1997 (2) TMI 561 - AT - Income Tax

Summary

Issues Involved:
1. Whether the amount of Rs. 11,00,000 paid to the assessee by M/s. Hindustan Ciba Geigy Ltd. (HCGL) against a restrictive covenant is exigible to tax.

Summary:

Issue 1: Taxability of Compensation Paid Against Restrictive Covenant

The solitary issue in this appeal is whether the amount of Rs. 11,00,000 paid to the assessee by HCGL against a restrictive covenant is exigible to tax. The assessee, who had a distinguished career in the pharmaceutical industry, entered into an agreement with HCGL on 11th April 1983, agreeing not to engage in any competitive business for five years in exchange for Rs. 11,00,000.

The Assessing Officer added this amount to the assessee's income, treating it as "profits in lieu of salary" u/s 17 of the Income-tax Act, 1961. The CIT(A) confirmed this addition. The assessee argued that the compensation was a capital receipt, not exigible to tax, and relied on the Supreme Court's decision in Superintendence Co. of India v. Shri Krishan Murgai [1981] 2 SCC 246, which held that agreements of service containing restrictive covenants are not void u/s 27 of the Indian Contract Act, 1872, during the term of employment.

The Department contended that the compensation was for past services and thus taxable. The Department also argued that the restrictive covenant was a ploy to evade tax, citing the sequence of events leading to the agreement.

The Tribunal held that the restrictive covenant was entered into consequent upon the termination of employment and was not a subterfuge. The Tribunal noted that u/s 27 of the Contract Act, restrictive covenants extending beyond the term of service are void. The Tribunal also emphasized that the burden of proving tax evasion lies with the Department, which failed to provide substantial evidence.

The Tribunal concluded that the compensation was a capital receipt, not a revenue receipt, as it was not remuneration for services but a payment for agreeing to refrain from competitive business. The Tribunal relied on precedents like CIT v. Ajit Kumar Bose [1987] 165 ITR 90 and Gillanders Arbuthnot & Co. Ltd. v. CIT [1964] 53 ITR 283, which held that such payments are capital receipts.

Conclusion:

The Tribunal allowed the appeal, holding that the amount of Rs. 11,00,000 paid to the assessee by HCGL against a restrictive covenant is not exigible to tax, as it is a capital receipt.