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PETITIONER: M/S. JONAS WOODHEAD & SONS LTD., MADRAS.

       Vs.

RESPONDENT: THE COMMISSIONER OF INCOME-TAX, MADRAS

DATE OF JUDGMENT:       11/02/1997

BENCH: S.C. AGRAWAL, G.B. PATTANAIK

ACT:

HEADNOTE:

JUDGMENT:                       J U D G M E N T      G.B. PATTANAIK, J.      These two  appeals by  special leave at the instance of the assessee  are directed  against the  order of the Madras High Court  answering the  question posed  in favour  of the revenue and  against the  assessee. The Income-tax Appellate Tribunal, Madras  Bench, referred  the following question to the Madras High Court for its opinion:      "Whether, on  the facts  and in the      circumstances  of   the  case,  the      Tribunal was  right in holding that      25%  of  the  amount  paid  by  the      assessee as royalty to Messrs Jonas      Woodhead  &   Sons.,  was   capital      expenditure   and   therefore   not      allowable  as  revenue  expenditure      under the provisions of the Income-      tax under  the  provisions  of  the      Income-tax  Act,   1967,  for   the      assessment years  1967-68 and 1968-      69?"      The aforesaid question of law arose out of order of the Appellate Tribunal arising out of assessment proceedings for the assessment  years 1967-68  and 1968-69.  The assessee, a limited company  incorporated in  March 1963 to carry on the business of  manufacture of automobiles springs entered into an  agreement  with  M/s.  Jonas  Woodhead  and  Sons  Ltd., (hereinafter referred  to as  "foreign company")  of  United Kingdom  for   manufacture  of  all  types  of  springs  and suspension for  road and  rail vehicles. Under the terms and conditions of  the agreement  between  the  parties  it  was stipulated that  the foreign firm will give the assessee the technical information  and know-how  relating to the setting up of  a plant  suitable for  manufacture of the products as well as the technical know-how relating to the setting up of the plant  itself, the  drawings, estimates, specifications, manufacturing methods, blue prints of production and testing equipment  and  other  data  and  information  necessary  to manufacture the  products and to set up proper and efficient plants. The  said agreement between the parties also provide

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that in consideration of the information to be furnished and services to  be rendered to the assessee by the foreign firm the assessee  shall pay  a  royalty  at  the  rates  of  the licensed products, turnover of the assessee to be calculated in accordance  with the  provisions of  the  agreement.  The production of  the assessee  commenced on  1.1.1966  and  in terms of  the agreement  the assessee  made payments  of Rs. 24,/000/- and  Rs. 47,000/- respectively to the foreign firm for assessment  years 1967-68 and 1968-69 as royalty. In the assessment proceedings  the  Income-tax  Officer  disallowed 1/4th of  the aforesaid  payments on  the ground  that  such payment represented  the consideration  for service provided by the  foreign  company  of  an  enduring  nature  and  is, therefore, a capital receipt. The assessee preferred appeals before  the   Appellate  Assistant  Commissioner  and  being unsuccessful therein  preferred second appeal to the Income- tax Appellate  Tribunal. The  Tribunal having  dismissed the second appeal  an application  was filled  by  the  assessee under Section 256(1) of the Income-tax Act for referring the question of  law as  already indicated  to the High Court of Madras for  being answered.  The High  Court by the impugned judgment answered  the question in favour of the revenue and against the  assessee. The  assessee thereafter  moved  this Court and  on leave  being granted,  these appeals have been registered. In answering the question posed in favour of the revenue the  High Court  considered the different clauses of the agreement between the parties and is of the opinion that the assessee  acquired a  benefit of  enduring nature  which will constitute "acquisition of an asset and amount paid for the same  would constitute  capital expenditure".  The  High Court  also   came  to   the  conclusion  that  the  payment stipulated under  clause 12 of the agreement by the assessee to the  foreign firm  was not  the remuneration for using of the rights  granted by  the foreign  firm  but  a  composite payment  for  all  the  services  rendered  and  information furnished by  the said  foreign firm  to the assessee in the setting up  of the  factory as well as in the manufacture of the licensed  products in  that factory. The judgment of the High Court  has since  been reported  in 117  (1979) ITR 55. Mrs. Janaki  Ramachandran, the learned counsel appearing for the appellant  contended that the High Court was in error in answering the question in favour of the revenue on a finding that the  payment  was  made  to  the  foreign  company  for obtaining advantage  of enduring  benefit in  as much  as it does not  offer advantage  of enduring nature acquired by an assessee which  could be  held to  be a capital expenditure. According to  the learned  counsel the  payments made by the assessee to  the foreign firm for the technical know-how and assistance rendered  by the  said foreign  firm enabled  the assessee to  carry on its business more efficiently and more profitably leaving  fixed capital  untouched and, therefore, the said  payment or  any part  of it cannot be held to be a capital expenditure.  In support of this contention reliance was placed  on the  decision of  this court  in the  case of Empire Jute  Co. Ltd.  vs. Commissioner  of Income-Tax,  124 (1980) ITR  1. According  to the  learned  counsel  for  the appellant a  technical know-how or technical advice received from a  foreign firm  cannot be  held to be a tangible asset and any  payment made  to the foreign firm for such know-how is nothing  but a  revenue expenditure.  The learned counsel places  reliance  on  the  decision  of  Bombay  High  Court reported in  123 (1980)  ITR 539.  The learned  counsel also urged that  the payment  required to be made by the assessee to the  foreign firm  was merely  for the better conduct and improvement of the existing business and as such was revenue

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in nature and can’t held to be a capital expenditure.      Mr. Chaudhary,  the learned  counsel appearing  for the revenue on  the  other  hand  contended  that  the  question whether a particular payment made by the assessee would form a part  of revenue  expenditure or capital expenditure would depend upon  the relevant facts and the terms and conditions of the agreement between the parties under which the payment is made.  According  to  the  learned  counsel  the  various clauses of  the  agreement  having  been  analysed  and  the Tribunal having  found that  the  foreign  firm  not  merely provided  the   technical  know-how  for  manufacturing  the product but  also gave  plan and designs and established the factory for  manufacture of  the products  and the  business concerned being  totally new  business and  even  after  the conclusion of the agreement period the assessee was required merely to  return the  plans and  designs, but  there was no embargo on  the  assessee  to  manufacture  the  product  in question and  the payments  under the  agreement being  of a composite nature the Tribunal was fully justified in holding the part  of the  payments made by the assessee did form the capital expenditure  and the High Court was wholly justified in answering the reference in favour of the revenue.      The question  whether a  particular payment  made by an assessee under  the terms  of the  agreement forms a part of capital expenditure or revenue expenditure would depend upon several factors,  namely, whether  the assessee  obtained  a completely  new   plan  with  a  complete  new  process  and completely new  technology for manufacture of the product or the payments  was made  for the technical know-how which was for the  betterment of  the product  in question  which  was already being  produced; whether  the improvisation made, is the part  and parcel  of the  existing  business  or  a  new business was  set up  with the  so-called technical know-how for which  payments were  made; whether  on  expiry  of  the period of  agreement the  assessee is  required to give back the plans  and designs which were obtained, but the assessee could manufacture  the product  in the factory that has been set up  with the  collaboration of  the  foreign  firm;  the cumulative effect on a construction of the various terms and conditions of  the agreement;  whether the  assessee derived benefits coming  to its  capital for  which the  payment was made. This  court in  the case of Alembic Chemical Works Co. Ltd. vs. Commissioner of Income Tax, Gujarat, 177 (1989) ITR 377  has   indicated  that   "in  the  infinite  variety  of situational diversities  in which  the concept  of  what  is capital expenditure  and what  is revenue  arises, it is not possible to  form any general rule even in the generality of cases, sufficiently  accurate and  reasonable comprehensive, to draw  any clear  line of demarcation". This Court further held that  there is  no single definitive criterion which by itself  is  demarcative,  whether  a  particular  outlay  is capital or  revenue. And  therefore, "once  for all" test as well  as   the  test   of  "enduring  benefit"  may  not  be conclusive. Consequently,  the various  terms and conditions of the  agreement, the  advantages derived  by  an  assessee under the agreement, are all to be taken in account and then it has  to be  decided whether  the whole  or a  part of the payment thus  made is  a capital  expenditure or  a  revenue expenditure.      In the  case of Commissioner of Income-Tax, Bombay City I vs.  CIBA of  India Ltd.,  69 (1968) ITR 692, the question for consideration  was whether  the contribution  payable by the assessee  at the  rate of  6 per cent of the net ceiling price of  firm categories  which the  assessee  produced  on getting the  formulae, scientific  data, working  rules  and

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prescriptions pertaining to the manufacture or processing of products discovered  and developed  in the  Swiss  company’s laboratory can  be held to be a business expenditure or is a capital expenditure. This Court held on consideration of the agreement between  the parties  that the  assessee  did  not become entitled  exclusively even  for  the  period  of  the agreement,  to  the  patents  and  trademark  of  the  Swiss company; it  had merely  access to  technical knowledge  and experience in  the  pharmaceutical  field  which  the  Swiss company commanded.  The assessee on that account have a mere licence for a limited period of a technical knowledge of the Swiss company with the right to use the patent and trademark of that  company. The  assessee acquired under the agreement merely the right to trade for the purpose of carrying on its business as  a  manufacturer  or  dealer  and  obtained  the technical knowledge  of Swiss company for limited period. By making a technical knowledge available the Swiss company did not part  with any  asset  of  its  business,  nor  did  the assessee acquire  any asset  or  advantage  of  an  enduring nature for  the benefits of its business and, therefore, the said contribution  was merely  a revenue  expenditure  or  a business expenditure.      In the  case of  Commissioner of  Income-Tax vs. Lucas- T.V.S.  Limited,  110  (1977)  ITR  338,  the  question  for consideration before  the Madras  High Court was whether the payments made  under the  collaboration agreement  with  the foreign firm  by the  assessee for  the exclusive  right and licence to  make various  items of electrical equipments for vehicles by  the foreign  firm is  a capital  expenditure or revenue expenditure.  The Madras  High  Court  came  to  the conclusion that  since under  the agreement the assessee had no right  to manufacture  fresh articles on the basis of the know-how which  had obtained from the foreign firm after the expiry of  the period  of licence,  the payments made by the assessee to the foreign firm for the technical know-how will be in  the nature  of a  licence fee  and will constitute an expenditure in  computation of  profits and gains and cannot be held to be a capital expenditure.      In the  case  of  Commissioner  of  Income-Tax,  Madras (Central) vs.  Sarada Binding Works, 102 (1976) ITR 187, the question for consideration was whether the consideration for a transaction which consist of partly a fixed annual sum and partly a  periodical payment  at a certain percentage of the profits earned  by the assessee from the said business would be treated  in its  entirety as  a capital  expenditure or a revenue expenditure.  The Madras  High  Court  came  with  a conclusion that  the fixed  sum paid  towards  part  of  the consideration will be a capital payment while the periodical payment of  sum which are definite and which depend upon the future profits  cannot be  treated as a capital expenditure. In other  words, the  Court answered the question that since the payment  in question  to be made by the assessee was not related to any specified sum but a percentage of the profits to be earned which were indefinitive in nature. Such payment could be treated only as a revenue expenditure.      In the  case of  Agarwal Hardware  Works (P)  Ltd., vs. Commissioner of  Income-Tax, West  Bengal-I, 121  (1980) ITR 510, the question for consideration before the Calcutta High Court was  whether the  payments made  by the  assessee to a foreign firm  for use  of certain patents would be a capital expenditure or  a revenue  expenditure.  The  Calcutta  High Court on  consideration of the agreement between the parties came to  the conclusion  that since  patents are not useable after termination  of the  agreement and  the  payments  are indefinitive in  nature based  on production  of goods,  the

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assessee does  not acquire any capital asset and, therefore, such payments  made under  the agreement are for the purpose of business and derive business expenditure.      In the case of Commissioner of Income-Tax. Bombay City- I vs. Tata Engineering & Locomotive Co Pvt. Ltd., 123 (1980) LTR 538,  the question  for consideration  before the Bombay High Court  was whether the payments made by the assessee to the  foreign   firm  for  the  technical  know-how  and  the technical advice would be a capital expenditure or a revenue expenditure. The  Court answered  the  question  that  since under the  agreement the  assessee did not acquire a benefit of enduring  nature and the so-called foreign know-how which is  availed  of  in  lieu  of  payment  is  in  substance  a transaction of acquiring the necessary technical information with regard  to the  technique of  production and as such it cannot be  held to be a capital expenditure and is a revenue expenditure.      In the case of Empire Jute Co. Ltd. vs. Commissioner of Income-Tax, 124 (1980) ITR 1, the question for consideration before this  Court was  whether the  payments  made  by  the assessee for purchase of "loom hours" was in the nature of a capital expenditure  or a  revenue expenditure.  In the said case the  assessee company  was carrying  on the business of manufacture of  jute and  was a  member of Indian Jute Mills Association. The agreement had been entered into between the members associations restricting the number of working hours per week  for which  the mills  were entitled  to work their looms. The assessee company purchased "loom hours" from four other  mills   for  a  sum  of  Rs.  2,03,255/-  during  the assessment year  1960-61 and  claimed deduction treating the same as  a revenue  expenditure. The  Tribunal accepted  the assessee’s contention  and had  allowed deduction  but on  a reference being  made, the  High Court  had  held  that  the amount paid by the assessee for purchase of "loom hours" was in  the  nature  of  capital  expenditure  and  as  such  no deduction could be claimed. This Court reversed the decision of  the   High  Court  and  held  that  the  acquisition  of additional "loom  hours" did not add to the fixed capital of the assessee;  the permanent  structure of  which the income was obtained remained same. The expenditure incurred for the purpose of  operating the looms for longer working hours was primarily  and  essentially  related  to  the  operation  of working of  the looms  which constituted  the profit  making apparatus of the appellant and was expenditure laid out as a part of  the process  of profit earning. It was an outlay of business in order to carry it on and to earn a profit out of this expense  as an expense of carrying it on; it was a part of the  cost of  operating the  profit earning apparatus and was clearly  in the nature of revenue expenditure. The Court further observed as under:      "There   may    be   cases    where      expenditure, even  if incurred  for      obtaining an  advantage of enduring      benefit, may,  none the less, be on      revenue account  and  the  test  of      enduring benefit may break down. It      is not  every advantage of enduring      nature acquired by an assessee that      brings   the    case   within   the      principle laid  down in  this test.      What is material to consider is the      nature  of   the  advantage   in  a      commercial sense  and  it  is  only      where  the   advantage  is  in  the      capital field  that the expenditure

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    would   be   disallowable   on   an      application of  this test.  If  the      advantage   consists    merely   in      facilitating the assessee’s trading      operations    or    enabling    the      management  and   conduct  of   the      assessee’s business  to be  carried      on   more   efficiently   or   more      profitably while  leaving the fixed      capital untouched,  the expenditure      would be  on revenue  account, even      though the advantage may endure for      an indefinite  future. The  test of      enduring benefit is, therefore, not      a certain  or conclusve test and it      cannot  be   applied  blindly   and      mechanically without  regard to the      particular facts  and circumstances      of a given case."      Thus the  so-called test  of obtaining enduring benefit was held  not to  be a  conclusive test  and  could  not  be applied blindly  and  mechanically  without  regard  to  the particular facts and circumstances of a given case.      In the  case of  Alembic Chemical  Works Co.  Ltd.  vs. Commissioner of Income-Tax, Gujarat, 177 (1989) ITR 377, the question for  consideration was whether the lump-sum payment made by  the assessee  for obtaining the know-how to produce higher yield  and sub-culture  of high  yielding  strain  of Penicillin would  be a  capital  expenditure  or  a  revenue expenditure. The  Tribunal had  rejected the  claim  of  the assessee  holding   the  expenditure   to   be   a   capital expenditure. On appeal to this Court it was held:      "(i) It  would  be  unrealistic  to      ignore  the   rapid   advances   in      research  in   antibiotic   medical      microbiology  and  to  attribute  a      degree    of    endurability    and      permanence to  the technical  know-      how at any particular stage in this      fast  changing   area  of   medical      science. The  state of  the art  in      some  of   these  areas   of   high      priority  research   is  constantly      updated so  that the know-how could      not be  said to bear the element of      the requisite  degree of durability      and nonephemerality  to  share  the      requirements and  qualifications of      an  enduring   capital  asset.  The      rapid  strides   in   science   and      technology in the field should make      us a little slow and circumspect in      too   readily    pigeon-holing   an      outlay, such as this, as capital.      (ii) In  the  infinite  variety  of      situational  diversities  in  which      the  concept  of  what  is  capital      expenditure  and  what  is  revenue      arises, it  is well nigh impossible      to formulate any general rule, even      in   the   generality   of   cases,      sufficiently      accurate      and      reasonably comprehensive,  to  draw      any  clear   line  of  demarcation.      However,  some  broad  and  general

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    tests have been suggested from time      to time  to ascertain on which side      of  the  line  the  outlay  in  any      particular case might reasonably be      held  to   fall.  These  tests  are      generally efficacious  and serve as      useful  servants;  but  as  masters      they tend to be overexacting.      (iii) The  question  in  each  case      would necessarily  be  whether  the      tests relevant  and significant  in      one  set   of   circumstances   are      relevant  and  significant  in  the      case   on   hand   also.   Judicial      metaphors  are   narrowly   to   be      watched, for,  starting as  devices      to liberate thought, they end often      by enslaving it.      The idea  of "once for all" payment      and "enduring  benefit" are  not to      be treated  as  something  akin  to      statutory conditions;  nor are  the      notions of "capital" or "revenue" a      judicial fetish.  What  is  capital      expenditure and what is revenue are      not eternal verities but must needs      be flexible so as to respond to the      changing  economic   realities   of      business. The  expression "asset or      advantage of  an  enduring  nature"      was  evolved   to   emphasise   the      element of  a sufficient  degree of      durability   appropriate   to   the      context.      There is  also no single definitive      criterion  which,   by  itself,  is      determinative whether  a particular      outlay is  capital or  revenue. The      "once for all" payment test is also      inconclusive. What  is relevant  is      the purpose  of the  outlay and its      intended   object    and    effect,      considered in  a  common-sense  way      having  regard   to  the   business      realities. In  a  given  case,  the      test of  "enduring  benefit"  might      break down."      It would  thus appear  that  the  courts  have  applied different tests like starting of a new business on the basis of  technical   know-how  received  from  the  foreign-firm, exclusive  right  of  the  company  to  use  the  patent  or trademark which  it receives  from  the  foreign  firm,  the payments made  by the  company to the foreign-firm whether a definite one  or dependant upon certain contingencies, right to use  the technical know-how of production or the activity even  after  the  completion  of  the  agreement,  obtaining enduring benefit  for a  considerable part on account of the technical informations received from a foreign-firm, payment whether made  "once for all" or in different instalments co- relatable to the percentage of gross turnover of the product to ultimately  find out  whether the  expenditure or payment thus made  makes an accretion to the capital asset and after the court  comes to  the conclusion  that it does so then it has to be held to be a capital expenditure. As has been held by this  Court and  already indicated  in  Alembic  Chemical

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Work’s case  [177  (1989)  ITR  377)  no  single  definitive criterion by  itself could  be determinative and, therefore, bearing in  mind the changing economic realities of business and the  varieties of  situational diversities  the  various clauses of the agreement are to be examined. But in the case in hand the Tribunal having considered the different clauses of the  agreement and  having come  to the  conclusion  that under the agreement with the foreign firm what was set up by the assessee was a new business and the foreign firm had not - only  furnished information and the technical know-how but rendered valuable  services in  setting up  of  the  factory itself and  even after  the expiry of the agreement there is no embargo  on the  assessee to  continue to manufacture the product in question, it is difficult to hold that the entire payment made  is a  revenue expenditure  merely because  the payment is  required to  be made  on a certain percentage of the rates  of the  gross turnover  of the  products  of  the income as  royalty. In  our considered opinion, in the facts and circumstances  of the  case the  High  Court  was  fully justified in  answering  the  reference  in  favour  of  the revenue  and   against  the   assessee.  These  appeals  are accordingly dismissed  but in  the circumstances without any order as to costs.