TMI Blog2005 (10) TMI 498X X X X Extracts X X X X X X X X Extracts X X X X ..... id Rs. 3.76 crore to Nelco in consideration of the negative covenants agreed to by Nelco not to manufacture and supply some telecom equipment. By expending the above amount, the assessee did not acquire or bring in to existence any asset, but it was incurred for the successful running of business and with a view to produce the profits. Therefore, it is a revenue expenditure and is fully allowable and it cannot be treated as capital expenditure. The assessee has also filed the copy of the agreement. It says subject to the provisions of clause 2 below, Nelco shall cease and desist from directly or indirectly carrying on engaging in India whether in the brand name of Nelco or any other brand the manufacture and or supply, marketing of telecommunications equipment for India. In this agreement at point 5, the consideration for encashment covalent as agreed to by Nelco will be paid in the following manner : (a) 15 per cent. by June 30, 1997. (b) 35 per cent. by October 31, 1997. (c) 25 per cent. by December 31, 1998. As perused from the details submitted by the assessee and explanation given by the assessee in this regard, Nelco will not manufacture and supply the same telecom ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment and still the assessee is operating in a competitive environment. It is therefore argued that the assessee has not secured on enduring benefit. This argument is clearly fallacious. The agreement has certainly given the assessee an enduring advantage and the fact that other manufacturers were already there or have entered the field subsequently is not a relevant consideration in deciding whether the assessee s arrangement with Nelco gave the assessee an enduring benefit or not. The assessee has further relied upon certain decisions particularly the Karnataka High Court decision in [1997] 223 ITR 112 and is in the case of CIT v. Motor Industries Co. Ltd. was in the context of compensation agreement paid by MICO (which was engaged in the manufacture and sale of its products) to a sole distributor appointed for a specific region. In terms of the agreement, MICO paid compensation for taking over the distributorship. It is clear that the advantage in that case operated in a revenue field, i.e., in the area of marketing only. In the present case, the agreement provides for cessation of manufacture activities and therefore the expenditure is in the capital field. The decision of the S ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... me Court in Empire Jute Co. Ltd. case [1980] 124 ITR 1. It is further argued that the expenditure is allowable as per the principles laid down in the following cases : (a) CIT v. Motor Industries Co. Ltd. [1997] 223 ITR 112 (Karn) ; (b) Sassoon J. David and Co. P. Ltd. v. CIT [1979] 118 ITR 261 (SC) ; (c) CIT v. G. D. Naidu (Late) [1987] 165 ITR 63 (Mad) ; (d) Commissioner of Taxes v. Nchanga Consolidated Copper Mines Ltd. [1965] 58 ITR 241 (PC) ; and (e) V. Damodaran v. CIT [1967] 64 ITR 26 (Ker). On the other hand, the learned Departmental Representative submitted that the decisions of the Supreme Court as referred to by the learned Authorised Representative are not applicable as the facts are distinguishable. The learned Departmental Representative supported the order of the authorities below and also relied on the decision of CIT v. Travancore Sugars and Chemicals Ltd. [1973] 88 ITR 1 (SC). The learned Authorised Representative in his counter reply submitted that no asset has been acquired by paying the compensation. The entire business of Nelco has not been taken and Nelco is authorised to continue to do business except in WLL. The entire competition has not bee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and supply of telecommunication equipment for the territory of India. In any agreement, the purpose for which the agreement is being made is mentioned in the beginning. Such purpose throws light on the object of the agreement. In the instant case, it is clear that both the companies belong to the same group. The negotiations were held for facilitating the re-organisation of the telecommunication business within the TATA group of companies. As per clause 9 of the agreement the compensation was paid in consideration of Nelco foregoing business of manufacture, supply and marketing of WLL equipment. Hence the primary objective behind the agreement was aimed at re-organisation of the business in the same group. The learned Authorised Representative has relied on the following observation of the Supreme Court in the case of Empire Jute Co. Ltd. [1980] 124 ITR 1 (at page 10) : This test, as the parenthetical clause shows, must yield where there are special circumstances leading to a contrary conclusion and, as pointed out by Lord Radcliffe in Commissioner of Taxes v. Nchanga Consolidated Copper Mines Ltd. [1965] 58 ITR 241 (PC), it would be misleading to suppose that in all ca ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... character. Such right of permanent character is in the capital field. It cannot be said profit-making apparatus has not been enlarged. The marketing of equipment has become less competitive when one considers that equipment being made is from a group company of the TATA while other group company is not competing at all. In present day marketing, brand name is very important. CIT v. Motor Industries Co. Ltd. [1997] 223 ITR 112 (Karn). Company G was marketing products of Mico in the region comprising Delhi and portions of States around it. The arrangement worked on the basis of an unwritten understanding between the parties till February 10, 1967, when a written agreement was executed between them valid for a period of 5 years. Before the expiry of this agreement in February 10, 1972, MICO vide letter dated January 28, 1972, specified the pattern of proposed take over in phases. Shortly after the aforesaid protocol, an agreement was made on March 18, 1972, made effective from February 10, 1972, and such agreement was to run for five years. Instead of renewing the agreement any further, MICO decided to take over the remaining territories at once without going through the phased p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the purchase of loom hours for working of the looms constituted a capital expenditure. Repelling the contention that the expenditure had acquired for the assessee an advantage of an enduring nature in the capital field their Lordships held that the assessee had at best acquired only an advantage in the nature of a relaxation of a restriction on working hours imposed by the working time agreement thereby enabling the assessee to operate its profit-earning structure for a longer number of hours. A distinction was drawn between the profit-earning structure of the assessee, on the one hand, and the operation of the profit-earning structure for longer hours, on the other. Acquisition of more working hours was held to be falling in the second category and therefore did not amount to acquisition of a capital asset. Seen from the point of view of the Revenue, the answer given by their Lordships in the Supreme Court in Empire Jute Co. Ltd. [1980] 124 ITR 1 ought to have gone in its favour, for, according to the Revenue, it could be said that the expenditure made by the assessee had acquired for the assessee an enduring benefit. This was not however so and the distinction made between the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The hon ble Madras High Court held that the payment towards restrictive covenants is revenue in nature and is allowable. The hon ble Madras High Court while giving the abovereferred finding observed that no separate business of the old partner was acquired or any competition was eliminated by such acquisition. Since there is no acquisition of any business by payment of the amount referable to the restrictive covenant and there is no benefit of an enduring nature being acquired, the payment can only be treated as revenue out going and not capital in nature. Commissioner of Taxes v. Nchanga Consolidated Copper Mines Ltd. [1965] 58 ITR 241 (PC). In this case, payment was made by one company of group to another to cease production for one year in order to check the fall in price of copper. The issue before the Privy Council was as to whether such expenditure is capital or revenue. In that judgment it was held that such payment was operating cost of payer company. In this case payment was made to another company for stopping production only for one year and hence it was not a case of enduring benefit. V. Damodaran v. CIT [1967] 64 ITR 26 (Ker). In this case, the assessee paid am ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the said adjacent land. The Madras company withdrew the suit as well as writ petition and vacated the land with a view to facilitating the assessee to obtain a mining lease in respect of the land. The Madras company as per the law was having a preferential right to get mining lease in respect of the adjacent land. Payment thus not only avoided competition but facilitated the allotment of mining lease to the assessee. Expenditure was held as capital. Since in the instant case the learned Authorised Representative has heavily relied on the judgment of the Supreme Court in Empire Jute Co. case [1980] 124 ITR 1, it will be relevant to reproduce the following paras from the judgment of the hon ble Gujarat High Court in which it is said that the Supreme Court judgment does not suggest that if expenditure is capital as per the tests laid down, the Revenue must show that a capital asset has come into existence (page 835) : But before we apply these tests, we must deal with the submission of Mr. J. P. Shah, the learned counsel for the assessee, who vehemently contended before us that as pointed out by the Supreme Court in Empire Jute Co. s case [1980] 124 ITR 1, these tests are not c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not to be applied blindly and mechanically without regard to the particular facts and circumstances of the given case. It has at the same time stated that where the expenditure is in the capital field, the expenditure would be disallowable on an application of this test. Therefore, the submission of Mr. Shah that the Supreme Court in the decision of Empire Jute Co. Ltd. [1980] 124 ITR 1, sidetracked all the earlier tests and evolved a new test of universal application cannot be accepted. Dealing with the second test applied by Lord Haldane by drawing the distinction between fixed capital and circulating capital, the Supreme Court observed as under (page 11 of 124 ITR) : But this test also sometimes breaks down because there are many forms of expenditure which do not fall easily within these two categories and not infrequently, as pointed out by Lord Radcliffe in Commissioner of Taxes v. Nchanga Consolidated Copper Mines Ltd. [1965] 58 ITR 241 (PC), the line of demarcation is difficult to draw and leads to subtle distinctions between profit that is made out of assets and profits that is made upon assets or with assets. Moreover, there may be cases where expenditure, though ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g thereby, remains unaugmented. It must be remembered that their Lordships had come to the conclusion that the allotment of loom hours, under the working time agreement, to different mills constituted not a right conferred but merely a contractual restriction on the right of every mill to work its looms to their full capacity, and purchase of loom hours by a mill had, therefore, the effect of relaxing the restriction on the operation of looms to the extent of the number of working hours per week transferred to it, so that the transfereemill could work its looms for longer hours than permitted under the working time agreement and increase its profitability. It was held that by the purchase of loom hours no new asset was created and there was no addition to or expansion of the profit-making apparatus of the assessee. In other words, acquisition of additional loom hours did not add to the fixed capital of the assessee, the permanent structure of which the income was the product or fruit, remained the same, that is, unenlarged. It is in the special facts of that case that the Supreme Court came to the conclusion that the profit-making apparatus of the assessee remained untouched and un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ich produced the same type of commodity as was produced by the assessee. The object of the agreement was the elimination of competition in order to prevent possible annihilation of the business of the assessee. Under the term of the agreement one of the concerns agreed not to produce particular commodity and in consideration thereof the other two concerns agreed to pay to it a stipulated sum every year. The agreement was for a period of 5 years but it could be brought to an end earlier only if there there was mutual consent in writing by all the parties. The hon ble High Court held that the expenditure would in all probability secure a goodwill for the assessee in its field by sterilizing the operation of competitor for 5 years and the benefit would last beyond the period of 5 years. The profitmaking apparatus of the assessee was thereby vastly improved. The expenditure in question was therefore of a capital nature. The Calcutta High Court has also discussed the decision of the Supreme Court in the case of Empire Jute Co. Ltd. [1980] 124 ITR 1. The hon ble Calcutta High Court was of the opinion that the facts in the case before them were entirely different from the case before the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1987] 165 ITR 63 as according to the judgment, the decision in that case was given on the basis of the finding that no benefit or advantage of enduring nature was acquired. Such finding was accepted in that judgment. At page 260 of the judgment, the hon ble High Court has observed that the decision in Empire Jute Co. Ltd. [1980] 124 ITR 1 (SC) cannot be read as laying down a universal test that if a capital asset is not ultimately acquired, the expenditure initially incurred for acquisition of that capital asset would be on revenue account. Blaze and Central P. Ltd. v. CIT [1979] 120 ITR 33 (Mad). The assessee which was carrying on business of arranging exhibition of advertisement and film shorts in licensed theatres in the four southern States, entered into an agreement with one, S, who was also carrying on similar business on behalf of two companies in the four States, under which S agreed to part with its business in the four States for a period of 9 years in consideration of sum of Rs. 1,50,000. The hon ble High Court held that the payment was capital in nature as the assessee had warded off competition and derived an advantage by eliminating competition. The hon ble High C ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... capital. Montgomery Watson Consultants India P. Ltd. v. Asst. CIT [2005] 272 ITR (AT) 153 (Mumbai) ; [2004] 90 ITD 324. The assessee-company paid certain sum as consideration for preventing rival management from a competition with the assessee-company for a period of 10 years. The question before the Tribunal was whether such expenditure is capital or revenue. The expenditure was held as capital as the assessee-company derived benefit of enduring nature by entering into the agreement of business competition of a sufficient long period of 10 years. Shaw Wallace and Co. Ltd. v. Asst. CIT [2003] 86 ITD 315 (Cal). The assessee purchased 2 distilleries and paid sum of Rs. 10 crores to the promoter of the 2 distilleries for the restrictive covenant for not competing with the assessee. The learned Income-tax Appellate Tribunal also considered the judgment of the Supreme Court in the case of Empire Jute [1980] 124 ITR 1, it was observed that this test of enduring benefit cannot be applied blindly and mechanically but it does not mean that this test is not to be applied. The learned Income-tax Appellate Tribunal held that expenditure is capital in nature. While holding so, the learn ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ss, as according to him the Commissioner of Income-tax vide order under section 263 for the assessment year 1996-97 has not allowed this loss. The learned Commissioner of Income-tax (Appeals) considered the decision of the Karnataka High Court. According to the learned Commissioner of Income-tax (Appeals), the hon ble High Court has considered the exchange loss in relation to value of tools consumed and machinery in respect of which depreciation was not admissible. It was held by the learned Commissioner of Income-tax (Appeals) that facts in the instant case are different from the facts considered by the jurisdictional High Court. The learned Commissioner of Income-tax (Appeals) followed the decision of the Madras High Court in CIT v. Indian Overseas Bank [1985] 151 ITR 446. During the course of proceedings before us, the learned Authorised Representative submitted that the foreign exchange liability is on account of purchase of raw material and obtaining services. The assessee reinstated the foreign exchange liability as required under the mandatory accounting standard prescribed by the Institute of Chartered Accountants of India. Even accounting standard prescribed by the Cen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e. Therefore, as per the provisions of section 32, Explanation 1, the assessee will be entitled for depreciation thereon deeming the assessee as the owner thereof. Therefore addition of Rs. 28,98,119 is made. However depreciation at the rate of 10 per cent. is allowed on the same which comes to Rs. 2,89,811. The order of the learned Commissioner of Income-tax (Appeals) on this issue is as under : It is seen from the assessment order that the assessee has incurred the aforesaid expenditure for its new office which was a leased premises. The same was treated as capital expenditure and depreciation was allowed as per provisions of section 32, Explanation 1. The assessee has argued that the expenditure was wholly and exclusively for the business purposes. This may be true. However, the expenditure is clearly capital in nature as it is admittedly for new office and therefore the disallowance made by the Assessing Officer is in order. The appeal is therefore dismissed on this point. During the course of proceedings before us, the learned Authorised Representative submitted that as a result of expenditure incurred, the assessee has not become the owner of new asset. The amount wa ..... X X X X Extracts X X X X X X X X Extracts X X X X
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