M/s. ATW Technologies Pvt Limited
Bangalore ITAT held, Non compete fees payable to director is capital expenditure not revenue expenditure, not allowable in the hand of the firm/ company.
This agreement was executed on 1.4.2001. The company was incorporated on 16.03.2001. He had already undertaken a similar job to be done in the company in the capacity of the Director, if that be so, then he would fulfill his promise given in this non- compete agreement.
It creates a suspicion about the bonafide of this agreement which has been executed in a way between two partners. But, to our mind, it is not sole factor for deciding this controversy, it is one of the corroborative factor which came to our mind while analyzing the record. The next reason is non compete fee agreement was executed on 1.4.2001. The accounts in this year were closed on 31.03.2002. The firm has been taken over by the company on 1.4.2002 i.e. in the next accounting year. Thus this liability ought to have been discharged by the firm and this claim ought to have been made by the firm while filing the return for the accounting period ended on 31.03.2002. Had it been considered there and any losses, if any, computed in the hands of the firm which were to be allowed for carry forward and later on assigned to the company in next accounting year on taking over firm’s assets and liability by the company, then one may consider. But this is not a liability which is falling first time in assessment year 2003-04, therefore, the firm cannot shift the year of claim in a subsequent year and the company cannot claim it in assessment year 2003-04.
Apart from the above, we are of the view that the nature of the claim is not of revenue. It is a capital expenditure. In a large number of cases it has been propounded that compensation for injury to a trading operation arising from breach of a contract or any consequence of exercises of soverign rights, is a revenue receipt. In other words, if payment is made to compensate a person for cancellation of a contract which does not affect the trading structure of his business, nor deprive him of what any substance is his source of income, treatment of such contracts being a normal incident of the business and such cancellation leaves him free to carry on his trade, the receipt is revenue, but whereby cancellation of an agency, the trading structure of the assessee is impaired, or such cancellation results in loss which may be recorded as the source of assessee’s income, the payment made to compensate for loss of such a source is a capital receipt. These are the principles while assessing the nature of the receipt in the hands of the recipients. In the case of a payer, the receipt may take a different colour, it may be revenue in nature or capital in nature. It is to be evaluated from the facts on record. But the broader test is that if expenditure is incurred for creating a source of income, which will give enduring benefit, then the expenditure incurred for enacting that source would be in capital field.
The learned DR has relied upon on three judgments. The Delhi High Court in the case of Sharp Business Systems has upheld the conclusion of the Tribunal that such expenditure is of capital in nature. The next judgment relied upon by the Revenue is of Special Bench of the ITAT in the case of Tecumseh India Pvt Ltd. In this case also a sum of Rs.2.65 crores was paid towards non competing fee and the Tribunal held it as a capital in nature. Similar view has been taken by ITAT Mumbai in the case of NELITO Systems Ltd. In the light of the above proposition, we have examined the facts of the present case. The CIT (A) is of the opinion that payment was made not for acquiring any source of business, but only to get the expertise and for the non competition. In the light of this decision it is to be seen that by eliminating the competition the assessee would built its credibility, goodwill etc. in a more comfortable atmosphere. That would ensure the source of revenue in a smoother way. As far as the hiring of expertise is concerned, that would come of in the capacity of Director where Mr. Rajagopal would get salary or in lieu of his share, as dividend income. The payment is not related to his expertise, it is related for restraining him to do the same business and for procuring the business to the assessee without any competition. Therefore, it is capital in nature.