Bombay High Court
Kirloskar Oil Engines Ltd. vs Commissioner Of Income-Tax on 31 March, 1993
Equivalent citations: [1994]206ITR13(BOM)
JUDGMENT
Dr. B.P. Saraf J.
1. By this reference under section 256(1) of the Income-tax Act, 1961, the Income-tax Appellate Tribunal has referred the following two questions of law at the instance of the Revenue :
"(1) Whether, on the facts and in the circumstances of the case, the expenditure of Rs. 36,259 in the assessment year 1971-72, and Rs. 13,879 in the assessment year 1972-73, though permissible as a deduction under section 37(1) of the Income-tax Act, 1961, is an admissible item of expenditure being in the nature of entertainment expenditure within the meaning of section 37(2B) ?
(2) Whether, on the facts and in the circumstances of the case and on a true interpretation of the agreement dated June 2, 1970, the expenditure of Rs. 1,15,067 is a capital expenditure ?"
2. The first question relates to the assessment year 1971-72 and 1972-73 and the second question relates only to the assessment year 1972-73.
3. So far as the first question is concerned, it is stated by learned counsel for the parties that this question is covered by a decision of this court in CIT v. Shah Nanji Nagsi [1979] 116 ITR 292 and in CIT v. S. B. Anwar Begum [1988] 174 ITR 407 (sic) and following the same, it has to be answered in favour of the assessee. Accordingly, we answer the first question in the affirmative, i.e. in favour of the assessee and against the Revenue.
4. The sole question left for our consideration is question No. 2 and, therefore, we shall briefly set out only the facts which are relevant for the purpose of deciding the same.
5. As is evidence from the question itself, the controversy in the second question relates to disallowance of the claim deduction of a sum of Rs. 1,11,067 on the ground that it was capital expenditure. Under an agreement dated June 2, 1970, between the assessee-company and Messrs. Farymann, a non-resident company, it was agreed that the assessee-company shall pay a sum of DM 2,20,000 to Messrs. Farymann for the purchase of export rights. Messrs. Farymann also sold the exclusive right of manufacture in India of single cylinder, four-stroke diesel engines, vertical design, type "BA", designed and developed by Farymann which are built with special type of ball-bearings and roller bearings which were not being manufactured in India and were not available to the available to the assessee-company. The designs, drawings and specifications were to be given by Messrs. Farymann to the assessee-company and under the agreement, the assessee-company was entitled to manufacture the above-mentioned engines in India and to sell the same in India and also in any part of the world with the assessee's own trade mark. The drawings and other information received by the assessee-company, under the terms and conditions of the agreement, became entirely the property of the assessee. Under the agreement, the assessee was required to pay a sum of DM 70,000 for purchase of manufacturing rights and drawings, designs and specifications as stated above. This payment was to be made within 30 days from the receipt thereof by the assessee. In addition, as stated above, the assessee was also required to pay a sum of DM 2,20,000 for the purchase of export rights. This amount was payable in five yearly instalments as under :
(i) 25 per cent. on the signing of the agreement.
(ii) 20 per cent at the end of each year thereafter for three years from commencement of production, the first instalment beginning not later than two years of signing of the agreement.
(iii) 15 per cent. at the end of five years from commencement of production.
6. The dispute in this case relates to the claim for deduction of the amount of instalment paid during the previous year relevant to the assessment year under reference under the above clause of the agreement for the purchase of export rights. During this year, the assessee paid the first instalment of DM 55,000 equivalent to Rs. 1,15,067, which the assessee claimed as revenue expenditure. The Income-tax Officer did not accept the claim of the assessee. According to him, the assessee had purchased the capital asset of export rights and the payment therefor partook of the character of capital expenditure. Thus he disallowed the claim for deduction of a sum of Rs. 1,15,067 on the ground that it was a capital expenditure.
7. The assessee preferred an appeal before the Appellate Assistant Commissioner of Income-tax ("the A. A. C."). In his appellate order, the Appellate Assistant Commissioner held that the payments made under the agreement were for two purposes, namely, purchase of manufacturing rights and purchase of export rights. Under the agreement, the purchase of export rights gave free licence to the assessee to sell the product to any other party in India under certain specific terms and conditions. It also gave permission to the assessee to sell the diesel engines with its own trade mark and also to sell the technical know-how or drawings and designs to any other person in India. Thus, according to the Appellate Assistant Commissioner, there was an acquisition of an asset for which the payment determined was payable in five yearly instalments. The payment, according to him, was, undoubtedly, a capital expenditure. He, therefore, upheld the disallowance.
8. The assessee went in second appeal to the Income-tax Appellate Tribunal ("the Tribunal"). It was urged by the assessee before the Tribunal that : (i) it did not acquire any fixed asset. ; (ii) the payment was only a fee for licence for manufacturing and selling certain types of engines all over the world ; and that there was a sharing agreement and so the expenditure was of revenue nature. On behalf of the Revenue, it was urged that it was not a royalty payment linked with profits. The assessee had acquired export rights which were an asset of enduring nature and hence the payment was an expenditure of capital nature.
9. The Tribunal held that Messrs. Farymann sold to the assessee the exclusive rights of manufacture in India of single cylinder, four-stoke diesel engines, vertical design design type "BA", designed and developed by Farymann which were built with a special type of ball-bearings and roller bearings which were not manufactured in India and were not available to the assessee. Under the agreement dated June 2, 1970, according to the Tribunal, the assessee acquired an exclusive right to manufacture and also to sell the same in India or in any part of the world Under clause 4(b) of the agreement, a sum DM 2,20,000 was payment for the purchase of the export right. On a perusal of the agreement, the Tribunal observed that the various clauses of the agreement clearly showed that the assessee acquired the rights for which a sum of DM 2,20,000 was payable in five instalments. The expenditure incurred in that process was for acquisition of that right. In that view of the matter, the payment was for nothing but acquiring a capital asset and so the expenditure incurred was capital expenditure. The Tribunal further observed that the payment by the assessee was for export rights in any part of the world. The asset which had been acquired by the assessee in consideration of the payment of DM 2,20,000 was in the nature of a capital asset. The expenditure incurred was not for running the business but for acquiring export rights in the whole of the world which was an advantage of enduring nature and so the expenditure incurred was of capital nature. In the light of the above findings and observations, the Tribunal upheld the disallowance.
10. The assessee was aggrieved by the concurrent findings against it by all the authorities including the Tribunal. He sought for a reference under section 256(1) of the Income-tax Act, 1961 ("the Act"). Hence, this reference.
11. We have heard learned counsel for the assessee at length. The submission of counsel is that the Tribunal was not correct in holding the payment to be an expenditure of capital nature. According to him, by acquisition of the export rights, the assessee did not get any enduring benefit or acquire any asset of permanent nature. According to him, it was a revenue expenditure incurred for increasing the profitability of the business. In this connection, reference was also made to the fact that payment on this account was made in five instalments spread over a period of five years. Reference was also made in this connection to a number of decisions of the Supreme Court and it was pointed out that, while deciding whether the expenditure was revenue expenditure or an expenditure of a capital nature, the approach should be that of a businessman. It should not be examined from the subjective standard of an Income-tax Officer.
12. Learned counsel for the Revenue, on the other hand, submitted that though the question whether a particular expenditure is a revenue expenditure or an expenditure of capital nature has been considered by the Supreme Court in a large number of cases and various tests have been laid down to determine the same, none of the tests is of universal application and each case has to be decided on its own facts and circumstances keeping in mind the nature of the benefit or the right acquired by the assessee for which the payment has been made. Counsel also referred to certain authorities in support of his submission. It was pointed out that, in the instant case, the benefit which was acquired by the assessee was out and that being so, the Tribunal was fully justified in upholding the findings of the authorities below that it was a capital expenditure and not allowable as a deduction in computing the income of the assessee.
13. We have carefully considered the rival submissions. The controversy whether a particular expenditure is revenue expenditure or expenditure of capital nature is as old as the income-tax law itself. Various tests have been devised from time to time by the courts in England as well as in India to determine whether an expenditure is revenue expenditure or expenditure of capital nature. We do not like to refer to all those authorities or to discuss all the tests laid down by the courts except to touch upon some of them with a view to refer to certain observations therein which are very illuminating and of great assistance in deciding the controversy.
14. We may first turn to the tests evolved by the courts. In this connection, we may first refer to the earliest test laid down by Lord Dunedin, which is in the following terms :
"In a rough way, I think it is not a bad criterion of what is capital expenditure as against what is income expenditure to say that capital expenditure is a thing that is going to be spent once and for all, and income expenditure is a thing that is going to recur every year. (see Vallambrosa Rubber Co. Ltd. v. Farmer [1910] 5 TC 529, 536 (C. Sess.))."
15. Some time later, Rowlatt J. in Ounsworth v. Vickers Ltd. [1915] 3 KB 267, 273; [1915] 6 TC 671, 675 (KB), observed :
"The real test is between expenditure which is made to meet a continuous demand, as opposed to an expenditure which is made once for all."
16. And then came an oft-quoted test evolved by Viscount Cave L. J., in Atherton's case [1925] 10 TC 155, 192; [1926] AC 205, 213 (HL) :
". . . . When an expenditure is made, not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade, I think that there is very good reason (in the absence of special circumstances leading to an opposite conclusion) for treating such an expenditure as properly attributable not to revenue but to capital."
17. This test, on the face of it, did not purport to be of universal application as is evident from the rider added thereto which shows that it would not apply where there are special circumstances leading to a contrary conclusion. Dealing with the "enduring benefit test" enunciated by Viscount Cave, it was observed :
". . . . it has to be remembered that all these phrases, as, for, instance, 'enduring benefit' or 'capital structure' are essentially descriptive rather than definitive, and, as each new case arise for adjudication and it is sought to reason by analogy from its facts to those of one previously decided, a court's primary duty is to inquire how far a description that was both relevant and significant in one set of circumstances is either significant or relevant in those which are presently before it. For example, while it is certainly important that in Atherton's case [1926] AC 205 (HL) expenditure that did secure an enduring benefit for a company's business was spoken of as being for that reason a capital expenditure, it would be a misuse of that authority to suppose that it gives any warrant for the idea that securing a benefit for the business is prima facie capital expenditure, so long as the benefit is not so transitory as to have no endurance at all." (see Commr. of Taxes v. Nchanga Consolidated Copper Mines Ltd. [1965] 58 ITR 241, 251 (PC)).
18. Some other tests were also evolved from time to time depending upon the facts of particular cases. This controversy came up before the Supreme Court also in a number of cases wherein all these tests were considered. In Sitalpur Sugar Works Ltd. v. CIT [1963] 49 ITR (SC) 160 (at page 164), the Supreme Court recognised the difficulty in distinguishing between revenue expenditure and expenditure on capital and observed as follows :
"It is no doubt true that the distinction between revenue expenditure and expenditure on capital is very fine and often it is difficult to decide under which class an expenditure properly falls. "
19. The test of enduring benefit enunciated by Viscount Cave L. J., though of the widest application, was not found acceptable in all cases without reservation. It was generally observed in many of the Supreme Court decisions that every case has its own limitations. The test of enduring benefit was held to be not applicable where the benefit was so transitory as to have no endurance at all.
20. The expressions "enduring benefit" and "right of permanent nature" came up for consideration before the Supreme Court in Devidas Vithaldas and Co. v. CIT [1972] 84 ITR 277. It was held that the said expressions are only descriptive and not definitive and are relative in meaning, not synonymous with perpetual or everlasting. It should not be so transitory and ephemeral that it can be terminated at any time at the volition of the parties (see CIT v. Coal Shipments P. Ltd. . However, despite various tests evolved in a long string of cases to determine as to what is attributable to capital and what to revenue, the controversy still persists and has to be decided in each case applying one test or the other, depending upon the facts of that case. As observed by Hidayatullah J. (as his Lordship then was), none of the tests is either exhaustive or universal. Each case depends on its own facts, and a close similarity between one case and another is not enough, because even a single significant details may alter the entire aspect. (See Abdul Kayoom (K. T.M.T.M.) v. CIT . The following note of caution given by his Lordship in the above case is very pertinent :
"The well-accepted position as on today, therefore, appears to be that no test of universal application can be laid down to determine the question whether an expenditure made by the assessee was revenue expenditure or capital expenditure. It must depend on the fact and circumstances of each case and on the application of the proper principles of law."
21. One of the guiding facts, however, should be the aim and object of the expenditure. (see CIT v. British India Corporation Ltd. ). There are a number of decisions of the Supreme Court where, in view of the facts and circumstances of the case, different conclusions had to be arrived at. Reference may be made in this connection to the decision of the Supreme Court in Lakshmiji Sugar Mills Co. P. Ltd. v. CIT and in Travancore-Cochin Chemicals Ltd. v. CIT [1977] 106 ITR 900. In the latter case, the test laid down in the former case was held to be confined to the facts of that case. However, in L.H. Sugar Factory and Oil Mills (P.) Ltd. v. CIT , the latter case was held to be a case on the facts and the former decision in Lakshmiji Sugar Mills Co. P. Ltd. v. CIT [1971] 82 ITR 376 was applied.
22. From the foregoing discussion, it is clear that the question whether an expenditure is on account of revenue or capital has always to be decided by looking to the facts and circumstances of each case. No doubt, while doing so, the authorities should always examine the controversy from the point of view of a piratical and prudent businessman rather than from the view-point of a tax-gatherer upon strict juristic classification of the legal right, if any, secured in the process.
23. What is, therefore, necessary for arriving at a just and proper conclusion is to look at the true nature and character of the advantage in a commercial sense (without giving undue emphasis to the form thereof or the terminology used) in the light of the surrounding circumstances and in the larger context of necessity and expediency. If the expenditure is so related to the carrying on or conduct of the business, then that may be regarded as an interval part of the profit-making process and not for acquisition of an asset, or a right of permanent character, and the expenditure may be regarded as revenue expenditure even though the advantage may endure for an indefinite future. We may also refer in this connection to the decision of the Supreme Court in Empire Jute Co. Ltd. v. CIT [1980] 124 ITR 1, where the amount paid by the assessee for purchase of looms for longer working hours, on consideration of the facts and circumstances of that case, was held to be a revenue expenditure. It was done on the basis of the finding that, by the purchase of loom hours, no new asset was created and there was no addition to or expansion of the profit-making apparatus of the appellant. Reference may also be made again to the decision of the Supreme Court in Devidas Vithaldas and Co. v. CIT [1972] 84 ITR 277, which has also been referred to earlier. In this case, two things were held : one that it is not the form but the substance of the transaction that matters and another that, once there is acquisition of a capital asset, the payment therefore will be a capital expenditure and it would not make any difference as to whether it is paid in a lump sum at one time or in instalments disbursed over a definite period. In the above case, the controversy was regarding payment made for the acquisition of goodwill. The Supreme Court held the acquisition of goodwill of the business to be acquisition of a capital asset and, therefore, the payment of its purchase price a capital expenditure. The Supreme Court, however, made it clear that, where the payment is not for acquisition of goodwill but for use of it, the expenditure will be revenue expenditure which clearly goes to draw a line of distinction between payment for acquisition of an asset and for the user of an asset. In the former, it will be a capital expenditure but in the latter, revenue. Considering the facts of the case before us in the light of the principles set out above, we find that what was acquired by the assessee in pursuance of the agreement for which the payment in question has been made in five instalments under clause 4(b) of the agreement was the export right. These rights, as has already been set out above, were the rights to export the goods to the whole of the world. Form a careful reading of the agreement, more particularly clause 4 thereof, it is clear that what the assessee had purchased is the manufacturing rights, drawings, designs, specifications and export rights. For all other items except the export rights, the payment was made in one instalment within 30 days of the receipt of the relevant material. The payment in respect of the export right was allowed to be made in five instalments spread over a period of five years. That, in our opinion, is not a relevant circumstance to make a distinction between the nature of the two assets mentioned in the two sub-clauses of clause 4 in view of the clear decision of the Supreme Court in Devidas Vithaldas and Co. v. CIT [1972] 84 ITR 277.
24. In the light of the foregoing discussion, we are of the clear opinion that the Tribunal was justified in holding that the expenditure of Rs. 1,15,067 incurred by the assessee on payment of the instalment of the price for export rights under clause 4(b) of the agreement was capital expenditure.
25. Accordingly, we answer the second question referred to us in the affirmative, i.e., in favour of the Revenue and against the assessee.
26. In the facts and circumstances of the case, there shall be no order as to costs.