ESSEL SHYAM COMMUNICATION LTD,NEW DELHI vs. ACIT CC-2, NEW DELHI

O R D E R PER A.T. VARKEY, JUDICIAL MEMBER :

These cross appeals filed by the assessee and revenue are against the order of the CIT (Appeals)-III, New Delhi dated 28.08.2008 for the assessment year 2005-06.

ASSESSEE’S APPEAL (ITA No.3265/Del/2008) 2. Ground No.1 is against the order of the CIT (A) confirming the exclusion of Rs.50,42,717/- being profit from sale of VSAT equipment u/s 80IA of the Income-tax Act, 1961 on the ground that such profits are not derived from eligible business or providing telecommunications services.

“Whether learned ITAT erred in law in holding that income of Rs.50,42,764/- from trading activities is derived from Industrial undertaking within the meaning of Section 80-IA of the Income Tax Act, 1961?”

The Hon’ble High Court dealt with the issue as under in Paras 10, 11 & 12 of the said order wherein it was held as under :-

“10. The question raised in ITA 284/2011 again requires an order or remit. The Assessing Officer noticed that the assessee had shown sales of Rs.2,12,28,512/-. On scrutiny of details, it was noticed that major sales were in respect of Antenna, RFT and other miscellaneous items, which included computer printer, UPS, CTV, air conditioner, hand camera, generator sets, telephone instruments, video conferencing systems, monitor etc. He held that the said equipments could be bought and procured from the Original Equipment Manufacturers (OEMS, for short) including the foreign vendors. Accordingly, Rs.50,42,717/- was excluded from the deduction claimed under Section 80IA of the Act as income not derived from specified services, after noticing that the cost of material was Rs.1,61,85,795/-. The CIT (Appeals) upheld the said addition holding that this was income derived from trading in goods. The tribunal has deleted the said addition, inter alia, holding :- “11. Let us have a look on the nature of equipments. We have perused pages number 29-40 of the paper book. On page 29-31 the copy of the import license for import of C band redundant 1:1 Up Converter and Down Converter have been placed on record. These are the technical device. Similarly on page 32-33 are the import license on page 34 is the description of the items which are to be imported. At page 34 the description of the items is Codan 40 Wku Band BUC. According to the assessee these equipments are essential equipments for enabling, assessee to the telecommunication services. The Govt. has put up various restrictions on import of such items because of security reasons. If the assessee is unable to provide these items to its customer then it might not be possible for it to provide telecommunication services. It was pointed out at the time of hearing that these equipments cannot be used for availing the services from any other service provider. The customer has to avail the telecommunication services through these items necessarily from the assessee only. Considering the nature of equipments and their relation to the nature of services provided by the assessee, in our opinion the receipt received by the assessee for supply of these items is inextricably links to the business of its telecommunication services. The AO is not justified in excluding these receipts. Therefore we direct the AO to include the receipt of Rs.5042717/- representing income from sale of equipment in the eligible receipt for grant of deduction u/s 80IA.”

12. The legal contention of assessee is substantially correct. However, what was relevant and required examination was the contracts under which the sales were made. Sale of TV Camera, Air Conditioner, generator sets per se or on standalone basis would not qualify for deduction 80IA read with sub-section (4) clause (ii). On the other hand, in case the assessee has been awarded a contract for providing telecommunication service, network of trunking and broadband/internet services and while and for executing the said contract, generator sets, air conditioner etc. were sold as a part of a complete package, then the income earned may qualify for deduction under Section 80IA. Therefore, each contract and nature thereof has to be examined. It has to be ascertained whether it was a case of supply of goods or it was a case where the assessee was providing qualifying services which mandated and required inextricably or as an necessary requirement, (under the same contract or under a different contract), sale/supply goods to operationalize and use/provide the telecommunication services. In case, the sale of goods was inextricably linked, had nexus and was connected with the primary purpose of providing or starting telecommunication services, the assessee will be entitled to benefit under Section 80IA. Otherwise, the assessee will not be entitled to exemption under Section 80IA on the transaction. Whether the commodities/goods could have been also purchased from a third party may not relevant and the determinative factor in many a case. It is the predominant or primary reason or purpose why the contract was entered into, and whether it has direct nexus and is inextricably linked with providing the qualifying activities, is and would be the determinative factor. The substantial question of law is accordingly answered. An order of remit is passed, with a direction to the tribunal to decide the issue/question afresh in the light of the above observation/ratio.”

The ld. AR submitted that the issue may be remitted back to the file of AO to be adjudicated as directed by Hon’ble High Court in para 12 (supra).

“1. Whether on the facts and in the circumstances of the case, the Tribunal erred in law in holding that income earned by the appellant from development of software upgrades for Network Management Systems for smooth and trouble free working of VSAT service provided by the appellant, as part of business of telecommunication services, was not eligible for deduction under Section 80-IA(4(ii) of the Income Tax Act?

The Hon’ble High Court dealt with the aforesaid issue in Para 13 to Para 16 wherein it has been held as under :-

“............The Hub controls the entire operations of the communication network through a NMS, which continuously accumulates data on the system so as to provide regular „health checks‟ for the remotes and determine the level of activity for billing purpose. The NMS, which is principally a software, is an integral part of Hub station for running VSAT services at various remotes. The NMS needs to be regularly updated and maintained for a smooth and trouble free service. Since TVC could not have the upgrades of these NMS‟s through the OEMs, the appellant provided the upgrades so that a smooth and uninterrupted service on the VSATs located at various remotes could be provided, it was argued that the software developed by the appellant is a part of the satellite based telecommunication services rendered by it. The appellant had the requisite expertise for the software development. The appellant under the impugned software developed four modules for TVC. Each module was developed to provide wide time window for packet transfers between TVC and Bank of Tokyo & Mitsubishi, Ludhiana Stock Exchange, EIH and BNP respectively. Without this software, the client of the appellant (TVC) could not have satellite connection with the abovementioned companies and the signal could not be transmitted thereto. The sole motive of developing the software was to further its telecommunication operations and was thus, inextricably linked to the business of the appellant of providing telecommunication services.”

15. We find that the tribunal has not examined the said aspect and question with reference to the contention raised by the assessee, on the nature and character of the software, which was developed and sold. The exact reasoning given by the tribunal reads as under:- “4.8 In regard to income from software, the development of software is certainly a separate source of business income of the appellant different from providing Telecommunication services. Thus, this income cannot be said to the income derived from the eligible business of providing Telecommunication service. The appellant has shown total receipts of Rs.61,58,000/- from development and selling of software. The A.O. has allowed expenses on account of salary paid to employees and other administrative expenses of Rs.4,00,000/- and calculated the net profit from software development at Rs.57,58,000/-. The A.R. of the appellant submitted that the appellant had incurred higher amount of expenses than Rs.4,00,000/- on the development of software because apart from personnel/staff, the appellant had incurred various other overhead charges also. But the appellant had not furnished any details of expenses in excess of 4,00,000 incurred for the development of software. In these circumstances, the calculation made by the A.O. does not warrant any interference. Since the income earned from development of software was not profit and gains derived from the eligible business of providing Telecommunication service, the A.O. was justified in excluding the income from software development for computing deduction u/s 80IA.”

16. We find that the Assessing Officer as well as the appellate authorities have not examined the issue/question keeping in mind the mandate of the section and contention of the assessee. Nature, character and type of the software and whether or not it could be treated and regarded as income earned from the business referred to in sub-section (4) clause (ii) to Section 80IA has not been examined and considered. Without examining the said aspect and the factual position regarding nature and type of software, the Assessing Officer and the appellate authorities were not justified in excluding the sale proceeds from computation of deduction under Section 80IA. The Assessing Officer has merely recorded that the assessee had furnished copy of the work orders as well as the bill raised and in view of the judicial pronouncements, income from selling of software cannot be considered as income earned or derived from the activities specified in Section 80IA(4)(ii) of the Act. This issue is accordingly remitted to the tribunal for a fresh decision. The tribunal will examine the nature, type and character of the software or whether it was inextricably and directly connected with the activities/services stipulated in clause (ii) to sub-section (4) of Section 80IA. This is a technical aspect

and if required, the tribunal can take help and/or opinion of experts. The assessee will be also at liberty to justify and establish their claim by filing opinion from the experts. Question No.1 is accordingly answered with an order of remit.”

The ld. AR opined that this issue also may be remitted back to the file of AO for adjudication. The ld. DR did not object to the said suggestion of the ld. AR.

“2. Whether on the facts and in the circumstances of the case, the Tribunal erred in law in not directing exclusion of only net interest income, i.e., gross interest income less expenditure incurred for earning such interest income, while computing deduction under Section 80-IA of the Income Tax Act?

The Hon’ble High Court has dealt with this issue from paras 17 to 23 as under:-

“17. The last question is question No.2 in ITA No.130/2011. The findings recorded by the tribunal in this regard are that the assessee had earned interest income on FDRs of Rs.7,61,584/- and other interest of Rs.77,042/-. It has been observed by the tribunal that the aforesaid receipts cannot be included in the income derived from the specified activities in view of the decision of this Court in CIT Vs. Shri Ram Honda Power Equip (2007) 289 ITR 475.

12. Explanation (baa) extracted above states that “profits of the business” means the profits of the business as computed under the head “Profits and Gains of Business or Profession” as reduced by the receipts of the nature mentioned in clauses (1) and (2) of the Explanation (baa). Thus, profits of the business of an Assessee will have to be first computed under the head “Profits and Gains of Business or Profession” in accordance with provisions of Sections 28 to 44D of the Act. In the computation of such profits of business, all receipts of income which are chargeable as profits and gains of business under Section 28 of the Act will have to be included. Similarly, in computation of such profits of business, different expenses which are allowable under Sections 30 to 44D have to be allowed as expenses. After including such receipts of income and after deducting such expenses, the total of the net receipts are profits of the business of the Assessee computed under the head “Profits and Gains of Business or Profession” from which deductions are to made under Clauses (1) and (2) of Explanation (baa). 13. x x x x x x x 14. x x x x x x x 15. Section 80M of the Act provided for deduction in respect of certain intercorporate dividends and it provided in Sub-section (1) of Section 80M that “where the gross total income of an Assessee being a company includes any income by way of dividends received by it from a domestic company, there shall, in accordance with and subject to the provisions of this Section, be allowed, in computing the total income of the Assessee, a deduction from such income by way of dividends an amount equal to” a certain percentage of the income mentioned in this Section. The Constitution Bench held that the Court must construe Section 80M on its own language and arrive at its true interpretation according to the plain natural meaning of the words used by the legislature and so construed the words “such income by way of dividends” in Sub-section (1) of Section 80M must be referable not only to the category of income included in the gross total income but also to the quantum of the income so included.

16. Similarly, Explanation (baa) has to be construed on its own language and as per the plain natural meaning of the words used in Explanation (baa), the words “receipts by way of brokerage, commission, interest, rent, charges or any other receipt of a similar nature included in such profits” will not only refer to the nature of receipts but also to the quantum of receipts included in the profits of the business as computed under the head “Profits and Gains of Business or Profession” referred to in the first part of the Explanation (baa). Accordingly, if any quantum of any receipt of the nature mentioned in Clause (1) of Explanation (baa) has not been included in the profits of business of an Assessee as computed under the head “Profits and Gains of Business or Profession”, ninety per cent of such quantum of the receipt cannot be deducted under Explanation (baa) to Section 80HHC.”

Note : In the above example, the Department is allowing deduction on profit of Rs.100 under Section 80-IB of the 1961 Act.” (emphasis supplied) 23. In view of the aforesaid observations in the case of Liberty India (supra), the aforesaid second question of law in is answered in negative with an order of remand to the tribunal. In the absence of details, it is directed that the tribunal will examine the factual matrix of the present case including the balance-sheet and accounts of the assessee, to decide the question. It will be open to the tribunal to examine and consider the contention of the assessee, if raised and supported by facts, the quantum of expenditure incurred/attributed to earning of exempt income under Section 80IA of the Act.”

This issue also, both sides agree, should be remitted back to the file of AO as directed by Hon’ble High Court. So, we remit the matter back to the file of the AO to be decided afresh as per the direction of the Hon’ble High Court given to para 23 (supra).

11. Ground No.6 is against confirming the levy of interest u/s 234B of the Act. The charging of interest u/s 234B is consequential. The AO shall recalculate the interest under the aforesaid section, if any, while giving effect to appellate order.

REVENUE’S APPEAL (ITA No.3176/Del/2008)

13. Grounds No.1 to 4 are regarding the deletion of addition of Rs.25,94,935/- made by the AO on account of disallowance of deduction claimed by the assessee u/s 80IA(4)(ii) of the Act and that the assessee did not fulfill the conditions prescribed u/s 80IA to qualify for deduction.

14. The Hon’ble jurisdictional High Court in assessee’s own case in ITA 279/20111 has dealt with the issue by framing the question of law as under :-

“Whether learned ITAT erred in law in holding that INSAT 2E is a domestic satellite within the meaning of sub-clause (ii) of Clause (4) of Section 80-IA of the Income Tax Act, 1961, despite the fact that British Telecom has leased it to the assessee?”

And the Hon’ble High Court has dealt with the issue in Paras 7 to 9 which are reproduced below :-

“7. Question raised in ITA 279/2011 arises as the Assessing Officer had treated Rs.1,42,34,278/- as income earned by the assessee from domestic satellite service. The reasoning given by the Assessing Officer is difficult to understand and somewhat ingenious. The Assessing Officer referred to notes on accounts in which the assessee had disclosed that payment of Rs.13,42,288/- was made for space segment charges in foreign currency. This payment was made to British Telecom (Worldwide) for use of satellite service in the Indian Satellite INSAT 2E. The Assessing Officer held that the said satellite was not a „domestic satellite‟ as it was owned by Department of Space, Government of India, which was not an Indian company and was being operated by British Telecom (Worldwide), a foreign company. The said view, however, was not accepted by the CIT (Appeals), who held that British Telecom (Worldwide) or INTELSAT did not have ownership right over the satellite. Relying upon the letter dated 21st November, 2007, written by the Director, ISRO, it was held that the satellite was owned by the Department of Space, Government of India and, therefore, the Assessing Officer was not justified in excluding the income earned from the domestic satellite services. The view of the CIT (Appeals) has been affirmed by the tribunal.

8. The Assessing Officer to compute and make the aforesaid addition of Rs.1,42,34,278/- observed that the assessee had made payment of Rs.13,42,288/- to British Telecom (Worldwide) and had not shown any income or receipts earned from any third party. The addition was made holding that the income included income from satellite services not in the nature of domestic satellite service as defined for purpose of the Section 80IA. The profit/income disclosed by the assessee was notionally on proportionate basis treated as profit/income earned from satellite services, not being domestic satellite services.

9. The assessee holds a VSA license to establish, maintain and operate closed users group, an Internet license to establish, maintain and operate internet services and a license/permission from the Ministry of Information and Broadcasting for providing uplinking services. The case of the assessee is that they have incurred an expenditure for utilization of space segment on a satellite to provide the said services. It is not their case that they are in the business of providing lease/ sale of space segment or satellite services or that they were providing domestic satellite services. Contention of the assessee was/is that as a broadband/internet service provider etc. it had procured space segment in the satellite and paid charges in foreign currency for utilizing space segment. It was an expense, which was incurred and not that any income was earned. The question is not whether any expense was incurred in respect of the services stipulated in clause (ii) of Section 80IA (4), but whether the assessee has earned income derived from the specified services. It is not the case of the assessee that it was providing domestic satellite services and earning income from the said activity. The term “domestic satellite” as defined in the explanation means the satellite owned and operated by an Indian company for providing telecommunication services. The assessee is not an owner of the domestic satellite and nor is it operating the satellite. On the other hand, it is apparent that the assessee is claiming benefit/coverage under the said section on the basis that it is providing broadband/internet services etc. As long as it was providing the stipulated services and had received payments for the specified services, the income earned would qualify for deduction under Section 80IA(4)(ii). In case the assessee incurs expenditure to buy and utilize space segment on a satellite for providing the qualifying services, the expenditure incurred cannot be disallowed and no notional income can be computed or reduced from the income earned/derived from the qualifying service. In view of the said position and in the absence of details, we have no option, but to remit the matter to the tribunal to examine the said aspect afresh. The tribunal has to examine and clearly decide nature and character of service rendered by the assessee to third parties and whether the same qualifies and is a prescribed/stipulated service under section 80IA. The order of remit is also necessary in view of the ambiguous stand of the assessee before the Assessing Officer and the appellate authorities which has contributed to the confusion. The letter written by the assessee to the Assessing Officer reads:- “From the above, it is clear that though the payment to BT is made in USD, yet the same was paid for use of domestic Satellite which is owned and operated by Department of Space, Government of India but leased out by Department of Space (DOS) to INTELSAT, who in-turn have subleased part of it to BT and some of which is used by the assessee Company. Hence, this is no question of disallowance under Section 80IA in this regard.”

Both sides agree that this issue also should be remitted back to the file of the AO and so, we are inclined to remit back the matter to the file of the AO to be decided afresh as directed by the Hon’ble High Court in Para 9 (supra), after giving opportunity to the assessee.