Ita/653/2013 Of The Commissioner Of Income - Tax v. M/S Biocon Ltd

IN THE HIGH COURT OF KARNATAKA AT BENGALURUDATED THIS THE 11 DAY OF NOVEMBER 2070. PRESENT| THE HON’BLE MR. JUSTICE ALOK ARADHE AND| THE HON’BLE MR. JUSTICE H.T.NARENDRA PRASAD BETWEEN: LT.A. NC.653 OF 2013 1.|THE COMMISSIONER OF INCOME-TA® LTU JSS TOWERS| BSK III STAGE BANGALORE. 2.|THE DY. COMMISSIONER OF INCOME-TAX LIU JSS TOWERS| BSK III STAGE BANGALORE. (BY SRI.K.V.ARAVIND, ADV.,) .., APPELLANTS. AND" M/S BIOCON LTD.2OTH KM, HOSUR ROADELECTRONIC CITY|HEBBAGOD]BANGALORE - 560 100. (BY SRI.T.SURYANARAYANA, ADV.) ~. RESPONDENT THIS ITA IS FILED UNDER SECTION 260-A OF I.T. ACT,1961 ARISING OUT OF ORDER DATED 16.07.2013 PASSED IN ITA.NO.248/BANG/2010 FOR THE ASSESSMENT YEAR 2004-05,PRAYING TO: (1) FORMULATE THE SUBSTANTIAL QUESTIONS OF LAW.STATED ABOVE. (11) ALLOW THE APPEAL AND SET ASIDE THE ORDERS.PASSED BY THE ITAT, BANGALORE IN ITA NO.248/BANG/2010—DATED 16.07.2013 CONFIRMING THE ORDER OF THE APPELLATE.COMMISSIONER AND CONFIRM THE ORDER PASSED BY THEDEPUTY COMMISSIONER OF INCOME TAX, LTU, BANGALORE. THIS ITA COMING ON FOR FINAL HEARING, THIS DAY,ALOK ARADHE J.,DELIVERED THE FOLLOWING: | JUDGMENT This appeal under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as the Act for short) has been preferred by the revenue. The subject matter|of the appeal pertains to the Assessment year 2004-05.The appeal was admitted by a bench of this Court videorder dated 07.03.2014 on the following substantial|questions of law:| (i) Whether on the facts and in thecircumstances of the case and In law thetribunal was right in holding that thediscount on tssue of ESOP Is allowab/ededuction in computing the income under.the head profits and gains of the business? (11)Whether on the facts and in thecircumstances of the case and In law thetribunal was right in holding that differencebetween market price of the shares at thetime of grant of option and offer priceamounts to discount and the same has to betreated as remuneration to the employeesfor their continuity of service? (iii) Whether on the facts and in thecircumstance of the case and In law thetribunal committed an error [In not [In noexamining the scheme of ESOP from which itis clear that the employees will not get anyright in the shares till completion of the.period|prescribedandtheexpenditureclaimed is contingent and recorded perversefinding? 2 |Facts leading to filing of this appeal brieflystated are that the assessee is a company engaged in|thebuSINeSSofmanufactureofEnzymesandPharmaceuticals Ingredients. The assessee filed itsreturn of Income for the Assessment Year 2004-05 on. 31.10.2004 declaring total income of Rs.50,65,18,080/-.The case was selected for scrutiny by the Assessing.Officer. The Assessing Officer by an order dated|29.17.7006 inter alia held that assessee has floated a/scheme viz., Employees Stock Option Plans (ESOP) andunder the scheme had constituted the Trust. The shares.of the company were transferred to the trust at the facevalue and the employees of the assessee were allowed.to exercise the option to buy the snares within the timeprescribed under the scheme subject to terms and/conditions mentioned therein. The assessee claimed the|difference of market price and allotment price as adiscount and claimed the same as an expenditure under.Section 37 of tne Act. Tne Assessing Officer rejected theclaim on the ground that the assessee has not incurredany expenditure and the expenditure is contingent in|nature and therefore, the assessee is not entitled to)claim the difference between the market price and theallotment price as an expenditure under Section 37 of the Act. The assessee thereupon filed an appeal before.the Commissioner of Income Tax (Appeals) who by an.order dated 13.11.2009 dismissed the appeal preferredby the assessee. the Act. The assessee thereupon filed an appeal before.the Commissioner of Income Tax (Appeals) who by an.order dated 13.11.2009 dismissed the appeal preferredby the assessee. 3The assessee thereupon filed an appealbefore the Income Tax Appellate Tribunal (hereinafterreferred to as the tribunal for short). The division bench.of the tribunal made a reference to the special bench.The special bench referred the question ‘whetherdiscount on the issue of employees for options isallowable as deduction in comnputing the income under|the nead profits and gains of Dusiness?. Tne Specialpencn of the tribunal by an order dated 16.07.2013.while answering the reference inter alia held different:amount of between the market value and the face value|at which shares are allotted are part of remuneration,which are paid to the employees in order to compensatethem for the continuity of their services to the company.and therefore, the same Is allowable as an expenditure. under Section 37 of the Act. It was further held that the.expenditure is not contingent in nature. The appealpreferred by the assessee was directed to be placedbefore the division bench for decision in the light of findings recorded by the special bench. In the aforesaidfactual background, the revenue Nas filed this appeal. Learned counsel for the revenue submitted that theexpenses claimed by the assessee towards ESOP was.neither incurred nor accrued during Assessment Year.2004-05 and therefore, the same could not be claimed.as deduction under Section 37 of the Act. It ts further|submitted that expenses towards ESOP is contingent|and not crystallized liability which was enforceableduring Assessment Year 2004-05 and “since, tneassessee is following mercantile system of accounting,the expenditure is not allowable during the year. It was|also submitted that expenditure claimed by the assesseeis not real and same is hypothetical, notional andimaginary. It is also urged that the shares are not Nanded over to the employees and the aforesaidexercise is liable for termination in any situation eitherat the instance of the employer or the employee. It isalso urged that in a case where mercantile system of.accounting is followed unless a legal liability is incurred,the expenditure is not allowable as accrued. It is also.contended that in the instant case, as the control ofshares remains with the assessee for the period ofscheme, the assessee has neither assumed any liabilitynor has incurred the same. It is also argued that the|tribunal has failed to appreciate that no amount was.paid to claim the same as expenditure under Section.37(1) of the Act. It is also urged that the tribunal hasfailed to appreciate mercantile system of accounting. InSupport of aforesaid submissions, reliance has been.placedON|decisions.of Supreme.CourtIn‘COMMISSIONER OF INCOME-TAX, BANGALORE VS.INFOSYS|TECHNOLOGIESLTD.(, (2008)166|TAXMAN 204 (SC), MORVI INDUSTRIES LTD VS. COMMISSIONER OF INCOME-TAX', (1971) 82 ITR8.35(SC),"KESHAYVMILLSLTD.YS, COMMISSIONER OF INCOME-TAX, (153) 23 ITR230 (SC), ‘COMMISSIONER OF INCOME-TAX VS. A.GAJAPATHY NAIDU’, (1964) 53 ITR 114 (SC). 4On the other hand, learned counsel for theassessee submitted that discount on the issue of ESOPs|is not a contingent liability Dut is an ascertained one. Itis further submitted that ESOPs vest over a period of 4.years at the rate of 24%, which means that at the endof first year the employee Nas a definite right of 25% of the shares and the assessee is bound to allow the'vesting of 25% of the options. In this connection, ourattention has been invited to paragrapns 9.3.1 to 9.3.6.of the order passed by the tribunal and reliance has—been placed on decision of the Supreme Court in‘BHARAT EARTH MOVERS VS. CIT, (2000) 112TAXMAN 61 (SC), ROTORK CONTROLS INDIA PVT.LTD VS. CIT, (2009) 180 TAXMAN 422 (SC).It Is) 4On the other hand, learned counsel for theassessee submitted that discount on the issue of ESOPs|is not a contingent liability Dut is an ascertained one. Itis further submitted that ESOPs vest over a period of 4.years at the rate of 24%, which means that at the endof first year the employee Nas a definite right of 25% of the shares and the assessee is bound to allow the'vesting of 25% of the options. In this connection, ourattention has been invited to paragrapns 9.3.1 to 9.3.6.of the order passed by the tribunal and reliance has—been placed on decision of the Supreme Court in‘BHARAT EARTH MOVERS VS. CIT, (2000) 112TAXMAN 61 (SC), ROTORK CONTROLS INDIA PVT.LTD VS. CIT, (2009) 180 TAXMAN 422 (SC).It Is) also argued that for the purposes of Section 37(1) of theAct, it is sufficient if the expenditure has been incurredand therefore, issuance of shares at a discount were the.assessee absorbs the difference between price at which.it is Issued and the market value of the shares would)also be an expenditure incurred for the purpose ofSection 37 of the Act. Our attention has been invited to the findings recorded by the tribunal in paragrapNns 9.2.7to 9.2.8 of the tribunal and reliance nas been placed on.decisions in.'MADRAS INDUSTRIAL INVESTMENTCORPN. LTD. VS. CIT’, (1997) 225 ITR 802 (SC),‘CIT VS. WOODWARD GOVERNOR (INDIA) PVT.LTD.', (2009) 179 TAXMAN 326 (SC).It is also urgedthat discount on issue of ESOPs is only a form ofcompensation paid to the employee and if not a shortcapital receipt. It is also urged that deduction of.discount on ESOP over the vesting period is in|accordance with the accounting in the books of.accounts, wnicnh were prepared in Securities And Exchange Board of India (Employee Stock Option.SchemeandEmployee|StockPurchaseScheme) Guidelines, 1999. In support of aforesaid submission.reliance has been placed on decision in'CIT VS. UP|STATE|INDUSTRIAL DEVELOPMENTCORPORATION, (1997) 92 TAXMAN 45 (SC),"CHALLAPALLI SUGARS LTD. VS. CIT’, (1975) 88&ITR 167 (SC).It is also urged that the decision reliedon by the revenue does not support its case and theissue with regard to deduction of ESOP has been decidedby different High Courts. In this connection, reference|has been made to'"CIT VS. PVP VENTURES LTD.',(2012) 23 TAXMANN.COM 286 (MAD), CIT VS.LEMON TREE HOTELS LIMITED, ITA NO.107/2015.DECIDED ON 18.08.2015, CIT VS. LEMON TREE.HOTELS LIMITED’, (2019) 104 TAXMANN.COM 26(DEL).It is also pointed out that from the AssessmentYear 2009-10, the Assessing Officer has accepted theclaim of the assessee and has permitted ESOP expenses— as deduction. Therefore, the revenue cannot be nowpermitted to alter its stand. _ 5By way of rejoinder reply, learned counsel for.the revenue submitted that judgment of the Supreme.Court in Bharat Earth Movers is no applicable to the factsituation of the case as in the aforesaid decision the|Supreme Court was dealing with statutory liability|pending fixation of liability, whereas, in the instant case,the assessee has a liability, therefore, the aforesaid |decision of the Supreme Court does not apply. It is also.pointed out that in Rotork Controls India, the Supreme.Court was dealing with allowability of provision as.deduction and it has been held that subject tocompliance of certain conditions on matching principle,the deduction is permissible. It has further been held in.the aforesaid decision that income from sale of goodsis |Subjected|CO.tax,therefore,|thecorrespondingexpenditure is to be allowed in the same year. Tneaforesaid decision is aiso of no assistance to tne! assessee as the assessee has not incurred any.expenditure. assessee as the assessee has not incurred any.expenditure. 6.|We have considered the submissions made.by learned counsel for the parties and have perused therecord. The singular issue, which arises for considerationin this appeal is whether the tribunal is correct in holdingthat discount on the issue of ESOPs i.e., differencebetween the grant price and the market price on the.Shares as on the date of grant of options is allowable as qa deduction under Section 3/7 of the Act. Beforeproceeding further, it is apposite to take note of Section37(1) of the Act, whicn reads as under: Section 3/7(1) says that any expenditure(not being expenditure of the nature describedin sections 30 to 36 and not being in thenature of capital expenditure or _ personaexpenses|OF|theassessee),laidoutOF|expended wholly and_ exclusively for tnepurposes of the business or profession shall beallowed in computing the income cnargeabDle under the head, ‘Profits and Gains of Businessor Profession”. JThus, from perusal of Section 37 (1) of theAct, it is evident that the aforesaid provision permitsdeduction for the expenditure laid out or expnded anddoes not contain a requirement that there has to be apay out. If an expenditure has been incurred, provision.of Section 37(1) of the Act would be attracted. It is alsopertinent to note tnat Section 37 does not envisageincurrence of expenditure in cash. 8.Section 2(15A) of the Companies Act, 1956defines employees stock option to mean option given to.the whole time directors, officers or the employees ofthe company, which gives such directors, officers or.employees, the benefit or right to purchase or subscribe|at a future rate the securities offered by a company ata.free.determined.price.In|an)ESOP|aCOM Padaundertakes to issue shares to its employees at a futuredate at a price lower than the current market price. Tne employees are given stock options at discount and the|Same amount of discount represents the differencebetween market price of shares at the time of grant ofoption and the offer price. In order to be eligible for|acquiring shares under the scheme, the employees are|under an obligation to render their services to the|company during the vesting period as provided in the|scheme. On completion of the vesting period in the|service of the company, tne option vest with theemployees.orIn the instant case, the ESOPs vest in anemployee over a period of four years |.e., at the rate of25%, Which means at the end of first year, tneemployee has a definite right to 25% of the shares and.the assessee is bound to allow the vesting of 25% of theoptions. It is well settled in law that if a businessliability has arisen in the accounting year, the same is.permissible as deduction, even though, liability may.nave to quantify and discharged at a future date. On. exercise of option by an employee, the actual amount of.benefit has to be determined is only a quantification ofliability, which takes place at a future date. The tribunalhas therefore, rightly placed reliance on decisions of the|Supreme Court in Bharat Movers supra and RotorkControls India P. Ltd., supra and has recorded a finding|that discount on issue of ESOPs is not a contingent|liability but is an ascertained liability. |10. From perusal of Section 37(1), which has|been referred to supra, it is evident that an assessee is.entitled to claim deduction under the aforesaid provision.if the expenditure Nas been incurred. The expression.‘expenditure will also include a loss and therefore,issuance of shares at a discount where tne assesseeabsorbs the difference between the price at which it isissued and the market value of the shares would also be.expenditure incurred for the purposes of Section 37(1)of the Act. Tne primary object of the aforesaid exerciseis not to waste capital but to earn profits by securing. consistent services of the employees and therefore, theSame cannot be construed as short receipt of capital.The tribunal therefore, in paragraph 9.2.7 and 9.2.8 Nas|rightly held that incurring of the expenditure by the|assessee entitles him for deduction under Section 37(1).of the Act subject to fulfillment of the condition. © 11. The deduction of discount on ESOP over the.vesting period is in accordance with the accounting in|the books of accounts, which has been prepared inaccordance with Securities And Exchange Board of India(Employee Stock Option Scheme and Employee StockPurchase Scheme) Guidelines, 1999. 12. So far as reliance place by the revenue in the|case of CIT VS. INFOSYS TECHNOLOGIES LTD. Is'concerned, it is noteworthy that in the aforesaiddecision, the Supreme Court was dealing with a|proceeding under Section 201 of the Act for non.deduction of tax at source and it was held tnat tnere| was no cash inflow to the employees. The aforesaiddecision is of no assistance to decide the issue of allowability of expenses in the hands of the employer. Itis also pertinent to mention here that in the decision.rendered by the Supreme Court in the aforesaid case,the Assessment Year in question was 1997-98 to 1999-2000 and at that time, the Act did not contain anyspecific provisions to tax the benefits on ESOPs. Section.17(2)(lila) was inserted by Finance Act, 1999 with effect|from 01.04.2000. Therefore, it is evident that lawrecognizes a real benefit in the hands of the employees.For the aforementioned reasons, the decision rendered|in the case of Infosys Technologies is of no assistance to.the revenue. Tne decisions relied upon by the revenuein Gajapathy Naidu, Morvi Industries and Keshav Mills.Ltd. supra support the case of assessee as the assesseehas incurred a definite legal liability and on following the|mercantile system of accounting, the discount on ESOPsSnas rightly been debited as expenditure in the books of accounts. We are in respectful agreement with the view|taken in PVP Ventures Ltd. And Lemon Tree Hotels Ltd.Supra. 13. It is also pertinent to mention here that for|Assessment Year 2009-10 onwards the Assessing Officernas permitted the deduction of ESOP expenses and in.view of law laid down by Supreme Court in Radhasoami|Satsang vs. CIT, (1992) 193 ITR 321 (SC), the revenue|cannot be permitted to take a different stand withregard to the Assessment Year in question.| In view of preceding analysis, the substantial|questions of law framed by a bench of this court areanswered against the revenue and in favour of theassessee. In the result, we do not find any merit in thisappeal, the same fails and is hereby dismissed. Sd/-JUDGE. Sd/-JUDGE.