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PETITIONER: THE EIMCO K.C.P.  LTD., MADRAS

       Vs.

RESPONDENT: COMMISSIONER OF INCOME-TAX, MADRAS

DATE OF JUDGMENT:       25/02/2000

BENCH: S.S.M.Quadri, D.P.Wadhwa

JUDGMENT:

     SYED SHAH MOHAMMED QUADRI,J.

     The judgment and order passed by the Division Bench of the  High  Court of Madras in T.C.Nos.1224 and 1225 of  1977 dated  January  17, 1983 is subject-matter of  challenge  in these   appeals.   The  appellant-assessee   is  a   company registered   under  the  Indian   Companies  Act.   It   was incorporated  in  the  year 1965.  Two  companies  M/s.Eimco Corporation  Inc.  (for short Eimco), an American company, and  M/s.  K.C.P.Ltd.  (for short KCP), an Indian Company, promoted  the appellant company.  The authorised capital  of the  appellant  was  Rs.10,000,000 consisting  of  1,000,000 equity  shares  of  Rs.10/- each.  Each of  them  agreed  to subscribe  Rs.4,70,000/- out of which each will have to  pay initially  a sum of Rs.2,80,000/- towards its  contribution. Towards  its  share  Eimco  contributed  technical  know-how consisting  of  right  and license to  manufacture  existing Eimco Sedimentation and filtration equipment, along with the supply  of and/or the agreement to supply general  technical data  including  manufacturing drawings in the form as  used and  possessed by Eimco, relating to the sales, application, selection,  material requirements, manufacture, installation and  operation of such equipment, including but not  limited to  test procedures, instruction manuals, technical manuals, general  arrangement  and  detail   drawings,  flow  charts, research   and  development  reports,   sales  manuals   and bulletins,  operating reports on existing installations  and installation  and operation manuals.  It valued the know-how etc.  at a sum of Rs.2,35,000/- and paid the balance in cash as  its  contribution.   The  Board   of  Directors  of  the appellant  allotted equity shares of Rs.2,35,000/-, being of the  value of the know-how, to Eimco by resolution passed on April  29,  1968.   In  the  assessment  year  1969-70,  the appellant  claimed  deduction  of Rs.2,35,000/-  as  revenue expenditure  paid to Eimco towards consideration for  supply of technical know-how by it.  By order dated March 25, 1970, the Income Tax Officer treated that as a capital expenditure and  allowed  1/14th  of  the   said  amount  as   allowable expenditure  under  Section 35-A of the Income Tax Act  (for short  the  Act).   The appellant  challenged  that  order before  the  Appellate Assistant Commissioner on the  ground that  the  whole expenditure ought to have been  allowed  as revenue  expenditure.  While so, the Commissioner of  Income Tax in exercise of its power under Section 263(1) of the Act revised the said order of the Income Tax Officer dated March 25,  1970  holding that the amount in question could not  be

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treated  as expenditure and that granting 1/14th of the said amount  as  capital  expenditure   under  Section  35-A  was erroneous and prejudicial to the interest of the revenue and thus   set  aside  the   same.   Thereafter,  the  Appellate Assistant  Commissioner  dismissed the appeal  and  directed that  1/14th amount be added back as income of the assessee. Against  both the orders, the appellant filed appeals before the  Income-tax  Appellate  Tribunal.    The  Tribunal,   on December  12, 1975, allowed appeals of the appellant  taking the view that the said amount was revenue expenditure of the appellant.   At  the instance of the Revenue, the  following two  questions were referred to the High Court under Section 256(1)  of  the Act :  (1) Whether on the facts and in  the circumstances of the case, the Commissioner could interfere, acting  under  Section 263 of the Income-tax Act, 1961  with the  order  of the Income-tax Officer on a point  which  was directly   in   appeal  before   the   Appellate   Assistant Commissioner?

     (2)  Whether on the facts and in the circumstances  of the  case,  the  sum of Rs.2,35,000/- paid by  the  assessee company  to  the  foreign  collaborator  constitute  revenue expenditure?

     Both  the  questions  were answered in favour  of  the Revenue  and  against the assessee by the High Court in  the impugned order.  Mr.M.Uttam Reddy, learned counsel appearing for the appellant, did not seriously canvass the correctness of the impugned order in regard to the first question and in our  view  rightly.   Having regard to Section  263  of  the Income   Tax  Act  and  the   decision  of  this  Court   in Commissioner  of Income-tax, Bombay Vs.  Amritlal Bhogilal & Co.   [34 ITR 130] and judgments of High Courts of Assam  in Ramlal  Onkarmal Vs.  Commissioner of Income-tax, Assam  [44 ITR   578]  and  of  Kerala   in  Kelpunj  Enterprises   Vs. Commissioner  of Income-tax, Kerala [108 ITR 294], which  we approve,  we  confirm  the  answer  to  the  first  question recorded  by the High Court.  Regarding the second  question Mr.    Reddy  vehemently  contended   that  the  amount   of Rs.2,35,000/-  was  paid  by the appellant  to  the  foreign collaborator  to  acquire  the know-how so  it  was  revenue expenditure  and  ought  to have been so held  by  the  High Court.    Mr.   Shukla  argued   that  know-how  etc.   were contributed  by  Eimco towards its share of the capital  and that  no  amount  was  paid  by  the  appellant  to   Eimco; allotment  of shares to Eimco by the appellant could not  be treated  as  expenditure  incurred  by it  for  purchase  of know-how.

     To  appreciate  the contention of Mr.Reddy, it may  be necessary  to quote Section 37(1) of the Income Tax Act here :   37.   General.   -(1).    Any  expenditure  (not  being expenditure of the nature described in Sections 30 to 36 * * *  and  not  being in the nature of capital  expenditure  or personal  expenses  of the assessee), laid out  or  expended wholly  and exclusively for the purposes of the business  or profession   shall  be  allowed  in  computing  the   income chargeable  under the head Profits and gains of business or profession.

     A  plain reading of the above provision makes it clear that  it is a residuary provision and allows an expenditure, not covered under Sections 30 to 36, in computing the income chargeable  under  head  profits and gains of  business  or profession,  on  fulfilment  of   the  other  requirements,

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namely,  (i) the expenditure should not be in the nature  of capital  expenditure  or personal expenses of the  assessee; (ii)  it  should have been laid out or expended  wholly  and exclusively  for the purposes of the business or profession; (iii)  it  should have been expended in the  previous  year. The  question  is  whether  the amount in  question  can  be treated  as  expenditure and whether it was expended  wholly and  exclusively  for  the purpose of the  business  of  the appellant.   In  support of his contention that  Rs.2,35,000 were  spent  for purchase of technical know-how, so it is  a revenue expenditure, Mr.Reddy relied upon a letter addressed by  the  Vice-President  of  the Eimco  Corporation  to  the Director  of  K.C.P.Ltd.  on April 14, 1965.   The  relevant excerpts of the said letter read as under :  In general, we agree  that  the organisation will follow that set forth  in the  Memorandum  and Articles of Association of the  K.C.P.- Fives Lille - Cail Private Limited (a corporation of India), but  with the following specific provisions to which we have agreed.

     1.  The Company will be organised and headquartered in India as an Indian Corporation with broad corporate powers.

     2.   The  name  of the company  will  be  EIMCO-K.C.P. Private Ltd.

     3.  There will be two subscribers for one share each each partner will designate one subscriber.

     4.    Authorised  capital  is   to  be   Rs.10,000,000 consisting of 1,000,000 equity shares of Rs.10 each.

     5.   Each  partner will subscribe to  Rs.470,000;   of this  amount  each  will  initially  pay  in  Rs.280,000  or equivalent  after  approval by the Government of  India  and before  commencement  of operation;  and the balance of  the amount  subscribed  will be contributed by each partner,  in equal  amounts,  as  and if required for  operation  of  the business.

     6.   The  amount  initially  paid  in  by  Eimco  will primarily  consist of Eimcos know-how, valued at Rs.235,000 and  cash.   Know-how consists of the right and  license  to manufacture  existing  Eimco  Sedimentation  and  filtration equipment,  along with the supply of and/or the agreement to supply   general  technical   data  including  manufacturing drawings  in  the  form  as used  and  possessed  by  Eimco, relating  to  the  sales, application,  selection,  material requirements,  manufacture,  installation and  operation  of such   equipment,   including  but   not  limited  to   test procedures,  instruction manuals, technical manuals, general arrangement  and detail drawings, flow charts, research  and development  reports, sales manuals and bulletins, operating reports  on  existing  installations  and  installation  and operation  manuals.   The balance of the initial  investment will be in cash.

     A plain reading of the letter indicates that Eimco and K.C.P  agreed to float the appellant company with authorised capital  of  Rs.10,000,000  consisting of  1,000,000  equity shares  of  Rs.10/- each.  Each of them agreed to  subscribe Rs.4,70,000   out   of  which   the  amount  equivalent   to Rs.2,80,000 was to be paid (after approval by the Government of  India and before the commencement of operation).   Eimco

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valued  the  know- how etc.  at a sum of  Rs.2,35,000/-  and paid  the balance in cash towards its contribution.  What in effect  was done by the appellant in allotting equity shares of  Rs.2,80,000 to Eimco, was to reimburse the  contribution of  Eimco by way of know-how, which can never be treated  as expenditure  much  less an expenditure laid out  wholly  and exclusively  for purposes of the business of the  appellant. It  is  not  a  case  where  after  the  incorporation,  the appellant-company  in  the  course of the  carrying  on  its business,  spent  the said amount for acquiring  any  asset. Reliance  by  Mr.Reddy  on  the judgment of  this  Court  in Alembic  Chemical  Works  Co.Ltd.    vs.   Commissioner   of Income-Tax,   Gujarat  [(1989)  177   ITR  377]  is   wholly inappropriate.   There  know-how  was  acquired  to  produce higher  yield  and  sub-culture of high yielding  strain  of penicillin.   The  assessee- company was already engaged  in manufacture  of  antibiotics including penicillin before  it acquired  the  know-how.   Therefore,  it was a  case  of  a running company acquiring know-how to increase its yield and quality  of  its  product  and for the  better  conduct  and improvement  of  the  existing business  and  therefore  the amount  spent  on acquiring know-how was held to be  revenue expenditure.   In  our  view,  the High  Court  has  rightly concluded that allotment of equity share by the appellant to Eimco,  in the circumstance of the case, cannot be termed as expenditure  much  less  revenue expenditure  and  rightly answered   the   question  referred  to   it   against   the appellant-assessee.  We find no merit in these appeals which are accordingly dismissed with costs.