By TIOL News Service

ALLAHABAD, JAN 30, 2017: THE issue is - Whether when the assessee is to return the technical knowhow to the foreign collaborator after termination of the agreement after five years, the royalty paid as certain percentage of the sale price of the product is to be treated as revenue expenditure. YES is the verdict.

Assessee entered into an agreement with M/S CEAT, CAVI Italy for providing technical know-how in the manufacture of its products and agreed to pay one time Technical know-how fee of Rs. 18,20,227/- and 'Royalty' at 2 per cent of net ex-factory selling price of the product.

The 'Royalty' was payable to Foreign Company for a period of five years from the date of commencement of production. Assessee commenced its production on 23.03.1987 and account for the first time were closed on 31.12.1987. The disputed assessment therefore is for the period from 23.03.1987 to 31.12.1987 (Assessment Year 1988-89). Assessee filed return declaring loss of Rs. 4,58,24,694/-. The return was filed as per Section 115J of Act, 1961 declaring book profit of Rs. 1,48,880/-. The assessment order was passed under Section 143(3) on 08.03.1991. The assessee had claimed payment of 'Royalty' of Rs. 18,20,227/- as 'revenue expenditure' but the Revenue treated it as 'Capital Expenditure' and added to the total income.

On appeal, the CIT(A) reversed the view of the AO and the Tribunal concurred the view of the CIT(A).

On appeal, the HC held that,

++ the question as to whether a particular payment made towards technical know-how fee or royalty to a Foreign Company in lieu of an Agreement will be a "capital expenditure" or "revenue expenditure" would depend upon facts of individual case, and, in particular, various terms of Agreement involved therein;

++ a concurrent finding has been recorded by CIT(A) and Tribunal both that on termination of Agreement, which was for a period of five years, Assessee would return all relevant material relating to know-how acquired through Agreement. This is one of the relevant consideration observed in Alembic Chemical works Ltd. Vs. CIT(A) to hold that in such a case, payment towards 'Royalty' would be 'Revenue expenditure' and not 'Capital'. The agreement also shows that it was not an exclusive right available to the Assessee, inasmuch in para 13 of Annexure, of foreign collaboration, approval accorded by Government of India provides that in case item of manufacture is one which is patented in India, payment of 'Royalty’/lump sum made by Indian Company to Foreign collaborator, during period of agreement shall constitute full compensation for use of patent right till expiry of life of patent and Indian Company shall be free to manufacture that item even after expiry of the collaboration agreement without making any additional payments. Assessee claimed that royalty payment is part of percentage of selling price of product and not for acquiring technical know-how of manufactured licensed product having enduring benefit. These facts available on record have not been disputed and we have not been shown any authority so as to justify to take a different view than what has been taken by Tribunal.

(See 2017-TIOL-209-HC-ALL-IT)