Commissioner of Income Tax vs Sharda Motor Industrial Ltd.

A.K. Sikri, J.—The respondent/assessee had filed the Income Tax return on November 27, 2003, declaring income of Rs. 10.36 crores under the MAT scheme. Within one year, i.e., on October 28, 2004, this return was revised. Income shown was the same as shown earlier. In this revised return, however, the assessee had claimed additional depreciation at 15 per cent. of the actual cost of addition of a new machinery u/s 32(1)(iia)) of the Income Tax Act, 1961 (for short, the "Act"). The Assessing Officer (AO) did not dispute that there was an addition of new machinery. However, he disallowed the claim of additional depreciation only on the ground that in the original return filed by the assessee, the assessee had not furnished Form No. 3AA. This decision of the Assessing Officer was reversed by the Commissioner of Income Tax (Appeals) on the ground that even the revised return was filed within the limitation period and, therefore, this could not be a ground for disallowance. The Income Tax Appellate Tribunal has upheld the order, and rightly so, inasmuch as a very hyper-technical view was taken by the Assessing Officer in disallowing the additional depreciation. Moreover, it is held by this Court as well as various other High Courts that furnishing of Form No. 3AA, i.e., the audit report, is only directory and not mandatory.

The Assessing Officer had also disallowed the royalty which was paid by the assessee to the Korean company, namely Se Jong Industrial Co. Ltd., treating the same as capital expenditure. The Commissioner of Income Tax in appeal, reversed this decision of the Assessing Officer holding that the said royalty was revenue expenditure. For holding so, the Commissioner of Income Tax (Appeals) went into the various clauses of the agreement entered into by the assessee with the Korean company. It was found that two agreements, one dated August 28, 1997, and the other dated May 8, 2001, were entered into between the parties. As per the first agreement, the assessee was to pay a lump sum amount of US$ 100,000 for transfer of technical know-how and running royalty at specified rate per piece of production of different products, i.e., catalytic converter and exhaust muffler. Under the second agreement, technical know-how of US$ 60000 and royalty at specified rate per piece of product was payable.

In so far as lump sum payment against transfer of technical know-how provided by the Korean company is concerned, the assessee had admittedly shown these expenses as capital expenditure. It was the royalty paid during the year in question which was treated as revenue expenditure by the assessee. The Commissioner of Income Tax (Appeals) found that as per the agreement, this royalty was running royalty payable every year, which depended upon the number of pieces produced of the aforesaid products, namely, catalytic converter and exhaust muffler.

We are of the opinion that this finding of the Commissioner of Income Tax (Appeals), as approved by the Income Tax Appellate Tribunal, is a finding of fact which is rightly arrived at as expenditure is purely a revenue expenditure, which is annual expenditure depending upon the quantum of production in the relevant year.

In Commissioner of Income Tax Vs. J.K. Synthetics Limited, , after elaborately discussing the entire case law on the subject, the court culled out the broad principles to determine as to whether expenditure in a particular case would be capital or revenue expenditure. One of the principles enumerated therein reads as under (pages 412-413):

(v) expenditure incurred for grant of licence which accords ''access'' to technical knowledge, as against ''absolute'' transfer of technical knowledge and information would ordinarily be treated as revenue expenditure. In order to sift, in a manner of speaking, the grain from the chaff, one would have to closely look at the attendant circumstances, such as:

(a) the tenure of the licence,

(b) the right, if any, in the licensee to create further rights in favour of third parties,

(c) the prohibition, if any, in parting with a confidential information received under the licence to third parties without the consent of the licensor,

(d) whether the licence transfers the ''fruits of research'' of the licensor, ''once for all'',

(e) whether on expiry of the licence the licensee is required to return back the plans and designs obtained under the licence to the licensor even though the licensee may continue to manufacture the product, in respect of which ''access'' to knowledge was obtained during the subsistence of the licence.

(f) whether any secret or process of manufacture was sold by the licensor to the licensee. Expenditure on obtaining access to such secret process would ordinarily be construed as capital in nature ;

In the present case, on facts, it was, inter alia, found as follows:

(a) in that case the grant of technical aid was for setting up of the factory combined with the right to sell products while in our case our company is already producing exhaust systems and the technology agreement was not for setting up of the factory.

(b) in the cited case the foreign company who gave the technology agreed not to manufacture similar products in India while there is no such regulation in our agreement.

(c) in the cited case the technical knowledge obtained was held to give an advantage of enduring nature to the assessee-company and as it had the right to continue to manufacture the product even after termination of the agreement. While in our case the design patent applies to the foreign company and we are only licensed to produce the goods for Hyundai Car and we cannot continue to produce the goods if the agreement is terminated. This itself is a major difference between the case cited by your honour and the facts of our case.

On the facts and after applying the aforesaid principle, it becomes crystal clear that the expenditure is of revenue nature.

Learned Counsel for the Revenue submits that the Tribunal has not considered the effect of the judgment of the Supreme Court in Southern Switch Gear Ltd. Vs. Commissioner of Income Tax, inasmuch as in that case the payment of royalty was treated as capital expenditure. However, what is glossed over is that under the terms of the agreement in that case, the assessee-company therein had agreed to pay the foreign company lump sum of royalty and it was in these circumstances the same was treated as capital expenditure and the Tribunal had disallowed 25 per cent. thereof. In the present case, as pointed out above, royalty is to be paid on the quantity of the goods produced, calculating per piece of the said goods produced. Therefore, the Tribunal rightly held that the aforesaid judgment not applicable to the facts of the present case.