TMI Blog2004 (12) TMI 326X X X X Extracts X X X X X X X X Extracts X X X X ..... after referred to as AAT) developed in the United States of America. After several investigations and efforts, he established contact with Genencor International Inc. (GIC in short), which is an incorporated body in USA. GIC agreed for granting licence for use of AAT. The assessee thereafter developed contacts with Tamilnadu Industrial Development Corporation (TIDCO in short). The assessee along with TIDCO entered into an agreement with GIC, which allowed them access to AAT. Later at the suggestion of TIDCO, to involve some other parties, and after evaluating the list of possible partners, the assessee contacted NATCO Pharma Ltd. and NATCO Pharma USA, represented by Shri V.C. Nannapaneni. All the three parties, i.e., the assessee, TIDCO and NATCO, approached GIC for obtaining licence for AAT. GIC, on its own behalf and on behalf of Lubrizol Business Development Company, on 27-1-1995 granted a Letter of Intent (LOI in short). In this LOI, GIC agreed to part with AAT on certain conditions mentioned therein. 3. Thereafter the assessee, for some reasons, decided to extricate himself from the joint activity, NATCO Pharma Ltd. and NATCO Pharma USA entered into an agreement with him on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 00,000 is exempt from tax." This said return was filed on 29-6-2000 and the same was processed under section 143(1)(a) on 25-9-2000 without any adjustment or addition. 6. Later, the Assessing Officer issued a notice under section 148. The Assessing Officer had made the following note in the order sheet:- "For the assessment year 1999-2000, the assessee was in receipt of fees of Rs. 25 lakhs for non-competition in trading from Natco Pharma Ltd. The assessee has shown the same as capital receipt and non-taxable. In the HUF account, the assessee has shown the amount of Rs. 25 lakhs as income in the income and expenditure account and arrived at excess of income over expenditure for the year at Rs. 29,93,948. As seen from the records, the assessee has not filed any return of income in the capacity of HUF, I am therefore satisfied that the income chargeable to tax had escaped assessment for the assessment year 1999-2000." After further discussion with the assessee's authorised representative, the Assessing Officer recorded the following findings at page 3 of the order sheet:- "A notice under section 148 was issued to consider the taxability of Rs. 25 lakhs received by the asses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d that such income had escaped assessment, is totally wrong. He further submitted that the Assessing Officer in his reasons recorded mentioned that the HUF recorded the receipt in its receipts and payments account and that the HUF did not file its return of income. He submitted that this observation of the Assessing Officer is factually incorrect as the assessee was not married by then and though the HUF did exist, the income of the HUF was included in the return of income in the status of Individual and that this factually incorrect reason for reopening makes the notice bad in law. Referring to paragraphs 5 to 8 of the order of the learned CIT(A), the learned counsel submitted that the finding that the issue of notice under section 148 is valid in view of the Explanation to section 147 and also for the reason that after the amendment with effect from 1-4-1989 it is enough if the Assessing Officer had reason to believe that income chargeable to tax had escaped assessment, is not correct. He submitted that the law on the issue is same both prior to and after the amendment with effect from 1-4-1989 and for this he relied on the decision of Full Bench of the Hon'ble Delhi High Court i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nna v. CIT [2002] 255 ITR 220 (Punj. Har.) CIT v. Sun Engg. Works (P.) Ltd. [1992] 198 ITR 297 (SC) VXL India Ltd v. Asstt. CIT [1995] 215 ITR 295 (Guj.) Kaira Distt. Co-operative Milk Producers Union Ltd. v. Asstt. CIT [1996] 220 ITR 194 (Guj.) Jindal Photo Films Ltd. v. Dy. CIT [1998] 234 ITR 170 (Delhi) 9.1 On merits, the learned counsel submitted that the amount of Rs. 25 lakhs received is capital in nature. He submitted that the assessee had contended before the Assessing Officer that the amount was received towards non-competition fee and that it is a capital receipt and not taxable. He vehemently contended that the Assessing Officer had not given any reason whatsoever as to why the decision of the Hon'ble Supreme Court in the case of Gillanders Arbuthnot Co. Ltd. v. CIT [1964] 53 ITR 283, is not applicable to the facts of the case. He submitted that the Hon'ble Supreme Court has on various occasions held that the amount received against loss of income is capital in nature and also that the amount received for relinquishment of any right is also capital in nature. He reiterated that the Assessing Officer did not give any reason whatsoever as to how he considered ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsel strongly disputed the view of the CIT(A) that the LOI dated 27-1-1995 was typed on a plain paper and was not on a stamp paper, that TIDCO was represented by a Development Manager and not by Chairman or MD and that, therefore, the LOI lacked authenticity. He submitted that the CIT(A) came to this hasty conclusion without examining any of the parties to the agreement and that the LOI was executed in USA and that the Indian Stamp Act has no application there. He further submitted that TIDCO is an organization formed by the Government of Tamilnadu and the Development Manager, who was a party to the agreement, was one Mr. Sharma who is an IAS officer and that under the Companies Act, Principal Officer includes a Manager and that the CIT(A) has absolutely no reason to doubt the authenticity of the LOI dated 27-1-1995. (c) On the view of the CIT(A) that the Memo of Understanding dated 10-2-1998 was typed only on a plain paper and that out of the four parties only two parties had signed the agreement, the learned counsel submitted that the suit was filed in a US court and that the agreement was entered into as an out-of-court settlement which had to be produced before the US court a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e seen the fact that if a view were to be taken that there were services rendered, then it has necessarily to be held that they were rendered prior to January 1995 and that too outside the country; which would have led to a conclusion that the amount was not taxable in the assessment year 1999-2000. 9.6 Coming to the observation of the CIT(A) that the assessee did not possess any technical knowledge and thus cannot be a competition to NATCO and, therefore, could not have been paid any non-competition fee, the learned counsel submitted that the CIT(A) failed to realize the fact that the assessee was instrumental in pursuing GIC in transferring AAT to the Indian companies. He submitted that it was because of his managerial skill and capability that the assessee could obtain the technology from GIC. He again referred to economical theories and submitted that there are various factors for production of wealth, mostly the four viz., money, material, men and management, and that there is no dispute that the assessee had abundant managerial skills and that by using these managerial skills the assessee is capable of obtaining similar technology for himself and for any other person or con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as received in view of agreement dated 31-1-1995 and consequent documents, he should have necessarily taken a view that the receipt represent; a capital receipt towards the relinquishment of the assessee's right obtained through a Letter of Intent and also that it does not relate to the year of account. He further submitted that if the CIT(A) had taken a view that the amount received was as per the agreement dated 28-4-1998, he should have taken a view that the receipt was towards non-competition. Thus, he argued that the CIT(A) was wrong in treating the amount as a revenue receipt. 11. In the alternative, the learned counsel submitted that it has to be held that the amount was received for two reasons: (a) for relinquishing the right acquired under LOI dated 27-1-1995 by entering into an agreement with NATCO on 31-1-1995, and (b) for refraining himself from carrying on the line of activity, as per agreement dated 28-4-1998. In both cases, he submitted, it is a capital receipt. 12. On the proposition that the amount received or relinquishment of right as per agreement, is not a taxable receipt, the learned counsel relied upon the following judgments:- P.L.M. Firm v. CIT [1968 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the Assessing Officer that the assessee had understated the income or had claimed excessive loss, deduction, allowance or relief in the return, it would be deemed to be a case where income chargeable to tax had escaped assessment. 14.2 On the contention of the assessee that the reasons recorded by the Assessing Officer for the issue of notice under section 148 are not correct, the learned DR submitted that the receipt in question was shown as technical fee in the computation of total income filed and it was also shown as an item of income and expenditure in the statement enclosed with the return and that this was prima facie material before the Assessing Officer for entertaining a bona fide belief that income chargeable to tax had escaped assessment. He vehemently contended that it is not correct to say that the notice was issued without recording proper reasons and without finding that income chargeable to tax had escaped assessment. He submitted that what the court has to see is whether there was prima facie material on the basis of which the Assessing Officer could issue notice under section 148 and that the sufficiency or correctness of the material is not justiciable. He ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... decision of the Hon'ble Supreme Court in the case of Oberoi Hotels (P.) Ltd. was available at the time of filing of the return and that the amended provisions of section 28 were not available to the Assessing Officer as the same were effective from 1-4-2003, the learned DR submitted that the assessee had shown the receipt as technical fees received from NATCO under the head "profession" in the computation of income filed along with the return of income and claimed the same as exempt from tax, but had not filed any details whatsoever which indicate as to how the said fee shown as an income from profession was exempt from tax except stating that the fee of Rs. 25 lakhs was received for non-competitional trading from NATCO. He submitted that in the computation of income, the assessee had not placed reliance on the decision of the Hon'ble Supreme Court in the case of Oberoi Hotels. The assessee had also not furnished any details in the return of income regarding the nature of non-competitional trading, the period of non-competition, copy of agreement etc., in support of the claim that the receipt is exempt from tax. He vehemently contended that it was never explained as to how the ass ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d been received by him as per agreement dated 28-4-1998 styled as "Non-competition agreement", under which he was not to help, advise, assist, aid any company, person, body corporate in establishing, managing, providing or developing or act as a consultant or as a technical advisor or an agent on his own account or on behalf of any other person which/who is engaged in a line of activity which will compete in any way with the activity of the above venture for a period of five years, and his alternative contention that the amount was received for surrender or relinquishment of rights accrued to the assessee, i.e., right to acquire licence for manufacture and sale of AAT, are not supported by the facts existing on the record. He referred to the paper book filed by the assessee wherein at page 45 a copy of the complaint dated 2-12-1997 filed by the assessee before the Superior Court of New Jersey, USA, was included, and specifically relied on the following: "Second Count 27. Plaintiff reiterates the allegations contained in the First Count and incorporates them herein. 28. Sandeep Reddy performed services which provided substantial benefits to NATCO. 29. Mr. Reddy is entitled ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng global presence, by starting a competing industry or distribution or sale of ascorbic acid. He thus submitted that the assessee could not even be a threat of competition to NATCO. He further submitted that there was no clause in the agreement specifying the nature and quantum of interest, if any, that the assessee would have earned had he continued with the project. The assessee, as per the learned DR, did not even acquire any technology, assets or intangibles in the field of chemical technology by virtue of the LOI. He submitted that there was no rationale in the assessee's claim as competition could be between two equals producing the same commodity and the assessee was no match to NATCO. 15.4 The learned DR further submitted that the assessee has not produced any documentary evidence to show that he was promised yearly payments/commissions/profits etc., and that the question of sterilization or destruction of any permanent profit-earning apparatus did not arise. He submitted that the assessee continued to pursue his professional activities. Referring to the complaint filed before the US court, he submitted that the assessee had decided that it was in his best interest to ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1995. Thus, he submitted that the amount received by the assessee was not for assignment or surrender or relinquishment of any rights but only for services rendered by the assessee to NATCO. He relied on the following case laws:- CIT v. Shamsher Printing Press [1960] 39 ITR 90 (SC) CIT v. Manna Ramji Co. [1972] 86 ITR 29 (SC) Blue Star Ltd. v. CIT [1996] 217 ITR 514 (Bom.) CIT v. State Trading Corpn. of India Ltd. [2001] 247 ITR 114 (Delhi) etc. He distinguished the case laws relied upon by the assessee on the ground that in those cases the very source of income had come to an end and that the facts of the case are entirely different. 17. On the issue as to the place of accrual of income and services rendered, the learned DR submitted that the entire income of the assessee was shown on actual receipt basis and expenditure was claimed on payment basis and that merely because the Assessing Officer had recorded the method of accounting as mercantile in the assessment order, no conclusion can be drawn that the assessee was in fact following mercantile system of accounting. He referred to the statement enclosed to the return of income and submitted that it clearly demonstr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ected and the order of the CIT(A) treating the receipt as a revenue receipt should be upheld. 19.1 Replying to the contentions of the learned DR. the learned counsel for the assessee submitted that in the computation statement annexed to the return of income, which is at page 2 of the paper books of the assessee, it is clearly stated that the fee of Rs. 25 lakhs received was for non-competition in trading, from NATCO Pharma Ltd., and it is a capital receipt and not taxable and also under the head "profession", it was mentioned, "Technical Fees received from M/s. NATCO Organics Ltd., Rs. 25,00,000 is exempt from tax" and that in the income and expenditure account also it was clearly shown that the amount was received for non-competition in trading. He submitted that it can be seen from the statement of income filed by the assessee that the amount was received for non-competition in trading from NATCO Pharma and that the learned DR is not correct in his submission that the details provided in the return of income and the accompanying statement do not indicate the assessee's claim. On the argument of the learned DR that the Assessing Officer had while processing the return under sec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ight in the licence to be granted by GIC. He submitted that this is an asset in itself and that the right is a right of property and that it was a capital asset. He vehemently contended that the right of participation in the licence is a capital asset. He, therefore, submitted that the learned DR is not correct to say that the reopening of the assessment is valid and the amount does not represent non-competition fee. 19.4 On the extract from the complaint dated 2-12-1997 filed by the assessee in the US court, relied upon by the learned DR, the learned counsel drew the attention of this Bench to Paragraphs 6 to 12 of that complaint and submitted that the entire complaint has to be looked as a whole and that the learned DR tried to read parts and pieces of the complaint to support his contention: Relying heavily on this document, he submitted that the assessee had acted on his own in obtaining contact with GIC before signing a non-disclosure agreement, which allowed access to the science associated with AAT. It was only later, he submitted, the assessee and TIDCO thought of involving another Indian pharmaceutical company for the purpose and in the process chose NATCO. He submitted ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the other party to the agreement. He disputed the argument of the learned DR and submitted that it is not necessary that the assessee should be carrying on a trading activity before entering into non-competition agreement. He relied on the agreement and assignment of interest as well as the complaint filed by the assessee and submitted that it clearly indicates that the assessee did not carry on any liaison work. He strongly disputed the argument of the learned DR that it is unthinkable for the assessee to compete with a pharmaceutical company like NATCO having global presence, as the restrictive covenant in clause 1 clearly mentions that the assessee shall not "help, advise, assist, aid any company which is engaged in a line of activity which will compete in any way with the activity of NATCO". He submitted that the learned DR is doubting without any basis the capabilities of the assessee and that the assessee can establish a project or can introduce another company to establish a similar project. 19.8 Referring to the argument of the learned DR on the assessee deciding to extricate himself from AAT project, the learned counsel submitted that the restrictive covenant need not sp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t his claim he also filed extracts of the accounts of the assessee in the books of Shri Mai Reddy. 22. On the issue raised by the learned DR regarding residential status of the assessee, the learned counsel drew the attention of the Bench to page 7 of the department's paper book and submitted that it clearly shows that the assessee is a non-resident. On the applicability of section 9(1)(vii), he submitted that the section applies to income received by way of fee for technical services rendered and as the assessee had not received any fees for technical services rendered, the judgment of the Hon'ble Andhra Pradesh High Court in the case of Elkem Technology does not apply to the facts of the case. 23. On the theory of collusion between the parties, the learned counsel submitted that neither the Assessing Officer nor the CIT(A) conducted any enquiries in this regard and all the authorities including the learned departmental representative are expressing personal views without any basis and any examination of documents. He emphasized that TIDCO is a wholly owned government company and that a person from the Indian Administrative Service, who was the Development Officer, signed the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the case, we hold as follows. 27. On the first issue of validity of reopening, we are convinced with the argument of the learned DR. The assessee had filed his return of income wherein he had made a disclosure that an amount of Rs. 25,00,000 had been received by him and that the same is not taxable. The return was processed under section 143(1)(a). Though the assessee had made full and true disclosure, it cannot be said that the Assessing Officer had taken a considered view while processing the return under section 143(1)(a). The Income-tax Appellate Tribunal, Hyderabad Bench 'B', in the case of Elegant Chemicals Enterprises (P.) Ltd. held as follows as per head note:- "The Legislature in its wisdom has given two options to the Assessing Officer to reopen assessments; (a) accepting the return of income by merely processing it under section 143(1) of the Income-tax Act, 1961, without making investigation, and (b) taking up the case for scrutiny and completing the assessment under section 143(3) of the Act. Merely because the Assessing Officer has two options for reopening the matter processed under section 143(1), non-exercise of option under section 143(2) to correct the ass ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... was a new business altogether. By cancellation of the agreement, the assessee was merely deprived of the job work charges which it would have otherwise earned. Further the letter before the Assistant Commissioner also indicated that the assessee was in the business of manufacture of pharmaceutical formulations on job work basis to various principals. It was not the case of the assessee that the assets, which were acquired for manufacture of specific formulations were completely abandoned. Merely because a particular contract for job work was terminated, it could not be said that there was loss of what may be regarded as the source of the assessee's income but could be termed as a normal incidence of the business. The claim for compensation made by the assessee immediately after the termination of the contract snowed that the compensation was claimed towards reimbursement of expenses of revenue nature. The detailed claim did not indicate that it was for sterilization of capital assets. Thus, the amount of Rs. 87.33 lakhs received by the assessee from P G was a revenue receipt liable to tax. (ii) That the amended provisions of section 148/147 provide ample power to the Assessing Of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ents of the learned counsel for the assessee. The sequence of events clearly demonstrates that the assessee had with his own talent and skill contacted GIC of USA to obtain licence in AAT and was successful in obtaining information and methodology to avail the technology in the year 1993. In the year 1994, TIDCO signed a non-disclosure agreement with GIC, which allowed them access to the science associated with AAT. It was only at that stage that the assessee and TIDCO jointly thought it necessary to obtain association of an Indian pharmaceutical company to utilize the licence to be granted by GIC. It is only at the suggestion of TIDCO that the assessee contacted NATCO and on 27-1-1995 all the three parties got a letter of intent from GIC of USA. On 31-1-1995, the assessee wanted to extricate himself from AAT project and also entered into an agreement with NATCO for payment of Rs. 1 crore. NATCO did not comply with the agreement. The assessee filed a complaint in a US court on 2-12-1997 seeking enforcement of the agreement dated 31-1-1995. On 10-2-1998, an out-of-court settlement was reached and the assessee agreed to receive Rs. 25 lakhs in lieu of the payment of Rs. 1 crore from ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... it was recommended to Sandeep Reddy by TIDCO, because of the significant capital needed for the project, that Mr. Reddy involve an Indian pharmaceutical company. 11. TIDCO suggested several candidates to Mr. Reddy, including NATCO. 12. On or about July 4, 1994, Sandeep Reddy and NATCO agreed in principle to act together with TIDCO as a consortium to obtain a licence for the ascorbic acid technology. 13. On or about January 27, 1995, Genencor International, Inc. entered into a Letter of Intent whereby it was agreed that the ascorbic acid technology would be licensed to, collectively, plaintiff Sandeep Reddy, NATCO and TIDCO, for the manufacture, use and sale of ascorbic acid in a delineated territory, including India, Pakistan, Malaysia, Burma, Thailand, Laos, Cambodia, Vietnam, Sri Lanka and Bangladesh [the "Letter of Intent"]. 14. Mr. Reddy determined that it was in his best interest to extricate himself from the ascorbic acid project so that he could pursue other entrepreneurial opportunities. 15. On or about January 31, 1995, Reddy and NATCO entered into an Agreement and Assignment of Interest whereby Reddy assigned and transferred to NATCO all of his right, title and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ber 31, 1995 and the final one-third on January 31, 1996. 23. NATCO failed to make each instalment payment to Reddy as it became due and owing. 24. NATCO ignored Reddy's repeated requests for payment. 25. NATCO intentionally, wilfully, and without justification, breached the Agreement and Assignment of Interest and oral modification thereof. 26. As a direct and proximate consequence thereof, Reddy has suffered significant economic loss and damage. Wherefore, plaintiff Sandeep Reddy demands from defendant Natco Pharma Limited and defendant Natco Pharma USA, LLC compensatory damages, attorneys fees, interest, costs, and such other relief as the Court deems equitable and just. Second Count 27. Plaintiff reiterates the allegations contained in the First Count and incorporates them herein. 28. Sandeep Reddy performed services which provided substantial benefits to NATCO. 29. Mr. Reddy is entitled to be paid the reasonable value of the services he rendered which benefited NATCO. 30. To day, Mr. Reddy has not been paid the reasonable value of the services he rendered which benefited NATCO. Wherefore, plaintiff Sandeep Reddy demands from defendant Natco Pharma Limit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s not specifically said so. 31. We fully agree with the arguments of the learned counsel for the assessee that the receipt in question was for surrendering of rights jointly held and for not carrying on similar activity. The documents are genuine and Tamil Nadu Industrial Development Corporation acted as a catalyst and brought these parties together. None of them are related to each other. Cases were fought in Court of law and thus the theory of collusion does not simply stick. We agree with the arguments of the learned counsel for the assessee on this issue and we reject the arguments of the learned DR as without any merit. It cannot be said that the assessee had rendered services to NATCO, for the simple reason that NATCO was never in the picture when in the year 1993 the assessee, through his investigative work, learnt about the existence of Ascorbic Acid Technology and also when TIDCO came into the picture. It is not a case where NATCO had employed the assessee for obtaining certain specified object. By becoming a joint owner along with two others, the assessee cannot be said to have been a simple consultant working for a fee in this case. In fact, he became a joint equal own ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mount for both transfer of rights as well as to ward off competition. It is settled law that such receipts are capital receipts and are not liable to tax. A person who has been accepted as an equal partner by a Government organisation as well as by a Multinational Pharmaceutical Company, cannot be said to have no capacity. NATCO never appointed him as a consultant for a fee and thus the receipt cannot be said to have been received as fee for services as a professional. Thus, the receipt in question, in our considered opinion, on the facts of the case, is a capital receipt. 33. Even on the issue of the system of accounting, the Assessing Officer had concluded the issue and held that the assessee followed mercantile system of accounting. Extracts of the accounts clearly indicate that the assessee follows mercantile system of accounting. Thus, the claim of the learned DR that the assessee follows cash system of accounting is without any basis. On this count also, the argument of the learned DR fails, though we need not dwell on this issue and the applicability of section 9(1)(vii) and the issue of residential status etc., as it would be of academic value, in the light of our finding ..... X X X X Extracts X X X X X X X X Extracts X X X X
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