Telecom License Fee Dispute: Revenue vs Capital Expenditure in Telecom Policy

The case of C.I.T., Delhi vs Bharti Hexacom Ltd. revolves around a crucial question in taxation: whether the variable licence fee paid under the New Telecom Policy (NTP) of 1999 is considered revenue expenditure, or capital expenditure subject to amortisation under Section 35ABB of the Income Tax Act. The issue has major implications for telecom operators and the taxation of their operating expenses.

Background of the Case

The dispute originated from an appeal against the decision of the High Court of Delhi, which upheld the Income Tax Appellate Tribunal’s ruling that the variable licence fee, paid by telecom operators under the 1999 Telecom Policy, should be treated as a revenue expenditure. The case primarily concerned whether the fee should be classified as a capital expenditure that needs to be amortised over the licence period, or as an annual operational expense deductible under Section 37 of the Income Tax Act.

Legal Framework and the Telecom Policy

The Indian telecommunications sector underwent a major policy shift in 1999 with the introduction of the New Telecom Policy (NTP 1999), which replaced the previous National Telecom Policy of 1994. Under the NTP 1999, telecom operators were required to pay both an entry fee for obtaining a licence and a variable fee based on a percentage of the operator’s gross revenue. The crux of the dispute lay in whether this annual licence fee, a share of the operator’s revenue, should be treated as a capital expenditure (which could be amortised) or as a regular business expense.

Petitioner’s Arguments

The appellant, the Commissioner of Income Tax (CIT), argued that the licence fee, despite being paid annually, is in the nature of capital expenditure. This is because the fee is associated with acquiring the right to operate telecom services, which is a capital asset. Furthermore, the appellant contended that since this fee is linked to obtaining and maintaining a long-term licence under the Telegraph Act, it must be classified as capital expenditure. The appellant also pointed to Section 35ABB of the Income Tax Act, which allows for the amortisation of capital expenditure incurred for acquiring a right to operate telecommunication services.

The key arguments presented by the appellant included:

The licence fee, whether paid as a lump sum or in instalments, is essentially a payment for securing the right to operate telecom services, a capital asset under Section 35ABB.
The entire amount paid as licence fee, including the variable fee, was made to secure this capital asset and therefore, should be treated as capital expenditure.
The payments made under the NTP 1999, although annually due, are tied to the fundamental right to operate the business, not for the day-to-day working of the business.
Payments made on a recurring basis cannot automatically be classified as revenue expenditure if they are for acquiring a long-term right or asset.

Respondent’s Arguments

The respondent, Bharti Hexacom Ltd., countered these arguments by asserting that the variable licence fee under the NTP 1999 is primarily a business expense. The respondent argued that:

The fee is paid annually, based on a percentage of the operator’s gross revenue (AGR), and therefore, it is a recurring operational expense.
The primary purpose of this fee is to continue the right to operate, which had already been acquired in 1994, and the fee is not related to the acquisition of any new asset.
The payment of the variable fee is made for the ongoing business operations and should therefore be considered a revenue expenditure.
The annual payment does not result in the acquisition of any new asset but is instead a necessary cost to continue the business of telecommunication services.

The High Court’s Decision

The Delhi High Court ruled in favour of the respondent, stating that the variable licence fee, which is paid annually and based on the telecom operator’s gross revenue, should be treated as a revenue expenditure. The court applied the enduring benefit test, which suggests that an expense is capital in nature if it provides a long-term benefit to the business, and revenue in nature if it is incurred for the ongoing operation of the business.

After considering the facts and the arguments from both sides, the High Court concluded that:

The payment made for acquiring the licence was capital in nature and should be amortised over the licence period as per Section 35ABB of the Income Tax Act.
However, the annual licence fee paid as a percentage of gross revenue (AGR) was related to maintaining the business operations and should be classified as revenue expenditure.

The Supreme Court’s Judgment

The Supreme Court, upon hearing the appeals, upheld the High Court’s decision, but clarified the distinction between the two types of licence fee payments. The Court agreed that the licence fee paid up to 31 July 1999 (the cut-off date under the NTP 1999) should be treated as capital expenditure, and the fee paid thereafter (from 1 August 1999) should be treated as revenue expenditure. The judgment effectively classified the variable licence fee as a payment for continuing the right to operate telecommunication services, and as such, it was considered an operational expense.

The Court’s key observations were:

The entry fee paid under the original 1994 agreement was a one-time capital expenditure for acquiring the licence.
The variable licence fee, paid as a percentage of AGR, is a recurring payment that is necessary to continue operating the business. It is, therefore, a revenue expenditure.
The High Court’s decision to apportion the licence fee into capital and revenue components was correct. The Court found that the fee paid before the cut-off date (31 July 1999) could be treated as capital expenditure, while the annual payments thereafter were treated as revenue expenditure.

Legal Precedents Considered

The Supreme Court considered several precedents while making its decision:

Empire Jute Co. Ltd. v. CIT: The Court reaffirmed the enduring benefit test, stating that payments made to acquire a capital asset are capital expenditures.
Assam Bengal Cement Co. Ltd. v. CIT: The Court applied the fixed and circulating capital test, suggesting that payments made for establishing and maintaining business operations should be classified as capital or revenue depending on the nature of the expenditure.
Enterprising Enterprises v. Deputy Commissioner of Income Tax: The Court emphasized the need to determine the nature of the expenditure based on practical business considerations.
Jonas Woodhead and Sons Ltd. v. CIT: The Court discussed apportioning payments between capital and revenue when the payments serve different purposes.

Final Verdict

The Supreme Court ruled that the variable licence fee, while being essential for the operation of telecom services, is to be treated as revenue expenditure. The entry fee, however, was considered capital expenditure. The judgment provided clarity on the treatment of licence fees in the telecom sector and established that payments tied to the operation of the business are revenue in nature, while those tied to acquiring a right to operate are capital in nature.

Implications of the Judgment

This judgment has important implications for businesses in the telecom sector. It establishes a precedent for the classification of telecom licence fees and provides clarity on how similar payments should be treated for tax purposes. The judgment reinforces the distinction between capital and revenue expenditure and highlights the importance of understanding the nature of business payments.

Petitioner Name: C.I.T., Delhi.
Respondent Name: Bharti Hexacom Ltd..
Judgment By: Justice B.V. Nagarathna, Justice Ujjal Bhuyan.
Place Of Incident: Delhi.
Judgment Date: 16-10-2023.

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