HEWLETT PACKARD (INDIA) SOFTWARE OPERATION PRIVATE LIMITED,BANGALORE vs. THE DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE-3(1)(1), BANGALORE

PER CHANDRA POOJARI, ACCOUNTANT MEMBER:

This appeal by the assessee is directed against the final assessment order passed by the Deputy Commissioner of Income- tax, TP Circle-1(3)(1) dated 28.01.2021 u/s 92CA(3) of the Income- tax Act,1961 ['the Act' for short]. The assessee has raised following grounds of appeal:-

“GROUNDS OF APPEAL 1. Erroneous disallowance with respect to expenditure on ESOP under section 37 of the Act – INR 41,93,89,636

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Page 2 of 32 1.1. The NFAC and Honorable DRP have erred in law and on facts, in disallowing the expenditure on ESOP of INR 41,93,89,636 under section 37 of the Act without appreciating the submissions furnished by the Appellant.

1.2. The NFAC and Honorable DRP have erred in law, in disregarding the decision of the jurisdictional Karnataka High Court in the case of Biocon Limited, [2020] 121 taxmann.com 351 (Kar.), and Bangalore Tribunal in the case of Northern Operating Services Private Limited [IT(TP)A No.759/Bang/2017] and Novo Nordisk, [2014] 42 taxmann.com 168 wherein it was held that discount on issuance of ESOP is an allowable business expenditure under section 37 of the Act.

1.3. The NFAC and Honorable DRP have erred in law and on facts by stating that there is no outflow of money resulting in an expense. Whereas the fact is that there is a clear outflow of economic resources/cash in the hands of the Appellant, which is wholly and exclusively used for the purpose of business in India.

1.4. The NFAC and Honorable DRP have erred in law and on facts by not appreciating that the difference between the market value and the purchase price of shares is being taxed as perquisite in the hands of the employees.

1.5. The NFAC and Honorable DRP have erred in law and on facts, in disregarding the sample debit note / invoices, full employee listing, sample Form 16 copies, submitted during the DRP proceedings by the Appellant.

1.6. The NFAC and Honorable DRP have erred in law and on facts, in considering the ESOP expenditure as fictitious expenditure and making false allegation that the ESOP expenditure is a colorable device adopted for avoidance of tax, which is totally inappropriate and misdirected. Further, the NFAC and Honorable DRP have considered the ESOP cross charge by the Ultimate holding company as fictional and notional in nature which is totally misplaced.

1.7. The Honorable DRP has erred in law and on facts by placing reliance on the case laws decided in different context, and not applicable to the facts of the Appellant.

1.8. The Honorable DRP has erred in law and on facts by stating that there is uncertainty with respect to incurrence of ESOP without appreciating the fact that the ESOP expenditure is actual expense incurred by the Appellant, based on actual invoices issued and actual payments made.

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Page 3 of 32 Non-Applicability of section 195 of the Act

1.9. The NFAC has erred in law and on facts by disregarding that the ESOP expenditure is liable to withholding tax under section 192 of the Act as ‘perquisite’ in the hands of the employees, and appropriate taxes were deducted and remitted by the Appellant, which is evidenced by sample Form 16 copies furnished before the honorable AO and DRP.

1.10. The NFAC / DRP has erred in law and on facts by stating that the provisions of section 195 of the Act shall be applicable on the remittance of reimbursement towards ESOP, without taking cognizance of the fact that there was no ‘income’ element arising to the recipient from such remittances.

1.11. The NFAC has erred in law and on facts by stating that the provisions of section 195 of the Act have not been complied with, and consequently reimbursement towards ESOP shall suffer disallowance under section 40(a)(i) of the Act, without evaluating the fact that the provisions of section 195 of the Act are not applicable to such remittances.

1.12. The NFAC has erred in law and on facts by relying on decision of Danfoss Industries P Ltd (2004) 268 ITR 1 pronounced by the Hon’ble Authority for Advance Ruling (‘AAR’). The transaction covered by the said decision is very different on facts as compared to that of the Appellant. Hence, the ruling cannot be applied in the Appellant’s case.

1.13. The NFAC has erred in law and on facts, in disregarding that the remittance towards ESOP cross charges is not taxable under the provisions of India- USA Double Taxation Avoidance Agreement.

The NFAC has erred in law and on facts by contending that the said ESOP cross charge is liable to TDS under section 192 of the Act as perquisite in the hands of the employees and same is also liable to TDS under section 195 of the Act on the reimbursement to the Ultimate Holding Company thereby resulting in double taxation of same amount.

1.15. The NFAC has erred in law and on facts by contradicting its own statement by stating that in one hand there is an element of income included in the reimbursement made to the Ultimate Holding Company for the expenditure on ESOP whereas on the other hand the learned AO states that the said expenditure is notional/fictitious in nature.

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Page 4 of 32 2. Claim towards payment of leave encashment of INR 4,39,31,243 2.1. The NFAC and DRP have erred in law and on facts, in not granting deduction in respect of amount paid towards leave encashment of INR 4,39,31,243 during the AY 2017-18 under the provision of section 43B(f) of the Act after denial of Appellant’s claim of provision for leave encashment on accrual basis for AY 2011-12, AY 2012-13 and AY 2013-14.

2.2. The NFAC and DRP have erred in law and on facts, in not appreciating the fact that the Appellant was eligible for the deduction towards leave encashment actually paid (even though the same was not claimed in the ROI filed by the Company for AY 2017-18) given that the claim of deduction of provision for leave encashment made in AY 2011-12, AY 2012-13 and AY 2013-14 (on accrual basis) based on the decision of Hon’ble Calcutta High Court in the case of Exide Industries Limited v. Union of India [2007][164 taxman 9], was subsequently rejected.

3.1 The NFAC and DRP while assessing the total income of the Appellant for the year under consideration, have erred in not allowing a deduction for education cess and secondary & higher education cess (collectively known as “education cess”), although not claimed as a deduction by the Appellant in the ROI amounting to INR 2,83,55,533.

3.2 The NFAC erred in not considering the Hon’ble DRP’s directions and not allowing the tax credits (TDS, advance tax and self-assessment tax) pertaining to erstwhile Aruba India (Merged Entity) amounting to INR 15,67,10,007.

3.3 The NFAC erred in granting credit for TCS amounting to INR 75,520 while computing the tax liability / refund as against INR 1,03,250 claimed by the Company in the ROI, thereby resulting in short credit of TCS to the extent of INR 28,000.

3.4 The NFAC erred in not considering the Hon’ble DRP’s direction and not allowing the claim of consequential depreciation on software expenses (disallowed by the AO in the earlier years considering the same as capital in nature) amounting to INR 3,970,944.

3.5 The NFAC erred in levying interest under section 234B of the Act amounting to INR 15,95,29,740.

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Page 5 of 32 3.6 The NFAC erred in the levying interest under section 234C of the Act on the assessed income instead of considering the returned income thereby levying an excess interest of INR 31,47,067.

4 Penalty proceedings under section 270A of the Act

a) The NFAC has erred in initiating penalty proceedings under section 270A of the Act.

b) The NFAC failed to appreciate the that a mere difference of opinion between the Taxpayer and the Revenue would not amount to under- reporting of income.

c) The NFAC failed to appreciate the fact that the additions made in the assessment are on items, which are sub-judice, and hence, no penalty can be levied on such contentious adjustments.”

“1.1 The NFAC and Honorable DRP have erred in law and on facts, in disallowing the expenditure on ESOP of INR 41,93,89,636 under section 37 of the Act without appreciating the submissions furnished by the Appellant.

. 1.9 The NFAC has erred in law and on facts by disregarding that the ESOP expenditure is liable to withholding tax under section 192 of the Act as ‘perquisite’ in the hands of the employees, and appropriate taxes were deducted and remitted by the Appellant, which is evidenced by sample Form 16 copies furnished before the honorable AO and DRP.”

2.1 The Ld. A.R. submitted that during the assessment proceedings for the subject AY 2016-17, the Learned AO had sought certain details in respect of Employee Stock Option Plan ("ESOP") cross-charges incurred by the Company, based on the disclosures made in the financial statements. During the proceedings, the AO had specifically sought responses to following questions:

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Page 6 of 32 "A. Expenses incurred on remittance made to non-residents and whether section 195 of the Act, has been complied with?

B. In respect of ESOP cross-charges incurred by the assesse company, furnish a detailed note on modus operandi of ESOP calculation and vesting period option exercised by the employees and whether section 195 is applicable”

2.2 In response to the above the Company had furnished its response vide submission dated 06 December 2019, explaining the reasons why Tax Deduction at Source ("TDS") provisions are not applicable on the subject cross- charges, which are on cost-to-cost basis.

2.3 However, in the DAO the learned AO proceeded to make adjustments under section 37 of the Income-tax Act, 1961 ("the Act") (without providing the Company any opportunity to explain allowability of expenditure), while the AO also noted his observation on non-deduction of TDS under Section 195 of Act, in the DAO.

2.4 Ld. A.R. highlighted that the questions sought by the learned AO in the notice were pertaining to applicability of TDS provisions, but the AO proceeded to make adjustment under section 37 of the Act in the DAO. In view of the above, Ld. A.R. in the paragraphs below provided detailed submission explaining the reasons for which the addition proposed by the learned AO needs to be dropped –

Background

2.5 Ld. A.R. submitted that the employees of the Company are eligible to participate in Share based compensation schemes of the Ultimate Holding Company,

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Page 7 of 32 wherein the shares of Ultimate Holding Company are granted to employees of the Company on satisfying certain conditions.

2.6 As per the note 25 of the financial statements, the Company has two types of share based compensation scheme operational, namely - Employee Stock Purchase Plan ("ESPP") and Employee Stock Incentive Plan ("ESIP") (hereinafter collectively referred as 'ESOP schemes').

Brief note on the schemes 2.7 Ld. A.R. submitted that as explained in the notes to accounts, under the ESOP schemes the employees are eligible to purchase/get the shares of Ultimate Holding Company (through ESPP/ESIP scheme). The shares of ultimate Holding Company are issued under these schemes, as HPISO is not a listed entity and its shares are not traded in open market.

2.8 A.R’s submissions on ESPP scheme :-

• The ESPP scheme provide an opportunity for Employees of HPISO to purchase share of Ultimate Holding Company at defined concessional price and thereby to have an additional incentive.

• Employees' are eligible to participate in this scheme and option is given to the employees to purchase defined number of shares at concessional price by way of exercising the options. The difference between the purchase price and market price of shares is cross-charged by the Ultimate holding Company to HPISO.

• In this regard, Ld. A.R. has referred to copy of the cost reimbursement agreement entered by the Company with

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Page 8 of 32 the Ultimate Holding Company. Para 2.3(b) of the agreement provides that the said expenses shall be that of HPISO as the same is incurred in respect of shares granted to the employees of HPISO. Accordingly, the same is considered as expenses relating to HPISO's employees and debited to profit and loss account of HPISO. Further, such cross charges are considered as a part of salary income of the concerned employees of HPISO, based on perquisite valuation rules and accordingly taxed in their hands.

The stock options vest to employees and become exercisable • according to the vesting schedule.

• Illustration/Mechanism

Particulars Refer Amount Market Price A 30 Exercise Price/Purchase price for the B 20 employee No of shares allotted C 1500 ESOP expenses cross-charged to HPISO 15,000 [1500*(30-20)]

He submitted that the cross-charges to HPISO is in respect of actual cost incurred towards options exercised and shares purchased by employees of HPISO.

AR’s submissions on ESIP Scheme

2.9 ESIP schemes provides for various incentives. In India, employees of HPISO are eligible to receive stock awards (in the form of Restricted Stock Units, hereinafter referred to as

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Page 9 of 32 "RSU") and stock options. The rewards under the stock options and RSU, are explained by the Ld. A.R. in the paragraphs below

• RSU represents Restricted Stock Unit. As per the scheme, upon completion of vesting period, the employees will be eligible to receive reward in the form of shares. HPE grants RSUs at no cost to the employees. The value of the RSU shall be the market price of stock multiplied by the number of shares, which the employee is eligible to receive.

• Stock options represents options, which provide employees the right to purchase Shares in future at a specified price (the grant price) set on the grant date. The mechanism and illustration similar to ESPP scheme shall apply under stock option plan.

• The interest of the employee (i.e., shares) in the RSUs/stock options shall vest according to the vesting schedule (say 1/3 each year over a period of three years).

• Illustration/Mechanism for RSU

Particulars Refer Year 1 Year 2 Year 3 Market Price A 30 32 35 B - - - Exercise Price/Purchase price for the employee No of shares allotted C 500 500 500 15,000 16,000 17,500 ESOP expenses cross- [500*30] [500*32] [500*35] charged to HPISO

• The cost of such shares granted by the Ultimate Holding Company, to the eligible employees of HPISO under this

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Page 10 of 32 scheme are cross-charged to HPISO by Ultimate Holding Company. The cross-charged amount is the expense incurred by HPISO and debited to its Profit and Loss account under the head Employee benefit expenses. The ESOP expenses in hands of HPISO is considered as a part of salary Income for the employees based on perquisite valuation rules.

HPE global ESIP plan document along with sample RSU • Grant agreement and Stock Option Award Agreement are enclosed as Annexure 3, Annexure 4A and 4B respectively. Additionally, the cross-reimbursements agreement enclosed as Annexure 2, shall apply in respect of cross charges of expenses by Ultimate Holding Company to HPISO.

ESOP schemes - Administration and Management

2.10 Ld. A.R submitted that as explained in the earlier paragraphs, the shares pertaining to Ultimate Holding Company are granted to eligible employees of HPISO under the above ESOP schemes. In this regard, Ld. A.R. submitted the following-

• The ESOP schemes are managed and administered by the Ultimate Holding Company for all the employees across HPE group entities.

• Employees of the Company are eligible to participate in these ESOP schemes, and accordingly, shares are granted based on their performance and certain other parameters.

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Page 11 of 32 • HPISO recommends the list of eligible employees to the ESOP Committee, based on employee performance and the other parameters.

• Ultimate Holding Company's responsibility is limited to grant of these shares to employees of HPISO as the shares are listed in stock exchange in USA. HPISO will handle all the paperwork, collection of options, providing eligible list of employees with number of shares to be granted, perquisite computation for the employees, TDS computation on perquisite and remittance thereof, etc. as the actual beneficiary of such shares are the employees of HPISO.

2.11 In connection with the above, Ld. A.R. submitted that the differential price/full price of the shares granted under these schemes are considered as a part of 'perquisite' taxable in the hands of employees under section 17(2) of the Act. Accordingly, the Company has deducted appropriate TDS under section 192 of the Act.

ESOP Cross-charqes represents actual cost to HPISO

2.12 Ld. A.R. submitted that the ESOP cross-charges incurred by the Company represents the actual expenditure incurred by the Company. The remittance made towards such cross charges are in fact in the nature of incentives/compensation paid to the employees of HPISO, who form part of its business and are involved in carrying out day- to-day business operations/management. To substantiate the above, he has referred to the following enclosures -

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Page 12 of 32 • Details of shares granted to employees in respect of which cost is recovered by Ultimate Holding Company from HPISO (enclosed as Annexure 6);

• Sample debit note/invoices in respect of which remittance is made towards ESOP charges during the year (enclosed as Annexure 7);

• Copy of the cost reimbursement agreement (enclosed as Annexure 2);

• Sample Form 16 evidencing that ESOP considered as taxable perquisite in the hands of the employees and included in their taxable salary and deduction of TDS on the taxable salary including the ESOP perquisite value as granted to the employees • ESPP scheme document, ESIP scheme document and sample RSU agreement are enclosed as Annexure 1, Annexure 3 and Annexure 4A respectively.

2.13 From the above, it is evident that the ESOP charges incurred by the Company represents actual expenditure and therefore question of the same being notional in nature, as alleged by the learned AO, does not arise in the subject case.

2.14 Ld. A.R. in the paragraphs below provided detailed submission on the deductibility of ESOP charges and the reasons for which provisions of TDS under section 195 of the Act are not applicable.

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Page 13 of 32 ESOP cross-charges are deductible under Section 37(1) of the Act

2.15 Ld. A.R. submitted that as indicated earlier, the ESOP cross-charges represents the actual expenditure incurred by the Company in respect of its employees, who form part of the Company's business and are involved in carrying out day-to- day business operations/management. The said expenses are incurred wholly and exclusively for the business of the Company and therefore, eligible for deduction under section 37 of the Act.

2.16 These expenses are nothing but compensation paid to employees of HPISO and accordingly, taxed in the hands of employees as 'Perquisites'. The disallowance of these expenses under section 37 of the Act would imply the compensation paid to its employees is not allowable under section 37 of the Act.

2.17 Provision of section 37(1) of the Act inter alia provides that "any expenditure laid out or expended wholly and exclusively for the purposes of the business or profession, not being in the nature of capital expenditure or personal expenses, shall be eligible for deduction in computation of total income".

In the subject case, Ld. A.R. submitted as under:

• The ESOP schemes for stock options enables in attracting and retaining the employees of the Company, resulting in better performance of the Company's business operations. The scheme is designed primarily to incentivise and for retaining the employees and thereby earn more revenue

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Page 14 of 32 by securing consistent and concentrated efforts of dedicated employees. • Further, the share based compensation under the ESOP scheme is construed both by the employees and the Company as a part of employment remuneration package, which is an expenditure inextricably linked to the business of the Company. • On similar facts, Income-tax Appellate Tribunal ("Tribunal"), Bangalore in the case of Nova Nordisk India Private Limited (ITA NO 1275/Bang/2011) (copy enclosed as Annexure 8) has held that ESOP expenditure incurred is deductible under Section 37(1) of the Act. • In the cited case, the Tribunal was dealing with the expenditure incurred on ESOP schemes (managed by the Holding Company) and expenditure was in respect of employees of Indian Company. The Tribunal held that the ESOP expenditure was wholly and exclusively for the purpose of the business of the Indian Company and had to be allowed as deduction as a revenue expenditure. Relevant extract of the decision is provided below - • "We fail to see any basis for the observation of the CIT(A) that the obligation to issue shares at a discounted price to the employees of the Assessee was that of the foreign parent company and not that of the Assessee. Admittedly, the shares were issued to employees of the Assessee and it is the Assessee who has to bear the difference in cost of the shares. The expenditure is necessary for the Assessee to retain a healthy work force. Business expediency required that the Assessee incur such costs. The parent company will be benefitted indirectly by such a motivated work force. This will be no ground to deny the deduction of a legitimate business expenditure to the Assessee as laid down by the Hon'ble Supreme Court in the case of Sassoon J.David (supra)” • In addition, Ld. A.R. placed reliance on the decision of the Bangalore ITAT (Special Bench) in the case of Biocon Ltd.

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Page 15 of 32 Vs. DCIT [2013] 25 ITR(T) 602, wherein the Tribunal has held as under • "It follows that the discount on premium under ESOP is simply one of the modes of compensating the employees for their services and is a part of their remuneration. Thus, the contention of the Id. DR that by issuing shares to employees at a discounted premium, the company got a lower capital receipt, is bereft of an force. The sole object of issuing shares to employees at a discounted premium is to compensate them for the continuity of their services to the company. By no stretch of imagination, we can describe such discount as either a short capital receipt or a capital expenditure. It is nothing but the employees cost incurred by the company. The substance of this transaction is disbursing compensation to the employees for their services, for which the form of issuing shares at a discounted premium is adopted."

2.18 In addition to the above, he stated that various Courts have also upheld deductibility of ESOP expenses in the following cases:

ING Vysya Bank Ltd. Vs: ACIT [2014] 39 ITR(T) 250 (Bangalore ITAT) Sterlite Technologies Ltd (ITA No.4841/Mum/2013) (Mumbai ITAT) CERA Sanitaryware Ltd (ITA No.2817/Ahd/2011) (Ahmedabad ITAT) Aditya Birla Nuvo Ltd (ITA No.3178/M/2012) (Mumbai ITAT) − HDFC Bank Ltd (ITA No.374/Mum/2012) (Mumbai ITAT) − Inox Leisure Ltd (ITA Nos.374 & 523/AHD/2012) (Ahmedabad ITAT) − Korn Ferry International Pvt Ltd (ITAs No.5152/Mum/2012) (Mumbai ITAT) Sandvik Asia Pvt Ltd (ITA Nos.1841 & 1842/PN/2012) (Pune ITAT) Religare Commodities Limited (ITA No.2283/Del/2013 and ITA No.3634/Del/2014)(Delhi ITAT) − DCIT vs Kotak Mahindra (IT APPEAL NO. 698 (MUM.) OF 2016)(Mumbai ITAT) − CIT v. Lemon Tree Hotels Ltd. [IT Appeal No. 107 of 2015, dated 18-8-2015] − CIT v. PVP Ventures Ltd. [2012] 23 taxmann.com 286/211 Taxman 554 (Mad.)

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Page 16 of 32 2.19 Therefore, Ld. A.R. submitted that it is amply clear that cross-charges towards ESOP scheme is an expenditure incurred by the Company wholly and exclusively towards its business.

Expenditure incurred is not notional expense

2.20 Ld. A.R. stated that as explained in the earlier paragraphs, the expenditure incurred on ESOP cross-charges represents actual expenses, evidenced from the invoices, employee listing, actual remittances made by the Company and other documentary evidences;

2.21 In fact, the Company has deducted appropriate TDS under section 192 of the Act on the ESOPs granted to the employees (as evidenced by sample Form 16 enclosed). Therefore, the question of the said expenditure being notional in nature does not arise;

2.22 Additionally, in the decisions referred above, it has been clearly emphasized that ESOP cost represents actual expenditure and not notional in nature. Therefore, the expenditure is eligible for deduction under section 37 of the Act.

2.23 Given the expenditure incurred in the subject case is towards employees of the Company, the question of the same being in nature of 'personal' does not arise.

Expenditure is not capital in nature

2.24 Ld. A.R. stated that ESOP schemes designed are primarily to incentivize better performing employees and thereby earn more revenue by securing consistent and concentrated efforts of dedicated employees. The schemes designed are not

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Page 17 of 32 with an intention to increase the capital needs of the Company. The shares granted to employees are the shares listed and traded in stock exchange at USA.

2.25 The compensation paid to the employees in the form of ESOPs is revenue in nature and no asset of enduring nature is coming into existence. The decisions referred above also emphasize the said fact that expenditure incurred is in the nature of revenue expenditure.

2.26 Accordingly, Ld. A.R. submitted that said expense should be deductible in the hands of the employer. Additionally, Ld. A.R. submitted that the treatment cannot be different in the hands of the employee and in the hands of employer. Share based compensation under ESOP schemes is taxable in the hands of employees as "perquisite" under Salary income and TDS provision are applicable on such payment.

2.27 In view of the above, he submitted that the incurrence of expenditure towards ESOP for employees is a clear and explicit expenditure incurred for the employees and directly affects the performance of employees, which in-turn is critical for the Company's business and its long-term growth. Accordingly, we wish to submit that the expenditure incurred is deductible under section 37(1) of the Act.

2.28 While the learned AO failed to evaluate the facts of the case and made an unwarranted disallowance by wrongful application of section 37(1) of the Act. The learned AO had also erred in stating that the subject cross-charges were subject to withholding under Section 195 of the Act. In the paragraphs

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Page 18 of 32 below, the Company submitted its contention against the application of section 195 of the Act.

Provisions of section 195 of the Act shall not apply

2.29 At the outset, Ld. A.R. reiterated that the Company has deducted appropriate TDS under section 192 of the Act in respect of share based compensation under ESOP schemes, as 'perquisites' under section 17 of the Act. Accordingly, it is submitted that the ESOP cross charges are subject to TDS provisions under section 192 of the Act and the same is in accordance with the Circular No. 17/2014 issued by the Central Board of Direct taxes for computation of taxable income of employees.

2.30 Without prejudice to the above, Ld. A.R. submitted the following:-

• As mentioned earlier, the cross charges from the Ultimate Holding Company represent the cost of these shares as incurred by the Ultimate Holding Company in respect of shares granted to employees of HPISO and exercised by them. Accordingly, the subject cross charges and the remittances against the same does not contain any element of income, which is taxable in the hands of the Ultimate Holding Company as the same is cross-charged to HPISO on cost-to-cost basis.

• Provisions of section 195 of the Act inter alia provides for deduction of TDS only in respect of any sum of which is chargeable to tax under the Act. In the absence of any income element in the subject remittance, there is no

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Page 19 of 32 sum chargeable to tax to Ultimate Holding Company and hence the provisions of Section 195 of the Act would not apply.

• The above principle has been upheld by various Courts including the Hon'ble Supreme Court in the case of GE India Technology Cen.(P.). Ltd vs CIT [2010] 327 ITR 456 (SC). Relevant extract of the Supreme Court decision is reproduced below -

"Section 195 falls in Chapter XVII which deals with collection and recovery. Chapter XVII-B deals with deduction at source by the payer. On analysis of various provisions of Chapter XVII one finds use of different expressions, however, the expression "sum chargeable under the provisions of the Act" is used only in section 195. For example, section 194C casts an obligation to deduct TAS in respect of "any sum paid to any resident". Similarly, sections 194EE and 194F inter alia provide for deduction of tax in respect of “any amount” referred to in the specified provisions…….. …...The Act is to be read as an integrated Code. Section 195 appears in Chapter XVII which deals with collection and recovery. As held in the case of CIT v. Eli Lilly & Co. (India) (P.) Ltd. [2009] 312 ITR 225 (SC) the provisions for deduction of TAS which is in Chapter XVII dealing with collection of taxes and the charging provisions of the Income-tax Act form one single integral, inseparable Code and, therefore, the provisions relating to TDS applies only to those sums which are "chargeable to tax" under the Income-tax Act."

2.31 The above view has also been upheld by various other courts –

− Principal Commissioner of Income Tax vs Nova Technocast (P.) Ltd [2018] 94 taxmann.com 322 (Gujarat HC) − Commissioner of Income-tax vs Prism Cement Unit [2015] 61 taxmann.com 273 (Madhya Pradesh HC)

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Page 20 of 32 − Commissioner of Income-tax -IV vs Himalya International Ltd. [2014] 51 taxmann.com 213 (Delhi HC) − Indo Overseas Films vs Income Tax Officer, International Taxation [2017] 81 taxmann.com 378 (Chennai - Trib.)

2.32 While the AO has considered the decision of GE India Technology Cen.(P.). Ltd in the DAO but without examining the facts of the case, has proceeded to conclude that ESOP cross charge is in the nature of income and are taxable under the Act.

2.33 The Ld. A.R. stated that the learned AO has neither examined nor has given any factual finding as to how the element of income is embedded in the reimbursement of ESOP cross charges. The AO has failed to take cognizance of the fact that the reimbursements are made on cost-to-cost basis. The AO has also made references to various other provisions of the Act without analyzing whether the ESOP cross-charges includes any income element, which is taxable under the Act.

2.34 Further, the case laws relied upon by the Learned AO are very different on facts and not applicable in the context of the Company.

2.35 The ESOP expenditure incurred is a compensation/incentive to the employee and has direct nexus with his/her employment. Such compensation to the employees in the form of ESOP are included in salary of the employees under Section 17 of the Act. Therefore, such expenses are incurred for the purposes of business and hence allowable expenditure under section 37 of the Act in the hands of the employer i.e. the Company.

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Page 21 of 32 2.36 The expenditure of ESOP cross-charge amounting to INR 18,18,00,000 by the Ultimate Holding Company to HPISO are actual expenses incurred and remitted by HPISO and not notional in nature.

2.37 The ESOP remittance does not contain any element of income, which is taxable in the hands of the Ultimate Holding Company as the same are cost-to-cost reimbursements. Accordingly, the provisions of Section 195 of the Act is not applicable in the subject case.

2.38 Given the above facts and the judicial precedents, the Ld. A.R. submitted that ESOP expense is a deductible expenditure under section 37 of the Act and provisions of section 195 of the Act is not applicable.

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Page 22 of 32 By no stretch of imagination, we can describe such discount as either a short capital receipt or a capital expenditure. It is nothing but the employees cost incurred by the company. The substance of this transaction is disbursing compensation to the employees for their services, for which the form of issuing shares at a discounted premium is adopted.

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Page 23 of 32 Copenhagen Stock Exchange. The price so arrived at and the price at which shares are issued to the employees of the Assessee is the benefit which the employees get under the ESOP. The Assessee or its parent company can never influence the stock market prices on a particular date. There is no evidence or even a suggestion made by the CIT(A) in his order. There is no basis to apply the provisions of Sec.40A(2)(b) of the Act. 22. With regard to the decision of the ITAT in the case of Accenture (supra), we find that the facts of the case of Accenture (supra) are identical. In the case of Accenture (supra), the facts were that the assessee company incurred certain expenses on account of payments made by it for the shares allotted to its employees in connection with the ESPP. The AO had disallowed Rs. 9,06,788/- incurred by the assessee on the ground that this expenditure is not the expenditure of assessee company but that expenditure is of parent company and the benefit of such expenditure accrues to the parent company and not assessee. The CIT(A) deleted the addition made by the AO. The CIT(A) found that the common shares of Accenture Ltd. the parent company, have been allotted to the employees of ASPL, the Indian affiliate/Assessee and not to the employees of the parent company. The CIT(A) also found that though the shares of the parent company have been allotted, the same have been given to the employees of the Assessee at the behest of the Assessee. The CIT(A) thus held that it was an expense incurred by the assessee to retain, motive and award its employees for their hard work and is akin to the salary costs of the assessee. The same was therefore business expenditure and should be allowable in computing the taxable income of the assessee. The tribunal upheld the view of the CIT(A). It can be seen from the decision in the case of Accenture (supra) that the shares of the foreign company were allotted and given to the employees of affiliate in India at the behest of the affiliate in India. The CIT(Appeals), however, presumed that the facts in the instant case of the assessee was that the shares were allotted to the employees of the affiliate in India at the behest of the foreign company. This is not the factual position in the assessee’s case, as the assessee had on its own framed the NNIPL ESOP Scheme, 2005, to benefit its employees. NNAS may have a global policy of rewarding employees of affiliates with its shares being given at a discount and that policy might be the basis for the Assessee to frame ESOP. That by itself will not mean that the ESOP was at the behest of the parent company. In any event the immediate beneficiary is the Assessee though the parent company may also be indirect beneficiary of a motivated work force of a subsidiary. We are of the view that the factual basis on which the CIT(Appeals) distinguished the decision of the Mumbai Bench of ITAT in the case of Accenture (supra) is erroneous.

23.With regard to the observations of the CIT(Appeals) that the ESOP actually benefits only the parent company, we are of the view that the expenditure in question is wholly and exclusively for the purpose of the business of the assessee and the fact that the parent company is also benefited by reason of a motivated work force would be no ground to deny the claim of the assessee for deduction, which otherwise satisfies all the conditions referred to in section 37(1) of the Act. The decision of the Hon’ble Supreme Court in the case of Sassoon J. David & Co. (P) Ltd. (supra) and

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Page 24 of 32 the Hon’ble Karnataka High Court decision in the case of Mysore Kirloskar Ltd. (supra) clearly support the plea of the assessee in this regard. 24. We are of the view that in the facts and circumstances of the present case, the expenditure in question was wholly and exclusively for the purpose of the business of the assessee and had to be allowed as deduction as a revenue expenditure. 25. For the reasons given above, we direct the expenditure be allowed as deduction.”

4.1. Further, the Tribunal in the case of Global e-Business Operations (P) Ltd. in IT(TP)A No.212/Bang/2021 dated 27.09.2022 has held as under:-

“20. We have heard rival submissions and perused the material on record. In assessee’s group case, namely, EIT Services India Pvt. Ltd. v. DCIT (supra), had held that the ESOP expenditure is to be allowed as a deduction u/s 37 of the I.T.Act. The Tribunal had followed the judgment of the Hon’ble jurisdictional High Court in the case of CIT v. Biocon Limited (supra). The relevant finding of the Tribunal in assessee’s group case, reads as follows:-

“20.27 We have heard the rival submissions and perused the materials available on record. This issue came up for consideration before the Hon’ble Karnataka High Court in the case of CIT Vs. Biocon Ltd. cited (supra) wherein it was held as under:-

“From a perusal of section 37(1) of the Income-tax Act, 1961 it is evident that the provision permits deduction of expenditure laid out or expended and does not contain a requirement that there has to be a payout. If an expenditure has been incurred, section 37(1) of the Act would be attracted. Section 37 does not envisage incurrence of expenditure in cash.

An assessee is entitled to claim deduction under the provision if the expenditure has been incurred. It is well settled in law that if a business liability has arisen in the accounting year, it is permissible as deduction, even though, the liability may have to be quantified and discharged at a future date.

Section 2(15A) of the Companies Act, 1956, defines "employees stock option" to mean option given to whole time directors, officers or the employees of the company, which gives such directors, officers or employees, the benefit or right to purchase or subscribe at a future rate to securities offered by the company at a pre-determined

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Page 25 of 32 price. In an employees stock option plan a company undertakes to issue shares to its employees at a future date at a price lower than the current market price. The employees are given stock options at a discount and the same amount of discount represents the difference between market price of shares at the time of grant of option and the offer price. In order to be eligible for acquiring shares under the scheme, the employees are under an obligation to render their services to the company during the vesting period as provided in the scheme. On completion of the vesting period in the service of the company, the option vests with the employees.

The expression "expenditure" also includes a loss and therefore, issuance of shares at a discount where the assessee absorbs the difference between the price at which they are issued and the market value of the shares would be expenditure incurred for the purposes of section 37(1). The primary object of the exercise is not to waste capital but to earn profits by securing consistent services of the employees and therefore, it cannot be construed as short receipt of capital.

Held, dismissing the appeal, that the deduction of the discount on the employees stock option plan over the vesting period was in accordance with the accounting in the books of account, which had been prepared in accordance with Securities and Exchange Board of India (Employee Stock Option Scheme and Employee Stock Purchase Scheme) Guidelines, 1999. For assessment year 2009-10 onwards the Assessing Officer had permitted the deduction of the employees stock option plan expenses. The Revenue could not be permitted to take a different stand with regard to the assessment year 200405. The expenses were deductible.”

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Page 26 of 32 the provisions of section 37 of the I.T.Act (though there was some discussion in the draft assessment order with reference to disallowance u/s 40(a)(i) of the I.T.Act). Therefore, grounds 2.1 to 2.8 are allowed and ground 2.9 to 2.15 is not adjudicated.”

4.2. In view of the above order of the Tribunal, we are inclined to allow both the above grounds taken by the assessee.

2.1 The NFAC and DRP have erred in law and on facts, in not granting deduction in respect of amount paid towards leave encashment of INR 4,39,31,243 during the AY 2017-18 under the provision of section 43B(f) of the Act after denial of Appellant’s claim of provision for leave encashment on accrual basis for AY 2011-12, AY 2012-13 and AY 2013-14.

2.2. The NFAC and DRP have erred in law and on facts, in not appreciating the fact that the Appellant was eligible for the deduction towards leave encashment actually paid (even though the same was not claimed in the ROI filed by the Company for AY 2017-18) given that the claim of deduction of provision for leave encashment made in AY 2011-12, AY 2012-13 and AY 2013-14 (on accrual basis) based on the decision of Hon’ble Calcutta High Court in the case of Exide Industries Limited v. Union of India [2007][164 taxman 9], was subsequently rejected.

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Page 27 of 32 basis and not an accrual basis. However, the claim of accrual for leave encashment for above years was disallowed during assessment proceedings which has been appealed by the company. A summary or the appeal proceedings is as under :

• For AY 2011-12, Tribunal has remanded the proceedings to AO directing to consider the claim basis the decision of Supreme Court in the case of Exide Industries as referred above. The remand proceedings Is currently pending before the Jurisdictional assessing officer.

• For AY 2012-13, the company has opted to close the pending appeal under the Vivad se Vishwas Act, 2020 and has accordingly filed Its Form 1, Form 2 and Forma for the same. The company is currently awaiting the receipt of Form 5. • For AY 2013-14. the company has filed an appeal before the ITAT on 21.12.2017. which Is pending for its pronouncement.

6.1 In this regard, the allowability of certain payments on actual basis u/s 43B depends from the payment of such sums in the previous year in which such sum Is actually paid. Here the previous year means the year preceding to the relevant assessment year i.e., in this case for the A.Y. 2011-12, 2012-13 and 2013-14 the previous years would be 2010-11, 2011-12 and 2012-13. In other words, the assessee in order to claim the deduction of leave encashment, the amounts should have been paid in the previous year’s AY 2011-12, 2012-13 and AY 2013-14 to claim deduction for the AYs 2011-12, 2012-13 and 2013-14. Alternatively, as per the proviso, such sums should have been paid by the assessee on or before filing of the returns of the Income for the relevant assessment year's u/s 139(1) of the Act in order to claim the deduction WS 438 Of the Act. In this case, the assessee has neither the paid the sums in the

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Page 28 of 32 relevant assessment years or on or before filing the return of income u/s 139 of the Act. Secondly when the Hon'ble Supreme Court has upheld the constitutional validity of the section 43B(f) of the Act the decision of Hon’ble High Court in case of Exide Industries would become mill and wild and the provisions of section 43B (f) deemed to have been in the statue since its inception. This means that the assessee, in order to claim deduction u/s 438(f), should have paid the amounts towards the liability of leave encashment during the previous year relevant to the A.Y. 2017-18 or should have paid the amounts on or before filing of return of income u/s 139 of the act for the year under consideration. The assessee has not placed before us any record or evidence for having made impugned payment towards leave encashment during the F.Y. 2015-17 to be eligible for claiming the deduction u/s 43B (f) for the A.Y. 2017-18. The claim made on accrual basis for A.YS. 2011-12, 2012-13 and 2013-14 and subsequent withdrawn of the claim under VSV scheme by paying corresponding disputed liability for the AY 2012-13 has no bearing for the subject assessment year. Thus, we find no merit in the objection raised.

6.2 The Apex Court upholding the constitutional validity of sec. 43B (f) reversed the judgment of the Calcutta HC in Exide Industries Ltd. The Hon'ble Court remarked that 'the broad objective of enacting Section 43B concerning specified deductions referred to therein was to protect larger public interest primarily of revenue including welfare of the employees and Clause (f) fit into that scheme and shared sufficient nexus with the broad objective?' Hence, the intention of the legislature is very clear that the leave encashment not paid during the relevant previous year shall not be allowable. Even the assessee makes payment in subsequent years it defeats the purpose and intent of the provisions of the section 43B (f) of the Act.

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Page 29 of 32 6.3 At this juncture, it is appropriate to note the observations made in the Interim order passed by Hon'ble Apex Court, wherein, it has been held as follows:

“We further make it clear that the assessee would, during the pendency of this Civil Appeal, pay tax if section 43B(f) is on the statute book but as the same time it would be entitled to make a claim in its returns.” 6.4 Thus, even as per the interim order the section 43B(f) was deemed to be on the statute book. The tax payers should have made the payments as per the section and claimed the same on payment basis as the Hon’ble Apex Court has not stayed the operations of the section.

6.5 The AO is therefore justified in not allowing any claim that was not claimed in return of income.

“20. As far as ground No.15 is concerned, the facts are that during the Financial Year ("FY") 2013-14 the assessee had made payment towards leave encashment of INR 4,50,79,000 and the same was disclosed as part of Clause 26 of Tax Audit Report ("TAR") filed in Form 3CD for the said FY. Though the assessee was eligible to claim INR 4,50,79,000 under section 43B of the Act, the assessee had not claimed the payment towards leave encashment in the return of income by the assessee for the reason that during the FY 2006- 07 to FY 2012-13, the assessee, placing reliance on the decision of Calcutta High Court in case of Exide Industries v. Union of India [2007] [164 taxman 9], had claimed deduction towards provision of leave encashment on accrual basis despite specific provisions of section 43B(f) of the Act which provides for deduction only on the basis of actual payment. Accordingly, the payments made in subsequent years were not claimed since the claim of accrual was already made d the litigations were pending, as detailed below.

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Page 30 of 32 ("AY") 2007-08 and AY 201314. Accordingly, the AO made an adjustment of INR 6,83,81,220 and INR 11,66,67,733 -respectively, to the total income in the assessment order under section 143(3) of the Act, for the said AY's. The Hon'ble Income Tax Appellate Tribunal, Bangalore ("ITAT") in case of assessee for AY 2007-08 and AY 2013-14, has remitted the issue back to the file of the AO through order dated 16 January 2017 in I.T(TP).A No. 1092/Bang/2011 and order dated 25 October 2019 in ITA No. 368(Bang)/2018 respectively to decide the issue based on the outcome of the Hon'ble Supreme Court's decision in the case of Exide Industries.

8.1 In view of the above order of the Tribunal, we remit this issue to the file of AO on similar directions.

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Page 31 of 32 by Aruba India. Accordingly, the issue is remitted to AO to consider it afresh.

9.2 Ground No.3.3 is regarding giving credit for TCS of Rs.75,520/- instead of Rs.1,03,250/- as claimed by assessee in its return of income. Thus, it needs to be reconciled. Accordingly, remitted to the AO for fresh consideration.

9.3. Ground No.3.4 is with regard to non-following the direction of the Ld. DRP to grant consequent depreciation on software. This issue is also remitted to the file of AO to grant appropriate depreciation as per the direction of Ld. DRP.

9.4. Ground Nos.3.5 & 3.6 are regarding levying of interest u/s 234B & 234B of the Act, which are consequential in nature. Ordered accordingly.

Order pronounced in the open court on 3rd Oct, 2022.

Sd/- Sd/- (N.V. Vasudevan) (Chandra Poojari) Vice President Accountant Member

Bangalore, Dated 3rd Oct, 2022. VG/SPS

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Copy to:

Asst. Registrar, ITAT, Bangalore.