Payment made under Franchise & Management Agreement for availing technical know-how, coupled with technical consultancy services, for setting-up new and distinct business could be considered as capital expenditure

Ansal Housing & Construction Ltd. v. DCIT (ITA Nos. 3192/Del/08 & 4595/Del/05 dated 9 Sept 2011 –ITAT Delhi)

Assessee had commenced restaurant business during the financial year ending 31.3.2002, relevant to A.Y. 2002-03,. In order to extend the business in the field of hospitality and for operating the restaurant, t entered on 17th August 2000. In terms of that agreement, invoices of Rs. 18,75,195/- were raised by RSW Hotel Management Services Ltd. in the financial year ending 31st March, 2001.  Since the business of restaurant commenced during the financial year ending 31-3-2002, the aforesaid amount of Rs. 18,75,195/- was accounted as expense in the books of account and, accordingly, deduction was claimed in the return of income for that year. Under the provisions of the Income-tax Act, the expense is, however, allowable as deduction in the year of accrual of expenses, which for the same will assessment year viz. 2001-02.

Taxpayer contended that:
–The expenses were incurred towards technical assistance services availed and for use of know-how, during the currency of the agreement and not for acquiring any proprietary rights in the know-how and hence did not result in an acquisition of a capital asset.
–There was no new business being established so as to consider these expenses to be pre-operative expenses. Operating and running restaurants was just an extension of the existing business of construction.

–The venture was controlled and managed by the existing management and there was a complete interlacing of funds between the existing business of construction of housing projects and activity of setting up and operating restaurants.

The Assessing Officer disallowed the expenses on the ground that the payment was made prior to commencement of the hospitality business and had resulted into acquisition of technical know-how and franchise from the professional consultants and hence was capital in nature.

CIT(A) after considering all the case laws and facts decided the issue as under:
“20. In the present case of the assessee the payment relates to acquiring of knowledge and using of the technical know-how of the operator the entire payment has been made prior to the commencement of business. Article XIV gives complete break up of operator’s fee. These fee are one time payment for imparting expert knowledge and technical know-how to the assessee. The operator is also helping the assessee in day to day running of the restaurant and provide all assistance at every stage for day to day running of the business. Such expenditures are not included in this one time fee. Recurring expenditures on operators are being claimed and allowed separately. This development fee is an one time payment. The assessee who was hitherto unknown in this business of hospitality is now running “world class restaurant-cum-bar” and is a much sought after location. Obviously this asset of enduring nature has been created due to the professional help received. This amount therefore has been rightly treated as capital expenditure. I  therefore, dismiss this ground of appeal of the assessee and uphold the stand taken by the Assessing Officer. The Assessing Officer however is directed to allow depreciation as per rules.”

ITAT held as Under

A perusal of the facts clearly show that assessee and the operators i.e. M/s RHW Hotel Management Services Ltd., agreed on a formula for two types of fee. The amount in question for A.Y. 2001-02 & 2002-03 was on account of providing of technical know-how and expert knowledge prior to the commencement. By own admission of assessee it was not engaged into hospitality business and diversified from business of construction of buildings. In these circumstances, we see no infirmity in the order of CIT(A), holding that the restaurant business was a new business and expenditure was for setting up the same and the expenses were not allowable  as business in nature. We uphold CIT(A)’s order.

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