Section 254 IT Act | ITAT Lacks Jurisdiction to Direct DRP or TPO; Only AO Can Be Directed : ITAT Bangalore

The Income Tax Appellate Tribunal, Bangalore, has clarified a critical procedural boundary in transfer pricing disputes: the Tribunal cannot issue binding directions to the Dispute Resolution Panel or Transfer Pricing Officer, as neither are parties to the appeal. This ruling reinforces the statutory architecture of income tax adjudication and has immediate implications for how appellate orders are implemented.

Background & Facts

The Dispute

The appellant, M/s. Xchanging Solutions Limited (formerly Cambridge Solutions Limited), challenged the final assessment order dated 27.12.2024 for assessment year 2011-12, which determined its total income at ₹190,805,854. The dispute centered on the inclusion of five companies - Info Chips Limited, Acropetal Technologies Limited, E-Zest Solutions Ltd, ICRA Techno Analytics Ltd, and Persistent Systems and Solutions Ltd - as comparables in the transfer pricing analysis for software development services. The appellant had sought their exclusion, arguing they were not truly comparable.

Key Facts

• The appellant filed its return showing nil income on 30.06.2011.
• The case was selected for scrutiny under Section 143(3) and referred to the Transfer Pricing Officer (TPO) under Section 92CA.
• The TPO issued a draft order on 29.01.2024, including the five comparables and adjusting the arm’s-length price for software development services by ₹43,166,829.
• The appellant filed objections under Section 144C(2)(b) against the draft assessment order.
• The Dispute Resolution Panel (DRP) issued directions on 29.11.2024, upholding the TPO’s inclusion of the five comparables.
• The final assessment order was passed by the Assessing Officer on 27.12.2024.

Procedural History

• 19.01.2022: ITAT passed order in ITA No. 492/Bang/2015, remanding the issue of exclusion of the five comparables to the DRP, and the inclusion of two other comparables (R Systems and Helios & Mathson) to the TPO.
• 26.08.2022: ITAT disposed of MA No. 61/Bang/2022, reaffirming the remand directions.
• 29.01.2024: TPO issued order under Section 92CA(3), including R Systems and Helios & Mathson but retaining the five disputed comparables.
• 29.02.2024: Draft assessment order issued by AO.
• 29.11.2024: DRP issued directions under Section 144C(5), rejecting appellant’s objections and upholding inclusion of all five comparables.
• 27.12.2024: Final assessment order passed by AO.
• 13.01.2026: Hearing before ITAT Bangalore in ITA No. 385/Bang/2025.
• 06.04.2026: Judgment pronounced.

The Parties' Positions

For the Appellant

The appellant contended that the TPO acted beyond jurisdiction by including the five comparables, as the ITAT had specifically directed the DRP to reconsider them. The appellant argued that the TPO had no authority to act on a remand meant for the DRP, and that the DRP’s subsequent validation did not cure the procedural illegality. Reliance was placed on Gandhi Sawhney v. Marvel Facade (1999) 8 SCC 266 and J. Rokade v. Government of Andhra Pradesh (2015) 13 SCC 722, emphasizing that statutory procedures must be strictly followed.

For the Respondent

The Revenue argued that the DRP could not have complied with the ITAT’s direction because it is not a party to the appeal and can only be invoked by the assessee upon filing objections under Section 144C(2)(b). The DRP’s role is advisory and reactive, not proactive. The TPO, similarly, acts only on reference from the AO and cannot be bound by directions from the Tribunal. The Revenue invoked the principle that “law does not compel a man to do that which he cannot perform.”

Relief Sought

The appellant sought quashing of the final assessment order dated 27.12.2024, exclusion of the five comparables from the transfer pricing analysis, and recomputation of the arm’s-length price adjustment for software development services, which stood at ₹43,166,829.

The Legal Issue

Can the Income Tax Appellate Tribunal, under Section 254(1), issue binding directions to the Dispute Resolution Panel or Transfer Pricing Officer, even though neither is a party to the appeal?

Arguments Presented

For the Appellant

The appellant argued that the ITAT’s powers under Section 254(1) are wide but not unlimited. The Tribunal may pass any order it deems fit, but only after hearing the parties to the appeal. Since the DRP and TPO are not parties, any direction to them is ultra vires. The TPO’s inclusion of the five comparables was a jurisdictional error, as the ITAT’s remand was specifically addressed to the DRP. The appellant emphasized that statutory procedures must be followed precisely, citing Gandhi Sawhney and J. Rokade. The DRP’s subsequent validation could not cure the initial illegality.

For the Respondent

The Revenue contended that the DRP is not a party to any appeal before the ITAT and can only be activated by the assessee filing objections under Section 144C(2)(b). The DRP’s role is advisory to the AO and cannot be triggered by judicial direction. Similarly, the TPO is an advisor to the AO and acts only on reference. The ITAT’s direction to the DRP was legally impossible to execute, and the TPO’s action was not a violation but a practical response to the absence of DRP action. The Revenue argued that the appellant had full opportunity to contest the comparables before the DRP, and the outcome was substantively fair.

The Court's Analysis

The Tribunal examined the statutory framework under Section 144C and Section 254(1). It noted that Section 144C explicitly provides that the DRP is activated only upon objection by the assessee to the draft assessment order. The DRP has no independent jurisdiction to act on its own motion or on the direction of any authority, including the ITAT. Similarly, the TPO functions only on reference from the AO under Section 92CA.

"The only income tax authority which is respondent before us is the assessing officer and any direction in whatever manner is required to be given is to that person i.e., assessing officer only."

The Tribunal held that while Section 254(1) grants wide powers to the ITAT, those powers are confined to the parties to the appeal. The DRP and TPO are not parties; they are administrative advisors. The Tribunal cannot issue directions to non-parties, as they have not been heard and are not bound by the proceedings.

The Tribunal further observed that the DRP, in its order dated 29.11.2024, had already considered the appellant’s objections regarding the five comparables and upheld their inclusion. Thus, the appellant had a full opportunity to contest the issue. However, the procedural irregularity remained: the ITAT’s direction to the DRP was legally invalid, and the TPO’s action in retaining the comparables was not authorized.

The Tribunal concluded that while the substantive outcome may be acceptable, the procedural path was flawed. To correct the illegality without reopening the entire assessment, it directed the AO to exclude the five comparables from the transfer pricing analysis for the software development segment.

The Verdict

The appeal was partly allowed. The Tribunal directed the Assessing Officer to exclude the five comparables - Info Chips Limited, Acropetal Technologies Limited, E-Zest Solutions Ltd, ICRA Techno Analytics Ltd, and Persistent Systems and Solutions Ltd - from the computation of the arm’s-length price for software development services. The adjustment of ₹43,166,829 must be recomputed without these comparables. All other aspects of the assessment order were upheld. Compliance was to be completed within 60 days of the order.

What This Means For Similar Cases

Directions to Non-Parties Are Ultra Vires

• Practitioners must now challenge any ITAT direction to DRP or TPO as procedurally invalid, regardless of outcome.
• Any order based on such a direction is vulnerable to quashing on grounds of jurisdictional error.
• Appeals must be framed to name only the Assessing Officer as respondent.

DRP Cannot Be Activated by Judicial Order

• The DRP’s jurisdiction is strictly conditional: it arises only upon objection by the assessee under Section 144C(2)(b).
• Revenue authorities cannot invoke the DRP, nor can courts or tribunals compel its activation.
• Any attempt to bypass this statutory trigger renders subsequent DRP directions void.

TPO Must Act Only on AO Reference

• TPOs must not act on tribunal remands unless the AO has formally referred the matter.

• If a tribunal remands an issue to the DRP, the TPO must await DRP’s decision before proceeding.

• Including comparables contrary to a tribunal’s direction to the DRP constitutes an unauthorized adjustment.

• Always verify whether the DRP was properly invoked before relying on its directions.

• In transfer pricing appeals, ensure the AO is the sole respondent and that all objections are filed under Section 144C.

• If a tribunal issues a direction to DRP or TPO, file a clarification petition or seek rectification under Section 254(2).