2020 (4) TMI 757 - AT - Income Tax

Disallowance of service expenditure - service charges were incurred by the assessee in order to attract the customers in India who are transacting in overseas capital market - HELD THAT - Assessee has stopped utilizing the services of group entities and started employing its own staff and relevant services extended to its customers by utilizing its own staff. There is considerable increase in the employees cost shows that there is shift in the management decision. Even otherwise assessee has submitted the analysis of making payments to its sister concern and submitted the relevant documents treating this as international transaction. Since the transaction involved is only to the extent of ₹ 2.89 crores, therefore AO may not have referred this case to TPO, just because it is not coming under TP study and there is abnormal increase in the cost, does not mean that assessee has not incurred this expenditure for its business. Therefore, in our considered view, these transactions are revenue in nature and having direct relevance to its business and incurred to extend the services to its customers in the overseas market with the help of its group concerns are only a revenue expenditure and eligible to be claimed as deductible expenditure under section 37 of the Income Tax Act. Payment of membership and subscription charges disallowed - HELD THAT - These expenses are renewable and recurring in nature and only in this assessment year, assessee has borne the above said expenditure for its business purposes. As per the submission of the assessee, for the subsequent assessment years, these costs were diverted to its clients. Since these expenditure was incurred in order to facilitate the clients in India and it has direct relevance to the business carried on by the assessee, but however there is no assets installed by the assessee except facilitating the installation to the clients. It may look capital in nature, but it is the cost incurred by the assessee to facilitate the transactions between the clients and group concerns. There is no direct enduring benefit to the assessee, it can be termed as incurred for the purpose of business and to set up a transaction meant for overseas capital market - this expenditure can be treated preliminary expenditure for the purpose of business and therefore this transaction may increase the business/ trade for the assessee in the subsequent year. Accordingly, we direct AO to allow one fifth (1/5th) of the expenditure in this assessment year and balance in the next 4 assessment years treating this similar to the treatment as preliminary expenditure. Accordingly, Ground no. 2 raised by the assessee is partly allowed.

Summary

Issues Involved:
1. Disallowance of service fees as capital expenditure.
2. Disallowance of membership and subscription charges as capital expenditure.

Detailed Analysis:

1. Disallowance of Service Fees as Capital Expenditure:

The assessee filed its return of income for AY 2009-10 and declared a total income under normal provisions and book profit u/s 115JB. The case was selected for scrutiny, and notices u/s 143(2) and 142(1) were served. During the assessment, the AO observed that the assessee debited significant amounts under service fees and membership & subscription fees, which were not incurred in the previous or subsequent years, indicating a one-time payment. The AO treated these expenditures as capital in nature, providing enduring benefits to the assessee, and added back the amounts to the total income, initiating penalty proceedings for filing inaccurate particulars of income.

The assessee appealed to the Ld. CIT(A), arguing that the service fees were for general management services from MF Global Group entities, which included executive, operating, legal, and financial officers. These services were for ongoing operational activities and did not bring into existence any capital asset or enduring benefit. The Ld. CIT(A) dismissed the appeal, stating that the expenditure aimed to gain an advantage in the marketing field and provided enduring benefits, thus being capital in nature.

Upon further appeal, the ITAT considered the submissions and material on record. The ITAT noted that the service fees were incurred to attract customers in India transacting in overseas capital markets. The assessee entered into a service agreement with its group companies, and the expenditure was for personnel services, which were disclosed as international transactions. The ITAT found that the services were revenue in nature, directly relevant to the business, and incurred to extend services to customers in the overseas market. Therefore, the ITAT allowed the deduction of service fees as revenue expenditure under section 37 of the Income Tax Act.

2. Disallowance of Membership and Subscription Charges as Capital Expenditure:

The assessee also incurred membership and subscription charges for trading terminals and related software to facilitate transactions between Indian clients and overseas group entities. The AO treated these charges as capital expenditure, providing enduring benefits. The Ld. CIT(A) upheld this view, stating that the expenditure was for acquiring membership benefits of trading terminals, which provided enduring benefits.

The ITAT considered the assessee's argument that these expenses were recurring in nature and necessary for the day-to-day business. The ITAT noted that the expenses were incurred to facilitate transactions between clients and group concerns, with no direct enduring benefit to the assessee. The ITAT treated the expenditure as preliminary expenditure for business purposes, allowing one-fifth of the expenditure in the assessment year and the balance in the next four assessment years.

Conclusion:

The ITAT partly allowed the appeal, treating the service fees as revenue expenditure and allowing one-fifth of the membership and subscription charges as preliminary expenditure in the assessment year, with the balance spread over the next four years. The appeal filed by the assessee was partly allowed.