DCIT (IT) 2(2)(1), MUMBAI vs. IMCD GROUP B.V. INDIA BRANCH, MUMBAI

During the course of the assessment proceedings the A.O observed that the loss returned by the assessee had emerged primarily on account of claim of depreciation of Rs.1,36,81,137/- on some goodwill, which was supposedly acquired by the assessee during the year under consideration. On perusal of the details, it was observed by the A.O that the assessee had during the year under consideration acquired the textile chemical trading division of M/s Mata Polymers Pvt. Ltd. & Silco Auxichem (I) Pvt. Ltd.(both being companies with Mata Group), as an ongoing concern, for a consideration of Rs.13,49,53,000/- [Rs. 12,99,00/000/- (+) Rs.50,00,000/-]. According to the assessee, the net assets so acquired were valued at Rs.2,59,04,000/- while for the excess amount of Rs.10,90,49,099/- was paid for and capitalised by it as goodwill. It was submitted by the assessee that the depreciation of Rs. 1,36,31,137/- claimed by it on goodwill which was an intangible asset, was in order.

On a perusal of the records, it was observed by the A.O that out of the total consideration of Rs.13,49,99,000/- for the acquisition of the aforesaid ongoing concern, an amount of Rs.2,59,04,000/- pertained to the net value of trade debtors, trade creditors and trade stock which was finally taken over by the assessee. In the backdrop of the aforesaid facts it was observed by the A.O, that the balance amount of Rs.10,90,49,099/- paid by P a g e | 3 AY. 2012-13 Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India the assessee over and above the net realizable value of the trade debtors, trade creditors and the trading stock as on 31st March, 2011, was towards non-compete fees, which was thereafter capitalized in its books of account as goodwill.

The A.O holding a conviction that as the non-compete fees paid by the assessee did not lead to acquisition of any intangible asset, therefore, the depreciation of Rs. 1,36,31,137/- claimed by the assessee on the amount of Rs.10,90,49,099/- paid towards non-compete fees could not be accepted. The A.O while concluding as hereinabove, was of the view that as non- compete rights did not qualify as “any other business or commercial right of similar nature” like knowhow, patents, copyright, trademarks, licenses, franchises etc. since it did not belong to the same genus, therefore, it could not be characterised as an „intellectual property‟ and would not be eligible for depreciation under Sec.32 of the Act. The A.O taking support of the judgment of the High court of Delhi in the case of Sharp Business Systems Vs. CIT-3 (2012) 254 CTR 233 (Del) and certain other judicial pronouncements, disallowed the claim of depreciation of Rs. 1,36,31,137/- raised by the assessee on goodwill.

The assessee assailing the disallowance of its claim of depreciation of Rs. 1,36,31,137/- on goodwill, filed objection with the Dispute Resolution Panel-1, Mumbai (for short „DRP‟). The DRP after deliberating on the contentions advanced by the assessee, did find favour with the same. The DRP observed that the amount of Rs.10,90,49,099/- paid by the assessee was by way of premium towards goodwill of the business as well as non- compete fees. It was noticed by the DRP that no bifurcation in respect of the aforesaid payment of Rs. 10,90,49,099/- made by the assessee was however available. In the backdrop of the aforesaid facts, the DRP relying on the judgment of the Hon‟ble High Court of Madras in the case of M/s Pentasoft Technology Ltd. Vs. DCIT (2014) 264 CTR 187 (Mad) and that of the High Court of Karnataka in the case of CIT Vs. Ingersoll Rand International Ind Ltd.(2014) (48 taxmann.com 349), concluded that the assessee was entitled P a g e | Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India to depreciation in respect of the non-compete fees paid by it. On the basis of the aforesaid deliberations, the DRP directed the A.O to allow depreciation on the amount of Rs.10,90,49,099/- paid by the assessee towards goodwill and non-compete fees.

The A.O on the basis of the aforesaid directions of the DRP allowed the assessees claim for depreciation of Rs.1,36,31,137/- paid towards goodwill and non-compete fees, and vide his order passed under Sec. 143(3) r.w.s 144C(13), accepted the returned income of the assessee.

The revenue being aggrieved with the order of the A.O passed under Sec. 143(3) r.w.s. 144C(13), has carried the matter in appeal before us. The ld. Departmental Representative (for short „D.R‟) taking us through the facts of the case submitted that the assessee had merely taken over the stocks of the seller concern, viz Mata Polymer P. Ltd. & Silco Auxichem (I) P. Ltd., and had not taken over the entire business division as a going concern. It was submitted by the ld. D.R that the A.O observing that the excess amount of Rs.10,90,49,099/- was paid by the assessee towards non-compete fees, had thus rightly disallowed the depreciation claimed by the assessee on the same. The ld. D.R further took us through the observations of the DRP at Page 15 of his order. Per contra, the ld. Authorized Representative (for short „A.R‟) for the assessee supported the order passed by the DRP. It was submitted by the ld. A.R that a composite amount of Rs.10,90,49,099/- was paid by the assessee to the seller towards goodwill of the business as well as non compete fees. It was further submitted by the ld. A.R that no bifurcated details as regards the payment of the aforesaid composite amount was available. In the backdrop of the aforesaid facts, it was submitted by the ld. A.R that the claim of depreciation of Rs. 1,36,31,137/- on the composite amount of Rs. 10,90,49,099/- paid by the assessee towards goodwill and non-compete fees, as observed by the DRP, was in order. The ld. A.R in support of his aforesaid contention relied on the judgment of the Hon‟ble High Court of Madras in the case of M/s Pentasoft Technology Ltd. Vs. DCIT (2014) 264 CTR 187 (Mad) and that of the Hon‟ble of Karnataka in the case P a g e | Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India of CIT Vs. Ingersoll Rand International Indi. Ltd. (2014) (48 taxmann.com 349) (Kar). The ld. A.R further took us through the Sale and purchase agreement, dated 20.10.2011 executed between the assessee and Mata Polymers Pvt. Ltd/Silco Auxichem (I) Pvt. Ltd. The ld. A.R drew our attention to Para 7.3- 7.4 of the aforesaid agreement, wherein the aforesaid seller viz. Mata Polymers Pvt. Ltd is stated to have conveyed to all its suppliers about the sale of its business, and the fact that neither of them had stated in writing or otherwise that they tend to terminate their relationship with the seller pursuant to the aforesaid sale of the business. The ld. A.R further relied on the judgment of the Hon‟ble Supreme Court in the case of CIT, Bangalore Vs. B.C.Srinivasa Setty (1981) 128 ITR 294 (SC).

We have heard the authorized representatives for both the parties, perused the orders of the lower authorities and the material available on record. We find that our indulgence in the present appeal has been sought for adjudicating, as to whether the DRP is right in concluding that the claim of the assessee as regards depreciation on the composite amount of Rs.10,90,49,099/- paid towards goodwill and non-compete fees on acquisition of a going concern was in order, or not. We have perused the orders of the lower authorities and find that the assessee had during the year under consideration taken over the running business of Mata Polymers Pvt. Ld and Silco Auxichem (I) Pvt. Ltd, for a total consideration of Rs.13,49,99,000/-. Out of the aforesaid consideration of Rs. 13,49,99,000/- an amount of Rs.2,59,04,000/- pertained to the net value of trade debtors, trade creditors and trade stock which were finally taken over by the assessee. The excess amount of Rs.10,90,49,099/- which was paid by the assessee, was a composite payment made to the seller towards goodwill and non-compete fees. We find that the claim of the assessee as regards depreciation of Rs.1,36,31,137/- on the aforesaid amount so paid to the seller, was disallowed by the A.O in his draft assessment order passed under Sec.143(3) r.w.s. 144C(1)of the Act. The DRP observing that the assessee was entitled for depreciation on the aforesaid amount of Rs.10,90,49,099/- P a g e | Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India paid towards goodwill and non-compete fees, thus issued necessary directions to the A.O.

We find from the perusal of the Sale and purchase agreement, dated 20.10.2011, entered into between Mata Polymers Pvt. Ltd./Silco Auxichem (I) Pvt. Ltd and the assessee, that the aforesaid amount of Rs.10,90,49,099/- was paid by the assessee over and above the net value of assets so acquired, by way of a composite payment towards goodwill and non-compete fees. We further find that no bifurcation as regards the aforesaid payment is discernible from the aforesaid agreement. We find that as observed by us hereinabove, the issue that a payment made towards non- compete fees pursuant to a composite agreement, by virtue of which the transferor was restrained from the using same trade mark, copyright etc., has to be read as a supporting clause to transfer of copyright and patents transferred as intangible assets in terms of Sec. 32(1)(ii) of the Act. Our aforesaid view stands fortified by the judgment of the Hon‟ble High Court of Madras in the case of Pentasoft Technologies Ltd. Vs. DCIT (2014) 264 CTR 187) (Mad). The High Court in the aforementioned case, not being persuaded to subscribe to the claim of the revenue, had concluded that the payment made towards non- compete fees under an agreement should be read as a supporting clause to the transfer of the copyright and patents to strengthen the commercial right, which was transferred in favour of the buyers. The High Court holding that the assessee would be entitled for claim of depreciation under Sec.32(1)(ii) as regards the payment made towards non- compete fees pursuant to a composite agreement, had observed as under:

In the preceding paragraphs, we have referred to the agreement entered into between the parties. The said agreement dated 23.02.2000 is a composite agreement by virtue of it, there was transfer of all rights over the IPRs as well as the training and development programmes to be exclusively used by the assessee for a fixed fee. Under the agreement, the consideration payable for transfer of IPRs and towards non-compete fee have not been segregated or distinctly mentioned. In order to qualify for a depreciation under Section P a g e | Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India 32(1)(ii) of the Act, it would first be relevant to refer to the said provision, which reads as under: "Depreciation: 32(1) [in respect of depreciation of (i)............ (ii) know-how, patents, copyrights, trade marks, licences, franchises or any other business or commercial rights of similar nature, being intangible assets acquired on or after the 1st day of April 1998, owned, wholly or partly, by the assessee and used for the purposes of the business or profession, the following deductions shall be allowed -] Therefore, in terms of the above provision, deduction is allowable in respect of depreciation of patents, copy rights, trade marks, licence, franchise, etc or any other business or commercial rights of similar nature. There is no difficulty insofar as the trade mark and copy rights, which have been transferred in favour of the assessee.

The only issue is whether non compete agreement/arrangement would fall within the ambit of clause (ii) of Section 32(1) of the Act.

It is the case of the Revenue that this non-compete fee is in the nature of a negative right and it cannot be of a commercial right of similar nature and the expression „similar nature‟ shall be relatable to patents, copy rights and trade mark licence or franchise or any other business. Therefore, it is submitted that this negative right cannot be construed either as a licence or as a commercial right to be eligible for deduction.

We are unable to agree with the stand taken by the Revenue for the simple reason that the agreement between the parties is a composite agreement. Under the agreement, the transferor had transferred all its rights, copy rights, trade marks in respect of the word „pentasoft‟ as well as the training and development division exclusively to be exploited by the assessee. In order to strengthen those rights transfer under the said composite agreement, there was a non compete clause by virtue of which, the transferor was restrained from using the same trade mark, copyrights etc., in favour of the assessee. Therefore, the non compete clause under the agreement should be read as a supporting clause to the transferor of the copy rights and patents rather to strengthen the commercial right, which was transferred in favour of the assessee.

Learned counsel for the assessee contended that the non- compete is in effect an indirect licence. However, we are not inclined to agree with the said submission since non compete, at best could be a commercial right because that right is relatable to the transfer of trade mark, copy rights and patents. Therefore, the view taken by the Commissioner of Income Tax(Appeals) in this regard is acceptable.

In the case of Techno Shares and Stocks Ltd vs. Commissioner of Income Tax reported in 327 ITR 323 (SC), the assessee therein before the P a g e | 8 AY. 2012-13 Deputy Commissioner of Income tax Vs. M/s IMCD Group BV India Hon‟ble Apex Court claimed depreciation on the membership card held by it with the Bombay Stock Exchange enables it to trade on the floor, is a business or commercial right in the nature of a licence under Section 32 (1)(ii) of the Act.

The Department on the other hand, pointed out that membership is a personal privilege and that it is not an asset and that it is not owned by the assessee and therefore, the claim of the assessee for depreciation was not admissible under Section 32(1)(ii) of the Act.

While answering the question, the Hon‟ble Supreme Court considered the rules of the Bombay Stock Exchange and after perusing Rules 5 to 10, it held thus: ........."that the right of nomination is conferred on the member of the exchange; that , the said right shall cease and vest in the exchange when his membership gets forfeited to the exchange; that on such forfeiture the right of membership gets vested in the exchange and on such vesting the exchange has the right to deal with it as it may think fit. That, on forfeiture even the right of nomination vests in the exchange. Thus, a non-defaulting continuing member owns the right of nomination with respect to the membership of the exchange till his right of membership is forfeited to the exchange." However, the Hon‟ble Supreme Court observed that the right of membership including the right of nomination gets vested in the exchange on the demise/default committed by the member; that on such forfeiture and vesting in the exchange, the same gets disposed of by inviting offers and the consideration received thereof is used to liquidate the dues owed by the former/defaulting member to the exchange or clearing house.

It further held that it is this right of membership, which allows the non- defaulting member to participate in the trading session on the floor of the exchange. The said membership right is the business or commercial right conferred by the rules of the Bombay Stock Exchange on the non-defaulting continuing member.

We are conscious of the fact that the Hon‟ble Supreme Court clarified that the said judgment is strictly confined to the right of the membership conferred upon the member under the Bombay Stock Exchange membership card during the relevant assessment years and that judgment should not be understood to mean that every business or commercial right would constitute a 'licence' or a 'franchise'. Therefore, the said decision was rendered after taking into consideration the Rules of the Bombay Stock Exchange.

In the case of hand, we have analysed the agreement and also in the previous portion of this order elaborated upon the various terms and conditions, which bind the parties had observed that the earlier transfer of the trade mark, patents and other rights in favour of the assessee was undoubtedly the transfer of intangible assets, which in terms of section 32(1)(ii) of the Act would be a capital asset entitled to depreciation.