2013 (12) TMI 1160 - HC - Income Tax

Product development Expenses - Capital or revenue expenditure - Held that - Following ALEMBIC CHEMICAL WORKS CO. LTD. V. CIT 1989 (3) TMI 5 - SUPREME Court - The upgradations were required constantly and perpetually - The Assessee had to keep pace with the rapidly changing requirements of the mobile phone users and with other software providers - The expenditure such as new features, upgrades, patches for removing glitches did not bring into existence a new asset but rectified and improved the product being sold - There has to be recurring expenditure which has to be incurred in the said business to ensure sale of the software,for removal of obstructions, restrictions or disabilities on the sale - These were normal day-to-day expenses for running the business in question and did not create enduring rights or advantage or benefit over a long period time - The determination should be based upon consideration of facts and circumstances and by applying principles of commercial trading and business expediency - Decided against Revenue.

Issues Involved:
1. Nature of product improvement expenses (capital vs. revenue expenditure).
2. Consistency in the treatment of similar expenses in different assessment years.
3. Application of the "enduring benefit" test for determining the nature of expenses.

Issue-Wise Detailed Analysis:

1. Nature of Product Improvement Expenses (Capital vs. Revenue Expenditure):
The primary issue was whether the product improvement expenses incurred by the Assessee should be treated as capital or revenue expenditure. The Assessing Officer initially treated these expenses as capital expenditure, disallowing them as revenue expenditure. The Assessee argued that these expenses were essential for continuous improvement and upgradation of existing software, a regular feature in the rapidly changing technology of mobile communications. The ITAT agreed with the Assessee, holding that these expenses were revenue in nature as they were incurred in the ordinary course of business and did not result in the creation of a new product but rather enhanced the existing one.

2. Consistency in the Treatment of Similar Expenses in Different Assessment Years:
The ITAT noted that in the immediately preceding and succeeding assessment years, similar product improvement expenses were allowed by the Assessing Officer. Specifically, the ITAT observed that the expenses for the years 2004-05 to 2006-07 and 2008-09 to 2009-10 were treated as revenue expenditure. This consistent treatment in other years supported the Assessee's claim that the disallowance in the year under consideration was not justified. The CIT (Appeals) also followed this Rule of Consistency, leading to the deletion of the disallowance made by the Assessing Officer.

3. Application of the "Enduring Benefit" Test:
The ITAT and the High Court relied on the "enduring benefit" test to determine the nature of the expenses. The test examines whether the expenditure results in a lasting advantage or benefit. The ITAT, referencing the Delhi High Court's decision in CIT vs. Asahi India Safety Glass Ltd., emphasized that the test of enduring benefit is not conclusive. What matters is the real intent and purpose of the expenditure. In this case, the expenses were aimed at improving operational efficiency and maintaining the software's marketability, not creating a new capital asset. The High Court affirmed that the expenses enabled the profit-making structure to work more efficiently without altering the source of profit, thus classifying them as revenue expenditure.

Separate Judgments Delivered:
The High Court delivered separate judgments for the two appeals pertaining to different assessment years (2003-04 and 2007-08). In both cases, the court upheld the ITAT's findings that the product improvement expenses were revenue in nature and dismissed the Revenue's appeals, finding no substantial question of law.

Conclusion:
The High Court affirmed the ITAT's decision that the product improvement expenses incurred by the Assessee were revenue in nature. The court emphasized the importance of consistency in the treatment of similar expenses across different assessment years and applied the "enduring benefit" test to conclude that the expenses did not create a new capital asset but were necessary for the efficient operation of the existing business. Consequently, the appeals were dismissed with no orders as to costs.

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