ZYCUS INFOTECH P.LTD, MUMBAI V. DCIT 9(3), MUMBAI

ITA 6643/MUM/2012

• Counselvise Citation: [2014] 140 COUNSELVISE.COM (IT) 75469 (ITAT-MUMBAI)
• Duration Of Justice: 1 year(s) 3 month(s) 5 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 07-02-2014
• Appeal Filed By: Assessee
• Order Result: Allowed
• Bench Allotted: K
• Assessment Year: 2008-2009
• Appeal Filed On: 01-11-2012
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Keywords: Depreciation; Transfer pricing; International transaction; Wholly owned subsidiary
• Section: 143(3)

Judgement Text

K IN THE INCOME TAX APPELLATE TRIBUNAL K BENCH, MUMBAI .. , , BEFORE SHRI P.M. JAGTAP, AM AND SHRI AMIT SHUKLA, J M ./ I.T.A. NO.6643 /MUM/2012 ( / ASSESSMENT YEAR : 2008-2009 M/S ZYCUS INFOTECH PVT. LTD., SPECIAL ECONOMIC ZONE (SEZ) UNIT, PLOT NO. GJ-07, SEEPZ ++, SEEPZ SEZ, OF. JOGESHWARI, VIKHROLI LINK ROAD, GATE NO. 3, ANDHERI (E), MUMBAI 400 096. / VS. DY. COMMISSIONER OF INCOME TAX 9(3), 229, AAYAKAR BHAVAN, M.K. ROAD, MUMBAI 400 020. . / PAN : AAACE 3540 Q ( # / APPELLANT ) .. ( $%# / RESPONDENT ) APPELLANT BY SHRI B.V. JHAVERI RESPONDENT B Y : SHRI AJEET KUMAR JAIN ) * / DATE OF HEARING : 19-12-2013 ) * / DATE OF PRONOUNCEMENT : 07-02-2014 [ / O R D E R PER P.M. JAGTAP, A.M . : .. , THIS APPEAL FILED BY THE ASSESSEE IS DIRECTED AGAIN ST THE ORDER OF LD. DY. CIT 9(3) (ASSESSING OFFICER) PASSED U/S 143 (3) R.W.S. 144C OF THE INCOME TAX ACT, 1961 AND THE SOLITARY ISSUE ARISING OUT OF THE SAME RELATES TO THE ADDITION OF RS. 2,80,99,424/- MADE T O THE TOTAL INCOME OF THE ASSESSEE ON ACCOUNT OF TRANSFER PRICING ADJUSTM ENT. ITA 6643 /M/10 2 2. THE ASSESSEE IN THE PRESENT CASE IS A COMPANY WH ICH IS 100% EXPORT ORIENTED UNIT SET UP UNDER STPI SCHEME OF GO VT. OF INDIA. IT IS THE PROVIDER OF SPEND MANAGEMENT SOLUTION FOR GLOBA L SPEND ANALYSIS. IT OPERATES IN IT INDUSTRY AND RENDERS SOFTWARE SER VICES. IT IS ALSO A SERVICE PROVIDER FOR JOB CONTENT MANAGEMENT FOR ONL INE RECRUITMENT COMPANIES IN UNITED STATES OF AMERICA AND EUROPE AN D CATERS E- PROCUREMENT NEEDS OF ITS CUSTOMERS. IT HAS A WHOLLY OWNED SUBSIDIARY NAMELY ZYCUS INC. WHICH IS ITS SALES AND MARKETING ARM SITUATED IN US. DURING THE YEAR UNDER CONSIDERATION, A TOTAL PAYMEN T OF RS. 16,94,62,160 WAS MADE BY THE ASSESSEE TO ZYCUS INC. FOR THE SERVICES PROVIDED BY THEM WHICH WERE STATED TO BE SOFTWARE D EVELOPMENT SERVICES IN THE TRANSFER PRICING REPORT FURNISHED B Y THE ASSESSEE. IN THE SAID REPORT, ITS AE I.E. ZYCUS INC. WAS TAKEN AS TE STED PARTY BY THE ASSESSEE AND ITS INTERNATIONAL TRANSACTIONS WITH TH E SAID AE WERE BENCHMARKED BY USING TRANSACTIONED NET MARGIN METHO D (TNMM) TAKING OPERATING PROFIT TO TOTAL COST (OP/TC) AS TH E PRICE LEVEL INDICATOR (PLI). IT WAS CLAIMED THAT AS PER THE AG REEMENT, THE ASSESSEE PAID COST PLUS 3% MARK UP TO THE AE FOR THE MARKETI NG ACTIVITY UNDERTAKEN BY THE SAID AE ON BEHALF OF THE ASSESSEE AND SINCE THE AVERAGE OPERATING MARGIN OF COMPARABLE COMPANIES SE LECTED BY THE ASSESSEE WAS 3.16% AS AGAINST 3% MARK UP PAID BY TH E ASSESSEE TO ITS AE, THE INTERNATIONAL TRANSACTIONS BETWEEN THE ASSE SSEE AND THE AE WERE AT ARMS LENGTH PRICE (ALP). 3. DURING THE COURSE OF ASSESSMENT PROCEEDINGS, A R EFERENCE WAS MADE BY THE A.O. TO THE TPO TO DETERMINE THE ALP OF THE TRANSACTIONS BETWEEN THE ASSESSEE COMPANY AND ITS AE M/S ZYCUS I NC. FROM THE TP STUDY REPORT SUBMITTED BY THE ASSESSEE, IT WAS NOTE D BY THE TPO THAT ITA 6643 /M/10 3 OUT OF THE TOTAL REVENUE OF THE ASSESSEE GENERATED DURING THE YEAR UNDER CONSIDERATION OF USD 7675836, A SUM OF USD 34 63503 WAS RETAINED BY THE AE TOWARDS ITS COST PLUS MARK UP AN D THE BALANCE AMOUNT OF USD 4212333 WAS REMITTED TO THE ASSESSEE IN INDIA. HE NOTED THAT 45% OF THE TOTAL REVENUE COLLECTED THUS WAS RETAINED BY THE AE FOR THE SIMPLE SERVICES OF MARKETING RENDERED TO THE ASSESSEE. ACCORDING TO THE TPO, THE AMOUNT CHARGED BY THE AE TO THE ASSESSEE THUS WAS ABNORMAL AND DID NOT DRAW ANY LOGIC OF BUS INESS ACUMEN. HE, THEREFORE, REQUIRED THE ASSESSE TO PRODUCE THE COMPLETE DETAILS OF EXPENSES INCURRED BY ITS AE ALONG WITH ALL THE SUPP ORTING DOCUMENTS TO ESTABLISH THE GENUINENESS THEREOF. ON EXAMINATION O F THE DETAILS AND DOCUMENTS PRODUCED BY THE ASSESSEE IN THIS REGARD, THE TPO RECORDED HIS FINDINGS/OBSERVATIONS AS UNDER:- THE ASSESSEE HAS ONLY PRODUCED COMPUTER PRINTED LED GER AND PHOTO COPIES OF VOUCHERS OF SOME OF EXPENSES, CLAIM ING THAT THE ORIGINALS ARE MAINTAINED WITH AE AT US. THE RELIAB ILITY OF COMPUTER PRINTED LEDGERS AND PHOTOCOPY OF VOUCHERS ARE HIGHLY QUESTIONABLE. DURING THE VERIFICATION OF AE ACCOUNTS PRODUCED, TH E ASSESSEE WAS NOT ABLE TO GIVE NAY PLAUSIBLE EXPLANATION FOR MANY OF THE EXPENSES IT INCURRED DURING THE YEAR. SOME OF THE EXPENSES SUCH AS SALARY, EMPLOYEE EXPENSES, MARKETING EXPENS ES, GENERAL EXPENSES ETC BE INCURRED NECESSARILY, THOUGH THE QU ANTUM IS DEBATABLE. A FEW SPECIFIC EXPENDITURE ARE DISCUSSED AS UNDER. O COMMISION AND MARKETING EXPENSES USD 11,71,222/-. WHEN THE ASSESSEE WAS CONFRONTED WITH THE REASON FOR PAY MENT OF COMMISSION, II EXPLAINED THAT APART FROM PAYING SAL ARY TO EMPLOYEES THE AE ALSO PAYS COMMISSION TO EMPLOYEES. BY PRODUCING A LIST OF FEW EMPLOYEES, THE ASSESSEC CLA IMED THAT IN TOTAL USI) 3,77,122/- WAS PAID TO THEM DURING THE Y EAR. THERE IS NO EVIDENCE ON RECORD TO ESTABLISH CORRESPONDING RE VENUE TO JUSTIFY SUCH A HIGH QUANTUM OF COMMISSION PAYMENT. FURTHER, WHEN THE EMPLOYEES ARE FUILTIME AND GETTING SALARY, THE NEED OF PAYING SUCH A HUGE COMMISSION IS QUESTIONABLE. DURI NG THE YEAR THE AE INCURRED USD 7,94,100/- FOR SALES AND MARKET ING. THE ASSESSEE CAME OUT WITH COMPUTER PRINTED LEDGER ACCO UNTS AND CLAIMED THAT ALL EXPENSES ARE INCURRED FOR BUSINESS PURPOSE. IN ABSENCE OF ANY EVIDENCE ON RECORD TO PROVE THAT SUC H EXPENSES ITA 6643 /M/10 4 ARE GENUINE AND INCURRED ONLY IN RELATION TO REGULA R CONDUCT OF BUSINESS, THE ASSESSEES CLAIM CANNOT BE TREATED AS GENUINE AND VALID. IN VIEW OF ABOVE DISCUSSION IT IS CLEAR THAT THE SAID PAYMENT ARE NOT GENUINE AND HELD TO BE AN ARTIFICIA L INFLATION OF THE EXPENSES OF AE, WHICH ULTIMATELY ARE BORN BY TH E ASSESSEE. O RECRUITMENT AND TRAINING EXPENSES USI) 72,100/- O N VERIFICATION IT IS FOUND THAT THE AE IS MAKING HUGE PAYMENTS FOR RECRUITMENT OF PERSONNEL FOR AE. AGAIN THE ASSESSEE PRODUCED COMPUTER PRINTED LEDGER ACCOUNTS IN SUPPORT OF ITS CLAIM. THE CREDENTIALS OF THE PEOPLE WHO RECEIVED SUCH RECRUIT MENT AND TRAINING FEE ARE UNVERIFLABIC AND HIGHLY DOUBTFUL. IN A RECESSION RID ECONOMY WHERE UNEMPLOYMENT IS A MAJOR PHENOMENO N, WHY AE MAKES SUCH HUGE RECRUITMENT FEE REMAINS DOUBTFUL . O COMMUNICATION EXPENSES USD 1,10,859/- THE ASSESSE E WAS NOT ABLE TO PROVIDE GENUINENESS OF THE TRANSACTION. THE ASSESSEE WAS NOT ABLE TO LINK THE EXPENDITURE INCURRED FOR I TS MARKETING ACTIVITIES OF AE. O TRAVELLING EXPENSES OF USD 3,65,6531- THE ASSESSE E WAS NOT ABLE TO PROVIDE DETAILS OF EXACT NATURE OF SUCH EXP ENSES TO JUSTIFY WHO ACTUALLY TRAVELLED, WHETHER THE TRAVEL EXPENSES INCURRED HAS ANY BUSINESS RELEVANCE ETC. 4. ON THE BASIS OF THE ABOVE FINDINGS RECORDED BY H IM, THE TPO HELD THAT THERE WAS FAILURE ON THE PART OF THE ASSESSEE TO ESTABLISH ON EVIDENCE THAT THE EXPENSES INCURRED BY ITS AE WERE GENUINE AND THEY WERE WHOLLY AND EXCLUSIVELY INCURRED FOR THE PURPOS E OF ASSESSEES BUSINESS. ACCORDINGLY, HE HELD THAT THE COST BASE OF AE WAS NOT GENUINE TO THE EXTENT OF 50% AND AFTER DETERMINING THE ALP OF THE TRANSACTIONS OF THE ASSESSEE WITH ITS AE BY REDUCIN G THE COST BASE OF AE BY 50% AND ALLOWING MARK UP OF 3% THEREON, HE WORKE D OUT THE TP ADJUSTMENT TO BE MADE AT RS. 7,02,48,560/-. 5. WHEN THE ADDITION ON ACCOUNT TP ADJUSTMENT AS SU GGESTED BY THE TPO WAS PROPOSED BY THE A.O. IN THE DRAFT ASSES SMENT ORDER, THE ASSESSEE FILED ITS OBJECTIONS BEFORE THE DISPUTE RE SOLUTION PANEL (DRP). BEFORE THE DRP, ELABORATE SUBMISSIONS WERE MADE ON BEHALF OF THE ASSESSEE IN ORDER TO MEET ALL THE OBJECTIONS RAISED BY THE AO/TPO IN SUPPORT OF THE TRANSFER PRICING ADJUSTMENT DETERMIN ED BY THEM. THE ITA 6643 /M/10 5 SAID SUBMISSIONS AS REPRODUCED BY THE DRP IN ITS OR DER IS EXTRACTED BELOW:- THE FIRST THREE OBJECTIONS OF THE ASSESSING OFFICE R ARE TO THE EFFECT THAT 45% OF THE GROSS REVENUE SPENT ON MARKETING AND SEL LING EXPENSES IS ABNORMAL AND IT IS VERY. IN THIS RESPECT AT THE OUT SET IT IS RESPECTFULLY SUBMITTED THAT THE PREVIOUS YEAR RELEVANT TO A.Y.20 08-09 IS NOT FIRST YEAR OF THE ASSESSEE COMPANY WHEREIN THE ASSESSEE H AD PROCURED SERVICES FROM M/S. ZYCUS INC. UNDER THE AGREEMENT F OR RENDERING MARKETING AND SALES SERVICES. IN THIS RESPECT YOUR HONOURS KIND ATTENTION IS INVITED TO A CHART OF THE ASSESSMENT Y EAR 2001-02 TO 2007- 08 WHICH IS AS UNDER: REVENUE AND SALES & MARKETING EXPENSES OF ZYCUS INC . FINANCIAL 2001-02 2002-03 2003-04 2004-05 2005-06 2 006-07 2007-08 YEAR GROSS REVENUE 12,88,108 24,84,246 32,93,589 39,03,471 53,36,348 50,91,299 76,75,836 SELLING & MARKETING EXPENSE 11,07,250 9,12,864 8,32,747 14,58,133 16,27,442 21,80,166 33,91,907 SELLING & MARKETING EXPENSE AS % OF GROSS REVENUE 86% 37% 25% 37% 30% 43% 44% ON PERUSAL OF THE AFORESAID CHART YOUR HONOUR WILL FIND THAT IN ALL THE EARLIER SIX YEARS THE ASSESSEE COMPANY HAD INCURRED MARKETING AND SALES EXPENSES RANGING BETWEEN 25% AND 86% OF T HE GROSS REVENUE. AT THIS JUNCTURE THE ASSESSEE COMPANY REFERS TO AND RELIES UPON THE FINANCIAL DATA FOR THE YEAR ENDED 30 TH SEPTEMBER,2008 OF M/S. ARIBA INC. WHICH IS SITUATED IN USA. M/S. ARIBA INC . IS ALSO IN THE BUSINESS OF DEVELOPING AND SELLING SPEND MANAGEMENT SOLUTIONS AND OTHER SOFTWARE WHICH ARE IN COMPETITION WITH THE SO FTWARE DEVELOPED AND MARKETED BY THE ASSESSEE COMPANY THROUGH M/S. Z YCUS INC. IT MAY KINDLY BE NOTED THAT IN THE AFORESAID FINANCIAL DATA M/S. ARIBA INC. TREATED M/S. ZYUS INC. AS ITS PRINCIPAL COMPETITOR IN THE BUSINESS. FOR THE YEAR ENDED 30 TH SEPTEMBER, 2008 THE GROSS REVENUE OF M/S. ARIBA INC. WAS 328.060 MILLION USD AND ITS SELLING, GENER AL AND ADMINISTRATIVE EXPENSES WERE OF 159.753 MILLION USD . IN OTHER WORDS, THE SELLING, GENERAL AND ADMINISTRATIVE EXPENSES OF M/S. ARIBA INC. ARE ITA 6643 /M/10 6 49% OF THE GROSS REVENUE. IT IS RESPECTFULLY SUBMIT TED THAT M/S. ARIBA INC. IS THE MOST IDEAL EXAMPLE AS IT IS IN THE IDEN TICAL BUSINESS AS THAT OF THE ASSESSEE AND IT IS SITUATED IN U.S.A. THE FOURTH OBJECTION OF THE ASSESSING OFFICER IS THAT COMPUTED PRINTED LEDGER AND PHOTO COPIES OF VOUCHERS ARE HIG HLY QUESTIONABLE IS ALSO BASELESS AND WITHOUT ANY EVIDENCE. AT THIS JUN CTURE IT IS REQUESTED TO BE NOTED THAT AT NO POINT O0F TIME THE ASSESSING OFFICER HAD CALLED FOR THE ORIGINAL COPIED OF VOUCHERS. SECONDLY THERE IS NO QUESTION TO DISBELIEVE THE AUDITED ACCOUNTS OF M/S. ZYCUS INC. MORE SO WHEN THE SAID ACCOUNTS ARE SUBJECT TO TAX LAWS OF U.S.A. THE FIFTH OBJECTION OF THE ASSESSING OFFICER IS TO THE EFFECT THAT THERE IS NO EVIDENCE ON RECORD TO ESTABLISHE CORRES PONDING REVENUE TO JUSTIFY HIGH QUANTUM OF COMMISSION PAYMENTIT IS S UBMITTED THAT IT IS THE PRACTICE IN THE I.T. INDUSTRY THAT THE EMPLO YEE IS PAID A BASIC SALARY FOR HIS SUSTENANCE AND HE IS GIVEN INCENTIVE S COMPENSATION PLAN SO THAT THE EMPLOYEE HAS INCENTIVES TO WORK HARD FO R ACHIEVING THE TARGET GIVEN TO HIM. IN THIS RESPECT YOUR HONOURS KIND ATTENTION IS INVITED TO ONE SUCH EXAMPLE OF MR. DAVE MILLER WHO WAS A REGIONAL SALES MANAGER. A COPY OF THE OFFER LETTER AS WELL A S A COPY OF INCENTIVES COMPENSATION PLAN FOR THE FINANCIAL YEAR 2007-08 IS ENCLOSED IN THE COMPILATION. THE SIXTH OBJECTION OF THE DCIT IS TO THE EFFECT THAT IN THE ABSENCE OF ANY EVIDENCE ON RECORD THE SALES AND MAR KETING EXPENSES OF USD 794,101 ARE NOT PROVED TO BE GENUINE AND INCURR ED ONLY IN RELATION TO REGULAR CONDUCT OF THE BUSINESS. IN THI S RESPECT IT IS SUBMITTED THAT IN THE COURSE OF THE PROCEEDINGS BEF ORE THE ASSESSING OFFICER, THE ASSESSEE COMP[ANY HAD FILED THE COMPLE TE DETAILS OF THE MARKETING EXPENSES OF USD 794,101 VIDE LETTER DATED 25 TH OCTOBER, 2011. COPIED OF THESE DETAILS ARE ENCLOSED IN THE P APER BOOK VOLUME II AT PAGES 269 TO 308 FILED BEFORE YOUR HONOURS. YOUR HONOURS KIND ATTENTION IS INVITED TO THE DETA ILS OF PAYMENT OF USD 17,000 TO M/S. KACZMAR & ASSOCIATES THROUGH WHOM MR. JIM ARCHER, REGIONAL SALES MANAGER WAS APPOINTED BY M/S . ZYCUS INC. AND WHO WAS OFFERED SALARY OF USD 85,000 AND THEREFORE, M/S. ZYCUS INC. PAID RECRUITMENT FEES OF US DOLLARS 17,000 TO M/S. KACZMAR & ASSOCIATES. SIMILARLY, MR. DAVID MOSS WAS RECRUITED THROUGH M/S. HOWARD LEE & ASSOCIATES AND THEREFORE, RECRUITMENT FEE OF USD OF 18,000 WAS PAID. M/S. ZYCUS INC. HAD SUBSCRIBED TO THE RESUME ACCESS OF MONSTER.COM INDIA PVT. LTD. FOR A PERIOD OF 12 MONTHS FOR WHICH FEES OF USD 7,398 WAS PAID. THE DETAILS OF TH ESE EXPENSES WHICH ARE FILED IN THE PAPER BOOK VOLUME III BEFORE YOUR HONOURS, DO NOT LEAD ONE TO DOUBT THE GENUINENESS OF THE PAYMENT MORE SO WHEN THERE WAS ITA 6643 /M/10 7 NO INQUIRY MADE IN RESPECT THEREOF BY THE DCIT BEFO RE COMING TO THAT CONCLUSION. 20. THE EIGHTH OBJECTION OF THE ASSESSING OFFICER IS TO THE EFFECT THAT THE ASSESSEE IS NOT ABLE TO LINK THE COMMUNICATION EXPENSES WITH THE MARKETING ACTIVITIES OF THE AE. IN RESPECT OF COMMU NICATION EXPENSES OF USD 110,859 THE DCIT HAS NOT CALLED FOR ANY DETAILS AFTER THE ASSESSEE COMPANY HAD FILED THE DETAILS OF VARIOUS EXPENSES V IDE ITS LETTER DATED 25 TH OCTOBER, 2011. IT IS, THEREFORE, RESPECTFULLY SUBM ITTED THAT THE ASSESSING OFFICER HAS WITHOUT ANY EVIDENCE ON RECOR D DOUBTED THE GENUINENESS OF THE EXPENSES. 21. THE NINTH OBJECTION OF THE ASSESSING OFFICER IS TO THE EFFECT THAT THE ASSESSEE WAS NOT ABLE TO PROVIDE DETAILS OF EXA CT NATURE OF TRAVELLING EXPENSES TO JUSTIFY WHO ACTUALLY TRAVELLED, WHETHER THE TRAVEL EXPENSES WERE INCURRED FOR ANY BUSINESS RELEVANCE, ETC. IN T HIS RESPECT IT IS SUBMITTED THAT THE ASSESSEE COMPANY HAD FILED DETAI LS OF MORE THAN 100 PAGES ALONG WITH ITS LETTER DATED 25 TH OCTOBER, 2011. WITHOUT VERIFYING THE AFORESAID DETAILS THE ASSESSING OFFIC ER DOUBTED THE EXPENSES INCURRED BY M/S. ZYCUS. INC. 22. IN THIS RESPECT COMPLETED DETAILS OF TRAVELLING EXPENSES IN RESPECT OF THE EACH OF THE EMPLOYEES OF M/S. ZYCUS INC. AND PURPOSE OF EACH TRAVEL WITH THE NAME OF THE CLIENT CONTRACTED ARE G IVEN IN THE FORM OF A CHART WHICH IS ENCLOSED IN PAPER BOOK VOLUME III FI LED BEFORE YOUR HONOURS. THESE DETAILS PROVE BEYOND DOUBT THAT THE TRAVELLING EXPENSES ARE INCURRED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF THE ASSESSEE COMPANYS BUSINESS. 6. IN ADDITION, IT WAS ALSO SUBMITTED ON BEHALF OF THE ASSESSEE BEFORE THE DRP THAT THE GENUINENESS OF EXPENSES INCURRED BY M/S ZYCUS INC. WAS DOUBTED BY THE A.O./TPO PURELY ON PRESUMPTION AND S URMISES OVERLOOKING THE EVIDENCE ON RECORD. A COPY OF THE RETURN OF IN COME OF M/S ZYCUS INC. FILED FOR THE YEAR ENDED 31 ST MARCH 2008 UNDER THE INCOME TAX LAW OF USA WAS SUBMITTED BY THE ASSESSEE BEFORE THE DRP TO POINT O UT THAT OUT OF TOTAL RECEIPTS OF USD 34,53,220, SUBSTANTIAL AMOUNT WAS S PENT BY THE AE ON VARIOUS ROUTINE EXPENSES SUCH AS SALES, WAGES, RENT , TAXES, DEPRECIATION, ADVERTISING ETC. AND NET TAXABLE INCOME OF ONLY USD 21159 WAS DECLARED. IT WAS ALSO POINTED OUT THAT THE QUANTUM OF THESE EXPE NSES AS REFLECTED IN THE ITA 6643 /M/10 8 RETURN OF ZYCUS INC. WERE MATCHING WITH THE DETAILS OF EXPENSES REIMBURSED BY THE ASSESSEE COMPANY AS PER THE TERMS OF THE CON TRACT. IT WAS CONTENDED THAT THE ASSESSEE COMPANY THUS HAD REIMBURSED ACTUA L AND GENUINE EXPENSES INCURRED BY ITS AE ZYCUS INC. IN RENDERING SERVICES TO IT ALONG WITH MARK UP OF 3% AND THE DISALLOWANCE OF 50% OF SUCH E XPENSES MADE BY THE A.O./TPO DOUBTING THEIR GENUINENESS WHILE DETERMINI NG THE ALP OF THE SERVICES RENDERED BY THE AE TO THE ASSESSEE WAS INC ORRECT AND CONTRARY TO THE FACTS ON RECORD. IT WAS ALSO CONTENDED THAT THE A. O./TPO EVEN OTHERWISE HAD NO JURISDICTION TO DISALLOW THE EXPENSES INCURRED B Y THE AE FOR THE PURPOSE OF DETERMINING THE ALP OF THE INTERNATIONAL TRANSACTIO NS BETWEEN THE ASSESSEE COMPANY AND ITS AE AND THE MARK UP OF 3% PAID BY TH E ASSESSEE COMPANY TO ITS AE FOR RENDERING MARKETING AND SALES SERVICES B EING REASONABLE AND COMPARABLE WITH THE OTHER COMPANIES RENDERING THE S IMILAR SERVICES, THERE WAS NO CASE OF MAKING ANY ADDITION ON ACCOUNT OF TR ANSFER PRICING ADJUSTMENT. 7. AFTER CONSIDERING THE SUBMISSIONS MADE ON BEHALF OF THE ASSESSEE AS WELL AS MATERIAL AVAILABLE ON RECORD, THE DRP ISSUE D THE FOLLOWING DIRECTIONS TO THE A.O. VIDE HIS ORDER DATED 20 TH SEPTEMBER, 2012 PASSED U/S 144-C(5): WE HAVE CONSIDERED THE SUBMISSION OF THE ASSESSEE, THE VIEW OF THE ASSESSING OFFICER AND THE MATERIAL ON RECORD. THE T PO HAS MADE AN ADHOC DISALLOWANCE OF 50% OF THE TOTAL COST INCURRE D BY THE AE MAKING A SIGNIFICANTLY A LARGE ADJUSTMENT OF 7.02 CRORE. T HE TPO HAS ARRIVED AT THIS DECISION ON THE GROUND THAT THE AE WHICH IS ON LY ENTRUSTED WITH THE MARKETING FUNCTION FOR WHICH 45% OF THE GROSS R ECEIPTS IS A VERY HIGH FIGURE. THE ASSESSEE COMPANY HAS BEEN ASSESSED FOR MANY YEA RS AND THE TRANSACTIONS WITH THE AE HAS BEEN ACCEPTED IN THE A SSESSMENTS. THE ASSESSEE HAS ALSO GIVEN A COMPARABLE NAMELY, ARIBA INC WHICH IS A COMPETITOR OF THE ASSESSEE IN THE SAME BUSINESS. TH E MARKETING AND ADMINISTRATIVE EXPENSES OF ARIBA INC IS 89% OF THE GROSS REVENUE COMPARED TO 45% GROSS REVENUE IN THE CASE OF THE AS SESSEE. ITA 6643 /M/10 9 THE ASSESSEE IS IN THE SOFTWARE BUSINESS. IT IS STA TED THAT AN INDIAN MADE SOFTWARE HAS TO INCUR SIGNIFICANT MARKETING EX PENSES TO ENTER INTO A MARKET LIKE THE USA. THIS HAS NOT BEEN APPRE CIATED BY THE TPO. IT HAS TO BE NOTED THAT THE AE IS A COMPANY FUNCTIO NING IN THE US WHERE THE COMPARABLE COST OF RUNNING A COMPANY WILL BE MUCH HIGHER THAN IN INDIA. THE ASSESSEE MAINTAINS A OFFICE WITH FULLTIME EMPLOYEES. THE ASSESSEE HAS ALSO PROVIDED COPIES OF ALL THE EX PENSES DULY VOUCHED AND AUDITED. THE ASSESSEE HAS ALSO FURNISHED THE CO PY OF THE RETURN FILED BY THE AE ALONG WITH THE AUDITED ACCOUNTS. TH E TPO HAS NOT DISPUTED THE GENUINENESS OF THE ACCOUNTS. HIS ONLY OBJECTION IS THAT COST APPEARS TO BE EXCESSIVE COMPARED TO THE FUNCTI ONS PERFORMED. THE ASSESSEE HAS ACTUALLY PAID THE AE COSTS PLUS 3% MARK-UP WHICH APPEARS TO BE REASONABLE. THE COSTS STATED IN THE A SSESSEES BOOKS MATCHES EXPENSES IN THE AUDITED ACCOUNTS. THE TPO H AS NOT CHALLENGED THE MARK UP. THE ASSESSEE HAS SUBMITTED LIST OF EMPLOYEES ALONG WITH SALARY AND INCENTIVES. THERE ARE QUITE A FEW AMERICAN EXECUTIVES WORKING IN THE AE COMPANY. THE ASSESSEE HAS SUBMITTED DOCUMENTS TO SHOW RECRUITMENT OF EXECUTIVES THROUGH HEAD HUNTERS IN US. THE SALARY PAID TO MR. JIM ARCHER WAS IN $ 8 5,000/- PER MONTH WHICH WORKS OUT TO ALMOST RS.40,00,000/-. THE EMPLO YEES HAVE ALSO BEEN GIVEN INCENTIVES FOR PERFORMANCE. THE SALARY & INCENTIVES HAVE BEEN RECORDED IN THE AUDITED ACCOUNTS OF THE AE SUB MITTED WITH THE RETURN. ACCORDING TO THE RETURNED INCOME COPY OF WH ICH IS FILED OF THE US A.E., THE GROSS RECEIPTS ARE USD 34,53,220. THIS INCLUDES SALARIES WHICH IS A MAIN EXPENDITURE AT USD 11,90,405!- AND RENT OF USD 82,777, TAXES AND LICENSE FEES OF RS.138486!-. THE NET TAXABLE INCOME AFTER EXPENSES IS 21159 LJSD. APART FROM SALARY, TH E MAJOR EXPENSES INCLUDE COMMISSION, TRAVEL, COMMUNICATION AND EVENT S, WEB COST. AS REGARDS COMMISSION, THE TPO HAS CHALLENGED THE N ECESSITY FOR PAYING THE COMMISSION TO THE EMPLOYEES. THE TPO HAS STATED THAT THE ASSESSE ONLY PROVIDED LEDGER COPIES OF SALARY AND C OMMISSION PAYMENTS NOT HARD EVIDENCE. THERE IS HOWEVER, NO RE FERENCE TO ANY COMMUNICATION ASKING FOR ANY PARTICULAR EVIDENCE. T HE ASSESSEE HAS HOWEVER, STATED THAT COPIES OF THE LEDGERS, AND COP IES OF THE VOUCHERS WERE FILED BEFORE THE AO VIDE ITS LETTER DTD.25.10. 2011. THE ASSESSEE HAS ARGUED THAT IN THE I.T. INDUSTRY IN THE US, THI S IS THE PRACTICE AND HAS SUBMITTED A COPY OF THE INCENTIVE COMPENSATION PLAN AS WELL AS THE COPY OF THE OFFER LETTER TO MR. DAVE MILLER, THE RE GIONAL SALES MANAGER. THE 1 EMPLOYEES ARE NOT RELATED PARTIES. MORE THAN 50% OF THE MANAGERS ARE FOREIGNERS. IT HAS TO BE PRESUMED THAT THE SALARY PAID IS COMPARABLE TO THE INDUSTRY AVERAGE, THE TPO HAS ACT ED ON PRESUMPTIONS INSTEAD OF THAN ANY EVIDENCE. ITA 6643 /M/10 10 THE ASSESSING OFFICER HAS ALSO CHALLENGED THE TRAVE LING EXPENSES STATING THAT HE ASSESSEE WAS NOT ABLE TO PROVIDE DE TAILS OF THE NATURE OF THESE EXPENSES. IT IS STATED IN THE ORDER THAT THE ASSESSE DID NOT PROVIDE DETAILS JUSTIFYING WHO ACTUALLY TRAVELLED A ND WHETHER EXPENSES HAD BUSINESS RELEVANCE. THERE IS NO MENTION OR COMM UNICATION SENT TO THE ASSESSE IN THIS REGARD IN THE ORDER OF THE TPO. THE ASSESSE HOWEVER, IN ITS SUBMISSION HAS STATED THAT THE LEDG ER COPIES OF MORE THAN 100 PAGES WAS FILED ALONG WITH ITS LETTER DTD. 25.1 0.2011. THE ORDER OF THE TPO IS DATED 28.10.2011. IN THE PAPER BOOK FILED, THE DETAILS OF TRAVELLING EXPENSES HAVE BEEN GIVEN. THE LEDGER COPIES HAD SHOWN THE NAME OF THE PERSONS WHO HAD TRAVELLED. MO ST OF THE TRAVELLING IS DONE BY THE LOCAL EMPLOYEES WITHIN US A. IN QUITE A FEW CASES, HOWEVER, THE DETAILS OF CREDIT CARD WHICH PA YMENT WAS MADE BY THE EMPLOYEE IS MENTIONED INSTEAD OF THE TRAVELLED DETAILS. THE TPO HAS NOT REALLY MADE A PROPER TRANSFER PRICI NG ADJUSTMENT FOLLOWING ANY OF THE PRESCRIBED METHODS BY COMPARIN G THE ASSESEES FIGURE WITH COSTS INCURRED BY COMPARABLE COMPANIES. THE STUDY MADE BY THE ASSESSE IS MENTIONED IN THE ORDER. THE MARK- UP OF 3 % HAS BEEN FOUND TO BE OF ARMS LENGTH. THE STUDY HAS THEN BEE N IGNORED AND AD HOC DISALLOWANCES PROPOSED TO BE MADE OUT OF THE TO TAL EXPENDITURE CLUE TO LACK OF JUSTIFICATION FOR HUGE EXPENSES OF TRAVELING, COMMISSION ETC. IT IS QUITE CLEAR FROM THE ABOVE THAT THE DETAILS F ILED BY THE ASSESSE VIZ., LEDGER COPIES VOUCHERS ETC. NOT BEING PROPERLY EXAM INED. THE DISALLOWANCE OF 50% OF TOTAL COST INCURRED BY THE A SSESSE TOWARDS EXPENSES OF TRAVELLING, ADMINISTRATIVE, SALARIES ET C. IS WITHOUT ANY BASIS. THE DISALLOWANCE MADE BY THE TPO IS EXCESSIV E AND UNREASONABLE ON THE FACTS & CIRCUMSTANCES OF THE CA SE. IT IS HOWEVER, FOUND FROM THE DETAILS OF EXPENDITUR E, TRAVELLING LEGAL EXPENSES, MARKETING EXPENSES ETC. THAT A NUMBER OF ENTRIES ONLY MENTION THE CREDIT CARD AND THE NAME OF THE EMPLOYE E TO WHOM THE CARD BELONGS. TO THAT EXTENT, THE TPO MAY BE JUSTIF IED IN CONCLUDING THAT THE PURPOSE OF BUSINESS FOR THAT ITEM OF EXPEN DITURE IS NOT EXPLAINED. SIMILARLY, IN THE ACCOUNT FOR LEGAL & PROFESSIONAL EXPENSES THE LARGE NUMBER OF ENTRIES RELATE TO THE EMPLOYEES AND THEIR FAMILIES VISA, GREEN CARD, ETC. EXPENSES OF THE EMPLOYEES OF THE INDIAN ORIGIN WORKING IN THE A.E. IN VIEW OF THE ABOVE, WE ARE OF THE OPINION THAT TH E DISALLOWANCE OF 20% WOULD MORE THAN SUFFICE TO TAKE CARE OF SUCH EXPEND ITURE WHICH IS NOT EXCLUSIVELY LAID OUT FOR THE PURPOSE OF BUSINESS. ITA 6643 /M/10 11 THE TPO IS DIRECTED TO RESTRICT THE DISALLOWANCE OF EXPENSES TO 20% OF THE TOTAL COST OR EXPENDITURE OF THE AE INSTEAD OF 50% AND RE-COMPUTE THE ADJUSTMENT ACCORDINGLY. THE ASSESSING OFFICER IS DIRECTED TO COMPLETE THE A SSESSMENT IN ACCORDANCE WITH THE DIRECTIONS ISSUED ABOVE AS PER THE PROVISIONS OF SEC 144C OF THE IT ACT. 8. THE DRP THUS DIRECTED THE A.O. TO RESTRICT THE D ISALLOWANCE OUT OF EXPENSES INCURRED BY THE AE TO 20% AND RECOMPUTE TH E TRANSFER PRICING ADJUSTMENT TO BE MADE TO THE INCOME OF THE ASSESSEE . ACCORDINGLY, THE A.O. RECOMPUTED THE T.P. ADJUSTMENT AT RS. 2,80,99424/- AS PER THE DIRECTIONS OF THE DRP AND MADE ADDITION TO THAT EXTENT TO THE TOT AL INCOME OF THE ASSESSEE VIDE AN ORDER DATED 15-10-2012 PASSED U/S 143(3) R. W.S. 144-C(13) OF THE ACT. AGGRIEVED BY THE SAME, THE ASSESSEE HAS PREFE RRED THIS APPEAL BEFORE THE TRIBUNAL. 9. THE LD. COUNSEL FOR THE ASSESSEE AT THE OUTSET S UBMITTED THAT THE YEAR UNDER CONSIDERATION IS NOT THE FIRST YEAR WHEREIN T HE ASSESSEE HAD PROCURED SERVICES FROM ITS AE M/S ZYCUS INC. HE SUBMITTED T HAT SUCH SERVICES WERE AVAILED BY THE ASSESSEE FROM ITS AE RIGHT FROM A.Y. 2002-03 AND FOR ALL THE SIX YEARS PRIOR TO THE YEAR UNDER CONSIDERATION, THERE WAS NO REFERENCE MADE BY THE A.O. TO THE TPO AND THE PRICE PAID BY THE ASSES SEE TO ITS AE FOR THE SIMILAR SERVICES RENDERED WAS ACCEPTED AS AT ARMS LENGTH. HE INVITED OUR ATTENTION TO THE RELEVANT DETAILS FURNISHED BEFORE THE DRP RELATING TO THE EARLIER YEARS AS REPRODUCED ON PAGE 5 OF THE DRPS ORDER AND POINTED OUT THAT THE EXPENSES INCURRED BY THE ASSESSEE ON MARKETING AND SALES PROMOTION WERE RANGING FROM 26% TO 36% OF ITS GROSS REVENUE. HE CONTENDED THAT SUCH EXPENDITURE INCURRED BY THE ASSESSEE DURING THE YEA R UNDER CONSIDERATION WAS TO THE EXTENT OF 44% OF ITS GROSS REVENUE AND T HERE WAS NO REASON FOR THE A.O./TPO TO TREAT THE SAME AS UNREASONABLE OR UN-AB NORMAL. HE SUBMITTED THAT SIMILAR EXPENDITURE INCURRED IN THE IMMEDIATEL Y PRECEDING YEAR I.E. A.Y. ITA 6643 /M/10 12 2007-08 WAS 43% OF THE GROSS REVENUE AND THE SAME W AS ALLOWED/ACCEPTED BY THE A.O. IN THE ASSESSMENT COMPLETED U/S 143(3 ) OF THE ACT. 10. THE LD. COUNSEL FOR THE ASSESSEE FURTHER SUBMIT TED THAT EVEN THE METHOD FOLLOWED BY THE A.O./TPO TO MAKE THE TP ADJU STMENT ON THE BASIS OF DOUBTING THE GENUINENESS OF THE EXPENSES INCURRED B Y THE AE WAS NOT PROPER AND IT WAS ACCEPTED EVEN BY THE DRP BY HOLDING THAT THE OBJECTION RAISED BY THE ASSESSEE IN THIS REGARD WAS SUBSTANTIALLY SUSTA INABLE. HE SUBMITTED THAT EVEN THE GENUINENESS OF THE EXPENSES INCURRED BY TH E AE WAS ESTABLISHED BY THE ASSESSEE BEFORE THE DRP BY FILING THE INCOME TA X RETURN OF THE SAID AE FILED IN USA WHEREIN THE SAID EXPENSES WERE DULY RE FLECTED. HE SUBMITTED THAT THE DRP AFTER HAVING CONSIDERED THESE DETAILS ALSO ACCEPTED THE OBJECTION OF THE ASSESSEE THAT THE DISALLOWANCE OF 50% OF THE TO TAL COST INCURRED BY THE AE AS MADE BY THE AO/TPO WAS WITHOUT ANY BASIS. HE CON TENDED THAT THE DRP, HOWEVER, STILL ADOPTED THE SAME BASIS AS TAKEN BY T HE A.O. TO MAKE THE TP ADJUSTMENT AND ONLY RESTRICTED SUCH TP ADJUSTMENT B Y SUSTAINING THE DISALLOWANCE OF 50% MADE BY THE A.O./TPO TO THE EXT ENT OF 20%. HE CONTENDED THAT THE DIRECTIONS GIVEN BY THE DRP TO T HE AO THUS ARE TOTALLY UNTENABLE AND THE ADDITION WORKED OUT BY THE A.O. O N ACCOUNT OF TP ADJUSTMENT BY FOLLOWING THE SAID DIRECTIONS IS LIAB LE TO BE DELETED. 11. THE LD. COUNSEL FOR THE ASSESSEE THEN TOOK US T HROUGH THE TP STUDY REPORT SUBMITTED BY THE ASSESSEE AND SUBMITTED THAT THE MARK UP OF 3% PAID BY THE ASSESSEE TO ITS AE ON TOTAL COST WAS WELL CO MPARABLE WITH THE AVERAGE MARGIN (OP/TC) OF 3.50% OF THE FIVE COMPARABLES SEL ECTED BY THE ASSESSEE SHOWING THAT THE PRICE PAID BY THE ASSESSEE TO ITS AE WAS AT ARMS LENGTH. HE CONTENDED THAT THE SAID TP STUDY REPORT SUBMITTED B Y THE ASSESSEE WAS MADE BY FOLLOWING THE PROPER PROCEDURE AS PRESCRIBED IN THE STATUTE AND THERE BEING NO DEFECT OR DISCREPANCY POINTED OUT EITHER B Y THE A.O./TPO OR EVEN BY THE DRP THEREIN, THERE WAS NO CASE FOR MAKING ANY T P ADJUSTMENT. HE ALSO ITA 6643 /M/10 13 SUBMITTED THAT IN THE A.Y. 2009-10, SIMILAR TP ADJU STMENT MADE BY THE A.O./TPO BY DISALLOWING 20% OF THE EXPENSES HAS BEE N DELETED BY THE DRP WHILE IN A.Y. 2010-11, THE TPO HIMSELF HAS ACCEPTED THAT NO TP ADJUSTMENT CAN BE MADE IN THE CASE OF THE ASSESSEE IN RESPECT OF SIMILAR TRANSACTIONS ENTERED INTO BY IT WITH M/S ZYRUS INC. RELYING ON T HE DECISION OF HONBLE DELHI HIGH COURT IN THE CASE OF CIT VS. EKL APPLIAN CES LTD. [2012] 345 ITR 241 (DELHI), HE CONTENDED THAT THE TP ADJUSTMENT MA DE BY THE A.O. AND SUSTAINED BY THE LD. CIT(A) IS LIABLE TO BE DELETED . 10. THE LD. D.R., ON THE OTHER HAND, INVITED OUR AT TENTION TO THE TPOS ORDER AT PAGE 1 TO POINT OUT THAT THE AMOUNT OF RS. 17 CR ORES IS CLEARLY STATED TO HAVE BEEN PAID BY THE ASSESSEE COMPANY TO ZYCUS INC . FOR PROVISION OF SOFTWARE DEVELOPMENT SERVICES. HE SUBMITTED THAT TH IS WAS THE REAL NATURE OF TRANSACTION AND THE BENCH MARKING OF THESE TRANSACT IONS SHOULD HAVE BEEN DONE TAKING INTO CONSIDERATION THIS REAL CHARACTER OF THE INTERNATIONAL TRANSACTION ENTERED INTO BY THE ASSESSEE WITH THE A E. HE CONTENDED THAT NEITHER THE ASSESSEE NOR THE TPO/DRP HAS FOLLOWED T HE PROPER PROCEDURE TO DO THE TP STUDY AFTER CHARACTERIZING THE ACTUAL TRA NSACTIONS AND THE MATTER SHOULD, THEREFORE, GO BACK TO THE A.O./TPO TO DO TH E EXERCISE OF BENCH MARKING OF ACTUAL INTERNATIONAL TRANSACTIONS OF THE ASSESSEE WITH ITS AE. 11. WE HAVE CONSIDERED THE RIVAL SUBMISSIONS AND AL SO PERUSED THE RELEVANT MATERIAL PLACED ON RECORD. IT IS OBSERVED THAT THE SERVICES OF ITS AE M/S ZYCUS INC. WERE AVAILED BY THE ASSESSEE DURING THE YEAR UNDER CONSIDERATION AND THESE INTERNATIONAL TRANSACTIONS WERE BENCH MARKED BY IT BY USING TNMM AND TAKING OPERATIVE PROFIT TO TOTAL COST AS ALP IN THE TP STUDY REPORT. AS PER THE AGREEMENT, THE ASSESSEE C OMPANY HAD PAID COST PLUS 3% MARK UP AS REMUNERATION TO ITS AE FOR THE S ERVICES RENDERED AND FOR THE PURPOSE OF TP STUDY, THE AE WAS TAKEN AS THE TE STED PARTY. IN THE SAID TP STUDY REPORT, FIVE ENTITIES WERE SELECTED AS COMPAR ABLES AND SINCE THEIR ITA 6643 /M/10 14 AVERAGE OPERATIVE MARGIN WAS 3.50%AS AGAINST 3% MAR K UP PAID BY THE ASSESSEE TO ITS AE, THE INTERNATIONAL TRANSACTIONS BETWEEN THE ASSESSEE AND AE WERE CLAIMED TO BE AT ARMS LENGTH PRICE. 12. WHEN A REFERENCE WAS MADE BY THE A.O. TO THE TP O TO DETERMINE THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTION S BETWEEN THE ASSESSEE AND ITS AE ZYCUS INC., THE TPO NOTED THE BASIS ON WHICH THE SAID TRANSACTIONS WERE CLAIMED AT ARMS LENGTH PRICE BY THE ASSESSEE. HE, HOWEVER, DID NOT MAKE ANY COMMENT ON THE SAID BASIS ADOPTED BY THE A SSESSEE IN THE TP STUDY REPORT AND PROCEEDED TO EXAMINE THE COST BASE OF TH E AE WHICH WAS REIMBURSED BY THE ASSESSEE ALONG WITH MARK UP OF 3% AND RECORDED CERTAIN ADVERSE FINDING ON THE VARIOUS COSTS/EXPENSES CLAIM ED TO BE INCURRED BY THE AE. ON THE BASIS OF THESE ADVERSE COMMENTS, THE TPO TREATED 50% OF THE EXPENSES CLAIMED TO BE INCURRED BY THE AE AS NOT GE NUINE AND TAKING ONLY THE REMAINING 50% AS THE GENUINE EXPENSES INCURRED BY THE AE, HE DETERMINED THE ARMS LENGTH PRICE OF THE TRANSACTIO NS BETWEEN THE ASSESSEE AND THE AE BY ADDING 3% MARK UP THEREON WHICH RESUL TED IN TP ADJUSTMENT OF RS. 7.03 CRORES. 13. WHEN THE TP ADJUSTMENT SUGGESTED BY THE TPO WAS SOUGHT TO BE ADDED BY THE A.O. TO THE TOTAL INCOME OF THE ASSESSEE IN THE DRAFT ASSESSMENT ORDER, THE ASSESSEE RAISED VARIOUS OBJECTIONS BEFORE THE D RP. AFTER CONSIDERING THESE OBJECTIONS RAISED BY THE ASSESSEE AND THE SUBMISSIO NS MADE IN SUPPORT THEREOF, THE DRP PASSED AN ORDER U/S 144-C(5) OF TH E ACT GIVING CERTAIN DIRECTIONS TO THE A.O. AND A PERUSAL OF THE SAID OR DER SHOWS THAT MOST OF THE OBJECTIONS RAISED BY THE ASSESSEE WERE FOUND TO BE SUSTAINABLE BY THE DRP. AS REGARDS THE BASIC OBJECTION RAISED BY THE TPO RE GARDING THE AMOUNT OF 45% OF ITS TOTAL REVENUE PAID BY THE ASSESSEE TO IT S AE FOR SIMPLE FUNCTION OF MARKETING BEING ABNORMAL, THE DRP NOTED FROM THE SU BMISSIONS MADE BY THE ASSESSEE THAT IN CASE OF ONE COMPARABLE NAMELY ARIB A INC., MARKETING AND ITA 6643 /M/10 15 ADMINISTRATIVE EXPENSES WERE 89% OF THE GROSS REVEN UE. IT WAS ALSO NOTED BY THE DRP THAT THE INDIAN MADE SOFTWARE REQUIRES SIGN IFICANT MARKETING EXPENSES TO ENTER INTO A MARKET LIKE USA. IT WAS A LSO NOTED BY THE DRP THAT THE AE OF THE ASSESSEE COMPANY IN US WAS MAINTAININ G AN OFFICE IN US WITH FULL TIME EMPLOYEES WHICH REQUIRE MUCH HIGHER COST TO BE INCURRED THAN IN INDIA. IT WAS ALSO NOTED BY THE DRP THAT ALL THE EX PENSES INCURRED BY THE ASSESSEES AE IN US WERE DULY VOUCHED AND THE SAME WERE DULY REFLECTED IN THE ACCOUNTS OF THAT AE SUBMITTED TO THE US TAX AUT HORITIES. THE DRP THEN EXAMINED THE EXPENSES CLAIMED TO BE INCURRED BY THE AE UNDER MAJOR HEADS IN RESPECT OF WHICH CERTAIN OBJECTIONS WERE RAISED BY THE TPO AND FOUND ON SUCH EXAMINATION THAT THE SAME WERE FULLY SUBSTANTI ATED EXCEPT IN SOME CASES WHERE THE EXPENSES WERE PAID THROUGH CREDIT C ARD BELONGING TO THE EMPLOYEES OF THE AE. 14. AFTER EXAMINING THE EXPENSES CLAIMED TO BE INCU RRED BY THE AE OF THE ASSESSEE COMPANY IN US AND GETTING FULLY SATISFIED WITH THE SAME, THE DRP FOUND THAT THE REMUNERATION PAID BY THE ASSESSEE CO MPANY TO ITS AE FOR THE SERVICES RENDERED AT COST PLUS 3% MARK UP WAS REASO NABLE. IT WAS ALSO OBSERVED BY THE DRP THAT WHILE TREATING 50% OF THE EXPENSES CLAIMED TO BE INCURRED BY THE AE AS NOT GENUINE, THE TPO HAD ACTE D ON PRESUMPTION INSTEAD OF ANY EVIDENCE. IT WAS ALSO OBSERVED BY T HE DRP THAT A PROPER TRANSFER PRICING ADJUSTMENT HAD NOT BEEN MADE BY TH E TPO FOLLOWING ANY OF THE PRESCRIBED METHODS. A REFERENCE THEREAFTER WAS MADE BY THE DRP TO THE TP STUDY REPORT SUBMITTED BY THE ASSESSEE WHEREIN 3 % MARK UP PAID BY THE ASSESSEE TO ITS AE ON ACTUAL COST WAS CLAIMED TO BE AT ARMS LENGTH. THE DRP NOTED THAT THIS TP STUDY WAS IGNORED BY THE TPO AND AN ADHOC DISALLOWANCE WAS MADE OUT OF THE TOTAL EXPENDITURE CLAIMED BY TH E AE DUE TO LACK OF JUSTIFICATION FOR HUGE EXPENSES. ITA 6643 /M/10 16 15. AFTER HAVING MADE ALL THESE ADVERSE OBSERVATION S/COMMENTS ON THE VERY UNUSUAL METHOD FOLLOWED BY THE TPO TO DETERMIN E THE ARMS LENGTH PRICE OF THE INTERNATIONAL TRANSACTION BETWEEN THE ASSESS EE AND ITS AE AS WELL AS THE TP ADJUSTMENT SUGGESTED ON SUCH UNTENABLE BASIS , THE DRP, HOWEVER, STILL FOLLOWED/ADOPTED THE SAME BASIS BY DIRECTING THE A.O./TPO TO RESTRICT THE DISALLOWANCE OF 50% OUT OF AES EXPENSES TO 20% AND RECOMPUTE THE TP ADJUSTMENT WHICH, IN OUR OPINION, IS HIGHLY UNJUSTI FIED AND TOTALLY UNFOUNDED. WHEN THE TP ADJUSTMENT DETERMINED BY THE TPO BY DISALLOWING 50% OF THE AE EXPENSES WAS FOUND TO BE NOT BASED ON ANY OF THE PRESCRIBED METHOD BY THE DRP, THE DIRECTION BY THE DRP TO THE A.O./TPO TO RECOMPUTE THE TP ADJUSTMENT BY ADOPTING THE SAME BASIS BY RES TRICTING THE DISALLOWANCE TO 20% OF THE AE EXPENSES, IN OUR OPINION, DOES NOT STAND TO ANY REASON AND THE SAME CANNOT BE SUSTAINED. WHEN THE BASIS ADOPTE D BY THE TPO FOR MAKING TP ADJUSTMENT IS FOUND TO BE NOT AS PER THE TP PROCEDURE PRESCRIBED IN THE STATUTE AND THE TP STUDY REPORT SUBMITTED BY THE ASSESSEE JUSTIFYING THE PRICE PAID TO THE AE FOR THE INTERNATIONAL TRAN SACTIONS AS AT ARMS LENGTH PRICE BY FOLLOWING SUCH PROCEDURE IS FOUND TO BE IN ORDER WITHOUT THERE BEING ANY ADVERSE COMMENT/OBSERVATION EITHER MADE BY THE TPO OR EVEN BY THE DRP, WE ARE OF THE VIEW THAT THE PRICE PAID BY THE ASSESSEE TO ITS AE FOR THE INTERNATIONAL TRANSACTION SHOULD BE ACCEPTED AS AT ARMS LENGTH AND THE ADDITION MADE BY THE A.O./TPO ON ACCOUNT OF TRANSFE R PRICING ADJUSTMENT IS LIABLE TO BE DELETED. IT IS PERTINENT TO NOTE HERE THAT IN THE IMMEDIATELY SUCCEEDING YEAR I.E A.Y. 2009-10, A SIMILAR TP ADJU STMENT MADE BY THE A.O./TPO BY DISALLOWING 20% OF THE AES EXPENSES HA S BEEN DELETED BY THE DRP AS POINTED OUT BY THE LD. COUNSEL FOR THE ASSES SEE AND IN A.Y. 2010-11, THE TPO HIMSELF HAS ACCEPTED THAT NO TP ADJUSTMENT CAN BE MADE IN THE CASE OF THE ASSESSEE IN RESPECT OF SIMILAR TRANSACTION E NTERED INTO BY IT WITH ZYCUS INC. ITA 6643 /M/10 17 16. AT THE TIME OF HEARING BEFORE US, THE LD. D.R. HAS NOT RAISED ANY MATERIAL ARGUMENT IN SUPPORT OF THE TP ADJUSTMENT M ADE BY THE A.O. AFTER TAKING INTO CONSIDERATION OF THE DIRECTION GIVEN BY THE DRP. THE ONLY CONTENTION RAISED BY HIM IS THAT THE NATURE AND CHA RACTER OF THE SERVICES RENDERED BY ZYCUS INC. TO THE ASSESSEE COMPANY WAS THAT OF PROVISION OF SOFTWARE DEVELOPMENT SERVICES AND NOT THE MARKETIN G AND SALES PROMOTION EXPENSES AS UNDERSTOOD BY THE ASSESSEE AS WELL AS B Y THE TPO/DRP IN THEIR TRANSFER PRICING EXERCISES. IT IS, HOWEVER, OBSERV ED THAT ALTHOUGH THE NATURE OF INTERNATIONAL TRANSACTIONS AS MENTIONED BY TPO O N PAGE NO. 2 OF HIS ORDER WAS PROVISION OF SOFTWARE DEVELOPMENT SERVICES, I T WAS CLARIFIED IMMEDIATELY THEREAFTER THAT THE AE LOCATED IN US WAS HELPING TH E ASSESSEE IN SECURING SOFTWARE CONTRACTS AND THE REMUNERATION WAS PAID BY THE ASSESSEE COMPANY TO ITS AE FOR THE MARKETING SERVICES BASED ON THE B USINESS PROCURED BY THE AE FOR THE ASSESSEE. EVEN IN THE TP STUDY REPORT S UBMITTED BY THE ASSESSEE, THE NATURE OF SERVICES RENDERED BY ZUCUS INC., USA WAS CLEARLY INDICATED AS MARKETING SERVICES FOR THE PRODUCTS AND SERVICES OF THE ASSESSEE COMPANY. IN THE AGREEMENT DATED 1-4-2006 ENTERED INTO BETWEEN T HE ASSESSEE COMPANY AND ITS AE ZYCUS INC., USA, IT WAS STATED IN THE PR EAMBLE THAT THE ASSESSEE COMPANY IS DESIROUS OF OBTAINING THE SERVICES OF ZY CUS INC. IN REPRESENTING/MARKETING AND SELLING ZYCUS. INC. INDI A SOFTWARE PRODUCTS AND SERVICES AND ASSISTING ZYCUS INC. IN DOING BUSINESS IN US. THE OBLIGATIONS OF ZYCUS INC. WERE ALSO ENUMERATED IN ARTICLE 2 OF THE AGREEMENT WHICH CLEARLY SHOW THAT THE AE OF THE ASSESSEE COMPANY IN US M/S ZYCUS INC. WAS PROVIDING SALES/MARKETING SERVICES TO THE ASSESSEE COMPANY FOR PROMOTING ITS PRODUCTS AND SERVICES IN US. THE NATURE AND CHARAC TER OF THE SERVICES RENDERED BY THE AE TO THE ASSESSEE COMPANY THUS WAS CLEARLY UNDERSTOOD BY THE ASSESSEE AS WELL AS BY THE TPO/DRP AND THE CONT ENTION RAISED BY THE LD. D.R. IN THIS CONNECTION IS DEVOID OF ANY MERIT. WE ACCORDINGLY REJECT THE SAME. ITA 6643 /M/10 18 17. IN THE RESULT, APPEAL OF THE ASSESSEE IS ALLOWE D. ORDER PRONOUNCED IN THE OPEN COURT ON 7 TH FEBRUARY, 2014. . ) / 0 07-02-2014 ) SD/- SD/- (AMIT SHUKLA) (P.M. JAGTAP ) JUDICIAL MEMBER / ACCOUNTANT MEMBER MUMBAI ; 0 DATED 07-02-2014 [ .../ RK , SR. PS ' #%& '& / COPY OF THE ORDER FORWARDED TO : 1. # / THE APPELLANT 2. $%# / THE RESPONDENT. 3. () / THE CIT(A)39, MUMBAI. 4. / CIT CENT. II,, MUMBAI 5. 5 $7 , * 7 , / DR, ITAT, MUMBAI E BENCH 6. : / GUARD FILE. / BY ORDER, %5 $ //TRUE COPY// / ( DY./ASSTT. REGISTRAR) , / ITAT, MUMBAI