TMI Blog2018 (3) TMI 311X X X X Extracts X X X X X X X X Extracts X X X X ..... inding the Tribunal held that it is the appellant who pioneered the Time Release Technology and promoted the company. This by itself would show that the technical know-how constituted a part of the capital. As observed hereinbefore, unless any specific material existed showing that the appellant has once and for all transferred the technical know-how in favour of the company and that there was no possibility for him to use the same in future without the permission of the company, it would be highly presumptuous for the Tribunal to hold that the appellant had no right to use the technology. Though a vague finding was rendered that the amount which was otherwise receivable by the company was diverted by the appellant, the same was not substantiated by the Tribunal. This finding, in our opinion, is based on a mere surmise or conjecture in the absence of a finding that the two agreements entered with RLL and SPIL are sham and nominal. - Decided in favour of assessee - I.T.T.A. Nos.159 and 160 of 2005 - - - Dated:- 5-1-2018 - SRI C. V. NAGARJUNA REDDY AND SRI T. AMARNATH GOUD, JJ. For The Appellant : Mr. K. Vasant Kumar For The Respondent : Ms. K. Mamata COMMON JUDGME ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceuticals Industries Limited (hereinafter referred to as SPIL ) under the head income from other sources treating the same as revenue receipt and subjecting the same to tax. As regards the Natco Pharma, the Assessing Officer (AO) has treated the amount received towards non-competition fee during the assessment year 1998- 99 under the head capital gain . 3. The appellant as well as the company filed separate appeals before the Commissioner of Income Tax (Appeals), who dismissed the same confirming the orders of the AO. Aggrieved by those orders, the assessee has filed two appeals ITA Nos.642 and 782/Hyd/2002 for the assessment year 1998- 99 and 1999-2000 respectively, and the company filed ITA No.361/Hyd/2003, for the assessment year 1998-99. By a common order passed by the Tribunal, it has rejected the plea of the appellant that money received by him must be treated as capital receipt and accordingly confirmed the view of the AO as confirmed by the appellate authority. It has also rejected the alternative plea of the appellant that even if it is not a capital receipt, it cannot be taxed under Section 10(3) of the Act. As regards the Company, the Tribunal held that the amount ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed counsel for the appellant reframed the substantial questions of law in both the appeals by filing Memos dt.21.11.2017 which are taken on record. The reframed substantial questions of law in ITTA No.159 of 2005, which are similar in ITTA No.160 of 2005, read as under: 1. Whether on the facts and in the circumstances of the case, the decision of the Income Tax Appellate Tribunal is not perverse as it relied on a decision of Supreme Court which actually relate to provisions of Section 2(24)(ix) of the I.T.Act? 2. Whether on the facts and in the circumstances of the case, the decision of the Income Tax Appellate Tribunal is not perverse in having held a part of the receipt by the Company to be Capital receipt, holding the part received by the assessee to be revenue though both are based on the same agreement of Non Competition? 3. Whether on the facts and in the circumstances of the case, the decision of the Income Tax Appellate Tribunal is not perverse in having given a finding that the sum of ₹ 1,50,00,000 received actually is that of the Company Natco Pharma to hold the same as revenue receipt of the assessee? 4. Whether on the facts and in the circum ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d his wings to the specified territory to carry on business in his individual capacity with the technical knowhow, brand names etc., invested as a capital asset, the amount received by him cannot be treated as on account of sterilisation of the capital asset or that it impaired the profit making structure or apparatus. (iv) It is clearly evident from the two agreements entered with the RLL and the SPIL, both the company and the appellant have received the amounts due to threat perception of either of them establishing a similar industry or aiding and advising or passing on technical know-how to a third party to manufacture specified drugs and the same is covered by the agreements over which rights in all respects were in favour of the said two companies and that the appellant is also deserves to be treated on par with the company for treating the income as capital receipt. (v) The Tribunal erred in finding that the amount which was otherwise receivable by the company was diverted by the appellant and therefore it cannot be treated as capital receipt in the hands of the appellant and that even in case of such diversion this money at the hands of the appellant is not chargeable to ta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oose the agreement dt.20.06.1997 with RLL. This agreement was entered between NATCO GROUP and RLL . In the preamble of the agreement, the words NATCO GROUP was described as comprising V.C. Nannapaneni the appellant, his wife and two children and Natco Pharma Limited. It was recited in the agreement that the NATCO GROUP is carrying on and is in business of manufacturing, selling and distributing certain products as listed in Annexure-I to the agreement and that through separate agreements the NATCO GROUP has agreed to effectively transfer its business, trade marks, and goodwill attached to the Products in the Territory specified in the agreement and that as a pat of consideration for such transfer, it has been agreed that NATCO GROUP shall not carry on directly or indirectly the business hitherto in the Territory specified in the agreement. The agreement defined the word Products , as described in Annexure-I and the word Territory as Territory of Russia CIS countries, including Ukraine, Lithuania, Latvia, Estonia, Belarus, Moldova, Kazakhastan. Clauses 2 and 3 of the agreement which are very relevant for the present cases read as follows: 2. NATCO GROUP here ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... set up a similar industry or aid and advise or act as a consultant by using his knowledge and technical know-how for setting up an industry by a third party, the appellant has suffered as much capital loss as the Natco Pharma Company has suffered and that therefore the appellant cannot be treated differently from Natco Pharma. That further, the Tribunal has erred in assuming that in the absence of proof of existing income there cannot be capital loss, ignoring the position in law that even potential loss of future income also amounts to loss and any income derived towards the same must be treated as capital receipt. 10. Let us now consider the relevant case law on the aspect as to what constitutes a capital receipt in the context of a noncompetition agreement. In Vazir Sultan Sons (supra), the assessee was the sole selling agents and sole distributors for the Hyderabad State for the cigarettes manufactured by M/s. Vazir Sultan Tobacco Co., Ltd., under the terms of a resolution of the board of directors dt.06.01.1931. In 1939, a fresh arrangement was made between the assessee and the company whereby the former was given a discount of 2% not only on the goods sold in the Hy ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re only helpful in that they indicate the kind of consideration which may relevantly be borne in mind in approaching the problem. The character of the payment received may vary according to the circumstances. Thus the amount received as consideration for the sale of a plot of land may ordinarily be a capital receipt but if the business of the recipient is to buy and sell lands, it may well be his income. The Supreme Court referred to the Privy Council judgment in Commissioner of Income Tax v. Shaw Wallace Co. [1932] LR 59 IA 206 (PC) wherein it was held that income connotes a periodical monetary return coming in with some sort of regularity or expected regularity from definite sources which must be one whose object is the production of a definite return excluding anything in the nature of a mere windfall. The income was thus likened pictorially to the fruit of a tree or the crop of a field. However, in Raja Bahadur Kamakshya Narain Singh of Ramgarh v. Commissioner of Income Tax [1943] 11 ITR 513 (PC) a discordant note was struck by holding that a reference to the analogy of fruit or increase or sowing or reaping or periodical harvests cannot be used to limit the t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceipt, it would have to be considered whether the agency was in the nature of capital asset in the hands of the assessee, or whether it was only a part of his stock-in-trade. The following passage in Kelsall Parsons Co. v. Inland Revenue Commissioners [1938] 21 Tax Cas. 608 was quoted by the Supreme Court: But apart from these and similar instances it might, in general, be stated that payments made in settlement of rights under a trading contract are trading receipts and are assessable to revenue. But where a person who is carrying on business is prevented from doing so by an external authority in the exercise of a paramount power and is awarded compensation therefor, whether that receipt is a capital receipt or a revenue receipt will depend upon whether it is compensation for injury inflicted on a capital asset or on a stockin- trade. The decision in Glenboig Union Fireclay Co., Ltd. v. Commissioners of Inland Revenue {[1922] 12 Tax Cas. 427} applies to this category of cases. There, the assessee was carrying on business in the manufacture of fireclay goods and had, for the performance of that business, acquired a fireclay field on lease. The Caledonian Railway which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... territories. It really formed the profit-making apparatus of the assessee's business of distribution of the cigarettes manufactured by the company. If it was thus neither circulating capital nor stock-in-trade of the business carried on by the assesses it could certainly not be anything but a capital asset of its business and any payment made by the company as and by way of compensation for terminating or cancelling the same would only be a capital receipt in the hands of the assesses. It would not make the slightest difference for this purpose whether either one or both of the agency agreements were terminated or cancelled by the company. The position would be the same in either event. As was observed by Lord Wrenbury in the Glenboig Union Fireclay Co., Ltd. v. Commissioners of Inland Revenue; at page 465 : The matter may be regarded from another point of view; the right to work the area in which the working has to be abandoned was part of the capital asset consisting of the right to work the whole area demised. Had the abandonment extended to the whole area all subsequent profit by working would, of course, have been impossible but it would be impossible to con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ded as capital or as revenue. In the absence of a statutory rule, payment made by an employer in consideration of the employee releasing him from his obligation under a service or agency agreement or a payment made voluntarily as compensation for determination of right to office arises not out of employment, but from cessation of employment and may not generally constitute income chargeable under sections 10 and 12. ( emphasis is ours) The Court, referring to certain English cases, further held: These cases illustrate the principle that compensation for injury to trading operations, arising from breach of contract or in consequence of exercise of sovereign rights, is revenue. These cases must, however, be distinguished from another class of cases where compensation is paid as a solatium for loss of office. Such compensation may be regarded as capital or revenue : it would be regarded as capital, if it is for loss of an asset of enduring value to the assessee, but not where payment is received in settlement of loss in a trading transaction. ( emphasis is ours) The Court further held: On an analysis of these cases which fall on two sides of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elevant material is available to the income-tax authorities. The evidence of witnesses in charge of the business, the relevant accounts and balance-sheets of the assessee before and after the loss, other evidence disclosing the previous history of the total business and the relative importance of the agency lost and the present position of the business after the loss of the said agency have to be scrutinized by the department. Considering the restrictive covenant in the agreement between the parties in that case, the Supreme Court observed: The letter written by the assessee to the principal is not on the file. But it is clear from this letter that the restrictive covenant was one of the terms of the agreement relating to consideration. It was a part of the consideration that passed from the assessee for receiving the compensation. We cannot also agree with Mr. Viswanatha Sastri, who went to the other extreme and contended that the restrictive covenant was only an act of grace on the part of the agent and that it did not enter into the bargain. We, therefore, hold that the compensation agreed to be paid was not only in lieu of the giving up of the agency but also for t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .T. (1971) 80 ITR 167 (SC ) which in turn referred to the judgment in C.I.T. v. Chari Chari Ltd. (1965) 57 ITR 400 (SC) , wherein it was held that ordinarily compensation for loss of an office or agency is regarded as capital receipt, but this rule is subject to an exception that payment received even for termination of an agency agreement would be revenue and not capital in the case where the agency was one of many which the assessee held and its termination did not impair the profit-making structure of the assessee, but was within the framework of the business, it being a necessary incident of the business that existing agencies may be terminated and fresh agencies may be taken. Applying this ratio to the facts of that case, the Supreme Court held as under: Applying the aforesaid test laid down by this Court in the present case, in our view the Tribunal was right in arriving at a conclusion that it was a capital receipt. Reason is that as provided in art. XVIII of the first agreement assessee was having an option or right or lien, if owner desired to transfer the hotel or lease or part of the hotel to any other person, the same was required to be offered first to the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... carry on the rest of the business, the amount received must be regarded as revenue receipt and not capital receipt. 16. Now the stage is set to apply the settled legal position as referred to above to the facts of the present case. The two transferee companies entered into multiple agreements, in addition to non-competition agreements, namely, product registration cooperation agreement, technology transfer agreement and deed of assignment of un-registered trade marks only with the Natco Company excluding the assessee and his family members. In consideration of the product registration agreement, the transferee companies have paid separate consideration to the company. Similarly for technology transfer agreement and deed of assignment of un-registered trade marks also, separate consideration was paid to the company. However, only in case of non-competition agreement, the entire NATCO GROUP, comprising the company, the assessee and his wife and two children, entered into agreements with the two transferee companies. The terms of the agreement unequivocally reveal that the amounts thereunder were paid to the company as well as the appellant - assessee in consideration of the coven ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , but sought to tax by treating it as goodwill, overlooking the fact that goodwill separately transferred by another agreement. Thus, the amount received by the assessee-company cannot be treated as a consideration for transfer of goodwill. In other words, the impugned sum received by Natco is a capital receipt not liable to tax, and we direct the AO accordingly. The reasons assigned by the Tribunal for its conclusion that the income in the hands of the appellant as income from other sources, are as follows: Reverting to the facts of the case before us, Shri VCN, who pioneered the Time Release Technology, promoted the company by name Natco Pharma Ltd., and handed over the technical know-how with regard to the manufacture of certain medicines to the said company. Thus, the technical know-how has become the property of the company. Though Shri VCN was the Managing Director, further research was done at the expense of the company, brand names were the property of the company and the goodwill, if any, was the property of the company. Thus, Shri VCN has no right whatsoever in the products specified in the agreement and has never entered the market in his individual capacity ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... circumstances as a capital asset. It, however, proceeded on certain assumptions which, as rightly argued by the learned counsel for the appellant, are not based on material on record. As regards the technical know-how possessed by the appellant the Tribunal has proceeded on the assumption that the same has become the property of the company and therefore the appellant has no right whatsoever in the products specified in the agreement and that he has never entered the market in his individual capacity in the specified category. In rendering these findings, the Tribunal has not examined whether any arrangement existed whereby the appellant was prevented by the company from using his technical know-how for establishing his own industry or advising a third party to set up an industry for manufacturing the same drugs. 19. Similarly, the Tribunal has failed to distinguish between the right to manufacture the products at present and right to use the technical know-how in future. While undoubtedly the right to manufacture the products was with the company when the non-competition agreement was entered into, in the absence of any material showing that a similar non-competition agreement ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sent case do not bear any similarity as in the said case the income was not earned by the assessee under a non-competition agreement or for capital loss. 21. Though, as held by the Courts, the form in which the transaction which gives rise to income is clothed and the name which is given to it are irrelevant in assessing the nature of receipt arising from a transaction, for ignoring the specific terms of an agreement, a finding has to be necessarily rendered that those terms are a mere cloak or subterfuge for avoiding taxation. Neither any material in respect thereof was before the fora below, nor any specific finding in that regard has been rendered. Therefore, we do not find any reason to ignore the specific terms of the agreements and render findings contrary thereto as regards the nature of the income received by the appellant. In the light of the specific finding of this Court that the income in the hands of the appellant is a capital receipt, the finding of the Tribunal on the alternative submission based on the judgment in G.R. Karthikeyan (supra), need not be dealt with. 22. As regards the submission of the learned Standing Counsel that no substantial questions of l ..... X X X X Extracts X X X X X X X X Extracts X X X X
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