Mangalore Ganesh Beedi Works v. CIT [2015] 378 ITR 640 (SC)
In 1939, the late Sri S. Raghuram Prabhu started the business of manufacturing beedis. He was later joined the business by Sri Madhav Shenoy as a partner and thus M/s. Mangalore Ganesh Beedi Works (for short “MGBW”) came into existence with effect from February 28, 1940.
The partnership firm was constituted from time to time and its last constitution and partnership deed contained clause 16 relating to the manner in which the affairs of the partnership firm were to be wound up after its dissolution. Clause 16 of the partnership deed reads as follows:
“16. If the partnership is dissolved, the going concern carried on under the name of the firm Mangalore Ganesh Beedi Works and all the 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 vest in and belong to the partner who offers and pays or two or more partners who jointly offer and pay the highest price therefore 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, instruments and applications and otherwise and him/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.”
Due to differences between the partners of MGBW, the firm was dissolved on or about December 6, 1987, when the two partners of the firm applied for its winding up by filing Company Petition No.1 of 1988 in the High Court. While entertaining the Company Petition the High Court appointed an official liquidator and eventually, after hearing all the concerned parties, a winding up order was passed on June 14, 1991.
In its order passed on June 14, 1991, the High Court held that the firm is dissolved with effect from December 6, 1987, and directed the sale of its assets as a going concern to the highest bidder amongst the partners.
Pursuant to the order passed by the High Court on June 14, 1991, an auction was conducted in which three of the erstwhile partners forming an association of persons (hereinafter referred to as “AOP-3”) emerged as the highest bidders and their bid of Rs.92 crores for the assets of MGBW was accepted by the official liquidator on or about November 17, 1994. With effect from November 18, 1994, the business of the firm passed on into the hands of AOP-3 but the tangible assets were actually handed over by the official liquidator to AOP-3 on or about January 7, 1995.
MGBW (hereinafter referred to as “the assessee”) filed its return for the assessment year 1995-96 relating to period November 18, 1994, to March 31, 1995, and, subsequently, filed a revised return. Broadly, the assessee claimed a deduction of Rs.12,24,700 as a revenue expenditure permissible u/s. 37 of the Incometax Act, 1961 (hereinafter referred to as “the Act”) towards legal expenses incurred. The assessee also claimed deduction u/ss.35A and section 35AB of the Act towards acquisition of intellectual property rights such as rights over the trade mark, copyright and technical know-how. In the alternative, the assessee claimed depreciation on capitalizing the value of the intellectual property rights by treating them as plant.
The Assessing Officer passed an order on March 30, 1998, rejecting the claim of the assessee under all the three sections mentioned above. Feeling aggrieved, the assessee preferred an appeal before the Commissioner of Income-tax (Appeals) who passed an order on October 15, 1998. The appeal was allowed in part inasmuch as it was held that the assessee was entitled to a deduction towards legal expenses. However, the claim of the assessee regarding deduction or depreciation on the intellectual property rights was rejected by the Commissioner of Income-tax(Appeals).
As a result of the appellate order, the Revenue was aggrieved by the deduction granted to the assessee in respect of legal expenses and so it preferred an appeal before the Tribunal. The assessee was aggrieved by the rejection of its claim in respect of the intellectual property rights and also filed an appeal before the Tribunal.
By an order dated October 19, 2000, the Tribunal allowed the appeal of the assessee while rejecting the appeal of the Revenue.
The High Court set aside the findings of the Income-tax Appellate Tribunal (for short “the Tribunal”) and restored the order of the Assessing Officer.
The Supreme Court with regards to the claim of deduction of Rs.12,24,700/- as revenue expenditure held that there was a clear finding of fact by the Tribunal that the legal expenses incurred by the assessee were for protecting its business and that the expenses were incurred after November 18, 1994. According to the Supreme Court there was no reason to reverse this finding of fact particularly since nothing had been shown to them to conclude that the finding of fact was perverse in any manner whatsoever. That apart, if the finding of fact arrived at by the Tribunal were to be set aside, a specific question regarding a perverse finding of fact ought to have been framed by the High Court.
The Supreme Court therefore set aside the conclusion arrived at by the High Court on this question and restored the view of the Tribunal.
In so far as the question of granting depreciation on the value of trade marks, copy rights and know how was concerned, the Supreme Court noted that the fundamental basis on which these questions were decided against the assessee and in favour of the Revenue was the finding of the High Court that what was sold by way of auction to the highest bidder was the goodwill of the partnership firm and not the trade marks, copyrights and technical know-how.
According to learned counsel for the Revenue, MGBW was already the owner of the trade marks, copyrights and technical know-how and essentially the rights in the intellectual property might be included in goodwill, but these were not auctioned off but were relinquished in favour of AOP-3.
The Supreme Court observed that the trade marks were given a value since in the beedi industry the trade mark and brand name have a value and the assessee’s product under trade mark “501” had a national and international market. As far as the copyright valuation was concerned, beedis were known not only by the trade mark but also by the depiction on the labels and wrappers and colour combination on the package. The assessee had a copyright on the content of the labels, wrappers and the colour combination on them. Similarly, the know-how had a value since the aroma of beedis differ from one manufacturer to another, depending on the secret formula for mixing and blending tobacco.
The Supreme Court noted that AOP-3 had obtained a separate valuation from the chartered accountant M. R. Ramachandra Variar. In his report dated September 12, 1994, the technical know-how was valued at Rs.36 crore, copyright was valued at Rs.21.6 crore and trade marks were valued at Rs.14.4 crore making a total of Rs.72 crore.
The Supreme Court noted that in the case of M. Ramnath Shenoy (an erstwhile partner of MGBW) the Tribunal had accepted (after a detailed discussion) the contention of the assessee that trade marks, copyrights and technical know-how alone were comprised in the assets of the business and not goodwill. It was also held that when the Revenue alleges that it is goodwill and not trade marks, etc., that is transferred the onus will be on the Revenue to prove it, which it was unable to do. The Tribunal then examined the question whether the sale of these intangible assets would attract capital gains. The question was answered in the negative and it was held that the assets were self-generated and would not attract capital gains. The decision of the Tribunal was accepted by the Revenue and therefore according to the Supreme Court there was no reason why a different conclusion should be arrived at in so far as the assessee was concerned.
The Supreme Court observed that the High Court denied any benefit to the assessee u/ss 35A and 35AB of the Act since it was held that what was auctioned off was only goodwill and no amount was spent by AOP-3 towards acquisition of trade marks, copyrights and know-how. In coming to this conclusion, reliance was placed in the report of the chartered accountants Rao and Swamy who stated that the assets of MGBW were those of a going concern and were valued on the goodwill of the firm and no trade marks, copyrights and know-how were acquired. According to the Supreme Court, the High Court rather speculatively held that the valuation made by the chartered accountant of AOP-3 that is M. R. Ramachandra Variar that the goodwill was split into know-how, copyrights and trade marks only for the purposes of claiming a deduction u/ss 35A and 35AB of the Act and the value of the goodwill was shown as nil and the deduction claimed did not represent the value of the know-how, copyrights and trade marks.
The Supreme Court however left open the question of the applicability of sections 35A and 35AB of the Act for an appropriate case. This was because learned counsel submitted that if the assessee was given the benefit of section 32 read with section 43(3) of the Act (depreciation on plant) as had been done by the Tribunal, the assessee would be quite satisfied. The Supreme Court observed that unfortunately, this alternative aspect of the assessee’s case was not looked into by the High Court. Therefore, according to the Supreme Court now the question to be answered was whether the assessee was entitled to any benefit u/s. 32 of the Act read with section 43(3) thereof for the expenditure incurred on the acquisition of trade marks, copyrights and know-how.
The Supreme Court noted that the definition of “plant” in section 43(3) of the Act was inclusive. A similar definition occurring in section 10(5) of the Income-tax Act, 1922 was considered in CIT vs. Taj Mahal Hotel wherein it was held that the word “plant” must be given a wide meaning. The Supreme Court held that for the purposes of a large business, control over intellectual property rights such as brand name, trade mark, etc., are absolutely necessary. Moreover, the acquisition of such rights and know-how is acquisition of a capital nature, more particularly in the case of the assessee. Therefore, it could not be doubted that so far as the assessee was concerned, the trade marks, copyrights and know-how acquired by it would come within the definition of “plant” being commercially necessary and essential as understood by those dealing with direct taxes. The Supreme Court noted that section 32, as it stood at the relevant time did not make any distinction between tangible and intangible assets for the purposes of depreciation.
In this context, the Supreme Court observed that by denying that the trade marks were auctioned to the highest bidder, the Revenue is actually seeking to re-write clause 16 of the agreement between the erstwhile partners of MGBW. This clause specifically states that the going concern and all the trademarks used in the course of the said business by the said firm and under which the business of the partnership is carried on shall vest in and belong to the highest bidder. Under the circumstances, it was difficult to appreciate how it could be concluded by the Revenue that the trade marks were not auctioned off and only the goodwill in the erstwhile firm was auctioned off. The Supreme Court restored the order of the Tribunal directing the Assessing Officer to capitalise the value of trade marks, copyrights and technical know-how by treating the same as plant and machinery and to grant depreciation thereon.
