1 to 9. [These paras are not reported here as they involve minor issues.] 10. There are two other specific grounds taken in the cross-objection.
The first is that the Commissioner (Appeals) was not correct in confirming the disallowance of what is termed 'dilution expenses'. The total amount of expenditure was Rs. 1,38,520. The ITO disallowed the amount saying that the expenditure was incurred in connection with the Indianisation of the assessee-company as required by the Foreign Exchange Regulation Act, 1973 and it was incurred for the purpose of transfer of equity funds of the foreign holdings to Indian shareholders and, therefore, the expenditure was capital in nature.
11. The Commissioner (Appeals) stated the expenditure related to reducing the foreign shareholdings and directly related to the capital structure and upheld the disallowance.
12. Before us, the assessee submitted that the expenditure was incurred for preserving the capital asset and, therefore, should be allowed as a revenue deduction. The learned departmental representative, on the other hand, stated that the expenditure clearly related to the capital structure and was rightly disallowed as representing capital expenditure.
13. We gathered at the hearing that an amount of Rs. 1 lakh was paid to ICICI, Rs. 20,000 to Billimoria & Co., and Rs. 18,520 to Menon &Menon.
All these items of expenditure were incurred for securing advice regarding the dilution of the capital holdings. The assessee was a non-resident company and, therefore, the provisions of Suction 29 of the Foreign Exchange Regulation Act, 1973 were applicable to it. The relevant provisions of this section, Sub-sections (1) and (2) read as under : 29. Restrictions on establishment of place of business in India.(1) Without prejudice to the provisions of Suction 28 and Section 47 and notwithstanding anything contained in any other provision of this Act or the provisions of the Companies Act, 1956 (1 of 1956), a person resident outside India (whether a citizen of India or not) or a person who is not a citizen of India, but is resident in India, or a company (other than a banking company) which is not incorporated under any law in force in India or in which the non-resident interest is more than forty per cent or any branch of such company, shall not, except with the general or special permission of the Reserve Bank, (a) carry on in India, or establish in India a branch, office or other place of business for carrying on, any activity for a trading, commercial or industrial nature, other than an activity for the carrying on of which permission of the Reserve Bank has been obtained under Suction 28 ; or (b) acquire the whole or any part of any undertaking in India of any person or company carrying on any trade, commerce or industry or purchase the shares in India of any such company.
(2) (a) Where any person or company (including its branch) referred to in Sub-Section (1) carries on any activity referred to in clause (a) of that subsection at the commencement of this Act or has established a branch, office or other place of business for the carrying on of such activity at such commencement, then, such person or company (including its branch) may make an application to the Reserve Bank within a period of six months from such commencement or such further period as the Reserve Bank may allow in this behalf for permission to continue to carry on such activity or to continue the establishment of the branch, office or other place of business for the carrying on of such activity, as the case may be.
The accounting period of the company ends on 30th of September. At the close of the business on 30-9-1977, consequent to the scheme of amalgamation, the assets of the assessee-company became vested in an Indian company, namely, the Commonwealth Trust (India) Ltd. That event, however, arises for consideration only in the next assessment year, pursuant to the consent granted by the Controller of Capital Issues.
Rs. 75,000 equity shares of Rs. 10 each were offered to Indian residents for subscription in cash at par. Rs. 50,000 equity shares of Rs. 10 each were allotted to the shareholders of the assessee-company and these were purchased by managerial and confidential staff of the company in India and, therefore, there was no non-resident interest with the company consequent to the aforesaid dilution of share capital.
(The factual information has been obtained from the Directors' report in the case of the Commonwealth Trust (India) Ltd. for the period 1979-80.) In the case of CIT v. Gemini Cashew Sales Corporation  65 ITR 643, the Supreme Court has observed as under: ... A deduction which is proper and necessary for ascertaining the balance of profits and gains of the business is undoubtedly properly allowable, but where a liability to make a payment arises not in the course of the business, not for the purpose of carrying on the business, but springs from the transfer of the business, it is not, in our judgment, a properly debitable item in its profit and loss account as a revenue outgoing....
Further, there are the observations of the Supreme Court relating to legal expenses in the case of Dalmia Jain & Co. Ltd. v. CIT  81 ITR 754 as under : The question for decision is whether the litigation expenses incurred by the assessee were for the purpose of creating, curing or completing the assessee's title to capital or whether it was for the purpose of protecting its business. If it is the former then the expenses incurred must be considered as capital expenditure. But, on the other hand, if it is held that the expenses were incurred to protect the business of the assessee, then it must be considered as a business loss. The principle which has to be deduced from decided cases is that, where the expenditure laid out for the acquisition or improvement of a fixed capital asset is attributable to capital, it is a capital expenditure but if it is incurred to protect the trade or business of the assessee then it is a revenue expenditure. In deciding whether a particular expenditure is capital or revenue in nature, what the courts have to see is whether the expenditure in question was incurred to create any new asset or was incurred for maintaining the business of the company. If it is the former it is the capital expenditure ; if it is the latter, it is the revenue expenditure.
14. In the present case, unless the assessee had diluted the shareholdings by foreigners to the requisite percentage, the assessee would have not been able to carry on the business which it had been hitherto carryingon. The payments, therefore, were in the course of the business to enable the assessee-company to continue carrying on the business. The payments did not arise out of any transfer of The business. The expenditure was incurred to protect the business of the assessee, that is, to enable it to continue carrying on the business which hitherto it was carrying on. Having regard to the observations of the Supreme Court which we have set out, it is clear that the expenditure in question is an admissible expenditure.
15. We, therefore, direct allowance of Rs. 1,38,520 as an admissible deduction.