KAWASAKI MICROELECTRONICS INC,BANGALORE vs. DDIT INTERNATIONAL TAXATION, BANGALORE

PER SHRI VIJAY PAL RAO,JM. : This appeal by the assessee is directed against the assessment

order dt.16.10.2010 passed under Section 143(3) rws 144C(B) of the

Income Tax Act, 1961 (in short 'the Act') in pursuant to the directions of

the Dispute Resolution Panel (DRP) dt.22.9.2010 passed under Section

144C(5) of the Act for Assessment Year 2007-08.

2 IT(I.T)A No.1512/Bang/2010 2. The assessee has raised the following grounds :-

“1. The order of the learned AO and direction of the Hon’ble DRP are based on incorrect interpretation of law and therefore are bad in law. 2. Based on directions of DRP, the learned AO erred in assessing the total income at Rs.1,029,574/- as against returned loss of Rs.718.133 computed by the appellant. Grounds of appeal; 3. The learned AO has erred in law by holding that the payment made to Cadence Systems Ireland Ltd. (“Cadence”) for purchase of software (software was capitalized in the assessee’s accounts), amounts to royalty under the Act and the India- Ireland Tax Treaty and therefore, tax was required to be deducted at source on the said payment. 4. The learned AO has erred in law by holding that since tax was not deducted at source from the payment made towards purchase of software, tax depreciation claimed on computer software amounting to Rs.1,747.680 is not allowable as a deduction under section 40(a)(i) of the Act. 5. The learned AO has erred in law by not considering that even if the tax depreciation is disallowed resulting in an income, Kawasaki India, being a unit registered under the Software Technology Parks of India (STPI) Scheme and having satisfied the conditions prescribed under section 10A of the Act, is eligible to claim deduction under the aforesaid section. 6. The learned AO erred in levying interest of Rs.115.197 under sections 234B of the Act.

3 IT(I.T)A No.1512/Bang/2010 The appellant submits that each of the above grounds is independent and without prejudice to one another.

regarding disallowance of depreciation by invoking the provisions of

section 40(a)(i) of the Act in respect of the payments made for purchase

of software and capitalized by the assessee. The Assessing Officer found

that the assessee made the payment of Rs.49,42,300 for purchase of

software from Cadence Systems Ireland Limited (in short ‘Cadence’). The

software so purchased has been capitalized by the assessee under the

block of computer and depreciation was claimed by the assessee. The

Assessing Officer further noted that the assessee has not deducted the

tax at source while making payment to Cadence and accordingly asked

the assessee as to why the payment should not be disallowed under

Section 40(a)(i) of the Act. The assessee objected to the proposed

disallowance under Section 40(a)(i) of the Act. The Assessing Officer did

not accept the contention of the assessee that the depreciation cannot be

allowed under Section 40(a)(i) of the Act. The Assessing Officer has held

that the payment was made by the assessee to a non-resident on which

the TDS is to be deducted at source but the assessee has not deducted

the tax nor has been paid. The payment which was in the nature of

royalty is chargeable under the Act and therefore covered under Section

4 IT(I.T)A No.1512/Bang/2010 40(a)(i) of the Act. Accordingly, the Assessing Officer proposed to

disallow the depreciation of Rs.17,49,680 claimed by the assessee in

respect of the software purchased which was capitalized. The assessee

raised the objection against the depreciation proposed to be disallowed

by the Assessing Officer before the DRP, but could not succeed.

has submitted that since the expenditure is capitalized by the assessee,

therefore, the provisions of section 40(a)(i) cannot be invoked for

disallowance of the depreciation on the capitalized amount. It is not the

case of the claim of any expenditure by the assessee but the expenditure

which has already capitalized and consequently the provisions of section

40(a)(i) has no role to play. In support of his contention, he has relied

upon the decision of Mumbai Bench, ITAT in the case of SKOL Breweries

Ltd. Vs. ACIT 142 ITD 49 (Mum) as well as the decision of the Delhi

Bench of ITAT in the case of SMS Demang (P.) Ltd. V DCIT (2010) 38 SOT

issue of disallowance of depreciation by applying the provisions of section

40(a)(i) of the Act is covered in favour of the assessee by the above said

decisions of the Tribunal.

5 IT(I.T)A No.1512/Bang/2010

has submitted that there is no dispute that the assessee has made the

payment for purchase of software which is in the nature of royalty and

therefore the provisions of section 195 are applicable on such payment

for deduction of tax at source. He has further submitted that it is also

not in dispute that the assessee has not deducted the TDS in respect of

the payment in question and therefore the assessee has violated the

provisions of section 195 of the Act and consequently, the provisions of

section 40(a)(i) of the Act are applicable in the case under consideration.

The learned Departmental Representative has contended that there is an

intricable link between the provisions of sections 40, 195 & 201 of the

Act. Once the assessee has failed to comply with the provisions of

section 195, the provisions of section 40(a)(i) of the Act are applicable.

Has relied on the orders of the authorities below.

material on record. The issue before us is limited only with respect to

the disallowance of depreciation by invoking the provisions of section

40(a)(i) of the Act. There is no dispute that the assessee has made the

payment in question to a non-resident for purchase of software and the

said payment has been capitalized by the assessee in the block of

6 IT(I.T)A No.1512/Bang/2010 computer asset. Once the assessee capitalized the payment and has not

claimed the same as an expenditure against the profits of the business of

the assessee, then, the question arises whether the depreciation which is

a statutory deduction as per the section 32 of the Act can be disallowed

by invoking the provisions of section 40(a)(i) of the Act. At the outset, it

is to be noted that on the similar set of facts an identical issue has been

dealt by the ITAT, Mumbai Bench in the case of SKOL Breweries Ltd.

(supra), wherein it was held in paras 16.1 to 16.4 as under :-

“ 16.1 As regards the alternative plea of the ld Sr counsel for the assessee that since the assessee has not claimed the entire amount as revenue expenditure; but has capitalized the same and claimed only depreciation u/s 32(1)(ii); therefore, provisions of sec. 40(a)((i) shall not apply. Section 40(a)(i) contemplates that any interest, royalty, fee for technical services or other sum chargeable under this act, which is payable outside India as it is relevant for the case in hand on which tax is deductible at source under Chapter XVII -B and such tax has not been deducted or, after deduction, has not been paid, the amount of interest, royalty, fee for technical services and other sum shall not be deducted in computing the income chargeable under the head "profits & gains of business or profession". This condition of deductibility has been stipulated u/s 40 notwithstanding anything to the contrary in section 30 to 38 of the Act. Sec. 40 begins with non-obstante clause; therefore, it is an overriding effect t the provisions of sec. 30 to 38 of the I T Act. The question arises is whether any amount paid outside India or to the Non Resident without deduction of tax at source and the assessee has capitalized the same in the fixed assets and claimed only depreciation is subjected to the

7 IT(I.T)A No.1512/Bang/2010 provisions of sec. 40(a)(i) or not ?. We quote the provisions of sec. 40(a)(i) as under: 40. Notwithstanding anything to the contrary in sections 30 to 38, the following amounts shall not be deducted in computing the income chargeable under the head "Profits and gains of business or profession",—

in the case of any assessee—

[(i) any interest (not being interest on a loan issued for public subscription before the 1st day of April, 1938), royalty, fees for technical services or other sum chargeable under this Act, which is payable,—

outside India; or

in India to a non-resident, not being a company or to a foreign company,

on which tax is deductible at source under Chapter XVII-B and such tax has not been deducted or, after deduction, has not been paid during the previous year, or in the subsequent year before the expiry of the time prescribed under sub-section (1) of section 200 : Provided that where in respect of any such sum, tax has been deducted in any subsequent year or, has been deducted in the previous year but paid in any subsequent year after the expiry of the time prescribed under sub- section (1) of section 200, such sum shall be allowed as a

8 IT(I.T)A No.1512/Bang/2010 deduction in computing the income of the previous year in which such tax has been paid. Explanation.—For the purposes of this sub-clause,—

“royalty" shall have the same meaning as in Explanation 2 to clause (vi) of sub-section (1) of section 9;

"fees for technical services" shall have the same meaning as in Explanation 2 to clause (vii) of sub-section (1) of section 9;

16.2 It is manifest from the plain reading of provisions of sec. 40(a)(i) that an amount payable towards interest, royalty, fee for technical services or other sums chargeable under this Act shall not be deducted while computing the income under the head profit and gain of business or profession on which tax is deductible at source; but such tax has not been deducted. The expression 'amount payable' which is otherwise an allowable deduction refers to the expenditure incurred for the purpose of business of the assessee and therefore, the said expenditure is a deductible claim. Thus, section 40 refers to the outgoing amount chargeable under this Act and subject to TDS under Chapter XVII-B. There is a difference between the expenditure and other kind of deduction. The other kind of deduction which includes any loss incidental to carrying on the business, bad debts etc., which are deductible items itself not because an expenditure was laid out and consequentially any sum has gone out; on the contrary the expenditure results a certain sums payable and goes out of the business of the assessee. The sum, as contemplated under sec. 40(a)(i) is the outgoing amount and therefore, necessarily refers to the outgoing expenditure. Depreciation is a statutory deduction and after the insertion of Explanation 5 to sec. 32, it is obligatory on the

9 IT(I.T)A No.1512/Bang/2010 part of the Assessing Officer to allow the deduction of depreciation on the eligible asset irrespective of any claim made by the assessee. Therefore, depreciation is a mandatory deduction on the asset which is wholly or partly owned by the assessee and used for the purpose of business or profession which means the depreciation is a deduction for an asset owned by the assessee and used for the purpose of business and not for incurring of any expenditure. 16.3 The deduction u/s 32 is not in respect of the amount paid or payable which is subjected to TDS; but is a statutory deduction on an asset which is otherwise eligible for deduction of deprecation. Depreciation is not an outgoing expenditure and therefore, the provisions of sec. 40(a)(i) of the Act are not attracted on such deduction. This view has been fortified by the decision of the Hon'ble Punjab & Haryana High Court in the case of Mark Auto Industries Ltd. (supra) in pars 5 & 6 as under: "5. Adverting to questions (ii) and (iii), the issue which arises for consideration is whether the assessee could be disallowed claim for depreciation under Section 40(a)(i) of the Act on the ground that the payments made for technical know-how which had been capitalized, no tax deduction at source has been made thereon. The Tribunal while accepting the plea of the assessee, in para 3, had noticed as under: "3. Ground no. 4 is against deletion of an addition of Rs. 6,88,1751- made by the AO on account of deduction of depreciation on technical know-how as the assessee failed to deduct tax in accordance with the provision contained in section 40(a)(i). The finding of the learned CIT(A) was that the assessee had incurred, expenditure by way of technical know-how, which was capitalized amount as made in the return of income. Since the assessee had not claimed deduction for the amount paid, the provisions contained in section 40(a) (i) were not attracted. The

10 IT(I.T)A No.1512/Bang/2010 learned DR could not find any fault with this direction of the CIT(A) also although she referred to page 4 of the assessment order, where it was mentioned that the tax deducted in respect of the payment was made over to the Government in the subsequent year and, therefore, depreciation could not be deducted on the capital expenditure incurred by the assessee. In reply, the learned counsel pointed out that the expenditure by way of technical know-how was capitalized and it was not claimed as revenue expenditure. Therefore, there was also no reason to disallow depreciation on such capitalized amount as the aforesaid provision does not deal with deduction of depreciation. Having considered arguments from both the sides, we are of the view that there is no error in the order of the learned CIT(A) which requires correction from us. Thus, this ground is also dismissed." 6. Learned counsel for the revenue was unable to substantiate that in the absence of any requirement of law for making deduction of tax out of the expenditure on technical know how which was capitalized and no amount was claimed as revenue expenditure, the deduction could be disallowed under Section 40(a)(i) of the Act. Accordingly, no infirmity could be found in the order passed by the Tribunal which may warrant interference by this Court. Thus, both the questions are answered against the revenue and in favour of the assessee."

16.4 In view of the above discussion as well as following the decision of the Hon'ble Punjab & Haryana High Court, we decide this issue in favour of the assessee and against the revenue.”

11 IT(I.T)A No.1512/Bang/2010 7. As it is clear from the above decision that the Tribunal has

discussed and analysed the provisions of section 40(a)(i) in detail in the

context of disallowance of depreciation. The learned D.R. has submitted

that once the assessee has violated the provisions of section 195, then,

even the expenditure is capitalized by the assessee, the provisions of

section 40(a)(i) are applicable for disallowance of depreciation on such

capitalized expenditure. We do not agree with the contention of the

learned D.R, because a remedy for violation of provisions of section 195

is available with the Assessing Officer under Section 201 & 201A of the

Act. The provisions of section 40(a) is only an additional measure to

enforce the compliance of Chapter XVIIB of the Act, by disallowing an

expenditure which is otherwise allowable under the provisions of the Act.

Therefore, the question of disallowance under Section 40(a) arises only

when an expenditure is claimed by the assessee without deducting the

tax at source as per the provisions of Chapter-XVIIB of the Act, 1961. In

the case on hand, when the assessee has not claimed, the said payment

as an expenditure then the question of disallowance under Section

40(a)(i) does not arise. The only remedy which might have been resorted

to by the Assessing Officer is the action under Section 201 and 201A of

12 IT(I.T)A No.1512/Bang/2010 the Act. A similar view has been taken by the Delhi Bench of the

Tribunal in the case of SMS Demang (P) Ltd. (supra) in para 8 as under :-

“8. As regards the claim of assessee for depreciation on assets capitalized, depreciation cannot be disallowed on the ground that at the time of remittance, no tax was deducted at source. Provisions of section 40(a)(i) are not applicable for claim for deduction under section 32 of the Act. Accordingly, in our considered opinion, the AO was not justified in disallowing 50 percent of depreciation on the ground that provisions of section 40(a)(i) were applicable. However, the AO will verify the fact whether the assets in respect of which expenditure has been capitalized have been used in business for period more than 180 days. If the assets have been used for more than 180 days, the AO will allow full depreciation, as claimed by the assessee. The AO is directed accordingly”.

by following the decisions of the co-ordinate benches of the ITAT, we are

of the opinion that once the assessee has capitalized the payment in

question though the assessee has not deducted the tax at source on

such payment, Section 40(a)(i) cannot be invoked for disallowance of

depreciation. Accordingly, we set aside the orders of the authorities

below and the addition made by the Assessing Officer is deleted.

13 IT(I.T)A No.1512/Bang/2010

Order pronounced in the open Court on 26th June, 2015. Sd/- Sd/- (JASON P BOAZ) (VIJAY PAL RAO) ACCOUNTANT MEMBER JUDICIAL MEMBER *am Dated: Place: Copy to : 1. Appellant 2. Respondent 3. C.I.T. 4. CIT(A) 5. DR, ITAT, Bangalore. 6. Guard File.

By Order

Asst. Registrar, ITAT, Bangalore