Pr Commissioner Of Income Tax-5 vs M/S Novell Software Development ...
2021 Latest Caselaw 976 Kant

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     IN THE HIGH COURT OF KARNATAKA AT BENGALURU

        DATED THIS THE 16TH DAY OF JANUARY 2021

                         PRESENT

         THE HON'BLE MR. JUSTICE ALOK ARADHE

                            AND

     THE HON'BLE MR. JUSTICE NATARAJ RANGASWAMY

                   I.T.A. NO.271 OF 2017
BETWEEN:

1.     PR. COMMISSIONER OF INCOME TAX-5
       BMTC COMPLEX, KORAMANGALA
       BANGALORE.

2.     DEPUTY COMMISSIONER OF INCOME TAX
       CIRCLE 5(1)(2), BANGALORE.
                                            ... APPELLANTS
(BY SRI. T.N.C. SRIDHAR, ADV., FOR
    SRI. SANMATHI E.I. ADAV.,)

AND:

M/S. NOVELL SOFTWARE DEVELOPMENT
(INDIA) PVT. LTD.
'LAUREL', BLOCK-D, 65/2
BAGMANE TECH PARK
C.V. RAMAN NAGAR
BYRASANDRA, BANGALORE-93.
                                            ... RESPONDENT
(BY SRI. T. SURYANARAYANA, ADV.)
                             ---
      THIS I.T.A. IS FILED UNDER SEC. 260-A OF INCOME TAX
ACT 1961, ARISING OUT OF ORDER DATED 30.09.2016 PASSED
IN IT(TP)A NO.281/BANG/2015 FOR THE ASSESSMENT YEAR
2010-11, VIDE ANNEXURE-A, PRAYING TO:
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      (i) DECIDE THE FOREGOING QUESTION OF LAW AND/OR
SUCH OTHER QUESTIONS OF LAW AS MAY BE FORMULATED BY
THE HON'BLE COURT AS DEEMED FIT.
      (ii) SET ASIDE THE APPELLATE ORDER DATED 30.09.2016
PASSED BY THE INCOME TAX APPELLATE TRIBUNAL, 'A' BENCH,
BENGALURU,       IN   APPEAL    PROCEEDINGS    NO.IT(TP)A
NO.281/BANG/2015 FOR ASSESSMENT YEAR 2010-11 VIDE
ANNEXURE-A AS SOUGHT FOR IN THIS APPEAL AND TO GRANT
SUCH OTHER RELIEF AS DEEMED FIT, IN THE INTEREST OF
JUSTICE.

     THIS I.T.A. COMING ON FOR HEARING,                THIS    DAY,
ALOK ARADHE J., DELIVERED THE FOLLOWING:


                             JUDGMENT

This appeal under Section 260A of the Income Tax Act,

1961 (hereinafter referred to as the Act for short) has been

preferred by the revenue. The subject matter of the appeal

pertains to the Assessment year 2010-11. The appeal was

admitted by a bench of this Court vide order dated

09.11.2018 on the following substantial questions of law:

"(1) Whether on the facts and in the circumstances of the case, the Tribunal is right in law in setting aside disallowance of depreciation claimed on Software Expenses under Section 40(a)(ia) of the Act by following its earlier order in case of Kawasaki Micro Electronics in IT(TP)A No.1512/Bang/2010 dated 26.06.2015 even when assessing authority rightly held that payment for

purchase of software was in the nature of 'royalty' in terms of Explanation 2 to Section 9 (1)(vi) of the Act?

(2) Whether on the facts and in the circumstances of the case, the Tribunal is right in setting aside disallowance made under Section 14A of the Act without the same is made in accordance with Rule 8D of I.T. Rules?".

Thereafter, additional substantial question of law was

formulated which reads as under:

"Whether the direction issued by the Tribunal to the Transfer Pricing Officer to exclude depreciation from the cost of tax payer as well as comparables and directing the Assessing Officer / Transfer Pricing Officer to re-work the depreciation following its case in MARKET RESEARCH TOOLS PVT. LTD., is perverse?"

2. Facts leading to filing of this appeal briefly stated

are that assessee namely Novell Software Development

(India) Pvt. Ltd. is a subsidiary of Novell Inc. U.S.

(hereinafter referred to as 'the Novell U.S.' for short) and is a

capital service provider. The assessee is engaged in the

business of providing software development and support

services to its associative enterprises namely Novell U.S.

During the relevant previous year the assessee provided

software development and support devices to Novell U.S. On

the basis of the transfer pricing study conducted by the

assessee, it concluded that the transaction was at arm's

length. The assessee had incurred an expenditure of

Rs.7,61,728/- towards purchase of software which was

capitalized and depreciation was claimed thereon. The

Transfer Pricing Officer, by an order dated 30.01.2014,

determined that the transfer pricing adjustment amounting

to Rs.8,50,32,504/- was necessary in the software

development services sector. The Assessing Officer, in the

draft assessment order dated 10.03.2014, made an addition

of a sum of Rs.8,50,32,504/- to the income disclosed by the

assessee and also made disallowances under Section

40(a)(i)(a) of the Act. Thus, the Assessing Officer made a

total addition of Rs.8,72,47,691/- and total income of the

assessee was determined at Rs.21,51,59,762/-.

3. The assessee filed objections before the Dispute

Resolution Panel, which vide direction dated 23.12.2014

reduced the transfer price adjustment made by the Transfer

Pricing Officer by granting an adjustment towards

depreciation as prayed by the assessee and the disallowance

made under Section 40(a)(i)(a) of the Act was confirmed

whereas disallowance under Section 14A of the Act was

deleted. The Assessing Officer thereafter passed a final

order of assessment on 29.01.2015. The revenue thereupon

filed an appeal before the Income Tax Appellate Tribunal. On

receipt of notice of the appeal filed by the revenue, the

assessee filed cross-objections to the revenue's appeal in

which grounds were urged that the order passed by the

Transfer Pricing Officer be confirmed and disallowance under

Section 14(a)(i)(a) of the Act be made. The Tribunal, by an

order dated 30.09.2016, dismissed the appeal preferred by

the revenue and allowed the cross-objection preferred by the

assessee. In the aforesaid factual background, this appeal

has been filed.

4. Learned counsel for the revenue fairly submitted

that the first substantial question of law does not arise for

consideration in this appeal. However, with regard to the

third substantial question of law, it is submitted that the

Tribunal has not considered whether the depreciation policies

of the assessee are similar to that of comparables and has

not given independent finding regarding reasons assigned by

the Transfer Pricing Officer. It is further submitted that the

Tribunal failed to note that depreciation cannot be excluded

from the cost of tax payer as well as comparables and Rule

10B(1)(e)(iii) of the Income Tax Rules nowhere provides to

exclude the depreciation as it will materially affect the

adjustments and therefore, the same cannot be excluded.

With regard to second substantial question of law it is argued

that assessee has not determined the expenditure incurred in

relation to exempt income and Assessing Authority has

rightly held that even though there is no dividend income

from the investment, the assessee was required to determine

expenditure as per Section 14A read with Rule 8D of the

Rules. In support of aforesaid submission, reliance has been

placed on the decision of this Court in 'THE

COMMISSIONER OF INCOME-TAX Vs. M/s.

KINGFISHER FINVEST INDIA LTD.' IN ITA

NO.100/2015 DECIDED ON 29.09.2020.

5. On the other hand, learned counsel for the assessee

submitted that Rule 10B of the Rules provides for the method

in which comparability analysis is to be conducted under the

transactional net margin method. It is pointed out that

under sub-clause (i) of Rule 10B(1)(e) of the Rules, the net

profit margin realized by the tax payer from an international

transaction is computed having regard to a relevant base

that is cost incurred and sales effected, etc. It is further

submitted that since the assessee has a policy of charging a

higher rate of depreciation as compared to the companies

selected by the Transfer Pricing Officer, there is a definite

impact on the net margins of the assessee as compared to

comparable companies. Therefore, there is a need of making

an adjustment to eliminate differences into accounting

policies of the assessee and the comparable companies in

terms of the Rules. It is also argued that Tribunal has rightly

accepted the aforesaid submission by relying on decision of

Hyderabad Bench of the Tribunal in MARKET RESEARCH

TOOLS PVT. LTD. and no errors have been pointed out in

the aforesaid provision. It is also urged that the Tribunal has

rightly deleted the disallowance made under Section 14A of

the Act as the assessee had not incurred any exempt

income. In support of aforesaid submissions, reliance has

been placed on the decision of the Supreme Court in 'CIT

Vs. CHETTINAD LOGISTICS (P) LTD.' (2018) 95

TAXMANN.COM 250 (SC), decisions of Madras High Court

in 'CIT Vs. CHITTANAD LOGISTICS (P) LTD.' (2017) 80

TAXMANN.COM 221 (MADRAS), 'REDINGTON (INDIA)

LTD. Vs. ACIT' (2017) 77 TAXMANN.COM 257

(MADRAS), decisions of Delhi High Court in 'CHEMINVEST

LTD. Vs. CIT' (2015) 61 TAXMANN.COM 118 (DELHI)

AND 'CIT Vs. HLCIM INDIA (P) LTD.' (2015) 57

TAXMANN.COM 28 (DELHI).

6. We have considered the submissions made on both

sides and have perused the record. Admittedly, the first

substantial question of law does not arise for consideration.

Therefore, we need not deal with the same. Sofar as second

substantial question of law is concerned, this Court in ITA

No.416/2014 decided on 12.01.2021, has held that if no

exempt income has accrued to the assessee the provisions of

Section 14A do not apply. However, reliance placed by the

learned counsel for the revenue on the decision in the case of

KINGFISHER FINVEST LTD., supra, is concerned, suffice it

to say that reliance was placed in the aforesaid decision on

the decision in MAXOPP INVESTMENT LTD. Vs.

COMMISSIONER OF INCOME-TAX, NEW DELHI' (2018)

402 ITR 640 (SC). It is pertinent to note that the decision

MAXOPP INVESTMENT LTD, supra, does not deal with the

issue of applicability of Section 14A of the Act. The

subsequent decisions of Madras High Court as well as Delhi

High Court, namely in CHETTINAD LOGISTICS (P) LTD.,

supra and CHEMINVEST LTD., supra, have been affirmed

by the Supreme Court subsequently. Therefore, taking into

account the fact that MAXOPP INVESTMENT LTD, supra

does not deal with the issue with regard to applicability of

Section 14A of the Act, we are in respectful agreement with

the view taken by the High Court of Madras and High Court

of Delhi. Since no exempt income has accrued to the

assessee, therefore we hold that the provisions of Section

14A of the Act do not apply to the fact situation of the case.

In the result, the second substantial question of law is

answered against the revenue and in favour of the assessee.

7. Now we may advert to the third substantial question

of law. Rule 10B of the Income Tax Rules, 1962 provides the

method in which comparability analysis is to be conducted

under transactional net margin method. Under sub-clause (i)

of Rule 10B(1)(e), the net profit margin realized by the tax

payer from an international transaction is computed having

regard to the relevant base that is costs incurred and sales

effected, etc. Under sub-clause (ii) of Rule 10B(1)(e), the

net profit margin is realized by an unrelated enterprise /

comparable company is computed having regard to the same

relevant base as was selected in sub-clause (i). Sub-clause

(iii) of said Rule specifies that before a comparison of net

margins realized under sub-clauses (1) and (ii) is done, the

net margin realized under sub-clause (ii) must be adjusted to

take into account the differences which could materially

affect the net profit margin in the open market. So also, in

terms of Rule 10B(3), an uncontrolled transaction shall be

considered comparable if none of the differences between the

comparable companies and the controlled transaction are

likely to materially affect the profit arising from such

transactions in the open market or reasonably accurate

adjustments can be made to eliminate the material effect of

such differences. Since the respondent has a policy of

charging a higher rate of depreciation as compared to the

companies selected by the TPO, there is a definite impact on

the net margins of the respondent as compared to the

comparable companies. Thus, there is a need for making an

adjustment to eliminate the differences in the accounting

policies of the appellant and the comparable companies, in

terms of the above Rules, especially given that in the bench

marked international transaction is the sales by a captive

service provider to its associated enterprises, on which

depreciation would have no bearing and thus can be

excluded altogether.

8. The Tribunal, by placing reliance on the Hyderabad

Bench of the Tribunal in the case of MARKET RESEARCH

TOOLS PVT. LTD. has held that the Dispute Resolution

Panel erred in directing to exclude depreciation from the cost

of tax payer as well as comparables. The aforesaid finding

cannot be said to be perverse warranting interference of the

Court in this appeal.

9. In view of preceding analysis, the third substantial

question of law is answered against the revenue and in

favour of the assessee.

In the result, we do not find any merit in this appeal.

The same fails and is hereby dismissed.

Sd/-

JUDGE

Sd/-

JUDGE RV