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Income Tax Appellate Tribunal, ‘D’ BENCH, CHENNAI
Before: HON’BLE SHRI V. DURGA RAO & HON’BLE SHRI MANOJ KUMAR AGGARWAL, AM
आदेश / O R D E R Manoj Kumar Aggarwal (Accountant Member)
Aforesaid appeal by assessee for Assessment Year (AY) 2013-14 arises out of the order of learned Commissioner of Income Tax (Appeals)-1, Chennai [CIT(A)] dated 30.10.2017 in the matter of an assessment framed by Ld. Assessing Officer [AO] u/s.143(3) of the Act on 28.03.2016. The only ground urged in the appeal is disallowance of 2 - expenditure of Rs.169.60 Lacs as incurred by the assessee on Bio- technology Research & Development during the year.
It is the submission of Ld. AR that the assessee has requisite approval from competent authority to carry out the Research & Development (R&D) activities. The Ld. AR submitted that there would be a difference in setting-up of a business and commencement of a business. The Ld. AR also submitted that the approval so granted was further extended for 3 years in the year 2015. To assail the addition, Ld. AR drew our attention to the provisions of Sec. 35(3) and submitted the revenue has no right to disallow the expenditure without making a reference to the approving authority. Reliance has been placed on the decision of Hon’ble Delhi High Court in the case of Jay Engineering Works Ltd vs CIT ( 311 ITR 405). 3. The Ld. Sr. DR, on the other hand, submitted that the expenditure was incurred before the commencement of a new line of business and therefore, the expenses has rightly been disallowed. The Ld. Sr. DR drew attention to prescribed Rule-6 which provides that the research facility should be approved by competent authority which the assessee does not possess. The attention was drawn to the financial statements which would show that the business had not commenced during the year. As per Annual report, the assessee has only one segment of business and therefore, the expenditure has been incurred at pre- commencement stage. The same, therefore, could not be allowed to the assessee as a deduction in this year. 4. Having heard rival submissions and after due consideration of relevant material including the judicial pronouncements as cited before us, our adjudication would be as under.
3 - Assessment Proceedings 5.1 The assessee being resident corporate assessee is stated to be engaged in repairs and maintenance activities. The assessee computed business loss of Rs.65.40 Lacs. During the course of assessment proceedings, it transpired that the assessee incurred expenditure of Rs.164.82 Lacs under the head ‘project expenses Bio- technology’. It was explained that the expenditure was incurred in the business of Bio-technology R&D and the assessee had expended such amount. 5.2 However, Ld. AO held that assessee did not have any income relatable to Bio-technology R&D and the unit was in fledgling stage and no business was carried out. The cardinal principle laid down in the charging Section 28 is that the business should have been carried on by the assessee before an expense could be allowed to the assessee. The expenses incurred till setting up of business would be capital expenditure only and would not attain the character of revenue. Further, the expenses were incurred in setting the profit earning machinery in motion. As per the Act, expenses of revenue nature incurred during running of business and generation of income could only be allowed as revenue expenditure. There should be matching concept between income recognized and the expenses booked. Accordingly, the amount of Rs.164.82 Lacs was held to pre- commencement expenses and added back to the income of the assessee. The depreciation claimed towards R&D unit for Rs.4.78 Lacs was also disallowed.
4 - Appellate Proceedings 6.1 During the appellate proceedings, the assessee, inter-alia, submitted that the expenditure mainly consists of salaries paid to staff, depreciation and other expenses which are revenue in nature. These expenses were directly attributable to the business of the assessee. The assessee also filed a copy of letter issued by Ministry of Science and Technology recognizing the assessee as an approved institution for the purpose of availing customs and excise duty exemption. This registration was granted on 28.07.2012 and was valid up to 31.03.2015. 6.2 It was further submitted by the assessee that it intended to expand in the manufacturing of Bio-technology products and to achieve the same, the assessee decided to carry out R&D activities. The expenses were incurred in connection with Bio-products that were proposed to be manufactured by the assessee. The company, in fact, sent sample products namely aquaculture feed supplement for acceptance in the subsequent years and the assessee earned income also in subsequent years. The carrying on of R&D activities in the area of bio-products would constitute carrying on of business and therefore, the claim would be admissible. The nature of expenses so incurred has been tabulated in para-12 of the impugned order. 6.3 However, rejecting the plea of the assessee, Ld. CIT(A) held that as per Explanation to Sec.35(1)(i) where the expenditure relate to periods before the commencement of the business, expenses incurred during the three years immediately preceding the commencement of the business, would be allowable in the year of commencement of business. Further, the extent of allowance is to be certified by the 5 - prescribed authority and it has to state that the expenditure has been incurred on such scientific research. Therefore, both the language of the main clause as well as the proviso clearly shows that for claiming the expenditure on account of scientific research as a deduction under clause (i) of section 35(1), it is necessary that the same should be related to the business being carried on by the appellant. Where the appellant has not commenced the business for which the scientific research is undertaken, no deduction is admissible except to the extent provided under the explanation. The assessee did not produce any certificate from the prescribed authority certifying any amount as allowable in this regard. Therefore, the claim u/s 35(1)(i) was held to be not admissible. 6.4 The approval of Department of Scientific and Industrial Research (DSIR) was stated to be only to avail exemption from customs duty on import of capital goods and the same was not the certificate as prescribed in Explanation to Section 35(1)(i). The provisions of Sec.35(3) would not apply since the R&D expenses are disallowed on the preliminary ground itself that the expense is not related to appellant's business of repairs and technical services. In this case, the deduction itself will be admissible only on the basis of certificate of prescribed authority to be obtained by the assessee. Reliance was placed on the decision of Hyderabad Tribunal in DCIT V/s Bharat Biotech International Ltd (2014) 42 Taxman.com 204. In this decision, it was held that the development activity in itself could not be considered as the business for the purpose of this section. Accordingly the disallowance was upheld against which the assessee is in further appeal before us.
6 - Our findings and Adjudication 7. From the fact, it emerges that the assessee is engaged in repairs and maintenance activities. The assessee diversified its business line and intended to engaged in the area of bio-technology products. For the same, it carried out research and incurred expenses during the year. For the same, the assessee obtained recognition for in-house R&D and started carrying out R&D activities of bio-tech products. The approval was given by DSIR vide approval letter dated 20.07.2012 (page 8 of paper book dated 25.11.2021). This approval has not been considered by lower authorities. As per this letter, the department has decided to accord recognition to the in-house R&D unit of the assessee up to 31.03.2015. The terms of the approval have also been mentioned in the letter. The assessee has been given another registration on the same date which is for the purpose of availment of custom duty exemption as per government notification (page 9 of the paper book) which Ld. CIT(A) has referred to in the impugned order. On the basis of this letter, it could be concluded that the assessee was ready to undertake research on development of new products and had put in place the requisite machinery to carry out the same.
It could also be seen that the company sent samples of aquaculture feed supplement during November, 2013 and sold bio- products worth Rs.0.63 Lacs in the very next year. The research & development is the preliminary step for developing the bio products which are ultimately developed and sold in the market. The details of the expenses incurred by the assessee are extracted in para-12 of the impugned order which would show that majority of the expenditure consist of salary, professional fees, consumables, project fees, 7 - travelling expenses, repair & maintenance etc. which are predominantly revenue in nature and otherwise an allowable business deduction u/s 37(1).
It is undisputed fact that the assessee carries on an existing business and its business has already commenced. In this year, the assessee has sought to pursue a new product line and it is not a case that the assessee has not commenced the business. The assessee was registered long back in the year 1996 and its business had already commenced and it is not the case that the business had not commenced.
The provisions of Sec.35(1) provide for deduction of expenditure on scientific research which is laid out or expended on scientific research related to business. The explanation provide that where such expenditure has been laid out or expended before the commencement of the business (not being expenditure laid out or expended before the 1st day of April, 1973) on payment of any salary (as defined) to an employee engaged in such scientific research or on the purchase of materials used in such scientific research, the aggregate of the expenditure so laid out or expended within the three years immediately preceding the commencement of the business shall, to the extent it is certified by the prescribed authority to have been laid out or expended on such scientific research, be deemed to have been laid out or expended in the previous year in which the business is commenced. The prescribed authority as defined in Rule 6(1) mean Director General (Income-tax Exemptions) in concurrence with Secretary, Department of Scientific and Industrial Research, Government of India. We have already held in para-9 that the assessee’s business had already 8 - commenced long back and it was in the process of new product line only.
The case law of Hon’ble Delhi High Court in Jay Engineering Works Ltd. V/s CIT (311 ITR 405) would support the case of the assessee wherein it was held that the nature of new business is not a decisive test for determining whether or not there is an expansion of an existing business. The nature of the business could be as distinct as a jewellery business and a business of cinematographic films; it could be as different as manufacture of metal alloys and manufacture of rubber products. What is of importance is that the control of both the ventures, the existing venture as well as the new venture, must be in the hands of one establishment or management or administration. The place of business of the existing business and the new business may not be in close proximity - it could be as far apart as Baroda and Bangalore. However, the funds utilized for the management of both the concerns must be common as reflected in the balance sheet of the company. In other words, there may be several permutations and combinations that may arise for determining whether the expenditure is revenue or capital and each case must, of course, be dealt with on the broad principles that have been accepted by the Courts. Finally, Hon’ble Court held that since the control over the two units is in the hands of the same management and administration and there was unity of control leading to an inter-connection, inter-dependence and inter-lacing of the two ventures such that it can be said that the fuel injection equipment project is only an extension of the existing business of the assessee and, therefore, the expenditure incurred by the assessee on this Project is a revenue expenditure. Considering this decision, the 9 - matching concept as invoked by Ld. AO would have no application. Further, the earning of income is not a requirement before an expenditure could be claimed by the assessee.
The Ld. Sr. DR has relied on the decision of Hyderabad Tribunal in DCIT V/s Bharat Biotech International Ltd (2014) 42 Taxman.com 204 which held that the development activity in itself could not be considered as the business for the purpose of this section. However, upon perusal of the same, it was the finding of the Tribunal that product development expenses being interest on loan and cost of consumable, had nothing to do with scientific research and accordingly, it was held that the provisions of Sec.35(1)(i) or (iv) would have no application and the claim for deduction was to be rejected. We further find that this order has subsequently been amended and the appeals have been recalled for the purpose of deciding the issue on the applicability of provisions of Sec. 35(3) of the Act. The same is reported at (57 Taxmann.com 117; dated 30.05.2014). Therefore, this case law, in our considered opinion, provides no assistance to the revenue.
Finally, considering entirety of facts and circumstances, the disallowance as made by Ld. AO and as confirmed by Ld. CIT(A) is not sustainable in law and the same is liable to be deleted. We order so. The Ld. AO is directed to re-compute the income of the assessee.
The appeal stand allowed in terms of our above order.
Order pronounced on 14th September, 2022.