Case Law Details

Case Name : ITO Vs M/s Mechanalysis (India) Ltd. (ITAT Mumbai)
Appeal Number : ITA No. 1817/Mum/2007
Date of Judgement/Order : 18/05/2011
Related Assessment Year : 2003- 04
Courts : All ITAT (4266) ITAT Mumbai (1423)

ITO Vs M/s Mechanalysis (India) Ltd. (ITAT Mumbai)- Whether when the agency agreement between the assessee and the non-resident continues even after expiry but no royalty is paid during this period, compensation paid to the assessee after many years later for formal termination of the agreement is akin to loss of profit-making apparatus, and thus, is capital receipt?

The assessee had entered into an agreement for joint venture with IRD Mechan analysis Inc. USA on 11.3.1979. It was subsequently renewed on 12.10.1990. Under the agreement the applicant company was entitled to make use of the trade name/ patents of IRD, USA and its associate concerns and licensed to manufacture and sale certain products in India. The company established its markets in India under the name of “IRD Mech analysis”. By a separate Sales Representative Agreement date 1.1.1989 amended by an agreement date 1.4.1991 with IRD, U.K., the assessee was entitled to represent the U.K. company in India in respect of goods/ products manufactured by U.K. company for which the assessee was receiving commission for sales. The joint venture agreement granting license to market expired in 2000-01 and hence no royalty was paid for the financial year 2001-02 and 2002-03. The Sale Representative Agreement continued till it was terminated during the assessment year 2003-04. It is the contention of the assessee that the compensation received for termination of the joint venture is a capital receipt not subject to tax. According to the assessee the income earning apparatus of the company has been lost or impaired on the termination of the joint venture agreement, impairing the complete manufacturing apparatus and trading structure of the assessee company from gaining any income. But the facts prove otherwise. The assessee company had discontinued or not renewed the collaboration agreement with M/s. Entek IRD International U.K. Ltd. But they got the help of M/s. Con-cast India Ltd for providing the technical know how for continuation of the business. The assessee vide letter date 30.01.2006 had submitted that due to non availability of technical assistance hitherto rendered by M/s. Entek IRD due to cessation of collaboration with that company had to approach M/s. Con-cast India Ltd for providing consultancy. This itself would show that the termination of collaboration with M/s. Entek IRD, U.K. was replaced by technical consultancy support given by M/s. Con-cast India Ltd. The royalty payable to M/s. Entek IRD, U.K, for their technical assistance was replaced by technical fees provided by M/s. con cast India Ltd. Elsewhere, in the appeal by the department for the very same issue we have upheld the payment of technical services payable to M/s. Con-cast India Ltd. Under the circumstances we are not satisfied that discontinuation of the Joint venture resulted in any serious impairment of the profit making apparatus of the assessee, who had continued the business with the technical consultancy obtained from M/s. Con-cast India ltd.

Further there is nothing on record, by way correspondence or agreement that the lump sum payment is for termination of joint venture which had taken place earlier and the basis on which the amount was arrived at. Again the compensation paid by M/s. Entek IRD, UK can not be said to be towards impairment of the profit making apparatus of the assessee. The profit making apparatus of the assessee appear to have continued with the technical assistance received from M/s. Comcast India Ltd. Further, the agreements for collaboration with M/s. Entek IRD do not provide for payment of compensation on termination. We are therefore of the view that the payment make by M/s. Entek IRD is towards the termination of the agency agreement which was terminated during the year under appeal. Hence the amount received by the Assessee is business income u/s 28(ii). We therefore, uphold of the order of CIT(A) confirming that payment of Rs. 1,16,51,240 received by the assessee as revenue receipt.

The ITO, Ward-3(1)(4), Vs. M/s. Mechanalysis (India) Ltd.

ITAT Mumbai

ITA No. 1817/Mum/2007

Assessment year- 2003- 04

M/s. Mechanalysis (India) Ltd. Vs. The ITO, Ward-3(1)(4)

ITAT Mumbai

ITA No. 615/Mum/2007

Assessment year- 2003-04

ORDER

ASHA VIJAYARAGHAVAN

PER (JM)

This set of cross appeals consisting of one appeal filed by the assessee and the other appeal filed by the Revenue is directed against the orders date. 29.12.2006 passed by the ld. CIT(A)-XVIII for the Assessment Year 2003- 04.

No. ITA 1- 817/M/2007 Revenue’s Appeal

2. The first two grounds of appeal by the revenue is against deletion by the Ld.CIT(A) of the dis allowance made by the AO (i) of  Rs. 81,90,000/- paid to M/s Con cast (India) Ltd as professional fees/ consultancy fees and (ii) . 22,35,917/- paid to M/s Mistry Engineers as commission.

3. The Assessing Officer has disallowed a sum of Rs. 81,90,000/- paid to M/s. Con cast India Ltd for professional fees consultancy on the ground that there is no evidence to prove whether such services were taken by the assessee and or there was no necessity for such services and or the amount paid was unreasonable and excessive The AO further disallowed Rs. 22,35,917/- paid to Mistry Engineers for sales commission.
4. The AO in his assessment order has observed that the assessee company is in the business of sales and manufacture of vibration analysing equipment. During the year the assessee company has claimed to have spent a sum of Rs. 81.90 lakhs towards professional fees paid to M/s Con cast India Ltd., which is a sister concern of the assessee company. The assessee was asked to explain the reasons for this payment and the nature of services obtained from M/s Con cast India Ltd., in its reply dated 13.9.2005, the assessee has given the details as professional fees paid for design engineering consultancy and technical support for submission of quotations for large value of tender enquiry. A perusal of various correspondences between the assessee company and M/s Con cast India Ltd., revealed that the scope of work was fixed by assessee’s letter dated 4.3.2002 where four parameters were laid down which are reproduced below.
i. You will provide us assist us in preparation of our quotations (especially with regard to Technical aspect) in our prospective customers against their inquiries/ tenders. You will also prepare necessary drawing required for tendering.
ii. You will also prepare detailed manufacturing drawings/ designs as also provide us detailed materials specifications requirements based on basic designs sketches provided by us.
iii. You will provide us Technical support in executing various orders as and when required.

iv. You will depute your technical personnel for the purpose of erect and commissioning of various systems at our customers sites. The AO asked the assessee to prove the genuineness of this transaction by producing project wise details of the above services utilised by it. It was also asked to furnish the names of technical personnel deputed by M/s Con cast India Ltd. The assessee did not furnish any of these details. The AO held that the onus to prove the genuineness of this transaction was on the assessee which it has failed to prove.

6. The AO further concluded that that there was no need for any such consultancy. Previous to the year under assessment there was no such expenditure incurred by the assessee for any such consultancy. On being asked as to why consultancy was required this year in its reply vide letter dated 30.1.2006, the assessee has submitted that in view of non availability of Technical assistance hitherto rendered by our collaborator M/s Entek IRD UK due to cessation of collaboration with them the company needed technical assistance as the company was not fully equipped with necessary technical personnel and facilities.
7. The AO concluded that the assessee was merely handling Sales Representation for Entek IRD Besides the assessee has neither obtained any consultancy from Entek IRD nor made payments for any consultancy in last few years. Therefore the question of obtaining consultancy for tender’s quotations drawing designs etc. from M/s Entek IRD, UK in last few years does not arise. Hence the plea of the assessee that in view of cessation of the collaboration it required technical assistant does not hold good. The AO felt that It is nothing but an excuse fabricated by the assessee to wriggle out of an unpleasant situation.

8. The AO pointed out that the assessee company has employed good enough number of engineers and technical personnel as its own employees (as reflected by the personal cost and the expenditure toward TA/DA) The services supposedly obtained from M/s Con cast India Ltd for running of the business are being rendered by assessee’s own employees for past so many years. Thus there was no business requirement of any such consultancy. Therefore from the above it can be concluded that the so called consultancy obtained by the assessee has neither been established as genuine nor is its reasonableness or requirement substantiated. Hence the AO disallowed the entire technical fees of . 81,90,000/- paid to M/s Con cast (India) Ltd as professional fees/ consultancy fees.

9. From the details furnished of commission payments made by the assessee, out of the total commission of Rs. 25,64,222/- debited during the year, a sum of Rs. 22,35,917/- has been paid to M/s Mistry Engineers, New Delhi. On further enquiries it was learnt that the M/s Mistry Engineers is a proprietary concern of the relative of one the directors. The assessee was asked to furnish copies of bills for this payment made along with agreement for commission agency vide notice u/s 142(1)dated 22.8.1005 and this was followed by further request dated 5.1.2006 and 12.1.2006.
10. The AO held that the assessee has failed to furnish the bills as required. A copy of the agreement for commission payments was filed on 12.1.2006. The bills suppose to have been received from M/s Mistry Engineers were not produced. A perusal of the agreement with M/s Mistry Engineers reveals that they were the agents for indigenous products as well as imported products to various parties like Defence Services in India, State Electricity Boards power station in the state of Haryana, Punjab, Uttar Pradesh and Himachal Pradesh and NTPC power stations in these states as well as outside these states etc. As regards to the rate of commission it was structured upon various riders at rates between 4% to 12.5%. The assessee was asked to furnish party wise sales figures and the corresponding amount of commission for the due verification. It was also asked to furnish the copies of bills received from M/s Mistry Engineers for the services rendered. The party has complied with neither of the two above. It has furnished copies of a few correspondence which is only letters supposedly written by the assessee company to its agent. There is no evidence produced by the assessee in form of any bills letters or claims which it may have received from M/s Mistry Engineers All the details produced by the assessee were from its own records. The assessee could not produce a single letter bill or a claim which it should have received in the ordinary course of business from its agents like M/s. Mistry Engineers. The AO observed that it highly suspicious that M/s Mistry Engineers may have rendered any services to the assessee at all. The structure of the assessee company is such that it has its own large team of qualified personnel who carry out the job of sales and services. The payment of commission therefore is not only unreasonable but also unwarranted. For the above reasons the AO disallowed the commission payable of . 22,35,197/- M/s Mistry Engineers.

11. Aggrieved the Assessee filed an appeal before the Ld.CIT(A). Before the CIT(A), the assessee submitted that for the year ended 31.3.2003 the company did not receive any technical and professional assistance from its hitherto principal IRD Mechanalysis on Entek IRD the company received technical assistance and professional guidance from Con-cast India Ltd who has been in the business of rendering engineering services for the last 30 years. The assessee company received services for designs and drawings and guidance in the matter relating to filing of tenders quotations and execution of the job. The Assessee further submitted as under:

“Mechanalysis (India) Ltd does not have a drawing department of its own and no drawing draftsman on its pay roll. But they have to submit designs and drawings of layout to their customers. This is apparent from sample given as evidence as part of paper book filed during appeal proceedings before CIT(A) The designs and drawings are a part of the compilation of the paper and documents ofthe customer~ijaywada Thermal Power Station. The designs and drawings were prepared at the drawing department of Concast India Ltd In the past designs and drawings were supplied by the principal to the assessee company.

Subsequent to the financial year 31.3.2003 the assessee company has employed Mr. Peter as its CEO from U. K. who was an associate with the assessee’s principal and he was working full time with assessee company from 1.4.2003. A drawing drafts man was also appointed we.f. 1.4.2003, Together with these employees the assessee company is able to prepare designs and drawings on their own from 1.4.2003. Thus the fact that the designs and drawings supplied by the assessee company to its customers were provided by Con cast India Ltd. it becomes a financial obligation on part of the assessee company to compensate Con cast (India) Ltd for its efforts and services.

MIs Con cast India Ltd provided professional assistance to the assessee company in the matter relating to filing of tenders quotations and in execution of the work to the assessee company to its customers. From the copies of the various tenders and quotations filed by the assessee company find that the assessee company has received the professional assistance from Con cast India Ltd through verification controls (check lists) and professional inputs. For these services which are more of an back office efforts and in the nature of professional guidance the assessee company is commercially bound to pay professional fees to Con cast India Ltd.,

The consultancy fees paid by the assessee company to Con cast India Ltd is assessed to tax as income in the hands of Con cast India Ltd for A~ 2003-04 while the income is assessed the dis-allowance of the payment of legitimate expenditure causes severe injustice and hardship to the assessee company which is a part of the Con cast group besides causing a miscarriage of justice. On one hand the income is assessed to tax while on the other hand the expenses is disallowed. Therefore the Assessee submitted that the consultancy feds paid to Con cast India Ltd should be allowed as business expenditure u/s 37(1) ofthe ITAct 1961.

As regards payments of sales commission to Mistry Engineers concerned the appellant has entered sales agency agreement for engineering products between Mistry Engineering and the assessee company on 28.12.1994. The appellant has obtained confirmation of Mistry Engineers which is filed page 94- 98 of the paper book. Copy of correspondence as sample evidence for services rendered by Mistry Engineers of the paper book 112-118 in the past also such commission was allowed by the assessing officer after scrutiny of the assessment in A~ 2001-02 the assessment was completed u/s 143(3) and the commission paid to Mistry Engineers has been allowed as expenditure.”

12. The CIT(A) forwarded various evidences regarding services rendered by the Concast India P Ltd., to the assessee company for which consultancy charges were paid and confirmation of Mistry Engineers to the AO requiring him to a remand report as the evidences produced by the assessee cannot be admitted without affording opportunity to Assessing Officer to examine the evidence the remand report was called for vide letter dated 29.8.2006 which is reproduced as under:

“The Income Tax Officer 3(1)(4) Mumbai.

Sub:Appeal No. CIT(A) XXVIII/3/(1)(4)IT42/06-07 forAY2003-04 in the case of Mechanalysis India Ltd -Reg.

Please refer to the above.

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The above case was filed for hearing on 28.8.2006 The appellant has filed a paper book in which it has challenged the various additions made by you. A copy of the paper book is enclosed for ready reference. The appellant has filed evidences regarding the services rendered by Con cast (India) Ltd to whom professional fees of Rs 8190000/- were paid. This documents were not filed by the assessee in the assessment proceedings. Therefore the same is fresh evidence. The appellant has also filed copies of debit notes raised by Con cast (India) Ltd in respect of expenditure incurred for renovation of the residence of Director of the company.

You are therefore requested to examine the fresh evidence filed by the appellant and send your Remand Report by 20.9.2006 along with case records.

Sd/-

(D.V. SINGH)

CIT(A)XXVIII, Mumbai.”

13. The remand report of the Assessing Officer is reproduced as under:

“The Commissioner of IncomeTax (A)XXVIII,Mumbai. *Through the Addl. CIT Range 3 (1) Mumbai.

Sir,

Sub: Remand Report in the case of Mechanalysis (India) Ltd AY2003-04

***************

Kindly refer to letter no CIT(A)XXVIII/Remand Report 2006-07 dated 29.8.2006 in appeal no.CIT(A) XXVIII/3/(1)(4) IT42/06-07.

The assessee has now filed various evidences of services rendered by Con cast India P. Ltd. These evidences of services rendered by Con cast India P. Ltd these evidences are verified and found in order.

The assessee has also filed the confirmation for commission paid to Mistry Engineers. The same is also verified and found in order.

The matter may kindly be decided on the merits ofthe case.

Sd/-

(R.K. fAIN)

DCITCir 3(1)Mumbai.”

14. The CIT(A) allowed the claim of the Assessee holding as under:The Assessing Officer himself has found the services rendered by con-cast (India) P. Ltd is in order on the basis of evidence produced therefore there is no justification for making dis allowance of Rs 8190000/- on account of consultancy fees paid to M/s Con cast India Ltd Moreover the Con cast (India) rendered the services of technical assistance drawing a designe prepared by the engineers of Con cast India Ltd There was no engineer engaged for designing in the company. The Con cast India Ltd has also provided professional assistance in filing tender etc. In view of the assessing officer’s report and details filed by the appellant payment has been made for business purpose and hence allowable as business expenditure Similarly the commission paid to M/sMistry Engineers has been allowed in earlier also which have been accepted as genuine while passing order u/s 143(3) and the assessing officer has verified the confirmation of M/s Mistry Engineers and found in order. Therefore there is no justification for making dis allowance of Rs 2235917/- on account of commission paid to M/s Mistry Engineers. The assessing officer is directed to delete the addition of Rs 8190000/- on account of consultancy charges and Rs 2235917/- on account of commission paid to M/s Mistry Engineers.”

15. The Revenue is on appeal. Their grievance is that the AO in his remand report has merely held the additional evidence submitted by the assessee is in order and has stated that the Ld. CIT(A) can decide on the merits. The dis-allowance made by the AO in the assessment order is on the ground that payment made to these two parties are unreasonable in view of the services rendered and hence disallowed the same u/s 40A(2). When the Ld. CIT(A) has specifically asked the comments of AO about the claim of the assessee based on the evidence submitted by the assessee, the AO had replied that the evidences furnished by the assessee, the AO in his remand report has stated that the evidences of services rendered by Con cast India P. Ltd have been verified and found in order. On the basis of this, The Ld. CIT(A) cannot be faulted for coming to the conclusion that the payments were for the services rendered and hence is an allowable deduction. In the assessment order the AO has held that the services of the consultant are not required at all for the assessee no services have been rendered by M/s Con cast India Ltd. When the evidence furnished by the Assessee was forwarded to him, he accepts the same. This would mean that M/s Con cast India Ltd has rendered all the services as claimed by the assessee. Further there is no whisper in the remand report, to the effect the payment is unreasonable having regard to services rendered by M/s Con cast India Ltd. as per the evidence furnished come to the conclusion that the payment is unreasonable. If the payment was considered as unreasonable, under sec 40A(2), it is for the AO to determine the reasonable charges for such services, having regard to market rates for such services. Therefore we concur with the decision of the CIT(A) regarding the allow ability of the amount of Rs. 81,90,000/- paid to M/s. Con cast India Ltd on the basis of the remand report of the AO. Further revenue, apart merely raising the ground, had not led in further evidence about the unreasonableness of the payment to the consultant.

16. Similarly, the evidence regarding the commission payment M/s Mistry Engineers has also been accepted by the AO. Similar commission payment by the assessee to the same party has been accepted by the department. No further evidence has been brought to our notice for us to doubt that the commission payment.

17. In the circumstances we uphold the order of the CIT(A) deleting the dis allowance of Rs. 81,90,000/- on account of consultancy charges paid to M/s Concast India Ltd and Rs. 22,35,917/- on account of commission paid to M/s Mistry Engineers.
18. The next ground is against the deletion by the Ld. CIT(A) of the dis allowance by the AO of .23,50,717/-. The Assessee had written of debts amounting to .24,00,717/-. This consists of . 20,76,185/- being bad debt written off, . 2,58,235/-towards deposits and . 66,297/- towards advances written off. The AO allowed only . 50,000/- out of the deposits written off and disallowed the balance. Regarding the issue of write off of bad debts amounting to . 2076185/- the AO had made enquiries. He found that a sum of . 1,26,770/- has been written off on account of amounts receivable from Cochin Shipyard Ltd on enquiries conducted with M/s Cochin Shipyard Ltd a reply was received from them on 18.2.2006 saying that the payments have been made to the assessee company on 8.9.2004. Similarly the AO found that amount due from BHEL which has been written off also has been subsequently received. Therefore the AO concluded that recover ability of this debt was never in doubt and the assessee had no reason to write off this amount.

19. The AO concluded that the assessee has written off the debts pertaining to the sums which are not only recoverable but have also been recovered in the course of future business. The assessee has adopted a simple formula where by all the debts outstanding for more than 3 years have been written off by it. The requirement that the debts should actually be beyond recovery has not been applied at all. There is neither a valid reason nor any basis for writing off these debts. AO felt that the assessee does not appear to have taken honest judgement that the said debts have become bad. The provisions of bad debt write off has been used by the assessee as an instrument for the purpose of manipulation of its accounts so as to reduce the profits In almost all the cases the said debts have not become bad . They are good and recoverable or realisable. In some cases the assessee has recovered the debts in subsequent years. The correspondence of the assessee with the debtors also does not reflect any such situation where the debts may have become un realisable. Therefore the AO held that the write off of bad debts by the assessee was a unilateral entry passed by the assessee and the debts have not been written off in a bonafide manner. The sum of . 2076185/- written off as bad debts was disallowed and added to the total income of the assessee. He therefore held that the Assessee has not proved that the debts were beyond recovery. He therefore allowed only . 50,000/- out of the deposits, as they were outstanding for a long period and disallowed the balance claim of . 23,50,717/-.

20. Aggrieved the assessee preferred an appeal before the Ld. CIT(A). Before the first Appellate Authority, assessee submitted that the assessee is in the business of supplying vibrating machines where contracts involve a period of time. Thus the customers retain certain portion of amount for contingent expenses on account of repairs during the period of warranty of one year. The assessee company suffers bad debts on account of this amounts which are withheld by the customers when there are certain repairs claimed by them. The assessee company carries out significant efforts and in fact appointed an employee only for such recoveries.
21. The assessee company has written off the bad debts of those customers who have failed to pay after three years of sale and in spite of constant reminders. Therefore respectfully submitted that keeping of these provisions of Income Tax Act the Assessing Officer was not justified disallowing bad debts and the assessee is a right person to judge the debts have become bad and thus written off. List of advances and deposits written off during the year was furnished and this advances and deposits are old advances and have been adjusted against provision made in the past and thus not debited to P & L account. Only Rs. 21,34,982/- is debited out of which Rs. 20,76,185/- are bad debts. And the details of which are on record. The Assessee submitted that under the circumstances the advances and deposits written off cannot be disallowed as the same is adjusted against the provisions made and not debited to P & L account.
22. Further the assessee submitted that Honourable Tribunal in the case of ITO Vs Mechetonic Wekders P.Ltd in ITA No 3013/M/03 in AY 1998-99 dated 14.6.2006 in which the Honourable Tribunal have held that where in respect of any particular transaction if the appellant on business expediency arrives at a bona fide conclusion that the debt has become bad and writes off the said amount in the debtors account such amount is to be held as admissible for deduction u/s 36(1)(vii) of the Act even if the appellant has transaction with the said concern in the subsequent period cannot be a ground for making the dis allowance where at the relevant point of time when the debt is written off there is no indication of possibility of such recovery at the subsequent date. The Act provides for taxation of such receipts in the subsequent year which has been done by the appellant company in the instance case as well. Therefore the bad debts claimed by the assessee is allowable. In view of this fact the dis allowance made by the AO may be deleted.
23. The CIT(A) allowed the claim of the assessee by observing as under:

“The AO has disallowed bad debts of Rs. 20,76,185/- as bad debt on the ground that this amount has not become bad asa part of the amount has been recovered by the Appellant in the subsequent year. The Appellant has claimed that the assessee is in the business of supplying vibrating machines, where contracts involve a period oftime. Thus the customer retain certain portion of amount for contingent expenses on account of repairs during the priod of warranty of one year. The company has already disclosed the receipts from these parties in its P&L account but due to certain defects in supply, certain portion of payment has been withheld by the Parties. The Appellant has pointed out that the amount pertains to 3 years old where the recovery could not be made despite constant reminders and personal approach with the parties. Since the amount has become bad during the year as per te judgement of the Appellant and the same has been written off in the books of accounts, therefore the same is allowable as deduction u/s 36(10(vii) ofthe Act. Any subsequent recovery of the amount written off has been disclosed by the Appellant in the year in which the amount of bad debts has been recovered. The Honourable ITAT in an identical case of ITO v M/s Mechelonic Welders P Ltd in ITA No 3013?m?03 dated 14.6.2006 has allowed the claim of the bad debts of the assessee. In this view of the fact the A.O. is not justified in disallowing bad debts written off of Rs. 20,76,185/-. The A. O> is directed to delete this addition”

24. The CIT(A) also found that the amount of . 2,08,235/-written off, represented deposits made by the assessee towards tender money/ tender deposits with Government Agencies like Haryana State Board, ONGC etc. The assessee has also written off . 66,297/- deposits with Government authorities in respect of supply of petrol etc and were due from 1989 to 2000. The assessee has written off these amounts as irrecoverable. The CIT(A) allowed the claim of the assessee on the ground that they have become irrecoverable. Thus the CIT(A) deleted the entire addition of . 23,50,717/- being debts written off as irrecoverable by the Assessee.
25. Aggrieved the revenue is on appeal before us. The issue of allowance of bad debts u/s 36(1)(vii) has been decided by the Apex Court in the case of TRF Ltd (323 ITR 397). In that case the Supreme Court has held that after the amendment of sec 36(1)(vii) from 1.4.1989, that for claiming deduction u/s 36(1)(vii), it will be sufficient if the Assessee writes off the debt in their accounts. It is not necessary for the Assessee to establish that the debts have become irrecoverable. Therefore the amounts written off by the Assessee in the books, require to be allowed u/s 36(1)(vii) and cannot be disallowed on the ground that the Assessee has not proven that the debts have become irrecoverable.
26. However as per explanation to sec 36(1)(vii), bad debts written off shall not include any provision made for bad debts. Hence claim for bad debts shall be allowable only when the accounts of the individual parties are credited. The Assessee had debited this amount to the P&L in an earlier year but has credited to provision for bad debt instead of crediting the individual party’s account. With the introduction of the Explanation to sec 36(1)(vii), the deduction towards bad debt shall be allowed only in the year it is actually written off. Therefore, even though the assessee debited the amount of the debt in an earlier year, the allowance u/s 36(1)(vii) is postponed to the year in which the amount is credited to the account of the debtor. In this case the actual writing off of the bad debt was carried out this year and hence the claim of the Assessee of Rs. 23,50,717/- being debts written off, is allowable this year. In the result we uphold the order of the CIT(A) and dismiss the appeal by the Revenue on this issue.
27. The next ground of appeal of the revenue is against the CIT(A) deleting the disallowance of .25O,OOO/- on account of repairs and renovation carried out in Andheri office by the company. The AO disallowed this amount on the ground that this was borne by M/s. Concast India Ltd and the same was not borne by the asseesee. The Ld. CIT(A) allowed the claim by observing as under:

“As regards the payment of Rs 493O9O/- on account of renovation of office premises at Andheri (E) Mumbai are concerned the appellant has debited Rs 493090/- towards renovation of office premises. The office premises is pertain to the appellant and expenditure incurred for repair etc is an allowable expenditure. The expenditure has been borne by M/s Con cast India Ltd and subsequently reimbursed by the appellant therefore there is no justification of making dis allowance of Rs 250000/- out of renovation expenses. The Assessing Officer is directed to delete the addition of Rs 250000/-“

28. In view of the specific finding given by the CIT(A) that the expenditure of . 2,50,000/- was incurred by the assessee towards repairs of their office premises and the amount was initially paid by M/s Con cast India Ltd. which was later reimbursed by the assessee, we uphold the order of the Ld.CIT(A) in allowing the claim for repairs of Rs. 2,50,000/- and dismiss the appeal of the revenue.
29. In the result the appeal filed by the revenue is dismissed.

ITA No. 615/M/07Assessee’s appeal

30. The only issue in assessee’s appeal is against the decision of the Commissioner of Income Tax (Appeals) XXVIII, Mumbai confirming the compensation of . 1,16,51,240/- received by the assessee from Entek IRD, U.K. is taxable u/s 28(ii) of the Income Tax Act 1961.
31. The Assessing Officer in his assessment order has observed that the assessee has claimed to have received a sum equivalent to Rs. 1,16,51,240/- on account of compensation for discontinuation of joint venture from its foreign collaborator M/s Entek IRD International Ltd., U.K. The sum so received has been claimed exempt by the assessee as capital receipt on the ground that it is compensation of discontinuation of joint venture. The assessee was asked to prove that the sum so received is indeed on account of discontinuation of joint venture. The assessee was asked to furnish a copy of the agreement/ understanding regarding termination of joint venture. Further he was asked to file a copy of agreement of joint venture which had expired on 1992. It is claimed that the joint venture continued thereafter without any permission from the Central Government. Assessing officer concluded that there was no joint venture with the foreign collaborator during the year 2001-02 and 2002-03 i.e the period when the separation from M/s Entek IRD International Ltd., U.K. has occurred.
32. The AO held that the assessee company has been acting as trading agent on behalf of M/s Entek IRD International Ltd., U.K. and the termination is that of the agency and not that of any joint venture. He further observed that the assessee has been offering income from commission on account of this agency of M/s Entek IRD International Ltd.., U.K. in its return of income for the past few years. This is also corroborated by the fact that there is no payment of any royalty as required in the case of joint venture.
33. The A.O. has given a show cause notice by letter dated 10.3.2 006 which is reproduced at page 2 of the assessment order. The assessee in its reply to this show cause notice has stated that the company had entered in to two separate agreements, namely collaboration agreement and sales representative agreement. Through the collaboration agreement, Entek IRD, U.K. were to extend technical and financial support for manufacture of various instruments indigenous, whereas Sales Representation Agreement gives the Assessee right to represent them and to sell Entek IRD, U.K. Products to their customers in India for which were entitled for Agency Commission. Assessee submitted that both the agreements have to be read in conjunction. The Collaboration Agreement had expired and hence no royalty was paid in financial year 2000-01 and 2001-02. However Sales Representation Agreement continued till it was terminated during the year 2002-03 (A.Y. 2003-04) The copies Sales Representation Agreement was filed. In the letter by Entek IRD U.K. accounting the payment of the lump sum payment, reference made to joint venture referred to both the agreement and in conjunction with each other.

34. The assessee company in their reply dated 16.3.2006 has claimed that the compensation received for termination of joint venture is capital receipt not subject to tax. Further the entire source of income earning apparatus of the company has been lost on the termination of the joint venture impairing the complete manufacturing apparatus and trading structure of the assessee company from gaining any income. The assessee contended that the compensation payment received by the assessee company for such impairment and sterilisation would be characterised only as a capital receipt not taxable. This explanation of the assessee was not accepted by the AO. The AO opined that there was no joint venture in existence at the time of separation and the joint venture expired in 1992. Also there is neither any extension of this agreement nor any further permission regarding the royalty payments thereafter from the Government Agencies concerned has been obtained. The AO concluded that only an agency agreement existed with  M/s. Entek IRD International, U.K. Ltd., at the time of separation. It was this agency that has been terminated and not any joint venture. Therefore the A.O. held that compensation has been received for discontinuation of agency and not any joint venture and that the law is very clear regarding the tax ability of any compensation received on termination of any agency. Section 28(ii) (c) of the I.T. Act 1961 applicable in the case of the assessee.

35. The A.O. further held as follows:

“The assessee has been deriving agency commission from the terminated agency which formed less than 10% of the receipts of the assessee company. The termination of agency is not absolute since the assessee company has been dealing with the successor of M/s Entek IRD International Ltd., U.K. M/s Rockwell Automation Ltd., In fact the turnover of the assessee company has risen from 3.42 crores to Rs 4.87 crores which proves that there is no impairment of the manufacturing apparatus and trading structure of the assessee company. Thus, there is no question of loss of enduring asset in this case. Besides the assessee ‘s claim of treating the compensation received as capital receipts was based on its contention that the same was for discontinuation of joint venture. This contention of the assessee has been established to be false. Therefore the receipt of compensation of Rs 1,16,51,240/- has rightly been held as revenue receipt and the same has been added back to the income of the assessee accordingly.’

36. In appeal before Ld. CIT(A), the assessee submitted as follows:

“There was a collaboration agreement or joint venture agreement between IRD Mechanalysis Inc. USA and the assessee company IRD Mechanalysis India Ltd., executed on 11.3.1979 and subsequently renewed on 12.10.1990 as per page 1 to 21 paper book. Under the said agreement, the appellant company was entitled to make use ofthe trade name/ patents of IRD, USA and its associate concerns and licensed to manufacture and sale certain predictors in India. Thus the company established its market in India under the name of “IRD Mechanalysis’. By a separate Sales Representative Agreement dated 1.1.1989 amended by an agreement dated 1.4.1991 with IRD, U.K. the company was entitled to represent in India in respect of goods/ products manufactured and produced by UK Company, for which the company was receiving commission for sales. The sales representative agreement has been continued and it is in respect of products not manufactured by the assessee company.

It is submitted that no license or extension of the license was required for manufacture of the products of IRD after 1993- 94 as the automatic route for approval became effective. Hence there can be no compensation for not getting approval from the Government or not acting upon some part of the Joint Venture agreement. In fact, the payment of royalty under the said agreement dated 12.10.1990 was to be made by the assessee company.

Hence the payment received was not for termination of agency in fact there was no agency or termination of sales representative agreement. However, as compensation was paid by IRD, UK for and on behalf of IRD Mechanalysis, USA for discontinuation of the Collaboration agreement dated 11.3.1979 as evidenced, by the letter dated 31.5.2002 for loss of market of IRD Products in India built by the company since last 20 years. This is a capital receipt for it is for loss of capital or intangible assets – i.e. Market built by efforts of the company – quality of the product, services and time bound performance. These intangible rights are “Capital assets” of the company (CIT B.C. Srinivas Shetty – 1981 128 ITR 294(S.C)

Thus compensation received was for discontinuation of the Joint venture agreement dated 25.10.1990 originally entered into on 11.3.1979. The sum paid was after adjustment of sums payable by the assessee company – attention is invited to the annexure to the letter dated 31.3.2002 – item No.2 lump sum compensation for discontinuation of Joint Venture as discussed – UKPDS 153000).

Attention is also invited to the fact that the company was not holding any agency in India but was sales representative of U.K. Company under the agreement dated 1.1.1989, which was not terminated. The company is a distributor of the Rockwell, U.K. in India to which company the business has been assigned by IRD Mechanalysis, USA. Hence, there is no termination of agency agreement. In any event, the assessee company was and is a sales representative whose job is to promote sales of goods manufactured by U.K. Firm in India, the supplies being affected either directly by UK firm or outright purchase of such goods by the appellant on principal to principal basis reliance is placed on the decision of Daruwala Bros Pvt. Ltd., vs CIT(1971) 80 ITR 213 (BOM).

Further the appellant company was not managing the business of IRD USA or IRD U.K. But under collaboration or Joint Venture under which it had right to use the name of the collaborator namely “IRD” which was a capital asset. These benefit of use of the asset – Trade name is lost upon discontinuation of the Joint Venture agreement. Hence it is a capital loss and therefore the amount received is a “Capital receipt”. This capital receipt is not taxable as capital gains as there is no transfer of any asset by the company to the collaborator. At the same time, it is not an income (i) because it is a one time payment (b) there is no sources of income – a source from where such sums continue to be received with regularity or some sort of regularity (c) it is not a casual income because it is not an “income” for the payment received is to compensate for loss of market of the product-non use of Machinery, trained staff etc., Which was established for the manufacture and sales of IRD products (d) the appellant has lost market of IRD goods manufactured by it because of the discontinuation of Collaboration agreement, This is evident by the fact that the sales for the subsequent years is lower as can be appreciated from the table attached herewith. The margins have gone down substantially.Hence it is a capital receipt not taxable under the Act. As per CIT vs Groz Beekert Sahoo Ltd (1979) 116 ITR 125 (S.C).

37. The CIT(A) rejected the contention of the Assessee observing as under:

“I have carefully considered the reply given by the appellant and perused the assessment order. The appellant company has entered into a joint venture with M/s Entek IRD, USA and the assessee company on 11.3.1979 and subsequently renewed on 1990. Under the said agreement the appellant company was entitled to make use ofthe Trade Name/Patents of IRD, USA and its associate concerns and licensed to manufacture and sale certain products in India. This joint venture agreement has been expired in the year 1992 as no license or extension of license was taken by the appellant. The appellant has also not paid any royalty to the USA company in A.~. 2002-03 and 2003-04.

The appellant has received an amount of Pds. 55,064/-(Pounds Sterling Fifty Five Thousand and Sixty Four only) in full and final settlement from Entek IRD. The contention of the letter is reproduced as under for sake of convenience.

“We refer to our recent discussions in the content of the discontinuance of the joint venture involving your company and to the various sums owed up to and including 31.5.2002, both by your company to us (and/or our successor in business, Rockwell Automation Limited) and by us(and/or our successor in business, Rockwell Automation Limited) to you.

We confirm having remitted to you an amount of Pds. 55,064.00 (Pounds Sterling Fifty Five Thousand and Sixty Four Only) in full and final settlement of all such sums’.

Perusal of this letter shows that the payments has been received to the various sums owed up to and including 31.5.2002, both by the company and/or successor in business. (Rockwell Automation Ltd) and by them. Thus it is clear that the amount has not been paid on account of joint venture entered into in the year 1979. The appellant has simultaneously entered into sale representative agreement on 1.4.1991 with Entek /RD m U.K. Ltd., The Sale Representative Agreement is to sell products of the Entek /RD, U.K. Ltd., During the assessment proceedings, the A. O. has issued letter dated 10.3.2006 to explain why not the receipt from Entek /RD, U.K. Ltd., should be assessed as income. The appellant in his reply dated 16.3.2006 has clearly stated that the collaboration agreement had expired and hence no royalty was paid in financial year 2001-02 and 2002-03 . The Sale Representative Agreement terminated during the year 2002-03 (A.~. 2003-04).

/n view of the above facts it is clear that the joint venture collaboration was not in existence during the year relevant to A.~. 2002-03 as no royalty has been paid by the appellant to the Entek /RD, U.K. Therefore the sum, received from Entek /RD U.K. is not on account of termination of joint venture which was already expired in the year 1992. The appellant has also entered into sale Representative Agreement on 1.4.1991 which was subsequently amended. The appellant himself considered in his reply dated 16.3.2006 the same agreement is terminated during the year 2002-03 relevant to A~ 2003-04. Therefore the amount of Rs 1,16,51,240/- has been received on account of termination of agency which is taxable u/s 28(ii) ofthe /.T. Act.

The appellant during the appellate proceedings has stated that the payment received was not for termination of agency in fact there was no agency or termination of sales representative agreement. However, as compensation was paid by /RD, U. K. for and on behalf of/RD Mechanalysis, USA for discontinuation ofthe Collaboration agreement dated 11.3.1979 as evidenced, by the letter dated 31.5.2002, for loss of market of/RD Products in / India built by the company for the last 20 years. This is a capital receipt for it is for loss of capital or intangible asset.

38. The CIT(A) dismissed the contention of the assessee holding as under:” The contention of the assessee is not acceptable. During the assessment proceedings, the appellant himself has stated that the sales representative agreement has been terminated during the F.~. 2002-03. Therefore, the contention of the appellant is incorrect to say that sales representative agreement is still continue. Moreover the assessee has received compensation on account of termination of sales representative agreement which is not a capital receipt but as a revenue receipt as per sec. 28(ii) of the I.T. Act. As the income of the agency commission was only 10% of the entire income, therefore it is incorrect to say that entire business apparatus has been destroyed hence any compensation received is capital receipt.

The appellant has relied on the decision of Honourable Supreme Court in the case of CIT Vs B.C. Srinivas Shetty – 1981 128 ITR 294 (SC). The fact of this case is different and not applicable in the case of the assessee as the Supreme Court have held that goodwill generated in a newly commercial business cannot be described as an asset and transfer of goodwill initially generated in a business does not give rise to capital gains.

In the case of appellant there is not a case of goodwill generated but the termination of agency. The appellant has also relied on the decision of Daruwals Bros. P. Ltd vs CIT(Bom) 80 ITR 213. The facts of this case is also different and not applicable in case of the appellant ,in the case of Daruwala (Supra) there was no agreement of agency but a distributor and in the case of appellant it is a sales representative agency. In view of the above discussion it is clear that the amount of Rs 1,16,51,240/- is nothing but a revenue receipt on account of termination of sales representative agency. Hence the A.~. is rightly held it is a revenue receipt. The action of the A.~. is justified and confirmed.”

39. Aggrieved the assessee is on appeal before us. The assessee had entered into an agreement for joint venture with IRD Mechananalysis Inc. USA on 11.3.1979. It was subsequently renewed on 12.10.1990. Under the agreement the applicant company was entitled to make use of the trade name/patents of IRD, USA and its associate concerns and licensed to manufacture and sale certain products in India. The company established its markets in India under the name of “IRD Mechanalysis”. By a separate Sales Representative Agreement date 1.1.1989 amended by an agreement dt.1.4.1991 with IRD, U.K., the assessee was entitled to represent the U.K. company in India in respect of goods/products manufactured by U.K. company for which the assessee was receiving commission for sales. The joint venture agreement granting license to market expired in 2000-01 and hence no royalty was paid for the financial year 2001-02 and 2002-03. The Sale Representative Agreement continued till it was terminated during the assessment year 2003-04. It is the contention of the assessee that the compensation received for termination of the joint venture is a capital receipt not subject to tax. According to the assessee the income earning apparatus of the company has been lost or impaired on the termination of the joint venture agreement, impairing the complete manufacturing apparatus and trading structure of the assessee company from gaining any income. But the facts prove otherwise. The assessee company had discontinued or not renewed the collaboration agreement with M/s. Entek IRD International U.K. Ltd. But they got the help of M/s. Con cast India Ltd for providing the technical know how for continuation of the business. The assessee vide letter date 30.01.2006 had submitted that due to non availability of technical assistance hitherto rendered by M/s. Entek IRD due to cessation of collaboration with that company had to approach M/s. Con cast India Ltd for providing consultancy. This itself would show that the termination of collaboration with M/s. Entek IRD, U.K. was replaced by technical consultancy support given by M/s. Con cast India Ltd. The royalty payable to M/s. Entek IRD, U.K, for their technical assistance was replaced by technical fees provided by M/s. con-cast India Ltd. Elsewhere, in the appeal by the department for the very same issue we have upheld the payment of technical services payable to M/s. Con cast India Ltd. Under the circumstances we are not satisfied that discontinuation of the Joint venture resulted in any serious impairment of the profit making apparatus of the assessee, who had continued the business with the technical consultancy obtained from M/s. Con cast India ltd.
40. Further there is nothing on record, by way correspondence or agreement that the lump sum payment is for termination of joint venture which had taken place earlier and the basis on which the amount was arrived at. Again the compensation paid by M/s. Entek IRD, UK can not be said to be towards impairment of the profit making apparatus of the assessee. The profit making apparatus of the assessee appear to have continued with the technical assistance received from M/s. Con cast India Ltd. Further, the agreements for collaboration with M/s. Entek IRD do not provide for payment of compensation on termination. We are therefore of the view that the payment make by M/s. Entek IRD is towards the termination of the agency agreement which was terminated during the year under appeal. Hence the amount received by the Assessee is business income u/s 28(ii). We therefore, uphold of the order of CIT(A) confirming that payment of Rs.1,16,51,240 received by the assessee as revenue receipt. Accordingly the appeal of the assessee on this issue is dismissed.
41. In the result, the appeal filed by the assessee is dismissed.
Order pronounced on this 18th day of May, 2011

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