TaxTMI 
TaxTMI 
2013 (12) TMI 11
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....ication and licensing is an expenditure of a capital nature and as such is not an allowable deduction?" 2. For the purpose of clarity and to notice facts, ITA No. 797/2006, which relates to Assessment Year 1995-96, was treated as a lead case but as noticed below, wherever necessary and required we have referred to facts of assessment year 1994-95. 3. The appellant-assessee incorporated on 18th January, 1993, is a subsidiary of Oracle Corporation, USA. The appellant entered into licence agreement dated 28th May, 1993 with its parent/holding company under which the appellant was granted non-exclusive non-assignable right and authority to duplicate on appropriate carrier media software products mentioned in schedule "A" thereto or other products which may be added to the said list, and sub-licence the same to third parties in India. The appellant could enter into enforceable sub-licensing and services agreement in the prescribed form with third parties users. The holding company retained ownership of the copyright in the software and all associated and applicable intellectual property rights in the products mentioned in schedule "A" or to be added to the said schedule. It was sp....
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....oducing details of import in each assessment year but for the purpose of clarity, we are reproducing details of the said import in the Assessment Year 1994-95:- "Invoice No. Invoice Date Invoice Value (in IEP) Bill of Entry No. Bill of Entry Date No. of Copies 13896 20/10/93 158.88 264270 18/11/93 2 13962 26/10/93 599.60 264271 18/11/93 25 13910 21/10/93 807.10 264860 19/11/93 24 13307 16/9/93 411.00 264800 11-10-93 20 14619 12-1-93 113.26 274179 27/12/93 2 14942 17/12/93 716.83 274191 27/12/93 10 14698 12-6-93 168.84 274540 28/12/93 15 14745 12-8-93 150.47 275522 31/12/93 3 15045 23/12/93 194.93 275525 31/12/93 4 15044 23/12/93 209.25 275518 31/12/93 2 14821 13/12/93 143.84 275733 31/12/93 4 15287 14/1/94 7381.85 204690 24/1/94 351 15165 1-7-94 2028.38 204703 24/1/94 150 15228 1-11-94 274.59 204705 24/1/94 5 15156 1-7-94 6702.20 205951 29/1/94 700 15191 1-10-94 808.91 204701 24/1/94 ....
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....plicated from each original master copy sold or sub-licensed to third parties. Large number of master copies were imported every 2-3 weeks. As far as royalty payment was concerned, there was no dispute that it was revenue in nature. Similarly, the cost of procuring the master copy was of recurring nature, which was established and proved beyond doubt from shipment of numerous master copies and the fact that there was no single lumpsum payment. He observed that firstly, master copy updated software had to be procured, which was a recurring expenditure. Secondly, there was no enduring benefit as there were corrections; strides and frequent upgradation of software. Thirdly, the expenditure incurred in question was for conduct of business as an integral part of profit earning process and not for acquisition of assets or right of permanent character. Fourthly, the expenditure in question was in nature of procurement of raw material for the purpose of business and not to procure capital and, therefore, was a part of working capital of the company. 9. After noticing these facts, the Commissioner (Appeals) deemed it appropriate to ask for remand report. The Assessing Officer submitted a....
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....r dated 28th October, 2005, which was a common order, relating to Assessment Years 1994-95, 1995-96, 1996-97 reversed the order of the Commissioner (Appeals) and restored the view taken by the Assessing Officer. We would like to reproduce two paragraphs from the said impugned order as the same reflect the core of the findings recorded by the tribunal:- "3.4 We have perused the records and considered the rival contentions carefully. The assessee is a 100% subsidiary of Oracle Corporation, USA and is authorised as per the agreement signed to sub-lease the software products developed by the foreign company. For this purpose, the assessee has imported the Master Copy of the softwares as goods under the open general licence scheme of the Export Import Trade Policy. The assesse is making duplicate copies from the Master Copy and selling it to local clients. For importing the Master copy it has paid a lumpsum consideration and is also paying royalty @ 30% of the listed price of duplicate softwares sold locally. The Assessing Officer treated the lumpsum consideration paid for import of the Master Copy as capital expenditure holding that it was an asset of enduring benefits to the assess....
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.... 12. Before we dwell upon the questions raised, we would like to point out certain undisputed facts. The Assessing Officer had also denied benefit to the appellant under Section 80-IA on the ground that duplication of software did not amount to manufacture. Section 40(a)(i) was also invoked in respect of royalty payments. The tribunal decided the two issues against the revenue. Revenue preferred appeals before the High Court, but the appeals were dismissed on the two issues vide judgment CIT v. Oracle Software India Ltd. (2007) 293 ITR 353 (Delhi) observing that no substantial question of law arose for consideration and Section 40(a)(i) was not applicable. 13. Not satisfied, Revenue preferred further appeals on issue of deduction under Section 80-IA but did not succeed vide detailed decision in CIT v. Oracle Software India Ltd. reported as (2010) 320 ITR 546 (SC). The Supreme Court in the said decision has noted that the appellant had imported master media of software from Oracle Corporation, USA for duplicating on blank disc, which were packed and sold in the market along with the relevant brochure. The appellant had paid lumpsum amount to Oracle software for import of master ....
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....cy which Oracle has adopted recognizes the accelerated obsolence and the non-enduring use of master copy/documentation." (Emphasis supplied) 15. After recording/ reproducing the said reply, the Assessing Officer in the assessment order has not disputed or factually controverted the contents or the assertion made by the appellant. The Assessing Officer accepted and did not contradict the said factual assertion as incorrect, but addition was made by the Assessing Officer on the grounds, namely, (i) in spite of the factual position the expenditure was capital (ii) Section 35A of the Act was applicable and, therefore, the cost paid on master copy was to be amortised/allowed in 14 instalments for the Assessment Year 1994-95. Even if the expenditure was revenue in nature, the same has to be disallowed. 16. We have quoted the finding recorded by the tribunal in paragraphs 3.4 and 3.5 of the order for the Assessment Years 1994-95, 1995-96 and 1996-97. It has been observed that lumpsum payment was made for the master copy and as the appellant also had right of duplication it lead to creation or acquisition of an asset of enduring benefit. It became part of the profit making apparat....
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....nt who was required to repeatedly pay for the master copy media in view of frequent newer or updated versions of the application software from time to time. Once newer or better version of application softwares was available, the earlier application softwares were not saleable and did not have any market value for the seller i.e. the appellant. The earlier versions became obsolete and had limited shelf life, as long as the newer version was not available. No one would like to pay or obtain an older version of the same software, when the new or updated version was available. 19. Courts have grappled with the problem of classification of income and expenditure as capital and revenue. The distinction between capital and revenue nature though basic and fundamental to preparation of accounts and income tax, appears to be a never ending concoct and resultant cause of litigation. Even the principles applicable, oscillate and the difficulty also arises on selecting the right principle applicable to facts of the given case. There is divergence and conflict as to the principle which should be applied. Thus, it is not a case of application of principles to facts alone, which is a cause of ....
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....he aforesaid article refers to the notion of capital maintenance or net accretion. The said note also refers to the report on Wheat Committee, 1972 (a special committee of the American Institute of Certified Public Accounts charged with studying how accounting principles should be determined) wherein it has been observed that financial accounting standards and reporting are not grounded in natural laws as are the physical sciences, but must rest on a set of conventions or standards designed to achieve what are perceived to be the desired objectives of financial accounting and reporting.] 21. While interpreting the meaning of "accounting income", the Financial Accounting Standards Board, United States of America formally embodied capital maintenance, or net accretion, notion in its statements of Financial Accounting Concepts (Financial Accounting Standards Board). It has been elucidated as:- "An enterprise receives a return only after its capital has been maintained or recovered. The concept of capital maintenance, therefore, is critical in distinguishing an enterprise"s return on investment from return of its investment. Both investors and the enterprises in which they acquir....
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....counting Standards by Institute of Chartered Accountants of India defines "income" as encompassing both revenue and gains including unrealized gains. The term "expenses" encompasses the expenditures that arise in the ordinary course of an enterprise as well as losses. Expenses will include depreciation as it is in the form of outflow caused due to depletion of assets. The term "depreciation" and its significance in accounting as elucidated in the Compendium of Accounting Standards are set out below. Adjustment towards capital accounts is when the expenditure includes a future economic benefit associated with the article/ goods which will flow to or from the enterprise. This may be, inspite of the degree of uncertainty regarding future economic benefits and this degree of uncertainty is ascertained on the basis of evidence available when the financial statements are prepared. But, an asset is not recognised in the balance sheet, when expenditure has been incurred in respect of an item, on which it is improbable that economic benefit will flow beyond the current accounting period. Such transactions merit recognition as an expense in the statement of profit and loss. Thus the term "ex....
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....rty of any kind, but does not include stock in trade, consumable stores or raw materials held for the purposes of his business or profession. Personal effects and agricultural land etc. are also excluded. The term/expression "expenditure" finds elucidation in Section 37 of the Act and it excludes any expenditure of capital nature or personal expenses. There is substantial authority for the proposition that determination of whether an expenditure is capital or revenue in nature must and should be decided keeping in view the nature of the business, commercial reasons for incurring the said expenses in business and the object for which the expense is incurred. Emphasis being placed on business and commercial considerations, rather than pure legal and technical aspects. Thus, primacy is given to practical and business point of view and not on juristic classification. The expression "capital or revenue expenditure" must be construed in business sense and by applying sound accountancy principles unless there is statutory mandate to the contrary. (see Section 145 of the Act and observations of the Delhi High Court in CIT v. Virtual Soft Systems Ltd. (2012) 341 ITR 593). 27. This afores....
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....siness more efficiently, it would be expenditure on revenue account even though the advantage may be of indefinite future. Thus, in Alembic Chemical Works Company Limited versus Commissioner of Income Tax, (1989) 177 ITR 377 (SC) and Jonas Woodhead and Sons (India) Limited versus CIT, (1997) 224 ITR 342 (SC), the Supreme Court observed that though the technology had been received but it related to a product already under production and to ensure betterment or of the improvement, it was part and parcel of the existing business and, therefore, the benefits were composite partly revenue and partly capital. However, in the present case we need not apply the caveat. The caveats and caution elucidated would apply as exceptions of the enduring benefit tests. When the enduring benefit test itself justifies the conclusion that the expense is revenue, it would not be proper and appropriate to apply the caveats or exceptions. These secondary tests apply when in spite of the primary test of enduring benefit being in negative, i.e. against the assessee a different conclusion against the revenue is justified. Thus the dictum and in the words of Viscount Cave LC in Atherton v. British Insulated &....
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....court deemed it appropriate to apply a more liberal test on the consideration that in this age of rapidly advancing technology the contention of the Revenue that the expenditure brought into existing capital asset, should be rejected. The need of the age, the environment and the business consideration mattered and were given due recognition and acceptance. The said view has been followed by the Courts in India. As noticed above, in the present case the appellant is duplicating software and sells the same to generate income. It requires master copies, which have to be updated and upgraded to be able to sell the said software. In case the appellant had imported the said software and sold the same, it would be stock in trade and deductible. However, when the master copies were used for duplication and the software replicated and transferred on the media as a result of the said activities was then sold, the master copy itself might not be stock in trade as such in strict sense, but it did not have a long life and its value and life span was small since it perished and diminished when the upgraded version or a better software in form of the next master copy was imported, for the purpose....