E-Gain Communications Pvt.Ltd, Pune V. Deputy Commissioner of Income-tax, Circle - 1(2), Pune

ITA 2675/PUN/2017

• Counselvise Citation: [2022] 106 COUNSELVISE.COM (IT) 6264 (ITAT-PUNE)
• Duration Of Justice: 4 year(s) 7 month(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 16-06-2022
• Appeal Filed By: Assessee
• Order Result: PartlyAllowed
• Bench Allotted: C
• Assessment Year: 2013-2014
• Appeal Filed On: 16-11-2017
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Keywords: Related party transaction; Depreciation; Transfer pricing; International transaction; Question of law; Non-deduction of tax; Revenue expenditure; TDS; FORM 26AS
• Section: 32; 143(3); 40(a)(ia)

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL PUNE BENCH “C”, PUNE – VIRTUAL COURT BEFORE SHRI INTURI RAMA RAO, ACCOUNTANT MEMBER AND SHRI PARTHA SARATHI CHAUDHURY, JUDICIAL MEMBER आयकर अपील सं. / ITA No.2675/PUN/2017 िनधाᭅरण वषᭅ / Assessment Year: 2013-14 E-Gain Communications Pvt. Ltd., Office No.702, 7 th Floor, B-1, The Cerebrum IT Park, Vadgaon Sheri, Kalyani Nagar, Pune- 411014. PAN : AAACN9946R Vs. DCIT, Circle-1(2), Pune. Appellant Respondent आदेश / ORDER PER INTURI RAMA RAO, AM: This is an appeal filed by the assessee directed against the order of ld. Commissioner of Income Tax (Appeals)- 13, Pune. [‘the CIT(A)’] dated 11.08.2017 for the assessment year 2013-14. 2. Briefly, the facts of the case are that the appellant is a company incorporated under the provisions of the Companies Act, 1956. It is wholly owned subsidiary of eGain Communication Assessee by : Shri Madhur Agarwal Revenue by : Shri Arvind Desai Date of hearing : 06.06.2022 Date of pronouncement : 17.06.2022 ITA No.2675/PUN/2017 2 Corporation Inc. USA. It is engaged in the business of captive software development support services to its parent company. The return of income for the assessment year 2013-14 was filed on 12.11.2013 disclosing total income of Rs.3,67,24,573/- after claiming exemption u/s 10A of the Income Tax Act, 1961 (‘the Act’). The assessee company also reported the following international transactions :- Sr. No. Nature of the AE Description Amount in Rs. Method used 1 eGain Communication Corp. Software Development Services 30,42,26,067 TNMM 2 eGain Communication Corp. Reimbursement of expenses Recd 22,04,073 CUP 3 eGain Communication Corp. Reimbursement of expenses Paid 1,37,539 CUP Total 30,65,67,679 3. The assessee company sought to justify the consideration received for the above international transactions entered with its AE to be at arm’s length price (ALP). The assessee company also submitted Transfer Pricing (TP) study report adopting the Operating Profit/Operating Cost (OP/TC) as a Profit Level Indicator (PLI) for the transfer pricing study. The assessee company also applied Transactional Net Margin Method (TNMM) which is considered to be the most appropriate method for the purpose of benchmarking the international transactions. The assessee company’s profit ITA No.2675/PUN/2017 3 margin was computed at 17.49% and the assessee company claimed that the same was comparable with other companies rendering software development services. For the purpose of TP study, the assessee company chosen 12 comparable entities and arithmetic average of operating profit margins of said comparables was computed at 5.96%. According to the assessee’s company, its PLI was much higher than the arithmetic mean of the comparable entities. Hence, it was claimed that the international transactions with its AE are at arm’s length. The assessee company had also chosen the following 12 entities as comparables, whose average profit margin was computed at 5.96% using 3 years weighted data :- Sr. No. Name of Companies PLI % 1 Ajel Ltd. 15.63 2 Akshay Software Technologies Ltd. 7.17 3 Cat Technologies Ltd. -14.72 4 CG-VAK Software & Exports Ltd. 18.40 5 Cherrytec Intelisolve Limited 12.77 6 Cignity Technologies Ltd. 8.59 7 Infotech Enterprises Information Technology Services Pvt. Ltd. 15.61 8 Melstar Information Technologies Ltd. -10.45 9 Minvesta Infotech Ltd. 2.51 10 NUC Soft Limited 5.25 11 Softech Infinium Solution Ltd. 1.68 12 Winfoware Technologies Ltd. 9.03 Arithmetic Mean 5.96 4. On noticing the above international transactions, the Assessing Officer referred the matter to the Transfer Pricing Officer (TPO) for ITA No.2675/PUN/2017 4 the purpose of benchmarking the above international transactions. The TPO by an order dated 13.10.2016 passed u/s 92CA(3) suggested the upward TP adjustments of Rs.2,45,13,781/-. While doing so, the TPO had accepted the TNMM as the most appropriate method, but rejected the TP study report submitted by the assessee company and proceeded to identify the different set of comparable entities for the purpose of determining the ALP of the international transactions. While doing so, the TPO applied the following filters :- S. No. Criteria (i) Only current years data (FY 2012-13) has been used. (ii) Companies with income from IT Services > 50% of the operating revenue or segmental revenue are selected (iii) Companies with less than 75% earnings from exports rejected (iv) Companies with related party transactions less than 25% are selected (v) Loss making Companies are rejected (vi) Companies with Peculiar Economic Circumstances are rejected (vii) Companies whose data is not available for the FY 2012-13 has not been considered (viii) Companies that are functionally different from you or working in peculiar economic circumstances after giving valid reasons were excluded (ix) The companies having turnover of Rs.1 Cr to Rs.500 Cr have been selected 5. Applying the above filter, the TPO had rejected the 10 comparables and accepted 2 comparables chosen by the appellant company and introduced 11 new comparables and finally selected the following comparables :- ITA No.2675/PUN/2017 5 Sr. No. Name of Company PLI % With Working Capital Adjt 1 CG-VAK Software & Exports Ltd. 18.40 21.18 2 Cignity Technologies Ltd. 8.59 10.48 3 Exilant Technologies Pvt. Ltd. 10.48 13.96 4 E Zest Solutions Ltd. 9.30 12.24 5 Harbinger Software Pvt. Ltd. 21.98 23.64 6 Infobeans Systems India Ltd./Infobeans Technologies 33.73 37.89 7 R. S. Software (India) Ltd. 17.35 21.83 8 Priya Softweb Solutions Pvt. Ltd. 21.02 26.83 9 Sasken Communication Technologies Ltd. 12.15 16.16 10 Saven Technologies Ltd. 26.96 26.54 11 Thirdware Solutions Ltd. 36.98 40.42 12 Vama Industries Ltd. 36.27 36.27 Average 21.10 23.94 6. The TPO computed the average profit margin of the comparables finally selected by him at 23.94% as against the PLI of the assessee at 13.96%. On the above basis, the TPO computed the upward TP adjustments of Rs.2,45,13,781/- vide order dated 13.10.2016 passed u/s 92CA(3) of the Act. 7. Pursuant to receipt of the TPO’s order, the Assessing Officer passed the draft assessment order u/s 143(3) r.w.s. 144C(1) of the Act on 13.10.2016 proposing the above TP adjustments of Rs.2,45,13,781/-. 8. On receipt of the draft assessment order, the appellant filed a letter on 05.01.2017 before the Assessing Officer stating that it ITA No.2675/PUN/2017 6 would prefer to file an appeal against the proposed variation to the total income. 9. On receipt of the said letter, the final assessment order was passed by the Assessing Officer vide order dated 30.01.2017 passed u/s 143(3) r.w.s. 144C(13) of the Act after making the addition of Rs.2,45,13,781/- on account of TP adjustments and disallowing the payment of Rs.41,70,849/- being the payment made towards software license fee to Sharda Integrated Systems Pvt. Ltd. on the ground of non-TDS was deducted. 10. Being aggrieved by the above disallowances, an appeal was filed before the ld. CIT(A) contending inter alia that the rejection of the comparables selected by the appellant in the TP study report and introduction of new comparables and challenging the re- computation of the PLI of the assessee company etc, who vide impugned order dated 11.08.2017 partly allowed the appeal of the assessee by confirming the exclusion of the comparables. However, the ld. CIT(A) directed the Assessing Officer to exclude comparables E Zest Solutions Ltd., Infobeans Systems India Ltd. and Priya Softweb Solutions Pvt. Ltd., all the comparables excluded by the TPO. However, the ld. CIT(A) confirmed the inclusion of R. ITA No.2675/PUN/2017 7 S. Software (India) Ltd. and Thirdware Solutions Ltd., the comparables selected by the TPO. The ld. CIT(A) also confirmed the addition made u/s 40(a)(ia) of Rs.41,70,849/-. However, the ld. CIT(A) deleted the addition on account of interest received from MSEDCL of Rs.3,449/-. 11. Being aggrieved by the decision of the ld. CIT(A), the appellant is in appeal before us in the present appeal. 12. At the outset, ld. AR sought the exclusion of comparable, Thirdware Solutions Ltd.. It is submitted that this company was selected by the TPO as a comparable entity and objected by the appellant on the ground that it is software product development company and also deal with hardware placing reliance on the company’s revenue recognition policy as well as descriptive of nature of business of the company and no segmental results was available. However, the TPO rejected the above contention by stating that the said company is only into software development company. Even on appeal before the ld. CIT(A), the inclusion of this company in the set of comparables was upheld placing reliance on ITA No.2675/PUN/2017 8 the information provided in Profit & Loss Account which indicated that the income is mainly earned from software. 13. Being aggrieved the appellant is in appeal before us. 14. It is argued before us that this company is not functionally comparable with that of the assessee company, as it is engaged in sale of software product and earning income in the form of license fee. The ld. AR taking us through Profit & Loss Account at page no.1225 of the Paper Book submitted that this company had purchased stock-in-trade of Rs.24.82 crores which indicate that the sale of the products and there is no bifurcation of revenue from sale of software development and sale of products. 15. On the other hand, ld. CIT-DR submits that the findings given in the CIT(A)’s order rejecting the contentions of the appellant are well-reasoned and therefore, the submissions of the ld. AR that the company is into software development cannot be accepted. 16. We heard the rival submissions and perused the material on record. The issue in this ground of appeal relates to the comparability of the entity ‘Thirdware Solutions Ltd.’ with that of the assessee company, which is purely in nature of software development service provider. ITA No.2675/PUN/2017 9 We have carefully gone through the annual report of the entity ‘Thirdware Solutions Ltd.’ placed at page no.1133 to 1246 of the Paper Book and at page no.1230 of the Paper Book in the notes forming part of the annual accounts, revenue recognition policy reads as under :- “e. Revenue Recognition Income from services Revenue from Software development and implementation on time and material contracts is recognised and are billable to clients as per the terms of specific contracts. On fixed ? price contracts revenue is recognised and billable based on milestones achieved and after receiving the sign-off certificates from the customers for the specific milestones as specified in the contracts. Revenue from Subscription contract is recognised on acceptance or renewal of the contract and is accrued over the period of the contract. Revenue from sale of user licenses for software applications is recognised on e-delivery of Software Licence Key to end user.” 17. Similarly, at page no.1225 of the Paper Book in the Profit & Loss Account it says that it purchased stock-in-trade worth Rs.24.82 crores and there is no closing stocks were shown which clearly indicates, it is also dealing in sale of software products. Further, in the descriptive of the principal product and services given, it mentioned as under :- Description of product or service Acquisition/purchase of IT hardware and software including software as a service (SAAS) Turnover of highest contributing product or service 13,532.8 lakhs ITA No.2675/PUN/2017 10 18. However, at page 1225 of the Paper Book in the Profit & Loss Account, we do not find any breakup of the revenue from sale of products and no segmental results were furnished. Therefore, in the absence of segmental results, a company which is engaged into dealing with software products as well as providing software services cannot be compared with a company which is engaged in software development services. Therefore, we direct the Assessing Officer/TPO to exclude this company, ‘Thirdware Solutions Ltd.’ from the list of the comparables. 19. The other grounds of appeal raised before us seeking exclusion/inclusion of comparables was not pressed during the course of hearing before us by stating that in the event the comparable entity, ‘Thirdware Solutions Ltd.’ is excluded from the list of comparables chosen by the TPO consideration received by the assessee shall be at arm’s length price. Therefore, we dismiss the other grounds of appeal seeking the exclusion/inclusion of the comparables as other grounds of appeal become academic in nature. However, we grant liberty to the appellant to press these grounds of appeal in the event on further ITA No.2675/PUN/2017 11 appeal this comparable, ‘Thirdware Solutions Ltd.’ is held to be comparable. 20. Ground of appeal no.2 challenges the addition u/s 40(a)ia) on account of payment made for purchase of license on the ground that the tax was not deducted at source. Admitted facts of the case are that the appellant made a payment for purchase of software of Rs.41,70,849/- to the following parties :- Sr. No. Name of vendors Amount (in Rs.) 1 Sujata Computer Pvt. Ltd. 17,79,137 2 Digital Island 9,27,321 3 Dell India Pvt. Ltd. 14,55,686 4 Shree Infotech Systems 8,705 Total 41,70,849 21. The cost of the software purchase was capitalized in the books of account forming part of the depreciable assets, claimed the depreciation thereon. However, the Assessing Officer was of the opinion that the tax should have been deducted on this payment, for non-deduction of tax at source, invoking the provisions of section 40(a)(ia) disallowed these payments u/s 40(a)(ia) of the Act. Even on appeal before the ld. CIT(A), the disallowance was confirmed. 22. Being aggrieved, the assessee is in appeal before us. ITA No.2675/PUN/2017 12 23. We find the issue in the present ground of appeal is squarely covered in favour of the assessee by the decision of the Hon’ble Karnataka High Court in the case of PCIT vs. Tally Solutions (P.) Ltd., 430 ITR 527 (Karnataka) wherein it was held that the provisions of section 40(a)(ia) are not applicable in the case of claim for allowance of depreciation, which is a statutory deduction available to the assessee. The relevant para of the said judgement is reproduced as under :- “10. Thus, from close scrutiny of section 40(a)(i) of the Act, it is axiomatic that an amount payable towards interest, royalty, fee for technical services or other sums chargeable under this Act shall not be deducted while computing the income under the head profit and gain of business or profession on which tax is deductible at source; but such tax has not been deducted. The expression 'amount payable' which is otherwise an allowable deduction refers to the expenditure incurred for the purpose of business of the assessee and therefore, the said expenditure is a deductible claim. Thus, section 40 refers to the outgoing amount chargeable under this at and subject to TDS under Chapter XVII-B. The deduction under section 32 is not in respect of the amount paid or payable which is subjected to TDS; but is a statutory deduction on an asset which is otherwise eligible for deduction of depreciation. Section 40(a)(i) and (ia) of the Act provides for disallowance only in respect of expenditure, which is revenue in nature, therefore, the provision does not apply to a case of the assessee whose claim is for depreciation, which is not in the nature of expenditure but an allowance. The depreciation is not an outgoing expenditure and therefore, provisions of Section 40(a)(1) and (ia) of the Act are not applicable. In the absence of any requirement of law for making deduction of tax out of expenditure, which has been capitalized and no amount was claimed as revenue expenditure, no disallowance under section 40(a)(i) and (ia) of the Act would be made. It is also pertinent to note that depreciation is a statutory deduction available to the assessee on a asset, which is wholly or partly owned by the assessee ITA No.2675/PUN/2017 13 and used for business or profession. The depreciation is an allowance and not an expenditure, loss or trading liability. The Commissioner of Income Tax (Appeals) has held that the payment has been made by the assessee for an outright purchase of Intellectual Property Rights and not towards royalty and therefore, the provision of section 40(a)(ia) of the Act is not attracted in respect of a claim for depreciation. The aforesaid finding has rightly been affirmed by the tribunal. The findings recorded by the Commissioner of Income Tax (Appeals) as well as the tribunal cannot be termed as perverse. In view of preceding analysis, the substantial question of law framed by a bench of this court is answered against the revenue and in favour of the assessee.” 24. In the light of the decision of the Hon’ble Karnataka High Court (supra), we hold that the Assessing Officer is not justified in invoking the provisions of section 40(a)(ia) in respect of the payment made for purchase of software license in respect of which claim of depreciation was made. Accordingly, this ground of appeal no.2 stands allowed. 25. Ground of appeal no.3 challenges the short credit for TDS. We restore this issue to the file of the Assessing Officer with direction to allow the credit for TDS made by MSEDCL on the interest income after due verification of Form 26AS and subject the provisions of section 199 of the Act. Thus, this ground of appeal no.3 stands allowed for statistical purposes. ITA No.2675/PUN/2017 14 26. In the result, the appeal filed by the assessee stands partly allowed for statistical purposes. Order pronounced on this 17 th day of June, 2022. Sd/- Sd/- (PARTHA SARATHI CHAUDHURY) (INTURI RAMA RAO) JUDICIAL MEMBER ACCOUNTANT MEMBER पुणे / Pune; ᳰदनांक / Dated : 17 th June, 2022. Sujeet आदेश कᳱ ᮧितिलिप अᮕेिषत / Copy of the Order forwarded to : 1. अपीलाथᱮ / The Appellant. 2. ᮧ᭜यथᱮ / The Respondent. 3. The CIT(A)-13, Pune. 4. The Pr.CIT-1, Pune. 5. िवभागीय ᮧितिनिध, आयकर अपीलीय अिधकरण, “C” बᱶच, पुणे / DR, ITAT, “C” Bench, Pune. 6. गाडᭅ फ़ाइल / Guard File. आदेशानुसार / BY ORDER, // True Copy // Senior Private Secretary आयकर अपीलीय अिधकरण, पुणे / ITAT, Pune.