TII Instant Update - 2018-TII-INSTANT-ALL-549

CASE LAWS

2018-TII-21-HC-MUM-INTL

DELTA AIR LINES INC Vs ADIT: BOMBAY HIGH COURT (Dated: March 27, 2018)

Income tax - Income tax - Sections 143(3), 144C(13) & 234B - India-USA DTAA - Article 8.

Keywords - business income - booking of tickets - code sharing arrangement - global profitability rate - intermediary destinations - pooling - space charter arrangement & third party carriers

The Assessee company had preferred appeal challenging the order of the Tribunal, whereby it had held that when a code sharing arrangement with the third party in which the assessee's contribution was only about booking tickets for its customers, it could not be said to be a space charter arrangement, so as to avail benefit under Article 8 of Indo US DTAA. In essence, it challenged the action of ITAT in holding that 'profit derived from operation of ship or aircraft in international traffic' by the assessee as 'owner/lessor/charterer', was a condition precedent for claiming exemption under Article 8 of the DTAA. The ITAT in its impugned order further held that a code sharing agreement with a third party would not qualify for benefit under Article 8, where the role of assessee in respect of bookings so made under code sharing agreement was essentially in the nature of booking agent and not as a charterer.

Having heard the parties, the High Court admits the substantial question as to whether a code sharing agreement with a third party will qualify for benefit under Article 8 or not, where the role of assessee in respect of bookings so made under code sharing agreement was essentially in the nature of booking agent and not as a charterer.

Case deferred

2018-TII-166-ITAT-DEL-TP

UNITED HEALTH GROUP INFORMATION SERVICES PVT LTD Vs DCIT: ITAT DELHI (Dated: February 9, 2018)

Income Tax - Section 92CA.

Keywords - BPO service provider - Captive service provider - ITES segment - Insurance claim - KPO service provider - Software development - Safe Harbour Rule - Sales of licence - Translation business & Working capital adjustment.

The Assessee-company, engaged in providing captive service to its AE to provide software development and ITES services, had filed its return for the relevant AY. In the course of the assessment proceeding, the AO noted that the Assessee had entered into international transactions with its AEs and accordingly, the matter was referred to the TPO. During TP proceeding, TPO noticed that the Assessee had two segments namely, Information Technology Enabled Services (ITES) and Software Development services. The Assessee, in its TP study used TNMM as MAM for both the segments and computed its margin at 13.83% and 13.23% in ITES and Software Development services respectively. However, after examining the TP study, the TPO made its own TP analysis by selecting 8 comparables for ITES segment and 18 comparables in software development segment and calculated their margin at 34.29% and 28.88% respectively and computed the cumulative adjustment in both the segments.

On appeal, the DRP, gave partial relief to the Assessee by excluding Bodhtree Consulting, CAT Technologies and Aricent Technologies from the final set of comparables qua software development services and by excluding Coral Hub qua ITES segment for benchmarking the international transaction.

On appeal, the Tribunal held that,

SOFTWARE DEVELOPMENT SEGMENT:

Whether a giant company having huge profit and high risk taking capacity can be compared with a captive service provider for benchmarking its international transactions - NO: ITAT

Whether an entity whose substantial revenue is from sales of licence and software services can be a good comparable for assessee company - NO: ITAT

Whether when TPO has not disputed the functional profile of an entity, the same has also not failed in other filters and hence can be included in the final set of comparables for benchmarking assessee's international transaction - YES: ITAT

+ the counsel for Assessee has sought exclusion of five comparables, viz., Infosys Technologies Ltd., Persistent Systems Ltd., Tata Consultancy Services Ltd. (Consolidated), Thirdware Solutions Ltd. & Wipro Ltd. for benchmarking the international transactions qua software development and also sought inclusion of Quintegra Solutions Ltd. qua software development. Further, the Counsel for the Assessee alsoo sought exclusion of Accentia Technologies Ltd., Cosmic Global Ltd. & eClerx Services and sought inclusion of Microland Ltd., R Systems & CG Vak Software & Exports Ltd. for benchmarking the international transactions qua ITES segment. A perusal of the director's report shows that Infosys is a giant company having gross profit of Rs.9119 crores. Infosys has been ordered to be excluded as a comparable by the Delhi High Court in the case of Agnity India Technologies Pvt. Ltd. being a giant company having huge intangibles and incurring substantive amount on R&D and is a full-fledged risk taking company. More so, Infosys was ordered to be excluded in Assessee's own case for AY 2008-09. In these circumstances, Infosys is not a suitable comparable vis-à-vis the taxpayer for benchmarking the international transactions, hence this Tribunal order to exclude it;

+ the Annual report of the Tata, goes to prove that Tata is into providing diversified operations viz. IT Infrastructure Services, BPO, ITES, Engineering and Industrial services. It is into sale of equipment and software licence with wide client base and has been conferred with numerous awards or recognition. It is also having income from IT and consultancy services, sale of equipment and software licence but having no segmental data. The comparability of Tata has been examined by the coordinate Bench of the Tribunal in the case of St-Ericsson India (P.) Ltd. wherein it was ordered to be excluded as a comparable vis-à-vis ST-Ericsson India (P.) Ltd., a captive software development provider by relying upon Sony Mobile Communications International AB's case for AY 2009-10, wherein it was ordered to be excluded on account of acquisition and merger having total income of Rs. 21535.75 crores and payment of sale of equipment and software licence at Rs.668.25 crores. Tata has also expended Rs.42.31 crores on its R&D and a highly risk bearing company and as such, cannot be a suitable comparable vis-à-vis taxpayer which is a captive software provider being remunerated on cost plus mark up basis for rendering services to its AE. So, order to exclude Tata from the final set of comparables;

+ the co-ordinate bench of the Tribunal in case of St. Ericsson India (P.) Ltd. while examining the comparability of Thirdware ordered to exclude Thirdware as a comparable vis-à-vis St. Ericsson from a routine captive software development provider working on cost plus basis on the ground that the substantial revenue of this company is from sales and operating sales of licence, software services, export form SEZ unit, export from STPI unit and revenue from subscription. So, in these circumstances, this Tribunal is of the considered view that let the TPO examined the comparability of the Thirdware in the light of the decision of the coordinate Bench of the Tribunal in St. Ericsson India (P.) Ltd. as well as SunLife India Services Centre Pvt. Ltd. While examining the annual report of Wipro, this Tribunal noted that Wipro is having huge intangibles to the tune of Rs.28213 million. So keeping in view the functions, assets and risk profile of Wipro and which is a fully risk bearing company, this Tribunal is of the considered view that it is not a suitable comparable vis-à-vis the taxpayer which is a routine captive software development service provider working on cost plus mark up model of business. Applying the ratio of the decision rendered by High Court in the case of Agnity India Technologies Pvt. Ltd., this Tribunal is of the considered view that Wipro being a giant company in the area of development of software assuming full-fledged risk leading to higher profit, having huge intangibles and R&D activities is not a suitable comparable to the taxpayer being a captive software development service provider working on cost plus basis having no R&D activities and is a risk insulated company. So, order to exclude Wipro from the final set of comparables;

+ primarily, the TPO has rejected Quintegra as a comparable on the ground that this company fails the export filter of 75%. The TPO applied export filter of 75% of the total income to select a company as comparable. However, the Assessee has raised objection before the DRP that Quintegra passes the export filter but the DRP has not dealt with this issue. Perusal of the annual report of Quintegra shows that Quintegra’s export revenue is 95.06% and as such, passes the Assessee's export earning filter applied by the TPO. So, the TPO is directed to consider the Quintegra accordingly when he has not disputed the functional profile of Quintegra and it has also not failed in other filters applied by the TPO;

ITES SEGMENT:

Whether a KPO service provider can be considered as a comparable for benchmarking international transactions entered into by an entity rendering voice call services - NO: ITAT

Whether an entity engaged into translation business can be a good comparable for a company who is providing insurance claim processing services to its AE under ITES segment - NO: ITAT

Whether forex gain or loss can be treated as non-operating items while benchmarking the international transactions of the assessee-company as well as comparables - NO: ITAT

Whether a working capital adjustment is required to be effected for bringing the comparables and the assessee at the same pedestal - YES: ITAT

+ the TPO has selected eight comparables having average mean of 34.29% however, the Assessee had sought for exclusion of Accenture Technologies Ltd., Cosmic Global Ltd. & Eclerx Services Ltd. The taxpayer has also sought inclusion of Microland Ltd., R Systems & CG Vak Software & Exports Ltd. The Annual report of the Accenture, shows that Accenture is into the diversifying activities viz. Knowledge Process Outsourcing (KPO), Legal Process Outsourcing (LPO), Data Process Outsourcing, high end software services, whereas the Assessee is a routine software ITES service provider working on cost plus mark up and fully risk insulated company. Furthermore, Accenture has undergone extra ordinary event during the relevant AY as it has acquired M/s. Oak Technologies Inc. with consideration of US $ 9 million excluding during the cost of acquisition and as on 31.03.2009, completed purchase of 96% of the outstanding equity shares of M/s. Oak Technologies Inc. which has certainly impacted the profitability of the taxpayer which is routine service provider. In view of the decision rendered by Delhi High Court in the case of Rampgreen Solutions Pvt. Ltd., KPO cannot be compared with routine BPO. Accenture has also been ordered to be excluded by the coordinate Bench of the Tribunal in Assessee's own case for AY 2010-11 in ITA No.1038/Del/2015. Consequently, this Tribunal order to exclude Accenture from the final set of comparables for benchmarking the international transactions;

+ bare perusal of the balance sheet and profit & loss account of Cosmic, shows that financial results are available only on entity level. When this Tribunal examined the P&L account showing revenue from operation, it is clear that income from medical transcription and consultancy which is akin to taxpayer is only Rs.9,90,737/- whereas the major chunk of the business are from translation charges i.e. Rs.6,99,35,756/- and income from BPO is Rs.27,76,090/-. Moreover, perusal of the P&L account further shows that the Assessee has outsourced 56% of its activities and its outsourcing expenses are 56% of its revenue which makes its business model different from the Assessee. So, this Tribunal concludes that Cosmic is into translation business which is not comparable to the Assessee which is providing insurance claim processing services to its AE under ITES segment;

+ the E-Clerx is Knowledge Process Outsourcing (KPO) providing data analytics and data process solutions to global enterprise clients, providing end to end support through trade lifecycle including trade confirmation, settlements, transaction, maintenance, risk analytic and reporting over the last year and also providing unique blend of services, process reengineering and automation. Furthermore, it is having no segmental details rather company operates under single primary segment i.e. data analytics and process outsourcing services. However, this Tribunal is of the considered view that E-Clerx is into providing data analytics and customized process solution to diversifying global clients and is also providing services to banking, manufacturing, retail, travel and hospitality verticals. So, its functional profile is not matched with taxpayer particularly when segmental detail is not available. E-Clerx has been excluded as a comparable in Assessee's own case for AY 2008-09 by the coordinate Bench of the Tribunal and since then there is no change in the business profile of the Assessee. E-Clerx was also ordered to be excluded as a comparable in Macquaire Global Services Pvt. Ltd. which was also into providing ITES services to its AE on the ground that E-Clerx is a KPO and is providing end to end support through trade life-cycle including trade confirmation including settlement and cannot be compared with Macquaire Global Services Pvt. Ltd. which is also a captive unit rendering services to its AE without any intangibles;

+ undisputedly, the Revenue has not treated foreign exchange gain/loss as non-operating item while operating arm’s length price of international transaction of the taxpayer in AYs 2008-09 and 2010-11. The coordinate Bench of the Tribunal decided the identical issue in case of Westfalia Separator India Pvt. Ltd.wherein, it was held that "....The forex gain/loss is the difference between the price at which an import or export transaction was recorded in the books of account on the basis of rate of foreign exchange then prevailing and the amount actually paid or received at the rate of foreign exchange prevailing at the time of actual payment or receipt. Since such forex loss or gain is a direct outcome of the purchase or sale transaction, it partakes of the same character as that of the transaction to which it relates...." So, this Tribunal is of the considered view that foreign exchange gain/loss cannot be treated as non-operating items while calculating the margin of the Assessee as well as comparables;

+ the AO/TPO/DRP have not made appropriate adjustment on account of working capital differences between the Assessee vis-à-vis comparable companies, which are under challenge before the Tribunal. The DRP denied appropriate adjustment on account of difference in working capital employed on the ground that the onus is on the Assessee to demonstrate the reason and calculation of working capital adjustment and the TPO has rightly denied the same to the Assessee. An identical issue has come up before the coordinate Bench of the Tribunal in Assessee's own case for AY 2008-09 wherein it was held that "....the working capital adjustment is required with reference to stock, trade receivable and trade payables. By carrying the high trade receivables, a company allows its customers a relatively longer period to pay their accounts, which results into higher interest cost and lower profit. By carrying high trade payables, a company benefits from a relatively longer period available to it for paying back its suppliers, which results into its lower interest cost and higher profit. Similarly, high stock means blockage of funds and the resultant lower profit. These three ingredients directly impact the working capital and resultant profit of comparables vis-à-vis the Assessee...." Therefore, following the decision rendered by the coordinate Bench, the Assessee is declared as entitled for working capital adjustment to be on the same page with the comparables.

Case Remanded