Commissioner of Income Tax vs Bharat Earth Movers Ltd. Bharat Earth Movers Ltd. Vs Commissioner of Income Tax

Jagannatha Shetty, J.—These four references are under s. 256(1) of the I.T. Act, 1961 (Shortly ""the Act""). The Income Tax Appellate

Tribunal in a lengthy statement of the case has referred six questions.

To state briefly, the facts and the questions are these :

Bharat Earth Movers Ltd. (BEML) is the assessee herein and the assessment year is 1965-66. It is a company wholly owned by the Government

of India. It was incorporated on May 11, 1964. Hindustan Aeronautics Ltd. (HAL) is another company, also owned by the Government of India.

This HAL among others was engaged in the manufacture and sale of rail coaches. It had a separate Rail Coach Division.

On October 27, 1962, the President of India entered into a collaboration agreement with Le Tourneau Westinghouse Company, USA

(WABCO), for manufacture of Heavy Earth Moving Equipment. Initially that agreement was transferred to HAL as it had enough facilities to

undertake the preliminary work of the project. It was agreed that HAL should ultimately transfer that work to BEML after its incorporation. With

that understanding, HAL did some work by starting an Earth Mover Division.

With effect from January 1, 1965, the Rail Coach Division of HAL, as a going concern, was transferred to BEML. BEML took over the

developmental expenditure amounting to Rs. 3,21,485 from HAL and paid an equivalent amount as consideration therefore It represented the

unabsorbed expenditure incurred by HAL earlier to April 1, 1962, towards design and development of various models of integral coaches which

were taken over by BEML.

The first year of account of BEML ended on March 31, 1965, and 1965-66 was the first year of assessment to Income Tax. In the first return

of income filed by BEML, the assessee claimed deduction of Rs. 78,400 on amortization basis, treating the sum of Rs. 3,21,485 as deferred

revenue expenditure. To put it in laconic details, out of the said sum of Rs. 3,21,485, in addition to what the assessee had itself spent,the assessee

claimed a deduction of Rs. 78,400 for the assessment year 1965-66. It claimed a deduction of Rs. 2,20,800 for the assessment year 1966-67 and

a further deduction of Rs. 22,939 for the assessment year 1967-68. The basis of these successive claims was that the transfer of the Rail Coach

Division to the assessee was a transfer of a going concern including capital as well as revenue assets like raw material, finished goods, etc., and,

consequently, the expenditure charged in the books (not a capital expenditure) to be amortized on the coaches to be manufactured thereafter

should be given the same treatment as raw material acquired along with the going concern.

Before the completion of the assessment, the assessee had a second thought over the matter. It filed a revised return alternatively claiming the

entire sum Rs. 3,21,485 as a deduction in the assessment year 1965-66. But the ITO did not consider the latter claim.He considered only the

earlier claim for deduction of Rs. 78,400 in the assessment year 1965-66 and he disallowed it.

The assessee appealed to the AAC. The AAC was sympathetic if not generous towards the claim of the assessee. He found substance in the

contention urged by the assessee on the claim based on amortisation basis and gave two reasons to allow Rs. 78,400 in the assessment year

1965-66 : (i) the benefit of the initial development expenditure has accrued over several years to the assesses company; and (ii) in the case of

HAL, similar claims have been allowed by the Department. So stating, he directed the ITO to allow deduction of Rs. 78,400 on amortisation

basis.

The Revenue filed an appeal to the Appellate Tribunal. The Appellate Tribunal set aside the allowance granted by the AAC on amortisation

basis in respect of the said development expenditure on rail coach division and restored the order of the ITO in this regard.

The Tribunal noted the contentions urged by the assessee in this regard in paras 7 and 8 of the statement of case which are as follows :

As regards the claim for amortisation, the Appellate Assistant Commissioner noted that the expenditure of Rs. 3,21,485 represented

unabsorbed revenue expenditure mainly incurred prior to April 1, 1962, towards the design and development of various models of integral

coaches. This expenditure had been incurred by HAL, but the corresponding receipt was reflected as an element in the sales of models of rail

coaches made and sold by the assesses company during the year ended March 31, 1965. It was urged before him that the transfer of the rail

coach division by the HAL to the assessee was as a going concern and on the date of the transfer, the HAL had in its rail coach division embarked

upon the integral coach project and the diesel car project and had spent the amount of Rs. 3,21,485 which had been debited to the corresponding

development suspense account. It was urged that the assessee had got the benefit of this expenditure on taking over the rail coach division and,

therefore, the assessee had claimed the amount on amortisation basis.

.........It was urged that in respect of the rail coach division, the material and labour utilised towards the design and development of the various

models of integral coaches had resulted in revenue expenditure even when the HAL was dealing with this division. All that the assessee had done

was that it amortised the revenue expenditure over the number of particular models expected to be manufactured in each year and debited the

same to the profit and loss account as and when such coaches were sold. It was pointed out that the amortisation basis had been adopted by the

HAL in its own Income Tax assessment and had been accepted by the Department. The Appellate Assistant Commissioner accepted the

assessee''s contention that in respect of rail coach division, the amount should be allowed on amortisation basis and allowed Rs. 78,400 in the

assessment year 1965-66.

The basis for the Tribunal''s decision against the assessee as noted in para 25 of its order (summarised in para 10 of the statement of case) is

as follows :

We are of opinion that there is no legal authority for allowing revenue expenditure on deferred basis or on amortisation. In Hindustan Commercial

Bank Ltd., In re Chatter Singh Vs. The State, , the Allahabad High Court had held that there was no provision in the Income Tax Act for

spreading out the revenue expenditure.No ruling taking a contrary view has been cited before us. The mere fact that due to certain historical

reasons, amortisation of development expenditure was allowed in HAL''s case does not justify the same being done in the assessee''s own case.

There is no legal authority for allowing revenue expenditure on development of designs, research, etc., on amortisation basis even though the

practice inherited by the assessee from HAL is to take the development expenses to a suspense account and to include part of it in the price of

each item.

On the above facts, the Tribunal has referred the following questions :

Question No. (ii) :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in disallowing the claim of the assessee for deduction of Rs.

78,400 on an amortised basis, representing unabsorbed revenue expenditure incurred by the assessee on account of its rail coach division ?

Question No. (iv) :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in disallowing the assessee''s claim for deduction as revenue

expenditure of a sum of Rs. 3,21,485 representing unabsorbed revenue expenditure incurred on account of its rail coach division ?

As stated earlier, HAL executed preliminary works relating to the manufacture of Heavy Earth Moving Equipment under a collaboration

agreement with WABCO. HAL perhaps acted as an agent of BEML till the latter was incorporated and also for some time later. HAL continued

its work in regard to this project till December 31, 1964, although BEML was incorporated and started functioning on May 11, 1964. This entire

project was handed over to BEML with all its assets and liabilities with effect from January 1, 1965. Of course, it was not a going concern like that

of the Rail Coach Division. As stated earlier, the assessee closed its accounts for the first time on March 31, 1965.

A sum of Rs 18,53,023 was incurred by HAL in connection with the preliminary work on the project of Earth Mover Division. In the first

return, the assessee treated the said sum of Rs. 18,53,023 being the expenditure initially incurred by HAL and paid for by the assessee as a

deferred revenue expenditure for the assessment year 1965-66. Out of the said sum, the assessee claimed a deduction of Rs. 3,59,510 on

amortisation basis. Before the completion of the assessment, the assessee filed a revised return claiming the entire sum of Rs. 18,53,023 as a

deduction. The ITO did not consider the latter claim. He held that the expenditure incurred by HAL before the date of incorporation of BEML

cannot be allowed as an admissible deduction in computing the income. He also disallowed the claim of Rs. 3,59,510 made on amortisation basis.

The assessee appealed to the AAC. The AAC rejected the assessee''s claim of Rs. 3,59,510. The AAC was of the opinion that the main

manufacturing project in the Earth Mover Division did not fructify during the year in question although production in the form of assembling some

items was done. This was the main reason for rejecting the claim of Rs. 3,59,510 made on amortisation basis.

The assessee appealed to the Appellate Tribunal and the Tribunal upheld the order of the AAC by taking altogether a different view. So far as

the technical assistance fee paid to WABCO, the Tribunal held that it should be considered as an expenditure of capital nature to the extent to

which it represents payment for any capital assets. Accordingly, the Tribunal directed that depreciation allowance shall be allowed in respect of

designs, data, documents, etc., taken over by BEML from HAL. In regard to the remaining portion in the sum of Rs. 18,53,023 claimed for

deduction, the Tribunal held that it was spent by HAL on training the officers, their travel expenses, etc., and, therefore, cannot be allowed to the

assessee. That was disallowed mainly on the ground that the experience gained by the officers taken over by the assessee was an asset of

intangible nature.

On the above findings, the Appellate Tribunal has referred the following two questions :

Question No. (v) :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in disallowing the assessee''s claim for deduction in full of the

revenue expenditure of Rs. 18,53,023 representing the payment made to Hindustan Aircraft (Aeronautics) Ltd. on account of its Earth Mover

Division during the relevant previous year ?

Question No. (vi) :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in disallowing even the alternative claim of the assessee for

deduction of the sum of Rs. 3,59,510 on an amortised basis ?

The assessee during the previous year relevant to the assessment year 1965-66 paid a sum of Rs. 4,79,750 to Messrs Le Tourneau

Westinghouse of USA (WABCO) as technical assistance fee. This was allowed by the ITO as a deduction. But the ITO disallowed a similar

payment for the assessment year 1967-68, treating the payment as a capital expenditure. The assessee appealed to the AAC against this

conclusion. For the assessment years 1965-66 and 1966-67, the assessee preferred an appeal to the AAC in respect of matters decided against

it. During the course of the hearing of the assessee''s appeal for the assessment year 1965-66, the ITO made a plea to the AAC requesting him to

enhance the assessment by disallowing the technical assistance fee of Rs. 4,79,750 which was wrongly allowed as a deduction by him. But the

AAC in disposing of the appeal for the assessment year 1967-68 held that the payment of technical assistance fee was a revenue expenditure.

Hence, the AAC did not find it necessary to entertain the ITO''s plea for enhancement for the assessment year 1965-68 held that the technical

assistance fee was a capital expenditure, Accordingly, the Tribunal directed the AAC to entertain the ITO''s plea for enhancement for the

assessment year 1965-66, and decided the issue on the basis of the Tribunal''s decision for the assessment year 1967-68.

On the above facts, the Tribunal has referred the following question :

Question No. (iii) :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in assuming jurisdiction on the question of refusal of the

Appellate Assistant Commissioner to enhance the assessment and in giving directions to the Appellate Assistant Commissioner to re-decide the

Income Tax Officer''s plea for enhancement of assessment in respect of technical assistance fee of Rs. 4,79,750 paid by the assessee to WABCO

in the light of the Tribunal''s decision in the appeal for the assessment year 1967-68 that the technical assistance fee was a capital expenditure ?

The Tribunal after having held that the sum of Rs. 3,21,485 and a major portion of the sum of Rs. 18,53,023 were capital expenditure, then

observed, as it ought to, that the assessee was entitled to depreciation allowance on the cost of drawings, patterns, designs, etc., included in the

said two sums on the basis that they are ""plant"" within the meaning of s. 32 of the Act. At the instance of the Revenue, the Appellate Tribunal on

the above finding has referred the following question of law :

Question No. (i) :

Whether, on the facts and in the circumstances of the case, the Appellate Tribunal is right in holding that the assessee was entitled to depreciation

allowance on the cost of drawings, patterns, designs, etc., on the basis that they are plant within the meaning of section 32 ?

The facts behind the legal formulations having been thus summarised, we may take up question No. (iv) first for consideration :

Question No. (iv) :

This pertains to the expenditure incurred in connection with the Rail Coach Division. BEML made payment of Rs. 3,21,485 representing

development expenditure incurred by HAL earlier to April 1, 1962. To put it in other words, this payment was towards the unabsorbed expenses

mainly incurred by HAL towards design and development of various models of integral coaches. This payment was required to be made as per the

financial arrangement worked out by the Government of India and agreed upon by HAL and BEML. The President of India in the letter dated

September 20, 1964, written to the Chairman of HAL and the Secretary to BEML approved the transfer of Rail Coach Division to BEML with

the following procedure :

The formal procedure to be followed for the transfer shall consist of the Hindustan Aircraft Limited selling the Rail Coach Division to the President

and the President thereafter reselling the same to Bharat Earth Movers Limited. The amount payable to HAL by the President as the price of the

Rail Coach Division will be adjusted against the loans outstanding from Hindustan Aircraft Limited to Government. The balance of the amount, if

any, will be adjusted against the future capital requirements of that company. The amount payable by Bharat Earth Movers Limited to the President

will be adjusted against the sale of additional shares to be issued by that company for the purpose in favour of the President.

Before the said letter was received, the board of directors of HAL and the board of directors of BEML in their respective meetings held on

June 11, 1964, decided to accept the decision of the Government of India and the procedure to be followed to give formal effect to the transfer of

the Rail Coach Division.

Accordingly, BEML took over the Rail Coach Division as going concern after making the required payment, out of which a sum of Rs.

3,21,485 represented unabsorbed revenue expenditure incurred by HAL. The HAL did not claim it as business expenditure in the earlier years,

and indeed HAL could not have claimed it, since it has been undisputedly following the amortisation principle of accountancy. But that, in our

opinion, is no bar or BEML to claim it in toto in the assessment year in question as business expenditure, since the amount was admittedly paid in

the relevant year for the purpose of its business.

The decision of this court in Mysore Tobacco Co. Ltd. Vs. Commissioner of Income Tax, Karnataka-II, Bangalore, , on which Mr.

Srinivasan, learned counsel for the Department, strongly relied in this context, is clearly distinguishable. The principle stated therein is that what is

liable to be claimed as a deduction in the earlier years of assessment cannot be claimed in a subsequent year. It is true that under the Act, the

expenditure incurred in the previous year and liable to be claimed as a deduction in that year cannot be aggregated and claimed n a subsequent

year. But this orthodox principle is applicable only to the same assessee and cannot legitimately be extended to this case. Here we are concerned

with the expenses to be allowed to BEML and not for HAL. So long as that payment as revenue expenditure by BEML is not in dispute and

indeed cannot be disputed, we fail to see why it cannot be allowed as deduction in its assessment.

The main reason given by the Tribunal for disallowing this claim is that the assets taken over by BEML in consideration for the payment of Rs.

3,21,485 were mainly of an intangible nature. This inference, on the facts found, appears to be inaccurate. BEML paid that amount towards

unabsorbed expenditure incurred by HAL on development of designs, development, etc., of various models of rail coaches taken over by BEML.

It is said that in the case of HAL, similar claims have been allowed by the Department accepting the claim of BEML to the extent of the amount

expended by it during the accounting year relevant to the assessment year. The question No. (iv) is, therefore, answered in the negative and in

favour of the assessee.

In the view that we have taken, question No. (ii) relating to the assessee''s claim for disallowance based on amortisation basis in respect of Rail

Coach Division does not call for an answer.

Question No. (v) :

The claim of BEML under this question is similar to the one considered in question No. (iv) It relates to the sum of Rs. 18,53,023 paid by BEML

to HAL on account of development expenditure in Earth Mover Division. While disallowing this claim, the Tribunal has observed that a major

portion of that payment pertains to he technical assistance fee paid by HAL to M/s. WABCO collaborators and it was an expenditure of a capital

nature in respect of which depreciation could be allowed to the assessee. In reaching this conclusion, the Tribunal has followed the decision of this

court in Mysore Kirloskar Ltd. Vs. Commissioner of Income Tax, Mysore, . The Tribunal observed thus :

A major portion of the development expenditure pertains to the technical assistance fee paid by HAL to the collaborators. That we have already

held to be expenditure of a capital nature on which depreciation has to be allowed to a limited extent following the Gujarat High Court ruling in

Elecon Engineering Co. on documents, data, design, etc., treating them as plant. In so far as the assessee has received them from HAL and paid

for them, it shall be entitled to depreciation. For intangible assets taken over and paid for, the assessee is not entitled to claim revenue deduction

because though the assessee paid for it in this year, i.e., assessment year 1965-66, in fact, the expenditure had been incurred in earlier years.

We, therefore, reject the assessee''s claim for deduction of research and development expenditure paid for by the assessee to HAL but direct that

depreciation shall be allowed as directed in para. 22 above in respect of designs, data, documents, etc., taken over by the assessee from HAL.,

It is true, drawing and designs are in the nature of ""plant"" and, therefore, the consideration paid for that purpose could be in the nature of

capital expenditure. This court in Nippon Electronics (P.) Ltd. Vs. Commissioner of Income Tax, Karnataka, has taken that view. Similar view has

been taken by the Bombay High Court in Commissioner of Income Tax, Bombay City-II Vs. Emco Electro Pvt. Ltd., and the Madras High Court

in Commissioner of Income Tax, Tamil Nadu-V Vs. Festo Elgi Pvt. Ltd., These decision proceeded on the basis that the word ""plant"" used in s.

43(3) of the Act should be given the meaning of the widest amplitude and there is no reason to exclude the drawings, patterns, designs, etc., which

are embodiments of know-how. When once it is treated as plant, there cannot be any dispute regarding depreciation allowance to be allowed as

provided under s. 32 of the Act.

But, in the instant case, we need not go thus far to take up that line of reasoning. The decision of this court in Mysore Kirloskar Ltd. Vs.

Commissioner of Income Tax, Mysore, , on which the Tribunal has relied in support of its conclusion has since been overruled by the Full Bench

decision for this court in Mysore Kirloskar Ltd. Vs. The Commissioner of Income Tax, Bangalore, . The Full Bench has taken the view that

payments made under the agreement of acquisition of technical know-how should be considered as business expenditure. After referring to the

relevant agreement in that case and applying the ratio of the decision of the Supreme Court in Commissioner of Income Tax, Bombay Vs. Ciba of

India Ltd., this court observed at p. 450 :

Read as whole, it is seen that under the agreement the assessee acquired merely the right to draw for the purpose of carrying on its business as a

manufacturer of certain articles upon the technical knowledge of the foreign company for a limited period. The foreign company did not part with

any of its assets absolutely for ever or for any limited period of time. It continued to have right of user of its knowledge : even after the agreement

had run its course, its right in this behalf was not lost. The assessee did not acquire any right to the user of the name ""HERBERT"" in regard to the

products even if the agreement had run its course. Actually, it could not use that name and had to discontinue such user or associating that name

with the product to be manufactured thereafter. In the words of the Supreme Court in Commissioner of Income Tax, Bombay Vs. Ciba of India

Ltd., , ''by making that technical knowledge available, the foreign company did not part with any asset of its business, nor did the assessee acquire

any asset of advantage of an enduring nature for the benefit of its business''.

The agreement with M/s. WABCO collaborators in the instant case for imparting technical know-how is of similar pattern that was considered

by this court in the said Full Bench decision. The payment made herein towards technical assistance fee must, therefore, be regarded as revenue

expenditure. It may also be stated that similar amount paid by BEML to WABCO collaborators after its incorporation has been allowed by the

ITO as revenue expenditure.

As to the other reason given by the Tribunal in this context, it is equally untenable. The Tribunal has observed that the assesses company was

not manufacturing any article or any type of earth moving equipment before entering into the collaboration agreement and it obtained drawings and

designs by way of technical assistance for initial outlay of the business. The Tribunal appears to have made a distinction between initial outlay of

expenditure and current needs of he business of the assessee. We do not think that there is any justification for making of the assessee. We do not

think that there is any justification for making a distinction between initial investment to commence business and current expenses for continuing

production. The Madras High Court in Commissioner of Income Tax Vs. Ashok Leyland Ltd., and in Commissioner of Income Tax, Tamil Nadu-

III Vs. Sundaram Clayton Ltd., , has observed that the nature of expenditure is not dependent upon the time at which the relevant agreement came

into existence and the quality of the expenditure will have to be tested with reference to the object for which it was incurred. The Delhi High Court

in Shriram Refrigeration Industries Ltd. v. CIT [1981] 127 ITR 745, has observed that it is sufficient if the payments were made with a view to

have access to knowledge and information that is necessary to carry on and run the business from day to day and it is not of much significance

whether the foreign collaboration agreement was entered into at the time of commencement of the business or in the course of the business which

was already being carried on.

We also share this view. The distinction sought to be made by the Tribunal appears to be without a difference. The nature of the expenditure

for obtaining technical know-how cannot ordinarily depend upon the time at which the collaboration agreement came into existence. It only

depends upon the purpose for which it was entered into and the benefits derived therefrom. Apart from that, since technical assistance fee is

revenue expenditure as held by the Full Bench decision of this court in Mysore Kirloskar''s case [1978] 214 ITR 443, which is binding on us, the

view taken by the Tribunal cannot, therefore, be sustained.

This dispose of a major portion in the sum of Rs. 18,53,023 claimed by the assessee for deduction. What remains to be considered in question

No. (v) is the nature of the amount paid by BEML to HAL towards the expenditure incurred by the latter on training the officers taken over by the

former. The Tribunal rejected this part of the claim for deduction primarily on the ground that the experience gained by the officers taken over by

BEML was an asset of intangible nature and that expenditure had been incurred by HAL in the earlier years. This reasoning, in our opinion,

appears to be reasonable and Mr. Kumar for the assessee also did not seriously dispute it.

With this modification question No. (v) is answered in the negative and in favour of the assessee.

So question No. (vi) relating to the alternative claim of the assessee for deduction of the sum of Rs. 3,59,510 on amortised basis need not be

answered.

Question No. (iii) :

The question relates to the direction issued by the Tribunal to the AAC to reconsider the ITO''s request for enhancement of assessment in respect

of technical assistance fee of Rs. 4,79,750 paid by BEML to WABCO collaborators for the assessment year 1965-66. The Tribunal gave the

direction on the basis that the amount paid as technical assistance fee should be considered as capital expenditure. As we have earlier observed

that the technical assistance fee paid by the assessee is a revenue expenditure,it is needless to state that this question has to be answered in the

negative and in favour of the assessee. We accordingly answer the question.

Question No. (i) :

This takes us to question No. (i) which has been referred at the instance of the Revenue. This question again relates to the amount paid by BEML

to WABCO collaborators as technical assistance fee in respect of which the Tribunal directed depreciation allowance on cost of drawings,

patterns, designs, etc., on the basis that they are ""plant"" within the meaning of s. 32 of the Act. This question also does not call for an answer since

we have already held that the technical assistance fee paid to WABCO collaborators should be considered as revenue expenditure.

The Tribunal will suitably modify the order.

In the circumstances of the case, we make no order as to costs.