2022 (9) TMI 981 - HC - Income Tax

Exemption u/s 10A - STP unit - exclusion of hardware component from export turnover - AO has denied the benefit u/s 10A that the hardware was purchased by the assessee but was not manufactured by it - HELD THAT - AO has denied the benefit u/s 10A that the hardware was purchased by the assessee but was not manufactured by it. It is not the case of AO that hardware was not required at all. On the other hand, the reason for denying the benefit is that assessee had not manufactured the software. The view of CIT(A) is also the same. ITAT considered altogether different points and held that it was not established that software cannot be used without hardware. This was not the question considered by the AO and CIT(A). We may reiterate that ITAT has recorded that wherever software and hardware are inextricably connected and the software cannot be used without hardware, the sale of hardware would be a part of software. The intention of purchaser was to buy the software and the intention of the assessee was to sell the software. It is to be noted that assessee is not a manufacturer or a dealer in hardware. Software will have to be stored/loaded onto a medium for transmission/use. When compared to the cost of software, the cost of hardware is insignificant. Assessee's specific case is, the software and the hardware are inextricably connected. With regard to bifurcation of price in two components, namely consideration for supply of equipments and supply of software, the Delhi High Court has held the payment received by the assessee therein was towards the title and GSM system of which software was an inseparable part incapable of independent use. In the case on hand too, Software could not be exported without loading onto the Hardware. Therefore, in our view software and hardware are inseparable. ITAT has been swayed by its reasoning that sale had been effected by separate invoices and therefore, assessee is not entitled for the benefit u/s 10A. The ratio in Arun Electrics 1965 (12) TMI 122 - SUPREME COURT makes it clear that sale by separate invoices is inconsequential and we are in respectful agreement with that view. Therefore, the said reasoning is unsustainable. In this case, 'manufacture' has to be understood in common parlance as developing software and loading onto the hardware. Software will be written in binary code and it is intangible. It can be used only when loaded onto a compatible hardware. Therefore, in our view, hardware becomes an integral part of the exported commodity. Software without loading onto the hardware could not be used and the hardware with the software loaded into it would be unfit for the intended purpose. On a careful consideration of the entire material on record and the authorities cited before us, we are of the considered view that the Assessing Officer framed an incorrect question for his consideration that whether sale of Hardware which is not manufactured by the assessee could be considered as part of export. - Decided in favour of assessee.

Summary

Issues Involved:
1. Whether the sale of hardware components should be excluded from the export turnover while computing deduction under Section 10A of the Income Tax Act, 1961.

Issue-wise Detailed Analysis:

1. Nature of the Product Sold:
- The appellant contended that the product sold is an indivisible product consisting of software embedded into specified hardware devices, which transforms into a new commodity and qualifies as computer software under Section 10A of the Act.
- The respondent argued that the benefit under Section 10A is applicable only to undertakings located in specific zones and that the hardware was not manufactured in such zones, thus making the appellant ineligible for the deduction.

2. Definition of Export Turnover:
- The appellant argued that the term 'export turnover' includes consideration received in convertible foreign exchange for the export of articles, things, or computer software, which should encompass the hardware components as well.
- The respondent maintained that the hardware was purchased and not manufactured by the appellant, and thus, it should not be included in the export turnover.

3. Findings of the Lower Authorities:
- The Assessing Officer (AO) denied the deduction, stating that the appellant does not manufacture hardware and that the software's linkage to hardware is irrelevant.
- The CIT(A) and ITAT upheld the AO's view, emphasizing that the hardware and software were sold separately through different invoices and that the software could be used independently of the hardware.

4. Judicial Precedents and Interpretation:
- The appellant cited several cases, including Sultan Brothers Pvt. Ltd. Vs. CIT, where the Supreme Court held that the inseparability of items should be determined by the intention of the parties.
- In Director of Income Tax Vs. Ericsson A.B., the Delhi High Court held that software loaded on hardware does not have an independent existence and is integral to the hardware.
- The appellant also referred to Wipro Limited Vs. DCIT, where monitors purchased from outside were considered part of the computer and not a traded commodity.

5. Analysis of Invoices and Purchase Orders:
- The ITAT's finding that separate invoices were issued for software and hardware was based on an erroneous assumption, as both invoices were for software.
- The appellant argued that the intention of the parties was to sell and purchase software, with hardware being an integral part for its functionality.

6. Concept of Manufacture:
- The Supreme Court in Aspinwall & Co Ltd. Vs. CIT defined 'manufacture' as producing articles with new forms and qualities. The appellant argued that developing software and loading it onto hardware constitutes manufacturing.
- In CIT, New Delhi Vs. Oracle Software India Ltd., the Supreme Court held that processing blank CDs into recorded CDs constitutes manufacturing, analogous to loading software onto hardware.

7. Conclusion and Order:
- The court concluded that the AO and CIT(A) framed incorrect questions regarding the eligibility of the benefit under Section 10A.
- It was held that software requires hardware for its transmission and use, making them inseparable. The export of software inherently includes the hardware component.
- The appeal was allowed, and the question of law was answered in favor of the appellant, granting the deduction under Section 10A for the hardware component as part of the export turnover.

Order:
- Appeal is allowed.
- The question of law is answered in favor of the assessee and against the Revenue.
- No costs.