Income Tax Appellate Tribunal - Hyderabad
Spade Electro (P.) Ltd. vs Assistant Commissioner on 28 August, 1996
Equivalent citations: [1997]60ITD600(HYD)
ORDER
M. Ramakrishna, Judicial Member
1. This appeal by the assessee is directed against the order of the CIT(A)-IV, Hyderabad, dated 6-2-1990 for the assessment year 1986-87.
2. The first effective grievance of the assessee in this appeal related to an addition of Rs. 3,00,000 made by the Assessing Officer and sustained by the CIT(A) treating the said sum received by the assessee in pursuance of an agreement entered by it with M/s. Elektro Flame Ltd., as a revenue receipt.
3. The assessee, a private limited company, is engaged in the business of manufacturing and sale of geysers, air-coolers, washing machines, etc., under the brand name 'ELEKTRO'. During the year, the assessee-company surrendered to M/s. Elektro Flame Ltd., the exclusive know-how, technical information, marketing assistance including the usage of brand name 'ELEKTRO' (A registered trade mark) pertaining to the manufacture of Air-Coolers, Electric Motors and Geysers. In consideration of the above, the assessee-company received a sum of Rs. 2,00,000. Further, the assessee-company received a sum of Rs. 1,00,000 towards assuring the guarantee quantum of sale for the above-mentioned appliances, as it was in the control of marketing out-lets at different parts of the country. In consideration for the same, the assessee-company was bound not to manufacture these items under the same or under any other brand name. The assessee-company treated the said receipt of Rs. 3,00,000 as of capital nature, and as such, did not offer the same for assessment. The Assessing Officer, holding that it was a revenue receipt, made addition in that behalf, while completing the assessment under section 143(3) of the Act on 29-3-1989. Aggrieved by the action the Assessing Officer, assessee preferred appeal before the CIT(A), contending, inter alia, that by the agreement entered into with M/s. Elektro Flame Ltd., the assessee agreed to surrender the exclusive manufacture and right of usage of brand name 'ELEKTRO', and has also agreed necessary technical know-how in the form of designing, production methods, manufacture and testing of products, information relating to material used in the manufacture, etc., besides agreeing not to engage in the manufacture of any of the above products under the brand name 'ELEKTRO' or any other brand name either directly or indirectly, and it is in consideration of all these things parted by the assessee in favour of the Elektro Flame Ltd., that the assessee was to receive a consideration of Rs. 3 lakhs in terms of the agreement, and as such, it was a capital receipt, and not a revenue one as held by the Assessing Officer. The CIT(A) dealt with this issue at length in paras 3 and 4 of his impugned order on pages 6 to 13 thereof. He noted that the assessee commenced production only in November 1983 and by November 1984, the assessee had reportedly built up the fund of technical expertise and goodwill for the brand name 'ELEKTRO' in respect of contract products. Considering that the period of one year was too short for such an elevation from the chrysalis years of the assessee, the CIT(A) was of the view that the agreement entered into by the assessee on 8-11-1984 with its sister concern M/s. Elektro Flame Pvt. Ltd. for surrender of brand name an trade marks coupled with technical assistance, was a colourable device. He further noted from the terms of agreement that while the consideration of Rs. 2 lakhs was to be paid by the lessee towards surrender of brand name 'ELEKTRO', while further sum of Rs. 1 lakh was to be paid for guaranteeing a specific turnover. Further, he noted that the deposit of Rs. 3 lakhs as referred to in Article 8.3 of the agreement was towards the handing over of the physical possession of the factory shed at 45-C, I.D.A., Phase-I, Jeedimetla, and the repayment clause in article 8.3 characterising the deposit as repayable before the end of 12 years from the date of handing over the possession of the premises, which gives an impression that the licensee was only entitled to the user of the factory shed at 45-C, IDA, Phase-I, Jeedimetla as a lessee. In this behalf, he noted that the assessee became the owner of the said premises only on 25-1-1985. He also noted that the lease deed separately entered into by the two parties on 9-11-1984 dispelled a contrary view which article 8.3 of the agreement is likely to give rise, to suggesting that the assessee was handing over the physical possession of the factory shed for good along with a brand name and technical know-how. Reading both these agreements of 8-11-1984 and 9-11-1984 according to him makes it abundantly clear that the assessee was only leasing the factory shed for a period of five years. He observed that when one takes note of Article 6 and Article 8 of the agreement dated 8-11-1984, whereby the assessee was to surrender the brand name, technical know-how and hand over the physical possession of the factory shed to the licensee for the consideration specified in Article 8, the lease deed dated 9-11-1984 looks to be out of place, since there was no need for a separate lease deed charging additional lease rent in respect of the factory, when the consideration of Rs. 3 lakhs received by the assessee was to take care of all the additional assistance provided by the assessee to the licensee under Article 6 of agreement. From all this, he concluded that the terms and conditions of the agreement dated 8-11-1984 have been diluted and mauled in practice, since it was evident that there was no intention on the part of the assessee to part with the ownership rights of the factory shed at 45-C, IDA, Phase-I Jeedimetla, and the only facility extended to the licensee was a user of the factory shed for which the licensee had to pay a lease rent as per the lease deed dated 9-11-1984. In the circumstances, he held that the consideration received by the assessee does not cover the package as spelt out in Article 6 in letter and spirit, though the assessee's claim on that basis was that there was a permanent cessation of business carried on by the assessee in respect of contract products. He also noted in that context that part of the leased premises was taken back by the assessee during the assessment year 1987-88, as was evident from the drop in 'lease income' and amended Deed.
4. Dealing with the questions whether there was a total surrender of brand name 'ELEKTRO' and the exclusive manufacturing technical know-how for the contract products as sought to be orchestrated by the assessee in terms of the professed faith in letter and spirit of the agreement dated 8-11-1984, the CIT(A) referred to the Tax Audit Report of the assessee company for the assessment year 1986-87, to the terms of the agreement, and concluded that the said agreement was only an innovative arrangement conceived by the assessee to rake in tax-free income as capital receipt, while the licensee the benefit of revenue expenditure in respect of the alleged surrender of brand name and technical know-how; that it is only an arrangement to avoid tax, and the ratio laid down by Supreme Court in the case of McDowell clearly applies. He ultimately held that the consideration of Rs. 3 lakhs received by the assessee is only a revenue receipt inasmuch as such consideration was received in the course of letting out whatever the appellant had, for a period of time. In this connection, he also referred to the provisions of section 80MM which was originally introduced by the Finance Act, 1969 with effect from 1-4-1970, which was omitted by the Finance Act, 1983 with effect from 1-4-1984, and noted that when in the scheme of section 80MM, as it then stood, fee for provision of indigenous technical know-how was regarded as an income includible in the gross total income of an assessee being an Indian Company, it would follow as a logical corollary that the consideration received by the assessee for the alleged technical assistance and know-how as referred to in the agreement would partake the same character as the fees referred to in the then section 80MM and would rightly be exigible to tax as revenue receipt. Considering all these aspects, the CIT(A) confirmed the addition of Rs. 3,00,000 made by the Assessing Officer. Hence, the assessee preferred this further appeal before us on this aspect.
5. Reiterating the contentions urged before the lower authorities, the learned counsel for the assessee contended before us that the sum of Rs. 3 lakhs received by the assessee in pursuance of the agreement dated 8-11-1984 is a capital receipt, and not a revenue receipt as held by the lower authorities. Inviting our attention to the details of the assessee-company and M/s. Elektro Flame Ltd. with regard to Board of Directors, Regd. Office and Branch Offices, Auditors and Bankers filed at pages 2 and 3 of the paper book, he submitted that the lower authorities were not justified in holding that M/s. Elektro Flame Limited is a sister concern of the assessee, and non of the directors of the assessee-company is a director in the other company, viz., M/s. Elektro Flame Limited. Inviting our attention to the copy of the agreement dated 8-11-1984 entered into by the assessee with M/s. Elektro Flame Limited, which is furnished at pages 5 to 15 of the paper book, more specifically recitals, and articles 1.2, 3, 5, 6, 7 and 8 thereof, submitted that the said agreement was for surrender to the licensee, viz., M/s. Elektro Flame Limited, the brand name, and for agreeing not to manufacturer the items under the same or any other brand name, and render assistance for the manufacture of air cooler, electric motors, geysers on the terms agreed in the agreement. It is also the contention of the assessee that there is a restrictive covenant in the agreement inasmuch as the assessee has not only agreed to transfer by way of surrender of brand name, render technical information, design, etc., but also agreed and bound itself not to manufacture these items itself under the same or any other brand name, either directly or indirectly. Inviting our attention to article 8.2 of the agreement on page 5 thereof, he submitted it is not a composite agreement for a total consideration of Rs. 3 lakhs, because Rs. 2 lakhs was for technical know-how and the balance sum of Rs. 1 lakh was for the assessee agreeing to guarantee a turnover of Rs. 1 crore per annum. He also contended that the premises, viz., 45-C, IDA, Phase-I, Jeedimetla belonged to the assessee, and as such the assessee allowed the same to be used by the licensee, under the agreement, and the licensor, viz., the assessee, was not manufacturing any of the items thereafter. By way of an illustration, the learned counsel for the assessee submitted that in the case of purchase of furniture, it is a capital expenditure in the hands of purchaser, whereas in the hands of the dealer of furniture, it is a revenue receipt, and similarly, since in the instant case, the assessee is parting with technical know-how, brand name, right to manufacture the same products either under the same brand name or any other brand name either directly or indirectly, besides the right to use the premises itself, the receipt in question in the hands of the assessee in undoubtedly a capital receipt and as such, the impugned addition is unjustified and unwarranted. He placed reliance on the following decisions in support of his contentions with regard to the nature of the receipt in question :-
(a) CIT v. Ciba of India Ltd. [1968] 69 ITR 692 (SC)
(b) CIT v. Kamal Behari Lal Singha [1971] 82 ITR 461 (SC) (C) CIT v. Ralliwolf Ltd. [1983] 143 ITR 720/14 Taxman 3 (Bom.)
(d) R.N. Agrawala v. CIT [1960] 38 ITR 67 (Bom.)
(e) CIT v. Best & Co. (P.) Ltd. (1966) 60 ITR 11 (SC)
(f) Gillanders Arbuthnot & Co. Ltd. v. CIT [1964] 53 ITR 283 (SC)
(g) CIT v. Motor & General Finance Ltd. [959] 35 ITR 702 (Punj.)
(h) CIT v. Saraswathi Publicities [1981] 132 ITR 207 (Mad.).
6. He disputed the conclusion of the first appellate authority that the agreement in question was merely a device to reduce the incidence of tax in the hands of the assessee, and for all practical purposes it was not acted upon, and there was enough material on record to support such a conclusion, stating that the said conclusion was based on mere suspicions and surmises, and the said agreement was in fact acted upon, and the other firm, M/s. Elektro Flame Ltd. is not at all a sister concern of the assessee as observed by the lower authorities. In any event, he submitted that the Assessing Officer has not at all doubted the genuineness of the agreement and the same having been acted upon, and he never doubted the same to be a colourable device to avoid the incidence of taxation in the hands of the assessee and as such he has not at all considered the case of assessee from that angle in the light of the ratio laid down by the Supreme Court in McDowell's case. In these circumstances, according to the learned counsel for the assessee, there was no basis for the CIT(A) to nurse the suspicions on the very genuineness of the agreement and the bona fides of the parties in entering into the said agreement, and the entire approach of the CIT(A) in that behalf is not correct, and the ratio laid down by the Supreme Court in the case of McDowell and Co. (supra) has no application to the facts of the case on hand. Disputing the reliance placed by the CIT(A) on the Tax Audit Report for the assessment year 1986-87, the learned counsel for the assessee submitted that the tax audit report is not sacrosanct and merely on the basis of tax audit report, it is not proper to hold that the receipt is of revenue nature. Disputing the observations of the CIT(A) that the brand name 'ELEKTRO' has not been registered under the Patents and Trade Marks Act, and as such the divestiture of ownership rights over brand name an arise only when the ownership rights exist, an consequently the much wanted surrender of brand name and technical know-how as referred to in Article 6 of the agreement dated 8-11-1984 is only a smoke-screen to conceal the reality, the learned counsel for the assessee contended that there is no need or necessity to have the brand name registered under the Patents and Trade Marks Act, and if any other person is willing to purchase the brand name, which is not patented, the only consequence will be that if any other manufacturer utilises that brand name, the aggrieved party will have to approach the civil court for appropriate remedy, and the mere fact that the brand name is not registered is not sufficient to doubt the very genuineness of the agreement or the bona fides of the parties to the same, in order to conclude that it is entered into by the parties only by way of an arrangement to reduce the incidence of taxation in the hands of the assessee.
7. The learned counsel for the assessee further explained that in the original agreement dated 8-11-1984, there was an omission with regard to lease rent for the premises, and hence on the very next day, viz., 9-11-1984, another agreement, in the form of lease deed was executed. In this connection, he invited our attention to a copy of the said lease deed furnished at pages 17 to 20 of the paper book, and to the letter of the assessee dated 25-4-1985 addressed to M/s. Elektro Flame Pvt. Ltd., enhancing the rent for additional space at Rs. 1,000 per month from 1-5-1985. Disputing the observations of the CIT(A) that on the date on which the agreement and the lease deed were executed, the assessee had no right over the property since the assessee actually became the owner only on 25-1-1985, the learned counsel for the assessee submitted that the APIIC by its letter dated 17-11-1983 itself, addressed to IDO, Jeedimetla, a copy of which is placed at pages 23-24 of the paper-book, accepted the change of name to that of the assessee and indicated the allotment of site, and as such the observations of the CIT(A) in this behalf to the contrary, in the impugned order are incorrect. He ultimately contended that the CIT(A) merely proceeding on suspicions and surmises, doubted the genuineness of the agreement and held it to be a colourable device to avoid the incidence of taxation in the hands of the assessee, and the observations made by the CIT(A) in support of the said conclusion either with regard to the ownership of the property in question or the relevance of thereof for the determination of the point at issue, are incorrect. Reiterating the contentions noted above, he submitted that the agreement in question was not at all a colourable device to reduce the incidence of taxation in the hands of the assessee; and the firm, M/s. Elektro Flame Ltd. with which it was entered into was not at all a sister concern of the assessee, and the agreement in question was in fact acted upon, and as such the same has to be accepted as having been entered into by the assessee in the normal course of its business, and the consideration received by the assessee in accordance with the said agreement is of capital nature, having been received by the assessee for parting the technical know-how, brand name, and right to use the premises and restricting itself from carrying manufacture the product in question either by itself or otherwise in the same or any other brand name for the specified period. Alternatively, the learned counsel for the assessee contended that the sum of Rs. 1 lakh, which is also a capital receipt, just like the other sum of Rs. 2 lakhs which was the consideration for surrender of brand name, etc., is held to be a capital receipt, still it is not assessable in the year under appeal, and it is assessable only at the end of the period when the guarantee period during which assessee is expected to guarantee the specified turnover and pay compensation to the licensee in the event of drop in turnover below the guaranteed turnover, is over. Thus, according to the leaned counsel for the assessee, even if this sum of Rs. 1 lakh which was to be the consideration for guaranteeing a specified turnover by the assessee, was held to be of revenue nature, the same is assessable in the year in which the said guarantee period gets over, and not in the year under appeal, since the assessee has to pay appropriate compensation to the licensor in the event of fall in the turnover below the guaranteed turnover during the said guarantee period.
8. Opposing the above contentions of the learned counsel for the assessee, the learned Departmental Representative strongly relied upon the orders of the lower authorities, and invited our attention to the decision of the Andhra Pradesh High Court in the case of CIT v. ITAT [1994] 206 ITR 126.
9. We have considered the rival submissions and perused the orders of the lower authorities, besides going through the decisions relied upon by both sides. The Assessing Officer has rejected the claim of the assessee that receipt of Rs. 3 lakhs is of capital nature, and holding that it is of revenue nature, made the impugned addition in the order of assessment dated 29-3-1989. It is the CIT(A) in the impugned order, for the first time doubted the genuineness of the very agreement dated 8-11-1984 and the bona fides of the parties thereto while entering into the said agreement; and proceeding on the premise that the said agreement was a mere colourable device to avoid incidence of tax in the hands of the assessee by showing the alleged capital receipt of Rs. 3 lakhs in its hands, and diverting the future trading/revenue receipts to M/s. Elektro Flame Limited, which according to him is a sister concern of the assessee. Though there is no dispute with regard to the powers of the CIT(A) entertain and proceed on such premises, even if the Assessing Officer has not looked into the matter from that angle, and it is for the first time that the CIT(A) is doubting the genuineness of the agreement, since the powers of the CIT(A) are co-terminus with that of the Assessing Officer, and what all an Assessing Officer can do, can also be done by the first appellate authority, we have to see whether the view held by the CIT(A) that the agreement in question is a colourable device to reduce the incidence of taxation in the hands of the assessee, is correct and valid, and is borne out from the material available on record. It is evident from the first page of the annual report for the year ending 31-7-1985 of the assessee before us, which is filed at page 1 of the paper book, and first page of the Annual Report for the assessment year 1986-87 in the case of Elektro Flame Limited, a copy of which is filed at page 3 of the paper book, that except for the address of the registered office, which the Elektro Flame Limited has taken on lease from the assessee before us, viz., the premises at 45-C, Phase-I, IDA, Jeedimetla, under the agreement in question, there is nothing common between these two companies, and none of the Directors of the assessee-company is on the Board of Directors of Elektro Flame Limited. As such there is nothing on record to show that Elektro Flame Limited is a sister concern of the assessee, and the agreement in question has been entered into, to divert revenue receipts to the benefit of sister concern, while reflecting capital receipts not exigible to tax in the hands of the assessee. It is proceedings on the basis that the said Elektro Flame Limited is a sister concern of the assessee that the CIT(A) nourished further doubts about the genuineness of the agreement and bona fide nature of the parties thereto while entering into the same. The CIT(A) has also pointed out separate agreement of lease entered into by the assessee on the very next day of the agreement surrendering the brand name, technical information, etc., entered into on 8-11-1984; the fall in the lease income; the absence of ownership right vested in the assessee, according to him, as on the date of entering into the agreement, viz., 8-11-1984 and lease deed dated 9-11-1984; and very short span of assessee's business which could not have equipped the assessee, according to the CIT(A), so much of technical know-how and goodwill in order to fetch a consideration of Rs. 3 lakhs on its transfer, and some of the feature noticed by the CIT(A), which strengthened his suspicion with regard to the genuineness of the agreement dated 8-11-1984. The learned counsel for the assessee disputed each of those suspicious features pointed out by the CIT(A) and considering the contentions of the learned counsel for the assessee and the material on record, we are quite convinced that there is nothing on record to substantiate the finding of the CIT(A) that the agreement dated 8-11-1984 is a colourable device to reduce the incidence of taxation, in the hands of the assessee. The learned counsel for the assessee has explained the circumstances in which the lease dated 9-11-1984 had to be executed by the assessee, just a day later to the agreement dated 8-11-1984, and we find no reason to disbelieve the version of the assessee in that behalf. Further, the letter of APIIC dated 17-11-1983 addressed to the IDO, Jeedimetla, a copy of which is placed at page 23 of the paper book, clearly establishes the fact that changes effected in respect of plot 45-C, inter alia, from 'Aarkay Indl. Corporation to Spade Electro Private Limited, viz., from the predecessor in the said premises to the assessee, has been approved by the APIIC. The said communication, which is an inter-office memo also notes the changes in the line of business of occupiers from steel furniture to electrical appliances and constitution from proprietary to private limited company, and those changes in the nature of business and status of the occupiers have also been approved by the APIIC by the said note. That note of 17-11-1983 clearly establishes the assessee's right to exclusive use of the said premises for carrying out its manufacturing/business activity, and as such the CIT(A) was not at all justified in holding that the assessee became the owner of the said property only on 25-1-1985, and consequently the lease agreement entered into and acted upon, besides the licensee agreement dated 8-11-1984 are mere colourable devices and could not have been acted upon. For that matter, the address of the registered officer of M/s. Elektro Flame Limited shown on the first page of the Annual Report for the assessment year 1986-87 of that company, very clearly establishes that the lease deed has indeed been acted upon. For that matter, even the letter of the assessee addressed to M/s. Elektro Flame Pvt. Limited dated 28-4-1985, a copy of which is placed at page 21 of the paper book, whereby the assessee provided additional space in those very premises, viz., Plot No. 45-C, Phase-I, IDA, Jeedimetla to M/s. Elektro Flame Pvt. Limited, and consequently enhanced the rent by Rs. 1,000 per month from 1-5-1985, clearly demolishes the theory of the CIT(A) that neither the lease agreement nor the agreement surrendering the brand name, right to manufacture the flame products, etc., are colourable devices, not acted upon by the parties. We do not find anything on record to doubt the genuineness of the agreement dated 8-11-1984, and we are in complete agreement with the learned counsel for the assessee that the CIT(A) has proceeded merely on the basis of surmises and conjectures, and the suspicious features noticed by him are without any basis. As already noted above, the root cause that led the CIT(A) to nurse the suspicions about the genuineness of the agreement dated 8-11-1984, was his finding that M/s. Elektro Flame Limited is a sister concern of the assessee. Since that very basic finding of the CIT(A) is found to be incorrect, and since none of the other reasons pointed out by the CIT(A) for doubting the genuineness of the agreement dated 8-11-1984 is sound or valid or based on the material on record, and since there is nothing material brought on record to substantiate the finding of the CIT(A) that the agreement dated 8-11-1984 is merely a colourable device not acted upon, in our considered opinion, the CIT(A) was not justified in holding that the agreement dated 8-11-1984 is merely a colourable device to reduce the incidence of taxation in the hands of the assessee. On the contrary, the material on record clearly establishes the fact that the agreement dated 8-11-1984, and the lease deed dated 9-11-1984 have in fact been acted upon, and have been entered into by the parties which are not sister concerns, the course of their regular business.
10. Now, the question that remains to be considered is whether the consideration of Rs. 3 lakhs received by the assessee in terms of the said agreement is of capital nature as claimed by the assessee or revenue nature as held by the Assessing Officer. At this juncture, we may note that the consideration has been stipulated by the said agreement dated 8-11-1984 on page 5 thereof under article 8 thereof, which reads as under :-
"8.1. In consideration of the surrender of the brand name, by the licensor, the licensee shall provide to pay licensor an amount of Rs. 2 lakhs (Rupees two lakhs only) to be paid either in cash at 12 per cent interest till the date of payment from the date mentioned in article 6, or by the issue of Equivalent Equity Shares.
8.2. In consideration of the guaranteed turnover of Rs. one crore per annum and arranging for the marketing outlets, the licensee shall provide Rs. 1,00,000 (Rupees one lakh only) either in cash at 12 per cent interest till the date of payment from the date mentioned in article 6, or by the issue of equity shares. In the event of licensee's turnover falling short of Rs. 2.25 crores within 3 years from the date of surrendering the brand name, the licensee can charge the licensor penalty not exceeding 1 per cent of the shortage of the guaranteed turnover.
8.3. The licensee shall deposit Rs. 3 lakhs (Rupees three lakhs only) with licensor repayable before the end of the 12 years' period from the date of handing over the possession of the premises with the additions area more particularly described and marked in red colour in the plan annexed as mentioned in Article 6."
It is evident from the above Article 8 relating to consideration aspect of the agreement, that the consideration received by the assessee in terms of the agreement is of two parts - one of Rs. 2 lakhs for the surrender of the brand name, etc., and the other of Rs. 1 lakh for guaranteeing turnover of Rs. one crore per annum and arranging for the marketing outlets. It is, therefore, necessary for us to consider the capital or revenue nature of both parts of this consideration separately.
11. We may now refer to the various decisions relied upon by the learned counsel for the assessee, in order to appreciate the guidelines laid down by various Courts and the Apex Court for determining the capital or revenue nature of a receipt. In the case of CIT v. Kamal Behari Lal Singha [1971] 82 ITR 460, the Supreme Court held as follows :-
"It is now well-settled that in order to find out whether a receipt is a capital receipt or a revenue receipt, one has to see what it is in the hands of the receiver and not its nature in the hands of the payer. In other words, the nature of the receipt is determined entirely by its character in the hands of the receiver and the source from which the payment is made has no bearing on the question. Where an amount is paid which, so far as the payer is concerned, is paid wholly or partly out of capital, and the receiver receives it as income on his part, the entire receipt is taxable in the hands of the assessee."
In the case of Gillanders Arbuthnot & Co. Ltd. (supra), the Supreme Court, considering a case where the assessee-company carried on business in diverse lines : besides acting as managing agents, shipping agents, purchasing agents, and secretaries, and also acted as importers and distributors on behalf of foreign principals and bought and sold on its own account, held as follows :-
"Held that 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 not 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 be regarded as capital.
Compensation paid for agreeing to refrain from carrying on competitive business in the commodities in respect of which the agency was terminated, or for loss of goodwill, is prime facie of the nature of a capital receipt."
Thus, the capital or revenue nature of a receipt depends upon the nature of the receipt in the hands of the receiver and the line of business of the receiver. The nature of the payment in the hands of the payer and the source from which it was paid by the payer are not relevant for determining the nature of the receipt, and there is no immutable principle that compensation received on cancellation of an agency must be regarded as capital, though compensation received for refraining from carrying on competitive business in the commodities in respect of which the agency terminated, is prima facie of capital nature. Similarly, in the case of Best & Co. (P.) Ltd. (supra), the Apex Court, considering a restrictive covenant held as follows :-
"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 covenant for a specified period;
(ii) that the restrictive covenant 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."
In that case also, considering the fact that the assessee was engaged in innumerable lines of business, the Apex Court held that as the loss of the agency was only a normal trading loss on the facts of that case, that part of the compensation received towards loss of the agency was a revenue receipt. The Supreme Court in that case observed as follows :-
"... 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 income-tax 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 and keeping."
In the case of R.N. Agarwala (supra), dealing with the nature of compensation received by an employee on termination of his employment, the Bombay High Court has held as follows :-
"Held, that as the assessee's employment was terminated the payment made to him was not under the terms of the agreement of employment, but was made as compensation for termination of employment, and notwithstanding the fact that the assessee was being compensated for loss of employment and was also giving up all his claims against the company and binding himself to a covenant not to accept employment which may be detrimental to the interest of the company in a certain area, the payment was in the nature of capital and was not assessable in the hands of the assessee."
Similarly, in the case of Saraswathi Publicities (supra), the Madras High Court was concerned with an assessee who had secured the rights for distribution and exhibition of advertisement films, with a right to enter into agreement with other persons for distribution and exhibition, and who entered into an agreement with 'B' which had similar agreement with various firms for the purpose of seeing that the business of each other did not suffer by competition in certain States. Observing that the assessee had agreed to 'B' taking over and handling the said business from 1-4-1966 and further agreed to refrain from carrying on the business with Hindustan Lever Ltd. or handle any film advertising business till the end of 1975, and considering the nature of consideration received under such agreement, the Court held that as the receipt was referable to restrictive covenant, it was a capital receipt not liable to income-tax. In the case of Motor & General Finance Ltd. (supra), the Punjab High Court held that the question whether a particular receipt is a revenue receipt or a capital receipt is a question of law.
12. In the case of Addl. CIT v. Dr. K.P. Karanth [1983] 139 ITR 479, the Andhra Pradesh High Court held that the amount received by the assessee cannot be said to be profits received by way of business, and as the assessee surrendered his technical knowledge and know-how for manufacture of drugs, which was a capital asset, the amount received by the assessee was capital in nature. The High Court further held in that case as follows :-
"Even assuming that the amount paid to the assessee was by way of compensation for abrogating or annulling the agreement already entered into in 1962, the position would not alter. Under the terms of the compromise, the assessee was deprived of what in substance was his source of income. Annulment or abrogation of the agreement could not be a normal incident of the business. Therefore, the consideration received by the assessee from Y was not revenue in nature."
Thus, the Andhra Pradesh High Court recognised the technical know-how for manufacture of drugs, as a capital receipt, and compensation received for surrender of which was of capital nature. It also held that compensation for abrogating or annulling the agreement, amounted to depriving the assessee from his source of income, and no such compensation in that behalf is also of capital nature.
13. In the case of Ralliwolf Ltd. (supra), the Bombay High Court considering the nature of receipts from provision of know-how, observed as follows :-
"Whether receipts from the provision of know-how are of capital or revenue nature would essentially depend upon the transactions out of which the receipts arise and the context in which the receipts are received. If the imparting of know-how is really in the nature of services rendered without anything more, the receipt must be treated as a revenue receipt. But when consideration is received for imparting know-how in association with the disposal of a capital asset, then the receipt will have to be treated as a capital receipt."
14. In the light of the ratio laid down by the various Courts in the cases discussed above, let us now examine the nature of the receipts of the assessee in accordance with the agreement dated 8-11-1984. As regards the first part of Rs. 2 lakhs which was receivable in terms of Article 8.1 of the agreement dated 8-11-1984, extracted above, it was in consideration of the surrender of the brand name, by the licensor, and for discharging other obligations of the assessee under the agreement, associated with the said surrender of the brand name. As per Article 5 of the said agreement, the assessee, as licensor was expected to arrange transmission of technical information. The said article reads as follows :-
"5.1. The licensor confirms that the technical information that will be transmitted by the licensor under this agreement is sufficient to permit the manufacture of complete Contract Products and will enable the licensee to fulfil the objectives of this agreement.
5.2. The time and extend of the transmission of technical information and improvements will be mutually determinated by the progress of the licensee in the respective manufacturing stages."
The terms 'technical information' is defined in Article 1.2 tp. mean and include 'surrender of brand name and trade marks engineering and manufacturing available with the licensor relating to design, production methods, manufacture and testing of contract products as well as information relating to material used in the manufacture thereof, insofar as such information has either been successfully incorporated in or forms part of the manufacturing or engineering technique of the licensor and is applicable to the operations of the licensee.' With regard to materials used in the manufacture of contract products, 'Technical Information' was defined in that very article to mean and include 'surrender of brand name and trade marks instructions on the required quantity, quality and characteristics and on their treatment in the manufacture of the contract products as well as sources of supply'. The terms 'Contract Products' was defined in Article 1.1 of the agreement to mean 'Air Coolers, Electric Motors and Geysers'.
15. The assessee was also expected to render technical assistance to the licensee, and the scope of such technical assistance was specified in Article 2 as under :-
"2.1-1. The licensor shall assist the licensee in order to enable to licensee to adapt its available plant, machinery and equipment to the requirements for manufacture of contract products by the licensee. The assistance will include information regarding machinery dies and testing equipment required for the manufacture of contract products.
2.1-2 The licensor shall train an adequate number of personnel of the licensee as set forth in Article 3.
2.1-3 The licensor shall delegate its personnel to the licensee as set forth in Article 4.
2.1-4 The licensor shall transmit its Technical information to the licensee as set forth in Article 5.
2.1-5 The licensor shall upon request of the licensee render additional assistance to the licensee under the provisions of Article 6."
In terms of Article 3, the licensor was expected to receive and give training to the personnel of the licensee, in the functions relating to the design manufacture and testing of contract products and materials used herein and maintenance of plant and equipment. The training, according to the said article, shall be for such period and for such numbers in the initial months when licensor's plant for the products was in operation. In terms of Article 4, the licensor, upon mutual agreement of the parties, was to delegate to the licensee for periods to be agreed upon by the parties suitable specialists, who are required to train the personnel at the licensee's factory and to provide general technical assistance by active participation in establishing production, quality control and testing at the licensee's factory of contract products.
16. Article 6 of the agreement deals with the date of commencement of the agreement, and it reads as follows :-
"6.1 The surrender of exclusive manufacturing technical know-how for the Electrical Motors and deputation of technical personnel shall commence from the 1st day of January, 1985. The licensor however will be free to clear his present stocks till March 1985.
6.2 The surrender of brand name and trade marks for the Air Cooler and Geysers and deputation of the technical personnel shall commence from the 1st day of April, 1985.
6.3 The date of handing over the physical possession of the factory shed at 45-C, IDA, Phase-I, Jeedimetla-500 855 with the additions area more particularly described and marked in red in the plan annexed hereto shall be for the 1st day of October, 1985 for a period of 12 years."
There is a vital restrictive covenant in Article 7.1, which reads as under :-
"7.1 The licensor shall not after the date mentioned in Article 6 manufacture any of the contract products under the same or any other brand name either directly or indirectly. The licensor may take up the marketing of the contract products manufactured by the licensee on such terms as may be agreed."
As already noted above, Article 8 specifies the consideration in two parts, and states that it shall be paid either in cash or at 12 per cent interest till date of payment from the date mentioned in Article 6 or by the issue of equivalent equity shares.
17. Thus, the first part of the consideration of Rs. 2 lakhs, as is evident from the various articles of the agreement, is for the assessee undertaking to render technical assistance as contemplated in Article 2; giving training to the licensee's personnel as per Article 3; delegating the personnel as contemplated in Article 4; transmitting the technical information as contemplated in Article 5; and undertaking not to manufacture any of the contract products under the same or any other brand name either directly or indirectly after the date mentioned in Article 6. The technical information, as defined in Article 1.2, covering brand name and trade marks engineering and manufacturing available with the assessee relating to design, production methods, etc., is definitely an asset, the amount received on surrender of which as held by the various Courts, in the cases discussed above, is a capital receipt. As held by the Supreme Court in the case of Gillanders Arbuthnot & Co. Ltd. (supra), and in the case of Best & Co. (P.) Ltd. (supra), discussed above, the restrictive covenant in the agreement, restraining the assessee from manufacturing any of the contract products under the same or any other brand name either directly or indirectly, after the date mentioned in Article 6 of the agreement, is also vital to determine the nature of the receipt in consideration of agreeing to be bound by such a restrictive covenant. As held by the Apex Court in the cases referred to above, compensation paid for agreeing to refrain from carrying on competitive business is prima facie of the nature of capital receipt. Similarly, in the case of Ralliwolf Ltd. (supra), the Bombay High Court, as noted above, held that when consideration is received for imparting know-how in association with the disposal of a capital asset, the receipt will have to be treated as a capital receipt, though mere imparting of know-how is really in the nature of services rendered without anything more, and as such compensation received for such mere imparting would have to be treated as a revenue receipt. In the instant case, the imparting of know-how is associated with the disposal of, or at least parting with the capital assets in the form of brand name, technical information right go exclusive use of the properties of the assessee, in favour of the licensee, M/s. Elektro Flame Limited, and as such consideration relatable to the imparting of training by the assessee would also have to be treated as revenue receipt. In this view of the matter, we are of the considered opinion that the consideration of Rs. 2 lakhs in terms of Article 8.1 of the agreement dated 8-11-1984 has to be treated as a capital receipt, and the same is not liable to be assessed as the income of the assessee.
18. As regards the other part of Rs. 1 lakhs, being consideration due to the assessee in terms of Article 8.2 of the agreement, it is in consideration of the assessee guaranteeing a turnover of Rs. one crore per annum and arranging for the marketing outlets, and it was to be paid either in cash at 12 per cent interest till the date of payment from the date mentioned in Article 6 or by the issue of equity shares. The said Article also stipulates that in the event of licensee's turnover falls short of Rs. 2.25 crores within 3 years from the date of surrendering the brand name, the licensee can charge the licensor penalty not exceeding 1 per cent of the shortage of the guaranteed turnover. This consideration part of Rs. 1 lakh is for the services rendered by the assessee in guaranteeing a minimum turnover of Rs. 1 crore per annum, and the assessee is not parting with anything of capital nature, so as to claim that this part of Rs. 1 lakh received by the assessee is also a capital receipt not exigible to tax. Even though the assessee was made liable to pay penalty in the event the turnover of the licensee falls below Rs. 2.25 crores within three years from the date of surrendering of the brand name, such penalty has nothing to do with the consideration of Rs. 1 lakh contemplated by the agreement for the services rendered by the assessee in guaranteeing a minimum turnover of Rs. 1 crore per annum, and if at all, the turnover of the licensee's turnover falls below the stipulated limit within a period of three years, and consequently, assessee was made liable to pay the penalty contemplated in the agreement, such a liability of the assessee to pay the penalty is incidental to the service undertaken by the assessee. Merely on account of such a contingent liability, assessee cannot claim deferment of the assessment of the said consideration of Rs. 1 lakh, because even this second part of the consideration accrues out of the agreement dated 8-11-1984, and just like the first part of Rs. 2 lakhs, this part was also payable as per Articles 8.2 'either in cash at 12 per cent interest till the date of payment from the date mentioned in Article 6, or by the issue of equity shares.' As such, this part also accrued to the assessee from the date noted in Article 6 and consequently, notwithstanding the liability to penalty that may be fastened to the assessee in the event the licensee's turnover falls below Rs. 2.25 crores within three years, this part of the consideration of Rs. 1 lakh is assessable in the year under appeal alone.
19. In the light of the above discussion, we hold that the consideration of Rs. 2 lakhs relatable to the transmission of technical information, brand name, training of personnel, delegation of personnel and the restrictive covenant in the agreement restraining the assessee from carrying on manufacture of the contracted products either in the same or any other brand name either directly or indirectly, is a capital receipt not assessable to tax, whereas the other part of the consideration of Rs. 1 lakh relatable to the assessee guaranteeing a minimum turnover of Rs. 1 crore per annum to the licensee is a revenue receipt, assessable in the year under appeal. Consequently, we sustain only an addition of Rs. 1 lakh, as against Rs. 3 lakhs made by the Assessing Officer and sustained by the CIT(A) treating the entire consideration received by the assessee as a capital receipt. Assessee's grounds on this issue are thus allowed in part.
20. Assessee's next grievance in this appeal relates to an addition of Rs. 50,000 made on account of undervaluation of closing stock. The said addition was made by the Assessing Officer on the ground that the Central Excise records were not provided by the assessee-company. According to the assessee, this was due to the fact that during the previous year, the Excise Registers were taken away by the excise authorities and consequently the details of opening stock could not be arrived, and also that the registered office was shifted several times and some of the current records were also misplaced. Rejecting the explanation of the assessee, the Assessing Officer made the impugned addition observing that the assessee had failed to discharge the onus laid on it by the Act to prove satisfactorily and with necessary evidence that the stock position shown by it in the return was correct. On appeal, the CIT(A) taking note that even the Chartered Accountants of the assessee noted in the tax audit report as to their helplessness with regard to various statements of the assessee including the correctness of the closing stock for want of proper records, statements, etc., confirmed the addition made by the Assessing Officer. Hence, the assessee preferred the present appeal before us, on this issue.
21. The learned Departmental Representative opposing the contentions of the assessee on this aspect, supported the orders of the lower authorities. The assessee averred before us that there is no discrepancy in the stock noticed by the Inspector, who was deputed by the Assessing Officer to the Central Excise office to verify the stock registers of the assessee. The said Inspector after verifying the stock registers of the assessee in the Central Excise Office did not notice any irregularities. However, we find that neither the Assessing Officer nor the CIT(A) considered the said aspect while dealing with the addition in question. The Assessing Officer has not recorded anything with regard to deputing any Inspector to verify the correctness of the closing stock from the Central Excise office, but merely proceeded on the basis of the failure on the part of the assessee in discharging the burden case on it. On the other hand, the CIT(A) proceeded merely on the basis of the observations of the Chartered Accountants of the assessee in their Tax Audit Report. In this view of the matter, we feel it fit and proper to set aside the order of the CIT(A) on this aspect and restore the issue to the file of the Assessing Officer to examine the issue fresh in the light of the report of the Inspector, if any, on verification from the Central Excise office with regard to the correctness of the closing stock declared by the assessee. We accordingly decide this issue, and direct the Assessing Officer to take a fresh decision, after giving due opportunity of being heard to the assessee.
22. In the result, assessee's appeal is allowed in part for statistical purposes.