Recently, the Bombay High Court in the case of M/s. Essel Pro pack Limited [2010-TIOL-209-HC-MUM-IT] held that the technical know how fee paid by the taxpayer for acquiring non exclusive licence to manufacture some machines, which was confined to the territory of India for the term of five years during which the proprietary rights in the patents of the licence continued to vest in the licencor,
was revenue expenditure and was allowed under section 37(1) of the Income-tax Act, 1961 (the Act).
Facts of the case
- The taxpayer entered into an agreement with a Mauritian company, KMK Lizence Limited (Li-censor), for granting of a non exclusive licence to manufacture and use tube making machines, tools and parts thereof with the right to register the licence from 1 September 1997 to 31 August 1999.
- As per the agreement, the sole proprietary right in the patents vests with the licencor. The licencor indemnified the taxpayer as licensee against all actions, claims, proceedings, costs and damages arising out of any breach of the warranties made by the licensor. Further, the taxpayer was entitled to initiate proceedings for infringement of the patent in order to defend the proprietary rights of the licensor against reimbursement of expenses by the licensor. The initial agreement was modified on 15 June 1998.
- The modification was related to the payment of consideration and the terms of the licence. Under the modified agreement, a technical know how fee of INR 68.2 million was payable in four instalments and the royalty was fixed at five percent for each captive use / domestic sale of a machine and eight percent for exports for five years. The term of the agreement was extended up to 31 August 2002. The taxpayer considered both the expenditures as revenue expenditures and claimed under section 37(1) of the Act.
- However, the Assessing Officer (AO) disallowed the technical know how fee after considering it as a capital expenditure incurred for acquiring an intangible asset in the form of technical know how. The Commissioner of Income-tax (Appeals) [CIT (A)] and the Income-tax Appellate Tribunal (the Tribunal) allowed the claim of the taxpayer. The Tribunal observed that the rights acquired by the taxpayer were not absolute and it was for a specific tenure. Further the taxpayer was not entitled to transfer the rights which was obtained under the licence and had a limited right to use the technical know how for manufacturing machines over a limited tenure. Accordingly, the Tribunal upheld the order of CIT(A).
Issue before the High Court:- Whether the technical know how fee paid by the taxpayer for acquiring non exclusive licence to manufacture some machines is revenue expenditure allowable under section 37(1) of the Act?
Tax department’s contention:- The tax department contended that the acquisition of know how under a licence was capital expenditure and it would fall within the ambit of amended section 32 of the Act with effect from 1 April 1998.
High Court’s ruling
