1. INTRODUCTION

The National Telecom Policy, 1994 was replaced by the New Telecom Policy, 1999. Under the new policy, telecom operators were required to pay a one time entry fee and a variable license fee based on a percentage share of Annual Gross Revenue (“AGR”). Telecom operators claim variable license fee, payable annually, as a revenue expenditure.

The Delhi High Court (“Delhi HC”), in its decision dated December 19, 2013 upheld the claim of taxpayers. Delhi HC held that the expenditure incurred towards licence fee is partly revenue and partly capital. Licence fee payable up to July 31, 1999 should be treated as capital expenditure and licence fee on revenue sharing basis after August 01, 1999 (under the New Telecom policy) should be treated as revenue expenditure.

The determination of such claim being capital versus revenue was finally decided by the Supreme Court (“SC”) in the case of CIT Delhi v Bharti Hexacom Ltd (being the lead case).

The SC observed that the Delhi HC was not right in apportioning the expenditure incurred towards establishing, operating and maintaining telecom services, as partly revenue and partly capital by dividing the licence fee into two periods. Referring to and relying upon several English cases and Indian jurisprudence, SC ruled in favour of the Revenue and concluded that the variable license fee is a capital expenditure and not a revenue expenditure. Such payment can however be amortised in accordance with section 35ABB of the Income-tax Act, 1961 (“ITA”), where a deduction can be claimed over the license period.
 2. FACTS OF THE CASE
 2.1 Bharti Hexacom Ltd., (“Bharti Hexacom”), migrated to the new Telecom Policy 1999 by paying a one-time license fee up to July 31, 1999. Accordingly, a telecom license was granted to the company to establish, maintain and operate cellular mobile services. 
 2.2 While filing the return of income for the Financial Year 2002-03, Bharti Hexacom claimed a tax deduction of INR 11.88 crores towards payment of variable licence fees, as a revenue expenditure. The primary contention of Bharti Hexacom was that the license fee paid on a revenue sharing basis ought to be classified as a revenue expenditure, and consequentially, eligible for a tax deduction while computing the taxable income.
 2.3 The tax authorities rejected Bharti Hexacom's argument and categorised the variable license fee as capital expenditure and allowed a proportionate deduction under section 35ABB of the ITA. However, the Commissioner of Income-tax (Appeals) and Income-tax Appellate Tribunal ruled in favour of Bharti Hexacom by holding that annual license fee, calculated on the basis of annual gross value, should be considered as revenue expenditure and deductible under section 37 of the ITA.
 2.4 The issue travelled before the Delhi HC wherein the Delhi HC divided the license fee into two periods. The fee paid for the period up to July 31, 1999, was considered as capital expenditure, while the amount payable on or after this date was classified as revenue expenditure. This categorisation was based on the premise that the payment would be made annually, as a percentage of gross revenue, to continue to be able to operate and run the business. 
 3. ISSUE BEFORE THE SC

The main issue which arose before the SC was whether the Delhi HC was correct in characterising the license fee as partly revenue and partly capital by dividing it into two periods.
 4. SC'S DECISION
 4.1 At the outset, the SC primarily held that the payment of license fee for an indivisible license cannot be apportioned as partly capital and partly revenue expenditure without any legal basis. The SC further stated that failure to pay licence fee would lead to revocation and cancellation of the licence and therefore the annual variable license fee is towards the right to operate telecom services. The mode of payment of license fee, in a staggered or deferred manner, cannot be recharacterized and split-up in an artificial manner into a capital and revenue payments. Lastly, the SC stated that the nature of payments would be distinct only when the periodic payments have no nexus with the original obligation, which was not the case in present case.
 4.2  Considering the above, the SC held that the payment of one-time entry fee as well as variable annual fee are capital in nature; that these payments are not allowed for deduction as revenue expenditure and should instead be amortised in accordance with the provisions of section 35ABB of the ITA. 
5. INDUSLAW VIEW
5.1 This ruling will undoubtedly result in higher tax payments by the telecom companies. Considering that this legal dispute, of classifying variable license fee as revenue expenditure or capital expenditure, concluded after almost 24 years from the introduction of new telecom policy, the interest liability could be far more than the tax amount itself.
5.2 The classification of expenditure into capital or revenue has always been a contentious issue and despite several ruling of the SC on this matter, this issue is far from being resolved.
5.3 It is pertinent to note that this ruling will not only impact the companies in the telecom sector but also companies engaged in any other sectors (for example mining sector) who may have adopted similar licensing model.
5.4 It is advisable for the taxpayers to assess the applicability and impact of this ruling on their respective business models and to adopt the correct legal position in a timely manner to prevent any prolonged future litigation and tax outgo.


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