DCIT CIRCLE 2(3)(1), MUMBAI vs. TECH MAHINDRA BPO LIMITED (NOW MERGED WITH TECH MAHINDRA LIMITED), MUMBAI

The brief facts of the case are that the assessee, M/s. Tech Mahindra BPO Limited, formerly known as M/s. Satyam BPO Limited, is engaged in the business of providing IT enabled services. The assessee filed its return of income for A.Y. 2006-07 on 23.11.2006 declaring a loss of ₹22,91,59,918/-. The Assessing Officer selected the case for scrutiny and completed the assessment under section 143(3) of the Income-tax Act, 1961 (“the Act”) on 24.12.2008.

During the assessment proceedings, the Assessing Officer examined the assessee's claim of recruitment and training expenditure of ₹1,65,50,133/-. The assessee submitted that the expenditure consisted of recruitment expenses of ₹1,13,38,739/-, travel recruitment expenses of ₹44,25,046/- and training expenses of ₹7,48,469/-. The Assessing Officer, however, was of the view that the benefit of such expenditure went beyond the relevant year since the trained employees continued to render services to the assessee. The Assessing Officer further observed that skilled employees in the software field contributed to the assessee's profit earning capacity. On this basis, the Assessing Officer treated the expenditure as capital in nature and allowed depreciation at 15%.

The Assessing Officer also examined communication expenses of ₹17,93,41,020/-, being internet access charges, satellite link charges and telephone expenses. According to the Assessing Officer, these facilities gave the assessee an enduring benefit. He therefore treated the expenditure as capital in nature and allowed depreciation at 15%.

The Assessing Officer further noticed that the assessee had reimbursed ₹61,85,533/- to its holding company, M/s. Satyam Computer Services Limited, towards landline charges, medical claims, communication expenses and other expenditure incurred by the holding company on behalf of the assessee. The Assessing Officer treated these payments as arising out of a deemed contractual obligation and held that tax was required to be deducted under section 194C of the Act. Since no such deduction was shown, he disallowed the amount under section 40(a)(ia) of the Act.

The Assessing Officer also made certain other additions with respect to software expenses, provision for doubtful debts and transfer of land. Since the learned CIT(A) confirmed those additions and the Department has not challenged that part of the appellate order before us, we do not consider it necessary to discuss those issues in detail.

Aggrieved by the assessment order, the assessee preferred an appeal before the learned CIT(A).

The Department is in appeal before us against the relief granted by the learned CIT(A).

We have heard the rival submissions and perused the assessment order, the order of the learned CIT(A) and the material available on record.

Ground Nos. 1 and 2 are with respect to the deletion of the addition of ₹1,65,50,133/- towards recruitment and training expenditure. The Department has challenged the finding of the learned CIT(A) on the ground that recruitment and training of skilled manpower gave the assessee an enduring benefit and a long-term business advantage.

We are unable to accept this contention. The Assessing Officer treated the expenditure as capital mainly because the trained employees continued to work for the assessee and contributed to its business over a period of time. In our view, this reasoning cannot by itself justify capitalisation of the expenditure.

An employee does not become a capital asset of the employer merely because the employer incurs expenditure on recruitment or training. The assessee does not acquire ownership over the employee, nor does it acquire any transferable asset by incurring such expenditure. Recruitment and training are part of the normal process of carrying on a business, particularly in an IT enabled service industry where hiring, replacement and training of personnel are recurring requirements. The fact that the benefit of training may continue for some time does not by itself make the expenditure capital in nature. What is to be seen is whether the expenditure brings into existence an asset or an advantage in the capital field. The Assessing Officer has not identified any such asset in the present case. The expenditure was incurred for obtaining and maintaining the manpower required for the assessee's existing business operations. We therefore agree with the learned CIT(A) that the Assessing Officer was not justified in treating the employees as capital assets and capitalising the expenditure incurred on their recruitment and training. We find no infirmity in the order of the learned CIT(A) deleting the addition of ₹1,65,50,133/-. Accordingly, Ground Nos. 1 and 2 raised by the Department are dismissed.

Ground Nos. 3 and 4 are with respect to the communication expenses of ₹17,93,41,020/-. The Ld. DR has contended that the expenditure on internet access, satellite links and other communication facilities provided an enduring benefit and formed part of the communication infrastructure essential to the assessee's business.

We do not find merit in this contention either. The details recorded in the assessment order show that the expenditure consisted mainly of internet access charges, satellite link charges and telephone expenses. These are payments made for availing communication services. By making such payments, the assessee did not acquire ownership of any satellite network, telecommunication system, internet infrastructure or other capital asset.

Merely because the communication facilities are important for the assessee's business does not make the expenditure capital in nature. What is required to be seen is the nature of the benefit obtained. In the present case, the assessee paid for communication services used in its day-to-day business.

The Assessing Officer has not shown that the assessee acquired any proprietary interest in the underlying communication infrastructure. He has also not disputed the genuineness of the expenditure. His objection was confined to the question whether the expenditure was revenue or capital in nature.

In these facts, we agree with the learned CIT(A) that the internet access charges, satellite link charges and telephone expenses were incurred for services consumed in the course of the assessee's business and did not result in creation of a capital asset. We therefore find no reason to interfere with the findings of the learned CIT(A). Accordingly, Ground Nos. 3 and 4 raised by the Department are dismissed.

Ground Nos. 5, 6 and 7 are with respect to the deletion of the disallowance of ₹61,85,533/- under section 40(a)(ia) of the Act. The Assessing Officer observed that the assessee reimbursed its holding company for landline charges, medical claims, communication expenses and other expenditure which the holding company had incurred on behalf of the assessee. He nevertheless held that these payments had arisen from a deemed contractual obligation and therefore attracted section 194C of the Act.

We find that the Assessing Officer has not explained how the requirements of section 194C of the Act were satisfied in the present case. He has not identified any specific contract under which the holding company agreed to carry out any work for the assessee. He has also not brought any material on record to show that the amount of ₹61,85,533/- was towards consideration paid to the holding company for execution of any work.

On the contrary, the Assessing Officer himself described the payments as reimbursement of expenses incurred by the holding company on behalf of the assessee. In such a situation, it was necessary for the Assessing Officer to show either that there was an income element embedded in the reimbursement or that the holding company had rendered services falling within the scope of section 194C of the Act for which the amount represented consideration. No such finding has been recorded in the assessment order.

The Assessing Officer has merely referred to a "deemed contractual obligation". In our view, such a general observation is not sufficient to attract section 194C. Before making a disallowance under section 40(a)(ia), the Assessing Officer was required to first establish the provision under which tax was deductible and the basis on which the payment fell within that provision.

The Department has argued in Ground No. 6 that there was a contractual or implied contractual arrangement between the assessee and its holding company. However, no specific material has been pointed out before us to show that the holding company carried out any work for the assessee within the meaning of section 194C of the Act. The mere fact that one group company initially incurs expenditure on behalf of another group company and thereafter recovers the same does not, by itself, establish a contractor-contractee relationship.

As regards Ground No. 7, the Department has objected to the observation of the learned CIT(A) that reimbursement was in the nature of a loan. We agree that a reimbursement and a loan are different in character. However, this observation does not affect the conclusion reached by the learned CIT(A). The real issue is whether the amount reimbursed was income in the hands of the holding company or consideration for carrying out any work so as to attract section 194C. The Assessing Officer has not established either of these conditions.

We therefore agree with the conclusion of the learned CIT(A) that the Assessing Officer was not justified in invoking section 194C and consequently section 40(a)(ia) of the Act merely because the assessee reimbursed expenses to its holding company. We find no infirmity in the deletion of the disallowance of ₹61,85,533/-. Accordingly, Ground Nos. 5, 6 and 7 raised by the Department are dismissed.

Ground No. 8 is general in nature and does not require separate adjudication.

In view of the above discussion, we find no reason to interfere with the order of the learned CIT(A) on any of the issues challenged by the Department.

In the result, the appeal filed by the Department is dismissed.