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TMI Blog2008 (12) TMI 231X X X X Extracts X X X X X X X X Extracts X X X X ..... the formal agreement had been signed on 23rd Oct., 1972 applicable from 1st Oct., 1972 which was automatically renewable at the end of the calendar year unless terminated by either party by giving a notice of three months. Though fresh agreements had been entered into from time-to-time, the terms and conditions, basically remained the same. The last agreements had been signed on 10th June, 1988 applicable from 1st Jan., 1988. This agreement was being renewed from year-to-year. Degussa, however, gave a notice dt. 21st July, 1999 for termination of the agreement and, thereafter, a termination agreement was arrived at between the parties on 23rd July, 1999 as per which the assessee ceased to act as an agent of Degussa from 31st Aug., 1999. From the said date, Degussa Hull (India), was appointed as an agent of the assessee. In terms of the termination agreement, Degussa paid to the assessee a compensation of Rs. 2,56,59,783. The dispute raised in this appeal is regarding the taxability of the said amount received by the assessee. 2.1 The AO examined the terms and conditions of the termination agreement and other documents to ascertain the true nature of the compensation received. I ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the earlier year. In the next year, the receipt was Rs. 10.4 crores. 2.4 The AO therefore asked the assessee to explain as to why the receipt should not be taxed as revenue receipt. The assessee explained that as per terms and conditions of the termination agreement, the assessee had undertaken not to divulge any business secrets of the principal and also to refrain for a period of one year from competing with the principal. The amount of compensation received was therefore for not competing with the business of the principal and not for termination of the agency. The receipt was therefore a capital receipt, not taxable. Reliance was placed on several judgments including the judgment of Hon'ble Supreme Court in case of Kettlewell Bullen Co. Ltd. vs. CIT (l964) 53 ITR 261 (SC) and the judgment in case of Gillanders Arbuthnot Co. Ltd. vs. CIT (l964) 53 ITR 283 (SC). The AO however did not accept the plea of the assessee as neither in the termination agreement nor in the letter dt. 23rd July, 1999 written by Degussa, there was any mention of compensation for not competing with the principal. Considering the language used in the termination agreement, in the letter dt. 23rd Ju ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion between assessee and Degussa, one had to examine the terms and conditions of the agency agreement carefully and not merely go by the use of the word 'agency' in the agreement. Though in the agency agreement the assessee was referred to as an agent but the fact was that the assessee was not an agent of Degussa. Referring to the Commentary by Pollock and Mulla, it was argued that the test of the agency was whether a person purported to enter into transactions on behalf of the principal to create, modify, or terminate contractual obligations between the principal whom he represents and third parties. The representative character and derivative authority were the distinct features of agents. The assessee in this case had no authority to enter into any contract on behalf of Degussa and therefore it was not an agent under s. 182 of the Contract Act. He referred to cl. (2) of the agreement as per which the agent was responsible for procuring orders in his territory at the price and on the conditions fixed to him by Degussa and was not authorised to conclude any contract or collect payment on behalf of Degussa. Further, cl. (9) provided that Degussa was under no obligation whatsoever t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... received for not carrying out any activity in relation to a 9usiness is taxable under cl. (vc) of s. 28A but the said clause had been inserted only from asst. yr. 2003-04 and was not applicable to the year under reference. Reliance was placed on the decision of the Tribunal in case of Saurabh Srivastava vs. Dy. CIT (2008) 113 TTJ (Del)(SB) 1. Finally, it was also submitted that though the compensation as argued earlier was not taxable at all but in case it was held to be taxable, the same had to be properly allocated to the termination of the agency and towards restrictive covenant as the latter part was a capital receipt. 3.4 The learned Departmental Representative on the other hand strongly supported the orders of the authorities below. It was submitted that the payment was obviously for termination of the agency which was clear from the termination agreement and other documents referred to by the AO. Had the payment been made for restrictive covenant, it would have been clearly mentioned in the agreement which was not done. Though in the letter dt. 23rd July, 1999 of Degussa. there was reference to good relationship, the payment had been made to the firm and not to the partne ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t there was no provision for payment for compensation on termination of agency which could be terminated at will after giving a notice of three months. The payment made by the company was a voluntary payment because of personal relationship and personal qualities of the partners as was clear from the letter dt. 23rd July. 1999, relevant portion of which has been reproduced at para 2.1 of this order. It has been argued that the assessee had neither expectation nor any right to receive such payment. The payment was gratuitous or ex gratia in nature. Such payments are not income in character as the same are not relatable to any source. Learned Authorised Representative has relied on several judgments as referred to in para 3.4 of this order. It may be appropriate at this stage to give a brief summary of these judgments. 4.2 In case of P.H. Divecha, the firm in which the assessee was a partner had an agreement with Phillips Electrical Co. as per which it had been given exclusive right for purchase and sales of electric lamps manufactured by the latter in certain area. There was no provision for payment of compensation on termination or on temporary suspension of supply. The company l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... empt from tax as the receipt was by way of personal testimonial and not a trading receipt. The Hon'ble High Court of Bombay held that the assessee did not have the slightest expectation that the receipt would be exempt from entertainment. The exemption was entirely at the discretion of the Government and could be withdrawn even without any default on the part of the assessee. There was no definite source to which the receipt could be attributed. It was a windfall gain of the nature of prize. Accordingly the Court held that it was not taxable. 4.5 On careful consideration of the judgments cited and the material on record, we are unable to agree with the learned Authorised Representative that the payment was a voluntary payment and not for the termination of agency. Although there was no provision for payment of compensation on termination of the agreement, the termination agreement as well as letter dt. 23rd July, 1899 of the company to the assessee clearly describe the payment as compensation for termination. Moreover the assessee in the acknowledgement receipt for payment itself referred to the payment as one-time lump sum payment towards compensation for termination of agency. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the assessee firm and not with the partners. The payment had also been made to the assessee firm and not the partners. Therefore the argument that the payment had been made because of personal relationship and quality of partners is not convincing. We have already mentioned earlier the reasons for making payment of compensation which had a definite source in the termination of the agreement. It was not a voluntary payment or windfall gain. The judgments cited by the assessee are distinguishable and not applicable to the facts of the case. 4.7 A part of the payment however will have to be attributed to the restrictive covenant signed by the assessee as per cl. 5(d) of the termination agreement. As per the said clause, the assessee after the termination of the agency agreement agreed for a period of one year to refrain from competing with Degussa Hull or its affiliates. He also agreed not to promote either directly or indirectly competition by third parties in this field. Though such a clause was also there in the agency agreement but the same was applicable only during the period of agency. After the termination of agency, the assessee had no obligation towards the non-compete ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tor of pharmaceutical products of the company and, due to reorganisation, distributorship of Bombay and Hyderabad had been allotted to another company and the assessee had received compensation for relinquishment of distributorship. The issue was whether the compensation was taxable income of the assessee under s. 10 (5A) which was similar to s. 28(ii)(c). Hon'ble High Court observed that alleged agent may be described as an agent in the agreement, yet relation of agency may not arise. After analysing the terms and conditions of the agreement, the High Court noted that the agreement specifically provided for preventing the assessee firm from making any contract in the name or purported to be on behalf of the importers. The assessee was also prevented from pledging the credit of the importers. The assessee firm was acting on its own and not on behalf of the principals. The High Court therefore upheld the finding of the Tribunal that the agreement in this case was not an agency agreement and accordingly held that the amount received was not taxable under s. 10(5A). 5.3 In case of T.I. M. Sales Ltd., on examination of terms and conditions of the agreement, it was found that the di ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the contract has to be gathered from its terms and conditions. A principal does not sell to his agent. There is a distinction between a contract of sale and contract of agency for sale. The essence of agency to sell is the delivery of goods to a person who is to sell them not as his own property but as that of the principal who remains the owner of the goods and the agent is, therefore, liable to account for the proceeds. When a dealer sells goods of a manufacturer for his own profit, he is not an agent of the manufacturer." 5.6 It is thus clear from the perusal of the said judgments which also includes a judgment from the jurisdictional High Court that for application of provisions of s. 28(ii)(c), it is necessary that there must be an agency agreement and that for understanding the true nature of the agreement, it is necessary to examine the terms and conditions of the agreement carefully and mere use of word 'agent' or 'agency' in the agreement is not conclusive. The test of an agency is that the person should have authority to enter into transactions on behalf of the principal. Representative character and derivative authority are the distinctive features of an agent as hel ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an agency agreement and it was a simple contract, the amount received on termination of the contract can still be taxed as a revenue receipt. Merely because it does not come under the purview of s. 28(ii)(c) does not mean that it cannot be taxed at all. Under the provisions of s. 28(ii)(c), compensation is taxable irrespective of whether it is a revenue receipt or capital receipt but under the general concept of income, it can be taxed only when it is a revenue receipt. The word 'income' as held by Hon'ble Supreme Court in case of CIT vs. C.R. Karthikeyan (1993) 112 CTR (SC) 302 : (1993) 201 ITR 866 (SC) is of widest import. It includes not only the income mentioned in s. 2(24) but also any other receipt which has a character of income. In regard to amount received on termination of a contract, there had been judgments on both the sides as to the taxability of receipt. Hon'ble Supreme Court in case of Kettlewell Bullen Co. Ltd. after considering various judgments on both the sides held that where termination of the contract does not affect the trading structure of the business and is a normal incidental of business, the payment is revenue receipt but in case the cancellation imp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cturers both in and outside India. It had one such agency from Imperial Chemical Industries (Exports) Ltd. for distribution of explosives in certain centres. The agency came into existence in 1900 and although terminable at will, continued upto 1947 in which year the foreign company decided to takeover all agencies in India and Ceylon and towards compensation, the assessee had been paid certain amounts. The dispute was regarding the taxability of the said amount. The Hon'ble Supreme Court observed that though the said agency had been with the assessee for over 47 years, it was an agency terminable at will. The assessee did not place any material before the Department to establish the relative importance of the said agency in the framework of the profit earning apparatus of its business. It did not adduce any evidence to prove that the said agency was a pivot of its structure and that it had closed any branch or part of establishment in consequence of the said termination. It could have placed material before the Department to show that the average income from the said agency compared with the total income from all the agencies was so large that by this loss, the entire business was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee for the relevant year as per P L a/c was Rs. 2.76 crores. While arriving at the said net profit. the assessee had deducted donation of Rs. 70 lakhs and income-tax of Rs. 2 crores. After excluding these two items which are not allowable as deduction, net profit comes to Rs. 5.46 crores. Further the profit also includes interest and other income of Rs. 14.05 lakhs and after excluding this, the net profit comes to Rs. 5.32 crores. If we exclude income-tax payable on the said income, profit after tax comes to Rs. 3.53 crores. We have computed the profit after tax because the amount attributable to restrictive covenant is not taxable. Now as per the assessee's own submissions, the income from the Degussa agency constituted about 20 per cent of the total income from all the agencies. Thus, the income attributable to the agency for one year comes to 20 per cent of the net profit, i.e., Rs. 70 lakhs which is a little over 25 per cent of the compensation. In our view, in case, the assessee is paid one year's income from the said agency it would be more than an adequate incentive for not competing with the principal for one year. We accordingly attribute 25 per cent of the compensa ..... X X X X Extracts X X X X X X X X Extracts X X X X
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