Lawyers Directory Listing
Chat with us free on WhatsApp — tell us your city and legal matter and our team connects you with the right lawyer. No form, no fee.
Income‑tax Reference No. 51 of 1958, decided 9n 23rd June 1959.
, Ss. 3, 4 (3) (vii)‑Firm dealing in electrical goods‑Agreement for sale of electric lamps with monopoly rights‑Termination of agreement‑Amounts paid to partners as compensation‑Whether income or capital.
A firm which was conducting business in electrical goods entered into an agreement in 1938 with Philips Electrical Co. under which the firm was given monopoly rights to purchase and sell electric lamps manufactured by Philips in certain areas. Philips decided to take over the distribution of lamps and served a notice upon the firm terminating the agreement with effect from June 30, 1954, the firm being free to deal in their lamps as regular lamp dealers. As a gesture of goodwill Philips agreed to pay Rs. 40,000 per annum for a period of three years to each of the partners in instalments. The question was whether the sum of Rs. 20,000 received in 1954‑55 by each of the assessees who were partners was assessable to income‑tax:
Held, (i) that as the firm's original business before 1938 was in electrical goods including electric lamps and the same business was continued even after the agreement in 1938, the agreement of 1938 and the termination were made in the ordinary course of business of the assessees as dealers in electrical goods and for the purpose of carrying on their business, the benefit conferred by the agreement did not constitute a trading asset and its termination did not extinguish the whole or any part of any trading asset, the amount received by the assessees was a taxable receipt for the purpose of the Indian Income‑tax Act;
(ii) that the amount being a receipt arising from business, section 4 (3)(vii) did not exempt it from liability to tax.
Commissioner of Income‑tax v. Vazir Sultan & Sons (1959) 36 I T R 175 and Van Den Berghs Ltd. v. Clark (1935) 19 Tax Cas. 390; 3 I T R (Eng. Cas.) 17 distinguished.
Bush, Beach & Gent Ltd. v. Road (H. M. Inspector of Taxes) (1940) 8 I T R Suppl. 36 ; Capitan v. Commissioner of Income‑tax (1959) 36 I T R 84 ; Commissioner of Income‑tax v. Asiatic Textile Co. Ltd. (1955) 27 I T R 315 ; Commissioner of income‑tax v. Vazir Sultan & Sons (1959) 36 I T R 175 ; John Smith & Son v. Moor (Inspector of Taxes) (1921) 12 Tax Cas. 266 and Van Den Berghs Ltd. v. Clark (1935) 3 I T R (Eng. Cas.) 17 ref.
By these two applications, which are consolidated for the sake of convenience, Shri P. N. Divecha and Shri Khurshed A. Irani require the Appellate Tribunal to refer to the High Court three identical questions, said to be of law, and which are said to arise out of the Tribunal's orders under section 33(4) in I.T.A. Nos. 6895 and 6896 of 1956‑57 respectively. Inasmuch as, in our opinion, a question of law does arise out of the afore said orders, we hereby draw up a statement of the case, agreed to by the parties, and refer it to the High Court of Judicature at Bombay under section 66(1) of the Indian Income‑tax Act, 1922.
2. These reference applications arise out of the assessments made upon these two persons, for the assessment year 1955‑56, the previous year for which is calendar year 1954. The said two persons, along with Noshir J. Irani, were the three partners of the firm that carried on business under the two different names and styles. "J. Pirojsha & Co." and " Precious Electric Co." Prior to 1938, Jehangir A. Irani, Pirojsha H. Divecha and Khurshed A. Irani were carrying on business in partnership as commission agents and merchants under the said two names and styles. The business was that of dealers in electric bulbs and electric goods. The partnership was always limited to a certain period and it was renewed from time to time either on the same conditions or with appropriate variations. In June, 1938, an agreement was made between Philips Electric Co. (India) Ltd. (hereafter referred to as "Philips") and Precious Electric Co. (hereafter referred to as "the firm"). A copy of the said agree ment is marked annexure 'A' and forms part of the case. Clause 1 thereof defines the territory of the agreement as mentioned therein. The subject‑matter of the agreement was "all lamps for electrical lighting purposes" put on the market by Philips" in the said territory under the brand " Philips". By the said agreement, 'Philips undertook to sell or to deliver Philips lamps in the said territory exclusively to Precious Electric Company. In certain circumstances, clause 2 of the agreement also provided for payment of 5 percent. commission on sales directly made by Philips to another to the said territory. Clause 3 speaks of the firm " selling " in the territory Philips lamps "as are supplied to them by Philips for sale in the territory". According to clause 7, the firm undertook "to push the sale of Philips lamps in the territory always according to the directions given by Philips" and in no way whatever to act against the interest of Philips. It also undertook not to sell directly or indirectly other electrical lamps during the period of the agreement (clause 7). Clause 8 provided that the firm was to "buy and sell the Philips lamps for their own account and at their own risk". Prices and conditions were to be laid down by Philips. Under clause 11, the firm agreed to have its account books anti stocks being examined by Philips "in so far as they relate to business in Philips lamps". Clause 12 is as follows:
"This agreement will be deemed to have been made as from the 1st of July, 1938, and shall continue unless determined by either party giving to the other party three months' prior notice by registered letter of such party's intention to terminate the agreement on the 30th of June, 1939, or any subsequent 30th June."
3. The said three partners. viz., Jehangir, Pirojsha and Khurshed, carried on the firm's business. On August 22, 1942, partner Jehangir died leaving behind him several heirs and a son, Noshir, became partner along with the surviving two partners for carrying on the firm's business. Thus in the relevant account year, the firm consisted of three partners, Pirojsha, Khurshed (the two applicants) and Noshir. All along the firm used to maintain two sets of account books, one relating to Philips lamps and the other relating to other electrical goods, such as Philips electrical appliances, Philips radios etc. It will be convenient at this stage to mention that for the years 1948 to 1956, both inclusive, sale's of goods other than lams were about 26, 15, 22, 44, 20, 30, 21, 50 and 66 percent. of the total sales i.e., lamp sales and sales of other electrical goods.
4. Early in 1954, Philips decided to change its selling organi sation and opened a branch in Bombay with a view to taking over the distribution of lamps etc. upon themselves. Philips, therefore, gave notice on March 8, 1954, of its intention to terminate the agreement of June 28, 1938 (annexure 'A') as from 30th June, 1954. A copy of the said notice is marked annexure 'B' and forms part of the case. The material portion of the said notice is as follows:
"Kindly, therefore, consider this as the official notice of termination of the existing agreement in accordance with clause 12 of the said agreement. We take this opportunity to attach hereto a draft of the New Lamp Agreement which is intended to take the place of the agreement referred to above.
In view of the fact that there is no official agreement for lighting fittings between Philips (India) and your good-selves, we consider ourselves free to propose new terms for your considera tion. Kindly confirm receipt of this letter."
Certain discussions took place on the basis of "The New Lamp Agreement." The last meeting in connection with the proposed new agreement was held on May 28, 1954, and the minutes of the said meeting were recorded. A copy of the said minutes is marked annexure 'C' and forms part of the case. Certain agreements, as mentioned therein, in regard to the transi tional period were reached. The last paragraph of the said minutes, which really gives rise to the controversy between the Department and the assessees, is as follows:
"Miscellaneous: As a gesture of goodwill Messrs Philips are prepared to pay in quarterly instalments to each of the three partners during a period of three years Rs. 40,000 per annum from the date of expiry of the existing contract. The three partners referred to above, as far as Philips Electrical Co. under stand, are: 1. Mr. Pirojsha M. Divecha. 2. Mr. Khurshedji A. Irani. 3: Mr. Noshir J. Irani."
Finally, Mr. Van Rhijn stated that Messrs Philips are quite willing to continue Messrs Precious as regular lamp dealers and the profit they realise therefrom will be in addition to the three years' remuneration referred to above.
In the account year ended December 31, 1954, each of these three partners received two quarterly payments of Rs. 10,000 each. The Income‑tax Officer brought the said amount of Rs. 20,000 received by each of the three partners to tax as "compensation " liable to be taxed under section 10(5A) of the Income‑tax Act. All the three partners appealed to the Appellate Assistant Commis sioner. When the appeals of these two partners reached the Tribunal, the appeal of Noshir was still pending before the Appellate Assistant Commissioner. In the two appeals disposed of by him, he held that the provisions of section 10(5A)(d) did not apply to the facts of the present case on the ground that "the appellant was not an agent of the limited company (i.e. Philips) from whom the payment had been received‑neither was it compensation as no legal damage had been caused by the limited company to the appellant". He held, on general principles, that the sum of Rs. 20.000 was a taxable receipt and hence upheld the Income‑tax Officer's action in taxing it.
5. In the course of hearing of the two appeals before the Tribunal, it was stated that on the termination of the said agree ment (annexure 'A') with effect from June 30, 1954, the firm retrenched its staff, 27 in 1954, and 10 in 1955. It was alleged that the entire retrenchment was on account of the termination of the said agreement. As the Department had no occasion to examine these allegations the Tribunal did not give any finding on them.
6. On these facts, Mr. Palkhivala, who appeared for the appellants, contended that the receipt of Rs. 20,000 was not taxable for several reasons, viz.:
(i) it was compensation paid for termination of agreement which constituted the framework of the firm's business ;
(ii) the amount was an ex gratia payment made by way of testimonial. Though asked, he did not state the reasons or the qualities which called for this testimonial by Philips ;
(iii) the payment is made to individual partners and not to the firm as such and does not represent a receipt in the course of the firm's business ;
(iv) alternatively the said receipt was not liable to be included in the total income of the recipient by reason of section 4(3)(vii).
7. The Department in its turn repelled all these conten tions and further relied upon the provisions of section 10(5A)(d) urging that on the true construction of other clauses of the agreement dated June 28, 1938, (annexure 'A'), the said agree ment between Philips and the firm was one of the firm "holding an agency in the taxable territories " and that the payments of Rs. 20,000 made to each of the three partners at the rate of Rs. 40,000 per annum for the three years was made " at or in connection with the termination of his agency".
8. For the reasons given in paragraphs 7 to 10, both inclu sive, of its main order under section 33(4) in the case of Shri P. H. Divecha (I T A No. 6895 of 1956‑57), a copy of which is marked annexure ' D ' and forms part of the case, the Tribunal rejected the first three of the four contentions urged by Mr. Palkhivala. In regard to the fourth, he did not address any arguments to the Tribunal though it was said that the receipt was exempt by reason of its casual and non‑recurring nature. The Tribunal, therefore, did not deal with that portion of his conten tion. The Tribunal's finding, therefore, amounted to saying that the sum of Rs. 20,000 was not a capital receipt and that it was a taxable one and was not to be excluded from the total income of the recipient by reason of section 4(3)(vii).
9. In paragraph 11 of its order (annexure ' D'), the Tribunal dealt with the Department's contention based upon section 10(5A). The controversy before the Tribunal centred round the meaning of the word "agency". While the Department submitted that on the construction of the agreement dated June 28, 1938, (annexture ' A') the said agreement amounted to agency in the wider sense of the term (wider than the meaning given to it under the Contract Act), the assessee urged that the said agree ment was one between the firm and Philips as principal to Principal and that under it the firm was appointed the sole concessionary for the purpose of selling Philips lamps and that, however wider might be taken the meaning of the word "agency" it could not include its opposite, viz., relationship that existed between principal and principal. Dealing with this contention, the Tribunal observed as follows in paragraph 11 of its order (annexure' D')
"Now the fact is that there are several terms in this agree ment which support rival contentions when they are taken by themselves but reading the document as a whole, we are inclined to consider that as a result of this agreement, the firm came to hold an agency to sell Philips lamps within a certain territory; but we must once more point out that such a finding of ours in the present case is of no use either to the assessee or to the Department on the view that we have taken, viz., the payment is being made neither under the agreement of June, 1938, nor for it and indeed it is common ground that the origin of this payment cannot be found in any termination of the said agreement. On the other hand, section 10(5A) contemplates a payment' at or in connection with the termination' of an agency. At the most it can be said that the occasion for the making of this payment was the termination of the agreement in accordance with the terms provided by the agreement, itself."
10. On these facts, the following questions of law arise:
"(i) Whether the receipt of Rs. 20,000 is a taxable receipt for the purpose of the Indian Income‑tax Act, 1922
(ii) If so, is it liable to be not included in the total income of the recipient by reason of section 4(3)(vii)
(iii) Does the said receipt fall within the mischief of section 10 (5A) (d) and as such liable to tax accordingly "
N. A. Palkhivala with S. P. Mehta and B. A. Palkhivala for the Assessee.
G. N. Joshi with R. J. Joshi for the Commissioner.
.‑This reference raises the vexed question whether certain amounts received by the assessee are capital receipts or revenue receipts. Elaborate arguments have been advanced before us by Mr. Palkhivala for the assessee in support of the plea that the amounts received by the assessee were capital receipts and not liable to tax and he has invited our attention to several discussions of the Supreme Court as well as of other Courts. Before we refer to the arguments, advanced at the Bar, it is necessary to set out the facts which give rise to this reference.
Prior to the year 1938, three persons, Jehangir A. Irani, Pirojsha H. Divecha and Khurshed A. Irani were conducting in partnership a business in " electrical goods " and as commission agents and merchants in the name and style of " Precious Electric Co." The duration of the partnership was initially limited to a certain period but was from time to time renewed. Jehangir A. Irani died on 22nd August, 1942, and in his place his son Noshir J. Irani was admitted to the partnership. In June, 1938, the three partners of Precious Electric Co. entered into an agreement with Philips Electrical Co. (India) Ltd. (which will hereafter be referred to as "the Philips"). Under that agreement, the Precious Electric Co. (which will be hereafter referred to as " the firm ") was given the monopoly rights to sell electric bulbs manufactured by the Philips in the Bombay Presidency, Rajputana, Central India, Central Provinces and the Berar. By clause 2 of the agreement, Philips undertook to deliver lamps of their manufacture, for sale in that territory exclusively to the firm. If any buyer refused to purchase lamps from the firm Philips had the right to supply such buyers directly allowing compensation to the firm at the rate of 5 percent. on the net amount of invoices. By clause 3, the firm undertook only to sell lamps as were supplied to them by Philips and to sell the lamps supplied to them only in that territory and to do " everything possible to prevent their re‑exportation by third parties". By clause 7, the firm undertook to promote the sales of lamps in the territory always according to the directions given by Philips and in no way whatever to act against their interests and not to sell during the continuance of the agreement either directly or indirectly lamps other than Philips lamps and to refrain from doing any business, "either directly or indirectly, in articles competing with Philips articles and not to support and/or to participate in, either directly or indirectly, competing firms in any way." By clause 4, the firm undertook in reselling lamps purchased from Philips, not to deviate under any circum stances, either directly or indirectly from the prices, rebates, selling terms and/or conditions as established by Philips. By clause 6 right was reserved to Philips to refuse orders and/or cancel or to suspend deliveries for any reason whatsoever and in case of such cancellation, cessation or suspension of deliveries the firm was not to receive any compensation. By clause 8, it was provided that the firm was to buy and sell Philips lamps on their own account and at their own risk and that the lamps were to be purchased by the firm at prices and on conditions which from time to time may be communicated to them by Philips. Authority was reserved to Philips to refuse delivery or to, cancel orders in the event of the firm being in arrears. By clause 12, the agreement was deemed to have come in force from the 1st of July, 1938, and was to " continue unless determined by either party giving to the other 3 months' prior notice . . . of such party's intention to determine the agreement on the 30th of June 1939, or any subse quent 30th of June."
Under this agreement, till the 21st August, 1942, the three original partners carried on the business of the firm. After the death of Jehangir A. Irani, his son Noshir was admitted as a partner in the firm. Early in the year 1954, Philips decided to change its selling organisation in India and to open a branch in Bombay with a view to taking over the distribution of lamps. On the 8th of March, 1954, the Philips served a notice upon the firm terminating the agreement of the 28th of June, 1938, as from the 30th of June, 1954. By that notice, the firm was informed that it was intended to terminate the agreement as from the 30th of June, 1954, and that the notice shall be considered as the official notice of termination of the existing agreement in accordance with clause 12 thereof, and that it was intended to substitute a new agreement to be called the " New Lamp Agreement " a draft whereof was appended to the letter. After this notice was receive by the firm, meetings were held on the 28th of May, 1954, and 29th of May, 1954, between their representatives and the representatives of Philips. It was agreed at the meetings that after the 28th of June, 1954 the date on which the existing agreement expired, there will be no substitution of a new agree ment about distribution of lamps and that with effect from that date, Philips' Bombay branch will take over the distribution of lamps. There were negotiations then for the period of transition and certain terms were agreed upon, which are not material. Arrangement was also made about the disposal of the stocks held by the firm. The question of compensation was then discussed and the terms finally agreed upon to be recorded as follows:
"Miscellaneous : As a gesture of goodwill, Messrs Philips are prepared to pay in quarterly instalments to each of the three partners during a period of three years, Rs. 40,000 per annum from the date of the expiry of the existing contract. The three partners referred to above as far as Messrs Philips Electrical Co. understand are:
1. Mr. Pirojsha H. Divecha.
2. Mr. Khurshedji A. Irani.
3. Mr. Noshir J. Irani.
Finally, Mr. Van Rhijn stated that Messrs Philips area quite willing to continue Messrs Precious as regular lamp dealers and the profit they realise therefrom will be in addition to the three years' remuneration referred to above."
The minutes of the meeting which recorded the terms of the settlement were signed on behalf of Philips and they were seen and approved on behalf of the firm.
In the account year 1954‑55 each partner received Rs. 20,000 two quarterly instalments under the terms of the settlement whereby the original agreement of the year 1938 was terminated. The income‑tax officer brought to tax the amounts of Rs. 20,000 received by each of the three partners. Separate appeals were preferred by the three partners to the Appellate Assistant Commissioner. The Appellate Assistant Commissioner con firmed the order passed by the Income‑tax Officer. The order of assessment was then taken in appeal at the instance of two partners P. M. Divecha and K. A. Irani to the Income‑tax Appellate Tribunal. The Tribunal held that the Amount of Rs. 20,000 received by each of the assessees was taxable as revenue receipt. The Tribunal negatived the contention raised for the assessees that the payment was compensation paid for termination of the agreement which constituted the "framework of the company's business". They observed that the payment was not an ex gratia payment " by way of testimonial " and that it was unnecessary to express their opinion upon the question whether payments made to individual partners did not represent receipt in the course of the company's business.
In this reference, the Tribunal have, at the instance of the assessees, referred the following three questions : '
(i) Whether the receipt of Rs. 20,000 is a taxable receipt for the purpose of the Indian Income‑tax Act, 1922
(ii) If so, is it liable to be not included in the total income of the recipient by reason of section 4 (3) (vii)
(iii) Does the said receipt fall within the mischief of section 10 (5A) (d) and as such liable to tax accordingly "
The agreement of the year 1938 brought into existence what may loosely be called a right of monopoly purchase. Under this agreement, Philips undertook to 'sell to the firm (and to no other persons) lamps for sale in the territory specified in the agreement and the firm in its turn undertook to "advance the business of Philips in electric lamps and not to sell during the continuance of the agreement either directly or indirectly any lamps other than Philips lamps and not to sell those lamps outside the territory assigned". The relation between Philips and the company was evidently of principal and principal and not of principal and agent. The substance of the agreement, therefore, was that Philips agreed to sell their electric lamps only through the firm in the assigned territory and the firm in its Turn undertook not to sell the lamps sold to them to any one outside the territory nor to deal in any competing business in electric lamps. This agreement was determined by notice served on the 8th of March, 1954. Even before the date of the agreement, the partners of the firm were carrying on business in electric lamps and other electric goods, and that business was continued after the agreement, but the firm acquired their stock‑in‑trade under a special agreement on favourable terms which ruled out competition in respect of one of the lines of their business. In the territory assigned to the firm, by the termination of the agreement in the year 1954 the business of the firm was not destroyed. The firm con tinued to carry on its original business in electric goods including electric lamps and even Philips lamps could be sold by the firm as "regular lamp dealers". In substance the alteration made by the agreement of the 29th of May, 1954, was that the firm lost its rights as monopoly purchasers for the assigned territory and became regular dealers in lamps without any obligation not to deal in any other competing brand of lamps and " as a gesture of goodwill" Philips offered to compensate for the loss which it was apprehended may be caused to the firm by agreeing to pay them Rs. 40,000 per annum to each of the partners for a period of 3 years and this compensation was expressly designated "three years' remuneration."
It is urged by Mr. Palkhivala that this amount, which was ag reed to be paid by Philips to the firm, was in the nature of a capital payment to the partners of the firm. It is urged that tile mono poly rights conferred by the agreement of the year 1938 were by the notice and the subsequent agreement of the 29tn of May, 1954, withdrawn. That is by the notice the very source of the business of the firm was extinguished, and that the profit‑making apparatus of the firm was destroyed and their assets became sterilised, and any payment made, to compensate for the loss of the rights, must be regarded as capital payment. We are unable, however, to agree with the contention raised by Mr. Palkhivala that, by the service of the notice dated the 8th of March, 1954, and the sub sequent agreement between Philips and the firm on the 29th of May, 1954, any attempt either to sterilise the assets of the firm or to destroy the profit‑making apparatus of the firm's business was intended. The firm's original business before the year 1935 was in electrical goods including electric lamps, and even after the agreement dated the 28th of June, 1938, the same business was continued. There is also no doubt that after the 29th of May, 1954, the same business and in the sane line was carried on by the firm. Whereas under the agreement dated the 28th of June, 1938, the firm was obtaining a part of its stock‑in‑trade on specially favourable terms which simultaneously ruled out competition in the territory assigned by the agreement, after the 29th of May 1954, the favourable terms on which the lamps were obtained ceased to be available to the firm and the firm without any obligation not to carry on any competing line of business in lamps became a regular lamp dealer. Even such an arrangement, we are unable to hold that the profit‑making apparatus of the assessee's business was destroyed. We are of the view that by the agreement which created monopoly rights a specially favourable method of acquiring stock‑in‑trade of the firm was designed and if that method was substituted by an agreement less favourable we do not think that thereby the compensation paid could be regarded as a capital asset.
Mr. Palkhivala has very strongly relied upon the judgment of their Lordships of the Supreme Court in Commissioner of Income- tax v. Vazir Sultan & Sons ((1959) 36 I T R 175). We may at once observe that we have carefully considered the facts of that case and the observa tions made by their Lordships of the Supreme Court and we have no doubt that the principle of that case has no application to the facts of the present case. In that case, originally the assessee company was appointed the sole selling agent and sole distributor of a brand of cigarettes for the Hyderabad State and was allowed a discount of 2% on the gross selling price. In 1939, another arrangement was made between the assessee and the manufacturers whereby the assessee was allowed a discount of 2% not only on the goods sold in the Hy derabad State but also on all goods sold outside the Hyderabad State. In 1950, the assessee and the company by mutual agreement reverted to the old arrangement in force prior to the year 1939, and the manufacturing company pain to the assessee a sum of Rs. 2,19,343 "by way of compensa tion " for the loss of the agency for the territory outside the Hyderabad State. A question then arose whether the amount paid was a revenue receipt assessable to income‑tax. In delivering his judgment Mr. Justice Bhagwati, (with whom Mr. Justice Sinha agreed) held that the agency agreement in respect of the territory outside the Hyderabad State was as much an asset of the assessee's business as the agency business within the Hyderabad State and though the expansion of the territory of the agency in 1939 and the restriction thereof in 1950, could be treated as grant of additional territory in 1939 and withdrawal thereof in 1950 both those agency agreements constituted but one employ ment of the assessee as the sole selling agent of the manufacturers and, therefore, the agency agreements were not in the conduct of their business by the assessees but formed the capital asset of the assessee's business which was exploited by entering into con tracts with various customers and dealers in the respective territories. Therefore, in the view of their Lordships, it formed part of the fixed capital of the assessee's business and was not the circulating capital or stock‑in‑trade of their business and payment made by the company as and by way of compensation for terminating or cancelling the agreement was a capital receipt. With this view Mr. Justice Kapoor disagreed. It is pertinent to note that, in the majority view the sole selling agents' rights before the year 1939 and after the year 1939 were an asset of the asses sees in the nature of a fixed capital of the assessee's business and for loss of a part thereof, the amount received was a capital receipt. At page 185 of the report, after considering cases cited at the Bar, their Lordships observed:
"The position as it emerges on a consideration of these authorities may now be summarised. The first question to consider would be whether the agency agreement in question for cancellation of which the payment was received by the assessee was a capital asset of the assessee's business, consti tuted its profit‑making apparatus and was in the nature of its fixed capital or was a trading asset or circulating capital or stock‑in‑trade of his business. If it was the former the payment received would be undoubtedly a capital receipt ; if, however, the same was entered into by the assessee in the ordinary course of business and for the purpose of carrying on that business, it would fall into the latter category and the compensation or payment received for its cancellation would merely be an adjustment made in the ordinary course of business of the relation between the parties and would constitute a trading or a revenue receipt and not a capital receipt."
Applying the test set out we have no doubt that on the facts of the present case the contract of the year 1938 between the firm and Philips and the modification thereof in the year 1954, were made in the ordinary course of business of the assessees as dealers in electric goods and for the purpose of carrying on their business : and compensation paid for withdrawing the benefits conferred by the agreement of the year 1938, will constitute a trading or revenue receipt and not a capital receipt. In truth the benefit conferred upon the firm by the agreement of the year 1938 did not constitute a trading asset and the modification thereof did not extinguish the whole or a part of the trading assets. The initial contract was one in the ordinary course of business and the modification of the same was also in the ordinary course of business of the firm as dealers in electric goods. The circumstance that the contract of the year 1938 was one which enabled the firm to purchase its requirements of electric lamps on favourable terms does not, in our judgment, make that contract any the less a contract made in the ordinary course of business nor does the modification of that contract amount to a contract other wise than in the ordinary course of business.
We may refer to the cases cited at the Bar in which the Courts were called upon to ascertain whether a certain payment made was in truth a capital receipt or a revenue receipt. We may at once observe that no definite tests of universal application can be evolved or have been attempted to be evolved nor any infallible criterion can be or has been laid down which can be helpful in indicating the considerations which may relevantly be borne in mind in approaching the problem. The cases, which we shall presently refer to, abundantly show that no criterion or test is of universal or general application.
In Bush, Beach & Gent, Ltd. v. Road ((1939) 22 Tax Cas. 519) the assessee was an incorporated company which carried on its business in industrial chemicals. In 1933 the assessee company entered into a contract for the purchase of certain agricultural chemicals. The contract whereby the right to deal in agricultural chemicals was acquir ed conferred monopoly rights, i.e., the assessee was to sell the chemicals in certain specified areas and the suppliers undertook to debar their other customers from selling the same in those areas. For the purpose of these contracts, the assessee set up a new and independent sales organisation. Thereafter, the contract was terminated by agreement in the year 1935 and the assessee company received 4,750 out of which 3,000 were attributable to the year of assessment as compensation for termination of the agreement. It was held that the cancellation of the contract did not affect the structure of the company's business of chemical merchants and that the contract was made in the ordinary course of business and that the payment was made in consideration of the loss of profits which would have been earned under the contract. It was observed in that case that the sum paid to the assessee represented not the purchase price of the contract itself, but profits which they might have made under the contract, and that the contract was made in the ordinary course of the company's business, although in a new field, and the exclusion of com petition was an ordinary incident of such contracts. The arrangement whereby the contract was terminated being in the ordinary course of the company's business, compensation paid as consideration for agreeing to that arrangement was revenue payment.
In John Smith & Son v. Moore ((1921) 12 Tax Cas. 266) the question which fell to be determined was whether the amount paid for purchasing the rights from the executors of the assessee's father's wilt under certain unexpired " coal contracts " was an admissible deduction in computing the profits for the purpose of excess profits tax and it was held by the house of Lords (Viscount Finlay L. C. dissenting) that the expenditure was a capital' expenditure. In that case, the question, was decided on the view, that the contracts for purchasing coal were the assets of the estate of the deceased and the price paid for purchasing the unexpired contracts was capital expenditure. There is nothing in this judgment which supports the view that the contract of the year 1938 in this case between the firm and Philips could be regarded as an asset, the consideration for extinguishing which may make the consideration a capital receipt.
Our attention was also invited to Commissioner of Income‑tax v. Asiatic Textile Co. Ltd. ((1955) 27 I T R 315) where to the assessee compensation was paid for termination of the managing agency agreement for a period of 20 years and it was held by this Court that the amount received by the managing agents as solatium for the termination of the managing agency could not be profits arising out of their business but constituted only a capital receipt. But even in that case, the court regarded the managing agency as an asset and the compensation paid for extinction of that asset a capital payment. Mr. Palkhivala placed great reliance upon the fact that besides being managing agents, the assessees were brokers, muccadams and selling agents of the company and by the termina tion of the managing agency agreement, their authority as brokers, muccadams and selling agents was not extinguished. We fail to see how that circumstance may alter the nature of the managing agency agreement. If the benefit of the managing agency was an asset, the mere circumstance that qua the company, of which the assessees were the managing agents, the assessees had certain other contractual rights which were not extinguished by the termination of managing agency will not make the benefit under the managing agency any the less an asset.
The case in Captain v. Commissioner of Income‑tax ((1959) 36 I T R 84) on which reliance was also sought to be placed by Mr. Palkhivala, has in our judgment, no application. The question in that case which fell to be determined was whether an amount of money paid to the assessee for termination of his employment was covered by the terms of section 7(i) explanation 2 of the Income‑tax Act and the Court held that the amount received by the assessee as com pensation for loss of employment fell within explanation 2 of section 7(i) and was not, therefore, taxable.
Nor does the case of Van Den Berghs Ltd. v. Clark ((1935) 19 Tax Cas. 390.) on which reliance was sought to be placed by Mr. Palkhivala affect our conclusion. That was a case in which two companies, which were competitors, entered into an ar rangement for a certain number of years for pooling and sharing profits, under an elaborate scheme to promote their mutual commercial, pecuniary, and other interests. One of the companies then agreed to a premature termination of the agreement as desired by the other company on receiving a sum of 4,50,000 as compensation; and it was held that this sum was a capital receipt and not income. The agreement far from being one made in the ordinary course of business provided a funda mental organisation of the company's activities and affected the entire conduct of the assessee's business and, therefore, the receipt under the agreement terminating the arrangement was a capital receipt. If, however, we are of the view that the mono poly rights under the agreement of the year 1938 do not constitute an asset, the extinction of those rights does not affect the conduct of the business of the assessee, or as it was called by Mr. Palkhivala, the "profit‑making apparatus of the assessee's business" and if they are merely contracts entered into in the ordinary course of business, Van Den Bergh's case ((1935) 19 Tax Cas. 390) will have no application.
On the view taken by us, the first question will be answered as follows:
"The receipt of Rs. 20,000 is a taxable receipt for the purpose of the Indian Income‑tax Act, 1922."
As we have already held that the amount is a taxable receipt, being receipt arising from business, section 4 (3) (vii) does not exempt it from liability to tax. We are in the view we have taken not called upon to consider whether even if the receipt of Rs. 20,000 is a capital receipt, by operation of section 10 (5A) (d) the amount can be regarded as a revenue receipt. We answer the second question as follows:
It is liable to be included in the total income notwithstanding section 4 because it arose from business.
The third question does not fall to be answered. The assessee to pay the costs of the Commissioner.
Reference answered accordingly.
Dealing with a matter like this? Connect with a verified advocate in your city — free on SJP Lawyers Directory.
🔍 Find a Lawyer