2015 (4) TMI 946 - HC - Income Tax

Taxability of goodwill - whether sum received by the company from its collaborators on account of goodwill not exigible to tax as held by Tribunal - Held that - Basis for valuation of goodwill in this case was three fold (a) the assessee, though established in 1984 in a sense was continually engaged in business since 1975, when Sehgal Cables started functioning (that concern s business was assimilated by the assessee); (b) the assessee had unexecuted orders worth ₹ 4.87 crores in hand, when the collaboration agreement was signed; its profit for one year offset the loss for the previous year; (c) the assessee held a manufacturing monopoly over one product, i.e wireless harness. As is evident from the Supreme Court s ruling in S. C. Cambatta, there is no stipulated matrix of factors which are to be taken into consideration. Whilst the length of time for which a business might operate, its profitability, etc. are relevant, equally whether, and to what extent it has competition in respect of the business activities it undertakes, the market acceptability and demand for the product or services in question, capital employed, unique expertise developed, etc. too are all relevant. The ITAT s view therefore has some basis in law. It is worthwhile to recollect that the Supreme Court, in Commissioiner of Income Tax v. Srinivasa Setty 1981 (2) TMI 1 - SUPREME Court held that since goodwill is a self-generating asset, its transfer would not give rise to a capital gain. The weight attached by the ITAT to the monopoly enjoyed by the assessee in respect of the product manufactured, the continuous functioning - since the business of Sehgal Cables had been taken over by the assessee (thus the probability that the old customers would resort to the old places‟ adverted to in Srinivasa Setty supra ); the large volume of orders at hand when the collaboration transaction took place, were sufficient basis for valuation. This Court also notices that the AO and CIT (A) did not advert to the report of M/s R. K. Khanna nor cared to call that firm. In the circumstances, it cannot be held that the valuation of goodwill made by the assessee was unreasonable or untenable in law. - Decided in favour of assessee.

Summary

Issues:
1. Valuation of goodwill for tax purposes based on collaboration agreement.

Analysis:
The case involved a dispute over the valuation of goodwill for tax purposes arising from a collaboration agreement between the assessee and a new company. The assessee claimed the value of goodwill transferred to be &8377; 51,30,338, which was disallowed by the Assessing Officer (AO) and confirmed by the Commissioner (Appeals). The Income Tax Appellate Tribunal (ITAT) allowed the assessee's appeal, emphasizing factors such as the assessee's continuous business operations, profitability, unexecuted orders, and manufacturing monopoly over a product. The ITAT's decision was challenged by the revenue, arguing that the valuation lacked a scientific basis and was unsustainable.

In determining the valuation of goodwill, the ITAT considered various factors such as the business's history, profitability, market demand, competition, and unique expertise. The court referred to legal precedents highlighting that goodwill depends on a combination of circumstances, including business operations, reputation, competition, and market acceptability. The court also cited rulings stating that goodwill is a self-generating asset and its transfer does not give rise to a capital gain. Additionally, the court noted that the AO and Commissioner (Appeals) did not consider a report supporting the assessee's valuation, leading to the conclusion that the valuation was reasonable and lawful.

Ultimately, the court ruled in favor of the assessee, dismissing the revenue's appeal and upholding the ITAT's decision. The judgment highlighted the need to assess goodwill valuation comprehensively, considering various factors beyond mere profitability or order volume. The decision underscored the importance of a holistic approach to goodwill valuation and the significance of relevant legal principles in such assessments.