ACIT, New Delhi V. M/s. Oracel India Pvt. Ltd, New Delhi

ITA 1432/DEL/2011

• Counselvise Citation: [2015] 140 COUNSELVISE.COM (IT) 97656 (ITAT-DELHI)
• Duration Of Justice: 4 year(s) 6 month(s) 23 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 14-10-2015
• Appeal Filed By: Department
• Order Result: Partly Allowed
• Bench Allotted: I2
• Next Hearing Date: 24-08-2015
• Assessment Year: 2004-2005
• Appeal Filed On: 21-03-2011
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Department Lawyers: SYED NASIR ALI
• Assessee Lawyers: SYALI
• Keywords: Depreciation; Transfer pricing; Double taxation relief; International transaction; Rule of consistency; Question of law; Wholly owned subsidiary; Royalty expenses
• Section: 37(1); 37; 154; 92

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCH I-2 NEW DELHI BEFORE SHRI S.V. MEHROTRA : ACCOUNTANT MEMBER AND SHRI A.T. VARKEY: JUDICIAL MEMBER ITA NO. 1432/DEL/2011 ASSTT. YR: 2004-05 ACIT, CIRCLE 13(1), VS. M/S ORACLE INDIA PVT. LTD ., NEW DELHI. 3 RD FLOOR, A WING, IFCI TOWER, 61, NEHRU PLACE, NEW DELHI. PAN: AAPCO 0158 L ( APPELLANT ) (RESPONDENT) APPELLANT BY : SH. SYED NASIR ALI CIT (DR) RESPONDENT BY : SHRI M.S. SYALI SR. ADV. & SHRI TARANDEEP SINGH ADV. DATE OF HEARING : 24/08/2015. DATE OF ORDER : 14/10/2015. O R D E R PER S.V. MEHROTRA, A.M.. : THIS APPEAL HAS BEEN PREFERRED BY THE REVENUE AGAI NST THE ORDER DATED 30-12-2010 PASSED BY THE LD. CIT(APPEALS)-XX, NEW D ELHI IN APPEAL NO. 162/2007-08/CIT(A)-XX, RELATING TO ASSTT. YEAR 200 4-05. EFFECTIVE GROUNDS RAISED ARE AS UNDER: 1. THAT ON THE FACTS AND CIRCUMSTANCES OF THE CASE THE LD. CIT(A) HAS ERRED IN DELETING THE ADJUSTMENT MADE BY THE TPO WITH RESPECT TO PAYMENT OF ROYALTY OF RS.59,78,91 , 950/-. 2 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 2. THAT ON THE FACTS AND CIRCUMSTANCE OF THE CASE T HE LD. CIT(A) HAS ERRED IN ALLOWING THE ASSESSEE'S CLAIM O F PRIOR PERIOD EXPENSES AMOUNTING TO RS.92,84,552/- 3. THAT ON THE FACTS AND CIRCUMSTANCES OF THE CASE THE LD. CIT(A) HAS ERRED IN ALLOWING THE ASSESSEE'S CLAIM F OR TAX HOLIDAY U/S 10A OF THE I.T. ACT, 1961 AMOUNTING TO RS.17,46,02,964/- 2. BRIEF FACTS OF THE CASE ARE THAT THE ASSESSEE IS A WHOLLY OWNED SUBSIDIARY OF ORACLE CORPORATION, US. ORACLE US IS THE WORLDS SECOND LARGEST INDEPENDENT SOFTWARE COMPANY AND IS A LEADI NG SUPPLIER FOR INFORMATION MANAGEMENT SOFTWARE PRODUCTS. IT ALSO P ROVIDES CONSULTING, SUPPORT, EDUCATION AND SOFTWARE OUTSOURCING SERVICE S. THE ASSESSEE COMPANY HAD BEEN SET UP IN INDIA FOR DISTRIBUTING O RACLE LICENSED PRODUCTS AND FOR PROVIDING CONTRACT SOFTWARE DEVELOPMENT TO ITS ASSOCIATED ENTERPRISE (AE). THE COMPANY HAS SOFTWARE DEVELOPMENT UNITS IN BANGALORE AND HYDERABAD. THE FORMER UNIT WORKS ON SYSTEMS SOFTWAR E PRODUCTS AND THE LATTER ON APPLICATION SOFTWARE. THE ASSESSEE ALSO D ERIVED REVENUES FROM AFFILIATES FOR SERVICES PERFORMED UNDER GLOBAL CONT RACTS. 3. DURING THE YEAR UNDER CONSIDERATION THE MAJOR I NTERNATIONAL TRANSACTIONS UNDERTAKEN BY THE ASSESSEE WITH ITS AE WERE AS UNDER: 3 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. S. NO. DESCRIPTION OF TRANSACTION METHOD VALUE (IN RS.) 1. ROYALTY PAID FOR DUPLICATION AND DISTRIBUTION OF LICENSED SOFTWARE TNMM 125,78,47,655 2. REVENUE TRANSFER INWARDS TNMM 17,38,55,586 3. PROVISION OF SOFTWARE DEVELOPMENT SERVICES TNMM 446,07,64,693 4. IMPORT OF SOFTWARE MASTER COPY TNMM 19,20,456 5. PURCHASE OF PROFESSIONAL SERVICES TNMM 4,80,32,275 6. SOFTWARE TRAINING AND CONSULTING SERVICES RENDERED TNMM 2,68,39,481 7. INTEREST ON DELAYED ROYALTY PAYMENT TNMM 1,10,64,710 4. IN THE PRESENT APPEAL THE MAIN DISPUTE IS IN REG ARD TO ADJUSTMENT MADE BY TPO IN REGARD TO ALLEGED EXCESS ROYALTY PAID OF RS. 59,78,91,950/- FOR DUPLICATION AND DISTRIBUTION. 5. THE MAJOR FUNCTIONS PERFORMED BY ASSESSEE HAVE B EEN DIVIDED UNDER FOLLOWING DIVISIONS: - SALES AND DISTRIBUTION DIVISION DUPLICATION AND D ISTRIBUTION OF SOFTWARE, ALONG WITH PROVISION OF OTHER SUPPORT SER VICES TO THIRD PARTIES. - PROVISION OF CONTRACT SOFTWARE DEVELOPMENT SERVICES TO ORACLE CORP. - PROVISIONS OF BACK OFFICE SUPPORT SERVICES TO GROUP COMPANIES - PROVISION OF CONSULTING SERVICES TO GROUP COMPANIES 6. IN REGARD TO ITS FUNCTIONS RELATING TO SALES AND DISTRIBUTION, WHICH INVOLVED DUPLICATION AND DISTRIBUTION OF SOFTWARE A LONG WITH OTHER SUPPORT 4 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. SERVICES TO THIRD PARTY, THE ASSESSEE HAD ENTERED I NTO A SOFTWARE DUPLICATION AND DISTRIBUTION LICENSE AGREEMENT (DISTRIBUTION AG REEMENT) WITH ORACLE CORPORATION. UNDER THIS AGREEMENT THE ASSESSEE HAD BEEN GRANTED A NON- EXCLUSIVE, NON ASSIGNABLE RIGHT TO DUPLICATE AND SU B LICENSE ORACLE PRODUCTS IN INDIA. FOR THIS PURPOSE, THE ASSESSEE IMPORTED M ASTER COPIES OF SOFTWARE FROM ORACLE CORPORATION AND ORACLE EMEA LTD., IRELA ND. THESE WERE DUPLICATED IN INDIA AND SUB-LICENSED TO THIRD PARTI ES AND USERS (CUSTOMERS) DIRECTLY OR THROUGH LOCAL SUB-DISTRIBUTORS OR PARTN ERS. IN LIEU OF DUPLICATION AND DISTRIBUTION RIGHTS GRANTED BY ORACLE CORPORATI ON UNDER THE DISTRIBUTION AGREEMENT, ASSESSEE PAID ROYALTY TO ORACLE CORPORAT ION SUBJECT TO 56% OF LICENSE, UPDATES AND PRODUCT SUPPORT REVENUE REALIZ ED BY ASSESSEE FROM SUB- LICENSING OF ORACLE PRODUCTS IN INDIA. 7. AS FAR AS MASTER COPIES IMPORTED FROM ORACLE EXE A LTD. WERE CONCERNED, THE ASSESSEE PAID ONLY THE MEDIA COST TO ORACLE EMEA LTD. AND ON THIS COUNT THERE IS NO DISPUTE. 8. LD. TPO NOTED THAT WHILE DETERMINING THE ALP, TH E ASSESSEE HAD COMBINED THE PAYMENT OF ROYALTY AND INTEREST ON ROY ALTY CHARGED IN THE DISTRIBUTION, DUPLICATION AND CORPORATE EXPENSES FO R THE ARMS LENGTH DETERMINATION. HE, THEREFORE, REQUIRED THE ASSESSEE TO SUBMIT SEPARATE BENCH 5 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. MARKING FOR ROYALTY PAYMENT AND INTEREST ON SUCH RO YALTY PAYMENTS. THE ASSESSEES REPLY HAS BEEN REPRODUCED FROM PAGES 13 TO 15 OF TPOS ORDER IN WHICH ASSESSEE PRIMARILY JUSTIFIED ITS APPROACH OF ADOPTING TNMM METHOD FOR BENCH MARKING THE ROYALTY PAYMENT. THE ASSESSEE , INTER ALIA, POINTED OUT AS UNDER: THE ROYALTY BEING PAID BY ORACLE INDIA IS AKIN TO A RECURRENT PRICE FOR AN INTANGIBLE THAT PROVIDES ORACLE INDIA WITH RECURRENT BUSINESS. THE ROYALTY PAYMENT IS NOT AN I NDEPENDENT OR EXCLUSIVE TRANSACTION IN THE DISTRIBUTION ACTIVI TY OF OIPL. IT IS THE BASIS OF THE ENTIRE DISTRIBUTION REVENUE EAR NED BY OIPL AS WITHOUT THE LICENSE FROM ORACLE CORP. OIPL WOULD NO T BE ABLE TO GENERATE ANY REVENUE BY RESELLING ORACLE SOFTWAR E IN INDIA. 9. AFTER CONSIDERING THE ASSESSEES REPLY, THE LD. TPO ISSUED QUESTIONNAIRE DATED 4-10-2006, REQUIRING THE ASSESS EE TO SUBMIT REPLY ON THE FOLLOWING QUESTIONS: (I) ROYALTY PAYMENT DETAILS OF THE LAST FIVE YEARS ALON G WITH DETAILS OF SALES ON WHICH ROYALTY HAS BEEN CALCULAT ED. WHY ROYALTY SHOULD NOT BE REST4RICTED AT THE LEVEL OF PAYMENT MADE IN FY 2002-03? (II) THE REASON FOR ENHANCEMENT OF ROYALTY RATES FROM 30 % TO 56%. (III) ROYALTY PAID BY THE OTHER ASSOCIATED ENTERPRISES IN THE ASIA PACIFIC REGIOIN. (IV) WHY INTEREST PAID ON ROYALTY SHOULD NOT BE INCLUDED IN ROYALTY PAYMENT FOR BENCHMARKING? 6 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 10. THE ASSESSEE VIDE ITS LETTER DATED 8-11-2006 SU BMITTED ITS REPLY WHICH HAS BEEN REPRODUCED FROM PAGES 15 TO 22 OF TPOS OR DER, AFTER CONSIDERING WHICH LD. TPO AGAIN ISSUED A QUESTIONNAIRE DATED 16 -11-2006, REQUIRING THE ASSESSEE TO FILE FOLLOWING DETAILS: (I) DETAILS OF ROYALTY RATES RECEIVED BY M/S ORACL E CORP. FROM OTHER SUBSIDIARIES LOCATED IN ASIA PACIFIC AND LATIN AMERICA. (II) THE DETAILS OF OPERATING PROFIT MARGIN EARNED BY THE SUBSIDIARIES OF ORACLE CORP. LOCATED IN ASIA PACIFI C AND LATIN AMERICA. (III) THE DETAILS OF E-BUSINESS MODEL OF ORACLE CO RP. WITH THE SUBSIDIARIES IN ASIA PACIFIC AND LATIN AMERICA REGI ON. 11. IN ITS REPLY THE ASSESSEE, INTER ALIA, POINTED OUT THAT THERE HAD BEEN NO INCREASE IN THE EFFECTIVE RATE OF ROYALTY IN FY 200 3-04 FOR WHICH ASSESSEE SUBMITTED A TABLE OF OP MARGIN RATIO SINCE 2000-01, WHICH WAS AS UNDER: YEAR OIPL DISTRIBUTION MARGIN ARMS LENGTH MARGIN EFFECTIVE ROYALTY RATE 2001-02 37% 3% 67% 2002-03 44% 3% 62% 2003-04 23% 3% 57% 12. LD. TPO, AFTER DETAILED DISCUSSION, RESTRICTED THE PAYMENT OF ROYALTY @ 30% OF ACTUAL SALES AND, ACCORDINGLY, HELD THAT T HERE WAS EXCESS PAYMENT IN RESPECT OF ROYALTY OF RS. 59,78,91,950/-. THE RE ASONING GIVEN BY LD. TPO IS CONTAINED IN PARAS 8 TO PARA 9.5 OF HIS ORDER. H E HAS NOTED THAT DURING THE 7 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. PERIOD APRIL 2003 TO MAY 2003, ASSESSEE WAS PAYING ROYALTY AT 30% ON LIST PRICE. HOWEVER, FROM JUNE 2003 TO MARCH 2004, ASSES SEE HAD PAID ROYALTY ON 56% OF ACTUAL SALES. IT WAS ON FOLLOWING BASIS: NET SALES VALUE ON = SALES FROM LICENSES + SALES FROM SUPPORT WHICH ROYALTY IS PAID = REVENUE RELATING TO NON LIC ENSE TRANSACTION (CONSULTING, TRADING, EDUCATION PRODUCTS. CD PAC KS) 13. LD. TPO HAS OBSERVED THAT ASSESSEE TRIED TO DEM ONSTRATE THAT EFFECTIVE ROYALTY RATE FOR AY 2003-04 WAS LESS THAN EFFECTIVE ROYALTY RATE PAID BY ASSESSEE FOR THE PREVIOUS FINANCIAL YEAR. HOWEVER, HE DID NOT ACCEPT THE SAME AND OBSERVED THAT DEPARTMENT HAS BEEN TAKING A CONSISTENT STAND THAT 30% OF THE ROYALTY SHOULD BE PAID ON ACTUAL SALES. HE POINTED OUT THAT THOUGH THE CALCULATION OF ROYALTY BASE HAS BEEN IN LINE OF THE DEPARTMENTS APPROACH, BUT THE RATES HAD BEEN INCREASED FROM 30% TO 56%. HE POINTED OUT THAT REASONS CITED BY THE ASSESSEE THAT THE RATES W ERE BEING INCREASED DUE TO CHANGE IN FOREIGN EXCHANGE REGULATION ACT AND ALSO BECAUSE OF THE NEED THAT ASSESSEE AND ORACLE CORPORATION WOULD LIKE TO ADOPT NEW DELIVERY BUSINESS MODELS WHERE THE TRANSACTION COST WILL BE REDUCED FOR ASSESSEE, WE DEVOID OF ANY MERIT. HE ALSO OBSERVED THAT DURING T HE TP PROCEEDINGS THE ASESSSEES REPRESENTATIVE ALSO POINTED OUT THAT BY SHIFTING THE BASE FOR THE CALCULATION OF THE ROYALTY, THERE WOULD BE A SHIFT OF RISK FROM ASSESSEE AND FOR THIS SHIFT THE AE NEEDS TO BE COMPENSATED. 8 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 14. LD. TPO HAS OBSERVED THAT DURING THE COURSE OF TP PROCEEDINGS THE AUTHORIZED REPRESENTATIVE WAS UNABLE TO DEMONSTRATE THE CHANGES IN FUNCTIONS FOR WHICH ORACLE CORPORATION NEEDED TO BE COMPENSATED AND THE REASON THAT IT SHOULD GET MORE THAN WHAT IT WAS GET TING COMPENSATION FOR FY 2002-03. HE FURTHER OBSERVED THAT DURING THE PROCEE DINGS, THE AR WAS ALSO ASKED TO SUBMIT THE ROYALTY PAID BY OTHER ASSOCIATE ENTERPRISES TO ORACLE CORPORATION IN THE ASIA PACIFIC REGION. HOWEVER, T HE AR POINTED OUT THAT ASSESSEE AS A SUBSIDIARY, WAS NOT PRIVY TO THIS INF ORMATION. 15. LD. TPO OBSERVED THAT NO INDEPENDENT ENTERPRISE IN AN UNCONTROLLED ECONOMIC ENVIRONMENT WOULD BE WILLING TO PAY ENHANC ED RATE OF ROYALTY WITHOUT ANY SUITABLE GAIN FOR THE ENHANCED PAYMENT. HE, ACCORDINGLY, CONCLUDED THAT THE TRANSACTIONS RELATING TO THE ROY ALTY PAYMENT BY OIPL TO ORACLE CORPORATION WAS NOT AT ARMS LENGTH BECAUSE THE DECISION TO MAKE ENHANCED ROYALTY RATE WAS NOT BASED ON ANY SOUND CO MMERCIAL GROUND AND THIS DECISION WAS UNILATERAL. HE FURTHER OBSERVED T HAT NO DOCUMENTS WERE SUBMITTED TO DEMONSTRATE THAT ASSESSEE WAS A PARTY IN THIS PRICE SETTING MECHANISM. THERE WAS NO DATA BASE IN THE DOMAIN ON THE BASIS OF WHICH INTERNATIONAL TRANSACTION RELATING TO ROYALTY PAYME NT COULD BE BENCH MARKED. 9 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 16. TPOS REASONING FOR REJECTION OF ASSESSEES CLA IM OF ROYALTY PAYMENT @ 56% WAS AS UNDER: NEW BUSINESS MODEL IS THE MAIN REASON FOR ENHANCEM ENT OF ROYALTY RATES FROM 30% TO 56% AND ALSO ON ACCOUNT O F THE CHANGE IN FOREIGN EXCHANGE CONTROL STIPULATION AND THE CEILING ON THE PAYMENT AND EXCHANGE CONTROL PROSPECTIVE. TH E OTHER REASON IS THAT FLEXIBILITY TO OIPL, BECAUSE OF WHIC H IS TO BE ABLE TO SHIFT GLOBAL DELIVERY MODEL OF E-BUSINESS. SUCH E-BUSINESS AND DIRECT DELIVERY MODEL HAVE BEEN FOUND TO BE COS T EFFECTIVE AND ARE BEST BUSINESS PRACTICES. THERE WAS NO RESTRICTION ON PAYMENT OF ROYALTY ON M ORE THAN 30% OF THE INDIAN PUBLISHED PRICE. THE ONLY RESTRIC TION WAS THAT IF THE ROYALTY PAYMENT EXCEEDS 30%, THE APPLICANT W AS ADVISED TO OBTAIN SPECIFIC APPROVAL FROM THE DEPARTMENT OF ELECTRONICS, GOVERNMENT OF INDIA. THEREFORE, THE CONTENTION OF T HE ASSESSEE THAT HIGHER ROYALTY COULD NOT BE MADE BECAUSE OF TH E EXCHANGE CONTROL IS TOTALLY BASELESS AND ON THE BASIS OF WRO NG ASSUMPTIONS. THE OTHER CONTENTION OF THE ASSESSEE THAT THE NEW D ELIVERY BUSINESS MODEL IS ANOTHER REASON FOR MAKING THE ENH ANCEMENT OF THE RATE FROM 30% TO 56% IS ALSO NOT CORRECT AS DISCUSSED IN THE FOLLOWING PARAGRAPHS OF THIS ORDER :- ROYALTY DEFINITION IN INDO-US DTAA ROYALTY HAS BE EN DEFINED IN ARTILE 12 PARA 3 OF INDO US DTAA AS UNDE R: 'THE TERM 'ROYALTIES' AS USED IN THIS ARTICLE MEANS : (A) PAYMENTS OF ANY KIND RECEIVED AS A CONSIDERATIO N FOR THE USE OF, OR THE RIGHT TO USE, ANY COPYRIGHT OR A LITERAR Y, ARTISTIC, OR SCIENTIFIC WORK, INCLUDING CINEMATOGRAPH FILMS OR W ORK ON FIRM, TAPE OR OTHER MEANS OF REPRODUCTION FOR USE IN CONN ECTION WITH 10 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. RADIO OR TELEVISION BROADCASTING, ANY PATENT, TRADE MARK, DESIGN OR MODEL, PLAN, SECRET FORMULA OR PROCESS, OR FOR I NFORMATION CONCERNING INDUSTRIAL, COMMERCIAL OR SCIENTIFIC EXP ERIENCE, INCLUDING GAINS DERIVED FROM THE ALIENATION OF ANY SUCH RIGHT OR PROPERTY WHICH ARE CONTINGENT ON THE PRODUCTIVITY, USE OR DISPOSITION THEREOF; AND (B) PAYMENTS OF ANY KIND RECEIVED, AS CONSIDERATION FOR THE USE OF, OR THE RIGHT TO USE, ANY INDUSTRIAL, COMMERCIAL , OR SCIENTIFIC EQUIPMENT, OTHER THAN PAYMENTS DERIVED BY AN ENTER PRISE DESCRIBED IN PARAGRAPH 1OF ARTICLE 8 (SHIPPING AND AIR TRANSPORT) FROM ACTIVITIES DESCRIBED IN PARAGRAPH 2 (C) OR 3 OF ARTICLE 8'. IT IS CLEAR FROM THE ABOVE DEFINITION OF THE ROYALT Y THAT ROYALTY IS LINKED TO THE INTANGIBLES BUILT INTO THE PRODUCT PR OCESSES, KNOW- HOW, AND SECRET FORMULAS. THE NEW E-BUSINESS DELIVE RY MODEL OF THE PRODUCT IS IN NO WAY LINKED WITH THE INTANGI BLE BUILT IN THE PRODUCT. FURTHER DUE TO THE ADOPTION OF BEST PR ACTICES IN E- DELIVERY MODE, THERE IS COST SAVING NOT ONLY TO THE OIPL BUT TO ORACLE CORP. ALSO. THEREFORE, THE CONTENTION OF THE ASSESSEE THAT THE HIGHER RATE OF ROYALTY IS ON ACCOUNT OF THIS NE W E-BUSINESS DELIVERY MODEL IS NOT ACCEPTABLE AS THERE ARE NO LI NKAGES BETWEEN ROYALTY PAYMENT AND E-DELIVERY OF THE PRODU CT. IT IS ALSO TO BE MENTIONED HERE THAT DURING THE TRA NSFER PRICING PROCEEDINGS, ASSESSEE WAS ASKED TO SUBMIT THE RATES OF ROYALTY PAYMENTS MADE BY THE OTHER SUBSIDIARIES OF ORACLE C ORP. WHO ARE LOCATED IN THE ASIA PACIFIC REGION. IT WAS ALSO SUBMITTED BY THE OIPL THAT IT IS NOT PRIVY TO THIS KIND OF INFOR MATION. ON ACCOUNT OF ENHANCEMENT OF ROYALTY RATE, THE OUTFLOW OF OIPL HAS INCREASED SUBSTANTIALLY. WHILE NEGOTIATING THE ROYALTY RATES, OIPL HAS NOT TAKEN INTO ACCOUNT OF THE ROYALTY RATE S PAYMENTS MADE BY THE OTHER GROUP COMPANIES AND INDEPENDENT COMPANIES. NO THIRD PARTY ENTERPRI-SES WILL TAKE TH IS KIND OF 11 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. BUSINESS TRANSACTION WITHOUT HAVING AN INFORMED VIE W ON THE NATURE AND RATES OF THE ROYALTY PAYMENTS. THEREFORE THE ROYALTY ENHANCEMENT FROM 30% TO 56% IS NOT COMMENSURATE WIT H THE BENEFITS FOR OIPL AND THEREFORE THIS TRANSACTION IS BEING BENCHMARKED AS DISCUSSED IN THE OTHER PARAS OF THIS ORDER. 9.3 FOR TAKING THE APPROVAL FOR ENHANCEMENT OF ROYA LTY BASE FROM 30% TO 56% IN APPLICATION REPORT, THE FOREIGN INVESTMENT PROMO TION BOARD DT. 27.09.2002 ASSESSEE HAS SUBMITTED THAT ORACLE C ORP. RESEARCH & DEVELOPMENT EXPENDITURE VERY SIGNIFICANT AT THE PERCENTAGE OF ORACLE CORPS. LICENSING REVENUE RESEA RCH & DEVELOPMENT WERE 31%, 25% AND 23% FOR 2002, 2001 & 2000 YEARS RESPECTIVELY. THE ROYALTY PAYABLE BY OIPL TO ORACLE CORP. SHOULD REPRESENT APPROPRIATE COMPENSATION TO ORACLE CORP. FOR THE SIGNIFICANT CAUSE INCURRED BY ORACLE CORP. IN THE DEVELOPMENT OF SOFTWARE LICENSE TO INDIAN CUSTOMERS . THE FINANCIALS OF ORACLE CORP. FILED BEFORE SECURITIES EXCHANGE COMMISSION (SEC), USA, DOWN LOADED FROM NASDAQ WEBSITE IS AS UNDER: PROFIT & LOSS ACCOUNT CONSOLIDATED DATA 31/05/2002 31/05/2001 31/05/2000 12 MONTHS 12 MONTHS 12 MONTHS UNQUAL UNQUAL UNQUAL TH USD TH USD TH USD 10-K 10-K 10-K OPERATING REVENUE/ TURNOVER 9,673,000 10,961,000 10,231,000 GROSS SALES 9,673,000 10,961,000 10,231,000 ADJUSTMENTS/ EXCISE TAX N.A. N.A. N.A. NET SALES 9,673,000 10,961,000 10,231,000 OTHER REVENUES N.A. N.A. N.A. SALES 9,673,000 10,961,000 10,231,000 12 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. COSTS OFF GOODS SOLD 2,042,517 2,551,000 2,653,390 COST OF GOODS SOLD -2,042,517 -2,551,000 -2,653,39 0 GROSS PROFIT 7,630,483 8,410,000 7,5777,610 OTHER OPERATING EXPENSES 4,059,483 4,6333,000 4,497,610 RESEARCH & DEVELOPMENT EXPENSES -1,076,000 -1,139,000 -1,010,000 % AGE OF R&D TO SALES 11.1 10.3 9.8 OTHER OPERATING ITEMS -2,620,000 -3,148,000 -3,097 ,000 DEPRECIATION -273,890 -275,000 -314,000 AMORTIZATION & DEPLETION -89,593 -71,000 -76,610 OPERATING P/L {=EBIT} 3,571,000 3,777,000 3,080,000 IT IS SEEN FROM THE TABLE THAT R & 0 EXPENSES TO SA LES FOR YE: 2002, 2001& 2000 IS 11.1%, 10.3% & 9.8% RESPECTIVEL Y. IT IS SEEN THAT FROM 2002 TO 2000 AS SUBMITTED BY THE AS SESSEE THERE IS NO SIGNIFICANT ENTRIES IN R& D EXPENSES TO THE TOTAL SALES. THEREFORE, THE ARGUMENT OF THE ASSESSEE THAT R&D E XPENSES WERE INCREASED SUBSTANTIALLY OVER THE YEARS AND ORA CLE CORP. NEEDS TO COMPENSATE FOR INCREASE R& 0 EXPENSES IS N OT CORRECT. THEREFORE, THE REASON FOR ENHANCEMENT OF ROYALTY RA TE FROM 30% TO 56% IS ALSO NOT BASED ON ANY SOUND COMMERCIAL CONSIDERATION FOR M/S OIPL. 9.4 IN APPLICATION BEFORE FOREIGN INVESTMENT BOARD (FIPB) ON PAGE 5 OF THE SUBMISSION ASSESSEE HAS SUBMITTED AS UNDER:- 'R&D INITIATIVES IN INDIA AND EMPLOYEE GROWTH OIPL'S R&D CENTERS IN BANGALORE AND HYDERABAD HAVE PLAYED A SIGNIFICANT ROLE IN ORACLE CORP'S WORLDWIDE DEVEL OPMENT INITIATIVES FOR PREMIUM PRODUCT OFFERINGS LIKE ORAC LE 9I AND ORACLE 11I. ORACLE'S INDIAN OPERATIONS CURRENTLY EM PLOY MORE THAN 2,200 SKILLED INDIAN SOFTWARE PROFESSIONALS, T HE PROPOSE TO TAP THE LARGE INDIAN IT HUMAN RESOURCE BASE TO CONT INUE ITS DEVELOPMENT EFFORTS IN INDIA. OIPL PROPOSES TO MORE THAN DOUBLE ITS EMPLOYEE STRENGTH IN THE NEXT 2 YEARS'. 13 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. AS MENTIONED PARA 4.1.1. OF THIS ORDER OIPL GETS A COMPENSATION FOR THE DEVELOPMENT SERVICES ON THE BA SIS OF COST PLUS 15% MODEL. THE BANGALORE AND HYDERABAD R& 0 CE NTERS HAVE PLAYED A SIGNIFICANT ROLE IN ORACLE CORP'S WOR LDWIDE DEVELOPMENT INITIATIVES FOR PREMIUM PRODUCTS LIKE O RACLE 9I AND ORAC1ELLI. INDIAN ENTITY HAS MERELY RECEIVED A COST PLUS 15% COMPENSATION AND IN SPITE OF MAJOR CONTRIBUTOR IN R&D OF BLOCK BUSTER PRODUCT LIKE ORACLE 9I & ORALCE 11I , THERE IS NO SUITABLE COMPENSATION FOR THE INDIAN ENTITY. IN FAC T A CORRECT APPROACH FOR THE COMPENSATION FOR THE INDIAN ENTITY IS SHARING OF REVENUE BY ORACLE CORP. AND OIPL ON THE BASIS O F COST AND BENEFIT ANALYSIS, HOWEVER, THIS APPROACH IS NOT BEE N FOLLOWED IN THIS ORDER DUE TO LACK OF AVAILABILITY OF DATA RELA TING TO SEPARATED SALES FIGURES FROM ORACLE 9I & ORACLE III. THE APPR OACH BEING FOLLOWED IN THIS ORDER IS THAT THE CHANGE IN FUNCTI ON OF BOTH ENTITIES IN F.Y. 2003-04 VIS-A-VIS F.Y. 2002-03. TH IS APPROACH WILL ENSURE THAT NON COMPENSATION TO OIPL FOR ITS R &D INITIATIVES GET COMPENSATED FOR NON PAYMENT OF COST SAVING DUE TO E - BUSINESS MODEL FOR DELIVERY OF THE PRODUCT. THEREFORE IN THIS ORDER THE RESTRICTION OF ROYALTY AT THE RATE 3 0% OF THE ACTUAL SALES IS TO BE SEEN IN THE OVERALL APPROACH OF THE FUNCTION PERFORMED, ASSET USED AND RISK ASSUMED BY BOTH THE ENTITIES. 9.5 IN REPLAY VIDE DATED 1.12.2006. ASSESSEE HAS SU BMITTED THAT INCREASE IN ROYALTY RATE WAS LINKED TO CHANGE IN EX CHANGE CONTROL REGIME AND ASSESSEE SUBMITTED NO REPLY ON H OW NEW INTANGIBLE ARE INBUILT IN PRODUCT-FOR WHICH ENHANCE RATES ARE BEING CHARGED FROM OIPL. THIS FURTHER CORROBORATES THE FACT NEWLY CREATED INTANGIBLE NOR DUE TO E-BUSINESS DELI VERY MODEL BUT A NEW MECHANISM HAS BEEN EVOLVED TO CHARGE MORE ROYALTY FROM OIPL. 17. BEFORE LD. CIT(A) THE ASSESSEE FILED DETAILED S UBMISSIONS, INTER ALIA, REITERATING THE FACT THAT EFFECTIVE ROYALTY RATE CA LCULATED BY TAKING PERCENTAGE 14 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. OF THE ROYALTY PAY OUT ON ACTUAL SALES AVERAGE OUT TO BE 59% DURING THE PERIOD 1997-98 TO 2002-03 AS AGAINST WHICH THE EFF ECTIVE ROYALTY RATE WAS 56% IN FY 2003-04, WHICH CLEARLY DEMONSTRATED THE F ACT THAT THERE HAD BEEN NO INCREASE IN THE ROYALTY PAID. 18. LD. CIT(A) AFTER CONSIDERING THE ANALYSIS SUBMI TTED BEFORE HIM ACCEPTED THE ASSESSEES CONTENTION, INTER ALIA, OBS ERVING THAT ASSESSEE HAD EARNED OP/ SALES MARGIN OF 23% IN ITS DISTRIBUTION SCHEME DURING THE YEAR AS AGAINST 2% EARNED BY THE COMPARABLE COMPANIES. 19. LD. DR REFERRED TO THE REASONING GIVEN BY TPO, AS REPRODUCED EARLIER, AND POINTED OUT THAT DEPARTMENT HAS BEEN CONSIDERIN G 30% ON ACTUAL SALES AS THE PROPER ROYALTY PAY OUT AND, THEREFORE, 56% OF A CTUAL SALES PAID BY THE ASSESSEE WAS VERY HIGH WHICH HAD NO LINKAGE WITH TH E FUNCTIONS PERFORMED BY THE ASSESSEE. HE POINTED OUT THAT NO COMPARABLES WERE GIVEN BY THE ASSESSEE. 20. LD. SR. COUNSEL, SHRI M.S. SYALI, SUBMITTED THA T ORIGINALLY ASSESSEE WAS PAYING ROYALTY @ 30% OF THE INDIAN PUBLISHED PR ICE (IPP) AND NOW IT WAS PAYING @ 56% ON ACTUAL SALES. HE POINTED OUT TH AT ASSESSEE HAD DULY EXPLAINED THE REASONS FOR CHANGE IN THE BASE FOR CO MPUTATION OF ROYALTY FROM IPP TO ACTUAL SALES. 15 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 21. LD. SR. COUNSEL FURTHER SUBMITTED THAT ASSESSEE HAD CLEARLY DEMONSTRATED THAT THE EFFECTIVE ROYALTY RATE WAS LE SSER THAN THE EARLIER YEAR. LD. COUNSEL REFERRED TO THE DECISION OF HONBLE DEL HI HIGH COURT IN ASSESSEES OWN CASE FOR AY 1999-2000 AND POINTED OU T THAT THE HONBLE HIGH COURT HAD UPHELD THE DECISION OF THE TRIBUNAL IN ALLOWING DEDUCTION OF RS. 17,10,24,600/- DISALLOWED BY THE AO U/S 92 READ WITH SECTION 37(1) OF THE ACT BEING ROYALTY PAID BY THE ASSESSEE TO ITS H OLDING COMPANY BEYOND 30% OF THE SUB-LICENSE FEE EARNED BY THE ASSESSEE. 22. LD. SR. COUNSEL REFERRED TO PARA 4 OF THE DECIS ION WHEREIN THE HONBLE HIGH COURT HAS NOTED THAT ROYALTY HAD BEEN PAID AT 30% OF THE LIST PRICE OF THE LICENSED PRODUCTS TO ORACLE CORPORATION. HE POI NTED OUT THAT AO NOTED THAT THE TOTAL REVENUE EARNED BY THE ASSESSEE AT DE LHI UNIT INVOLVED IN SUB- LICENSING OF SOFTWARE WAS TO THE EXTENT OF RS. 98,1 6,72,000/- OUT OF WHICH ASSESSEE HAD EARNED FOLLOWING RECEIPTS: (A) SOFTWARE LICENSING FEE RS. 59,68,78,000/- (B) SOFTWARE TECHNICAL SUPPORT SERVICE RECEIPTS RS. 6,00,08,000/- (C) CONSULTANCY CHARGES RS. 4,01,20,000/- (D) TRADING RECEIPTS RS. 7,93,81,000/- (E) SALE OF SOFTWARE DOCUMENTATION RS. 52,85,000/- 16 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 23. CONSIDERING THAT THE RECEIPTS DISCLOSED ON ACCO UNT OF SOFTWARE LICENSING, ON WHICH THE ASSESSEE WAS PAYING ROYALTY FOR SUB-LICENSING, WAS ONLY RS. 59,68,78,000/-, THE ASSESSEE WAS REQUIRED TO EXPLAIN AS TO WHY PROVISIONS OF SEC. 92 SHOULD NOT BE INVOKED SINCE E VEN IF THE ROYALTY WAS PAID AT 30% OF THE SALE CONSIDERATION THE AMOUNT PA YABLE WAS ONLY TO THE EXTENT OF RS. 17.90 CRORES. BEING DISSATISFIED BY T HE EXPLANATION FURNISHED BY THE ASSESSEE IN THIS REGARD AND FOR THE REASONS REC ORDED IN THE ASSESSMENT ORDER THE DISALLOWANCE OF RS. 17,10,24,600/- WAS MA DE BY THE AO U/S 92 READ WITH SEC. 37(1) OF THE ACT ON ACCOUNT OF PAYME NT OF ROYALTY BEYOND 30% OF THE SUB-LICENSING FEE EARNED BY THE ASSESSEE . HONBLE DELHI HIGH COURT IN PARA 5 HAS NOTED THAT LD. CIT(A) UPHELD TH E DISALLOWANCE MADE BY THE AO ON THE GROUND THAT A SIGNIFICANT AMOUNT OF P ROFIT HAD BEEN SIPHONED OFF TO M/S ORACLE CORPORATION, USA BY PAYING ROYALT Y BY IGNORING THE SALEABLE PRICE OF THE PRODUCT. TRIBUNAL, HOWEVER, A LLOWED THE ASSESSEES APPEAL. 24. HONBLE DELHI HIGH COURT IN PARA 7 HAS, INTER A LIA, NOTED THAT THE TRIBUNAL HAD CONCLUDED THAT SINCE THE ASSESSEE ITSE LF HAD DECLARED PROFITS OF RS. 1227.40 LACS IN THE RETURN FOR THIS YEAR, IT WA S NOT THE CASE OF NO PROFIT.THE TRIBUNAL ALSO HELD THAT THE PROVISIONS OF SEC. 92 COULD NOT BE INVOKED BECAUSE REVENUE HAD NOT DISCHARGED ITS ONUS BY PROVING THAT THE 17 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. PROFIT BEING EARNED BY THE ASSESSEE WAS NOT THE ORD INARY PROFIT IN THIS TYPE OF BUSINESS. THE REVENUE HAD TO ESTABLISH THAT THE PRO FITS EARNED BY THE ASSESSEE WERE LESS THAN THE ORDINARY PROFITS BY BRI NGING COMPARABLE CASES IN THIS REGARD AND THEN ONLY SECTION 92 COULD BE INVOK ED. 25. HONBLE DELHI HIGH UPHELD THE ORDER OF THE TRI BUNAL, INTER ALIA, OBSERVING IN PARA 21 AS UNDER: MR. SYALI, LEARNED SENIOR COUNSEL WAS RIGHT IN HIS SUBMISSION THAT SECTION 37 WAS EXPENSES ORIENTED IN NATURE AND THE FOCUS OF THIS PROVISION WAS TO SEE WHETHER EXPENSES INCURRED WERE WHOLLY OR EXCLUSIVELY FOR THE PURPOSE OF BUSINESS T O ENTITLE THE SAME FOR DEDUCTION. THE AO COMMITTED SERIOUS ERROR IN MIXING THE PROVISIONS OF SECTION 92 AND SECTION 37 OF THE ACT. 26. LD. SR. COUNSEL POINTED OUT THAT HE DEPARTMENT HAS NOT FILED ANY SLP AGAINST THIS ORDER. 27. WITH REFERENCE TO ABOVE DECISION LD. COUNSEL FU RTHER REFERRED TO PAGE 13 OF THE TPOS ORDER TO POINT OUT THAT IN THE DI STRIBUTION AND DUPLICATION SEGMENT THE OP ON SALES OF ASSESSEE WAS 23.3% AS CO MPARED TO THE COMPARABLES OF 2.2%. 28. LD. SR. COUNSEL FURTHER REFERRED TO THE DECISIO N OF HONBLE DELHI HIGH COURT IN THE CASE OF CIT VS. MENTOR GRAPHICS (NOIDA ) PVT. LTD. 354 ITR 586, WHEREIN IT HAS BEEN HELD THAT TRIBUNAL WAS WRO NG IN HOLDING THAT IF ONE 18 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. PROFIT LEVEL INDICATOR OF A COMPARABLE, OUT OF A SE T OF COMPARABLES, IS LOWER THAN THE PROFIT LEVEL INDICATOR OF THE TAXPAYER, TH EN THE TRANSACTION REPORTED BY THE TAXPAYER IS AT AN ARMS LENGTH PRICE. THE PR OVISO TO SECTION 92C(2) IS EXPLICIT THAT WHERE MORE THAN ONE PRICE IS DETERMIN ED BY THE MOST APPROPRIATE METHOD, THE ARMS LENGTH PRICE SHALL BE TAKEN TO BE THE ARITHMETICAL MEAN OF SUCH PRICES. 29. LD. SR. COUNSEL FURTHER REFERRED TO PAGE 41 ONW ARDS OF THE PB TO DEMONSTRATE THAT IN AY 2006-07 THE ROYALTY PAYMENT MADE BY ASSESSEE HAS BEEN ACCEPTED BY LD. DRP, WHICH IS EVIDENT FROM PA RA 26.3 TO 26.4 OF ITS ORDER, AS UNDER: 26.3.4 IT IS NOTED THAT IN THE TP ORDER, THE TPO HA S NOT RAISED ANY OBJECTION ON THE TNMM ANALYSIS CARRIED. OUT BY THE APPELLANT. AS PER THE TP STUDY PROVIDED BY THE ASSE SSEE, IT HAS EARNED AN, OP/SALES MARGIN OF 16.11% IN ITS DISTRIB UTION SEGMENT DURING THE YEAR AS AGAINST 3.24% EARNED BY THE COMPARABLE COMPANIES. IT HAS ALSO BEEN. SUBMITTED T HAT THE ASSESSEE HAS CONSISTENTLY EARNED AN OPERATING MARGI N WHICH IS SUBSTANTIALLY HIGHER THAN THAT OF THE COMPARABLE CO MPANIES. 26.3.5 IN THE INSTANT CASE, IT IS NOTED THAT THE TP O HAS NOT BROUGHT ON RECORD ANY 'COGENT REASONING' BASED ON W HICH THE ROYALTY PAYMENT MADE BY THE ASSESSEE COULD BE HELD TO BE NOT IN LINE WITH THE ARM'S LENGTH STANDARD. THE TPO HAS PR OPOSED AN ADJUSTMENT FOLLOWING THE AO'S ORDER FOR THE PREVIOU S YEARS WHICH HAVE ALSO BEEN STRUCK DOWN BY THE ITAT AND TH E HIGH COURT. 19 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 26.3.6 TPO HAS STATED 'THERE ARE NO DATABASES ON TH E BASIS OF WHICH INTERNATIONAL TRANSACTION RELATING TO ROYALTY PAYMENT CAN BE BENCHMARKED. IN ABSENCE OF DATA AND ALSO IN VIEW OF PROVISO TO RULE 10B( 4) WHICH ALLOWS USE OF PRIOR TWO YEARS DATA OF COMPARABLES IF IT IS DEMONSTRATED THAT THEY HAVE AN INFLUENCE ON DETERMINATION OF TRANSFER PRICES, THE ROYALTY RATE OF 30% IN FY 2003-04 CAN BE USED AS AN APPROPRIATE COMPARABLE.' THE ASSESSEE HAS DEMONSTRATED THE MARGIN OF ITS DISTRIB UTION BUSINESS BY USING PROWESS AND CAPITALINE DATABASES. TPO HAS NOT BROUGHT OUT HOW THE TNMM ANALYSIS USED BY THE A SSESSEE AND ALSO THE DATABASES USED BY THE ASSESSEE FOR CAR RYING OUT THAT ANALYSIS ARE NOT RELEVANT. 26.3.7 TPO HAS STATED 'THE OIPL IS BEING COMPENSATE D ONLY COST PLUS 15% FOR DEVELOPING PREMIUM' PRODUCTS LIKE ORACLE 9I AND ORACLE 11I. REDUCTION OF ROYALTY WILL COMPENSAT E FOR LOWER COMPENSATION IN IT SERVICES SEGMENT. IF HOWEVER, TH E TPO HAS ACCEPTED THE MARGIN OF COST PLUS 15% SHOWN IN RESPE CT OF SOFTWARE DEVELOPMENT SERVICES. IF THE TPO WAS OF TH E VIEW THAT THE MARGIN OF 15% SHOWN IS INADEQUATE IN VIEW OF TH E VALUABLE SERVICES PROVIDED FOR THE PREMIUM PRODUCTS OF ITS A ES, THE SAME SHOULD HAVE BEEN ANALYZED IN RESPECT OF THOSE SERVICES WITH APPROPRIATE COMPARABLES THAT HAVING NOT BEEN D ONE, THE PANEL IS OF THE CONSIDERED VIEW THAT TPO IS NOT JUS TIFIED. IN REJECTING THE ANALYSIS OF THE ASSESSEE WITHOUT GIVI NG ANY COGENT BASIS FOR ITS REJECTION. BESIDES, TPO HAS PROCEEDED ON THE WRONG ASSUMPTION THAT ROYALTY RATE HAS INCREASED WI TH RESPECT TO FY 2003-04. WHILE ASSUMING SO, TPO HAS NOT CONSIDER ED THAT THE BASES TO WHICH THE ROYALTY RATES ARE BEING APPL IED ARE DIFFERENT. 26.4. THE ASSESSEE HAS PLACED THE SUMMARY OF EFFECT IVE RATE OF ROYALTY AS PERCENTAGE OF ACTUAL SALES PAID BY THE A SSESSEE TO ITS AES ON PAGE 7 OF THE CASE SYNOPSIS. THE TPO HAS NOT DISPUTED THIS FACT NOR HAS HE BROUGHT ANY MATERIAL FACT OR R ECORD TO THAT 20 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. THE ASSESSEE HAS MADE HIGHER PAYMENT OF ROYALTY. IN THE ABSENCE OF ANY SUCH MATERIAL, THE DECISION OF THE T PO CANNOT BE HELD TO BE CORRECT. THIS GROUND OF THE ASSESSEE IS THEREFORE ALLOWED. 30. LD. COUNSEL FURTHER REFERRED TO THE ORDER OF DR P FOR AY 2007-08 CONTAINED AT PAGES 51 ONWARDS AND POINTED OUT THAT LD. DRP IN PARA X4.4 HAS OBSERVED AS UNDER: X4.4.DRP HAS CONSIDERED ALL THE ABOVE' FACTS INTO 'ACCOUNT AND ALSO THE SUBMISSIONS MADE BY THE ASSESSEE DURING TH E COURSE OF THE HEARING AND THE WRITTEN SUBMISSIONS. THE PAYMEN T OF ROYALTY AND INTEREST ON DELAYED PAYMENT ON THE ROYA LTY CAN INTER-ALIA BE BENCHMARKED WITH THE HELP OF TNMM AS THE MOST APPROPRIATE METHOD AND BY USING OPI SALES AS A PLI. THE MARGIN OF THE ASSESSEE IS AT 19.98%, WHEREAS THE CO MPARABLES ARE HAVING A MARGIN OF 2.23%.EVEN IF THE PAYMENT OF ROYALTY AND INTEREST ON DELAYED PAYMENT IS BENCHMARKED SEPA RATELY, IT HAS TO BE KEPT IN MIND THAT THE CALCULATION OF ROY ALTY WAS AT 30% OF THE LISTED PRICE AND THE LISTED PRICE WAS AL WAYS MORE THAN THE REALIZED PRICE. THE ASSESSEE HAS CHANGED B ASE ON WHICH THE ROYALTY IS BEING CALCULATED AS COMPARED TO THE PRE 2003 PERIOD. THE PRESENT CALCULATION IS BASED ON THE REA LIZED PRICE. THEREFORE, THERE IS NO JUSTIFICATION TO HOLD THAT 3 0% ON THE REALIZED PRICE IS THE ALP OF THE ROYALTY. THE CALCU LATION OF THE TPO DOES NOT TAKE INTO ACCOUNT THE CHANGE IN THE MA RKET REALITIES AND THE BUSINESS MODEL. THIS LEADS TO THE ERRONEOUS CONCLUSION OF THE TPO. IN VIEW OF THIS, DRP IS OF T HE VIEW THAT THERE IS NO JUSTIFICATION IN ADJUSTMENT ON ACCOUNT OF ROYALTY TO THE EXTENT OF RS. 1516,16,16,253/-. FURTHER, THERE IS NO JUSTIFICATION IN DENYING THE INTEREST PAYMENT ON TH E DELAYED PAYMENT OF ROYALTY TO THE EXTENT OF RS. 22,61,43,13 2/-. AO/TPO IS DIRECTED TO DELETE THE ADDITION MADE IN THIS REG ARD. 21 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 31. IN VIEW OF ABOVE OBSERVATIONS, LD. SR. COUNSEL SUBMITTED THAT NO BASIS EXISTED FOR MAKING DISALLOWANCE IN THIS YEAR AND, T HEREFORE, LD. CIT(A) WAS FULLY JUSTIFIED IN DELETING THE ADJUSTMENT MADE BY LD. TPO. 32. WE HAVE CONSIDERED RIVAL SUBMISSIONS AND HAVE P ERUSED THE RECORD OF THE CASE. THERE IS NO DISPUTE THAT FOR DISTRIBUTION DIVISION, IN THE CURRENT ASSESSMENT YEAR, THE ASSESSEE HAD ADOPTED TNMM AS T HE ARMS LENGTH STANDARD FOR THE INTER COMPANY ROYALTY EXPENSES. T HE ASSESSEE HAD EARNED AN OP/SALES RATIO OF 23.3%, WHICH WAS MUCH MORE TH AN THE MEAN OP/SALES RATIO OF 2.2% EARNED BY COMPARABLE COMPANIES. THE ASSESSEE IN JUNE 2003 HAD CHANGED ITS ROYALTY ARRANGEMENT FOR ORACLE CORP ORATION TO A LEVEL OF 56% OF ACTUAL SALES REVENUE FROM EARLIER LEVEL OF 30% OF THE IPP (INDIAN PUBLISHED PRICE). THIS CHANGE HAD BEEN MADE AFTER F OLLOWING DUE PROCEDURE AND APPROVAL FROM FIPB. 33. THE ASSESSEE, IN ITS SUBMISSION DATED 8-11-2006 , HAD STATED THAT THE CHANGE IN ROYALTY RATE WAS PROMPTED BY PRESENT EXCH ANGE CONTROL REGIME AS THE EARLIER AGREEMENT HAD BEEN A RESULT OF THE CONT ROLS IMPOSED BY GOVERNMENT OF INDIAS FOREIGN EXCHANGE CONTROL POLI CY. PRIOR TO FY 2003-04 THE ASSESSEE MADE ROYALTY PAYMENT, CALCULATED AT 30 % OF IPP OF THE PRODUCTS LICENSED TO INDIAN CUSTOMER, TO COMPLY WITH THE THE N PREVAILING EXCHANGE 22 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. CONTROL REGULATIONS. THE PROVISION OF THE EXCHANGE CONTROL REGIME THEN AUTHORIZED THE INDIAN MASTER LICENSEE TO DUPLICATE THE SOFTWARE AND SUB- LICENSE TO INDIA CUSTOMERS. IT RESTRICTED THE CONSI DERATION PAYABLE BY THE INDIAN MASTER LICENSEE TO 30% OF THE IPP OF THE SOF TWARE PRODUCT SUB- LICENSED TO INDIAN CUSTOMERS. THIS WAS AN EXCHANGE CONTROL STIPULATION AND THE CEILING ON THE PAYMENT WAS MEANT TO RESTRICT PAYMENT FROM AN EXCHANGE CONTROL PERSPECTIVE. HOWEVER, THE NEW EXCHANGE CONT ROL POLICY HAD REMOVED THE LIMITS OF SUCH ROYALTY PAYMENT FOR DUPL ICATION AND SUB- LICENSING ACTIVITY. THE LIBERALIZED POLICY ALSO DID AWAY WITH THE REQUIREMENT OF DOMESTIC DUPLICATION BY THE INDIAN MASTER LICEN SEE AS WELL AS REQUIREMENT OF NECESSARILY COMPUTING THE ROYALTY PA YABLE WITH REFERENCE TO THE LIST PRICE AND NOT ACTUAL SALES VALUE. 34. ONCE THE LIBERALIZED POLICY DID AWAY WITH THE REQUIREMENT OF COMPUTE THE ROYALTY PAYABLE WITH REFERENCE TO THE L IST PRICE, ASSESSEE MOVED FROM ROYALTY PAYMENT AS THE PERCENTAGE OF LIST PRIC E TO ACTUAL LICENSE AND SUPPORT REVIEW. THE MAIN OBJECT WAS TO DETERMINE TH E ROYALTY PAYMENT HAVING REGARD TO MARKET FORCES. THUS, ASSESSEE HAD CLEARLY POINTED OUT THE REASON FOR SHIFTING THE BASIS FROM LIST PRICE TO AC TUAL SALES WHICH WAS NOT FOUND TO BE WRONG IN ANY MANNER. 23 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 35. THE TPOS CONCLUSION THAT THIS EXERCISE WAS UND ERTAKEN TO OVERCOME THE STAND TAKEN BY THE DEPARTMENT OF COMPUTING THE ROYALTY WITH REFERENCE TO ACTUAL SALES WAS NOT JUSTIFIED, KEEPING IN VIEW TH E OBJECT OF LIBERALIZED FOREIGN EXCHANGE REGIME. IT SOUGHT TO CHANGE THE PA YMENT RATE TO 56% AND THE BASIS FROM IPP OR THE LIST PRICE TO ACTUAL REVE NUE DISCLOSED FROM FINANCE UPDATES AND PRODUCT SUPPORT REVENUE. 36. FURTHER, ASSESSEE HAD CLEARLY DEMONSTRATED THAT THE EFFECTIVE RATE OF ROYALTY BEING INCURRED BY ASSESSEE IN PRIOR YEARS, AS COMPARED TO FY 2003- 04, WAS MORE, WHICH IS EVIDENT FROM FOLLOWING CHART : YEAR EFFECTIVE ROYALTY RATE 200304 57% 2002-03 62% 2001-02 67% 2000-01 52% 1999-00 59% 1998-99 60% AVERAGE EXCLUDING FY 2003-04 59% 37. THE TPO HAS NOT AT ALL COMMENTED ON THIS PLEA O F ASSESSEE. ONCE THE ASSESSEE CLEARLY DEMONSTRATES THAT THE EFFECTIVE RO YALTY PAY OUT WAS LESS THAN EARLIER YEARS THEN THERE WAS NO REASON TO MAKE ANY ADJUSTMENT IN THE ROYALTY PAY OUT. MOREOVER, WE FIND THAT THE DECISION OF HON BLE DELHI HIGH COURT IN ASSESSES OWN CASE IS ALSO APPLICABLE TO THE PRESEN T CASE. IN THE CURRENT 24 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. ASSESSMENT YEAR THE OVERALL PROFIT MARGIN OF DISTRI BUTION SEGMENT (23.3%) IS MUCH MORE THAN THOSE OF COMPARABLES (2.2%). LD. TP O HAS NOT BROUGHT ON RECORD ANY COMPARABLE CASE OF ROYALTY PAYMENT SO AS TO RESORT TO THE PROVISION OF SEC. 92C. THEREFORE, THE TOUCH STONE, ON WHICH THE ROYALTY PAYMENT WAS TO BE CONSIDERED, WAS WHETHER THE PAYME NT WAS MADE WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF BUSINESS OR NOT. THIS ASPECT AHS NOT BEEN DISPUTED BECAUSE LD. TPO HAS ALLOWED THE ROYALTY PA YMENT ALBEIT @ 30% OF ACTUAL SALES.FURTHER, IN AY 2006-07 THE LD. DRP HAS ACCEPTED THE PAYMENT OF ROYALTY @ 56% OF ACTUAL SALES. 38. IN VIEW OF ABOVE DISCUSSION, WE DO NOT FIND ANY REASON TO INTERFERE WITH THE ORDER OF LD. CIT(A) ON THE ISSUE IN QUESTI ON. GROUND IS DISMISSED. 39. GROUND NO. 2: BRIEF FACTS OF THE CASE ARE THAT IN REVISED COMPUTATION OF INCOME, THE ASSESSEE HAD SHOWN PRIOR PERIOD INCOME OF RS. 92,84,552/- WHICH WAS RELATED TO EXPORTS MADE BY BANGALORE UNIT O5E AND B5E FOR WHICH THE ASSESSEE HAD CLAIMED BENEFIT U/S 10A OF T HE I.T. ACT. THE AO OBSERVED THAT SINCE THE CLAIM OF EXEMPTION U/S 10A OF THE ACT OF SDC BANGALORE HAD ALREADY BEEN DISALLOWED AND MOREOVER, FOREIGN REMITTANCE WAS RECEIVED IN INDIA AFTER EXPIRY OF STATUTORY PER IOD OF 6 MONTHS FROM THE END OF THE RELEVANT PREVIOUS YEAR, AS STIPULATED I N SUB-SECTION (3) OF SECTION 25 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 10A OF THE ACT, THEREFORE, THE CLAIM OF PRIOR PERIO D INCOME WAS ADDED BACK TO THE TOTAL INCOME. 40. LD. CIT(A) ALLOWED THE ASSESSEES APPEAL ON THI S ISSUE, INTER ALIA, OBSERVING THAT THE ASSESSEE BE ALLOWED DEDUCTION OF PRIOR PERIOD EXPENSES RELYING ON THE MATCHING PRINCIPLE. HE ALSO DIRECTED THE AO TO PROVIDE THE BENEFIT OF DEDUCTION U/S 10A OF THE ACT AFTER VERIF YING THE CLAIM OF THE ASSESSEE BASED ON FORM 56F SUBMITTED BY THE ASSESSE E. 41. HAVING HEARD BOTH THE PARTIES WE DO NOT FIND A NY REASON TO INTERFERE WITH THE ORDER OF LD. CIT(A) ON THE ISSUE IN QUESTI ON BECAUSE VIDE LETTER DATED 1-8-2006 THE ASSESSEE HAD FILED A REVISED COM PUTATION AND POINTED OUT THAT DURING THE AUDIT OF THE IMMEDIATELY SUCCEEDING FINANCIAL YEAR I.E. FY 2004-05 PRIOR PERIOD INCOME OF RS. 92,84,552/- ON RS. 2,27,43,899/- WERE NOTED AND THE EFFECT OF THE SAME IN THE REVISED TAX COMPUTATION WAS TO BE GIVEN. LD. CIT(A) HAS, IN PRINCIPLE, ACCEPTED THAT THE BANGALORE UNIT WAS ELIGIBLE FOR DEDUCTION U/S 10A BUT HAS DIRECTED THE AO TO VERIFY THE CLAIM OF THE ASSESSEE ON THE BASIS OF FORM 56F. ACCORDINGLY, HE WILL BE REQUIRED TO EXAMINE WHETHER THE AMOUNTS WERE RECEIVED IN TIME O R NOT. WE, THEREFORE, DO NOT FIND ANY REASON TO INTERFERE WITH THE ORDER OF LD. CIT(A) ON THIS ISSUE AND WE UPHOLD THE SAME. GROUND IS DISMISSED. 26 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 42. GROUND NO. 3: BRIEF FACTS ARE THAT IN THE COMP UTATION OF INCOME ASSESSEE HAD CLAIMED EXEMPTION U/S 10A OF THE ACT IN RESPECT OF SOFTWARE DEVELOPMENT CENTRE AT BANGALORE AND HYDERABAD. THE AO DENIED THE ASSESSEES CLAIM, INTER ALIA, OBSERVING AS UNDER: IN VIEW OF THE ABOVE, CONDITIONS LAID DOWN IN SUB S ECTION (2) TO SECTION 10A OF IT ACT, THE ASSESSEE HAS FAILED TO S UBSTANTIATE THAT THE BANGALORE UNITS HAVE BEEN FORMED WITHOUT S PLITTING, RECONSTRUCTION OF ALREADY BUSINESS IN EXISTENCE OR BY THE TRANSFER TO THE NEW UNDERTAKING OF BUILDING ,MACHIN ERY OR PLANT USED IN A BUSINESS CARRIED BEFORE AS NO SEPARATE BO OKS OF ACCOUNTS HAS BEEN MAINTAINED BY THE COMPANY FOR ITS SOFTWARE DEVELOPMENT CENTRE. THE ASSESSEE HAS ALSO UTILIZED FUNDS OF ITS EARLIER ENTITY AND NO FRESH CAPITAL WAS EMPLOYED FO R ESTABLISHMENT OF NEW UNIT. EXCEPT LEGAL SUBMISSIONS ASSESSEE COULD NOT PRODUCE ANY FACTUAL EVIDENCE TO ESTABLISH ITS CLAIM OF DEDUCTION U/S 10A OF THE IT ACT. THUS, THE CLAIM OF EXEMPTION U/S 10A OF THE IT ACT OF THE ASSESSEE IS DISALLOWED AND THE AMOUNT OF RS. 17,46,02,964/- IS ADDED BACK TO THE T OTAL INCOME OF THE ASSESSEE. IT IS ALSO POINTED OUT THAT THE SA ME ISSUE WAS INVOLVED IN AY 1998-99, 1999-2000, 2000-2001, 2001- 2002, 2002-03 AND 2003-2004 WHEREIN THE AO REJECTED THE C LAIM OF THE ASSESSEE U/S 10A OF IT ACT AND TREATED THE INC OME EARNED FROM SDC BANGALORE AS PART OF GROSS TOTAL INCOME. T HE LD. CIT(A) HAS DELETED THE DISALLOWANCE MADE IN THE ABO VE MENTIONED YEARS, THE DEPARTMENT HAS FILED SECOND AP PEAL BEFORE ITAT. 43. LD. CIT(A) DELETED THE ADDITION. 44. AT THE TIME OF HEARING, LD. SR. COUNSEL POINTED OUT THAT THE ISSUE IS COVERED IN FAVOUR OF THE ASSESSEE BY THE ORDER OF THE ITAT IN ASSESSEES 27 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. OWN CASE FOR AY 1998-99 DISMISSING REVENUES APPE AL BEING ITA NO. 606/DEL/03 VIDE ORDER DATED 29-8-2007 BY OBSERVING AS UNDER: 17. IN GROUND NO. 2 THE REVENUE HAS CHALLENGED THE ACTION OF THE LD. CIT(A) IN ALLOWING THE EXEMPTION CLAIMED B Y THE ASSESSEE U/S L0A. 18. AT THE TIME OF HEARING BEFORE US, THE ID. REPRE SENTATIVES OF BOTH THE SIDES HAVE AGREED THAT A SIMILAR RELIEF CL AIMED BY THE ASSESSEE IN A Y 1997-98 WAS ALLOWED BY THE ID. CIT( A) VIDE HIS ORDER DATED 29-3-2001 PASSED U/S 154 AND FOLLOW ING THE SAME, A SIMILAR ISSUE HAS BEEN DECIDED BY THE ID. CIT(A) IN FAVOUR OF THE ASSESSEE VIDE HIS IMPUGNED ORDER. SIN CE THE DECISION RENDERED BY THE ID. CIT(A) IN A Y 1997-98 ALLOWING THE CLAIM OF THE ASSESSEE FOR EXEMPTION U/S 10A HAS BEEN ACCEPTED BY THE DEPARTMENT AS AGREED EVEN BY THE ID . DR, WE UPHOLD THE IMPUGNED ORDER OF THE ID. CIT(A) ALLOWIN G THE SAID EXEMPTION TO THE ASSESSEE BY FOLLOWING THE RULE OF CONSISTENCY AS THE MATERIAL FACTS RELEVANT TO THIS ISSUE AS INV OLVED IN THE YEAR UNDER CONSIDERATION ARE ADMITTEDLY SIMILAR. GROUND NO. 2 OF THE REVENUE'S APPEAL IS ACCORDINGLY DISMISSED. 45. LD. COUNSEL SUBMITTED THAT DEPARTMENTAL APPEAL AGAINST THE AFORESAID ORDER OF THE ITAT HAS BEEN DISMISSED BY HONBLE HIG H COURT VIDE THEIR ORDER DATED 31-7-2009 IN ITA NO. 690/209, OBSERVIN G AS UNDER: 31.07.2009 : PRESENT: MS. SONIA MATHUR, ADV. FOR THE APPELLANT. MS. MAHUA KALRA, ADV. FOR THE RESPONDENT. ITA NO. 690/2009 28 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. THE ISSUE INVOLVED IN THIS APPEAL RELATES TO ALLOWI NG .THE RELIEF TO THE ASSESSEE ON GROUND OF EXEMPTION UNDER SECTIO N 10(A) OF' THE INCOME TAX ACT. FROM THE READING OF THE IMPUGNE D ORDER, WE FIND THAT THE IT AT HAS RELIED UPON ITS EARLIER ORDER RELATING THE ASSESSMENT YEAR 1998-99, AS PER WHICH, THE SIMI LAR CLAIM OF THE ASSESSEE FOR EXEMPTION UNDER SECTION 10(A) O F THE INCOME TAX ACT WAS ALLOWED BY THE ITAT, WHICH WAS E VEN ACCEPTED BY THE DEPARTMENT. LEARNED COUNSEL FOR THE APPELLANT COULD NOT DENY TH E FACT THAT THE CIT(A) HAD PASSED ORDERS IN RESPECT OF THE SAME ASSESSEE FOR THE ASSESSMENT YEAR 1997-1998, WHEREIN VARIOUS ISSUES INCLUDING THE ISSUE RAISED WAS DECIDED BY THE CIT(A ) GRANTING EXEMPTION UNDER SECTION 10(A) OF THE ACT IN RESPECT OF THAT YEAR AND THE SAME WAS ACCEPTED BY THE DEPARTMENT AS NO APPEAL THERE AGAINST WAS PREFERRED. IT IS THIS ORDER, WHIC H HAS BEEN FOLLOWED BY THE CIT(A) IN SUBSEQUENT YEARS AND AFFI RMED BY THE ITAT. SAME IS THE POSITION IN RESPECT OF THE AS SESS111ENT YEAR IN QUESTION. THEREFORE, WE ARE OF THE OPINION THAT IN ORDER TO M AINTAIN CONSISTENCY, THE APPROACH OF THE TRIBUNAL IS WITHOU T BLEMISH. NO SUBSTANTIAL QUESTION OF LAW ARISES FOR OUR CONSI DERATION. THIS APPEAL IS, ACCORDINGLY, DISMISSED. 46. LD. COUNSEL FURTHER SUBMITTED THAT THE SLP FILE D BY THE REVENUE AGAINST THE ORDER OF HONBLE HIGH COURT HAS BEEN DI SMISSED BY THE HONBLE 7HIGH COURT VIDE ORDER DATED 7-5-2010. COPY OF HON BLE SUPREME COURTS ORDER IS CONTAINED AT PAGE 130 OF THE PB. 29 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. 47. LD. DR COULD NOT CONTROVERT THE AFORESAID FACTU AL POSITION. IN VIEW OF ABOVE, WE SEE NO REASON TO INTERFERE WITH THE ORDER OF LD. CIT(A) ON THE ISSUE IN QUESTION AND THE SAME IS UPHELD. GROUND IS DISMI SSED. 48. IN THE RESULT, REVENUES APPEAL IS DISMISSED. ORDER PRONOUNCED IN OPEN COURT ON 14/10/2015. SD/- SD/- (A.T. VARKEY) (S.V. MEHROTRA) JUDICIAL MEMBER ACCOUNTANT MEMBER DATED: 14/10/2015. *MP* COPY OF ORDER TO: 1. ASSESSEE 2. AO 3. CIT 4. CIT(A) 5. DR, ITAT, NEW DELHI. 30 ITA 1432/DEL/2011 ACIT VS. M/S ORACLE INDIA PVT. LTD. - + DATE INITIAL 1. DRAFT DICTATED ON - 07.2015 PS 2. DRAFT PLACED BEFORE AUTHOR .07.2015 PS 3. DRAFT PROPOSED & PLACED BEFORE THE SECOND MEMBER JM/AM 4. DRAFT DISCUSSED/APPROVED BY SECOND MEMBER. JM/AM 5. APPROVED DRAFT COMES TO THE SR.PS/PS PS/PS 6. KEPT FOR PRONOUNCEMENT ON PS 7. FILE SENT TO THE BENCH CLERK PS 8. DATE ON WHICH FILE GOES TO THE AR 9. DATE ON WHICH FILE GOES TO THE HEAD CLERK. 10. DATE OF DISPATCH OF ORDER.