Wipro Limited Vs ACIT (ITAT Bangalore)
ITAT Bangalore held that the loss arising in eligible SEZ/STPI undertakings are not required to be adjusted against the profits arising from other SEZ/STPI undertakings and the said loss can be adjusted against profits arising from non-SEZ/non-STPI units.
Facts- Assessee contested the action of the AO in setting off the loss arising from SEZ units against income earned by non-tax holiday units. During the course of assessment proceedings the AO noted that the assessee has various SEZ units at different locations. Among SEZ units all are not profit making and the assessee had incurred losses on the six SEZ units as tabulated by the AO. The AO noted that the assessee has set-off the losses of the six SEZ units from other taxable units and other divisions. The AO after discussing the relevant provisions did not allow set–off the losses of the six SEZ units and added back in to the total income of the assessee to the extent of Rs. 90.66 crores.
One of the allegation of the assessee to the eligibility of the assessee to claim deduction u/s 10AA of the Act for deemed exports, i.e., sales made to own units located in SEZs and Indian subsidiaries of Foreign MNCs. The claim of the assessee was rejected by the AO.
Conclusion- Held that the loss arising in eligible SEZ/STPI undertakings are not required to be adjusted against the profits arising from other SEZ/STPI undertakings and the said loss can be adjusted against profits arising from non-SEZ/non-STPI units. Accordingly, this issue is decided in favour of the assessee.
With respect to deduction u/s 10AA for deemed exports it is held that we direct the AO to include deemed exports to SEZ as part of turnover while computing deduction u/s 10AA of the Act.
FULL TEXT OF THE ORDER OF ITAT BANGALORE
The appeal filed by the assessee is directed against the order dated 28-05-2021 passed by the Assessing officer, National Faceless Assessment Centre, Delhi [NFAC], Delhi u/s 143(3) r.w.s. 144C(13) r.w.s. 144B of the Income-tax Act,1961 [‘the Act’ for short] for assessment year 2016-17 in pursuance of directions given by Ld Dispute Resolution Panel (DRP) dated 29.03.2021.
2. The brief facts of the case are that the assessee filed his return of income on 30.11.2016 declaring at income of Rs. 57,51,34,75,210/-after claiming deduction under section 80G of Rs. 4,05,98,408/- and 80IAB of Rs. 585,09,09,819/-. The case was selected for scrutiny and notice u/s 143(2) was issued and other statutory notices were issued to the assessee and assessee also responded to the notices. The assessee claimed exemption u/s 10AA being profit of SEZ units. The total income also comprises income of short term capital gain amounting to Rs. 2,64,33,89,767/- on sales of Mutual Fund and Bonds units and other investments. The assessee had also Long Term Capital gain on sale of bonds and NCDs of Rs. 16,74,12,034/-after setting off of brought forward losses of earlier years. Further the assessee had disclosed loss from other sources of Rs. 9,21,99,128/- being interest expenses on ECB loan taken to invest in foreign subsidiaries company, viz, Wipro Cyprus. The assessee is engaged in different types of business activities, viz., software development services and IT services; manufacture of Vanaspati/Hydro generated oils; toilet soaps; lighting products; pharmaceuticals & Neutraceutical products; leather products; computers, hydraulic and pneumatic equipment; water treatment systems and solutions etc. It is also engaged in trading of servers, routers, networking equipments, spare parts, etc. The assessing officer passed final assessment order on 28.05.2021 in conformity with the directions given by the Ld DRP. The assessee is aggrieved by the order so passed by the AO and hence it has filed this appeal before the Tribunal. The assessee has raised several grounds in a detailed manner. However, the Ld Senior Counsel appearing for the assessee has advanced his arguments on issue-wise on the basis of abridged grounds of appeal. Accordingly, we find it convenient to dispose of the issues, which would, in turn, dispose of relevant grounds of appeal.
3. The ground No. 01,02,and 03 are general in nature and does not require adjudication.
4. The fourth issue relates to the capitalisation of Salaries and Wages. The back ground for making this addition is described as under by the AO:-
“During the course of assessment proceedings, for AY 2016-17 it was found that the assessee has designed some software tools for undertaking IOT, Block Chain and Machine Learning work. These are futuristic technologies and speculated to be disruptive in nature. Once such sufficiently advanced technologies come into operation, Artificial Intelligence and Machine Learning are expected to take over coding , This will be a major challenge for software service providers. When computers start coding new algorithms on an automated basis, the only requirement for a company that needs such new algorithms, will be to design the software architecture. The labour-intensive work of coding is, as of now, outsourced to Software suppliers in India, Philippines etc. With the advent of these disruptive technologies, India-based Software suppliers will face a steep fall in demand. . Fearing competition from Al bots, many India-based Software exporters, including the assessee company have started developing their own AI bots and Machine Learning Tools.”
5. The AO noticed that the assessee herein has developed certain technologies and software platforms based on AI, IOT and Machine learning. He also noticed that the assessee has not capitalised any such asset in its books of account. During the course of assessment proceedings for the AY 2015-16 a similar issue was raised in the case of the assessee and the ground of addition made by the AO has been upheld by the DRP. In the impugned assessment year the DRP also upheld the addition made by the AO in the same line of assessment for the AY 2015-16. The assesse preferred in appeal before the Income Tax Appellate Tribunal, The facts and observations of the co-ordinate bench are as under:-
“6.1 ……… The AO noticed from the Chairman’s message given in the Annual report of the assessee that it has developed an Artificial Intelligence Plat form named “Wipro HOLMES”. He also noticed that the assessee has already received trade mark for the above product. In this regard, the AO observed as under:-
“3 Assessee describes Wipro Holmes as “Wipro HOLMES Artificial Intelligence Platform TM”. The platform is ready and it has already received trademark also. One does not have to be a Sherlock Holmes to realize that Wipro Holmes is a capital asset. So where is this platform recognized in fixed asset schedule? Where are the other platforms for lnternet of Things and Blockchain reported? ln the course of hearing on 15.11.2018, this was confronted to the AR. AR argued that it is an industry practice to claim all employee expenses as revenue expenditure. The AR was asked to furnish details of (a) number of man-days of the company in the year, (b) number of man-days that have been utilized in in-house projects, and (c) number of man-days that have been characterized as ‘bench’. ‘Bench’ is an industry nomenclature. An employee who is on the ‘bench’ is not working on any client project at a given time (she might have completed one client project and is awaiting another client project). But companies generally keep these employees busy by giving them some in-house projects. Assessee was also asked to furnish some sample timesheets of persons working on the ‘bench’, so as to verify this fact”
The AO noticed that the assessee has claimed all expenses incurred in development of these software products as revenue expenditure. The AO took the view that a portion of expenses relating to these software products should have been capitalised. From the explanations furnished by the assessee, the AO noticed that these software products are developed under the leadership of “Chief Technology Officer” (CTO). He also took the view that the assessee should have used services of ‘bench’ employees also at times in connection thereto. Since salary expenses constitute major portion of expenses in development of software, the AO called for details of man days of employees working under the CTO and also the bench employees.
6.2 The AO noticed that the 726343 mandays were spent under CTO. The AO took the view that above said salary expenses should be capitalised. Since services of “bench” employees are also utilised at time, the AO took the view that 25% of bench employees mandays could be taken as used for development of above said software and the same worked out to 24,82,972 mandays. Both the above said mandays constituted 7.96% of the total amount of mandays. Accordingly, the AO took the view that the salary expenses to the extent of 7.96% should be capitalised, which worked out to Rs.1496.67 crores. The assessee contended that these software products have been put to use and hence depreciation @ 60% should be allowed. Since the details of actual date of putting the software to use were not available, the AO agreed to allow depreciation @ 30%, which worked out to Rs.449.00 crores. In view of variation proposed in the total income, the AO issued draft assessment order to the assessee.
6.3 The assessee filed objections before Ld DRP against the draft assessment order. The Ld DRP called for a remand report from the AO and also reply from the assessee for the remand report. The Ld DRP determined the cost of mandays for employees under the control of CTO at Rs.314.11 crores and the cost of mandays of bench employees at Rs.287.66 crores. Accordingly, the aggregate amount to be capitalised was determined at Rs.601.77 crores by Ld DRP. With regard to allowability of depreciation, the Ld DRP noticed that the AO has changed his stand in the remand report and observed that the new software/application produced by the assessee are in the nature of
“intangibles” and accordingly suggested depreciation @ 25% instead of 60%. Further, since the details of nature of asset created and the details of their usage were not available, the Ld DRP declined to grant depreciation. The relevant observations made by the Ld Dispute Resolution Panel are extracted below:-
“2.g With respect to the classification of assets and resultant treatment for applying correct rates the information is not sufficient. The AO initially took the stand that the assets created are software and applied 60% rate (restricted to less than 182 days). However as per the remand report the AO raised alternative argument that the depreciation may be restricted to 25%, as the assessee was creating intangible assets. The information with regard to the nature of assets created and put to use is not made available to the Panel. Hence, it is not possible to grant depreciation to the assessee in the given circumstances.”
6.4 The assessee raised an alternative contention that the above said disallowance would result in increasing the profits of undertakings, which are eligible for deduction u/s 10AA of the Act and hence enhanced amount of deduction should be given to the assessee. The Ld DRP accepted the same with the following observations:-
“2.11 The Panel has considered the grounds, the submissions of assessee and the Report of the AO. At the outset it is seen that the assessee made a claim that all revenue expenses including CTO cost and bench cost are proportionately allocated to all units, including 10AA units. Another Remand Report was called from the AO on 11.07.2019 seeking the actual allocation of CTO cost and bench cost among the l0AA units. The Remand Report of AO dated 20.08.2019 is reproduced as under:
“6. In point 3, the Ld Panel has asked the AO to verify whether the CTO cost and Bench cost are actually distributed to l0AA units. The AO called for segmental. Same was furnished as Annexure-3 to assessee’s reply dated 9.08.2019. As regards the veracity of the figures, the CA’s certificate has been relied upon.
2.12 The Panel has carefully considered the submissions of the assessee as well as the Reports of the AO. The AO admitted that the claim for additional deduction under l0AA is made by the assessee before the AO during assessment proceedings. The claim made by the assessee is only consequential to the addition proposed. The critical aspect is to examine whether the cost of bench employees and CTO cost is allocated to l0AA units in the first place. This was the specific issue on which the remand report was sought from the AO. The AO states that he obtained information from the assessee including certificate of chartered accountant based on which it can be seen that the bench cost and CTO cost is allocated to various l0AA units. Hence any alteration in the cost would affect the profits of l0AA units. The assessee provided a letter dated 09/08/2019 before the AO along with annexures. Annexure 3 of the letter provides the breakup of unit wise allocation of bench cost. Further a certificate from chartered accountant is produced stating that bench cost and CTO cost were allocated to l0AA units. The panel after careful consideration is of the view that the assessee should be granted additional benefit of l0AA on re-computation of profits of eligible units, consequent to partial capitalization of employee cost. It is seen that some of the 10AA units are eligible for 100% exemption and some units are eligible for 50%o of exemption. Hence AO is directed to recompute the eligible profits of l0AA units and accordingly compute the eligible benefit under l0AA. Directed accordingly.”
6.5 The assessee also raised a new claim before Ld DRP contending that, if the development of software products mentioned above are considered to be capital in nature, then the same is allowable as deduction u/s 35(1)(iv) of the Act, since it is in the nature of Scientific Research expenses. In this regard, the assessee placed its reliance on the decision rendered by Hon’ble Karnataka High Court in the case of Talisma Corporation P Ltd (ITA 515/2007). The Ld DRP called for a remand report from AO, who opined that the assessee has only created “intangible assets” in the nature of “Software platform” and “software codes” and it cannot qualify as Scientific research activity. He also expressed the view that the decision rendered in the case of Talisma Corporation is distinguishable and cannot be taken support of by the assessee. The assessee strongly refuted the remand report given by the AO and contended that the provisions of sec.35(1)(iv) should be allowed in assessee’s case and accordingly entire expenditure should be allowed. The ld DRP did not accept the contentions of the assessee and accordingly rejected the claim for deduction u/s 35(1)((iv) with the following observations:-
“2.14 The contention of the assessee are carefully considered. In this regard it is relevant to examine the statutory provisions of Sec 35(1)(iv) reads as under:
“in respect of any expenditure of a capital nature on scientific research related to the business carried on by the assessee, such deduction as may be admissible under the provisions of subsection (2) “
The expenditure is initially claimed by the assessee u/s 37(1) as business expenditure. Sec. 37(l) reads as under:
“Any expenditure (not being expenditure of the nature described in section 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head “Profit and gains of business or profession.”
2.15 As seen from above, any expenditure which is not covered by section 30 to 36 and which is not capital expenditure is claimed under section 37(l). This shows that even as per the assessee this was not an expenditure covered by Sec. 30 to 36 of the Act. That is the reason why assessee chose to make a claim under Sec. 37(1). Hence, the assessee had no intention to claim the expenditure under the head “scientific research.”
2.16 Section 35 relates to allowance of expenditure towards scientific Research. The Act permits the claim of expenditure of scientific research for both inhouse R&D and institutional R&D. For inhouse R&D by the assessee the provisions of 35(1)(i) and 35(1)(iv) provide for revenue expenditure and capital expenditure respectively. Where the assessee is engaged in “scientific Research” the assessee is eligible to claim revenue expenditure u/s 35(1)(i) and capital expenditure u/s 35(l)(iv).
2.17 The claim of the assessee under section 35(1)(iv) is made first time before DRP as an alternative claim. No concrete evidence is provided to prove that assessee is engaged in scientific research. Even before the AO during remand proceedings assessee has not substantiated the claim.
2.18 Section 35(1)(i) and Section 35(1)(iv) relate to revenue and capital expenditures in conducting scientific research related to a business carried on by the assessee. The reference to “scientific research related to a business” in section 43(4)(iii)(a) is to include the cases of scientific research which may lead to or to facilitate an extension of that business. Section 35 relates to cases where assessee exclusively carries on “scientific research, as business activity and cases where assessee carries on a business as well as scientific research as two distinct activities. Board’s circular No. 281 dated 22.9.1980 states that the deductions u/s 35 are aimed at providing incentives to encourage scientific research in India and to encourage assessee who need the output of scientific research for their business. Hence the activities of the assessee need to be examined in the light of these provision if assessee has a stream of activity called scientific research related to the business carried on by it. Whether the activities of the assessee are in the nature of scientific research or commercial activities in development of new products not amounting to scientific research needs to be addressed as per the provisions of the Act. The assessee has never made any claim for conducting scientific research in the past. The returns of income do not show any claim to that effect. Section 35 is special incentive provision where both revenue and capital expenditure are allowed fully. It is also observed that assessee has not maintained separate books of account relating to the activities of scientific research. ITAT Mumbai, B Bench in the case of M/s Nivo controls Pvt Ltd vs. CIT-1 (ITA No.3533/Mum/20l4 AY 2009-10) held that for claim u/s 35(l)(iv) the assessee is expected to maintain separate books of account. Hence the claim of the assessee cannot be accepted without audited books of account evidencing the expenditure towards scientific research.
2.19 Even otherwise, if the assessee at any stage of its business is of the opinion that it conducting scientific research, then the appropriate course of action u/s 35 read with Rule 5D to apply to Central Government and get the approval of the prescribed authority. In the present case the fresh claim is made by the assessee with regard to conducting scientific research. Hence the burden is on the assessee to refer the matter to the prescribed authority for certificate. The assessee informed the Panel vide letter dated 24/09/2019 that it filed an application for approval from Department of Scientific and Industrial Research (DSIR) for recognition of its in-house development activities under section 35 of the Income Tax Act on 31/03/2015 but no approval is granted till date. Considering the fact that the assessee has applied for recognizing its activities as “scientific research” and DSIR has not granted the approval even after four and half years clearly show that the assessee is not eligible for deduction under Sec 35. Hence this contention of the assessee is rejected.”
6.6 Before us, the Ld A.R reiterated the assessee’s contentions that these expenses are revenue in nature. He submitted that
(i) the assessee is engaged in the business of providing software services, wherein the employee cost is the major portion of the expenditure. All the expenses have been claimed as revenue expenditure in all these years and the said claim has been accepted by the assessing officer.
(ii) The AO has taken the view that the expenses spent on development of certain internal tools titled as “internal intangible assets” by AO should be capitalised. They consisted of Artificial intelligence software named “Wipro Holmes”, other tools named as Wipro Accelerate, Rapids etc. The primary contention of the assessee is that there is no requirement of capitalising any of the salary expenses. Since the AO had taken different view, the assessee also made following alternative plea of allowing depreciation on the amount so capitalised, which was accepted by AO in the draft assessment order. Before Ld DRP, the assessee raised another alternative plea to allow the capital expenditure as deduction u/s 35(1)(iv) of the Act. However, Ld DRP rejected both the alternative pleas, viz., claim for depreciation and also claim for deduction u/s 35(1)(iv) of the Act.
(iii) The Ld A.R submitted that these software products/applications/software tools/platforms, which have been developed are part of its regular business operations and the products used for inhouse only enable enhancing its capabilities and efficiencies in newer technological areas. These are normal research expenses incurred on certain futuristic and disruptive technologies in order to stay competitive and relevant in market place. The assessee has intended to use them in-house and was not meant to exploit it commercially in order to facilitate its business activities. Hence these expenses are revenue expenses only.
(iv) He submitted that the intangible assets (as named by AO) are only tools and solutions deployed along with other IT services to differentiate, facilitate and have effective delivery of services.
(v) Due to fast technological obsolescence in software industry, these products shall have short life only. Hence these products, in practical and real sense, cannot be expected to give enduring benefits to the assessee.
(v) He submitted that these expenses have been incurred to facilitate extension of existing business of Information Technology carried on by the assessee and hence they are revenue in nature.
6.7 The Ld A.R also advanced his arguments on the alternative pleas put forth by the assessee. He submitted that
(i) software development shall fall under the category of ‘applied science’ and hence the tax authorities are not justified in rejecting the contention of the assessee that the assessee has carried out scientific research in applied science and hence, even if the expenses are considered to be capital in nature, it is allowable as deduction u/s 35(1)(iv) of the Act. In this regard, the Ld A.R invited our attention to the detailed submissions made before Ld DRP.
(ii) The Ld A.R submitted that the Ld DRP was not justified in rejecting the claim for allowing depreciation @ 60% on the amount capitalised. He submitted that the AO had allowed deduction of depreciation in the draft assessment order, but the Ld DRP has rejected the claim. He submitted that the AO had taken the view in the draft assessment order that these software/application/tools/platforms are in the nature of ‘software’ eligible for depreciation at higher rate. However, before the Ld DRP, the AO expressed the view in his remand report that these products are to be considered as “internal intangible assets”, which may be eligible for depreciation @ 25%. Thus, there is no clarity in the stand of the AO. The Ld DRP has rejected the claim for depreciation for the reasons that the details of ‘nature of asset created’ and the date on which they are put to use are not available. He submitted that the view so taken by Ld DRP is contrary to the facts discussed in the assessment order and the remand report.
6.8 The Ld D.R, on the contrary, supported the order passed by AO/DRP. He submitted that the assessee has developed many new applications, which are in the nature of intangible assets. Hence the expenses incurred on development of those applications have been rightly capitalised by the AO.
6.9 We heard rival contentions and perused the record. We notice that the primary contention of the assessee is that the expenses incurred by it on development of software/applications/tools/platforms, which were meant to be used for internal purposes, are revenue in nature. These group of products have been titled as “internal intangible assets’ by the AO. We noticed that the AO has, however, taken the view that cost of developing these internal intangible assets are required to be capitalised, as according to him, these internal intangible assets are capital in nature.
6.10 We notice that the assessee has furnished the details relating to the above said applications/tools etc before the AO. In the details furnished before the AO, the assessee has described these items as “Tools/Solutions/Platforms”. The relevant details are available at pages 235 to 240 of paper book filed by the assessee. The break-up details of expenses capitalised by Ld DRP are given below:-
