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2015 (9) TMI 1186 - MADRAS HIGH COURT

2015 (9) TMI 1186 - MADRAS HIGH COURT - [2015] 378 ITR 330 - Print distribution and the subsequent compensation paid due to the loss incurred by the theater owners in exhibiting the films "Kuselan" and "Kathanayakudu" by the assessee/appellant - revenue v/s capital expenditure - whether the payment made by the assessee to PSEL, by way of compensation as goodwill gesture to maintain its goodwill, should be treated as revenue or capital in nature? - Held that:- The Tribunal holds that payments mad .....

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ss, made voluntarily and it is a commercial expediency. This finding of the Tribunal, on the face of it, appears to be in support of the assessee that because of commercial expediency, to stay afloat in business, the said amount was paid.

The above findings of the Tribunal clearly depicts the dual stand taken by the Tribunal in its order and a paradox. The Tribunal has taken divergent views, one by holding that the expenditure is capital in nature, supporting the department and, on th .....

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mercial expediency to stay afloat in the business.

The finding of the Tribunal ought not to be mutually destructive, one that supports the view of the Department and the other leaning on the view of the assessee. We, therefore, hold that on facts the Tribunal should be called upon to address the issue as to whether the payment made by the assessee, as goodwill, is capital in nature or is it a payment made for the purpose of staying afloat in business as a measure of commercial expedie .....

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- R. Sudhakar And K. B. K. Vasuki, JJ. For the Petitioner : Mr. Suhrith Parthasarathy For the Respondent : Mr. M Swaminathan, assisted by Mr. K Sureshkumar & Ms. V Pushpa JUDGMENT ( Delivered By R. Sudhakar, J.) Aggrieved by the order of the Tribunal in allowing the appeal filed by the Revenue, the assessee is before this Court by filing the present appeal raising the following questions of law :- "i) Whether the Income Tax Appellate Tribunal has erred in considering the payments made b .....

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concluding that the payments made to M/s.Pyramid Saimira Entertainment Ltd., under the Settlement Agreement dated 13.09.2008 is tantamount to a purchase of goodwill? iv) Whether the Income Tax Appellate Tribunal has erred in failing to follow the decisions of this Hon'ble Court in Amarjothi Pictures - CIT (69 ITR 75), CIT - Vs - Gobald Motor Services (100 ITR 240) and CIT - Vs - Associated Electrical Agencies (266 ITR 63)? v) Whether the Income Tax Appellate Tribunal has erred in questionin .....

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by the theater owners in exhibiting the films "Kuselan" and "Kathanayakudu" by the assessee/appellant. 3. The appellant is engaged in the business of production and distribution of movies/feature films. For the assessment year 2009-2010, the appellant filed its return of income on 30.09.2009 admitting a total income of ₹ 1,40,59,210/-, which was processed under Section 143 (1) of the Income Tax Act (for short 'the Act'). On 24.3.2011, the appellant filed a revi .....

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r short 'KPPL') and M/s.Vyjayanthi Movie (for short 'VM') respectively. While the movie 'Kuselan' was sold to KPPL for a sum of ₹ 25.5 Crores, 'Kathanayakudu' was sold to VM for a sum of ₹ 14.5 Crores. The sale, insofar as both the movies, included theatrical rights, audio rights, satellite rights and non-theatrical rights. Both KPPL and VM, in turn, sold their respective rights to one M/s.Pyramid Saimira Entertainment Ltd., (for short 'PSEL') .....

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to arrive at an amicable settlement. Further to the same, an agreement was reached by all the parties, viz., producer, buyers, the actor, Mr.Rajinikanth and the director of the film, Mr.P.Vasu that each one of them would bring forth a specific amount to be paid as compensation. Accordingly, the appellant entered into a settlement agreement dated 13.09.2008 with PSEL to whom KPPL had sold the entire rights over the Tamil film 'Kuselan' and VM had sold the rights of the Telugu Film 'Ka .....

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as paid towards refund to compensate the distributors through PSEL for losses incurred by them from the theatrical release of the two films in Tamil Nadu, Andhra Pradesh and Karnataka. 6. In addition to the above, in the course of argument, it has been pointed out by the learned counsel for the Revenue and accepted by the learned counsel for the assessee that VM has also made certain payment to PSEL, vide agreement dated 8.9.08 in a sum of ₹ 75 Lakhs as a goodwill gesture citing commercial .....

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e as goodwill gesture to save its business and it is a commercial expediency. However, the said explanation was was rejected by the Assessing Officer, who disallowed the said amount, vide adjudication order dated 22.12.2011. 8. Aggrieved by the said adjudication order, the assessee preferred appeal before the CIT (Appeals), who held in favour of the assessee stating that it is a case of sales-return invoking Section 9 of the Sale of Goods Act. It was further held by the CIT (Appeals) that the am .....

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r, the seller has and has been always willing to reduce the price to keep himself secured in the business and to keep the good customer at his door step. In this case, even though the agreement dated 25.4.2008 the PSEL has agreed to a sale consideration of ₹ 30 Crores for the Kuselan Tamil Film, and 7 Crores for Kathanayakudu Talugu film, since both the films have not done well at the box offices, both the sellers i.e., the assessee company and Mr.C.Aswini Dutt along with producer SAF, Mr. .....

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sum of ₹ 150 lacs. As per Accounting Standard 9 what is received on the recognition of a sale has to be taken as revenue. In this case, the assessee even though has received ₹ 40 Crores based on the agreement dated 25.4.2008 but out of the same, ₹ 150 lakhs has been returned to PSEL as his share, by virtue of the subsequent unfolding of events and subsequent agreement dated 17-9-2008. Hence it is not correct to say that ₹ 150 lakhs is a payment of goodwill. As rightly ar .....

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me whereas a goodwill is a crystallised item, price paid in excess of assets over liabilities. Hence a payment made as a goodwill gesture cannot be equated with goodwill, the former is a revenue item and the latter is a capital item as per the accounting methods and the Income Tax Act. Since the payment made of ₹ 150 lakhs on the commercial failure of the film is only to compensate the buyer PSEL and also to protect the reputation of the producer - appellant, the same cannot be held as a & .....

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and VM under agreement dated 16.2.08. Before the Tribunal, the contention of the assessee was that both the movies did not do will in the theaters and the exhibitors suffered huge losses due to lack of collection from the theaters. Therefore, on the basis of mutual discussions between the assessee, distributors, viz., KPPL and VM and the ultimate distributor, PSEL, it appears a series of agreements were signed, which we have referred to above, and on the part of the appellant, a sum of ₹ 1 .....

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l liability. Accordingly, the Tribunal came to hold that the payment was made either voluntarily or out of pressure from market forces, but certainly not due to business obligation. It also held that the assessee made payment in the form of compensation to stay afloat in the business. The Tribunal, looking into the various decisions of the High Court further held that the assessee has not been able to show that the payments were actually received by the persons, who suffered the losses and, ther .....

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tablish the fact that there was a clear statement in the agreement that those two films have flopped in the box office and PSEL was under compulsion from the theater owners to pay up certain amount and, therefore, based on the discussions between the assessee, the distributors, viz., KPPL and VM and the ultimate distributor, PSEL, the present agreement was signed. For better clarity, the relevant portion of the agreement is extracted hereunder:- "WHEREAS the party of the First Part represen .....

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es vide an agreement dated 16/02/2008. WHEREAS the above said M/s.Kavithalayaa Productions Pvt. Ltd. and M/s.Vyjayanthi Movies have subsequently sold their respective rights to M/s.Pyramid Saimira Entertainment Ltd., vide agreements dated 25/04/2008 and 10th May, 2008 respectively and these sale agreements were confirmed by the party of the second part as the producers. Pursuant to the said agreement, the amount of consideration as agreed to between the parties had been duly paid by the respecti .....

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akhs only) to the second party to settle the issues." 11. It is further submitted by the learned counsel for the assessee that the Tribunal failed to adhere to the well settled proposition of law that what constitutes a revenue expenditure ought to be determined in line with the trade of the assessee. To buttress this argument, reliance was placed on the decision in the case of CIT - Vs - Dhanrajgiriji Raja Narasingirji (91 ITR 544 (SC)). Reliance was also placed on the decisions of this Co .....

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ounsel for the assessee that there is a direct nexus between the payments made by the appellant under the Settlement Agreement to PSEL and the said amounts were paid purely in the ordinary course of business. To drive home this point, learned counsel placed reliance on the decision of this Court in CIT - Vs - Gobald Motor Services P. Ltd. (100 ITR 240 (Mad)). 13. It is further contended by the learned counsel for the assessee that the payment in this case was made pursuant to the Settlement Agre .....

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, it would be open to such an assessee to do so, notwithstanding the fact that a formal deed does not precede the incurring of such expenditure. It has also been held in the said decision that payments made in commercial exigency need not necessarily arise out of contractual obligations. 14. It is the further stand of the assessee that at no point of time the genuineness of the payment made to PSEL has been questioned by the Revenue. A finding in this regard is also found in the order of the Tri .....

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ing the course of business for the purposes of removal of any restriction or obstruction or disability would be on revenue account, provided it does not result in the acquisition of a capital asset. Reliance was placed on the decision of the Supreme Court in the case of Bikaner Gypsums Ltd. - Vs - CIT (187 ITR 39). Learned counsel vehemently urged the Court to take into consideration the above submissions, and submitted that for the reasons afore-mentioned, the order of the Tribunal is liable to .....

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e theater owners. There was no legal obligation on the part of the assessee to make the payment to PSEL. Learned counsel tried to justify the stand of the Department that the expenditure claimed is not revenue in nature, but is capital in nature. Therefore, it was vehemently urged that the order of the Tribunal warrants no interference in the facts and circumstances of the case. 17. Heard the learned counsel appearing for the appellant/assessee and the learned standing counsel appearing for the .....

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not been admitted in accordance with law. Nevertheless, we would like to discuss the issue on the legal plea raised by the learned counsel on either side in the following manner. 19. The primary plea raised by the learned counsel for the appellant is on the premise that due to failure of those two movies in the box office, there was great pressure from the theater owners and distributors, which fact is not dispute, the assessee, in order to sustain its goodwill in the market, as a goodwill gestu .....

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of business expediency and to buttress this argument he relied on the following decisions :- 1) AIR 1966 SC 1053 :: 1966 (60) ITR 52 (SC) 2) AIR 1967 SC 453 :: 1966 (62) ITR 638 (SC) 3) AIR 1982 SC 757 :: 1982 (133) ITR 756 (SC) 4) 2004 (266) ITR 170 (Mad.); 5) 2004 (266) ITR 63 (Mad.) ; 6) 2007 (288) ITR 1 (SC) 20. Before proceeding to analyse the merits of the case threadbare to decide the nature of the expenditure made by the appellant, it would be expedient to refer to the decisions relied .....

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ppellant could not claim the same as deduction under Section 10 (2). However, on appeal, the Supreme Court observed that loan is not an asset or advantage of enduring benefit and that the expenditure is incurred wholly and exclusively for the purpose of business and, therefore, the said expenditure should be regarded as revenue expenditure for the purpose of deduction under Section 10 (2). The Supreme Court specifically dealt with the expression 'for the purpose of the business' and in t .....

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the day-to-day running of a business but also the rationalisation of its administration and modernization of its machinery; it may include measures for the preservation of the business and for the protection of its assets and property from expropriation, coercive process or assertion of hostile title; it may also comprehend payment of statutory dues and taxes imposed as a precondition to commence or for carrying on of a business: it may comprehend many other acts incidental to the carrying on o .....

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he amount paid by way of compensation. The Supreme Court, in the said case, held that the compensation given by the bank to the borrower is for the purpose of maintaining its goodwill and the same was laid out for the purpose of business within the meaning of Section 10 (2) (xv) of the Act. For better appreciation, the relevant portion is extracted hereinbelow :- "7. It was urged by the Commissioner that the bank was under no legal liability to pay to the constituents the value of the jewel .....

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s it would have taken if it belonged to it, the bank could enforce its rights and recover the full amount due from the constituents, the question still remains whether in admitting liability for the value of the jewellery pledged, the bank laid out expenditure for the purpose of the business. The question is not about the strict enforcement of the legal rights and obligations between the bank and its constituents. The sole question is whether the bank in incurring the expenditure acted in the in .....

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on its legal obligations, and could have recovered the amounts due by the constituents at the same time denying liability to make any compensation for the loss of jewellery pledged with it. But such a stand might very well have ruined its business, especially in the rural areas in which it operated. The bank had evidently two courses open: to enforce its rights strictly according to law, and thereby to lose the goodwill it had built up among the constituents, or to compensate the constituents fo .....

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e hold accordingly that the settlements with the constituents and the consequent posting of entries in the books of account cannot be regarded as forbearance to enforce the claim of the bank to recover the loans advanced. The settlement consisted of two constituent elements-paying by the bank of the value of the jewellery pledged with it against receipt from the constituent the amount which was recoverable by the bank. The first element of the transaction would appropriately be deemed expenditur .....

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[1926] AC 205 ; [1925] 10 TC 155, 193 (HL), Lord Cave observed : "It was made clear in the above cited cases of Usher's Wiltshire Brewery v. Bruce [1915] AC 433 (HL) and Smith v. Incorporate d Council of Law Reporting for England and Wales [1914] 3 KB 674 (KB), that a sum of money expended, not of necessity and with a view to a direct and immediate benefit to the trade, but voluntarily and on the grounds of commercial expediency, and in order indirectly to facilitate the carrying on of .....

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er to enable the directors to carry on the business of the company as they had done in the past unfettered by the presence of the retiring director, which might have had a bad effect on the credit of the company, it must be treated as revenue and not as capital expenditure and was deductible as such for income-tax purposes. 8. The true test of an expenditure laid out wholly and exclusively for the purposes of trade or business is that it is incurred by the assessee as incidental to his trade for .....

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ake in not only the day to day running of a business but also the rationalization of its administration and modernization of its machinery; it may include measures for the preservation of the business and for the protection of its assets and property from expropriation, coercive process or assertion of hostile title ; it may also comprehend payment of statutory dues and taxes imposed as a pre-condition to commence or for carrying on of a business; it may comprehend many other acts incidental to .....

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ch was an income earning apparatus and for retaining it with the reconstituted firm in which the interest of the assessee was the same as before. It was likely that but for the expenditure, the fair name of the assessee would have been tarnished or rendered suspicious and the managing agency would have been terminated. The expenditure incurred on the preservation of a profit earning asset of a business has always been held to be a deductible expenditure by courts. In the circumstances, it is dif .....

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had incurred expenditure, which expenditure was not for the purpose of earning the income and, therefore, the said expenditure was disallowed. On appeal, this Court held that the monies spent for the purpose of earning the goodwill cannot be considered as being wholly outside the ambit of business concern, as the business can succeed in a greater measure with the aid of such goodwill. In the said context, this Court held as under :- "5. The concept of business is not static. It has evolved .....

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also for establishing or improving the school meant for the residents of the locality in which the business is situated cannot be regarded as being wholly outside the ambit of the business concerns of the assessee, especially where the undertaking owned by the assessee is one which is to some extent a polluting industry." 25. In Commissioner of Income Tax - Vs - Associated Electrical Agencies & Anr. (2004 (266) ITR 63 (Mad.), while dealing with an expense shared by the assessee under a .....

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se of the assessee's business it was necessary to find out as to whether the assessees were acting reasonably in the interest of their own business. The Tribunal accepted the assessees' case that they were indeed acting in the interest of the business, as their business was primarily that of acting as agents for the sale of the products manufactured by the company, and by agreeing to share any sum of the expenditure which was necessary for the company to incur for promoting the products .....

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hat there had been no disallowance of expenditure by the Assessing Officer. The Tribunal concluded with the finding that the expenses as claimed by the assessees were allowable as they were incurred indirectly to facilitate the carrying on of the business or to preserve their existing source of income with a view to safeguarding the business and also increasing their profits in future. * * * * * * * * * 15. The reasons given by the Tribunal, for taking the view that it did, cannot be said to be .....

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there was also no legal bar to their agreeing to pay a higher price for supplies already received if they felt that it was in their long term interest to pay such a higher price. It was also open to them to agree to bear a part of the advertising and marketing costs as those costs were incurred with a view to enlarge the market and to improve the sales. Sales effected of the company's product resulted in benefits to the assessees as they were the selling agents for the company. * * * * * * * .....

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make payments solely on the basis of that letter of March 20, 1992, once the assessees accepted and acted in accordance with what was set out in that letter, the assessees cannot be faulted for having agreed to something which had been set out as a record of a prior agreement, in a letter written to them by the company." 26. In S.A. Builders Ltd. - Vs - CIT (Appeals) & Anr. (2007 (288) ITR 1 (SC), the Supreme Court had occasion to consider a case where the assessee borrowed certain amou .....

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IT - Vs - Malayalam Plantations Ltd. (1964 (53) ITR 140 (SC)), CIT - Vs - Birla Cotton Spinning & Weaving Mills Ltd. (1971 (82) ITR 166 (SC)). The terms "commercial expediency" and "for the purpose of business" were considered in-depth and the Supreme Court came to hold that if the assessee was able to prove that there was a case of commercial expediency, it did not matter whether the expenditure has been incurred for any legal obligation or contractual obligation. If the .....

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a claim for deduction. That principle has been approved by the Supreme Court in the case of Eastern Investments Ltd. - Vs - CIT (1951 (20) ITR 1) and Chandulal Keshavlal & Co. (1960 (38) ITR 601). For better clarity, the said portion is quoted hereunder :- "21. In Madhav Prasad Jatia v. CIT [1979] 118 ITR 200 (SC) ; AIR 1979 SC 1291 this court held that the expression " for the purpose of business" occurring under the provision is wider in scope than the expression " for .....

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measure of commercial expediency. 23. In our opinion, the decisions relating to section 37 of the Act will also be applicable to section 36(1)(iii) because in section 37 also the expression used is "for the purpose of business". It has been consistently held in the decisions relating to section 37 that the expression "for the purpose of business" includes expenditure voluntarily incurred for commercial expediency, and it is immaterial if a third party also benefits thereby. .....

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by this court in several decisions, e.g., Eastern Investments Ltd. v. CIT [1951] 20 ITR 1, CIT v. Chandulal Keshavlal and Co. [1960] 38 ITR 601, etc. 25. In our opinion, the High Court as well as the Tribunal and other Income-tax authorities should have approached the question of allowability of interest on the borrowed funds from the above angle. In other words, the High Court and other authorities should have enquired as to whether the interest free loan was given to the sister company (which .....

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Prasad Jatia v. CIT [1979] 118 ITR 200 (SC), if the borrowed amount was donated for some sentimental or personal reasons and not on the ground of commercial expediency, the interest thereon could not have been allowed under section 36(1)(iii) of the Act. In Madhav Prasad' s case [1979] 118 ITR 200 (SC), the borrowed amount was donated to a college with a view to commemorate the memory of the assessee' s deceased husband after whom the college was to be named. It was held by this court t .....

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to the sister concern was by way of commercial expediency. 30. It has been repeatedly held by this court that the expression "for the purpose of business" is wider in scope than the expression "for the purpose of earning profits" vide CIT v. Malayalam Plantations Ltd. [1964] 53 ITR 140 (SC), CIT v. Birla Cotton Spinning and Weaving Mills Ltd. [1971] 82 ITR 166 (SC), etc." (Emphasis supplied) 27. On the abovesaid reasoning, the Supreme Court in S.A. Builders case (supra) .....

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en referred to a Larger Bench in 21 Taxmann.com 97 (Addl. Commissioner of Income Tax - Vs - Tulip Star Hotels Ltd. - T.C. Nos.7138 to 7140/2012). However, this Court finds that the reference of the S.A. Builders case (supra) to the Larger Bench does not in any way affect the facts in issue as the core issue that arises in the S.A. Builders case (supra) for reconsideration is "Whether the assessee in S.A. Builders case has proved commercial expediency in relation to the amounts lent to the s .....

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payment to PSEL as there is no privity of contract. This Court would have accepted the contention of the Revenue had there been little clarity in the order of the Tribunal. But we are afraid that the reasoning given by the Tribunal at paras 7 and 8 of its order appears to be mutually contradictory. For better clarity, the relevant paragraphs are quoted hereinbelow:- "7. As regard the nature of payment is concerned, the assessee has tried to explain that the payment is in the nature of good .....

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been able to show from the agreements dated February 16, 2008 or supplementary agreement dated July 28, 2008 that the said payment is made in accordance with the covenants of agreement. A perusal of records, as well as the assessee's own admission make it absolutely clear that the payment was not made to discharge any legal liability. The payment was made either voluntarily or out of pressure from the market forces but it was certainly not out of business obligation. The assessee made the p .....

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ft to the judgment of the assessee concerned. The Revenue has to confine itself only to decide the reality of expenditure. In the case of CIT v. Associated Electrical Agencies [2004] 266 ITR 63 (Mad), the Hon'ble court has held that commercial expediency need not necessarily have its origin in contractual obligations. We find that the judgments on which the assessee has placed reliance does not support the case of the assessee. The facts in the present case are distinguishable. The assessee .....

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capital in nature and, therefore, cannot be allowed under Section 37 of the Act. However, on the other hand, the Tribunal holds that the assessee had made the payment in the form of compensation to stay afloat in the business. This would satisfy the contention of the assessee that the payment was made for the purpose of staying afloat in the business, made voluntarily and it is a commercial expediency. This finding of the Tribunal, on the face of it, appears to be in support of the assessee that .....

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