M/S SUBEX LTD.,,BANGALORE vs. CIT, BANGALORE

Per N.V. Vasudevan, Judicial Member

This is an appeal by the Assessee against the order dated 28.3.2014 of the Commissioner of Income-tax-III, Bangalore [CIT], passed u/s.263 of the Act, relating to assessment year 2008-09.

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Sec.35D : Amortisation of certain preliminary expenses. (1) Where an assessee, being an Indian company or a person (other than a company) who is resident in India, incurs, after the 31st day of March, 1970, any expenditure specified in sub-section (2), —

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(i) before the commencement of his business, or (ii) after the commencement of his business in connection with the extension of his Industrial undertaking or in connection with his setting up a new Industrial unit, the assessee shall, in accordance with and subject to the provisions of this section, be allowed a deduction of an amount equal to one-tenth of such expenditure for each of the ten successive previous years beginning with the previous year in which the business commences or, as the case may be, the previous year in which the extension of the Industrial undertaking is completed or the new Industrial unit commences production or operation: Provided that where an assessee incurs after the 31st day of March, 1998, any expenditure specified in sub-section (2), the provisions of this sub-section shall have effect as if for the words "an amount equal to one-tenth of such expenditure for each of the ten successive previous years", the words "an amount equal to one-fifth of such expenditure for each of the five successive previous years" had been substituted. (2) The expenditure referred to in sub-section (1) shall be the expenditure specified in any one or more of the following clauses, namely :…….. (3) Where the aggregate amount of the expenditure referred to in sub-section (2) exceeds an amount calculated at five per cent— (a) of the cost of the project, or (b) where the assessee is an Indian company, at the option of the company, of the capital employed in the business of the company, the excess shall be ignored for the purpose of computing the deduction allowable under sub-section (1) : Provided that where the aggregate amount of expenditure referred to in sub-section (2) is incurred after the 31st day of March, 1998, the provisions of this sub-section shall have effect as if for the words "two and one-half per cent", the words "five per cent" had been substituted.

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Explanation : In this sub-section,— (a) "cost of the project" means— (i) in a case referred to in clause (i) of sub-section (1), the actual cost of the fixed assets, being land, buildings, leaseholds, plant, machinery, furniture, fittings and railway sidings (including expenditure on development of land and buildings), which are shown in the books of the assessee as on the last day of the previous year in which the business of the assessee commences; (ii) in a case referred to in clause (ii) of sub-section (1), the actual cost of the fixed assets, being land, buildings, leaseholds, plant, machinery, furniture, fittings and railway sidings (including expenditure on development of land and buildings), which are shown in the books of the assessee as on the last day of the previous year in which the extension of the Industrial undertaking is completed or, as the case may be, the new Industrial unit commences production or operation, in so far as such fixed assets have been acquired or developed in connection with the extension of the Industrial undertaking or the setting up of the new Industrial Unit of the assessee; (b) "capital employed in the business of the company" means— (i) in a case referred to in clause (i) of sub-section (1), the aggregate of the issued share capital, debentures and long-term borrowings as on the last day of the previous year in which the business of the company commences; (ii) in a case referred to in clause (ii) of sub-section (1), the aggregate of the issued share capital, debentures and long-term borrowings as on the last day of the previous year in which the extension of the Industrial undertaking is completed, or, as the case may be, the new Industrial unit commences production or operation, in so far as such capital, debentures and long-term borrowings have been issued or obtained in connection with the extension of the Industrial undertaking or setting up of the new Industrial unit of the company; (c) "long-term borrowings" means— (i) any money borrowed by the company from the Government or the Industrial Finance Corporation of India or the Industrial

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Credit and Investment Corporation of India or any other financial institution which is eligible for deduction under clause (viii) of sub-section (1) of section 36] or any banking institution (not being a financial institution referred to above), or (ii) any money borrowed or debt incurred by it in a foreign country in respect of the purchase outside India of capital plant and machinery, where the terms under which such moneys are borrowed or the debt is incurred provide for the repayment thereof during a period of not less than seven years. (4) ……. (5) .…… (6) …….”

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Capital Employed Acquisition of M/S. Azure Acquisition of M/S. Solutions Ltd. (later Syndesis Ltd. (Later known as M/S. Subex known as M/S. Subex Azure (UK) Ltd. Americas Inc.) GDR Issue 11,72,87,280 - (1,12,28,728 @ Rs.10/ per GDR)

Share Premium @ 612,52,10,911 - 522.24 per GDR Issue of FCCB - 780,75,00,000 Total 624,24,98,191 780,75,00,000

show cause notice dated 11.11.2011 in which he called for details of

deduction claimed u/s.35D-Claimed on what expenses? It is very

important to notice that the AO did not call for any explanation with regard

to the basis on which the Assessee opted for deduction u/s.35D of the Act,

viz., 5% of capital employed in the business of the company as provided in

Sec.35(3)(b) of the Act. The AO also did not enquire as to what is the

Exchange gain on FCCB reinstatement of Rs.60,75,80,000/-. We have

already seen that the Assessee issued FCCBs for the purpose of

acquisition of shares of Acquisition of M/s. Syndesis Ltd. (Later known as

M/S.Subex Americas Inc.). Due to favourable fluctuation of foreign

exchange, the liability of the Assessee to repay FCCBs became less and

the consequent gain was not offered to tax as it was a gain on capital

account.

11.11.2011 sent a reply dated 22.11.2011 in which on the question of on

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what expenses deduction u/s.35D of the Act is claimed, pointed out that it is on expenditure for issue of GDR’s and FCCBs incurred by the company during the financial year ending 31.3.2007. The AO by another letter dated 30.11.2011 called upon the Assessee to clarify and furnish the following information:-

“ The company has claimed a sum of Rs.11,36,59,330/- as deduction u/s.35D. Please clarify whether your company is an “industrial undertaking” for the purpose of claiming deduction u/s.35D as it stood prior to 1.4.2009. Since the word “industrial” is removed only w.e.f.1.4.2009 applicable to AY 2009-10, the claim appears to be incorrect. Please clarify. However, it is requested that complete details of the expenditure incurred towards issue of GDRs and FCCBs may be furnished.”

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“A) Total amount eligible for deduction under section 35D would be the actual expenditure of INR 577,890,354 incurred by the assessee, as restricted to the higher of: a. 5% of the cost of project, or b. 5% of the capital employed in the business. B) The cost of project has been considered as NIL, as the assessee has shown the amount so invested as ‘Investments’ and not as fixed assets being plant and machinery, etc. C) For the purpose of computing capital employed, only the amounts invested to the extent raised through the issuance of Global Depository Receipts (‘GDRs’) has been considered. Furthermore, only the amount equivalent to the face value of the GDRs aggregating to INR 117,287,280 has been considered and the share premium aggregating to INR 6,125,210,911 has been ignored. Further, the amount raised from Foreign Currency Convertible Bonds (FCCBs) aggregating to INR 7,807,500,000 has been ignored in totality.

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D) Thus, the amount eligible for deduction under section 35D is being computed as under: Actual expenditure of INR 577.890,354. restricted to higher of: - 5% of the Cost of Project being NIL or - 5% of Capital employed, in this case, the amount being 5% of the face value of GDRs (i.e., 5% x 117,287,280 = INR 5,864,364) Thus the excess deduction allowed under section 35D would amount to INR 112,486,457, as computed below: Particulars Amount (INR) Amount allowed in terms of the order under section 113,659,330 143(3) Less: Amount eligible for deduction under section 35D 1,172,873 being 1/5th of INR 5,864,364 (as computed above) Excess deduction claimed under section 35D 112,486,457

(1) that deduction u/s.35D(3)(b) is calculated on the basis of 5% of capital employed and Sec.35D(3)(a) will not apply because the acquisition was of shares which were treated as investments by the Assessee in its books of accounts therefore “cost of project” was irrelevant consideration. For Sec.35D(3)(a) to apply the expenditure should be for acquiring land buildings etc., which are essentially fixed assets. Therefore only provisions of Sec.35D(3)(b) is applicable; and

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(2) for computing “Capital Employed” share premium ought to be ignored as it is not ”Issued share capital”. FCCBs are not in the nature of Debentures or long term borrowings.

(1) Regarding its claim for deduction u/s.35D(3)(a) on “Cost of Project”, the assessee submitted as follows:-

“1.7 As regards computation of ‘cost of project’, your honour will appreciate that the assessee had incurred the said expenditure towards issue of GDRs and FCCBs and was related to the extension of the industrial undertaking of the assessee. 1.8. There is no definition of the word “extension” under the Act. The assessee wishes to draw reference to P. Ramanatha Aiyar’s Law Lexicon Second Edition which shows that although the word “expansion” was considered as related to different fields, yet, the one in relation to industrial activity gives the meaning as “extension”. Thus going by the meaning assigned to the word “extension”, quite apart from the horizontal expansion in the industrial undertaking, vertical expansion also stands included within the meaning of the term ‘extension” of the industrial undertaking. 1.9 The assessee has incurred the aforesaid expenditure for the purpose of acquisition of Subex Americas Inc. and Subex UK Limited. Hence, the same was incurred for the purpose of expansion of the business of the assessee. This is evident from the very fact that the assessee’s gross revenue through these

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subsidiaries over the last two years has increased from 3,710 million to 5,408 million, being 46% increase in sales. 1.10 Further, with reference to the computation of the cost of project’, it would not be appropriate to hold in a narrow manner that the assessee has not shown any investment in fixed asset/land and building in order to opt for ‘cost of project’. It ought to he appreciated that the assessee had in fact expanded its business operations. Such acquisition could have been by direct acquisition of fixed assets outside India or through acquisition of subsidiaries, which offer benefits like ringfencing of liabilities qua the Indian company, undue exposure to foreign taxation, etc. The assessee submits that the term ‘being’ used in the definition of ‘cost of project’ should be understood in a manner which supports the purpose and intention of the said section. The meaning of the term thus not restricted only to land, buildings, leaseholds, plant, machinery, furniture, fittings and railway sidings (including expenditure on development of land and buildings). 1.11 The assessee wishes to place reliance on the decision of Madhya Pradesh High court in the case of Commissioner of Income tax v. Shree Synthetics Ltd [1986] 162 ITR 819 (Copy of the decision enclosed as Annexure 2) which was rendered in the context of section 35D (2) of the Act wherein it has been held that: “The word ‘being’ has been used in section 35D(2)(c)iv by way of illustration and is not restricted only to the words ‘underwriting commission, brokerage and charges for drafting, typing, printing and advertisement of the prospectus” (emphasis supp1ied)

1.12 In view of the above discussions, the assessee has rightfully claimed the aforesaid expenditure as ‘cost of project’ for the purpose of acquisition of Subex Americas Inc and Subex UK Limited. 1.13 In light of above, the ‘cost of project’ for the purposes of computing the deduction under section 35D ought to be INR 14,223,443,668.

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(2) With regard to computation of “Capital Employed”, the Assessee took a stand Share premium should also be treated as part of “issued Share capital” as per Sec.78 of the Companies Act, 1956. The Assessee also relied on a decision of the ITAT Ahmedabad Bench in the case of

JCIT Vs. Sirhind Steel Ltd. 97 ITD 502(Ahd.) wherein in the context of

Sec.35D, the Bench took the view that Share premium has to be considered as part of “Issued Share capital”.

(3) On the question of whether FCCBs can be treated as “Debentures”, the Assessee submitted that Sec.2(12) of the Companies Act, 1956 defines “Debentures” to include debenture stock, bonds and any other securities of a company, whether constituting a charge on the assets of the company or not. FCCB is bonds and therefore Debentures within the meaning of the terms u/s.35D. The Assessee also pointed out that FCCBs were issued under the Foreign Currency Convertible Bonds and Ordinary Shares (Through Depository Receipt Mechanism) Scheme, 1993 wherein the meaning of FCCBs is given as “bonds issued in accordance with the said scheme and subscribed by a non-resident in foreign currency and convertible into ordinary shares of the issuing company in any manner, either in whole, or in part, on the basis of any equity related warrants attached to debt instruments”. The Assessee therefore submitted that FCCBs should be equated with Debentures for the purpose of computing capital employed u/s.35D of the Act.

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(4) With regard to treating “unrealized foreign exchange gain” as income chargeable to tax, the Assessee submitted as follows:-

“2.1 During the course of the hearing, your honour relying on the decision of the Honorable Supreme Court in the case of Woodward Governor (supra) (A copy of the decision is enclosed herewith as Annexure 5), mentioned that the unrealized foreign exchange gain amounting to INR 607,500,000 should be treated as income for the year under consideration. 2.2 In this context, we submit that the Hon’ble Supreme Court in the instant case has analyzed the tax treatment of unrealized foreign exchange gain/loss arising out of restatement of liabilities, incurred for revenue purposes/purchase of capital assets, denominated in foreign currency. The implications have been analyzed in two baskets: - In the first category. the exchange differences arising on revenue items; and - In the second category, the exchange differences arising on liabilities incurred for the purpose of acquiring capital assets. 2.3 In this connection, the Apex court held that any revenue loss suffered by the assessee on account of exchange difference would be deductible in computing the total income of the assessee inasmuch as the assessee complies with acceptable accounting standards. 2.4 As regards, restatement of foreign exchange gain/loss arising on liabilities incurred for the purposes of acquiring capital assets, the same would have to be adjusted as per the provisions of Section 43A of the Act. 2.5 In the present case, the foreign exchange gains arising on account of the restatement of liability with respect to funds sourced are for the purposes of making investments outside India and related to expansion of business of the assessee. The details of investments as appearing in the audited annual report for the financial year ended March 31, 2008 is enclosed as Annexure 6.

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2.6 Therefore, any exchange gain/loss arising on account of reinstatement of liability with respect to the funds sourced for investments would have to be adjusted in accordance with Section 43A of the Act. 2.7 Further, in terms of Section 43A, any foreign exchange gains/losses would be adjusted to the cost of asset at the time of making the payment of the said liabilities. 2.8 Thus, in the instant case, any exchange gains arising on account of restatement of foreign exchange liabilities with respect to the investments made outside India ought to be adjusted only against the “Cost of Investment” in the year of payment. 2.9 Furthermore, the assessee has suo-motu added back an amount of Rs 1.929,600,000 being foreign exchange loss on restatement of such liability arising in connection with investments made outside India in its return of income for ÀY 09-10. A copy of relevant extract of computation of income of ÀY 09-10 is enclosed herewith as Annexure 7. 2.10 Accordingly, in view of the above, the assessee prays that the unrealized gains ought not to be treated as income for the year under consideration.”

(5) On the question whether jurisdiction u/s.263 of the Act could be exercised in a case such as the Assessee, the Assessee submitted as follows:-

“2.11 It is apparent from a bare reading of the provisions of section 263 of the Act that the prerequisite to exercise jurisdiction by the Commissioner of Income-tax (‘CIT’) is that the order of the Assessing Officer is erroneous in so far as it is prejudicial to the interests of the Revenue. The CIT has to satisfy the twin conditions, namely, — the order of the AO sought to be revised is erroneous; and — it is prejudicial to the interest of the revenue.

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2.12 It is only when an order satisfies both the above conditions, that section 263 would get attracted. 2.13 The expressions ‘erroneous’, ‘erroneous assessment’ and ‘erroneous judgment’ have been defined in Black’s Law Dictionary, Sixth Edition, page 542. As per the definition – — ‘Erroneous’ means’ involving error’, ‘deviating from the law’. — ‘Erroneous assessment’ refers to an assessment that deviates from law and therefore invalid. 2.14 In the present case, the assessee has provided detailed explanations before the AO regarding the deduction claimed under section 35D vide letters dated November 22, 2011 and December 9, 2011. Copies of relevant extracts of these submissions are enclosed herewith as Annexure 8. 2.15 In light of above, it can be said that the explanations/clarifications offered by the assessee has been accepted by the AO and hence, the AO has applied his mind and allowed deduction under section 35D after considering the same and therefore, the order cannot be said to be erroneous in any manner on the said issue. 2.16 As regards, gains on restatement of liabilities, the assessee had specifically provided the details in the computation of income submitted to the learned AO vide letter dated October 26,2010. 2.17 Thus, where the AO examines the accounts, makes enquiries, applies his mind to the facts and circumstances of the case and determines the income either by accepting the accounts or by making some estimates himself it can be said that the AO has arrived at a conclusion and such a conclusion cannot be simply be termed erroneous because the Commissioner does not feel satisfied with the conclusion. 2.18 Reliance can be placed in the case of CIT v Ganpat Rain Bishnoi (2008) 296 ITR 292 (Raj), wherein it was held that where it is found that the assessing officer has made the assessment after making relevant enquiries and considering all aspects of the matter, then invoking of any proceedings under

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section 263 is unsustainable. (A copy of the decision is enclosed herewith as Annexure 9).

Issue No.1

18.1 With regard to exercise of jurisdiction u/s.263 of the Act, the CIT was of the view that the AO did not verify the claim of the Assessee for deduction u/s.35D of the Act, by taking note of the definition of capital employed and as to whether share premium can be considered as part of the capital employed and whether FCCBs can be considered as debentures and taken as part of capital employed for the purpose of allowing deduction u/s.35D of the Act. Though the claim for deduction u/s.35D of the Act was subject to scrutiny by the AO while concluding the assessment, there are several perspectives to allowing deduction u/s.35D of the Act and the perspective pointed out in the show cause notice u/s.263 of the Act were not verified by the AO and therefore his order was erroneous and prejudicial to the interest of the revenue. In coming to the above conclusion the CIT placed reliance on the decision of the Hon’ble

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Karnataka High Court in the case of CIT Vs. Infosys Technologies Ltd.

341 ITR 293 (Karn.). In the aforesaid decision, the assessee claimed

certain reliefs in terms of DTAA. The assessing authority had indicated that, deductions on such amounts were in terms of double taxation agreement relief in existence between our country and the countries of Canada and Thailand and allowed reliefs as claimed by the assessee. The CIT revised the said order u/s.263 of the Act and directed the AO to examine the terms of the DTAAs with Canada and Thailand and ascertain the exact relief that the assessee can claim under art. 23(2) of the DTAA with Canada and art. 23(3) of the DTAA with Thailand. The assessee being aggrieved with the revisional orders passed by the CIT, preferred appeals to the Tribunal. Assessee urged, among other grounds, that the CIT could not have exercised jurisdiction under s. 263 of the Act for the reason that the order which was sought to be revised was neither shown to be erroneous nor prejudicial to the interest of the Revenue and in fact, it is virtually a case of the CIT opining differently from the assessing authority and therefore, was not amenable to the revisional jurisdiction. The Tribunal agreed with the submission of the Assessee and quashed the order u/s.263 of the Act. On further appeal by the Revenue, the Hon’ble Karnataka High Court held:-

“20. Though it is either vaguely or loosely described by the authorities, even including the Tribunal that the CIT lacked jurisdiction to exercise revisional powers in a situation of the present nature, as it was virtually in the nature of change of

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opinion on the part of the CIT, taking a different view from the view taken by the assessee to the effect that the authority taking the view that the assessee was entitled for deduction in full, but the CIT doubting that, that in itself does not become a situation of the order being erroneous, the question is not one of the order being erroneous directly with reference to the specific statutory provision but could be on a procedural aspect also. 21. In the present case, while there is no doubt that the assessee is entitled to claim deduction in terms of the arts. 23(3)(a) and 23(4) of the agreements between India with Canada and Thailand respectively, the question is one of what exactly was the entitlement ? In the absence of any discussion either in the assessment order or in the computation claim, particularly as the extent of relief that can be claimed under these two articles is only after a specific exercise and though Sri Sarangan has very vehemently urged that it is not necessary for the assessing authority to make all these things explicit, so long as he is satisfied, on the strength of the authority of the Supreme Court not only in the case of Electro House (supra) and more so on the basis of the observations and law as declared in the case of Malabar Industrial Co. Ltd. (supra), we are fully satisfied that a situation where a deduction of the present nature is allowed or in the sense deducted from out of the tax liability of the assessee without indicating the basis, can definitely be construed as an order both erroneous and prejudicial, as this is definitely a possibility and it is only because it is per se, not discernable in the revisional order, but definitely gives rise to a situation where the CIT may consider the order as erroneous and prejudicial and the CIT having remanded the matter to the assessing authority, we are of the clear opinion that it cannot be characterized as a situation beyond the realm of s. 263 of the Act, as the order being erroneous and prejudicial is a clear possibility particularly the assessing authority not disclosing the basis. 22. To test this proposition, if an order which is explicit is passed by the assessing authority and indicating that the assessee is entitled to a particular extent of relief, but if it is with reference to relevant articles of the DTAA and if it is not either a proper computation or not fully in consonance with the same and if it has resulted in a situation of granting a greater relief than the assessee is otherwise entitled to under these agreements and if the CIT can revise such an order without any hassle in the exercise of

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revisional jurisdiction under s. 263 of the Act and can correct the order which is erroneous and prejudicial to the interest of the Revenue, just because the assessing authority does not spell out the reasons and therefore can avoid scrutiny under s. 268 of the Act, is an argument which is not logical or rational and not acceptable and at any rate on the authority of the Supreme Court in the case of Malabar Industries Co. (supra) is not an acceptable submission. 23. Though learned counsel for the assessee have placed strong reliance on two judgments of the Bombay High Court and the Delhi High Court in the cases of Gabriel India Ltd. (supra) and Ashish Rajpal (supra) respectively and the Delhi High Court, in fact, has made reference to the decision of the Supreme Court in the case of Max India Ltd. (supra), with great respect, we are unable to apply the ratio of these two decisions to the present circumstance and we are quite satisfied that the law declared by the Supreme Court not only in the case of Electro House (supra) and also in the case at Malabar Industries Co. (supra) fully covers the situation, no further need to discuss with any greater elaboration on the view expressed by the Bombay and the Delhi High Courts.”

Issue No.2

On the question whether the Assessee can be allowed relief on the 18.2 basis of “Cost of Project” u/s.35D(3)(a) of the Act, the CIT held that the definition of cost of project in Explanation (a) below Sec.35D(3) of the Act referred to “actual cost of the fixed assets, being land, buildings, leaseholds, plant, machinery, furniture, fittings and railway sidings (including expenditure on development of land and buildings), which are shown in the books of the Assessee”….. The CIT held that the cost of acquisition of the two businesses were shown as “Investments” by the Assessee in its Balance sheet and the same cannot be called “Fixed

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Assets” and therefore the claim in this regard by the Assessee cannot be accepted.

Issue No.3

18.3 With regard to including Share Premium as part of the Issued Share capital and treating FCCBs as Debentures while computing “Capital Employed”, the CIT held that share premium cannot be regarded as part of capital employed. In coming to the aforesaid conclusion, the CIT placed reliance on the decision of the Hon’ble Delhi High Court in the case of Berger Paints India Ltd. Vs. CIT 292 ITR 658 (Del.). In the aforesaid

decision the Hon’ble Delhi High Court was concerned with a question as to whether share premium can be considered as part of the capital employed for the purpose of allowing deduction u/s.35D of the Act. The Hon’ble Delhi High Court held that as per Explanation to sub-s. (3) of s. 35D, capital employed in the business of the company is the aggregate of three distinct components namely, share capital, debentures and long-term borrowings. It does not include reserves and surplus of the company. Therefore, premium, if any, collected by the company on the issue of its share capital does not constitute a part of capital employed in the business of the company for the purpose of quantification of deduction under s. 35D.

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Issue No.4

18.4 With regard to the question whether FCCBs can be considered as “Debentures” and taken as part of capital employed for allowing deduction u/s.35D of the act, the CIT held as follows:-

“4.5. The Assessee also contended that the Foreign Currency Convertible Bonds are documents which creates or acknowledges a debt and should be equated with debentures but not produced any evidence to support its claim. In the absence of evidence, the Assessee’s claim is rejected.”

Issue No.5

18.5 With regard to the question whether unrealised foreign exchange gain should be treated as “Income” or not, the CIT(A) was of the following view:

“4.7. The Assessee on one hand states that any exchange gain/loss arising on account of restatement of liability with respect to the funds sourced for investments would have to be adjusted in accordance with the Sec.43A of the Act. On the other hand states that it has suo-motto added back an amount of Rs.192,96,00,000 being foreign currency loss on restatement of such liability arising in connection with the investments made outside India in its return of income for AY 2009-10. The Assessee statement appears contradictory. In the absence of full evidences, the assessee claim could not be verified. The Assessing Officer is directed to examine the same and to bring the gain to tax accordingly.”

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counsel for the Assessee are substantially the same as were made before the CIT in the proceedings u/s.263 of the Act. The learned DR’s stand was similar to the stand taken by the CIT in the impugned order u/s.263 of the Act.

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Such a course of action is open only in cases of "lack of enquiry". Contention of the Revenue that the AO did not consider as to whether the expenditure in question was capital or revenue expenditure cannot be accepted. Although apparently the assessment does not give any reasons for allowing the entire expenditure as revenue expenditure, that by itself would not be indicative of the fact that the AO has not applied his mind to the issue. AO is not required to give detailed reason in respect of each and every item of deduction in the assessment order. AO had called for explanation regarding this very item and the assessee had furnished its explanation. It cannot be said that it is a case of 'lack of enquiry'. Further reliance was also placed by him on the decision of the Hon’ble Delhi High Court in the case of CIT Vs. Anil Kumar Sharma 335 ITR 83 (Del) wherein the facts were that the CIT came to the conclusion that the issue relating to taxability of compensation received by the assessee was not examined by the AO and held that the order of the AO is erroneous and prejudicial to the interest of the Revenue. The Tribunal has arrived at a conclusive finding that though the assessment order does not patently indicate that issue of the taxability of the compensation has been considered by the AO, the record shows that the AO had applied his mind. The Hon’ble Delhi High Court held that it is not a case of lack of enquiry even if the enquiry was inadequate and the CIT was not justified in passing the order under s. 263.

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did not go into the question of computation of capital employed for allowing deduction u/s.35D of the Act. The enquiry made by the AO was only with regard to the details of expenditure incurred on which deduction u/s.35D of the Act was claimed. The computation of deduction u/s.35D(3) of the Act did involve looking into the definition of “capital employed” and coming to a conclusion whether “Share Premium” or “FCCBs” can be considered as “Issued share capital” or “debentures” respectively, for the purpose of inclusion as part of capital employed. There are different perspectives to the claim for deduction u/s.35D of the Act and if one of the perspectives had not been looked into by the AO while completing the assessment, then on that perspective, if there is a loss to the revenue, the jurisdiction u/s.263 of the Act can be invoked. The decision of the Hon’ble Karnataka High Court in the case of Infosys Technologies Ltd. (supra), clearly supports the stand of the revenue in this regard. The view expressed by the Hon’ble Karnataka High Court, which is the jurisdictional High court, therefore supports the plea of the Assessee. The view expressed by the Hon’ble Delhi High Court, in the decisions referred to by the learned counsel for the Assessee, is therefore, held to be not binding.

Developers (P) Ltd. Vs. CIT (2013) 40 taxmann.com 75 after

considering the decision of the Hon’ble Karnataka High Court in the case of Infosys Technologies Ltd. (supra) has held that if AO made enquiries

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and applied his mind than the CIT cannot revise the order u/s.263 of the Act. In the present case, We have already seen that the AO did not apply his mind to the aspects set out by the CIT in the order u/s.263 of the Act. Therefore the decision referred to by the learned counsel for the Assessee does not support the plea of the Assessee in this regard.

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was passed, the position was that the 1st year in which the claim u/s.35D could have been varied or disallowed i.e., in AY 07-08 stood allowed. He relied on the following decisions for the proposition that once deduction u/s.35D is allowed in the first year of its claim, it cannot be disallowed in the subsequent years for which the deduction is to be allowed:-

ACIT Vs. J.V. Strips Ltd., ITA No.364/Del/2012 order dated 5.7.2013. Gujarat Narmada Valley Fertilizers Co. Ltd. Vs. DCIT (2014) 45 Taxmann.com 38 (Gujarat) CIT Vs. Paul Brothers (1995) 79 Taxman 378 (Bom.)

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of time that jurisdiction u/s.263 can be exercised. We therefore reject this argument of the learned counsel for the Assessee.

Thus issue No.1 is answered against the Assessee. 26.

The second issue to be considered is as to whether the Assessee 27. can be allowed relief on the basis of “Cost of Project” u/s.35D(3)(a) of the Act?

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never opted to claim 5% of the “cost of the project u/s.35D(3)(a) of the Act. Cost of Project has been defined in Expln. (a) (ii) as :-

(ii) in a case referred to in clause (ii) of sub-section (1), the actual cost of the fixed assets, being land, buildings, leaseholds, plant, machinery, furniture, fittings and railway sidings (including expenditure on development of land and buildings), which are shown in the books of the assessee as on the last day of the previous year in which the extension of the Industrial undertaking is completed or, as the case may be, the new Industrial unit commences production or operation, in so far as such fixed assets have been acquired or developed in connection with the extension of the Industrial undertaking or the setting up of the new Industrial Unit of the assessee;

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stretch of imagination as land or building, plant or machinery etc., and treated as “cost of project” for the purpose of allowing deduction u/s.35D of the Act. This issue is accordingly decided against the Assessee.

The third issue that arises for consideration is the issue as to 31. whether Share Premium can be regarded as part of the Issued Share capital while computing “Capital Employed”? The CIT held that share premium cannot be regarded as part of capital employed. In coming to the aforesaid conclusion, the CIT placed reliance on the decision of the Hon’ble Delhi High Court in the case of Berger Paints India Ltd. Vs. CIT 292 ITR 658 (Del.). In the aforesaid decision the Hon’ble Delhi High Court was concerned with a question as to whether share premium can be considered as part of the capital employed for the purpose of allowing deduction u/s.35D of the Act. The Hon’ble Delhi High Court held that as per Explanation to sub-s. (3) of s. 35D, capital employed in the business of the company is the aggregate of three distinct components namely, share capital, debentures and long-term borrowings. It does not include reserves and surplus of the company. Therefore, premium, if any, collected by the company on the issue of its share capital does not constitute a part of capital employed in the business of the company for the purpose of quantification of deduction under s. 35D.

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502(Ahd.) in the context of Sec.35D, the Bench took the view that Share

premium has to be considered as part of “Issued Share capital”. The Delhi High Court in the case of Berger Paints (supra) has however taken a contrary view. According to him the issue was debatable and two views were available on the issue and therefore no fault can be found in the order of the AO to warrant exercise of jurisdiction u/s.263 of the Act. The learned counsel for the Assessee also submitted that the decisions that come later in point of time and on the date when jurisdiction u/s.263 of the Act was exercised cannot obliterate the existence of debate on the date when order of assessment was passed. The issue was debatable. In this regard he relied on the following decision: Kishanchand J. Bhavnani (HUF) Vs.

WTO 29 ITD 383 (Bom.) wherein it was held that subsequent decision of

jurisdiction High Court cannot give raise to a mistake apparent on the face of the record warranting rectification u/s.254(2) of the Act. He also relied on the decision of ITAT Ahmedabad Bench in the case of Kanel Oil &

Export Inds. Ltd. Vs. JCIT 121 ITD 596 (Ahd.) (TM ) wherein it was

held that decision of the non-jurisdiction High Court if it is shown to be rendered in ignorance of certain statutory provisions that are directly relevant is not binding. In this regard the argument was that Sec.78 of the Act was not considered by the Hon’ble Delhi High Court in the case of Berger Paints (supra) whereas the ITAT Ahmedabad Bench in the case

of Sirhind Steel Ltd. (supra) had considered those provisions to arrive at

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a conclusion that Share premium has to be considered as part of “Issued Share capital” while allowing deduction u/s.35D of the Act.

fiction of treating share premium as part of paid up capital for the purpose of reduction of the same. Sec.78(2) of the Companies Act, 1956 prohibits use of share premium for any purpose other than the purposes set out therein. Can it be said that share premium could be employed in the business of the Assessee as share capital? In our view therefore there is no merit in the contention of the learned counsel for the Assessee that share premium should be regarded as part of the “issued share capital” for allowing deduction u/s.35D of the Act.

the Assessee.

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The fourth issue that arises for consideration is as to whether 35. question whether FCCBs can be considered as “Debentures” and taken as part of capital employed for allowing deduction u/s.35D of the Act?

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and convertible into ordinary shares of the issuing company in any manner, either in whole, or in part, on the basis of any equity related warrants attached to debt instruments, we are of the view that FCCBs are to be regarded as debentures and consequently be considered as part of “capital Employed” for allowing deduction u/s.35D of the Act. We hold and direct accordingly and decide the issue in favour of the Assessee.

The last issue that arises for consideration is as to whether 37. unrealised foreign exchange gain should be treated as “Income” or not?

(Mad.).

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“At the outset, for the sake of convenience, we may state that in this batch of civil appeals broadly we have before us two categories. In the first category, we are concerned with exchange differences arising in foreign currency transaction on revenue items. In such category, we are concerned with the assessee(s) incurring loss on revenue account. In that category, we are concerned with the provisions of ss. 28, 29, 37(1) and 145 of the IT Act, 1961 ("1961 Act"). In the second category of cases, we are concerned with exchange differences arising on repayment of liabilities incurred for the purpose of acquiring fixed assets. In other words, in the second category of cases, we are concerned with the assessee(s) incurring liabilities on capital account. In such cases, we are required to consider the provisions of s. 43(1), 43A (both, before and after amendment vide Finance Act, 2002).”

Thereafter in para 22 of its judgment it dealt with cases where the fluctuation is on account of capital items as follows:-

“Facts in M/s Honda Siel Power Products Ltd. (Civil Appeal arising out of SLP(C) No. 7632/08) Capital account case :

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In the case of PVP Ventures Ltd. (supra), the facts were that the 41.

Assessee gained from exchange fluctuation. The fluctuation was on foreign exchange received pursuant to issue of shares in the form of GDS. The assessee kept a part of the money abroad. When the money was brought to India, due to strong dollar position, the assessee gained on the

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repatriated amount. This was claimed as a capital receipt. The amount had direct nexus with the capital raised and consequently the assessee contended the same was a capital receipt. The Commissioner of Income Tax pointed out that there was no dispute with regard to the fact that the exchange fluctuation income related to the deposit of money raised by the assessee from the GDS issue. Pointing out the printed prospectus to the issue of GDS, the Commissioner viewed that the aggregate net proceeds received were used principally to fund the establishment of offshore software development and the balance was used for working capital and for other general corporate purposes. The Commissioner viewed that the assessee had kept FDs of the GDS proceeds on its own and not because of any compulsion. Consequently, the amount received on account of exchange fluctuation to the tune of Rs.16,35,77,977/- was to be treated as revenue receipt and the Assessing Officer erred in reducing it in the income of the assessee while computing the deduction under Section 80HHE. The Hon’ble Madras High Court held that the claim of the revenue was unsustainable. The Hon’ble Court held that since the amount had direct nexus with the capital raised, the assessee’s claim that the same was capital receipt and hence not taxable was correct.

the case of the Assessee in this appeal. FCCBs are instruments issued to investors for raising funds which is repayable after certain period. It is a

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debt instrument. The increase or decrease in liability on account of fluctuation in foreign exchange as on the date of the Balance sheet would increase or decrease the liability of the Assessee and such liability would be on capital account. Therefore the gain or loss would be on capital account and not taxable. We accordingly hold in favour of the Assessee on this issue.

In the result appeal of the Assessee is partly allowed. 43.

Pronounced in the open court on this 19th day of June, 2015.

Sd/- Sd/- ( JASON P. BOAZ ) ( N.V. VASUDEVAN ) Accountant Member Judicial Member Encl: Annexures I & II. Bangalore, Dated, the 19th June, 2015. /D S/ Copy to: 1. Appellant 2. Respondent 3. CIT 4. CIT(A) 5. DR, ITAT, Bangalore. 6. Guard file By order

Assistant Registrar/ Senior Private Secretary ITAT, Bangalore.