2024 (10) TMI 594 - AT - Income Tax

Deduction u/s 80-IE - allocation of Research and Development (R D) expenditure to the units - CIT(A) held that allocation of R D expenditure by the AO among 80IE units and non 80IE units on the basis of percentage of sales of respective units to the total sales - as per revenue no evidence was produced by the assessee company to justify that expenditure incurred on R D had no nexus with the products manufactured in the 80IE units HELD THAT - As per the assessee, its corporate policy requires it to spend about 5% of its gross revenue on R D for the purpose of development of new ideas and drugs. Further, its R D units are housed in separate buildings and are standalone, independent units having separate financial statements. As per the assessee, its R D activities are not directly related to its manufacturing units as the R D division is working on future products and future innovations and launches, not present products manufactured by the manufacturing units. Hence, the R D expenditure has no relevance to the working of the qualifying undertakings during the year under consideration. As is evident from the record, the Revenue did not agree with the submissions of the assessee and treated the R D expenditure to be inextricably linked with the business of the assessee including the business relating to the products that are manufactured in the unit for which deductions were claimed under section 80-IE of the Act. In order to substantiate its claim that the products developed in its R D units are different from the products manufactured in the eligible units during the year under consideration, the assessee has placed on record the list of products. From the perusal of the lists placed on record by the assessee in respect of the products developed in the R D centre during the year under consideration, we find that the same is completely unrelated to the list of products manufactured and sold by the Sikkim unit of the assessee (eligible unit under section 80-IE). Moreover, it is pertinent to note that products in the R D undergo a process of 6 to 10 years before these formulations or drugs undergo manufacturing at the eligible unit. This aspect is equally important to any improvement in the existing products or any enhancement to the existing category of products as the same requires years of testing and multiple approvals/accreditations by the concerned department/authority for mere change in the composition of the medicine. Pharmaceutical products cannot be equated with any other off-the-shelf products since they require years of testing before the commercial launch and that too if the development is successful. Thus, we find no merit in the findings of the AO that the products developed in the R D unit were manufactured in the eligible units during the year under consideration. Even though the research expenditure may have some linkage with the products ultimately manufactured in the eligible units, however the same cannot lead to the conclusion that the expenditure incurred on R D during the year under consideration is for the products manufactured in the eligible units during the year under consideration. Thus, we find no basis in the general assumption adopted by the AO while allocating R D expenditure for computing the deduction claimed under section 80-IE of the Act. We find no infirmity in the impugned order passed by the CIT(A) in deleting the allocation of R D expenditure to the units eligible for deduction under section 80-IE of the Act. Decided against revenue.

Summary

Issues Involved:

1. Allocation of Research and Development (R&D) expenditure to units eligible for deduction under section 80-IE of the Income Tax Act, 1961.

Issue-wise Detailed Analysis:

1. Allocation of R&D Expenditure:

The primary issue in this case is the allocation of R&D expenditure to the units eligible for deduction under section 80-IE of the Income Tax Act, 1961. The Revenue challenged the decision of the learned Commissioner of Income Tax (Appeals) [CIT(A)], who held that the allocation of R&D expenditure by the Assessing Officer (AO) was "baseless and totally unwarranted." The AO had allocated R&D expenses among 80IE units and non-80IE units based on the percentage of sales, arguing that the R&D expenditure was inextricably linked with the business, including products manufactured in units entitled to deductions under Chapter VIA of the Act.

The assessee, engaged in manufacturing pharmaceutical products, argued that its R&D activities were focused on future products and innovations, unrelated to the current manufacturing units. The R&D division was claimed to be working on futuristic research, with no direct relation to the products manufactured in the eligible units during the assessment year under consideration. The assessee provided affidavits and lists of products to substantiate that none of the products developed in the R&D unit were manufactured in the Sikkim unit eligible for section 80-IE deduction during the relevant year.

The CIT(A) sided with the assessee, referencing judicial precedents from the assessee's own cases for previous years (2009-10 and 2010-11), where similar allocations of R&D expenses were deemed unwarranted. The CIT(A) directed the AO to recompute income without allocating R&D expenditure among eligible and non-eligible units.

During the Tribunal hearing, the learned Authorised Representative (AR) for the assessee reiterated that the issue had been resolved in favor of the assessee in previous years. The AR presented an affidavit and product lists to support the claim that R&D activities were unrelated to the Sikkim unit's products. The Departmental Representative countered that the assessee failed to provide substantive evidence during assessment proceedings.

The Tribunal reviewed the submissions and material on record, noting that the R&D units were standalone entities with separate financial statements, focusing on future developments. The Tribunal found that the products developed in the R&D units were unrelated to those manufactured in the eligible units. It was highlighted that pharmaceutical R&D involves lengthy processes and approvals, distinguishing it from other industries. The Tribunal found no merit in the AO's findings that R&D products were manufactured in eligible units during the relevant year. The assumption that R&D expenditure should be allocated for computing deductions under section 80-IE was deemed unfounded.

The Tribunal upheld the CIT(A)'s decision, referencing consistent findings in the assessee's favor from previous Tribunal orders for assessment years 2011-12 and 2012-13. The Tribunal concluded that the allocation of R&D expenses was unjustified, and the Revenue's appeal for both assessment years 2018-19 and 2021-22 was dismissed. The decision for the assessment year 2018-19 was applied mutatis mutandis to the appeal for 2021-22, leading to the dismissal of the Revenue's appeal for both years.

The judgment was pronounced in open court on 10/10/2024, affirming the CIT(A)'s order and dismissing the Revenue's appeals.