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PREREQUISITE FOR APPLICABILITY OF SECTION 35AB OF THE INCOME

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Court :
SUPREME COURT OF INDIA

Brief :
For the applicability of section 35AB, the nature of expenditure is required to be decided at the threshold because if the expenditure is found to be revenue in nature, then section 35AB may not apply, however, if it is found to be capital in nature, then the question of amortization and spread over, as contemplated by section 35AB, would certainly come into play.

Citation :
CIT v. Swaraj Engines Ltd. Civil Appeal No. 3347 of 2008 May 6, 2008

SUPREME COURT OF INDIA CIT v. Swaraj Engines Ltd. Civil Appeal No. 3347 of 2008 May 6, 2008 —: ORDER :— Leave granted. 2. This civil appeal is filed by the Revenue against the order passed by the Punjab & Haryana High Court in IT Appeal No. 131 of 2004. The impugned decision is dt. 18th May, 2006. 3. M/s Swaraj Engines Ltd. (respondent herein) entered into an agreement of transfer of technology know-how and trade mark with Kirloskar Oil Engines Ltd. under which royalty was payable (by) it. The claim for deduction in respect of the said payment was made by the respondent. It is important to note that during the relevant asst. yr. 1995-96, royalty was paid by the assessee as a percentage of net selling price ol the licensed goods products. 4 Two questions arise for determination in this civil appeal. Firstly, whether the question regarding applicability of s. 35AB of IT Act, 1961 was ever raised by the AO in this case? The second question which arises for determination in this case is whether the expenditure incurred is revenue expenditure or whether it is an expenditure which is capital in nature and depending on the answer to the said question, the applicability of s. 35AB of the FT Act needs to be considered. 5. On the first question, it has been vehemently urged by Shri Iyer, learned senior counsel on behalf of the respondent assessee, that the High Court was right in dismissing the Department's appeal in limine following its earlier judgment in the case of CIT vs. JCT Electronics Ltd. in IT Appeal No. 383 of 2004 (reported at (2006) 203 CTR (P&H) 315—Ed.]. On the first question, there is considerable amount of confusion. It appears that prior to asst. yr. 1995-96, the Department has been contending that the royalty expenditure comes within the ambit of s. 35AB. However, there is some doubt as to whether the said contention regarding applicability of s. 35AB was at all raised. In this regard, the order of AO is not clear principally because it has focused only on one point, viz., whether such expenditure is revenue or capital in nature. At the same time, it is important to note that even for the applicability of s. 35AB, the nature of expenditure is required to be decided at the threshold because if the expenditure is found to be revenue in nature, then s. 35AB may not apply. However, if it is found to be capital in nature, then the question of amortization and spread over, as contemplated by s. 35AB, would certainly come into play. Therefore, in our view, it would not be correct to say that in this case, interpretation of s. 35AB was not in issue. Our above reasoning is further fortified by the question framed by the High Court in the impugned judgment which reads as under : "Whether on the facts and in the circumstances of the case, the Hon'ble Tribunal is right in upholding the decision of the CIT(A) that the payment of royalty made by the assessee company to M/s. Kirloskar Oil Engines Ltd. to acquire technology know-how under the agreement dt. 19th Oct., 1989, is a revenue expenditure and does not come within the ambit of provisions of s. 35AB of the IT Act, 1961, whereas the payment is a capital expenditure in view of the following judgments : A. Tenner Woodroffe & Co. Ltd. vs. C1T 1976 CTR (Mad) 155 : (1976) 102 1TR 665 (Mad); B. Ram Kumar Pharmaceutical Works vs. C1T (1979) 8 CTR (All) 168 : (1979) 119 1TR 33 (All); C. C1T vs. Warner Hindustan Ltd. (1985) 48 CTR (AP) 231 : (1986) 160 1TR 217 (AP); D. C1T vs. Southern Switchgear Ltd. (1984) 39 CTR (Mad) 22 : (1984) 148 ITR 272 (Mad)," ;' 6. On bare reading of the said question, it is clear that applicability of s. 35AB in the context of royalty paid to Kirloskar as a percentage of the net sale price being revenue or capital in nature and depending on the answer to that question, the applicability of s. 35AB also arose for determination before the High Court. Be that as it may, the said question needs to be decided authoritatively by the High Court as it is an important question of law, particularly, after insertion of s. 35AB. Therefore, we are required to remit the matter to the High Court for fresh consideration in accordance with law. 7. On the second question, we do not wish to express any opinion. It is for the High Court to decide, after construing the agreement between the parties, whether the expenditure is revenue or capital in nature and, depending on the answer to that question, the High Court will have to decide the applicability of s. 35AB of the IT Act. On this aspect we keep all contentions on both sides expressly open. 8. Accordingly, the impugned judgment of the High Court is set aside and the matter is remitted for fresh consideration in accordance with law. 9. The appeal is allowed accordingly with no order as to costs.
 

CHEZHIYAN
on 18 September 2008
Published in Income Tax
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