The Income Tax Appellate Tribunal, Bangalore, has clarified that cross-charges by a foreign parent company to its Indian subsidiary for employee share-based payments constitute allowable revenue expenditure under Section 37 of the Income Tax Act, 1961. This decision resolves a long-standing ambiguity in the treatment of ESOP costs in multinational corporate structures and affirms the principle that compensation for services rendered is inherently revenue in nature.
Background & Facts
The Dispute
The appellant, M/s. Intel Technology India Private Limited, is an Indian subsidiary of Intel Corporation, a U.S.-based multinational. The dispute arose over the disallowance of ₹7,212,874,997 claimed as expenditure in its books of account for the assessment year 2022-23. This amount represented the cost of employee stock options (ESOPs) granted by Intel Corporation to employees of the Indian subsidiary, which was cross-charged to the Indian entity under an intercompany cost allocation mechanism.
Key Facts
- The appellant filed its return of income on 30.11.2022, declaring total income of ₹2,233,79,39,620
- During scrutiny assessment, the Assessing Officer (AO) identified that Intel Corporation had granted ESOPs to Indian employees and charged the cost to the Indian entity
- The Indian entity recorded the cross-charged amount of ₹11,175,688,072 in its profit and loss account on an accrual basis over the vesting period
- Of this, ₹7,212,874,997 represented the actual cash outflow incurred by Intel Corporation and billed to the Indian entity
- The Indian entity deducted tax at source under Section 192 and issued Form 16 to employees for the ESOP benefits received
- The AO disallowed the entire ₹7,212,874,997 as capital expenditure, arguing that the transaction enhanced the capital of the foreign parent
- The Commissioner of Income Tax (Appeals) upheld the AO’s view, relying on CIT v. Biocon Ltd. (2020) and Union of India v. Delhi Cloth & General Mills Co. Ltd. (2000)
Procedural History
- 22.03.2024: Assessment order passed by the Assessing Unit under Section 143(3) read with Section 144B, disallowing ESOP expenditure of ₹7,212,874,997
- 04.09.2025: Order of the National Faceless Appeal Centre (CIT(A)) confirming the disallowance
- 12.02.2026: Hearing before the ITAT Bangalore
- 25.03.2026: Judgment pronounced by the Tribunal
The Parties' Positions
For the Appellant: The expenditure is revenue in nature as it is compensation for services rendered by employees during the vesting period. The cross-charge is merely an accounting mechanism to reflect the true cost of human capital. The decision in Biocon Ltd. and Flipkart India are binding precedents.
For the Revenue: The ESOP cost is capital in nature because it results in an increase in the share capital of the foreign parent. The Indian entity is not paying for services but for an equity interest in the parent company. The transaction lacks commercial substance and is essentially a transfer of profits abroad.
Relief Sought
The appellant sought deletion of the disallowance of ₹7,212,874,997 on account of ESOP cross-charges and consequential relief on interest and penalty.
The Legal Issue
Whether the cross-charged expenditure incurred by an Indian subsidiary for employee stock options granted by its foreign parent constitutes allowable revenue expenditure under Section 37(1) of the Income Tax Act, 1961, or whether it is capital expenditure ineligible for deduction.
Arguments Presented
For the Appellant
The appellant relied on the binding precedent of the ITAT Bangalore Special Bench in Biocon Ltd. v. DCIT (2013), which established four key principles: (1) ESOP discount is employee compensation; (2) the liability is not contingent but ascertainable; (3) the purpose is to secure employee services; and (4) accounting treatment is supportive but not determinative. The appellant also cited the Karnataka High Court’s affirmation in CIT v. Biocon Ltd. (2020), and the dismissal of the Revenue’s SLPs by the Supreme Court in August and October 2021. Further, the ITAT Bangalore’s own decision in Flipkart India (P.) Ltd. (2023) and Novo Nordisk India (2013) were cited as consistent rulings allowing such deductions.
For the Respondent
The Revenue contended that the ESOP cross-charge is not a genuine business expense but a mechanism to transfer value to the parent company’s equity. It argued that since the Indian entity does not acquire any asset but merely facilitates the issuance of shares in the parent, the expenditure is capital in nature. The Revenue relied on Union of India v. Delhi Cloth & General Mills Co. Ltd. (2000) to assert that any expenditure leading to enhancement of capital is capital expenditure. It also argued that the absence of a specific provision for ESOPs in the Act precluded deduction.
The Court's Analysis
The Tribunal undertook a detailed analysis of the nature of ESOPs under tax law. It emphasized that Section 37(1) permits deduction of all expenditure incurred wholly and exclusively for business purposes, provided it is not of a capital or personal nature. The Tribunal held that the essence of ESOPs is to incentivize and retain employees by aligning their interests with the company’s performance. The cost borne by the Indian entity, even if charged by the foreign parent, is compensation for services rendered by employees in India.
"The expenditure is not for acquiring an asset or enhancing capital, but for securing the services of employees over the vesting period. The fact that the shares are of the parent company does not alter the nature of the transaction as employee compensation."
The Tribunal rejected the Revenue’s argument that the transaction enhances the capital of the parent company. It noted that the Indian entity does not acquire shares; it merely pays for the cost of granting options to its employees. The increase in the parent’s share capital is a consequence, not the purpose, of the transaction.
The Tribunal reaffirmed the four principles laid down in Biocon Ltd. (2013) and held that the liability under ESOPs is not contingent but ascertainable, as per Bharat Earth Movers v. CIT. It further observed that the Supreme Court’s dismissal of the Revenue’s SLPs in Biocon Ltd. and Lemon Tree Hotels signals judicial disinclination to interfere with the High Court’s reasoning, thereby strengthening the precedential value of the Karnataka High Court’s decision.
The Tribunal also distinguished Union of India v. Delhi Cloth & General Mills as a case involving capitalization of profits for foreign exchange purposes, which is factually distinct from the present case where the expenditure is directly linked to employee services.
The Verdict
The appeal was allowed. The Tribunal set aside the orders of the Assessing Officer and the Commissioner of Income Tax (Appeals), and directed the deletion of the disallowance of ₹7,212,874,997 on account of ESOP cross-charges. The Tribunal further directed the Assessing Officer to delete the interest and penalty proceedings under Sections 234A, 234B, 234C and 270A, as they were consequential to the disallowance. The order was pronounced on 25 March 2026.
What This Means For Similar Cases
ESOP Costs Are Revenue Expenditure
- Practitioners can now confidently claim cross-charged ESOP expenses as deductible under Section 37(1) if they are bona fide compensation for services rendered
- The burden of proof shifts to the Revenue to demonstrate that the expenditure is not for business purposes, not merely because it involves foreign shares
- Documentation such as ESOP plan documents, intercompany agreements, Form 16, and payroll records must be maintained to substantiate the nature of the cost
Precedents Are Binding Even If SLPs Are Pending
- Dismissal of SLPs by the Supreme Court, while not technically a merger, strengthens the binding nature of High Court and ITAT decisions within their jurisdiction
- Revenue cannot rely on pending SLPs to override settled precedents in lower forums
- Tax officers must apply jurisdictional precedents unless and until they are overruled by a higher court
Cross-Charge Mechanisms Are Legally Recognized
- Multinational corporations can continue using cross-charge mechanisms for ESOPs without fear of automatic disallowance
- The Tribunal has affirmed that the legal form (cross-charge) does not override the economic substance (employee compensation)
- This ruling provides clarity for IT, pharmaceutical, and other tech-driven MNCs operating in India with global ESOP plans
