2017 (2) TMI 126 - HC - Income Tax

Payment towards Royalty - whether would be Revenue expenditure or Capital expenditure - Held that - In the present case, a concurrent finding has been recorded by CIT(A) and Tribunal both that on termination of Agreement, which was for a period of five years, Assessee would return all relevant material relating to know-how acquired through Agreement. This is one of the relevant consideration observed in Alembic Chemical works Ltd. Vs. CIT(A) (1989 (3) TMI 5 - SUPREME Court ) to hold that in such a case, payment towards Royalty would be Revenue expenditure and not Capital . The agreement also shows that it was not an exclusive right available to the Assessee, inasmuch in para 13 of Annexure, of foreign collaboration, approval accorded by Government of India provides that in case item of manufacture is one which is patented in India, payment of Royalty /lump sum made by Indian Company to Foreign collaborator, during period of agreement shall constitute full compensation for use of patent right till expiry of life of patent and Indian Company shall be free to manufacture that item even after expiry of the collaboration agreement without making any additional payments. Assessee claimed that royalty payment is part of percentage of selling price of product and not for acquiring technical know-how of manufactured licensed product having enduring benefit. These facts available on record have not been disputed and we have not been shown any authority so as to justify to take a different view than what has been taken by Tribunal. - Decided in favour of Assessee

Summary

Issues Involved:
1. Whether the Tribunal was justified in holding the royalty payment as revenue expenditure.
2. Whether the Tribunal failed to appreciate the Assessing Officer's distinction of the Bombay High Court decision and the Apex Court's order in treating the royalty as capital expenditure.

Issue-wise Detailed Analysis:

1. Justification of Royalty Payment as Revenue Expenditure:
The primary issue was whether the royalty payment of ?18,20,277 to the foreign collaborators for technical collaboration should be treated as revenue expenditure. The Tribunal upheld the CIT(A)'s view, rejecting the Revenue's claim that it was capital expenditure. The Tribunal noted that the technical know-how remained the property of the foreign company, and the assessee was merely granted a license to use it. The agreement was for five years, after which all materials related to the know-how had to be returned, indicating no enduring benefit for the assessee. The Tribunal relied on the Delhi High Court's judgment in Addl. Commissioner of Income Tax Vs. Shama Engine Valves Ltd., which held that recurring royalty payments for the use of know-how were revenue expenditures as they were directly related to the business operations and did not confer any enduring benefit.

2. Assessing Officer's Distinction and Apex Court's Order:
The Revenue argued that the Assessing Officer correctly distinguished the Bombay High Court decision in CIT Vs. Tata Engineering and Locomotives Co. Pvt. Ltd. and relied on the Supreme Court's decision in M/s Scientific Engineering House to treat the royalty as capital expenditure. However, the Tribunal and the CIT(A) found that the facts of the present case did not align with those in the cited cases. Specifically, the Supreme Court's decision in Scientific Engineering House involved the acquisition of tangible assets, whereas in the present case, the payment was for the use of technical know-how without any transfer of assets or enduring benefit. The Tribunal also referenced the Supreme Court's decision in Alembic Chemical Works Co. Ltd. Vs. CIT, which emphasized that the nature of the advantage and its lasting qualities should be considered in determining whether an expenditure is capital or revenue. The Tribunal concluded that the royalty payment was part of the profit-making process and not for acquiring any asset or advantage of enduring benefit.

Conclusion:
The High Court upheld the Tribunal's decision, confirming that the royalty payment was revenue expenditure. The Court noted that the agreement did not grant the assessee any enduring benefit, as the technical know-how had to be returned after five years. The payment was linked to the sales and was necessary for the business operations, thus qualifying as revenue expenditure. The Court dismissed the appeal, answering both questions in favor of the assessee and against the Revenue, and awarded costs to the assessee.