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TMI Blog2004 (12) TMI 326X X X X Extracts X X X X X X X X Extracts X X X X ..... y a scientist having specialized knowledge in chemistry can be a potential threat for future business, is to say the least, amusing. A professional management consultant, who is an Engineer and an MBA and who is working for the most well reputed multinational management consultant firms like Price Waterhouse of USA and Anderson Consulting of UK and who had demonstrated his capability by obtaining certain technology which he could, on equal terms, share with multi-national pharmaceutical companies, can obviously do the same with any other business concern. In fact, a pure scientist might not be as much a potential threat as a person of the calibre of the assessee. All these conclusions are imaginations based on each person's perceptions and level of intellect. These do not substitute business acumen and a commercial decision. Possibilities and perceptions cannot form basis of decisions. The complaint filed before the US court by the assessee should be read as a whole. Threat perceptions should be viewed from the angle of NATCO and V.C. Nannapaneni, and not from the angle of revenue collection. Huge sum of money is not parted by NATCO just like that to an unconnected and unrelate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y judgment is based on given set of facts of that case. Thus, we uphold the contention of the learned counsel for the assessee and allow the appeal of the assessee. In the result, the appeal of the assessee is allowed. - Member(s) : D. MANMOHAN., J. SUDHAKAR REDDY. ORDER Per J. Sudhakar Reddy, Accountant Member. - This is an appeal filed by the assessee, directed against the order of the CIT (Appeals), Tirupati, dated 20-11-2003, for assessment year 1999-2000, There are two issues that arise out of this appeal: first, whether the reopening of the assessment was validly made under section 147 of the Income-tax Act, 1961; and second, whether the amount of Rs. 25,00,000 received by the assessee from Natco Pharma Ltd. is a capital receipt or a revenue receipt. Brief facts of the case are as follows. 2. The assessee is a graduate in Computer Engineering and had done MBA in Switzerland. He was working as a Management Consultant with M/s Price Waterhouse, Sanfransisco, USA from 1989 to 1995. Thereafter, he shifted to UK and he was working with M/s Anderson Consulting, London. The assessee claimed that during the year 1993, he learnt about the existence of Ascorbic Acid Technology (herei ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tyled as "Non-competition Agreement". In that agreement it was stated: "SR agrees not to enter into any line of activity of trading or otherwise dealing in any goods which will compete with the line of activity to be carried on as per the agreement between SR, NATCO and TIDCO on 27-1-1995. He shall not also help, advise, assist, aid any company, person. Body corporate in establishing, managing, providing or developing or act as a consultant or as a technical advisor or an agent on his own account or on behalf of any other person which/who is engaged in a line of activity which will compete in any way with the activity of the above venture." 5. According to the said agreement, NATCO paid an amount of Rs. 25 lakhs to the assessee. The assessee, while filing his return of income for the assessment year under consideration; disclosed this amount in the income and expenditure account of the HUF. As the assessee was not married at that point of time, both his HUF and individual accounts were clubbed and single return was being filed. In the statement of income, under the head "Profession", a note was given as follows: "Technical Fees received from M/s. NATCO Organics Ltd., Rs. 25,00,000 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ipt in question was a capital receipt. 8.1 On the issue of reopening, the learned counsel submitted that the learned CIT(A) extracted the reasons recorded by the Assessing Officer on the order sheet in paragraph 1 of his order and wrongly held that the Assessing Officer was justified in reopening the assessment. He submitted that the Assessing Officer did not mention the reason as to why the non-competition fee received by the assessee represented income and that in the absence of such a finding, the Assessing Officer cannot conclude that there was a possible escapement of income, particularly; when the judicial view in the matter suggests that the amount received towards non-competition is not taxable. It is his contention that by the time the return of income was filed and was processed under section 143(1)(a), the judgment of the Hon'ble Supreme Court in the case of Oberoi Hotels (P.) Ltd. v. CIT [1999] 236 ITR 903, was available and that the amendment to section 28 was with effect from 1-4-2003 and thus not available to the Assessing Officer. Thus, he submits that the reason recorded by the Assessing Officer that the amount of Rs. 25 lakhs is taxable and that such income had es ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he return of income is filed. It is his contention that non-issue of notice under section 143(2) within one year cannot be made good by issue of notice under section 148. He emphasized that the Assessing Officer who succeeded the earlier Assessing Officer, entertained a different opinion on the issue of taxability of this amount on wrong inferences and misappreciation of facts, and that the notice so issued under section 148 is bad in law. He further contends that the audit objection raised by the Internal Audit Party could not be considered as information for the purpose of reopening of the assessment. For this, he relied on the judgment of the Hon'ble Supreme Court in the case of Indian Eastern Newspaper Society v. CIT [1979] 119 ITR 996. He emphasized that the observations of an audit party which are contrary to the decision of the Apex Court, cannot form information for the purpose of reopening. He further submitted that the Assessing Officer had not recorded this finding of the CIT(A) i.e., the observation of the internal audit party triggered reopening, while recording his reasons for reopening. He relied on the following judgments:- Vipan Khanna v. CIT [2002] 255 ITR 220 (Pu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sses managerial skill which is one of the inputs for production of wealth. The learned counsel strongly disputed the finding of the learned CIT(A) that the assessee did not possess any potential for commencing an industry, especially when the assessee, who is a Computer Engineer from USA and MBA from Switzerland and who has been working as a Management Consultant with an international firm i.e., Price Water House, for a period of 6 years and thereafter with Anderson Consulting, London. He submitted that the learned CIT(A) omitted to notice the capability of the assessee in pursuing GIC and in being able to enter into letter of intent for supply of technology in ascorbic acid. He further submitted that the assessee was personally engaged as Vice Chairman of M/s. I-Labs Limited, Director of M/s. Venturetech Solutions Pvt. Ltd., Director of M/s. SIFY Ltd., Director of M/s. Unifl Wealth Management Ltd., and is also presently involved in Telecommunication-Internet-Life Sciences and Development Technology Fields - to demonstrate that the assessee had the capability and that the conclusions of the CIT(A) are wrong. (b) The learned counsel strongly disputed the view of the CIT(A) that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... CIT(A) doubting the agreement are totally baseless. 9.4 The learned counsel further submitted that the assessee had no relationship whatsoever with either NATCO or with V.C. Nannapaneni or with TIDCO and that the transaction entered into was purely commercial in nature. While submitting that the CIT(A) had come to the conclusion without any evidence or examination of parties, he submitted that the CIT(A) imagined the reasons for payment of Rs. 25 lakhs by NATCO to the assessee and that by discarding the genuine agreement he came to a wrong conclusion that the amount received was not a non-competition fee. He referred to paragraph 17 of the order of the CIT(A) and submitted that he imagined the reasons as to why the assessee would have received Rs. 25 lakhs and came to a wrong conclusion that the assessee acted as an agent or a broker for transfer of technology from GIC to NATCO and also imagined that the amount was paid for such services rendered. The conclusion of the CIT(A), he submitted, was on mere surmises and presumptions and without any basis. 9.5 The learned counsel further submitted that the CIT(A) ought to have seen the fact that if a view were to be taken that there were ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... en persons who are not connected. Referring to the suit filed by the assessee in the US court and the fact that a public sector company of Tamilnadu was one of the parties, he submitted that the genuineness of the transaction cannot be doubted. 9.8 The learned counsel also disputed the finding of the learned CIT(A) that the amendment to section 28 by introduction of section 28(va) with effect from 1-4-2003 is retrospective He relied on the decision of the Hon'ble Supreme Court in the case of CIT v. Podar Cements (P.) Ltd. [1997] 226 ITR 625 and submitted that the amendment to section 28 w.e.f. 1-4-2003 is about the taxability of an amount and represents substantive law and it cannot be considered an explanatory law, and therefore the amendment cannot be considered as a retrospective amendment. 10. The learned counsel further submitted that the confirmation of the addition by the CIT(A) was totally based on facts and grounds which are different from the stand taken by the Assessing Officer and that the CIT (A) had not provided any opportunity to the assessee. He submitted that if the CIT(A) treated the amount as received in view of agreement dated 31-1-1995 and consequent documents, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 43 (1)(a) and that there was no application of mind on the part of the Assessing Officer to the point in issue and that the Assessing Officer cannot be said to have formed any opinion and that it cannot be claimed there was a change in opinion. He vehemently contended that the intimation under section 143(1)(a) cannot be treated as an order of assessment and it was only deemed to be a notice under section 156 for the limited purpose of meeting the machinery provisions relating to recovery of tax. He relied on the following decisions: Mahanagar Telephone Nigam Ltd. v. Chairman CBDT [2000] 246 ITR 173 (Delhi) Kelvinator of India Ltd. Asstt. CIT v. Gujarat Bitumen Ltd. [2002] 82 ITD 614 (Ahd.) A. Pusalal v. CIT [1988] 169 ITR 215 (AP) Jorawar Singh Baid v. CIT [1992] 198 ITR 47 (Cal.) Elegant Chemicals Enterprises (P.) Ltd. v. Asstt. CIT [2004] 91 ITD 85 (Hyd.) He relied on Explanation 2(b) to section 147 and submitted that it makes it abundantly clear that when a return of income is furnished by an assessee but no assessment has been made and it is noticed by the Assessing Officer that the assessee had understated the income or had claimed excessive loss, deduction, allowance or reli ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... following decisions: CIT v. P.V.S. Beedies (P.) Ltd. [1999] 237 ITR 13 (SC) Nagrath Chemicals Works (P.) Ltd. v. CIT [2003] 265 ITR 401 (All.) He distinguished the judgments relied upon by the learned counsel for the assessee and submitted that in the case of Vipan Khanna, the proceedings initiated by the Assessing Officer to write back excess depreciation claimed by the assessee were in fact upheld by the Court and that the case does not come to the rescue of the assessee. The broader proposition in that decision was that general enquiries could not be made by issue of notice under section 148 and that what could be assessed was only the income that had escaped assessment. On the judgment of the Hon'ble Delhi High Court in the case of Kelvinator of India Ltd., he submitted that that was a case where an original assessment was made under section 143(3). Similarly, he distinguished the judgment of the Hon'ble Supreme Court in the case of Foramer France. 14.4 As regards the submission of the learned counsel for the assessee that the decision of the Hon'ble Supreme Court in the case of Oberoi Hotels (P.) Ltd. was available at the time of filing of the return and that the amended provi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e agreement, such right, if any, can be said to have accrued to the designated entity and, in any event, not to the assessee. 14.6 He further submitted that the receipt was shown as a technical receipt by the assessee under the head "profession" in the statement of income and the assessee has never furnished any details as to how the amount was received. He also submitted that the receipt was shown in the income and expenditure account of the HUF and that prima facie material was available with the Assessing Officer who had every reason to believe that income chargeable to tax had escaped assessment. He thus submitted that the reopening of the assessment was rightly made. 15.1 On merits, the learned DR submitted that the issue for consideration is whether the amount of Rs. 25 lakhs received from NATCO Organics Ltd. during the relevant year is for non-competition in trading as claimed by the assessee or is amount received for services rendered by the assessee to NATCO. He submitted that the assessee's claim that the amount had been received by him as per agreement dated 28-4-1998 styled as "Non-competition agreement", under which he was not to help, advise, assist, aid any company, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... without prejudice to the above, he submitted that it is well settled that a receipt can be treated as a capital receipt if there is a genuine restrictive covenant i.e., non-competition in the same line of business and as a result of such restrictive covenant, the trading structure of the assessee is impaired or there is a loss of what may be regarded as a source of income. In this case, he submits, the assessee is merely an MBA graduate and has been a Management Consultant for several years and was never a technical expert or a technical consultant in any firm or business, much less in chemical technology. As per the learned DR, the assessee has done only liaison work between GIC and NATCO for transfer of AA Technology for which he has been finally paid an amount of Rs. 25 lakhs. He vehemently contended that it is unthinkable that the assessee, being a Management Consultant without any experience in chemical technology, would be in a position to compete with a pharmaceutical company like NATCO having global presence, by starting a competing industry or distribution or sale of ascorbic acid. He thus submitted that the assessee could not even be a threat of competition to NATCO. He ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mitted that the LOI was not executed on a stamp paper and thus it was not an agreement between parties. He referred to the agreement styled as Agreement and Assignment of Interest dated 31-1-1995 and submitted that the designated entity had not acquired any interest or right to the licence, much less the assessee as an individual. He contended that it was only the intention of the parties to acquire the licence for AAT from GIC and no rights whatsoever accrued either to the designated entity or to the assessee. Therefore, the question of assigning, surrendering, relinquishment, etc. did not arise. Even otherwise, he submitted, presuming that a right to licence had accrued to the parties involved, it was contingent upon formation of designated entity and subsequent signing of the agreement by the designated entity and GIC. On the contrary, he submitted, the amount received was in lieu of financial benefits as is evident from paragraph 3 of the agreement and assigning of interest dated 31-1-1995. Thus, he submitted that the amount received by the assessee was not for assignment or surrender or relinquishment of any rights but only for services rendered by the assessee to NATCO. He re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... document and that there was mutual accommodation between two interested persons and that it was a colourable device to avoid tax liability and that this plea of the assessee has no merit. He further submitted that Hyderabad Bench 'A' of the Tribunal in the case of K.V.D. Prasad Rao in ITA No. 336/Hyd./1999, order dated 31-12-2001, has dealt with the issue and held that the payment of non-competing fee covered in terms of agreement was only part of the sale consideration for the transfer of shares and was not received as compensation for restraint of trade. He argued that in the present case the so-called restrictive covenant was only a make-believe arrangement and that the amount of Rs. 25 lakhs was paid by NATCO not for warding off a future potential threat by way of alleged competition in chemical technology from the assessee but for the professional services rendered by the assessee in the form of liaison work with GIC. He thus submitted that the agreement should be rejected and the order of the CIT(A) treating the receipt as a revenue receipt should be upheld. 19.1 Replying to the contentions of the learned DR. the learned counsel for the assessee submitted that in the computa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o any other person as he had done in the case of NATCO and TIDCO. 19.3 On the argument of the learned DR that no right accrued to the assessee because of the LOI entered into between the assessee, NATCO Pharma Ltd. and TIDCO on the one part and GIC on the other, the learned counsel submitted that a perusal of paragraph 2 of the LOI clearly shows that right accrued to the assessee. The paragraph reads as follows: "Whereas NATCO, Reddy and TIDCO (hereinafter collectively "the Licensees") have expressed an interest in and an intent to acquire a licence in the AA Technology on behalf of a designated entity (the "Licensing Entity") in which each of them shall be an enquiry owner and which entity shall be acceptable to GIC, on terms and conditions not inconsistent with those set out below:" He submitted that this shows that the licence was; intended to an entity which is to be created by all the three parties and that it is clear that the assessee had obtained a joint right in the licence to be granted by GIC. He submitted that this is an asset in itself and that the right is a right of property and that it was a capital asset. He vehemently contended that the right of participation in t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee. Mere reading of the complaint dated 2-12-1997, he submits, clearly indicates that no services had been rendered by the assessee. 19.7 The learned counsel further controverted the argument of the learned DR that there is no restrictive covenant and submitted that a restrictive covenant need not always impair the trade structure of the assessee. He submitted that even if the assessee imposes a restriction on himself against conducting any trade in the same line of activity, it will be a restrictive covenant. He relied on clauses 1, 2 and 3 of the Non-competition Agreement which is at page 8 of the assessee's paper book, for this proposition, and submitted that from the said clauses it is clear that the assessee restrained himself from entering into a trade in the same line of activity. He vehemently contended that it would be enough if the assessee accepted a restrictive covenant of not entering into an activity which would impair the activity of the other party to the agreement. He disputed the argument of the learned DR and submitted that it is not necessary that the assessee should be carrying on a trading activity before entering into non-competition agreement. He reli ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tivity. 20. On the issue of system of accounting, the learned counsel submitted that the words "paid" and "received" were used in accordance with the system of accounting followed and that the learned DR's contention that in the income and expenditure account the terminology "interest received" and "interest paid" was used indicating that the assessee followed cash system of accounting, is wrong. He submitted extracts of accounts in the books of the assessee to demonstrate that mercantile system of accounting was followed. He submitted that the Assessing Officer accepted the fact that the system of accounting of the assessee was mercantile and mentioned the same in the assessment order and that the learned DR is disputing the finding of Assessing Officer, without any basis, though the same has become final. 21. The learned counsel further submitted that the learned DR has raised fresh issues which are settled by the Assessing Officer, and to support his claim he also filed extracts of the accounts of the assessee in the books of Shri Mai Reddy. 22. On the issue raised by the learned DR regarding residential status of the assessee, the learned counsel drew the attention of the Bench ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cern or company in carrying on a similar activity and that the allegations made by the learned DR are not borne out of record, especially when the Principal Officers of NATCO and TIDCO have not been examined either by the Assessing Officer or by the CIT(A). He submitted that the apparent is always real unless the contrary is proved. 25. The learned counsel concluded his argument by submitting that- (a) the amount was received both for surrender of right jointly held with two others and also for not carrying on similar activity and thus a capital receipt; (b) the transaction took place on 31-1-1995 and, therefore, does not relate to assessment year 1999-2000; (c) the assessee maintained accounts under mercantile system and the amount did not accrue during the relevant previous year; and (d) the reopening of the assessment was bad in law. 26. We have heard rival contentions. On a careful consideration of the facts and circumstances of the case, we hold as follows. 27. On the first issue of validity of reopening, we are convinced with the argument of the learned DR. The assessee had filed his return of income wherein he had made a disclosure that an amount of Rs. 25,00,000 had been re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee continued the claim of depreciation on the plant and machinery, the Commissioner (Appeals) held that there was no impairment of source of income but the cancellation of the contract resulted in loss of profit, for which compensation was received by the assessee; that processing of the return could not be equated to an assessment and it would be sufficient if the Assessing Officer had reason to believe that income chargeable to tax has escaped assessment. On further appeal to the Appellate Tribunal: Held, dismissing the appeal, (i) that the assessee had manufactured on trial run basis the new formulations without procuring extra machinery or assets. The letter of the assessee addressed to the Deputy Commissioner showed that it already had business relations with P G, and by agreement with regard to the manufacture of two new formulations, it only wanted to extend business relations and it could not be said that it was a new business altogether. By cancellation of the agreement, the assessee was merely deprived of the job work charges which it would have otherwise earned. Further the letter before the Assistant Commissioner also indicated that the assessee was in the busines ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a 'reason to believe'. In this case, we cannot, say that the Assessing Officer had no reason at all. He wanted to examine the taxability of this receipt in the hands of the HUF and this was based on the income and expenditure account submitted by the assessee where he did make a claim. It is well settled that non-issue of notice within 12 months under section 143(2), does not bar the Assessing Officer from reopening the case under section 148. There is no bar that information given by audit cannot be the basis on which the Assessing Officer can form an opinion that income has escaped assessment. Thus, we cannot say that the Assessing Officer had no reason, or had recorded totally wrong reasons, or that he changed his opinion, or that he had no information. Thus, we hold that the reopening is validly made under section 147 of the Act, read with Explanation 2(b). 29. On merits, we find sufficient force in the arguments of the learned counsel for the assessee. The sequence of events clearly demonstrates that the assessee had with his own talent and skill contacted GIC of USA to obtain licence in AAT and was successful in obtaining information and methodology to avail the technology in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eveloped in the United States with the potential for manufacture, use and sale in India and other Asian markets. 7. Mr. Reddy embarked upon an effort to ascertain whether he could obtain a licence for the technology. 8. After months of investigative work, Mr. Reddy established contact with the person or persons at Genencor International Inc., a corporation organized and existing under the laws of the State of Delaware, located at 1870S. Winton Road, Rochester, New York, responsible for licensing the ascorbic acid technology. 9. In early 1994, Mr. Reddy and Tamil Nadu Industrial Development Corporation ["TIDCO"], an Indian governmental body charged with promoting industrial development, signed a nondisclosure agreement which allowed them access to the science associated with the ascorbic acid technology. 10. After the science and the potential for exploiting the technology were analyzed, it was recommended to Sandeep Reddy by TIDCO, because of the significant capital needed for the project, that Mr. Reddy involve an Indian pharmaceutical company. 11. TIDCO suggested several candidates to Mr. Reddy, including NATCO. 12. On or about July 4, 1994, Sandeep Reddy and NATCO agreed in prin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eement between Reddy and the Chairman and Managing Director of NATCO, Venkhiah C. Nannapaneni, the Agreement and Assignment of Interest was modified to provide for payment to Reddy by cheque rather than by shares of stock. Reddy confirmed the oral modifications in writing. See Exhibit B. 19. In reliance upon the Agreement and Assignment of Interest, Reddy forbeared from enforcing his rights under the Letter of Intent. 20. TIDCO and NATCO created an India corporation, NATCO Organics Ltd., to hold the licence to be acquired pursuant to the Letter of Intent. 21. Pursuant to the Letter of Intent, a Licence Agreement was in fact entered into on or about July 31, 1995. 22. Under the Agreement and Assignment of Interest and the oral modification thereof, NATCO was required to pay to Reddy by cheque one-third of Rs. 111.11 lakhs on July 31, 1995; another one-third on October 31, 1995 and the final one-third on January 31, 1996. 23. NATCO failed to make each instalment payment to Reddy as it became due and owing. 24. NATCO ignored Reddy's repeated requests for payment. 25. NATCO intentionally, wilfully, and without justification, breached the Agreement and Assignment of Interest and oral mo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ar 1993 when the assessee started his investigative work and established contact with GIC and then through TIDCO came into contact with NATCO and formed a consortium to obtain a licence for AA Technology. These are all legal transactions and cannot be dismissed just based on surmises and conjectures. Allegations of fraud, collusion etc., cannot be made in the air. If the CIT(A) had any doubt, he should have called for a remand report or at least made some preliminary enquiries with TIDCO, which is a governmental body. What the assessee had obtained was a right to exploit the licence of AAT along with NATCO and TIDCO and by surrendering this right, what he received was a capital receipt and thus not a taxable receipt. Section 28(va) is a substantive provision and cannot be given retrospective operation when the legislature has not specifically said so. 31. We fully agree with the arguments of the learned counsel for the assessee that the receipt in question was for surrendering of rights jointly held and for not carrying on similar activity. The documents are genuine and Tamil Nadu Industrial Development Corporation acted as a catalyst and brought these parties together. None of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of K.V.D. Prasad Rao in ITA No. 336/Hyd./1999 dated 31-12-2002, does not come to the rescue of the Revenue as, in that case, it was held that the documents produced were only a pretence. In this case, it is not so. This is neither a make-believe arrangement nor a sham transaction, between connected persons. The amount in question was received by the assessee for giving up some rights that he came into possession due to his long drawn out professional work. By giving up his right to be joint owner in the proposed project, he is permanently deprived of a source of income. His right to ownership and running the proposed company is sterilized as he has extricated himself from the arrangement. The amount is received for relinquishment of the rights. The assessee has also entered into a restrictive covenant. NATCO paid this amount for both transfer of rights as well as to ward off competition. It is settled law that such receipts are capital receipts and are not liable to tax. A person who has been accepted as an equal partner by a Government organisation as well as by a Multinational Pharmaceutical Company, cannot be said to have no capacity. NATCO never appointed him as a consultant f ..... X X X X Extracts X X X X X X X X Extracts X X X X
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