The Tale of 2 Perspectives| SAP Labs India (P) Ltd. v. CIT: A case comment

The discussion pertains to the decision in SAP Labs India (P) Ltd. v. ITO¹, passed in a batch of civil appeals mostly by the Revenue and a few by the assessees. These arose out of judgments passed by the various High Courts, particularly the High Court of Karnataka in CIT v. Softbrands India (P) Ltd.², which had dismissed the appeals challenging the findings of the Income Tax Appellate Tribunal on “transfer pricing” issues on the ground that the comparable selection issues decided by the Tribunal are questions of fact and without demonstrating perversity, no substantial question of law arises for consideration under Section 260-A³ of the Income Tax Act,1961.

This issue has held the central point and fulcrum of litigations and debates involving the Indian tax practitioners and adjudication forums from Income Tax Appellate Tribunals (ITATs) and High Courts across the country, for more than a decade and a half. 5 years back it seemed that Softbrands⁴ruling did beget some clarity but now with its overruling, it seems we are back to square one.

The author endeavours to highlight two sets of opposing factions in respect of the judgment and provide a summary analysis from opposite standpoints— one point of view favouring the judgment and the other contra/opposing it.

Perversity with respect to Section 260-A

One perspective is that the judgment has given its findings on the issue and strung it with the long-lasting principle of “perversity ”.

While doing so it observed in para 26⁵ that:

26. Therefore, while determining the arm's length price, the Tribunal has to follow the guidelines stipulated under Chapter X of the IT Act, namely, Sections 92⁶, 92-A to 92-CA⁷, 92-D⁸, 92-E⁹ and 92-F¹⁰ of the Act and Rules 10-A to 10-E¹¹ of the Rules. Any determination of the arm's length price under Chapter X dehors the relevant provisions of the guidelines, referred to hereinabove, can be considered as perverse and it may be considered as a substantial question of law as perversity itself can be said to be a substantial question of law.

This judgment, is a reincarnation of the basic principle of perversity, deeply embedded in the “question of law” adjudication as provided under Section 260-A of the Income Tax Act.

Fact-finding authority — Burden on High Courts 

The other view/perspective is, that the judgment has set the clock back a decade and has erroneously delegated another fact-finding exercise onto the already overburdened High Courts and virtually turned the High Courts into another fact-finding forum after the ITAT.

In fact, this aspect was specifically submitted before the Supreme Court, that the transfer pricing analysis involves benchmarking of controlled transactions with uncontrolled transactions (terms specifically defined in the IT Act and the Rules) which is largely a statistical exercise using database of companies in public domain as specifically defined in these Rules.

In all cases reaching the Court (except for those being perverse), the exercise of application of detailed guidelines as set out in the IT Act and the Rules have indeed been applied and ironed out by Tribunal with assistance of taxpayers representatives and department officers by looking at publicly available information mostly in the form of audited financials, etc. of the companies as prescribed in the Rules.

The Tribunal acts as a quasi-judicial expert and is the final fact-finding authority and such analysis falls within its ambit of powers devolved upon it by virtue of the Act. The Softbrands¹² judgment specifically held this while passing the judgment—

Need for giving primacy to the Tribunal in the area of fact-finding:

46. Undoubtedly, the Income Tax Tribunal is the final and highest fact-finding body under the Act. It is manned by expert members (judicial members are selected from District Judges or advocates and accountant members selected from practising Chartered Accountants or persons of CIT level in the Department). Therefore, this quasi-judicial forum is expected and as some of the nicely articulated judgments and orders from the Tribunal would indicate, the orders passed by the Tribunal should normally put an end and quietus to the findings of facts and factual aspects of assessment. The lower Revenue Authorities cannot be allowed to make it their prestige issue if their stand is not upheld by the Tribunal and agitate against their orders before the higher courts by resorting to Section 260-A or Section 261¹³ of the Act merely because they are dissatisfied with the findings of facts by the Tribunal.

Unlike in other civil cases, within the tax dispute resolution— a “question of fact” travels through 3 forums of expert analysis— AO, CIT(A)/DRP and ITAT. Appeals before the High Courts are essentially the third round of appeal and obviously, the appellant ought not to have the same liberties and opportunities in this third round as provided earlier. This was well- envisaged under Section260-A¹⁴ of the Act and the legislative intention while drafting the said clause has always been to restrict the adjudication to a “substantial question of law” and not traverse into “questions of fact”.

Thus, clearly the bounds of Section 260-A are further narrow and curtailed and cannot be treated as normal appeal under Section 96¹⁵ or Section 100¹⁶ CPC. The findings of the Supreme Court not just upset the settled law with reference to Section 260-A, but also detrimentally impacts the process under Section 100 CPC.

The locus classicus cases interpreting this provision have categorically provided the ambit and contours of the expression “substantial question of law ”, like the Constitutional Bench decision of Chunilal V. Mehta and Sons Ltd. v. Century Spg. and Mfg. Co. Ltd.¹⁷, and the 3-Judge Bench in Santosh Hazari v. PurushottamTiwari¹⁸, as well as the decision in Vijay Kumar Talwar v. CIT¹⁹(especially on Section 260-A) and several others, highlight this.

The Supreme Court in Vijay Kumar²⁰ observed in para 19 that the expression “substantial question of law” is not defined in the Act. Nevertheless, it has acquired a definite connotation through various judicial pronouncements and then went ahead to record those.

In Chunilal V. Mehta²¹, a Constitution Bench of the Supreme Court, while explaining the import of the said expression observed that:

6. …The proper test for determining whether a question of law raised in the case is substantial would, in our opinion, be whether it is of general public importance or whether if directly and substantially affects the rights of the parties and if so whether it is either an open question in the sense that it is not finally settled by this Court or by the Privy Council or by the Federal Court or is not free from difficulty or calls for discussion of alternative views. If the question is settled by the highest court or the general principles to be applied in determining the question are well settled and there is a mere question of applying those principles or that the plea raised is palpably absurd the question would not be a substantial question of law.

Similarly, in Santosh Hazari²², a three-Judge Bench of the Supreme Court observed that:

14. A point of law which admits of no two opinions may be a proposition of law but cannot be a substantial question of law. To be “substantial” a question of law must be debatable, not previously settled by law of the land or a binding precedent and must have a material bearing on the decision of the case, if answered either way, insofar as the rights of the parties before it are concerned. To be a question of law “involving in the case” there must be first a foundation for it laid in the pleadings and the question should emerge from the sustainable findings of fact arrived at by the court of facts and it must be necessary to decide that question of law for a just and proper decision of the case. An entirely new point raised for the first time before the High Court is not a question involved in the case unless it goes to the root of the matter.

Thus, the judgment in Sap Labs²³ authored by M.R. Shah, J. respectfully submitting, is in direct contravention of the law laid down by several binding decisions of this Court rendered in the Constitutional Bench decisions in Chunilal Mehta²⁴ and Vijay Talwar²⁵ (both of which have incidentally been quoted in SAP Labs²⁶ as well) and several other larger and Coordinate Benches of the Supreme Court itself.

Notwithstanding the sheer wastage of judicial time of the High Court's carrying out this unwarranted repetitive fact-finding, this has now cast an unjust burden on the High Court to undertake a suo motu exploration of facts not even placed before it and make out a case for the department and decide the same without any assistance from the appellant before the High Court.

In fact, pertinently and pre-emptively the Court in Softbrands²⁷ had also cautioned against this very aspect while reaching its reasoned conclusion, observing that:

45. Otherwise, if the High Court takes the path of making such a comparative analysis and pronounces upon the questions as to which filter is good and which comparable is really comparable case or not, it will drag the High Courts into a whirlpool of such data analysis defeating the very purpose and purport of the provisions of Section 260-A of the Act. Therefore, what we observed above appears to us to be the sustainable view that the key to the lock for entering into the jurisdiction of High Court under Section 260-A of the Act is the existence of a substantial question of law involved in the matter. The key to ex facie perversity of the findings of the Tribunal duly established with the relevant evidence and facts. Unless it is so, no other key or for that matter, even the inconsistent view taken by the Tribunal in different cases depending upon the relevant facts available before it cannot lead to the formation of a substantial question of law in any particular case to determine the aspects of determination of “arm’s length price” as is sought to be raised before us. ( emphasis supplied)

Comparables issue with respect to perversity

One view is that the decision has indeed laid to rest the long-standing issues pertaining to comparables being selected/chosen under the transfer pricing analysis. What is palpable is that in the final paragraphs the Supreme Court has defined the parameters of the remand to the High Courts. The terminology and verbiage used in paras 26 to 29of the judgment reflect the same.

On one hand, the High Courts are mandated to follow terms of the judgment like, “…the High Court should examine whether the guidelines laid down in the Act and the Rules are followed while determining the arm's length price”²⁸ “…and examine in each and every case whether the guidelines laid down under the Act and the Rules, referred to hereinabove, are followed….”.²⁹

On the other hand, it provides the High Court's to utilise their own discretion—
“is always open for the High Court to examine in each case”³⁰, “Even the High Court can also examine the question of comparability….”³¹,“The High Court can also examine whether the comparable transactions….”³², and “It is ultimately for the High Court concerned to take a fresh decision, as observed hereinabove”³³.

In doing so, it clearly defines where the High Courts are obligated to follow the judgment directions on one hand, and on the other hand, where the High Courts may choose their discretion under Section 260-A.

Thus, finally it sets up a law which shall act as a precedent, that now all High Courts in different jurisdictions would be following.

Vague parameters to select comparables under Section 260-A 

The other perspective is that, firstly, the judgment fails to provide any specific standpoint which the High Courts are bound to follow while deciding appeals pertaining to comparables selection under Section 260-A, except generally stating an alleged extreme proposition to be unfollowed.

A general non-substantial repetition of observations is evident from the last 3 palpably operative paragraphs wherein — the judgment simply says follow the rules and provisions of the Act, and dwells more on what ought not to have been done, rather than directing what is to be done. Unfortunately, it is a negatively couched judgment in a negative connotation, instead of a positive direction to the High Courts to follow.

Having heard around 100 counsel and 100 appeals (recording of which incidentally encompasses 11 pages and â…“rd of the judgment itself), the least that could have been done is to interpret the law. Transfer pricing itself is a very vast field and a huge opportunity has been lost by the Supreme Court to either provide exact contours to the selection exercise or provide the ambit of the appeal adjudication under the statute (under Section260-A).

No analysis, assessment, adjudication, or appreciation seems to have been done of the provisions or the law and it seems to have been penned in haste, simply to overturn the Softbrands³⁴ ruling with merely 3 repetitive paragraphs as the only operative portions of the order, with 25 pages out the 29 only stating submissions.

Secondly, the judgment provides a very slippery slope giving wide discretion and amplitude to the High Courts, which may likely result in multiplicity of orders and judgments without any set precedents. Respectfully, it ought to have settled the law on the issue of comparables appeals before the High Courts as theSoftbrands³⁵ruling had done, but instead ended up perpetuating the alleged evil³⁶ that it had sought to stop.

The judgment in Softbrands³⁷ had settled the position to a large extent and was being seamlessly followed by almost all the High Courts in different jurisdictions and resulted in some legal certainty for the litigant assessees, but now the said judgment in Sap Labs³⁸opens up the discretion that is liable to be exercised in different ways.

Over the last two decades, tribunals and various High Courts have applied the guidelines laid down in the IT Act and the Rules contributing to the evolution of a process. Thus, such intervention by the Court in the Department’s appeals in the said batch of cases, without laying down any specific guidelines and ignoring the background of the advent of law, has actually disturbed the well-settled principles under Section 260-A and comparables adjudication.

It sets no new law and in fact upsets the long-standing position which brought about more certainty and clarity in the adjudication process at the stage of the High Courts. Now the fate of each of the thousands and lakhs of cases hangs in the discretionary balance of different courts.

Thirdly, as submitted above, the Supreme Court judgment states that any determination has to be based on the arm's length price under Chapter X and the relevant provisions of the Act, without which the findings can be considered as perverse and “it may be considered as a substantial question of law as perversity itself can be said to be a substantial question of law”. Respectfully submitted, this is no new law.

This law already stands settled since half a century by a catena of judgments on perversity.³⁹

In Sree Meenakshi Mills Ltd.⁴⁰, Venkatarama Ayyar, J., speaking for this Court, said that findings on question of pure facts arrived at by the Tribunal were not to be disturbed by the High Court on a reference unless it appeared that there was no evidence before the Tribunal upon which they, as reasonable men, could come to the conclusion to which they had come; and this was so, even though the High Court would on the evidence have come to a conclusion entirely different from that of the Tribunal. The Court laid down the following propositions: “(a) Such a finding can be reviewed only on the ground that there was no evidence to support it or that it was perverse ”.⁴¹

In fact, sub-clause (6) of Section 260-A itself provides the grounds, (a)has not been determined by the Appellate Tribunal; or (b) has been wrongly determined by the Appellate Tribunal, by reason of a decision on such question of law as is referred to in sub-section(1)— these 2 grounds make the bedrock of perversity.

The well-settled principle of law as demonstrated above, has been that a finding of fact arrived at by the Tribunal will not be disturbed unless it is based on no material or is perverse or is based on irrelevant, extraneous, or inadmissible considerations or is arrived at by the application of wrong principles of law. Change of perspective in viewing a thing does not transform a question of fact into a question of law.

This perversity exception to be applied to the case of comparable adjudication under Section 260-A, had already been clarified and applied explicitly by Softbrands itself, which now stands unceremoniously set aside—

47. In the case before us now, the pick of comparables, short listing of them, applying of filters, etc., are all fact-finding exercises and therefore the final orders passed by the Tribunal are binding on the lower authorities of the Department as well as High Court.⁴²

48. The Tribunal of course is expected to act fairly , reasonably, and rationally and should scrupulously avoid perversity in their orders. It should reflect due application of mind when they assign reasons for returning the particular findings.⁴³

Pertinently, the Court even gave examples of “perversity” in para 49,

49. For instance, while dealing with comparables or filters, if unequals like Software Giant Infosys or Wipro are compared to a newly established small size company engaged in software service, it would obviously be wrong and perverse. The very word “comparable” means that the group of entities should be in a homogeneous group. They should not be wildly dissimilar or unlike or poles apart. Such wild comparisons may result in the best judgment assessment going haywire and directionless wild, which may land up the findings of the Tribunal in the realm of perversity attracting interference under Section 260-A of the Act.⁴⁴

The Softbrands⁴⁵ judgment and in fact the High Courts in almost all of the cases categorically stated that since in the facts of the case, “perversity” is either not pleaded or not argued or not demonstrated by placing material to that effect, then in those cases, no substantial question of law arises for consideration under Section 260-A.

The Supreme Court unfortunately merely duplicates this finding as its ratio and essentially reaffirms the principle of perversity, but still bizarrely chose to set aside the decision ofSoftbrands⁴⁶along with other High Court decisions which have actually followed the same principle of perversity to adjudicate the respective case(s). Thus, in this background Shah's, J. findings in the judgment under discussion leaves some of us flummoxed, perplexed, and bewildered.

In fact, in comparable adjudication cases, where the courts have exercised the discretion under Section 260-A, they have explicitly and consciously relied upon the principle of “perversity” to set aside the Tribunal's decision. Take for example the interesting decision of the Delhi High Court in Avaya India(P) Ltd. v. CIT⁴⁷ which had relied upon the same paras 48 and 49 of Softbrands⁴⁸ which had reiterated perversity to set aside the decision of the ITAT:

26. The Court may note that the Karnataka High Court has in CIT v. Softbrands⁴⁹ noted as under:

48-49. * * *

27. There is merit in the contention of the assessee that the scale of operations of the comparables with the tested entity is a factor that requires to be kept in view. TCS e-Serve has a turnover of Rs1359 crores and has no segmental revenue whereas the assessee’s entire segmental revenue is a mere 24 crores. As observed by this Court in CIT v. Actis Global Services (P) Ltd.⁵⁰, ­­”size and scale of TCS’s operation makes it an inapposite comparable vis-à-vis the petitioner” … When Rule 10(B)(2) is applied i.e. the FAR analysis, namely, functions performed, assets owned, and risks assumed is deployed then brand and high economic upscale would fall within the domain of “assets” and this also would make both these companies as unsuitable comparables.⁵¹

Thus, the decision as laid out in Softbrands⁵² giving the discretion to the High Courts to set aside or modify the fact-finding given by the Tribunal on grounds of perversity, has already been utilised and dealt with in deserving cases like in Avaya India⁵³ by the Delhi High Court as exampled above and several other High Courts. And relevantly, Rule 10-B (as has been asserted by the Supreme Court in Sap Labs⁵⁴) to be followed by the High Courts, has also already been categorically relied upon by the courts to reach their conclusions.

Alleged curtailment of the power of High Court

The Supreme Court in its decision in Sap Labs had framed the question⁵⁵ as under—

Therefore, the short question which is posed for the consideration of this Court is, whether in every case where the Tribunal determines the arm's length price, the same shall attain finality and the High Court is precluded from considering the determination of the arm's length price determined by the Tribunal, in exercise of powers under Section 260-A of the Act?

One view is that the Supreme Court thus sets aside the decision in Softbrands⁵⁶ as followed by other High Courts which had painted everyone with the same brush by stating that comparables is a question of fact and not a substantial question of law and therefore, the High Courts are bound by the view on facts as finalised by the ITATs.

The judgment rightly propounds that the High Court's powers under Section 260-A cannot be curtailed in such blanket terms and there cannot be an absolute bar to the statutory rights enshrined under the Act.

The other perspective is that a bare perusal of the question would highlight that it was unfortunately wrongly loaded. The question/issue is not whether the High Courts are entirely “precluded”, but instead that whether the High Courts have the choice and discretion to consider a case where perversity lies in the order of the Tribunal.

Discretion has always been open to the High Courts on grounds of perversity⁵⁷ which has always been the golden thread running through all judgments under Section 260-A by the High Courts having exercised such discretion on any ground — not just on the comparables issue but qua any decision of the Tribunal on any other provision or issue, like royalty, income determination, depreciation, et al.

Thus, the SAP Labs⁵⁸ judgment is a classic example of “A wrong question will beget a wrong answer ”.

Softbrands⁵⁹ never made any such sweeping statement that the High Court is “precluded completely” and that comparable selection “cannot be the subject-matter of scrutiny ”. Respectfully, it was wrongly argued and wrongly accepted by the Supreme Court in its judgment.

The paragraphs in Softbrands⁶⁰ clearly dispel this misconstruction and in fact unconditionally leaves the High Court's discretion wide open to be exercised in cases of perversity⁶¹, highlighting those cases “which may land up the findings of the Tribunal in the realm of perversity attracting interference under Section 260-A of the Act”⁶².

That statutory right available under Section 260-A of the Act and exercising that right in terms of the test of perversity as laid down by the Supreme Court since several decades, was never taken away by Softbrands⁶³and finds considerable mention in the said paragraphs of this judgment.⁶⁴

The ratio of the Softbrands⁶⁵ decision or other High Courts was never that it was not open to “judicial scrutiny” as has been alleged by the Department/accepted by the Court; but the ground was that “comparables selection” is a question of fact; and this being a question of fact, is therefore not amenable to the Section 260-A jurisdiction.

Conclusion

As time and again and decision after decision, it has been established that “a judgment is for what proposition it upholds”, but the judgment in Sap Labs⁶⁶ seemingly fails to put forth any such proposition, except merely reiterating the time immemorial doctrine that the Tribunal's findings need to be tested on the anvil of “perversity” by the High Courts under Section 260-A.

Curiously, the judgment rendered by Shah, J. in Sap Labs⁶⁷does leave open more questions than answers—

(a) Does the Supreme Court judgment follow its own test of perversity?

Because it is quite difficult to discern from the scant reasoning provided, as to how has the Softbrands⁶⁸ judgment been shown as perverse.

(b) If the judgment says that perversity has to be seen — then why are those
High Court judgments set aside and remanded, in which cases the High Courts, having painstakingly gone through the records and consciously dismissed the appeals after itself recording a categorical finding that “Revenue has not pleaded or not argued or not demonstrated by placing material to that effect?”

(c) Respectfully, does it not tantamount to giving a second bite at the cherry to the Department in such appeals as well?

The findings unfortunately seem to be self-contradictory and muddled and do not provide an answer thereto.