Organised sector brick-and-mortar retailers across the country, who are seeing both their toplines and bottomlines being hit by the likes of Flipkart and Amazon’s tactics, have reason to resent the latter’s deep-discounting, funded by mostly foreign PE/VC money. As such, they will be happy to see the taxman filing a case against Flipkart, saying that it cannot classify as expenditure the money that it uses to fund the discounts. To that extent, since Flipkart’s losses will reduce, it may end up paying corporation taxes at the current rates—this will not reduce Flipkart’s discounting, but will make it more expensive for it to do so. And, needless to say, the same principle will apply to other e-tailers such as Amazon. The taxman’s argument is that this expenditure is being used to help establish the Flipkart brand in the country and, to that extent, has to be classified as capital expenditure. Since capital expenditure enjoys depreciation benefits, this would mean that, instead of getting the benefit over a single year—when it was classified as expenditure—Flipkart will be able to get this over the next 7-8 years, typically the period over which assets are depreciated. In this case, however, the taxman has likened this to assets like land where, though they are capital in nature, there is no depreciation that is allowed.
While Flipkart, which has lost the case at the Commissioner Income Tax (CIT) Appeals level, will now go to the Income Tax Appellate Tribunal (ITAT), the case has implications that go beyond even e-tailers like Flipkart and Amazon. Apart from brick-and-mortar retailers who can also find their discounts being reclassified as capex, the same can happen to any manufacturing firm since they are also, in a sense, being used to build up their brands. In any case, in some cases, the taxman has argued that advertisement or other brand-building expenditure cannot be deducted as an expense, but has to be treated as capex. As long as any expenditure is being made in the normal course of running a business, it is difficult to see how this can be classified in any other way. While the Flipkart case will probably make its way to the high court and, eventually, the Supreme Court, since it is seeking to make an important departure on classification of expenditure, the matter should be taken up by the Central Board of Direct Taxes (CBDT) and, if need be, inputs can be sought across various ministries. As a general rule, in fact, wherever the taxman is invoking a new principle of taxation or if the ruling has an impact on a large section of the industry—as the decision to apply MAT on FPIs, for instance—the Board has to get involved; this is too important a matter to leave to individual tax officers.
