1983 (10) TMI 24 - HC - Income Tax

Court rules royalty payment as revenue expenditure, not capital. Precedent supports turnover-based classification. Assessee favored, costs on Revenue.

The court held that the royalty payment of Rs. 1,44,556 was a revenue expenditure, not a capital expenditure, as it was related to turnover and not to any ... Succession Issues Involved1. Nature of the royalty payment of Rs. 1,44,556: Capital or Revenue expenditure under Section 37(1) of the Income-tax Act, 1961.Issue-wise Detailed Analysis1. Nature of the Royalty Payment of Rs. 1,44,556: Capital or Revenue ExpenditureFacts:The assessee, a public limited company incorporated in 1958, manufactures air compressors and pneumatic tools. Kirloskar Bros. Ltd., incorporated in 1920, initially held a license for manufacturing air compressors, which it surrendered to promote the assessee company. An agreement between the assessee and Kirloskar Bros. Ltd. stipulated that the latter would desist from manufacturing certain air compressors and allow the use of the name 'Kirloskar' in exchange for a royalty payment of one percent of the net proceeds of sales, subject to a minimum of Rs. 10,000 annually for twelve years.Procedural History:The Income Tax Officer (ITO) disallowed the assessee's claim of Rs. 1,44,556 as a revenue expenditure, classifying it as capital expenditure. The Appellate Assistant Commissioner (AAC) initially ruled in favor of the assessee, but upon remand, allocated two-thirds of the expenditure as capital and one-third as revenue. The Tribunal, however, held the entire payment as capital expenditure, leading to the present reference.Arguments:The assessee argued that the expenditure did not result in an enduring benefit and should be classified as revenue expenditure. Alternatively, even if it provided an enduring benefit, it should still be considered revenue expenditure.Judgment:The court, referencing the Supreme Court judgment in Travancore Sugars and Chemicals Ltd. v. CIT [1966] 62 ITR 566, determined the nature of the payment. The Supreme Court had established that payments related to annual profits and not tied to a fixed sum are revenue expenditures. The court noted that the payment under the agreement was related to the turnover of air compressors and not to any fixed capital sum.Key Points:- The payment was for an indefinite period and related to annual profits.- The payment was not tied to any fixed capital sum.- The nature of the payment was akin to royalties, which are typically revenue expenditures.Conclusion:The court concluded that the royalty payment of Rs. 1,44,556 was a revenue expenditure, not a capital expenditure, as it was related to the turnover and not to any fixed capital sum. The question posed was answered in the negative, in favor of the assessee, and the Revenue was directed to pay the costs of the reference.References to Other Judgments:- Travancore Sugars and Chemicals Ltd. v. CIT [1966] 62 ITR 566 (SC): The court emphasized the importance of the nature of payments being related to annual profits and not tied to a fixed capital sum.- CIT v. Kolhia Hirdagarh Co. Ltd. [1949] 17 ITR 545 (Bom): Payments related to turnover and not fixed sums were considered revenue expenditures.- IRC v. 36149 Holdings Ltd. (In liquidation) [1943] 25 TC 173: Payments in perpetuity related to turnover were deemed revenue expenditures.- CIT v. Sarada Binding Works [1976] 102 ITR 187 (Mad): Payments calculated as a percentage of profits for an indefinite period were considered revenue expenditures.Distinguishing Cases:- IRC v. Ramsay [1935] 20 TC 79: Payments were considered capital when they were part of a lump sum for purchasing property.- IRC v. Pyman [1937] 21 TC 129 (KB): Purchase money for a deceased partner's share was considered capital.- CIT v. Naya Sahitya [1972] 84 ITR 567 (Delhi): Payments for obtaining business advantages were considered capital expenditures.The court's decision was influenced by the principles established in the cited judgments, particularly focusing on the relationship between the payments and the annual profits, and the absence of a fixed capital sum.