2025 (6) TMI 151 - AT - Income Tax

Technical know-how fees allowed as business expense; power costs and section 14A disallowance deleted

ITAT Delhi upheld CIT(A)'s decision allowing technical know-how fees as legitimate business expense, noting both parties fell within same tax bracket with ... Disallowance on account of technical knowhow fee paid by invoking section 37(1) - HELD THAT:- The technical know-how fees paid or payable by the assessee company to JDIL is a legitimate business expense for the assessee, while it is recognized as income for JDIL. The ld. CIT(A), in its order righlty observed that both the assessee and JDIL fall within the same tax bracket under the provisions of the Income Act, therefore, no additional benefit has accrued to either the assessee company or JDIL from the transaction. Even otherwise, the genuineness of the expense on technical services obtained from JDIL had been accepted by the Assessing Officer during the assessment proceedings for AY 2013-14, AY 2014-15, and AY 2015-16. No additions with respect to the technical fees were made to the income of the assessee for these years, as is evident from the assessment orders placed in the paper book at pages 91-98, 99-109, and 110-117 respectively. AO disallowed the technical know-how fees without pointing out any specific discrepancies or bringing forward any new material facts to warrant such a disallowance. This clearly shows that the disallowance was made merely on account of a change of opinion, which is contrary to the Doctrine of Principle of Consistency as upheld in various judicial pronouncements. Thus the grounds raised this issue need not interference. Disallowances made on account of power and fuel expenses claimed by the assessee - HELD THAT:- There was no substance in the conclusion of the AO that the assessee has failed to establish that captive power plant has actually generated and supplied powers for the manufacturing activities of the assessee and the CIT(A) has rightly deleted the addition. Accordingly, the issue with corresponding grounds, in both the years, deserve to be allowed. Disallowance u/s 14A - AO made a disallowance by taking 1% of the total average investment - HELD THAT:- The total investment in the agricultural land is of Rs. 29,42,500/-. CIT(A) has taken this investment as the base and 1% of the same has been disallowed which comes to Rs. 2,94,250/-. The law in this regard is no more res integra and ACB India Ltd. [2015 (4) TMI 224 - DELHI HIGH COURT] and Cargo Motors Pvt. Ltd. [2022 (10) TMI 571 - DELHI HIGH COURT] has held that it is not all investment, but only that which is expressly spelt out in Rule 8D(2)(iii) r.w.s. 14A and Rule 8D(i) which is to be reckoned for the purpose of calculation of average of half percent. CIT(A) has merely directed the AO to apply the correct ratio of the jurisdictional High Court decisions and only investment yielding exempt income have to be considered for the purpose of Rule 8D. We find no substance in the ground of challenge of the Revenue. The same is accordingly decided against the Revenue. 1. ISSUES PRESENTED and CONSIDEREDThe core legal questions considered by the Tribunal in these appeals are:Whether the technical knowhow fee paid by the assessee to M/s JDIL under a technical collaboration agreement qualifies as a deductible business expense under Section 37(1) of the Income Tax Act, 1961, particularly in the context of the assessee's claim that such fees were paid for the provision of rig managers and operational assistance necessary for bidding and servicing contracts with ONGC.Whether the power and fuel expenses incurred by the assessee through its captive power plant are allowable as business expenses, given that the electricity generated was used internally in manufacturing operations and no revenue was generated from the power division segment.The validity and extent of disallowance under Section 14A of the Act relating to expenses incurred in relation to exempt income, specifically whether the disallowance should be computed on the entire investment or only on investments yielding exempt income, in light of applicable judicial precedents and Rule 8D of the Income Tax Rules.2. ISSUE-WISE DETAILED ANALYSISTechnical Knowhow Fee Paid to M/s JDIL (AY 2016-17)Relevant legal framework and precedents: Section 37(1) of the Income Tax Act allows deduction of any expenditure (not being capital expenditure or personal expenses) incurred wholly and exclusively for the purpose of business. The principle of consistency and judicial precedents prohibit disallowance based on mere change of opinion. The doctrine of double taxation was also considered in relation to the same income being taxed in the hands of both payor and payee.Court's interpretation and reasoning: The Tribunal examined the factual matrix where the assessee lacked requisite experience for bidding on jack-up rig drilling contracts with ONGC and hence entered into a technical collaboration agreement with JDIL, which had the necessary expertise. The fees paid to JDIL were for providing rig managers and operational assistance, not equipment. The AO's disallowance was based on the absence of proof of actual services received from JDIL personnel.The Tribunal found that the CIT(A) had correctly analyzed the issue by considering the acceptance of invoices by ONGC, submission of Form 16A evidencing TDS deduction on payments to JDIL, and the profitability of the Rig Division which demonstrated the utility of the technical services. The Tribunal noted that the AO failed to point to any new material or specific discrepancies justifying disallowance, and that prior years' assessments had accepted the genuineness of such expenses without objection.Key evidence and findings: The invoices issued by the assessee to ONGC, the Form 16A TDS certificates issued to JDIL, and the profit reported by the Rig Division were critical in establishing that the technical services were rendered and utilized. The absence of equipment supply and the nature of services were clarified through agreements and submissions.Application of law to facts: Applying Section 37(1), the Tribunal held that the expenditure was incurred wholly and exclusively for business purposes. The principle of consistency was invoked to reject the AO's change of opinion. The Tribunal also noted that taxing the same amount as income for JDIL and disallowing it as expense for the assessee would amount to double taxation, which is impermissible.Treatment of competing arguments: The AO's argument rested on lack of proof of actual services; however, the Tribunal found that documentary evidence and prior acceptance in earlier years negated this contention. The Revenue's appeal was thus dismissed.Conclusion: The technical knowhow fee paid to JDIL is a legitimate business expense deductible under Section 37(1) and the disallowance by the AO was rightly deleted by the CIT(A) and upheld by the Tribunal.Power and Fuel Expenses Incurred Through Captive Power Plant (AY 2016-17 and AY 2018-19)Relevant legal framework and precedents: Expenses incurred for captive power generation used in manufacturing processes are allowable as business expenses under Section 37(1), provided the genuineness and necessity are established. The segment reporting requirements under accounting standards do not affect taxability or deductibility.Court's interpretation and reasoning: The AO doubted the genuineness of power and fuel expenses based on segmental losses and requested segregated financials to verify supply of power. The assessee submitted that the power division segment was not a revenue-generating segment but an internal cost center for captive power generation using biomass fuel (rice husk), which is environmentally friendly.The CIT(A) appreciated that no revenue was generated from the power segment and that the electricity generated was consumed internally for manufacturing. The Tribunal noted that prior assessments for AYs 2013-14 to 2015-16 had accepted these expenses without objection. The AO's disallowance was thus based on suspicion without new material.Key evidence and findings: The captive power plant's establishment in 2011, use of biomass fuel, segmental financials, and prior years' assessment orders were key evidences confirming the genuineness and necessity of the expenses.Application of law to facts: The Tribunal applied the principle that expenses incurred wholly and exclusively for business are deductible. The internal consumption of power generated by the captive plant qualifies as a business expense. The segment reporting requirement does not negate this.Treatment of competing arguments: The AO's suspicion was countered by documentary proof and prior acceptance. The Tribunal found no basis to disturb the CIT(A)'s deletion of the disallowance.Conclusion: The power and fuel expenses incurred through the captive power plant are legitimate business expenses and the disallowance is rightly deleted.Disallowance under Section 14A Relating to Expenses on Exempt Income (AY 2018-19)Relevant legal framework and precedents: Section 14A read with Rule 8D of the Income Tax Rules prescribes the methodology for disallowance of expenses incurred in relation to exempt income. Judicial precedents have clarified that only investments yielding exempt income are to be considered for calculating disallowance, not the entire investment.Court's interpretation and reasoning: The AO disallowed 1% of the total average investment without considering whether exempt income was earned. The CIT(A) restricted the disallowance to 1% of investments that actually earned exempt income during the year, consistent with the jurisdictional High Court decisions and binding precedents.Key evidence and findings: The assessee earned rent of Rs. 7 lakhs from agricultural land, which was exempt income. Expenses disallowed were proportionate to the investment in such land (Rs. 29,42,500/-). The CIT(A)'s adjustment was based on this factual matrix and legal clarity.Application of law to facts: The Tribunal found that the CIT(A) correctly applied the ratio laid down in judicial precedents and Rule 8D, limiting disallowance to investments yielding exempt income, thereby preventing arbitrary disallowance.Treatment of competing arguments: The Revenue's challenge to this approach was rejected as it was contrary to settled law.Conclusion: The disallowance under Section 14A must be computed only on investments yielding exempt income, and the CIT(A)'s order in this regard is upheld.3. SIGNIFICANT HOLDINGSThe Tribunal's crucial legal reasoning includes the following verbatim observations:'The technical know-how fees paid or payable by the assessee company to JDIL is a legitimate business expense for the assessee, while it is recognized as income for JDIL. The disallowance of the technical know-how fees has resulted in the same income being taxed twice, once as an expense in the hands of the assessee and again as income in the hands of M/s JDIL.''The disallowance made by the Assessing Officer was merely on account of a change of opinion, which is contrary to the Doctrine of Principle of Consistency as upheld in various judicial pronouncements.''The captive power plant was established in 2011 and before that the assessee procured electricity from UP Electricity Board. The AO has never doubted the genuineness of power and fuel expenses in prior years, thus no substance in the conclusion that captive power plant has not generated or supplied power for manufacturing activities.''It is not all investment, but only that which is expressly spelt out in Rule 8D(2)(iii) read with Section 14A and Rule 8D(i) which is to be reckoned for the purpose of calculation of average of half percent.'Core principles established include:Expenditure incurred wholly and exclusively for business purposes, supported by documentary evidence and prior acceptance, cannot be disallowed merely on change of opinion.Captive power generation expenses used internally in manufacturing are allowable business expenses, notwithstanding segmental reporting showing losses.Disallowance under Section 14A must be proportionate and limited to investments yielding exempt income, consistent with judicial precedents and Rule 8D.Final determinations on each issue are:The technical knowhow fee paid to JDIL is deductible under Section 37(1) and the disallowance is deleted.The power and fuel expenses incurred through the captive power plant are allowable business expenses and the disallowance is deleted.The disallowance under Section 14A is to be computed only on investments yielding exempt income, and the CIT(A)'s order restricting disallowance accordingly is upheld.