TMI Blog2012 (4) TMI 440X X X X Extracts X X X X X X X X Extracts X X X X ..... the price of the plot remaining unpaid as per the provisions of the lease deed - there being no “capital borrowed”, the interest is not allowable as a deduction u/s 37(1) – against assessee. ITAT deleted addition made by the AO on account of disallowance of bonus paid to the Directors in terms of Section 36(1)(ii) – Held that:- It was observed in the Bombay High Court case Metplast Pvt. Ltd vs DCIT (2011 (12) TMI 320 - Delhi High Court ) that so long as the bonus or commission is paid to the directors for services rendered and as part of their terms of employment it has to be allowed and sec.36(1)(ii) does not apply – in favour of assessee. Claim of Non-compete fee payable as revenue expenditure solely on the basis of agreement period and the mode of payment – Held that:- The period for which the assessee sought to eliminate competition was only 12 months which was too short a period to be considered as conferring an enduring benefit to the assessee and the non-compete fee was to be paid to the two persons in equal installments over a period of time – in favour of assessee. - ITA No.939/2010, ITA No.911/2011, ITA No.926/2011 - - - Dated:- 19-4-2012 - MR. JUSTICE SAN ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the Assessing Officer on account of disallowance of bonus paid to the Directors in terms of Section 36(1)(ii) of the Income Tax Act, 1961? 4. As regards the assessment year 2004-05 (ITA No.939/2010), the following substantial questions of law were framed by order dated 20th September, 2010: 1. Whether the Tribunal is correct in allowing non-compete fee of ₹ 5,40,000 payable by the assessee to Mr. Vijay Kalyan Jha and Mr. Sujit as revenue expenditure solely on the basis of agreement period and the mode of payment? 2. Whether ITAT was correct in law in allowing interest of ₹ 22,07,188/- paid by the assessee to Noida Authority for purchase of land as revenue expenditure? 5. We first take up the question of deductibility of the interest paid to Noida Authority on the unpaid installments of the price payable for purchase of land. This question arises, as already noticed, in the assessment years 2004-05 and 2005-06. 6. The brief facts in connection with the question are these. The assessee is a company. It carries on business in providing education and training for various preparatory examinations such as IIM, IIT, Fashion designing courses etc. In the f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ) 56 ITR 52 it was held that in order to claim allowance in respect of interest, there should be borrowing of capital and that unpaid purchase price of an asset does not amount to borrowing of capital, though a debt may be created. It was observed that every borrowing gives rise to a debt, but every debt does not amount to borrowing. In these premises, the interest paid on the unpaid purchase price of a capital asset was held not deductible under sec.10(2)(iii) of the 1922 Act which is similar to sec.36(1)(iii) of the 1961 Act. On the basis of this judgment, it seems to us that the claim of the assessee must fail. The interest was paid to Noida Authority not in respect of any capital borrowed from that Authority, but on the price of the plot remaining unpaid as per the provisions of the lease deed. There being no capital borrowed , the interest is not allowable as a deduction. In this view of the matter, it is not necessary to consider whether the proviso to Section 36(1)(iii) is applicable or not. 10. Counsel for the assessee however put forth the alternative claim, based on the very same judgment of the Supreme Court, that the interest was allowable under the residuary sectio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... udgment of the Supreme Court in Bombay Steam Navigation Co.Ltd. (supra) but the decision of the High Court was rendered in the context of computation of the property income and not income from business. It did not arise under Section 36(1)(iii). 12. The alternative claim of the assessee for allowance of the interest liability under Section 37(1) is thus not accepted. The expenditure represents capital expenditure. It is part of the price paid for the Noida land; it is an adjunct to the price and hence part of it. It is therefore not allowable as a deduction under Section 37(1). 13. We accordingly answer the substantial questions of law No.2 for the assessment year 2004-05 and No.IV for the assessment year 2005-06 in favour of the revenue and against the assessee. 14. The next question that is common to the assessment years 2005-06 and 2006-07 relates to the allowance of the bonus paid to directors of the assessee-company. 15. In the assessment proceedings for the assessment year 2005-06, the AO took the view that sec.36(1)(ii) was applicable to the payment of bonus of ₹ 32,22,000/- to the directors of the company and it was to be disallowed because it would have ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... upported by a board resolution. 19. The revenue s contention that the Tribunal erred in allowing the bonus payment to the directors cannot be accepted. It has not disputed the facts viz., (a) that the payment was supported by board resolutions and (b) that none of the directors would have received a lesser amount of dividend than the bonus paid to them, having regard to their shareholding. Further, the directors are full-time employees of the company receiving salary. They are all graduates from IIM, Bangalore. Taking all these facts into consideration, it would appear that the bonus was a reward for their work, in addition to the salary paid to them and was in no way related to their shareholding. The bonus payment cannot be characterised as a dividend payment in disguise. The Tribunal has found that having regard to the shareholding of each of the directors, they would have got much higher amounts as dividends than as bonus and there was no tax avoidance motive. The quantum of the bonus payment was linked to the services rendered by the directors. It cannot therefore be said that the bonus would not have been payable to the directors as profits or dividend had it not been paid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the provisions of Section 194(C) of the Act as a payment made for carrying out a work in pursuance of a contract and accordingly the assessee ought to have deducted tax from the payment at the applicable rates. He further took the view that since the assessee failed to deduct the tax as contemplated by Section 194C, the amount cannot be allowed as a deduction in view of the embargo placed by Section 40(a)(ia). 24. The assessee s submission was that the agreement was not a pure and simple agreement for carrying out any work within the meaning of Section 194C, that it was an agreement for permitting the payee to utilize the name and copyright of the assessee in the study material and in running the coaching centres, that there were mutual rights, duties and obligations envisaged by the agreement, that a holistic appraisal of the agreement would show that it is a business arrangement and contemplates a sharing of the profits from the business between the assessee and the franchisee, that the franchisee was neither a contractor nor a sub-contractor for carrying out any work for the assessee and that in these circumstances the assessee was not responsible for deducting any tax und ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee s bank account. Thereafter, the assessee made payment to the franchisee and this payment was for the work carried out by the franchisee in terms of the contract. Accordingly, he held that the Assessing Officer was right in disallowing the payments. He thus dismissed the assessee s appeals on this point for both the years. 27. The assessee carried the matter in further appeal before the Tribunal, which also passed a common order for both the years on 27th December, 2010. The Tribunal had before it the sample agreement dated 1.10.2007 between the assessee and M/s Sphere Academy of Ahmedabad. It appears that a statement was made before the Tribunal on behalf of assessee that all the agreements with the franchisees are identically worded. In view of the statement, the Tribunal proceeded to decide the appeals on the basis of the aforesaid agreement, taking it as representative of all the agreements entered into by the assessee with the franchisees. Before us also, the arguments proceeded on the basis of a specimen agreement dated 1.10.2005 entered into between the assessee and M/s Career Solutions of Trivandrum and it was agreed by both the sides that this agreement may be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... was filed before us in the course of the hearing. The agreement is a comprehensive agreement. It provides for several aspects of the arrangement. The preamble narrates that the assessee is engaged in the business of offering professional learning to the members of the public for becoming proficient in competitive entrance examinations, personality development related programmes as per norms and methods developed by it and that the assessee also owns or has access to various copyrighted material, preparatory information and substantial body of technical knowhow relating to the location, design and operation of professional learning centres. It further states that the assessee (described in the agreement as the licensor) has established a high position regarding quality of services available at the learning centres run by it and recognizes the benefit to be run it. The licensee or the franchisee, it is further stated in the preamble, recognizes the benefit to be derived from being identified with and licenses by the licensor and being able to utilize the Trade Names, Designs and Copyrighted material, which the licensor is in possession and that the licensor wishes to make its lear ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the licensee will receive and collect all fees on behalf of the licensor and shall deposit such collections into the licensor s bank account specified by it and such deposit shall be made directly into the bank account of the licensor on the day on which they are collected. Collections made after the banking hours of the day shall be deposited into the account on the very next day. Another important obligation of the licensee was to maintain a record of the costs of materials, wages and direct operating expenses which shall be made available to the licensor in a form and at a frequency determined by the licensor. The licensee was obliged to also submit a profit and loss statement and a balance sheet of its business to the licensor for the preceding financial year within a period of 90 days from the end of the year. The licensee was obliged to make available all the material stocks and collateral stocks, student attendance records, feedback reports, books of accounts, etc. for the audit to be conducted by the licensor. The licensor was also at liberty to inspect the premises of the learning centre run by the licensee. 31. Clause 5 provided for financial consideration . ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... licensee shall maintain confidence and secrecy of their secrets and procedures. Clause 10 provides for the obligation of the assessee to take out a policy of insurance to cover itself against certain kinds of loss/damage as specified by the licensor in the project implementation manual. The licensor s name is to be added as additional insured in the insurance policy. Copies of the insurance policies have to be provided by the licensee to the licensor. 34. There are various other provisions made in the agreement regarding indemnification, consequences of default, change in the ownership of licensee etc. Clause 13 provides for an administrator to be appointed by the licensor at the professional learning centre run by the licensee in the event of non-payment of any monies due from the licensee, default in payment of any other charges, non-adherence or violation of any terms and conditions agreed upon and prolonged disruption of the infrastructure which in the opinion of the licensor is not justified. The licensee, in case an administrator is appointed by the licensor is obliged to provide him adequate working space and is also liable to bear the cost of the posting of the administr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ection 194C relating to tax deduction at source and consequently the disallowance under Section 40(a)(ia) of the Act. On a careful consideration of the issue, it seems to us that it would not be possible to view the agreement as a contract for carrying out any work by the franchisee. The terms of contract which we have referred to show that the arrangement consists of mutual obligations and rights. It is not a simple case of an agreement under which a person is engaged to carry out any work for the other. The essence of the contract appears to us to be one under which the trade name or reputation or knowhow belonging to the assessee in the business of running learning centres, where students are coached for writing competitive examinations, is permitted to be made use of by the franchisees in different places for a monetary consideration. In the case of a contract for the carrying out of any work as is envisaged by Section 194C, there cannot be any use of a person s trade name or goodwill or knowhow by the other. The contract envisaged by the Section would be one under which one person merely renders certain services to the other person for consideration. It is no doubt true that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tention of the assessee that the contract is not one for carrying out any work. It appears to us that the clause has been incorporated into the agreement only as a measure of exercising control over the collections made by the licensees and it does not in any manner discredit the claim of the assessee that the contract is not one for carrying out any work. Both the parties-the assessee and the licensees-have entered into this arrangement only in their mutual interest and for mutual gains. It is a simple case of the assessee permitting the use of its trade name or reputation by the licensees for a consideration. There are several other clauses in the contract, which we have already referred to, which have been incorporated in the interest of both the parties to the contract. They ensure proper compliance of the arrangement and the mutual rights and obligations. These clauses, in our view, have been included only to protect the interest of both the sides and to ensure smooth functioning of the business arrangement. 38. The income tax authorities, we cannot help observing, have not been able to show clearly how the contract between the assessee and the franchisees can be interprete ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lowing words (at page 605): - As observed in Craies on Statute Law (sixth edition, page 213), an interpretation clause which extends the meaning of a word does not take away its ordinary meaning. An interpretation clause is not meant to prevent the word receiving its ordinary, popular and natural sense whenever that would be properly applicable, but to enable the word as used in the Act, when there is nothing in the context or the subject-matter to the contrary, to be applied to some things to which it would not ordinarily be applicable. 41. We are not referring in detail to the judgment of this Court in CIT Vs. NIIT Ltd. (supra) cited on behalf of the assessee because that case was concerned with the provisions of Section 194I of the Act. However, on going through the judgment we find that there are observations therein to the effect that a franchisee agreement cannot be broken up into several parts to bring it within the TDS provisions and that the dominant intention of the parties to the agreement should be respected and given effect to, as gathered from the composite agreement. It is significant to note that in that case the assessee (NIIT) was engaged in the business o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 0/- during the relevant accounting year as non-compete fees to Mr. Vijay Kalyan Jha and Mr. Sujit. The stipulation was that they should not enter into a business similar to the assessee s business up to 31.12.2005. The Assessing Officer was of the view that the amount represented capital expenditure and accordingly called upon the assessee to justify the claim. It was explained by the assessee that the amount represented proportionate amount for 9 months during the relevant previous year which ended on 31.3.2004 and that it was paid under an agreement with the two persons. A copy of the agreement was also filed with the Assessing Officer. It was claimed that the non-compete fee was paid in respect of a very short period of non-competition and therefore the assessee cannot be said to have derived any enduring advantage. It was thus claimed that the payment represented revenue expenditure. 45. These submissions did not find favour with the Assessing Officer. He perused the agreement and found that Mr. Vijay Kalyan Jha and Mr. Sujit were to be paid a sum of ₹ 15 lakhs over a period from 1.3.2003 to 30.11.2003 and that out of the total amount, 60% amounting to ₹ 9 lakhs ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssee sought to eliminate competition from Mr. Vijay Kalyan Jha and Mr. Sujit was only 12 months which was too short a period to be considered as conferring an enduring benefit to the assessee. Second, the Tribunal relied on the fact that the non-compete fee was to be paid to the above persons in equal installments over a period of time. In the case of Mr. Vijay Kalyan Jha, the payment of ₹ 3,20,000/- was to paid in 10 equal monthly installments of ₹ 32,000/- each from 1.3.2004 to 1.12.2004. In the case of Mr. Sujit, the payment was ₹ 2,02,500/- which was to be paidin 5 equal monthly installments of ₹ 42,500/- each from 1.6.2004 to 1.10.2004. 48. These reasons given by the Tribunal, though may appear to be too brief, are however germane to the conclusion that there was no enduring advantage received by the assessee by making the payment of non-compete fees. It is necessary to keep the nature of the assessee s business in mind before judging the allowability by the payment. The assessee is engaged in the business of running learning centres for preparing/coaching students to face competitive examinations held by IIM, IIT, Institute of Information Technology ..... X X X X Extracts X X X X X X X X Extracts X X X X
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