TMI Blog1980 (7) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... ate Duty while computing the value of the estate of the deceased included in it the value of the deceased's share in the goodwill of the firm. He calculated the value of the goodwill at Rs. 4,71,000. The method adopted for the valuation was this. He worked out the average profits of the firm for three years and deducted therefrom interest at the rate of 9% on the invested capital and remuneration at Rs. 6,000 per annum for six working partners. According to this method, the value came to Rs. 4,71,000, and as the deceased's share was 12%, it was computed at Rs. 56,520. The accountable persons filed an appeal before the Appellate Controller of Estate Duty, and contended that the firm did not have any goodwill, and that in any event the value of the goodwill was inflated. The Appellate Controller held that interest at the rate of 10% per annum on the invested capital should have been deducted instead of 9%, and reduced the valuation of the goodwill accordingly. He did not accept the other contentions. An appeal against this was filed before the Tribunal. The contention before the Tribunal was that the firm had no goodwill, as it had been dissolved thrice between 1959 and 1968, and fur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l of the business. Thus, the goodwill of the business is the property of the firm. This was so held by the Supreme Court in the case of Kushal Khemgar Shah v. Mrs. Khorshed Bann Dadiba Boatwalla, AIR 1970 SC 1147. The deceased continued as a partner of the firm till the time of his death. There is nothing in the partnership deed to indicate that he was excluded from a share in the goodwill of the firm. This being so, the deceased had a share in the goodwill of the firm along with his proportionate share in the other property of the firm. This share devolved upon his legal representatives: See Khushal Khemgar Shah v. Mrs. Khorshed Bann Dadiba Boatwalla, AIR 1970 SC 1147. Counsel for the assessee, however, urged that the firm had no goodwill as it was a firm of contractors. The goodwill, if any, depended on the skill of the partners and on the death of one of the partners, and as a consequence of the dissolution of the firm, the goodwill, if any, became non-existent and valueless. Now, in view of s. 14 of the Partnership Act, it cannot be denied that the goodwill of a partnership is an asset of the partnership. But the section does not lay down that every partnership has a goodwil ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ndley dealing with the concept of goodwill on p. 235 spoke thus : " Goodwill regarded as property has no meaning except in connection with some trade, business, or calling. In that connection I understand the word to include whatever adds value to a business by reason of situation, name and reputation, connection, introduction to old customers, and agreed absence from computation, or any of these things, and there may be others which do not occur to me. In this wide sense, goodwill is inseparable from the business to which it adds value, and, in my opinion, exists where the business is carried on. Such business may be carried on in one place or country or in several, and if in several there may be several businesses, each having a goodwill of its own.... The goodwill of a business usually, adds value to the land or house in which it is carried on if sold with the business..." Lindley on Partnership, 13th Edn., on p. 463, discussing the concept of goodwill, states : " The term goodwill can hardly be said to have any precise signification. It is generally used to denote the benefit arising from connection and reputation; and its value is what can be got for the chance of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ances making the connection durable. It is that component of the total value of the undertaking which is attributable to the ability of the concern to earn profits over a course of years or in excess of normal amounts because of its reputation, location and other features: Trego v. Hunt [1896] AC 7. Goodwill of an undertaking, therefore, is the value of the attraction to customers arising from the name, and reputation for skill, integrity, efficient business management, or efficient service. " The Madras High Court in Seethalakshmi Ammal v. CED [1966] 61 ITR 317, 318 described goodwill in the following manner: "Goodwill is the magnetic quality of a particular trade or business which attracts custom to it as a matter of course. This quality springs from and is developed by various contributing factors that earn a reputation for honest dealing, quality and standard. It is founded on the belief and faith of the customer and is commonly built up in relation to particular type of manufacture or production of articles identified by trade mark which becomes widely known to the public and by which the custom takes it for granted that it represents what they wish for. The standing of th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . The fact that the firm had been dissolved three times does not necessarily lead to the result, in the face of the huge profits, being earned by the firm, within three years period referred to by the lower Tribunal, that the firm did not enjoy an established reputation. Thus, in the circumstances of the case, it is not possible to hold that the firm did not have a goodwill or that the Tribunal misdirected itself in law in holding that it had one. Now, let us see how the other High Courts have approached this problem. The Gujarat High Court in the case of Smt. Mrudula Nareshchandra v. CED [1975] 100 ITR 297 has held that although a firm has goodwill, it cannot be included in the principal value of the estate of deceased as it cannot be evaluated under s. 40 of the Act. This view has not been followed by the Madras and Calcutta High Courts, as also the Punjab High Court. In S. Devaraj V. CWT [1973] 90 ITR 400 (Mad) the deceased was a partner in a managing agency firm. It was contended that a managing agency firm had no goodwill, and in any event nothing having been realised on account of the share in the goodwill, nothing could be included in the estate on that account. The Madras H ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the deceased partner, which necessarily included goodwill, had to be included in the valuation of the estate of the deceased. These cases establish that the goodwill of a firm is an asset, and notwithstanding the fact that the deceased partner is excluded from the goodwill, and the firm did not dissolve on his death, goodwill is property, which, passes for purposes of estate duty. It will thus be seen that the weight of authority is in favour of the view that we have expressed earlier, viz., that the goodwill of a firm has to be included in the principal value of the estate. We may at this stage give our reasons for not agreeing with the Gujarat High Court's view that the goodwill of a firm cannot be included for purposes of estate duty as it cannot be evaluated under s. 40 of the Act. The reasons given by the Gujarat High Court is that the goodwill of a firm cannot be evaluated as it is incapable of earning money, left to itself. This approach does not, with respect, commend itself to us. Under the E.D. Act each and every right, which passes on death, has to be evaluated. The evaluation has to be done on the basis of an assumption that there is a willing purchaser, for the ri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... te profit, and calculated the net profit at Rs. 1,50,941. Thereafter, he worked out the valuation of the goodwill by multiplying it by three. The deceased's share which was twelve per cent. was thus calculated at an amount of Rs. 56,520. On appeal, the Appellate Controller allowed an amount of ten per cent. on the average proportionate capital employed. On further appeal, the Tribunal enhanced the remuneration payable to the partners to an amount of Rs. 81,000 but maintained the three years' purchase formula applied by the Assistant Controller. Counsel urged that the method of valuation adopted for the goodwill was incorrect inasmuch as the method adopted was not appropriate for making the valuation. It has also been urged that the three years' purchase formula has been applied without giving any reason for doing so. Green in his 5th Edn. on Death Duties has dealt with the method of evaluating the goodwill of a firm on p. 456. It has been stated : " In other trades and professions there is, especially as respects the smaller concerns, a customary method of valuation for goodwill. This is usually a given number of years' purchase (which may vary from time to time) of the avera ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... " the `maintainable profits' of a business are agreed at pounds 10,000 per annum. It is also agreed that a purchaser could require a return of 12 1/2 per cent. per annum on his outlay and hence would be prepared to pay pounds 80,000 for the business. The capital employed in earning the profits is pounds 60,000 leaving pounds 20,000 as the value of the goodwill. Dymond's Death Duties, 13th Edn., has also discussed this problem on p. 511. It has been stated: " There are two common ways of computing the goodwill value of businesses of a substantial size, viz., the 'super-profits' method and the 'total capitalisation' method. The two methods, which are complementary and may often be used as a check upon each other, and which may theoretically give the same results, may conveniently be illustrated by an example (the figures given are purely illustrative and not to be regarded as any indication of the appropriate yields in any particular case). In each case, it is necessary to estimate the probable amount of the future profits (after making a reasonable allowance for management remuneration)-suppose these are taken at pounds 25,000 per annum. Then-- (a) 'Super-profits' method ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... testimony of expert witnesses on the question of the value of the goodwill as a distinct item on the ground that they could not produce specific evidence in support of their views. As already said, the two methods are complementary, but it is thought that there is scope for a wider use of 'total capitalisation' as a primary basis of valuation." Referring to the average period for which the net profits ought to be taken, the learned author has stated " the net profits are often taken on three years' average. In the case mentioned the court adopted a somewhat lower figure in view of a contract declared in the last year. The case referred to is Findlay's Trustees v. IRC [1938] 22 ATC 437. It will be seen that the direct method of evaluation referred to in Green's Death Duties is similar to the super-profits method referred to by Dymond. In both the cases, the average of the profits of a business of a representative period are calculated after making allowance for management remuneration. According to Dymond as also according to Green, allowance is made for deduction of profits tax also. This amount is then multiplied by an appropriate years' multiple, and then a fair return on the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fits, found out the average proportionate capital employed, calculated interest on the capital, deducted the remuneration payable to six of the working partners and then deducted the interest on capital plus the remuneration to the six working partners from the average profits, and multiplied the resultant figure by a multiple of three and taken that to be the value of the goodwill. The Tribunal has approved of this method. This method is the direct method talked of by Green, and the super-profits method referred to by Dymond. As has been seen, this method of valuation has been approved by the Calcutta, Patna and Madras High Courts. Batliboi on Accountancy suggests that this method is employed in accountancy circles for evaluating the goodwill. Counsel, however, urged that while calculating the profits, no allowance was made for depreciation, super profits tax. We do not think that it is open to the counsel to urge this point at this stage, for, no such contention was raised before the Assistant Controller or before the Appellate Controller or before the Tribunal, the only contention being that, as the firm was one of contractors and engineers, it had no goodwill, and, secondly, th ..... X X X X Extracts X X X X X X X X Extracts X X X X
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