Depreciation on goodwill has been a matter of considerable debate. Although the Supreme Court, in its landmark judgment in the case of Smifs Securities, held that goodwill is an intangible asset within the meaning of section 32 of the Income-tax Act, 1961 (the Act) and depreciation on goodwill is allowable under the section, some judgments have held otherwise, making the issue a highly debatable one.
Section 32 of the Act provides for allowing as a deduction, the depreciation on various assets owned and used by a business entity. Section 32(1)(ii) of the Act provides that any know-how, patents, copyrights, trademarks, licenses, franchises or any other business or commercial rights of similar nature, acquired by the assessee on or after 1 April, 1998, shall be eligible for the depreciation claim.
The moot question, which is the focus of debates is whether “Goodwill” falls under the expression “any other business or commercial rights of similar nature” and whether depreciation can be claimed on “Goodwill” acquired on or after 1 April, 1998.
The term “Goodwill” has been described in various judicial pronouncements. The Supreme Court, in its judgment in the case of CIT v. B. C. Srinivasa Setty [1981] 128 ITR 294 (SC), describes “Goodwill” as “Goodwill denotes the benefit arising from connection and reputation. A variety of elements goes into its making, and its composition varies in different trades and in different businesses in the same trade, and while one element may preponderate in one business, another way dominate in another business. Its value may fluctuate from one moment to another depending on changes in the reputation of the business. It is affected by everything relating to the business, the personality and business rectitude of the owners, the nature and character of the business, its name and reputation, its location, its impact on the contemporary market, the prevailing socio-economic ecology, introduction to old customers and agreed absence of competition.”
Judicially speaking
The Supreme Court’s decision in the case of CIT v. Smifs Securities Ltd. [2012] 348 ITR 302 (SC) is a landmark ruling widely relied upon by other Tribunals/ High Courts in deciding on the issue. In the said judgment, the Supreme Court had held that the assesse company in the process of amalgamation had acquired a capital right in the form of goodwill, due to which the market worth of the assesse Company stood increased, and hence, the asseessee should be eligible to claim depreciation on such goodwill.
The following are some recent notable rulings on the said matter:
In the case of Triune Energy Services (P.) Ltd. v. DCIT. [2016] 65 taxmann.com 288 (Delhi), the Delhi High Court observed that goodwill is an intangible asset providing a competitive advantage to an entity and subsumes within it a variety of intangible benefits that are acquired when a person acquires a business as a going concern.
Once the Tribunal rejected the view that the slump sale agreement was a colourable device, the agreement between the parties must be accepted in its totality. While the agreement itself does not provide for splitting up of the intangibles into separate components, indisputably, the transaction is a slump sale which does not contemplate separate values to be ascribed to various assets (tangible and intangible) that constitute the business undertaking, which is sold and purchased. The agreement itself indicates that the slump sale included the sale of goodwill.
In the case of Brembo Brake India (P.) Ltd. v. DCIT. [2015] 56 taxmann.com 217 (Pune – Tribunal), the Tribunal observed that on acquisition of the entire business by the acquirer, along with industrial and technical know-how in relation to the business of two-wheeler braking system of the seller, the acquirer also acquired the customer base, the list of material suppliers, process know-how along with the technology involved in operating the business, and such acquisition is clearly for strengthening the carrying on the business by the acquirer and is comparable to license to carry on the business, and thus, is an intangible asset eligible for deduction under section 32(1)(ii) of the Act.
In the case of United Breweries Ltd. v. ACIT [ITA No. 722, 801 & 1065/ Bang/ 2014], the claim for depreciation on goodwill was challenged. In the said case, the Bangalore Tribunal held that the aggregate depreciation on goodwill acquired under the amalgamation allowed to the amalgamating company and the amalgamated company should have been restricted to the extent of the depreciation allowable to the amalgamating company in case the amalgamation had not taken place. In other words, in the year of depreciation, the amalgamated company would not be entitled to depreciation on goodwill, if the amalgamating company were not claiming depreciation on the same.
Conclusion
While the findings in above judgements are fact based, the common underling principle reiterates that “Goodwill” purchased represents certain specific business/ commercial rights, which enable the acquirer to carry on the business effectively and profitably, and hence, it may be possible to claim depreciation on such “Goodwill.”
Where payment for goodwill represents payment for market and trade reputation, a trade style and name, commercial knowledge relating to the territory where the business operates, for acquiring customer databases and information, access to a distribution network, or access to contracts and other commercial rights, the claim for depreciation may become better.
However, in cases where the purchase or acquisition of goodwill merely represents general business rights or is merely residual of the consideration, it may not be very easy to support a claim of depreciation on goodwill.
The views expressed here are personal. This article includes inputs from Akshay Shenoy, Associate Director M&A Tax PwC India and Nupur Anand, Assistant Manager, M&A Tax PwC India.
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