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TMI Blog2013 (12) TMI 1115X X X X Extracts X X X X X X X X Extracts X X X X ..... sssee could commence or set up the business in question. The fee was certainly paid to the Government for permitting and allowing an assessee to set up/start cellular telephone service which otherwise was not permitted or prohibited under the Telegraph Act. In a way, it was a privilege granted to the assessee subject to payment and compliance with the terms and conditions. The expenditure incurred for establishing or for setting up/construction of any factory/business would be capital, but the amount paid on yearly basis for running or operation of the factory/business would be normally revenue in nature. - Decided partly in favor of revenue. Power to Court to bifurcate and divide the licence fee into capital and revenue and what percentage or ratio should be attributed to revenue and capital account. - Held that:- The difficulty in apportionment cannot be a ground for rejecting the claim either of the Revenue or of the assessee. Such an apportionment was sanctioned by courts in Wales v. Tilley, Carter v. Wadman (H.M. and T. Sadasivam v. Commissioner of Income-tax, Madras. In the present case apportionment of the compensation has to be made on a reasonable basis between the loss of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... stion of law required to be decided in these appeals reads:- "1. Did the Tribunal fall into error in holding that the variable licence fee paid by the assessees was properly deductible as revenue expenditure? 4. As is apparent from the substantial question of law quoted above, the issue raised is whether the variable licence fee paid by the respondents under Indian Telegraph Act, 1885, and Indian Wireless Fee Act 1933, payable under the New Telecom Policy 1999 or 1994 agreement, is revenue expenditure or capital expenditure which is required to be amortized under Section 35ABB of the Income Tax Act, 1961 (Act, for short). 5. At the very outset, we would like to reproduce Section 35ABB, which reads: "35ABB.(1) In respect of any expenditure, being in the nature of capital expenditure, incurred for acquiring any right to operate telecommunication services[either before the commencement of the business to operate telecommunication services or thereafter at any time during any previous year] and for which payment has actually been made to obtain a licence, there shall, subject to and in accordance with the provisions of this section, be allowed for each of the relevant previous year ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n respect of the previous year in which the licence is transferred or in respect of any subsequent previous year or years. (5) Where a part of the licence is transferred in a previous year and sub-section (3) does not apply, the deduction to be allowed under sub-section (1) for expenditure incurred remaining unallowed shall be arrived at by- (a) subtracting the proceeds of transfer (so far as they consist of capital sums) from the expenditure remaining unallowed; and (b) dividing the remainder by the number of relevant previous years which have not expired at the beginning of the previous year during which the licence is transferred. (6) Where, in a scheme of amalgamation, the amalgamating company sells or otherwise transfers the licence to the amalgamated company (being an Indian company),- (i) the provisions of sub-sections (2), (3) and (4) shall not apply in the case of the amalgamating company; and (ii) the provisions of this section shall, as far as may be, apply to the amalgamated company as they would have applied to the amalgamating company if the latter had not transferred the licence.] [(7) Where, in a scheme of demerger, the demerged company sells or otherwise tra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... party or by entering into agreement by sub-licence, partnership etc. The authorities had the right to revoke the agreement on breach of any term or on default of payment by giving sixty days notice. The licence was issued on non-exclusive basis and the authorities reserved their right to operate the same services within the geographical area and had right to modify the conditions of the licence as stipulated in the Schedules A to D, when considered necessary or expedient in the interest of general public or for proper conduct of telegraph services or for security considerations. Even otherwise, the authorities had the right to terminate the licence at any time in public interest by giving sixty days notice. Schedule A, prescribed the area of service; Schedule B prescribed the tariff ceiling and stipulated that all tariff increases shall be subject to prior approval of the authorities but the lower tariff could be charged from the users without prior approval. There was stipulation that no free time could be given in the air time. Licence fee payable under this agreement was as under:- "PAYMENT OF LICENCE FEES 19.1 The Licence fee payable by licencee for each service area shall b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e fees payable to WPC wing of Ministry of Communications (WPC) for use of Radio Frequencies which shall be paid separately by the Licensee on the rates prescribed by the WPC and as per procedure specified by it (condition 20)." 8. National Telecom Policy 1999 stands recorded in communication dated 22nd July, 1999. The said policy stipulates that licencee would be required to pay one time entry fee and licence fee on percentage share of gross revenue. Entry fee chargeable would be the fee payable by the existing operator upto 31st July,1999 calculated upto the said date and adjusted upon notional extension of the effective date. Licence fee as a percentage of gross revenue under the licence shall be payable w.e.f. 1st August, 1999. The quantum of revenue share to be charged as licence fee would be finally decided after obtaining recommendation of Telecom Regulatory Authority of India (TRAI) but meanwhile the Government had fixed 15% of the gross revenue of the licencee as provisional licence fee. On receipt of TRAI's recommendation by the Government, final adjustment of the dues would be made. 9. Clause (vi) of the said letter indicates that there were only two cellular operators ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tails in respect of each assessment year i.e. details with regard to date of filing of return, income declared under normal provisions, book profits etc. We shall concentrate upon the legal issue raised and the facts relevant for determining the said legal issue. For the purpose of clarity, we have recorded and set out details of the writ petitions, name of the respondent-assessee, the assessment years and the amount involved: S No. ITA No. Name of the Assessee Assessment Year Amount Involved 1. 1328/2010 Bharti Hexacom Ltd. 2003-04 Rs.8,69,16,000/- 2. 1336/2010 2004-05 Rs.10,89,74,250/- 3. 114/2012 2006-07 Rs.27,60,36,300/- 4. 996/2011 2007-08 Rs.48,83,07,556/- 5. 893/2010 Bharti Cellular Ltd. 2000-01 Rs.27,82,30,588/- 6. 1680/2010 2001-02 Rs.54,93,43,930/- 7. 1679/2010 2002-03 Rs.61,07,90,625/- 8. 177/2010 Bharti Airtel Ltd. 2005-06 Rs.2,76,48,900/- Net amount disallowed after disallowance and amortization. 9. 1333/2010 Bharti Telenet Ltd. 2000-01 Rs.4,80,67,869/- 10. 417/2013 Hutchinson Essar Pvt. Ltd 1999-2000 Rs.18,64,57,000/- 13. The contention and the facts highlighted by the Revenue are that respondents were granted a licen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he other hand, was that the licence fee payable under the National Telecom Policy 1999 was revenue in nature. The earnings were/are shared. The licence fee depends upon the gross revenue and was/is payable yearly. Licence by itself was not an asset or a right which could be sold. Under the National Telecom Policy, 1999 there was no limit on the number of operators and the licence granted was non-exclusive. New operators were issued licences and were required to pay one time licence fee for entry and start of operations in addition to yearly turnover based licence fee. Onetime payment of licence fee was capital in nature and yearly payable licence fee was not capital in nature as it was essential and an annual necessity/obligation to continue to do business. It was a running expense. Nature of expenditure incurred was not on addition to fixed capital but for maintaining and operating the business of telecommunication. The nature of expenditure should be judged in commercial sense. Annual variable expenditure did not create or add to a profit making apparatus. It was not part of machinery or a plant. The appellant was wrongly assuming that the licence fee paid on yearly basis was a s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ermine and decide whether the variable licence fee paid on annual basis is capital or revenue in nature. At the same time the license was/is an important and relevant aspect that determined/determines the true market value of the respondent companies. 16. At this stage, it would be appropriate to refer to relevant case law on the subject though we did not find or come across any decision of the Supreme Court or the High Court directly applicable to the factual matrix of the present cases. Starting point of discussion on the said question invariably begins with the decision of the Supreme Court in the case of Empire Jute Co. Ltd. vs. Commissioner of Income Tax (1980) 124 ITR 1 (SC). Revenue in the said case relied upon an earlier decision of the Supreme court in CIT vs. Maheshwari Devi Jute Mills Ltd. [1965] 57 ITR 36 (SC), wherein sale of loom hours were held to be in nature of capital receipt and hence not taxable. The said decision was distinguished on several grounds but noticeably it was recorded that the said case had proceeded on a common accepted basis that loom hours was an asset. In Empire Jute Co. Ltd. (supra), on deeper elucidation of relevant facts, it was noticed that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he ground that source of profit or income was the profit making apparatus which had remained untouched. There was no enlargement of permanent structure or capital assets. Primarily and essentially the expenditure was relating to operation or working of looms, which constituted profit earning apparatus. The Supreme Court, however, added a word of caution that in the field of taxation, analogies could be deceptive and misleading but nevertheless they referred to an example of an assessee acquiring raw material regulated under a quota system to increase his production. Money spent to acquire the quota right, it was observed would entitle the assessee to acquire more raw material to increase profitability of the profit making apparatus and would undoubtedly be revenue expenditure as it was a part of the operating cost. However, the said example relates to already existing or ongoing industry. Outgoing whether it was revenue or capital, it was highlighted, should depend upon practical and business point of view, rather than juristic classification of legal rights. The question should be judged in the context of business necessity or expediency; was the expenditure a part of assessee's w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... supra). The majority judgment held that the quolnama which entitled the assessee to extract stones from quarries for a period of 12 years on annual payment (some amount was paid in advance to secure annual payment) was capital expenditure as the assessee was extracting stones which after dressing were sold as flag stones. It was observed that the lease was for long term with right to extract stones in six villages, without limit by measurement or quantity, and entitled the assessee to exclusive rights. The majority held that the expenditure was capital in nature and cannot be equated with cases wherein assessee had acquired right to pick up tendu leaves for manufacture of bidi, which was equivalent to purchasing of raw material for manufacturing business. It was observed that stones in situ were stock in trade of business, but lease payments were capital in nature as the stones only upon extraction became stock in trade. The payment though periodical was neither rent nor royalty, but payment was for acquiring an asset for enduring benefit i.e. right to extract stones and not stones itself. 21. In Jabbar (M.A.) vs. CIT, Andra Pradesh [1968] 68 ITR 493 (SC), the assessee had taken a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . In Commissioner of Income Tax vs. Madras Auto Services (P) Ltd. (1998) 233 ITR 468 (SC), the assessee had incurred expenditure on demolishing the existing building and constructing a new building at their own expense. The new building belonged to the lessor and the assessee remained a lessee but at a low rent. Term for lease was 39 years but the Supreme Court held that the expenditure was revenue in nature as the newly constructed property from the beginning was owned by the lessor. It was emphasized that the asset created, though of enduring nature, did not belong to the assessee (there have been statutory amendments but we are not required to examine the said amendments in the present decision. The ratio is relevant). Reference was made to Lakshmiji Sugar Mills Co. P. Ltd. vs. CIT (1971) 82 ITR 376 (SC), wherein expenditure incurred on construction and development of roads between different sugarcane producing centers and sugar factories was held to be revenue in nature as it was incurred for the purposes of facilitating running of assessee's motor vehicles etc. Similarly in L.H. Sugar Factory and Oil Mills (P) Ltd. vs. CIT (1980) 125 ITR 293 (SC), amount paid as contribution f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gn company for technical information/ know how relating to setting up of a plant for manufacture of products was capital expenditure. Referring to the issue in question, it was observed that the answer would depend upon several factors including whether the assessee had set up a completely new plant with a new process, new technology, or the technical knowhow was for betterment of the product which was already being produced; was it a part and parcel of existing business or a new business?, Whether on expiry of period of agreement, the assessee was required to give the plans, drawings etc., or could continue to manufacture the products?, etc. It was accordingly observed as under:- "In the case of Alembic Chemical Works Co. Ltd. v. Commissioner of Income-Tax Gujarat : [1989]177ITR377(SC) , the question for consideration was whether the lump-sum payment made by the assessee for obtaining the know-how to produce higher yield and sub-culture of high yielding strain of Penicillin would be a capital expenditure or a revenue expenditure. The Tribunal had rejected the claim of the assessee holding the expenditure to be a capital expenditure. On appeal to this Court it was held: (i) It wo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The said test has its apparent limitation, if we apply the said test without equal importance to the questions; what was acquired and why payment was made? The real and core test is whether payment (whether once and for all or in installment) was for acquisition of capital asset or rights of enduring benefit. Quantum of payment is not relevant for determining the said question as it is the nature and quality of payment and not quantum or manner of payment which is decisive. Lump-sum payment can represent revenue expenditure, if it is incurred for acquiring circulating capital though payment is made in one go and similarly payment made in installments can in fact be for acquiring a capital asset, price of which is paid for over a period of time. 27. It would be relevant here to produce the tests or principles laid down in a recent decision of this court in CIT vs. J.K. Synthetics Ltd. [2009] 309 ITR 371 (Delhi) which are as under:- "An overall view of the judgments of the Supreme Court, as well as of the High Courts would show that the following broad principles have been forged over the years which require to be applied to the facts of each case : (i) the expenditure incurred t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... aking, the grain from the chaff, one would have to closely look at the attendant circumstances, such as : (a) the tenure of the licence. (b) the right, if any, in the licensee to create further rights in favour of third parties, (c) the prohibition, if any, in parting with a confidential information received under the licence to third parties without the consent of the licensor, (d) whether the licence transfers the "fruits of research" of the licen-sor, "once for all", (e) whether on expiry of the licence the licensee is required to return back the plans and designs obtained under the licence to the licensor even though the licensee may continue to manufacture the product, in respect of which "access" to knowledge was obtained during the subsistence of the licence. (f) whether any secret or process of manufacture was sold by the licensor to the licensee. Expenditure on obtaining access to such secret process would ordinarily be construed as capital in nature ; (vi) the fact that the assessee could use the technical knowledge obtained during the tenure of the licence for the purposes of its business after the agreement has expired, and in that sense, resulting in an enduring ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r telephone services during the term of the licence. iii. Contrary to what was stated, under the licence agreement executed in 1994 the considerations paid and payable were with the understanding that there would be only two players who would have unfettered right to operate and provide cellular telephone service in the circle. The payment, therefore, had element of warding off competition or protecting the business from third party competition. iv. Under the 1994 agreement, the licence was initially for 10 years extendable by one year or more at the discretion of the Government/authority. v. 1994 Licence was not assignable or transferable to a third party or by way of a sub-licence or in partnership. There was no stipulation regarding transfer or issue of shares to third parties in the company. vi. Under the 1994 agreement, the licencee was liable to pay fixed licence fee for first 3 years. For 4th year and onwards, the licencee was liable to pay variable licence fee @ Rs.5,00,000/- per 100 subscribers or part thereof, with a specific stipulation on minimum licence fee payable for 4th to 6th year and with modified but similar stipulations from 7th year onwards. vii. The licen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... p the business in question. The fee was certainly paid to the Government for permitting and allowing an assessee to set up/start cellular telephone service which otherwise was not permitted or prohibited under the Telegraph Act. In a way, it was a privilege granted to the assessee subject to payment and compliance with the terms and conditions. 31. Licence fee under the 1994 agreement ensured that there would be only two private operators in a circle and thus their limited monopoly would be protected and competition by way of third party private players was warded off. Restricted monopoly of the licencees was ensured. The licence fee fixed included an element towards the said right of the licencees. 1994 agreement, for first three years postulated a lump-sum payment irrespective of number of subscribers. Minimum fee was also prescribed for later years. It appears that licencees were unable to make payments as per the 1994 agreement and under the 1999 policy, were required to pay lump-sum payment for past arrears before specified dates. 32. There was restriction under the 1994 agreement, on transfer of the licence or even grant sub-licence but there was no specific restriction on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... etting up of business. It has element and includes payment made to acquire the ‗asset' i.e. the right to establish cellular telephone service. But the licence permits and allows the assessee to maintain, operate and continue business activities. Payment of licence fee has certain ingredients and is like lease rent which is payable from time to time to be able to use the licence. 35. The licence acquired was initially for 10 years and the term was extended under the 1999 policy to 20 years but this itself does not justify treating the licence fee paid on revenue sharing basis under the 1999 policy as a capital expense made to acquire an asset. As observed in Empire Jute Co. Ltd. (supra), the enduring benefit test has limitation and cannot be mechanically applied without considering the commercial or business aspects. Practical and pragmatic view and considerations rather than juristic classification is the determinative factor. The payment of yearly licence fee on revenue sharing basis is for carrying on business as cellular telephone operator. It is a normal business expense. 36. Read in this manner, the licence granted by the Government/ authority to the assessee would be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed to a carting contractor for a period of eight years to deposit earth, slag, etc., on the land of the licensor, was held to be capital expenditure. The law has evolved considerably as a result of acceptance of the crucial principle that the distinction between capital and revenue expenditure should be determined from the practical and business view point and in accordance with sound accountancy principles, eschewing the legalistic approach. A license fee is revenue expenditure, and payments made to the State for a license or permit are none the less deductible although the license or permit may carry with it an exclusive right, where the ‗monopoly' or the exclusive character of the right is incidental to the license or permit. Annual payments made to the State, in lieu of tax on motor vehicles per trip, for the exclusive right to ply buses on a certain route, are revenue disbursements, and so also are royalties paid to the State for a monopoly right to excavate raw materials or stock-in-trade or for an exclusive license to manufacture sugar." 38. In Mohan Meakin Breweries Ltd. (supra) the Division Bench rightly observed that that the aforesaid passage supports the case of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tative and lucid discussion for the purpose of the present controversy is in CIT, Madras vs. Best and Co. (Pvt.) Ltd. (1966) 60 ITR 11(SC). In the said case, the respondent assessee was carrying on business and had innumerable agencies. Compensation was received on account of cancellation of one agency and the question was whether the said compensation was capital or revenue in nature. Majority judgment answered the said question observing that compensation and loss of agencies could be both capital and revenue depending upon facts of each case and whether the cancellation had affected the earning apparatus or structure from physical, financial, commercial and administrative point of view. The answer required examination; how many agencies the assessee had; their nature, how many agencies were lost and what was the effect on the income as well as the structure of the entire business; whether the loss of agency was ordinary incident in the course of business etc. In the said case, compensation received was held to be revenue expenditure as the respondent assessee had innumerable agencies in different lines and had given up only one, to continue business in other lines. Loss of agenc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... capital and not taxable but, the sum paid for reduction in salary was taxable. The amount had to be apportioned reasonable for the two considerations. 41. Thus, it would be appropriate and proper to apportion the licence fee as partly revenue and partly capital. 42. The next obvious question is, on what basis apportionment should be done and what could be the proportion of apportionment between capital and revenue expenditure. We have given due consideration to the said issue and felt that it would appropriate and proper to divide the licence fee into two periods i.e. before and after 31st July, 1999. The licence fee paid or payable for the period upto 31st July, 1999 i.e. the date set out in the 1999 policy should be treated as capital and the balance amount payable on or after the said date should be treated as revenue. There are several reasons why we have taken the said date as a cut-off point, rather than partly apportioning expenses through the entire term of the licence. These reasons are elucidated in the paragraph below. 43. Licence fee was payable for establishment, maintenance and operation of cellular telephone service. Establishment and set up took place in the ini ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... about 20% of the expenditure in terms of the tenure as per the 1999 Policy as capital in nature, whereas if we apply the 1994 Agreement, we would be treating about 40% of the expenditure as per the tenure as payable towards establishing or setting up of cellular business. By the time 1999 Policy was implemented in the case of the respondents-assessees, the cellular telephone business had already commenced and was in operation. The 1999 Policy had the effect of extending period of licence from 10 years to 20 years, but from the effective date. The view, we have taken, effectively means that the entire license fee paid in the initial first four years is treated as capital in nature i.e. the expenditure incurred to establish cellular telephone business, whereas the balance expenditure payable on year to year basis from 5th year onwards is treated as revenue expenditure to run and operate cellular telephone business. 46. However, we would like to discuss two judgments relied upon by Huthison Essar Pvt. Ltd. in support of their contention that the variable fee even prior to 31st July, 1999 should be treated as revenue expenditure. As noted above, this was the 4th year and the contenti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... expenditure. (ii) Capital expenditure will qualify for deduction as per Section 35ABB of the Act. 48. The appeal ITA No. 417/2013 by the Revenue in the case of Hutchison Essar Pvt. Ltd., pertains to the assessment year 1999-2000 i.e. year ending 31st March, 1999. It is for the period prior to the period 31st July, 1999. As per the discussion above, the licence fee payable on or before 31st July, 1999 should be treated as capital expenditure and the licence fee payable thereafter should be treated as revenue expenditure. In view of the aforesaid position, the question of law admitted for hearing in this appeal as recorded in the order dated 21st August, 2013, has to be answered in favour of the revenue and against the respondent assessee. 49. In ITA Nos.893/2010 and 1333/2010, an additional issue arises for consideration. This additional issue relates to interest on delayed payment of license fee and whether the same was capital or revenue expenditure. By order dated 18th September, 2012, the following substantial question of law was admitted for hearing and disposal:- "Whether the Tribunal fall into error in holding that the interest on the delayed payment of license fee also p ..... X X X X Extracts X X X X X X X X Extracts X X X X
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