KPMG FLASH NEWS

KPMG FLASH NEWS
KPMG IN INDIA
Non-compete fees are capital in nature and therefore not allowed as a
deductible expenditure, however, depreciation is allowed on the same.
Payments for transfer of business along with contracts, etc are not for
acquisition of know-how hence depreciation is not allowed
12 September 2012
Background
Recently, the Mumbai Bench of the Income-tax
Appellate Tribunal (the Tribunal) in the case of Ind
Global Corporate Finance Private Limited1 (the
taxpayer) held that the non-compete fee is not a
deductible expenditure since it is capital in nature.
However, the non-compete right is an ‘intangible
asset’ eligible for depreciation under the Income-tax
Act, 1961 (the Act).
During the year under consideration the taxpayer
entered into a transfer of business agreement with
Ind Global Financial Trust Ltd. for transfer of their
merchant banking business to the taxpayer.
• In terms of transfer of business agreement, the
taxpayer paid an amount of INR 7 million to a
shareholder cum Managing Director of Ind Global
Financial Trust Ltd and also paid INR 10 million to
Ind Global Financial Trust Ltd. as non-compete fee.
Further, the Tribunal also held that payments for
transfer of business along with contracts, clients and
client relationship, etc. did not result in acquiring any
know-how which can be considered as an ‘intangible
asset’ hence depreciation is not allowed on such
payments.
• The non-compete fee had been paid for restricting
Non-compete fees whether capital or revenue in
nature and if it is capital in nature, whether
depreciation is allowable on the same
• The
Facts of the case
• The taxpayer is engaged in providing corporate
these parties for a period of 36 months from carrying
out similar business, soliciting present and past
clients, etc.
taxpayer had shown the non-compete
expenditure at INR 17 million as deferred revenue
expenditure in the books of account. However, in the
return of income the taxpayer had claimed the same
as revenue expenditure.
advisory services and merchant banking services.
_____________
1
Ind Global Corporate Finance Private Limited v. ITO (ITA No.1258/Mum/08)
– Taxsutra.com
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.
• The Assessing Officer (AO) held that the taxpayer
• In case the payment was treated as capital in
had acquired benefit of enduring nature for a fixed
period and therefore, such expenditure was capital in
nature. Accordingly, the AO disallowed the claim of
the taxpayer.
nature, depreciation should be allowed to the
taxpayer. In order to support its contentions the
taxpayer relied on the decision of Chennai
Tribunal in the case of Real Image Tech (P) Ltd.4
and the decision of Mumbai Tribunal in the case
of Schott Glass India Pvt. Ltd.5 where it was held
that the depreciation was allowable on noncompete fee which is treated as capital
expenditure.
• The Commissioner of Income-tax Appeals [CIT(A)]
held that the expenditure was revenue in nature.
• The taxpayer had also raised an additional ground
that in case the expenditure was considered by the
Tribunal as capital in nature, depreciation should be
allowed on the same.
Issue before the Tribunal
Tribunal’s ruling
Non-compete fees is capital expenditure
• The issue in the present case has been
considered by the Delhi Special Bench Tribunal in
case of Tecumseh India Private Ltd wherein it
was held that the expenditure on account of noncompete fee has to be treated as capital
expenditure. The case of the taxpayer in the
present case is identical.
• Whether payment for non-compete fees is capital or
revenue in nature? If it is capital in nature, whether
depreciation is allowable on the same?
Tax department’s contentions
• The taxpayer itself had treated the expenditure as
deferred revenue expenditure and not claimed it in
P&L Account, showing that the taxpayer was of the
view that the expenditure was capital in nature.
• The non-compete expenditure had been incurred
in connection with setting up of the new business
and the provisions for payment of non-compete
fees were contained in the agreement for transfer
of business. Therefore, following the above
decision the expenditure has to be considered as
capital in nature.
• It was one-time payment which had given enduring
benefit to the taxpayer and therefore, the expenditure
had to be considered as capital in nature. In order to
support its contentions the tax department relied on
2
the decision of Tecumseh India Private Ltd .
• Non-compete agreement was valid for a period of
three years which has to be considered as
sufficient length of time to treat the expenditure
as capital in nature. The protection acquired by
the taxpayer from competition was not part of the
working of the business, as held by the Hon'ble
Supreme Court in the case of Assam Bengal
Cement Co. Ltd. (supra). Therefore, the
expenditure has to be disallowed since it a capital
expenditure.
Taxpayer’s contentions
• The taxpayer contended that the decision of the
Delhi Special Bench Tribunal in case of Tecumseh
India Private Ltd. was not applicable to the facts of
the present case. The said decision had been
distinguished by the Delhi High Court in the case of
3
Eicher Ltd whose facts were similar to the present
case.
• Onetime payment for enduring benefit was not
conclusive test to decide the true nature of
expenditure as held by the Supreme Court in the
case of Empire Jute Co. Ltd and it is required to be
seen whether the advantage to the taxpayer was in
revenue or capital field. In the present case, there
was no advantage to the taxpayer in the capital field
and, therefore, the expenditure has to be considered
as revenue in nature.
____________
2
Tecumseh India Private Ltd. v. ACIT [2010] 127 ITD 1 (Del) (SB)
3
CIT v. Eicher Ltd. [2008] 302 ITR 249 (Del)
Depreciation is allowed on non-compete fee
• As regards entitlement of depreciation, the issue
has already been considered by the Chennai
Tribunal in case of Real Image Tech (P) Ltd.
where the Tribunal held that by obtaining noncompete right on payment of non-compete fee,
the taxpayer can run its business without
bothering about competition and, therefore, non-
___________
4
5
ACIT v. Real Image Tech (P) Ltd. [2009] 120 TTJ 983 (Chen)
Schott Glass India Pvt. Ltd (ITA No.1698/M/2003, dated 7 September
2011)
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.
compete right was an ‘intangible asset’ falling in the
category of ‘any other business or commercial right’
under Section 32(1)(ii) of the Act.
which had to be considered as know-how and
depreciation had to be allowed. The taxpayer
relied on various decisions6 in support of the case.
• Further the decision of Real Image Tech (P) Ltd. has
• The taxpayer also referred various decisions7 in
support of the plea that in case the know-how is
not held as intangible expenditure, the same
should be allowed as revenue expenditure.
been followed by the Mumbai Tribunal in the case of
Schott Glass India Pvt. Ltd. and therefore, the
depreciation claim is allowed on non-compete fees.
Payments for transfer of business along with
contracts, clients and client relationship are not
eligible for depreciation
Facts of the case
• The taxpayer paid INR 2.5 million to Ind Global
Financial Trust Ltd. for sale and transfer of business
and contracts. The taxpayer had treated the said
expenditure for acquisition of know-how and
accordingly depreciation was claimed under Section
32 of the Act.
• Even if the payment was considered as made for
acquisition of goodwill, the depreciation was
allowable on goodwill in view of the decision of the
Tribunal in the case of Kotak Forex Brokerage Ltd.
Tribunal’s ruling
• According to the agreement, the word ‘business’
acquisition of goodwill and not for know-how and
therefore such depreciation was disallowed.
has been defined to mean the employees,
customer and client relationship, customer and
client list, certain know-how related to merchant
banking business of the transferor but did not
include the excluded assets, the creditors and
liabilities. Thus, the payment had been made for
the transfer of business and contracts which
included customer and client relationship.
• Before the CIT(A), the taxpayer filed business know-
• Though the definition of ‘business’ in the
• The AO held that the payment had been made for
how manual relating to merchant banking acquired
from Ind Global Financial Trust Ltd and claimed it as
know-how. However, the CIT(A) observed that the
manual did not contain any technique or skill but was
only compilation of rules, regulations, etc which is
otherwise available in the market in the form of
books. Hence, the said payment could not be treated
as expenditure on acquiring know-how. Accordingly,
the CIT(A) upheld the disallowance made by the AO.
agreement referred to know-how but there is no
material produced by the taxpayer to show that
any part of the payment was related to any knowhow which can be considered as an ‘intangible
asset’ for the purpose of Section 32(1)(ii) of the
Act.
• There is no material produced by the taxpayer to
show that the transferor had transferred any
industrial information or technique developed by it
which could assist in the manufacture or
processing of goods. Moreover, the transferor was
in the business of merchant banking which does
not require any industrial information or technique
useful in manufacture or processing of goods.
Issue before the Tribunal
• Whether payment for transfer of business along with
contracts, clients and client relationship made by the
taxpayer is for acquisition of know-how? Whether
taxpayer is eligible for depreciation on such
payments?
Taxpayer’s contentions
___________
6
Areva T&D India Ltd v. DCIT [2012] 345 ITR 421 (Del)
ACIT v. American Express Services India Ltd. (ITA No.4106
M/2007, dated 3 February 2012)
B. Raveendran Pillai [2011] 331 ITR 531 (Ker)
Kotak Forex Brokerage Ltd. v. ACIT [2009] 33 SOT 237 (Mum)
KEC International Ltd. v. ACIT [2010] 41 SOT 43 (Mum)
Hindustan Coca Cola Beverages Pvt. Ltd. v. DCIT [2009] 34 SOT 171 (Del)
7
Denso India Pvt. Ltd. (ITA No.16 of 2008, dated 8 October
2010)
Gannon Norton Metal Diamonds Dies Ltd. [1987] 163 ITR 606
(Bom)
• The payment of INR 2.5 million had been made in
terms of the transfer of business agreement for
acquiring
business
methodology,
business
procedures and processes, technical skill etc.
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.
• It has not been explained as to why the taxpayer
would pay for rules, regulations, etc which are
available in the market and, therefore, the payment
had been made for the transfer of business and
contracts including clients and client relationship and
cannot be considered as know-how.
• No material has been produced to show that any part
of the payment related to acquisition of goodwill.
• Based on the above, the payment was neither for
know-how nor for goodwill hence the various
decisions relied upon by the taxpayer are not
applicable to the facts of the present case.
Accordingly, the depreciation claimed on such
payments is disallowed.
Our comments
In past, there have been conflicting decisions8 on
availability of depreciation on non-compete fees. The
Mumbai Tribunal in this decision has held that the
expenditure on account of non-compete fees are capital
in nature and depreciation is allowable on the same.
In the present case the Tribunal has relied on the
judgment of the Chennai Tribunal in the case of Real
Image Tech. (P) Ltd. where it was held that the
commercial right acquired on payment for non-compete
fees would be covered by the term “or any other
business or commercial rights of similar nature”
because taxpayer can develop and run his business
without bothering about the competition. Hence, the
right is an ‘intangible asset’ under Section 32(1) of the
Act and eligible for depreciation.
In case of GE Plastics Ind., the Ahmedabad Tribunal
had considered the above mentioned conflicting
decisions in relation to allowance of depreciation on
non-compete fees and held that when there are two
views possible, the view favourable to the taxpayer
should be followed as was held by the Supreme Court
9
in the case of Vegetable Products Ltd. Accordingly,
depreciation was allowed on the non-compete fees.
_____________
8
Allowing depreciation - ITO v. Medicorp Technologies India Ltd. [2009] 30 SOT
506 (Chen), CIT v. GE Plastics India Ltd. (ITA no.483/Ahd/2007); ACIT v. Real
Image Tech (P) Ltd. [2009] 120 TTJ 983 (Chen); Not allowing depreciation Srivatsan Surveyors (P.) Ltd. v. ITO [2009] 32 SOT 268 (Chen)
9
CIT v. Vegetable Products Ltd. (1973) 88 ITR 192 (SC)
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.
www.kpmg.com/in
Ahmedabad
Safal Profitaire
B4 3rd Floor, Corporate Road,
Opp. Auda Garden, Prahlad Nagar
Ahmedabad – 380 015
Tel: +91 79 4040 2200
Fax: +91 79 4040 2244
Hyderabad
8-2-618/2
Reliance Humsafar, 4th Floor
Road No.11, Banjara Hills
Hyderabad 500 034
Tel: +91 40 3046 5000
Fax: +91 40 3046 5299
Bangalore
Maruthi Info-Tech Centre
11-12/1, Inner Ring Road
Koramangala, Bangalore 560 071
Tel: +91 80 3980 6000
Fax: +91 80 3980 6999
Kochi
4/F, Palal Towers
M. G. Road, Ravipuram,
Kochi 682 016
Tel: +91 484 302 7000
Fax: +91 484 302 7001
Chandigarh
SCO 22-23 (Ist Floor)
Sector 8C, Madhya Marg
Chandigarh 160 009
Tel: +91 172 393 5777/781
Fax: +91 172 393 5780
Chennai
No.10, Mahatma Gandhi Road
Nungambakkam
Chennai 600 034
Tel: +91 44 3914 5000
Fax: +91 44 3914 5999
Delhi
Building No.10, 8th Floor
DLF Cyber City, Phase II
Gurgaon, Haryana 122 002
Tel: +91 124 307 4000
Fax: +91 124 254 9101
Kolkata
Infinity Benchmark, Plot No. G-1
10th Floor, Block – EP & GP,
Sector V Salt Lake City,
Kolkata 700 091
Tel: +91 33 44034000
Fax: +91 33 44034199
Mumbai
Lodha Excelus, Apollo Mills
N. M. Joshi Marg
Mahalaxmi, Mumbai 400 011
Tel: +91 22 3989 6000
Fax: +91 22 3983 6000
Pune
703, Godrej Castlemaine
Bund Garden
Pune 411 001
Tel: +91 20 3050 4000
Fax: +91 20 3050 4010
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we
endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue
to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.
The KPMG name, logo and “cutting through complexity“ are registered trademarks of KPMG International Cooperative (“KPMG International”), a Swiss entity.
© 2012 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights reserved.