Microsoft Corporation India Pvt. Ltd., ... vs Assessee

This appeal by the assessee emanates from the final assessment order

passed by the Assessing Officer (AO) u/s 143(3) read with section 144C of

the Income-tax Act, 1961 (hereinafter also called 'the Act') on 24.10.2011

in relation to the assessment year 2007-08.

ITA No.5766/Del/2011

2. The first effective issue raised in this appeal is against the

disallowance of depreciation on ITG Networking equipments by

Rs.1,20,89,521 by reducing the rate of depreciation from 60% claimed by

the assessee to 25%.

3. We have heard the rival submissions and perused the relevant

material on record. It is noticed that similar issue came up for

consideration before the Tribunal in the assessee's own case for the

immediately preceding assessment year, i.e., 2006-07. Vide its order dated

18.12.2014 in ITA No.5855/Del/2010, the Tribunal has accepted the

applicability of higher rate of depreciation by relying on the Special Bench

order passed in the case DCIT vs. Data Craft India Ltd. (2010) 133 TTJ

(Mum) (SB) 377. The Hon'ble Delhi High Court in the case CIT vs. BSES

Yamuna Powers Ltd. 2010-TIOL-636-HC-DEL-IT has approved similar

view by holding that depreciation on computer peripherals should be

allowed at 60% instead of the regular rate of depreciation applicable to

machinery. No distinguishing feature was pointed out by the ld. DR in the

facts of the instant year vis-à-vis the preceding year. In view of the

aforediscussed legal position, we decide this issue in favor of the assessee. 2 ITA No.5766/Del/2011

4. The next issue is against the disallowance of depreciation on

company owned vehicles amounting to Rs.1,85,45,102/-.

5. After considering the rival submissions and perusing the relevant

material on record, we find it as an undisputed fact that the company

provided vehicles to its employees for their use for which the purchase

price was paid by the company to the extent it did not exceed the fixed

benchmark. The major reason given by the AO for disallowing

depreciation is the personal use of vehicles by the employees of the

company. The Delhi Bench of the Tribunal in DCIT vs. Haryana Oxygen

Ltd. (2001) 76 ITD 32 (Del) has held that the use of cars by directors-

employees of a company cannot be characterized as user for non-business

purpose and, hence, no part of such car expenses can be disallowed. The

Hon'ble Gujarat High Court in Sayaji Iron and Engineering Company vs.

CIT (2002) 253 ITR 749 (Guj) has held that once the directors of the

assessee company are entitled to use the vehicles of the company for

personal use as per the terms and conditions of their appointment, it cannot

be said that there was a personal use of cars. The Hon'ble High Court

further held that such user of vehicles by the employees of the company 3 ITA No.5766/Del/2011

cannot even be considered as 'non-business user". There are innumerable

judgments on this point holding that there can be no disallowance of

depreciation or other expenses on maintenance of the vehicles used by the

directors/employees by treating it as personal user or non-business user of

the company. We fail to see any rationale in treating the amount of

depreciation on cars as for personal use, when admittedly these have been

provided to employees. A company is a separate legal entity distinct from

its directors or employees. As such, there can be no question of treating the

use of vehicles by the directors/employees as a personal use by the

company. Similar issue has also been decided by the Tribunal in the

assessee's own case for the preceding year in its favour. The relevant

discussion has been made in paras 5 and 6 of the Tribunal order. We,

therefore, order for the deletion of disallowance of depreciation on such

vehicles.

6. The next issue is the disallowance of Rs.1,28,88,973/- towards

running and maintenance expenses of the vehicles used by the employees

of the assessee company. The AO, following the direction of the Dispute

4 ITA No.5766/Del/2011

Resolution Panel (DRP), held that 50% of running and maintenance

expenses of the vehicles were to be disallowed for non-business purpose.

7. After considering the rival submissions and perusing the relevant

material on record, we find that this issue is squarely covered by the above

referred judgment of the Hon'ble Gujarat High Court and the Tribunal

order passed by the Delhi Bench. The analogy which applies for not

making any disallowance on account of depreciation for personal or non-

business use, equally applies for not making any disallowance on account

of running and maintenance expenses of the vehicles used by the

employees of the company. Similar view has been taken by the tribunal in

assessee's own case for the preceding year. Following the same, we, order

for the deletion of the addition.

8. Ground No. 7 is against not following the direction of the DRP about

charging of interest u/s 234A.

9. Having heard both the sides and perused the relevant material on

record, we find that the DRP dealt with the issue of charging of interest u/s

234A in para 3.14 of its direction and made the following observations:-

5 ITA No.5766/Del/2011

"The CBDT had in order u/s 119 issued in file number 225/13/2007 in LTA-II (pt) had extended the last date for filing the return to 15.11.2007 and assessee filed it on 13.11.2007. The AO is directed to verify the facts and take action as per facts as record and as per law."

10. It is an admitted position that the AO passed the final order without

complying with the above direction given by the DRP in the context of

charging interest u/s 234A. Under such circumstances, we set aside the

assessment order on this issue and direct the AO to comply with the

direction given by the DRP. Needless to say, the assessee will be allowed

a reasonable opportunity of hearing in this regard.

11. The next issue agitated in this appeal is against the addition

amounting to Rs.43,28,67,761/- made by the AO on account of transfer

pricing adjustment.

12. Briefly stated, the facts of the case are that the assessee was

incorporated as a private company in India in July, 1988. It was converted

into a wholly owned subsidiary of MS Corp in January, 1996. The

assessee is engaged in providing services in supporting development of

client server applications to assist customers in the successful development 6 ITA No.5766/Del/2011

of Microsoft Technology, both directly and through service providers and

providing training through various training centres to assist customers in

the operation of Microsoft licensed software. The assessee reported five

international transactions in Form No. 3CEB which include 'Provision of

marketing support services' with the transacted value of

Rs.549,96,89,240/-. Apart from that, the assessee also reported

international transaction of 'Provision of product support services' and

'Provision of Microsoft Consulting Solutions Services', etc. The assessee

adopted the Transactional Net Margin Method (TNMM) as the most

appropriate method for benchmarking its international transactions. The

entire controversy in the present appeal rotates around the determination

of the arm's length price of the international transaction of 'Provision of

marketing support services.' With the help of certain comparables chosen,

the assessee tried to demonstrate that this international transaction was at

arm's length price (ALP). For proving this, the assessee adopted Profit

level indicator (PLI) of Operating Profit to Total Cost (OP/TC). On a

reference made by the Assessing Officer (AO) to the Transfer Pricing

Officer (TPO), the latter shortlisted nine comparables with their average 7 ITA No.5766/Del/2011

OP/TC at 25.32%. By applying this benchmark, the TPO proposed

transfer pricing adjustment in respect of 'Provision of marketing support

services' to the tune of Rs.73,21,02,823/-. The assessee approached the

Dispute Resolution Panel (DRP) on various aspects of the determination of

ALP of this transaction. The DRP concurred with some of the points

raised by the assessee. Certain directions were issued to the TPO, who vide

his order dated 21.10.2011, giving effect to the directions rendered by the

DRP, shortlisted the following six companies as comparables:-

S. Name of the company WC Adjusted OP/ No. OC-After DRP Directions 1. IDC India Limited 13.94% 2. TSR Darashaw (Segmental) 33.90% 3. TCF Consulting Engineers Ltd. 18.04% 4. Vimta Labs Ltd. 26.34% 5. Water & Power Consultancy 32.92% Services (India) Ltd. (WAPCOS) 6. ICRA Management Consulting 8.83% Services Ltd. Arithmetic Mean 22.33%

13. With the reduced OP/TC of the average of the above mentioned six

comparables at 22.33%, the amount of transfer pricing adjustment was

8 ITA No.5766/Del/2011

slashed down to Rs.43,28,67,764/-. The AO made the above addition in

the impugned order. The assessee is aggrieved against such addition on

account of transfer pricing adjustment so made in the final assessment

order.

14. We have heard the rival submissions and perused the relevant

material on record. The controversy before us relates to the determination

of ALP of the international transaction of 'Provision of marketing support

services.' At this juncture, we want to record that the assessee adopted

TNMM as the most appropriate method for determining the ALP of this

international transaction, which method has been approved by the TPO.

The assessee has not objected to any other aspect of the determination of

ALP by the TPO in his final order giving effect to the directions given by

the DRP, except for the inclusion of the following four companies:-

S.No. Name of the company WC Adjusted OP/ OC-After DRP Directions 1. TSR Darashaw (Segmental) 33.90% 2. TCF Consulting Engineers Ltd. 18.04% 3. Vimta Labs Ltd. 26.34% 4. Water & Power Consultancy 32.92% Services (India) Ltd. (WAPCOS) 9 ITA No.5766/Del/2011

15. Before examining the comparability of the above four companies, it

is essential to consider the functional profile of the assessee under this

transaction. The assessee provided Marketing support services to MS Corp

and affiliate entities in return for service fees. The assessee did not

undertake sale of Microsoft software, but, only created awareness and

promoted sale of Microsoft products in India. The 'Marketing support

services' undertaken by the assessee include : Expanding the markets for

Microsoft retain products in India through local print electronic

advertising, promotional campaigns, anti-piracy drives, etc; and

Performing other activities which includes: i. Dissemination of information

to potential customers; ii. Commenting on any development in the territory

affecting the industry in which MCIPL functions; iii. Investigating

feasibility of new markets for Microsoft retain products and basic market

research; and iv. Provide miscellaneous marketing support. Reversing the

order of the TPO, the DRP did not find the assessee to have provided any

high-end niche services and resultantly, the objection so raised by the

assessee was accepted through para 3.3 of its direction. It can be observed

from the TPO's order that the assessee provided these services under the 10 ITA No.5766/Del/2011

Master Service Agreement with Microsoft Corporation. This Agreement

was executed on 1.7.2003. This discerns that the nature of marketing

support services rendered by the assessee during the year under

consideration are similar to those of the preceding year as both the years

are governed by the same Master Service Agreement dated 1.7.2003. It is

observed that transfer pricing adjustment of such international transaction

was made by the authorities below for the immediately preceding

assessment year 2006-07 also. The addition on account of such adjustment

was challenged by the assessee before the Tribunal, which has since been

disposed of by the Tribunal vide its order dated 18th December, 2014. A

detailed description of the nature of provision of marketing support

services has been set out in paras 13 and 14 of the above referred order of

the tribunal, which is adopted for the purposes of the instant year as well

without burdening this order with the repetition of the same. The ld. DR

was also fair enough to admit that there is no difference in the nature of

marketing support services provided by the assessee during the instant year

as well as the preceding year. With the above understanding of the nature

of marketing support services rendered by the assessee to its AE, we will 11 ITA No.5766/Del/2011

now try to ascertain whether the above referred four companies are, in fact,

comparable or not.

i. TSR Darashaw (Segmental)

16. This company was chosen by the assessee as comparable in its

transfer pricing study report. The TPO accepted the functional

comparability of this segment of the company with the assessee's

marketing support services agreement. The ld. AR contended that this

company was wrongly included in the list of comparables and the same

should be excluded. The ld. DR objected to the exclusion of this company

on the ground that since the assessee voluntarily included it in the final set

of comparables, now it cannot turn around to contend its incomparability.

17. We are not inclined to uphold the objection taken by the ld. DR on

the inclusion of this company as comparable merely on the fact that the

assessee treated it as comparable in its TP study report. It goes without

saying that there can be no estoppel against correctness. If the assessee

inadvertently includes a company in its final set of comparables, which is,

in fact, not comparable, he has a right to agitate before the authorities that

12 ITA No.5766/Del/2011

this company may be excluded. This right of the assessee does not, in any

manner, prejudice the powers of the authorities to examine the

comparability of the company which is sought to be excluded. If, on

making such an analysis, the authorities find that the company so agitated

as functionally incomparable, is comparable, then there can be no reason to

exclude the same. If, however, the company turns out to be functionally

dissimilar from the assessee, then, there can be no rationale in continuing

to treat it as comparable despite the functional variation. The crux is that

what really matters is the actual comparability and not the wrong view

canvassed by the assessee in the original reporting. What is true for the

assessee is equally true for the Revenue as well. The authorities are fully

competent to consider the comparability of the companies treated by the

assessee as comparable. If the analysis undertaken by the TPO shows that

some of the companies so construed by the assessee as comparable are, in

fact, not comparable, then, such companies are liable to be excluded. The

Special Bench of the Tribunal in the case of DCIT vs. Quark Systems (P)

Ltd. (2010) 132 TTJ (Chd) (SB) 1, has held that an assessee is entitled to

raise a claim for the first time before the tribunal even through an 13 ITA No.5766/Del/2011

additional ground that a company was wrongly included in the list of

comparables. In view of the foregoing discussion, we are of the considered

opinion that the objection taken by the ld. DR in outrightly rejecting the

assessee's contention, is untenable.

18. Coming to the merits of comparability, we find that this company has

three segments, which inter alia include: 'Pay Roll and Trust Fund activity

(Pay Roll).' It is this segment which has been considered by the assessee as

comparable. This company on an overview is a broking and investment

banking house. Its other segments are : 'Registrar and Transfer Agent

activity (R&D)' and 'Records management activity (Records).' The

segment of 'Pay Roll' was considered by the assessee as comparable in its

TP study report and the same is now assailed. Under the 'Pay Roll'

segment, this company undertakes pay roll and employee trust fund

administration and management. When we compare the nature of pay roll

activity undertaken by this company with the marketing support services

rendered by the assessee to its AEs, we find that both are way apart from

each other. There can be no logical comparison between a specific pay roll

services rendered by a company to its clients with the marketing support 14 ITA No.5766/Del/2011

services rendered by the assessee to its AEs. This company is, therefore,

directed to be excluded from the final set of comparables.

ii. TCE Consulting Engineers Ltd.

19. This company was considered by the TPO as comparable on the

strength of his reason of inclusion in the list of comparables for the AYs

2002-03 and 2003-04.

20. We find that this company is engaged in the provision of engineering

services, such as, operation and design engineering, upgradation &

renovation services, surveys & field investigation services. This company

is operating only in one segment, namely, engineering consultancy

services. It is axiomatic that there can be no comparison of this company

with the assessee's international transaction of rendering marketing

support services. The Hon'ble Delhi High Court in CIT VS. Verizon India

(P.) Ltd. (2014) 360 ITR 342 (Del) has held that Marketing services

provided by companies cannot be compared with Engineering services

provided by assessee. This company has also been held by the tribunal to

be incomparable in its order for the immediately preceding assessment

15 ITA No.5766/Del/2011

year passed in the case of the assessee itself. As such, this company is also

directed to be excluded from the list of comparables.

iii. Vimta Labs Ltd.:

21. The TPO included this company in the set of comparables by

noticing that it has been so used as comparable with the assessee since the

AY 2002-03. He further supported his finding by noticing that this

company was providing similar services as provided by the assessee.

22. We do not find any force in the functional comparability of this

company with the assessee. Spectrum of the services rendered by this

company covers analytical food and drugs; clinical reference lab services

to address the specialties and central lab services for clinical trials; clinical

trials phase-I-IV and BA/BE studies; pre-clinical safety assessments; and

environmental assessments. A cursory look at the nature of services

provided by this company divulges that the same is functionally dissimilar

from the assessee. How a company conducting clinical trials on foods and

drugs can be considered as comparable with the assessee undertaking

marketing support services, is anybody's guess. This company being in

16 ITA No.5766/Del/2011

the nature of business totally alien to that of the assessee, cannot be

considered as a comparable. Similar view has been taken by the Tribunal

in the case of the assessee for the immediately preceding assessment year.

We, therefore, direct the exclusion of this company from the list of

comparables.

iv. WAPCOS:

23. This company was considered by the TPO as comparable on the

reason of its inclusion in the list of comparables for the AYs 2002-03 and

2003-04.

24. We find that this company operates in two segments, namely,

`Consultancy & engineering products' and 'Lumpsum turnkey projects'. It

is noticed that the TPO has considered only `Consultancy and engineering

products segment' for the purposes of comparison and has not taken into

consideration the other segment of `Lumpsom turnkey projects'. The

company, under the alleged comparable segment, provides consultancy

services, such as, pre-feasibility report of hydroelectric projects, field

investigation drilling of tube wells, etc. From the above description of the

17 ITA No.5766/Del/2011

activities performed by the company under this segment, it is vivid that the

same is engaged in providing engineering and consultancy services, which

can be no match to the assessee's marketing support services. Similar view

has been taken by the Tribunal in the case of the assessee for the

immediately preceding assessment year. This company is also directed to

be excluded from the list of comparables.

25. In view of the foregoing discussion, we set aside the impugned order

and remit the matter to the file of TPO/AO for a fresh determination of the

ALP of the international transaction of 'Provision of marketing support

services' in line with our above directions, after allowing a reasonable

opportunity of being heard to the assessee.

26. Before parting with this issue, we will like to deal with an argument

put forth by the ld. DR. He submitted that the TPO did not properly

consider the nature of the `Marketing support services' provided by the

assessee and also accepted some companies chosen by the assessee as

comparable which were, in fact, not comparable. He invited our attention

towards the only remaining two companies in the list of comparables,

18 ITA No.5766/Del/2011

namely, IDC India Ltd., and ICRA Management Consulting Services Ltd.

It was stated that these two companies are not comparable with the

assessee's marketing support service segment. In the backdrop of the

above arguments, it was requested that the entire issue of determination of

the ALP of the international transaction of `Provision of marketing

services' should be set aside and the matter be remitted to the TPO for a de

novo adjudication by considering an altogether fresh set of comparables.

27. We find force in the submission advanced by the ld. DR to the extent

of improper examination of the case done by the authorities in not properly

appreciating the nature of services performed by the assessee in this

international transaction, which led to the acceptance of improper

comparables selected by the assessee. It is however, clear from the order of

the TPO that he was well aware with a distinct international transaction of

provision of marketing support services, which expression has been

repeatedly used by him in the order. Thus, it can be seen that after

elimination of the above discussed four companies, the only two

companies which survive in the list of comparables are IDC Ltd. and ICRA

Management Consulting Services Ltd. Annexure III to the TP study report 19 ITA No.5766/Del/2011

indicates the nature of activity carried out by these companies. Page 390

of the paper book gives the nature of business done by IDC India Ltd., as

under:-

"IDC (India) Limited is an information technology (IT) research & advisory firm. The company provides business insights to providers, builders and users of information technology. The company is focusing on go-to-marketing (GTM) services as key area of operations. The company earns all its income in the form of research and survey income."

28. As regards ICRA Management Consulting Services Ltd., the

assessee's TP study report divulges the nature of activity undertaken by

this company as under:-

"ICRA Management Consulting Services Ltd., was incorporated in 2005 with the objective of taking over the entire business of the Management Consulting Division of ICRA Limited. The operations pertaining to the Advisory services division of ICRA Limited during FY 2005-06 have been transferred to ICRA Management Consulting Services Ltd."

29. A careful perusal of the nature of business done by IDC (India) Ltd.

transpires that this company is an Information technology research and

advisory firm. This company earns all its income in the form of research

and survey. We fail to appreciate as to how this company can be 20 ITA No.5766/Del/2011

considered as comparable with the international transaction of `Provision

of marketing support services' rendered by the assessee to its AE. Similar

is the position regarding ICRA Management Consulting Services Ltd.,

which is providing 'Advisory services.' In our considered opinion, a

company providing advisory services can be no match with a company

providing actual marketing support services. Despite this clear mismatch

of the functional profile of the assessee's international transaction of

`Provision of marketing support services' with the IT research/Advisory

services provided by these two companies, we are unable to accept the

contention of the ld. DR to order a de novo adjudication. It is patent that

the assessee in the instant appeal is aggrieved against the inclusion of the

afore discussed four companies from a total set of six companies. It has no

issue with the inclusion of IDC Ltd., and ICRA Management Consulting

Services Ltd. The Revenue is not in appeal before us. In such

circumstances, we are unable to remedy the situation to the advantage of

the Revenue inasmuch as it is the TPO who has accepted the comparability

of these two companies with the assessee's marketing support services. As

such, our hands are tied to hold that the two surviving companies in the 21 ITA No.5766/Del/2011

final list of comparables which are, in fact, not comparable, be also

excluded and a fresh determination of the ALP be done. We are, ergo,

leaving this issue here only with the hope that a better and more wiser

analysis will be done by the TPOs in the days to come.

30. The assessee has raised an additional ground reading as under:-

"That on the facts and in the circumstances of the case, an expense of Rs.207,549 disallowed by the Learned Assessing Officer as prior period expenses should be allowed as an expense in AY 2007-08 since it pertains to the said AY."

31. It is apparent from the text of ground itself that it is a legal ground

and does not require any fresh investigation of facts for its determination.

This ground is, therefore, admitted for disposal on merits.

32. After considering the rival submissions and perusing the relevant

material on record, we find that similar issue cropped up before the

Tribunal through additional ground for the AY 2006-07. This has been

dealt with by the Tribunal in its order vide paras 9 and 10. The Tribunal

has restored the issue to the file of AO with certain directions.

Respectfully following the precedent, we direct the AO to decide this issue

22 ITA No.5766/Del/2011

in conformity with the direction given by the Tribunal by its order for the

AY 2006-07.

33. In the result, the appeal is partly allowed.

The order pronounced in the open court on 30 .06.2015.

Sd/- Sd/- [A.T. VARKEY] [R.S. SYAL] JUDICIAL MEMBER ACCOUNTANT MEMBER

Dated, 30th June, 2015. dk Copy forwarded to: 1. Appellant 2. Respondent 3. CIT 4. CIT (A) 5. DR, ITAT

AR, ITAT, NEW DELHI.

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