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Issues Involved:
1. Taxability of the amount received as 'Non-competition Fee' by Natco Pharma Ltd. and its Managing Director (Shri V.C. Nannapaneni). 2. Classification of the receipt as capital or revenue in nature. 3. Deduction of interest on borrowed funds for investment in shares of Natco Pharma Ltd. Detailed Analysis: 1. Taxability of the Amount Received as 'Non-competition Fee': The primary issue revolves around whether the sums received by Natco Pharma Ltd. and Shri V.C. Nannapaneni (VCN) as 'Non-competition Fee' should be taxed. Natco received Rs. 1.46 crores from Ranbaxy Laboratories Ltd. (RLL) under an agreement dated 20-6-1997, and VCN received Rs. 1.50 crores under the same agreement. Additionally, VCN received Rs. 2 crores from Sun Pharmaceutical Industries Limited (SPIL) under another agreement dated 7-9-1998. The Assessing Officer (AO) treated the receipt by Natco as a capital gain, considering it a return for the sale of goodwill, while the receipt by VCN was assessed as income from other sources. The CIT(A) confirmed the AO's orders in all three cases, leading to the appeals before the Tribunal. 2. Classification of the Receipt as Capital or Revenue in Nature: The Tribunal examined the nature of the receipts to determine whether they should be classified as capital or revenue. The AO argued that the non-competition agreement was part of a larger whole involving several agreements, including the transfer of technical know-how and unregistered trademarks. The AO viewed the non-competition agreement as a transfer of goodwill, classifying the receipt as a capital gain. In contrast, VCN argued that the payment was for the loss of a source of income, citing the Supreme Court decision in Gillander Arbuthnot & Co. Ltd. v. CIT, which held that compensation for the loss of a source of income is a capital receipt. The Tribunal noted that the surrounding circumstances and the perception of the parties are crucial in determining the nature of the receipt. The Tribunal observed that VCN, with his expertise and position in Natco, was paid to refrain from competing in the specified territory, which could be seen as a loss of an enduring trading asset. The Tribunal also considered various case laws, including CIT v. Best & Co. (P.) Ltd. and Kettlewell Bullen & Co. Ltd. v. CIT, which provided principles for distinguishing between capital and revenue receipts. 3. Deduction of Interest on Borrowed Funds for Investment in Shares of Natco Pharma Ltd.: VCN raised an additional ground regarding the deduction of interest on borrowed funds for investment in shares of Natco Pharma Ltd. The AO had disallowed the interest deduction, arguing that dividend income was exempt from tax for the assessment year 1998-99. VCN contended that the interest paid up to 31-5-1997 should be allowed as a deduction since dividends declared/distributed after 1-6-1997 were exempt. The Tribunal admitted the additional ground and directed the AO to consider the claim for deduction of interest expenditure for the period 1-4-1997 to 31-5-1997, as section 10(33) of the Act did not cover this period. Conclusion: The Tribunal concluded that the amount received by Natco Pharma Ltd. is a capital receipt not liable to tax, as it represented a loss of an enduring trading asset. However, the receipt by VCN was treated as a revenue receipt, as there was no impairment of his profit-making structure or apparatus. The Tribunal also directed the AO to consider the deduction of interest expenditure for the period 1-4-1997 to 31-5-1997 in VCN's case. The appeals were disposed of accordingly, with ITA No. 642/Hyd./2002 partly allowed, ITA No. 782/Hyd./2002 dismissed, and ITA No. 361/Hyd./2003 allowed.
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