2025 (2) TMI 190 - AT - Income Tax

Royalty payments for franchisee rights and brand name usage treated as revenue expenditure, deduction allowed

The ITAT Delhi held that royalty payments made by the assessee for franchisee rights and brand name usage were recurring in nature and should be treated ... Nature of expenses - Disallowance of royalty payment paid for grant of franchisee rights and use of brand name - HELD THAT:- By respectfully following the order for Assessment Year 2014-15 in Assessee’s own case [2024 (5) TMI 1513 - ITAT DELHI] we hold that the royalty payment made by the Assessee which is recurring in nature, therefore, we direct the A.O. to treat the same as revenue expenditure, accordingly, we allow Grounds of appeal of the Assessee. The case involves an appeal filed by the Assessee against an order by the Commissioner of Income Tax Appeals (CIT(A)), which upheld the disallowance of a royalty payment as a capital expenditure. The core legal issue revolves around whether the royalty payment made by the Assessee to Choice Hotels Licensing BV for franchise rights and brand name usage should be categorized as capital or revenue expenditure.Issues Presented and ConsideredThe primary issue is the classification of the royalty payment of Rs. 19,94,078 as capital expenditure by the CIT(A), which the Assessee contends should be treated as revenue expenditure. This classification impacts the tax treatment and the Assessee's financial obligations.Issue-wise Detailed AnalysisRelevant Legal Framework and Precedents:The legal framework involves the Income Tax Act, 1961, which distinguishes between capital and revenue expenditures. Precedents considered include cases such as Janas Woodhead & Sons (India) Ltd., Southern Switch Gear Ltd., and CIT vs. Hero Honda Motors Ltd., which discuss the enduring nature of benefits derived from technical know-how and brand usage.Court's Interpretation and Reasoning:The Tribunal examined whether the royalty payment provided an enduring benefit to the Assessee. The CIT(A) had previously concluded that the payment was partly for enduring benefits due to the technical know-how and operational support provided, which could be used beyond the agreement's duration.Key Evidence and Findings:The evidence included the nature of services provided by Choice Hotels Licensing BV, which encompassed hotel development, project planning, and technical support. The Tribunal noted that these services were integral to the Assessee's business operations and were provided on an annual basis.Application of Law to Facts:The Tribunal assessed the nature of the royalty payment, considering whether it was a one-time benefit or a recurring expense. The Tribunal found that the payment was for ongoing services and brand usage, which are typically classified as revenue expenditures.Treatment of Competing Arguments:The Assessee argued that similar disallowances had been overturned in previous years, and the Tribunal's prior decision supported treating the payment as revenue expenditure. The Revenue contended that the payment provided enduring benefits, justifying its classification as capital expenditure.Conclusions:The Tribunal concluded that the royalty payment was recurring and integral to the Assessee's operations, thus constituting a revenue expenditure. The Tribunal directed the Assessing Officer to treat the payment accordingly.Significant HoldingsPreserve Verbatim Quotes of Crucial Legal Reasoning:The Tribunal stated, 'The royalty paid was meant for the standardization of operations and utilization of brand name. The assessee is precluded from using the brand unless the royalty is paid. Simply by the virtue of provisions of some manuals and SOPs, the amount paid cannot be treated as capital expenditure in nature unless it results in acquiring of a capital receipt.'Core Principles Established:The decision reinforces the principle that payments for ongoing operational support and brand usage, which do not result in the acquisition of a capital asset, should be treated as revenue expenditures.Final Determinations on Each Issue:The Tribunal allowed the Assessee's appeal, directing that the royalty payment be classified as revenue expenditure, aligning with the treatment in the Assessee's previous case for the Assessment Year 2014-15.In conclusion, the Tribunal's decision emphasizes the importance of the nature and purpose of payments in determining their classification for tax purposes, particularly distinguishing between capital and revenue expenditures based on the benefits conferred and their duration.