1. The following question of law has been referred to this court for its opinion by the Tribunal at the instance of the assessee :
'Whether, on the facts and in the circumstances of the case, the annual payment of a sum of Rs. 30,000 per year was an allowable deduction for the assessment years 1967-68, 1968-69, 1969-70 and 1970-71 ?'
2. The assessee is a private limited company carrying on business in the purchase and sale of Halda typewriters, spare parts, Facit calculators, accounting machines, etc., produced by the Rayala Corporation Private Limited. For the assessment years 1967-68, 1969-70 and 1970-71, the assessee filed returns claiming deduction in respect of each year of a sum of Rs. 30,000 said to be agency consideration paid to one Mrs. Sarada on the ground that it is an expenditure incurred for the purpose of the business. That claim of the assessee was rejected by the assessing authority on two grounds. One is that the transaction by which the assessee acquired exclusive right of franchise to purchase and sell the goods produced by the Rayala Corporation Private Limited amounts to a camouflage of the real nature of the transaction, that the real nature of the transaction is that the assessee company directly acquired the right of franchise from the producer subject to the condition that the assessee has to pay a sum of Rs. 30,000 per year at the rate of Rs. 2,500 per month to the said Mrs. Sarada, that the payment to Mrs. Sarada should be taken to be a diversion of the profits of the company and, therefore, the said sum cannot be deducted as an expenditure incurred for the purpose of the business. The other is that, in any event, the amount paid to Mrs. Sarada should be taken to be a payment unconnected with the business of the company and that it could be treated only as a payment made for acquisition of the right of franchise by the assessee company and, therefore, it should be treated as a capital expenditure.
3. Aggrieved by the order of the ITO, the assessee filed an appeal to the AAC. The AAC, however, held in favour of the assessee on both the points. The result was that the assessee's appeals succeeded before the AAC.
4. The Revenue took the matter in appeal before the Tribunal. The Tribunal, however, agreed with the views of the ITO that the arrangement between the assessee and Mrs. Sarada is a devise to divert the profits by adopting a camouflage as if the franchise was obtained originally by Mrs. Sarada and subsequently she has permitted the assessee-company to exploit the franchise on certain payments to her and, therefore, if at all, Mrs. Sarada can be treated only as a benami for the assessee-company in the transaction of acquisition of the right of franchise. The Tribunal also held that, in any event, the amount of Rs. 30,000 paid each year to Mrs. Sarada can only be taken as capital in nature, since the amount has to be taken as part of the consideration for getting the assignment of the right of franchise. In this view, the Tribunal set aside the order of the AAC and upheld the disallowance of the sum of Rs. 30,000 for each year by the ITO. Aggrieved by the decision of the Tribunal, the assessee has obtained this reference on the question set out above.
5. The question referred involves two aspects : (1) what is that nature of the transaction that was entered into between the assessee and Mrs. Sarada in relation to the right of franchise which Mrs. Sarada is said to have acquired from Rayala Corporation and later on said to have passed on that right to the assessee company, and (2) what is the nature of the payment, whether the sum of Rs. 30,000 paid by the assessee company to Mrs. Sarada is a revenue expenditure or whether it is capital in nature.
6. Even if the first aspect of the matter is decided in favour of the assessee unless the assessee succeeds in showing that the said sum of Rs. 30,000 for which deduction is claimed is a revenue expenditure, it cannot claim deduction. If the assessee fails to establish that the annual payment of the sum of Rs. 30,000 to Mrs. Sarada is a revenue expenditure, the assessee may not be entitled to any deduction at all in relation to the said sum. Therefore, we will proceed to deal with that aspect of the case which will be decisive on the assessee's claim for deduction in this case.
7. The statement of the case contains various documents which are taken as relevant by the ITO. Annexure 7 to the assessment order for the year 1967-68 is the minutes of the meeting of the board of directors of the assessee-company held on February 28, 1966. That shows that Mrs. Sarada is one of the directors of the company and that she has agreed to assign her rights of Halda-Facit franchise in favour of the assessee company for a reasonable annual consideration, commensurate with her enjoyment of such rights. It also provides that the voluntary offer of Mrs. Sarada to assign the franchise subject to the payment of the reasonable consideration is accepted. Subsequently, the said assignment has taken effect after Mrs. Sarada got the approval from the Rayala Corporation Private Ltd., who had given the franchise. Subsequently, the arrangement between the assessee and Mrs. Sarada for assignment of the franchise was reduced to writing and that is given in annex. 12. That agreement refers to the fact that Mrs. Sarada had obtained the consent of the Rayala Corporation Private Ltd. and was desirous of assigning the right in favour of the assessee company on certain terms and conditions. One of the terms and conditions is that Mrs. Sarada should be paid a sum of Rs. 30,000 per year as consideration for assignment of the agreement which she had entered into with Rayala Corporation Private Ltd., and this consideration is payable monthly at the rate of Rs. 2,500; one of the other conditions is that the assessee company will, as a result of the assignment, directly deal with the principals, the Rayala Corporation Private Ltd., as if the assessee company has been appointed as distributor direct under the Rayala Corporation Private Ltd. Though the learned counsel for the assessee submits that annex. 12 which is the memorandum of agreement was only a draft and has not taken effect and that the ITO has wrongly proceeded to treat it as an agreement which has been given effect to between the parties, we are of the view that the question cannot be gone into in this reference as there is no separate question referred to us on the truth or otherwise of the said agreement. As a matter of fact, the Tribunal has proceeded on the basis that annex. 12 refers to the arrangement that was entered into between the assessee and Mrs. Sarada and unless that finding is specifically challenged by raising a specific question, it is not possible for us to go beyond the said finding of the Tribunal. Further, it is not disputed by the learned counsel for the assessee that the said document has been signed by Mrs. Sarada as well as the assessee company. Therefore, we have to proceed on the basis that the said memorandum of agreement shown as annex. 12 is an agreement entered into between the parties in relation to the right of franchise. If annex. 12 which sets out the memorandum of agreement is taken as the basis for deciding the rights and liabilities of the assessee and Mrs. Sarada, then it is clear that Mrs. Sarada after getting an appointment in her favour as a distributor for the purchase and sale of the articles manufactured by the Rayala Corporation Private Ltd., parted with her rights for a stated consideration in favour of the assessee company, that is a sum of Rs. 30,000 payable in equal monthly instalments. The fact that the consideration for the assignment of the rights was paid in monthly instalments will not affect the character of the payment, which is in the nature of a consideration for acquiring the distribution rights from Mrs. Sarada which she had in turn acquired from the Rayala Corporation Private Ltd. But for the acquisition of the distribution rights by the assessee from Mrs. Sarada, the assessee company could not have carried on the business of purchase and sale of the articles manufactured by Rayala Corporation Private Ltd. as distributor. Therefore, the amount paid for acquisition of the right of distributorship can only be treated as capital in nature. This is the view taken by the Tribunal. As has been pointed out by the Tribunal, though the rights acquired relate only to a period of five years, the payment can be taken to be for the acquisition of right of an enduring nature and, therefore, the payment has to be treated as one for acquiring a capital asset. Therefore, we have to hold on this aspect of the case that the amount of Rs. 30,000 paid to Mrs. Sarada in each of the years should be treated as capital expenditure and, therefore, the disallowance of that amount is justified.
8. As already pointed out, since the nature of the expenditure is decisive and the expenditure is found to be capital in nature, we are not going into the other question as to whether the payment was for extra-commercial considerations or whether the transaction was a camouflage for diverting or syphoning off the profits of the company.
9. The question referred is, therefore, answered in the negative and in favour of the Revenue. There will, however, be no order as to costs.