Income Tax Appellate Tribunal - Delhi
Joint Commissioner Of Income Tax vs Khanna And Anndhanam on 18 January, 2008
Equivalent citations: (2008)115TTJ(DELHI)663
ORDER
Deepak R. Shah, A.M.
1. This appeal by the Revenue is directed against the order of the learned CIT(A)-XX, New Delhi, dt. 9th May, 2001.
2. The only dispute in this appeal is whether the amount of Rs. 1,15,70,000 received by the assessee is a capital receipt or a revenue receipt chargeable to tax.
3. The assessee herein is a firm of chartered accountants carrying on profession as such. During the year the assessee has shown a sum of Rs. 1,15,70,000 in the capital account of the partners. This payment is stated to be received from Deloitte Touche Tohmatu International (DTTI). It was stated that the receipt is not taxable in its hand as it is capital receipt. The AO held the same as revenue receipt.
4. Facts of this case are that Deloittee Touche Tohmatsu International (DTTI) is said to be one of the leading accounting firms in the world established under Swiss Verein engaged in the practice of public accountancy in various countries. The Verein consists of members that are professional firms and are engaged in public accountancy. In other words, DTTI is a conglomeration of member firms, not individuals, which is being managed and run by a board of directors selected by member firms. DTTI has a member firm in India by the name of Deloittee Haskins & Sells (DHS) which is an association of four Indian accounting firms namely Khanna & Annadhanam, (the assessee firm) (KA), Fraser and Ross (FR), Gupta Choudhary & Ghosh (GCG) and P.C. Hansotia & Co. (PCH). Each of these four firms nominated three to four partners to DHS to represent the firms.
4.1 By virtue of an agreement dt. 1st Jan., 1978 between Deloitte Haskins & Sells International and Gupta Choudhary & Ghosh, Calcutta, the partners of Gupta Choudhary & Ghosh were allowed to practice in the name of Deloitte Haskins & Sells in India. Accordingly, partners of Gupta Choudhary & Ghosh formed a partnership in the name of Deloitte Haskins & Sells in India (DH&S). Consequent upon the merger of practices of DH&S and Touche & Ross internationally, a regional meeting of Deloitte Ross & Tohmatsu (DRT) International was held on 5th April, 1990 in Hong Kong where the representatives of DRT International, DH&S and TR firms in India were present. At the said meeting, DRT International representatives proposed the merger of DH&S and TR firms in India in keeping with the international trend. In view of the fact that the Indian laws permitted formation of a firm with not more than twenty partners, total merger was not considered feasible. In the circumstances, an 'Umberalla Firm' was formed with the representative partners of DH&S and TR firms. It was decided that the respective firms joining the Urnberalla Firm would nominate partners to the other firms.
4.2 KA became partner of DHS on 4th Sept., 1991 along with two other firms namely GCG and PCH. Later on the partners of FR, one of the TR firms also agreed to join the said merger. A Memorandum of understanding (MoU) was then executed on 1st June, 1992 between the constituent firms namely KA, FR, GCG, PCH and the firm DHS was reconstituted. This MolJ postulated nomination of partners by member firms as under:
GCG 5 Partners PCH 4 Partners KA 3 Partners FR 3 Partners
The Mou contains clauses for rendering professional services in the name of DHS which inter alia, provided that for services rendered by the respective constituent firms for the work of DHS India, these would be entitled to fees commensurate with the work done as mutually agreed.
4.3 In the year 1987, internationally DHS and TR, another accounting firm, merged. TR was represented in India by C.C. Choksi & Co., Bombay (CCC) and FR, Madras. It did not practice in India in its own name, but the referred work was done either by CCC or FR. However, the TR's work in India, unlike DHS was not substantial. After merger, the international firm was known by the name of DTTI.
4.4 The clients of DHS which were mostly multinational companies operating in India were referred to DHS for providing professional services by member firms of DTTI, mostly the US and UK firms. Since DHS was constituted by three firms and later on by four firms, after admission of M/s Fraser & Ross, the firms agreed that the DHS clients should be serviced by the local firms as DHS did not have necessary infrastructure in the various cities. The billing of the clients was done by DHS through the services rendered by the constituent firms. It was agreed between the firms that for the services rendered by the respective firms to DHS clients, the firm will be entitled to fee commensurate with the work done as may be mutually agreed to between the firms. In view of this, 80 to 90 per cent of the fees collected by the DHS was passed on to the constituent firms for their services. The balance was left in DHS for certain common expenses like training course, secretarial services, indemnity insurances, etc. 4.5 In view of the increased activities of DHS in India, the apex bodies i.e. DTTI was keen that all the firms constituting DHS should merge into one firm and practice only in the name of DHS. It has been submitted by the assessee that as this arrangement was time consuming, DTTI, in the meantime, decided to grant concurrent membership to the four constituent firms of DHS. Accordingly concurrent membership agreement dt. 1st Sept., 1992 was executed between KA and DTTI wherein KA was formally admitted as a member firm of DTTI.
4.6 Regarding reasons for withdrawal from the concurrent membership of DTTI, it has been submitted by the assessee that DTTI was keen that the four constituent firms of DHS and two of TR firms should merge and form one national firm. The said merger required losing national identity for the firms and transfer of national clients to DHS. Also, M/s C.C. Choksi & Co. insisted on taking over DHS practice in India. As this was not acceptable to KA, the assessee contended that DTTI asked KA to withdraw from the membership of DHS/DTTI and agreed to pay compensation to KA.
4.7 In the course of assessment the assessee was asked to substantiate its claim as to why the amount is to be treated as capital receipt. The assessee filed copies of relevant agreement with DTTI. It is necessary to examine the relevant clauses of the concurrent membership in DTTI dt. 1st Sept., 1992 and the clauses of the agreement and release document dt. 14th Nov., 1996 entered into between, the assessee firm and DTTI.
4.8 The relevant clauses of the concurrent membership agreement dt. 1st Sept., 1992 between DTTI and the assessee firm which were identical to the terms and conditions in respect of the other constituent firms are as follows:
1. Clause 1--Admission--You are asked to sign and return to us two copies of this letter agreement. Your firm's concurrent membership in the firm will become effective upon notification of acceptance by the firm, and return to you of a copy of this letter agreement countersigned by the firm, provided that such membership is terminable if any legally required Government approval in India, as provided in Section 8 below, cannot be obtained.
2. Clause 2--Term and Effect--Acceptance by the firm shall remain effective even if only as few as one of the counterpart firms is similarly accepted. The declaration of acceptance contained in the bound membership document volumes which you received in March, 1990 and have already executed and any remaining right and obligations under this letter agreement, shall be extended to and remain binding upon your firm's successors, including any new firms arising from the merger of practices of two or more of the concurrent member firms in India.
3. Clause 3 --Names--Your firm may continue to use its current practice names and logos during the period of concurrent membership. In addition, the firm consents to your firm's public identification of itself as a member firm of the firm during that period of time. This letter agreement does not create any new or modified name or logo ownership or use rights, beyond what rights may now exist, if any. If your firm and the counterpart firms wish to begin practicing under a new name before the national merger becomes legally effective please contact the firm's chief operating officer, in order to make arrangements for signing the appropriate additional documents.
4. Clause 5--Budgetary Contribution--For the 1991 and subsequent fiscal year, your firm shall continue to make a budgetary contribution to the firm determined in the same manner as for member firms generally subject to waiver at the discretion of the firm's executive committee.
5. Clause 6--Compensation on Withdrawal--Your firm will not be obliged to make a compensation payment to the firm (under s. 6 of the firm's supplemental agreement) in the event of your firm's departure from the firm as a result of the failure to complete the merger with the counterpart firms or as a result of executive committee decision.
6. Clause 7--Term--(c) Membership in the firm of the firms not selected shall terminate, notwithstanding any contrary provisions of the articles and supplemental agreement of the firm, automatically and without any hearing or further action, effective on the date of the firm's notice to the firms that have not been selected. Their respective memberships in DH+S1 and TRI shall similarly terminate. The firm remaining in the Verein shall complete the remaining items of the normal Verein documentation.
The firm is pleased to welcome your firm to membership and hopes that your merger with the counterpart firms will soon be completed successfully.
The relevant clauses of the agreement and release document dt. 14th Nov., 1996 are extracted hereunder:
1. Clause 2 Whereas the parties hereto have entered into that certain letter agreement dated as of 14th Aug., 1992 setting forth certain terms and conditions of Khanna's concurrent membership status in DTTI and Whereas Khanna has made extensive and sustained efforts to support and promote DTTI by providing services to DTTI referred clients to DHS for many years and helped to build a substantial DHS practice in New Delhi.
2. Clause 3 Whereas because of reorganization of DTTI's operations in India DTTI has requested Khanna to withdraw from concurrent membership of DTTI and Khanna has agreed to the said request with the result that Khanna's concurrent membership status in DTTI shall expire effective as of 29th Nov., 1996....
3. Clause 5 Now, therefore, in consideration of the premises and of other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agreed....
4. Clause 8 Khanna acknowledges that it is not entitled to any payment from DTTI except the payment specified hereinafter and has no other claims on DTTI by virtue of withdrawing at the behest of DTTI.... Khanna acknowledges and agrees that the only payment to be made by the DTTI to Khanna is as specified hereinafter and that the obligation to make such payment services only from DTTI agreement herein....
5. Clause 12 Khanna agrees that it will not solicit any referred clients with a view to providing it with professional services, and that it will not provide any services to any referred client without the consent of the DTTI which shall not unreasonably be withheld. Similarly, DTTI agrees that its designce will not solicit any non-referred client specified in the list referred to in Clause 11 hereof with a view to providing it with professional services and that it will not provide any services to any such non-referred client without the consent of Khanna, which shall not be unreasonably withheld.
6. Clause 13 On the withdrawal date the parties shall take the following actions:
(a) To facilitate the transfer of all referred clients and to compensate Khanna for the consequent loss and prejudice, DTTI will pay to Khanna the sum of US $ 3.25 lakhs by bankers cheque.
(b) ...
7. Clause 14 Fees earned in servicing referred clients by Khanna upto the date of withdrawal will accrue to Khanna under the normal DHS arrangements.
8. Clause 16 Khanna hereby surrenders, releases, assigns and transfers to DTTI as on the withdrawal date, all rights, title and interest or claim of right, title and interest, if any in and to the DTTI names....
On the basis of above agreements the assessee contended:
The payment clearly represents compensation for the sterlization of future professional earnings from DHS/DTTI connection.
The compensation was made to recompense KA in regard to the destruction of a substantial part of its profit-making apparatus built brick by brick by KA by its extensive and sustained efforts occasioned by its forced withdrawal from the concurrent membership of DTTI as a result of DTTIs reorganization in India and withdrawal of its nominees as partner from DOS.
The withdrawals of KA from DHS/DTTI has resulted in substantial impairment to the profit-making apparatus of KA.
it has resulted in reduction in staff and substantial loss of future earnings.
The arrangement between KA and DHS/DTTI constituted a separate and identifiable source of income and accordingly a profit-earning apparatus of its own or by itself.
The fact that this source completely dried up w.e.f. 29th Nov., 1996 itself shows that it was an identifiable and separate source. The arrangement with DHS/DTTI brought into existence a profit-earning apparatus which was in the nature of 'acquisition of a benefit of enduring and long lasting duration' and was thus a capital asset. The agreement and release had the direct effect of immobilization, sterlization, destruction and loss of profit-earning apparatus.
A such direct implication of the agreement and release was the retirement of the three partners and it was in essence consequence of such retirement that payment of US $ 3.25 lakhs was made to KA.
As per the concurrent membership agreement, the assessee firm was not entitled to compensation on withdrawal from DTTI/DHS. The proposal to retire from DHS by KA did not come from DHS. Amount was paid by DTTI without any legal obligations, voluntarily and did not have a colour of income.
In terms of Clause 12 of agreement and release, the firm agreed that it will not solicit any referred clients with a view to providing them with professional services. This amounts to a restricted covenant and the payment of compensation thus was a capital receipt.
4.9 The assessee also placed reliance on the following decisions:
(1) CIT v. Rai Bahadur Jairam valji ;
(2) Bombay Burmah Trading Corporation Ltd. v. CIT ;
(3) CIT v. vazir Sultan & Sons ;
(4) Kettlewell Bullen & Co. Ltd. v. CIT ;
(5) Gillanders Arhathnot & Co. Ltd., v. CIT ;
(6) CIT v. Best & Co. (P) Ltd. ;
(7) CIT v. Prabhu Dayal ; and (8) CIT v. Barium Chemicals Ltd. .
5. On the basis of above decisions and the agreement with DTTI the assessee contended that the receipt is in view of profit-making apparatus and hence to be treated as capital receipt not chargeable to tax. The AO held that when the assessee originally entered into contract with DTTI for grant of concurrent membership, it was a contract like any other contract in the course of profession. The assessee firm had certain rights and obligations in DTTI. The assessee could remain a member of DTTI at the pleasure of DTTI and as long as it acted in accordance with the terms of contract. Thus the contract between the assessee and DTTI was nothing different from other contracts. The AO also held that the assessee had made sustained efforts for promoting DTTI and has provided valued services to DTTI's referred clients and was instrumental in building a substantial DHS practice in Delhi. This fact has been acknowledged in Clause 5 of the agreement dt. 14th Nov., 1996. By virtue of this agreement the assessee became entitled to payment specified hereafter and that too to compensate the assessee for the consequent loss and prejudice, the DTTI agreed to pay US $ 3.25 lacs. The AO also held that though after the exclusion of the assessee from DTTI membership there was no reference of the clients by DTTI, yet the assessee was not prohibited from practicing the profession of accountancy. Thus there was no restriction covenant to carry on the profession. Thus there was no cessation of business. The compensation paid as per the agreement and release deed was for profits which the assessee would have earned in future in the carrying on work with DTTI. Thus it can be said that the assessee has parted with the fruits of the tree and not the tree itself. Every client of the assessee cannot be regarded as separate source of income. The source of income is profession of accountancy as a whole. The AO distinguished the case law cited. He also relied upon following case law to hold that the amount received by the assessee was revenue receipt chargeable to tax:
(1) Chemplant Engineering (P) Ltd. v. CIT ;
(2) CIT v. Highway Construction Co. (P) Ltd. ;
(3) Blue Star Ltd. v. CIT ;
(4) Bishambhar Nath Swaroop Narain v. CIT ;
(5) CIT v. Siewart & Dholakia (P) Ltd. ;
(6) CIT v. Manna Ramji & Co. ; and (7) CIT v. Kararnchand Thapar & Bros. (P) Ltd. .
6. Before the learned CIT(A) the assessee made a detailed submission. The contentions raised before the AO were reiterated. Case law cited by the AO were sought to be distinguished. Reliance was placed on all those, which were relied before the AO. The learned CIT(A) after elaborate reproduction from the contention on behalf of the appellant held as under:
29. I have considered the submission of the Authorised Representative of the appellant. I have also examined carefully the arguments taken by the AO and case law relied upon by both the sides. On the totality of the facts and entirety of the circumstances of the case and in the light of the case law relied upon by the assessee, unlike the one relied by the AO, which are distinguishable, I am of the considered opinion that the stand of the assessee has great force. In this view of the matter, I hold that the assessee's claim that the amount received from DTTI is a capital receipt, and hence not taxable. Accordingly the addition made by the AO of Rs. 1,15,70,000 is deleted.
The Revenue is now in further appeal before us.
7. We have heard Shri K.C. Jain, learned CIT-Departmental Representative for the Revenue and Shri Anoop Sharma, learned advocate on behalf of the respondent assessee. At the outset both the counsel agreed that the order impugned in this appeal, of the learned CIT(A) is cryptic, non-speaking and without consideration of rival contentions. Accordingly, it was proposed that the matter should be restored back to the CIT(A) to decide the issue by passing a speaking order. However, this was objected by the learned Counsel for the assessee by submitting that fresh submissions will be made and the matter may be decided by this Tribunal without being guided by the finding of the CIT(A) and to be decided afresh on the facts of the present case. Accordingly the matter was heard at length.
8. The learned CIT Shri Jain gave brief background of the facts of the case. Summary of the submission is that assessee partnership firm M/s Khanna & Annadhanam is a practicing chartered accountants firm since last 50 years. The assessee firm joined Deloitte Touche Tohmatu international (DTTI) as member on 9th Sept., 1992. DTTI is an international conglomeration of member firms throughout the globe. DTTI had not any direct presence in its own name but through one of its constituent member firms namely Deloitte Haskins & Sells (DBS). DHS has four partners namely M/s Khanna & Annadhanam for North, M/s Fraser & Ross for South, Gupta Choudhary & Ghosh for East and P.C. Marisotia & Co. for West. Assessee firm joined this arrangement of partnership on 1st June, 1992 for furtherance of its professional revenues. In the year 1987, a firm of international repute M/s Touche & Ross (TR) merged internationally with DHS. TR had not any direct present in India like DTTI. TR was represented in India through M/s C.C. Choksi & Co., Mumbai and M/s Fraser & Rose, Madras. Thereafter a condition was circulated for sake of national merger between four constituent: firms of DHS and two constituent firms of TR amongst the constituents of DHS that they have to join the firm in full-fledged manner. Their respective firms have to be dissolved in favour of DHS. National clientele of all the constituent firms has to be transferred in favour of DHS and they will lose their national identity. This preposition was not acceptable to KA and it was creating a problem for conglomerate in successfully implementing its merger plan. For successful implementation of merger as desired by DTTI they offered KA either to accept the condition or they have to withdraw from DHS and DTTI. After considering all the pros and cons of separation assessee KA found it more beneficial to terminate its professional venture with DTTI/DHS w.e.f 14th Nov., 1996, except a reasonable safeguard they have kept to protect each others professional interest. Not only this, KA can still provide services to the referred clients and vice versa.
9. On the basis of above facts Shri Jain made detailed submission. The gist of his arguments is as under:
1. All the facts mentioned above clearly carve out a preposition that it is a usual practice for multinational professional firms to form a conglomerate. This conglomerate will help them in furtherance of their professional objectives, area of services, geographical presence, control over the quality of assignment etc. All the constituents of conglomerate are the entrepreneurs. They join the conglomerate with an object to have a professional venture with a multinational body to further their professional interests.
2. As facts discussed above professional firms have usual practice of merger/demerger, forming a conglomerate etc. Each constituent as well as the governing body of conglomerate have option to be a member of conglomerate till their professional interest are being fulfilled and thereafter member constituents itself or governing body by giving a notice in prescribed format within a prescribed time-limit can opt for exit route also. The same was done by assessee M/s Khanna & Annadhanam also.
3. Assessee M/s Khanna & Annadhanam entered into a professional venture with abovementioned multinational professional conglomerate and continued till their professional interests were being fulfilled, and opted for exit route when a situation arose which was not in their favour and that is why this arrangement came to an end.
4. Assessee received compensation amounting to Rs. 1,15,70,000 based on a formula which derives figure based on past years figures of professional receipts and profit element involved therein. Certainly it is a replacement of professional receipts/surplus which assessee firm ought to receive and they have waived in favour of conglomerate.
5. Without being prejudice to the above Section 28(ii)(c) squarely covers this type of transaction which states as under : 'Any person, by whatever name called, holding an agency in India for any part of the activities relating to the business of any other person, at or in connection with the termination of the agency or the modification of the terms and conditions relating thereto.
10. Apart from the cases relied upon by the AO Shri Jain relied upon following case law:
(i) Parry & Co. Ltd. v. Dy. CIT ;
(ii) Matheson Bosanquet Co. Ltd. v. CIT ;
(iii) CIT v. Rai Bahadur Jairam Valji (supra);
(iv) Bombay Burrnah Trading Corporation Ltd. (supra); and
(v) Kettlewell Ballen & Co. Ltd. v. CIT (supra).
He also relied upon the following decisions of the Tribunal:
(1) Order dt. 3rd Aug., 2007 in ITA No. 3518/Del/2004 in the case of Ansal Properties & Industries Ltd.; and (2) IBM India Ltd v. CIT (2007) 108 TTJ (Bang) 531 : (2007) 105 ITD 1 (Bang).
He submitted that in both the cases the orders are authored by one of the Members of present constitution. In both the above cases the issue was with reference to receipt of sum and whether such sum is capital receipt or revenue receipt. The Tribunal' in both these cases has extensively referred to various case law cited by both the parties. The Tribunal has concluded that the amount received for termination of the contract which was entered into in the ordinary course of business is chargeable to tax as revenue receipt.
10.1 He also submitted that whether the amount is capital receipt or revenue receipt depends upon the facts and circumstances of each case. What is to be seen is whether the amount received is in lieu of source of income or whether the amount is received in the course of carrying on the business ? Though the line is thin but is very demarkable which will shift the case on either side. Since in the present case the assessee as part of carrying on profession was admitted as concurrent member of DTTI conglomeration and upon its restructuring in Indian operation was asked to move out but was not prohibited from carrying on the profession as such, the amount received is in the course of carrying on profession and hence taxable as such.
11. Shri Anoop Sharma, the learned advocate for the assessee also made detailed submissions. He reiterated the submissions made before the AO as well as the learned CIT(A). The DTTI itself does not practice as a chartered accountant firm. It is more like a federation constituted by principal firms practicing in various countries of the world including India. This is the usual pattern followed by other being accounting firms world over. DHS is a firm of chartered accountants duly registered with Institute of Chartered Accountants of India. DHS is a permanent member of DTTI. By arrangement between four Indian concurrent member firms of DTTI, they joined together to form a single partnership firm in the name of DHS wherein three of the existing partners of KA were nominated as the partners of DHS. All the foreign clients referred by various DTTI member firms were serviced by DHS which collected the fee from them for the services rendered. However, since DHS did not have any infrastructure of its own, the services were provided by four Indian firms and out of the gross fees collected by DHS almost 80 to 90 per cent was paid to the respective firms who were providing the actual services. In a way the assessee herein had two distinct sources of income i.e. (1) from its own clients services since 1952 and (2) the services rendered to international clients referred by DTTI. It is an usual practice with the international accounting firms to refer clients in their countries to DTTI member linns when the international companies decide to set up operations in other countries. The requirement of services to be rendered to international companies was in a many way different than that rendered to the Indian clients. Such international clients were required to be serviced in the specialized field like foreign taxation, tax treaties, FERA regulations etc. KA created separate infrastructure to serve foreign clients and two partners were fully deployed to serve them exclusively. Even the audit managers were sent to USA to work with DTTI members for specialized training in the field of audit.
11.2 Shri Sharma went on to submit that one of the DTTI's object was to create professional work for its member firms worldwide. DTTI was of the opinion that four Indian firms including the assessee should merge their practices into DHS to form a large size firm in India so that it can compete with other big' accounting firms. This proposal of DTTI was not acceptable to KA as it was not keen of loosing its identity or to transfer its clients to DHS. DTTI therefore, informed KA that due to merger problems in India arising out of KA not being keen to merge, KA should withdraw from concurrent membership with DTTI. Thus for withdrawing from the membership of DITI, KA was paid compensation towards loss of business consisting of its earning arising from serving foreign clients. The withdrawal agreement was between DTTI and KA. DHS was not in anywhere in picture. If KA had eontinued its membership of DTTI, its professional earnings would have been many times of its earning after withdrawing from DTTI. Summarizing his arguments Shri Sharma submitted that the payment received from DTTI was voluntary payment on which there was no vested legal right. The same was for the assessee's exit from concurrent membership of DTTI at the instance of DTTI. The assessee in the past was servicing international/foreign clients referred to by DTTI by virtue of its concurrent membership in DTTI. This was a separate, distinct and a definite source of income. The said source having dried up or partially seized to exist, any receipt in lieu thereof cannot be taxed. In support of his argument, he relied upon the decision of Hon'ble Supreme Court in the case of P.H. Divecha v. CIT . The above position is supported by the factual position in the present case being the decline in profit of the assessee and no income from this particular source has been received/earned by the assessee after its exit from the concurrent membership of DTTI. It is the case of the assessee that this voluntary receipt is not taxable in view of the following case law:
(i) CIT. v. Rai Bahadur Jairam valji and Ors. (supra);
(ii) CIT v. Vazir Sultan & Sons (supra);
(iii) Kettle well Bullen & Co. Ltd. v. CIT (supra);
(iv) CIT v. Best & Co. (P) Ltd. (supra);
(v) Karam Chand Thapar & Bros. (P) Ltd. v. CIT ;
(vi) Bombay Burmah Trading Corporation Ltd. (supra), affirmed in CIT v. Bombay Burmah Trading Corporation Ltd. ;
(vii) CIT v. Prabhu Dayal (supra);
(viii) CIT v. Barium Chemicals Ltd. (supra); and
(ix) Oberoi Hotel (P) Ltd. v. CIT .
Shri Sharma also sought to distinguish the Tribunal judgment relied upon by Shri Jain. He submitted that in the present case the amount paid is for loss, extinguishments, impairment or injury to the source of income. On the basis of various Supreme Court judgments, the receipt is to be treated as capita receipt not chargeable to tax.
12. We have considered the rival submissions, facts of the case and the case law cited are perused. The only question is to be decided is whether the amount received by the assessee from DTTI in terms of release agreement with DTTI is capital or revenue receipt chargeable to tax. As per the facts noted earlier the assessee is a firm of chartered accountants practicing the profession of accountancy. The assessee firm joined DTTI as concurrent member of DTTI. Three of the assessee's partners were nominated as partners of DHS. Pursuant to this arrangement DTTI referred their international clients for the work to be carried in India or elsewhere to the assessee herein. This boosted the Revenue of the assessee. Due to reorganization of DTTI worldwide its representative firm in India namely DHS was also to be reorganized. However, the assessee was not keen to lose its identity and to transfer its clients to DHS and merge into one big firm since there was no understanding in this regard. DTTI therefore, wrote to the assessee to withdraw from DHS partnership. The letter issued in this regard is extracted hereunder:
1. To facilitate the orderly transfer of DTTI clients, files, etc., DTTI is willing to pay Khanna & Annadhanam ('Khanna') a sum equal to (i) three times the net profit that Khanna realized for the fiscal year ended 31st March, 1995 in connection with DTTI referred international work (more precisely, the profit from that portion of the work which is recurring and will be lost due to your withdrawal from DTTI), less (ii) the amounts owing to DTTI by Khanna for unpaid subscription fees, professional indemnity insurance premiums and unpaid balances in its DTTI current account. As indicated in the draft agreement and release given to you on Friday, this sum will be paid out over two years. Please supply us with the figures for the fiscal year ended 31st March, 1995, along with appropriate documentation. We will let you know in due course the amounts recorded on our books as owing by you.
2. We expect that the transition of DTTI referred clients should be completed by 31st July, 1995 and that this will be the effective date of your withdrawal from DTTI. However we recognize that there might be an exceptional matter(s) which could take somewhat longer to wrap up. Please supply us with a list (including status) of all active referred-in matters as soon as possible (please, no later than 7th May, 1995) so that we can work together to create a timeline for transition. This list should be updated from time to time to show new and terminated activity. To ensure the last possible disruption to our clients, we would hope that the transition of client matters can be achieved through the co-operation of Khanna partners and the receiving DTTI entity as suggested on Friday by Mr. Balasubramanian. We appreciate his suggestion in this regard.
3. We understand that you have two personnel currently in the United States participating in the SCDP program. It is your choice whether or not they complete the program. In addition, if you--or they--feel it best that they seek positions outside of Khanna, we will be willing to explore for them other DTTI opportunities in India. In addition, we will be willing to assist in placing any staff which becomes excess as a result of your withdrawal from DTTI. We can give no assurances regarding the alternative placement of the SCDP professionals or other staff, however, we will assist in good faith in both regards.
4. We will endeavor to proeure the continued assistance of our member firm in Jersey in connection with your engagement by the Sun Group for its Moscow project. This assistance should continue in the same manner as it would in respect of assistance rendered to any DTTI member firm.
5. We will forward to you shortly the documents necessary to effect the withdrawal of the Khanna partners from the Indian partnership of Deloittee Haskins & Sells.
Thereafter an agreement in release dt. 14th Nov., 1996 was issued between the parties, the relevant clauses of which are extracted hereinabove. In the light of above facts the question can now be answered as to taxability of the amount received from DTTI.
13. All receipts by assessee would not necessarily be deemed to be the income for the purpose of IT Act and the question whether any particular receipt is income or not will depend on the nature of the receipt and the true scope and effect of the relevant taxing provision. It is for the Revenue to prove that the receipt is chargeable to tax under the provision of IT Act. Once it is shown that the receipt is income under the IT Act, it is for the assessee to prove that the same is either exempt or the assessee is eligible for deduction of the same.
13.1 The definition of 'income' in Section 2(24) is an inclusive definition. It adds several artificial categories to the concept of income but on that account the expression 'income' does not loose its natural connotation. Anything which can properly be described as income is taxable under the Act. Even if a receipt does not fall within the ambit of any of the sub-clauses in Section 2(24), it may still be income if it partakes of the nature of the income. The idea behind providing inclusive definition in Section 2(24) is not to limit its meaning but to widen its net. The word 'income' is of widest amplitude and it must be given its natural and grammatical meaning. The scheme of Section 2(24) r/w Sections 4 and 10, seems to be that given its ordinary natural meaning the word 'income' will take in any monetary return 'coming in'. It will take in voluntary and gratuitous payments, which are connected or linked with the office, vocation or occupation.
13.2 Income under the Act connotes a periodical monetary return coming in with some sort of regularity or definite source. The source is not necessarily one, which is accepted to be continuously productive but it must be one whose; object is the production of a definite return. At the same time, it cannot be said that the receipt, which is not periodical or which is not regulated but of one time receipt, cannot be considered as income. The source need not be continuously productive and it is sufficient if the income is flowing from some exercise or operation by the appellant and in ordinary parlance which can be considered as income. To constitute income, the receipt need not necessarily have their origin in business activity or investment or under an enforceable obligation. The conclusion in construing the word 'income', one has to ask whether having regard to all the circumstances surrounding the particular payment and receipt in question, what is relevant is of the character of income according to the ordinary meaning of that word in the common language or whether it is merely a casual receipt. The word "income" is of elastic import and its extended meanings are not controlled or limited by the use of the words "profits and gains". The diverse forms which income may assume cannot exhaustively be enumerated and so in each case the decision of the question as to whether any number of receipt is income or not must depend upon the nature of the receipt and the scope of relevant taxing provision.
13.3 Hon'ble Bombay High Court in the case of H.H. Maharani Shri Vijaykuverba Saheb of Morvi v. CIT held thus:
There is no doubt that under the Indian IT Act even payments, which are voluntarily made may constitute 'income' of the person receiving them. It is not necessary that in order that the payments may constitute 'income', they must proceed from a legal source : in that if the payments are not made the enforcement of the payments could be sought by the payee in a Court of law. It does not, however, mean that every voluntary payment will constitute 'income'. Thus voluntary and gratuitous payments which are connected with the office, profession, vocation or occupation may constitute 'income' although if the payments were not made the enforcement thereof cannot be insisted upon. These payments constitute 'income' because they are referable to a definite source which is the office, profession, vocation or occupation. It could, therefore, be said that such a voluntary payment is taxable as having an origin in the office, profession or vocation of the payee, which constitutes a definite source for the income. What is taxed under the Indian IT Act is income from every source (bearing the exceptions provided in the Act itself) and even a voluntary payment, which can be regarded as having an origin, which a practical man can regard as a real source of income, will fall in the category of 'income', which is taxable under the Act. Where, however, a voluntary payment is made entirely without consideration and is not traceable to any source which a practical man may regard as real source of his income, but depends entirely on the whim of the donor, cannot fall in the category of 'income.
(emphasis, italicized in print, supplied)
14. We shall now discuss the case law relied upon by both the counsels. In the ease of Rai Bahadur Jairam Valji (supra), the Hon'ble Supreme Court held:
In the determination of the question whether a receipt is capital or income, it is not possible to lay down any single test as infallible or any single criterion as decisive. The question must ultimately depend on the facts of the particular case and the authorities bearing on the question are valuable only as indicating the matters that have to be taken into account in reaching a decision. That, however, is not to say that the question is one of fact, for these questions between capital and income, trading profit or no trading profit, are questions which, though they may depend to a very great extent on the particular facts of each case, do involve a conclusion of law to be drawn from those facts.
When once it is found that a contract was entered into in the ordinary course of business, any compensation received for its termination would be a revenue receipt, irrespective of whether its performance was to consist of a single act or a series of acts spread over a period.
There is difference between a payment made as compensation for the termination of an agency contract and an amount paid as solatium for the cancellation of a contract entered into by businessman in the ordinary course of business. In any agency contract the actual business consists in the dealings between the principal and his customers, and the work of the agent is only to bring about the business. What he does is not the business itself but something which is intimately and directly linked up with it. The agency may therefore be viewed as the apparatus which leads to the business rather than the business itself. Considered in this light the agency right can be held to be a nature of a capital asset invested in business. But this cannot be said of a contract entered into in the ordinary course of business. Such a contract is part of the business itself, not anything outside it as is the agency, and any receipt on account of such a contract can only be a trading receipt. Because compensation paid on the cancellation of a trading contract differs in character from compensation paid for the cancellation of an agency -contract, it should not be understood that the latter must always, as a matter of law, be held to be a capital receipt. An agency contract which has the character of a capital asset in the hands of one person may assume the character of a trading receipt in the hands of another as, for example, when the agent is found to make a trade acquiring agencies and dealing with them. Therefore, when the question arises whether the payment of a compensation for the termination of an agency is a capital or a revenue receipt, it would have to be considered whether the agency was in the nature of a capital asset in the hands of the agent, or whether it was only part of his stock-in-trade.
Generally, payment made in settlement of rights under a trading contract are trading receipts and are assessable to revenue. But where a person who is carrying on business is prevented from doing so by external authority in exercise of a paramount power and is availed compensation therefor whether the receipt is a capital receipt or a revenue receipt will depend upon whether it is compensation for injury inflicted on a capital asset or on stock-in-trade.
(Emphasis italicized, in print, supplied)
15. In the case of Vazir Sultan & Sons (supra) it has been held by the Hon'ble Supreme Court:
In considering whether compensation paid to an agent on the cancellation of his agency is a capital receipt or a revenue receipt, the first question to be considered is whether the agency agreement in question was a capital asset of the assessee's business and constituted its profit-making apparatus and was in the nature of its fixed capital or it was a trading asset or circulating capital or stock-in-trade of its business. If it was the former compensation received would be a capital receipt, if the agency was entered into by the assessee in the ordinary course of his business and for the purpose of carrying on that business it would fall into the latter category and the compensation received would be a revenue receipt.
(Emphasis, italicized in print, supplied)
16. The Hon'ble Supreme Court in the case of Gillanders Arbuthnot & Co. Ltd. (supra) held:
Having regard to the vast array of business done by the appellant as agents, the acquisition of agencies was in the normal course of business and determination of individual agencies a normal incident nor affecting or impairing its trading structure. The amounts received by the appellant for the cancellation of the explosives agency therefore did not represent the price paid for the loss of a capital asset : they were of the nature of income. There is no immutable principle that compensation received on cancellation of an agency must always be regarded as capital compensation paid for agreeing to refrain from carrying on competitive business in the commodities in respect of the agency terminated for loss of goodwill is prima facie of the nature of capital receipt.
17. In the ease of Best & Co. (P) Ltd. (supra), the Hon'ble Supreme Court has held:
(i) That the compensation agreed to be paid was not only in lieu of the loss of the agency but also for the respondent accepting a restrictive convenant for a specified period.
(ii) That the restrictive convenant was an independent obligation, which came into operation only when the agency was terminated and that part of the compensation which was attributable to the restrictive covenant was a capital receipt and hence not taxable. [Beak v. Robson (1942) 25 Tax Cas. 33 and Gillanders Arbuthnot and Co. Ltd. v. CIT followed]
(iii) That, on the facts, that part of the compensation received towards loss of the agency was a revenue receipt, as the loss of the agency was only a normal trading loss. [Gillanders Arbuthnot & Co. Ltd. v. CIT relied on].
(iv) That, if compensation was paid in respect of two distinct matters, one taking the character of a capital receipt and the other of a revenue receipt, there was no principle which prevented its apportionment between the two matters. Difficulty in apportionment was not a ground for rejecting the claim either of the Revenue or of the assessee. Therefore, apportionment had to be made of the compensation in this case on a reasonable basis between the loss of the agency in the usual course of business and the restrictive covenant.
Whether compensation received by an assessee for loss of agency is a capital or a revenue receipt depends upon the circumstances of each case. But before coming to the conclusion oneway or the other, many questions have to be asked and answered. What was the scope of the earning apparatus or structure from physical, financial, commercial and administrative standpoints ? If it was a business of taking agencies, how many agencies had it, what was the nature and variety, how are they acquired, how were one or some of them lost and what was the total income they were yielding ? If one of them was given up, what was the average income of the agency lost ? What was its proportion in relation to the total income of the company ? What was the impart of giving it up on the structure of the entire business ? Did it amount to a loss of an enduring asset causing an unabsorbed shock dislocating the entire or a part of the earning apparatus or structure ? Or, was the loss an ordinary incident in the course of the business ? But these questions can only be answered satisfactorily if the relevant material is available to the IT authorities. The evidence of witnesses incharge of the business the relevant accounts and balance sheets of the assessee before and after the loss, other evidence disclosing the previous history of the total business and the relative importance of the agency lost and the present position of the business after the loss of the said agency have to be scrutinized by the Department.
18. The Supreme Court did not lay down in CIT v. Chart & Chart Ltd. that the burden on the Revenue to establish that an income was taxable was immutable in the sense that it never shifted to the assessee. When sufficient evidence, either direct or circumstantial, in respect of its contention was disclosed by the Revenue an adverse inference could be drawn against the assessee if he failed to put before the Department material which was in his exclusive possession. While the IT authorities have to gather the relevant material to establish that the compensation given for the loss of agency was a taxable income adverse inference could be drawn against the assessee if he had suppressed documents and evidence which were exclusively within his knowledge or keeping.
19. In the case of Kettlewell Bullen & Co. Ltd. (supra) it has been held by the Hon'ble Supreme Court:
On the facts that the arrangement with Mugneeram Bangur & Co. was not in the nature of a trading transaction but was one in which the appellant parted with an asset of an enduring value. What the assessee was paid was to compensate it for loss of a capital asset and was not, therefore, in the nature of a revenue receipt. It mattered little that the appellant did continue to conduct the remaining managing agencies after the determination of its agency with the Fort William Jute Co. It cannot be said as general rule what is determinative of the nature of a receipt on the cancellation of a contract of agency or office is extinction or compulsory cessation of the agency or office. Where payment is made to compensate a person for cancellation of a contract which does not affect the trading structure of his business or deprive him of what in substance is his source of income, termination of the contract being a normal incident of the business and such cancellation leaves him free to carry on his trade (freed from the contract terminated) the receipt is revenue, where by the cancellation of an agency the trading structure of the assessee is impaired or such cancellation results in loss of what may be regarded as the source of the assessee's income, the payment made to compensate for cancellation of the agency agreement is normally a capital receipt.
(Emphasis, italicized in print, supplied)
20. In the case of Bombay Burmah Trading Corporation Ltd. (supra), the Hon'ble Bombay High Court held:
Fixed capital is what the owner turns to profit by keeping it in his own possession, circulating capital is what he makes profit of by parting with it and letting it change masters. Circulating capital is capital which is turned over, and in the process of being turned over, yields profits or loss. What is capital asset in the hands of one person may be a trading asset in the hands of another. The determining factor is the nature of the trade in which the asset is employed. Compensation received for immobilization sterilization, destruction or loss, total or partial of a capital asset would be capital receipt.Where compensation is recovered for an injury inflicted on a man's trading, so to speak, a hole in his profits, the compensation would go to fill the hole and would be a trading receipt. On the other hand where the injury is inflicted on the capital assets of the trade, making so to speak a hole in them, the compensation recovered is meant to be used to fill that hole and is a capital receipt. Cases of termination resulting in loss of employment or cessation of business must be distinguished from cases of cancellation of contracts which are of a trading nature or are entered into in the course of business. If a sum represents profits in a new form, then that is income. But where the agreement relates to the structure of an assessee's profit-making apparatus and affects the conduct of the business, the money received for the cancellation or variation of such an agreement would be capital receipt. The question is a question of fact and must be decided by ascertaining the true nature and object of the transaction made between the parties.
(Emphasis, italicized in print, supplied)
21. In the case of Karam Chand Thapar Bros. (P) Ltd. (supra) the Hon'ble Supreme Court held:
Ordinarily, compensation for loss of office or agency is regarded as capital receipt, but this rule is subject to an exception that payment received even for termination of an agency agreement would be revenue and not capital in the case where the agency was one of many which the assessee held and its termination did not impair the profit-making structure of the assessee, but was within the framework of the business, it being a necessary incident of the business that existing agencies may be terminated and fresh agencies may be taken. But it is for the IT Department to clearly establish that the case fell within the except to the ordinary rule.
CIT v. Chari & Chart Ltd. followed.
22. The question whether a receipt is capital or income is not one of fact. Questions between capital and income, trading profit or no trading profit, are questions which, though they may depend to a very great extent on the particular facts of each case, do involve a conclusion of law to be drawn from these facts.
23. In the case of CIT v. Prabhu Dayal (supra) the Hon'ble Supreme Court held:
The assessee discovered by chance the existence of Kankar in the Jind State and brought about an agreement in 1938 between the State and S for the acquisition of sole and exclusive monopoly rights for manufacturing cement. S transferred his rights under the agreement to a company of which the assessee was one of the promoters. For the services rendered by him, the company agreed to pay him a commission of 1 per cent, on the yearly net profits earned by the company. The agreement was acted upon till 1950 and, thereafter, the company did not pay the commission. The assessee filed a suit which ended in a compromise. The compromise was made a decree of the Court and under the decree the assessee was to be paid a certain amount for the years 1951, 1952 and 1953 as commission and a further sum of Rs. 70,000 by way of compensation for the termination of the agreement, between him and the company as from 1st Jan., 1954. That compensation was received by the assessee on 11th June, 1954. The question was whether the sum of Rs. 70,000 was a capital receipt in the hands of the assessee ? The assessee was not engaged either in the business of discovering Kankar or any mineral or in the business of bringing about agreements between parties. There was no evidence to show that he was a businessman;
Held, that none of the activities of the assessee could be considered to be a business activity. The assessee acquired an income-yielding asset as a result of his activities but the compromise decree destroyed that asset and in its place he was given Rs. 70,000 as compensation. This payment was neither in respect of the services rendered by him in the past nor towards the accumulated commission due to him. It was paid as compensation to him because he gave up his right to get commission in future to which he was entitled under the agreement. It was a price paid for surrendering a valuable right which was a capital asset. Therefore, the sum of Rs. 70,000 was a capital receipt.
The question whether a particular receipt is capital or income is not one of fact : though it is dependent to a very great extent on the particular facts of each case, the question does involve conclusions of law to be drawn from those facts.
It is now well-settled that a distinction has to be drawn between a payment made; for past services or discharge of past liabilities and that made for compensation for termination of an income producing asset. The former does not loose its revenue nature but the latter being a payment for destruction of a capital asset, must be considered as a capital receipt.
24. In the case of Oberio Hotel (P) Ltd. v. CIT (supra), the Hon'ble Supreme Court held:
It may be broadly stated that what is received for loss of capital is a capital receipt : what is received as profit in a trading transaction is taxable income. But the difficulty arises in ascertaining whether what is received in a given case is compensation for loss of a source of income, or profit in a trading transaction. Where on a consideration of the circumstances, payment is made to compensate a person for cancellation of a contract, which does not affect the trading structure of his business, nor deprive him of what in substance is his source of income, termination of the contract being a normal incident of the business, and such cancellation leave him free to carry on his trade (freed from the contract terminated) the receipt is revenue : Where by the cancellation of an agency the trading structure of the assessee is impaired, or such cancellation results in loss of what may be regarded as the source of the assessee's income, the payment made to compensate for cancellation of the agency agreement is normally a capital receipt.
25. In the case of CIT v. Barium Chemicals Ltd. (supra), the Hon'ble Andhra Pradesh High Court held:
In order to decide whether or not a payment is a revenue receipt, its true nature and substance must be looked into. If the payment is received in the ordinary course of the business of the assessee for loss of stock-in-trade, it is a revenue receipt. If, on the other hand, the payment received is towards compensation for extinction or sterilization, partly or fully, of a profit-earning source, such receipt, not being in the ordinary course of the assessee's business, is a capital receipt.
The assessee entered into agreement with an English company in October, 1961, according to which the English company was required to erect a barium chemical plant for the assessee for producing certain barium salts. The consideration fixed for the erection of the plant was £ 1,84,500. The work was to be commenced within four month and completed within 9 to 12 months from the issue of the letter of credit. The English company had agreed to ensure a certain quality of barium salts and also guaranteed certain quantity of production per annum. As differences arose between the assessee and the English company, a supplementary agreement was concluded on 3rd Aug., 1963, under which the English company agreed to take up complete responsibility for the plant and machinery supplied and they were prepared to give necessary guarantee. The erection of the plant continued till the middle of 1964. During the trial runs, it was noticed that the plant and machinery was completely defective and did not conform to the agreed specifications and designs. After the defects were pointed out by the assessee company and investigated into by the English company, the plant commenced production on 4th May, 1965. Then it was noticed that the production capacity was only 30 per cent of the installed capacity. It was also found that the quality of the barium salts produced was not according to the agreed specifications. The assessee took up the matter with the English company and discussion followed. Meanwhile, in March, 1966, the English company abruptly left the erection site. Subsequently, there were protracted negotiations as a result of which a settlement was reached on 22nd Feb., 1967, whereby the English company agreed to pay certain sums aggregating to Rs. 56,87,402 if the assessee waived its claims against the English company. The assessee contended that this sum was a capital receipt. It also claimed deduction of the following amounts--1. Rs. 50,000 paid to A for conducting investigation into deficiencies of the various production units, and 2. Rs. 42,212 paid to C for advising the assessee regarding rectification of the defects. On appeal, the AAC held that only Rs. 47,20,939 should be treated as (sic) receipt and the balance was capital receipt. The Tribunal held that the amount of Rs. 47,20,939 constituted a capital receipt, that it could not be assessed as capital gains and that the payments to A and C constituted capital expenditure. On a reference:
Held, (i) that neither on the findings of the Tribunal, nor on an examination of the terms of the settlement dt. 22nd Feb., 1967, could it be said that the amount in question represented loss of profits. The business the assessee carried on was in barium chemicals. The settlement dt. 22nd Feb., 1967, concluded between the assessee and the English company could not be treated as one in the ordinary course of the business carried on by the assessee. Installation of machinery and parts was not the business of the assessee. It was the business of the English company. There had been a sterilization of capital assets of the assessee in that the English company failed to erect the machinery and plant according to the original stipulations. It had abandoned the work in the middle. The optimum capacity of the machinery installed was not even 30 per cent of the installed capacity. The amount paid was towards damages in order to compensate the assessee for not fulfilling the terms of the contract. Hence, the sum of Rs. 47,20,939 received by the assessee during the asst. yr. 1968-69 constituted in its entirety a capital receipt and was not assessable;
(ii) That none of the ingredients mentioned in Section 2(47) of the IT Act, 1961, was present in the transaction in question. There was neither sale nor exchange nor relinquishmerit of any rights in respect of the amount of Rs. 47,20,939 received by the assessee from the English company. That amount was paid by the English company as damages for their failure to fulfil their obligations under the agreements concluded with the assessee. The amount could not, therefore, be brought to tax as capital gains under Section 45; and
(iii) That when the damages received by the assessee were held to be capital receipts, it necessarily followed that the amounts of Rs. 50,000 and Rs. 42,212 paid for the purpose of investigation into the defects and for advice to rectify the defects were also capital expenditure. The amounts were not deductible.
26. In the case of Mathenson Bosanquet Co. Ltd. v. CIT (supra) it has been held as under:
The assessee entered into an agreement with a foreign company owning estates in India under which the assessee was appointed as the sole agent of the foreign company in India in regard to the management of the estates for a stated remuneration payable in respect of each financial year. The agency was, however terminated by the foreign company in 1970-71 and it was agreed that the Indian company would be paid a sum of Rs. 3,40,000 as and by way of compensation, the payment to be made in three instalments. Apart from the said compensation, the assessee was paid a sum of Rs. 40,000 as consultation fee.
The ITO in the assessment of the company for the asst. yr. 1971-72 during which the entire money was paid, included the amount of Rs. 3,40,000 for assessment under Section 28(ii)(b) of the IT Act, 1961, rejecting the claim of the assessee that it was a capital receipt. The AAC however, took the view that the provisions of Section 28(ii)(c) would apply and not Section 28(ii)(b) and consequently confirmed the assessment. The Tribunal, however held that both the Sub-clauses (b) and (c) of Section 28(ii) would apply and accordingly confirmed the assessment. On a reference.
Held, that as the definition of 'person' found in Section 2(31) of the IT Act,. 1961, included a company, the amount in question fell under Sub-clause (c) of Section 28(ii) and it was not necessary to consider whether Sub-clause (b) of Section 28(ii) would apply or not. The Tribunal was right in its conclusion that the amount of Rs. 3,40,000 could not be regarded as a capital receipt but was income liable to tax.
27. In the case of Bishambhar Nath Swaroop Narain v. CIT (supra) the Hon'ble Allahabad High Court held as under:
Held that the termination of the agreement took place on 31st Aug., 1958, that the compensation related to the period from April, 1957 to 31st Aug., 1958, that credit notes for commission had been assessed on accrual basis and that in regard to this source of income the assessee was following the mercantile system of accountancy and the same was accepted by the Department also. Therefore, when subsequently the entire amount was received, the Department could not tax it on the cash basis in the year of receipt. If the assessee had not returned its commission income correctly on accrual basis, the remedy lay elsewhere. Therefore the Tribunal was not justified in holding that the amount of Rs. 71,010 was a revenue receipt taxable as the income of the assessee for the asst. yr. 1970-71.
Held further, that the sum of Rs. 71,010 was paid to the assessee as damages for loss of commission which it would have earned if the jute mill company had worked according to the agreement. It was not a case of premature termination of the managing agency business but it was a case of breach of contract between the assessee and the jute mill company and it was a revenue receipt liable to tax under Section 28(ii) of the IT Act, 1961.
28. In the case of Blue Star Ltd. v. CIT (supra), the headnote read as under:
The question whether a particular income arising from termination of a capital receipt or revenue receipt is a difficult question to answer on a consideration of the circumstances; a payment is made to compensate a person for cancellation of a contract which does not affect the trading structure of the recipient's business not deprive the recipient of what in substance is the source of income termination of, the contract being a normal incident of the business and such cancellation leaving the recipient of the amount free to carry on his trade the receipt is revenue. However, where by cancellation of agency the trading structure of the assessee is impaired or such cancellation results in the loss of what may be regarded as the source of the assessee's income payment made to compensate for such cancellation of agency is normally a capital receipt.
During the accounting year relevant to the asst. yr. 1977-78, the assessee was engaged in manufacture of air-conditioning products and was undertaking job contracts in air-conditioning. The assessee was also trading in electronics and engineering goods and was also exporting its products. On 10th June, 1973, the assessee entered into an agreement with a foreign trade enterprise, BME, under which the assessee was appointed as the agent of BME for marketing and selling their products in India. The said agreement stated that it was, in the first instance, valid upto 31st Dec., 1976 and thereafter it was to be considered as automatically renewed for one calendar year at a time unless one or the other party thereto gave notice of its wish to terminate the same. By a letter dt. 4th June, 1976, BME intimated to the assessee that BME was agreeable to extension of the agreement for a further period of one year and accordingly the said agreement stood renewed upto 10th June, 1977. But, in the meanwhile, the Government of India sponsored a company C and on 6th Oct., 1976, BME wrote a letter to the assessee stating that since a lot of technical know-how and organization potentialities were needed to handle the data process plan made by BME, the assessee might assign its rights under the said agreement to C which was specializing in the particular line, BME agreed to pay to the assessee a lump sum as consideration for the assessee assigning its rights in favour of C. The agreement between the assessee and BME stood terminated on a payment of Rs. 5 lakhs. The ITO held that the amount was assessable and this was upheld by the Tribunal. On a reference:
Held, that the agency agreement was entered into by the assessee in the normal course; within the framework of the normal business of the assessee and the termination thereof could be treated as a normal incident of the business. Even with the termination of the agreement, the assessee was left free to carry on its normal trading activities. By cancellation of the agency the trading structure of the assessee was not impaired. The compensation amount of Rs. 5 lakhs received by the assessee was not in the nature of a capital receipt. It was in the nature of a revenue receipt.
(Emphasis, italicized in print, supplied)
29. Hon'ble Delhi High Court in the case of CIT v. Manoranjan Pictures Corporation (P) Ltd. (1998) 144 CTR (Del) 669 : (1997) 228 ITR 202 (Del) held thus:
It is not possible to lay down any single or exhaustive test, as infallible or any single criterion as decisive for determination of the question whether a receipt is capital or revenue in nature. Broadly stated to determine the character of a receipt what has to be seen is whether the venture in which an assessee is giving up its rights was by itself the profit-earning apparatus and such an action would disrupt the entire profit-earning structure of the assessee. If that be so anything received would partake of the character of a capital receipt. But, where, however, the venture is only for the purpose of carrying on the existing business by taking the help of another compensation received for relinquishing a right in such a venture would be a revenue receipt.
(Emphasis, italicized in print, supplied).
Hon'ble Madras High Court in the case of Parry & Co. Ltd. v. Dy. CIT (supra) held thus:
The Tribunal took note of the fact that when the compensation was determined the parties concerned must have definitely considered the very old agency which the assessee had lost and came to the conclusion that a substantial portion of the compensation became payable on account of the loss to the assessee of a lucrative agency. The Tribunal rightly pointed out that for a proper understanding of the intention of the parties concerned, it was necessary to read the agreement as a whole and that in understanding the nature of the payment cl. I to the premature termination of the selling agency could not be ignored.
The Tribunal rightly did not accept the plea that as the agencies continued only for a limited period on an ad hoc basis the assessee ceased to have any right to compensation on termination. It was rightly held by the Tribunal that the parties viewed it as a case of premature termination of selling agency for which the assessee was required to be compensated. The Tribunal fixed twenty per cent of the total compensation amount as attributable to the restrictive covenants were in force for a short period of two years. The Tribunal was right in its finding that out of the sum of Rs. 25 lakhs received by the assessee during the year 1988-89 and again Rs. 15 lakhs during the year 1989-90 only a sum of Rs. 5 lakhs was a capital receipt and not liable to tax as income under Section 28(ii)(c) of the IT Act, 1961.
31. Applying the principle laid down above and also on the basis of various judicial pronouncements we analyze facts of the present ease. The assessee received the payment to facilitate orderly transfer of urn's clients, files etc. to the DHS firm to be reconstituted. The same was measured in form of three times of net profit, that the assessee will realize in connection with UTTI referred international work i.e. the profit from that portion of work which is recurring and will be lost due to the withdrawal from DTTI. After the cessation of the association between the assessee and DTTI, it may be a case that DTTI will not refer its clients to the assessee but the assessee continues and is not prohibited from carrying on the profession of accountancy. The clients of the assessee remain with it and are not to be transferred to DTTI or its associate office in India namely DHS. The assessee firm is an old established firm and in the course of carrying on of such profession, entered into an agreement for concurrent membership of DTTI in 1992. Since this arrangement was no more agreeable, this arrangement came to an end in a way it can be said that the arrangement or cessation of the arrangement is in the course of carrying on the profession as such. The arrangement with DTTI and because of such association if any professional income is generated, it cannot be considered as a separate or distinguished profession de hors or unconnected with existing profession, The effect of new arrangement is that DTTI will not refer the clients and to facilitate the transfer of all referred clients, the assessee was compensated for probable loss in the form of non-receipt of the professional fees. Thus all these tilings put together will be part of the profession. Accordingly, it can be said that, though voluntarily, the payment came to the assessee in the course of carrying on the profession of accountancy. Such voluntary payments, which are connected with profession, will constitute income chargeable to tax. The payment has origin in the profession carried on which itself is a definite source of income and hence chargeable to tax. Serving the clients referred by DTTI cannot be considered as separate, distinct and definite source of income de hors the existing profession carried on. Each client if served does not become a separate and identifiable or distinct profession so as to say that if some of the clients cease, the receipt from them will be considered as capital. This fine distinction has always been upheld by various case law cited by both the parties. In view of the above facts, we hold that the amount received by the assessee is arising in the course of carrying on profession and hence chargeable to tax as revenue receipt.
32. We accordingly reverse the order of the learned CIT(A) and restore that of the AO.
33. In the result, the appeal is allowed.