TMI Blog1975 (7) TMI 58X X X X Extracts X X X X X X X X Extracts X X X X ..... follows: (1) Whether, on the facts and in the circumstances of the case, and on a proper construction of the agreement dated 24th July, 1961, between the assessee-company and M/s. Fuller Co., U.S.A., the assessee-company is entitled to a deduction of the sum of Rs. 47,602, as being expenses of a revenue nature? (2) Whether, on the facts and in the circumstances of the case, and on a proper construction of the applicable provisions of the Income-tax Act, 1961, the assessee-company is entitled to an allowance of Rs. 36,446, being the aggregate of Rs. 9,128, for hotel bills for lodging and boarding for guests in hotel and Rs. 27,318, for catering of guests? The facts relevant for the purpose of the first question may be stated thus: The assessee-company (M/s. ACC-Vickers Babcock Ltd., Bombay) was incorporated on 16th January, 1959, with the object, inter alia, to carry on business as manufacturers of and dealers in Cement Making Machinery, Coal Mining Machinery, Earth Moving Machinery, Gears and Ancillaries and equipment of all kinds, etc. The question relates to the assessment year 1962-63, the relevant financial year being 1961-62. On July 24, 1961, the assessee-company ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ent and to cease the manufacture and sale of such equipment of the Fuller design for a period of 3 years after the termination date. It was further agreed that the equipment covered by the agreement shall bear the name of Fuller and legally proper patent notices but may also carry the name of the assessee-company as manufacturer and/or licensee of Fuller in the countries mentioned in the agreement. Clause 10 made a provision for payments which were to be made by the assessee-company to Fuller in consideration for the technical and manufacturing information g iven by Fuller to the assessee-company and the right and licence for manufacture and sell the Fuller equipment; that clause, so far as is material, runs as follows: "10. In consideration for the technical and manufacturing information given by FULLER to AVB and the right and licence for manufacture and sell the FULLER equipment listed herein, the following payments shall be made to FULLER :--(a) A lump sum payment of 1,00,000 (one hundred thousand) U.S. dollars, free of Indian taxes for the supply of detailed manufacturing and constructional drawings, technical information and specifications and designs, manufacture, sales a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the assessee-company. At the instance of the assessee, therefore, the first question mentioned above has been referred to this court by the Tribunal for determination. The principles on the basis of which the question whether a particular expenditure is capital expenditure or revenue expenditure could be decided have been discussed by the Supreme Court in Assam Bengal Cement Co. Ltd. v. Commissioner of Income-tax, where justice Bhagwati approved the principles laid down by a Full Bench of the Lahore High Court in In re Benarsidas Jagannath as the true and correct principles for the purpose of deciding that question. At page 45 of the report this is what the Supreme Court has observed: "This synthesis attempted by the Full Bench of the Lahore High Court truly enunciates the principles which emerge from the authorities. In cases where the expenditure is made for the initial outlay or for extension of a business or a substantial replacement of the equipment, there is no doubt that it is capital expenditure. A capital asset of the business is either acquired or extended or substantially replaced and that outlay whatever be its source whether it is drawn from the capital or the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he business, the expenditure would be of a capital nature." The question which we will have to consider is whether the particular expenditure of Rs. 47,602 which was incurred by the assessee for making payment of the first instalment to Fuller in terms of sub-clause (a) of clause 10 of the agreement was for the purpose of acquisition of an asset or a right of permanent character, the possession whereof was a condition precedent to the continuance of its business or the same was so related to the carrying on of the business so that it might be regarded as an integral part of the profit making process? In other words, the aim and object or the purpose of the expenditure would be determinative of the question. Therefore, it will be necessary to consider the relevant clauses of the agreement dated 24th July, 1961, and the surrounding circumstances. In the first place, it must be pointed out that the assessee-company was incorporated as early as on January 16, 1959, that the main object with which it was incorporated was to carry on business as manufacturers of and dealers in cement making machinery, coal mining machinery, earth moving machinery, gears and ancillaries and equipment o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be part of the agreement; reciprocal obligation was also cast upon the assessee to furnish to Fuller the same information which the assessee may develop or acquire, all of which was also regarded as part of the agreement. In other words, both the parties agreed to disclose promptly to one another all inventions or improvements in design made by them or their employees or which they may acquire respecting such equipment. The purpose of the expenditure agreed to be incurred under the agreement by the assessee, particularly the one under sub-clause (a) of clause 10, has been clearly indicated in clause 10. It has been expressly stated in the opening words of clause 10 that all the payments referred to in sub-clauses (a) to (d) thereof have been agreed to be made "in consideration for the technical and manufacturing information given by Fuller to AVB (the assessee) and the right and licence for manufacture and sell the Fuller equipment listed herein"; under sub-clause (a) the payment of 1,00,000 U.S. dollars in instalments of 10,000 U.S. dollars per year-- for 10 years--is expressly stated to be "for the supply of detailed manufacturing and constructional drawings, technical informati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... asset or a right of a permanent character, the possession whereof was a condition precedent to the continuance of its business. Turning to the decided cases, we shall first refer to the Supreme Court decision in Ciba's case and we may observe at the outset, as has been rightly pointed out by Mr. Kolah, that some of the clauses and features of the agreement in that case are very much similar or akin to those obtaining in the agreement before us. In Ciba's case, the assessee, an Indian company (a subsidiary of a Swiss company, Ciba Ltd. of Basle), entered into an agreement dated December 17, 1949, with Ciba Basle under which the Swiss company undertook to deliver to the assessee all processes, formulae, scientific data, working rules and prescriptions pertaining to the manufacture or processing of products discovered and developed in the Swiss company's laboratories and to forward to the assessee as far as possible all scientific and bibliographic information, pamphlets or drafts which might be useful to introduce licensed preparations and to promote their sale in India. It granted to the assessee full and sole right and licence under the patent listed in the agreement to make, us ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ement, to the patents and trade marks of the Swiss company but it had merely access to the technical knowledge and experience in the pharmaceutical field which the Swiss company commanded, and the assessee was on that account a mere licensee for a limited period of the technical knowledge of the Swiss company with the right to use the patents and trade marks of that company. What the assessee acquired under the agreement was merely the right to draw, for the purpose of carrying on its business as a manufacturer and dealer of pharmaceutical products, upon the technical knowledge of the Swiss company for a limited period; by making that technical knowledge available the Swiss company did not part with any asset of its business, nor did the assessee acquire any asset or advantage of an enduring nature for the benefit of its business. For this view the court principally relied upon certain features of the agreement, namely, that it was for a period of 5 years liable to be terminated earlier in certain events, that the assessee had agreed not to divulge to third parties any confidential information received under the agreement without the consent of the Swiss company as well as not to a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt and to cease to manufacture and sell such equipment of Fuller design for a particular period. Two distinguishing features were pointed out by Mr. Joshi appearing for the revenue. He first pointed out that the agreement in Ciba's case was for a period of 5 years only and was liable to be terminated earlier in certain events whereas the agreement in the instant case is for a period of 10 years and is liable to be extended for further periods of 5 years until the same is terminated by 6 months' written notice given by one party to the other. In our view, the duration of the agreement cannot be decisive of the matter. Secondly, it was pointed out by Mr. Joshi that under clause 12 of the agreement in question an obligation has been cast upon the assessee after the termination of the agreement to cease to manufacture and sell equipments of Fuller design for a period of 3 years after the termination date, which means that it may be open to the assessee to indulge in the manufacture and sale of such equipments after the expiry of the said period of 3 years. It is true that the position which obtained in Ciba's case in this respect was different. But even then it cannot be forgotten that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be compared with either of the two decisions. In the first mentioned case, for manufacturing Capstan and Turret lathes of particular designs, the assessee, Mysore Kirloskar Ltd., had entered into an agreement with H on August 1, 1958, which was to last for 15 years and under the agreement H was to provide the assessee with manufacturing technique, drawings, specifications, etc., from time to time and also supply special tools at agreed prices. The articles manufactured by the assessee were to be sold under the trade mark HK. On the execution of the agreement the assessee was to pay to H in respect of "know-how" to be supplied pound 1,000 in respect of the Herbert No. 4 Capstan lathes and pound 1,000 in respect of the Herbert No. 7B Combination Turret lathes. In pursuance of this agreement the assessee paid to H during the relevant year two sums of pound 1,000 each, i.e., Rs. 26,713, and the question was whether the expenditure that was incurred in making these two payments was a capital expenditure or a revenue expenditure. The Mysore High Court took the view that as the "know-how" in question was to be utilised not for the purpose of manufacturing any machine that the assessee was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se by making those payments knowledge in respect of a new product has been acquired and, therefore, the expenditure was by way of acquiring an advantage or an asset for the extension of the assessee's business and the decision of the Supreme Court in Ciba's case was distinguished in these terms: "There are marked and significant facts in this case which distinguish it from Ciba's case. In Ciba's the 'technical know-how' was with regard to the same products which the Ciba company was already manufacturing. In the case before us, the special knowledge relates to a new product which the assessee-company was not hitherto manufacturing. In Ciba's case, after the expiry of the agreed period, the special knowledge, scientific data and the material relating to it had to be returned to the Swiss company. In the case before us, there is no such clause; if the special knowledge imparted by the English company, which is their asset, does not revert back to the giver of that special knowledge, it cannot be said that the expenditure incurred over it is of a revenue nature. Moreover, in Ciba's case, the period of agreement was five years. The agreement was liable to be cancelled earlier also. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e-company. In other words, there was a clear indication that the patented processes were actually parted with once and for all by the English company in favour of the assessee. It was in those circumstances that the Andhra Pradesh High Court took the view that the payments as and by way of royalty made by the assessee-company to the English company were in the nature of capital expenditure. In our view, both the decisions on which reliance was placed by Mr. Joshi are clearly distinguishable and the ratio of none of those decisions is applicable to the facts of the present case. In the result, we answer the first question in the affirmative and in favour of the assessee. Turning to the second question, it may be stated that the sum of Rs. 36,446, which was claimed by the assessee as a deductible item under section 37(1) and which was disallowed by the Tribunal, formed part of a larger sum of Rs. 2,78,619 which had been spent by the assessee-company on the inaugural function of the company's heavy engineering works at Durgapur at the hands of the then Chief Minister of West Bengal. The Income-tax Officer rejected the entire claim on the ground that the company got an enduring bene ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arded as publicity expenditure incurred by the assessee in connection with the inaugural function and as such should have been allowed. It is not, possible to accept this contention of Mr. Kolah for the simple reason that the provisions of section 37(2) override the provisions contained in sub-section (1), for sub-section (2) commences with a non obstante clause. Under sub-section (1) of section 37 any expenditure not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee, laid out or expended wholly and exclusively for the purposes of the business or profession is allowed in computing the income chargeable under the head "Profits and gains of business or profession". But under sub-section (2) it has been provided that, notwithstanding anything contained in sub-section (1), no expenditure in the nature of entertainment expenditure shall be allowed beyond certain specified limits. In other words, notwithstanding the fact that the expenditure might have been laid out or expended wholly or exclusively for the purpose of business, if such expenditure is in the nature of "entertainment expend ..... X X X X Extracts X X X X X X X X Extracts X X X X
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