Termination compensation and non-compete payment: no agency income under section 28(ii)(c), but most receipt stayed revenue in nature.

Compensation received on termination of a commercial arrangement with a foreign company was held outside section 28(ii)(c) because the agreement lacked the essential legal incidents of agency: the assessee could not bind the principal and could only procure orders subject to acceptance. The receipt was nevertheless treated as revenue income to the extent it represented cancellation of a trading arrangement that did not impair the business structure or source of income. A separate one-year non-compete restraint was treated as a restrictive covenant, and the consideration attributable to that covenant was capital in nature and not taxable.

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Issues: (i) whether the compensation received on termination of the arrangement with the foreign company was chargeable under section 28(ii)(c) of the Income-tax Act, 1961 as compensation for termination of an agency; (ii) whether the amount, or any part of it, was a taxable revenue receipt, and whether any portion attributable to the non-compete obligation was a capital receipt.

Issue (i): whether the compensation received on termination of the arrangement with the foreign company was chargeable under section 28(ii)(c) of the Income-tax Act, 1961 as compensation for termination of an agency;

Analysis: The provision applies only where there is an agency in the legal sense. The agreement had to be examined on its terms, and mere use of the words "agent" or "agency" was not conclusive. On the clauses governing the relationship, the assessee had no authority to conclude contracts or bind the foreign company, and could only procure orders subject to acceptance by the principal. The arrangement therefore lacked the essential incidents of a principal-agent relationship.

Conclusion: The receipt was not taxable under section 28(ii)(c) as compensation for termination of an agency; this issue was decided in favour of the assessee.

Issue (ii): whether the amount, or any part of it, was a taxable revenue receipt, and whether any portion attributable to the non-compete obligation was a capital receipt.

Analysis: Compensation for cancellation of a commercial arrangement is revenue in nature where the termination does not impair the trading structure or deprive the recipient of its source of income. The assessee was engaged in several agencies, and termination of the subject arrangement did not dislocate the business apparatus. The receipt was therefore taxable as revenue income to that extent. At the same time, the termination agreement imposed a separate one-year restraint against competition, and payment referable to that restrictive covenant was capital in nature. On the material, 25% of the amount was attributable to the covenant and the balance to termination of the arrangement.

Conclusion: 75% of the compensation was taxable as revenue receipt and 25% was not taxable as capital receipt attributable to the restrictive covenant; this issue was partly decided in favour of the assessee.

Final Conclusion: The compensation was outside section 28(ii)(c), but most of it remained assessable as business income, with only the portion linked to the non-compete restraint excluded from tax.

Ratio Decidendi: Where a commercial arrangement lacks the essential elements of agency, compensation for its termination is not taxable under the specific deeming provision for agency termination, but it may still be treated as revenue income unless the termination impairs the trading structure or source of income; any identifiable consideration for a restrictive covenant is capital in nature.

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