Commissioner of Income Tax, Tamil Nadu-III vs Wavin India Ltd.

Balasubrahmanyan, J.—In these tax cases, we face the perennial problem of having to decide whether a given expenditure is capital or

revenue in nature. The expenditure in question was made pursuant to a foreign collaboration agreement. There are no separate tests under the

Income Tax law for distinguishing between capital and revenue expenditure in so far as they arise out of a foreign collaboration agreement.

However, the law reports carry a number of decisions of courts which have dealt with this aspect of the question, as if they demand special

attention. Almost invariably the courts have held that the real character of the expenditure incurred under collaboration agreements will have to be

examined and determined on a consideration of the particular terms of the collaboration agreement on hand. A study of the decided cases shows

that the usual run of collaboration aids the Indian concerns. First comes the running of the factory. Provision for assignment of patents or provision

for licence for working the parents, training of technical personnel, sharing of the results of the research and development, are some of the aspects

of collaboration connected with the running of the factory. It is usual to find in collaboration agreements all these aspects of aid by the foreign

collaborator to the local concern. The consideration provided for in the agreements may, however, take different forms. In some of them, we find

only a composite payment. In other agreements we would find consideration specifically related to each and every one of the different aspects of

collaboration.

In the present case the foreign collaboration between the assessee and the foreign firm was on the subject of production of what in the trade is

called P.V.C. pipes. The foreign collaborators are Industried Onderneming Wavin N.V., hereinafter referred to as ""Wavin"". They are a Dutch

company. They are specialists in the manufacture of P.V.C. pipes. They have, for long, developed the technical know-how for these pipes. They

entered into a composite collaboration agreement. Under the terms of the collaboration, an Indian company was to be promoted and that company

was to be aided and guided to produce P.V.C. pipes in India for being marketed all over the world. Under the agreement, Wavin undertook

several things, namely, to supply the plant and machinery to the Indian company, to work the relevant patent for the manufacturing process, and to

help in the running of the factory. It was provided in the agreement that Wavin should part with all their technical knowledge obtained as a result of

research and development for the purpose of updating the technical know-how of the Indian company. In all these respects the collaboration

pattern. However, in one significant respect the agreement in the present case manifests a difference. While Wavin undertook to provide technical

information, patents, licences and also research and development, the agreement did not provide for any consideration to pass from the Indian

company to Wavin in respect thereof. The relevant clause in the agreement showed that Wavin had to part with these processes and information

gratis and without any quid pro quo. The expression used in the agreement was ""free of any charges"". As for the undertaking of Wavin to share the

results of research and development, even that was not expressed to be for any stated consideration. However, for the part played by Wavin in the

setting up of the factory, by the provision or supply of plant and machinery, there was a specific consideration which passed from the assessee to

Wavin. That consideration took the form of allotment of equity shares to the extent of 49% in the Indian company. Apart from the initial aspect of

installation of the factory, which was taken care of by allotment of equity shares, for the actual running of the factory, however, the collaborating

parties did not contemplate that any consideration should pass from the Indian company to Wavin. It was quite clear that the assessee obtained for

a song from Wavin technical information and know-how, the grant of patents and licences, and the results of research and development in Wavin''s

foreign plant.

The collaboration agreement, however, contained one important clause under which the Indian company had to make a recurring payment to the

foreign collaborator. That payment was to last for a stated period of ten years from the commencement of the agreement. The payment was to be

measured in terms of the sales turnover of P.V.C. pipes and other products produced in the assessee''s factory, subject to a ceiling on the amount

calculated on that basis. For instance, for 2,000 tons of products manufactured and sold by the assessee-company during a year, a payment has to

be made by the assessee to Wavin at the rate of 15p. per kilo. Why this consideration was payable by the assessee to Wavin as collaborator, was

also expressly set out in the agreement. The relevant clause is clause 10. The first paragraph in that clause expresses the consideration both ways.

Since this clause has played an important part in the discussion at the bar in considering the real nature of the expenditure in question, it is

necessary to set out that clause verbatim.

Clause 10. - As a contribution towards the cost of research carried out by Wavin in the Netherlands and in other laboratories in the Netherlands

with whom Wavin has arrangements, the Indian company shall pay in Dutch guilders or in sterling, Wavin, an amount calculated at the following

rates

The equivalent of 15p. per kilo of products sold on the first 2,000 tons in a year and the equivalent of 10p. per kilo of products sold in excess of

2,000 tons in a year subject to a maximum of 20,000 tons of products sold in all in a year, as approved by the Indian Government for a period of

ten years.

This clause is followed by a provision setting out the method of calculating the payment which we have already briefly summarised.

Pursuant to the agreement for collaboration with Wavin in the terms aforesaid, the assessee set up a factory at Madras with the help of the plant

and machinery supplied by Wavin. The assessee then began producing P.V.C. pipes and ancilliary articles. These products were being marketed

on a commercial scale, and year after year the assessee has been making payments to Wavin in terms of clause 10 of the collaboration agreement,

which we have extracted above.

In making up their account for purposes of Income Tax, the assessee claimed that the payments made by it under this clause to Wavin were

items of revenue expenditure. Year after year, however, the ITO took the view that the entire payments made by the assessee to Wavin cannot be

allowed as being a revenue deduction, but some portion of it must be disallowed that 1/4th of the overall payment made to Wavin must be

regarded as representing the capital element. In this view he disallowed, to that extent, the expenditure claimed.

The question in the present set of references which have been made at the instance of the Commissioner of Income Tax, relates to the

disallowance by the ITO of the 1/4th portion of the expenditure involved in payments to Wavin. The basis of the officer''s disallowance was that to

the extent of 1/4th, the payment to Wavin must be regarded as enuring for the enduring benefit of the assessee''s trade and hence not to be

regarded as a revenue outgoing.

When the matter was taken by up the assessee in appeal, the Tribunal rejected this view of the ITO. They held that the whole of the payment

to Wavin must be regarded as revenue in character. According to the Tribunal, the payment which the assessee was obliged to make in terms of

clause 10 of the collaboration agreement must be regarded as an expenditure incurred by the assessee for the day to day running and other

provisions in its factory. For coming to this conclusion, the Tribunal went into the materials placed before it by the assessee. According to the

Tribunal these materials showed that the results of research and development which were being passed on by Wavin from time to time to the

assessee related entirely to the process of manufacture of P.V.C. pipes and other products in the assessee''s factory. The Tribunal noted that the

results of research and development shared by Wavin with the assessee consisted of advance scientific information about reinforced epoxy pipes,

screw revolutions, pipelines for hydraulic filling, new vacuum cooling and calibrating system and the like. The Tribunal was satisfied that the results

of research and development, provided by Wavin to the assessee, really were found useful and beneficial to the assessee, especially in the matter

of production of P.V.C. pipes and allied products in the assessee''s unit. In view of these considerations the Tribunal held that the payment made

by the assessee under clause 10 of the collaboration agreement must be regarded as related to the day to day production carried out by the

assessee in its factory. On this basis the Tribunal held that there was no question of any part of this expenditure being capital in nature, since the

entire amount which went out was only related to the day to day production in the factory. The Tribunal rejected the view of the Department that

any portion of this outgoing can be disallowed, much less one-fourth part thereof, as being in capital nature.

Mr. Jayaraman, learned standing counsel for the Commissioner, took us through the terms of the collaboration agreement in detail, the salient

provisions of which we have earlier summarised. According to learned counsel, the payment made by the assessee to Wavin as the foreign

collaborator, cannot be isolated and confined to clause 10 of the agreement, but must be regarded as a payment representing the overall

consideration rendered by the assessee to Wavin not only for the purpose specified in clause 10, but also for the purpose specified in clause 8.

Clause 8, it may be observed, makes provision for three other lines of collaboration between Wavin and the assessee. Under sub-clause (a),

Wavin undertook to provide technical information and advice and assistance to the Indian company for the manufacture of products; under sub-

clause (b) Wavin granted a licence to the assessee-company, a licence under Wavin''s patent for the manufacture of the said products; and under

sub-clause (c), Wavin undertook to provide the results of research and development work carried out by their own research laboratories in

Holland. According to Mr. Jayaraman, the payment stipulated for under clause 10 of the agreement must be read and understood as appertaining

to three lines or avenues of collaboration set out in sub-cls. (a), (b) and (c) of clause 8.

As a matter of construction, we do not accept this submission of the Department''s learned counsel. A perusal of the three sub-clauses in

clause 8 shows that the undertaking by Wavin, to supply technical information, to grant licences and patent rights and to pass on research and

development work, are all to be done without consideration. Sub-clauses (a) and (b) clearly state that the furnishing of technical information and

the grant of licences are to be ""free of any charges"". When the agreement itself expressly sets out that these matters are to be passed on by Wavin

gratis or free of any charges, it would not be correct to project a part of the consideration, named in clause 10 as pertaining to the matters covered

by clause 8. Sub-clause (c) of clause 8 of the agreement which relates to the passing on by Wavin of the results of research and development work

to the assessee, does not expressly state that the providing of research and development information is free of charge. But it is to be noted, at the

same time, that the sub-clause does not provide for any specific consideration either. Considering that sub-clause (c) is to be read with sub-cls. (a)

and (b) of clause 8, it might be proper to construe even the provision of research and development information as not being meant to be paid for

under any specified consideration.

Apart from the fact that clause 8 either expressly or impliedly dispenses with any passing of consideration from the assessee to Wavin, the

express words of clause 10 very clearly show that the contribution which the assessee has to pay to the foreign collaborator is specifically intended

to meet ""the costs of research carried out by Wavin in the Netherlands"". We are satisfied that having regard to the manifest objective of the

payment which the assessee is liable to make under the agreement it cannot be related to anything other than to meet the costs of research being

carried out by Wavin in their research establishments in the Netherlands.

The question is whether a payment by the assessee in the nature of a contribution to Wavin''s foreign research establishment can be regarded

either wholly or to any extent as partaking of a capital character from the point of view of the assessee who was reaping the benefits.

In the course of the hearing we were treated to a considerable citation of case laws, appertaining to collaboration agreements. We may

observe that the one thread of principle which runs through all the reported decisions is that the character of the payment in question must be

regarded, for the purpose of allowance or disallowance of expenditure, only on a consideration of the particular terms of the agreement which is

before the court in the given cases. In this sense, therefore, a study of the decisions of courts addressed on other collaboration agreements will, at

best, possess, only informative value. They cannot be regarded as binding precedents in the proper sense, considering that no two agreements can

be alike, even if they follow the same broad lines of collaboration. We have earlier pointed out how in the matter of quid pro quo or absence of

consideration from the Indian concern to Wavin, the terms of the collaboration agreement in the present case are somewhat out of the ordinary, if

not unique. We have also discussed with reference to the particular terms of clause 10 of the agreement, how the contribution to be made by the

Indian company to Wavin is meant as the assessee''s contribution purely towards the cost of research and development in Wavin''s research

establishments in the Netherlands. Having regard to this peculiar feature of the collaboration agreement in this case, it would not be proper for us to

adopt any of the conclusions and even the reasonings adopted by the learned judges in deciding the various other cases reported in the books. In

this view, therefore, we do not find it necessary to deal with the entire case law on the subject, not even the two Bench decisions, and a Full Bench

decision of this court, all dealing with Fenner Woodroffe and Co. Ltd. Vs. Commissioner of Income Tax, , Additional Commissioner of Income

Tax and Another Vs. Southern Structurals Ltd., and Jonas Woodhead and Sons (India) Ltd., Madras Vs. Commissioner of Income Tax, Madras,

.

Learned counsel on both sides often referred to what might be regarded as a leading case on the subject, namely, the Ciba case, decided by

the Supreme Court and reported as Commissioner of Income Tax, Bombay Vs. Ciba of India Ltd., . This decision was cited by the one side or

the other before us, not so much for the detailed reasonings contained therein, but, for the observation of the Supreme Court of a general nature in

regard to the allowances of expenditure incurred by an Indian taxpayer following the implementation of foreign collaboration agreements. We think

it would be proper to refer to the basis of this decision in some detail.

The Ciba case was a case of a Swiss company engaged in the manufacture of drugs in Switzerland, entering into a collaboration agreement

with an Indian subsidiary. Under the terms of the collaboration agreement, the Swiss company had to part with consultancy and technical services

to the Indian company as well as to pass on the research work done in Switzerland. There was a provision in the agreement whereby the Swiss

company had to supply raw material and also to permit the use of distinctive trade marks by the Indian concern. The collaboration agreement

provided for a separate consideration under each head, the consideration being based on a particular percentage of the sales turnover of the

products manufactured and marketed by the Indian concern. One particular clause in the collaboration agreement provided that the Indian concern

will have to pay to the Swiss company, a technical and research contribution for the use of patents. It was provided expressly in the agreement that

the technical and research contribution had to be treated as a consideration for the scientific and technical assistance and as a refund in part

towards the Swiss company''s costs and expenditure in the maintenance and development of research work in Switzerland. The question before

the Supreme Court was whether any part of the consideration paid by the Indian company to the Swiss company in terms of the agreement could

be regarded as capital expenditure. It was urged on behalf of the Indian assessee in that case that the payments made to the Swiss company must

be allowed as expenditure laid out on scientific research. The Supreme Court, however, rejected this argument on the score that the expenditure

was not laid out by the assessee on any scientific research item of its own. Reference was made, during the argument, to s. 10(2)(xii) of the Indian

I.T. Act, 1922. It was sought to bring the expenditure in question under that provision, which dealt with expenditure on scientific research. The

Supreme Court, however, held that the expenditure allowable under this particular provision in the Act was confined to scientific research

expenditure laid out by the assessee himself and which directly related to the assessee''s business. The Supreme Court observed that a payment

made to recoup another person for expenditure on scientific research incurred by that other person, even if it might ultimately benefit the assessee,

cannot be an expenditure which would fall within the purview of s. 10(2)(xii) of the Indian I.T. Act, 1922.

In the present case no argument was addressed by the assessee either before the Tribunal or before this court, so that the contribution made

by the assessee-company in this case to Wavin under clause 10 of the collaboration agreement could be brought under s. 35 of the I.T. Act, 1961,

a provision which is the replica of s. 10(2)(xii) of the old Act, of 1922 considered by the Supreme Court in Commissioner of Income Tax,

Bombay Vs. Ciba of India Ltd., .

It was urged by the learned counsel for the assessee, Mr. S. V. Subramaniam, that even though s. 35 does not in terms apply, there cannot be

any difficulty in considering the allowability of the expenditure under the general provisions of s. 37 of the Act. The argument of Mr. Subramaniam

bears examinations. Section 37 insists that an item of expenditure, in order to be allowed in the computation of an assessee''s business income,

must be one which has been laid out or expended ""wholly and exclusively"" for the purpose of the assessee''s business. The requirement of s. 37

can be regarded as having been satisfied in this case, in so far as the contribution made by the assessee towards the costs of research in Wavin''s

research establishment is concerned, for it was for a cause as dear to the assessee''s business as to Wavin. Nor can there be any doubt that the

purpose of the payment was not for any non-business consideration. According to the preamble to the collaboration agreement Wavin had

established research and development laboratories in the Netherlands and it was the desire of the promoter of the assessee-company to

continuously share with Wavin the results of research and development work carried out by Wavin in their research laboratories abroad. The

preamble further shows that the maintenance of Wavin''s establishment in the Netherlands was not for theoretical ends, but wholly for doing

research and development work to be applied in the technology of production of P.V.C. pipes and other products being manufactured by Wavin

which under the collaboration agreement were also to be manufactured in India by the assessee. The products covered by the research and

development programme included P.V.C. pipes and fittings. Thus, the research and development work was being carried on by Wavin on behalf

of establishments of their own as well as their collaborators; besides it was not any theoretical research or development, but advance research and

development oriented towards production and manufacture of P.V.C. pipes and fittings. In this sense, the payments made by the assessee to

Wavin as a contribution towards the costs of research in Netherlands may be regarded as expenditure ""wholly and exclusively"" for the purpose of

business of the assessee, to wit, for the manufacture of P.V.C. pipes and fittings in the assessee''s factory at Madras. It may be that the research

and development work being carried on by Wavin''s scientific establishments in the Netherlands are meant to enure and actually enured for the

benefit of Wavin factories themselves elsewhere in the globe. That, however, will not detract from the fact that the contribution made by the

assessee towards the costs of research was wholly and exclusively for the purpose of the assessee''s own business.

In Morgan (Inspector of Taxes) v. Tate and Lyle Ltd. [1954] 26 ITR 195 , the question was whether the expenditure incurred by a sugar

manufacturing company for the purpose of its anti-nationalisation propaganda against the Labour Government which proposed to nationalise the

sugar industry, was an expenditure wholly and exclusively laid out for the company''s business. On behalf of the Revenue it was argued in that case

that since the expenditure in question was diverted against the nationalisation of the sugar industry and the object was to free the entire sugar

industry from the proposed nationalisation and not merely the taxpayer''s own unit, it could not be regarded as expenditure laid out ""wholly and

exclusively"" for the purpose of the particular taxpayer concerned. This contention of the Revenue, however, was rejected by the court. When the

case went before the House of Lords the Revenue did not even think fit to press the point. Lord Reid nevertheless adverted to this argument as

follows (p. 209) :

It was maintained by the appellant at one stage that this expenditure was not wholly and exclusively laid out for the purposes of the respondents''

trade because their propaganda was directed against nationalisation of the industry of sugar refining as a whole, and was not confined to opposition

to compulsory acquisition of their own concern. But this argument has now been given up. If the propaganda was to be effective it had to be on

broad lines, and the fact that it would also benefit other concerns does not matter if the purpose was to preserve the respondents'' own concern.

We adopt Lord Reid''s observations last mentioned. We may also observe that an no stage in the earlier stages of the proceedings, the

Department had pertinently raised the issue whether the contribution made by the assessee to Wavin was wholly and exclusively for the purpose of

the assessee''s own trade. The only question mooted was whether any portion of the payment could be disallowed as capital in character.

We now turn to an examination of Mr. Subramaniam''s submission that even though a particular expenditure on scientific research cannot be

allowed directly under s. 35 of the I.T. Act, it can, by a process of analogical reasoning, be allowed under the general provisions of s. 37. In our

judgment, this argument by analogy is quite inappropriate. Section 37 expressly disallows all expenditure in the nature of capital expenditure.

Scientific research expenditure was, for the first time, granted as an item of deduction, under s. 10(2)(xii) of the Indian I.T. Act, 1922. Under that

provision, research expenditure of a capital nature was severely excluded. That is not, however, the position now under s. 35 of the I.T. Act,

1961. Under the present provision, expenditure on scientific research of a revenue nature is deductible as a whole. But s. 35(2) specifically

provides also for an allowance even of capital expenditure on scientific research to a certain extent and under certain conditions. As the provisions

of ss. 35 and 37 of the I.T. Act, 1961, stand, we cannot hold that any scientific expenditure, if it does not fall under s. 35 can, however,

automatically be claimed as a deduction under the residuary head of expenditure in s. 37. For, in order to claim the allowance under s. 37, the

expenditure in question must in no case be of a capital expenditure, a prohibition which is not to be found in s. 35 relating to scientific expenditure.

Mr. Jayaraman, learned counsel for the Department, addressed two arguments. He said that the payment made by the assessee to Wavin

under clause 10 of the agreement towards the costs of research in a foreign country is not directly for any immediate purpose of running the

assessee''s factory, and must be regarded as capital in nature. Learned counsel criticised the finding of the Tribunal that the contribution made by

the assessee to the cost of research in Wavin''s research establishment must be regarded as an item of expenditure incurred for the day to day

running of the assessee''s factory. He described this conclusion as a farfetched understanding not only as to the nature of the contribution under

clause 10 but also as to what are to be included in the day to day running expenses of a business.

The contentions urged by Mr. Jayaraman cannot be lightly brushed aside, but deserve consideration. We may, however, observe even to start

with, that it is not quite apt to regard the assessee''s payment towards Wavin''s research costs as part of the assessee''s day to day expenses.

Research expenditure might in some way relate to running a factory, but it is by no means a part and parcel of current running expenses.

However, we must accept on the materials, to which reference has been made by the Tribunal in its order which are to the effect that the

results of research and development in the research establishment of Wavin in the Netherlands related purely to the products which were being

manufactured by the assessee. It is clear that such of the scientific research information which were passed on by them as a matter of course at the

request of the assessee-company, all related directly to the production of P.V.C. pipes and fittings in the assessee''s factory in India, such as glass-

fibre reinforced epoxy pipes, screw revolutions, hydraulic pipelines for hydraulic filling, vacuum cooling and calibrating system. Hence, although

there was no direct nexus between the contribution made by the assessee and the actual payments made by the assessee to the Wavin company

and the actual production which was being carried out by the assessee in its factory, it cannot be gainsaid that the contribution had an indirect

relevance and connection to the running of the factory.

Mr. Jayaraman, however, pointed out that the payments made by the assessee as a contribution to the cost of research must necessarily

involve some element of capital, since the cost of research must include in it not merely the running cost of the research establishment but also the

capital cost of the research establishment, such as, testing devices, scientific equipments, and the like, used in the research laboratories. In a broad

sense, where the cost per unit is to be considered, it might be possible to construe the cost of research as including within its fold, not only revenue

items of expenditure but also capital items and where a particular contribution is made towards the cost of research that contribution can be said to

relate not merely to revenue items but also to capital items of the subject-matter of the contribution. But, in the present case, it is clearly set out in

the collaboration agreement itself that the research establishments of Wavin in the Netherlands were primarily intended and were actually doing

research and development work only in the technology of production of P.V.C. pipes and fittings. It is towards the cost of this research that under

clause 10, the assessee was required to made contributions. This being so, it is not proper to hold that any part of the cost of research can be said

to go in for items other than research work in the technology of production of P.V.C. pipes. In other wards, the cost of research is the cost of

research incurred to advance the production of P.V.C. pipes, the very purpose for which the assessee is running the business in India. Thus the

entire contribution towards the cost or research would be a contribution towards the cost of research for the purpose of advancing the technology

of production of P.V.C. pipes, Hence, although not directly, but indirectly, the contribution would advance the production to the extent that the

research produces tangible results for the purpose of improving production and production processes in the assessee''s laboratory. In this sense,

therefore, we cannot find any element of capital in the contribution made by the company to the foreign collaborator.

Apart from the particulate clause in the collaboration agreement, to which reference has been made, Mr. Subramaniam also relied on a

passage from the judgment of the Supreme Court in the Ciba case [1968] 69 ITR 692. That observation by the Supreme Court was made in the

context of the discussion as to how to interpret the nature of the advantage which the Indian company in that case derived by obtaining technical

consultancy and technical service and research work from the Swiss company. The Supreme Court dealt with that question after having rejected

the assessee''s contention based on s. 10(2)(xii) of the Indian I.T. Act. 1922. Explaining what was the nature of the advantage which the assessee

derived under the collaboration agreement, the Supreme Court observed thus (p. 700) :

The assessee acquired under the agreement merely the right to draw, for the purpose of carrying on its business as a manufacturer and dealer of

pharmaceutical products, upon the technical knowledge of the Swiss company for a limited period; by making that technical knowledge available

the Swiss company did not part with any asset of its business nor did the assessee acquire any asset or advantage of an enduring nature for the

benefit of its business.

Relying on this passage, Mr. Subramaniam submitted that the contribution made by the assessee in the present case towards the cost of

research in the Netherlands scientific establishments cannot be regarded as payments for the acquisition of any capital asset or advantage of an

enduring nature. Adopting the words of the Supreme Court, learned counsel submitted that this was merely a method by which the assessee was

enabled to pay off and throw open the technical and scientific knowledge of Wavin from its scientific establishments in Netherlands and this cannot

be regarded as capital in nature any stretch of law or notion.

Mr. Jayaraman, however, submitted that this passage in the judgment of the Supreme Court will have to be read and understood in the context

of the Supreme Court''s understanding of the collaboration agreement as well in that case. Learned counsel submitted that after having analysed the

various provisions of the collaboration agreement between the Swiss company and the Indian company in that case, the Supreme Court was

disposed to regard the agreement in that case as a mere licensing agreement for a limited period of time. Learned counsel submitted that it was only

from this point of view that the Supreme Court observed that the supply of technical know-how for an Indian company was merely utilised by the

assessee-company for its right to throw open the technical knowledge of the Swiss company and it did not involve the acquisition of any asset or

advantage of an enduring benefit of trade.

We are, however, of the view that the observation of the Supreme Court relied on by the learned counsel for the assessee have a general

application and it cannot be restricted to the types of cases which the learned standing counsel described as a licensing agreement. We are not also

sure whether the Supreme Court regarded the collaboration agreement in that case as a mere licensing agreement, although in the course of their

judgment they used the expression that the assessee in that case was in the position of a mere licensee for a limited period of time. We have earlier

held that in the present case before us there was no provision in the collaboration agreement for the assessee to make any payment whatever for

the acquisition of technical information, licensing rights or placing the results of research and development. Hence, the one and only purpose for

which the payment were made under co. 10 was towards the cost of research and this payment must, therefore, stand on the principle enunciated

by the Supreme Court, viz., the method by which the assessee was enabled to throw open the scientific and technical knowledge which was

available in the scientific establishments of the foreign collaborator. The Supreme Court has held that the mere right to throw open the knowledge

cannot be regarded as an acquisition of any asset or advantage. Having regard to the purpose for which the payment was being made under the

collaboration agreement in this case it seems to us that the principle laid down by the Supreme Court will have to be applied and adopted to this

case.

We have earlier remarked about the peculiar character of the provisions relating to payments in the present collaboration agreement. There is,

however, a judgment of the Calcutta High Court, cited in the course of the argument, in which a more or less similar provision had figured in the

collaboration agreement which was under consideration by that court. The case is Commissioner of Income Tax Vs. Indian Oxygen Ltd., . In that

case, an Indian company had a collaboration agreement with a British company. Under that agreement, it was, inter alia, agreed that the Indian

company was to pay to the English company 2.5% of the total expenditure incurred by the English company in running a scientific establishment.

This feature of the agreement was noticed by the learned judges of the Calcutta High Court, but from their judgment, it does not appear that any

special point was made in argument as to the significance of this particular provision in the agreement. The learned judges regarded the payment as

revenue in character and cited the Commissioner of Income Tax, Bombay Vs. Ciba of India Ltd., , and other rulings of the High Courts. The

learned judges did not go into the question as to the precise nature of the payments made towards the running of the English company''s scientific

establishments. The decision of the Calcutta High Court appertains to a similar collaboration agreement as in this case, but the issues which had

been raised in the course of the argument before us were apparently not argued before that court.

Mr. Subramaniam, learned counsel for the assessee, referred to a recent judgment of the Delhi High Court. This case, however, did not have

to deal with the tax treatment of payments made under a collaboration agreement. The case is R.B. Narain Singh Sugar Mills P. Ltd. Vs.

Commissioner of Income Tax, New Delhi, . In that case, an assessee-company was carrying on business in the manufacture of sugar. It

participated in a State Government formulated scheme.

Under the scheme, developmental activities, common to the assessee-company as well as to other sugarcane factories in the State were

provided for under a general plan. It was part of the scheme that in return for the benefits which were to accrue to the assessee-company as well

as to the other participants, there must be an individual contribution of finances by each participant mill, to the general council. Under the scheme,

there was to be a general council to look after the implementation of the scheme. It was part of the agreement that the participating members

should each pay its own contribution to the up-keep and maintenance of the scheme. The assessee-company made its contribution to the general

scheme and claimed that expenditure as an item of revenue expenditure. The ITO as well as the Tribunal disallowed the expenditure as

inadmissible, holding that it was capital in character. On a reference, the Delhi High Court took a different view. Ranganathan J., who delivered the

judgment of the court, went into the details of the scheme and the several ways in which the contribution by the participating members were

disbursed for various development works. He found that under the scheme there was a provision for purchase and spraying of insecticides and

other items which were essential for the production of sugarcane and for the manufacture of sugar. As a part of the scheme, bore-wells were dug

up, godowns were constructed, culverts were built, and other capital works were established or installed. Notwithstanding these ingredients in the

items of general expenditure incurred and laid out by the general council towards meeting which the assessee had made the contributions, it was

held that it must be regarded as revenue in nature. The learned judge observed that the assessee had only contributed funds for the implementation

of a general scheme, and the general object of the scheme was only to improve the quality of the sugarcane and to improve the methods of

cultivation thereof. In this judgment, it was observed, (at p. 703) that the contribution by the assessee was made not with the object of acquiring

any capital asset or any enduring advantage, but only to secure supply of better quality sugarcane for its factory. In this sense, the learned judge

held that the expenditure was wholly and exclusively laid out for the assessee''s business and further that it was not capital in nature.

Mr. Subramaniam heavily drew upon the basis of this decision for supporting his submission that the contribution made by the assessee to

Wavin, in this case, must be regarded as out and out revenue in nature even it the cost of research in the scientific establishments of Wavin in the

Netherlands had some elements of capital in their make up. It seems to us that on the basis of the reasonings of the Delhi High Court in the decision

which we have just referred to, this argument is quite tenable. We have earlier rendered our decision as to the nature of the expenditure on a

construction of the terms of the collaboration agreement in this case. But, even on a matter of principle, on the basis of the decision of the Delhi

High Court, we think that the same conclusion can be reached.

From whichever way the matter is looked at, whether the contribution is regarded as a payment to draw upon the scientific knowledge of the

foreign collaborator or as a payment for the purpose of implementing a general scheme of research work which does not produce to the assessee

any particular asset or advantage of an enduring nature or whether it is looked at as a matter of construction of the terms of the collaboration

agreement itself, the conclusion is irresistible that the entire contribution must be regarded as a revenue item of expenditure. There was, therefore,

no justification for the ITO to disallow any portion of it was capital in character.

The questions of law which are referred to us in these group of three tax cases are unique but they differ in their format. In one of them the

question of law is in the following terms :

Whether, on the facts and in the circumstances of the case, any portion of the amount paid to the foreign collaborator as contribution towards

research and development expenditure could be disallowed as capital expenditure ?

In the other, the question of law has been framed in the following manner, viz. :

Whether, on the facts and in the circumstances of the case, and having regard to the various clauses of the collaboration agreement dated May 20,

1965, the Appellate Tribunal was right in a deleting the Income Tax Officer''s disallowance of 1/4th of the amount paid to the foreign collaborator

as contribution towards research and development as capital expenditure ?

Our common answer to both the questions of law is that the Tribunal was right in its conclusion that no part of the amount paid by the assessee

to the foreign collaborator as contribution towards research and development can be regarded as capital expenditure. Since the assessee has

succeeded and the Department has failed in these group of cases, the Department has got to pay the costs of the assessee. Counsel''s fee Rs. 500

one set.