1973 PLP 186 (PTD)

DIXIT, C. J.‑

In this reference under section 256(1) of the Income‑tax Act, 1961 (hereinafter called the Act), at the instance of the assessee, Messrs New Precision (India) Private Ltd., Dewas, the question which the Income‑tax Appellate Tribunal has referred to us for decision is : "Whether, on the facts and in the circumstances of the case, the sum of Rs. 40,100 paid to Shri B. V. Mahabale is expenditure allowable under section 37 of the Income‑tax Act, 1961 ?" The material facts are that the assessee‑company was incorporated on 22nd July 1960. The shareholding of the company, as on 30th June 1961, was thus‑ (i) 260 shares held by Shri and Smt. Desai, (ii) 240 shares held by Shri Gaikwad, (iii) 50 shares held by Shri B. V. Mahable, and (iv) 100 shares held by Smt. Kusumawati Mahable, wife of Shri B. V. Mahable. The company was engaged in the manufacture of certain parts of diesel engines. Prior to that there was a firm consisting of Shri Desai and Shri Gaikwad doing the business of manu facturing certain parts of diesel engines. This firm used to purchase castings from Messrs Mysore Kirloskar Ltd. As there was some difficulty in getting timely supply of castings from Messrs Mysore Kirloskar Ltd., the assessee‑company started its own foundry to make the castings. Shri B. V. Mahabale was first in the service of Messrs Mysore Kirloskar Ltd. as an engineer. He agreed to leave the service of Messrs Mysore Kirloskar Ltd. and join the assessee‑company as a director, on the condition of the company paying him Rs. 40,000 being the amount which he would be required to pay to Messrs Mysore Kirloskar Ltd. as liquidated damages, before the expiry of the period of his contract with that concern. This condition was accepted by the assessee‑firm, and on 12th and 23rd December 1960, payments totalling Rs. 40,100 were made directly by the assessee‑firm to Messrs Mysore Kirloskar Ltd. After this pay ment, Shri B. V. Mahabale left the service of Messrs Mysore Kirloskar Ltd. and joined the assessee‑company on 1st March 1961, on a monthly remuneration of Rs. 3,

000. In the assessment proceedings for the assessment year 1962‑63, for which the relevant previous year ended on 30th June 1961, the assessee sought to deduct Rs. 40,100 on the ground that this was an expenditure not of a capital nature but wholly and exclusively laid out for the purposes of business under section 37 of the Act. This claim was disallowed by the Income‑tax Officer and, on appeals, by the Appellate Assistant Commissioner and the Tribunal. There can be no doubt that the payment of Rs.40,100 which the assessee made to Messrs Mysore Kirloskar Ltd. for procuring exclusively for its benefit the services, experience and technical knowledge of Shri Mahabale for the manufacture of castings, that is to say, for the purpose of setting the profit earning machinery in motion, was an expenditure wholly and exclusively for the purpose of the business of the assessee company. But an expenditure for the purpose of business may be of a capital nature ; and if it is of that nature, then it cannot be claimed as deduction under section 37 of the Act. The question, therefore, is whether the amount of Rs. 40,100 expended by the assessee was in the nature of capital expenditure or a revenue disbursement. Whenever such a question arises in any case, it has to be decided on the facts of the case and a variety of circumstances. such as the nature of expenditure, whether the payment was made once and for all or was a recurring expenditure and whether the asset acquired was a source of permanent income or exhausted itself either during the year of acquisition or within a short period thereafter. As observed by Hidayatullah, J. (as he then was) in the majority judgment of the Supreme Court in Abdul Kayoom v. Commissioner of Income‑tax ((1962) 44 I T R 689): "What is attributable to capital and, what to revenue has led to a long string of cases here and in the English Courts. The decisions of this Court in Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income‑tax (1955) 27 I T R 34 (S C) and single Industries case (1960) 40 I T R 67 (S C) have considered all the leading cases, and have also indicated the tests, which are usually applied in such cases. It is not necessary for us to cover the same ground again. Further, none of the tests is either exhaustive or universal. Each case depends on its own facts, and a close similarity between one case and another is not enough, because even a single significant detail may alter the entire aspect. In deciding such cases, one should avoid the temptation to decide cases (as said by Cordozo 'The Nature of the Judicial Process, p. 20)) by match ing the colour of one case against the colour of another. To decide, therefore, on which side of the line a case falls, its broad resemblance to another case is not at all decisive. What is decisive 6s the nature of the business, the nature of the expenditure, the nature of the right acquired, and their relation inter se, and this is the only key to resolve the issue in the light of the general principles, which are followed in such cases." In Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income tax, the principles laid down by a Full Bench of the Lahore High Court in Benarsidas Jagannath: In re ((1947) 15 I T R 185) which must be borne in mind for deciding whether the expenditure is "revenue" or "capital" expenditure, were approved by the Supreme Court. The Lahore High Court formulated the principles in the following words: "

1. Outlay is deemed to be capital when it is made for the Initiation of a business, for extension of a business, or for a substantial replacement of equipment : vide Lord Sands in Commissioners of Inland Revenue v. Granite City Steamship Company (1927) 13 T C

1. In City of London Contract Corporation v Styles (1887) 2 T C 239, Bowen L. J observed as to the capital expenditure as follows : `You do not use it "for the purpose of" your concern, which means, for the purpose of carrying on your concern, but you use it to acquire the concern'.

2. Expenditure may be treated as properly attributable to capital when it is made not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade : vide Viscount Cave L. C. in Atherton v. British Insulated & Helsby Cables Ltd. (1925) 10 T C

155. If what is got rid of by a lump sum payment is an annual business expense chargeable against revenue, the lump sum payment should equally be regarded as a business expense, but if the lump sum payment brings in a capital assets, then that puts the business on another footing altogether. Thus, if labour saving machinery was acquired, the cost of such acquisition cannot be deducted out of the profits by claiming that it relieves the annual labour bill, the business has acquired a new asset, that is, machinery. The expressions 'enduring benefit' or 'of a permanent character' were introduced to make it clear that the asset or the right acquired must have enough durability to justify its being treated as a capital asset.

3. Whether for the purpose of the expenditure, any capital was withdrawn, or, in other words, whether the object of incurring the expenditure was to employ what was taken in as capital of the business. Again, it is to be seen whether the expenditure incurred was part of the fixed capital of the business or part of its circulating capital. Fixed capital is what the owner turns to profit by keeping it in his own possession. Circulating or floating capital is what he makes profit of by parting with it or letting it change maters. Circulating capital is capital which is turned over and in the process of being turned over yields profit or loss. Fixed capital, on the other hand, is not involved directly in that process and remains unaffected by it." Bhagwati, J., delivering the judgment of the Supreme Court in Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income tax, said that the expression "once and for all" used by Viscount Cave L C., in Atherton v. British Insulated & Helsby Cables Ltd., "is used to denote an expenditure which is made once and for all for procuring an enduring benefit to the business as distinguished from a recurring expenditure in the nature of operational expenses." He also quoted with approval the following observations of Lathem, C. J. in Sun Newspapers Ltd. and Associated Newspapers Ltd. v. Federal Commissioner of Taxation (61 C L R 337): "When the words 'permanent' or 'enduring' are used in this connection it is not meant that the advantage which will be obtained will last for ever. The distinction which is drawn is that between more or less recurrent expenses involved in running a business and an expenditure for the benefit of the business as a whole" . . . . e.g. . . . "enlargement of the good will company"‑"permanent improvement in the material or immaterial assets of the concern." It must be noted that the word "asset", as Lord Atkinson pointed out in Atherton's case, is not confined to "some thing material" ; the asset or advantage may be of an impalpable or incalculable nature (see Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income‑tax). These are the principles which have to be applied in order to determine here whether the expenditure of Rs. 40,100 incurred by the assesses‑company was capital expenditure or revenue expenditure. If these principles are applied to the facts of this case, the answer seems clear that the payment of Rs. 40,100 by the assessee was a capital expenditure. The expenditure was incurred by the assessee once and for all for procuring the benefit and use of Shri Mahabale's service, technical knowledge and experience. It was not any recurring expenditure in the nature of "operational expenses". With that expenditure the assessee acquired an asset in the shape of Shri Mahabale's technical knowledge and practical experience for the purpose of manufacturing castings and certain parts of diesel engines. The expenditure was not Incurred for the purpose of earning profits in the conduct of the assessee's business. The asset, which the assessee acquired, no doubt cannot be compared with factory or office buildings, plant or machinery. The technical knowledge and practical experience of Shri Mahabale was an intangible ambience pervading the production and manufacturing organisation of the assessee. The benefit of the services, technical knowledge and experience of Shri Mahabale, which the assessee acquired exclusively after paying Rs. 40,100 to Messrs Mysore Kirloskar Ltd., was an advantage or asset for the Pnduring benefit of the assessee's business. So long as the assesses retains the services of Shri Mahabale, for its exclusive productive and manufacturing purposes and expresses its value in its products, it is, one may say, a fixed capital of the assessee. The assessee acquired a source of knowledge and experience helpful in the manufacture of the castings and certain parts of diesel engines; and thus by making a payment of Rs. 40,103 secured an enduring advantage and an asset, which is a capital asset of its business. In our judgment, on the application of the tests laid down by the Supreme Court to the facts of this case, there can be no doubt that the expenditure of Rs. 40,100 which the assessee incurred, was with a view to procuring an asset or advantage for the enduring benefit of its business. The question, which we are required to answer, is not directly covered by any authority. Shri Chitaley, learned counsel appearing for the assessee, however, referred us to the decisions in British Sugar Manufacturers Ltd. v. Harris (Inspector of Taxes) ((1939) 7 I T R 101) and Commissioner of Income‑tax v. Ciba of India Ltd. ((1968) 69 I T R 692 (S C)), as authorities supporting to some extent the view that the expenditure incurred by the assessee was a revenue expenditure which the assesses‑company was entitled to deduct under section 37 of the Act. In our opinion, the cases cited by the learned counsel for the assessee are not of much assistance and are clearly distinguishable. In British Sugar Manufacturers Ltd. v. Harris (Inspector of Taxes) a company engaged in the manufacturing business agreed with two other companies to pay them a stated percentage of its "net profits" in consideration of their giving to the company the full benefit of their technical and financial knowledge and experience, and giving to the company and its directors, advice to the best of their ability respectively on all questions of or relating to manufacture and finance and disposal of the company's products. Greene M. R , presiding over the Court of Appeal, held that the payment made by the assesses‑company to the other two companies of a certain percentage of its net profits was a sum which the assessee was entitled to deduct as being "money wholly and exclusively laid out or expended for the purposes of trade". He took the view that the agreement between the assesses‑company and the other two companies was an agree ment for remuneration by way of a commission representing a percentage of "profits" for services to be rendered to the company. He said : " . . . . in other words, it is nothing more or less than a very common type of agreement under which officers of companies are remunerated by a commission on 'profits', which after all is simply a share of `profits' provided that the word `profits' is construed in the right sense." In the payment made by the assessee here to Messrs Mysore Kirloskar Ltd., there is no element of any remuneration at all. The payment was a price paid to Messrs Mysore Kirloskar Ltd. once and for all by the assessee for securing for its exclusive benefit the services, technical knowledge and experience of Shri Mahabale. In the other case, namely, Commissioner of Income‑tax v. Ciba of India Ltd., the assesses‑company was an Indian subsidiary of Ciba Ltd. of Basle, a Swiss company engaged in the develop ment, manufacture and sale of medical and pharmaceutical preparations. By an agreement concluded between the assessee and the Swis company, the latter undertook to deliver 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 communicate the results of its research work, and also granted to the assessee full and sole right and licence under the patent listed in the agreement to make use, exercise and vend the inventions specified therein in India. In consideration of the right to receive scientific and technical assistance, the assessee agreed to make contributions of 5 %, 3 % and 2 % respectively of the net sale price of the products sold by the assessee towards (i) technical consultancy and technical service rendered and research work done; (ii) cost of raw materials used for experimental work ; and (iii) royalties on Trade Marks used by the assesses. The Supreme Court held that the contribution made by the assessee to the Swiss firm towards technical consultancy and technical services rendered, cost of raw materials used for experimental work, and the royalties was allowable as a business expenditure under section 10(2)(xv) of the Indian Income‑tax Act, 1922. This case is also clearly distinguishable. As pointed out by the Supreme Court, the assesses, Ciba of India Ltd., did not, under the agreement become entitled exclusively, even for the period of the agreement, to the patents and Trade Marks of the Swiss company it had merely access to the technical knowledge and experience in the pharmaceutical field which the Swiss company commanded; 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. Here, the assessee obtained the services of Shri Mahabale exclusively for its own benefit ; it was not as if the assesses allowed Shri Mahabale to continue in the service of Messrs Mysore Kirloskar Ltd. and then entered into an agreement with Messrs Mysore Kirloskar Ltd. for being allowed to draw, for the purpose of carrying on its business as manufacturer of certain parts of diesel engines, upon the technical knowledge and experience of Shri Mahabale in consideration of some periodical payment to Messrs Mysore Kirloskar Ltd. Messrs Mysore Kirloskar Ltd. parted with the asset, namely, the services, experience and technical knowledge of Shri Mahabale and the assesses‑company acquired it. For all these reasons, our answer to the question placed before us for decision is that the sum of Rs. 40,100 paid to Shri B. V. Mahabale was a capital expenditure in respect of which the assessee could not claim any deduction under sec tion 37 of the Act. The assessee shall pay costs of this reference. Counsel's fee is fixed at Rs. 200.