1. All these references have been made by the Tribunal at the instance of the Commissioner of Income-tax, Tamil Nadu-III, Madras. In T.C.Nos. 459 of 1975 and 241 to 250 of 1976, the following question has been referred :
' Whether in computing the total income of the assessee for any of the eleven assessment years 1957-58 to 1967-68 (both inclusive) the amount of expenditure disallowed by the Income-tax Officer in each of those eleven assessment years out of the amount of expenditure incurred by way of payment of royalty under Clause 13 of the collaboration agreement to the foreign collaborator is an expenditure in the nature of a capital expenditure within the meaning of Section 37(1) of the Income-tax Act, 1961?'
2. In T.C. Nos. 452 of 1975, 220, 221 and 222 of 1976, the questions referred are as follows :
' 1. Whether the entirety of Rs. 20,81,446 and Rs. 29,35,251 paid by the assessee to the foreign collaborators by way of royalty in accordance with Clause 13(ii) of the collaboration agreement dated December 5, 1955, is allowable as revenue expenditure for the assessment years 1968-69 and 1969-70, respectively
2. Whether Rs. 32,00,000 and Rs. 15,82,127 being the profit estimated to have been derived by the assessee by the sale of imported spare parts, should also be taken as profit attributable to the priority industry for the purpose of granting relief to the assessee under Section 80-I ofthe Income-tax Act, 1961, for the assessment years 1968-69 and 1969-70,respectively ?'
3. The only question in the first set of references and the first question in the second set of references arise on identical facts. The assessee is a company incorporated on April 7, 1949. It originally carried on business in the sale of Austin cars and truck spares. Later on, it started manufacturing automobile trucks and for that purpose it entered into a collaboration agreement on December 5, 1955, with M/s. Leyland Motors Ltd., U.K. On the same day, a financial agreement was also entered into between the same parties. It is not necessary to go into the financial agreement for the present references. Clause 23 of the collaboration agreement provided that the agreement shall be in force for an initial period of twenty years and shall continue for a further subsequent period of five years, but that it may be determined at the expiration of twenty years or any further period of five years as aforesaid by either party having given to the other at least two years' previous written notice expiring at the end of such period. The agreement would also determine on the determination of the financial agreement or on the insolvency or liquidation of either party, unless such liquidation was for the purpose of amalgamation or reconstruction with any other company. It would also determine in the event of the agreement being uneconomic to either party to continue. But, in such a case, the period of notice is six months. The collaboration agreement contained provisions regarding the purchase by the assessee from Leyland Motors of chassis for goods and passenger vehicles, for rendering assistance by sending technical men who would assist the assessee in the day-to-day manufacture and training of Indian apprentices abroad, arranging frequent visits of executives from abroad to visit and supervise the process of manufacture and also to render all the assistance needed by the assessee, by providing for the services of planning engineer, expert manager, etc. The assessee could also have the use of the trade mark of Leyland Motors and its patents. Clause 13 of the agreement provided that the assessee shall, besides paying the price for special designs and drawings that may be prepared by Leyland Motors, pay an annual premium at the rate of 5,000 for a period of five years from the date of the agreement by way of royalty for the supply of technical information, use of Leyland patents, supply of standard velographs, technical data relating to machine loading and other similar and necessary technical information normally supplied by Leyland in accordance with their practice in other countries. It was further provided that after the expiry of the period of five years, the assessee shall, at the end of each financial year and during the continuance of the agreement, pay to the Leyland Motors, royalty at the rate of 2 1/2 per centum on the value of the Indian content of all chassis of components and spareparts on which manufacturing work is carried out in India and are produced by the assessee during such financial year,
4. In the income-tax assessments for the assessment years 1957-58 to 1969-70, the assessee claimed the full amount of royalty so paid under Clause 13 of the collaboration agreement excluding the price paid for designs and drawings. For the assessment' years 1957-58 to 1964-65, the amount was first allowed as deduction. But, later on, these assessments were reopened and in the reassessment proceedings for 1957-58 to 1964-65, and in the original assessments for 1965-66 to 1969-70, the ITO held that out of the claim for deduction of royalty, 25% thereof was not admissible as, according to him, to that extent there was a capital element in the payment. The assessee appealed to the AAC against this disallowance of 25% of the royalty paid. The AAC found that the royalty had been paid only for the user of the technical knowledge as well as the foreign collaborator's trade name calculated on the basis of production, and that the assessee had paid the royalty not for acquiring any permanent asset but only to earn its profit by making use of the information provided by the foreign collaborator for the day-to-day production and working of the company. In this view, he held that the royalty paid was revenue in character and was, therefore, admissible as deduction in its entirety.
5. The ITO appealed to the Tribunal to restore the disallowance made by him. The Tribunal held, niter considering the terms of the agreement, that the entirety of the amounts paid for each of these years is allowable as a deduction and, therefore, confirmed the order of the AAC. This part of the order of the Tribunal has given rise to the only question referred for the assessment years 1957-58 to 1967-68, and the first question for the assessment years 1968-69 and 1969-70.
6. It was pointed out by a Full Bench of this court in Jonas Woodhead & Sons (India) Ltd. v. CIT : 117ITR55(Mad) :
' We have just now mentioned that it is unnecessary to refer to any of the cases for the simple reason that ultimately the question has to be decided on the basis of the terms of the particular agreement and the only general principle that can be derived from the decisions is that under the terms of an agreement, if the assessee acquired a benefit of enduring nature that will constitute ' acquisition of an asset' and any amount paid for the same would constitute ' capital expenditure' and on the other hand if the assessee had acquired merely technical knowledge or knowledge for the manufacture of any particular item for a specified duration, then he had acquired only a licence to use the other party's patent and knowledge and the amount would constitute ' revenue expenditure '.'
7. Therefore, in determining the allowability of the amount, we have to be guided only by the terms of the agreement under which the amountwas paid. We have earlier given the substance of the agreement entered into between the assessee and Leyland Motors, U.K., on December 5, 1965. Two clauses of the agreement appear to be material to appreciate the point in controversy before us and we, therefore, reproduce these two clauses.
'11. For the purpose of facilitating the inception of this agreement Leyland will provide the services of planning Engineers and staff some of whom shall visit India for a period of approximately three months and not exceeding twelve months to make proposal for the progressive layout of Ashok's factory and its running and to investigate the position generally as to the manufacture which can be immediately undertaken by Ashok and the prospects of sub-contracting and purchasing the proprietary items in India. During such visits Leyland shall be responsible for the salary of such engineers and staff and Ashok shall bear only the cost of their passages to and from India and reasonable and proper expenses appropriate to their position during their absence from Leyland factories......
13. (i) Ashok will pay to Leyland an annual premium at the rate of 5,000 per annum for a period of five years from the date of this agreement by way of royalty for the supply of technical information, use of Leyland Patents, supply of standard velographs, technical data machine loading and other similar and necessary technical information normally supplied by Leyland in accordance with their practice in other countries. The first such premium shall be paid on the execution of this agreement and thereafter annually in advance on each anniversary thereof. These premiums do not include the price of special designs or drawings which may be prepared by Leyland at the request of Ashok and which shall be paid for by Ashok at a price to be certified by the Chief Accountant of Leyland at cost plus 10 per centum on monthly account.
(ii) After the expiration of five years and subsequently at the end of each financial year of Ashok during the continuance of this agreement Ashok shall pay to Leyland a royalty at the rate of 2 1/2 per centum on the value of the Indian content of all chassis of components and spare parts (in the case of chassis less 12 1/2 per centum of such Indian content to represent bought out items) on which manufacturing work is carried out in India and are produced by Ashok during such financial year. For the purposes of calculation of such royalty the value of the Indian content shall be the net overseas price ex-works England or such chassis or components on which manufacturing work is done in India. The said royalty shall be payable annually on or before the expiration of one month after fifth and subsequent anniversaries of the date of this agreement in respect of the twelve month period ending on such anniversary. Ashok shallsubmit to Leyland a full statement of account showing the amount of royalty to become payable and the amount on which it has been arrived at and Ashok shall afford to Leyland or its duly authorised representative full facilities for free inspection of its books of account or records for the purpose of satisfying itself as to the correctness of the amount of royalty, said to be payable as aforesaid.
(iii) The amounts payable by Ashok to Leyland in accordance with the provisions of Sub-clauses (i) and (ii) above shall, for the purpose of dealing with any broken periods which may occur, be deemed to accrue equally from day to day.
Note : Clause 13(ii)--It has been agreed to reduce the royalty payment from 2 1/2 per centum to 1 3/4 per centum ; this alteration being subject to the erasure of the phrase ' (in the case of chassis less 12 1/2 per centum of such Indian content to represent bought out items)' in lines 6 and 7 of this clause. The alteration is effective from the 5th December, 1969, covered by Mr. S. Baybutt's letter of 15th February, 1961.'
8. Learned standing counsel for the Commissioner contended, on the basis of Clause 11, that the agreement contemplated not only service being rendered or information being supplied for the purpose of running the business but also for the purpose of starting the business. He pointed out that the services of planning engineers and staff of U. K. were to visit India for a period of approximately not less than three months and not more than 12 months to make proposal for the progressive layout of the factory and its running and to investigate the position generally as to the manufacture which could be immediately undertaken by the assessee-company and the prospects of sub-contracting and purchasing the proprietary items. In his submission, the consideration under Clause 13 which does not specify any particular service as such for which the consideration is provided, should be understood as providing a composite consideration, one for the purpose of supplying the necessary data relating to the layout of the factory and the other for the purpose of supplying information regarding the manufacture and the carrying on of the business.
9. Clause 11, as it is extracted, would show that it is a self-contained provision. As to what is to be done with reference to the visits of the planning engineers and staff who visit India in accordance with that clause is provided in the latter part of Clause 11 itself. During such visits the assessee had to bear only the cost of their passages to and from India, and reasonable and proper expenses appropriate to their position during their absence from Leyland factories. Any amount incurred as expenditure in India is related to their travelling expenses, their staying charges and compensation for their stay in India. The clause does not envisage any other payment,
10. Clause 13 deals under two parts. The first part relates to a fixed payment for a period of five years of 5,000 per annum, and thereafter, at the rate of 2 1/2 per centum on the value of production of spare parts and components used in the trucks. The element of consideration is a common one in Sub-clause (i) and (ii) of Clause 13. Clause 13 states that the amount of 5,000 per annum would be paid ' by way of royalty for the supply of technical information, use of Leyland Patents, supply of standard velo-graphs, technical data, machine loading and other similar and necessary technical information normally supplied by Leyland in accordance with their practice in other countries'. This clause clearly goes to establish that the sum of 5,000 is charged only for the continuous supply of technical information and other services referred to above. Further, there is a special provision made in Clause 13(i) itself to the effect that the amount paid did not include the price of special designs or drawings which may be prepared by the U. K. company at the request of the assessee which shall be paid for by the assessee at a price to be certified by the chief accountant of the U. K company at a cost plus 10 per centum on monthly account. Thus, whatever capital expenditure is liable to be incurred by the assessee is specifically provided for and it is independent of and distinct from what is called the premium at the rate of 5,000 per annum payable at the initial period of five years.
11. As regards Sub-clause (ii) of Clause 13, there is no specific provision regarding the purpose for which the consideration in respect of which royalty, at the rate of 2 1/2 per centum on the value of the Indian content of all chassis is to be paid. In our opinion, this 2 1/2% is a substitute for the 5,000 paid. In the absence of any independent consideration provided for in Sub-clause (ii) having any capital element in the payment, the sum included at the rate of 2 1/2 per centum on the value of the components will also have to be related only to the services contemplated by Sub-clause (i) of Clause 13. Further, even though the sum of 5,000 is referred to as 'premium' payable for a period of five years, still it is referred to only as ' royalty ' and the royalty is for the supply of technical information, use of Leyland patents, etc. In Sub-clause (ii), the expression used is 'royalty'. In both, the payments are of a recurring nature. The nature of the consideration being thus only for the purpose of supplying technical information and use of Leyland patents, etc., the amount can only be treated as having a revenue character. The Tribunal did not, therefore, commit any error in holding that the entire payment was liable to be allowed as deduction.
12. The Tribunal has, in the course of its order, given various other reasons in support of its conclusion for allowing the amount. We agree with the reasoning of the Tribunal only as far as this aspect is concerned and we pronounce no opinion on the other reasons in the Tribunal's order.The only question in T.C. No. 452 of 1975, etc., and, the first question in T.C. No. 459 of 1975, etc., are answered in the affirmative and in favour of the assessee.
13. With reference to the second question which arises in the second set of references, the point as seen from the question itself is whether the assessee is eligible for the relief available under Section 80-I of the I.T. Act, 1961, with reference to the profit derived by the sale of imported spare parts. The Supreme Court in Cambay Electric Supply Industrial Co. Ltd. v. CIT : 113ITR84(SC) dealt with a similar question in relation to Section 80E which is the same as Section 80-I, the provision under consideration. In that case, the question was whether the balancing charge arising as a result of the sale of old machinery and buildings and worked out in accordance with Section 41(2) had to be taken into account and included as income of the business. In other words, the question was whether the balancing charge would have to be taken into account before computing the deduction of 8 per cent. mentioned in Section 80E. That part of the decision is not material for us. The Supreme Court further held that the Legislature has deliberately used the expression ' attributable to ' which has a wider import than the expression 'derived from' and has thereby shown its intention to grant the relief in respect of receipts from sources other than the actual conduct of the business of the specified priority industry. Applying the same reasoning in the present case, the profit by the sale of imported spare parts would have also to be brought within the scope of royalty under Section 80-I of the I.T. Act, 1961. In fact, in the present case, these spare parts were sold only to the purchasers of automobile trucks for the purpose of servicing their vehicles and is, therefore, intimately bound up with the priority industry established by the assessee. The result is that the second question in the second set of references is answered in the affirmative and in favour of the assessee. The assessee will be entitled to its costs. Counsel's fee Rs. 500 one set.