ITAT Bangalore on CPC’s Duty to Follow Jurisdictional High Court Rulings in Section 143(1) Processing

Introduction

The Bangalore Bench of the Income Tax Appellate Tribunal in Happiest Minds Technologies Limited Vs DCIT ( ITAT Bangalore) has clarified a critical point of law: while issuing an intimation under Section 143(1) and while considering rectification under Section 154, the Centralised Processing Centre (CPC) and the Assessing Officer (AO) act as quasi-judicial authorities and are bound to follow the decisions of the jurisdictional High Court.

The Tribunal held that non-application of a binding Karnataka High Court judgment (Ace Designers Limited vs. ACIT) to a similar fact situation amounts to a “mistake apparent from record” rectifiable under Section 154, even though the tax audit report had characterized the expenditure as capital in nature.

The appeal of Happiest Minds Technologies Limited for Assessment Year 2019-20 was accordingly allowed.

Factual Background

Nature of Business and Return Filing

  • The assessee is engaged in digital transformation, IT consulting and related services.
  • For Assessment Year 2019-20, the assessee:
    • Filed its original return of income on 17/10/2019 declaring total income at INR Nil.
    • Claimed a refund of INR 5,39,70,920.
  • Subsequently, a revised return was filed on 30/09/2020, in which:
    • Certain mistakes in the original return were corrected.
    • The assessee reported:
      • Business loss of INR 122,53,35,292 to be carried forward; and
      • Unabsorbed depreciation of INR 8,67,39,329.

Investment in Wholly-Owned Subsidiary and Diminution

  • In 2017, the assessee acquired OSS Cube LLC, a US-based digital transformation company.
  • The stated commercial purpose of this acquisition was:
    • To accelerate growth towards a revenue benchmark of USD 100 million.
    • To enhance its position as a global digital services provider.
    • To strengthen and widen its service offerings in the consulting-led digital space.
    • To integrate a team of around 240 employees of the subsidiary into the assessee’s workforce of about 2200, and expand the active customer base to nearly 170 customers.
  • The assessee described the decision as a strategic, commercially driven step to fortify and expand its existing business operations through efficiency, domain expertise and synergies.
  • Over time, adverse market and technology-related factors, including technological obsolescence, significantly eroded the value of this investment.
  • The assessee eventually resolved to wind up the wholly-owned subsidiary.
  • Consequently, the diminution in the value of the investment in OSS Cube LLC aggregating to INR 23,39,58,848 was debited in the profit and loss account and claimed as revenue expenditure in the return of income for AY 2019-20.

CPC Adjustment Under Section 143(1)

Processing of Revised Return

  • The revised return was processed by CPC, Bengaluru, through an intimation dated 19/11/2020 under Section 143(1).
  • In the intimation, the assessee’s total income was computed at INR 23,44,93,816, primarily due to an addition of INR 23,39,58,848.
  • This addition represented the disallowance of the diminution in the value of investment in the subsidiary, which the assessee had treated as revenue expenditure.

Basis of Disallowance by CPC

  • While processing the return, CPC issued a communication under the first proviso to Section 143(1), pointing out a proposed adjustment under:
    • Section 143(1)(a)(ii) – “incorrect claim apparent from any information in the return”; and
    • Section 143(1)(a)(iv) – “disallowance of expenditure indicated in the audit report but not taken into account in computing the total income in the return.”
  • The assessee submitted an electronic response explaining that:
    • The amount of INR 23,39,58,848 / 23,39,58,854 represented diminution in the value of investment in a wholly-owned subsidiary.
    • This investment was made exclusively for business purposes.
    • Accordingly, the diminution loss was in the nature of business expenditure / business loss, and hence deductible.
  • The Tax Audit Report in Form 3CD, at Sl. No. 21(a), however, mentioned this diminution as capital in nature (i.e., capital expenditure debited to the profit and loss account).
  • Relying upon the audit remark, CPC proceeded to disallow the deduction and added INR 23,39,58,848 to the returned income in the Section 143(1) intimation dated 19/11/2020.

Rectification Application Under Section 154

Assessee’s Rectification Request

  • Aggrieved by the adjustment, the assessee moved an application under Section 154 seeking rectification of the Section 143(1) intimation.
  • The central contention was:
    • The investment in the wholly-owned subsidiary was undertaken purely for business and commercial purposes.
    • Any loss on diminution of such investment is a business loss, allowable as a revenue deduction.
    • The assessee relied on the binding judgment of the Hon’ble Karnataka High Court in **Ace Designers Limited vs.