CASE LAWS

2017-TII-77-ITAT-HYD-TP

INVENSYS DEVELOPMENT CENTRE INDIA PVT LTD Vs DCIT: HYDERABAD ITAT (Dated: February 23, 2017)

Income Tax - Sections 92CA(4), 143(3), 144C & 234B

Keywords: quality assurance - support services - termination fee - operating income - inappropriate comparables & working capital adjustment

The assessee company is engaged in the business of providing software development, quality assurance and support services to its AE. AO observed that assessee, had received consideration for the services rendered by it. Therefore, AO observed that these international transactions fall within the ambit of TP provisions of section 92C. AO also observed that assessee had filed an audit report in Form No.3CEB containing details of transactions with its AEs, which were in excess of Rs.15.00 crores. AO therefore, referred the determination of ALP of the international transactions to TPO u/s 92CA. TPO initiated proceedings by issuance of notice u/s 92C. AO observed from 3CEB report that assessee had entered into international transactions with some of its group companies. Further, AO observed that assessee had shown a sum of Rs.3,31,14,045 as contract termination fees received from its AEs also as part of operating income. TPO however, held that contract termination fee was not part of operating revenue since it does not relate to software development activity. AO held that the said termination fee was not received by taxpayer in lieu of the provisions of software services by assessee but was received in lieu of termination of contract and consequential losses and therefore, it was in the nature of the non operating income and can only be listed as other income. AO therefore, excluded the same from the receipts from provisions of software services and thereafter proceeded to compute the ALP.

Having heard the matter, the Tribunal held that,

Whether contract termination fee paid for compensating an assessee towards expenses incurred on partial execution of contract can be treated as operating income - YES: ITAT

+ assessee has entered into a contract for rendering software development services to its group companies and one of the group company has terminated the contract and has paid the contract termination fee as per the agreement. The nature of the said contract termination fee is, in our opinion, operating revenue. On execution of a contract, the assessee is receiving the consideration on a cost plus margin basis. The contract termination fee is also being paid on similar lines but proportionately. It is only that the contract is being terminated prematurely. Had the contract been executed completely, the assessee would have received the full consideration at cost plus method for the entire period of the contract and it would form part of operating income. The contract termination fee is in effect compensating the assessee for the expenses incurred by it for executing the contract partially. Therefore, we are of the opinion that the contract termination fee also partakes the character of the contract receipt and is to be treated as operating revenue of the international transactions more particularly since the expenses incurred by the assessee on such contract has been taken as operating cost. In view of the same, we direct the AO/TPO to consider the contract termination fee also as a part of the operational income for computing the ALP of the international transactions;

L&T Infotech Ltd.

Whether it is open for an assessee to challenge later the comparability of a company selected by itself in its TP study - YES: ITAT

Whether a entity with less complications can be compared with an entity with no segmental details and bifurcation of its revenues from different sources is not possible- NO: ITAT

+ it is case of the Revenue that assessee has itself taken this company as a comparable and therefore, it cannot challenge the same before the higher authorities. We find that though the assessee has taken this company as comparable in its TP study, has challenged its comparability before the TPO itself. Further, in the case of Kenexa Systems, this Tribunal has held that it is open to the assessee to challenge the comparability of a company taken by itself as a comparable in its TP study. Therefore, we do not agree with the contentions of DR that the assessee having considered the same as comparable cannot challenge it before the authorities below. As regards its comparability to assessee, we find that the Coordinate Bench of this Tribunal in the case of M/s. Pegasystems Worldwide Pvt. Ltd and Others has considered its comparability and held that this company cannot be selected as comparable by the same reasons which DRP in the above referred case accepted. Moreover, there are no segmental details and as seen from the annual report, revenues are reported from software development services and products, how much is from services and how much is from products could not be analysed. Even though TPO considered the software exports reported in earning in foreign currency as that of software development services, we are not sure whether the software exports reported therein exclusively pertain to services or products. As there are no segmental details, it is very difficult to analyse whether the incomes earned by the said company do really pertain to the similar services rendered by Assessee. As also seen from the income schedules, engineering services reported in earlier year were not there in this year, therefore, it is very difficult to analyse whether the company is functionally similar or not? Keeping in view of the above difficulties in analyzing the data and considering the reasons given by DRP in the case of M/s. Sumtotal Systems India Pvt. Ltd., we are of the opinion that L&T Infotech Ltd., cannot be selected as a comparable company. As the order of the DRP is in consonance with the order of Tribunal, we do not see any reason to adjudicate the same. In the result, Revenue's appeal is dismissed. In the result, assessee's appeal is partly allowed and the Revenue's appeal and Cross Objection of the assessee are dismissed.

Assessee's appeal partly allowed

2017-TII-76-ITAT-MUM-TP

VIDEOCON INDUSTRIES LTD Vs DCIT: MUMBAI ITAT (Dated:Dated: February 24, 2017 )

Income Tax - Sections 10(34), 14A, 92B, 115JB, 143(3), 144C, 271(1)(c) & Rule 8D

Keywords: Guarantee Commission - Fee for Letter of Undertaking - interest - advance tax - penalty - dividend - secured term loan & bogus purchases

The assessee company is engaged in the business of manufacturing and trading of consumer electronics and home appliances, exploration crude oil and gas, investment in shares, securities and properties, lease and finance and other incidental activities. It had given guarantee/letter of undertaking for credit facilities availed by its AEs and recovered guarantee commission from its AE. Out of the total amount of guarantee commission recovered of Rs.12,13,13,750/-, assessee pointed out that the guarantee commission income charged by assessee covers the period beyond 31.03.11 and therefore, the guarantee commission was allocated on time proposition basis. The sum of Rs.4,54,10,531/- was guarantee commission relatable to AY 2011-12 and the balance amount of Rs.7,59,03,219/- was the guarantee commission relatable to AY 2012-13. The assessee had, thus, disclosed the guarantee commission of Rs.0.25%. TPO, issued a show cause notice to the assessee as to why TP adjustment in respect of guarantee commission should not be done at the rate of 3% and also why the same rate should not be charged in case of letter of undertaking given by Videocon Industry Ltd. to Standard Chartered Bank in respect of secured term loan facility to Videocon Hydrocarbon Holdings Ltd. Thus, the TPO made various adjustments, which were also confirmed by DRP.

Disallowance u/s 14A r.w.r 8D

Assessee had earned dividend income of Rs.49,14,724/- from various investments made. AO noted that though assessee had earned exempt income in the form of dividend, however it had not claimed such income as exempt from tax and had been shown as miscellaneous income. Despite the fact that no exempt income had been claimed, AO issued show cause notice as to why the dividend income should not be considered as exempt and expenditure attributable for earning of such exempt income should not be computed in accordance with section 14A read with rule 8D. AO rejected the assessee's contention and held that, since assessee itself has not claimed dividend income as exempt and had included as part of miscellaneous income, therefore, it will not be treated as exempt. He was of the opinion that, since assessee had made investments, therefore, disallowance u/s 14A r.w. rule 8D had to be made. Further assessee had led no evidence before him to show that own funds have been utilized for purchase of shares. AO after referring to decision of Bombay HC in the case of Godrej & Boycee Manufacturing Co. reported in 328 ITR 81 worked out the disallowance from which he reduced the amount of dividend income shown by assessee under the head miscellaneous income and net addition was made and similar disallowance was made to the computation of book profit/s. 115JB. This disallowance had been confirmed by the DRP also.

Additions on account of purchases from certain dealers

An information was received to AO from the Asst. DIT (Inv.) allegedly indicating that certain concerns from whom purchases had been shown did not actually sell material but only issued bills, that was providing accommodation entries. AO observed that during enquiries conducted by the ADIT (Inv), in the case of M/s. Jagdish Trading Co. and M/s. Mahalaxmi Distributors, it was gathered that these two entities and certain other entities based at Sangli were instrumental in providing accommodation entries to various business houses / industries /small businessmen spread all across Maharashtra. The issue of transaction with these dealers had also come under consideration in AYs 2009-10 and 2010-11 in assessee's own case which was based on survey action u/s. 133A conducted wherein it was reported about modus operandi of the hawala dealers. AO had concluded that Shri Suresh A. Parekh had received cheques/RTGS from the corporate houses in the respective bank account maintained in names of various entities and after receipt of RTGS/clearance of cheque, cash was withdrawn and handed over to the respective corporate houses after deducting their commission. During assessment, assessee was asked to provide complete details of transaction with the above mentioned parties and fitment in the books of account was also asked to reconcile. Further, assessee was also show caused as to why purchases made from these hawala dealers should not be treated as bogus and added to the total income. In response, the assessee submitted full item wise details of purchases, details of utilization of these purchases, treatment or these purchases in the books or account, confirmation. AO did not accepted the submissions and held that the argument of assessee that it had received material from the aforesaid parties was not acceptable on the basis of the investigation carried out by the Sales Tax Department.

Having heard the matter, the Tribunal held that,

Whether for the purpose of giving corporate guarantee commission on loans to foreign AE, internal CUP can be used by applying country risk, currency risk and entity risk on the normal rate of commission charged - YES: ITAT

+ in support of charging of 0.25%, the assessee, first of all, contended that loans for which the assessee has given guarantee are primarily covered by pledged securities, hypothecation of debtors' balances and other assets of the AE, therefore, it cannot be said that the entire security of the loan was based on corporate guarantee given by the assessee. The details of loans vis-à-vis the security thereof had already been reproduced. It has also been brought on record that Bank of India has charged bank guarantee commission to assessee by giving 50% concession on the rate of 1.75% which works out to approximately 0.875%. If various factors and risk involved are evaluated which is quite normal under the foreign guarantee like, country risk, currency risk and entity risk etc., then charging of corporate guarantee commission would fall down below 0.5%. Thus, this constitutes a kind of internal CUP available to the assessee to benchmark the transaction of giving corporate guarantee/letter of undertaking. Moreover, there are catena of decisions wherein this Tribunal has held that corporate guarantee commission around 0.50% can be accepted as ALP. Accordingly, we hold that the corporate guarantee commission fee which is to be recovered from AE should be 0.50% which would meet the arms length requirement. Thus, under the facts and circumstances of the case, we direct the TPO/AO to take the corporate guarantee fee @ 0.50% and make the adjustment accordingly. Thus, the issue of corporate guarantee is treated as partly allowed. As stated above, we are not deciding the issue, whether the transaction of corporate guarantee is an 'International Transaction' or not because counsel for the assessee had only harped upon the issue on merits and hence the various contentions raised by the CIT DR are left open;

Disallowance u/s 14A r.w.r 8D

Whether in case Revenue itself has treated exempt income as part of the total income which has been held to be taxable, disallowance of expenditure u/s 14A can still be triggered - NO: ITAT

Whether in case assessee has surplus funds in the form of reserves & surplus or share capital, it has to be presumed that investment has been made from the same - YES: ITAT

++ if assessee has not claimed any exempt income or has made it part of total income liable for tax, then provisions of sec 14A does not get triggered. This basic postulate is not satisfied in the present case, because neither the assessee has claimed it as exempt income nor AO has allowed any exempt income which was in the form of dividend income of Rs.49,14,724/-. Once the revenue itself has treated the exempt income as part of the total income which has been held to be taxable, then the disallowance of expenditure under sec. 14A does not gets triggered, especially in light of the judgments of various HCs. Even if we ignore this proposition completely, on merits also, as pointed by AR here in this case no disallowance of interest expenditure u/r 8D(2)(ii) can be made because, assessee had huge surplus funds in the form of 'reserves & surplus' and 'share capital' as compared to investment made by assessee. The ratio and the principle laid down by Bombay HC in the case of Reliance Utilities Ltd., and HDFC Bank, are clearly applicable, wherein their Lordships have reiterated several times that if the assessee has surplus funds in the form of reserves & surplus or share capital, then presumption is that investment would have been made from surplus funds/interest free funds and not from the borrowed funds. Accordingly, we direct AO to delete the disallowance of interest expenditure as worked out under rule 8D (2)(ii);

Additions on account of purchases from certain dealers

Whether in case the factum of material consumed in the manufacturing or inventory is not disputed, then no addition of purchases can be made even if the material have been purchased through the hawala operator - YES: ITAT

++ unlike in the other cases of bogus purchases the assessee's trading account is not affected directly because the material purchased have been utilised for addition to the plant and machinery and has been charged to capital WIP account and only a part of it has been shown as inventory in the Balance Sheet and raw material consumables which has been charged to the P&L Account. There is no direct impact of suppression of profit, at least on the amount which has been charged to capital WIP account or addition made to plant and machinery. Thus, it has been held that entire purchase cannot be disallowed by the department solely on the basis of first statement of Shri Suresh A. Parekh. As regards the submission and contention of CIT, DR that there is lack of documentation in respect of purchases made from the hawala operators because supply of goods could not be proved, in this regard, one has to see the other attended facts and circumstances also which are that, the purchase of materials are backed by firstly, entry in the gate pass at factory premises; and secondly, entry in the books of account and manufacturing account showing item wise material purchase, material consumed, addition in the plant and machinery, inventory of parts etc. Once the factum of material consumed in the manufacturing or inventory is not disputed then no addition of purchases can be made even if the material have been purchased through the hawala operator. The crucial point to see here is that, the source of purchases have gone through books of account and in lieu of payments made material has been purchased which are proven from item wise inventory prepared and entered in the books of account and is reflected from material consumed in manufacturing or credited to capital WIP, etc., (which stands unrebutted or undisputed), then no adverse inference qua the purchases can be made, because instead of registered dealers assessee has made purchase from grey market. In the result assessee's appeal is partly allowed.

Assessee's appeal partly allowed