TMI Blog1983 (10) TMI 7X X X X Extracts X X X X X X X X Extracts X X X X ..... td. (hereinafter referred to as "the English Company") and their associate Company Wire Drawing Dies (Manchester) Ltd. of U.K. (hereinafter referred to as "the Die Company"). In 1959, correspondence commenced between the English company and the promoters of the assessee commencing with the former's letter dated April 7, 1959. There was further discussion on the subject during the visits of the representatives of the English company to India and the Indian promoters to the United Kingdom. As a result of such negotiations it was decided to establish a factory for the manufacture of diamond and tungsten carbide dies in Bombay which dies would be suitable for wire-drawing industries. Technical collaboration was envisaged with the English company. In pursuance of these negotiations, the Government of India was approached by Gannon Dunkerley Company Ltd. for their approval of the scheme. This was by letter dated September 11, 1959. There was a slight modification of the proposal which the promoters conveyed to the Government of India by their letter dated April 18, 1960, and ultimately on April 28, 1960, the Government of India approved the proposal. The two items of the proposal which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed December 7, 1961. The entire technical collaboration agreement has been annexed to the statement of the case and designated as annexure 'B'. Annexed as annexure 'C' to the statement of the case is a copy of the agreement dated July 27, 1964, between the collaborators and the assesseecompany for the supply of machinery. In this reference, we are concerned with two assessment years, namely, 1962-63 and 1963-64, respectively. Under the technical collaboration agreement, the amount of pounds 7,500 was payable to the U.K. collaborators. Out of this amount, pounds 5,000, equivalent to Rs. 66,899, was paid during the assessment year 1962-63. The balance of Rs. 33,499 was paid during the assessment year 1963-64. For the first assessment year the assessee claimed a loss of Rs. 1,46,040 as per its revised return. In the said return it had claimed the amount of Rs. 66,899 as a deduction. It made a similar claim in respect of the assessment year 1963-64 but for the lesser amount of Rs. 33,499. For both the years, the Income-tax Officer declined to accept the assessee's contention that the items represented revenue expenditure. Thus the loss was calculated for both the years excluding th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nery and hence necessary depreciation and development rebate should be allowed thereon. The Tribunal found, in the first place, this was an alternative ground which was inconsistent with the stand taken by the assessee's representative in the course of arguments before the Tribunal or in the earlier proceedings. The Tribunal found further that if the collaboration agreement was properly scrutinised the amount of pounds 7,500 was observed to be paid in lieu of acquisition of the knowhow as contemplated in Part I of the preamble and agreed that the agreement did not stipulate any payment for Part II of the agreement which dealt with assistance for putting up the factory. The Tribunal rejected the argument orally made by the assessee that the total expenditure of pounds 7,500 be divided on an ad hoc basis into three compartments, one relating to the purchase and acquisition of the technical know-how pertaining to the manufacture of dies, etc., the other relating to assistance in running the factory from day to day, and the third pertaining to assistance for putting up the factory. For obvious reasons, this approach was not accepted by the Tribunal, which dismissed the appeals of the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ith these details, the Indian promoters, namely, Gannon Dunkerley and Company Ltd., made a proposal to the Government of India. This was by their letter dated September 11, 1959. The original suggestion, it appears, was that the English company was to be given 45% of the shares (total capital being Rs. 2,70,000) in consideration of their imparting technical know-how to the new company to be formed. At that stage, machinery was proposed to be purchased and 20% payment for the same was to be made on shipment and balance 80% in eight six monthly equal instalments. Part II of the said letter envisaged the English company providing various services for which 45% of the share capital of the face value of Rs. 1,21,500 was to be allotted free of charge. Approval of the Government was sought to the scheme by the said letter. It appears thereafter that the whole basis of collaboration and payment for the services to be rendered by the U.K. Collaborators underwent a change. Certain negotiations took place subsequently between the English collaborators and Gannon Dunkerley Co. Ltd. and as a result of these negotiations, a fresh proposal came to be made on April 18, 1960 by Gannon Dunkerley ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d territories. Now, the technical collaboration agreement specifically provides that the payment of pounds 7,500 payable by three instalments as mentioned in clause (1) was for the know-how to be supplied by the die company and for the covenant contained in clause (5). The Tribunal found that for the obligation to give technical assistance and collaboration for putting up the factory, no payment was envisaged under the technical collaboration agreement. This finding of the Tribunal has not been challenged either by the assessee or the Revenue and we must, therefore, proceed on the footing that the payment of the amount of pounds 7,500 in the instalments provided was for the imparting and purchase of know-how and for the obligation contained in clause (5). At this juncture, it may be pointed out that after the order of the Tribunal miscellaneous application was made by the assessee accompanied by an affidavit of a director of the assessee. In the said affidavit, the said director has referred to clause (2) of the said technical collaboration agreement and has stated that although the said clause (2) (of Part 1) talked of handing over to the representative of the assessee- compan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o. 2 would be required to be answered against the assessee in the event of it being held that the answer to question No. 1 required to be given would be one in favour of the Revenue. In our opinion, it is not the settled legal position and it cannot be that depreciation allowance or development rebate must be admissible on all items of capital expenditure. The first of these decisions which may be referred to is the decision of the Supreme Court in Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167. In the said decision the Supreme Court referred to various standard works such as Accountancy by Pickles, Practical Auditing by Spicer Peglar and Higher Book keeping and Accounts by Cropper Morris and Fiscon. It was mentioned in the court that in statement of auditing practices issued by the Institute of Chartered Accountants of India it has been explained that the "cost" of fixed assets should include all expenditure necessary to bring the assets into existence and to put them in working condition. The principle was accepted by the Supreme Court and applying the principle it was held that interest paid before the commencement of production on amounts borrowed by the assessee for the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... behalf of the Revenue by the Advocate-General who appeared for the Commissioner that "plant" within the meaning of section 32 of the Income-tax Act, 1961, must be construed broadly as a "capital asset" of tangible nature and that such capital asset must be subject to diminution in value year after year by reason of wear and tear by its application to earn profits in the course of business. The court thereafter considered the nature of "knowhow" and this was with reference to the decision of House of Lords in Jeffrey (H. M. Inspector of Taxes) v. Rolls Royce Ltd. [1962] 40 TC 443 (HL). According to the High Court (at page 707 of 96 ITR) : "It is true that Lord Radcliffe - and he alone - said in those cases that know-how is an intangible asset and that it should not be confused with its material record in the shape of drawings, lists, data, etc. Now, in the first place, it appears to us, with the greatest respect, that this emphasis on the intangible nature of know-how and the distinction between know-how and its material record, though theoretically or academically accurate and proper, is not in accord with actuality. Know-how is a peculiar kind of asset. It is the accumulated f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lf and as such it cannot be said that such know-how is an intangible asset and, therefore, not plant." Upon this footing, probably, the High Court upheld the decision of the Tribunal which was to the effect that the drawings and patterns were plant within the meaning of section 32 and the assessee was, therefore, entitled to depreciation in respect of those assets on the pro rata cost of their acquisition. The Bombay High Court followed the aforesaid decision of the Gujarat High Court (CIT v. Elecon Engineering Co. Ltd. [1974] 96 ITR 672) in CIT v. Emco Electro Pvt. Ltd. [1979] 118 ITR 864. It was held in the above case that where technical know-how which was condensed into printed material which conformed to the description of a book in its normal and natural sense was sold to the assessee under an agreement, it constituted a part of the assessee's plant within the meaning of the term as defined in section 43(3) of the Income-tax Act, 1961, and an assessee would be entitled to an allowance of depreciation and development rebate thereon. As far as the present case is concerned, Mr. Joshi relied more strongly on the decision of the Supreme Court in Sitalpur Sugar Works Ltd. v. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed was capital expenditure, then our answer to question No. 2 which we are called upon to give would be against the assessee. The real point, however, is whether the expenditure is properly to be regarded as revenue or capital. It is well settled that since no specific tangible asset can be pointed out as having been purchased or acquired by the assessee, the expenditure would have to be regarded as capital, if the assessee has claimed an advantage of an enduring nature. In Mr. Joshi's submission, the acquisition of know-how under the technical collaboration agreement with which we are concerned is one which provides for purchase of know-how outright by the assessee, and if that be so, then the assessee did in fact acquire an asset of an enduring nature which required the expenditure to be designated as capital in its nature. On the other hand, Mr. Mehta for the applicant submitted that it had been repeatedly observed by this court that "know-how" which was predominantly conveying of information, imparting knowledge and was unconnected with transmission of secret process patterns, technical designs and similar items was not and could not be regarded in these days of fast-changing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at the payment made by the assessee to Ciba Ltd. Basle, the Swiss company, was an admissible deduction. In other words, the expenditure was held to be a revenue expenditure and not a capital one. In the case before us, we find no question of any licence being obtained by the assessee-company for a limited period or an express prohibition contained therein preventing the assessee from divulging confidential information to third parties. We also find a lump-sum payment unrelated to the turnover or production of sales. It will have to be conceded that the technical collaboration agreement between the die company and the assessee is materially different from the one between Ciba of India Ltd. and Ciba Ltd., which the Supreme Court was considering. There would have been certainly difficulties in applying the aforesaid Supreme Court decision straightaway to the present case because of this material difference. We have, however, a number of decisions of our own court which have considered the aforesaid Supreme Court decision and which, in our opinion, have advanced the principles therein enunciated towards the position canvassed for acceptance by Mr. Mehta on behalf of the assessee befo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ELCO's case [1980] 123 ITR 538 (Bom), the court was considering two collaboration agreements, one with Messrs Daimler Benz and the other with Messrs Henricot, and the nature of payments to be made by the assessee to the collaborators thereunder. It is pertinent to note that the assessee company was upto that time manufacturing locomotives only. The agreement with Messrs. Daimler Benz was arrived at in order to enable the assessee to establish a factory for the manufacture in India of Daimler Benz trucks and other automotive products. The agreement with Messrs Henricot was to enable TELCO to secure competent technical assistance in Europe to bring the Telco Steel foundry when completed into full and efficient operation as early as possible and to design and manufacture therein on an economical and efficient basis the maximum possible tonnage of sound steel castings of all sizes, shapes and specifications, including particularly heavy and complicated castings for the steam locomotives building industry. The latter agreement was thus in connection with the product already being manufactured, whereas the first agreement with Messrs Daimler Benz was for a totally new product, as a new f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... llaboration agreement in Telco's case [1980] 123 ITR 538 (Bom) provided that after the stipulated term of 15 years was over, Telco would not use the trade name of Messrs Daimler Benz. The Division Bench observed (at page 549) : "....If the transaction embodied in the agreement is looked at commercially, it looks to us as nothing more than obtaining the services of a consultancy so far as the supply of know-how is concerned, and in the nature of licence to use the trade name so far as permission to use the trade name of M/s. Daimler Benz was concerned The payment was not, therefore, for acquisition of any capital asset. Though the production of trucks was to be continued by Telco even after the expiry of agreement, the use of the trade mark of M/s. Daimler Benz could not be used by Telco as the licence to use the name had come to an end. So far as the payments made under the agreement were concerned, they were to be made partly in the nature of royalty and partly in the nature of share in the profit but they were only intended to secure the use of the trade name and acquire necessary know-how. Technical know-how can in no sense of the term be called a tangible asset. Mr. Moolgaonkar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essly dissented from. At this juncture, we may mention that in Praga Tools Ltd. v. CIT [1980] 123 ITR 773, a Full Bench of the Andhra Pradesh High Court overruling the Division Bench decision of the same High Court in Hylam Ltd. v. CIT [1973] 87 ITR 310, made substantially a similar observation regarding the ephemeral character of the technical know-how de hors specific processes, patterns and designs, etc., conveyed along therewith. The Full Bench also rejected the distinction sought to be made between the licensing of the know-how and the acquisition thereof or an argument based on the liability to return the know-how. According to the Andhra Pradesh High Court, in the case before it the imparting of special knowledge and technical know-how by the foreign collaborators to the assessee-company would be just like a teacher imparting his skill or knowledge to his student. According to that High Court, each factor by itself was not decisive, but the totality or the cumulative effect of all the facts and circumstances would be the prime guiding factor to decide the aim and object of the expenditure, be it capital or revenue. Where the expenditure had direct nexus, connection or rela ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nowledge and information on technical know-how. They also agreed to give from time to time such information as was necessary for the setting up of the pattern shop. The foreign collaborators further agreed to make arrangements for the training of the necessary personnel during the period of four years and it was in consideration of this supplying of the technical knowledge, rendering service and imparting training that the assessee agreed to pay a sum of Rs. 16,029 which was a lump-sum or down payment for pattern shop collaboration. The said amount which was equivalent to pounds 300 was allowed as revenue expenditure. The court observed that the amounts paid for provision of know-how and licence to use the trade name were revenue expenditure. The court also opined that the expenditure on training of personnel was incurred with a view to achieving maximum and efficient production and the expenditure incurred on such training was closely related to the profit-earning process and was thus allowable as revenue expenditure. On behalf of the Revenue it was urged that the agreement was different from the one considered by the Supreme Court in Ciba's case [1968] 69 ITR 692. The Division Be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elopments and changes in techniques." Our attention has also been drawn to two unreported decisions (since reported, see below) of this court in which similar observations are to be found. The first of these decisions was that given in (Income-tax Reference No. 234 of 1973 CIT v. Wyman Gordon (India) Ltd [1983] 144 ITR 911 (Bom) decided on June 28, 1982. The court was considering the technical services fee of Rs. 17,098 paid by the assessee to M/s. Wyman Gordon Co. of the U.S.A. The Bench after noting the features of the agreement as indicated by the Tribunal observed that the controversy raised before it was practically covered by the decision in Telco's case [1980] 123 ITR 538 (Bom). The passage from the said decision earlier quoted by us was quoted by the Bench while applying the principles enunciated therein and the question was answered in favour of the assessee. Similar observations are to be found in the decision given by this court in (Income-tax Reference No. 101 of 1977) Premier Automobiles Ltd,. v. CIT [1984] 150 ITR 28 (Bom) decided on July 27, 1983. The court was, inter alia, considering an agreement entered into by the assessee on October 5, 1962, with the foreign ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... supplied. In other words, in such a case the fact that the agreement did not contain a provision for return of know-how after the expiry of the agreement would be irrelevant. It may be emphasised once again that in Telco's case [1980] 123 ITR 538 (Bom) Telco retained the right to use the know-how which it had obtained from Messrs. Daimler Benz and the agreement only provided that on the expiry of the term Telco would no longer use the trade name on the trucks manufactured by it. This was apart from the very pertinent observation that the know-how or information acquired would remain in the minds of the recipients unlike drawings and patterns which were tangible and cannot be returned. It is interesting to note how A.C. Sampath Iyengar has examined the case law. Indeed, it would appear to us from the commentary to be found under section 37 (p. 1679, 7th Edn., of Sampath Iyengar, Law of Income Tax) that certain instructions have been given by departmental circulars after Ciba's case [1968] 69 ITR 692 was decided by the Supreme Court. It has been observed by the learned author at p. 1684 : "The large number of judicial decisions covering this question, with very few exceptions, un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e returned to the foreign company, namely, the S.L.M. The court, however, emphasised as it had already pointed out in Elecon Engineering Co.'s case [1974] 96 ITR 672 (Guj) that the aspect of obsolescence must not be lost sight of while considering the question of acquisition of technical know-how and information. The court ultimately held on consideration of the totality of the circumstances attending upon the transactions before it that the expenditure was allowable as revenue expenditure. We have not examined the agreements and clauses before the Gujarat High Court in detail inasmuch as we have closer picture before us by reason of the decision in Telco's case [1980] 123 ITR 538 (Bom). A Full Bench of the Madras High Court had the occasion to consider similar case in Jonas Woodhead Sons (India) Ltd. v. CIT [1979] 117 ITR 55. The assessee in that case had entered into an agreement with an English company for the manufacture of all types of springs and suspensions for road and rail vehicles as were being manufactured by the English company with the help of the technical knowledge and experience possessed by the English company in connection therewith. The agreement, inter alia, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tute a capital receipt or not. What we are concerned with is the reverse case and in view of the Supreme Court decision in Ciba's case [1968] 69 ITR 692 and our High Court decision in Telco's case [1980] 123 ITR 538, we find it unnecessary to discuss these decisions in depth. It is unnecessary, in our opinion, to consider whether any formulae, plans, sketches and documents were handed over by the foreign collaborators to the representative. It would seem to us to make no difference either way. It would have made a difference had it been established that what the assessee acquired was not information or guidance acquired as a result of twenty-five years' experience by the foreign collaborators but the right to use a patented or secret process or a right to use the trade name or a registered design. On the record it is not established that the assessee has received any of these tangible advantages. The agreement also does not clearly indicate that the collaborators were to furnish any secret or patented process to the assessee or to allow the assessee to use the collaborators' trade name or a trade mark. We were at one time considering whether the payment under the agreement by t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... capital in nature, although we are not called upon to decide that question in the present reference. If the know-how acquired relates to the process of manufacturing, then the payment made for the same would have to be considered as revenue expenditure, since the acquirer does not obtain by the expenditure any asset of an enduring nature. It is only the acquisition of information, guidance or, to put it in more familiar terminology, " payment for consultancy". That the consultant gives certain diagrams, specifications, list of machinery and estimate of expenses, and explanations as to how the production process is to be carried on and what safeguards are necessary to be ensured for securing a quality product which would be accepted by the market would seem to make no difference. On the broad principles enunciated earlier and following our earlier decision in Telco's case [1980] 123 ITR 538 with which principles we fully agree, we are of the opinion that the payments made by the assessee in the instant case were fully allowable as revenue expenditure and that the Tribunal was in error in holding that the same were capital expenditure and hence not allowable. In view of all thes ..... X X X X Extracts X X X X X X X X Extracts X X X X
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