Disallowance of depreciation on opening WDV of goodwill and vendor compliance expenses deleted in assessee’s favour.

ORDER

S.R. Raghunatha, Accountant Member. – This appeal has been preferred by the Revenue against the order of the Learned Commissioner of Income Tax (Appeals), National Faceless Appeal Centre (in short ‘Ld.CIT(A)’), dated 01.09.2025 passed u/s.250 of the Incometax Act, 1961 (in short ‘the Act’), for the Assessment Year 2018-19 against assessment order passed by the Assessment Unit, NFAC, Delhi (in short ‘the AO’) u/s.143(3) of the Act dated 24.02.2022.

2. The brief facts of the case emanating from the records are that under a Scheme of Amalgamation effective from 01.04.2016, erstwhile Magick Woods Exports Private Limited and Modularkitchen.com Private Limited (‘the Transferor Companies’) merged with Indyca Solutions (India) Private Limited (‘the Transferee Company’). The Scheme was approved by the National Company Law Tribunal, Chennai, vide order dated 25.09.2017, pursuant to which the Transferee Company was renamed as Magick Woods Exports Private Limited. The assessee followed the Purchase Method under Accounting Standard -14′ and recorded the assets and liabilities transferred to it at their respective fair values, with the excess of consideration (discharged by issue of Compulsorily Convertible Preference Shares) over the net value of assets acquired being recorded as ‘Goodwill’ amounting to Rs.454.05 Crores in FY 2016-17 (AY 2017-18), forming part of the block of intangible assets on which depreciation was claimed at the prescribed rate of 25%.

3. In AY 2017-18, being the year of amalgamation, the AO disallowed the depreciation claimed on such goodwill on the ground that its actual cost was nil, in view of the sixth proviso to section 32(1) and Explanation 7 to section 43(1) of the Act. On appeal, the Ld.CIT(A), vide order dated 20.10.2023, allowed the assessee’s claim and deleted the disallowance, after considering the AO’s objections on self-generated goodwill, the judicial precedents relied upon by the assessee – including CIT v. Smifs Securities Ltd. [2012]  348 ITR 302 (SC), Trivitron Healthcare (P.) Ltd. v. Pr. CIT [2023]  [2022] 98 ITR(T) 105 (Chennai – Trib.), and Mylan Laboratories Ltd. v. Dy. CIT 180 ITD 558 (Hyderabad – Trib.) and upon noting that the AO had not found any discrepancy or irregularity in the valuation of the assets and liabilities. The Revenue did not challenge this order for AY 2017-18, and the AO passed an order dated 26.08.2024 giving effect to it, deleting the disallowance originally made. The allowance of depreciation on goodwill in the year of amalgamation accordingly attained finality.

4. In the impugned year, AY 2018-19, the assessee claimed depreciation of Rs.85.13 Crores at 25% on the opening WDV of the block of intangible assets comprising the said goodwill. The AO again disallowed the claim, on the same basis as in AY 2017-18, treating the actual cost of the goodwill as nil.

5. On appeal, the Ld.CIT(A), after considering the assessee’s submission that AY 2018-19 involved only a consequential claim of depreciation on the opening WDV of goodwill already forming part of the block of intangible assets and not a fresh claim arising from the amalgamation recognised that depreciation on the goodwill had already been allowed in AY 2017-18, the year of amalgamation, and had attained finality. Without prejudice to this finding, and since the issue had already been examined in the AY 2017-18 order, the Ld.CIT(A) also went into the merits the AO’s objections on actual cost/WDV, the applicability of the sixth proviso to section 32(1) and Explanation 7 to section 43(1), the judicial precedents relied upon, and the valuation of assets and liabilities and deciding in favour of the assessee on merits as well, deleted the disallowance of Rs.85.13 Crores.

6. During AY 2018-19, the assessee incurred vendor compliance expenses of Rs.9.32 Crores, representing deductions made by Menards Inc. (‘Menards’), its major third-party customer in the USA, from amounts payable towards export sales, on account of slotting allowance, advertisement/promotion, store support, vendor compliance charges and other sales-support activities in connection with the sale of the assessee’s products in the US retail market. In the course of assessment, the AO called upon the assessee to justify the expenditure on the ground that it had increased significantly over the preceding year. The assessee explained that the expenses represented deductions made by Menards from export sale proceeds, furnished the break-up of the cost components forming part of the vendor compliance ledger, and placed on record the Menards arrangement/program documents, the ledger, cheque copies and deduction/remittance statements. The assessee also explained that the increase was attributable to the launch/expansion of the Plumbing and Housewares/bath vanity program in the US market during the year, pursuant to a Vendor Compliance Program Letter dated 15.11.2017 with Menards, resulting in higher slotting, store support, display and promotional charges.

7. The AO, however, proceeded to disallow the entire expenditure of Rs.9.32 crores u/s.37 of the Act, inter alia, on the grounds that the assessee had failed to furnish bills/confirmations from Menards and adequate documentary evidence in support of the expenditure, that the commercial expediency thereof had not been established, and further made a brief observation regarding non-deduction of tax at source. In the appellate proceedings, it remained undisputed, including by the ld.DR, that no additional evidence had been furnished before the ld.CIT(A) and that the material considered by the first appellate authority was the very same material which had already been placed before the AO during the course of assessment proceedings. Upon examination of such material, the ld.CIT(A) recorded the detailed break-up of the vendor compliance charges, comprising, inter alia, slotting allowance, advertisement/promotion expenses, new/expanded store allowance and other vendor compliance charges, as well as the supporting evidence furnished in respect thereof. Having satisfied himself as to the nature and actual incurrence of the expenditure and its nexus with the assessee’s business operations, the ld.CIT(A) deleted the disallowance made by the AO.

8. Aggrieved by the relief granted by the Ld.CIT(A) on both issues, the Department has preferred the present appeal before us. The grounds raised by the Revenue, as placed on record, are summarised below:

“1. The order of the learned Commissioner of Income Tax (Appeals) in ITA No. ITBA/NFAC/S/250/2025-26/1080216334(1) dated 01/09/2025 for the AY2018-19 is erroneous in law, facts and circumstances of the case.

2.1 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee by treating the excess consideration paid under a scheme of amalgamation as goodwill eligible for depreciation, when Explanation 7 to Section 43(1) specifically requires that the actual cost of assets in the hands of the amalgamated company cannot exceed the written-down value in the hands of the amalgamating company, and no such goodwill or depreciation thereon existed in the hands of the amalgamating entity.

2.2 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee on depreciation on goodwill which was generated during the scheme of amalgamation by way of consideration paid over and above the net assets and liabilities of the company without appreciating the sixth proviso to Section 32(1) of the Act which states that, in the case of amalgamation, the aggregate depreciation allowable to the amalgamating company and the amalgamated company shall not exceed the depreciation that would have been allowable had the amalgamation not taken place.

2.3 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee on depreciation on goodwill which was generated during the scheme of amalgamation by way of consideration paid over and above the net assets and liabilities of the company without appreciating the mandate of Explanation 7 to Section 43(1) read with the sixth proviso to Section 32(1), which restricts the actual cost and depreciation in the hands of the amalgamated company to the amount that was allowable to the amalgamating company.

2.4 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee on depreciation on goodwill which was generated during the scheme of amalgamation by way of consideration paid over and above the net assets and liabilities of the company without appreciating that the intent of the legislature to allow amalgamation is so as to be tax neutral for the Amalgamating and Amalgamated companies as well as the shareholders and not to provide any tax planning mechanism, as held by the Hon’ble Ahmedabad Tribunal in the case of M/s Bodal chemicals Ltd

3.1 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee by deleting the addition of Rs.8,39,52,482/- made by the AO on account of disallowance of vendor compliance expenses claimed by the assessee.

3.2 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee over disallowance of vendor compliance charges without appreciating that the assessee has failed to furnished the documentary evidence of these expenses incurred by it’s customer M/s Menards Inc. either during the course of assessment proceedings or during appellate proceedings.

3.2 The learned Commissioner of Income Tax (Appeals) erred in allowing the appeal of the assessee over disallowance of vendor compliance charges without appreciating that the vendor compliance expense which stood at Rs 48,00,225/- during AY 2017-18 has increased manifolds to Rs 9,32,80,536/- in AY 2018-19 even when the turnover of the assessee has not risen significantly and the assessee has not explained the rationale behind such huge expenses.

4. For these and other grounds that may be adduced at the time of hearing, it is prayed that the order of the learned CIT(A) may be set aside and that of the Assessing officer be restored.”

9. On the goodwill issue, the Ld.DR relied on the orders of the AO and submitted that the sixth proviso to section 32(1) and Explanation 7 to section 43(1) of the Act deem the actual cost of an asset transferred in a scheme of amalgamation to be the same as it would have been in the hands of the amalgamating company, and that amalgamation is intended to be a tax-neutral event; on this basis, no goodwill could genuinely arise, and the AO was justified in disallowing the depreciation claimed. On the vendor compliance expenses, the Ld.DR submitted that the assessee had not produced bills or confirmations directly from Menards, that the sharp increase in the expenditure over the preceding year remained unexplained on the record as it stood before the AO, and that the commercial rationale for the expenditure had not been independently established. The Ld.DR accordingly prayed that the orders of the Ld.CIT(A) on both issues be set aside and that of the AO restored.

10. Per contra, the Ld.AR submitted that the Revenue’s grounds on the goodwill issue proceed on the premise that the Revenue can once again challenge the recognition of goodwill pursuant to amalgamation, the determination of its actual cost, and the allowability of depreciation thereon. It was submitted that the Revenue’s challenge is not directed at any event occurring in AY 2018-19; it is an attempt to re-agitate a controversy relating to AY 2017-18, the year in which the goodwill was first recorded, entered the block of intangible assets, and depreciation thereon was claimed, allowed, and attained finality since the Revenue did not challenge the Ld.CIT(A)’s order for that year. AY 2018-19 involves no fresh amalgamation, valuation exercise or addition to the block, but only a consequential depreciation claim on the opening WDV brought forward from AY 2017-18, which is a mandatory allowance u/s.32 of the Act once the conditions of the provision are satisfied, as clarified by Explanation 5 to section 32(1) and CBDT Circular No.14/2001 dated 09.11.2001.

11. In support, the Ld.AR relied on the decision of the Ahmedabad Tribunal, in Suzlon Global Services Ltd. v. PCIT [ITA Nos.67-68(AHD) OF 2021, dated 16-09-2021], where it was held that depreciation on goodwill originating in an earlier year cannot be disturbed in a subsequent year without disturbing the year in which it originated, a decision which itself follows Bodal Chemicals Ltd. v. ACIT [2020] 180 ITD 313 (Ahmedabad – Trib.), holding that once depreciation has been allowed in the first year without any action u/s.263 or 147 of the Act, the claim attains finality and cannot be disturbed in a later year on the principle of consistency. Reliance was also placed on Johnson Matthey Chemicals India (P.) Ltd. v. DCIT [ITA No.1507/PUN/2012, dated 12-12-2017] (Pune-Trib.), for the proposition that the WDV of a block of assets cannot be tinkered with by the authorities once the assets have entered the block and depreciation has been allowed; on Hindustan Coca-Cola Beverages Pvt. Ltd. v. DCIT (2023) 103 ITR 67 (SN) (Delhi – Trib.), holding that depreciation allowed in the initial year cannot be disturbed in subsequent years; and on Kontoor Brands India Pvt. Ltd. v. ACIT (Bangalore Tribunal), where an identical claim to depreciation on intangible assets was upheld following the assessee’s own case in the year of origin. It was submitted that this position is directly supported by the Tribunal’s own findings for AY 2017-18 in the assessee’s own case, where the eligibility for depreciation u/s.32 of the Act, including the applicability of the sixth proviso to section 32(1), Explanation 7 to section 43(1), and the relevant judicial precedents including Smifs Securities Ltd., Trivitron Healthcare and Mylan Laboratories (supra) was already considered and decided in the assessee’s favour, and reaffirmed on merits by the Ld.CIT(A) even in the impugned year.

12. On the vendor compliance expenses, the Ld.AR submitted that the disallowance proceeds on an incorrect premise that the expenditure was unsupported by documentary evidence. It was submitted that the expenses were not independent payments requiring separate invoices in the ordinary course, but represented deductions made by Menards from export proceeds otherwise payable to the assessee, and that the relevant supporting evidence the Menards arrangement/program documents, deduction/remittance statements, cheque copies and ledger correlation was placed on record during the assessment proceedings itself. It was pointed out that the AO’s own assessment order extracted the assessee’s submission but omitted the portion containing the cost-wise break-up and supporting explanation, and that it was undisputed including by the Ld.DR that no additional evidence was filed before the Ld.CIT(A); the case is accordingly not one of additional evidence being admitted at the appellate stage under Rule 46A, but one where the AO failed to consider material already furnished. It was further submitted that the commercial expediency of the expenditure was evident from the nature of the arrangement with Menards, a significant US retail customer, and that the expenditure was directly connected with the assessee’s export business.

13. On the aspect of withholding tax, the Ld.AR submitted that the Revenue’s grounds before this Tribunal do not specifically challenge the Ld.CIT(A)’s finding on non-applicability of TDS, and that in any event the vendor compliance deductions relate to export sales and activities undertaken outside India, and therefore do not accrue or arise in India u/s.9(1)(i) of the Act read with Explanation 1(a) thereto; nor are the payments in the nature of fees for technical services u/s.9(1)(vii), and even otherwise the exclusion u/s.9(1)(vii)(b) of the Act would apply since the expenditure was incurred for earning income from a source outside India. Reliance in this regard was placed on the decision of the Hon’ble Madras High Court in CIT v. Aktiengesellschaft Kuhnle Kopp & Kausch [2003] 262 ITR 513 (Madras), where royalty linked to export sales was held not taxable in India, the source being outside India.

14. We have heard the rival submissions, perused the orders of the authorities below and carefully examined the material available on record along with the paper book and judicial precedents relied on.

15. The short question for determination is whether, in AY 2018-19, the AO was justified in disallowing depreciation of Rs.85.13 Crores claimed on the opening WDV of the block of intangible assets comprising goodwill, by once again treating the actual cost of the goodwill as nil under the sixth proviso to section 32(1) and Explanation 7 to section 43(1) of the Act.

16. It is not in dispute that the goodwill in question was first recorded in the assessee’s books in FY 2016-17 (AY 2017-18), consequent upon the Scheme of Amalgamation approved by the NCLT, Chennai, and that it was in that year, and that year alone, that the goodwill entered the block of intangible assets and depreciation thereon was first claimed. It is equally not in dispute that the very objections now raised by the Revenue – as to the actual cost of the goodwill, the applicability of the sixth proviso to section 32(1) and Explanation 7 to section 43(1), and the eligibility of the goodwill for depreciation u/s.32 of the Act were raised by the AO in AY 2017-18 itself, were considered and rejected by the Ld.CIT(A) vide order dated 20.10.2023, and that this order was not challenged by the Revenue and was given effect to by the AO’s own order dated 26.08.2024. The allowance of depreciation on this goodwill in the year of amalgamation has accordingly attained finality.

17. In the impugned year, the assessee has made no fresh claim arising from any amalgamation, valuation exercise, or addition to the block; it has claimed depreciation only on the opening WDV of intangible assets already forming part of the block as it stood on 01.04.2017. Depreciation on the opening WDV of a block of assets, once the conditions of section 32 are satisfied, is a mandatory allowance and does not depend upon a fresh claim being made or re-examined each year, as is clarified by Explanation 5 to section 32(1) of the Act and CBDT Circular No.14/2001 dated 09.11.2001. It is well settled that the correctness of the WDV brought forward from an earlier year cannot be reopened in a subsequent year merely because the same issue was raised, and rejected, in that earlier year.

18. The above principle finds direct support in the decision of the Ahmedabad Tribunal in Suzlon Global Services Ltd. (supra) where, on materially similar facts, it was held that depreciation on goodwill originating in an earlier year cannot be disturbed in a subsequent year without disturbing the year in which it originated a proposition drawn in turn from Bodal Chemicals Ltd.(supra), where it was held that once depreciation is allowed in the first year without the Revenue resorting to section 263 or section 147 of the Act, the claim attains finality on the principle of consistency and cannot be disturbed in a later year absent any change in facts or law. The same approach has been taken in Johnson Matthey Chemicals India Pvt. Ltd. (supra) holding that the WDV of a block of assets cannot be tinkered with once assets have entered the block and depreciation has been allowed and in Hindustan Coca-Cola Beverages Pvt. Ltd.(supra), holding that depreciation allowed in the initial year cannot be disturbed in subsequent years.

19. We find no material change in facts, law, or the composition of the block of intangible assets between AY 2017-18 and the impugned year that would justify a departure from the position already reached, and reached finally, in A.Y. 2017-18. The Revenue’s objection that each assessment year is a separate and independent unit of assessment does not assist its case here, since that principle does not authorise the Revenue to re-agitate the basis on which an opening WDV was determined in a concluded earlier year, in the absence of any fresh fact or any proceeding disturbing that earlier year’s finding. We also note that the eligibility of the goodwill for depreciation u/s.32 of the Act including the character of the goodwill as an intangible asset within Explanation 3(b), following . Smifs Securities Ltd. (supra) and its acquisition pursuant to a Scheme of Amalgamation approved by valuers and by the NCLT without any adverse finding by the AO on the underlying valuation was independently examined on merits by the Ld.CIT(A) even in the impugned year, and we see no infirmity in that finding either, this being consistent with the Tribunal’s approach in Trivitron Healthcare (P.) Ltd.(supra)Mylan Laboratories Ltd. (supra) and Kontoor Brands India Pvt. Ltd. v. ACIT (ITAT Bangalore), each upholding depreciation on goodwill/intangible assets arising on amalgamation or acquisition where the AO raised no genuine dispute as to the underlying valuation.

20. We are accordingly of the considered view that the Ld.CIT(A) was justified in deleting the disallowance of Rs.85.13 Crores by dismissing the corresponding grounds raised by the Revenue.

21. The next question before us for adjudication is whether the disallowance of Rs.9.32 Crores towards vendor compliance expenses, deleted by the Ld.CIT(A), was rightly deleted.

22. The record reveals that, during the course of assessment proceedings itself, the assessee had duly explained the nature and character of the expenditure in question. It was submitted that the amounts represented deductions made by its US customer, Menards, from the export sale proceeds towards slotting allowance, advertisement and promotional expenses, store support charges and other vendor compliance charges. In support thereof, the assessee had furnished a detailed cost-wise break-up of such deductions, along with the relevant Menards arrangement/program documents, corresponding ledger entries and deduction/remittance statements evidencing the nature and quantum of the expenditure. It is significant that the AO’s own assessment order, while extracting the assessee’s submission, omits precisely the portion of that submission containing the cost-wise break-up and supporting explanation; the disallowance proceeds on a broad allegation that the expenditure remained unverified, without engaging with the material already on record. It is also undisputed, and was not disputed by the Ld.DR before us, that no additional evidence was placed before the Ld.CIT(A) beyond what was already furnished at the assessment stage; this is accordingly not a case of additional evidence being admitted in violation of Rule 46A, but one where the first appellate authority examined the same material that the AO ought to have, but did not, consider.

23. On that material, we find no infirmity in the Ld.CIT(A)’s finding that the nature, incurrence and business purpose of the expenditure stood established. The deductions made by Menards, a significant US retail customer of the assessee, for slotting, display, advertisement and retail-support activities in connection with the sale of the assessee’s products are directly connected with the assessee’s export business, and the increase in such expenditure over the preceding year stands explained by the launch/expansion of the Plumbing and Housewares/bath vanity program pursuant to the Vendor Compliance Program Letter dated 15.11.2017. The AO has not pointed to any specific defect in the ledger entries, the deduction statements, or the cheque/remittance advices produced by the assessee, nor has any finding been recorded that the expenditure was unconnected with the assessee’s business. An expenditure otherwise supported by contemporaneous third-party documentation cannot be disallowed merely on a general allegation of absence of direct invoices from the deducting party, particularly where, as here, the very mode of incurring the expenditure is by way of deduction from sale proceeds rather than by separate invoicing.

24. On the question of withholding tax, we note, as submitted by the Ld.AR and not controverted by the Ld.DR, that the Revenue’s grounds before us do not specifically assail the Ld.CIT(A)’s finding on non-applicability of TDS. In any event, the vendor compliance deductions relate to activities undertaken by Menards outside India in connection with the assessee’s export sales, and any income embedded therein would not accrue or arise in India u/s.9(1)(i) of the Act read with Explanation 1(a) thereto, the source being outside India. The principle that consideration linked to export sales, the source of which lies outside India, does not attract tax in India has been applied by the Hon’ble Madras High Court in Aktiengesellschaft Kuhnle Kopp & Kausch (supra), in the context of royalty payments; the same reasoning applies with equal force to the deductions in question.

25. We are accordingly of the considered view that the Ld.CIT(A) was justified in deleting the disallowance of Rs.9.32 Crores by dismissing the corresponding grounds raised by the Revenue.

26. In the result, the appeal of the Revenue is dismissed.