For the purposes of transfer pricing analysis, profit before depreciation should be used as the profit level indicator

Fact and issue of the case

The present appeal has been filed by the assessee challenging the final assessment order dated 22/10/2010, passed by the Assessing Officer under section 143(3) read with section 144C(13) of the Income Tax Act, 1961 („the Act‟), for the assessment year 2006-07.

The assessee filed revised grounds of appeal on 04/02/2014, which were taken on record. The revised grounds of appeal filed by the assessee are as under:

On the facts and in the circumstances of the case and in law, the learned Assistant Commissioner of Income-tax (OSD) -2 (3) (AO) based on the directions of the DRP

General 1.

erred in assessing the total income at Rs. 494,447,750 as against Rs 300,010,920 computed by the Appellant while filing its return of income;

Adjustments made by the Transfer Pricing Officer („TPO‟)/AO

erred in making an transfer pricing adjustment and thereby making an addition of Rs.93,894,899 to the income of the appellant, on the premise that the international transactions entered by the Appellant with its Associated enterprise (AE) were not at arm‟s length;

erred in invoking powers under section 92C(3) of the Act without fulfilling the conditions stated therein and considering the facts and circumstances of the case;

erred in disregarding the economic analysis undertaken by the Appellant, without proper justification and conducting a fresh economic analysis for the determination of the arm’s length price in connection with the impugned international transactions;

failed to appreciate that the Appellant is availing tax holiday u/s 10A of the Act, and hence there is no intention to shit the profit base out of India, which is one of the basic intention of the introduction of transfer pricing provisions;

Use of contemporaneous data

erred in determining the arm’s length margin price by applying the data of the comparables for the financial year 2005-06 data, which was not available to the Appellant at the time of complying with the transfer pricing documentation requirements, as against multiple year data considered by the Appellant;

Rejection of comparables identified by the Appellant and introducing new comparables

erred in using arbitrary turnover filter as a comparability criterion for rejecting 16 comparable companies without appreciating the approach adopted by the learned TPO in past years;

erred in rejecting loss making comparable companies while computing the Arithmetic mean of all the comparable companies, disregarding the tact that they are functionally similar and had positive networth and therefore had to be considered a valid comparable while doing the transfer pricing analysis;

erred in considering Allsec Technologies Ltd as a comparable company without appreciating that the same could not be considered as a valid comparable due to inter-alia differences in functional and risk profile and significant advertisement expenses;

Without prejudice to the above, erred in not granting risk adjustments to account for differences in the risk profiles of the Appellant vis a vis the compara bles;

Profit before depreciation to be considered as Profit level Indicator (PLD) while doing comparability analysis

Without prejudice to the above, erred in considering profit after depreciation (PADIT) as the PLI for transfer pricing analysis without appreciating that there were significant differences between the depreciation policies followed by the comparable companies vis-à-vis the appellant, and hence the Profit before depreciation (PBDIT) as a PLI should be considered for transfer pricing analysis;

Benefit of +/- 5% range

The learned TPO has erect in computing the ALP without considering the 5 percent bandwidth available under the proviso to Section 92C(2) of the Act;

Deduction under section 10A

erred in reworking the deduction under section 10A at Rs 18,92,64,699/- as against Rs. 22.77.07,063/- computed by the Appellant:

Re-allocation of certain expenses pertaining to non STPI unit to the STP unit

erred in re-allocating communication expenses, auditor’s remuneration and foreign exchange fluctuation expenses, between 10A unit and non 10A unit in the ratio of their turnovers, thereby reducing the profits eligible for deduction under section 10A of the Act;

Reduction of communication expenses from export turnover and but including the same in turnover

erred in reducing 50 per cent of the communication expenses amounting to Rs. 6,652,452 from the export turnover on the ground that the same was in connection with the delivery of services outside India;

Without prejudice to Ground No. 15, erred in excluding the communication expenses from the export turnover and not excluding the same from total turnover while calculating the deduction under Section 10A of the Act;

Depreciation granted on servers considered as ‘Computer’s as against ‘Plant and Machinery‟

erred in granting depreciation by classifying additions to servers amounting to Rs.19,587,053 in relation to the STP unit as ‘Computers instead of ‘Plant and Machinery and thereby reducing the profits eligible for deduction under Section 10A of the Act;

Without prejudice to the Ground No 17. should have on a consistent basis given similar treatment to the additions made to servers while computing the profits of non-10A unit;

Disallowance of capital expenditure while computing the assessed income

erred in not considering the amount of Rs. 15,054,179 being capital expenditure already disallowed in the return of income for the purpose of computing the income of the STP unit, thereby resulting in reduction in the amount eligible for deduction under section 10A;

Disallowance under section 40(a) (ia)

On the facts and in the circumstances of the case and in law, the learned AO erred in law and in fact, in disallowing the following expenses for non-deduction of taxes, without appreciating that no tax was deductible on the payments:

Training fees external (Training expenses)

Property maintenance, Office renovation, Repairs and maintenance equipment (Repairs and maintenance expenses)

Disallowance towards Repairs and maintenance others Office renovation and Repairs and maintenance others Office equipment expenditure

erred in disallowing the Repairs and maintenance others-office renovation expenditure of Rs 12803945 and Repairs & maintenance others office equipment expenditure of Rs 13,333,909 without appreciating the fact that the said expenses are already capitalized by the Appellant in the computation of total income and not claimed as a deduction;

Disallowance of employees contribution to superannuation fund

erred in disallowing the employees’ contribution to superannuation fund amounting to Rs.229,771, without appreciating the fact that the amount had been paid before the end of the financial year and hence allowable as per the express provisions of the Act;

Non granting of credit of tax deducted at source

erred in not granting credit of taxes deducted at source of Rs 19,599,292 while computing the tax liability for the year;

Interest under section 2348 and 234C of the Act

erred in levying interest under section 234B and 234C of the Act;

Initiation of penalty under section 271(1)(c) of the Act

erred in initiating penalty proceedings u/s 271 (1)(c) of the Act.”

Ground no. 1, raised in assessee’s appeal, is general in nature and need no separate adjudication, in view of our findings in this order.

Grounds no. 2 to 12, raised in assessee’s appeal, deals with transfer pricing adjustment made by the Transfer Pricing Officer („TPO‟) / Assessing Officer. During the course of hearing, learned Representatives appearing for both the parties submitted that all the other grounds pertaining to transfer pricing adjustment will be rendered infructuous, in view of decision rendered in respect of ground no. 11, raised in assessee’s Accordingly, we are dealing with ground no. 11, at the outset.

The issue arising in ground No. 11, raised in assessee’s appeal, is pertaining to selection of profit level indicator („PLI‟) for benchmarking the international transaction.

The brief facts of the case pertaining to this issue, as emanating from the record, are: The assessee is wholly owned subsidiary of Reuters , U.K. The Reuters group is a leading global provider of news, financial information, and technology solutions to the world’s media, financial institutions, businesses and individuals. Assessee distributes Reuters products within the territory of India. During the year under consideration, assessee provided IT Enabled Services to its associated enterprises. For the relevant assessment year, assessee filed its return of income on 29/11/2006 declaring total income of Rs. 30,00,10,917. For benchmarking the aforesaid international transaction, assessee adopted Transitional Net Margin Method as the most appropriate method with operating profit by total cost as the PLI. The assessee after considering itself as a tested party selected the comparables, and accordingly concluded that its international transaction is at arm’s length price. Pursuant to reference by the Assessing Officer, the TPO vide order dated 26/10/2009, passed under section 92CA(3) of the Act made adjustment of Rs. 10,58,96,504, to the aforesaid international transaction after inclusion/exclusion of certain comparables. The assessing filed detailed objections against the aforesaid transfer pricing adjustment made by the TPO on various aspects before the learned Dispute Resolution Panel („DRP‟). The assessing vide application dated 01/09/2010, raised additional/supplementary ground of objection on the issue that Profit before depreciation (PBDIT) be considered as the PLI for benchmarking the aforesaid international transaction. The DRP vide directions dated 24/09/2010 issued under section 144C(5) of the Act, inter-alia, rejected the additional ground of objection raised by the assessee and held that for benchmarking the transaction relating to rendering of ITeS to the associated enterprises, PBIT/Operating Cost is considered as PLI instead of PBDIT/Operating Cost. Being aggrieved, the assessee is inter-alia in appeal before us.

Observation of the court

We have considered the rival submissions and perused the material available on record. In the present case, assessee has non-STP units at Delhi, Mumbai and Calcutta, while its STP unit is in Bangalore. It is the plea of the assessee that expenses having allocated between the STP unit and non-STP unit on the respective cost centres of both the units. It is also the plea of the assessee that impugned expenditure is pertaining to places where assessee has no STP unit. We find that the lower authorities on the basis that the functions performed, services and products supplied by both the units are identical, allocated the impugned expenditure to STP unit, without considering whether such expenditure was in fact incurred in relation to the STP unit. The assessee has also filed an application dated 29/04/2014 seeking admission of additional evidence, inter-alia, in support of its claim. Thus, in view of the above, we deem it appropriate to remand this issue to the file of Assessing Officer for de novo adjudication after examination of all the details, including the details filed before us by way of additional evidence, in respect of impugned expenditures incurred by the assessee. We further direct that if upon examination it is found that the expenditure pertains to the places where assessee has no STP unit then said expenditure should be excluded while computing profit of STP unit. Further, the assessee shall be at liberty to file any other detail in support of its claim vis-à-vis the impugned expenditures before the Assessing Officer for necessary examination. As a result, ground no. 14 raised in assessee’s appeal is allowed for statistical purpose.

Ground no. 15 was not pressed during the course of hearing. Accordingly, the same is dismissed as not pressed.

The issue arising in ground no. 16, raised in assessee’s appeal, is pertaining to exclusion of communication expenses from both export turnover as well as the total turnover, while computing deduction under section 10A of the Act.

The brief facts of the case pertaining to this issue, as emanating from the record, are: The Assessing Officer excluded 50% of the communication expenditure from the export turnover, without excluding the similar proportion from the total turnover, while computing deduction under section 10A of the Act. Assessee’s objections on this issue were rejected by the learned DRP. Being aggrieved, assessee is in appeal before us.

We find that this issue is now decided in favour of the taxpayer by the Hon’ble Supreme Court in CIT vs HCL technologies Ltd, [2018] 404 ITR 719. Accordingly, respectfully following the aforesaid decision, we direct the Assessing Officer to exclude communication expenditure from the total turnover also to the extent it was excluded from the export turnover. Thus, ground no. 16 raised in assessee’s appeal is allowed.

Ground no. 17 was not pressed during the course of hearing. Accordingly, same is dismissed as not pressed.

The issue arising in ground no. 18, raised in assessee’s appeal, is pertaining to consideration of servers as ‘computers’ instead of plant and machinery for the non-STP unit.

The brief facts of the case pertaining to this issue, as emanating from the record, are: During the course of assessment proceedings, it was observed from the details of addition to fixed assets that many items, which are in nature of computers, such as servers, were treated as plant and machinery by the assessee for which depreciation is chargeable at 15%. The Assessing Officer observed that following such an approach in case of STP unit, profits are inflated to the extent depreciation was short claimed and therefore, depreciation on servers is chargeable at 60% by considering the same in the category of ‘computers’. During the assessment proceedings, assessee submitted that similar treatment is to be given to the servers shown in the non-STP unit also. The Assessing Officer denied the aforesaid claim of the assessee on the basis that no such servers have been added to the fixed assets of non-STP unit. The learned DRP vide directions issued under section 144C(5) of the Act, inter-alia, rejected the plea of the assessee in respect of non-STP units in absence of details, which shows that servers are added to non-STP units also. Being aggrieved, assessee is in appeal before us.

We have considered the rival submissions and perused the material available on record. It is the plea of the assessee that servers in non-STP units should be given similar treatment as was given in case of STP units and depreciation on the same should be charged at 60%. Details of addition to the fixed assets in case of non-STP units are forming part of the paper book from page No. 280 – 282. However, we find that the lower authorities denied the claim of the assessee on the basis that the relevant details were not submitted by the assessee. In view of the above, we deem it appropriate to remand this issue to the file of Assessing Officer for de novo adjudication after examination of all the details in respect of addition to fixed assets in non-STP units. We, further, direct that upon examination, if it is found that servers are forming part of the fixed assets in non-STP units then depreciation on same should be charged at 60% in parity with approach adopted in case of STP units. The assessee is also directed to submit all the details in support of its claim. As a result, ground no. 18 raised in assessee’s appeal is allowed for statistical

The issue arising in ground no. 19, raised in assessee’s appeal, is pertaining to computation of income of the STP unit. 29. During the course of hearing, learned AR submitted that the assessee in its return of income has disallowed a sum of Rs. 1,50,54,179 being capital expenditure debited to the profit and loss account. The learned AR further submitted that while computing deduction under section 10A of the Act, the Assessing Officer has not added back the same to the income of the STP unit resulting in reduction in the amount eligible for deduction under section 10A of the Act. The learned AR submitted that assessee has filed the rectification application under section 154 of the Act on 23/11/2010, inter-alia, on this issue, which is still pending.

On the other hand, learned DR did not bring anything on record contrary to the submission that rectification application under section 154 of the Act is still pending.

We have considered the rival submissions and perused the material available on record. Since, the issue is regarding the correct computation of deduction under section 10A of the Act and regarding same assessee’s rectification application under section 154 of the Act is still pending, therefore, we deem it appropriate to remand this issue to the file of Assessing Officer for necessary adjudication after consideration of all the Needless to mention that no order shall be passed without granting opportunity of hearing to the assessee. As a result, ground no. 19 raised in assessee’s appeal is allowed for statistical purpose.

The issue arising in grounds no. 20 and 21, raised in assessee’s appeal, is pertaining to disallowance of expenditure, inter-alia, in the nature of training, office renovation, office equipment and property maintenance under section 40(a)(ia) of the Act.

The brief facts of the case pertaining to this issue, as emanating from the record, are: The Assessing Officer, inter-alia, disallowed various expenditures incurred by the assessee under section 40(a)(ia) of the Act for non-deduction of tax at source while making the payment. The learned DRP, inter-alia, rejected the objections filed by the assessee. Being aggrieved, assessee is in appeal before us.

We have considered the rival submissions and perused the material available on record. In the present case, assessee had incurred certain training expenses for its employees to increase the efficiency of The assessee also incurred certain expenses, in nature of reimbursement of office expenses. As per the assessee, some of these expenditures have been capitalised for Income Tax purpose and debited to the profit and loss account. The assessee has also filed an application seeking admission of additional evidence, whereby the assessee has provided the sample copy of invoices in respect of these expenses as well as the details regarding the expenditure which has been capitalised and debited to the profit and loss account. Since, these details were not examined by the lower authorities, therefore, we considered it appropriate to remand this issue to the file of Assessing Officer for de novo adjudication, by way of speaking order, after examination of all details, including the details filed before us by way of additional evidence. We further direct that upon examination, if it is found that any expenditure has already been capitalised by the assessee then said expenditure should be excluded. Further, the assessee shall be at liberty to file any other detail in support of its claim. As a result, grounds no. 20 and 21 are allowed for statistical purpose.

The issue arising in ground no. 22, raised in assessee’s appeal, is pertaining to disallowance of employees’ contribution to superannuation 36. The brief facts of the case pertaining to this issue, as emanating from the record, are: During the assessment proceedings, it was observed that an amount of Rs.2,29,771, pertaining to employees’ contribution to superannuation fund was paid by the assessee after the due date. The Assessing Officer treated the amount, collected by the assessee towards employees’ contribution to superannuation fund and not paid within the prescribed due date, as income of the assessee in terms of section 2(24)(x) read with section 36(1)(va) of the Act. The learned DRP rejected the objections filed by the assessee on this issue.

We have considered the rival submissions and perused the material available on record. As per the assessee, employees’ contribution to superannuation fund was deposited on or before the due date of filing of return of income. However, the Revenue disallowed the claim of the assessee on the basis that said deposit was made after the due date prescribed in the relevant statute. We find that the Hon’ble Jurisdictional High Court in CIT v/s Ghatge Patil Transports Ltd.: [2014] 368 ITR 749 (Bom) held that both employee’s and employer’s contributions are covered under the amendment to section 43B of the Act, relying upon the decision of the Hon’ble Supreme Court in CIT v/s Alom Extrusions 319 ITR 306(SC), and therefore payment of employee’s contribution on or before the due date of filing of return of income is allowable. Thus, respectfully following the aforesaid judicial precedent, we direct the Assessing Officer to delete the disallowance made under section 2(24)(x) read with section 36(1)(va) of the Act. As a result, ground no. 22 raised in assessee’s appeal is allowed.

Ground no. 23 raised in assessee’s appeal is pertaining to grant of credit of tax deducted at source. We find that in respect of this issue also the assessee’s rectification application dated 23/11/2010 under section 154 of the Act is still pending. Therefore, we direct the Assessing Officer to grant the credit of tax deducted at source after necessary verification and as per law. Accordingly, ground no. 23 raised in assessee’s appeal is allowed for statistical purpose.

Ground no. 24 raised in assessee’s appeal is pertaining to levy of interest under section 234B and 234C of the Act, which is consequential in Thus, ground no. 24, is allowed for statistical purpose.

Ground no. 25 raised in assessee’s appeal is pertaining to initiation of penalty proceedings, which is premature in nature and therefore is dismissed.

In the result, appeal by the assessee is partly allowed for statistical purpose.

Order pronounced in the open Court on 05/08/2022