2017 (12) TMI 131 - HC - Income Tax

Nature of expenditure - non-compete fee - revenue or capital expenditure - Held that - The consideration of ₹ 70 lakhs was not expressly towards the non-compete obligation, but towards smoothening the process of acquisition of the asset, i.e., the unit of SML in Madras. Approvals that were required from the financial institutions, income tax authorities and other governmental authorities were towards the finalisation and closure of the acquisition process. Other covenants and obligations imposed upon SML, i.e., warranties, confidentiality, etc., added value to the asset being acquired. There is no doubt that in the facts of the present case, the payment of ₹ 70 lakhs is a capital expenditure and hence the question of law is answered in favour of the Revenue

Summary

Issues Involved:
1. Whether the ITAT was right in holding that payment of ?70 lakhs made by the appellant on account of non-competition for a period of five years was in the nature of capital expenditure.
2. Whether the ITAT was right in holding that the interest income earned by the appellant on deposits in banks towards margin money is not income derived from an industrial undertaking.

Detailed Analysis:

Issue 1: Nature of Non-Compete Payment

Background and Contentions:
- The appellant (Assessee) paid ?70 lakhs to M/s. Shriram Mobiles Limited (SML) under a non-compete clause while acquiring assets and liabilities of SML's factory.
- The Assessee claimed this payment as revenue expenditure, arguing it was for a short-term non-compete period of five years.
- The Assessing Officer (AO) classified the expenditure as capital, stating it provided an enduring benefit by eliminating competition.
- The Commissioner of Income Tax (Appeals) [CIT(A)] reversed the AO’s decision, treating it as revenue expenditure citing a precedent (CIT v. G.D. Naidu).
- The ITAT restored the AO's finding, considering the expenditure capital in nature as it perpetuated the Assessee’s market exclusivity.

Agreement Analysis:
- The agreement dated 16th February 1995 included a ?1.30 Crores payment for net asset value and ?70 lakhs for various obligations and covenants, not solely for non-compete.
- Obligations included warranties and representations, indemnification, document execution for asset transfer, approvals from financial institutions and tax authorities, confidentiality, and non-compete.

Court’s Reasoning:
- The ?70 lakhs payment was not exclusively for the non-compete clause but also for ensuring smooth transfer and acquisition of SML's assets.
- The non-compete clause was limited and not imposed on SML’s promoter directors, indicating the payment was for multiple enduring benefits, not just non-compete.
- The payment facilitated the acquisition process, adding value to the acquired assets, thus constituting capital expenditure.
- The Court referred to precedents (Eicher Ltd. and Sharp Business System) but distinguished the facts, emphasizing the enduring nature of the benefit derived.

Conclusion:
- The ?70 lakhs payment was capital expenditure as it ensured smooth acquisition and provided enduring benefits.

Issue 2: Interest Income on Margin Money

Background and Contentions:
- The ITAT held that the interest income earned by the Assessee on deposits in banks towards margin money was not income derived from an industrial undertaking.
- The Assessee did not contest this issue during the appeal, focusing primarily on the non-compete payment classification.

Court’s Reasoning:
- The judgment primarily addressed the non-compete payment issue, implicitly affirming the ITAT's decision on the interest income as it was not contested.

Conclusion:
- The interest income on margin money deposits is not considered income derived from an industrial undertaking.

Final Judgment:
- The appeal is dismissed, affirming the ITAT's decision that the ?70 lakhs payment is capital expenditure and the interest income on margin money is not derived from an industrial undertaking. No orders as to costs.