Whether when assessee is engaged in R&D in material science and process technology, and is also a STPI unit involved in software development, Sec 10A benefits can be denied on the ground that its activities are IT-assisted and not IT-enabled

THE issues before the Bench are - Whether when the assessee is engaged in the research and development activity in the areas of material science and process technology, and is also a STPI unit involved in software development, the Sec 10A benefits can be denied on the ground that its activities are IT-assisted and not IT-enabled; Whether its alternate claim u/s 80IB(8A) can also not be allowed and Whether when the cases laws relied on by the assessee are not considered in the orders of the lower authorities, it can be said that the assessee had not been given proper opportunities to present his case. And the
answers go in favour of the assessee.

Facts of the case

The assessee company, one of the subsidiaries of M/s. GE Corp, USA, is engaged in the business of research and development activity in the areas of material science and process technology; providing engineering analysis and related software development science. The assessee had set up its Global Technology Centre at Export Promotion Industrial Park in Bangalore, in lieu of high cost of manpower and related infrastructure for research and development. While acquiring the land and obtaining industrial licence from the state government, the assessee had claimed that this centre would be a pioneer in scientific research and a prominent development centre in India. After obtaining the clearances, the assessee had set up its John F Welow Technology Centre and had undertaken its research and development activities. The assessee was doing scientific R&D work for M/s GE Inc. USA and billed its parent company on a markup basis. Claiming to be a STP involved in software development, the assessee had claimed deduction under section 10A. In view of the assessee’s international transactions, the case was referred to the TPO.

The TPO proposed a transfer pricing adjustment, which was confirmed in the draft assessment order. The DRP rejected the assessee’s objections and ratified the draft assessment order, on the basis of which the assessment was concluded, confirming the transfer pricing adjustment.

The AO considered the assessee’s investment in plant and machinery which was three times its investment in computers and concluded that the assessee’s operations did not have computer as the primary and predominant hardware tool. The assessee had made use of the available scientific research laboratory tools to produce newer and improved methods of manufacturing. Therefore, the end products of the assessee could not be belittled by calling it as service similar to export of customized electronic data. Its production and services amounted to scientific research and development. The AO thus held that the assessee’s products and services were not eligible for deduction under section 10A.

The AO also rejected the assessee’s alternative claim for deduction under section 80IB(8A) by holding that what the assessee did on computers could also be done manually and, therefore, the services provided by the assessee were merely IT assisted and not IT enabled, as being claimed by the assessee. The AO noted that while on one hand, the assessee had claimed to be an exporter of ‘articles and goods’ besides ‘engineering and designs, on the other hand, it had claimed to be involved in IT enabled services. The submissions of the assessee were thus self-contradictory. The assessee was the scientific R&D arm of its USA-based parent company. It was neither an independent entity nor an exclusive R&D centre and applied its scientific R&D for its parent company. It had also not sold its output from its laboratories with the prior approval from the prescribed authorities. Therefore, holding that it seemed as if the assessee was unwilling to make up its mind on the nature of its business, the alternative claim of deduction under section 80I(8A) was denied. The AO also levied interest under section 234B and D.

In appeal before the Tribunal, the assessee submitted that section 10A provided for deduction of profits and gains derived by an assessee from the export of articles or computer software. Considering the definition of computer software under explanation 2(i) to section 10A and the CBDT notification, notifying certain IT enabled services to be eligible for deduction u/s 10A, the assessee was engaged in the business of exporting computer programs within the meaning of Explanation 2(i)(a). The assessee had also provided customized electronic data within the meaning of Explanation 2(i)(b) besides engineering and design services within the meaning of the CBDT notification, whereby its entire output was exported and transmitted electronically outside India. Also, considering the four phase process by which the assessee provided its services to its overseas clients, it was in the business of exporting ‘customised electronic data as per the requirements of its clients overseas. Thus the assessee claimed that its entire process was IT enabled and what was produced through the process was customized electronic data. Moreover, the assessee had been allowed deduction under section 10A by the Revenue since 2002-03 and the Revenue had not pointed out any change in the assessee’s activities.

The Revenue side contended that the assessee was neither in the business of development nor export of computer software. Considering the definitions of ‘customized’ as defined by the Tribunal and the word ‘data’ in electronic data, it was clear that the electronic data had to be prepared in a formalised manner and intended to be processed in a computer system. Moreover, the services had to be it-enabled and not merely IT- assisted. Thus the activities of the assessee could not be held eligible for deduction under Section 10B. Even its alternative claim under section 80IA(8A) could be denied purely on technical and procedural lines on account of the technical flaws committed by the assessee.

Having heard the parties, the Tribunal held that,

+ in various decisions referred to by the assessee, the Tribunal on an identical issue, had adjudicated on the nature of engineering and design activities and output to hold that even though designs and drawings could be carried out on a black board, the data generated by the assessee to the minutest details could not be generated manually. Also, the same level of accuracy and precision could not be expected, if done manually. Lastly, the most important aspect was the speed at which the data was generated with the help of software, that could not be generated manually whereby considering the level, speed and accuracy, it was unambiguously clear that the data exported by the assesssee was ‘customized electronic data’.

+ considering the AO’s orders and the directions of the DRP, there was no trace of these various Tribunal decisions having been considered. The lower authorities had failed to consider the case laws relied on by the assessee, while deciding the issue of the assessee. Thus, following the apex court order, the assessee had not been given proper opportunities to present his case before the AO and the DRP and hence the matter was required to be re-examined by the AO. The AO was directed to keep in view the case laws on which the assessee had placed its unstinted confidence.