PCIT Vs Novell Software Development India Pvt. Ltd. (Karnataka High Court)
Size Matters in Transfer Pricing: Karnataka HC Upholds ₹200-Crore Turnover Filter
The Dispute: Can Software Giants Be Used as Comparables?
The Karnataka High Court upheld the Tribunal’s exclusion of certain high-turnover companies from the comparables used for benchmarking the assessee’s software development segment. Following its recent decision in SAP Labs India, the Court held that an upper turnover filter of ₹200 crore is rational and legally sustainable.
The Revenue argued that company size and turnover should not determine comparability in the software industry. The Court rejected that contention, recognising that turnover, brand value, economies of scale, bargaining power and ownership of intangibles materially influence comparability and profitability.
The appeal was consequently rejected, with the issue decided against the Revenue and in favour of the assessee.
Revenue’s Original Question Did Not Arise
The appeal concerned the Bangalore Tribunal’s order dated 4 September 2019 in IT(TP)A No. 1491/Bang/2014, relating to assessment year 2009–10.
It had been admitted on 31 January 2022 to examine a question challenging the exclusion of several companies on grounds of functional dissimilarity. The Revenue alleged that the Tribunal’s findings were perverse.
However, the High Court noted that the present appeal arose from the dismissal of the Revenue’s appeal before the Tribunal and that the question now projected had not been raised before the Tribunal.
On that basis, the Court held that the originally admitted question did not arise for consideration. The judgment thus dealt separately with the procedural defect affecting that question and the merits of the additional turnover-filter question.
An Additional Question on Turnover
During the hearing, the Revenue filed a memo proposing an additional substantial question of law.
It challenged the Tribunal’s exclusion of Persistent Systems Ltd., Zylog Systems Ltd., Mindtree Ltd. and L&T Infotech Ltd. from the software development segment.
The Revenue contended that the Tribunal had treated size and turnover as deciding factors while ignoring its argument that economies of scale were irrelevant to the software industry. It also alleged that the exclusion was contrary to Rule 10B of the Income-tax Rules.
The assessee submitted that the issue stood covered by the coordinate Bench’s judgment dated 28 August 2026 in ITA No. 10/2011 and connected appeals concerning SAP Labs India.
₹200-Crore Filter Held Legally Sustainable
The High Court examined the conclusions recorded in the SAP Labs judgment and applied its ruling on turnover.
That decision recognised that the Tribunal’s adoption of an upper turnover limit of ₹200 crore was justified because business scale and associated commercial advantages could affect profitability.
The Court therefore declined to accept the Revenue’s proposition that turnover lacked relevance merely because the companies operated in the software industry.
It also noted that the Tribunal, following Genesis Integrating Systems India Pvt. Ltd. v. DCIT, had excluded the four companies on grounds of functional dissimilarity and turnover exceeding ₹200 crore.
The exclusion was thus supported by the Tribunal’s assessment of comparability, including both functions and scale.
Broader Principles Reproduced from SAP Labs
The judgment reproduced several transfer pricing principles from SAP Labs. These provide context, although the substantive issue applied in this appeal was the turnover filter.
The initial burden of determining the arm’s length price and maintaining prescribed documentation rests on the taxpayer. The TPO’s interference must satisfy the conditions under section 92C(3). Once the TPO rejects the taxpayer’s determination and substitutes comparables, the TPO must justify the inclusion or exclusion.
Comparable selection is a factual and data-driven exercise governed by Rule 10B. A taxpayer’s comparables cannot be rejected merely to replace them with a standard departmental set.
The reproduced conclusions also recognise that a 15% related-party transaction filter is ordinarily preferable. A higher threshold of 20% or 25% requires a specific finding that sufficient comparables meeting the lower threshold are unavailable.
Foreign exchange gains or losses qualify as operating items only where they have a direct nexus with the international transaction. Comparables may also be included or excluded at the appellate stage if the data is reliable and the statutory requirements are satisfied.
Further, the erstwhile ±5% tolerance is a permissible variation, not a standard deduction. Working capital adjustment is a comparability adjustment rather than a selection filter, and its availability depends on the facts.
Author’s Comments
This judgment provides useful jurisdictional support for applying the ₹200-crore upper turnover filter in an appropriate software development comparability analysis.
Its commercial reasoning is significant. Companies providing software services may still differ materially in bargaining strength, brand recognition, scale and ownership of intangibles. These differences can influence margins and cannot be dismissed simply because both entities belong to the same industry.
At the same time, the ruling should not be presented as prescribing a universal ₹200-crore ceiling for every transfer pricing exercise. It upholds the filter in the context considered, following SAP Labs and the Tribunal’s findings.
The procedural point also deserves attention: an admitted question must arise from the actual controversy before the Tribunal. Here, the original question failed that requirement, while the additional question failed on the governing precedent.
For practitioners, the decision reinforces the need to support comparable selection with functions, assets, risks and commercial scale, rather than relying solely on a broad industry description.
Cases Discussed:
1. SAP Labs India Private Limited Vs ITO – ITA No. 10/2011 and connected appeals, decided on 28.08.2026 – Followed; ₹200 crore upper turnover filter held rational and legally sustainable.
2. Genesis Integrating Systems India Pvt. Ltd. Vs DCIT – Followed by the Tribunal for exclusion of companies on functional dissimilarity and turnover exceeding ₹200 crore.
FULL TEXT OF THE JUDGMENT/ORDER OF KARNATAKA HIGH COURT
Heard learned counsel Sri.E.I.Sanmathi for the appellants-revenue as well as learned senior counsel Sri.T.Suryanarayana for Miss.Tanmayee Rajkumar, learned counsel for the respondent-assessee. Perused the entire appeal papers.
2. This appeal was admitted to examine the following substantial question of law by order dated 31.01.2022.
”Whether on the facts and circumstances of the case and in law, the Tribunal is correct in holding that Accel Transmatic Ltd., (seg), Avani Cimcon Technologies Ltd., Celestial Labs Ltd., E-est Solutions Ltd., Flextronics Software Systems Ltd., (seg), Helios & Matheson Information Technology Ltd., Infosys Technologies Ltd., Ishir Infotech Ltd., Kals Information Systems Ltd., (seg) Lucid Software Ltd., Persistent Systems Ltd., Sasken Communication Technologies Ltd., Persistent Systems Ltd., Tata Elxsi Ltd (seg), Thirdware Solutions Ltd (seg) and Wipro Ltd (seg) cannot be taken as comparable holding that these companies are functionally dissimilar and as such the order passed by Tribunal is perverse in nature?”
3. Today, during the course of hearing, learned counsel for the appellants-revenue files a memo, raising one more additional substantial question of law which reads as follows:
“Whether on the facts and in the circumstances of the case, the Tribunal’s order can be said as perverse in nature in directing the Transfer Pricing Officer to exclude Comparables namely Persistent Systems Ltd., Zylog Systems Ltd, Mindtree Ltd, L & T Infotech Ltd., in software development segment by holding that size and turnover of the Company are deciding factors for treating a company as a comparable ignoring that economics of sale is not relevant in software industry and contrary to parameters set out in Rule 10B of IT Rules?”
4. At the outset, learned senior counsel Sri.Suryanarayana for respondent-assessee submits that the substantial questions of law raised herein are answered in judgment dated 28.08.2026 in ITA No.10/2011 and connected appeals (SAP Labs India (P) Ltd. V. Income Tax Officer (and other appeals), [2023] 454 ITR 121 (SC)/ [2023] 149 taxmann.com 327 (SC) and connected matters.)
5. We have gone through the above judgment in SAP Labs India (P) Ltd., (supra) wherein the co-ordinate bench on a detailed discussion has recorded its conclusion as follows:
“E. CONCLUSION
(i) The Court concludes that Chapter X of the Income-tax Act, 1961 constitutes a self-contained code governing transfer pricing, providing a complete statutory framework for determination of the Arm’s Length Price (ALP), maintenance of documentation, and assessment of international transactions.
(ii) The initial burden of determining the ALP and maintaining the prescribed documentation rests upon the taxpayer, while the Transfer Pricing Officer can interfere with the taxpayer’s determination only upon satisfaction of the conditions stipulated under Section 92C(3) of the Act.
(iii) The selection or exclusion of comparables is essentially a factual and data-driven exercise, and the TPO cannot reject the taxpayer’s comparables merely to substitute them with a standard departmental set. Such determination must strictly conform to the requirements of Rule 10B of the Rules.
(iv) The Tribunal’s adoption of an upper turnover filter of Rs.200 crores is rational and legally sustainable, as turnover, brand value, economies of scale, bargaining power and ownership of intangibles materially influence comparability and profitability.
(v) An RPT filter of 15% is ordinarily preferable, though a higher threshold of 20% or 25% may be adopted only upon recording a specific finding that sufficient comparable companies satisfying the lower threshold are unavailable.
(vi) Foreign exchange gain or loss can be treated as an operating item only when it has a direct nexus with the international transaction. Where such nexus is absent, it cannot form part of the operating revenue or operating cost.
(vii) The burden of proof varies according to the nature of the dispute. While the taxpayer bears the initial burden of substantiating the ALP, once the TPO rejects the taxpayer’s determination and substitutes comparables, the burden shifts to the TPO to justify such inclusion or exclusion.
(viii) There is no legal prohibition against inclusion or exclusion of comparables at the appellate stage, provided the subsequently relied upon data is reliable and the proposed comparables satisfy the requirements of the Act and the Rules.
(ix) The tolerance of ±5% prescribed under Section 92C of the Act is merely a permissible variation and not a standard deduction, and transfer pricing adjustment becomes necessary whenever the variation exceeds the prescribed statutory limit.
(x) Working Capital Adjustment is a comparability adjustment and not a selection filter, and its grant depends entirely upon the facts of each case. Findings on such adjustment, like the selection of comparables, ordinarily remain findings of fact and do not warrant interference unless shown to be contrary to the Act or vitiated by perversity.”
6. The substantial question of law on which the appeal was admitted on 31.01.2022 do not arise for consideration since the present appeal is against the dismissal of the appeal filed by the appellants-revenue before the ITAT. The question raised herein was not raised before the Tribunal. Hence, the said question would not arise for consideration before this Court.
7. With regard to additional substantial question of law raised today by way of memo, in terms of SAP Labs India (P) Ltd. (supra), adoption of an upper turnover filter of Rs.200 crores is rational and legally sustainable, as turnover, brand value, economies of scale, bargaining power and ownership of intangibles materially influence comparability and profitability.
8. The Tribunal, while excluding the comparables namely Persistent Systems Ltd., Zylog Systems Ltd, Mindtree Ltd, L & T Infotech Ltd., has observed that the comparables sought to be excluded are 100% software development companies having high turnover and therefore, following the decision in GENESIS INTEGRATING SYSTEMS INDIA PVT. LTD. V/S DCIT excluded on the counts of functionality not being similar with that of assessee and also because they have a high turnover of more than 200 Crores.
9. By following the decision of SAP Labs (supra), we are of the considered opinion that the substantial question of law would not arise for consideration in this appeal and accordingly, the same is answered against the revenue and in favour of the assessee. The appeal is accordingly, rejected.
