Software expenditure is capital expenditure even it has very short life span

According to a ruling given by the Hyderabad Tax Tribunal on the 14th of February 2014 expenditure on application software cannot be treated as revenue expenditure. i.e. such expenditure cannot be claimed as deduction against revenue in the year of purchase. Even if the life span of the software is very short and the application will become obsolete in a short time. 
In these cases the expenditure on software needs to be treated as capital expenditure and deprecation at the rate of 60% is to be charged.

During year assessee-company purchased application software and claimed expenditure to be allowed as revenue expenditure – It submitted that expenditure did not result in enduring benefit, as life of software was invariably short and same was bound to become technically obsolete very fast – As per old appendix I and new appendix I of Income-tax Rules, 1962 computer software along with computer had been treated as capital asset and depreciation at a higher rate of 60 per cent had been allowed considering life and durability of computer software – Whether when statute has specifically provided for treating computer software as a capital asset and allowing depreciation thereon, expenditure incurred towards purchase of application software could not be treated as revenue expenditure – Held, yes [In favour of revenue]

However this ruling is contradictory to court order by the Delhi high court. The Delhi High Court on the 6th November 2011 ruled in the case of CIT vs. Asahi India Safety Glass Ltd.

The test of enduring benefit is not a certain or a conclusive test which the courts can apply almost by rote. What is required to be seen is the real intent and purpose of the expenditure and whether the expenditure results in creation of fixed capital for the assessee. Expenditure incurred which enables the profit making structure to work more efficiently leaving the source of the profit making structure untouched is expense in the nature of revenue expenditure the Delhi High Court said.

Facts of the Case:

• The assessee-company was engaged in the business of hoteliering. During the year, it purchased application software and claimed the expenditure to be allowed as revenue expenditure. It submitted that the expenditure did not result in enduring benefit, as the life of software was invariably short and the same was bound to become technically obsolete very fast.
• The Assessing Officer rejected the claim of the assessee on the reasoning that from the assessment year 2003-04 computer software was also treated as a depreciable asset under the Income-tax Rules, 1962 with computer and higher depreciation at the rate of 60 per cent had been allowed thereon. He, therefore, treated the expenditure incurred towards purchase of application software as capital expenditure and allowed depreciation thereon at the rate of 60 per cent.
• On appeal, the Commissioner (Appeals) upheld the order of the Assessing Officer.

Held on Second Appeal:

• It is not disputed that the assessee has claimed the expenditure incurred towards purchase of application software as revenue expenditure by debiting it to the profit and loss account. There is an amendment to the old appendix I of the Rules by the IT (Twenty fourth Amdt.) Rules, 2002, with effect from 1-4-2003, as per which item (5) under the head Machinery and Plant reads as :

1. Computers including computer software. The rate of depreciation is provided at 60 per cent.
2. ‘Computer software’ means any computer programme recorded on any disk, tape, media or other information storage device.

• The aforesaid amendment under the old appendix I is applicable for the assessment year 2003-04 to 2005-06. Under the new appendix I which is applicable for the assessment year 2006-07 onwards, the same item (5) has been retained along with Note 7. Thus as per old appendix I and new appendix I, computer software along with computer has been treated as capital asset and depreciation at a higher rate of 60 per cent has been allowed considering the life and durability of the computer software. When the statute specifically provides for treating the computer software as a capital asset and allowing depreciation thereon, the expenditure incurred towards purchase of computer software cannot be treated as revenue expenditure. Since as per old appendix I as well as new appendix I under the Rules computer software is a depreciable asset, the Commissioner (Appeals) as well as the Assessing Officer are correct in disallowing the assessee’s claim of expenditure on purchase of such assets. In aforesaid view of the matter, the order passed by the Commissioner (Appeals) deserved to be upheld.

Click here to view the full ruling by the Hyderabad Tax Tribunal

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