AMIT RASTOGI HUF,MEERUT vs. ITO, WARD- 1(1), MEERUT

The brief facts and background of the case are that the assessee is a company engaged in the business of manufacturing and sale of Kattha and Cutch. It has taken a factory on lease from Mehta Charitable Prajnalaya Trust (hereinafter referred to as 2 I.T.As. No. 2244, 2245 & 5126 To 5141/Del/2014 ‘Trust’) w.e.f. 01.06.1978. The Trust was also engaged in business of manufacturing of the same products. From time to time vide separate lease deed executed between the assessee company and the Trust, a lease rental were regularly increased. Earlier it was Rs.25,000/- per month and prior to year 1989, it was enhanced to Rs.50,000/-. Later on vide lease deed dated 01.04.1989, the monthly lease rent was increased to Rs.1 lac and after 18.01.1992 again, the lease rent were enhanced to Rs.6,75,000/- per month and finally w.e.f. 01.04.1997 lease rent was further enhanced to Rs.7,50,000/- within annual increment. The lease rental paid by the assessee company was claimed as expenditure in the P&L account. The Assessing Officer was of the opinion that, firstly, the assessee company had claimed benefit of an enduring nature and accordingly, disallowed the increase amount of rent on the ground that it is in the nature of capital expenses; secondly, he also invoked provision of Section 40A(2). Similar disallowances were made in the all the years.

The enhancement in lease rent, if any, which is attributable to normal appreciation, if any, in line with the lease rentals prevailing in the market constitutes revenue expenditure.

Hon'ble High Court has thus held that, firstly, provision of Section 40A(2) is not attracted to the transaction involved; and secondly, the lease rental has to be bifurcated under four categories, the three of which were held to be constituting revenue expenditure, i.e., i) part of enhancement of lease rent which is attributable to the Trust surrendering its right to purchase khair wood; ii) part of enhancement of lease rent which is attributable to the improvement and modernization of plant and machinery carried out by the Trust in the year 1989-90 will construe revenue expenditure; and iii) enhancement of the lease rent which is attributable to normal appreciation in line with prevailing market rate would also construe revenue expenditure. However, in so far as the enhancement of lease rent attributable to the Trust agreeing not indulge in competition with the assessee within a radius of less than 1000 km from the demise property would constitute capital expenditure, i.e., some kind of ‘non compete fee’. With this direction, Assessing Officer was directed to apportion the lease rent in various categories and to pass a fresh assessment order in terms of apportionment made by him.

Before the Assessing Officer, assessee after explaining the entire facts and background of the case, gave bifurcation and basis of computation for disallowance on part of lease charges in accordance with the Hon'ble High Court order which has been incorporated and dealt by the Assessing Officer and Ld. CIT (A) in their order which for the sake of ready reference is also reproduced herein below:-

Hon'ble high court has directed to allow normal appreciation in the lease rent keeping in view the rentals prevailing in the market. For this purpose the assessee was asked to provide details of exiting rentals for various assessment years of the lease rental prevailing in the market. The assessee has shown its inability in furnishing such details. In this regard, request letters were also issued to the SDM, Una (HP) and Executive Engineer, HPPWD, requesting them to provide the details so that the undersigned may get an idea about the prevailing lease rentals for different assessment years. Till this date of order nothing has been heard from the Executive Engineer, HPPWD. The assessee has made a request to allow an appreciation at the rate of 11 per cent which seems to be very unreasonable and high. Therefore, the request of the assessee is not acceptable. Normally the appreciation in the lease rent is based on local area market trend and market demand. It may vary from place to place. Normally an appreciation in rent in the case of residential properties across the country is seen (a 10 % yearly. But this is not true for the 'Commercial' properties In the Commercial properties this variation may be from Zero to Ten percent or even more depending upon location, area and prevailing market price factors and demand of the vacant plots/plants Neither the assessee has produced any evidence in this regard nor the Competent Local Authorities of the area of Himachal Pradesh where it is situated would have supplied

We have heard the rival submissions made by the parties, perused the relevant findings given in the impugned orders as well as material referred to before us. The main issue before us in all the appeals is, how the enhancement of lease rent given by the assessee company to the Trust is to be allocated in terms of directions given by the Hon'ble High Court, which is, firstly, the part of the enhancement for surrendering the right to purchase khair wood would constitute revenue expenditure; secondly, part of the rent would be attributable to improvement and modernization of plant and machinery carried out by the Trust in the year 1989-90 would be revenue expenditure; thirdly, enhancement which is attributable to normal appreciation in line with prevailing market right of lease rent would constitute revenue expenditure; and lastly, enhancement in lease rent attributable for not indulging in competition, i.e., non compete fee would construe capital expenditure. Thus our entire endeavor in all the years is to allocate the capital expenditure on account of ‘non-compete fee’, i.e., Trust agreeing not to indulge in the competition within a specific radius from the demise property.

As regards the right of purchase of khair wood, the 11 I.T.As. No. 2244, 2245 & 5126 To 5141/Del/2014 assessee has claimed that 15% of the average purchases can be taken for the purpose of compensation which Assessing Officer has held that it should be @ 10% of the average purchases. How he has taken it 10% has not been provided by him. On the other hand, ld. counsel for the assessee, Shri K. Sampath has filed copy of the assessment orders for the Assessment Years 1989-90 to 1992-93 in the case of Trust, i.e., M/s. Mehta Charitable Prajnalaya Trust and pointed out that in Assessment Year 1989- 90 the gross profit rate on sale of kattha by the Trust was 21%; for the Assessment Year 1990-91 it was 13.81%; for the Assessment Year 1991-92 it was 14.8%; and for the Assessment Year 1992-93 it was 20.04% which averages to 17.4%. Such an assessment order in the case of the Trust constitutes a valid basis for estimating the average purchase of the khair wood.

On the other hand, learned Senior DR strongly relied upon the order of the Assessing Officer and ld. CIT (A) and submitted that the working given by the assessee is purely based on estimate which cannot be upheld for the reason that from Assessment Year 2004-05 onwards the amount of rent attributable to capital expenditure has gone into negative which is against the mandate and the direction of the Hon'ble High Court, therefore, the working given by the Assessing Officer needs to be upheld.

After considering the entire facts and the submissions made by the parties, we find that Assessing Officer has applied rate of 10% of the average purchases on right to purchase of khair wood surrendered in favour of the assessee by the Trust. The Assessing Officer has not given any reason as to why allowance @10% of the average purchases should be given. On the contrary,

As regards enhancement of the lease rent in line of the prevailing market rate, the assessee before the Assessing Officer as well as before the ld. CIT(A) has submitted that it has taken similar lease of a processing unit from Himachal Pradesh Marketing Corporation which is an undertaking of Government of Himachal Pradesh, to whom assessee has paid sum Rs.30 lac per annum by way of lease rental to the said government undertaking which is much smaller in size and if same is compared then it is at arm’s length transaction. Following comparability analysis of the area of land and sale of annual product was given: MCPT HPMC (1) Investment in Fixed Assets 56,18,414 6,49,177 (2) Area of land 21800 sq. mt. 2000 sq. mt. (3) Sale of Annual Product in F.Y. 1993-94 14.82 crore 2.98 crore

Based on this comparability analysis, it was contended that lease rent cannot be held to be excessive. The assessee had requested to allow normal escalation in the fixed lease rent @11%

Before us, the learned counsel submitted that the normal appreciation in rent in the case of commercial property is more than 10%, whereas the learned DR submitted that assessee could not produce any evidence from any competent local authority which can supply input, and therefore, such an escalation of 10% or 11% is not supported by any proper evidences.

From the judgment of the Hon'ble High Court, it is seen that the Hon'ble High Court held that the portion attributable to normal appreciation in line the lease rental prevailing in the market should be allowed for which the assessee has claimed should be 10% to 11% of the lease rent charged on last year as a escalation and Assessing Officer has restricted to 5%. Since, it is lease of a commercial property; therefore, the annual escalation would normally be more than the residential property. The assessee has given a comparison of property taken on lease with HPMC to show that comparatively assessee is paying more HPMC, and therefore, keeping in that benchmark the escalation of 10% to 11% is reasonable. Though, both the parties have been unable to give annual rate prevailing in the market, however, on the facts and circumstances of the case and looking to the fact that assessee is paying percentage- wise more rent to the government undertaking on a similar lease of commercial property, therefore, we hold that 10% of annual escalation would be reasonable from Assessment Year 1992-93 onwards.

Now coming to the issue of enhancement which is attributed

14 I.T.As. No. 2244, 2245 & 5126 To 5141/Del/2014 to improvement and modernization of plant and machinery carried out by Trust, we find that assessee has given detail of expenditure made by the lessor Trust for the modernization and improvement towards plant and machinery which has been tabulated in the following manner:

Before us, the ld. counsel for the assessee had given SBI BPLR to point out that 1992-93 when lending rate was 12% and in Assessment Year 2010-11 it was 13%. He pointed out that if the wholesale price index is taken into consideration then annual variation of 18% is very reasonable.

The learned Department Representative on the other hand submitted that PLR takes into account inflation and devaluation of rupees taken on account and WPI cannot be made applicable here in this case. Thus, rent attributed by the Assessing Officer @12% is reasonable.

After considering the rival submissions and on perusal of 15 I.T.As. No. 2244, 2245 & 5126 To 5141/Del/2014 the material facts on record, we find that the Hon'ble High Court has directed that enhancement of lease rent which is attributable to improvement and modernization of plant and machinery, building, etc. by the Trust has to be worked out. The basis given by the Assessing Officer that 12% on interest on investment should be given into account. If one goes by SBI Prime Lending Rate right from the Assessment Years 1992-93 to 2010-11, it is seen that it ranges between 10.25 to 17%. The average of which worked out to more than 15%, because up till Assessment Year 1998-99 the PLR rate was more than 13% and after 2006-07 also it is ranging between 12 to 14%. Thus, 12% rate as taken by the Assessing Officer seems to be on a very lower side even though this could not be proper base. Since substantial investment was done by the Trust in various years, therefore, looking to quantum of investment made and escalation over the period of time the rate of 18% claimed by the assessee seems to be quite reasonable and accordingly, we direct the Assessing Officer to take rent attributable to improvement and modernization of plant and machinery, building, etc during the Assessment Years 1989-90 to 1995-96 @18%.

Another very important submission made by Mr. K. Sampath before was that the capital expenditure attributable to ‘non- compete fee’ or amount received for not carrying out any activity in relation to business or profession comes within the ambit of certain kms. Amounts to commercial rights being intangible assets, and therefore, depreciation u/s. 32(1)(ii) which is applicable w.e.f. 01.14.1998 should be allowed @25% per annum. Apart from that, after 01.04.2003 the ‘non compete fee’ or money received for not carrying out any activity in relation to any 16 I.T.As. No. 2244, 2245 & 5126 To 5141/Del/2014 business is treated as revenue received in the hands of the person receiving the same which inter alia means that it has to be treated as revenue expenditure in the hands of the assessee-company, therefore, he submitted that direction may be given to the Assessing Officer to allow such statutory claim on the capital expenditure and/or allow such non- compete fee to be revenue expenditure.

Learned Department Representative strongly objected to such a proposition and submitted that once the Hon'ble High Court has held that certain portion of lease rent is to be treated as capital expenditure, now the same cannot be held to be allowable as revenue expenditure.

After considering the aforesaid submissions, we find that in so far as the claim of the learned counsel that depreciation should be allowed on such a capital expenditure, because it is in the nature of intangible asset, we find substance in such a contention because part of the lease rent has been held to be on account of payment made to the Trust for not indulging in competition, i.e., it is in the form of ‘non-compete fees’ and such a ‘non-compete fee’ ostensibly falls in the category of commercial rights as defined in Section 32(1)(i), therefore, assessee is liable for depreciation from 1st April, 1998. In so far as the claim for entire non compete fee should be treated as revenue expenditure because of amendment brought w.e.f. 01.04.2003 in Section 28(va), we direct the Assessing Officer to examine this aspect and what is allowable as per the statute in respect of certain payment then the same needs to be allowed.

In view of the finding given above, our direction to the Assessing Officer is summarized hereunder:-

Based on the aforesaid direction, the Assessing Officer should work out the net disallowable expenditure for the various Assessment Years. Accordingly, all the appeals of the assessee are treated as partly allowed for statistical purposes.