The aforesaid was canvassed by the assessee to substantiate that there was one to one co-relation and that the entire exercise did not involve any element of profit or mark-up in the hands of the associated enterprises. The aforesaid material is placed at pages 518 to 612 of the Paper Book and which was also before the lower authorities. At the time of hearing, the Ld. Representative for the assessee had also referred to page 613 to 645 of the Paper Book, wherein are placed copies of assessee’s arrangement with the associated enterprises and also the sample agreements between the associated enterprises and the ultimate clients, which prescribe that all impugned travel and related expenses are separately chargeable on a cost to cost basis. All this material clearly brings out a pertinent feature that in the entire transaction involving payment of expenditure by the assessee, its recovery from the associated enterprises, which-in turn recovers it from the end clients, there is no involvement of any profit-element in the hands of the associated enterprises. Therefore, it would be wrong on the part of the income tax authorities to take a position and infer notionally about recovery of mark-up or profit element in the hands of assessee. It has also been brought out that it is a standard practice in the I.T. Industry to recover out of pocket expenses incurred during the course of providing services for the clients on a cost to cost basis. Under these circumstances, in our view, the Transfer Pricing Officer erred in proceeding to infer a non-existent understanding between assessee and its associated enterprises so as to impute income qua the instant transaction in terms of section 92(1) of the Act. Another pertinent fact which has not been rebutted by the Revenue before us is to the effect that in similar situation, from assessment year 2004-05 to 2010-11, no transfer pricing adjustment has been made by the Assessing Officer in relation to the International Transactions on recovery of expenses.
13.4 Another aspect which emerges from the order of the TPO is as follows. After considering the factual matrix, the TPO has proceeded to determine the arm’s length price for the service charges at 10% of the expenses recovered. Ostensibly, the income arising from an international transaction is liable to be computed, having regard to the arm’s length price as mandated in section 92(1) of the Act. Section 92C prescribes the manner of determination of the arm’s length price and sub-section (1) thereof specifically lays down various methods by which the determination of arm’s length price has to be made. It is quite clear that there is no adhocism permissible in the manner of computation of arm’s length price of an international transaction, whereas the action of the Transfer Pricing Officer in considering the arm’s length price @10% of the expenses recovered is not only adhoc but it also does not conform to any of the methods prescribed in section 92C(1) of the Act. On this count itself, the action of the TPO is suspect, even if, it is to be understood that the impugned transaction was an international transaction requiring computation of income having regard to its arm’s length price.
13.5 Considered in the aforesaid light, in our considered opinion, the action of the Transfer Pricing Officer/Assessing Officer in making an addition of Rs. 3,19,51,284/- deserves to be set-aside. We hold so. Thus, in so far as Ground of Appeal No.22& 23 are concerned, the same are allowed.
14. In so far as Grounds of Appeal No. 24,25 & 26 are concerned, the same relate to charging of interest under section 234B & 234C of the Act, which are consequential in nature and does not require any specific adjudication.
15. Ground of appeal No.27 relates to initiation of penalty proceedings under section 271(1)(c) of the Act, which is premature and is dismissed.
16. In the result, whereas the appeal of the assessee is partly allowed, that of the Revenue is dismissed.