Commissioner of Income-Tax, Madras v. M/s. Ashok Leyland Ltd.

Judgment

The Judgment of the Court was delivered by HEGDE. J. The Commissioner of Income-tax, Madras ij; appealing against the decision of the Madras High Coun in a. Ref~rence under s. 66(2) of the Indian Income-tax Act, 1922 (to• he hereim1fter referred to as the Act) after obtaining certificate of fitness from the High Court. The question before the authorities under the Act was whether· the payment of Rs. 2,50,000/- made by the respondent-asse~ee· which will hereinafter be referred to as the 'company' for the· termination 'of managing agency is an allowable <lcduetion in computing the total income of the company for 1956-57. The Incometax Officer as well as the Appellate Assistant Commissioner reject-· c<l the claim of the Company that it was a Revenue expenditure but the Tribunal in appeal upheld the contenion of the Company. Aggrieved by the decision of the Tribunal, the Commissioner· <lem:inded a case to be stated for obtaining the opinion of the· High Court on the question :

"Whether on the facts and in ihe circum>tanc,s:s of the case the payment of Rs. 2,50,000/- made for the termination of Managing Age11cy is an allowable deduction in computing the total income of the asscs;ec company for 1956-57.'' The Tribunal refused to state the case taking the view that it' findings are findings of fact. Thereafter the Commissioner moved the High Court under s. 66 ( 2) and at the instance of the High· Court, the Tribunal stated the case and submitted the aforementioned question of law to the High Court. But the High Court answered that question in the affirmative and in favour of thc- Company. Let us now have a look at the facts. The assessee was a pub- !ic Limited Co .. originally known as Ashok Motors Ltd. It was mcorporaled on September 7, 1948. The Articles of Association of the Company authorised it to carry on various businesses, such as manufacturers. assemblers· dealers. hirers. repairers of motor cars. motor-cycles, motor buses. lorries. trucks etc. In particular· i(authorised the Company •io import into India Austin Cars amJ other Austin products. to assemble Austin products from their· components. to undertake the progress've manufacture in India. of such parts of Austin products as can under suitable orovisions for such manufacture be manufactured thereto. supply Austinproducts and parts to accredited distributors for resale to the public in India and to provide adequate facilities for the prompt servicing of Austin products in India."

The Company appointed Car Builders Limited, as their managing agents under an agreement dated October 18, 1948 for a term of 14 years from the date of its registration. The managing agents were to be paid at the rate of Rs. 2,000/- per mensem as ,office allowance and 10 per cent of the annual profits with a minimum of Rs. 18,000 per annum in case of inadequacy or .absence of ptofits. Initially the business of the Company consisted in the assembly and sale of Austin cars and Leyland Trucks. During the year 1952, the Government of India referred the question of establishing an Automobile Industry in India to the Tariff Commission. The Company prepared and submitted a comprehensive memorandum to the Tariff Commission for the manufacture of Leyland Trucks. It also participated in the proceedings of the Tariff Commission. The Government instructed the Company to take up the manufacture of Leyland Com}nercial Vehicles.

From April 1954, the Company ceased to assemble Austin Cars in view of the Government decision and engaged itself in the manufacture of Leyland Commercial Vehicles. The progress of the scheme was reviewed by all the Directors on January 24, 1955 when the Union Minister for Commerce and Industry was also present. In the course of the discussion, the Union Minister suggested to the Company to invite Leylands to provide capital as and when required till their holding bore to the existing paid up capital in the ratio of 40/45 to 50/55 per cent subject to a maximum of half a million pounds. The Company was asked to rise the remaining capital in India. The Minister is stated to have assured that the Government would arrange for the required caoital in India but ·that responsibility would be in the nature of contingent liability and that it would accent such a liability only if the Managing Agency is abolished.

The Directors pointed out to the Minister ·that they had already taken steps to tenninate the services of the 1nanaging agents on payment of compensation. On January 29, 1955, by means of an agreement between the Comoany and the managing agents, the managing agency agreement was terminated subject to the condition that the manatZinl! aeents were io be paid compensation in a sum of Rs. 2.50.000/-. The Coinoany paid the said sum during the accountine year ended on December 31. 1955. relevant to the assessm,,nt year 1956-57. ·The Compa~v claimed deduction of the same in it~ assessment as revenue exnenditure laid out wholly and ~xclusively for the purpose of the business in the relevant previous C.I.T. v. ASHOK LEYLAND LTD. (Hegde, J.) 519• year. It may also be mentioned that at about this time the Company entered into an agreement wi!h Leyland Motor Limited, Leyland U.K. for participation of the said concern with the Company for implementing its manufacturing programme.

On the aforementioned facts, the question arises whether the compensation paid to the managing agents can be considered as. an expenditure wholly and exclusively laid out for the purpose of the business or whether the same should lie considered as a capital e\ 1:-en<e. There are numerous decisions of this Court, of the High Courts. b :!1.i1 country tis well as of the courts in England dealing with fae controversy whether an item of expenditure should be consiuprd as a capital expenditure or revenue expenditure. TI1e Act has not defined the expressions "capital expenditure'' and the "revenue expenditurp''. The line that divides revenue expenditure from capital expenditure is often times very thin. Hence the decisi_on5 of courts have not bcoo able to give a quietus to the controversy whether '1:11 item of expenditure is capital or revenue. The general tests to be applied to distinguish capital expenditure from revenue expenditure have been enunciated in various decisions.

There is no difficulty in enumerating those tests. But the difficulty arises when the courts are called upon to apply those tests to a given set of facts. Barring rare exceptions. facts of no two cases are similar. A long line of decisions have laid dowr1 that wlwn an expenditure is made with a view to bring into eXistence an asset or an advantage for the enduring benefit of a trade, there is good reason (in the absence of &pecial circumstances leading to opposite conclusion) for treating such an expenditure as property attributable not to revenue but to capital. It was urged on behalf of the revenue that the termination of the managing agency has led to re-orientation of the business of the Company. That termination facilitated the Company to enter into collaboration with Leylands. It also made it possible for the Company to get financial assistance from the Government if there be need.

It was also urged that the compensation was paid at the behest of the Government and was for a non-business purpose. Under these circumstances, it was said that the expenditure cannot be considered as having be~n incurred to meet any commercial expediency. The learned Counsei for the Company joined issue on each one of those contentions. He contended that because of the Government policy the Company had to give un its assembli~g activity and take to manufacture of Leyland Trucks. For that purpose it sought and obtained the collaboration of Leylands. Tn view of the change in the business activity of the Company. SUPREME. COURT REPORTS [1973) 2 S:C.R. continuance of the managing agency became superfluous. Its continuance meant unnecessary business expenditure for the Company. Hence commercial expediency required the Company to terminate the services of the managing agents and the managing agents could be get rid of only by paying reasonable compensation.

The Tribunal found that the Company terminated the services of the managing agents on business considerations. It accepted th.: pica of the Company that in view of the change in its business .activity,· the continuance of the managing agents became super' ftuous. These are findings of fact which are not open to question .before this Court. There is no doubt that as a result of the termination of the services of the managing agents, the Company got rid of its liability 10 pay office allowance as well as the commission it was required to pay under the managing agency agreement not only during the .accounting year but also for a few years more. The expenditure .thus saved undoubtedly swelled the profits of the Company. From the facts found, it is clear that the managing agency was terniinated on business considerations and as a matter of commercial expediency.

There is no basis for holding that by terminating th~ managing agency. the Company acquired any enduring benefit or any income yielding asset. lt is true that by tern1inatin,E! the services of the managing agents, .the Company not only saved the expense that it would have had to incur in the relevant previotos year 'but also for few more years to come. It will not be correct to say that by avoiding certain business expenditure, the Company can be said to have acquired enduring benefits or acquired any income yielding asset. To quote the illustration given by Rowlatt J. in B. W. Noble Lim1ied v. Mitchell,(') in the ordinary case a payment to get rid of a servant when it is not expedient_ to keep him in the interest -0( trade would· be a deductible expenditure. A p(lyment made to remove the possibility of a recurring disadvantage cannot be cOilsidered as a payment made to acquire an enduring advantage.

In Nob/e·s case (supra), Rowlatt J. had·to examine the question whether the item of expenditure concerned· in that case was a revenue expenditure. Briefly stated the facts of that case were : Under its Articles of Association, the management of a company -Of Insurance brokers registered in Englanll was vested in its Board of Directors in London, with powers of delegation. One of the Directors was appointed Resident Director in France. He conducted the French business of the Company from an office in Paris under a power of attorney from the Company. The Company claimed as a deduction from its profits for income-tax purposes a sum of £ 19,200 payable (by instalments) to a retiring Director fo the following circumstances : The Original Directors were ;1pt ll 11 Tax C:is 372. 1 ill C,l.T. )', ASHOK LEYLAND LTD, (Hegde, J,) pointed for life so Jong as they held a qualifying number of shares, subject to dismissal tonhwllh for neg1ect or misconduct towards the Company.

A Director so dismissed was only entitled to receive his salary then due and could be required to sell his shares to utc vrncr u.recturs at par. He would also have to surrender for cancellation certain notes issued by the Company entitling him to participate in surplus profits. Circumstances arose in 1920 and J 921 in which the Company might possibly have been justified in dismissing one of the Directors; but to avoid publicity injurious to the Company's reputation, it entered into negotiation with the Director for his retirement. He claimed £ 50,000 as compensation; but a compromise was arrived at and embodied in an agree· ment dated the 30th December, 19'.!l by which he agreed to retire from the Company, to transfer his 300 £ 1 shares to the other Directors at par value (they were then worth considerably more) and to surrender his participating notes.

The Company agreed to pay him £ 19,200 and the Directors tcr pay him £ 300 (as consideration for his shares) making together £ 19,500 (payable in five annual instalments) which he agreed to acept in full satisfaction of all claims against the Company or the Directors. The question was whether the payment of £ 19 ,200 was a deductible expenditure. The Special Commissioners decided against the Conipanv but the King's Bench Division as well as Court of A13peaJ accepted the Company's cuntentiol1• and held that the payment of £ 19,200 made was an admissible deduction in arriving its profits for income-tax purposes. In the course of his judgment Row[att J. sitting on the King's Bench Division relied on the observations of Lord Chancellor in Atherton v. British Insulated mid Helsbv Cables Ltd. (1) to the effect :

"a sum of money expended, not of necessity and with a view 'to a direct and immediate benefit tb the trade, but voluntarily and on the grounds of commercial expediency, and in order indirectly to facilitate the carrying on of the business, may yet be expanded wholly arid eX- clusively for the purposes of the trade." rhese observations of the Lord Chancellor were ·again quoted with approval by Lord Hanworth M. R. when the matter was taken in appeal to the Court of Appeal. The next case which may be usefully referred is the decision in Anglo Persian Oil Co. Ltd. v: Dale.(') Therein the assessee company by agreement made in 1910 a1id 1914 had apoo'inted another limited company as its agents in Persia and the.East for a period of years, upon the terms (inter alia) . that the agents should be remunerated by commission at specified rates. With the passage of time the amounts payable to the agents by way otcont· .. (I) lOT~C. p. 192. ·· --- (2) 16tair Cas:2sf'·<·• (1973)

2 S,C.R. mission increased far lieyond the amounts originally contemplated by the Company, and, after negotiation between the parties, the agreements were cancelled in 1922, the agent company agreeing to go into voluntary liquidation and the company agreeing to pay to the agents £ 300,000 in cash. This sum was in fact paid and the company contended before the Special Commissioners that it was an admissible deduction in computing the Company's prolits for purposes of Income-Tax and Corporation Profits Tax. The r8peclal Com1nissioners rejected this contention and th1: Compar.y appealed. Rowlatt J. sitting in the King's Bench Divitiion allowed the appeal and held that the payment to tl1~ agents was an admis· sibl.e ileduction for the purpose of income-tax and Corporation Profits Tax. His decision was affirmed by the Court of Appeal. In the course of his judgment Rowlatt J. observed :

"Now I want to see how the Commissioners have dealt with it, and what they say is that this was expenditure of a special nature to secure an enduring bel\efit for the Company's trade by getting rid of an onerous contract. In my judgment that is a finding which is perfectly inconclusive. It docs not deal with t!Jc question.

The queston is not merely getting rid of at: onerous contract, but an onerous contract for what? lf it is an onerous contract for the payment of wages or c0mmission which are chargeable to revenue account in the plainc't possible way, and if that is the onerous contract that you are getting rid of it is impossible to suggest that that is a reason for saying that this is a capital expenditure unless you get rid of that onerous contract (as I. pointed out just now) by erecting in its place a capital asset in the nature of-0f course I am only using this as an illustrative example-a Jabour-saving machine which gives you an asset and so dispenses with the expense of labour. But to say that it is a capital expenditure because it ~ecured an enduring benefit by getting rid of an on~rous contract is not to state the material thing, and it is completely inconclusive." In C. Scammeli and Nephew Ltd. v. Rowles, (1) the Court of Appeal held that the expenditure incurred for the termination of a trading relationship in order to avoid losses occurring in the future through that relationship, whether pecuniary losses or commercial inconveniences, is just as much for the purposes of the trade as the making or the carrying into effect of a trading agreement.

The case which can be said to be the nearest to the facts of the present case decided by any Indian court is that decided by the Calcutta High Court in Anglo-Persian Oil Co. (India) Ltd. v. Commissioner of Income-tax. ( 2 ) Therein money was paid 'by an (I) [1940] r.T.R. Suppl. 41. (2) [19)1] vol. J. I.TR. 129. I C.I.T. v. ASHOK LEYLAND LTD. (Hegde, J.) oil company in a lump sum as compensation for loss of agency whereby the company relieved itself of future annual payments of commission chargeable to revenue account. · The qul:l;tion was whether the money paid as compensation was allowable as proper deduction from the business profits of the Company. The court upheld the contention of the company that it was a revenue expenditure. Further the court observed that the principle that capital receipt spells capital expenditure or vice versa is simple b!!t it is not necessarily sound.

Whether a sum is received on capital or revenue account depends or may depend upon the character of the business of the recipient. Whether a payment Js or is not in the nature of capital expenditure depends or may depend upon the character of the businessof the payer and upon other factor' related thereto. It i> obvious from the facts set out earlier that the compensation paid for termination of the services of the managing agents was a payment made with a view to save business. expenditure in the relevant accounting year as well as for a few more years. It was not made for acquiring any enduring benefit or incomeyielding asset. We agree with the High Court that the Tribunal was right in its conclusion that the expenditure in question was a revenue expenditure. In the result this appeal fails and the same is dismissed with costs. V.P.S. Appeal dismissed. 16-L498SupC1/7.'