Expenditure On Development Of New Product, Shown As 'Capital Work In Progress'; Deductible As Revenue Expenditure, If Project Is Subsequently Abandoned: Bombay High Court

The bench of Justices Dhiraj Singh Thakur and Abhay Ahuja observed that though the assessee had treated the expenditure incurred on development of a new product as 'Capital work in progress' in its books of accounts, however, since no new asset came into existence which would be of an enduring benefit to the assessee, the expenditure incurred was revenue and not capital in nature.

The assessee - Trigent Software Limited, is engaged in the business of software development solution and management. The assessee treated the expenditure incurred by it in connection with the development of a new product, as a part of capital work in progress. After the development of the software was abandoned by the assessee, the assessee claimed the capital work in progress as revenue expenditure. Disallowing the deductions made by the assessee, the Assessing Officer (AO) made additions to the assessee's income.

Against this, the assessee filed an appeal before the Commissioner of Income Tax (Appeals) (CIT(A)), who allowed the appeal. The CIT(A) held that the expenditure for development of a new product, as incurred by the assessee, was in the assessee's existing line of business. Thus, it ruled that though the assessee had shown the expenditure as capital work in progress for the relevant assessment year, however, the said expenses were deductible as revenue expenditure in the year in which the project was abandoned.

Against this, the revenue department filed an appeal before the ITAT, who upheld the order passed by the CIT(A). The revenue department challenged the order of the ITAT before the Bombay High Court.

The revenue department submitted before the High Court that since the assessee had treated the expenditure incurred in connection with the development of a new product, as capital in nature and had entered the same in its books of accounts as "Capital work in progress", the said expenditure cannot be allowed as revenue expenditure.

The department added that since the expenditure was incurred in connection with the development of a new product, the said expenditure cannot be claimed as revenue expenditure, notwithstanding the fact that the new product failed to come into existence on account of its viability.

The High Court reiterated that there does not exist an all-embracing formula for determining whether a particular expenditure incurred was of capital or revenue in nature. Therefore, it observed that every case must be decided on its own facts and in view of the broad picture of the whole operation in respect of which the expenditure was incurred.

The bench referred to the decision of the Delhi High Court in Indo Rama Synthetic (I) Ltd. versus Commissioner of Income Tax (2009), where the High Court had ruled that if the expenditure was incurred for starting a new business, which was not carried out by the assessee earlier, then such an expenditure would be capital in nature, irrespective of whether the project materialised or not.

However, the High Court in Indo Rama Synthetic (I) Ltd. (2009) had held that if the expenditure was incurred in respect of the same business, which was already carried on by the assessee, such an expense was to be treated as business expenditure. The Court had added that in such a case, if there was no creation of a new asset, the expenditure incurred would be of revenue nature. However, if a new asset had come into existence which was of an enduring benefit, such expenditure would be of a capital nature.

Holding that the assessee's endeavour to develop a new software was an endeavour in its existing line of business, the Court reckoned that the product which was sought to be developed, never came into existence and the same was abandoned. Thus, it concluded that no new asset came into existence which would be of an enduring benefit to the assessee and therefore, the expenditure incurred was revenue in nature.

Therefore, upholding the order passed by the CIT(A) and ITAT, the Court dismissed the appeal.

Case Title: Pr. Commissioner of Income Tax versus Trigent Software Limited

Dated: 02.12.2022 (Bombay High Court)

Counsel for the Appellant: Mr. Suresh Kumar, Advocate

Counsel for the Respondent: Mr. Chaitanya KK, Senior Advocate with Mr. Prabhakar K. Shetty, Advocate

Citation: 2022 LiveLaw (Bom) 488  

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