Post-set-up business expenditure and bandwidth payments were held deductible, with no royalty or technical services character.

Expenditure incurred after a business is set up, even before commercial commencement, is allowable as revenue expenditure where it is not capital in nature, and deferred revenue items such as salaries, staff welfare and related charges were therefore deductible. Professional charges claimed in the profit and loss account were also held to be revenue in character because the assessee had already capitalised or deferred the balance and the disputed amount related to business operations. Payments for IPLC, bandwidth and connectivity services to non-residents were neither royalty nor fees for technical services, as there was no use of equipment by the assessee, no human intervention in the service, and no making available of technical knowledge; accordingly, no tax deduction at source was required and the disallowance was deleted.

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Issues: (i) Whether deferred revenue expenditure incurred after the business was set up but before actual commercial commencement was allowable as revenue expenditure; (ii) whether professional charges booked in the profit and loss account were wrongly treated as capital expenditure; (iii) whether payments for IPLC, bandwidth and connectivity services made to non-resident entities were chargeable as royalty or fees for technical services and, for want of tax deduction at source, disallowable.

Issue (i): Whether deferred revenue expenditure incurred after the business was set up but before actual commercial commencement was allowable as revenue expenditure?

Analysis: The expenses comprised salaries, staff welfare, miscellaneous and professional charges. The business had already been set up in the preceding year, as shown by capitalisation of assets, training expenditure, agreements for connectivity and commencement-related preparations. Expenditure incurred after setting up of the business, even if before actual commercial operations, is allowable under the revenue provisions when it is not capital in nature.

Conclusion: The expenditure was allowable as revenue expenditure and the deletion of the disallowance was in favour of the assessee.

Issue (ii): Whether professional charges booked in the profit and loss account were wrongly treated as capital expenditure?

Analysis: The lower appellate authority examined the party-wise details and found that most of the expenditure had already been capitalised or deferred by the assessee itself, while only the balance amount was claimed in the profit and loss account. The amount claimed was incurred for the running and operation of the business and was not shown to be capital in character.

Conclusion: The disallowance of professional charges as capital expenditure was not justified and the relief was correctly granted in favour of the assessee.

Issue (iii): Whether payments for IPLC, bandwidth and connectivity services made to non-resident entities were chargeable as royalty or fees for technical services and, for want of tax deduction at source, disallowable?

Analysis: The services were confined to transmission and connectivity of call data through dedicated bandwidth and overseas network facilities. The non-resident parties retained control over the equipment and provided no use or right to use any equipment, process, or technical knowledge to the assessee. There was no business connection in India within the meaning of the territorial nexus rule, no royalty under the domestic provision or the treaty, and no fees for technical services because the services were automated and did not involve the requisite human element or make available technical knowledge, skill, know-how or process. Consequently, tax was not deductible at source and disallowance under the withholding provision could not stand.

Conclusion: The payments were neither royalty nor fees for technical services, and the disallowance for non-deduction of tax at source was deleted in favour of the assessee.

Final Conclusion: The appeals on quantum by the assessee succeeded, the Revenue's quantum appeals failed, and the penalty appeal failed as it became infructuous after deletion of the underlying additions.

Ratio Decidendi: Expenditure incurred after a business is set up is deductible as revenue expenditure if it is otherwise revenue in nature, and cross-border connectivity or bandwidth payments are not taxable as royalty or fees for technical services where the payer does not obtain use or control of equipment or process, no human intervention in the relevant service is shown, and no technical knowledge is made available.

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