2006 (12) TMI 191 - AT - Income Tax

Expenditure incurred for acquiring licence - ''Capital Or Revenue'' - Licence fees paid on account of user of computer software programme - installation of R/3 software, ERP package - whether R/3 software was an 'intangible asset' within the meaning of clause (ii) of section 32(1) - It is seen that the decision of the Bombay High Court in the case of Premier Automobiles Ltd. 1993 (4) TMI 31 - BOMBAY HIGH COURT was taken into consideration by the Rajasthan High Court in the case of Arawali Constructions Co. (P.) Ltd. 2002 (7) TMI 41 - RAJASTHAN HIGH COURT with regard to the second part of its decision, namely, that the expenditure incurred for acquiring technical know-how was capital expenditure and was eligible for depreciation u/s 32 of the Act. The decision of the Bombay High Court was silent, insofar as the first part of the decision of the Rajasthan High Court, namely, that the purchase of computer software amounted to acquisition of technical know-how. It is this part of the decision of the Rajasthan High Court which is relevant for deciding the issue in this case. The expressions 'a know-how', 'a patent', 'a copyright' and 'a trademark,' are examples of 'intellectual property' and are included in clause (ii) of section 32(1) as 'intangible assets'. The aforesaid 'intellectual properties', or a licence acquired in respect of such a property, are all 'intangible assets' under clause (ii) of section 32(1). Therefore, taking guidance from the decision of the Rajasthan High Court, we are of the view the impugned R/3 software has to be treated as an 'intangible asset' within the meaning of clause (ii) of section 32(1) of the Act. And, consequently, a licence acquired by the assessee to use the same will also come within the ambit of clause (ii) of section 32(1). Therefore, we hold that, on the facts of the present case, the expenditure incurred for acquiring the impugned licence, was rightly treated by the Assessing Officer and the CIT(A) as capital expenditure, eligible for depreciation u/s 32(1). In the result, the appeal filed by the assessee is partly allowed.

Summary

Issues Involved:

1. Valuation of closing stock.
2. Treatment of license fees for computer software.
3. Classification of EMD gross receipts.
4. Interest on overdue accounts.

Issue-wise Detailed Analysis:

1. Valuation of Closing Stock:

The primary issue was whether the change in the system of valuation of closing stock by the assessee was bona fide and acceptable. The assessee had shifted from valuing stock based on the lowest price in the last quarter to an average inventory method. The Assessing Officer (AO) and CIT(A) did not accept this change, leading to an addition of Rs. 26,63,104, later adjusted to a net addition of Rs. 4,20,597. The Tribunal referenced its previous decision in the assessee's own case for assessment year 1990-91, where it was held that the valuation should be done using the average cost method, including all inward expenses. Consequently, the Tribunal restored the matter to the AO for fresh adjudication following these directions.

2. Treatment of License Fees for Computer Software:

The second issue concerned whether the license fees paid for the use of SAP R/3 software should be treated as capital or revenue expenditure. The AO and CIT(A) classified the expenditure as capital, allowing depreciation at 25%. The Tribunal discussed the nature of ERP software and its benefits, concluding that the software and the license to use it were "intangible assets" under section 32(1)(ii). The Tribunal upheld the treatment of the expenditure as capital, eligible for depreciation, and rejected the alternative plea for a higher depreciation rate of 60%, applicable from assessment year 2003-04.

3. Classification of EMD Gross Receipts:

The third issue was whether the gross receipts from the Environment Management Division (EMD) should be included in the "profit of the business" for section 80HHC purposes. The Tribunal referred to its earlier decision for assessment year 1996-97, where it was held that the profits from EMD should be included in the total turnover and the profits of the business. Therefore, the Tribunal allowed this ground in favor of the assessee.

4. Interest on Overdue Accounts:

The final issue was whether interest on overdue accounts should be included in the profits of the business under section 80HHC. The Tribunal cited the Gujarat High Court's decision in Nirma Industries Ltd. v. Dy. CIT, which held that interest from trade debtors for delayed payments should be included in the profits of the business. The Tribunal also referenced a similar view by the Madras High Court in CIT v. Indo Matsushita Carbon Co. Ltd. Consequently, this ground was also decided in favor of the assessee.

Conclusion:

The appeal was partly allowed, with the Tribunal directing fresh adjudication on the valuation of closing stock, while upholding the treatment of license fees as capital expenditure and allowing the inclusion of EMD gross receipts and interest on overdue accounts in the profits of the business.