Transfer pricing adjustment is not one of the adjustments contemplated under Explanation 1 Section 115JB(2)
Case Law Citation: -M/s. Cash Edge India (Pvt.) Ltd., vs. ITO, (ITAT DELHI), ITA No. 64/Del/2015, Date of Decision: 23.09.2015
Brief of the case:
In the case of M/s. Cash Edge India (Pvt.) Ltd., vs. ITO Delhi Bench of ITAT have held that transfer pricing adjustment is not one of the adjustments contemplated under Explanation 1 Section 115JB(2) of the Act and, therefore, could not have been added back to the book profits under Section 115JB. It is settled law that except for adjustments provided in Explanation 1 Section 115JB(2) of the Act, no other adjustment can be made to book profits under Section 115JB of the Act.
Facts of the case:
Assessee rendered software development and business support services to its AE viz. CashEdge Inc., USA. For this it was compensated based on the terms of the Professional Services Agreement dated 31.12.2003 entered between both the entities on cost plus basis.
Assessee has entered into international transaction in term of Rendering software development services of Rs. 13,10,68,578/-. ALP is determined by applying transactional net margin method (TNMM), which is stated to be the most appropriate method in the facts and circumstances of the case.
The operating profit to total cost (OP/TC) ratio is taken as the profit level indicator (PLI) in the TNMM analysis. The PLI of the assessee is arrived at 11.16% on cost; whereas the average PLI of the comparables is arrived at 6.90% as per the analysis in the TP document. PLI was directed on the basis of 14 comparables selected by assessee.
The mean margin of the comparables selected by the assessee as stated above was 11.91% and since the profit margin of the assessee was within +/- 5% range of the mean margin of the comparables, no transfer pricing adjustment was offered in the return of income.
The TPO rejected the transfer pricing study of the assessee and substituted a fresh process and modified the filters and comparable selected by the assessee.
TPO selected a list of 10 comparables and proposed an adjustment of Rs.1,47,63,279/- by computing the mean Profit Level Indicator (PLI) of the comparable companies at 23.68% as against PLI of 11.16% of the assessee.
The final assessment was completed u/s 143(3) r.w.s. 144C assessing the total income of the assessee at Rs.1,18,99,030/- under normal provisions of the Act and Rs.2,56,61,736/- under MAT after making a transfer pricing addition of Rs.1,18,93,468/-.
(c) Addition of transfer pricing adjustment to income assessed under Section 115JB (MAT).
Held by DRP:
♠ DRP upheld the adjustment made by the TPO, subject to –
a. exclusion of two comparables,
b. the claim of working capital adjustment as per the OECD Methodology,
c. furnishing the annual report of Wipro Technology Services Ltd. to the assessee and
d. directed to re-compute the operating margin of the assessee as well as comparable companies as per the guidelines provided by Safe Harbor Notification dated 18.09.2013.
Contention of the assessee:
♣ All the contentions and issue raised are confined to three main issues:
(a) Exclusion of the following comparables from the list which was finally selected by the DRP:
i. Persistent Systems Ltd.
ii. Wipro Technology Services Ltd.
iii. Zylog Systems Ltd.
(b) treatment of foreign exchange fluctuation gain/loss as operating item; and
(c) furnishing the annual report of Wipro Technology Services Ltd. to the assessee and
(d) directed to re-compute the operating margin of the assessee as well as comparable companies as per the guidelines provided by Safe Harbor Notification dated 18.09.2013.
Comparabilities of the companies:
Persistent Systems Ltd.
This company is not only engaged in the business of software development services but also manufacture and sale of software products and owns significant intangibles and that segmental data for services and products is not available.
Assessee contended that Persistent Systems Ltd. is functionally different from the assessee as the company is into software development services as well as software products unlike the assessee who is a captive service provider.
It is also argued that on the same principle this company has been deleted in the case of group company of the assessee, viz. Fiserv India Pvt. Ltd. in ITA No.6737/Del/2014 vide Order dated 26.06.2015.
No segmental details are available in the annual report. It can be thus derived that the prices may have been influenced.
Revenue contended that the assessee also assists its parent company in development of products ultimately sold by the parent company and, therefore, the business of the assessee is similar to the business of Persistent Systems.
In the view of judgment rendered in Fiserv India Pvt. Ltd. (Supra) the impugned company has been deleted and Fiserv India in also engaged in the business of software development services.
Hence it is liable to be deleted here also as unlike assessee it also manufacture and sale of software products.
ZYLOG SYSTEMS LTD. (ZYLOG)
Assessee contended that Zylog is not only engaged in software services but also software and hardware products and the revenue of the company is also derived from licensing of software products.
Assessee had included Zylog Systems (India) Ltd. in its list of comparables which was substituted with Zylog by the TPO.
DRP was not correct in holding that the assessee had himself selected Zylog. ITAT find from a perusal of the annual report that Zylog is not only engaged in software services but also software products and the revenue of the company is also derived from licensing of software products.
WIPRO TECHNOLOGY SERVICES (WTS)
Assessee contended that WTS should be excluded from the list of comparable since complete annual report of the company is not available in public domain and fails the filters applied by the TPO himself.
ITAT excluded the said company in absence of sufficient information.
FOREIGN EXCHANGE GAIN/LOSS
Assessee contended that the foreign exchange gain/loss cannot be excluded for the purpose of calculation of the margin and in support, he relied upon the Order dated 26.06.015 passed in ITA NO.6737/Del/2015 in the case of assessee’s group company viz., Fiserv India Pvt. Ltd.
This issue stands concluded in the light of decision Coordinate Bench in the case of Westfalia Separator India Pvt. Ltd. vs. ACIT for AY 2003-04 wherein it has been held that that foreign exchange gain/loss should be treated as non-operating item is based on the notification of CBDT issued on 18.9.2018 on safe harbour.
As the business of ‘Assembly’ done by the assessee under this segment is not possible without purchases and forex gain is in relation to such purchase transactions, there is no hesitation in holding that it is an item of operating cost.
Hence, AO/TPO was directed to treat the foreign exchange gain/loss as an operating item.
ADDITION OF TRANSFER PRICING ADJUSTMENT TO MAT
AO has added the transfer pricing adjustment of Rs.1,18,93,468/- to the book profits of the Assessee under Section 115JB of the Act without appreciating that book profits of the company cannot be adjusted except as provided in Explanation 1 Section 115JB(2).
It is settled law that except for adjustments provided in Explanation 1 Section 115JB(2) of the Act, no other adjustment can be made to book profits under Section 115JB of the Act.
ITAT held that transfer pricing adjustment is not one of the adjustments contemplated under Explanation 1 Section 115JB(2) of the Act and, therefore, could not have been added back to the book profits under Section 115JB.
AO erred in adding back the transfer pricing adjustment of the book profits under Section 115JB of the Act.