TMI Blog1967 (4) TMI 203X X X X Extracts X X X X X X X X Extracts X X X X ..... essments or the loss. The relevant facts found by the commissioners were summarised in the judgment of Cross J. as follows : In 1941, Mr. Whinfield and Dr. Dickson, two research chemists employed by Calico Printers' Association Ltd. (C. P. A.), invented a method of producing terylene polymers and of so manufacturing them that they could be drawn cold to yield fibres of great strength and pliability, a high melting point and a low degree of solubility in powerful solvents. C. P. A. took out a number of patents in respect of this invention, both in the United Kingdom and in many overseas countries, but it was too small a company to undertake the development of the invention on a commercial scale. Towards the end of the war, it was suggested that I. C. I. might be prepared to develop it, and after prolonged negotiations an agreement was entered into between the two companies on November 17, 1947, under which C. P. A., in return for royalties, granted I. C. I. for 20 years or the duration of the patents, whichever should be longer, an exclusive licence to exploit the rights of C. P. A. under its patents throughout the world, except in the United States of America, where C. P. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and. Heads of agreement were entered into between I. C. I. and these five companies in 1953 and 1954, and formal agreements implementing the heads were executed at various dates in 1956. There were a number of minor differences between these agreements which were referred to in detail in the case, but neither side sought to draw any distinction between them on the basis of those differences and Cross J. proposed to neglect them and to set out the relevant parts of one agreement as representative of all. For this purpose, he would take that between I. C. I. and A. K. U., executed on April 14, 1956. The relevant parts of that document were as follows : ARTICLE I (A). The ' Agreement Products ' referred to in this agreement are : (i) flat singles continuous filament yarns, thrown singles continuous filament yarns, tows, staple fibres and tops made of highly polymeric polymethylene terephthalates,, the filaments or fibres of which have when in the drawn condition a greatest cross-sectional diameter not exceeding 2.0 mm.; (ii) monofils made of highly polymeric polymethylene terephthalates which have when in the drawn condition a greatest cross-sectional diameter not ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e products of the manufacturing and user licence fields subject, however, to the provisions of clauses 2 and 3 of this article; and (ii) in Austria, Brazil, Czechoslovakia, Hungary, Mexico, Poland and Spain, non-exclusive rights . . . . ARTICLE III Royalties for sub-licences and licences granted under the C. P. A. and I. C. I. patent rights. 1. The consideration for the sub-licences granted under the C. P. A. patent rights will be a royalty payable as long as The Netherlands Patent Number 60,828 is in force by the licensee to I. C. I. in sterling in London on the net invoice value of all agreement products sold or utilised by the licensee or any authorised sub-licensee or imported under any sublicence granted by the licensee to any third party at the following rates. (i) On the first 10,000,000 lb. of agreement products sold, utilised or imported in any agreement year, 5+ per cent. (iii) On all agreement products sold, utilised or imported in such year in excess of 10,000,000 lb., 3 per cent . . . . ARTICLE IX Technical assistance. 1. For the purpose of enabling the licensee to design, erect, and operate a plant in The Netherlands and/or Belgium for the manufact ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arns and the conversion of tows into staple fibres or tops and the conversion of staple fibres into tops. ARTICLE X Sale of manufacturing and selling rights. 1. For the consideration mentioned below I. C. I. hereby covenants for itself and C. P. A. that during the period from February 2, 1954, until December 31, 1966, neither I. C. I. nor C. P. A. will themselves or either of them manufacture or sell nor aid any third party to manufacture or sell agreement products in The Netherlands, Belgium or Luxembourg except for use in the manufacture of films. I. C. I. hereby further covenants with the licensee that it is fully authorised and entitled on behalf of C. P. A. to enter into the foregoing covenant on behalf of C. P. A. 2. In consideration for the above covenants by I. C. I. the licensee will pay to I. C. I. in sterling in London a net capital sum of ₹ 400,000. The said capital sum of ₹ 400,000 shall be payable in six equal instalments each of ₹ 66,666 13s. 4d., the first such instalment being due and payable on February 2, 1954, and the remaining five instalments being due and payable on January 1, in each of the five subsequent years, provided that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... k that it would impart to those companies certain technical information and would not, during the period from the date of the agreement until December 31, 1970, either manufacture in Japan or, subject to certain qualifications, sell in that country any agreement products. The date of the expiry of the relevant Japanese patents is September 15, 1968. In the Japanese agreement, the undertaking regarding technical information and that regarding abstention from manufacture and sale appeared in one article (Article IX, the heading of which was Technical Assistance ). Article X (which was headed Capital payment ) ran as follows : The licensees will pay to I. C. I. in sterling in London such a capital sum as after the deduction of Japanese tax will amount to one million thirty-five thousand pounds (Rs. 1,035,000). The said capital sum shall be payable in five equal instalments each of two hundred and seven thousand pounds (Rs. 207,000), the first of such instalments being due and payable within thirty days after the effective date of this agreement and the remaining four instalments being due and payable at intervals of six months thereafter. As regards each of the said instalments ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s in computing I. C. I. 's trading profits. The commissioners held that the decision in Margarison v. Tyresoles Ltd. [1942] 25 Tax Cas. 59 applied to the sums payable under the covenants and that they were capital receipts. The parties having agreed the figures on the basis of the commissioners ' decision in principle, the commissioners allowed the appeal and claim, adjusting the assessments appealed against as follows : 1958-59, assessment increased to ₹ 2,350,899 (agreed capital allowances ₹ 2,350,899); 1960-61 assessment increased to ₹ 4,917,316 (agreed capital allowances ₹ 4,106,341), and allowing relief from income tax under section 341 for the year 1955-56 in the sum of ₹ 1,157,488 7s. (tax). On appeal by the Crown, Cross J. held that I. C. I. 's rights in the patents were part of its fixed capital, that the agreements involved the disposition of substantially the whole interest of I. C. I. in the patents in the various countries supported by keep-out covenants, and that the part paid in the form of capital attributed to the keep-out covenants was capital for tax purposes. The Crown appealed. W. A. Bagnall Q. C. and J. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... far from exploiting the existing business in Burma, the company was bringing it to an end. In Inland Revenue Commissioners v. British Salmson Aero Engines Ltd ([1938] 2 K. B. 482; 54 T. L. R. 904; [1938] 3 All E. R. 283; 22 Tax Cas. 29; [1939] 7 I.T.R. 245, C. A.). no one looked at the real question, namely : What was the nature of the receipt in the hands of the French company ? [RUSSELL L. J. They must have assumed that the other side of the picture was the same; the French company were the manufacturers.] The case does not preclude the court from finding for the Crown. It does not decide that such a payment must be capital, it only rejects the argument that under the circumstances of that case it must be income. Margerison v. Tyresoles Ltd. ([1942] 25 Tax Cas. 59) was in reality a case of a sole agency agreement or in the nature of a premium for an agreement to share gross receipts; it is quite different from a sale of goodwill. Wrottesley J. did not decide that any case of a lump sum for a keep-out covenant must be capital; such a covenant takes its character from the circumstances. [Reference was made to Nethersole v. Withers ([1948] 64 T. L. R. 157; [1948] 1 All ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an capital. [Reference was made to Inland Revenue Commissioners v. British Salmson Aero Engines Ltd. [1938] 2 K. B. 482; [1939] 7 I.T.R. 245, and Margerison v. Tyresoles Ltd. 25 Tax Cas. 59] To discover the consideration for the lump sum it is necessary to look first at the agreement. Only if it is spurious is it proper to look behind it : see per Upjohn J. in Evans Medical Supplies Ltd. v. Moriarty [1956] 1 W. L. R. 794, 800, 805; [1957] 31 I.T.R. 466. It is argued that the lump sums were only a part of the total consideration for the grant of exclusive licences, the exclusivity being somewhat enlarged. But the rights enjoyed by I. C. I. as patentee and licensee were fixed capital assets. If I. C. I. had been paid completely in the form of a lump sum for the effective transfer that would have been capital. It is the same if part is a lump sum. Take the example of a lease. If I. C. I. had to pay a lump sum for the right to produce in Russia that would not be a revenue payment, the present case is the correlative. The European companies were sufficiently impressed by the chance of I. C. I. competition to insist on the covenants. Commercial reality governed the apportionment of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the company an exclusive licence to use the major patents (owned by C. P. A.) in return for a royalty based on the net invoice value of the Terylene products sold or utilised. (2) I. C. I. granted an exclusive licence to use the ancillary patents (owned by I. C. I.) in return for a royalty of ₹ 10,000 a year for 10 years. (3) I. C. I. agreed to provide know-how. No separate consideration was stated for know-how because I. C. I. expected to get their return by way of the royalties coming in sooner. (4) I. C. I. agreed to keep-out of the Netherlands, Belgium, and, in addition, Luxembourg, and not to operate there in the patented article Terylene or in products similar to Terylene for the period of the patent and a little longer. In return for this keep-out covenant, the licensee agreed to pay the sum, described as a capital sum, of ₹ 400,000 payable by six equal annual instalments, but the licensee had the option of discharging the annual instalments by one payment. The terms for the Japanese company were similar, except that the know-how and keep-out covenants were combined in return for a capital sum of ₹ 103,500. This was attributed by the commi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be for the keep-out covenant. Now I. C. I. are not dealers in patent rights or patent licences. When they granted this exclusive licence, they were to my mind disposing of a capital asset. If this had been an assignment of patent rights, there could be no doubt that I. C. I. would be disposing of a capital asset. I see no difference in this regard between an assignment of patent rights and the grant of an exclusive licence for the period of the patent. It is the disposal of a capital asset. But this does not determine the quality of the money received. A man may dispose of a capital asset outright for a lump sum, which is then a capital receipt. Or he may dispose of it in return for an annuity, in which case the annual payments are revenue receipts. Or he may dispose of it in part for one and in part for the other. Each case must depend on its own circumstances. But it seems to me fairly clear that if, and in so far as, a man disposes of patent rights outright (for example, by an assignment of his patent, or by the grant of an exclusive licence) and receives in return royalties calculated by reference to the actual user, the royalties are clearly revenue receipts. If, and in s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the licence. Even if the licensees were not to use the patents at all, this sum would still be payable; (3) that it is agreed to be a capital sum payable by instalments; and not as an annuity or a series of annual payments. In these circumstances I am quite satisfied that the lump sum was a capital receipt and I. C. I. are not taxable upon it. I find myself in entire agreement with the judgment of Cross J. and I would dismiss the appeal. DAVIES L. J. I agree. A clear statement of the law on this matter is to be found in a passage in Lord Greene M. R.'s judgment in the Nethersole case 28 T. C. 501, 512, to which my Lord has referred. It may be convenient perhaps to quote that passage. The Master of the Rolls, having referred to the British Salmson case [1938] 2 K. B. 482; [1939] 7 I.T.R. 245 proceeded in these terms : This decision is a clear authority, so far as this court is concerned, that a lump-sum payment received for the grant of a patent licence for a term of years may be a capital and not a revenue receipt; whether or not it is so must depend on any particular facts, which, in the particular case, may throw light upon its real character, including, of cou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ' keep-out ' covenants. I do not see why that part should not be capital for tax purposes. I agree with that. Mr. Bagnall conceded throughout this case for the Crown, as I understood his submission, that if the transaction in the present case had taken the form of an out-and-out assignment by I. C. I. of their patent to the Dutch company, the Japanese company, or various other companies, whether for a lump sum, payable by instalments or not, that would be a capital receipt. It seems to me that the present transaction is in substance the same as that. This was a sub-licence of the patent for the whole of the life of the patent. That seems to me to be precisely the same as the sort of transaction which the Crown conceded would result in a capital receipt and not a revenue receipt. I therefore agree that the judgment of Cross J. was correct in every respect, and I would dismiss the appeal. RUSSELL L. J. Without doubt the exclusive licences under the C. P. A. patents, and the allied but subsidiary I. C. I. patents, were fixed capital assets of I. C. I. They were in fact the foundation of the Fibre Division. The Crown admits that if, to take the agreement with A. K ..... X X X X Extracts X X X X X X X X Extracts X X X X
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