JUDGMENT
1. ITA No. 69/2001 is filed against the common order passed by the Income Tax Appellate Tribunal dated 19.10.2000 in ITA Nos. 331.Bang/99 for the assessment year 1995-96. ITA No. 70/2001 is filed against the same common order of the Income Tax Appellate Tribunal dated 19.10.2000 in ITA Nos. 974.Bang/98 for the assessment year 1995-96.
2. The material facts leading up to these appeals in so far as it is necessary for the disposal of these two appeals are as follows:
3. In 1939, late S. Raghuram Prabhu started the business of manufacturing beedies. Subsequently, his brother-in-law, Sri. Madhav Shenoy also joined him in the business as a partner and thus M/s. Mangalore Ganesha Beedi Works (for short ‘MGBW’), the firm, came into existence with effect from 28.03.1940 Thereafter, the said firm was reconstituted from time to time. The last reconstitution of the firm was evidenced by a partnership deed dt.30.06.1982 and according to the averments made in the deed, the last reconstitution of the firm became effective from 06.06.1982 and according to the averments made in the deed, the last reconstitution of the firm became effect from 06.06.1982 and according to the deed of partnership, the firm comprised of the following 13 partners-
SI. No.Name of the Partners%age of share01.B. Raghurama Prabhu14.50%02.M. Janardhana Rao7.65%03.M. Ananda Rao7.05%04.M. Vinoda Rao7.50%05.M. Pushpalatha w/o Subraya Baliga12.50%06.Hemalatha w/o Raghunath Shenoy12.50%07.M. Suresh Rao7.55%08.M. Vishwanath Rao7.55%09.M. Ramanatha Rao2.50%10.Jaganath Shenoy2.50%11.Vatsala Shenoy D/o M. Janardhana Rao7.55%12.M. Gopinath Shenoy2.50%13.Arathi Shenoy D/o M. Janardhana Rao7.55%
4. Clause (3) of the partnership deed provided for the duration of the firm. This clause reads as under:
“3. The duration of the Partnership shall be fice years in the first instance: but by mutual agreement the parties hereto may extend the said duration. If during the subsistence of this Partnership any of the partners desire to retire from the partnership he or she can do so, If all the other partners agree to the said retirement. However, if all the other partners do not agree to the said retirement, the partner intending to retire shall give six months' notice in writing of his or her intention to retire and on expiration of the period of the said notice the said Partner shall cease to be a Partner and subjec to Para 14 infra from that date all his or her liabilities and rights as a Partner of the firm shall come to an end.”
5. Clause (16) of the partnership deed had made specific provisions for the manner in which the affairs of the firm were to be wound up after its dissolution. It reads as under:
“16. If the Partnership is dissolved, the going concern carried on under the name of the Firm MANGALORE GANESH BEEDI WORKS and all me trade marks used in course of the said business by the said firm and under which the business of the Partnership is carried on shall uest in and belong to the Partner who offers and pays or two or more Partners who jointly offer and pay the highest price therefor as a single group at a sale to be then held as among the Partners shall be entitled to bid. The other Partners shall execute and complete in favour of the purchasing Partner or Partners at his/her or their expense all such deed, inctruments and applications and otherwise sid him/her or them for the registration his/her name or their names of all the said trade marks and do all such deed, acts and transactions as are incidental or necessary to the said transferee or assignee Partner or Partners.”
6. Pursuant to Clause 3 of the Partnership Deed, the partnership stood dissolved by efflux of time on 05.06.1987, However, by mutual agreement among the partners as provided in clause (3) itself, the duration was extended for a further period of six months i.e, upto 05.12.1987 and therefore the firms stood dissolved with effect from 06.12.1987 Thereafter, the affairs of the firm had to be wound up after its dissolution under Clause 16 of the Partnership Deed as referred to above. However, because of the difference of opinion among the erstwhile partners, the affairs of the firm could not be wound up. Therefore, two of the partners of the firm filed a petition before this court under the provisions of Part X of the Companies Act, 1956, for winding up of the affairs of the firm in terms of Section 583(4)(a) thereof. This petition was registered as Co.P.1/1988. In the said petition by order dated 05/05/11.1988, this court permitted the group of partners (7) having controlling interest to continue the business as an Interim arrangement till the completion of winding up proceedings. However, subsequently by order dated 14.06.1991, in modification of the earlier order framed the scheme for winding up of the affairs of the firm by selling its assets as a going concern.
7. Pursuant to the above order, the AOP-3 deposited the bid amount of Rs. 92 crores on 17.11.1994 with the official liquidator and as per the order passed by this court, the assets of the firm as a going concern were to be treated as having been sold to the “Purchasing AOP” on 20.11.1994. It is again a matter of record that the business of the firm along with its assets were handed over by the official liquidator attached to this court to the AOP-3 on 07.01.1995 vide his report 10/1995 and sale proceeds along with bank interest accrued thereon were distributed by the official liquidator under the orders of this court amongst the out-going partners on 02.02.1995 However, the firm could not be wound up due to one or the other reason and the same was continued even thereafter under the supervision and direction of this court and the final order of winding up was passed by this court.
8. The erstwhile partners of MGBW who was successful bidders in the sale of MGBW as a going concern conducted by the Official Receiver as per the order of this court as referred to above for the year ending 31.03.1994 assessment was filed by the said three partners namely M. Vishwanath Rao, M. Jaganath Shenoy and M. Copinath Shenoy filed assessment. It may be noted that from 01.04.1994 to 17.11.1994, the business of MGBW was being conducted by Association of 12 persons as per the direction of this court in Company Petition and after the three partners purchased the going concern and were given right to commence the business in the name of the same firm MGBW from 18.11.1994 to 31.03.1995, AOP-3 conducted the business and assessment was filed. However, a revised assessment was filed seeking for deduction in respect of Rs. 12,24,700/- as revenue expenditure permissible u/s 37 of the 1961 Act as the said expenditure was incurred wholly for the purpose of the said Association of Persons. They also claimed depreciated u/s 35-A and 35-AB of the Income Tax Act, 1961, (for short ‘the Act’) claiming deduction towards acquisition of patent rights, copy lights and know how and in the alternative they also claimed depreciation of capitalising the value of the trade mark, copyright and technical know how by treating the same as plant and machinery and grant depreciation therein. The Assessing Officer by order dated 30.03.1998 rejected the said claim of the assessee and disallowed the deduction claimed u/s 37, 35A and 35AB of the Act. Being aggrieved by the same, appeal was filed before the Commissioner of Income Tax and the Commissioner of the Income Tax by order dated 19.10.2000, allowed the appeal in part by holding that the assessee is entitled to deduction of legal expenses. However, upheld the order of the Assessing Officer regarding the depreciation u/s 35A and 35AB of the Act. Being aggrieved by the order passed by the Commissioner of Income Tax, AOP-3 filed Appeal No. 974.Bang/98 on the file of the Income Tax Appellate Tribunal and the Revenue being aggrieved by the order passed by the Commissioner of Income Tax in allowing the deduction by modifying the order of assessment passed by the Assessing Officer preferred Appeal No. 472.Bang/2000 and 476.Bang/2000 and 33.Bang/1997 for the assessment year 1995-96 and the Appellate Tribunal by order impugned in this appeal dt. 19.12.2002 allowed the appeal filed by the Association of Persons and dismissed the three appeals filed by the Revenue. Being aggrieved by the order of the Income Tax Appellate Tribunal in ITA No. 33.Bang/97 for the assessment year 1995-96 and ITA No. 974.Bang/98 for the assessment year 1995-96, these two appeals are filed.
9. This court by order dated 19.12.2002 allowed the appeal in part filed by the Revenue holding that the payment of deduction of Rs. 12,24,700/- u/s 37 of the Act was not admissible and the Tribunal was not justified in allowing the same and further held that the directions towards acquisition of patent rights, copy rights and know how u/s 35A and 35AB of the Act was also not admissible. It also held that the Tribunal was also not justified in capitalising the value of the trademark, copy right and technical know how by treating the same as plant and machinery and grant depreciation therein. Being aggrieved by the said order of this court defendant. 19.12.2002 the Assessee preferred Civil Appeal Nos. 767-768/2005 on the file of the Hon'ble Supreme Court of India and the Apex Court by order dated 28.01.2005 allowed both the appeals in view of the order passed in Civil Appeal. No. 4232/2003 (ITA Nos. 134 to 140/2000 and connected appeals) and remitted the matter back to this court on question Nos. 3, 5 and 7 and passed the following order in the above said background.
“In the aforesaid background, we remit the matter to High Court to consider question Nos. (iii), (v) and (vii) afresh along with other matters covered by judgment in C.A No. 4232/2003 etc., disposed of today.”
10. After remand, by order dated 07.04.2008 after hearing Sri. E.R Indra Kumar, learned Senior Advocate appearing for the appellants and Sri. A.A Kulkarni, counsel appearing for the intervenors framed the following substantial questions of law:
“i) Whether Rs. 12,24,700/- claim as revenue expenditure by the Association of Persons was constituted by the three partners of the erstwhile firm, MGBW, can. be allowed as permissible deduction in the hands of the said Association of Persons under Section 37 of the Income-Tax Act 1961, as being laid out or expended wholly and exclusively for the purpose of business of the said Association of Persons?
ii) Whether the Assessee was entitled to claim any deduction on the alleged expenditure of acquisition of patent rights, copy rights and know-how, in terms of Section 35A and 35AB of the Act?
iii) Whether the Tribunal had erred in directing the Assessing Officer to capitalise the value of trade marks, copy right and technical know how by treating the same as plant and machinery and grant depreciation therein?”
11. These appeals are posted for hearing on the above said substantial questions of law.
12. We have heard Sri. Indra Kumar, learned senior counsel appearing for the revenue and Sri. A.R Kulkarm, Sri. Shankar, counsel appearing for the respondents.
13. We have given careful consideration to the contention of the learned counsel appearing for the parties and scrutinised the material on record and we answer the above said substantial question of law as follows:
(i) & (ii) In the negative;
(iii) In the affirmative in favour of the revenue and against, the assessee and the finding of the Tribunal is liable to be set aside by restoring the order of the first Appellate Authority and the Assessing Officer, for the following
REASONS
14. Substantial question of law (i): The assessee claimed deduction u/s 37 of the 1961 Act by filing return that Rs. 12,24,700/- was spent towards the fees paid to the advocates for protecting the business of the firm and to protect the assets of the firm as a going concern and therefore they are entitled to deduction of the said amount under the provisions of the Income Tax Act. It is clear from the provisions of Section 37 of the Income Tax Act that in order to be eligible for an allowance under this residuary provision, the following conditions should be satisfied.
i) the expenditure must not be governed by the provisions of Section 30 to 36 and 80W,
ii) the expenditure must have been laid out wholly and exclusively for the purpose of the business of the assessee,
iii) the expenditure must not be personal in nature,
iv) the expenditure must not be capital in nature.
15. It is also well that the burden of proof that particular expenditure has been laid out wholly and exclusively for the purpose of business is on the assessee as held by the Hon'ble Supreme Court in the case of COMMISSIONER OF INCOME TAX, ANDHRA PRADESH v. DHANRAJGIRJI RAJA NARASINGIRJI ((1973 (91) ITR 544)). The essential test to find out as to whether the expenditure paid towards the advocates for conducting the case on behalf of the firm has been laid down by the Hon'ble Supreme Court in the case of COMMISSIONER OF INCOME-TAX, WEST BENGAL v. BIRLA COTTON SPINNING AND WEAVING MILLS LTD. (1971 (82) ITR 166) as follows:
“The essential test which has to be applied is whether the expenses were incurred for the preservation and protection of the assessee's business from any such process or proceedings which might have resulted in the reduction of its income and profits and whether the sum was actually and honestly incurred. It is well-settled that the deductibility of expenditure incurred in prosecuting civil proceedings to resist the enforcement of a measure, legislative or executive, which means restriction on the carrying on of a business or to obtain a declaration that the measure is invalid, would, if other conditions are satisfied, be admissible as a deduction under section 10(2)(xu). Deductibility of such expenditure does not depend on the final outcome of those proceedings. However wrong-headed, ill advised, unduly optimistic or over-confident in his convictions the asses see might-appear in the light of the ultimate decision, expenditure in prosecuting a civil proceeding cannot be denied as a permissible deduction if it is reasonably and honestly incurred to promote the interest of the business”.
16. The Hon'ble Supreme Court in the case of SREE MEENAKSHI MILLS LTD. v. COMMISSIONER OF INCOME TAX, MADRAS (1967 (63) ITR 207) has held as follows:
“The deductibility of expenditure incurred in prosecuting a civil proceeding depends upon the nature and purpose of the legal proceeding in relation to the assessee's business and cannot be affected by the final outcome of that proceeding. However wrong-headed, ill advised, unduly optimistic or over confident in his conviction the assessee might appear in the light of the ultimate decision, expenditure in starting and prosecuting a civil proceeding cannot be denied as a permissible deduction in computing the taxable income merely because the proceeding had failed, if otherwise the expenditure was laid out for the purpose of the business wholly and exclusively, that is, reasonably and honestly incurred to promote the interest of the business. Persistence of the assessee in launching the proceeding and carrying it from court to court and incurring expenditure far that purpose is not a ground for disallowing the claim.”
17. The contention of the learned counsel appearing for the parties has to be considered in the light of the principles laid down by Hon'ble Supreme Court as referred to above and the condition requisite that is to be proved by the assessee to claim deduction u/s 37 of the 1961 Act.
18. It is the contention of the learned counsel appearing for the revenue/appellants that the assessing authority and the Commissioner of Income Tax/the first appellate authority had rightly disallowed this deduction claimed by the assessee on the ground that the amount of Rs. 12,24,700/- was not towards conducting litigation on behalf of the firm but there were personal litigation regarding the ownership of the going concern/MGBW regarding the winding up of the said proceedings and ownership of the assets of the said MGBW and regarding the auction conducted for the sale of assets of the firm amongst the partners of the dissolved firm and therefore the said expenses were personal in nature and exclusively they were not for the purpose of business of the assessee i.e, manufacture and sale of beedies and the AOP-3 started business as a going concern after the sale was confirmed in their favour from 18.11.1994 to 31.03.1995 and return from 18.11.1994 to 31.03.1995 is in respect of the business conducted by AOP-3 and prior to that from 01.04.1994 to 17.11.1994 the business was being conducted by erstwhile partners of MGBW and therefore the finding of the Assessing Officer which is confirmed by the first Appellate Authority is justified and the said finding did not call for interference at the hands of the Income Tax Appellate Authority and the finding of the Tribunal that the said amount is deductible is perverse and arbitrary and liable to be set aside.
19. On the other hand, it is the contention of the learned counsel appearing for the assessee that the said amount of Rs. 12,24,700/- has been claimed as the expenditure incurred by AOP-3 who were the erstwhile partners of MGBW for the purpose of protecting the assets of MGBW as a going concern and sale of the said assets as a going concern and acquisition of the said property in the hands of the assessee and therefore the order of the Tribunal is justified and the order passed by the Appellate Authority confirming the order of the Tribunal disallowing the deduction is erroneous.
20. It is clear from the order passed by the Assessing Officer that the amount of Rs. 12,24,700/- was debited in the profits and loss account claiming to he deduction eligible u/s 37(1) of the 1961 Act. The amount pertains to the professional fee paid to the advocates and it was the contention of the assessee that the legal fees are paid for the purpose of arguments in the High Court in connection with the disputes among the partners. The learned Assessing Officer held that the said dispute was basically in the matter of dissolution and auction and confirmation of sale in favour of AOP-3 regarding the sale of assets of MGBW as a going concern and it was not wholly and exclusively for the purpose of the business as the assessee acquired ownership of assets of MGBW only from 18.11.1994 and prior to that it was not being managed and returns were filed from 18.11.1994 to 31.03.1995 by AOP-12 and therefore the assessees who are the successful bidders in the auction of the assets of MGBW as a going concern have incurred expenditure regarding their personal right having acquired the assets of the going concern MGBW and not for the purpose of business of the assessee for manufacture and sale of beedies and therefore the Assessing Officer held that it was personal expenditure incurred by the assessee and not towards the business of the firm and therefore deduction was disailowed. In appeal, the Commissioner of Income Tax (Appeals) Bangalore, by order dated 15.10.1998 at paragraph 17 of his order considered the deduction claimed by the assessee and the finding of the Assessing Officer regarding deduction of Rs. 12,24,700/- u/s 37 of the 1961 Act and held that the assessed has indicated the payment made to the advocates for the purpose of trademark, patent etc., The contention of the assessee is that legal fees has been paid in connection with the trademark, patent etc., and the said contention is not correct as the entire assets of MGBW including of tangible and intangible assets were sold as a whole among the erstwhile partners of MGBW and AOP-3 became the owners of the going concern and entitled to start the business in the name of MGBW only from 18.11.1994 and the return filed from 18.11.1994 to 31.03.1995 pertains to the expenditure incurred and since the said expenditure is personal expenditure regarding the lees paid to the advocate regarding the ownership of the assets of the erstwhile partners of MGBW which were sold as a going concern, he upheld the order passed by the Assessing Officer. However, in appeal before the Income Tax Appellate Tribunal (ITAT), the Tribunal held that the legal expenditure for defending the business of the asessee is revenue in nature and therefore it is allowable deduction as held by the Hon'ble Supreme Court in the case of DALMJA JAIN AND CO., LTD. v. COMMISSIONER OF INCOME TAX (1971 (51) ITR 754) and the appellant took over the business is not in dispute and the expenditure made towards fees to the advocate is also not in dispute and therefore the expenditure was deductible u/s 37(1) of the 1961 Act and accordingly directed to allow the claim of the assessee in this regard.
21. It is clear from the scrutiny of the material on record that admittedly MGBW which was a registered partnership firm was dissolved on 06.12.1987 and thereafter on the application filed by two of the erstwhile partners under the Companies Act, winding up proceedings started and this court auctioned the assets of MGBW as a going concern in view of clause 16 of the Partnership Deed of the erstwhile firm that on dissolution, the assets of the firm as going concern should be sold only to one of the erstwhile partners and not to outsiders. However, in the interest of 150000 employees, reserved price of Rs. 30 crores as value of the assets of the MGBW going concern was fixed on the basis of the valuation made by the Chartered Accountant appointed by the court and the bid submitted by the assessee/erstwhile 3 partners for Rs. 92 crores was upheld and therefore the amount was deposited by the assessee and thereafter Official Liquidator has taken steps to make payment and finally the assessee/AOP-3 started business in the name of MGBW from 18 11.1994 and the return pertains to the period from 18.11.1994 to 31.03.1995 in so far as it relates to business run by the assessee prior to that year i.e, from 01.04.1994 to 17.11.1994 It was AOP-12.erstwhile partners of MGBW who were carrying on business and were filing the returns and therefore the burden is upon the assessee to prove that the said expenditure of Rs. 12,24,700/- has been spent towards the payment of fees payable to the advocates exclusively and wholly for the purpose of business of the assessee and it is not personal in nature.
22. It is clear from the material on record that though assessee was given an opportunity to file separate accounts pertaining to the period from 01.04.1994 to 17.11.1994, the period during which AOP-3 was carrying on the business of MGBW and for the period for which the asessee was carrying on the business of said erstwhile firm for acquisition of the assets of the going concern. In view of the order passed by this court, the assessee did not choose to file any separate statement of account for the said period from 01.04.1994 to 17.11.1994 and from 18.11.1994 to 31 03.1995 and assessee has only produced the list of the advocates to whom fees of Rs. 12,24,700/- was paid. There is no material on record to show that the said fees was paid to the advocates for defending the litigation on behalf of the assessee and the said expenditure was incurred solely and exclusively for the purpose of business of the asessee. It is clear from the material on record that litigation was pending from 17.12.1984 regarding the assets of the erstwhile MGBW and the sale of assets of the said firm which was wound up among the erstwhile partners and in view of the order passed by this court, the highest bid submitted by 3 erstwhile partners/AOP-3 in a sum of Rs. 92 crores was accepted by the High Court and thereafter the Official Liquidator in pursuance of the direction issued by this court has handed over the entire assets of the firm in favour of AOP-3 so as to enable them to start business in the name of the firm MGBW and thereafter business was starred on 18.11.1994 by AOP-3. There is no material to show that the fee that was paid to the advocates pertained to defending the case on behalf of the asessee AOP-3 for the period from 18.11.1994 to 31.03.1995 and in the absence of any material produced in that behalf and the material on record revealing that the litigation that was pending was only regarding the dissolution of the assets of the firm amongst the erstwhile partners and the sale conducted as per the directions of this court and acquisition of the assets of the MGBW as a going concern by the assessee/AOP-3 who were erstwhile partners as they had submitted their bid of Rs. 92 crores to purchase the assets of the firm. It is clear that the assessee has failed to prove that the said expenditure was incurred for the purpose of business and it was not personal in nature. The finding of the Assessing Officer as confirmed by the Commissioner of Income Tax in the first appeal disallowing the deduction claimed is justified and it is clear on perusal of the order passed by the ITAT that the said concurrent finding on question of fact as to whether the legal expenses of Rs. 12,24,700/- can be deducted u/s 37(1) of the Act has been reversed by the Tribunal without assigning any valid reasons for the same. It is clear from the reasoning assigned by the Tribunal that apart from stating that the said expenditure has been incurred towards the fighting of the litigation against the firm and regarding the auction held and acquisition of ownership of AOP-3, the assessee had not produced any material to show that the said expenditure was incurred between 18.11.1994 to 31.03.1995 exclusively for the purpose of business of AOP-3 and it was not personal in nature. Therefore interfering with the said question of fact without any basis is erroneous and is liable to be set aside. Accordingly, we answer the substantial question of law by holding that the finding of the Tribunal that the assessee is entitled to deduction of Rs. 12,24,700/- as revenue expenditure u/s 37 of the 1961 Act is liable to be set aside and the order passed by the first Appellate Authority confirming the order of the Assessing Officer disallowing the said deduction is to be restored. Accordingly, we answer the first substantial question of law in favour of the revenue and against the assessee.
23. Substantial question of law (ii) and (iii): These points are considered together since they are interconnected and to avoid repetition. The three erstwhile partners of MGBW had filed return for the period from 01.04.1994 to 31.03.1995 and they have filed a revised return. Learned counsel appearing for the appellant-revenue submitted that the Appellate Authority had disallowed the claim of the assessee towards alleged expenditure of acquisition of patent rights, copy rights and know how in terms of Section 35A and 35AB of the Act and had also rejected the alternative prayer for capitalising the value of trademarks, copy right and know now by treating the same as plant and machinery and grant depreciation thereon. However, the Income Tax Appellate Tribunal (ITAT) has allowed the appeal filed by the assessee and held that the asses see is entitled to capitalise the value of the trademarks, copv right and know how by treating the same as plant and machinery and grant depreciation thereon and accordingly issued a direction for assessment.
24. Learned counsel appearing for the appellant-revenue submitted that the assessee is not entitled to claim depreciation under Section 35A and 35AB of the 1961 Act as the assessee has filed to prove that they were entitled to depreciation under Section 55A and 35AB of the Act and what was sold was only goodwill and unless goodwill was in the nature of trademark, patent light or copy right or know how, the value of the same could not be entitled to depreciation u/s 35A and 35AB of the Act. The learned senior counsel further submitted that the order passed by this court on 14.06.1994 and the final order passed on 21.09.1994 would clearly reveal that what was sold was goodwill and the net assets and tangible and intangible assets of the firm and the same was based upon the valuation made by the Chartered Accountant after considering the objections filed by the assessee for the said valuation made by the Chartered Accountant and only on the basis of the valuation made by the Chartered Accountant and valuers of the assessee treated 50% towards know how, 30% towards copy right and 20% towards trade mark which is clearly erroneous and if the valuation made by the assessee is accepted then the value of the goodwill will be nil which will be contrary to the order passed by this court while auctioning the property for sale. The learned counsel further submitted that the Appellate Tribunal was not justified in granting alternative prayer by treating the patent right, trademark and technical know how as plant and machinery and granting depreciation thereon as what was sold was goodwill and no amount has been spent by AOP-3 towards acquisition of patent; right, copy right and technical know how and therefore the said finding is also erroneous and liable to be set aside.
25. On the other hand, learned counsel appearing for the assessee submitted that; though this court fixed the reserved value of Rs. 30 crores on the basis of the valuation made by the Chartered Accountant appointed by this court, at the time of making the bid for Rs. 92 crores by the assessee, the erstwhile partners of the firm of MGBW, the valuation was got done through the auditor and according to them 30% of the value towards know how, 30% towards copy right and 20% towards trademark and therefore the assessee was entitled to depreciation u/s 35A and 35AB in respect of patent right and towards value of know how. Learned counsel further submitted that the plant and machinery has to be viewed liberally and it would not be confined to building, plant and machinery. It must be given a wider meaning to include the design the serve the secret formula and also the trademark which place an important rule in the matter of beedies and therefore the direction issued by the Tribunal that the value of patent right, copy right and goodwill should treated as plant and machinery and assessee is entitled to depreciation is justified, In support of his contention, he has relied upon the decisions of the Hon'ble Supreme Court, different High Courts and also of this court which are as follows:
i) In the case of PRAKASH BEEDIES FVT. LTD. v. COMMISSIONER OF INCOME TAX (1993 (201) ITR 1063) wherein the Hon'ble Supreme Court reversing the decision of the High Court has held as follows:
“that in the beedi trade, the brand name carried significant business value. The payments were made in consideration of a valuable right parted with by the firm in favour of the company. Even assuming that the payments were to the partners, so long as the agreement whereunder the payments were made was not held to be a mere device or a mere screen, the payments could not be treated as payments made to directors as directors and the payments would not fall within section 40(c).”
It has further held that:
“The genuineness or validity of the agreement between the assessee company and the firm is not disputed. The factum of payments made on account of royalty in terms of clause 4(a) of the said agreement is also not disputed. It is also not disputed that, in the beedi trade, the brand name carries significant business value. It is necessary to Keep this factual context in mind while examining the question at issue.”
ii) In the case of Scientific Engineering House (Pvt.) Ltd. v. Commissioner Of Income-Tax. (1986 (157) ITR 86) wherein the Hon'ble Supreme Court has held as follows:
“Held, accepting the claim of the appellant (i) that, reading clauses 3 and 6(a) together, it was clear that rendition of documentation service was really the main service to be rendered by the foreign collaborator;
(ii) that the various documents such as drawings, designs, charts, plans, processing data and other literature included in documentation service, the supply whereof was undertaken by the foreign collaborator, more or less formed the tools by using which the business of manufacturing the instruments was to be done by the appellant and for acquiring such technical know-how through these documents, a lump sum payment was made. This expenditure was incurred by the appellant as and by way of purchase price of the drawings, designs, charts, plans, processing data and other literature, etc., comprised in “documentation service” and was of a capital nature as a result whereof a capital asset of technical know-how in the shape of drawings, designs, charts, plans, processing data and other literature, etc., comprised in “documentation service” and was of a capital nature as a result whereof a capital asset of technical know-how in the shape of drawings, designs, charts, plans, processing data and other literature was acquired by the appellant
iii) That “plant” was not necessarily confined to an apparatus which was used for mechanical operations or process or was employed in mechanical or industrial business. But in order to qualify as “plant” the particular article had to have some degree of durability. The test to be applied was: Did the article fulfil the function of a plant in the assessee's trading activity? Was it a tool of his trade with which he carried on his business? If the answer was in the affirmative, it would be a “plant”,
iv) In the case of COMMISSIONER OF INCOME TAX v. ELECON ENGINEERING CO., LTD., (1974 (96) ITR 673) wherein the Hon'ble Supreme Court has held as under:
“Know-how is a peculiar kind of asset. It is the accumulated fund of knowledge acquired by years of observation, research, experimentation and experience. The whole of it is not in an intangible form even while it is in the process of being acquired and very often it takes a physical form as it grows in the shape of formulae, drawings, patterns, blue prints, specifications and so on. The material form it takes not only facilitates preservation, collation and ready reference but also makes it perceptible and visible and easily capable of being transmitted to others. Books which one consults to inform one's mind and thereby uses them in the course of one's business or profession are expressly included within the meaning of the work “plant”. Hence, there is no reason to exclude from the wide meaning of the term objects of similar nature such as drawings, patterns, designs, etc., which, like books, are the embodiments of know-how and serve the purpose of teaching at long range. Having regard to the legislative intent to give a wide meaning to the word “plant”, material record of know-how (even assuming that know how itself is intangible) is clearly included within the meaning of the work “plant” in section 32.”
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That the drawings and patterns by themselves did not perform any mechanical operations or processes and on the commencement of production of gears and idlers it might not be necessary to consult them and owing to technological advance they might in course of time become obsolete. These factors, however, could not militate against their being plant since they formed the basis of manufacturing the machinery and they were so to say the basic tools of the assessee's trade having a fairly enduring quality. The drawings and patterns were plant within the meaning of Section 32 and the assessee was entitled to depreciation in respect of those assets on the pro rata cost of their acquisition.”
v) In the case of D AND H SECHERON ELECTRODES v. COMMISSIONER OF INCOME TAX (1981 (132) ITR 1), the Madhya Pradesh High Court has held as under:
“Therefore, the entire lump sum payment made to the collaborators by the assessee-company was for the purpose of brining the plant of the asessee into existence and to put it in working condition and was to be included in the actual cost of plant and machinery and the assessee would be entitled to deduction of depreciation and development rebate thereon.”
vi) In the case of COMMISSIONER OF INCOMETAX v. BRIGHT AUTOMGTIVES AND PLASTICS LTD., (2005 (273) ITR 59) wherein the Madhya Pradesh High Court has held as under:
“The use of the expression “acquiring” in section 35AB has to be given a liberal meaning rather than a strict one. In other words, in order to attract the rigour of section 35 AB it may not be necessary for the assessee to actually become an absolute owner of the know-how. But if on payment of money consideration, the assessee is able to use the know-how to run his business the requirement of section 35AB stands satisfied. A mere reading of sub-section (2) and (3) of Section 35A which deals with acquisition of patent and copyright, would support the aforesaid interpretation when it uses the expression “where the rights come to an end without being subsequently revived”. In order to attract the applicability of Section 35AB, the nature of payment namely, whether capital or revenue is not decisive. What is material is whether the payment made satisfies the requirement of Section 35AB or not.”
vii) In the case of Commissioner Of Income Tax Delhi-Iv… v. Gujarat Guardian Ltd.…., (2008 (306) ITR 320) wherein the Delhi High Court has held as under:
“The question that has arisen for our consideration is whether the assessee is entitled, to depreciation on account of capitalisation of engineering service fees paid to a foreign company or whether the assessee is entitled to a deduction under section 35AB of the Act. According to the Tribunal, the assessee is entitled to depreciation on account oj capitalization of engineering service fees and it is this conclusion that has been disputed by the Revenue.”
viii) In the case of NIPPON ELECTRONICS (P) LTD. v. COMMISSIONER OF INCOME TAX, KARNATAKA (1979 (116) ITR 231) wherein a division bench of this court has held as follows:
“It is well known in the world of commerce that the income of a businessman is the surplus by which the gross receipts from his business exceed the expenditure incurred on land, labour, capital and managerial skill and all other tangible and intangible assets used for the purpose of the business. Ordinarily, any expenditure which is not of capital nature incurred in the course of business or trade is treated as revenue expenditure, but so far as the fixed assets, which are utilised for the purpose of business, are concerned, a certain percentage of their value, popularly known as “depreciation”, is deducted periodically in the course of computation of the profit made by him. Without taking into account such depreciation, it would not be possible to arrive at the true profits. That is why the IT Act has provided for depreciation allowance being allowed under S.32 of the Act in respect of buildings. machinery, plant or furniture owned by the assessee and used for the purpose of the business, subject to certain conditions.
S.43(3) of the Act states that “plant” includes ships, vehicles, books, scientific apparatus and surgical equipment used for the purpose of the business. The definition is not an exhaustive one. As time passes it is not only tangible assets that depreciate but also intangible assets like technical knowledge that become obsolete as progress is made in scientific research. Moreover, when technical know-how necessary for the business is acquired by incurring expenditure, there is no justification in denying appropriate deduction in respect of its cost while computing taxable profits if it can be brought under the heading ‘Plant’. Hence, the word “plant”, when it is construed liberally, includes within its meaning such designs and blue-prints also.
Where the assessee-company had used the designs, drawings, plants and technical data which it acquired for valuable consideration from a foreign company in the course of its business, and the cost thereof was not treated as revenue expenditure, if no depreciation was allowed in the case of these items, it would not be possible to ascertain in the true profits of the assessee. The assesee company could not have erected the factory for carrying on the manufacturing process without the expenditure incurred on the acquisition of these items which could be compendiously included in the expression “technical know-how” necessary for the purpose of carrying on the business. Therefore, the designs and blue-prints constitute “plant” for the purpose of allowing depreciation under S.32 of the Act.”
ix) In the case of Addl. Commissioner Of Income-Tax, Karnataka v. Nippon Electronics (India)(P.) Ltd., (1982 (134) ITR 457), this case has held as under:
‘Where the payment of royally under a collaboration agreement to a foreign company is not for the right to manufacture the licensed articles, but the payment is for the actual user of the technical know-how, data and information supplied by the foreign company, the payment would be allowable as revenue expenditure”
x) in the case of Commissioner Of Income-Tax v. Kar Valves Ltd., (1993 (204) ITR 490) wherein the Kerala High Court has observed as under:
“The test to be applied, according to the Suvreme Court, was as to whether the article fulfils the function of a plant in the assessee's trading activity. Was it a tool of his trade with which he carried on his business? The Supreme Court held that, if the answer was in the affirmative, it would, he a plant. It is further observed that the purpose of tendering such documentation service by supplying these documents was to enable it to undertake its trading activity of manufacturing theodolites and microscopes and these documents had a vital function to perform in the manufacture of these instruments. It was with these documents that the assessee was able to commence its manufacturing activity. The Supreme Court held that these documents really formed the basis of the business of manufacturing the instruments in question. The expenditure incurred by the assessee by way of purchase price of the drawings, designs, etc., comprised in the “documentation service” specified in clause 3 of the agrement was held to be of capital nature as a result whereof a capital asset of technical know-how in the shape of drawings, designs, etc., was acquired by the assessee. The Supreme Court further held that the capital/asset acquired, by the assessee, viz., the technical know-how in the shape of drawings, designs, etc., is a depreciable asset.”
26. We have given careful consideration to the contentions of the learned counsel appearing for the parties and scrutinised the material on record in the light of the principles laid down by the Hon'ble Supreme Court in above refereed cases. The material on record would clearly reveal that assessee has claimed deduction in the present case for acquisition of patent right and copy right u/s 35A and acquisition of know how u/s 35AB of the Act or in the alternative to permit them to capitalise the value of the copy right, patent right and know how and to claim depreciation on the said value.
27. Section 35A of the 1961 Act provides for deduction of capital expenditure incurred after 28.02.1966 and before 01.04.1998 on the acquisition of patent rights or copy rights used for the purposes of the business. The deduction for such expenditure would be available in equal installments over a period of 14 years or over the period of the unexpired period of patent right or as reckoned from the previous year in which rights were acquired which ever is less. The ingredients to be proved to claim deduction u/s 35A are as follows:
i) there should be expenditure of capital nature,
ii) it should have been incurred after 28.02.1966 and before 01.04.1998 and
iii) it should have been incurred on the acquisition of patent rights or copy rights acquired for the purpose of business and the expenditure is normally allowed to be written off.
28. It is clear from the contents of Section 35A that when deduction for requisition of copy right and patent is claimed, it is for the assesee to discharge the burden of proving the ingredients of the same to claim deduction. The technical trade mark and technical know how does not fall within Section 35A and if the know how is claimed as a deduction u/s 35A, the same should be in the firm of design or patent or right copy right and deduction for know-how is specifically claimed u/s 35AB. If the sale of the patents rights fetches a larger sum than the initial cost, the excess will be chargeable to tax as ‘capital gains' and the provisions of Section 48 shall accordingly apply. Section 35AB provides for expenditure of know how with a view to providing further ingredients. The section provides that any lumpsum consideration paid by the tax payer for acquiring any know how for the purpose of business will be allowed as deducted by spreading it over six years namely the year in which lumpsum consideration is paid and the balance amount shall be deducted in equal instalments for each of the five immediately succeeding previous years. It is only an enabling provision merely because an expenditure may relate to know-how, it does not mean that Section 35AB bars a claim as revenue expenditure, when the payment is not for acquiring a capital asset and an enabling provision which allows capital expenditure as a deduction on a staggered basis, which was not earlier allowable, cannot come in the way of deduction which was always found admissible as revenue expenditure. An enabling provision cannot be understood as a disabling one, unless there are indications in the language of the section In the present case, the assessee has claimed deduction u/s 35A in respect of copy right, patent and in respect of know-how u/s 35AB as follows:
Issue/ItemAmountRemarks1. Adciitional claim of DepreciationRs. 36,39,743/- (38,31,603-1,91,860) (Revised-original)Depreciation claimed on the basis of valua-tion (Seshagiri Rao's report) in the case of Ramanath Shenoy (A.Yr 1995-96) Case laws of CIT v. Shekar Offset Printers 214 ITR 516 Kaluram Gondram v. CIT (57 ITR 335) SC2. Value of copyright u/s 35-A expenditure on acquisition of patent right or copyrights.Rs. 1,32,05,762/- 1/14th of Rs. 18,18,80,669/-According to assessee Shri M.R Ramachandra Varrier & also Preethi Consultants in their Valuation reports Have given bifurcation As under (after Sl. No. 4)3. Value of TrademarksRs. 88,03,841/- 1/14 of Rs. 12,32,53,779/-Based on Ramachandra Varrier's & Preethi Consultants Report (Registered Valuer)4. Dedn.u/s 35ABRs. 5,13,55,741/- 1/6 of 30,81,34,448/--do-As per valuerAs adopted by AssesseeShare of outgoing Member/partnera) Knowhow (intellectual property) @ 50% Rs. 30,81,34,448Rs. 36,00,00,000Rs. 35,23,55,000b) Copyrights @ 30% Rs. 18,48,80,669Rs. 21,60,00,000Rs. 21,14,13,000c) Trademark @ 20% Rs. 12,32,53,779Rs. 14,40,00,000Rs. 14,0942,000TotalRs. 72,00,00,0005. Compensation notional profit Paid to the Outgoing members Of the AOP out of Rs. 9,57,57,007/-Rs. 8,37,39,503the share amount of held as revenueTotal deductionsRs. 16,07,44,591
29. In the present case, the firm MGBW was dissolved on 06.12.1987 and thereafter final order of winding up was passed on 21.11.1994 and thereafter the three erstwhile partners of MGBW who have acquired the assets of the MGBW have filed assessment for the year 1995-96 and the initial return of income showing total income of Rs. 4,95,67,570/- was first filed on 31.10.1995 and the same was revised on 06.02.1997 showing loss at Rs. 11,11,77,020/-.
30. The assessee has made the additional claims of deduction stating that there was an inadvertent mistake in filing the original return. The original return was filed by earlier Auditor-B.S Ravikumar & Associates. The deductions now claimed is stated to be based on valuation report of land, building, plant and machinery vide Seshagiri Rao's valuation report defendant. 15.09.1994, M.R Ramachandra Varrier and also M/s. Preethi Consultants.
31. The Assessing Officer in this case held that having regard to the orders passed by this Court dated 02.09.1994 and 22.12.1994 auctioning the assets of the MGBW as a going concern and fixation of the reserve of Rs. 30 crores was fixed on the basis of the net assets of the firm and the goodwill of the firm and no patent right, copy right or know how was acquired and further what is purchased by the erstwhile three partners of MGBW is the copy right, patent right and goodwill which had already been acquired by the running MGBW firm and that goodwill would not attract deduction u/s 35A or 35AB and rejected the contention of the assessee that the entire value of copy right, patent right and know how should be permitted to be capitalised with benefit of claiming depreciation and accordingly disallowed the deductions that were claimed and also the alternative contention to trade the value of patent right, copy right and know how as plant and machinery and to seek depreciation. The first Appellate Authority confirmed the order of the Assessing Officer. However, the Tribunal has also negatived the main prayer of the Assessee regarding the deductions u/s 35A and 35AB. However, granted the alternative prayer of permitting the assessee to capitalise the value of the copy right, patent right and know how and to claim depreciation, It is clear from the scrutiny of the material on record including the revised assessment in which deductions are claimed by the assessee as referred to above that, if the assessee wants to claim value of deduction towards the capital expenditure of acquiring the patent right, copy right or know how, the burden is upon the assessee to prove that he has fulfilled the ingredients of Section 35A and 35AB as referred to above and in the present case to consider as to whether the said burden is discharged, it is necessary to bear in mind certain orders passed by this court which would indicate that what was sold in auction among the erstwhile partners of MGBW was the value of the net assets and goodwill and goodwill constituted 93.02% of Rs. 28.12 crores and net assets constituted only Rs. 6.8 crores. The said valuation was based upon the valuation made by the Chartered Accountant who was directed to value the assets and thereafter objections were filed to the said report of the Chartered Accountant and the same has been considered by the Division Bench of this court in Co.P No. 1/1988 in its order dated 14.06.1991 wherein the division bench of this court has culled out the valuation made by the Chartered Accountant and the basis for the same and also considered the objections filed by the respondents-out going partners and the basis of which Rs. 30 crores was fixed as the reserved price and it is relevant to cull out the same to understand the circumstances under which the value of the assets which were sold in public auction (assets of MGBW) based upon the valuation made by the Chartered Accountant appointed by this court was made. In the light of the objections filed by respondents 2 to 7 in the said petition namely the outgoing partners, this court has referred to the report of the auditor which reads as under:
“REPORT OF THE AUDITORS”
1. The High Court of Karnataka vide its order dated 2nd day of September, 1988 appointed us as auditor for the specific purpose to determine the value of net assets of the partnership firm M/s. Mangalare Ganesh Beedi Works, Mysore (hereinafter referred to as the Company) and. also the good-will of the company.
2. In pursuance of the said order of the Hon'ble Court, we called upon the Respondent No. 1 in the above suit viz. M/s Mangalore Ganesh Beedi Works, Mysore to furnish us a statement of affairs of the company as on 6.12.1987 and as em 31s1 October 1988. The Respondent No. 1 has furnished us a statement of affairs as on 18 December 1987. As the said date viz, 18 December 1987 is very proximate to the date 6 December, 1987 and no fixed assets of the company have been sold during the said period from 7 December, 1987 to 18 December 1987, we have prepared this report determining the market, value of net assets as on 18 December 1987. We have gone through the books of accounts maintained by the company, income tax assessment orders of the company, Balance Sheet and Profit and Loss Accounts for the years 30.06.1982, 30.06.1983, 30.06.1984, 30.06.1985, 30.06.1986, to 30.06.1987 and other relevant records. We have obtained the opinion of the experts to determine the market value of 1) Land and Buildings and 2) Vehieles owned by the Company. Our representatives have visited Mysore, Gundlupet, Mangalore. Bantwal, Ullal, Moodabidri, Bombay, Puttur, Panimangalore etc., for this purpose. We have taken physical inventory of the furniture. Fixtures and other assets at Mysore. As regards the branches we have examined the records maintained by the company at Mysore to determine market value of the said assets. As the overall value of the furniture and Fixtures in the branches compared to the other assets are negligible, we have not taken the physical inventory of these, assets at Branches. We have also called upon the company io furnish us a list of contingent liabilities of the company as on 18 December, 1987 and have scrutinized the same. As per the system of accounting followed by the Company certain small valued assets viz. Copper vessels, locks, telephone instruments etc. Are written off in the accounts. We have not ascertained individual value, of these assets but have taken the same as a group in Furniture and Fixture is determining the value of net assets.
32. The report of the auditors placed on record the method in which the value of the assets have been arrived at and observed as follows:
3.1 As per Balance sheet as at 18 December, 1987 enclosed, as Annexure-1 to this report, the written down value of Fixed Assets of the Company amount to only Rs. 16,05,673-02 as mentioned below.
i)Land and BuildingsRs. 3,60,070-02ii)Motor Vehicles (Vans, Cars, MotorRs. 4,67,431-00 Bicycles)iii)Lift, Telephone Furniture, Typewriter, Franking Machine, Telephone Equipments, Copper Vessels etc.Rs. 2,78,172-00Rs. 6,05,673-02
3.2 The market value of the above fixed, assets have been determined by us as follows:
i)Land and Buildings (As per Annexure-II)Rs. 1,65,00,000ii)Motor Vehicles (As per Annexure-III)Rs. 11,80,000iii)Lift, Telephone Furniture, Typewriter, Franking Machine, Telephone Equipments, Copper Vessels etc.Rs. 12,50,000Rs. 1,89,30,00
4.1 As per Balance Sheet as at 18 December, 1987, the company had an inventory of Rs. 13,02,90,855-55 as mentioned below.
a)Raw Materials and Packing MaterialsRs. 11,21,88,166-86b)Semi Finished Goods (Khidla Beedies)Rs. 70,20,175-79c)Finished Goods (Labeled Beedies)Rs. 1,04,22,305-68d)Miscellaneous Stock-Tyres, Tubes and other items.Rs. 6,60,207-22Rs. 13,02,90,855-55
33. and further referred to the value of the raw-material and other assets available and has arrived at valuation of Rs. 28,58,01,410.32 ps as follows:
4.5 Hence the market value of total assets of the company other than goodwill amount to 28,58,01,410-32 as mentioned below.
Fixed AssetsRs. 1,89,30,000-00Finished GoodsRs. 1,21,22,000-00Other inventoriesRs. 11,98,68,549-87Advance to SuppliersRs. 3,09,93,458-43InvestmentsRs. 50,891-74Sundry Debtors for saleRs. 4,73,76,710-56Other AdvancesRs. 30,77,490-74Cash and BankRs. 3,58,36,519-70Due from PartnersRs. 1,75,45,790-02Rs. 28,58,01,410-32
34. Thereafter the Chartered Accountant have examined the books of account regarding the liabilities of the assessee as on 18.12.1987 as per accounts and it was found at Rs. 2,02,24,021-30 ps. which is as follows:
5.1 We have examined with the books of accounts the liabilities of the company as on 18-12-1987, The liabilities as on 18-12-1987 as per accounts amount to 26,55,77,389-02 as men turned below.
Advance for SalesRs. 24,46,430-09For SuppliersRs. 3,46,05,131 -50For Beedi ContractorsRs. 7,44,42,751-69For Staff & othersRs. 2,32.704-76Liabilities for expenses including bonusRs. 61,13,038-59Other LiabilitiesRs. 1,47,531-86Security DepositsRs. 52,84,806-00Loan DepositsRs. 12,09,13,749-53Income TaxRs. 2,13,91,245-00Rs. 26,55,77,389-02
5.2 While making provision of income Tax for the period 1.07.1987 to 18.12.1987 we have treated the company as going concern without treating the company as dissolved as per new provision of Income tax Act.
6.1 Hence the net assets of the company as on 18.12.87 excluding goodwill amount to Rs. 2,02,24,021 -30.
Total AssetsRs. 28,58,01,410-32 (as per para 4.5)Less Total liabilitiesRs. 26,55.77,389-02 (as per para 5.2)NET ASSETSRs. 2,02,34,021-30
35. The court also made an observation that the report was objected to by respondents 2 to 7 in the application averring that the value of the net assets was included and the said contention was considered by the Division Bench of this court and the reason for which the reserved price of Rs. 30 crores was fixed was arrived are as follows:
“As could be seen from the said report, the value of all the tangible assets of the firm (dissolved partnership firm) has been fixed in a sum. of Rs. 28,58,01,420-32. The value of the fixed assets included in the said value of the total assets is Rs. 1,89,30,000-00. Coming to the value of the good will of the firm, the same is fixed by the Chartered Account ants in a sum of Rs. 26,10,00,000-00 by adopting when is known as ‘super profit method’, that is, the profit made by the firm during the previous five years. As against the said value of the assets of the firm, its liabilities are found to be in the order of Rs. 26,55,77,389-02. It is stated in the report that, in making the report, contingent liabilities of the firm including the claim made by Mangalore Ganesh Beedi Workers and Allied Beedi Factories Workers Association before the Industrial Tribunal, Bangalore, against the firm amounting to Rs. 4,18,50,000-00 has not been taken into consideration in fixing the liabilities of the firm. Ultimately, the value of net tangible assets of the firm and the value of the good-will of the firm as a going concern arc together fixed at Rs. 28,12,24,021-30. As seen from the objection statement filed on behalf of respondents 2 to 7 the minority group of partners, the fixed assets of the firm are grossly under-valued. According to the objection statement, the fixed assets of the firm should have been fixed, at about Rs. 8,00,00,000-00 as against about Rs. 2,00,00,000-00 fixed by the Chartered Accountants in their report. But, according to the objection statement, the value of the other tangible assets of the firn, which aggregate to about Rs. 26 crores does not take into account the value of some of the finished goods stocked in the godowns of the firm. As regards the contingent liability of the firm towards workmen, the same should have been around Rs. 6 crores and not around 4 crores. Non-inclusion of the amount of Rs. 6 crores in the valuation report as a liability of the firm is found fault with. Dealing with the value of the good-will of the firm fixed in the valuation report of the Chartered Accountants, the value of the good-will could not have been determined taking into account the value of the trade-marks of the firm However, it is not stated that the value of the good-will of the firm fixed with the trade-marks at Rs. 26 crores is incorrect. If the value of the contingent liabilities of about Rs. 6 crores is added to the liabilities of the jinn as sought in the objection statement, the under valuation of about Rs. 6 crores made by the Chartered Accountants of fixed assets as alleged in the objection statement would be a set off Even if the value of the finished goods in the godowns of the firm, which are said to have been not taken into account by the Chartered Accountants, is to be added to the value of the total assets of the firm, it cannot be more than about Rs. 2 crores. Thus, even if regard, is had to what is stated in the objection statement of respondents 2 to 7 the minority group of partners, the value of the net assets of the dissolved partnership firm including the value of the good-will, could he around Rs. 30 crores.”
36. Accordingly, the Division Bench of this court allowed the dissolution of the partnership sought for in the Company Petition No. 1/1988 and Company Application 1089/1990 and passed the following order:
“29. In the result, this Court orders the winding up of the dissolved partnership firm sought for in Company Petition No. 1 of 1988 and Company Application No. 1089/1990 therein, as follows:
i) The dissolved partnership firm-Mangalore Ganesh Beedi Works as a going concern shall be sold to such of its partner/s, who makes an offer of a highest price, the same not being less than the minimum (reserved) price of Rs. 30 Crores (Rupees Thirty Crores) within 11.07.1991 accepting further liability to pay interest at 15% per annum towards the amount of the price payable to partner/s from 6.12.1987 till the date of deposit;
ii) The offer for purchase of the dissolved partnership firm-Mangalore Ganesh Beedi Works as a going concern shall he made by the partner or partners, as the case may be, by means of a written offer to be filed in a sealed cover within 11.07.1991 before the Official Liquidator of this Court. Such offer shall be accompanied by a Nationalised Bank's Bank Guarantee for Rupees One Crore made payable to the Official Liquidator within a period of one year from the last date fixed for receipt: of offers according to the order of this Court for being set off against the sale price in the event of acceptance of such offer or being returned in the event of non-acceptance of such offer or being forfeited in the event of withdrawing from the offer or the like. Sealed covers containing valid offers shall be placed before this Court within two weeks after the expiry of the last date fixed for receipt of such offers for being opened and for the highest offer being accepted or otherwise by this Court, by means of a Company Application, to be filed by the Official Liquidator in that regard;
iii) If no offer for purchase of the dissolved partnership firm as a going concern, adverted to in clause (ii) above, is received within the stipulated time or if any of the offers made by the partner/s is not accepted by the Court, the Official Liquidator shall invite offers for purchase of the dissolved partnership firm as a going concern from the public including the partners by giving publicity in three consecutive issues of two English daily national newspapers which have wide circulation in the country and one Kannada daily newspaper having wide circulation in Karnataka, the time allowed for making offers being at-least 45 days-bet ween the last publication and the date fixed for receipt of the offers. Such offers, it must be indicated, shall be accompanied by a Nationalised Bank's Bank Guarantee for Rupees one crore made payable to the Official Liquidator within a period of one year from the fast date fixed for receipt of offers according to the order of this Court for being set off against the sale price in the event of acceptance of such offer or being returned in the event of non-acceptance of such offer or being forfeited in the event of withdrawing from the offer or the like. Sealed covers containing valid offers shall be placed before this Court within two weeks after the expiry of the last date fixed for receipt of such offers for being accepted or otherwise by the Court, by means of a Company Application to be filed by the Official Liquidator in that regard;
iv) If no offer is received for purchase of the dissolved partnership firm as a going concern or if no offer for such purchase is accepted by the Court, the Official. Liquidator shall seek orders of the Court by means of a Company Application as to what other action could be taken by him in the matter of sale of the dissolved partnership firm;
v) If the sale of the dissolved partnership firm as a going concern in favour of any partner or partners or an outsider is accepted by the Court, such offerer shall, within 60 days from the date of the. acceptance of the offer, deposit with the. Official Liquidator the price or such part of the price together with interest on toted amount of the price at 15% per annum from 6.12.1987 till the date of deposit, which may become liable to be paid to the partner or partners towards their share of the price in the partnership firm together with interest on such amount;
vi) The sale price together with interest to be so deposited shall he distributed among the partners who may become entitled to the same, subject to the orders to be made by this Court in that regard on a Company Application to be moved therefore by the Official Liquidator;
vii) The expenses to be incurred by the Official Liquidator in making the purchasers of the partnership firm as a going concern the successors of such firm shall be borne by the purchasers.
viii) Any other expenses or charges to be paid to the Official Liquidator shall be borne by the purchasers of the dissolved partnership firm as a going concern;
ix) The partners of the dissolved partnership firm, who are allowed by the learned Company Judge to run its business as a going concern, shall, within ten days from the date of this order, deposit with the Official Liquidator sum of Rs. 30,000 (Rupees Thirty thousand) from, the accounts of the firm towards expenses to be incurred by him;
x) After the distribution of the sale proceeds to be realized by the sale of Mangalore Ganesh Beedi Works as a going concern among the partners, according to their share entitlement, after deducting the amounts liable to he paid by them to the firm, the Official Liquidator shall move this Court by means of a Company Application for appropriate final orders to be made in the matter of transfer to the put chasers of the dissolved, partnership firm with all its assets and liabilities as a going concern.
xi) It shall be open to the Official Liquidator to seek clarifications or directions from this Court by making necessary Company Application, in the matter of proper conduct of sale of the dissolved partnership firm as a going concern as also proper distribution of the sale proceeds among the partners according to their entitlement or in any matter requiring clarification or further orders from the Court.
37. It has been specially observed in paragraph 28 of the above referred order dated 1.4.06.1991 as follows:
“This Court has sought to preserve the precious and most valuable assets of the dissolved partnership firm - goodwill’ which is valued at Rs. 26 crores by the Chartered. Accountants appointed by this Court to report in the matter. If the value of the goodwill of the. dissolved partnership firm is lost, the value, if any, to be realised for the tangible assets of the dissolved partnership firm (company) may not be sufficient to meet the liabilities of the company even if the value of fixed assets of the company, mentioned by respondents 2 to 7 in their statement of objections to the report of the Chartered Accountants could he secured. From this it would follow that the value of the dissolved partnership firm minus the value of the goodwill may make the solvent dissolved partnership firm may make the solvent dissolved partnership finn an insolvent one. Such a situation is brought about, the beneficial winding up of the firm. which is sought to be carried out by this court preserving the value of the goodwill of the firm in the best interests of all the partners of the firm, may become rather impossible.”
38. In view of the above said order passed by this court, it is clear that when the assets of the going concern of MGBW was brought to auction as a going concern, the value of the goodwill was taken as Rs. 26.10 crores and the balance amount constituted the net assets and therefore what was sold was goodwill and net assets and not patent right, copy right and know how as this court was of the opinion that in the course of manufacture and sale of distribution of beedies, goodwill of the frm is most important as but for the value of the goodwill, the claim of the creditors could not have been satisfied as the value of net asset was much less than the value of the liabilities of the firm and therefore taking into account the value of the goodwill, the sale was ordered to be held in the interest of 150000 employees of MGBW in the interest of the partners of the firm and also in the interest of the successful bidders and outgoing partners to avoid any future litigation in the matter.
39. However, the valuation made by the report relied upon by the assessee i.e, the report submitted by the Chartered Accountant who was requested by the assessee to make valuation, they have split the goodwill into know how: copy right 30%, trademark 20% and the value of the goodwill is shown as nil. Therefore, this valuation is got done by the assessee only for the purpose of claiming deduction u/s 35A and 35AB of the 1961 Act and deduction claimed does not represent the value of know how, copy right. In the facts and circumstances of this case under which auction was conducted by this court as per the order dated 14.06.1991 and also the final order dated 22.12.1994 regarding dissolution of the firm and therefore the Assessing Officer, the first Appellate Authority and the Tribunal have declined to accept the deduction claimed by the assessee for copy right and patent right u/s 35A and know how u/s 35AB of the Act. However, though the Tribunal has confirmed the finding of the first Appellate Tribunal and the Assessing Officer disallowing the deduction claimed u/s 35A and 35AB of the 1961 Act, the Tribunal has passed further order permitting the assessse-firm/AOP-3 to treat the value of copy right, patent right and know how as plant and machinery so as to enable the assessee to seek depreciation on the same and accordingly has passed the order directing the Assessing Officer to show the capitalisation of the value of the copy right, patent right and know how as plant and machinery and allowed depreciation on the cost of the same ana accordingly allowed the appeal filed by the assessee by grating the alternative prayer sought for in the revised return by setting aside the order of the Commissioner of Income Tax and the Assessing Officer in that behalf.
40. It is clear from the above referred order passed by this court on 14.06.1991 that what was sold was the value of the goodwill and tangible assests including the patent and acquisition of goodwill does not attract deductions under provisions of 35A and 35AB or to any depreciation. Having regard to the above said facts and circumstances of the case and in view of the finding that what is sold is the goodwill and not copy right, patent right and know how was not valued and net assets and all tangible assets including trademark was taken into account, it is clear that the direction issued by the Tribunal to treat the value of the copy right, patent right and know how as plant and machinery and direction to allow depreciation on cost of the same and accordingly allowing the appeal filed by the assessee by granting the alternative prayer sought in the revised return setting aside the order of Income Tax Appellate Tribunal is liable to be set aside by restoring the order passed by the Commissioner of Income tax and the Assessing Officer.
41. Accordingly, we answer the substantial question of law in favour of the Revenue and against the Assessee and pass the following order:
42. The appeals are allowed. The order passed by the Income Tax Appellate Tribunal impugned in these appeals dated 19.10.2000 directing the assessing officer to allow the claim of the assessee in respect of the legal expenses incurred for defending and protecting the running business is set aside and it is held that the assessee is not entitled to claim deduction under the said head of legal expenses for protecting and running business and the order passed by the assessing officer and the order of the appellate authority in that behalf is restored and the direction issued by the Tribunal directing the assessee to capitalise the value of trade marks, copy right and technical know how by treating the same as plant and machinery and grant depreciation therein is set aside.