The Judgment of the Court was delivered by

Sabyasachi Mukharji, J.:— This reference u/s. 256(1) of the I.T Act, 1961, relates to the assessment year 1973-74. The Tribunal has referred to this court the following two questions, one at the instance of the assessee and the other at the instance of the Revenue:

“1. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the sum of Rs. 66,666 should be allowed as a deductible revenue expenditure in computing profits and gains of the assessee's business during the accounting year relevant to the assessment year 1973-74?

2. Whether, on the facts and in the circumstances of the case, when the amount of Rs. 5,07,903 had not been transferred to a fund and the concerned amount had not gone irretrievably out of the coffers of the assessee having regard to the provisions of section 40A(7) of the Act with retrospective effect from 1st April, 1973, the Tribunal was right in disallowing the claim under the provisions of the Income-tax Act, 1961?”

2. So far as the second question is concerned, which is at the instance of the Revenue, it must, in view of the decision of this court in the case of People's Engineering & Motor Works Ltd. v. CIT, [1981] 130 ITR 174, be answered in the affirmative and in favour of the Revenue. We must, however, make it quite clear that in the previous decision, referred to hereinbefore, this court was concerned with a case where a provision for gratuity had been made. In the premises, this answer would not affect the consideration of any case where no provision has been made at all. We must now deal with the first question, which is at the instance of the assessee. In order to appreciate the said question, it would be necessary to refer to certain facts in the sense that in the assessment order for the relevant assessment year, the ITO disallowed Rs. 66,666 with reference to technical consultation by the assessee with Kaiser Aluminium Technical Services Inc. The assessee being aggrieved went up in appeal. The assessee relied upon the decision of the Tribunal for the earlier years. The decision of the Tribunal for the earlier years has not been made an annexure or a part of the paper book. But, as the Tribunal, in the instant case, has referred to the earlier years' decision, by consent of the parties, we are treating a copy of the said decision of the Tribunal, which was supplied to us, as records of this case. The AAC, however, held that the Tribunal, in the earlier years, had not considered all the clauses of the agreement in question, specially cls. 6 and 7, and on a combined reading of all the clauses the payment of Rs. 12 lakhs was to secure the contractual obligation to render technical assistance for a period of 20 years and this lump sum payment, according to the AAC, was in addition to and quite apart from what the company would pay for obtaining know-how from year to year. The AAC had referred to certain cases and thereafter held that, on the facts and circumstances of this case and from whichever angle the expenditure of Rs. 12 lakhs might be looked at, the assessee was not entitled to deduction of any portion of the expenditure which was incurred in 1960 as business expenditure in computing the profits and gains of the assessee-company for the assessment year 1973-74.

3. Being aggrieved by the said decision of the AAC, the assessee went up in appeal before the Tribunal and, on the authorities of the several decisions, contended that the Tribunal, should not follow its previous decision. After a consideration of the matter and the different clauses, the Tribunal preferred to rely on its previous decision and came to the conclusion that Rs. 66,666 which was referable to expenditure incurred for the years the assistance was obtained from Kaiser & Co. was allowable as deduction. The Tribunal had to deal with two main contentions, viz., that the expenditure in question was capital in nature and, secondly, that the expenditure could not be spread over a period of 20 years. As mentioned hereinbefore, the Tribunal referred to its earlier decision, and, therefore, it would be appropriate, to refer to the decision of the Tribunal for the previous years, viz., for the assessment years 1964-65 to 1968-69. The Tribunal observed that it was necessary to consider all the agreements that the company had entered into with the foreign company. Four agreements were entered into by the assessee-company and the said fact would also be apparent from the order of the AAC. The assessee-company was incorporated on 13th December, 1951, and it obtained certificate of commencement of business on 15th March, 1958. The factory at Renukoot, in the district of Mirzapur, U.P, was erected in 1960 and the actual manufacturing operation started on and from 14th May, 1962. After incorporation of the company and before commencement of the manufacturing operation, the company had entered into agreements with four different consulting organisations of U.S.A as mentioned below:

1. Agreement dated 1st January, 1960, with Henry J. Kaiser & Co.

2. Kaiser Aluminium Technical Services Inc.

3. Kaiser Aluminium & Chemical Corporation, and

4. Kaiser Engineers Overseas Corporation.

4. We are mainly concerned with the second agreement. The assessee has capitalised the expenditure incurred in respect of the agreements mentioned in 1, 3 & 4 on the ground that these expenses were directly related to the setting up of the projects or the factory at Renukoot up to the pre-production stage. We are not concerned with those agreements or with the expenditure incurred by the assessee-company under those agreements. The agreement which is relevant is the agreement dated 4th January, 1960, with Kaiser Aluminium Technical Services Inc. The clauses of the agreement which have a bearing on the question may be referred to. The Tribunal stated as follows:

“(II) KAISER is willing and able to train technical employees of Hindustan in the operation of the aluminium plant and to furnish qualified technicians and engineers to render technical advice and supply information to assist HINDUSTAN in operating the aluminium plant including aluminium fabrication in the Union of India if HINDUSTAN subsequently undertakes the operation of fabrication facilities.”

5. The agreement went on to say that the agreement was between the assessee-company and Kaiser Aluminium Technical Services Inc., a Corporation incorporated in the State of Nevada in the United States of America, whose principal officer was at Kaiser Building, Oakland, California. The agreement stated as follows:

“1. Kaiser agrees to furnish to Hindustan technical advice and information on the terms hereinafter provided as may be necessary and required to assist Hindustan in connection with its operation of the aluminium plant including the mining of bauxite, the refining thereof into alumina and the reduction of alumina into primary aluminium as applicable to the processes used at the aluminium plant. If during the term of this agreement HINDUSTAN should enter into, the manufacture, in the Union of India, of fabricated aluminium products such as sheet, plant, extrusions, red bar, wire or forgings, KAISER SHALL likewise furnish such techical advice and information as may be necessary and required to assist HINDUSTAN with respect to such additional operation.”

6. Thereafter, the agreement provided, inter alia, as follows:

“3. The technical advice and information to be furnished by KAISER shall, subject to the terms and limitations of sections 1 and 2 above, consist of the following:

(a) KAISER shall in writing or verbally or by practical instruction and demonstration as occasion and circumstances require, advise and inform HINDUSTAN of all technical matters in relation to the operations referred to in section 1 above.

(b) KAISER shall train at mines in Jamaica and manufacturing facilities in the United States of America technical personnel selected by HINDUSTAN. Such technical personnel shall be of such reasonable number as may be mutually agreed upon. If KAISER believes that a particular employee is not qualified or otherwise suited to receive such training, it may advice HINDUSTAN and an alternate will be selected by HINDUSTAN in lieu of such employee.

(c) KAISER shall make available to HINDUSTAN in the Union of India the services of qualified engineers and other technicians in such reasonable number as may be mutually agreed to be necessary and at such remuneration and on such terms as may be mutually agreed to advise the personnel of HINDUSTAN in the operation of the aluminium plant (and the matters and things as described in section 1 above) in accordance with good industry practice as adapted to local conditions.

(d) Technical advice and information shall be such as is available to KAISER or its affiliated companies and shall be sufficient in scope to enable competent engineering, manufacturing and metallurgical personnel to understand and apply the subject-matter and evaluate the desirability of using the same, but detailed engineering Services need not be furnished and KAISER shall not be under any obligation to undertake for HINDUSTAN any research under the provisions of this agreement. Such detailed engineering work or research work, if mutually agreed upon, shall be undertaken by separate agreement.”

7. Clause 6 of the said agreement, inter alia, provides as follows:

“6. HINDUSTAN shall reimburse KAISER for its actual expenses reasonably incurred in rendering the services set forth in this agreement to the end that KAISER shall not make a profit or suffer a loss by reason thereof.”

8. Then, the said clause provides how the salary, wages, etc.; of the personnel for reimbursement would be computed, the details of which need not be set out. Clause 7 of the said agreement provides as follows:

“7. KAISER shall submit monthly invoices for expenses to be re imbursed under section 6 hereof describing the same with reasonable (sic) particularly payment of each invoice shall be made sixty (60) days after receipt of the invoice by HINDUSTAN and shall be made in United States dollars at such place as KAISER may designate in the invoice, except payments made, by KAISER other than in United States dollars shall be invoiced by KAISER and reimbursed by HINDUSTAN in the currency in which payment was made by KAISER. Provided further that payments made to reimburse KAISER for personnel furnished pursuant to section 3(c) shall be repaid in the manner agreed upon when such personnel is furnished.”

9. Clause 8 stipulated that the assessee should have the right during the terms of the agreement to refer to this agreement in its advertising and publicity but nothing in the agreement, however, should be deemed to transfer to the assessees trade marks or trade names of KAISER or to grant any right of user thereof in the Union of India or elsewhere. Clauses 10 and 11 were as under:

“10. It is understood by HINDUSTAN that nothing herein shall be deemed to require KAISER to grant HINDUSTAN any patent or other rights or disclose to HINDUSTAN any information in regard thereto if KAISER or its affiliated companies do not have the right or power to grant such rights or disclose such information either by reason of contractual obligations incurred prior to such grant or disclosure or governmental law or order. KAISER represents, however, that it and its affiliated companies are not now prohibited or prevented from licensing any patents which they now have which pertain to the alumina and aluminium reduction plants to be built as the first step and KAISER and its affiliated companies are not prohibited or prevented from disclosing technical advice now available to them which is essential to said plants.

Except with respect to the licence of existing patents of KAISER relating to the alumina process and the aluminium reduction process, KAISER makes no representation or warranty that the use of any technical information or advice or patent licence now or hereafter disclosed or granted, as the case may be, can be used without patent infringement.

11. In consideration of the premises and in addition, to the reimbursement of expenses as hereinbefore provided HINDUSTAN shall immediately on the execution of these presents allot and issue to KAISER 120 thousand (1,20,000) shares of its Rs. 10 per value out of its equity share capital credited as fully paid up.”

10. Clause 15 of the said agreement was as follows:

“15. This agreement shall become effective on the date first above set forth and shall continue in force for a period of twenty (20) years.”

11. As mentioned hereinbefore, on behalf of the Revenue two main contentions were urged before the Tribunal and those were repeated before us, viz., that by entering into the agreement in question in respect of which the payments were claimed as deduction in the year in question, the assessee had secured the capital assets and, therefore, this should be in the capital account and would not be allowed as revenue expenditure. It was, secondly, contended that the spread over of expenditure could not be claimed in the particular year in question with which we are concerned. We must observe that this expenditure in question must be understood in the light of all other clauses that we have set out hereinbefore. All other agreements the assessee-company had entered into were for procuring or securing its rights of a permanent nature and the company was capitalising the expenditure in its accounts, like, invention, erection of the factory, fabrication of the plant, etc., which we have mentioned hereinbefore. It may be important in this connection, though we are not concerned with other agreements, to refer to some of the clauses of the other agreements. The first agreement was dated 1st January, 1960. It is not necessary to refer to all the articles. Article V dealt with description of services rendered by the foreign company. Clause 1 of art. V stated as follows:

“Save as otherwise expressly specified in this contract, HJK Co. shall perform all design, engineering, procurement, expediting and other related services and construction management service as are requisite or necessary to be performed elsewhere than in the Union of India.”

12. Clause 2 of the said agreement provided for the design and engineering services, subject to certain conditions laid down in the said clause which are not necessary to be set out in detail for our present purpose.

13. The second agreement is the agreement with which we are concerned. We have hereinbefore set out the relevant clauses of the said second agreement. The third agreement was dated 4th January, 1960, between the assessee and Kaiser Aluminium Chemical Corporation. The preamble to the said agreement stated that the assessee desired to acquire the know-how property from Kaiser to enable it and the engineers employed by it to design and construct a modern and efficient aluminium plant embodying the processes, methods, developments and designs of apparatus and equipments contained in the know-how property and to enable the assessee-company thereafter to operate the said plant. Clause 1 of the said agreement stated as under.

“KAISER hereby transfers and assigns to Hindustan as a contribution of capital in kind the know-how property, with the full and exclusive right and liberty to use the same within the Union of India, subject to the obligation to maintain the same in confidence, as provided in section 3 hereof. The know-how property shall be delivered within the United States of America to Hindustan or, at its request, to its designated representative.”

14. Clause 2 of the agreement states that in consideration of the transfer and assignment to the assessee of the know-how property the assessee should allot and issue to Kaiser 4,80,000 shares of Rs. 10 per value of the equity share capital of the assessee credited as fully paid up. Clause 4 of the said agreement is as follows:

“Kaiser retains said know-how property and all rights and interests therein, except in the Union of India, and reserves the right to sell and dispose of the know-how property to others except in the Union of India, provided that when KAISER sells or disposes to any such others the know-how property as aforesaid it shall make it a condition of the sale or disposal that the said know-how property shall not be used or available for use, sale or disposal by such others for the construction or operation of the plant or equipment in the Union of India.”

15. The fourth contract was entered into by the assessee with Kaiser Engineers Overseas Corporation. The description of service is contained in art. V. Clauses 1 and 2 provide as follows:

“1. The works and services to be furnished and performed within the territorial limits of the Union of India by Kaiser Overseas shall be directed and supervised by a resident manager of Kaiser Overseas who shall be charged with full responsibility for the direction of all works and services hereunder. Such works and services shall include all field design, engineering, procurement, construction, and construction management services and instruction and direction necessary to the completion of the project at the site of the work or elsewhere in the Union of India including expediting, general administration and other related services as are or may be required and necessary to be performed in the Union of India.

2. In regard to construction services, subject as aforesaid Kaiser Overseas shall perform or cause to be performed at all material times construction services in relation to the project including, but not limited to:

(i) planning and executing the construction progress;

(ii) hiring local Indian craftsmen and labourers as required to perform the construction work;

(iii) requisitioning for renting and buying construction materials, machinery, and equipment including cranes, bulldozers, trucks, air compressors and lumber;

(iv) supervising and controlling all material handling, receiving, warehousing and despatching;

(v) supervising and directing craftsmen and labourers in the performance of their work;

(vi) providing other similar services incidental to the orderly scheduling, execution and completion of the project.”

16. Clause 3 stipulated that Kaiser Overseas should perform or cause to be performed at all material times field design and engineering services in certain specified detail as mentioned in the said clause. According to art. VI of the said agreement it was provided as follows:

“According to article VI, the assessee would pay to the Kaiser Overseas for the performance of all work and services within the scope of the project and contemplated by this contract, a fee in the amount of $217,000 which would cover items regarding the general corporate expenses of Kaiser Overseas, actual salaries and remuneration paid to corporate officers except for such period or periods of time as such officer or officers may be assigned full time to the project. This article also contained that ‘Fee shall be paid to Kaiser Overseas out of the fund provided in XXV, clause 6 hereof’ and that the payment of the fee shall be made in 23 monthly instalments of $9,000 each commencing on the first day of the month following execution of this contract and the remaining $10,000 shall be paid 60 days after the completion of the project.”

17. As mentioned hereinbefore it is necessary to understand and appreciate that all the agreements should be considered together to understand the entirety of the purpose of the expenditure incurred by the assessee. Having taken into consideration these different clauses we have to consider whether the expenditure with which we are concerned was capital or revenue. It is well settled that any expenditure to be properly charged for the year in question in computing for that year that kind of expenditure was necessary for carrying on the business activity of the assessee in that particular year. If that expenditure might be incurred year by year or the liability for the same might be incurred year by year or might be incurred by one agreement, to allow the entirety of expenditure in one year would give a distorted picture of the profit of a particular year. In this connection reference may be made to the well-known decision of the Supreme Court in the case of Assam Bengal Cement, Co. Ltd. v. CIT, [1955] 27 ITR 34, where the Supreme Court reiterated the correct principle in determining whether the expenditure was capital or revenue and relied on the observations of the Full Bench of the Lahore High Court in In re Benarsidas Jagannath, [1947] 15 ITR 185. It is not necessary to repeat this decision. The Supreme Court observed at p. 45 of the report in the case of Assam Bengal Cement Co. Ltd. that in cases where the expenditure was made for the initial outlay or for extension of a business or a substantial replacement of the equipment, there was no doubt that it was capital expenditure. A capital asset of the business was either acquired or extended or substantially replaced and that outlay whatever be its source whether it was drawn from the capital or the income of the concern, was certainly in the nature of capital expenditure. A question, however, would arise according to the Supreme Court for consideration where the expenditure was incurred while the business was going on and was not incurred either for extension of the business or for the substantial replacement of its equipment. Such expenditure, according to the Supreme Court, could be looked at either from the point of view of what was acquired or from the point of view of what was the source from which the expenditure was incurred. The Supreme Court reiterated that if the expenditure was made for acquiring or bringing into existence an asset or advantage for the enduring benefit of the business it was properly attributable to capital and it was of the nature of capital expenditure. If on the other hand it was made not for the purpose of bringing into existence any such asset or advantage but for running the business or working it with a view to produce the profits it was a revenue expenditure. If any such asset or advantage for the enduring benefit of the business was thus acquired or brought into existence, it would be immaterial whether the source of the payment was the capital or the income of the concern or whether the payment was made once and for all or was made periodically. The aim and object of the expenditure would determine the character of the expenditure whether it was capital expenditure or revenue expenditure. The source or the manner of the payment would then be of no consequence. It is only in those cases where this test was of no avail that one might go to the test of fixed or circulating capital and consider whether the expenditure incurred was part of the fixed capital of the business. The Supreme Court also reiterated at p. 46 of the report that a lump sum payment could as well be made for liquidating certain recurring claims which are clearly of a revenue nature. Therefore, the true test must be to find out the principles for which the expenditure was made or incurred or liability for the same was incurred and the nature of the expenditure. We must find out from the entirety of the circumstances in the background of the other factors whether the expenditure was referable to the day to day operation or running of a business.

18. In this case it is admittedly not a preproduction expenditure. It is also clear that though the expenditure was made initially, altogether it was not for the initial starting of the business. Reference was also made before us to the observation of the Privy Council in the case of CIT v. Basant Rat Takhat Singh, [1933] 1 ITR 197. There the Judicial Committee was dealing with sub-s. (2) of s. 12 of the Indian I.T Act, 1922. The question was that the allowance for any expenditure incurred must be an allowance for the expenditure incurred in the year in respect of which the income, profits or gains forming the basis of the assessment arose. The Privy Council observed that there could not be any justification for deducting from the profits and gains something in respect of expenditure, whether it be regarded as capital expenditure or not, which occurred years before. There the assessee took a lease from the cantonment authority for a period of 30 years. Under the terms of the lease he had to erect certain permanent buildings which were to become the property of the lessors on the determination of the lease. He erected the buildings and received rents from third persons to whom he had leased the buildings. In computing the tax payable by the assessee in respect of the rents so received the assessee claimed that the allowance should be made for the expenditure incurred by him in erecting the buildings. On a reference by the Commissioner, the High Court held that the assessee was entitled to a deduction of the cost of erection from the rents in computing the taxable amount and that the deduction for the year of assessment should be one-thirtieth of the amount expended in erecting the buildings. In appeal the Judicial Committee, reversing the decision of the High Court, held that the assessee was not entitled to the deduction claimed inasmuch as the expenditure for erection of the buildings was not incurred in the year in question in respect of which the income sought to be assessed arose but occurred many years before. It has to be borne in mind that by erecting the buildings, in question the assessee acquired a source of revenue for several years, and it was in that light the Judicial Committee considered that it was really a permanent source of income of an enduring nature. In this case specially in view of the background of the other agreements the expenditure in respect of which had been capitalised and the services referred to in the instant agreement with which we are concerned, the expenditure, in our opinion, cannot be considered to be at par with the nature of the expenditure sought to be deducted in the case before the Judicial Committee. As we have mentioned before, in the Assam Bengal Cement Co. Ltd., [1955] 27 ITR 34, the Supreme Court has reiterated that a lump sum payment made prior to the year in question could be allowable to be properly charged if referable for the earning of the profit for the year in question. Reference was also made to the decision of the Allahabad High Court in In re Hindustan Commercial Bank Ltd., [1952] 21 ITR 353. There the assessee, a bank, incurred during the relevant accounting year certain expenditure in opening 46 new branches, sub-branches and pay offices. A sum of Rs. 24,675 represented charges for advertisement, entertainment, photos and invitation cards and a sum of Rs. 89,870 represented salary, dearness and other allowances, tax on salaries, postage, telegrams, telephones, rent, lighting, travelling expenses and conveyance. The question was whether the assessee was entitled to deduct these two sums under s. 10(2)(xv) of the Indian I.T Act; 1922. The Appellate Tribunal held that the expenditure of Rs. 24,675 was of a capital nature and the expenditure of Rs. 89,870 was revenue in character. The Tribunal, however, treated the sum of Rs. 89,870 as deferred expenditure, spread it over a period of 20 years and allowed a deduction of 1/20th of the amount during the relevant year. On a reference it was held that there was no legal justification for spreading out the sum of Rs. 89,870 over a period of twenty years and the whole amount would be deductible in the year in which it was incurred if it was not in the nature of a capital expenditure and assuming that the sums of Rs. 89,870 and Rs. 24,675 were expenses incurred wholly and exclusively for the purpose of the business, they were in the nature of revenue expenditure and were admissible deductions under s. 10(2)(xv) Now, reading the agreement and special services in respect of which payments in question were claimed, although no agreement initially entered into arises in the year in question, otherwise, it would be an absolute distortion of the computation of the profits of the company if it is to be allowed only in the initial year. In that view of the matter we are of the opinion that in view of the nature of the services stipulated to be performed in this case, the Tribunal was right in the view it took. Our attention was also drawn to the decision of the Supreme Court in the case of Pingle Industries Ltd. v. CIT, [1960] 40 ITR 67. There the asses-see-company which carried on the business of selling Shahabad flag stones obtained from a jagirdar under a contract the right to extract stones from quarries situated in six named villages for a period of 12 years on the annual payment of Rs. 28,000. To safeguard payment, the sum of Rs. 96,000 was paid in advance as security of which Rs. 8,000 was to be adjusted annually against Rs. 28,000 and the balance of Rs. 20,000 was payable in monthly instalments of Rs. 1,666-10-8. The assessee had only the right to excavate stones and undertook not to manufacture cement and the jagirdar undertook not to allow any other person to excavate stones in these areas. There was also another similar lease taken from the Government for a period of five years under which the assessee had to pay Rs. 9,000 per year in monthly instalments of Rs. 750 each. The question was whether the amounts paid by the assessee to the jagirdar and the Government each year were revenue expenditure allowable u/s. 12(2)(xv) of the Hyderabad Income-tax Act corresponding to s. 10(2)(xv) of the Indian I.T Act, 1922. It was held by majority that the assessee acquired by his long-term lease the right to win stones and the leases conveyed to him a part of land. The payment, though periodic in fact, was neither rent nor royalty but a lump payment in instalments for acquiring a capital asset of enduring benefit to his trade. The amounts were outgoings on capital account and were not allowable deductions. If in a particular case a right of a permanent nature was acquired and payment was made in exchange for that, then, of course, this principle would be attracted. But in view of the nature of the obligations undertaken by the agreement and the obligation to pay upon the performance of certain obligations performed in the year in question, in our opinion, the ratio of the said decision would not be attracted in the facts of the instant case.

19. Our attention was drawn to the decision of the Division Bench of this court in the case of Agarwal Hardware Works (P.) Ltd. v. CIT, [1980] 121 ITR 510. Analysing the various decisions and the provisions of the Act and reading the agreement as a whole it appeared that the aim and object of the expenditure was not to bring into existence any asset of enduring advantage or benefit for the assessee's business but to produce profits in the conduct of its business. The assessee had not acquired any capital assets under the agreement. The assessee had incurred the expenditure wholly and exclusively for the purposes of its business, namely, to produce profits in the conduct of its business and this expenditure not being of a capital nature, must be regarded as a revenue expenditure. Having regard to the facts and circumstances of the case and specially in the nature of the obligations undertaken by the agreements with which we are concerned and the background of the three agreements, in our opinion/the purpose of the expenditure was to get rid of the annual expenditure which was necessary to be incurred for carrying on business of the profit earning process.

20. In that view of the matter, we are of the opinion that in the facts and circumstances of the case, the Tribunal on this aspect arrived at the correct conclusion. In the premises, the first question must be answered in the affirmative and in favour of the assessee. In the facts and circumstances of the case, each party will pay and bear its own costs.

Suhas Chandra Sen, J.:— I agree.