2017 (8) TMI 731 - HC - Income Tax

Payment of non-compete fee - real nature of the transaction - genuine Non-Competition Agreement - payment of compensation in lieu of the non-compete agreement after retirement - whether not taxable in the hands of the assessee being a capital receipt - Held that - The AO, incorrectly, interprets Clauses 2, 3 & 4 in holding that they actually contradict each other. The AO was clearly wrong in holding that the agreement was structured in a manner so as to give the Assessee adequate loopholes to bypass the restrictions with the consent of MEW . He termed the agreement as being non-serious. The AO also appears to have wrongly construed the fact that the payment was received prior to the signing of the agreement and hence it is nothing but a terminal benefit. In the statement of the Assessee, which was recorded by the AO on 9th December, 1997, she had explained to the AO that it was due to her personal efforts that the business of the company had grown and expanded from one office in Delhi to offices in several cities including Mumbai, Bangalore, Calcutta, Chennai and Kathmandu. She has explained the reason to leave TSME, as MEW wanted to drop her name from TSME in order to have a competitive advantage in India. She further explained that the money being paid to her as a non-compete fee was not directly related to the remuneration she was receiving from TSME, thus subsequent conclusion of the AO that the money paid to her was not a non-compete fee but a terminal benefit is wholly unsustainable. The Assessee, as clearly ascertainable from the record, was a lady who enjoyed a stature in the advertising industry and the Non-Competition Agreement, by which she agreed not to compete in India with MEW, was clearly not a sham. She is now 82 years of age and considering that the Revenue s appeal challenges concurrent findings of the CIT (A) and ITAT, we do not find any cause to interfere. In the facts of the present case, this Court is persuaded to follow the decisions in Guffic Chemical Pvt. Ltd (2011 (3) TMI 6 - Supreme Court), Khanna and Annadhanam (2013 (1) TMI 681 - DELHI HIGH COURT) and Rohitasava Chand (2008 (3) TMI 16 - HIGH COURT OF DELHI ) to hold that the Non-Competition Agreement is genuine and the payment made thereunder is indeed a non-compete fee. - Decided in favour of the Assessee

Summary

Issues Involved:
1. Taxability of the non-compete fee received by the Assessee.
2. Interpretation of the Non-Competition Agreement.
3. Determination of whether the non-compete fee is a capital receipt or a revenue receipt.

Issue-wise Detailed Analysis:

1. Taxability of the Non-Compete Fee:
The primary issue was whether the sum of ?3,15,31,750 received by the Assessee as a non-compete fee should be treated as taxable income. The Assessing Officer (AO) contended that the amount was a terminal benefit disguised as a non-compete fee to avoid tax. The AO argued that the payment was part of a well-orchestrated plan to break up the terminal benefits received by the Assessee. The AO relied on the judgment in McDowell Company Pvt. Ltd. v. CIT to argue that the transaction should not be viewed in isolation but in its entirety, concluding that the entire amount should be taxable under Section 28(ii) of the Income Tax Act.

2. Interpretation of the Non-Competition Agreement:
The AO questioned the seriousness of the Non-Competition Agreement, pointing out that it did not restrict the Assessee from competing outside India and that it was governed by the laws of England, with arbitration to be conducted in Paris. The AO deemed these clauses as indicative of the non-serious nature of the agreement. However, the Court found that the AO did not correctly interpret the agreement as a whole. The Court noted that clauses 3 and 4, which the AO relied upon to argue that the agreement was non-serious, were standard severability clauses that did not undermine the genuine nature of the Non-Competition Agreement.

3. Determination of Whether the Non-Compete Fee is a Capital Receipt or a Revenue Receipt:
The Court analyzed whether the non-compete fee was a capital receipt or a revenue receipt. The Assessee argued that the fee was a genuine non-compete payment for her agreement not to compete with MEW in India, which was not taxable. The Court referred to several precedents, including CIT v. HCL Infosystems Ltd., CIT v. Bisleri Sales Ltd., and Guffic Chemical Pvt. Ltd. v. CIT, which held that non-compete fees are capital receipts and not taxable. The Court emphasized that the real nature of the transaction was to prevent the Assessee from competing with MEW, and the payment was not a terminal benefit. The Court also noted that the Assessee's stature in the advertising industry and her potential to take away clients and employees justified the non-compete fee.

Conclusion:
The Court held that the non-compete fee paid to the Assessee was a capital receipt and not taxable. The Court found that the Non-Competition Agreement was genuine and the payment made thereunder was indeed a non-compete fee. The question of law was answered in favor of the Assessee and against the Revenue, and the appeal was dismissed with no order as to costs.