ITAT Bengaluru Allows Instakart's Business Losses and ESOP Deductions, Overturns Revenue's Disallowances

Introduction

The Income Tax Appellate Tribunal (ITAT) Bengaluru Bench, comprising Accountant Member Shri Waseem Ahmed and Judicial Member Shri Keshav Dubey, has ruled in favor of Instakart Services Pvt. Ltd., a logistics arm of the Flipkart Group, allowing its claims for substantial business losses and Employee Stock Option Plan (ESOP) expenses across assessment years 2016-17 to 2018-19. In a consolidated order on multiple appeals (ITA Nos. 496, 543, 544/Bang/2025 and 530, 531/Bang/2025), the Tribunal set aside the disallowances by the Assessing Officer (AO) and Commissioner of Income Tax (Appeals) (CIT(A)), emphasizing that genuine losses from competitive business operations and ESOP costs as employee compensation are deductible under Sections 28 and 37 of the Income Tax Act . This decision underscores the importance of commercial expediency in the e-commerce logistics sector, rejecting the Revenue's view of the losses as lacking profit motive.

Case Background

Instakart Services Pvt. Ltd., incorporated in June 2015 and engaged in logistics, courier, and allied services primarily for e-commerce platforms like Flipkart (its group company), reported significant business losses in its initial years. For AY 2016-17, it declared a loss of over Rs. 768 crores, which the AO disallowed entirely, citing the company's acquisition of an established logistics business from group entity WS Retail Pvt. Ltd., lower billing rates to Flipkart compared to vendor costs, and absence of profit motive. Similar disallowances were made for AY 2017-18 and 2018-19 business losses, along with manpower expenses for AY 2018-19 (Rs. 19.90 crores to vendor M/s Surya Team Management Pvt. Ltd.) due to vendor non-traceability. Additionally, ESOP cross-charges to parent Flipkart Singapore Pvt. Ltd. (Rs. 12.95 crores for AY 2017-18) were disallowed as notional and without TDS under Section 195.

The case originated from scrutiny assessments under CASS, leading to appeals before CIT(A), who largely upheld the AO. Instakart appealed to ITAT, while Revenue cross-appealed on ESOP. The disputes spanned AY 2016-17 to 2018-19, with key questions: whether initial-year losses in a competitive sector are allowable; if ESOP reimbursements qualify as deductible business expenses; and if manpower costs are genuine despite vendor inquiry issues.

Arguments Presented

Instakart argued that its losses were genuine, arising from high initial setup costs, competitive pricing in the nascent e-commerce logistics market, and unrecovered operational expenses like freight and taxes, despite acquiring an established business. It emphasized audited accounts under Section 145, no defects in books, and long-term strategy evidenced by subsequent revenue growth (240% in AY 2017-18). For ESOP, it claimed actual outflows as employee incentives under a group scheme, allowable under Section 37(1) as revenue expenditure, with payments as pure reimbursements not attracting TDS under Section 195. On manpower, it provided agreements, invoices, payrolls, TDS proofs, and argued non-response to notices doesn't negate banking-channel payments in a loss-making entity with no tax motive.

The Revenue, represented by the AO and CIT(A), contended the losses lacked profit motive, as Instakart charged Flipkart below-market rates (e.g., Rs. 5 vs. Rs. 30 for COD to vendors like Blue Dart) while paying higher to third parties, suggesting profit-shifting within the group. They viewed the business as inherited, not nascent, and losses as deliberate erosion. ESOP was deemed notional, benefiting the Singapore parent without real Indian outflow. Manpower disallowance stemmed from vendor and sub-vendor non-existence, unsigned agreements, and unresponsive notices under Section 133(6), indicating bogus claims.

Legal Analysis

The ITAT analyzed the allowability of business losses under Section 28 , holding that real losses incidental to trade, recorded in audited books without defects, cannot be disallowed on Revenue's hypothetical profit assumptions. It distinguished the case from profit-shifting, noting identical rates to Flipkart and unrelated customers, and sector realities where players like Amazon and Zomato incur losses for market capture. Citing Supreme Court precedents like CIT v. A. Raman & Co. (67 ITR 11) for taxing only real income and Sassoon J. David & Co. (118 ITR 261) for business expediency from the assessee's viewpoint, the Tribunal rejected notional income creation. It applied Badridas Daga (34 ITR 10) to affirm incidental losses as deductible.

For ESOP, under Section 37(1), the Tribunal followed its earlier ruling in group case * Flipkart India Pvt. Ltd. v. ACIT * (150 taxmann.com 272), affirming Novo Nordisk India Pvt. Ltd. v. DCIT (42 taxmann.com 168) and Karnataka High Court's CIT v. Biocon Ltd. (430 ITR 151), treating cross-charges as actual employee costs for retention, not capital or notional. No TDS was required under Section 195, as payments were cost-to-cost reimbursements without income element, per DIT v. A.P. Moller Maersk A/S (78 taxmann.com 287 SC).

On manpower, the Tribunal held payments via banking channels with TDS under Section 194C , supported by documents, prove genuineness, rejecting vendor non-traceability as insufficient, per Diagnostic v. CIT (20 taxmann.com 692 Cal HC). It noted acceptance of similar claims from 27 other vendors.

The Tribunal distinguished Flipkart India initially cited by CIT(A) but found facts aligned, emphasizing no Section 40A(2) violation or BEPS applicability.

Key Observations

• "The assessee has demonstrated with evidence that the rates charged to Flipkart Internet and to unrelated third-party customers were the same during the relevant year... Hence, the allegation that the assessee designed its business activity in a way to provide services to its group company at a discount rate... is not fully correct."
• "Losses in the early years of business, therefore, cannot be regarded as abnormal or as evidence of tax avoidance... Judicial notice of the fact that established players like Zomato, Amazon, Swiggy, and Zepto have reported heavy losses despite scale and brand value."
• "The expenditure towards ESOP is eligible for deduction u/s. 37 of the Act... the difference between the fair market value of the shares of parent company and the price at which those shares were issued to employees of Indian company was an employee cost in India, there was an actual outflow of cash."
• "The absence of the vendor... at the time of subsequent enquiry may cast some doubt, but cannot, by itself, undermine the contemporaneous evidence furnished by the assessee."
• "Only real income earned can be taxed and not notional income which the Revenue assumes could have been earned. The Revenue cannot substitute its own view of business prudence in place of that of the assessee."

Court's Decision

The ITAT allowed Instakart's appeals, directing deletion of all disallowances: full business losses for AY 2016-17 to 2018-19 (e.g., Rs. 772.75 crores for 2016-17), ESOP expenses for AY 2017-18 and 2018-19, and Rs. 19.90 crores manpower costs for 2018-19. Revenue's appeals on ESOP were dismissed, upholding CIT(A)'s allowance. The stay application became infructuous.

This ruling reinforces taxpayer protections for genuine e-commerce losses and ESOPs, limiting Revenue's interference in commercial decisions absent book defects. It may encourage deductions in startup-like sectors, promote audited compliance, and reduce litigation on vendor traceability, benefiting logistics firms with group affiliations.