COMMISSIONER OF INCOME TAX vs. MASTEK LTD.

O/TAXAP/779/2006 JUDGMENT IN THE HIGH COURT OF GUJARAT AT AHMEDABAD TAX APPEAL NO. 779 of 2006 With TAX APPEAL NO. 780 of 2006

FOR APPROVAL AND SIGNATURE:

HONOURABLE MR.JUSTICE KS JHAVERI

and HONOURABLE MR.JUSTICE K.J.THAKER

================================================================ 1 Whether Reporters of Local Papers may be allowed to see the judgment ? 2 To be referred to the Reporter or not ? 3 Whether their Lordships wish to see the fair copy of the judgment ? 4 Whether this case involves a substantial question of law as to the interpretation of the Constitution of India, 1950 or any order made thereunder ? 5 Whether it is to be circulated to the civil judge ? ================================================================ COMMISSIONER OF INCOME TAX....Appellant(s) Versus MASTEK LTD.....Opponent(s) ================================================================ Appearance: MRS MAUNA M BHATT, ADVOCATE for the Appellant(s) No. 1 MRS SWATI SOPARKAR, ADVOCATE for the Opponent(s) No. 1 ================================================================ CORAM: HONOURABLE MR.JUSTICE KS JHAVERI and Page 1 of 7

O/TAXAP/779/2006 JUDGMENT HONOURABLE MR.JUSTICE K.J.THAKER

Date : 20/11/2014

ORAL JUDGMENT (PER : HONOURABLE MR.JUSTICE KS JHAVERI) 1. By way of these appeals, the appellant-Revenue has challenged the judgment and order dated 06.07.2005 passed by the Income-tax Appellate Tribunal, Ahmedabad Bench, in ITA No. 405/Ahd/1999 & 61/Ahd/1999 for assessment year 1995-96. 2. While admitting these appeals on 22.11.2000, this Court has framed the following substantial question of law: “(A) Whether the Appellate Tribunal is right in law and on facts in holding that the activities carried out by the assessee constituted research activity in terms of section 43(4) and therefore the assessee was entitled to deduction of expenditure incurred, capital as well as revenue, Pune centre under section 35(1) (B) Whether before permitting deduction under section 35(1) of the Act to the assessee, the Tribunal ought to have obtained the opinion of the Central Board of Direct Taxes on the question whether the expenditure incurred by the assessee on its project at Pune was for research activities?” Page 2 of 7

O/TAXAP/779/2006 JUDGMENT 3. The facts of the present case are that during the course of assessment proceedings, the respondent claimed huge amount as expenses for research and development u/s 35 of the Act. The assessing officer relying upon the order of previous year disallowed the claim. Commissioner (Appeals) upheld the same. On further appeal the Tribunal reversed the order relying upon its order for the previous year wherein it had held that the activity carried on by the respondent did constitute research u/s 43(4) of the Act. The assessee had also claimed expenses as royalty as it was appointed as distributor in respect of software packages of two companies. The Assessing Officer disallowed the same holding that the same was in a nature of acquisition of know how and not royalty. Against the said order of assessment, the assessee has preferred an appeal before the CIT(A) which was allowed, against which, the Revenue has preferred an appeal before the Tribunal which came to be dismissed and the order of CIT(A) was upheld. Against the said orders of the Tribunal, the Revenue has preferred the present Tax Appeals. 4. Heard the learned advocates appearing for the parties and considered the submissions. An identical issue also came up for consideration before this Court in Tax Appeal No. 242 of 2000 with Tax Appeal No. 243 of 2000 with Tax Appeal No. 263 of 2000, where this Court has observed as under: 26. With above clarity in mind, if we revert back to the case on hand, the Tribunal allowed the assessee's appeal primarily on two grounds. Firstly, the Tribunal was of the opinion that the assessee had placed sufficient material to establish that a new product was developed through scientific research. The expenditure Page 3 of 7

O/TAXAP/779/2006 JUDGMENT incurred for such purpose was, therefore, allowable deduction under section 35(1) of the Act. The second ground on which the Tribunal accepted the assessee's case was that under section 35(1) of the Act, the Assessing Officer could not have rejected such a claim without making a reference to the Board. 27. Insofar as the first aspect of the matter is concerned, we are of the opinion that the Tribunal without discussing full materials on record, came to such conclusion which, in our opinion, ought not to have been done. These are matters of extreme scientific complexities. What was the nature of the research undertaken, what was the improvement in the existing software aimed at or desired, whether ultimately the product which was launched by the assessee after undertaking such so called scientific research, was a new product substantially different from the existing one or not were some of the issues on which the Tribunal, in our humble opinion, without bestowing sufficient attention ruled in favour of the assessee. We may caution that such issues of extreme scientific complexities, should not be decided without referring to the full materials on record and appreciating the complexities of the issue on hand. In our opinion, simply accepting one view over the other without fully grasping the complexities would be hazardous in a given situation. 28. We are, however, of the opinion that insofar as the second aspect of the matter is concerned, the Tribunal was perfectly justified in holding in favour of the assessee. Section 35(3) of the Act as noticed requires a reference to be made by the Board to the prescribed authority when a question arises as to whether and if so to what extent, any activity constitutes or constituted or any asset is or was being used for scientific research. The decision of the prescribed authority on such a question would be final. In our opinion, therefore, whenever any such question arises, the Assessing Officer cannot decide the issue but must place the issue before the Board who, in terms of section 35(3) of the Act, would refer the question to the prescribed authority. The decision of the prescribed authority would govern the parties. Therefore, if an assessee puts forth a claim of deduction under section 35(1) for expenditure incurred on scientific research and if the Assessing Officer is not inclined to accept such a claim, the question can be stated to have arisen. In such a Page 4 of 7

O/TAXAP/779/2006 JUDGMENT situation, the Assessing Officer cannot take a decision but must seek the opinion of the prescribed authority, We may hasten to add that only when such a question arises that the reference would be competent. For example, if in a given case, the assessee lodges a claim without any supporting material, it cannot be stated that the question has arisen which would require a reference by the Board. Similarly, if the Assessing Officer accepts the claim of the assessee, no such question can be stated to have arisen. We are, however, unable to accept Shri Bhatt's contention that such a question would arise only when the assessment is finally framed and that thereafter the onus would be on the assessee to seek a reference. No such intention is emerging from section 35(3) of the Act. Whenever an Assessing Officer is not inclined to accept the assessee's case for deduction, we fail to see how at that very stage, the question cannot be stated to have arisen. 29. In the view that we have taken, we are supported by the decisions of three High Courts namely, the decision of Allahabad High Court in the case of J.K. Synthetics Ltd. vs. O.S. Bajpai, Income-Tax Officer, Central Circle V, Kanpur and Another (supra), Punjab & Haryana High Court in the case of Commissioner of Income-Tax vs. F.C.S. International Marketing P. Ltd. (supra) and Delhi High Court in the case of Commissioner of Income-Tax vs. Deltron Ltd. (supra). We are conscious that the Himachal Pradesh High Court in the case of Commissioner of Income-Tax vs. Engineering Innovation Ltd. (supra) has taken a somewhat different view. We are unable to persuade ourselves to accept the reasoning of the Himachal Pradesh High Court. The High Court was of the opinion that neither section 35(3) of the Act nor any other provision under the Act or the rules empowers the revenue authorities to refer the matter to the Board. We are of the opinion that the very scheme of section 35(3) of the Act would require a revenue authority whenever a question arises as to whether the expenditure was incurred for scientific research or not before the Board who, as provided under section 35(3) of the Act, would have to refer the issue for the decision of the prescribed authority. In such a case, the revenue authority is not making a reference to the Board but is only placing the issue at the disposal of the Board to act in terms of section 35(3) of the Act to make a reference to the prescribed authority. It is undoubtedly true that Page 5 of 7

O/TAXAP/779/2006 JUDGMENT the power of making such a reference lies with the Board and not with the revenue authorities, however, the act of the revenue authorities to place such an issue before the Board for making a reference cannot be seen as a reference made directly by the revenue authority. 30. The Assessing Officer not having obtained such a decision of the prescribed authority though a serious question in the present case had arisen, in our opinion, was not justified in rejecting the assessee's claim for deduction of expenditure incurred for scientific research. The Tribunal in this regard, in our view, came to a correct conclusion. 31. The last question that survives is whether at this stage should we permit the revenue to seek such a reference and the opinion of the prescribed authority. In the facts of the present case, we are not inclined to accept any such request for the following reasons. Firstly, at no stage, right up to the Tribunal and even during the pendency of these appeals before the High Court, any such attempt was made by the revenue. Secondly, in the meantime, more than 20 years have passed since the assessee incurred the expenditure. Expecting the assessee to now produce minute details of the research activity undertaken would be unreasonable. Thirdly, that the Commissioner held that a substantial portion of such expenditure was in any case of revenue nature and in respect of the provision of section 37(1) of the Act, the assessee was entitled to claim full deduction thereof. We have noticed that such conclusion of the Commissioner was not disturbed by the Tribunal though the revenue had specifically preferred an appeal in this respect. Against non- entertaining of such appeal, further appeals by the revenue also came to be dismissed by this court. No useful purpose would, therefore, be served in permitting reopening of the entire issue at this distant point of time. 32. In the result, we answer the question No.A by holding that the Tribunal itself ought not to have decided this question without the opinion of the prescribed authority, particularly without full discussion on the materials on record. The question No.B is answered by holding that the reference ought to have been sought by the revenue before the Board to the prescribed authority and not having done so, the Tribunal was justified in reversing the orders of the Page 6 of 7

O/TAXAP/779/2006 JUDGMENT revenue authorities rejecting the assessee's claim for deduction.” 5. In that view of the matter, no elaborate reasons are required and we answer the question in favour of the assessee and against the Revenue. Accordingly, we answer question No. A by holding that the Tribunal itself ought not to have decided this question without the opinion of the prescribed authority, particularly without full discussion on the materials on record. Question No. B is answered by holding that the reference ought to have been sought by the revenue before the Board to the prescribed authority and not having done so, the Tribunal was justified in reversing the orders of the revenue authorities rejecting the assessee's claim for deduction. The present Tax Appeals are dismissed accordingly. (K.S.JHAVERI, J.) (K.J.THAKER, J) divya Page 7 of 7