2009 (10) TMI 648 - AT - Income Tax

Disallowance of advertisements and sales promotion expenditure - Nature of expenditure - Capital or Revenue - assessee is in the business of providing cellular mobile services under its own self-generated brand Spice since 1997 - The AO allowed 90 per cent of the expenses as revenue expenditure and allocated 10 per cent towards capital by observing that 10 per cent of expenses have been incurred towards brand building - CIT(A) deleted the addition. HELD THAT - AO has not been able to justify as to how the 10 per cent of the total advertisement and sales promotion expenses can be allocated towards capital expenditure when the assessee has not acquired any brand from any outside party. The expenditure on advertisement and sales promotion constituted expenditure incurred on press advertisement hoardings, neon signs brochures etc The press advertisements could not be considered as capital asset acquired by the assessee. Similarly putting hoardings and neon signs could not also be considered on capital field. These expenditures do not lead to create any capital asset to the assessee. Even there is no benefit of enduring nature so to treat the expenses as capital expenditure. Since by incurring expenditure on advertisement and sales promotion the assessee has not acquired any fixed capital asset but these expenditures were incurred for earning better profits and for facilitating assessee s operation of providing cellular mobile services there exist direct nexus between the advertisement and sales promotion expenses and the carrying out of the business activity of the assessee. We therefore do not find any justification in interfering with the order of the CIT(A) in deleting the disallowance of 10 per cent of expenses towards advertisements and sales promotion incurred by the assessee for smooth functioning and carrying on assessee s business effectively proficiently and profitability. The order of the CIT(A) is thus upheld on this issue. Software expenses - Nature of expenditure as Capital or Revenue - The expenditure incurred by the assessee on software development were allowed as deduction u/s 37 by the CIT(A) and consequently the depreciation allowed by the AO by treating the expenses to be of capital in nature was withdrawn by the CIT(A). HELD THAT - The software for which expenditure was incurred was Acrobat reading PDF files and M.S. Office and Windows 98 and 2000 and it is admitted position that these software need regular up-gradation. Further in the assessment year 2003-04 the assessee has paid rental charges towards rent for use of software Simgo Platform for the prepaid customers. These facts have not been disputed by the AO while making a reference to the assessee s reply dated 24-3-2006 wherein it was stated that the expenditure were related to the purchase/rental charges certain application software for use by the assessee at different location. In the light of the nature of the expenses incurred by the assessee we therefore do not find any reason to take any view other than the view taken by the CIT(A) in treating the software expenses as of revenue in nature. In the assessment years 2004-05 and 2005-06 the amount of expenses involved is very nominal as compared to the assessment year 2003-04 and the amount were spent towards application software and not for the acquisition of any asset of capital in nature or asset giving any enduring benefit to the assessee. Thus this ground raised by the revenue in all the years is rejected. Payment of management service charges - Nature of Expenditure - whether payments made for transfer/sharing of technical know-how and Intellectual Properly Rights resulted in acquisition of intangible assets and hence were capital expenditure? - HELD THAT - Law is well-settled that the question whether an expenditure is on account of revenue or capital is to be decided by looking at the facts and circumstance of the case. In order to arrive at just and proper conclusion one must look at the nature and character of the advantage in a commercial sense in the light of the surrounding circumstances. In the present case there exist no embargo on the assessee in carrying on business of providing telecommunication services even after expiry of agreement entered into with DCIL/Distacom and Modicorp. Thus the payment of lump sum Base fee specified in the agreement payable in instalments is to be allocated partly towards capital expenditure and partly towards revenue expenditure. The AO has treated whole of the payment to be of capital in nature as against which the CIT(A) has treated the whole of the payment as revenue expenditure. The present case is a case whether entire payment made by the assessee could not either be held to be of revenue expenditure or on the other hand as capital expenditure. The entire payment made by the assessee is to be considered as paid towards set-up of the business as well as for efficiently carrying on the business after the same was being set-up and thus the payment is to be allocated towards capital as well as revenue expenditure. We would like to say that the decision of Hon ble Bombay High Court in the case of CIT v. Kiloskar Tractors Ltd. 1998 (2) TMI 117 - BOMBAY HIGH COURT treating the whole of the payment as revenue in nature is of no help to the assessee as in that case the payment was made towards right to use know-how for efficiently running of business and better profitability and no part of the payment was at all related to the initial set-up of that assessee s business. The Hon ble Supreme Court in the case of Jonus Woodhead Sons Ltd. 1997 (2) TMI 4 - SUPREME COURT has treated 25 per cent of the total payment on capital side. The said criterion of allocating 25 per cent of payment towards capital has also been applied by the Hon ble Madras High Court in the case of CIT v. Southern Switchgear Ltd 1983 (3) TMI 18 - MADRAS HIGH COURT which had been affirmed by the Hon ble Supreme Court in Southern Switechgear Ltd. v. CIT 1997 (12) TMI 105 - SC ORDER Applying the same criterion We therefore hold that 25 per cent of the payment by way of instalments spread over a period of time and paid in the years under consideration shall be allocated towards capital expenditure and the balance 75 per cent of the payment is to be allowed as a revenue expenditure. Needless to say that the assessee shall be entitled to depreciation on the amount allocated towards capital field. The AO shall modify the assessment order accordingly. On the facts in the case of Kiloskar Tractors Ltd.is not squarely applicable to the assessee s case and it renders help to the assessee only with regard to the portion of the payment made by the assessee for efficient running and operating of the assessee s business of providing cellular telecommunication services and that is the reason that 75 per cent of the payment has been held by us to be revenue in character. In the result all these appeals filed by the revenue are partly allowed in the manner as indicated above.

Summary

Issues Involved:
1. Treatment of Advertisement and Sales Promotion Expenditure
2. Treatment of Software Expenses
3. Treatment of Management Service Charges

Comprehensive, Issue-Wise Detailed Analysis:

1. Treatment of Advertisement and Sales Promotion Expenditure:
The primary issue was whether the advertisement and sales promotion expenses incurred by the assessee should be treated as revenue expenditure or capital expenditure. The Assessing Officer disallowed 10% of these expenses, arguing they were for brand building, thus creating an intangible asset. The CIT(A) reversed this decision, allowing the full amount as revenue expenditure, citing that these expenses did not create any capital asset or enduring benefit. The Appellate Tribunal upheld the CIT(A)'s decision, emphasizing that the expenses were for carrying on the business and did not result in acquiring any fixed capital asset or enduring benefit.

2. Treatment of Software Expenses:
The second issue concerned whether software expenses should be treated as revenue or capital expenditure. The Assessing Officer treated these expenses as capital in nature, allowing depreciation at 60%. The CIT(A) reversed this, treating the expenses as revenue expenditure, referencing the Delhi High Court's decision in CIT v. GE Capital Services Ltd. The Appellate Tribunal upheld the CIT(A)'s decision, noting that the software expenses were for application software and rental charges, which did not create any capital asset or provide an enduring benefit.

3. Treatment of Management Service Charges:
The third issue was whether the management service charges paid to Distacom and Modicorp should be treated as revenue or capital expenditure. The Assessing Officer considered these payments for the transfer of technical know-how and Intellectual Property Rights as capital expenditure, allowing depreciation at 25%. The CIT(A) reversed this, treating the payments as revenue expenditure, arguing that the services provided did not result in the creation of any intangible asset. The Appellate Tribunal partially agreed with both parties, holding that 25% of the payment should be treated as capital expenditure and 75% as revenue expenditure, referencing the Supreme Court's decision in Jonus Woodhead & Sons Ltd. v. CIT.

Conclusion:
The Appellate Tribunal upheld the CIT(A)'s decisions on advertisement and sales promotion expenses and software expenses, treating them as revenue expenditures. However, it modified the CIT(A)'s decision on management service charges, allocating 25% as capital expenditure and 75% as revenue expenditure. The Tribunal's decision reflects a balanced approach, considering both the nature of the expenses and relevant judicial precedents.