2016 (10) TMI 357 - HC - Income Tax

Key ITAT Decisions: Revenue Expenditure, Commission, ESOP Trust, Section 14A, Foreign Exchange Fluctuation

Pr. Commissioner of Income Tax-06 Versus Nitrex Chemicals India Ltd.

Pr. Commissioner of Income Tax-06 Versus Nitrex Chemicals India Ltd. - TMI Issues Involved:1. Classification of payments for trademark use and expertise as revenue or capital expenditure.2. Legitimacy of disallowance of excessive commission on exports.3. Deductibility of ESOP Trust funding from capital gains in a slump sale.4. Validity of disallowance under Section 14A.5. Treatment of foreign exchange fluctuation as capital or revenue loss.Detailed Analysis:1. Classification of Payments for Trademark Use and Expertise as Revenue or Capital Expenditure:The primary issue was whether payments made by the assessee to its holding company for the use of its trademark and expertise in commerce, finance, and manufacturing should be classified as capital or revenue expenditure. The Assessing Officer (AO) considered these expenditures as capital in nature due to their enduring benefits. However, the CIT (A) and ITAT treated them as revenue expenditure. The ITAT reasoned that the payments were for using the trademark and obtaining necessary expertise for smooth business operations, and no tangible or intangible asset with lasting benefits was acquired. The court upheld this view, stating that the findings were factual and no question of law arose.2. Legitimacy of Disallowance of Excessive Commission on Exports:The revenue argued that the commission paid by the assessee to its export agent was excessive. However, both the CIT (A) and ITAT rejected this contention, emphasizing that the commission was customary given the historic relationship with the export agent. The court noted that commercial decisions regarding commission payments are subjective and unless extraordinary features are pinpointed, the revenue cannot deem them excessive. Thus, no question of law arose on this issue.3. Deductibility of ESOP Trust Funding from Capital Gains in a Slump Sale:The revenue contested the deduction of Rs. 1,39,76,352 spent on funding the ESOP Trust from capital gains. The assessee argued that this expenditure was integral to the sale transaction. The ITAT found that the ESOP funding was a pre-condition for the business transfer and was essential for ensuring employee transition to the new company. The court agreed, stating that the expenditure was incurred wholly and exclusively in connection with the transfer, as per Section 48 of the Income Tax Act. Therefore, the court found no infirmity in the ITAT’s findings and ruled that no question of law arose.4. Validity of Disallowance under Section 14A:The revenue’s grievance regarding disallowance under Section 14A was limited to three assessment years. The court referred to the decision in Maxopp Investment Ltd. Vs CIT, New Delhi, and noted that the AO failed to record satisfaction regarding the permissibility of the deduction, which is a pre-condition for exercising the power. Consequently, the court held that no question of law arose on this aspect.5. Treatment of Foreign Exchange Fluctuation as Capital or Revenue Loss:For the assessment year 2009-2010, the AO disallowed the loss on foreign exchange fluctuation, treating it as a capital loss. The CIT (A) and ITAT disagreed, citing Section 43A and AS-11 (Accounting Standard), which mandate that such fluctuations be shown in the profit and loss account. The court observed that the revenue had previously treated foreign exchange fluctuations as revenue in nature. Given this consistent treatment, the court found the revenue’s submissions unmerited and ruled that no question of law arose.Conclusion:The court concluded that all questions of law were answered against the revenue and in favor of the assessee. Consequently, the appeal was dismissed as unmerited.