2015 (12) TMI 1666 - AT - Income Tax

Deferred compensation expenses on account of ESOP - allowable business expenses - Held that - The deductibility of expenses on account of ESOP being discount under the ESOP has been decided in Biocon Limited v. DCIT 2014 (12) TMI 838 - ITAT BANGALORE held that discount under ESOP is in the nature of employees cost and is hence deductible during the vesting period w.r.t. the market price of share at the time of grant of options to the employees. The Hon ble Special Bench has held that the amount of discount claimed as deduction during the vesting period is required to be reversed in relation to the un-vesting/lapsing options at the appropriate time, however, an adjustment to the income is called for at the time of exercise of option by the amount of difference in the amount of discount calculated with reference to the market price at the time of grant of option and the market price at the time of exercise of option. No contrary decision is brought to our notice by the Revenue to controvert the decision of the Special Bench of Bangalore ITAT with respect to this issue. Thus deduction being deferred employee compensation expense (ESOP) debited under the head employee cost as an allowable business expenditure under the head profit and gains of business or profession incurred wholly and exclusively for the purposes of business of the assessee company. We further hold that the amount of discount claimed as deduction during the vesting period is required to be reversed in relation to the un-vesting/lapsing of options at the appropriate time. However, an adjustment to the income is called for at the time of exercise of option by the amount of difference in the amount of discount calculated with reference the market price at the time of grant of option and the market price at the time of exercise of option - Decided in favour of assessee Disallowance u/s 14A read with Rule 8D - Held that - Since the relevant A.Y. is 2008-09, the Hon ble Bombay High Court in Godrej & Boyce Mfg. Co. Ltd. (2010 (8) TMI 77 - BOMBAY HIGH COURT) has already held that the Rule 8D is applicable for A.Y. 2008-09 and hence in our considered view, the investment of ₹ 4,61,37,00,000/- made by the assessee company in its subsidiary namely M/s India Infoline Investment Services Ltd. of ₹ 4,61,37,00,000/- will be included in the average investment for the purpose of computation of disallowance u/s 14A r.w.r 8D(2)(iii) of the Income Tax Rules, 1962 and hence to that extent, the contention of the Revenue is accepted while the assessee company has demonstrated that the investments in the share capital of India Infoline Investment Services Limited on 4th February 2008 has been made out of proceeds of fresh issue of shares of the assessee company in January 2008, thus no disallowance under Rule 8D(2)(ii) of Income Tax Rules, 1962 read with Section 14A of the Act is justified.

Summary

Issues Involved:
1. Deferred compensation expenses on account of ESOP.
2. Exclusion of investment in subsidiary for disallowance computation under Section 14A read with Rule 8D.

Issue-wise Detailed Analysis:

1. Deferred Compensation Expenses on Account of ESOP:

The assessee company contested the disallowance of Rs. 5,99,74,467/- as deferred compensation expenses under ESOP, arguing these were incurred in the normal course of business and should be allowed as revenue expenditure. The AO disallowed the expenses, deeming them capital in nature, citing Circular No. 9 of 2007 and the decision in Ranbaxy Laboratories Ltd. v. ACIT, stating that ESOP-related expenses do not constitute actual expenditure but rather a short receipt of share premium.

Upon appeal, the CIT(A) upheld the AO's decision, rejecting the assessee's reliance on the ITAT Chennai decision in SSI Ltd. v. DCIT and other cases, maintaining that ESOP expenses are not business expenditures but merely lesser receipts of share premium.

The Tribunal examined the issue, referring to the Special Bench decision in Biocon Ltd. v. DCIT, which held that ESOP discounts are in the nature of employee costs and deductible during the vesting period. The Tribunal agreed with this view, stating that the expenses are incurred wholly and exclusively for business purposes and should be allowed as business deductions. It emphasized that any unvested or lapsed options should be reversed, and adjustments should be made at the time of exercise of options based on the market price differences.

Thus, the Tribunal allowed the appeal of the assessee, permitting the deduction of Rs. 5,99,74,467/- as deferred employee compensation expenses (ESOP) under the head 'profit and gains of business or profession'.

2. Exclusion of Investment in Subsidiary for Disallowance Computation Under Section 14A Read with Rule 8D:

The Revenue challenged the CIT(A)'s decision to exclude Rs. 4,61,37,00,000/- invested in the subsidiary, India Infoline Investment Services Ltd., from the average value of investments for disallowance computation under Section 14A read with Rule 8D.

The AO had noted that the assessee received dividend income of Rs. 4,78,44,562/- and had substantial investments, but did not attribute any expenses to earning this exempt income. The AO disallowed Rs. 9,20,55,758/- under Rule 8D, which included interest and administrative expenses.

The CIT(A) reduced the disallowance, excluding investments in debentures and foreign subsidiaries that yielded taxable income, and strategic investments in subsidiaries on which no dividend was received. The CIT(A) restricted the disallowance to Rs. 39,427,835/-.

The Tribunal considered the rival submissions and material on record, noting that the investment in the subsidiary was made from the proceeds of fresh shares issued, not borrowed funds. It upheld the CIT(A)'s exclusion of this investment for disallowance under Rule 8D(2)(ii). However, it disagreed with the exclusion for Rule 8D(2)(iii), citing the complexity and strategic nature of such investments, which require substantial management and administrative efforts.

Thus, the Tribunal partly allowed the Revenue's appeal, including the investment in the subsidiary for disallowance computation under Rule 8D(2)(iii) but upheld the CIT(A)'s exclusion under Rule 8D(2)(ii).

Conclusion:

The appeal of the assessee was allowed, permitting the deduction of ESOP expenses as revenue expenditure. The Revenue's appeal was partly allowed, including the investment in the subsidiary for disallowance computation under Rule 8D(2)(iii) but not under Rule 8D(2)(ii).