Taxpayer’s functional profile and place in the value chain can be a key determinant of the parameters of economic analysis

z ITAT Delhi has recently pronounced its ruling in the case of ST Microelectronics Private Limited Vs. CIT(A), wherein it upheld the revenue’s rejection of transfer pricing analysis undertaken by the taxpayer since the taxpayer had improperly characterized itself as a low-risk software service provider and accordingly, selected wrong com parables for the transfer pricing analysis. Besides, the decision also reiterates that it is a mandatory requirement of Rule 10B(4) of the Income-tax Rules 1962 [“the Rules”] to use current year data for comparability analysis.

Facts

The taxpayer is a subsidiary of ST Microelectronics Pte Ltd., which in turn is a wholly-owned subsidiary of ST Microelectronics Neitherland. It is a 100% EOU set up for rendering integrated circuit design, CAD tools and software development services to its group entities [“AEs”].

During the assessment years [“AY”] 2003-04, 2004-05 and 2006-07, the taxpayer rendered the aforesaid software development services, along with provision of certain marketing support services, to its AEs. For the purpose of bench marking, the taxpayer aggregated these two types of services since the latter formed a very insignificant part of the entire revenue. Further, transactional net margin method [“TNMM”] was selected as the most appropriate method with OP!OC as the profit level indicator [“PLI”]. The taxpayer characterized itself as a low-risk captive software service provider and accordingly identified comparable companies engaged in software development. It computed com parables’ margins using multiple-year data and claimed its transactions to meet the arm’s length principle by the application of +!- 5% benefit as provided in the regulations.

During the course of assessment proceedings, the transfer pricing officer [“TPO”] analysed the functional profile of the taxpayer and observed that the taxpayer had improperly characterized itself as a low-end captive software service provider, whereas it was actually a high-end service provider, performing the most critical part of the value chain and deploying highly qualified technical personnel.

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