Revenue expenditure treatment for contractual compensation confirmed; apportioned consideration for self created goodwill taxed as long term capital gain.

Payment made under an approved sole selling agency agreement on premature termination was held to be revenue expenditure because it arose from a contractual, commercial decision and the assessing officer could not substitute his view on business necessity; consequence: disallowance deleted. Separately, Rs.10 lakhs specifically apportioned to goodwill, marketing information and know how was treated as consideration for self created goodwill with nil cost of acquisition and therefore assessable as long term capital gain; consequence: taxed as LTCG rather than income from other sources. Both issues resolved for the assessee.

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Issues: (i) Whether the payment of Rs.2.5 crores to the sole selling agent on premature termination of the agency is revenue expenditure or capital expenditure; (ii) Whether the receipt of Rs.10 lakhs, as part of the sale consideration for the graphic division, is receipt in lieu of sale of goodwill chargeable as long term capital gain.

Issue (i): Whether Rs.2.5 crores paid to the sole selling agent on premature termination of the agency agreement qualifies as revenue expenditure.

Analysis: The payment was made pursuant to clause 11.4.3 of the sole selling agency agreement upon termination following sale of the loss-making graphic division. The agreement had been approved by the Central Government and the agent had declared and paid tax on the compensation received. The tribunal recorded that the decision to terminate and to make the contractual payment was a commercial decision of the assessee and that the assessing officer was not entitled to substitute his view on the business necessity or reasonableness of incurring the expenditure.

Conclusion: The payment of Rs.2.5 crores is revenue expenditure and the disallowance by the assessing officer is deleted (in favour of the assessee).

Issue (ii): Whether Rs.10 lakhs included in the sale consideration represents consideration for goodwill and is chargeable as long term capital gain.

Analysis: The breakup of the total consideration specifically allocated Rs.10 lakhs to goodwill, marketing information, know-how and approvals. The amount related to self-created/generated assets for which cost of acquisition is nil under Section 55(2)(a)(ii) of the Income-tax Act, 1961, and no depreciation under Section 32 had been claimed. The tribunal held that the amount was properly characterized as consideration for goodwill and assessable as long term capital gain rather than income from other sources.

Conclusion: The Rs.10 lakhs is receipt in lieu of sale of goodwill and is chargeable as long term capital gain (in favour of the assessee).

Final Conclusion: Both issues are decided in favour of the assessee and the revenue appeal is dismissed; no substantial question of law arises.

Ratio Decidendi: Where a contractual compensation is paid pursuant to a valid commercial decision and under the terms of an approved agency agreement, the payment may be treated as revenue expenditure; and consideration apportioned to self-created goodwill has nil cost of acquisition under Section 55(2)(a)(ii) of the Income-tax Act, 1961 and is chargeable as long term capital gain.

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