Income Tax Appellate Tribunal - Chennai
S.S.I. Limited vs Deputy Commissioner Of Income Tax on 3 December, 2004
Equivalent citations: (2004)85TTJ(CHENNAI)1049
ORDER
Business expenditureAs per the terms of the agreement entered into between the assessee and the government schools, the assessee was to provide computer education in these schools for which necessary infrastructure had to be provided by the assessee. In the agreement it was clearly stated that equipments leased by the assessee shall not be taken away from the training centre during/after the contract period. For this purpose, assessee installed wooden partitions, furniture and other structures in these schools. The AO treated such installation expenditure as business expenditure being wholly and exclusively for the purposes of business of the assessee. The CIT invoked section 263 and allowed 1/5th depreciation for a period of 5 years.
Held: The expenditure incurred by the assessee did not result in creation of any asset or benefit of enduring nature, therefore, allowance of the said expenditure in its entirety was neither erroneous in law nor prejudicial to the interest of revenue.
Income Tax Act, 1961 s.263 Revision under section 263--ERRONEOUS AND PREJUDICIAL ORDERESOP expenditure Held: Deduction of ESOP expenditure being in accordance with the guidelines of SEBI and not being a contingent liability, the order of AO granting deduction was neither erroneous nor prejudicial to interest of the revenue.
Income Tax Act, 1961 s.263 Revision under section 263--POWERS OF CITEnhancement and setting aside of assessment simultaneouslyThe CIT directed enhancement on four issues and in respect of one issue he set aside the assessment for fresh consideration after invoking provisions of section 263.
Held: The clear use of the disjunction or after the comma explicitly brings out the legislative intent that it is either one of the acts viz., enhancing or modifying the assessment, or cancelling the assessment and directing a fresh assessment which can be done, therefore, enhancement and setting aside of assessment simultaneously vitiated the order of CIT entirely.
Income Tax Act, 1961 s.263 Revision under section 263--SCOPEAllowability of depreciationAssessee-company acquired an American-firm AOC, and in the process, the assessee came to process valuable intellectual property rights (IPRs). The assessee put to use the said IPR and claimed depreciation which was granted by the AO. The CIT invoked section 263 and merely pointed out that the manner of acquisition of AOC required to be investigated and no other findings were given.
Held: A proceeding under section 263 has a very limited scope and can be invoked only under special circumstance and not for the purpose of launching a roving enquiry. Error in assessment resulting being prejudicial to revenue has to be demonstrated while invoking section 263, which is conspicuous by its absence in the order passed by the CIT under section 263.
Income Tax Act, 1961 s.263 Revision under section 263--ERRONEOUS AND PREJUDICIAL ORDERSurplus arising on exchange fluctuationFor computing deduction under section 80HHE, the AO treated surplus arising as a result of exchange fluctuation on account of retention of GDR proceeds outside India as capital receipt. The CIT invoked section 263 and held that the order passed by the AO was erroneous as well as prejudicial to interest of revenue. The assessee contended that the surplus was not revenue in nature.
Held: The amount of US dollars raised in the GDR issue remained the same and increase was due to exchange rate fluctuation and not due to any activity by the assessee, therefore, same cannot be treated as revenue receipt because one cannot make profit out of himself. Further the AO had taken one out of the two possible views.
Income Tax Act, 1961 s.263 Revision under section 263--ISSUE NOT COVERED BY SHOW-CAUSE NOTICEFor initiating proceedings under section 263, the CIT issued notice and in the said notice there was no mention that the increase caused by exchange fluctuation was of revenue nature and it had to be taxed as income. The CIT extended the revisional proceedings to that issue also by issuing a letter subsequently.
Held: The issue as to whether increase due to the exchange fluctuation was revenue in nature was not part of the show cause notice, therefore, it was not permissible to extend the revisional proceedings to this issue also.
Income Tax Act, 1961 s.263 Revision under section 263--ERRONEOUS AND PREJUDICIAL ORDERAmortisation of preliminary expenses under section 35DThe assessee-company being engaged in computer education and development of computer software had acquired intellectual property rights through the process of becoming the owner of AOC, an American firm. The assessee earned 16.75 crores by way of interest on GDR issue and expenses incurred on GDR issue amounted to Rs. 16.73 crores. The assessee however, claimed only Rs. 4.80 crores under section 35D.
Held: This being a case of expansion of an existing undertaking, acceptance of claim for deduction under section 35D by the AO could not be considered as erroneous in law. Further, the assessee having preferred a lesser claim, grant of deduction under section 35D was not prejudicial to interest of revenue.
Income Tax Act, 1961 s.263 ORDER N. Vijayakumaran, J.M.
1. This appeal arises from the order of the CIT, Chennai-III, passed under Section 263 of the IT Act, 1961, in respect of the order of assessment dt. 21st April, 2003 for the asst. yr. 2001-02. The appellant filed the return of income on 30th Oct., 2001, declaring a total income of Rs. 39,97,82,760. This return was processed under Section 143(1)(a) and the income returned was accepted. Thereafter, a notice under Section 143(2) was served on the appellant and an assessment was completed on 21st April, 2003 under Section 143(3) determining the total income at Rs. 42,13,94,253. The CIT, Chennai-III, by notice dt. 22nd Dec., 2003 called upon the appellant to show cause as to why the said assessment should not be revised under Section 263 of the IT Act, 1961, for the following reasons on the ground that the said order was erroneous and prejudicial to the interests of Revenue directing the assessee to file objections on 5th Jan., 2004 :
'(i) You are a leading computer training provider and shares are quoted in the stock exchanges. The AO has erred in not getting a published annual report of the company. Instead of this, the assessment has been completed on a company of only the financial accounts, a portion of the annual report, without obtaining directors' reports and other non-financial statements which are important parts of the published accounts of a company and are crucial from income-tax point of view.
(ii) Secondly, in the statement of income, you have claimed amortization of expenses of Rs. 4,80,72,799, i.e., 1/5th of Rs. 24,03,63,994 under Section 35D of the IT Act. Though on this issue, there has been no query from the perusal of certain papers, it is seen that this expenditure has been incurred for acquiring a company or companies known as Albion Orion Company LLC, Delaware and/or Karvy Solutions located in USA/UK. The expenditure incurred on acquisition of business is in the capital field and provisions of Section 35D are not applicable. Otherwise also, the provisions of Section 35D are not applicable to the nature of expenses incurred. Alternatively, without prejudice to the above, it is seen that the AO has failed to apply the limits prescribed in Section 35D(3) to these expenses because project costs or the capital employed is meagre for allowing such a huge expenditure. The AO has failed to consider the above issues and allowed the full claim.
(iii) Thirdly, the assessee has claimed to have purchased technical know-how and intellectual property rights for a sum of Rs. 2,45,44,51,907 and claimed depreciation thereon @ 25 per cent. The AO has failed to gather any details whatsoever with regard to this expenditure as to from whom it has been purchased, how the payments were made, what were the agreements and terms of the purchase, how it has been put to use, whether TDS was effected, etc. He has also not examined whether the alleged payment is a payment of technical know-how and IPR as per the provisions of Section 35AB.
(iv) Fourthly, you have swapped your company's share numbering 6,38,236 with the shares numbering 7,86,099 of Albion Orion Company LLC It is seen that your Rs. 10 shares have been swapped at the rate of Rs. 3,058, The AO has neither examined any of the aspects of these transactions nor you have furnished any details, such as due diligence reports, agreement for swapping, agreement for taking over, agreements with the financial agencies who structured the deal, how their transaction was completed, how the final acquisition took place, at what rate you have purchased the shares of the acquired company, balance sheets of the acquired company pre and post- acquisition, etc. Whether these transactions resulted in capital gains or a revenue receipt and what are its implications from taxation point of view have not been examined. This failure to apply mind on an important issue on the part of the AO is erroneous and prejudicial to the interest of Revenue.
(v) Fifthly, as per notes to the balance sheet, you have accounted the discounted value of the options granted as employee stock options outstanding and deferred employee compensation expenses and amortised the expenses over a period of three years and claimed it as an expenditure under the head 'staff welfare expenses' amounting to Rs. 66.82 lakhs. The AO has allowed this claim without any application of mind inasmuch as no details have been called for. What was the basis of arriving at the difference has also not been examined. The difference between the market value of the shares and the discounted value at which these were allotted to the employees cannot be a revenue expenditure.
(vi) Sixthly, on the perusal of the working of the deduction under Section 80HHE, it is seen that the AO has reduced from the profits and gains of business other receipts amounting to Rs. 20,91,12,000.50. This figure has been arrived at after reducing a sum of Rs. 16,35,77,977 pertaining to additional income derived on account of exchange fluctuation from the total of other receipts amounting to Rs. 37,31,33,187.50. This reduction from the computation of other receipts is erroneous because the exchange fluctuation receipt is not on account of any extra business receipts received on account of sales but it is because of the additional amount receipt on account of the money collected on capital account viz., the issue of GDR amounting to US $ 45,000,000. Therefore, these amounts ought to have been reduced from the computation of deduction under Section 80HHE as other receipts. As a matter of fact, in one of the papers furnished by you, giving details of foreign exchange fluctuation income for the year ending 31st March, 2001, it has described this receipt as under :
"total fluctuation income on account of capital for the year ending 31st March, 2001, Rs. 16,35,77,977".
Hence, the computation of deduction under Section 80HHE is erroneous and prejudicial to the interest of Revenue.
(vii) Seventhly, on a perusal of depreciation chart, it is seen that you have claimed 100 per cent depreciation on wooden constructions amounting to Rs. 94.81 lakhs on the ground that they are temporary structures. You have not furnished any details as to where these temporary structures were erected and why they are temporary. The AO has also failed to examine the veracity of this claim. Computer training institute like yours, prima facie, has no need to have temporary structures'.
2. In the meantime, a survey under Section 133A was carried out on 30th Dec., 2003, in the premises of the assessee and various documents relating to the issues raised in the said show-cause notice were impounded. The assessee, by reply dt. 5th Jan., 2004, submitted that the impugned order of assessment was neither erroneous in law nor prejudicial to the interests of Revenue and so requested to drop the proceedings.
3. By letter dt. 21st Jan., 2004, the assessee was requested to furnish specific information on certain points and was also asked to give reasons as to why the receipts by way of foreign exchange fluctuation should not be treated as revenue receipt.
4. The assessee was heard on this issue by CIT who held that he had validly assumed jurisdiction and further directed the AO to--
(a) tax exchange fluctuation Income of Rs. 16,35,77,977 as revenue receipt and also to examine whether there was a need to rework the claim for deduction under Section 80HHE earlier allowed in the proceedings under Section 143(3), as a result of treating the exchange fluctuation as a revenue receipt; and
(b) disallow the claim under Section 35D amounting to Rs. 4,80,72,799; and
(c) disallow the ESOP expenditure of Rs. 66.82 lakhs under staff welfare;
(d) disallow the claim of 100 per cent depreciation on wooden structures of Rs. 94.81 lakhs and allow 1/5th of the expenditure for 5 years from asst. yr. 2001-02; and
(e) consider afresh by setting aside the claim of depreciation on Intellectual Property Rights.
5. The first issue that arises for our consideration relates to the direction by the CIT to the AO to treat the sum of Rs. 16,35,77,977 due to exchange fluctuation as a revenue receipt with a further direction to examine whether the deduction under Section 80HHE needs to be recomputed for this reason. In this regard the submission of the learned counsel for the assessee is that the assessee had made a GDR issue of shares and raised US $ 100 million outside India in March, 2000. The GDR issue is nothing but an issue of shares made outside India. The proceeds of the GDR issue had to some extent been utilized outside India, while some part of the proceeds of the GDR issue was retained in banks outside for a short period. These proceeds were subsequently brought into India. The entire GDR proceeds were recorded in the balance sheet of the appellant as share capital and share premium. Insofar as the proceeds that was brought into India subsequently was concerned, there was an exchange fluctuation between the value at which it was recorded in the books as share capital and share premium and at which it was realised when it was brought into India. Though the appellant had credited the P&L a/c in respect of the said exchange fluctuation difference, the appellant in the return of income had claimed the said difference as a capital receipt. The AO had accepted this view of the appellant. The CIT in his show-cause notice had required an explanation from the appellant as to why the said receipt should not be reduced to the extent of 90 per cent in computing the deduction under Section 80HHE on the basis that the same constituted as other receipts. The appellant had in reply to the show-cause notice explained that the said receipt constituted capital receipts of the assessee and was not included in the total income of the assessee or in the profits of the business for the purpose of computing deduction under Section 80HHE and that, therefore, the question of reducing 90 per cent of the same from the profits of the business for the purposes of computing deduction under Section 80HHE does not arise. In support of its submission that the receipt was of a capital nature, the decision of the Madras High Court in EID Parry Ltd v. CIT (1988) 174 ITR 11 (Mad) was cited. In response to this, the CIT by letter dt. 21st Jan., 2004 opined that the decision of the Madras High Court relied on by the assessee, was not in favour of assessee made an altogether new proposal to treat the said receipt as revenue in nature. In this context, the learned counsel for the assessee drew our attention to the additional ground filed by the assessee on 20th Sept., 2004, wherein a ground had been taken that the CIT erred in not confining himself to the basis for the assumption of jurisdiction under Section 263 in his show-cause notice dt. 22nd Dec., 2003 and going beyond the show-cause notice dt. 22nd Dec., 2003, which in law is not permissible. This ground was in addition to and without prejudice to the grounds raised about assumption of jurisdiction under Section 263 by the CIT being invalid. The learned counsel for assessee submitted that the CIT could not go beyond the initial show-cause notice through a letter, which was subsequently sent to the assessee and that the letter of the CIT, could not be construed as a show-cause notice as envisaged in Section 263. The learned counsel referred to the decisions of the Punjab & Haryana High Court in Vipan Khanna v. CIT (2002) 255 ITR 220 (P&H) and CIT v. M.P. Iron Traders (2004) 136 Taxman 520 (P&H) rendered in the context of a reassessment where it had been held that the proceedings of reassessment had to be confined only to the issues for which the proceedings were initiated and could not be extended to issues not recorded at the time of launching of proceedings of reassessment. The learned counsel also placed reliance on the decisions of the Supreme Court in CIT v. Shri Arbuda Mills Ltd. (1998) 231 ITR 50 (SC) and CIT v. Shree Manjunathesware Packing Products & Camphor Works (1998) 231 ITR 53 (SC) as to the meaning of the term 'record' as defined in Section 263 in support of his claim that what is not contained in the show-cause notice cannot be said to have been found from the record to invoke the powers under Section 263.
6. The learned counsel for the assessee also submitted that since the GDR issue was on the capital field, the exchange rate fluctuation would also be on the capital field and further that, since the AO had applied his mind to the issue which is apparent from his having specifically excluding the receipt in computing the profits of the business for the purposes of deduction under Section 80HHE in the assessment order, there is no error or prejudice or lack of application of mind on the part of the AO. The learned counsel for the assessee further submitted that treating the exchange fluctuation on the GDR proceeds as the income of the assessee would amount to stating that the assessee has made a profit out of itself, which is not possible. This plea was raised on the basis that the money raised out of the GDR belonged to the assessee and when this was brought into India, it had a different value than what was notionally recorded in the books as share capital and share premium. He further submitted that the receipt on account of exchange fluctuation was not earned from anybody but was only the difference between the notionally recorded value in the books and the amount brought into India.
7. The learned counsel for the assessee further submitted that treating the receipt of exchange fluctuation as a capital receipt was one view as against the view of the CIT that it was revenue in nature and this was beyond the scope of revision under Section 263. He relied on the decision of the Hyderabad Bench of the Tribunal reported in Srinivasa Hatcheries (P) Ltd. v. Dy. CIT (2004) 89 TTJ (Hyd) 545 : (2002) 81 ITD 36 (Hyd) to state that if one of two possible views had been followed by the AO, no action under Section 263 can be taken.
8. In the alternative, it was submitted that if the exchange fluctuation receipt was to be treated as income, then the entire share issue expenses amounting to Rs. 16,71,80,907 would be allowable as a deduction relying on the decision of the Jodhpur Bench of the Tribunal reported in Neha Proteins Ltd. v. Asstt. CIT (2004) 83 TTJ (Jd) 236 and of the Supreme Court in CIT v. Rajendra Prasad Moody (1978) 115 ITR 519 (SC) and CIT v. Bokaro Steel Ltd. (1999) 236 ITR 315 (SC). He further contended that if the said expense of Rs. 16,71,80,907 is reduced from the exchange fluctuation of Rs 16,35,77,977, the result would be a loss and total income of the appellant would thus be lesser than what was assessed by the AO under Section 143(3) and that, therefore, even assuming that there was an error, no prejudice is caused to the Revenue and so would fall outside the scope of Section 263.
9. The learned Departmental Representative, on the other hand, has filed detailed written submissions and submitted that the exchange fluctuation receipt had been taken to the P&L a/c as the appellant had done with regard to exchange fluctuation from receipts of the assessee from its business of providing services for which payments were received in foreign currency. The learned Departmental Representative, further submitted that the accounting policy of the assessee was to make adjustments in foreign currency on the invoices raised for sale made to clients outside India. Similarly, the assessee in respect of expenses in foreign currency accounted the same at the rate of exchange debited by the bankers at the time of expenditure or average exchange rate during the period in other cases. Current assets and liabilities denominated in foreign currency have been transacted at the rate prevailing on the last date of the year and the difference is accounted for in the P&L a/c. Fixed assets are accounted at the rates prevalent on the transaction and, the difference, if any, on account of foreign loans in respect of such fixed assets as on the closing date are adjusted to the cost of fixed assets. As per the accounting policies followed by the assessee what is reflected in the P&L a/c is only on the basis of various sales and expenditure incurred on revenue account and also on current assets and liabilities, which are nothing but the working capital of the assessee. The learned Departmental Representative, therefore, submitted that it is an admitted accounting principle of the assessee that fluctuations on the basis of fixed assets and, loans are adjusted to the cost of the fixed assets and consequently the foreign currency fluctuations reflected in the P&L a/c is to be considered only on revenue account and, therefore, no part of it can be treated as capital in view of the accounting principles followed by the assessee. He further submitted that the principle established by the Hon'ble Madras High Court in the case of EID Parry Ltd (supra) does not apply to the issues in the present appeal because EID Parry Ltd. was a foreign company and had issued share's abroad which, when ultimately remitted into India had exchange fluctuation on account of rupee devaluation, but in the present appeal the assessee is an Indian company. The learned Departmental Representative had in the written submissions stated that the assessee had not made a share issue abroad but had only issued certificates, Which Were negotiable. The learned Departmental Representative however, in the course of his submissions fairly conceded that the fact was that the assessee had only made a share issue abroad and, therefore, prayed that the written submissions to that extent it refers to the assessee not having made an issue of shares may be treated as withdrawn.
10. The learned Departmental Representative further submitted that the assessee had retained moneys in the form of FDs and current account abroad and had treated them as current assets only which is taken to revenue account correctly as per the accounting principles followed by the assessee. In view of this excluding the same from computation as claimed by the assessee without examination is an error committed by the AO and, therefore, the direction of the CIT in treating it as a revenue receipt is correct on the facts and circumstances of the case, He also submitted that the first show cause brought out the issue as a part of computation under Section 80HHE, whereas in the second letter issued on 21st Jan., 2004 to the assessee asked for reasons as to why the same should not be treated as revenue receipt and that, therefore, the additional ground raised in this regard was not valid.
11. It is an admitted position that in the show-cause notice issued, the increase caused by exchange fluctuation figured in the context of the proposal to hold that the computation of relief under Section 80HHE was incorrect and the ground that said receipt was revenue in nature does not find mention. Only when the assessee explained that the increase due to exchange fluctuation was not considered for the purposes of Section 80HHE and found support in the decision of the Hon'ble Madras High Court in EID Parry (supra), the CIT took the view that the receipt was of a revenue nature and issued a letter to the assessee as to why the said sum should not be treated as revenue nature and hence the question crops up as to whether, after invoking his powers under Section 263 by issue of notice in this behalf, the CIT can go beyond the said notice and issue a letter in the course of the said proceeding raising an issue not covered by the said notice.
12. In this connection, the learned counsel for the assessee drew an analogy with Section 147 and had vehemently contended that the principles enunciated in respect of Section 147 would apply with all force to proceedings under Section 263 also.
13. We are of the firm view that the issue raised in this behalf is purely legal in nature based on admitted facts already on record and so the additional ground filed is admitted. As stated earlier, it is settled law that in a reopened assessment, the AO has to confine himself to the recording of reasons and there is no room for using such proceedings for a roving or fishing enquiry. Just as the recording of reasons is the very basis for assumption of jurisdiction under Section 147, in respect of a proceeding under Section 263, the bedrock on which the entire proceeding rests is the show-cause notice and so the proceeding under Section 263 has to be strictly confined to the notice issued invoking the jurisdiction under Section 263 for the reasons stated therein. Hence, whether the impugned assessment order is erroneous and prejudicial to the interest of Revenue had to be judged only with reference to the reasons stated therein. Admittedly, in the show-cause notice reproduced by us hereinabove, there is no mention that the increase caused by exchange fluctuation was of a revenue nature and so had to be taxed as income. In this circumstance, the question that arises for our consideration is whether the same can be raised in the form of a-letter. The learned Departmental Representative has submitted that the letter dt. 21st Jan., 2004, should be construed as a second show-cause notice and so the assumption of jurisdiction by the CIT by issue of a letter was proper. Further, the letter was in continuation of the Section 263 proceeding already initiated and not a fresh proceeding as contended by the Departmental Representative. Therefore, we are of the view that the letter dt. 21st Jan., 2004 was not signed by the CIT himself but by some other officer on his behalf which showed that it was only a letter and not a show-cause notice and this mistake is not a curable one as enumerated in Section 292B of IT Act.
14. In this connection, useful reference may be made to the decision of the Hon'ble Karnataka High Court in the case of CIT v. L.F. D'Silva (1991) 192 ITR 547 (Kar), wherein the Department sought to expand the scope of the Section 263 proceeding before the Tribunal raising certain issues not contained in the show-cause notice. After holding in para 14 that "the scope of the proceeding has to be ascertained with reference to the purpose and the basis of the initiation of proceedings", the Hon'ble High Court found that while initiating the proceeding the issue that was sought to be raised was nowhere to be seen in the notice and held that it was not seen in the notice and held that it was not permissible for the Tribunal to grant a second innings to the Department to enter upon fishing expedition. Respectfully following the principles laid down therein, we are of the view that the question as to whether the increase due to the exchange fluctuation was revenue in nature was not even in the mind of the CIT when he bad issued the notice and this opinion came formed by him only after the assessee cited the Hon'ble Madras High Court decision in the case of EID Parry (supra) to the effect that the said increase was capital in nature. Hence, we are of the firm view that as this issue was not part of the show-cause notice dt. 22nd Dec., 2003, it is impermissible to expand the said notice by resort to letters as herein done for, if that be so, then there would be no end to the proceeding and it will go on getting expanded and expanded which is not permissible under law. As held by the Hon'ble Karnataka High Court in the case cited supra, the law does not permit expanding proceedings under Section 263 after its initiation beyond what is stated in the notice itself.
15. Even on merits, we find that it was nothing but a case of exchange fluctuation on account of the retention of the GDR proceeds that was later brought into India. The increase in the value is not due to any activity of the appellant but due to the change in the exchange rate of the Indian rupee to the US dollar. The assessee had brought the same amount of US dollars that was held abroad and there was an increase in the value in Indian rupees at which it was recorded in the books. In our considered view, a receipt, which by its very nature is capital, cannot become revenue. Income to be revenue in nature must arise due to some activity on the part of the assessee. Further, as contended by the learned counsel for the assessee, one cannot make profit out of himself. In this case, the amount of US dollars raised in the GDR issue remained the same and the increase was due to exchange rate increase and not due to any activity by the assessee. As held by the Supreme Court in the case of CIT v. Bai Shirinbai K. Kooka (1962) 46 ITR 86 (SC), one cannot profit out of himself, we hold that the exchange fluctuation is not a revenue receipt and the direction of the CIT in this behalf is not justified.
16. There is one more aspect to the case. Even assuming that the view of the CIT that the increase due to exchange fluctuation is revenue is not altogether ruled out, then similarly the view that it is capital in nature is also a plausible view and Section 263 is not the forum to decide such issues. The AO took one view and the CIT took another view and in a Section 263 proceeding, there is no scope for substituting one view for the other as held by the Gujarat High Court in Arvind Jewellers on which SLP was dismissed by the Supreme Court [(2004) 266 ITR (St) 101].
17. The learned Departmental Representative supports the order of the CIT on the ground that the decision of the Madras High Court in (1988) 174 ITR 11 (Mad) (supra) related to shares issued abroad by a foreign company and not by an Indian company as in this case and further that in that case, the amount could not be brought into India due to the then prevailing stringent regulations of the RBI and so contended that this case is distinguishable and also the purpose of raising the share issue in that case was for acquiring plant and machinery and in the present case in appeal, for working capital also. In our considered opinion, the point that the assessee is an Indian company and that the amount in the other case was kept abroad due to RBI regulations does not in any way affect the nature of the receipt. These factors have no bearing on the determination of the question as to whether the increase in the value of a sum due to exchange fluctuation is capital or revenue in nature for the simple reason that such receipts from share issue are always capital in nature. There cannot be any change of gene. The capital will give birth to capital only and it is only expansion of capital. Hence, the principles laid down by the Hon'ble Madras High Court in (1988) 174 ITR 11 (Mad) (supra) fully supports the stand of the assessee.
18. In view of the finding we hold that having failed to specify this item in the show-cause notice, the same could not be added by issue of letter dt. 21st Jan., 2004, and so the same could not have been considered in the proceedings under Section 263 and further hold that the increase of Rs. 16,35,77,977 due to exchange fluctuation in the funds out of the GDR issue is capital in nature and hence the question of considering it for the purpose of deduction under Section 80HHE does not at all arise. In the circumstance, we hold that direction of the CIT to treat the sum of Rs. 16,35,77,977 as a revenue receipt is not warranted.
19. The second issue relates to the claim of 100 per cent depreciation on furniture of Rs. 94.81 lakhs. The learned counsel for the assessee submitted that the furniture was purely in the nature of temporary structure made of wood, which were installed in the Government schools to provide computer training to the children of the said schools. Then he submitted that was provided for on the basis of a contract between the assessee and the State Governments or Corporations formed by the State Governments for this purpose. These temporary wooden structures were installed in the third party premises, i.e., at Government schools. He also drew our attention to Clause No. 7 of the agreement entered into for the provision of computer education, wherein it is stated that the equipments provided by the assessee cannot be taken away by the assessee during/after the contract period. He submitted that the CIT after examining the agreements, had directed 1/5th of the expenditure so claimed to be allowed in the assessment year under review and the balance in equal instalments over the four, subsequent years. This conclusion was arrived at by the CIT since the agreement for providing the education is for a period of 5 years. The learned counsel for the assessee, therefore, submitted that the CIT had concluded that the expenditure was revenue in nature for he could not have otherwise directed the deduction to be allowed over a five year period but could only have directed a claim for depreciation at the rates prescribed. The learned counsel for the assessee also submitted that an expenditure once held as revenue has to be allowed in full unless it were prohibited from being claimed under the Act. The learned counsel for the assessee also submitted that the expenditure was incurred wholly and exclusively for the purpose of the business of the assessee and was, therefore, allowable in full under Section 37(1) in the year in appeal. For this proposition, the learned counsel for the assessee places reliance on the decision of the Rajasthan High Court reported in CIT v. Rajasthan Spg. & Wvg. Mills Ltd. (2004) 137 Taxman 249 (Raj). The learned counsel for the appellant also sought to distinguish the decision of the Supreme Court in Madras Industrial Investment Corporation Ltd. v. CIT (1997) 225 ITR 802 (SC), where the Supreme Court had held that discount on issue of debentures has to be spread over the period for which the debenture was issued and to be allowed as a deduction accordingly. This was sought to be distinguished on the basis that the Supreme Court in that case had only concluded that the discount accrues only over the period for which the debenture was issued and that was the reason for the conclusion that the expenditure by way of discount is to be amortised over the period of which the debenture was issued. The learned counsel for the assessee also submitted that the concept of deferred revenue expenditure is alien to the IT Act except to the extent contemplated under Sections 35DD and 35DDA. He, further submitted that whether a claim is made for 100 per cent depreciation or for a full deduction under Section 37(1), there would be. no difference in the total income and, therefore, no prejudice to warrant interference under Section 263.
20. The learned Departmental Representative supported the order of the CIT and submitted that the agreement with ELCOT is for training package including the cost of the computer, furniture and tables, etc. The ownership of these furniture will be passed on at the end of the agreement period only. In view of this, the CIT's direction that 1/5th of the expenditure can be allowed in each year is correct according to the facts of the case. In the case of CIT v. Madras Auto Services (P) Ltd. (1998) 233 ITR 468 (SC), the Hon'ble Supreme Court has allowed the amount spent for construction of building as revenue expenditure in the respective years. However, the said case is not applicable to the facts of this case as the assets were from the beginning belonging to the lessor and not to the company and, therefore, the Hon'ble Supreme Court stated that the company got an enduring advantage and not a capital asset. In this case, the appellant had spent the amount for providing furniture, etc, on various schools on a lease agreement entered (p. 228 of the paper book of the appellant) and if these are part of the revenue expenditure, the appellant could have written off to the P&L a/c as a direct expenditure but treated part of the asset in the fixed asset schedule and claimed 100 per cent depreciation as temporary structure. In the light of the depreciation schedule, the furniture provided in the training institute cannot be considered as temporary structure and, therefore, the claim of 100 per cent depreciation made by the assessee is erroneous in the first instance. Now claiming the same as revenue expenditure is also not correct, as this alternate claim cannot be entertained as the assessee has. shown it as its own assets in the books of account and hence has not written off to the revenue account. The same principle will also apply in distinguishing the judgment of the Rajasthan High Court in CIT, v. Rajasthan Spinning & Weaving Mills (supra) relied by the assessee as the appellant has not made any claim under Section 37(1) and now is trying to justify the wrong claim made in the return of income by making an alternate claim. He concluded that after considering the facts of the case, the CIT is correct in allowing 1/5th of the expenditure on the deferred revenue concept, which is an accepted accounting principle and also upheld by the Supreme Court in the case of Madras Industrial Investment Corporation Ltd v. CIT (supra).
21. The learned Departmental Representative also pointed out that the agreements referred to the assessee as the contractor and ELCOT: as the lessee-cum-service recipient. The learned Departmental Representative also pointed out to Clause 30 of the agreement with ELCOT which provided that after the primary lease period covered by the contract, the hardware, software, furniture, UPS, airconditioner and other equipments installed under the contract are to be retained in the school for a lease payment of Rs. 100 per annum per school for a period of 10 years which points to the appellant being the owner of the assets and, therefore, being entitled to only depreciation at the prescribed rates on the assets.
22. In reply to Departmental Representative's submission, the learned counsel for the assessee while reiterating his earlier arguments, vehemently submitted that the agreement is to be read as a whole and specifically drew our reference to Clause 20 of the same agreement which provided that the appellant shall at their own cost insure the assets. Regarding this clause, he submitted that this clause would not be required if the assessee was the owner of the assets for, if the assessee was the owner, he would have naturally taken the insurance and there was no need for a specific clause in this regard for any cost of replacement on account of damage or destruction would only have to be borne by the appellant. It was only because the assessee was not the owner by the parties that such a clause found place in the agreement. He also clarified that wooden structures were alone provided by the assessee, while the other assets required for the training were provided by the franchisees of the assessee.
23. The issue pertains to the claim of depreciation on wooden structures, fittings, partitions, etc., ordered in the schools by the assessee. As per the terms of the agreement entered into by the assessee and by the Government schools, the assesses was to provide computer education in the Government schools, for which the necessary infrastructure has to be provided by the appellant. In Clause No. 7 of the agreement dt. 16th Feb., 1999, it is clearly stated that the equipments leased by the contractor under the contract shall not be taken away from the training center during/after the contract period. As per the preamble to the agreement, the assessee had to provide all the necessary infrastructure for imparting computer education in Government Higher Secondary School by providing necessary hardware, software and connected accessories and provision of computer education in these schools. Pursuant thereto the assessee had to make provision for computer education in these schools and these included wooden partitions, furniture and other structures in these schools. The assessee had incurred an expenditure of Rs. 94.81 lakhs in making these provision and claimed the same by way of depreciation as temporary structures. In the Section 263 proceedings, the CIT held that since the contract is for a period of 5 years the entire expenses ought not to be allowed in full by the AO and hence directed 1/5th of the expenditure be allowed.
24. In deciding this issue, certain crucial facts have to be borne in mind. The contract provided for the assessee to impart computer education is not in his premises but in public places like schools with access provided to all kinds of students in such premises. The structure provided there comprises, partition and other wooden accessories. All these were to be retained in these premises all the time. As per Clause 7, the words during/after the contract period and shall not be taken away from the training center premises are very significant. Further, Clause 30 provides for secondary lease for a period of 10 years for a nominal sum of Rs. 100 per annum. This would indicate that from the date of contract the entire infrastructure provided by the assessee in the public schools, liable for misuse and disuse, remained virtually the property of these schools and so in our view the terms of the contract indicated in unmistakable terms that the structure provided by the appellant, were to remain the property of said schools virtually during the life span of these structures. As these structures have to be installed at the cost of assessee for the purposes of its business and these structures were to remain the property of the public schools for at least 15 years, the entire expenditure did not result in creating an asset or an enduring advantage to the assessee. Therefore, the expenditure incurred is wholly and exclusively for the purpose of the business and is revenue in nature and allowable under Section 37 itself as business expenditure.
25. The learned Departmental Representative vehemently contended that assessee himself has treated the assets as capital. However, this is to overlook the point that the CIT himself has accepted that the expenditure is of a revenue nature as can be seen from his direction to allow 1/5th of this expenditure for a period of 5 years. Once an expenditure is admitted as revenue nature, the entire expenditure has to be allowed under Section 37 in the year in which it was incurred and there is no provision for deferment as directed by the CIT.
26. As held by the Supreme Court in Hoshiarpur Electric Supply Co. v. CIT (1961) 41 ITR 608 (SC), the treatment given by the assesses to a particular item in the accounts is not a deciding factor but the nature of such expenditure is the deciding factor. It is the true nature and character of the expenditure, which gives a clue. In this case the expenditure incurred has not resulted in the creation of the asset for the assessee. The structures were not installed in the assessee's premises and were not under the control of the appellant. These structures were to be used by the school children in the public schools and so liable to be damaged extensively. Hence, expenditure incurred in terms of a contract for the purpose of business and not resulting in the creation of any asset or benefit of enduring nature for the appellant cannot even remotely be treated as capital in nature. In view of this factual position, we are of the view that the grant of the said expenditure in its entirety was not erroneous in law on a different ground and also not prejudicial to the interest of Revenue and so the directions of the CIT to allow 1/5th depreciation for a period of 5 years not justified.
27. The third issue relates to the direction given by the CIT to disallow the claim under Section 35D of Rs. 4,80,72,799. The learned counsel for the assessee submitted that the assessee had incurred expenses of the Global Depositary Shares issue amounting to Rs, 16,71,80,907.80 and the expenses relating to acquisition of partnership interest in the firm Albion Orion Corporation LLC for the appellant amounting to Rs. 7,31,83,086.52 totalling to Rs. 24,03,63,994 out of which 1/5th was claimed for the asst. yr. 2001-02. He further submitted that the claim of the assessee under Section 35D in respect of expenses relating to Global Depositary Shares (GDS) and acquisition of Albion Orion Corporation LLC, these expenses were mainly incurred on account of feasibility studies, projections of business prospects and technical and other data which are covered by Sub-section (2) of Section 35D. He also submitted that software development is recognized as an industry and its extension or setting up of a new unit will lead to the allowability of expenditure incurred therefor as a deduction under Section 35D. Further it was submitted that the expenses can be allowed under Section 35D beginning from the year in which the extension of the industrial undertaking is completed, which in this case was completed in the asst. yr. 2001-02.
28. The learned counsel for the assessee further submitted that the said expenses have been held to be expenses incurred which are entitled to be set off against the interest income earned from placing the proceeds of the issue in deposits [(2004) 83 TTJ (Jd) 236 (supra)].
29. The learned counsel for the assessee submitted that assuming, without conceding, that the expenditure will not qualify for deduction under Section 35D, the expenses were incurred for the purpose of acquiring the Intellectual Proprietary Rights (IPRs) through the acquisition of AOC, LLC and that, therefore, the same needs to be capitalized as forming part of the actual cost, of the IPR and hence qualify for deduction by way of depreciation at 25 per cent instead of the claim of the appellant at 20 per cent under Section 35D. He went on to state that as the assesses had claimed lesser allowance in the assessment, the assessment order is not prejudicial to the interests: of Revenue.
30. He further submitted that without prejudice to his previous submissions, since the CIT had concluded that the exchange fluctuation receipt on account of the GDS issue was revenue receipt chargeable to tax, the entire GDS issue expenses is allowable revenue expenditure.
31. Further, the assessee's counsel submitted without prejudice to the above, that, since the CIT had concluded that the GDS issue is for working capital, then the entire expenses incurred for the same is allowable as revenue expenditure. Hence, he submitted that the direction of the CIT to disallow the claim under Section 35D is erroneous and not valid.
32. In this regard, apart from the various grounds raised before the CIT and the Hon'ble Tribunal in this appeal, the appellant's counsel placed special emphasis of the Jodhpur Bench of the Tribunal in Neha Proteins Ltd. v. Asstt. CIT (supra). In this case, the Tribunal has held that public issue expenses in connection with expansion of an existing business should be allowed as a deduction in full against the interest earned on the share application money. In the assessee's case, it was submitted, the appellant has earned an interest from out of the GDR issue of Rs. 16.75 crores, which was offered as the income of the assessee. Going by the decision of the Jodhpur Bench of the Tribunal, the entire public issue expenses of Rs. 16.73 crores would be allowable as a deduction against the interest income. This would mean that the net of the public issue expenses and interest receipts would have been a negative figure. It was also submitted that the claim made under Section 35D was only to the extent of Rs. 4.80 crores which was 1/5 of the total expense of Rs. 24,03,63,994 of the public issue, while Tribunal in (2004) 83 TTJ (Jd) 236 (supra) has held that the entire expense is allowable. The assessee's counsel submitted that this clearly establishes that, there is no error much less a prejudice since going by the decision of the Tribunal in (2004) 83 TTJ (Jd) 236 (supra), the assessee has in fact, overstated its income and this cannot lead to a prejudice to the. Revenue. The learned counsel for the assessee also placed reliance on the decision of the Supreme Court in Rajendra Prasad Moody's case (supra) and Bokaro Steel Ltd. (supra)
33. The learned Departmental Representative, on the other hand, submitted that the AO allowed the claim under Section 35D without any discussion or without any proper verification. During the proceeding under Section 263, he submitted, the assessee furnished the necessary details and on these basis the CIT has directed that claim cannot be allowed. He further stated that he relied on the detailed reasoning given in the order under Section 263. He further stated that it is judicially held that bringing into existence an asset or addition of an enduring nature would lead to the inference that the expenditure disbursed is of a capital nature. As can be seen from the facts, the learned Departmental Representative submitted, the assessee had acquired AOC LLC for consideration by issue of GDS shares. In support of his contentions the learned Departmental Representative relied on the decision of Calcutta High Court in Indian Oxygen Ltd. v. CIT (1987) 164 ITR 466 (Cal) and also the decision of Madras High Court in CIT v. Sarada Binding Works (1976) 102 ITR 187 (Mad) and thus submitted that the provisions of Section 35D are not applicable as held by the CIT in his order under Section 263 and stated that the CIT's directions in this context are to be upheld
34. The point around which the issue revolves is the claim for deduction under Section 35D. The facts relating to this issue have been elaborately detailed by the learned counsel for the assessee and does not require to be repeated The AO assessing the assessee accepted the claim of the assessee to the extent, of Rs. 4,80,72,799, i.e., 1/5th of Rs. 24,03,63,994 under Section 35D in the order passed by him under Section 143(3), which in the opinion of the CIT, is incorrect and so prejudicial to the interest of Revenue. Section 35D relates to the grant of an allowance by way of amortisation of preliminary expenses at 20 per cent per year for 5 years in connection with the extension of an undertaking or in connection with the setting up of a new industrial unit. In the opinion of the CIT the sum of USD 100 million raised through GDS issue was neither for extension of the industrial undertaking nor in connection with the setting up of the new industrial unit. Hence, in his view, the assessee is not entitled to the deduction. Further, the entire money was utilized for becoming a partner in a firm in USA known as Albion Orion Company LLC and so Section 35D could have no application. In the view of the CIT, becoming a partner in a firm and then becoming a proprietor of a firm does not amount to extension of industrial undertaking nor does it result in the setting up of new industrial unit The assessee's submissions have been that software development has been recognised as an industry and so the expansion achieved by the outlay is covered by Section 35D. The further contention of the assessee is that the expenses incurred related to preparation of feasibility studies, etc. and that these expenses are allowable under Section 35D beginning the year in which the extension of the industrial undertaking is completed which in this case was in the asst. yr. 2001-02. The further submission of the assessee is that even otherwise the expense incurred have to be set off against the interest income earned and strong reliance is placed on Neha Proteins (supra). In this case the Jodhpur Bench of the Tribunal has held that public issue expense in connection with expansion of an existing business should be allowed, as a deduction in full against interest earned on the share application money. In the submission of the appellant the interest income earned being Rs. 16.75 crores, was offered without any claim for deduction as upheld in the said decision but on the other hand the claim under Section 35D was limited to Rs. 4.80 crores and so if the decision of the Hon'ble Jodhpur Bench is followed, the expenditure of Rs. 16.73 crores incurred should have been allowed as a deduction instead of Rs. 4.80 crores claimed under Section 35D. In the result, the actual deduction should have been much more than originally granted in the assessment order and so in the grant of relief under Section 35D, the order of the AO did not cause any prejudice to the Revenue. In the alternative, the submission is that if in the opinion of CIT the entire expenditure had resulted in the acquisition of an undertaking, even then, as the CIT had taken the view that said expenditure resulted in the acquisition of a company, the said industrial undertaking having been acquired, it was nothing but a case of acquiring IPR on which depreciation under the law is admissible.
35. As elaborately dealt with in the objections filed in the order passed under Section 263 and in the elaborate submission made before us, the admitted facts are that the assessee-company being engaged in computer education and development of computer software, had acquired IPR through the process of becoming the owner of AOC. As this was nothing but a case of the expansion of an existing undertaking and all the expenses pertained to the said expansion and so the admission of the claim under Section 35D by the AO in the assessment order impugned could not be considered as erroneous in law. Software is recognized as industry and development of software can take different shapes depending upon time and circumstances. In this case the admitted position is that the assessee came to possess valuable IPR through the acquisition of AOC. It is further to be noticed that the assessee had earned Rs. 16.75 crores by way of interest out of GDR issue and the expenses incurred in GDR issue amounted to Rs. 16.73 crores. In our view the decision of the Jodhpur Bench of Tribunal rendered in Neha Proteins Ltd (supra) squarely applies to the facts of the case. In such an event, the assessee was entitled to claim Rs. 16.73 crores as deduction whereas the assessee preferred to claim a deduction of only Rs. 4.80 crores under Section 35D on the ground that there had been extension of their undertaking and that 1/5 of the expenses incurred in this behalf was to be allowed as deduction. In our view, as the Jodhpur decision is applicable to the facts of the case and the assessee in the original assessment has preferred a lesser claim and hence the grant of deduction under Section 35D was not prejudicial to the interest of Revenue. Even otherwise, the CIT is of the view that in the process the assessee came to acquire IPR in which event the assessee was entitled to claim depreciation which was far higher than the claim under Section 35D. Looked at from any angle, we do not find any error in the order passed by the AO in granting a deduction under Section 35D. On the other hand, in terms of the decision in Neha Proteins Ltd. (supra), the claim should have been much more. Hence, on this ground also we do not find any justification to the CIT to invoke jurisdiction under Section 263 and the direction to disallow the expenditure of Rs. 4.80 crores is not warranted.
36. The fourth issue relates to the direction to disallow ESOP expenditure of Rs. 66.82 lakhs. The learned counsel for the assessee submitted that the assessee has issued shares in the company to its employees under employees stock option plan. This is done in the interest of the business of the assessee to enthuse the employees to work in the best interest of the assessee. The allotment of shares under ESOP is done by the assessee in strict compliance of SEBI regulations in this regard. The SEBI regulations mandate that the difference between the market prices and the price at which the option is exercised by the employees is to be debited to the P&L a/c as an expenditure. It is this difference, which is alleged to be a mere notional entry and, therefore, has been directed to be disallowed. The learned counsel for the assessee drew our attention to the decision of the Supreme Court in Chellapalli Sugars Ltd. v. CIT (1975) 98 ITR 167 (SC). He submitted that in this case, one of the issues that arose before the Court was with regard to the, treatment of interest payable on capital borrowed for purchase of plant and machinery before the commencement of business. The Supreme Court in that case had concluded that such interest is to be added to the actual cost of the asset. This conclusion, he submitted, was arrived by the Court on the basis that it was an accepted accountancy rule that for determining the cost of the assets, there shall be included all expenditure necessary to bring such assets into existence and put it to working condition. He thus submitted that the Supreme Court concluded that in case money is borrowed by the newly started company which is in the process of constructing and erecting its plant, the interest incurred before the commencement of production on such borrowed money is to be capitalized and added to the cost of fixed assets which have been created as a result of such expenditure. The Supreme Court further observed that the rule of accountancy should be adopted to determine the actual cost in the absence of any statutory definition or indication to the contrary. He further submitted that the same view was expressed by the Court in this same decision with regard to the expenditure by way of freight, warehouse charges, or insurance paid to bring the asset to the present location and condition. The assessee's counsel drew our attention to the decision of the Supreme Court in CIT v. U.P. State Industrial Development Corporation (1997) 225 ITR 703 (SC). In this case, he submitted that, the issue that was before the Supreme Court was with regard to the treatment of underwriting commission vis-a-vis the sum paid by the underwriter to the company for purchase of shares, which were unsubscribed The Supreme Court, he submitted, had held that it would be proper for the assessee to take the net investment, that is the purchase price as reduced by the underwriting commission, as investment as against treating the gross amount that is the purchase price as the investment and the underwriting commission as income. He went on to submit that this view was taken by the Supreme Court on the basis of the accepted principles of commercial accounting and observed that the principles of commercial accounting should ordinarily be applied in ascertaining the profits and gains. In fact, in this case, he submitted that the Tribunal had referred to various books on accountancy and had found that accounting for the net of the purchase price and the underwriting commission as investments was a permissible accounting treatment and held that the accounting of the net of investments was in order. He further submitted that it was this view of the Tribunal that was affirmed by the Supreme Court The appellant's counsel also drew our attention to the decision of the Supreme Court in CIT v. Bokaro Steel Ltd. (supra). He submitted that in this case the Supreme Court once again expressed the view that what is correct for accounting would be correct for tax as well except where the tax law provided for the contrary. He further submitted that the appellant is consciously aware of the decisions of the Supreme Court in Tuticorin Alkali Chemicals & Fertilisers Ltd. v. CIT (1997) 227 ITR 172 (SC) and Godhra Electricity Co. Ltd. v. CIT (1997) 225 ITR 746 (SC) where views were taken contrary to the accepted accounting principles. The appellant's counsel, in this connection, submitted that these decisions were rendered without considering the accounting principles' for in these cases, there were specific taxing principles which would, as already submitted by him, override the accounting principles. He submitted that a conjoint reading of all the decisions referred to supra, in this context, makes it clear that for determining the taxability or admissibility, the taxing principle will have to be followed and if there is no such taxing principle, the accounting principle will guide the taxation or allowability as well. The assessee's counsel submitted, that the debit of expenditure to the P&L a/c is based on the SEBI regulations, the premier regulatory body for securities in this country. He summarised that since, there exists no specific taxing principle in relation to the allowability or otherwise of the ESOP expenditure, the same will be an allowable business deduction, based on the accounting principle in this regard. Without prejudice to the above, it is submitted by the assessee's counsel that the assessee had the option of paying monies to its employees as compensation for services rendered which could have been used by the employees for acquiring the shares in the assessee's company in which case the moneys paid would have been allowed as a business expenditure. He went on to submit that the mere fact that a different route was chosen whereby the shares were issued directly to compensate the employees for services rendered will not make an otherwise allowable expenditure one in the capital field or one that is notional and fictitious.
37. The learned Departmental Representative submitted that the CIT has given a detailed reasoning for disallowing these amounts in his order as the expenditure is contingent and also notional in nature. He further submitted that the SEBI guidelines nowhere stated that the employee compensation expense is to be taken to the P&L a/c. He further stated these amounts are to be written off against the share premium account and therefore, the claim of notional expenditure under Section 37(1) is correctly disallowed by the CIT.
38. In reply, the learned counsel for the assessee submitted that the accounting mandatorily required to be passed by the SEBI had been reproduced by the CIT in his order that is under appeal. This entry required to be passed by SEBI is as under :
Dr. Cash a/c (amount received from employee) Dr. Employee Compensation Expenses a/c (amount of discount to six month average market price) Cr. Paid up Equity Capital (face value of shares) Cr. Share Premium (Six month average MV - face value)
39. The learned counsel for the assessee pointed out it is not correct to say that the employee compensation expense is to be written off to share premium account. The learned counsel for the assessee drew our attention to Section 78 of the Companies Act, which restricts a company from making such write offs.
40. ESOP was the order in those times. That was the medium through which the talent was attracted and castled. In a highly competitive field of cut-throat competition, the only way in which a company engaged in software development could attract and confidently retain talent to itself without being poached by others was ESOP. It was a known method by which a company offered stocks to its employees, which the employee could encash at any time. It was a benefit conferred on the employee and a benefit, which could not be taken back by the company. So far as the company is concerned, once the option is given and exercised by the employee, the liability in this behalf is ascertained. This fact is recognized even by SEBI and the entire ESOP scheme are governed by the guidelines issued by the SEBI. It is not the case of contingent liability depending upon various factors on which the assessee had no control. As clearly brought out in the submissions made, the expenditure in this behalf was an ascertained liability and hence file argument that it was contingent upon happening of certain events has no force. There can be no denial of the fact that in respect of ESOP, SEBI had issued guidelines and assessee-company had followed these guidelines to the core and the claim of expenditure was in accordance with the guidelines of SEBI. We, therefore, have no hesitation in holding that the grant of the expenditure under ESOP was not an error requiring interference under Section 263. As the expenditure claimed was as per SEBI guidelines, the order of assessment granting the said claim was, in our opinion, not erroneous and also it was not prejudicial in the interest of Revenue and, therefore, the direction of the CIT to disallow the amount of Rs. 66.82 lakhs is unjustified.
41. The fifth issue relates to the claim for depreciation in respect of IPRs. The learned counsel for the appellant submitted that the assessee acquired IPR, which is indisputable. The specific details of the IPR are as follows :
Description of IPR Value in US$ (million)
Beacon service line 8.763
Enterprise service line 3.651
CD It service line 1.460
E-Solution service line 14.790
SCM service line 7.536
CRM ERP service line 9.403
ASP service line 5.778
51.381
Equivalent to Rs. 238,32,06,340
Clear Stream UK Funds Mgmt IPR Rs. 5,48,28,900
Cyber Tunnels (Telecom billing solution software) Rs. 1,64,16,667
Total Rs. 2,45,44,51,907
42. The learned counsel for the assessee submitted that the IPRs valued at Rs. 2,38,32,06,340 were transferred from AOC LLC, a limited partnership, in the US, after it had become a branch of the appellant. The procedure for acquisition, he explained, was as follows :
08/09/2000 6 per cent of partnership interest in AOC was acquired
for $4 million for cash.
11/12/2000 24 per cent of partnership interest was acquired for
$ 16 million--For cash.
69.9 per cent of partnership interest was acquired for
$ 43.65 million against shares.
09/03/2001 The remaining 0.1 per cent of partnership was acquired
for cash.
43. The learned counsel for the assessee submitted that the investments in AOC were made with the sole purpose of acquiring the know-how and it was the ultimate goal and destination of the assessee. He further submitted that with the ultimate object of acquiring the know-how, a gradual acquisition of interest took place over a period of time. The learned counsel for the appellant submitted that since the appellant had acquired 100 per cent of the partnership interest on 9th March, 2001, AOC LLC became a branch of the appellant company. On 29th March, 2001, the branch transferred the IPRs worth Rs. 2,38,32,06,340 to the assessee in terms of the specific approval of the Reserve Bank of India, a copy of which is enclosed as p. 195 of the paper book.
44. He further submitted that tax returns have been filed in these respective statutes by M/s Ernst & Young, a leading firm of accountants, as required by the Internal Revenue Laws of the US. These returns, he submitted, copies of which were enclosed as pp. 110-163 of the paper book, have been filed by adopting the current statutes of the entities, supported by the legal opinion of M/s Grant Thornton, another leading firm of accountants. He submitted that there was a survey under Section 133A on 30th Dec., 2003 within 8 days from the issue of the show-cause notice under Section 263 and before the date fixed for the first hearing on 5th Jan., 2004 and all documents and records relating to the issues raised in the show-cause notice were impounded. He drew our attention to the operating agreement, which was impounded by the Department on 30th Dec., 2003. He also pointed put that this agreement clearly refers to the capital account and capital contributions as also to the allocation and distribution of gains and losses, which also clearly shows that before the date on which the appellant-company became a 100 per cent owner of AOC, AOC was a partnership firm. Hence, he submitted that the acquisition of the IPR and the claim of depreciation thereon are valid.
45. He further submitted that the CIT has erroneously set aside the matter relating to the claim for depreciation on IPR without appreciating that the IPR is owned and used by the appellant, therefore, entitling them to the claim therefor.
46. He also submitted that the CIT failed to appreciate that the transactions were not premeditated but were only transactions done in the best interest of the business of the assessee. He further submitted that the CIT failed to appreciate that the materials impounded under Section 133A do not constitute part of the records for the purpose of exercise of powers under Section 263. He submitted that the CIT ought not to have directed the AO to study the material impounded in survey when they do not even form a part of the record for the purpose of Section 263. He also submitted that the CIT erroneously concluded that the transactions, involved were book entries. He further submitted that the CIT failed to appreciate that the assessee had acquired IPRs by the issue of its own shares and that it was not within the powers of the CIT to conclude that the price paid was very high particularly even without knowing the nature of the IPR. He also submitted that the CIT failed to appreciate that the value of the IPR was determined by independent consultants and was not made without basis. He also submitted that the CIT failed to appreciate that the entire transaction and issue of shares was approved by the RBI, which is the apex authority for foreign exchange transactions in the country.
47. The learned counsel for the assessee also submitted that the CIT need not have rushed to pass his orders when the same was not getting barred by time and when there was further time available to him upto 31st March, 2006. The learned counsel for the assessee submitted that the CIT erred in setting aside the issue to the AO on the basis that it needs an indepth study and it was difficult to understand the accounting ingenuities. He further submitted that the CIT ought to have realised that if such senior authority could not understand the so-called ingenuities, it is unlikely that a lower authority would understand it as well. Considering the submissions made, he urged that the directions of the CIT to set aside the claim of depreciation on the IPRs for fresh consideration as erroneous and not valid
48. The learned Departmental Representative submitted that it is an admitted fact that the assessee has not furnished any details either of acquisition of IPR or any payment details with reference to this issue. He further submitted that the facts have come to the knowledge only during the enquiry by the CIT and, therefore, the directions of CIT to the AO to re-examine the issue is correct. He stated that it was for this limited purpose the issue was set aside and restored back to the AO. He further drew our attention to ground 41 where assessee had admitted that he did not have complete details so as to furnish to the CIT during the enquiry and as there was no other option, the matter was restored to the AO for fresh consideration. He further submitted that ground 42-45 are to be rejected as restoring to the AO is an accepted principle and stated that unless the facts are examined at the AO's, level the decision cannot be taken by the higher authority and, therefore, the power of set aside are not given not only to CIT but also to higher judicial authorities like ITAT, etc. He also submitted that the argument of the assessee that the higher authority should have taken a decision without restoring the matter to be examined afresh is absurd, when the complete details were not even available with the assessee. He thus submitted that in the light of appellant's own submission complete details were not available and the issue requires examination and the CIT is correct in restoring the issue to the AO.
49. The learned counsel for the assessee submitted that all the available details were submitted to the CIT and the only details that were not submitted were details which were not in the possession of the assessee and which related to the documents of the partnership firm AOC LLC before assessee became a partner and which has no relevance to the issue before the CIT. The learned counsel for the assessee further submitted that the Supreme Court in recent decision in the case of Union of India and Anr. v. Azadi Bachao Andolan and Anr. (2003) 263 ITR 706 (SC) has held that, where a transaction has been acted upon and results in a reduction of tax liability, the said transaction cannot be rejected by tax authorities.
50. At the outset, we notice that in the proposal dt. 22nd Dec., 2003, the CIT has taken the view that the AO had not examined the manner in which the US entity AOC became 100 per cent owned property of the appellant and that the AO had not gone into the question whether these transactions resulted in capital gains or a revenue receipt and that the failure to apply his mind on an important issue resulted in the said order being erroneous and prejudicial to the interest of Revenue. We also notice that after several rounds of hearing, the CIT concludes at p. 12 of his order that the company AOC had been acquired through a series of premeditated transaction preceding the ultimate acquisition of the firm involving complex and creative accounting requiring considerable expertise to understand the accounting ingenuities, that all facts and legal aspects have to be properly studied before coming to any judicious conclusion as to what these IPRs are, what is there nature, whether they have been valued correctly, whether they are books entries or not, that documents impounded at the time of survey needed to be investigated and, therefore, the issue has to be set aside to be examined from all angles. It is thus very clear that the CIT neither in the notice nor in the order passed under Section 263 has given any finding as to how this aspect in the assessment has rendered the order of assessment erroneous and prejudicial to the interest of Revenue. The learned Departmental Representative, apart from submitting that manner of acquisition of AOC required to be investigated and so invoking Section 263 was justified. But, as held by the Hon'ble Karnataka High Court in the case of L.F. D'Silva (supra), a mere fishing enquiry in the hope of digging out material which would throw a doubt on the manner of acquisition of IPR is not permissible in a 263 proceedings because for invoking his jurisdiction under Section 263, the CIT has to show that the order passed by the AO suffered from an error which caused prejudice to the Revenue. It is significant that even after conducting a survey and admittedly impounding documents and going into great detail, a senior officer of the rank of a CIT has not been able to state as to how the order impugned by him was erroneous and prejudicial to the interests of the Revenue enabling him to invoke his jurisdiction under Section 263. A proceeding under Section 263 has a very limited scope and can be invoked only under special circumstance and not for the purpose of launching a roving enquiry. Error in assessment resulting in prejudicial to Revenue has to be demonstrated while invoking Section 263, which is conspicuous by its absence in the order passed by the CIT under Section 263.
51. The admitted position is that the US entity AOC had became 100 per cent owned by the appellant and had became a branch of the appellant The balance sheet prepared clearly indicates that the cost of acquiring the said firm was nothing but investment in the IPRs owned by the said firm. The admitted position is mat in this process the assessee came to possess valuable IPRs belonging to AOC by making it as its branch. The IPRs have been valued by experts in the field and the approval of RBI had been obtained for the transaction. This is akin to the reduction of capital account in a branch due to transfer of branch asset to head office. Undoubtedly, the IPRs had become the property of the appellant and these IPRs had been used during the assessment year in appeal. In the face of these facts calling for attention, the accounting methods or the way in which the US entity was acquired has no relevance. It is not as if the IPRs are not the property of the appellant or that they were not put to use during the assessment year in question or that it is the colourable device. There is no such finding in the order under Section 263. In a very recent decision the apex Court in the case of Azadi Bachao Andolan (supra) has held that once a transaction has been put through and acted upon as a commercial proposition, the question whether such transactions has resulted in reduction in tax is not relevant. In our view the undoubted factual position being that the IPRs were acquired during the year and put to use, leaves no doubt in our mind that the appellant is entitled to claim depreciation on these IPRs and so invoking Section 263 merely for the purpose of ordering a fishing enquiry on mere surmise and suspicion is not justified.
52. The assessee's counsel has also raised various grounds regarding the validity of the invocation of Section 263 in the grounds of appeal. One issue that needs to be considered is whether the CIT in exercise of his powers under Section 263 can direct both an enhancement and a set aside through the same order. This issue has been raised on the basis of the plain reading of the provisions of Section 263. Section 263 reads as follows :
"The CIT may call for and examine the record of any proceeding under this act, and if he considers that any order passed therein by the AO is erroneous in so far as it is prejudicial to the interest of the Revenue, he may, after giving the assessee an opportunity of being heard and after making or causing to be made such enquiry as he deems necessary, pass such orders thereon as the circumstances of the case justify, including an order enhancing or modifying the assessment, or cancelling the assessment and directing a fresh assessment". Learned counsel for the assessee pointed out that the CIT can "pass such orders thereon as the circumstances of the case justify, including an order enhancing or modifying the assessment, or cancelling the assessment and directing a fresh assessment". The learned counsel for the appellant points out that there is comma after the words 'enhancing or modifying the assessment' and also the use of the word 'or' which is a disjunction thereafter, which means that it would either be possible to enhance or modify the assessment or cancel the assessment and direct a fresh assessment. He submits that it would not be possible to do both these acts under Section 263. He also submits that the power of the CIT to pass such order as the circumstances of the case justify cannot be taken to mean that both these acts can be done through one order passed under Section 263 for such an interpretation would render the latter part of the sub-section otiose.
53. The learned Departmental Representative submitted that the validity of the invocation of the powers under Section 263 was considered by the CIT and has given detailed reasoning in his order. He drew our attention to ground No. 10 on the claim of deduction under Section 35 and ground No. 25-27 which are alternate ground stating that if the original claim is held to be incorrect and based on the alternate ground, the issue can be decided in their favour. He further submitted that these grounds themselves indicated that the appellant has not made proper claim and the AO has not considered the issue in its proper perspective. He further submitted that the CIT has ample powers and, therefore, the objection of the assessee that the CIT should not utilize the information found on the basis of survey under Section 133A which was much after the examination of the record is not correct. He further submitted that the CIT has not utilized the information that was collected in the survey under Section 133A but the same was always furnished by the assessee before the CIT in the course of the proceedings. In support of his submissions, the learned Departmental Representative relied on the decisions of Supreme Court in the case of CIT v. Sri Manjunathesware Packing Products and Camphor Works (supra), K.A. Ramaswamy Chettiar v. CIT (1996) 220 ITR 657 (Mad). The learned Department Representative also submitted that the AO has not made proper inquiries before accepting the statements made by the appellant in the return of income and the CIT can regard such an order as erroneous and prejudicial to the interests of the Revenue and in support of which had relied on the following decisions :
(i) Malabar Industrial Co. Ltd v. CIT (2000) 243 ITR 83 (SC).
(ii) Gee Vee Enterprisees v. Addl. CIT (1975) 99 ITR 375 (Del).
(iii) Addl. CIT v. Mukur Corporation (1978) 111 ITR 312 (Guj)
(iv) Duggal & Co v. CIT (1996) 220 ITR 456 (Del)
(v) CIT v. South India Shipping Corporation (1998) 233 ITR 546 (Mad)
(vi) Moffusil Warehouse & Trading Co Ltd v. CIT (1999) 238 ITR 867 (Mad)
(vii) CIT v. Kohinoor Tobacco Products (P) Ltd. (1998) 234 ITR 557 (MP)
(viii) CIT v. George Williamson Assam Ltd (2001) 250 ITR 747 (Gau)
(ix) CIT v. Seshasayee Paper and Boards Ltd (2000) 242 ITR 490 (Mad)
(x) Express Newspapers (P) Ltd v. CIT (2002) 255 ITR 137 (Mad)
(xi) Indian Textiles v. CIT (1986) 157 ITR 112 (Mad) and
(xii) South India Steel Rolling Mills v. CIT (1997) 224 ITR 654 (SC)
54. We have, in the facts and circumstance of the case thus come to the finding that the CIT was not justified in invoking his jurisdiction under Section 263 for the reasons stated in the notice dt. 22nd Dec., 2003. As stated, the CIT has summed up his directions at p. 13 of his order in which on 4 issues he has directed the AO to disallow certain items of expenses/allowances and in respect of the depreciation on the IPRs he has set aside the assessment for fresh consideration. We consider the point whether in an order under Section 263 passed by him, the CIT can direct an enhancement on certain issues and set aside just an issue, to be important and so a brief reference needs to be made in respect of this submission. This is because in the order under Section 263, the CIT does not set aside the assessment but sets aside an issue. The moot point is how an issue can be set aside without setting aside the assessment. This is not a case where an assessment is set aside by the CIT with a direction to disallow certain items and examine certain items. On the other hand, the CIT directs the AO to disallow certain specific items resulting in enhancing the assessment. In respect of one issue he directs the AO to investigate after setting aside that issue. In our opinion, on the face of it, an issue can be set aside only when the assessment is itself set aside. It is an accepted rule of interpretation that punctuation should normally be disregarded in interpreting a statute, as in the olden days there was no punctuation. However, when a statute is carefully punctuated and there is doubt about its meaning, a weight should undoubtedly be given to punctuation as observed by the Supreme Court in Aswini Kumar v. Arabinda Bose AIR 1952 SC 369, Mohd. Shabbir v. State of Maharashtra AIR 1979 SC 564 and Dr. U.K. Salpekar v. Sunil Kumar Shamsunder Chaudari AIR 1988 SC 1841. The Supreme Court in these cases has interpreted the statutes with the aid of the comma that was used in the construction of the statutes and held that where the context so requires, punctuation, cannot be disregarded as an aid to interpretation. In the context of Section 263 in the present appeal, the clear use of the disjunction 'or' after the comma explicitly brings out the legislative intent that it is either one of the acts viz., enhancing or modifying the assessment, or cancelling the assessment and directing a fresh assessment which can be done. We are of the view that the use of the words 'pass such orders as the circumstances of the case justify' cannot give the power to do both the acts in one order not only for the reason that it will render the latter part of the section nugatory but also because once an assessment is set aside, such assessment is a nullity in law until a fresh assessment is made. In such a case it is not possible to direct an enhancement on an assessment, which is already cancelled. We, therefore, hold that the CIT in exercise of the powers under Section 263 can either enhance/modify or cancel and direct a fresh assessment. An offshoot of this conclusion will be whether in the instant case, where there is both an enhancement and a set aside of the assessment, the entire order of the CIT stands vitiated or whether only a part of such order will stand vitiated. We hold that the entire order will stand vitiated for it will not be possible to hold that only a part of the order will be vitiated; if we were to hold so it will not be possible for us to bifurcate and conclude as to whether the enhancement/modification is valid or the set aside is valid. The only possible conclusion in these circumstances is to hold that the entire order would be invalid. There is no provision for setting aside an issue without setting aside the assessment. As we see it, an order passed under Section 143(3) which was otherwise final is sought to be modified by the CIT through the medium of Section 263. Once the said order is disturbed, either it is modified as desired by the CIT or set aside to be redone according to law and on the basis of directions contained in the order under Section 263. Section 263 itself, contains enough clues to this effect. In our considered view, the order as passed under Section 263 is unworkable, because once an assessment is set aside it has to be redone according to law, if it is not set aside, the assessment has to be modified as directed, in which event the CIT cannot set aside an issue for reconsideration or investigation.
55. In any case, since we have, on the merits of the directions made by the CIT, held that in each of the directions there was either no error or prejudice or both, we hold that the CIT was not justified in invoking his jurisdiction under Section 263, a detailed examination of this aspect of his order is purely academic.
56. In the result the assessee's appeal is allowed.