TMI Blog1980 (8) TMI 46X X X X Extracts X X X X X X X X Extracts X X X X ..... ght in holding that the assessee was liable to pay tax on Rs. 25,000, being capital gains on transfer of goodwill ?" The short facts leading to this reference may be stated at this stage. The assessment year under reference is 1967-68, the previous year being Samvat year 2022, which ended on November 12, 1966. The assessee carried on business of manufacturing and selling pencils in Ahmedabad City. He sold machineries, goodwill, stock, furniture, etc., of his business to a firm of M/s. Acme Pencil Factory for Rs. 4,61,111 on June, 30, 1966. On July 1, 1966, a deed called " sale deed in respect of sale of movable properties " was executed by the assessee in favour of the partners of M/s. Acme Pencil Factory. In this deed, it was stated that the assessee had sold the machineries, tools, etc., of his business to the partners of the said firm for Rs. 3,25,000 on June 30, 1966. It was further stated in the said deed that the price of stock, stores, ready goods, was settled by mutual agreement on June 30, 1966. The possession of the goods sold was also handed over to the purchasers on June 30, 1966. A further deed dated December 14, 1966, was also executed by the assessee in favour of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eld that even in the case of outright sale of business as a going concern, the capital gains arising out of such a transaction as well as profit under s. 41(2) of the said Act, would be taxable and the assessee was liable to pay the tax. He, therefore, rejected the assessee's contention that he was not liable to pay tax under s. 41(2) of the Act. However, so far as the amount of Rs. 25,000 taxed as capital gains in respect of transfer of goodwill and the profit on sale of stock estimated at Rs. 13,000 were concerned, the AAC took the view that there was no separate sale of goodwill or stock and, consequently, according to the AAC, no tax could be levied on these two amounts. He, therefore, deleted the said two items from the computation made by the ITO and gave relief of Rs. 38,000 to the assessee. The aforesaid order of the AAC resulted in two cross appeals, on behalf of the assessee as well as the revenue before the Income-tax Appellate Tribunal at Ahmedabad. The assessee's appeal was I.T.A. No. 1636 (Ahd) of 1972-73 and the revenue's appeal was I.T.A. No. 1771 (Ahd) of 1972-73. The Tribunal, by its order dated February 17, 1975, held that the assessee had sold the machineries, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the sale of the said stock and making addition of Rs. 13,000. Consequently, the Income-tax Appellate Tribunal held against the assessee on all the points urged in the aforesaid cross-appeals before it. The assessee moved the Tribunal to refer the questions of law which arose from the aforesaid decision of the Tribunal and, accordingly, the Tribunal has referred to us the aforesaid three questions for our opinion and that is how the present reference has come up for our decision. Mr. Divatia, the learned advocate appearing for the assessee, contended that the Tribunal had committed an apparent error of law when it held that the assessee had not sold the business as a going concern at slump price and that he was liable to pay capital gains tax on capital gains and profits on individual items of goods, goodwill, stock, etc. Mr. Divatia contended that both the sale deeds could not have been read together as the Tribunal had; done and, consequently, the first question was required to be answered in favour of the assessee and against the revenue. Mr. Divatia further submitted that even if a view is taken that the assessee was liable to pay tax on, capital gains and profits under s. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he said stock, stores and ready goods on 30th June, 1966, to the purchasers. At this stage, it is necessary to refer to the material averments regarding consideration. The document recites that the vendor is the absolute owner of the factory and all machineries and tools whatsoever lying there were being sold by the vendor to the purchasers and their possession was given to the purchasers on 30th June, 1966, in consideration of Rs. 3,25,000, and then, in the last part of the document, it is further recited that the purchasers shall have to pay Rs. 3,25,000 towards the price of machineries, tools, goodwill, etc., to the vendors as mentioned above. A mere look at the material recitals of the aforesaid document clearly shows that the document witnessed a sale of movable properties by the assessee to the purchasers, viz., M/s. Acme Pencil Factory. The document also made it very clear that Rs. 3,25,000 was the price agreed to between the parties for the machineries and tools which were sold by the assessee to the purchasers. The document also recited that so far as the prices of stocks, stores and ready goods were concerned, they were the subject-matter of a separate agreement arrived ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... purchasers accordingly. In para.. 6, the document further recites that as the vendor had sold to the purchasers, prepared goods under bills and, due to some misunderstanding for the amount of the said bills, there was a difference in amount which was subsequently settled after talks with the partners and the purchasers, and accordingly, the purchasers had agreed to pay to the vendor an additional amount of Rs. 15,000 and the said additional amount was paid to the vendor on the date of execution of the second document and the said amount was duly received by the vendor and acknowledged as such. The second document further recited that henceforth the vendor was not entitled to receive any amount from the purchasers in future between the parties, the vendor had executed that second deed in favour of the purchasers (sic). The aforesaid are the material recitals in the second document. Mr. Divatia's contention was that the second document was executed on December 14, 1966, that is, after the end of the accounting year which ended on November 12, 1966, and, consequently, the second document cannot be taken into consideration while deciding the question posed for our consideration in t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e, 1966. Under these circumstances, it is not possible to accept the submission of Mr. Divatia that the second document is to be read independently of the first and both cannot be read together. We find that both these documents are part and parcel of the same transaction and they have to be read together. The second document is in fact merely explanatory of the first and is complementary to it. When both these documents are read together, it clearly emerges that the assessee sold the machineries, tools, goodwill and stock, etc., on June 30, 1966, and both these deeds read together merely recorded the terms of the said sale which took place on June 30, 1966. It is further interesting to note that the very caption of the second deed mentions that it is an additional sale deed for Rs. 15,000 regarding movable properties. Thus, by the second document, the assessee acknowledged the fact that he was paid additionally Rs. 15,000 by the purchasers regarding raw goods which he had sold to the purchasers in June, 1966, and for the said sale of June, 1966, he had received full consideration of Rs. 4,61,111 as per the details given in both these documents. It is also interesting to note tha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , for the purpose of s. 45 as well as s. 41(2), what is relevant is the date on which the transfer in question took place. Admittedly, the transfer in question took place between the assessee and his purchasers at the end of June, 1966. Consequently, even if the second document was executed in December, 1966, it has got to be read in the light of the first relevant assessment year, the second document will have to be taken into consideration for deciding the question about the assessee's liability to pay tax on capital gains and profits which he obtained on the concerned items of assets which he sold on June 30, 1966. Mr. Divatia has further submitted that if the first document is read in isolation from the second, it appears clear that the assessee had sold his business as a going concern at a slump price and, consequently, in view of the judgment of the Supreme Court in the case of CIT v. Mugneeram Bangur Co. [1965] 57 ITR 299, the assessee was not liable to pay tax on capital gains and profits on individual items sold in the course of the said transaction. Mr. Divatia in this connection also invited our attention to a judgment of this court delivered in Special Civil Applica ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of 1973 [Sarabhai M. Chemicals P. Ltd. v. P. N. Mittal, Competent Authority [1980] 126 ITR 1 (Guj)] can be of no assistance to the assessee. On the contrary, we find that the facts of the present case would be squarely covered by the decision of the Supreme Court in the case of CIT v. B. M. Kharwar [1969] 72 ITR 603, wherein the Supreme Court has observed that by virtue of the amendment made in the second proviso to s. 10(2)(vii) by s.11 of the Taxation Laws (Extension to Merged States and Amendment) Act, 1949, even under It realisation sale ", the excess over the written down value is liable to be brought to tax. In the present case, we have found that the assessee had sold various items of assets which had earmarked prices to the purchasers. Consequently, the facts of the present case would squarely be covered by the provisions of s. 45 as well as s. 41(2) of the Act. It is certainly not case in the which the entire business was sold by the assessee as a going concern at a slump price. Consequently, the Tribunal was quite justified in holding against the assessee on this question. In the present case, as pointed out by us, the machineries, goods, etc., were separately valued and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... reasonable and, in that view of the matter, even the second contention of Mr. Divatia has got to be repelled. Mr. Divatia, in this connection, however, submitted that, in any view of the matter, it was a realisation sale and, consequently, it ought not to have been brought to tax by way of profit on sale of such stock. Even this contention of Mr. Divatia can be of no avail to the assessee for the simple reason that, as held by the Supreme Court in the case of B. M. Kharwar [1969] 72 ITR 603 (SC), if separate items have been valued for the purpose of sale, even though it is a realisation sale, the amount realised out of sale can be brought to tax. In the present case, it is clear that the assessee who was doing business was out to sell his goods in the most profitable manner as far as possible. Thus, the sale by him of the goods in the ready made stock worth Rs. 1,26,111 cannot be considered to be anything but a fair sale. But assuming that it was a realisation sale, it cannot make any difference for the purpose of taxability of the amount of Rs. 13,000 which was estimated by the ITO as profit which the assessee can reasonably be said to have earned in the said transaction. Consequ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t. In order to appreciate the aforesaid contention of Mr. Divatia, it is first necessary to have a look at the decision of this court in the case of Mohanbhai Pamabhai [1973] 91 ITR 393. In the said case, three questions were referred to this court for its opinion, viz: " (1) Whether the Tribunal was right in holding that the goodwill of the firm is a self-acquired asset of the firm ? (2) Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that that amount received by the assessee by way of his share in the goodwill of the firm is not liable to be assessed to tax ? (3) Whether, on the facts and in the circumstances of the case, the retirement of the assessee as partner from the firm amounted to dissolution of the firm and, therefore, the capital gain, if any, is chargeable to tax in view of the provisions of section 47(ii) of the Act ? " This court observed that in the view that was being taken regarding questions Nos. 1 and 2, it was not necessary to consider the third question and, therefore, it was not answered in one way or the other. So far as the second question was concerned, it was answered in the affirmative. Thereafter, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1969. If the matter had merely rested at that stage, we would have seriously considered the request made by Mr. Raval for the revenue that we may constitute a larger Bench for deciding as to whether the considered opinion of this court even though by way of obiter dicta in Mohanbhai Pamabhai's case [1973] 91 ITR 393 requires reconsideration. But the matter does not rest there. We find that K. Rathnam's case [1969] 71 ITR 433 (Mad) was carried in appeal by the revenue to the Supreme Court and the said appeal was heard by the Supreme Court for two days. At that time, the decision of this court in Mohanbhai Pamabhai's case [1973] 91 ITR 393 was already known to the revenue. In spite of it, the revenue after the hearing of the appeal before the Supreme Court arising out of K. Rathnam's case [1969] 71 ITR 433 (Mad) and which having lasted for two days, got the appeal dismissed as not pressed. Consequently, it is clear that the revenue accepted the decision of the Madras High Court on the point which in fact was a pioneering decision. The aforesaid fact is clearly noted by the Karnataka High Court in the case of CIT v. B. C. Srinivasa Setty [1974] 96 ITR 667, to which we will make a deta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the transferor. If capital asset like the goodwill which is a self-generated asset and which is not having any acquisition cost for the transferor is transferred, it cannot be said that such transfer generates any capital gains for the transferor. Consequently, on the very language of s. 45(1), such a type of capital asset like goodwill, which entirely depends upon the personal qualification of the person concerned who acquires an asset over a period of time and which has no cost of acquisition, cannot be covered under the provisions of s. 45. The aforesaid view of ours is amply borne out by the various decisions of different High Courts. First, we may refer to the decision of the Madras High Court which, as we have stated above, was a pioneer in the field. It is in the case of CIT v. K. Rathnam Nadar [1969] 71 ITR 433 (Mad). Analysing the concept of " goodwill " in the light of its liability to tax on capital gains on its transfer, the Division Bench of the Madras High Court observed as under (pp. 445-46): " Goodwill is created by the trading activities of the assessee, and probably by the name he has earned and the goodwill he has created among his customers. Goodwill of a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... milar to the one posed for our consideration in the present proceedings. The Calcutta High Court observed that goodwill is not a capital asset within the meaning of S. 12B of the Indian I.T. Act, 1922, and further it produced no profit or gain in that case by its transfer to the company. It was further observed (headnote) : " In order to be taxable capital gain within the meaning of section 12B of the Income-tax Act, there has to be : (1) profit or gain, (2) capital asset, (3) the profit or gain must arise out of transfer, and (4) 'sale, exchange and relinquishment or transfer '. It is difficult to apply these tests to the case of goodwill. Goodwill is not any kind of usual capital asset with which a business is started. It is not a capital asset which can be divided into parts, fragments or fractions entered on the stock-book or register of capital assets nor can it, like capital asset, exist independently without the business itself and have any value apart from business usually associated with capital asset." The Calcutta High Court placed reliance on K. Rathnam's case [1969] 71 ITR 433, decided by the Madras High Court amongst others. Mr. Raval appearing for the revenue sub ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... aid decision of the Supreme Court lays down that acquisition of the goodwill is a capital asset. But it does not help us in deciding the question whether on the sale of goodwill any capital gains can be said to have accrued. Thus, the present question was not at all posed for decision before the Supreme Court in the aforesaid decision in Devidas's case [1972] 84 ITR 277 (SC). Consequently, the observations of the Division Bench of the Calcutta High Court in the case of V. R. Sonti [1979] 117 ITR 838 (Cal) that the earlier view of the Calcutta High Court in Chunilal Prabhudas's case [1970] 76 ITR 566 (Cal) was no longer good law in view of the Supreme Court decision in Devidas's case [1972] 84 ITR 277 (SC), cannot be accepted as indicating a correct legal position. We find that the decision in Devidas's case [1972] 84 ITR 277 (SC) in no way touches the ratio of the earlier Calcutta view in Chunilal Prabhudas's case [1970] 76 ITR 566 (Cal). Our attention was next invited to the case of the Delhi High Court in the case of Jagdev Singh Mumick v. CIT [1971] 81 ITR 500. The Division Bench of the Delhi High Court consisting of H. R. Khanna C.J. and V. Deshpande J. (as they then were), t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... goodwill of business which was valued at Rs. 32,000 can be held taxable as capital gains. Agreeing with the Appellate Tribunal that it cannot be so taxed, the Full Bench observed that what is charged under s. 45 of the I.T. Act, 1961, is the profits or gains arising from the transfer of a, capital asset. In computing the profit or gain in accordance with the provisions of s. 48 of the Act, the cost of acquisition of the capital asset and the cost of any improvement thereto have to be deducted from the full value of the consideration for the transfer of the capital asset (headnote of 89 ITR 88): " In the context of the Income-tax Act, the expression 'cost of acquisition ' signifies some expenditure or outlay in terms of money by the assessee in the creation or acquisition of the concerned capital asset. It was by his personal effort spread over a number of years that the assessee built up the goodwill in dispute. It is impossible to estimate even roughly the money he could have spent in building up his professional reputation. The cost of acquisition was thus incapable of determination. " The Full Bench also referred to s. 55(1)(b) of the Act and held that (headnote of 89 ITR 88 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are possible on a question concerning the interpretation of a tax law, the one which is fair both to the assessee and the department should be followed. The view that capital gains tax is not attracted to transfer of goodwill is a fair and just interpretation. If the view of the Gujarat High Court is correct, the cost of acquisition of a goodwill being nil, the full value of the consideration for its transfer has to be brought to charge to capital gains tax. Such a levy will not be a tax on profits or gains but, in substance, a tax on the capital value of the asset. The capital value of goodwill is charged to tax under the Wealth-tax Act, 1957, which is an annual recurring tax. When there is an annual recurring tax on the capital value of goodwill, it will be unfair to levy another tax calling it as capital gains on the same value of the goodwill in the same assessment year, merely because the goodwill has been transferred for consideration." The Karnataka High Court also noted the further fact that the ratio of the Madras High Court in K. Rathnam's case [1969] 71 ITR 433 was accepted by the department as laying down the correct law. Our attention was also invited to a decisio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... particular point of time would be necessary ingredient before the transfer of that capital asset can give rise to chargeable capital gain. Since self-created or self-generated goodwill is not a capital asset which could be said to have been acquired by the assessee-firm at any particular point of time and is not a capital asset which could be said to have cost something in terms of money to the assessee, such goodwill will not be a capital asset the transfer of which will give rise to chargeable capital gain either under section 12B(1) of the 1922 Act or section 45 of the 1961 Act." The aforesaid decision also considered the observations of this court in Mohanbhai Pamabhai's case [1973] 91 ITR 393 (Guj). The Bombay High Court was inclined to agree with the view of the Madras High Court in K. Rathnam's case [1969] 71 ITR 433 (Mad) and the view of the Full Bench of the Kerala High Court in Jacob's case [1973] 89 ITR 88 and did not agree with the observations of this court in Mohanbhai Pamabhai's case [1973] 91 ITR 393. While referring to the observations of this court in Mohanbhai Pamabhai's case, it was observed by the Division Bench of the Bombay High Court: " The decision on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the capital asset which is transferred. In the case of a self-created or self-generated goodwill, the assessee incurs no cost in terms of money. On the transfer of such a goodwill the assessee makes no profits or gains chargeable under s. 45. It was further observed that if the whole of the consideration received on such a transfer is taken to be " profits or gains " of the assessee within the meaning of s. 45, it would amount to taxing the capital asset itself and not " profits or gains " arising from its transfer. This construction of s. 45 is supported by the scheme of s. 48 which provides that the income chargeable under s. 45 is to be computed by deducting from the full value of the consideration " the cost of acquisition of the capital asset and the cost of any improvements thereto ". The mode of computation provided in s. 48 shows that the capital asset, transfer of which is taxable under s. 45, is one which cost in terms of money to the assessee, and is also one which can be improved by investing money., Self-created or self-generated goodwill is not that type of capital asset and its transfer cannot be the subject of taxation under s. 45 of the Act. Our attention was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Kuppuswamy Pillai Co. [1977] 106 ITR 954 (Mad), CIT v. Michel Postel [1978] 112 ITR 315 (Bom) and Addl. CIT v. K. S. Sheik Mohideen [1978] 115 ITR 243 (Mad) [FB]. In view of the aforesaid pronouncement of the various High Courts in this country, we are not able to persuade ourselves to agree with the obiter dicta of this court in Mohanbhai Pamabhai's case [1973] 91 ITR 393. We, on the contrary, agree with the decisions of various High Courts on the point as detailed by us above. We agree with the views expressed by the Madras High Court, Delhi High Court, Kerala High Court, Karnataka High Court, Bombay High Court, Madhya Pradesh High Court and Andhra Pradesh High Court as well as the views expressed by the Calcutta High in Chunilal Prabhudas's case [1970] 76 ITR 566. We are, therefore, unable to accept the view expressed by this court in Mohanbhai Pamabhai's case [1973] 91 ITR 393 as this was obiter dicta and as the revenue has accepted the decision in K. Rathnam's case [1969] 71 ITR 433 (Mad) as correct by withdrawing its appeal against that decision before the Supreme Court after the said appeal was heard for two days. We, therefore, hold that transfer of goodwill, which is ..... X X X X Extracts X X X X X X X X Extracts X X X X
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