Savista Global Solution Pvt. Ltd. vs DCIT, Circle 22(2), Delhi

“1.

That on the facts and circumstances of the case and in law, the Ld. AO has erred in assessing the total income of the appellant under section 143(3) read with section 144C(13) and section 144B of the Act, for the assessment year ("AY") 2020-21 at INR 24,04,46,240 as against the returned income of NIL. under the normal provisions of Act.

2 That on the facts and in the circumstances of the case and in law, the Ld. AO has erred in not completing the assessment proceedings as per time limit prescribed under section 153(1) read with section 153(4) of the Act, thereby making the assessment proceedings barred by limitation.

3 That on the facts and circumstances of the case and in law, Ld. AO/DRP/TPO erred in aggregating the international transactions of "receipt from sub-contracts with that of "provision of support services", thereby, ignoring that these are two separate business segments of the appellant having different commercial arrangements.

4.

That on facts and circumstances of the case and in law, the Ld. AO/ DRP/ TPO erred in ignoring the commercial reality of the business operations of the appellant in relation to its international transaction of "receipts from sub-contracts" while proposing TP adjustment for the same. While doing so, the Ld. AO/Ld. TPO erred in:

a. re-characterization of the appellant's business from its sub-contract's arrangements, ignoring the fact that appellant operates as full risk-taking entrepreneur for such business and not as a risk insulated service provider;

b. ignoring the certified segmental profit margins submitted by the appellant during the course of TP assessment:

c. determining an arm's length price for the sub-contracting that far exceeds the actual revenue derived from third party customers;

d. ignoring the fact that the AE only retained 3.69% of the total third-party revenue in the sub-contracting business.

5.

That on facts and circumstances of the case and in law, the Ld. AO/DRP/TPO have erred in removing the following companies despite being comparable to the appellant:

a. R Systems International Limited,

6.

That on facts and circumstances of the case and in law, the Ld. AO/DRP/TPO have erred in considering the following companies having different functional profile than that of the appellant as comparable:

a. MOL Information Processing Services (India) Private Limited;

b. Amadeus India Private Limited;

c. CES Limited - Seg

7.

That on facts and in law, the Ld. AO/ TPO erred in not allowing the benefit of proportionate adjustment while the same was allowed by Hon'ble DRP.

8.

That on the facts and circumstances of the case and in law, Ld. AO/ TPO erred in proposing an adjustment of INR 679,587, to the Income of the appellant on account of difference in the arm's length price of the alleged international transaction interest on outstanding receivables. In doing so, the Ld. AO/TPO erred on facts and in law by:

a. considering the continuing debit balance of receivables of the appellant as a separate 'international transaction' and re-characterizing the same as an 'Interest-free loan' granted by the appellant to its AE during the relevant previous year

b. arbitrarily applying 6 months LIBOR + 425 basis points for the purpose of computing notional interest on outstanding receivables

c. ignoring the fact that the appellant is a debt-free company and it cannot be alleged that interest bearing funds were used to pass on benefit in the form of extended credit period to the AE.

Note: The appellant prays for leave to add, alter, amend and/or modify any of the hearing of the appeal. of appeal at er before lobal Solutions.”

Ground no. 3 & 4 : Incorrect aggregation of International Transactions:

“29.

It is submitted that the Ld. TPO/Ld. DRP have erroneously aggregated the transactions of 'provision of support services' and 'receipt from sub-contracts'. The Ld. TPO's reason for adopting the aggregation approach was that the audited segmental are not available and the services in respect of both the transactions are ITeS. It is submitted that the findings of the Ld. TPO are erroneous for the reason that the Appellant's functional profile in respect of both the transactions is different. Further, the Appellant had made a full disclosure of segmental which was certified by an independent transfer pricing specialist (refer page 139 of the paperbook for abridged P&L of nThrive Global Healthcare Services LLC; refer page 125 of the paperbook for margin workings of the Appellant). During the course of TP audit, the Appellant had furnished line by line item cost allocation for both the segments, duly certified by an independent chartered accountant. It is submitted that no discrepancy has been pointed out either by the Ld. TPO or the Ld. DRP in the furnished segmental.

30.

The principles of aggregation/segregation are well settled now. Reference is made to the guidance laid down by Institute of Chartered Accountants of India in its guidance note on report under section 92E of the Act (Revised 2022):

"5.7

The factors referred to above are to be applied cumulatively in selecting the most appropriate method. The reference therein to the terms 'best suited' and 'most reliable measure' indicates that the most appropriate method will have to be selected after a meticulous appraisal of the facts and circumstances of the international transaction or specified domestic transaction. Further, the selection of the most appropriate method shall be for each particular international transaction or specified domestic transaction. The term 'transaction' itself is defined in rule 10A(d) to include a number of closely linked transactions. Therefore, though the reference is to apply the most appropriate method to each particular transaction, keeping in view, the definition of the term 'transaction', the most appropriate method may be chosen for a group of closely linked transactions. Two or more transactions can be said to be linked when these transactions emanate from a common source being an order or a contract or an agreement or an arrangement and the nature, characteristics and terms of these transactions are substantially flowing from the said common source. For example, a master purchase order is issued stating the various terms and conditions and subsequently, individuals orders are released for specific quantities. The various purchase transactions are closely linked transactions.

5.8

It may be noted that in order to be closely linked transactions, it is not necessary that these transactions need to be identical or even similar. For example, a collaboration agreement may provide for import of raw materials, sale of finished goods, provision of technical services and payment of royalty. Different methods may be chosen as the most appropriate methods for each of the above transactions when considered on a standalone basis. However, under particular circumstances, one single method may be chosen as the most appropriate method covering all the above transactions as the same are closely linked.

5.9

There is yet another category of transactions which may be identical or similar though not closely linked. For example, independent purchase transactions having identical or similar nature, characteristics, terms and conditions are not closely linked transactions because these transactions do not emanate from a common source. However, under particular circumstances, one single method may still be chosen as the most appropriate method covering all the above transactions. ………….

5.10

It is not uncommon to notice transactions which are not only dissimilar or unidentical but are also not linked. For example, there may be transactions of purchase, sale and provision of technical service. In such case, wherever internal comparables are available, appropriate method should be used if the circumstances so justify."

(emphasis supplied)

31.

Reference is also made to the guidance laid down in OECD Transfer Pricing Guidelines for multinational Enterprises and Tax Administrations 2022:

"3.9.

Ideally, in order to arrive at the most precise approximation of arm's length conditions, the arm's length principle should be applied on a transaction-by-transaction basis. However, there are often situations where separate transactions are so closely linked or continuous that they cannot be evaluated adequately on a separate basis. Examples may include: a) some long-term contracts for the supply of commodities or services, b) rights to use intangible property, and c) pricing a range of closely-linked products (e.g. in a product line) when it is impractical to determine pricing for each individual product or transaction. Another example would be the licensing of manufacturing know-how and the supply of vital components to an associated manufacturer; it may be more reasonable to assess the arm's length terms for the two items together rather than individually. Such transactions should be evaluated together using the most appropriate arm's length method. A further example would be the routing of a transaction through another associated enterprise; it may be more appropriate to consider the transaction of which the routing is a part in its entirety, rather than consider the individual transactions on a separate basis. See example 26 of Annex I to Chapter VI.

3.10

Another example where a taxpayer's transactions may be combined is related to portfolio approaches. A portfolio approach is a business strategy consisting of a taxpayer bundling certain transactions for the purpose of earning an appropriate return across the portfolio rather than necessarily on any single product within the portfolio. For instance, some products may be marketed by a taxpayer with a low profit or even at a loss, because they create a demand for other products and/or related services of the same taxpayer that are then sold or provided with high profits (e.g. equipment and captive aftermarket consumables, such as vending coffee machines and coffee capsules, or printers and cartridges). Similar approaches can be observed in various industries. Portfolio approaches are an example of a business strategy that may need to be taken into account in the comparability analysis and when examining the reliability of comparables."

32.

Similar guidance has been provided in United Nations Practical Manual on Transfer Pricing for Developing Countries 2021:

3.3.3.1

An important aspect of transfer pricing analysis is whether this analysis has to be carried out with respect to a taxpayer's individual international controlled transactions or whether a group of international controlled transactions that have a close economic nexus and are carried out between the same parties can be analyzed together for transfer pricing purposes.

3.3.3.2

The transfer pricing analysis should ideally be made on a transaction-by-transaction basis. However, there are cases where separate transactions are so closely linked that such an approach would not lead to a reliable result. Where transactions are so closely interrelated or continuous that application of the arm's length principle on a transaction-by-transaction basis would become unreliable or cumbersome, transactions are often aggregated for the purpose of the analysis.

3.3.3.3

An example can be the case of transactions involving the licensing of know-how to associated manufacturers together with the supply to the licensed associated manufacturers of components needed to exploit such know-how. In such a case, the transfer pricing analysis may be more reliable if it takes into account both the license and the supply of components together, compared to a consideration of each separate activity without recognizing that they are closely interrelated transactions. Similarly, it may be difficult to separately analyze pricing of sales of products and closely linked long-term service supply contracts.

3.3.3.4

Another important aspect of combined transactions involves the use of composite contracts and "package deals" among the members of an MNE group. A composite contract and/or package deal may contain a number of elements including leases, sales and licenses all packaged into one deal. Generally, it will be appropriate to consider the deal in its totality to understand how the various elements relate to each other, but the components of the composite contract and/or package deal may or may not, depending on the facts and circumstances of the case, need to be evaluated separately to arrive at the appropriate transfer price. In certain cases, it may be more reliable to allocate the aggregate compensation among the elements of the composite contract or package deal.

3.3.3.5

"Aggregation" issues also arise when looking at potential comparables. Since third-party information is not often available at the transaction level, entity level information is frequently used in practice when looking at external comparables (e.g. in the absence of reliable internal comparables; "external comparable" and "internal comparable" are defined in section 3.5.2 below). It must be noted that any application of the arm's length principle, whether on a transaction-by-transaction basis or on an aggregation basis, needs to be evaluated case by case, applying the most appropriate transfer pricing method to the facts in that particular case."

5.3.1. He has further submitted as under:

“Impact of segregation of transactions

39.

It is submitted that once the segregation approach of the Appellant is accepted, the entire addition will be liable to deleted. Segment wise impact of segregation approach is given below:

Impact of segregation approach on the transaction of 'Provision of support services'

40.

It is submitted that the Appellant has earned an operating margin of 14% in the 'Provision of support services segment, which position has not been disputed by the Revenue. The Ld. TPO, while undertaking the benchmarking exercise, has in fact adopted the comparable set originally identified by the Appellant for this segment and merely modified certain comparables therein. Pursuant to the directions of the Ld. DRP, the final set of comparables selected by the Ld. TPO in the order giving effect reflects a margin range of 12.37% to 17.17%. The Appellant's margin of 14% squarely falls within this range. Accordingly, once the segregation approach is accepted and the segment is benchmarked independently, the Appellant's international transaction pertaining to 'Provision of support services' stands at arm's length and no transfer pricing adjustment is warranted.

Impact of segregation approach on the transaction of 'Receipt from sub-contracts'

41.

During the year under assessment, under the transaction of receipt from subcontracts (entrepreneurial segment), the Appellant received approx. 97 percent of the amount that was billed to 3rd parties by the USA AE and it was only around 3 percent of such receipts (INR 2,95,65,994/-) was retained by the AE (represents the cost incurred by it and a 5% markup thereon):

5.3.2 With regard to the reasons for losses incurred from the entrepreneurial business, it has been submitted as under:

“Reasons for losses in the entrepreneurial segment is on account of third party costs

40.

It is further submitted that the low margins earned by the Appellant in the initial years of its operations pertain to its entrepreneurial segment and are attributable to business ramp-up and a disproportionately high employee cost base, and not to the pricing of its related party transactions. The financial data for the relevant years clearly evidences that the Operating Revenue has remained largely stable across the period, whereas the Operating Cost has undergone rationalisation over time. The consequent improvement in margins is directly correlated to cost-side efficiencies and not to any variation in revenue from associated enterprises. The year-on-year margins of the Appellant in cost-plus and entrepreneurial segment are tabulated below:

41.

It is evident from the above table that, consequent to rationalisation of employee and overhead costs, the Appellant has earned margins of up to 29 percent in the entrepreneurial segment. There is no change in the nature of the underlying arrangement in the subsequent years. If the aggregation approach adopted by the Ld. TPO is sustained, the effect would be to subsume the entrepreneurial segment within the cost-plus 14% support services model, thereby capping what the Appellant earns in the entrepreneurial segment. In such circumstances, upholding the Ld. TPO's benchmarking would, in effect, compel the Appellant to operate at a routine cost-plus 14% return even in respect of a full-risk entrepreneurial activity. This would necessarily result in a reduction of the taxable profits of the Appellant in years where it earns margins substantially higher than 14 percent. Such an outcome is impermissible in view of the express mandate of section 92(3) of the Act, which provides that the transfer pricing provisions shall not apply where their application has the effect of reducing the income chargeable to tax.”

“…………..the Panel upholds six-month LIBOR Plus 400 Basis Points, i.e., 1.85% as the appropriate CUP applied by the TPO. However, for the purpose of computing the Arm's length interest on receivables, the AO/TPO is directed to exclude a period of 60 days from the total period of delay in receiving payments against invoices raised by the assessee."

“51.

It is submitted that the Appellant has not taken on any external debt. It has received interest free advances of INR 28,51,33,797/- from its AE which it has reported as an internal transaction. (for details of long-term/current liabilities of the Appellant, refer to page 21 of the paperbook; for details of expenses, refer to page 25 of the paperbook). The interest expense showing in the Appellant's financials on page 25 of the paperbook pertains to the finance lease expense on furniture and fixtures.

52.

Therefore, it would not be justifiable to presume that the borrowed funds have been utilized to pass on the facilities to its AEs and the Ld. TPO also had not brought on record that the Appellant had been found paying interest to its creditors or suppliers on its payables. For the sake of completeness, the details of the net payables as on 31 March 2020 are tabulated below:

53.

Thus, the question of receiving any interest on receivable does not arise and the adjustment is completely unsustainable.

54.

This issue is squarely covered in principle by decision of Hon'ble High Court of Delhi in PCIT v. Inductis India (P.) Ltd. [2023] 157 taxmann.com 87 (Delhi). The relevant paragraphs are extracted below for reference:

"6.2

The fact that the respondent/assessee is debt free is not contested. Given this position, the question is as to whether adjustment on account of notional interest on receivables could have been made.

6.3

This issue stands clearly covered by the decision of a coordinate bench of this court in the case of Pr. CIT v. Boeing India (P.) Ltd. [2023] 146 taxmann.com 131/457 ITR 84 (Delhi), in which after traversing through various judicial precedents, the court held that the assessee company being a debt free company the question of receiving any interest on receivables did not arise so the adjustment deleted. made by the Assessing Officer on account of interest on outstanding receivables was liable to be deleted.

6.4

Earlier, in similar circumstances, the issue came up before the Income Tax Appellate Tribunal in the case of Bechtel India (P.) Ltd. v. Dy. CIT [2016] 66 taxmann.com 6 (Delhi - Trib.) and the Tribunal held that the assessee being a debt free company, it would not be justifiable to presume that the borrowed funds have been utilized to pass on the facilities to its AEs and the revenue also had not brought on record that the assessee had been found paying interest to its creditors or suppliers on delayed payments. This view of the Income Tax Appellate Tribunal was upheld by a coordinate bench of this court in appeal titled Pr. CIT v. Bechtel India (P.) Ltd. [IT Appeal No. 379 of 2016, dated 21-7-2016], observing that no substantial question of law arose as the Tribunal had returned a finding of fact to the effect that the assessee was a debt free company and a question of receiving any interest on receivable did not arise. Against the said judgment, Pr. CIT v. Bachtel India (P.) Ltd. CC No.(s) 4956 of 2017 preferred by the revenue was dismissed vide order dated 21-7-2017.

6.5

In the case of Pr. CIT v. Kusum Healthcare (P.) Ltd. [2018] 99 taxmann.com 431/[2017] 398 ITR 66 (Delhi), a coordinate bench of this court also dealt with the amendment brought in Section 92B of the Act by way of insertion of an explanation and held thus: ……

6.6

That being so, in our view the questions 2.3 and 2.4 proposed by the Applicant/revenue cannot be treated as substantial question of law for present purposes.

55.

Therefore, the adjustment made on account of outstanding receivables is liable to be deleted.”