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Reference Case No. 37 of 1959, decided on 2nd February 1960.
S. 10 (2) (xvi)‑Fees paid for "protection" of, or "stopping competition" against business Expenditure of capital nature‑Not deductable‑Test for deter mining whether fees paid are revenue expenditure or expenditure of capital nature.
While considering whether an expenditure is of a capital nature or revenue expenditure, the dictum to be kept in mind is:
An asset or an advantage obtained for the enduring benefit of the trade is a capital expenditure and not a revenue expendi ture.
The question is one of fact and each case has to be considered on its own merits
Held, therefore, that "protection" fees or fees paid for "stopping competition" are expenditure of a capital nature and not deductable under section 10 (2) (xvi), Income‑tax Act.
The assessee company, apart from paying rents and royalties to Government for right to quarry limestone in certain areas for the purpose of manufacturing cement, paid to Government annually a certain sum as "protection" fees for securing from Government a covenant that they (the Government) would not grant any lease permit or prospecting licence to any other party in respect of limestone in another quarry without a condition that limestone quarried by such other party was not to be used by it for the manufacture of cement:
Held, that the sum paid by the company as "protection" fees was a capital and not a revenue expenditure.
Messrs Assam‑Bengal Cement Co. Ltd. v. Commissioner of income‑tax West Bengal A I R 1955 S C 89 fol.
Messrs Mohan Lal Hargovind of Jubbulpore v. Commissioner of Income‑tax, C. P. and Berar, Nagpur P L D 1949 P C 147 distinguished.
British Insulated and Helsby Cables, Ltd. v. Atherton 1926 C 205 ; R. S. Munshi Gulab Singh 8c Sons v. Commissioner of income‑tax, Lahore A I R 1947 Lah. 82 ; Benarsi Dass Jagannath of Amritsar v. Commissioner of Income‑tax A I R 1947 Lah. 162 ; In re The century Spinning and Manufacturing Co. Ltd AIR 1947 Bom. 445 ; The Jagat Bus Service, Saharanpur v. Commissioner of Income‑tax, U. P. and Ajmer‑Merwara, Lucknow A I R 1950 All. 295 ; The Commissioner of Income‑tax, Bombay v. The Finlay Mills Ltd. A I R 1951 S C 464 and Commissioner of Income‑tax, Calcutta v. Piggot Chapman & Co. A I R 1952 Cal. 414 considered.
R. R. Guha and Md. Moazzem Hossain for Applicant.
A. F. M. Mesbahuddin & Abdul Matin Khan Chowdhury for Respondent.
This is a reference under section 66 (1) of the Income‑tax Act.
The facts leading up to this reference are as follows : For the year 1948‑49, 1949‑50, 1950‑51 and 1951‑52 assessments to income‑tax were made on the Firm of Messrs Assam‑Bengal Cement Co. Ltd., Calcutta (hereinafter referred to as the Company) in respect of the income derived by it from business. How the company started its business has been stated in the letter of reference as follows:
"On the 14th November 1938, the appellant company acquired from the Government of Assam a lease of certain limestone quarries, known as the Komorah quarries situated in the Khasi and Jaintia Hills District for the purpose of carrying on the manufacture of cement. The lease was for 20 years commencing on the 1st November 1938, and ending on the 31st October 1958, with a clause for renewal for a further term of 20 years. The rent reserved was a half‑yearly rent certain of Rs. 3,000 for the first two years and thereafter a half‑yearly rent certain of Rs. 6,000 with the provision for payment of further royalties in certain events. In addition to these rents and royalties two further sums were payable under the special covenants contained in clauses 4 and 5 of the lease as protection fees'. Under clause 4 the protection was in respect of another group of quarries called the Durgasil area, the lessor undertaking not to grant any lease, permit or prospecting licence regarding the limestone to any other party therein without a condition that no limestone should be used for the manufacture of cement in consideration of a sum of Rs. 5,000 payable annually during the whole period of the lease under clause 5 of further protection was given in respect of the whole of the Khasi and Jamtia Hills District, a similar undertaking being given by the lessor in consideration of a sum of Rs. 35,000 payable annually but only for 5 years from the 15th November 1940."
For the aforesaid assessment years the Company claimed to deduct the sums paid by them each year under the aforesaid clauses 4 and 5 of the lease in the computation of its business profit under the provisions of section 10 (2) (xvi) of the Income‑tax Act. The Income‑tax Officer, the Appellate Assistant Commissioner and the Income‑tax Appellate Tribunal rejected the claim for exemption and hence the following question Was referred to this court by the Tribunal at the instance of the company.
"Whether in the circumstances of the case the two sums of Rs. 5,000 and Rs. 35,000 paid under clauses 4 and 5 of the deed dated 14th November, 1938, were rightly disallowed as being expenditure of capital nature "
The said clauses 4 and 5 are as follows:
"4. The lessee shall pay to the lessor Rs. 5,000 (Rupees five thousand) only annually during the period of the lease on November 15th starting from November 15th, 1938, as a protection fee. In consideration of this protection fee the lessor undertake not to allow any person or company any lease permit or prospecting licence for limestone in the group of quarries as described in Schedule 2 and delienated in the plan thereto annexed and therein coloured blue called the Durgasil area without a condition in such lease permit or prospecting licence that no limestone shall be used for the manufacture of cement.
In the event of any quarry in the Durgasil area not being worked the lessor may allow the lessee to work such quarries under the terms and conditions of working in force for this area.
5. Besides the above protection fee the lessee shall pay to the lessor annually the sum of Rs. 35,000 (Rupees thirty‑five thousand) only for five years starting from the 15th November 1940, as a further protection fee so long as the total amount of limestone quarried by the lessee in a year does not exceed 22,00,000 maunds per year whether quarried in the area of this lease or elsewhere or obtained by purchase from other quarries in the Khasi and Jaintia Hills by the lessees. If however in any year the total amount of limestone converted into cement at the lessee's Sylhet Factory exceeds 22,00,000 maunds the lessee will be entitled to an abatement at the rate of Rs. 20 for every 1,000 maunds quarried in excess of 22,00,000 maunds and the lessee shall pay the sum of Rs. 35,000 less the abatement calculated on the basis hereinbefore mentioned. Limestone which is not converted into cement at the lessee's Factory in Sylhet District will not entitle the lessee to any abatement in the protection fee. The lessor in consideration of the said payment undertakes not to allow any person or company any lease permit or prospecting licence for limestone in the whole of Khasi and Jaintia Hills District without a condition in such lease permit or prospecting licence that no limestone extracted shall be used directly or indirectly for the manufacture of cement. The lessor will be empowered to terminate this agreement for the payment of a protection fee at any time after it has run for 5 years by giving six months notice in writing by registered letter addressed to 11 Clive Street Calcutta but the lessee will not be entitled to terminate this agreement during the currency of the lease except with the consent of the lessor."
We may mention here that the company once before raised the identical question in the assessment for the assessment year 1945-46 and 1946‑41 and the Tribunal ultimately referred a similar question to the Calcutta High Court. The High Court answered the question in the affirmative. The Company then went up on appeal to the Supreme Court in Messrs Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income‑tax, West Bengal (AIR 1955 S C 89) and the Supreme Court agreed with the conclusion of the High Court and dismissed the appeal.
Mr. Guha, the learned Advocate for the Company, has attempted to argue that the Courts in India have not correctly answered this question. He has contended that, while con sidering whether an expenditure is of a capital nature or of a revenue nature, one should remember the dictum laid down by Viscount Cave L. C. in the case of British Insulated and Halsby Cables, Limited v. Atherton (1926. A C 205)
"An asset or an advantage obtained for the enduring benefit of the trade is a capital expenditure and not a revenue expendi ture."
According to him, under the above clauses, the lessor was entitled to terminate the guarantee clause after 5 years and hence the advantage could not be regarded as one of enduring benefit. He has further argued that the aforesaid clauses 4 and 5 gave a sort of protection and guarantee for the cement manufacturing business of the country and for averting rival business and hence the amounts payable under the above clauses are to be regarded as one of revenue nature. In short, his contention is that when payments are made for stopping competition such payments are to be regarded as revenue expenditure. In support of his contention he has relied on the following decisions:
(1) British Insulated and Helsby Cables, Ltd. v. Atherton 1926 A C 205.
(2) R. S. Munshi Gulab Singh & Sons v. Commissioner of Income‑tax, Lahore A I R 1947 Lah. 82.
(3) Benarsi Dass Jagannath of Amritsar v. Commissioner of Income‑tax A I R 1947 Lah. 162.
(4) In re The Century Spinning and Manufacturing Co. Ltd. A I R 1947 Bom 445.
(5) Messrs Mohanlal Hargovind of Jubbulpore v. Commissioner of Income‑tax, C. P. and Berar, Nagpur A I R 1949 P C 311= PLD1949PC147.
(6) The Jagat Bus Service, Saharanpur v. Commissioner of Income‑tax, U. P. and Ajmer‑Merwara, Lucknow A I R 1950 All. 295.
(7) The Commissioner of Income‑tax, Bombay v. The Finlay Mills Ltd. A I R 1951 S C 464.
(8) Commissioner of Income‑tax, Calcutta v. Piggot Chapman &Co.AIR1952Cal.414.
All the above decisions save and except the one in A I R 1949 P C 311=P L D 1949 P C 147 were considered by the Supreme Court
Of India. In the case of Messts Mohanlal Hargovind of Jubbulpore v. Commissioner of income‑tax, C. P. and Berar, Nagpur the assessee a ppellant carried on business as manufacturer and vendors of country made cigarettes. They obtained tendu leaves which they required for rolling of the tobacco by entering into a short duration contract with the Government and other owners of forests. The expenditure of acquiring tendu leaves was claimed by them as permissible deduction under section 10 (2) (xii) as it was an expenditure laid out or expended wholly or exclusively for the purpose of business. This claim was disallowed by the Income‑tax Officer and his order was confirmed successively by the Appellate Assistant Commissioner and the Income‑tax Appellate Tribunal and the question referred to the High Court at the instance of the assessee‑company was whether the assessee‑company was entitled to the deduction in question. The High Court answered the question in the negative and the matter ultimately went to the Privy Council. The Privy Council, after referring to the agreement entered into by the Company for acquiring tendu leaves from the forests and to the facts of the case, came to the conclusion that the expenditure of this character made in acquiring one of the raw materials was not a capital expenditure within the meaning of the Income‑tax Act. According to their Lordships of the Privy Council, this expenditure was one of revenue account and not of capital account. In the above case the appellant‑company instead of buying tendu leaves from a shop went and fetched it from the forest under different contract. Hence, obviously, the amount paid for acquiring those leaves could not be regarded as a capital expenditure. Thus the above case can in no sense be regarded as comparable to the present case.
Here we may mention that the Supreme Court of India after Observing that the test laid down by Viscount Cave has been adopted almost universally in India referred to the Indian cases including those on which Mr. Guha has relied. After quoting the opinion of Mahajan, J. in A I R 1947 Lah. 162 (F B), the Court observed:
"This synthesis attempted by the Full Bench of the Lahore High Court truly enunciates the principles which emerge from the authorities".
Then after discussing the line of demarcation between the capital expenditure and revenue expenditure, the Court observed:
"One has therefore got to apply this criteria, one after the other from the business point of view and come to a conclusion whether on a fair appreciation of the whole situation the expenditure incurred in a particular case is of the nature of capital expenditure or revenue expenditure in which latter event only it would be a deductable allowance under section 10 (2) (xv) of the Income‑tax Act. The question has all along been considered to be a question of fact to be determined by the Income‑tax Authorities on an application of the broad principles laid down above and the Courts of Law would not ordinarily interfere with such findings of fact if they have been arrived at on a proper application of those principles".
Mr. Guha seems to think that the judgments of Mahajan, J. in A I R 1947 Lah. At pages 82 and 162 support him. It will suffice to say that Mahajan, J. who was a party to the Supreme judgment did not subscribe to that view. In our opinion the Allahabad, Bombay and Calcutta cases on which Mr. Guha has relied is not of much assistance to him. As observed by Viscount Cave and also by the Supreme Court of India, the question always is one of fact depending upon the circumstances each case individually. In other words, whether an item of expenditure is revenue expenditure or capital expenditure depends on a variety of circumstances. In the above Allahabad, Calcutta and Bombay cases, the Court, on the special facts of each case and on the interpretation of particular contracts, came to the conclusion that a certain type of expenditure was revenue expenditure. In the instant case, the facts being otherwise, those cases are not of much assistance to the assessee. The broad principle laid down in those cases has, however, been considered by the Supreme Court of India in arriving at their decision. Similarly, the decision in A I R 1951 S C 464 also does not support Mr. Guha s contention.
Besides the cases referred to by Mr. Guha, the Supreme Court of India has considered the following cases in arriving at their conclusion:
(1) Dovey v. Cory 1901 A C 477.
(2) Countess Warwick Steamship Co. Ltd. v. Ogg (1924) 2 K B 292.
(3) City of London Contract Corpn. v. Styles (1887) 2 Tax Cases 239.
(4) Vallambrosa Rubber Co. Ltd. v. Farmer, Surveyor of Taxws (1910) 5 Tax Cases 529.
(5) Ounsworth (Surveyor of Taxes) v. Vickers Ltd. (1915) 6 Tax Cases 671.
(6) Usher's Wiltshire Brewery, Ltd. v. Bruce (1914) 6 Tax Cases 399.
(7) Anglo‑Persian Oil Co. Ltd. v. Dale (1932) 1 K B 124.
(8) Hancock v. General Reversionary and Investment Co. Ltd., (1919) 1 K B 25.
(9) Mitchell v. B. W. Noble, Ltd. (1927) 1 K B 719.
(10) Mallet v. Staveley Coal and Iron Co. (1928) 2 K B 405.
(11) Golden Horse Shoe (New) v. Thurgood (H. M. Inspector of Taxes) (1934) 18 Tax Cases 280.
(12) Smith v. Incorporated Council of Law Reporting for England and Wales (1914) 3 K B 674.
(13) Van Den Berghs, Ltd. v. Clark (H. M. Inspector of Taxes (1935) 19 Tax Cases 390.
(14) Tata Hydro‑Electric Agencies, Ltd. Bombay v. Commissioner of Income‑tax, Bombay Presidency and Aden A I R 1937 P C 139.
(15) United Collieries Ltd. v. Inland Revenue Commissioners 1930 S C 215.
(16) Southern v. Borax Consolidated Ltd. (1942) 10 I T R Suppl. 1.
(17) Commissioners of Inland Revenue v. Granite City Steamship Co. (1927) 13 Tax Cases 1.
(18) Henricksen (Inspector of Taxes) v. Grafton Hotel Ltd., (1942) 2 K B 184.
After referring to these string of decisions, they observed:
"(30) These are the principles which have to be applied order to determine whether in the present case the expenditure incurred by the Company was capital expenditure or revenue expenditure. Under clause 4 of the deed the lessors undertook not to grant any lease, permit or prospecting license regarding limestone to any other party in respect of the group of quarries called the Durgasil area without a condition therein that no limestone shall be used for the manufacture of cement. The consideration of Rs. 5,000 per annum was to be paid by the Company to the lessor during the whole period of the lease and this advantage or benefit was to enure for the whole period of the lease.
It was an enduring benefit for the benefit of the whole of the business of the Company and come well within the test laid down by Viscount Cave. It was not a lump sum payment but was "spread over the whole period of the lease and it could be urged that it was a recurring payment. The fact however that it was a recurring payment was immaterial, because one had got to look to the nature of the payment which in its turn was determined by the nature of the asset which the company had acquired. The asset which the Company had acquired in consideration of this recurring payment was in the nature of a capital asset, the right to carry on its business unfettered by any competition from outsiders within the area.
It was a protection acquired by the Company for its business as a whole. It was not a part of the working of the business but went to appreciate the whole of the capital asset and make it more profit yielding. The expenditure made by the Company in acquiring this advantage which was certainly an enduring advantage was thus of the nature of capital expenditure and was not an allowable deduction under section 10 (2) (xv) of the Income‑tax Act.
(31) The further protection fee which was paid by the Company to the lessor under clause 5 of the deed was also of a similar nature. It was no doubt spread over a period of 5 years but the advantage which the Company got as a result of the payment was to enure for its benefit for the whole of the period of the lease unless determined in the manner provided in the last part of the Clause. It provided protection to the Company against all competitors in the whole of the Khasi and Jaintia Hills District and the capital asset which the Company acquired under the lease was thereby appreciated to a considerable extent".
We entirely agree with the above observations. In our opinion; the decision of the Supreme Court of India in the case of Messrs Assam‑Bengal Cement Co. Ltd. v. Commissioner of Income‑tax West Bengal referred to above is correct. We, therefore, on the facts arising in this particular case and on the interpretation of the term of the contract as evidenced by the lease, hold that the amounts in question are not items of revenue expenditure but are items of capital expenditure and hence not allowable as an admissible deduction under section 10 (2) (xvi) of Income‑tax Act.
The question raised, therefore, must be answered in the affirmative.
The respondent would be entitled to the costs of the hearing in this Court.
A. H. Reference answered
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