The Supreme Court’s judgment last week in a long running case regarding the classification of annual licence fee payments as capital or revenue spells fresh trouble for telecom companies. Overturning a 2013 judgment of the Delhi High Court, the apex court has held that annual licence fee payments cannot be written off against revenues but should be treated as capital expenditure and amortised over the licence period.

The Court’s decision is a straight reading of Section 35 ABB of the Income Tax Act, which clearly states that licence fee payments are in the nature of capital expenditure to be amortised over the licence period, and also aligns with the accounting definition of capital expenditure. Considering that a licence is a pre-requisite for telecom companies to do their business, any payment for acquiring that licence ought not to be classified as revenue expenditure just because it is made in annual instalments over the course of the licence period. Even so, the telecom companies tried their luck over extended proceedings that started at the assessing officer’s level in 2006 and going up all the way to the Delhi High Court which ruled in their favour. The apex court’s judgment is on an appeal by the tax department.

What does the judgment now mean for telecom companies? The answer depends on whether the judgment is read as with prospective or with retrospective effect by the tax authorities. The Court has not specified on this aspect. Assuming that it is applied prospectively, telecom companies could see a narrowing of their cash flows in the initial years of the licence period as tax outgo increases. All things remaining the same and without considering the time value of money, the total tax paid by the company over the licence period will not vary significantly. However, considering that the tax department has been on the case since 2005-06, it is quite possible that it will want to apply the judgment with retrospective effect from the start of the licence period. In that event, the profitable telecom companies such as Bharti Airtel and Reliance Jio may have to shell out significant sums as retrospective tax. Brokerages have estimated that Airtel’s bill may be about ₹6,000 crore while Jio’s liability has been estimated at ₹8,400 crore.

It is possible that the telecom companies may file a review petition in the Supreme Court. The onus is now on the tax authorities and the government. They would be justified in calculating tax liabilities with retrospective effect considering that the case dates back to an assessment order given in 2006. Unlike the Vodafone case, the tax liabilities stem not from an amendment to the tax law but from a judgment in a long running case. Instead of pursuing legal remedies, the telecom companies would do well to negotiate an amicable solution with the government. The best outcome could be an interpretation of the judgment as with prospective effect but a pragmatic one would be a negotiated settlement.

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