Primary Rate Interface is not fees for technical service hence TDS u/s 194J not deductible

BMC Software India P. Ltd Vs DCIT (ITAT Pune)

ITAT Pune held that charges of Primary Rate Interface doesn’t require human intervention and hence doesn’t qualify as fees for technical services. Accordingly, TDS not deductible u/s 194J of the Income Tax Act.

Facts-

Assessee challenged the disallowance of Primary Rate Interface (PRI) line charges paid to telecom companies amounting to Rupees 1,18,04,423 on account of non-withholding of taxes. AO held that it is a technical service and TDS has to be deducted u/s 194J of the Income Tax Act.

Conclusion-

In assessee’s own case, Pune Tribunal has held that charges of Primary Rate Interface doesn’t require human intervention and hence doesn’t qualify as fees for technical services.

In view of the aforestated judicial pronouncement where the addition on lease line charges have been deleted, respectfully following the same, on the same parity of reasoning this ground of appeal of the assessee is allowed and the A.O/T.PO is directed to delete addition on lease line charges from the hands of the assessee.

FULL TEXT OF THE ORDER OF ITAT PUNE

This appeal preferred by the assessee emanates from the findings of the D.R.P. dated 21-04-2021 for A.Y. 2016-17 as per the following original grounds of appeal.

Based on the facts and circumstances of the case, BMC Software India Private Limited (hereinafter referred to as ‘the Appellant’) respectfully craves leave to prefer an appeal under section 253(1)(d) of the Income-tax Act, 1961 (hereinafter referred to as ‘Act’), against the order dated 22 April 2021 (received on 22 April 2021) passed by the Additional/Joint / Deputy / Assistant Commissioner of Income Taxi Income-tax Officer, National e- Assessment Centre, Delhi (hereinafter referred to as ‘learned AO’) under section 143(3) r.w.s. section 144C(13) r.w.s. section 144B of the Act in pursuance of the directions dated 23 March 2021 issued by the Honorable Dispute Resolution Panel -3, WZ (hereinafter referred to as ‘Hon’ble DRP’), on the following grounds:

On the facts and in the circumstances of the case and in law, the Hon’ble DRP and consequentially the learned AO have:

Grounds of Objections in respect of transfer pricing adjustment

1. General ground challenging the transfer pricing adjustment of INR 44,64,54,953 consequential to non-consideration of comparability analysis as documented in the transfer pricing study report

Erred in making transfer pricing adjustment of INR 33,06,35,792 to Appellant’s international transactions in the nature of provision of software development services and of INR 11,58,19,161 to the international transactions in the nature of information technology enabled services (hereinafter referred to as ‘ITeS’) and not considering the comparability analysis documented in the transfer pricing study report for benchmarking analysis.

2. Non-consideration of comparability analysis as documented in the transfer pricing study report

Erred in law on facts and in circumstances of the case by not considering comparability analysis documented in the transfer pricing study report for the purpose of determination of arms-length price for benchmarking analysis.

3. Use of different turnover filter for identification of comparable companies

Erred in law on facts and in circumstances of the case in applying a upper turnover filter at 10 times the turnover of the Appellant and a lower turnover filter of 1/1 O” times the turnover of the Appellant, as against the turnover filter of INR 1 crores to INR 800 crores in case of provision of software development services (i.e. rejecting companies having turnover less than INR 1 crore and higher than INR 800 crores) and INR 1 crore to INR 350 crores in case of provision of ITeS (i.e. rejecting companies having turnover less than INR I crore and higher than INR 350 crores) applied by the Appellant for identifying the comparable companies.

4. Selecting inappropriate qualitative filters and applying certain filters on selective basis

Erred in selecting following inappropriate qualitative filters and also applying certain filters on selective basis:

Rejection of companies with less than 75% earnings from exports as against 25% earnings from export filter applied by the Appellant;

Rejection of companies with different accounting year;

Rejection of companies with forex spending greater than 75% of operating cost; Rejection of companies having employee cost less than 25% of the total cost; Rejection of companies having gross intangibles greater than 50% of operating revenue: and

Rejection of companies with less than 75% earnings from exports as against 25% earnings from export filter applied by the Appellant;

Rejection of companies with different accounting year;

Rejection of companies with forex spending greater than 75% of operating cost; Rejection of companies having employee cost less than 25% of the total cost; Rejection of companies having gross intangibles greater than 50% of operating revenue: and

Rejection of companies with related party income to operating income or related party expenses to operating expenses of more than 25% as against rejection of companies having more than 25% related party transactions (i.e. income as well as expenses) to total income filter applied by the Appellant;

5. Acceptance of companies having supernormal profits

Erred on facts and in circumstances of the case and in law by including companies having supernormal profits in the set of comparable companies in respect of international transactions pertaining to provision of software development services and provision of IT enabled services.

6. Rejection of certain comparable companies identified by the Appellant in the transfer pricing study report

Erred in rejecting certain comparable companies from the comparable set identified by the Appellant in the transfer pricing report in respect of international transactions pertaining to provision of software development services and ITeS.

7. Accepting certain additional companies as com parable in relation to provision of software development services and ITeS

Erred in accepting certain additional companies as comparable to the Appellant in relation to provision of software development services and ITeS.

8. Accepting MPS Ltd. as a comparable company to ITeS segment of the Appellant

Erred in accepting MPS Ltd. (company identified as comparable by the Appellant in ITP report but provided detailed contentions to reject the same after review of the financial statements for FY 2015-16) on account of it being functionally non-comparable to ITeS segment of the Appellant.

9. Erred in considering foreign exchange difference as non-operating in nature

Erred in treating the foreign exchange difference as non-operating in nature while computing the operating margin of the Appellant as well as comparables companies in the case of provision of software development services and ITeS segment.

10. Erred in rejecting Sundaram Business Services Ltd from the set of comparable companies in IT enabled services segment by stating that the said company is a persistent loss making.

Erred in rejecting Sundaram Business Services Ltd from the final set of comparable companies in IT enabled services segment by stating that the said company had incurred persistent loss, i.e. loss for 3 consecutive years. without appreciating the fact that the aforesaid company is not a persistent loss making company.

11. Non consideration of the directions of the Hon’ble DRP in relation to consideration of the rectified operating margins and working capital adjusted operating margins of the comparable companies pertaining to provision of software development services segment.

Erred on facts and in law by not giving effect to the directions of the DRP issued under section 144C of the Act in relation to consideration of rectified operating margins and working capital adjusted operating margins of the comparable companies pertaining to provision of software development services segment while passing the final assessment order under section 143(3) read with section 144C( 13) read with section 144B of the Act.

12. Non-consideration of adjustment for differences on account of functional and risk profile of comparable companies vis-a-vis the Appellant

Erred in comparing full-fledged risk bearing entities with the Appellant’s captive operations without making any risk adjustment for differences between the functional and risk profile of comparable companies vis-a-vis the risk profile of the Appellant.

II. Grounds of appeal in respect of disallowances/ additions other than transfer pricing adjustment

13. Erred in disallowance of Primary Rate Interface (PRI) Line charges paid to telecom companies amounting to INR 1,18,04,423 on account of non-withholding of taxes

Erred in disallowance of the charges paid to telecom companies such as Bharti Airtel, Tata Communications, and Vodafone Cellular under section 40(a)(ia) by treating the same as leased line charges and not appreciating the fact that the above charges are for standard PRI line charges, which require no human intervention and consequently, does not qualify as fees for technical services

14. Erred in disallowance of expenditure of INR 3,50,51,094 made pursuant to ESOP scheme floated by the Appellant’s parent company

Erred in disallowance of the expenses incurred pursuant to ESOP scheme treating the same as a capital item akin to securities premium and not appreciating the fact that these expenses are deductible under section 37 of the Act

III. Other grounds of appeal

15. Erroneous levy of interest under section 234B and 234C of the Act

Erred in levying additional interest under section 234B and section 234C of the Act of INR 11,33,09,568 and INR 3,37,970 respectively on account of unanticipated additions made to the total income of the Appellant on account of transfer pricing and corporate tax adjustment which is due to difference of opinion and as at the due date of payment of advance tax by no means the Appellant could have estimated such adjustments and consequential tax on such adjustment.

16. Initiation of penalty proceedings under section 271 (1)( c) of the Act

Erred in initiating penalty proceedings under section 271(1)(c) of the Act without appreciating the facts that transfer pricing adjustment to the international transactions of the Appellant and corporate tax adjustment made is on account of difference of opinion as to application of selection criterion for selection of comparable companies, incoherent approach, interpretation of the provisions, interpretation of case laws etc.

IV Additional ground of appeal

17. Deduction in respect of education cess

On the facts and circumstances of the case and in law, the Appellant prays that the liability for education cess on Income-tax paid for the year ought to be allowed as a deduction while computing the total income.

2. At the very outset, the ld. Counsel for the assessee, submitted that with respect to grounds No. 1 to12 in the original grounds of appeal, they have been adjudicated as per the Advanced Pricing Agreement (‘APA’) entered between the assessee and the CBDT dated 15-12-2021. That after the outcome of APA the assessee has filed Modified Grounds of Appeal before the Tribunal. Now, in APA as per clause (2) the terms of the agreement have been spelt out as follows:

The agreement shall apply to consecutive five years commencing from previous year 2015-16 to previous 2019-20 (relevant to assessment years 2016-17 to 2020­21) (hereinafter referred to as “APA years”.

The Agreement shall also apply to consecutive four years commencing from previous year 2011-12 to 2014-15 (relevant to assessment years 2012-13 to 2015­16) (hereinafter referred to as “Rollback years”).

The covered transactions are given at para 3 vide para 3.1 onwards as follows:

A. Provision for software development services (including professional services)

B. Provision of information technology enables service;

C. Provision of sales support services;

D. Allocation of communication cost;

E. Purchase of fixed assets;

F. Recovery of expenses; and

G. Reimbursement of expenses.

The Arm’s Length Price (‘ALP’) of the transactions and the concerned issues are given at para 6 of the said agreement in sub-clause (a) and (b) as follows:

(a) The international transaction related to provision of software development services (including professional services) shall be considered to be at arm’s length for previous years 2011-12 to 2019-20 if the operating profit margin in relation to operating cost of the Applicant in each previous year is not less than 16.00%.

(b) The international transaction related to provision of information technology enables services shall be considered to be at arm’s length for previous years 2011-12 to 2019-20 if the operating profit margin in relation to operating cost of the applicant in each previous year is not less than 15.00%.

3. In this background the assessee further submitted as follows:

2. For your honour’s consideration it is submitted that BMC India had filed the captioned appeal against the additions made by the A.O on transfer pricing issues as well as corporate tax disallowances and the same is pending for adjudication with the Hon’ble ITAT. The details of the transfer pricing adjustment as well as corporate tax disallowances as per the final assessment order is provided below:

3. Simultaneously, BMC India had also filed an application for Advance Pricing Agreement (’APA’) with the Central Board of Direct Taxes (‘CBDT’) and covered following international transactions:

1. Provision of software development services )including professional services)

2. Provision of Information Technology enabled services;

3. Provision of sales support services;

4. Allocation of communication cost; and

5. Reimbursement of expenses.

4. The same has reached a conclusion and BMC India has signed an agreement with CBDT on 15 December 2021 (copy of the signed APA application is enclosed as Attachment 3 at page no 18 to Page no 53). The Agreement is applicable to consecutive nine years commencing from FY 2011-12 to FY 2019- 20 (relevant to AY 2012-13 to AY 2020-21) and the captioned assessment year is covered in the APA agreement.

5. Further, BMC India would like to highlight the fact that 26 associated enterprises (‘AEs’) have been covered under signed APA and 2 AEs namely BMC Finland LE (‘BMC Finland’) and BMC Software GMBH, Austria (‘BMC Austria’) have been erroneously omitted from the list of associated enterprises in the signed APA agreement. BMC India has provided herein below detailed information in relation to associated. enterprises covered under the signed APA, 2 AEs not covered in the singed APA along with the value of international transactions undertaken and proportionate transfer pricing adjustment with respective AEs for AY 2016-17 in Annexure 2 at page no 15 and 16 for your Honor’s easy reference.

6. Basis the Annexure 2, details in relation to TP adjustment made towards the provision of software development services and information technology enabled services with AEs covered under signed APA and proportionate TP adjustment made towards AEs not covered under signed APA are tabulated below for your honour’s easy reference:

…·Percentage (%) of transactions with covered AEs and Non-covered AEs as computed In Annexure 2

7. In view of the above, BMC India would like to mention that the international transactions pertaining to software development services and information technology enabled services and undertaken with AEs covered under signed APA do not require any further adjudication by the Hon’ble ITAT as they have been settled through the APA between the Appellant and the CBDT.

8. In view of this it is required to file modify the general ground of appeal contesting the quantum of transfer pricing addition of Rs 3,080 only as against total quantum of transfer pricing addition challenged in original ground of Rs 44,64,54,953. The appellant is submitting the modified ground to alter the quantum of addition for adjudication of the Hon’ble Bench. Kindly refer Attachment 2 for modified ground of appeal. “

4 Therefore, as per the submissions of the assessee, the quantum of transfer pricing additions after Advance Pricing Agreement is Rs. 3,080/- only as against the total quantum pricing additions of Rs. 44,64,51,873/- as per the original grounds. In this regard, the assessee filed a modified ground of appeal as follows:

I Grounds of objection in respect of transfer pricing adjustment

1. General ground challenging the transfer pricing adjustment of INR 3,080/-consequential to non-consideration/acceptance of comparability analysis as documented in the transfer pricing study report.

Erred in making transfer pricing adjustment to Appellant’s international transactions in the nature of provision of software develo0pment services not considering/accepting the comparability analysis documented in the Transfer Pricing study report for benchmarking analysis.

The Appellant craves leave to add, alter, vary, omit, substitute or amend the above ground of appeal, at any time before or at the time of hearing of the appeal, so as to enable the Honourable ITAT to decide this appeal according to law.”

5. The ld. Counsel for the assessee submitted that because of smallness of the amount, this modified ground of appeal is not pressed. The ld. D.R conceded. Having heard the parties, this modified ground of appeal in pursuant to the outcome of the Advance Pricing Agreement dated 15-12-2021 is dismissed as not pressed.

6. The next ground for adjudication is Ground No. 13 as per the original grounds of appeal which pertains to disallowance of Primary Rate Interface (PRI) line charges paid to telecom companies amounting to Rs. 1,18,04,423/- on account of non-withholding of taxes. In the draft assessment order this issue has been discussed from para 6 onwards. After considering the submissions of the assessee, the A.O held that the assessee is engaged in the software development and production of software products. Telephone with high quality of network is required for such work. Therefore, it is technical service and hence TDS has to be deducted u/s 194J of the Act . The A.O has also observed that similar addition was confirmed by the D.R.P. in assessee’s own case for A.Y. 2014-15 and 2015-16. In the assessment order, this issue has been dealt with on page 9 para 6.3 onwards. The A.O held therefore, that it is a technical service and TDS has to be deducted u/s 194J of the Act. Similarly, the ld. D.R.P have given their findings on this issue from para 14.2 of their order and at para 16.6 and 16.7 it was held as follows:

16.6 The above mentioned contentions of the assessee have been carefully examined and they are found to be untenable for the following reasons:

(a) While the A.O. stated that the payments made by the assessee to the telecom service providers are towards dedicated leased lines, the assessee claimed that the payments were made towards use of PRI lines which are not dedicated leased lines. However, it is noticed that the assessee has not furnished any documentary evidences in support of this factual claim. In the absence of the same, this claim of the assessee needs to be disregarded.

(b)Though the assessee sought to apply the ratio of the decision of the Hon’ble Supreme Court in the case of Kotak Securities Ltd. to contend that the payments made by it for the use of PRl lines cannot be treated as fees for technical services as PRI lines are standard facilities available to any consumer, it is seen that the assessee has not furnished any documentary evidence by way of authentic technical literature in support of its claim that PRI lines are in the nature of standard facilities. The ratio of the decision of the Hon’ble Supreme Court cannot be considered to be applicable to the facts of the assessee’s case, as the assessee failed to substantiate its claim that PRl lines are in the nature of standard facilities.

16.7 In view of the above the contentions advanced by the assessee to state that the payments made for the use of PRl lines do not fall under the scope of fees for technical services and consequently they are not liable for TDS uls. 194J are considered to be unsubstantiated. We are therefore of the view that the A.O. has rightly treated the said payments as fees for technical services liable for TDS uls.194J and has rightly disallowed the said expenditure uls.40(a)(ia) in view of the failure of the assessee to make TDS. Hence, this ground of objection is rejected. “

7. We find that this issue is squarely covered in favour of the assessee by the order of Pune Tribunal in assessee’s own case in ITA No. 2038/PUN/2018 for A.Y. 2015-16, order dated 07-06-2022 wherein it was held as follows:

ITA No. 2038/PUN/2019 for A.Y. 2015-16

The assessee has submitted revised/modified grounds of appeal and at the time of hearing, the ld. Counsel submitted that broadly there are three issues for adjudication in the present appeal. The first issue is addition in respect of disallowance of Primary Rate Interface (PRI) Line charges paid to Telecom Companies amounting to Rs. 60,45,238/- on account of nonwithholding of taxes. The submission of the assessee is that the subordinate authorities have erred in disallowing the charges paid to Telecom Companies such as Bharati Airtel, Tata Communications and Vodafone Cellular u/s 40(a)(ia) of the Act by treating the same as leased line charges and not appreciating the fact that the above charges were for standard PRI line charges which require no human intervention and consequently does not qualify as fees for technical services. In this regard, at the very outset, the ld. Counsel submitted that the issue is squarely covered by the decision of the Hon‟ble Jurisdictional High Court in favour of the assessee in the case of Pr. CIT-2 Vs. Lee & Murihead (P) Ltd. [2020] 119 taxmann.com 499 (Bombay). It was held by the Hon‟ble Bombay High Court as follows:

“The last question (i.e. question No. (d) pertains to the disallowance u/s 40(a)(ia) of the Act on account of non-deduction of tax at source by the assessee while making payment to Vi9desh Sanchar Nigam Ltd. Towards leased line charges. On merits, the Revenue had placed reliance on a decision of this Court in case of CIT Vs. Kotak Securities Ltd. [2012] 20 taxmann.com 846/340 ITR 333 (Bom. The Tribunal however, held that the amount in question was below Rs. 10 lakhs which was a minimum monetary limit enabling the Revenue to prefer appeal against the Commissioner’s Appellate orders before the Tribunal. Revenue argues before us that the Tribunal should have seen the monetary limit of the combined appeals of the assessee as well as the Revenue arising out of the common judgment of the CIT(A) pertaining to the assessee for the same assessment year. In our opinion, this question is not required to be examined in view of the fact that the decision of this Court in case of Kotak Securities (supra) has been revised by the Supreme Court in the case of CIT Vs. Kotak Securities Ltd. [2016] 67 taxmann.com 356/239 Taxman 139/383 ITR 1 (SC). Resultantly, on the merits also, the Revenue would have no ground to succeed.”

Respectfully following the aforesaid decision, we direct the A.O/T.P.O to delete the addition on lease line charges from the hands of the assessee. Accordingly, this ground of appeal of the assessee is allowed.”

8. In the aforestated decision, the Tribunal relied on the decision of Hon’ble Bombay High Court in the case of Lee & Murihead (P) Ltd. (2020) 119 com 499 (Bom). Further, we find that in the said decision, the Hon’ble Bombay High Court had referred to the decision of Hon’ble Supreme Court in the case of CIT Vs. Kotak Securities Ltd. (2016) 67 taxman.com 356 (SC) while providing relief to the assessee. This decision of Hon’ble Apex Court has been placed before us in the paper book filed at page 1112 onwards. In view of the aforestated judicial pronouncement where the addition on lease line charges have been deleted, respectfully following the same, on the same parity of reasoning this ground of appeal of the assessee is allowed and the A.O/T.PO is directed to delete addition on lease line charges from the hands of the assessee. Ground No. 13 is allowed.

9. The next ground No. 14 is with regard to the disallowance of expenditure of Rs.3,50,51,094/- made pursuant to ESOP scheme floated by the assessee’s parent company. This issue has been discussed in the draft assessment order at page 9 para 7 onwards. It was noticed by the A.O that the assessee had debited the ESOP expenses of Rs. 3,50,.51,094/- in profit and loss account and the assessee was asked to explain how these expenses are allowable under the Income-tax Act and the reply of the assessee was considered but was not accepted by the A.O. The assessee had submitted list of employees alongwith form No. 16 of the employees to whom ESOP options have been granted. The A.O on verification of the details held that the assessee has not discharged its primary onus of substantiating its submissions of treating ESOP payment as perquisites in the hands of the employees. The A.O also held that the ESOP expenditure incurred by the assessee is not allowed in the absence of verification of taxability of the same in the hands of the employees. Finally, the A.O makes a disallowance of Rs. 3,50,51,094/- u/s 37 of the Act. This has been upheld by the ld. D.R.P at para 16.2 onwards where vide para 16.2.3 before the D.RP we find that there was certain additional evidences submitted by the assessee because it was submitted that the assessee had inadvertently given the details of payments made to the employees pertaining to financial year 2014-15 instead of the amount debited to P & L account amounting to Rs. 3,50,51,094/- and claimed that the amount debited in P & L account was deductible expenditure. The additional evidences submitted by the assessee were forwarded to the A.O and his comments were recorded. It is noted by the ld. D.R.P that in the said report of the A.O he had constantly harped upon the point that the assessee was not able to substantiate that the amounts were paid to employees as perquisites on which TDS has been deducted. In our considered view, once the addition is sustained by the D.R.P and made by the A.O for non-deduction of TDS the provisions for addition and confirming the disallowance should have been u/s 40(a)(ia) of the Act and not u/s 37 of the Act as has been invoked by the A.O and sustained by the ld. D.R.P. In view thereof, we set aside the findings of the ld. D.R.P on this issue and allow this ground of appeal of the assessee. Ground No. 14 is allowed.

10. Grounds No. 15 and 16 of the original grounds of appeal are consequential and ground No. 17 is the addition in respect to Education Cess. The ld. Counsel for the assessee submitted that he is not pressing ground No. 17. Having heard the submissions of the ld. A.R Ground No. 17 of the appeal is dismissed as not pressed.

11. In the combined result, appeal of the assessee is partly allowed.

Order pronounced in the open Court on this 09^th September 2022.