9911796707
TMI Blog2005 (1) TMI 333X X X X Extracts X X X X X X X X Extracts X X X X ..... see. It is true that some of the information asked for was not furnished. The learned counsel for the assessee has informed us that the same was either not in the possession of the assessee or did not exist. The assessee had certain reservation about furnishing the sensitive information regarding the product-wise profitability as the assessee was in highly competitive market of fast moving consumer goods. However, eventually, the assessee furnished even the data pertaining to product-wise profitability. The assessee did not furnish the particulars of profit and balance sheet, etc. of Nestec, SPN, Nestle SA of Switzerland, because the same fell outside the assessee's obligation to supply. Ironically, according to the assessee, all this emphasis on working of profit of the assessee and service providers was irrelevant because the quantum of remuneration could neither be fixed nor adjudged on the yardstick of profit. Applicability or otherwise of the provisions of s. 40A(2)(b)/s. 927/art. 9 of DTAA , etc. For the purpose of this order, we do not wish to go into the finer technical points relating to these legal provisions. In our view, in the absence of any specific material, evid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... herefore, the assessee could not by any stretch of imagination be considered to need further technical assistance of the magnitude so as to part with a substantial chunk of its business profit. As we have pointed out that the assessee only had initial onus to substantiate its claim of deduction of expenditure as laid down u/s 37(1). The burden to prove that the claim of expenditure was a colourable device or a camouflage for diversion of profits rested upon the Revenue. In the order of the authorities below, no material has been brought on record except disbelieving the assessee's explanation and their subjective opinions. The burden of their order is that the assessee so arranged its course of business that it was left with a less than ordinary profit expected in the assessee's line of business. No one, however, has taken care to specify as to how much that ordinary profit was supposed to be and on what basis the same could be determined. It appears to us that the assessment order for AY 1997-98 and the learned AO as well as the CIT(A) for the AY 1998-99 have argued without adequate material that the assessee might have taken the advantage of liberalization of Industrial P ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by this consolidated order for convenience. 3. The main dispute in these appeals pertains to the deduction claimed by the assessee-company on account of payments made to two companies, viz., Nestec Ltd. and Societe Des Produits, Nestle SA, hereinafter referred to as Nestec and SPN respectively. These two companies were 100 per cent subsidiary of Nestle SA, Switzerland. As to the shareholding of the assessee-company, i.e., M/s Nestle India Ltd., 51 per cent was held by two companies, namely, M/s Nestle SA and M/s Nestle Holding Ltd. Bahamas and 49 per cent by others including Indian public. The Nestle Holding Ltd. Bahamas was 100 per cent subsidiary of M/s Nestle S.A, Switzerland. The assessee-company has been making such payments to Nestec and SPN for last several assessment years and the deduction of the same as claimed by the assessee has been allowed in those assessment years. During the course of the assessment proceedings, for the asst. yr. 1997-98, the assessee claimed deduction of a sum of Rs. 47 crores under the head Royalty for technical assistance and the AO examined the claim of deduction in detail. He addressed a letter dt. 7th June, 1999, to the assessee-company seeki ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h Dec., 1999. He further directed that the technical persons in charge of each manufacturing unit should be produced in person for examination along with supporting documents/evidence for clarification in regard to payment of royalty for technical assistance. The assessee made its submissions dt. 7th Jan., 2000. Further, on 18th Jan., 2000, Mr. Donati, Managing Director, appeared along with Mr. J.M. Stoker, Executive Vice President (Technical), Shri B. Murli, Head of Legal and Company Secretary, Mr. Duggal, Head of Financial Control and Taxation and Shri S.K. Sharma, Manager (Taxation). Mr. J.M. Stoker made submissions regarding the technicalities of technical assistance and the written submission dt. 18th Jan., 2000, was also made. Subsequently, the assessee made the submissions vide letter dt. 1st Feb., 2000 and 15th Feb., 2000. While the learned AO has reproduced verbatim in the assessment order all requisitions and order sheet noting made by him, he has summarized the assessee's reply including letters dt. 6th Oct., 1999; 29th Nov., 1999; 24th Dec., 1999; 7th Jan., 2000; 18th Jan., 2000; 1st Feb., 2000 and 15th Feb., 2000, in para 10 of the assessment order. According to th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the group. The assessee had entered into royalty agreement for the business of Soya based product but discontinued the same as the product was not found to be commercially viable. The payments were being made only for those products that were commercially successful in India and not all the products of Nestle Group. The assessee-company paid for tested technology. The technology being received by the assessee-company was proprietary and in terms of the agreements, complete confidentiality and secrecy had to be maintained. There was no question, therefore of any evaluation of royalty by an outside financial institution. The RBI was the nodal agency of Government of India for payment of royalty for technical assistance. In these matters discretion of the businessman was supreme unless the AO derived authority under s. 40A(2). The onus was on the Department to prove that because of the close connection between the payer and the payees, the excess payment had been made. Vide letter dt. 18th Jan., 2000, and during the personal hearing, Mr. J.M. Stoker, Executive Vice President (Technical) had made detailed submissions regarding the technical assistance received by the assessee and the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 589.47 crores and Rs. 755.10 crores. For asst. yr. 1997-98, the payment of royalty was almost equal to the book profit. The learned AO further noted that the Agron Industrial Unit had shown a turnover of Rs. 166.81 crores, profit of Rs. 42.78 crores and royalty payment of Rs. 7.74 crores whereas for the Nanjangud Industrial Undertaking, the assessee showed the turnover of Rs. 144.71 crores, profit of Rs. 8.69 crores and payment of royalty Rs. 5.98 crores. Thus, the payment of royalty on the product-wise profit was not proportionate to the profit being generated in various units. In this background, the assessee was asked to file the complete working on the basis of which, the percentage of royalty payment for technical assistance was fixed up at the time of signing of the agreement. As huge amounts were being paid, the assessee-company was also asked to explain whether any annual evaluation of the payment of royalty was made keeping in view those aspects, the following queries were made : (a) The day/year when the product was started manufacturing in India. (b) The product-wise details of sale, profit, the quantum of royalty paid during the period of agreement. The product-wise c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... -vis the profit generated by the company because the main goal of a business venture remains profit at the top. 8. According to the learned AO, the payment of almost equal to book profit was nothing but an arrangement to transfer excessive profit to group/holding company. The course of business was so arranged that the business transacted between them produced the resident assessee-company less than the ordinary profits that might be expected to arise in the business. It was totally wrong to say that the payment of royalty for technical assistance approved by the Government of India could not for that reason be examined by the AO. The argument that the payment of royalty was in the interest of the assessee-company could not be accepted unless the working was provided. No working was done like what was the sale of each of the product and what was going to be the effect of technical assistance on the quality and consequent sale of such product finally on profit. It was pertinent to note that all the products on which the royalty for technical assistance was paid and agreement entered into had long been under production in India by the assessee-company itself. Year-wise introduction w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... too being produced by the assessee-company itself in India for many years, as early as 1960, suddenly entering into an agreement for technological assistance was for taking the advantage of guidelines issued in the form of Industrial Policy. The learned AO further argued that in the absence of details filed by the assessee, it was difficult to arrive at the correct amount which should be allowed as royalty for technical assistance. It was noticed that out of total sum of Rs. 47 crores, a sum of Rs. 20.72 crores had been paid only on coffee that had been under manufacture by the assessee-company since 1964. The learned AO did not see force in the contention of the assessee that over the years, the foreign collaborator of the assessee-company had evolved the improved technology of the process of breaking large molecules in coffee beans which resulted in greater solubility of compound and that the improved technology had been evolved for aroma recovery and handling in coffee process resulting into an enhanced taste profile. According to the AO, these technological advancement could not be considered worth payment of Rs. 20.72 crores in one year only. The assessee had not furnished the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... India. 11. According to the learned CIT(A), the above mentioned premises of the AO were not acceptable. The royalty payments were in terms of sales in the range of 3.5 per cent to 5 per cent against the Government's norms of 5 per cent to 8 per cent. The assessee's arguments that the profit is a derived figure which may be low, high or even negative whereas the sales figures are invariable and, therefore, the royalty is usually linked to sales were acceptable. Looking at the payments from the businessman point of view, it was difficult to see as to how the same could be considered as excessive. The learned AO had not applied any yardstick whereas measured against the Government norms of royalty payments the same appeared very reasonable. The learned CIT(A), therefore, deleted the disallowance of Rs. 15 crores made by the AO. Aggrieved by that order, the Revenue is in appeal before us. 12. During the course of the assessment proceedings for the asst. yr. 1998-99, the AO relied upon the findings of his predecessor for the asst. yr. 1997-98. He noted that the disallowance as made by the AO had been deleted by the learned CIT(A) but that order had not been accepted by the Depar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the parameters of Industrial Policy. Reliance was placed on the Supreme Court judgment in the case of LIC vs. Escorts Ltd. Ors. (1986) 1 SCC 264 : 59 Comp Cas 548 (SC). The AO also filed the written comments before the learned CIT(A). It was pointed out that the royalty payment was more than 40 per cent of the profits on the products concerned. The learned AO recapitulated various contentions of the AO for asst. yr. 1997-98. 14. The learned CIT(A) confronted the assessee with the aforesaid report of the AO for the asst. yr. 1998-99. The assessee filed its rejoinder by way of letter dt. 4th Jan., 2002, and that has been reproduced in para 8 of the impugned order of the learned CIT(A) for the asst. yr. 1998-99. The assessee denied that during the course of the assessment proceedings for the asst. yr. 1997-98, the assessee had not furnished the details required by then AO. The assessee argued that for the asst. yr. 1997-98, the learned CIT(A) had mainly acted on commercial expediency. The learned CIT(A) did not ignore the provisions of s. 40A(2) and s. 92 because, he found that the payment made by the assessee to be very reasonable . As to the payment net of tax, the assessee pointed ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... st liberalization in 1991 taking advantage of the fact that in place of specific approval an automatic route had been provided. It was, therefore, deliberate policy on behalf of the assessee-company to siphon away the profit in the liberalized atmosphere and processes in vogue in India after liberalization. For the asst. yr. 1988-89, the royalty payment was 2.5 per cent of the profit before tax. The same was 5.2 per cent in the asst. yr. 1991-92. But suddenly in the asst. yr. 1997-98 it was 78.37 per cent. Therefore, it was more than 3/4th of the profit. Even for the asst. yr. 1998-99, it was 49.94 per cent of the profit before tax. The assessee was throughout making its case on the low rate of royalty in terms of its turnover rather than connecting the same with its profitability. In the context of Transfer Pricing, the amendment had been made to ss. 92 to 92F. There were several methods laid down such as comparable uncontrolled price method; resale price method; cost plus method; profit split method and transaction net margin method. The assessee had also not furnished the details regarding the filing of the return by the recipient non-resident companies in India. The learned Add ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the asst. yr. 2001-02 from a level of Rs. 4.6 crores in the asst. yr. 1989-90. 18. In its reply dt. 13th Feb., 2002, the assessee-company strongly disputed the legal contention of the Department that the provisions of s. 40A(2)(b) are applicable. As to the approval granted by the RBI, the assessee contended that there was no difference between the approval by the RBI and that of Government of India. The AO failed to take any cognizance of CBDT Circular No. 6-P, dt. 6th July, 1968, where in para 75 it was clarified by the Board that when scale of remuneration of a director of a company has been approved by the Company Law Administration, there was no question of disallowance of any part thereof in the income-tax assessment. On the same basis, once the reduce payment of royalty was approved by RBI, the same should not have been questioned in the income-tax assessment. The assessee argued that the commercial expediency was required to be viewed from the point of view of the businessman and not that of the AO. Reference was made to the judgments reported in Newtone Studio Ltd. vs. CIT (1955) 28 ITR 378 (Mad), Chairman, ITAT vs. Y.E. Aboo (1956) 30 ITR 27 (Rang), F.E. Dinshaw Ltd. vs ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Royalty rates paid by group companies in comparable countries like China, Sri Lanka, Bangladesh were cited to support the royalty payment by the assessee-company. As to the assessee not furnishing the information, the assessee argued that the same were supplied whenever asked for. Particulars as to how the technologies were developed by the recipient company were irrelevant to the issue of allowability of royalty payment in the assessment of the assessee-company. The assessee took strong exception to the observations of the Addl. DIT that it was deliberate policy on the part of the company to siphon away the profits in liberalized atmosphere and that the assessee was trying to take undue advantage of liberal industrial policy of Government of India. The assessee also relied on the decision of the Tribunal, Pune in the case of Kinetic Honda Motors Ltd. vs. Jt. CIT (2001) 72 TTJ (Pune) 72 : (2001) 77 ITD 393 (Pune). 21. The learned CIT(A) observed that he had considered at length the order of his predecessor for the asst. yr. 1997-98 as well as the assessment order passed in the asst. yr. 1997-98 and the written submissions of the parties and their oral arguments. He found that his ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ked out at a whopping 49.95 per cent in respect of asst. yr. 1998-99 and 78.37 per cent in respect of asst. yr. 1997-98 whereas the same was as low as to 2.53 per cent, 5.71 per cent, 5.24 per cent, 4.48 per cent, etc., in respect of asst. yrs. 1989-90 to 1992-93. Even the figures for 1993-94 to 1995-96, were relatively low as 17.15 per cent, 17.39 per cent and 25.91 per cent only, respectively. In respect of asst. yrs. 2000-01 and 2001-02, the percentage worked out at only 31.99 per cent and 28.83 per cent. He, therefore, found that the claim of royalty was quite disproportionate so far as the asst. yrs. 1998-99 and 1997-98 were concerned. The ratio was high for asst. yr. 1996-97 also but in that year the issue was not examined by the AO. There was no res judicata in income-tax proceedings. According to the learned CIT(A), it appeared as if the assessee was doing business not for itself but for the closely connected companies to whom the royalties for technical assistance had been paid. 23. The learned CIT(A) examined also the details of net profit ratio mentioning the position as follows : Asst. yr. Turnover Profit before tax (but after charge of royalty) Net profit ratio (1) (2) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the doctrine of lifting corporate veil was expanding in the context of modern jurisprudence. 26. According to the learned CIT(A), enquiries were made with the Asst. Director, Enforcement Directorate and it was found that certain FERA violation by the assessee during the period 1994-95 was detected in relation to irregularity in the export of coffee by the assessee-company. Investigation revealed that while ostensibly the assessee-company had concluded contracts with several Russian companies for sale of coffee in Indian rupees, but the entire operation was actually controlled by Nestle World Trade Corporation, Switzerland, and that the same consignments were sold to other than LC opening parties. 27. The CIT(A) found that the reliance placed by the assessee on Industrial Policy of 1991 and judgment of the Hon'ble Supreme Court in the case of Life Insurance Corp. vs. Escorts Ltd. (supra) was not justified. The Industrial Policy of 1991 did not suggest all other laws of the country would be dwarfed in comparison to the Industrial Policy resolution of the Government. Those were broad guidelines so as to enable the entrepreneurs to take their investment decision in India. As ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ities below in describing the payments made by the assessee as 'royalty'. The fact of the matter was that the assessee paid technical assistance fee and not any royalty. He, therefore, requested certain time to be allowed to file additional grounds of appeal in this behalf for asst. yr. 1997-98. Subsequently, on 13th Aug., 2004, the following additional grounds of appeal were filed in relation to Revenue's appeal for asst. yr. 1997-98 : In the facts and circumstances of the case and law, the order of the leaned CIT(A) is perverse inasmuch as that, (a) He has deleted the disallowance made for the remuneration paid as fees for technical assistance, erroneously holding it as royalty payment for technical know-how. (b) The learned CIT(A) has ignored the material fact in the form of agreements for technical assistance which were on record and under which the payments have been made and has treated the entire payment as royalty for technical know-how. After considering the matter, we admitted the additional grounds of Revenue as above mentioned for asst. yr. 1997-98. 30. At the time of making his arguments, Mr. Lav Saksena filed before us 3 charts. Initiating the arguments, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mounting to Rs. 59.9 crores. The payment was equal to 78.37 per cent of net profit. For asst. yr. 1998-99, the figures were Rs. 1,521 crores, Rs. 58 crores and Rs. 116 crores, respectively and thus the payment was equal to 49.95 per cent of net profit. It was, therefore, essential to examine as to what the assessee had got for having parted with such a huge junk of its profit. This aspect of the issue assumed utmost importance when it was realized that the payees were none other than 100 per cent subsidiaries of Nestle SA, Switzerland, who owned 51 per cent of the share capital of the assessee-company. 32. The learned CIT (Departmental Representative) followed up his oral arguments by a written note. The AO had sought justification for payment of such huge amounts. Inter alia, the AO sought details regarding year-wise figures of product-wise turnover and such royalty payment, manufacturing profit, etc. The AO also inquired whether any review was undertaken from time to time to evaluate the need to pay royalty at percentages fixed earlier including certification of the merit of the royalty arrangement by a competent third party. The AO also found that provisions contained under s. 4 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... siness, the AO on estimate disallowed a sum of Rs. 10 crores. Out of the balance amount of payments, the AO made an estimated disallowance of Rs. 5 crores in the absence of various details regarding various products, which were not filed by the assessee. The disallowance, apparently, was extremely reasonable. 34. The learned CIT(A) had deleted the disallowance by holding that the royalty payments amounted to 3.5 per cent on domestic sales and 5 per cent on export sales as against the norms fixed by Government of India which permitted payment of royalty up to 5 per cent on domestic sales and 8 per cent on export sales. The learned CIT(A) had also accepted the assessee's argument that royalty payments for technical know-how which went into the manufacture of products should be usually linked to sales and not to profits. The learned CIT(A) had completely ignored the fact that the AO had strived to go into the commercial expediency behind the impugned payments amounting to Rs. 47 crores. It was towards this objective that the AO sought various details in his elaborately discussed order running into 39 pages. The assessee never provided the substantative details that could prove the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... disallowance made for remuneration paid as fees for technical assistance, erroneously holding it as royalty payment for technical know-how. The learned CIT(A) had also ignored the material fact in the form of agreements for technical assistance, which were on record and under which the payment had been made and had treated the entire payment a royalty for technical know-how. 36. The learned counsel for the assessee argued that the case of the Revenue was entirely uncalled for. He pointed out that for asst. yr. 1997-98 there were 7 agreements under which payments in question had been made. Thereafter, during the year on 29th Aug., 1996, 2 more agreements were made and accordingly there were 9 agreements in question for asst. yr. 1998-99. The assessee had received technical assistance on almost every aspect of its business of food products in India and gained rich returns for money spent. 37. Both during the assessment proceedings for asst. yrs. 1997-98 and 1998-99, the AO called upon the assessee to furnish voluminous information and the assessee diligently complied with his requisitions. The learned counsel argued that it was totally incorrect to say that the assessee was wanting ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cers who went for foreign training. AO 557 to 560 2. CM Magazine AO 588 to 599 3. Noodles, Pasta, etc. AO 600 to 645 4. 14. Training to Nestle India personnel CIT(A) and 2nd copy given to AO 549 to 553 5A Letter dt. 18.1.2000 confirming production of following evidences in the meeting held on 11.1.2000 : CIT(A) (These are already at pp. 205 to 207 in paper book of asst. yr. 1997-98 (a) Cell testing and cell modification (b) Wheat flour analysis and wheat flour improvements (c) File with photograph taken Nestle India Chief Engineer of technical details of a MILO production line at Japan d) File with photograph, description and drawing of 'Lateral Injection Technology' for coffee collected by Nestle India technical personnel in Indonesia (e) Noodles, Pasta, etc. (f) Nestle Intranet as tool to be updated on latest technological developments including access to Production Technology Centres sites (g) Guidelines on Confectionery Sensory Evaluation for Chocolates (h) Guidelines on Sensory Evaluation on packing material including kit with samples of typical off flavours (i) Continuous Improvement Tool box (j) Environment 5B Coffee CIT(A) 72 (These are already at pp. 205 to 273 in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... w-how and technology being intangible, we request you to visit any one or more of the factories and research centres, to fully satisfy yourself on the state of art technology being used, the manufacture of products with the know-how and assistance received and the intensive and specialized research and development carried. 41. The learned counsel for the assessee referred to 9 agreements entered into by the assessee with Nestek/SPN. He argued that under Industrial Policy of 1991, Government of India delegated the task of approval to RBI. The assessee entered into agreements to manufacture and sale in India Nestle SA branded products under the same brand name, logo and packing, etc. It was in the best interest of the main company at Switzerland as well as the assessee-company that only those products, which were of the highest quality, reached the consumers. Rigorous conditions were, therefore, imposed on the assessee-company. He pointed out that these agreements had various parts. Part A related to Manufacturing Licence . The assessee was granted license during the term of the agreement to use the know-how for the manufacture of the products. The learned counsel pointed out that th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the parent company world-over was 3.55 per cent. It could not, therefore, be argued that the Swiss company was charging royalty in India at an exorbitant rate. The assessee was a widely held public limited company and had more than 60,000 shareholders. About 2,500 shareholders attended the annual general meeting of the company every year where the annual accounts and major issues of the company were placed and approved. The local shareholders of the company benefited tremendously. A person who held 100 shares in 1970 had received dividend of Rs. 2,66,563 and the value of his holding as a result of bonus shares and attractive right shares was nearly Rs. 19 lakhs. If there were an iota of truth in the allegations made against the company, the same would have certainly impacted the share price of the company. The remuneration which the assessee paid to the parent company was not for any single purpose. The assessee got a bundle of benefits (i) Brand; (ii) know-how; (iii) Technical Up-gradation; (iv) Technical Supervision, and (v) Collaboration and Assistance. 43. Sec. 9 of FERA, 1973, required an approval of RBI for every payment of foreign exchange. Thus, one prestigious organ of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... his knowledge to the Nestle organizations entitled to receive it, Nestle had created the technical instruction system that guided the creation, distribution and management of know-how flow. These instructions covered product specific information, like recipes and manufacturing instructions, all operational aspects of factory operations as well as safety, environment protection and quality assurance. 45. The learned counsel then took us through pp. 403 to 404 of the paper book and pointed out that technical instructions were divided in 5 main groups that were : Classification code Name GI General Instructions MI Manufacturing Instructions CP Control Procedures TM Technical Manuals LI (Lab Instructions) The learned counsel pointed out that there were several thousand GI, MI, CP, TM and LI and it was physically impossible to produce all of them in the office of the learned AO as well as CIT(A). For that reason, the assessee produced specimen or sample of instructions in various areas under each classification code. However, all the instructions were open to the AO for inspection and assessee requested the AO to visit its factory and office premises. The learned counsel pointed out tha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ecifically through the details of technical instructions that were applied to the assessee's Nanjangud factory alone mentioned in pp. 407 to 472. 51. After technical instructions, the learned counsel gave us examples of Drawings . He stated that these drawings defined all major details of an installation or even a whole project. The drawings were grouped into process diagrams; manufacturing flow sheets; process flow sheets; equipment details, machine layouts and installation drawings, etc. The learned counsel enumerated the examples of drawings as given from pp. 473 to 485 of the paper book. 52. The learned counsel emphasized R D aspects of the technical assistance agreement. He pointed out that Nestle as a worldwide group had developed a unique technology in relation to the extraction process called MUCH process. This resulted in a better-finished product out of the same coffee beans. All the assistance, know-how, equipment design and specification, commissioning and post-commissioning assistance was given by Nestle. Also analytical methods and instructions for process control and analysis were provided. The learned counsel enumerated various instructions related to MUCH proce ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terial. However, the submissions of the assessee did not find place or mention in the assessment orders made by the AO, except cryptic reference to some of the submissions in a single paragraph of the assessment order for asst. yr. 1997-98. The material produced before the AO, among other things, included reference letters and details of correspondence; technical reports; technical advice; assistance in procurement of materials; issue of new formulae and recipes; assistance for drawing and technical concept; procurement of raw materials and packing materials and reference to special sample analysis; details of visits made by technical personnel to various factories of Nestle India Ltd. in respect of each of the 9 agreements entered into by the assessee. The particulars of the same were indicated on pp. 600 to 645 of the paper book. 55. The learned counsel took us through the Directors' Report of Nestle India Ltd. dt. 26th March, 1992, 25th March, 1993, 19th March, 1997 and 24th April, 1998. He pointed out that technical assistance being received by the assessee-company was always in focus of the annual report submitted by the Board of Directors to the shareholders, financial in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... packaging, Nestle India introduced for the first time in the country polyester/low density polyethylene. 2 Minute Noodles sachet with reduced oxygen permeability enables consumers to get a fresher product on the shelf. Nestle India also brought about successful shift from traditional rigid tin containers to flexible packs in regard to its milk products, instant foods and weaning foods not only resulted in significant reduction in foreign exchange outflow through imported tinplate but also resulted in cost savings in excess of 35 per cent. 61. Reading from the annual report for the year 1996, the leaned counsel referred to continuous Business Excellence Common Application (BECA) Initiative. He pointed out that in a country as diverse as India, supply chain management was critical to rapid growth. The BECA concentrated heavily on streamlining and improving supply chain management. The major benefits included reduction in working capital through lower inventories of finished goods and material, better stock availability, reduction in obsolescence of materials. Further, the Moga Factory was chosen as a pilot plant and the Moga Improvement Team (MIT) was put in place. The team members c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n. In addition to Rive Reine courses, in-house training and development programme within the country received considerable support from the international experts who visited India. 63. During 1996, the plant to manufacture MILO, the world's largest selling Chocolate Energy Food Drink was commissioned at Nanjangud factory. A range of specially developed culinary products was introduced under the MAGGI brand-dosa and sambhar mixes, pickles and new varieties of soups. Expansion of manufacturing capacity of milkmaid dessert mixes was undertaken at Samalkha factory. A project for enhancement of manufacturing capacity for sweetened condensed milk was implemented at Moga factory. The technical operations at the company's largest factory at Moga and the sales and marketing operations in South India came under scrutiny by two separate international teams. 64. During 1997, Nestle's worldwide Process Improvement Programme was implemented. The assessee received know-how and assistance in the erection and commissioning of a factory at Bicholim, Goa. It was the third new factory commissioned during the last 5 years involving capital investment of over Rs. 350 crores. Technical expert ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ainst the legal advice that we have received, we enclose herewith the desired information about the product-wise profitability for the past 3 calendar years (i.e. 1996, 1997 and 1998). The compilation of information has involved substantial time and effort. Please note that the figures compiled in these statements are based on the accounting principles followed internationally. The statutory accounts prepared in India are, on the other hand, based on the Indian Standards and hence the results of the two would always be subject to reconciliation. 66. The learned counsel for the assessee argued that all the agreements entered into by the assessee had approval from RBI. In addition, two agreements received approval from the Department of Industrial Development also. The assessee was regularly paying research and development cess levied by the Central Government. In the earlier assessment years, deduction as claimed by the assessee had been allowed. In these circumstances, the rule of consistency demanded that the AO should not have entertained any suspicion or doubt against the assessee's claim of deduction in the absence of even an iota of material pointing against the assessee&# ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rom the point of profitability inasmuch as net profit was 8.53 per cent only much below double digit rate of net profit in other years, still the payments made could not be considered to be taking away the major chunk of net profit. The learned counsel argued that the assessee had paid royalty of 3.5 per cent and 5 per cent respectively on domestic and export turnover against the limits of 5 per cent and 8 per cent prescribed by the Government. Had the intention of the assessee been to siphon away the profits of the company for the benefit of the parent company, the assessee should have paid royalty @ 5 per cent and 8 per cent permitted under Government's Industrial Policy. 67. The learned counsel argued that the reasons given by the AO for not accepting RBI approval were again lame excuse. RBI was concerned about expenditure in foreign exchange. With a view to preserve valuable foreign exchange, RBI examined each one of the assessee's agreements so as to ensure that excessive payments were not made to foreign companies by way of remuneration/royalty. Thus, RBI examined assessee's agreements from the same angle as the AO. There was no qualitative difference between the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... question of such payment being treated under s. 40A(2)(b) as excessive or unreasonable having regard to legitimate business needs, was applicable with equal force to s. 37(1) also and lightly brushing aside Government approval would be a dangerous precedent and had to be disapproved. The learned counsel referred in this behalf to some more decisions, viz. Tribunal Mumbai Bench decision in the case of Nabulls Chemicals Ltd. ITA 125/Bom/1993, dt. 11th Feb., 2002 and Tribunal Delhi Bench Decision in the case of Glaxo Smith Kline Beecham Asia Ltd., ITA Nos. 2099/Del/2002 and 421/Del/2003 dt. 11th June, 2004. The learned counsel also relied upon the judgment of Hon'ble Delhi High Court reported in CIT vs. Shriram Pistons Rings Ltd. (1989) 80 CTR (Del) 159 : (1990) 181 ITR 230 (Del). 68. The learned counsel argued that provisions of s. 40A(2)(b) did not apply on the facts of the assessee's case. Payment by assessee was not to its director or relative of the director. Recipient of royalty, viz. NESTEC Ltd. and Societe Des Produits Nestle SA, did not have substantial interest in the assessee, nor did the assessee or any of its directors or relative of its directors held any substa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the businessman and not that of the Revenue. For this, he relied upon judgments reported in CIT vs. Walchand Co. (P) Ltd. (1967) 65 ITR 381 (SC); J.K. Woollen Manufacturers vs. CIT (1969) 72 ITR 612 (SC); Aluminium Corporation of India Ltd. vs. CIT 1972 CTR (SC) 336 : (1972) 86 ITR 11 (SC) and CIT vs. Panipat Woollen General Mills Co. Ltd. 1976 CTR (SC) 317 : (1976) 103 ITR 66 (SC). Reference was also made to the judgment of Hon'ble Delhi High Court in the case of CIT vs. Dalmia Cement (Bharat) Ltd. (2002) 174 CTR (Del) 188 : (2002) 254 ITR 377 (Del), that once it was established that there was a nexus between the expenditure and the purpose of business, the Revenue cannot justifiably claim to put itself in the armchair of a businessman and decide how much was reasonable expenditure. 69. The leaned counsel of the assessee argued that the provisions of s. 92 did not apply. Those provisions were attracted where profit of a joint venture was apportioned between the parties. The provision necessarily implied business between two persons. The assessee as a company carried on its business independently. There was no business carried on between the assessee as a resident company an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oved by the Department of Industrial Development, Government of India. All the 9 agreements had been approved by RBI. The rate of royalty charged in other 7 agreements was not different from the two agreements approved by the Department of Industrial Development. It was not relevant that no royalty was paid in the past. Remuneration paid for services rendered could not be disallowed merely because no remuneration for such services was paid in the past. Reliance in this respect was placed on the judgment of Hon'ble Supreme Court in the case of Shahzada Nand Sons vs. CIT 1977 CTR (SC) 246 : (1977) 108 ITR 358 (SC) and CIT vs. Laxmi Cement Distributors (P) Ltd. 1976 CTR (Guj) 338 : (1976) 104 ITR 711 (Guj). Reference was also made to Tribunal, Mumbai Bench decision in the case of Nabulls Chemicals Ltd. (supra). The agreement between the assessee and the foreign company was exhaustive in nature and very clearly spelt out the purposes for which the payment was being made, i.e., comprehensive package of know-how, license and the technical assistance which was provided by the foreign company. To make the grant of license of the know-how more meaningful and beneficial to the assessee, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceedings to take place in the office of the AO. Not much significance could be attached to the approval granted by RBI. The wording of approval granted clearly defined that it was exclusively for the purpose of FERA and not intended to be applied for any other purpose. 74. The assessee was in the business of manufacturing the products in question for a long time. Nescafe had become an established brand of the assessee-company in India and the assessee had become thoroughly well versed in manufacturing and marketing of coffee much before the agreements in question were made. The question raised by the AO was what was the point in the 7 agreements during the 1990s. It was important to remember that during that period India did not recognize any intellectual property rights. Moreover, continuous technological information was not one-way traffic. Assessee in India was manufacturing and exporting and gaining experience. Assessee also gave technical know-how that enhanced sale of Nestle worldwide. It was two-way traffic in which both parties benefited. 75. The learned CIT (Departmental Representative) stated that he was not saying that no royalty was payable. He was saying that there sho ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed that the provisions of s. 40A(2)(b) clearly applied because of intimate relationship amongst the shareholders. Holding pattern was self-explanatory. It was payment to the majority shareholder. Expression 'royalty' was a misnomer. In fact, the payment was for technical services. For that reason, Tribunal, Pune decision in the case of Kinetic Honda (supra) and various other decisions did not apply. Moreover, before ratio of any judgment or decision was treated to be applicable, it was necessary to match colour of the facts of those cases with that of the assessee. 79. The learned CIT (Departmental Representative) argued that in the case of the assessee, mask was required to be lifted and real face was required to be seen. He relied upon the judgment of Hon'ble Supreme Court in the case of State of UP vs. Renu Sagar Power Co. Ltd. (supra). He also relied upon art. 9 of DTAA. 80. Earlier years' assessments did not provide a safe guide. Facts of the case of the assessee changed every year. Hence, acceptance of assessee's claim in earlier years did not matter. There was increase in royalty by Rs. 17 crores whereas the increase in the profit of the assessee left beh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g additions made by the AO in the assessment of total income under the general provisions of the Act. He also referred to Raja of Venkatagiri vs. CIT (1955) 28 ITR 189 (AP) and argued that the plea that the appeal before CIT(A) was misdirected could not be argued for the first time before the Tribunal. 85. The learned counsel argued that RBI approval was condition precedent for the assessee to do the business. They qualified their approval as for the purposes of FERA but that did not mean that RBI approval was of no consequence to other proceedings. It was not correct to say that the assessee's facts were distinguishable. The facts of the assessee's case were identical to the facts in the case of Kinetic Honda Motors Ltd. (supra). Moreover, CBDT circular also said the same thing. 86. The learned counsel argued that the assessee was in no position to contribute to technology bank of Nestle in a big way. Compared to the worldwide organization, the assessee was a small fry. It was only the recipient or end user of technical know-how. The assessee had furnished the details of visits inward and outward. The purpose of travel was also given that showed that the assessee was recei ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ot overpaid the technology providers. While doing so, the AO also ignored that those provisions were applicable only in the specified situations and not in the case of every payment from one party to the other. 88. The learned counsel argued that there was no substance in the argument of the learned CIT, (Departmental Representative) that the assessee could carry on its business disregarding its obligations as per agreements. The assessee could not treat what he had been given as only right to use as its absolute property. The assessee was bound by contract. The learned counsel referred to the judgment of Hon'ble Delhi High Court in the case of Konrad Wiedemann GmbH Co. vs. Standard Castings (P) Ltd. Ors. in suit number 1281 of 1984 that breach by an Indian company of terms regarding payment for transfer of know-how and services and non-observance of confidentiality of information was maintainable. In that case the prayer of German company for appointment of a Court receiver to take custody of prototype was allowed. 89. We have carefully considered the rival submissions. We see considerable force in the contention of the learned CIT, (Departmental Representative) that the appea ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eived so as to justify the huge payment of Rs. 47 crores for asst. yr. 1997-98. (c) The assessee not explaining as to on what basis the scale of remuneration was agreed upon in the agreements in question and whether any evaluation and analysis of this technical assistance was being made. (d) Prima facie, the quantum of royalty paid was excessive and unreasonable having regard to the amount of the assessee's business profit. (e) The assessee was already well established in the business, particularly coffee business, and, therefore, need not have made such large payment for technical assistance. On this basis, the learned AO for asst. yr. 1997-98, contended that the payments in question were only part of a device to siphon away the profits of the Indian company thereby reducing the profit distributable in India and incidence of tax thereon. The learned CIT(A) for asst. yr. 1998-99 has also drawn the same conclusion that the payments in question were a colourable device on the part of the assessee and, therefore, hit by the judgment of Hon'ble Supreme Court in the case of McDowell Co. Ltd. vs. CTO (supra). However, we find that in the order of the learned CIT(A) for asst. yr. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sistance received and being received by the assessee by virtue of the agreements in question. The assessee informed the learned AO that it could comply with his requisitions and substantiate its claim of deduction by making a full and comprehensive presentation of technical assistance more conveniently at the assessee's own premises where the relevant record was located. During the course of appeal before the learned CIT(A) for asst. yr. 1998-99 also, the assessee offered that he may visit the assessee's office premises and factories. However, these requests were not acceded to. We have, therefore, to see the material and evidence produced by the assessee keeping in view that the assessee was not granted the advantage of first hand demonstration at the assessee's own premises where technical assistance was supposed to be rendered. We, therefore, hold that the learned AO has been less than fair in his observations that the requisite details and supporting material, evidence and information were not furnished by the assessee. We see force in the contention of the assessee that while making such observation, the learned AO ignored and omitted to make a reference to volumin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , under the provisions of s. 37(1), the primary burden to substantiate a claim of deduction of expenditure is on the assessee. According to the learned counsel for the assessee, learned AO/learned CIT(A), if they entertained any doubt, should have accepted the assessee's offer to visit the assessee's factory and office premises. We do not understand as to why the request of the assessee could not be accepted. In our opinion, this request on the part of the assessee was quite reasonable on the facts and in the circumstances of the case. Be that as it may, from the detailed submissions of the learned counsel for the assessee in this behalf during the course of a number of sittings on various dates which we have attempted to summarise from paras 41 to 64 of this order, we are satisfied that the assessee had successfully discharged the burden of proof which lay upon him under the provisions of s. 37(1) of the Act. We, find that the assessee's case is well armed in this respect on account of approval also granted by the RBI to the agreements in question. At any rate, from the facts stated and the evidence/material produced in the assessee's paper book, we are of the view ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... paid off by the assessee-company under the agreements in relation to the asst. yrs. 1997-98 and 1998-99 respectively. During the course of hearing before us, the learned counsel for the assessee has attacked the very rationale of the exercise done in these charts by the IT authorities. According to him, the quantum of remuneration could not, in any case, be linked with the profit. The profit was a derivative figure depending on various factors outside the direct and reasonable control of the technical assistance providers. Contracting for a fixed amount of royalty could be disastrous if the product did not click in the market. In the sale-linked agreement, the technical assistance providers' interest in the success of the product was highest and ensured maximum assistance was received. Moreover, intangible benefit of technical assistance could not be gauged by the performance of the same year in which the investment in technology was made. The benefit could be gauged only over sufficiently long-term allowing the technical initiative to bear fruits. That apart, the learned counsel for the assessee pointed out that the working done by the Department was highly unreasonable inasm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hat the remuneration was fixed at a very reasonable rate in spite of the Government regulations having permitted payment of remuneration at much higher rate. The justification of remuneration paid was to be seen in the voluminous material and evidence filed by the assessee during the course of the assessment proceedings and the proceedings before us. It was totally inappropriate to test the reasonableness of the remuneration on the yardstick of profit of the year in which the payment was made. This issue required a long-term view to be taken. On careful consideration of the detailed submissions made by the assessee in this behalf and briefly enumerated by us in paras 37 to 65 of this order, we find ourselves in substantial agreement with the assessee. In the first instance, the assessee only had license to use the technology and, therefore, the assessee could not have continued the manufacture of any Nestle brand product without the consent of the parent company. We do not subscribe to the argument of the learned CIT (Departmental Representative) that as intellectual property rights were not recognized in India, the assessee could have snapped ties with the foreign company and carr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pointed out that during the period under consideration, more products were launched by Nestle than in the immediately preceding two decades. He also emphasized with considerable justification that several thousand Indian shareholders of the assessee-company were tremendously benefited. An investor who purchased 100 shares in 1970 had grown into shareholding of 3700 shares of the market value of Rs. 19 lakhs after having received the dividend totalling to Rs. 2,66,653. The learned counsel argued that these aspects were required to be appreciated rather than merely suspecting that the remuneration for technical assistance was nothing but a camouflage to siphon away and repatriate the profits of Indian operations. On careful consideration, we see considerable force and justification in these arguments of the assessee. 96. There is one more important aspect of the case. After all, what is the material against the assessee in the orders of the authorities below ? Apart from preparing some charts, no material or evidence has been brought on record by the authorities below to substantiate their allegations against the assessee. As we have pointed out that the assessee only had initial on ..... X X X X Extracts X X X X X X X X Extracts X X X X
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