Section 10A deduction allowed; STP unit held to be a "New Undertaking" not formed by splitting up

Section 10A deduction allowed; STP unit held to be a “New Undertaking” not formed by splitting up

Issue

Whether the assessee’s new Software Technology Park (STP) unit was formed by the splitting up or reconstruction of an existing business, thereby disqualifying it from the tax deduction under Section 10A, or if it constituted a distinct and new undertaking eligible for the benefit.

Facts

Business: The assessee-company is engaged in providing software development services.
New Unit: It set up a new STP unit during the relevant period.
AO’s Denial: The Assessing Officer (AO) denied the deduction under Section 10A. The AO alleged that the unit violated Section 10A(2)(ii), which states that the undertaking must not be formed by the splitting up or reconstruction of a business already in existence.
Appellate Findings: Both the Commissioner (Appeals) and the Tribunal (ITAT) ruled in favor of the assessee, finding that the unit was indeed a new undertaking.
Revenue’s Appeal: The Revenue challenged this factual finding before the High Court, arguing that the unit was merely an extension or reconstruction of the old business.

Decision

Fresh Infrastructure: The High Court noted the concurrent findings of the lower authorities that the assessee had acquired significant new infrastructure for the STP unit, including fresh workstations, sophisticated systems, and machinery.
New Assets & Software: The unit utilized newly designed software and did not merely transfer assets from the old business (beyond the permissible limit).
New Recruitment: A large number of new personnel were identified and deployed exclusively for the STP unit, proving it wasn’t just a transfer of old staff.
Distinct Identity: These factual aspects clearly demonstrated that the unit was a fresh industrial undertaking with a separate identity, not a continuation or reconstruction of the earlier business.
No Substantial Question of Law: The Court held that the dispute was primarily factual. Since the Tribunal’s conclusion was based on evidence (new assets, new staff), no substantial question of law arose.
Ruling: The appeal by the Revenue was dismissed, and the deduction under Section 10A was upheld.

Key Takeaways

Splitting Up vs. New Unit: To prove a unit is “new” and not a “reconstruction,” an assessee should demonstrate:

Purchase of new plant and machinery.

Recruitment of fresh employees (transfer of some old staff is allowed but shouldn’t be the majority).

Separate infrastructure and location.

Independent commercial contracts or clients.

Section 10A(2) Restrictions: The deduction is denied only if the new unit is formed by splitting up an old business or transferring used machinery exceeding 20% of the total plant and machinery value.

Would you like me to analyze if your new business unit qualifies for Section 10AA (SEZ) benefits based on the “splitting up” criteria?

HIGH COURT OF BOMBAY

Principal Commissioner of Income-tax

Mahindra Engineering Services Ltd.^*

B. P. COLABAWALLA and AMIT S. JAMSANDEKAR, JJ.

IT APPEAL NO. 18 OF 2019

NOVEMBER 13, 2025

Ms. Samiksha Kanani and Gayatri Naik, Advs. for the Petitioner. J.D. Mistri, Sr. Adv. and Harsh Kapadia for the Respondent.

ORDER

1. The above Appeal has been filed by the Appellant/Revenue challenging the order dated 20^th March 2018 passed by the Income Tax Appellate Tribunal [ITAT]. According to the Revenue, the impugned order gives rise to the following substantial question of law.

Whether on facts and circumstances of the case and in law, Hon’ble ITAT is correct in allowing the deduction u/s 10A of the Act, ignoring the fact that the assessee’s undertaking-STP Unit was formed by splitting up/reconstruction of business already in existence and therefore the new undertaking did not fulfill the second condition laid down in Section 10A(2) of the Income Tax Act, 1961.

2. The Respondent Assessee company filed its Return of Income on 14^th November 2007 declaring an income of Rs. “Nil”. The Nil income consists of a loss of Rs.95,46,150/- as per the assessee’s computation of income. The return was processed under Section 143(1) on 20^th March 2009. The case was thereafter selected for scrutiny and a notice was issued under Section 143(2) which was served on the assessee. In the scrutiny proceedings, the Assessing Officer passed an order on 30^th December 2009 under Section 143(3) of the Income Tax Act, 1961 [for short “the IT Act”]. By this order, the Assessing Officer, inter alia denied the assessee the deduction under Section 10A of the IT Act.

3. Being aggrieved by the decision of the Assessing Officer, the assessee preferred an Appeal before the CIT (Appeals). The CIT (Appeals), by his order dated 7^th January 2011, inter alia held that the assessee is entitled to the deductions under Section 10A. This finding was primarily given on the basis that the assessee had not undertaken any reconstruction or splitting up of its business by setting up a new unit in the Software Technology Park at Pune and hence was entitled to the deduction.

4. Being aggrieved by this order of the CIT (Appeals), the Revenue preferred an Appeal before the ITAT. The ITAT also, on this issue, confirmed the findings of the CIT (Appeals) and dismissed the Appeal of the Revenue. This is how the above Appeal is filed before us under Section 260A of the IT Act.

5. After hearing the learned advocate appearing on behalf of the Appellant/Revenue as well as Mr. Mistri, the learned senior counsel appearing on behalf of the assessee, we are clearly of the view that the question of law as projected in the above Appeal, does not give rise to any substantial question of law. We say this because the CIT (Appeals) as well as the ITAT, on facts have come to the conclusion that the setting up of the STP Unit at Pune by the Respondent assessee did not amount to reconstruction or splitting up of their existing business. There is a detailed discussion on this aspect by the CIT (Appeals) from paragraph 4.3 onwards in the order dated 7^th January 2011. The learned Commissioner opined that the conclusion drawn by the Assessing Officer was primarily on the purchase order dated 15^th October 2004 and the sameness of the services in the pre-existing non STPI unit and the comparable rates of pre-STPI and post-STPI jobs. The CIT (Appeals) looking into the scope of the work of the STPI unit, the investment and new infrastructure in the unit, deployment of personnel and the scope and magnitude of the work as mentioned in the final contract with International Truck and Engine Corporation (ITEC), found that the Assessing Officer’s decision is based on an inadequate premise. To this end, the CIT (Appeals) came to the conclusion that the purchase order dated 15^th October 2004 was in connection with only a Pilot Project mounted to test the ability of the assessee to do business on a magnitude and level compatible to the expectations of ITEC. The CIT (Appeals) noted that the work given for the Pilot Project was initially for a sum of Rs.9.3 Crores only. As against this, after signing the contract with ITEC the STP Unit earned revenues of Rs.42.74 Crores. The CIT (Appeals) opined that it was obvious that the meager revenue earned by virtue of the purchase order only underlined the point that the character of the STP unit cannot be tested on this basis, as the scale and magnitude of the work actually expected was much higher. This expectation was correctly reflected in the Comprehensive Engineering Services Agreement dated 9^th December 2005 entered into by ITEC with the Respondent assessee. The CIT (Appeals) also noted that as per paragraph 2.3 of the said agreement, with the commencement thereof, the purchase order dated 15^th October 2004 stood terminated and superseded by the said agreement. The CIT (Appeals) came to the conclusion that this did not represent continuation of the same business, but start of new business which was different because of its range, scale and skill sets required. He also came to the conclusion that this would further indicate that the work in relation to the purchase order was only an interim arrangement which is not a true reflection of the real scope of work of the agreement with ITEC.

6. Apart from this, the CIT (Appeals) took note of various other facts to come to the conclusion that the findings given by the Assessing Officer were incorrect. The CIT (Appeals) noted that the Respondent assessee had applied for STP registration and signed the agreement with ITEC only after receiving the STP registration. Further 50,800 sq. ft. of new premises were acquired on rent and fixed assets worth Rs.7 Crores were put in place. The infrastructure put in place included setting up of work stations, installation of sophisticated systems and machinery, designing of new software, Team Centre Multisites etc. The CIT (Appeals) also noted that a large number of new personnel were identified and deployed in the STP unit. In fact by December 2006 the number of employees increased to 192. The infusion of investment, infrastructure and personnel on this scale would clearly indicate that by virtue of the agreement of the Respondent assessee with ITEC, it was making an entry into a new domain of business, otherwise for an existing business, such large scale infusion would be neither necessary nor strategically desirable, was the finding of the CIT (Appeals).

7. The CIT (Appeals) also took note of certain high end jobs that were undertaken by the assessee after the signing of the agreement with ITEC. Prior to setting up the STP, the Appellant carried out small jobs based on purchase orders raised. Further, taking into consideration that the said exemption was allowed for the earlier Assessment Year, and there being no significant and material change of facts in the year under consideration, the CIT (Appeals) came to the conclusion that the present case did not fall within the words “splitting up, or the reconstruction of a business already in existence” appearing in Section 10A(2)(ii) of the IT Act. To come to the conclusion that he did, the CIT (Appeals) also referred to the judgment of the Hon’ble Supreme Court in the case of Textile Machinery Corporation Ltd. v. CIT [1977] 107 ITR 195.

8. This finding of the CIT (Appeals) was confirmed by the ITAT in the impugned order in paragraph 12. The ITAT came to the conclusion that the observations of the CIT (Appeals) was based on the evidence on record and in accordance with the settled principle of law. The ITAT therefore did not find any reason to interfere with the order passed by the CIT (Appeals) on this aspect.

9. When one looks at the observations of the CIT (Appeals) as well as that of the ITAT, we are clearly of the view that the findings that have been rendered therein are wholly fact based. In fact, in our view, the CIT (Appeals) after analyzing the facts has correctly applied the ratio of the Hon’ble Supreme Court in the case of Textile Machinery Corporation Ltd (supra).

10. Further, the judgment in Textile Machinery Corporation Ltd. (supra) was considered by this Court in the case of CIT v. Finolex Cables Ltd. (Bombay)(Mag.). Though this Court was considering the provisions of Section 80-I(2)(i) in the said judgment, the said Section provided that the deduction under 80-I(2)(i) would be available only to an industrial undertaking which is inter alia not formed by splitting up, or the reconstruction of a business already in existence.

11. This Court, after examining and analyzing the judgment of the Hon’ble Supreme Court in Textile Machinery Corporation Ltd. (supra) as well as the judgment of the Hon’ble Supreme Court in the case of CIT v. Indian Aluminium Co. Ltd. [1977] 108 ITR 367, held as under:-

“12. The issue which arises before the Court in the appeal is not res-integra. In Textile Machinery Corpn. Ltd. v. CIT [1977] 107 ITR 195 (SC) the Supreme Court considered the ambit of the exemption that was available under the provisions of Section 15C(2)(i) of the Income Tax Act, 1922. The Supreme Court held that Section 15C had both a negative and a positive connotation. Negatively, a new industrial undertaking should not be formed either by splitting up or reconstruction of a business already in existence or transferring to a new business, the building, plant and machinery which was used in the business carried out earlier. Positively, a new industrial undertaking must produce a result. The five tests which have been laid down by the Supreme Court are as follows:—

“(1)

investment of substantial fresh capital in the industrial undertaking set up;

(2)

employment of requisite labour therein;

(3)

manufacture or production of articles in the said undertaking;

(4)

earning of profits clearly attributable to the said new undertaking; and

(5)

above all, a separate and distinct identity of the industrial unit set up.”

13. The following principles of law clearly emerge from the decision of the Supreme Court:—

(i)

There must be a new undertaking where substantial investment of fresh capital is made in order to enable earning of profit attributable to that new capital;

(ii)

The manufacturing or production of articles yielding additional profit attributable to a new outlay of capital in a separate and distinct unit is the heart of the matter;

(iii)

The true test is not whether a new industrial undertaking connotes expansion of the existing business, but whether it is all the same a new and identifiable undertaking separate and distinct from the existing business;

(iv)

If an undertaking can exist even after cessation of the principal business of the Assessee, it cannot but be a new and separate business or undertaking;

(v)

There must be a new undertaking which constitutes an integrated unit by itself;

(vi)

A new unit must be set up with new plant and machinery; and

(vii)

The fact that a Unit produces the same commodity does not disentitle the Assessee to the benefit of the deduction.

14. On the same day, as the decision in Textile Machinery Corpn. Ltd. (supra), the same Bench of the Supreme Court decided an appeal in CIT v. Indian Aluminum Co. Ltd. [1977] 108 ITR 367. The decision in Indian Aluminum Co. Ltd. (supra) is significant because in that case the Assessee, which had four manufacturing centres for manufacture of aluminum ingots, had during the course of the accounting year relevant to the Assessment Year made a fresh outlay of capital at one more centre besides which additional investments were made in the form of extension to the exiting factory premises where a new plant and machinery was installed. The Tribunal held that as a result, the production of aluminum ingots doubled and that in view of the nature of the substantial investments it could not be said that the unit was not a new unit. These units were set up side by side with the old ones and added to the Assessee’s total output. The Supreme Court followed its decision in Textile Machinery Corpn. Ltd. (supra) and dismissed the appeal of the Revenue. Indian Aluminum Co. Ltd. (supra), therefore, was a case where the claim of the Assessee was upheld on the basis of the substantial investments made by the Assessee, resulting in a significant increase in the capacity ofproduction though the new unit was involved in the production of the same goods. The test was that a new unit was a separate industrial undertaking by itself. “

emphasis supplied

12. What is important to note in this decision is that this Court noted that in Indian Aluminum Company Limited (supra) was a case where the claim of the assessee was upheld on the basis that substantial investments were made by the assessee, resulting in a significant increase in the capacity of production, though the new unit was involved in the production of the same goods.

13. Once this is the case, we find that the question of law as projected by the Revenue does not give rise to any substantial question of law requiring an answer by this Court. As mentioned earlier, we say this because not only because the findings given are purely factual in nature, but we find that the law has been correctly applied by the CIT (Appeals) and confirmed by the ITAT in the impugned order.

14. In view of the foregoing discussion, we find no merit in the above Appeal. It is accordingly dismissed. However, in the facts and circumstances of this case there shall be no order as to costs.

15. This order will be digitally signed by the Private Secretary/Personal Assistant of this Court. All concerned will act on production by fax or email of a digitally signed copy of this order.