IN THE ITAT CHENNAI BENCH ‘B’
Pentamedia Graphics Ltd.
Deputy Commissioner of Income-tax
IT APPEAL NOS. 1780 (MDS.) OF 2009, 1733, 1768
AND 1887 (MDS) OF 2010
[ASSESSMENT YEAR 2000-01]
JUNE 11, 2012
Dr. O.K. Narayanan, Vice-President –
This is a bunch of four appeals. All the four appeals relate to the assessment year 2000-01.
2. The appeal in ITA No.1733(Mds)/2010, filed by the assessee, and the appeal in ITA No.1887(Mds)/2010, filed by the Revenue, are directed against the order of the Commissioner of Income-tax(Appeals)-V at Chennai, dated 13-8-2010 and arise out of the regular assessment completed under section 143(3) of the Income-tax Act, 1961. The regular assessment was completed on 31-3-2003.
3. The appeal in ITA No.1780(Mds)/2009, filed by the assessee, is directed against the revision order of the Commissioner of Income-tax, Chennai-III at Chennai, passed under section 263 of the Act through his proceedings dated 23-3-2005. In this appeal, in Form No.36, the assessee has mentioned the assessment year as 2001-02, but while hearing the case, the parties confirmed that the appeal relates to the assessment year 2000-01.
4. The appeal filed by the assessee in ITA No.1768 (Mds)/2010 is directed against the order of the Commissioner of Income-tax(Appeals)-V at Chennai, dated 13-8-2010 and arises out of the assessment completed under section 143(3), consequent to the revision order passed under section 263 of the Act.
5. We heard Smt.Pushya Sitharaman, the learned senior counsel, alongwith Ms. Vardini and Ms. Sree Vidya, advocates, appearing for the assessee.
6. Dr.Sibendu Moharana, the learned Commissioner of Income-tax, appeared for the Revenue and argued the case.
7. First we will consider the revision appeal filed by the assessee against the order of the Commissioner of Income-tax passed under section 263 of the Act.
8. The assessee is engaged in the business of multimedia computer graphics and animation. The assessee also had been running a software and training division. This software and training division was hived off to its sister concern M/s. Pentafour Communications Ltd. (later on renamed as Pentafour Technologies Ltd.). The transfer was made through an agreement dated 23-2-2000. The consideration for the transaction was Rs. 894.21 crores. This amount consisted of Rs. 236.76 crores towards fixed assets, Rs. 113.64 crores towards net current assets and investments and Rs. 544.21 crores towards brand value. The brand value related to the brand name “Pentasoft”. The said amount of Rs. 544.21 crores also related to transferring of intellectual property rights in the software developed by the assessee and also towards non compete fee.
9. In the course of the assessment proceedings concluded on 31-3-2003 under section 143(3) of the Income-tax Act, 1961, the Assessing Officer examined the components and details thereof in respect of the transfer of the software division made by the assessee to its sister concern. In the agreement of sale, the intellectual property rights transferred to the sister concern are explained to be trade names, trade marks or service marks together with the goodwill associated therewith and also copyrights, trade secrets, confidential or proprietary information, computer programmes and all other sorts of intangible rights and properties. On going through the above explanation embedded in the sale agreement, the Assessing Officer observed that there is an element of goodwill included in the transfer price determined for the transaction.
10. The Assessing Officer also examined the accounts of the sister concern M/s. Pentafour Technologies Ltd. As against the total consideration paid by it, Rs. 626,08,80,282/- was accounted under ‘fixed assets’ towards goodwill on acquisition of the software division. It is also stated in the notes attached to the accounts of the sister concern that the goodwill amount of Rs. 626.09 crores included non compete value of Rs. 180 crores and overseas products, intellectual rights and brand name of Rs. 364.21 crores. Ultimately, the amount proper attached to the goodwill has been stated in its accounts as Rs. 81.88 crores.
11. In its computation of income, the assessee has not offered any capital gains towards transfer of goodwill. Therefore, the assessing authority made queries to the assessee to explain the position. In reply to the queries made by the assessing authority, it was informed by the assessee that the sister concern has debited the consideration under the head ‘goodwill’, pending allocation of the excess consideration paid over depreciation value of the assets. But for this difference, as far as the assessee is concerned, there was no goodwill included in the transaction. The assessee explained that a sum of Rs. 66.9 crores related to depreciation reserve received on transfer and the balance amount related to additional consideration paid against purchase of the assets. The assessee accordingly submitted before the assessing authority that no consideration was exchanged for transfer of goodwill as such.
12. The above explanation offered by the assessee was not acceptable to the assessing authority. He held that the consideration also included a portion attributable to the transfer of goodwill of the software division of the assessee company. Relying on the judgment of the Hon’ble Bombay High Court in the case of Evans Fraser & Co. Ltd. v. CIT, 137 ITR 493, the assessing authority held that even if it is impossible to ascertain in terms of money value of goodwill in view of its nebulous character and its uncertain nature, it is possible to value the goodwill by applying accounting standards at a certain multiple of the average profits of the past in the belief that if the business is continued in the same name and style, the same amount of profits would be earned in future as well. The Assessing Officer, therefore, held that this presupposes that goodwill would form part of sale consideration when the same business is continued by the transferee in the same magnitude in the years to come. The Assessing Officer also relied on the judgment of the Hon’ble Supreme Court in the case of Jogtacoal Company Ltd. v. CIT, 36 ITR 521, in support of his proposition that a portion of the consideration related to the transfer of goodwill.
13. Once having arrived at a definite finding that goodwill also was transferred by the assessee to its sister concern, the Assessing Officer proceeded to compute the amount of goodwill that has been transferred by the assessee to its sister concern. The Assessing Officer observed that among the various methods for accounting of the goodwill acquired, valuation by adopting the average profit of the past years is the most appropriate and readymade method normally followed in the field. He also observed that generally the average profit of past five years is determined. Accordingly, he worked out the average of the profits of five years from 1996 to 2000. This average has been worked out at Rs. 31,74,40,000/-.
14. The Assessing Officer treated the amount of Rs. 31,74,40,000/- as goodwill and brought the same to tax as short-term capital gains under the provisions of section 55(2)(a)(ii) of the Act. The assessment was accordingly completed.
15. Thereafter, the records of the case were examined by the Commissioner of Income-tax, Chennai-III at Chennai. He found that even though the Assessing Officer has treated Rs. 31,74,40,000/- as the price of the goodwill, the quantum determined by the assessing authority was not correct. The Commissioner of Income-tax found that the Assessing Officer has adopted the value of goodwill at the average of the five years’ profit and no multiplier was applied to follow the accepted method of valuation of goodwill. He, therefore, held that the assessment order was erroneous and prejudicial to the interests of the Revenue, as far as this issue of valuation is concerned.
16. In the context of the goodwill, the Commissioner of Income-tax further held that the transferor company and transferee company both are having a common chairman and CEO and they are all working in a closely related manner, there is no much relevance in attributing a sizeable amount of the consideration as non compete fee. Factually speaking, there was no case of any competition between these units working under the same management with a common chairman and CEO. Therefore, the Commissioner observed that the amount attributed to non compete fee is nothing but a colourful arrangement of the accounts to shadow over the reality of the transfer of goodwill. The Commissioner of Income-tax observed that many of the components of the consideration have been termed by the assessee as non compete fee, IPR value, brand value, etc. to evade payment of capital gains tax on the transfer of the software division for the reason that goodwill alone was taxable for the assessment year 2000-01, compared to the transfer of other intangible assets like non compete fee, brand value, etc.
17. The Commissioner of Income-tax further examined the treatment given by M/s. Pentafour Technologies Ltd. in its accounts, wherein a sizeable portion of the consideration has been accounted as ‘goodwill’. After examining every aspect of the case in a very detailed manner, the learned Commissioner of Income-tax came to the conclusion that the alleged payment towards non compete fee, IPR on brand/brand value, etc. was a figment of a creative accounting with no relevance to real price. He observed that all these figures were imaginary to re-engineer the balance-sheet of the assessee and group companies with no cash flow affected because of cross transactions where issue of shares at an exorbitant premium as a payment consideration for alleged sale. As an evidence to this, he has pointed out that the amount relating to the sale consideration has been written off by the assessee and the value of shares has come down below Rs. 25/-. It means brand value is nothing but goodwill. The Commissioner of Income-tax observed that if the terminology ‘goodwill’ is used, the assessee will have to pay capital gains tax on it. But if it is couched as non compete fee or IPR, the assessee will not be liable for tax. He also observed that the actual fund transferred in the entire scheme of transaction was only Rs. 58 crores.
18. In view of the above findings, the Commissioner of Income-tax held that the average profit of the assessee has to be multiplied by a reasonable factor to decide the fair value of goodwill and as this multiplying exercise has not been done by the Assessing Officer, the assessment order has become erroneous and prejudicial to the interests of the Revenue. Accordingly, he set aside that portion of the assessment order and directed the Assessing Officer to examine the whole issue afresh and decide the multiplying factor by a reasonable number of years of purchase price for the valuation of goodwill.
19. Likewise, the Commissioner of Income-tax also concluded that the assessing authority has not examined the justification of the consideration for transfer of IPR. For the reasons already stated in the context of goodwill, the Commissioner of Income-tax directed the Assessing Officer to re-examine this issue as well.
20. Thirdly, the Commissioner of Income-tax examined the expenditure claimed by the assessee for issue of ESOPs. He found that the Assessing Officer has not at all considered this issue in the course of assessment. Accordingly, he set aside this matter with a direction to the Assessing Officer to re-examine the issue in the light of the materials available on record.
21. Finally, the Commissioner of Income-tax set aside the assessment order with a direction to the Assessing Officer to re-examine the above mentioned three issues and give a proper finding in accordance with law.
22. It is against the above revision order that the assessee has come in appeal before us.
23. The detailed grounds raised by the assessee in the appeal are extracted below:-
“2. The CIT erred in passing an order of revision u/s 263 of the Act in respect of the assessment of goodwill which was subject matter of an appeal pending before the CIT(A), pre-empting the decision of the Commissioner(Appeals) and rendering the appeal infructuous.
3. The CIT erred in exercising jurisdiction u/s 263 to direct the assessing officer to adopt a multiplier with regard to valuation of goodwill, when the question whether there was a transfer of goodwill at all was pending in appeal.
4. The CIT failed to see that where there can be more than one opinion regarding adopting the number of years purchase in the matter of determination of value of goodwill, it cannot be said that the order is erroneous and prejudicial to the revenue to give rise to reversionary powers u/s 263 of the Act.Online GST Certification Course by TaxGuru & MSME- Click here to Join
5. The CIT failed to see that goodwill can be brought to tax only if it is transferred and consideration paid for it. In the present case, the business as a whole was transferred, and the break up of the total consideration was clearly demarcated between fixed assets, current assets and investments, intellectual property rights and non compete fee. No amount was earmarked or received for “goodwill”.
6. The CIT ought to have seen that the very question of whether any goodwill was transferred and whether consideration was received for the same was in dispute, and therefore, mere re-quantification of the amount by the assessing officer using a multiplier would be pointless.
7. The order of the CIT has resulted in setting aside of the assessment order, and as such, the appeal filed before the CIT(A) has practically become infructuous. Therefore the appellant does not have a remedy on the various grounds of appeal taken by it before the CIT(A).
8. The CIT failed to see that as per the CBDT Circular No.495 dated 22.9.1987, the intention to bring to tax capital gains on transfer of goodwill is only to cover those cases where goodwill is actually transferred. Those cases where transfer is notional would not be covered by the amendment. Thus, there cannot be a presumption of transfer of goodwill where there is no actual transfer of goodwill.
9. Even if the goodwill were to be treated as taxable, the CIT ought to have seen that the income from the business for the subsequent years, i.e. after the hive off in the hands of the transferee company were available to verify whether the method of calculation was accurate. If the subsequent years’ income is also taken into account, it will be seen that the multiplier on the basis of the past years gives a very divergent figure, far from the reality of the situation.
10. The CIT failed to see that as the transfer of the undertaking was to be between sister concerns, and the management would remain with the same persons, the question of transfer of goodwill does not arise. This is the reason why no part of the consideration was earmarked towards goodwill.
11. The CIT erred in expressing a view that the assessing officer was right in taking a portion of the consideration as goodwill, when that very issue was pending for decision before the CIT(A).
12. When the CIT has directed the assessing officer to examine the issue afresh in view of the fact that the entire transaction was based on hypothetical values fixed for other purposes, he ought to have insisted on the goodwill being decided by a multiplier.”
24. There is a delay of 1671 days in filing this appeal before the Tribunal. The assessee has filed a petition praying for condonation of the delay. It is the case of the assessee that when the Commissioner of Income-tax has passed the revision order under section 263, the appeal of the assessee against the original assessment was pending before the Commissioner of Income-tax(Appeals). The advice given to the assessee was that as the entire assessment order was set aside, no prejudice is caused to the assessee and the issues can be agitated in the consequential assessment especially in the light of the outcome of the appeal which is pending before the Commissioner of Income-tax(Appeals). By the time, the Assessing Officer passed a fresh assessment order on 31-3-2006 taking the value of the goodwill at Rs. 126 crores liable to tax as short-term capital gains. When this order was taken in appeal before the Commissioner of Income-tax(Appeals), the impression given to the assessee was that as the assessment order was passed under the direction of the Commissioner of Income-tax, the Commissioner of Income-tax(Appeals) may not interfere in the revised value of goodwill determined by the Assessing Officer. It is the case of the assessee that it is only at that point of time that the assessee was advised the proper course of action to file an appeal before the Tribunal against the revision order itself. It is the case of the assessee that it is because of these protracted proceedings that the delay of 1671 days was occurred in filing this appeal before the Tribunal.
25. We considered the grounds for the delay, as explained by the assessee. We find that there is substance in the submissions made by the assessee. It is not the case that the assessee has not pursued the matter. Even in the original assessment, an addition was made in respect of goodwill. That issue was pending before the Commissioner of Income-tax(Appeals) at that point of time. So there cannot be a case that the assessee has ever accepted the stand of the revenue on the question of goodwill. As multiple proceedings were alive at that point of time, the assessee had in fact chosen to rely on one course of action that of regular appeal against the order of the Assessing Officer and thereafter, if necessary, before the Tribunal.
26. In the facts and circumstances of the case, we find that the delay in filing this appeal was caused for genuine reasons and not because of any callous or negligent attitude of the assessee. Accordingly, the delay is condoned and the appeal is admitted on the rolls of the Tribunal. Therefore, the appeal has been heard and is being disposed of on merits.
27. From the detailed discussion available in the revision order passed by the Commissioner of Income-tax, it is seen that the Assessing Officer has not examined the different aspects of goodwill liable to be attributed in the consideration of transaction made between the assessee and its sister concern in respect of the technology division. Even though the Assessing Officer has treated a part of the consideration as pertaining to the goodwill, the computation was not proper. The Assessing Officer has taken only the average of the five years’ profit as the value of the goodwill. The regular method accepted in accountancy is to multiply the average profit with a suitable factor of three years or so, depending upon the nature and circumstances of the business transferred. If no multiplier is adopted, it was necessary on the part of the Assessing Officer to explain the grounds as to why the multiplying factor should not be applied to the average profit of five years. Therefore, on this ground itself, the Commissioner of Income-tax is justified in holding that the order of the Assessing Officer is erroneous and prejudicial to the interests of the Revenue as far as the issue of valuation of goodwill is concerned.
28. As rightly pointed out by the Commissioner of Income-tax, the Assessing Officer has not analysed the circumstances leading to the payment of non compete fee by the sister concern to the assessee-company. The locus standi of the parties to the transaction to fix an amount of non compete fee is to be appreciated in the light of the fact that the assessee and sister concern are under the common management of a common chairman and a common CEO. The assessee-company and its sister concern are working in close relation with a lot of interlacing of activities and interlocking of finance. In these circumstances, as rightly pointed out by the Commissioner of Income-tax, the prominent question to be considered is whether there is any occasion at all to make out a case of paying non compete fee to the assessee-company. The question is, is there any justification for the sister concern for paying any non compete fee to the assessee company? The assessee and is its sister concern may have their own explanations. But, the issue is that the assessing authority has not considered this aspect at all. Therefore, on this ground as well, the order passed by the assessing authority is erroneous ad prejudicial to the interests of the Revenue.
29. Likewise, the Commissioner of Income-tax has categorically held on the basis of examination of the terms of the sale agreement that the assessing authority has not examined important aspects such as the consideration paid for the transfer of intellectual property rights and also the deduction claimed by the assessee in respect of ESOP scheme.
30. Therefore, in the facts and circumstances of the case, we find that even though the assessing authority has computed an amount attributable to goodwill even against the contentions raised by the assessee, the computation of goodwill made by the assessing authority was not proper. Likewise, in the matter of non compete fee, payment towards IPR and brand name and also in respect of ESOP, no discussion has been made by the assessing authority. These are all very important aspects of the assessments as far as the assessee’s file is concerned. Therefore, it goes without saying that the assessment order is erroneous and prejudicial to the interests of the Revenue.
31. In fact, at the time of hearing, the learned senior counsel has relied on the judgment of the Hon’ble Madras High Court in the case of CIT v. K.G. Denim, 180 Taxman 590(Mad.), to support her argument that where two views are possible, the Commissioner of Income-tax cannot revise an order under section 263 of the Act. The principle highlighted by the Hon’ble Madras High Court is a consistent judicial view which is religiously followed by all administrative and appellate authorities. But, as far as the present case is concerned we are afraid that the above judgment of the Hon’ble jurisdictional High Court is not applicable, as the facts in the present case are different. In the case considered by the Hon’ble Madras High Court, two views were possible. It is in the light of that possibility that the Hon’ble High Court has held that revision order is not possible when two views are possible and the assessing authority has applied one of the possible views. In the present case, there are no such views available before the Assessing Officer to choose among them as a possible view. While doing the valuation of the goodwill, the Assessing Officer has adopted only the average profit for five years without any multiplier. The standard rule of valuation of goodwill is to apply a factor of multiplier. There are no two views on this point. If a multiplier is not necessary, it is the duty of the Assessing Officer to state in his order as to why the situation of the present case is different and a different rule should be applied. Therefore, there is no question of the Assessing Officer choosing one of the possible views while making the valuation of the goodwill.
32. For the same reasons stated above, the decision of the Income-tax Appellate Tribunal, Bangalore B-Bench, rendered in the case of International Society for Krishna Consciousness v. Deputy Director of Income-tax(Exemptions), 15 DTR (Bang)(Trib) 633., which is relied on by the learned senior counsel, is not applicable to the present case.
33. Therefore, we find that the revision order passed by the Commissioner of Income-tax under section 263 of the Income-tax Act, 1961 is just and proper and, therefore, the same should be upheld.
34. The appeal filed by the assessee is, therefore, liable to be dismissed.
35. Next we will consider the appeal filed by the assessee in ITA No.1768(Mds)/2010. This appeal is directed against the order of the Commissioner of Income-tax(Appeals)-V at Chennai, dated 13-8-2010. This appeal arises out of the assessment completed under section 143(3) of the Income-tax Act, 196, in compliance with the revision order passed by the Commissioner of Income-tax under section 263 on 23-3-2005.
36. The original assessment completed in this case under section 143(3) on 31-3-2003 was set aside by the Commissioner of Income-tax under section 263 through his order dated 23-3-2005. The Commissioner of Income-tax has set aside the assessment for considering the issues of valuation of goodwill, treatment of non compete fee/IPR, brand name and treatment of ESOP.
37. In obedience of the above order of the Commissioner of Income-tax, the Assessing Officer issued notice under section 143(2) and called for details and explanations from the assessee. After considering the explanations offered by the assessee, the Assessing Officer proceeded to redo the valuation of goodwill. The assessing authority has adopted the average profits of the assessee for the last three years, which worked out to Rs. 4,222.33 lakhs. The Assessing Officer further applied a multiplying factor of 3 years and finally determined the value of goodwill at Rs. 12,667 lakhs. In the original assessment, the assessing authority had valued the goodwill at Rs. 31,74,40,000/-. As against the same, in the impugned assessment the assessing authority has determined the value of goodwill at Rs. 12,667 lakhs. This revised amount of Rs. 12,667 lakhs has been brought to tax as short-term capital gains on sale of goodwill.
38. This revised value of goodwill was challenged in first appeal. The Commissioner of Income-tax(Appeals) dismissed the appeal filed by the assessee with the following conclusions:-
“The same issue has come up for my consideration in the appeal against the original assessment order in this case. In my appeal order of date in ITA No.156/2007-08 for the A.Y.2000-01, I have held that:
(i) goodwill component in the price for the transfer of software division of the assessee is taxable as long-term capital gains; and
(ii) the goodwill is to be valued at three years’ purchase price of the average profits of five years, based on the profits for years 1995 to 1999.
I, therefore, hold that the assessment of goodwill by the A.O is in accordance with law and the goodwill value of Rs. 67.50 crores as computed in the appeal order of date in ITA No.156/2007-08 is to be assessed as capital gains (long-term) instead of Rs. 1,26,67,00,000 adopted by the A.O in the impugned assessment order. The appeal is dismissed. However, the addition on account of Goodwill has been given effect to in ITA 156/2007- 08 for the same assessment year.”
39. It is against the above that the assessee has come in second appeal before us. The grounds raised by the assessee read as below:-
“1. The CIT(A) has failed to see that when a division was transferred to its sister concern, there was no transfer of goodwill, and no part of the consideration was earmarked for goodwill,
2. The CIT(A) erred in treating part of the consideration received from Pentasoft Technologies Ltd. towards non-compete fees as goodwill.
3. The CIT(A) ought to have appreciated that even if it is to be held that some portion of the consideration is to be treated as goodwill, since only the training division was hived off, only the profits from the training division alone should have been taken into account for the calculation of average profits.”
40. We considered the issue. In fact the only issue is that of goodwill. The assessee-company had transferred its software technology division to its sister concern. The total consideration stated was Rs. 894.21 crores. No amount was attributed towards goodwill. But amounts were attributed towards non compete fee, sale of brand name, sale of IPR, etc. In the original assessment the Assessing Officer held that a portion of the purchase consideration definitely related to goodwill. The Assessing Officer treated a sum of Rs. 31,74,40,000/- as value of goodwill, being the average profit of five years from 1996 to 2000. Thereafter, the assessment order was revised on the above issue and direction was given to the Assessing Officer to apply a proper multiplier to value the goodwill on accepted method of accountancy. The assessing authority accordingly worked out the average profit of the latest three last years 1998, 1999 and 2000 to Rs. 4,222.33 lakhs. The multiplier of 3 was applied and ultimately the goodwill was valued at Rs. 126,67,00,000/-.
41. In fact, the sister concern, who purchased the software technology division of the assessee company, M/s. Pentafour Technologies Ltd., has stated in its published accounts that out of the consideration of Rs. 894.21 crores, a sum of Rs. 629.09 crores related to goodwill. The transferee company has treated a prominent portion of the consideration towards goodwill. The argument of the assessee that the transferee company has shown the amount towards goodwill only as an interim arrangement, pending appropriation of the consideration among properly classified heads, cannot be accepted in its entirety. Some portion of that amount may be attributed to other assets and rights acquired by the sister concern. The accounts of the sister concern itself is a documentary evidence for the Revenue to come to a fair conclusion that the consideration definitely included consideration towards goodwill.
42. As rightly pointed out by the Commissioner of Income-tax in his revision order, the assessee has made an attempt to suppress the true colour of the payment towards the goodwill by stating that payments were made towards non compete fee, IPR on brand/brand value, etc. In fact the assessee as well as its sister concern M/s. Pentafour Technologies Limited do have a common CEO and the companies are working under a common management. There is interlacing of activities and interlocking of funds. These group concerns are not working at loggerheads. In such circumstances, as rightly pointed out by the Commissioner of Income-tax, there is no de facto situation which demands payment of non compete fee by the assessee’s sister concern to the assessee company. This is the same case with IPR on brand/brand value, etc. These are all, as rightly held by the Commissioner of Income-tax, a figment of a creative accounting, with no relevance to real state of affairs. It is to be seen that inspite of such a magnitude, the actual fund transmitted between the parties was only Rs. 58 crores. The assessee has written off amounts to the sale consideration thereby reducing the share value. In these circumstances the only conclusion that we may arrive at is that the total consideration received by the assessee from its sister concern also included a payment towards goodwill as well.
43. Therefore, the factum of goodwill is confirmed.
44. Now, it is the question of mode of valuation. The Assessing Officer has adopted the average profit of the immediate past three years. He has adopted the multiplying factor of three years. Both the variables are extremely fair. Therefore, there is nothing for us to interfere in the valuation of the goodwill.
45. Accordingly, we uphold the valuation of the goodwill made by the assessing authority at Rs. 126,67,00,00/-. Accordingly, the addition of Rs. 126,67,00,000/- as capital gains is confirmed.
46. But we find that the capital gain cannot be held to be short-term capital gains. The assessee was in the business for more than five years. The goodwill is a self generated asset and generates alongwith the commencement of the business, especially in the field of software technology. Therefore, the Assessing Officer is not justified in treating the capital gains arising out of sale of goodwill as short-term capital gains. The capital gains of Rs. 126,67,00,000/- must be treated as long-term capital gains and taxed accordingly.
47. This appeal filed by the assessee is partly successful.
48. Next we will consider the regular assessment appeal filed by the assessee in ITA No.1733(Mds)/2010.
49. The first issue raised is that the Commissioner of Income-tax (Appeals) has erred in treating the interest income as income from other sources and disallowing the benefit of section 10B of the Act. In the light of the decision of the Hon’ble Delhi High Court in the case of CIT v. Koshika Telecom Ltd., 287 ITR 479, it is the contention of the assessee that the interest income received should be treated as business income and the interest paid should be set off against the same. The fixed deposit is made for margin money and as such interest from the same should be treated as business income. Section 10B provides for deduction of such profits and gains as are derived by a hundred percent export oriented undertaking from the export of articles or things or computer software. The interest received by the assessee on margin money deposits were not generated out of export activity. Therefore, the assessee is not entitled to treat the interest income as business income eligible for deduction under section 10B. The principles laid down by the Hon’ble Supreme Court in the case of Pandian Chemicals Ltd. v. CIT, 262 ITR 278, support the view taken by the lower authorities. This issue is accordingly decided against the assessee.
50. The connected argument raised by the assessee is that the expenditure incurred for earning that interest income should be allowed as a deduction while computing the income from other sources. There is no objection to this. If the assessee proves that some expenditure is incurred for earning that bank interest, that expenditure may be deducted while computing the income from other sources. The Assessing Officer is directed to look into it.
51. The next ground raised by the assessee is that the Commissioner of Income-tax (Appeals) has erred in treating the amount received on renting out of computers, insurance claims on damage to computers, sale of scrap and reimbursement of expenses incurred for agents abroad, etc. as income from other sources, whereas the same should be treated as business income, as those receipts are having clear nexus with the business carried on by the assessee. Computers are installed by the assessee for the purpose of carrying on its business. Its business is export business. Therefore, incidental income arising from use of computers, insurance claims on damage to computers, etc. needs to be treated as operational income in the nature of business income. This is the case with the sale of scrap as well. Reimbursement of expenses incurred for agents abroad in fact reduces the cost in assessee’s hands and, therefore, resulting in overall increase in business income. Therefore, that item should also be treated as business income. Accordingly, we direct the assessing authority to treat the above stated amounts as part of assessee’s eligible profit for deduction under section 10B.
52. The next ground raised by the assessee is that the Commissioner of Income-tax (Appeals) has erred in treating the rent received from the employees who occupied the quarters of the assessee as income from other sources. The Assessing Officer has treated such rent received from the employee-tenants as income from other sources and not as income from business.
53. The nature of the recovery made from the employees is that the recovery goes to reduce the staff welfare expenses in the hands of the assessee-company. The rent recovery made from the employees is not an independent income or a different source of income. The assessee is providing residential quarters to the employees against which a nominal rent is recovered from them. The recovery ultimately reduces the cost in the hands of the assessee. Therefore, the recovery is in the nature of business income. This is because it reduces the business expenditure. The lower authorities are not justified in treating it as income from other sources. The above proposition has been upheld by the Hon’ble Madras High Court in the case of CIT v. M.A. Sathar (P) Ltd., 226 ITR 910. The Hon’ble court was following the earlier decision of their Lordships rendered in the case of CIT v. New India Maritime Agencies P. Ltd., 207 ITR 392. Therefore, we accept the contention of the assessee and direct the assessing authority to treat the rent recoveries as business income in the hands of the assessee-company. This issue is decided in favour of the assessee.
54. In the light of the above, the alternate ground raised by the assessee regarding deduction under section 24 does not survive.
55. The next ground is that the Commissioner of Income-tax (Appeals) has erred in denying section 10B exemption to the amounts written back, failing to see that the amounts are nothing but trade advances relating to the eligible business and as remission of trading liability is to be treated as income under section 41(1)(a), the same should be considered for deduction under section 10B. The Assessing Officer may verify the nature of advances made by the assessee and if they were trade advances, the same shall form part of the business income on writing back. If so, the assessee is entitled for deduction under section 10B on this amount also. The Assessing Officer is directed to verify the issue.
56. The next ground raised by the assessee is that the Commissioner of Income-tax (Appeals) has failed to see that when a division was transferred to its sister concern, there was no transfer of goodwill and no part of the consideration was earmarked for goodwill and as such the question of computation of goodwill does not arise. We have held against the assessee on this issue while deciding the appeals in ITA Nos. 1780(Mds)/2009 and 1768(Mds)/2010. Accordingly, this ground is dismissed.
57. The last ground raised by the assessee is that the Commissioner of Income-tax (Appeals) failed to see that in any event upto the assessment year 2000-01 the entire income earned by the STP undertaking is exempt under section 10B as a tax holiday. The tax holiday benefit applies only to the income earned out of export of articles or things or computer software. Income arising out of sale of a business division and other items, etc. does not qualify for deduction under section 10B. Therefore, this generic ground is to be dismissed.
58. The regular assessment appeal filed by the assessee is partly successful.
59. Next we will consider the regular assessment appeal filed by the Revenue in ITA No.1887(Mds)/2010. The only ground raised by the Revenue is that the Commissioner of Income-tax (Appeals) has erred in treating the capital gains assessable in the hands of the assessee on account of the goodwill as long-term capital gains. According to the Revenue section 50 applies and, therefore, the capital gains should be treated as short-term capital gains.
60. We considered this issue. Section 50 does not automatically apply to an asset only because of the reason that the asset is a depreciable asset. On the other hand, section 50 applies to those assets which were used for the purpose of business on which depreciation allowance was allowed and the block of assessments reflected the written down value thereafter. In the present case, there was no occasion to give any allowance of depreciation on the goodwill computed in the hands of the assessee. The assessee has been in business for a period of more than three years. We have already held while deciding the appeal in ITA No.1768(Mds)/2010 that the capital gains are in the nature of long-term capital gains. Therefore, the issue is decided against the Revenue.
61. The regular assessment appeal filed by the Revenue fails.
62. In result, the revision appeal filed by the assessee is dismissed. The appeals filed by the assessee in respect of regular assessment and revision assessment are partly allowed. The regular assessment appeal filed by the Revenue is dismissed.