1. These cross-appeals by assessee and Revenue are directed against the order of learned CIT(A)-I, Bangalore dt. 4th July, 2003. We shall first deal with the appeal of assessee.
1. The first ground of appeal is against disallowance of a sum of Rs. 10,86,803 towards share issue expenses.
2. At the time of hearing learned Counsel for assessee Shri Padam Khincha did not press the ground. For want of prosecution, the ground is dismissed and the disallowance is confirmed.
3. The next ground of appeal is against disallowance of a sum of Rs. 44,43,000 being custody charges paid to NSDL.
3.1 During the year, the assessee paid a sum of Rs. 44.43 lakhs to National Security Depository Ltd. (NSDL) as one-time charges for converting 80,08,600 shares of company from physical certificate into dematerialize form. The AO found that as per the letter of NSDL dt.
21st July, 1997, the assessee company has taken over the liability of shareholders. He held that since the liability is that of shareholders and not that of company, the same is not allowable. The AO further held that even if the liability is to be treated as that of the company, the same is not allowable as revenue expenditure, as the assessee derives an enduring benefit from One-time payment and hence the expenses are capital in nature. Learned CIT(A) held that the payment to NSDL cannot be said to be wholly and exclusively for the appellant's business inasmuch as it was not a liability of the appellant to get the shares converted into demat form but the liability is that of the respective shareholders. The expenditure is related more to the easy handling of the shares rather than business of appellant. Learned CIT(A) accordingly held that the expenditure cannot be said to be incurred in the normal course of its business.
3.2 Learned counsel for assessee Shri Khincha submitted that the conversion into a demat form of shares was as per the compulsion under the orders of the Central Government through the SEBI. The custodial charges helped in reducing the cost of handling physical share certificates which would otherwise have been allowed as a revenue expenditure. The demat form of shares reduced the risk associated with the physical share certificate i.e. forgery and loss of certificates leading to a saving in administrative costs otherwise allowable as an expenditure. The demat form of shares has benefited the appellant in getting periodic information i.e. FII holding, etc.) at a much faster pace with less administrative hassles and at a lower cost. No asset capable of being recognized in the capital field has been acquired by the appellant as a result of the said expenditure.
3.3 Learned Departmental Representative Shri Ajit Korde heavily relied upon the appellate order. He submitted that in any case, payment is one-time fee for converting shares in physical form to demat form is to be incurred only once and assessee derived enduring benefit out of such conversion. Hence, such expenditure is capital expenditure and not allowable.
3.4 We have considered the relevant facts and arguments advanced.
Before adverting to the allowability or otherwise of the expenses, it is necessary to understand as to what is the depository, how it functions and why the charges are payable. The Depository Act, 1956 has introduced by way of consequential amendments to Sub-section (3) to Section 108 of Companies Act, 1956. The new subsection provides that the formalities prescribed by Section 108 shall not apply to any transfer of securities between a transferor and transferee both of whom are entered as beneficial owners in the records of a depository. One of the effects of this exemption from the operative requirement of Section 108 is that a lot of paper work, manual handling and postage and affixation of stamps would be saved, where transfers are effected through the mechanism provided by the depository system. The section will however continue to apply to transfers effected outside the depository mechanism. A depository is an organization where the securities of an investor are held in the electronic form at his request through the medium of a depository participant (DP). If the investor wants to utilize the services offered by a depository, the investor has to open a beneficiary account with the depository through a DP. DP is the representative or agent in the depository system (like a broker who trades on behalf of the investors in and outside the stock exchange), and he maintains the investor's securities, account balances and intimates to him the status of his holdings from time to time. The investor can open accounts with one or more DPs. When a person buys any security e.g. shares of debentures already in the depository mode, the buyer will become the owner of the said security in the depository within a day of the settlement being completed. The buyer is not required to apply to the company for registering the security in his name. Dematerialisation is the process by which physical certificates of an investor, at his request, are taken back by the company and actually destroyed and an equivalent number of securities are credited in the electronic holdings of the investor. For this, the investor will have to first open an account with a DP and then request for dematerialisation of his certificates through the DP so that the dematerialized holdings can be credited into that account. If the investor wishes to get back his securities in the physical form, he has to make a request to his DP, for rematerialisation of the same.
Rematerialisation is the term used for converting electronic holdings back into certificates. Investor's DP will forward the request to the National Securities Depository Ltd. (organisation promoted by the IDBI, UTI and NSE to provide electronic depository facilities for securities traded in the equity and debt market). When any corporate event e.g.
rights issue of shares, bonus issue or dividend is announced by a company for its particular security, the depository will give all the details of the investors having electronic holdings of this security on record note/book closure to the company (or its Registrars and share transfer agent). The disbursement of the cash benefits e.g. dividend or interest to the investor will be done by the company (or its Registrars), whereas the distribution or allotment of securities entitlement will be done by the depository based on the information furnished by the company (or its Registrars). Considering the arguments advanced and the nature of expenses, we find that the expenses paid to NSDL are not capital expenditure. Though the payment is made as once for all initial payment, every such expenditure cannot be characterized as capital expenditure. It has not resulted into acquisition of any capital asset. As per the guidelines of SEBI, the shares could be traded in the stock exchange only in demat form. Though primarily the responsibility is that of the shareholders to get the shares dematerialized, yet the expenditure has helped the appellant in getting goodwill in the business circle. The expenditure has helped in reducing the cost of handling physical share certificates. The dematerialisation has obviated the need for the board of directors to meet and approve the share transfers. The dematerialisation has-reduced the risk associated with the physical share certificate i.e. forgery and loss of certificates. The process of getting the shares in demat form has benefited the company in getting the periodic information (e.g. FII holding, promoter holding, holding that trigger acquisition of substantial holding for purpose of application takeover code of SEBI, etc.) at a much faster pace with less administrative hassles and with a lesser cost. The expenditure has been incurred in the normal course of business. The dematerialisation has helped significantly in reducing the administrative costs. Even if certain expenses results into some benefit to the shareholders, the expenditure incurred in respect of or in connection with the shareholders, is allowable as revenue expenditure as held in the case of CIT v. Tirrihannah Co. Ltd. and in Karjan Co-operative Cotton Sales Ginning & Pressing Society v. CIT . The expenditure can even be considered in the nature of part of listing requirements. The CBDT by its circular letter F. No. 10/67/65-IT(A-l) dt. 26th Aug., 1965 opined that expenses incurred by company-on getting its shares listed in stock exchange should be considered as laid out wholly and exclusively for the purpose of business and therefore admissible as business expenditure under Section 37(1). The guidelines of SEBI mandate that the shares to be traded in stock exchange can only be in dematerialized form. Thus, the charges paid to NSDL having not brought into existence any capital asset and is for the purpose of efficient functioning of the business are to be held as business revenue expenses and allowable as such. 4. The next ground of appeal is against disallowance of a sum of Rs. 46,77,452 being provision for post sales customer support.
4.1 The assessee made a provision at 2 per cent of the amount billed till the year end in respect of outstanding fixed price projects as at the year end. In the subsequent year, the provision is written back to the income and fresh provision is created. The actual expenses incurred towards post-sales customer support are debited to respective heads i.e. spares or salary or consultancy as the case may be. The AO held that there is no basis for estimating the provision at 2 per cent of the sale price. The AO is of the view that initially expenditure is claimed by way of provision and subsequently when actual expenses are incurred, the same is debited to respective heads which amounts to double deduction. He also held that by reversing the provision on the first day of next accounting year, it is to be treated as provision towards liability, which is not accrued liability, which arises only when a customer makes claim due to failure in the performance of product. He accordingly held that the liability is contingent in nature and since it is beyond the scope of fair estimate, the provision is not allowable. Learned CIT(A), relying on the decision of Tribunal, Pune in the case of Thermax Babcock & Wilcox Ltd. v. Dy. CIT (2001) 72 TTJ (Pune) 827: (2002) 255 ITR 27 (Pune)(AT) confirmed the disallowance.
4.2 Learned counsel for assessee Shri Khincha submitted that the learned CIT(A) has failed in not appreciating the business reality and the accounting procedure followed and has therefore erred in confirming the additions towards provision for post-sales customer support. The provision towards post-sales customer support was made on the basis of the fundamental accounting principles of prudence recognized not only by the accounting standards issued by the ICAI but also accounting standards issued under Section 145(2) of the IT Act, and is therefore to be allowed as a deduction. The learned CIT(A) has erred in concluding that the post-sales customer support or provision for warranty being a contingent liability cannot be allowed as a deduction.
He also submitted that identical issues arose before this Tribunal in assessee's own case for asst. yr. 1999-2000. The Tribunal by its order dt. 9th Sept., 2005 has held that provision for post-sales customer support is not a contingent expenditure but is allowable as such.
4.3 Learned Departmental Representative Shri Ajit Korde on the other hand strongly supported the appellate order. He submitted that the assessee when asked to justify quantification of liability by giving details of actual expenditure debited in provision account in financial years 1997-98 and 1998-99 towards post-sales customer support, could not furnish the details. The assessee stated that, such expenditure gets accounted under normal head and there is no specific debit to warranty provision in any year. The AO in para 6.3 of the assessment order notes that the liability is on estimate basis. The liability for warranty arises only when customer notifies defect in performance of the product sold by the company. For which, the customer is required to prove that, performance defect is due to program defect and not on account of mishandling of the customer. The AO has noted that, future warranty claim is contingent on several factors and beyond scope of a fair estimate. The assessee does not have data on the basis of which reasonable estimate can be made. Therefore, provision is not ascertainable with reasonable degree of accuracy. Relying upon the decision of Tribunal, Pune in the case of Thermax Babcock & Wilcox Ltd. (supra), Shri Korde submitted that in the above decision, it is held by the Tribunal that, post-sales warranty liability arises on notification of defect to the assessee by the customer. If no defect is notified, no liability would accrue. No basis is established on the basis of any material on record to show that 2 per cent of the billing price is ascertainable liability of the assessee. Mere statement of the assessee that it is based on the experience of the industry or of the collaborators cannot establish the claim of the assessee. The possibility that there may not be any defect in the boilers constructed by the assessee itself indicates that such liability is not ascertained liability. Therefore, the Tribunal held that, liability of warranty being contingent one, cannot be allowed either under Section 28 or Section 37. For this decision, Tribunal relied on larger Bench decisions in the cases of Badndas Daga v. CIT and CIT v. Mysore Sugar Co. Ltd. . He also relied upon the decision of Tribunal, Delhi in the case of ITO v. Allena Auto Industries (P) Ltd. (1991) 39 TTJ (Del) 439. The assessee company's case is different on facts from the cases in which Courts have allowed provision for warranty liability expenditure. In those cases, the assessee could establish the basis of computing liability vis-a-vis actual expenditure to show that liability claimed can be reasonably estimated. In this case, assessee could not give details of actual expenditure incurred on warranty. Shri Korde further submitted that in the assessee's case, post-sales warranty liability being unascertained, estimated case, post-sales warranty liability being unascertained, estimated and contingent on happening of an event of notification of defect, cannot be allowed.
4.4 We have carefully considered the relevant facts, arguments advanced and the decisions cited. In respect of sales effected during the year, the assessee collects entire sale proceeds. Such sale proceeds are part of income charged to tax. The assessee is also required to render post-sales customer services in the nature of claims within the warranty period. Thus, though such warranty claims may or may not arise, the assessee is under obligation to fulfil such claim, if claim is made. The provision is made at the rate of 2 per cent of sale price.
Though no precise base is indicated by the assessee, yet, if can be considered to be reasonable having regard to the claim made in the past. The provision is made on "matching principle" i.e. matching cost with revenue. Such matching principle has been recognized in the case of Taparia Tools Ltd. v. Jt. CIT . Thus, the provision represents a liability in praesenti though discharged at a later date.
In following cases, it has been held that the provision for warranty liability or provision for post-sales customer support is not a contingent liability but an accrued liability and hence allowable: (4) CIT v. Majestic Auto Ltd. (1994) 48 TTJ (Chd) 566: (1993) 47 LTD 1 (Chd)Wipro GE Medical Systems Ltd. v. Dy. CIT (2003) 81 TTJ (Bang) 455Hamilton Research & Technology (P) Ltd. v. Asstt. CIT (2004) 88 TTJ (Kol) 891.
Later on, Hon'ble Kerala High Court in the case of CIT v. Indian Transformers Ltd. and Hon'ble Delhi High Court in the case of CIT v. Vinitec Corporation (P) Ltd. held that provision made for the warranty liability was an ascertained liability and that it could not be treated as a contingent liability.
In view of the above, we hold that the liability cannot be considered as contingent liability as held in the case by Tribunal, Pune. Since the liability is an accrued liability and the estimate is on sound accounting principle, the liability is allowable. The disallowance of Rs. 46,77,452 is deleted.
5. The next ground of appeal is against disallowance of a sum of Rs. 7,37,720 being expenditure on installation of traffic signals.
5.1 The AO held that regulating traffic is the lookout of traffic police and Government and not that of the assessee. The benefit from installation of traffic signals is very remote. It amounts to donation in kind and hence not eligible for deduction even under Section 80G.Learned CIT(A) held that expenditure on instalment of traffic signals cannot be considered as incurred wholly and exclusively for the business of appellant. The appellant is one of the large number of beneficiaries. The expenditure is incurred more as a part of social obligation. Relying upon the decision of Hon'ble Bombay High Court in the case of Standard Mills Co. Ltd. v. CIT wherein it was held that expenditure incurred for social welfare measures without any nexus between expenditure and appellant's business is not an allowable expenditure. He accordingly confirmed the disallowance.
5.2 Learned counsel for assessee submitted that the learned CIT(A) having agreed that the appellant is a beneficiary of the resultant improvement in traffic as a result of the said expenditure has erred in disallowing the same on the ground that the appellant is not the sole beneficiary but is one among the large number of beneficiaries. The allowability of an outgoing as a deductible expenditure does not require that the person incurring the expenditure should be the sole recipient of the benefits thereunder. Having admitted that the appellant has also benefited from the said expenditure the learned CIT(A) has erred in permitting a clouding of his conclusion by non-relevant factors such as the appellant is a superrich company and that the expenditure is for a social welfare measure. No asset capable of being recognized in the capital field has been acquired by the appellant as a result of the said expenditure. The learned CIT(A) has erred in not considering the alternative plea of the appellant that in the signal lights, the appellant's name is prominently displayed and therefore the payment should be allowable as advertisement expenditure.
Almost similar issues arose before this Tribunal in assessee's own case for earlier years. The Tribunal by its order dt. 31st March, 2005 held that payment for expenditure on contribution to police to regulate and control traffic is an allowable expenditure. The principles enunciated thereunder will equally apply to the expenditure on installation of traffic signals which is under consideration in the present appeal.
5.3 Learned Departmental Representative Shri Ajit Korde on the other hand strongly relied upon the appellate order. He submitted that even as per the annual report, the amount on installation of traffic signal is mentioned under the head "social contribution". The assessee in its letter dt. 22nd March, 1999 has mentioned that the contribution was made to ensure that the employees would reach the office in time when facing any traffic problem. It also benefits the general public including the appellant and hence has been mentioned under "social contribution". Shri Korde further submitted that in the case of CIT v.T.S. Hajee Moosa & Co. Hon'ble Madras High Court held as under: The expenditure in question was in nature of personal expenses. Even assuming that the expenditure related to business purposes, the expenditure had a dual or twin purpose and served not only purposes of business but also a personal and private purpose and the expenditure did not exclusively serve business, it will not qualify for deduction under Section 37(1) of the IT Act, 1961.B.K. Khanna & Co. (P) Ltd. v. CIT (2000) 164 CTR (Del) 259: (2001) 247 ITR 705 (Del), the Hon'ble Delhi High Court held as under: The word 'wholly' refers to quantum of expenditure. The word 'exclusively' refers to the motive, objective and purpose of the expenditure and gives jurisdiction to the taxing authorities to examine these matters.
The true test of an expenditure laid out wholly and exclusively for the purposes of trade or business is that it is incurred by the assessee as incidental to trade for the purpose of keeping the trade going and of making it pay and not in any other capacity than that of trader. It has to be examined whether the expense has been incurred with the sole object of furthering the trade or business interest of the assessee unalloyed and unmixed with any other consideration. If the expense is found to bear an element of other than the trade or business interest of the assessee, the expenditure is not allowable one.
In this case, assessee's purpose of making expenditure is dual. One of the purposes is to make token payment as a social commitment and other purpose is its business need. Therefore, in view of the above discussion, it is obvious that, the assessee's contribution to the Police Department is not incurred "wholly and exclusively" for the assessee's business. Hence, such expenditure is not allowable under Section 37(1).
5.4 We have considered the relevant facts and the arguments advanced.
The appellant installed traffic signals at Bannerghatta Circle in Bangalore. The appellant has installed the signal lights at Bannerghatta Circle where the office of appellant is situated and where more than 500 employees are working. Due to severe traffic congestion at the circle, its employees had to wait for a long period to reach office resulting in delay in completing the projects. The assessee accordingly thought fit to install traffic signals which after installation were handed over to the traffic police and the Government.
It is the contention of Revenue that the purpose of making the expenditure being dual i.e. payment as a social commitment and also as business need, cannot be considered as wholly and exclusively for the purpose of business" and hence not allowable. For this purpose, reliance is placed on the decision of Hon'ble Madras High Court in the case of T.S. Hajee Moosa (supra) and that of Hon'ble Delhi High Court in the case of B.K. Khanna & Co. (supra). We find that as a result of getting repeatedly involved in traffic jams and other hazards, the workers are a distressed lot. The incurrence of expenditure was prompted solely with a view to benefit its employees. The expenditure was incurred in the character as a trader and was prompted by commercial expediency. In the case of Atherton v. British Insulated & Helsby Cables Ltd. (1925) 10 Tax Case 155, 191 (HL), it is observed that "a sum of money expended, not of necessity and with a view to a direct and immediate benefit to the trade, but voluntarily and on the grounds of commercial expediency, and in order indirectly to facilitate the carrying on of the business, may yet be considered wholly and exclusively for the purposes of trade". The aforesaid observation was quoted with approval by Supreme Court in Eastern Investments Ltd. v.CIT . Again, in the case of CIT v. Chandulal Keshavlal & Co. ; a similar question arose for consideration.
The assessee who was a managing agent was entitled to commission. It, however, relinquished part of the commission which was receivable from the managing company, inter alia, for the reason that the financial condition of the managing company was unsatisfactory. The question arose whether the amount relinquished was deductible as an expenditure or not. While upholding the claim for deduction, the Supreme Court observed at p. 50 (p. 611 of 38 ITR) that: "Thus in cases like the present one in order to justify deduction the sum must be given up for reasons of commercial expediency; it may be voluntary, but so long as it is incurred for the assessee's benefit the deduction would be claimable". What, therefore, is to be seen is not whether it was compulsory for the assessee to make the payment or not but the correct test is that of commercial expediency. As long as the payment which is made is for the purposes of the business, and not disallowable specifically under the Act, the same would be allowable as a deduction.
Hon'ble Karnataka High Court in the case of Mysore Kirloskar Ltd. v.CIT held thus: The deduction to the extent of 50 per cent under Section 80G of the IT Act, 1961, in respect of donations to certain funds, charitable institutions, etc., is allowable even if the donation has no nexus with the business of the assessee and regardless of any business activity or of any commercial expediency. But for claiming allowance under Section 37(1), barring the exceptions mentioned in the section, the money paid out must be laid out wholly and exclusively for the purpose of the business and the assessee can claim the whole of the expenditure as deduction. The basic requirements for invoking Sections 37(1) and 80G are different and the two sections are not mutually exclusive. Though the contribution by an assessee is in the form of donations of the category specified under Section 80G, if it could also be termed as an expenditure of the category falling under Section 37(1), then the right of the assessee to claim the whole of it as allowance under Section 37(1) cannot be denied. But such money must be laid out or expended wholly and exclusively for the purpose of business. The word "wholly" refers to the quantum of expenditure and the word "exclusively" refers to the motive, object or purpose of the expenditure.
Under Section 37(1), if the expenditure has been incurred by the assessee voluntarily, even without necessity, but if it is for promoting the business, the deduction would be permissible.
That the words 'for the purpose of the business' used in Section 37(1) should not be limited to the meaning of 'earning profit alone'. Business expediency or commercial expediency might require providing facilities like schools, hospitals, etc. for the employees or their children or for the children of the ex-employees. Any expenditure laid out or expended for their benefit, if it satisfies the other requirements, must be allowed as a deduction under Section 37(1) of the Act. The fact that somebody other than the assessee was also benefited or incidentally took advantage of the provision made, should not come in the way of the expenditure being allowed as a deduction under Section 37(1) of the Act. Nevertheless, it is an expenditure allowable as deduction under the Act.
As observed by Hon'ble Karnataka High Court, if there is incidental benefit to party other than the assessee, it could not be relevant to decide whether the expenditure is allowable or not. Similar view has been adopted in the case of CIT v. Royal Calcutta Turf Club . Hon'ble Madras High Court in the case of CIT v. The concept of business is not static. It has evolved over a period of time to include within its fold the concrete expression of care and concern for the society at large and the people of the locality in which the business if located, in particular. Being known as a good corporate citizen brings goodwill of the local community, as also with the regulatory agencies and the society at large, thereby creating an atmosphere in which the business can succeed in a greater measure with the aid of such goodwill.
For the asst. yr. 1992-93, the assessee, a public limited company, as a good corporate citizen and as a measure of gaining goodwill of the people living in and around its industry which was to some extent a polluting industry, provided funds for establishing drinking water facilities to the residents in the vicinity of the refinery and also provided aid to the school run for the benefit of the children of those local residents. It incurred an expenditure of Rs. 15,32,000 for that purpose. The AO declined to allow that expenditure on the ground that it was not an item of expenditure incurred by the assessee for earning the income in that year. The Tribunal allowed it. On appeal to the High Court: Held, that the amount spent for bringing drinking water as also for establishing or improving the school meant for the residents of the locality in which the business was situated could not be regarded as being wholly outside the ambit of the business concerns of the assessee, especially where the undertaking owned by the assessee was one which was to some extent a polluting industry. The expenditure was deductible.
In view of the above principle laid down, we hold that since the expenditure was incurred to secure the benefit to its employees, which in turn has also achieved its social objects, can still be considered as "wholly and exclusively for the purpose of business" and hence allowable under Section 37(1) of the Act.
In the case of T.S. Hajee Moosa (supra) relied by learned Departmental Representative, the issue was regarding travel expenses of the wife of senior partner undertaking foreign tour. What was held therein is that the expenditure was treated as personal in nature. Section 37 specifically prohibits allowance of an expenditure which are personal expenses of the assessee. In the present case, the assessee is a corporate body and the expenses on traffic signals cannot be considered as "personal expenses.
In the case of B.K. Khanna & Co. (supra) relied by learned Departmental Representative, the expenses were found to be personal expenses.
Section 37(1) specifically prohibits allowance of expenses which are personal in nature. Thus, the above decisions relied upon by learned Departmental Representative cannot be applied to the facts of the present case. In view of the principle laid down by Hon'ble Supreme Court and that of Hon'ble Karnataka High Court and applying the principle laid down by Hon'ble Madras High Court in the case of Madras Refineries (supra), we hold that the expenditure being paid out of commercial expediency and not being in the nature of personal expenses, are allowable under Section 37(1) of the Act.
6. The next ground of appeal is against disallowance of deduction under Section 80G in respect of donations made.
6.1 During the year, the assessee paid donation of Rs. 15 lakhs. This amount was debited in the "Keonics Unit" of the appellant, which is eligible for exemption under Section 10A of the Act. The AO held that since the donation is not allowable as business expenditure and since the donation has been added to income of Keonics Unit, which is totally exempt from tax under Section 10A of the Act, further deduction under Section 80G in respect of said donation is not allowable. For this purpose he drew support from provision of Section 80G(5A), which provides that if a deduction is allowed under that section, no other deduction is allowable under any other provision of the Act. He also drew support from the decision of Hon'ble Supreme Court in the case of Escorts (India) Ltd. v. Union of India and Ors.
wherein the capital expenditure for scientific research, which were claimed and allowed under Section 35 was held not eligible for depreciation under Section 32 of the Act. Learned CIT(A) held that the issue is covered by Section 14A of the Act and hence appellant is not eligible for deduction under Section 80G in respect of which donation is treated as exempt under Section 10A in respect of Keonics Unit.
6.2 Learned counsel for assessee submitted that the learned CIT(A) has erred in concluding that deduction under Section 80G can be claimed only when donations are made out of income chargeable to tax, without there being such a stipulation in Section 80G. Deduction under Section 80G would be available even when the said donations are made out of capital or gifts received or exempted income or income of earlier years. The learned CIT(A) has erred in concluding that (i) the deduction would be barred by Section 14A; (ii) that the appellant has claimed a double deduction; (iii) that the ratio of the Supreme Court in Escorts (India) Ltd. (supra) would apply in the present case. The learned CIT(A) has also erred in not appreciating the difference and distinction between an exemption and a deduction.
6.3 Learned Departmental Representative strongly supported the appellate order. He invited our attention to the decision of Hon'ble Supreme Court in the case of Escorts (India) Ltd. (supra) extracted herein: We think that all misconceptions will vanish and all the provisions will fall into place if we bear in mind a fundamental, though unwritten, axiom that no legislature could have at all intended a double deduction in regard to the same business outgoing; and, if it is intended, it will be clearly expressed. In other words, in the absence of clear statutory indication to the contrary, the statute should not be read so as to permit an assessee two deductions both under Section 10(2)(vi) and Section 10(2)(xiv) of the 1922 Act or under Section 32(1)(ii) and Section 35(2)(iv) of the 1961 Act qua the same expenditure.
6.4 Sec. 80G(1) provides that in computing the total income of assessee, an amount equal to whole of the sum or as the case may be, 50 per cent of the amount paid by way of donation is to be allowed as deduction. As per Sub-section (5A) of Section 80G, where deduction under this section is claimed and allowed for any assessment year in respect of any sum specified in Sub-section (2), the sum in respect of which deduction is so allowed shall not qualify for deduction under any provision of this Act for the same or any other assessment year. In the present case, donation is stated to have been paid out of "Keonics Unit", the profit of which is exempt under Section 10A of the Act.
While computing the profit of Keonics Unit, the donation paid is added back as the same is not allowed to be deducted while computing profit under Section 10A of the Act. Thus, the disallowance in computing the income of Keonics Unit is as per the statutory provision of Act the donation being not considered as expenditure incurred wholly and exclusively for the purpose of business. Thus, it cannot be said that the donation paid has been allowed as "deduction" under the Act. The donation cannot even be considered as "expenditure incurred" for the purpose of earning income, which is exempt under the Act. There is no stipulation in Section 80G to the extent that the donation has to be paid only out of taxable income of the year. The appellant has not claimed a double deduction. One has been an exemption of income earned and the other is a deduction of income applied. Section 10A is an exemption section whereas Section 80G is a deduction section and therefore there would be no double deduction of the same item, even if a benefit under both the sections has been claimed. There has been no double deduction in respect of the same item of expenditure and therefore the ratio of Supreme Court judgment in Escorts Ltd. & Am.
case (supra) is not applicable. There is no stipulation in Section 80G that the donations have to be made out of taxable income only for qualifying as a deduction. The provisions of Section 14A would not be applicable to a deduction under Section 80G as--(a) Section 14A is limited in its operation to Chapter IV only whereas deduction under Section 80G falls under Chapter VI-A; (b) donation made does not constitute expenditure. Section 14A applies to expenditure only. Sec.
80G would be available even when the said donations are made out of capital or gifts received or exempted income or income of earlier years. Thus, the donation of Rs. 15 lakhs qualifies for deduction under Section 80G. The AO is directed to allow the same as per the provisions of Section 80G.7. The next ground of appeal is against exclusion of certain expenditure from export turnover and total turnover while computing deduction under Section 80HHE of the Act.
7.1 Learned CIT(A) agreeing with the observation and finding in the order of learned CIT(A) rendered for asst. yrs. 1994-95, 1995-96 and 1996-97, held that the expenses incurred in foreign currency relating to technical services rendered abroad is to be excluded from export turnover and total turnover while computing deduction under Section 80HHE.7.2 At the time of hearing, learned Counsel for assessee submitted that since the appeal of assessee for asst. yrs. 1994-95, 1995-96 and 1996-97 has been decided by the Tribunal in ITA Nos. 794 and 795/Bang/1998 by order dt. 31st March, 2005, the same may be followed for this year also.
7.3 Learned Departmental Representative on the other hand strongly supported the appellate order. He submitted that though detailed arguments were placed before the Tribunal for earlier years, the same have not been considered, which may be considered now. He submitted that the difference in 80HHE(1)(i) and 80HHE(1)(ii) is not of the type of services rendered by the assessee. The difference in both the clauses is of the location at which services are rendered. Clause (i) is regarding the export of computer software developed in India, whereas, Clause (ii) refers to the technical services rendered outside India. Phrase 'technical services' in Clause (ii) includes development of software. Development of software is service technical in nature and hence is a technical service. CBDT Circular No. 3 of 2004, dt. 12th Feb., 2004 [(2004) 187 CTR (St) 2] says that Explanation to Sub-section (1) is clarificatory in nature. Explanation is applicable from 1st April, 1991 i.e. the date on which Section 80HHE came into force. This means that, legislature always intended and drafted the section for giving benefit of deduction for the onsite development of software.
This drafting is clear as 'technical services' mentioned in Clause (ii) includes software development, as Clause (i) could not have been interpreted to include onsite software development. Further, intention of providing benefit to onsite development of software income by including it in 'technical service can be gathered from the circular issued in 1994. Circular No. 694 dt. 23rd Nov., 1994 seeks to issue clarification on disputes between the IT Department and software exporters. Paras 5, 6 and 7 of the circular refer to the dispute of onsite development of software. Para 6 of the circular clearly mentions that tax incentives to onsite development of software are included in Section 80HHE. (At that time Explanation to the Section (1) was not introduced). Therefore, this inclusion has to be taken to be incorporated in the Clause (ii) of Section 80HHE(1) on technical services. Even otherwise, deduction under Section 80HHE is an incentive for bringing foreign exchange in India. Expenditure in foreign exchange outside India would reduce the amount of foreign exchange brought into India. Legislature could never have intended to grant the deduction on foreign exchange not brought in India. Therefore to interpret that technical services do not include software development would amount to defeating the purpose of the deduction on receipt of foreign exchange.
In Laxmi Industries v. CIT , assessee's sale of goods to the ONGC on global tender were 'deemed exports' according to the Ministry of Commerce. However, the High Court denied deduction under Section 80HHC as foreign exchange was not brought into India. This is accepted view for the interpretation of the Section 80-O. The deduction of Section 80-O is to be given on net income and not on gross income.
The Bangalore Tribunal has followed the decision of CIT v. M.N. Dastur & Co. (P) Ltd. (2000) 159 CTR (Cal) 417: (2000) 243 ITR 10 (Cal) and Petroleum India International v. Dy. CIT (1999) 65 TTJ (Mumbai)(SB) 671: (1999) 71 ED 31 (Mumbai)(SB), in its orders on deduction under Section 80-O.The meaning of 'technical service' is explained by the Supreme Court in Continental Constructions Ltd. v. CIT . The Supreme Court has held that: Where a person employs an architect or an engineer to construct a house or some other complicated type of structure such as theatre, scientific laboratory or the like for him, it would not be incorrect to say that the engineer is in putting up the structure, rendering him technical services even though the actual construction and even the design thereof may be done by the staff and labour employed by the engineer or architect. Where a person consults a lawyer would be a piece of technical service provided by him though he may have got the opinion drafted by a junior of his or procured from other expert in particular branch of law.
The expression 'technical services' has a very wide connotation and it has been used elsewhere in the statute so widely as to comprehend professional services vide Section 9(1)(vii). But one need not digress on this aspect for two reasons. Firstly, whatever may be the position regarding other 'professional service' there can hardly be any doubt that service involving specialized knowledge, experience and skill in the field of constructional operations are 'technical service'.
Section 10(5B) was for the exempting income of 'technician'.
Explanation to the sub-section explained the word 'technician' as the person having specialized knowledge and experience in prescribed fields, who is employed in India in a capacity in which such specialized knowledge and experience are actually utilized.
Notification No. 9344 dt. 27th July, 1993 specified certain fields for the Sub-section 10(5B). Clause (iii) mentioned "information technology including computer architecture systems and associated technology, software development process and tools.
In the cases of Monte Hams, In re (1995) 128 CTR (AAR) 59: (1996) 218 ITR 413 (AAR) and Vance Robbert Heffem, In re (1999) 157 CTR (AAR) 382: (2000) 241 ITR 299 (AAR), Authority of Advance Rulings has held that persons engaged in the field of software development are 'technician' for Section 10(5B). Since the persons engaged in software development are technicians, services rendered by using their specialized knowledge, experience and skill is technical service. Therefore, 'technical service' in Clause (ii) of Section 80HHE(1) includes 'technical service of software development'.
In the case of Tata Consultancy Services v. Union of India , the jurisdictional High Court has held that the company engaged in the software development provides service based on professionally qualified engineers. This service indirectly is in the nature of advice, consultancy or technical assistance relating to the discipline of engineering.
Perusal of Section 1.1 of the agreements given on p. 19 of the assessee's paper book and in para 24 of the CIT(A)'s order for asst.
yr. 1993-94 show that the service mentioned therein cannot be provided by a person without specialized knowledge, experience and skill.
Therefore, the services rendered by the assessee including that of software development is 'technical services'. The assessee himself has given treatment to the income in foreign exchange of Rs. 7.3 crores as income from services. This is according to the Schedule 21 to the notes to accounts (refer para 21.2 of the CIT(A)'s order for asst. yr.
1993-94). The CIT(A) also has relied on the decision of S.R.F. Finance Ltd. v. CBDT . The High Court has explained the The two words convey different ideas. In the former, i.e. 'work', the activity is predominantly physical, it is tangible. In the activity referred to as 'services', the dominant feature of the activity is intellectual or at least mental.
Therefore, work of software development requiring professional thinking and intellectual work is 'services'.
CIT(A) restored the matter to the AO for the verification of assessee's claim of marketing expenses in all the assessment years. The AO's order giving effect to the CIT(A)'s orders are at the pp. 1, 5, 11, 16 and 19 for the asst. yrs. 1993-94, 1994-95, 1995-96, 1996-97 and 1997-98 respectively. The AO in his detailed order has mentioned that the assessee could not prove its claim of expenses as incurred for marketing. Hence, the assessee's claim was disallowed. The assessee has accepted it and has not challenged AO's action of disallowing so-called marketing expenses in appeal. Therefore, now, there are no marketing expenses in the assessee's expenditure incurred in foreign currency.
In view of the abovementioned detailed discussion, it is requested that the order of the CIT(A) on this ground be upheld.7.4 We have considered the relevant facts, rival submissions and the case laws cited. At first, it is incorrect on the part of learned Departmental Representative to mention that the arguments made earlier have not been considered. The order of this Tribunal dt. 31st March, 2005 deals with the issue in paras 4 and 5 of its order, which is on pp. 4 to 33 of the order. After elaborately considering the arguments on either side, it was concluded in para 4.6 as under: We have gone through the arguments of the counsel for the appellant company as well as those of the learned Departmental Representative.
We have also perused the relevant portions of law and gone into the facts of the case. As already stated, deduction under Section 80HHE is available in respect of profits derived from export of computer software or by the provision of technical services outside India.
The amount of deduction available under Section 80HHE is to be computed on the basis of formula prescribed under Sub-section (3).
The formula is as follows: All the 3 terms of the formula are defined in the Explanation below Sub-section (5). In the Explanation, the term "the export turnover" is positively defined. The term "total turnover" is, on the contrary, negatively defined. What is of importance to note is that the total turnover excludes all those items that do not form part of export turnover.
As already noted, the term export turnover excludes among others, the expenditure incurred in foreign exchange in providing technical services outside India. The question for our consideration is whether the appellant is involved in the rendering of technical services, so as to necessitate the exclusion of expenditure incurred in foreign currency in connection with the provision of technical services outside India.
On a careful consideration of the facts and law, we are inclined to agree with the learned Counsel for the appellant company when he states that the appellant company during the years was not involved in the rendering of technical services. From a perusal of the relevant documents before us, we notice that the appellant is involved in developing software. These software are provided through the computer programmes, developed by them.
The Software Technology Parks of India has accepted the software export figures of the appellant company which clearly indicates that the company was involved in software development. The software development agreement, the sample of which is referred to in pp. 19 to 34 of the paper book filed by the appellant also indicates that the company is involved in creation of computer programmes as per the specification agreed to with the customers. We are also of the opinion that having initially agreed that the company was involved in software development activity, the CIT(A) incorrectly went on to conclude that the appellant was involved in rendering of technical services. The example of construction of bridge and various activities thereunder and the similarities of processes of the appellant company with the said example, has not been disputed by the learned Counsel for the Department. All go to demonstrate the fact that the appellant was involved in computer software development. That the appellant was involved in the creation of computer software and export thereof, has been accepted by the AO himself while agreeing to the claim of exemption under Section 10A of the Act.
We are also in agreement with the learned Counsel for the appellant when he states that Section 80HHE confers a deduction in respect of two types of activities. It has accordingly prescribed two separate sub-clauses for them. The exclusion from export turnover and total turnover, of expenditure incurred in foreign currency is only where an assessee is involved in rendering of technical services outside India. Such exclusion is not required to be made when a company incurs expenditure in foreign currency in connection with the computer software development. The Explanation to Section 80HHE which has incorporated the principle in Circular No. 694 also indicates that the software development activity done at the clients place, outside India, should be regarded as an equivalent to the export of software developed in India. The appellant company being involved in development of a part of the computer software life cycle outside India, will fit into the meaning of the said Explanation.
The counsel for the Department apart from arguing on the technical side of the matter was not able to bring to our attention any specific instances of the company being involved in rendering of technical services in an advisory or consultancy capacity for the software created by a third party; the role of appellant company being limited to provision of expert knowledge. In other words, the counsel for the Department was not able to bring to our knowledge any specific instances of payment received by the company from the rendering of advisory or consultancy services. Further we notice that the appellant company had only marketing offices outside India.
The annual report for example for the year ending 31st March, 1994 the extracts of which were brought to our attention clearly indicates that the company had only marketing offices outside India.
The approvals from RBI and other regulatory authorities also indicate that the company had only marketing offices outside India.
Looking at the overall picture, based on the facts of the case law, evidence adduced and the discussions, we hold that where a person is involved in computer programme, creation, he should be regarded as being engaged in the development of computer software so as to fall within Section 80HHE(1)(i). Such a person should not be held as engaged in the business of rendering technical services covered by Section 80HHE(1)(ii). We accordingly hold that the appellant company was not involved in the business of providing technical services outside India in connection with the development of computer software. We therefore direct that in computing the figures of export turnover and total turnover relevant for the application of the formula in Sub-section 3 of the Section 80HHE, no exclusion be made of any expenditure incurred in foreign currency other than those already done by the appellant company. In the result, this ground of appeal by the appellant company for all the years stands allowed. We are fortified in our conclusion, by the observations of the Supreme Court in Bajaj Tempo Ltd. v. CIT , that provisions that have been incorporated to provide an incentive have to be construed liberally and in a manner so as to promote the object and not frustrate it. This leaves us with individual issues for the respective years which we shall now take up.
Since the CIT(A) has merely followed the order of his predecessor while disallowing the claim which has not been approved by the Tribunal, we direct the AO to follow the order of Tribunal dt. 31st March, 2005 while computing deduction under Section 80HHE.8. The next ground of appeal is regarding computation of credit for taxes paid in Canada and USA.8.1 At the time of hearing both the counsel agreed that the aspect of the manner of granting relief from double taxation has been decided by this Tribunal in appellant's own case in ITA Nos. 140 and 149/Bang/2001 by order dt. 5th July, 2005. The same principle may be applied for the assessment year under appeal also.
8.2 In view of the submission by both the counsel, the AO is directed to follow our order cited (supra) while computing credit for double taxation. The relief is to be granted in accordance with the direction contained in the same.
9.1 The first ground of appeal is against deletion of disallowance of corporate membership fees made to clubs.
9.2 The AO treated the expenditure as capital expenditure whereas learned CIT(A) following the order of his predecessor for asst. yrs.
1994-95 and 1995-96 held that the expenditure is not capital expenditure but are revenue expenditure and as such allowable. The Tribunal in the appellant's own case for the earlier years has held in ITA No. 40/Bang/2001 dt. 26th Feb., 2004 as well as for asst. yrs.
1993-94 to 1996-97 in ITA Nos. 50, 793 to 795, 742, 732 to 734, dt.
31st March, 2005 that subscription to club would be an allowable expenditure under Section 37 of the IT Act.
9.3 Following the aforesaid order, we hold that the subscription to club would be an allowable expenditure and cannot be considered as capital expenditure.
10. The next ground of appeal is against deletion of disallowance of expenditure on ISO certification.
10.1 The AO treated the sum as capital expenditure whereas learned CIT(A) following the order of his predecessor for asst. yrs. 1994-95 and 1995-96 held that the ISO certification is valid only for a period of 3 years and its utility in international business where the situation is dynamic and accreditation do not survive beyond the period of validity. He accordingly held that the expenditure is revenue in nature and allowable as such. This view was upheld by the Tribunal in the assessee's own case for the earlier years in ITA Nos. 50, 793 to 795, 742, 732 to 734, dt. 31st March, 2005 in paras 7 to 7.4 held that payment for ISO certification is to be regarded as a revenue expenditure.
11. The next ground of appeal is against deletion of disallowance of maintenance expenditure incurred on leased buildings.
11.1 The assessee incurred expenditure of Rs. 10,60,234 for repair and maintenance of premises taken on lease at Sankar Seth Road, Pune.
Similarly, it incurred a sum of Rs. 8.36 lakhs and 16.2 lakhs. The AO, invoking the provision of Expln. 1 to Section 32(1), held that in respect of capital expenditure incurred on leased premises, the assessee is entitled to depreciation only but the amount cannot be considered as revenue expenditure. Learned CIT(A) considering the facts held as under: Regarding the sixth ground, in my opinion, the AO has not proved that the expenditure on interior decoration, alternations, etc., is capital one. In fact, he has drawn support from Expln. 1 to Section 32(1) that expenditure incurred on leased premises can also be capital expenditure eligible for depreciation. In my opinion, Expln.
1 can apply only when first it is proved that the renovation or improvement has resulted in capital expenditure and not vice versa.
In fact the question of expenditure vis-a-vis value of building and covered area thereof in each case mentioned in para 6 of the appellant's written submissions reproduced above shows that no substantial expenditure has been incurred on each building. In the case of property at Sankar Seth Road, Pune, the expenditure is 1.5 per cent of the market value of the building and in the case of property at SJR Towers, Bangalore, the expenditure is 2.9 per cent of the market value of the building. I have gone through the three bills referred to in the assessment order. It is found that the expenses have been incurred towards minor civil works, plumbing work, false ceiling work, painting work, fixing of sun control films on windows etc., which by no stretch of imagination can be classified as capital expenditure. The AO is directed to delete the addition of Rs. 33,40,422 on this account. Relief: Rs. 33,40,422.
11.2 Learned Departmental Representative Shri Ajit Korde submitted that when extensive repair work is done to the building, it amounts to capital expenditure as held by Hon'ble Supreme Court in the case of Ballimal Naval Kishore v. CIT .
11.3 Learned counsel for the assessee on the other hand submitted that the Tribunal in the appellant's own case for the earlier years in ITA Nos. 50, 793 to 795, 742, 732 to 734 dt. 31st March, 2005 in paras 11 to 11.5 held that payment for expenditure incurred on leased premises is to be regarded as revenue expenditure.
11.4 We have considered the relevant facts and the arguments advanced.
From the details of expenditure given, we find that it amounts to less than Rs. 20 per sq. ft. of the premises taken on lease. At the end of the lease period, the assessee cannot recoup anything from the expenditure incurred. Explanation to Section 32 will apply provided the expenditure is capital in nature. Thus, merely because the sum is substantial, though not so substantial, looking to the operation of the assessee, the amount cannot be considered as capital expenditure. Even the grounds of appeal mentions that the expenditure incurred are "maintenance expenditure". Such maintenance expenditure does not partake the characteristics of acquisition of any capital asset. The expenditure is incurred after the building has been occupied and which requires normal maintenance expenditure, which cannot be classified as capital expenditure. We accordingly do not find any merit in this ground. The deletion of disallowance is accordingly upheld.12. The next ground of appeal is against direction of learned CIT(A) to include the exchange rate fluctuation in the export turnover and total turnover.
12.1 The AO while computing deduction under Section 80HHE, held that the amount received by way of exchange rate fluctuation is not to be included in export turnover. Learned CIT(A) following his own order for asst. yr. 1999-2000, held that the exchange rate fluctuation is part of export turnover as well as total turnover for the purpose of computation, deduction under Section 80HHE.12.2 At the time of hearing both the counsel agreed that the Tribunal in the appellant's own case for the asst. yr. 1999-2000 (ITA No.627/Bang/2003) in paras 16 and 17 vide order dt. 9th Sept., 2005 has held that foreign currency gains are to be regarded as additional export proceeds, and hence eligible for deduction.
12.3 In view of the finding of this Tribunal in appellant's case for asst. yr. 1999-2000, the exchange rate fluctuation is to be considered as part of exchange [sic-export) turnover and total turnover for the purpose of deduction under Section 80HHE of the Act. Similar view has been held by the Tribunal in the case of Encore Software Ltd. in ITA No. 794/Bang/2005, wherein it was held as under: We have considered the rival submissions. The foreign exchange gain arises because of the fluctuation in the foreign exchange rate. When the sales are effected, the sales are accounted in Indian rupees on the basis of exchange rate prevailing at the time of sale.
Subsequently when the sale proceeds are received in convertible foreign exchange, the assessee realized higher sum. Instead of accounting the same as turnover or sales, the same is accounted as foreign exchange fluctuation gain. Though it is worded as foreign exchange currency fluctuation, it is nothing but part of export turnover and a sort of additional sale price. Thus, the same is profit of the eligible undertaking for claiming deduction under Section 10B. Similarly, it cannot be treated as other receipts for excluding 90 per cent of the same under Section 80HHE. We accordingly hold that such sum being foreign exchange gain is not to be excluded while computing profit eligible for deduction under Section 10B as well as for computing profits of the business for the purpose of computing deduction under Section 80HHE. The decisions of Tribunal, Delhi Bench in the case of Smt. Sujata Grover v. Dy. CIT (2002) 74 TTJ (Del) 347 and the decision of Tribunal, Bangalore in the case of Infosys Technologies Ltd. v. Asstt. CIT (ITA No. 471/Bang/2003), relied by learned Counsel for assessee, is squarely applicable.
In the result, the appeal of assessee is partly allowed and that of Revenue is dismissed.