M&A Critique

Nitrex Chemicals India Ltd. Vs. CIT

Question of Law

  1. Whether payments made by the assesse to its holding company for the use of its trademark and for the purpose of obtaining expertise in commerce, finance, manufacturing etc. amounted to revenue expenditure instead of capital expenditure?
  2. Whether the additions being disallowances of excessive commission on exports in the circumstances of the case is tenable?
  3. Whether the computation of capital gains in respect of slump sale of trading businesses on account of purchase of shares by ESOP Trust, could be deducted from capital gain under Section 48?
  4. Whether in the case foreign exchange fluctuation in respect of amounts held by theassesse, could be treated as revenue expenditure?

Facts of the Case: Question (1)

The assesse acquired an undertaking/ unit of ICI Ltd.The assesse in 2006-2007 had debited amounts under the head “Techno Commercial Agreement” and a further sum was paid towards Brand Licensing Agreement, executed on 14.03.2005. The real nature of the transaction was transfer of ownership rights vested in the “Nitrex” brand as well as technology and commercial information, to the assessee.

Assesse Contented that these were revenue Expenditure whereas per AO these were Capital expenditure.

CIT(Appeals) & ITAT Findings

The payments were made for using the trade mark of Mis Nitrex Mauritius and to obtain expertise in the field of commerce, finance and manufacturing etc. which were needed for smooth running of the business as the assesse was new in this business and the expenses were paid only for one year so those expense are revenue in nature.

Honourable high Court upheld the Findings of made by Hon’ble ITAT in this case.

Facts of the case: Question (2)

The addition was made by the Assessing Officer to the total income of the assesse on account of excessive commission paid by the assesse. Thus, on account of the same being excessive, the commission was disallowed.

The assesse contended that the commission could not be characterized as excessive as they were more customary in nature having regard to the historic relationship with M/s Asha export, its export agent.

Decision of High Court

The High Court held that such decisions as to the nature and quantum of commission may differ having regard to the uniqueness of each business and the relationship that it may possess with those associated with it. Unless, the revenue is able to pinpoint extraordinary features, it cannot scrutinize the commercial terms that a business takes into account in making a decision and contend that certain percentage or quantum of commission is “excessive”.Therefore, no question of law arises.

Facts of the case: Question (3)

The Assesse entered into a Business Transfer Agreement (BTA) with M/S.  EAC Industrial Ingredients Pte Ltd to sell the Trading Division of the company which was engaged in the business of whole sales trading in chemicals. On same date the Assesse signed an Employees Transfer Agreement (ETA) Agreement with M/s EAC for transfer of employees.

Condition Precedent

It shall be a condition precedent to completion of the transaction contemplated by the BTA that the management staff shall have confirmed that they will accept to be employee of New co instead of Nitrex India Ltd but as per new company’s terms & Conditions, Employees should not hold any stock or Share Holding Option in Nitrex India Ltd. For buy backing, the management shares by the Trust, the appellant company provided the money to Trust.

The Assessing Officer was of the view that the sum of Rs. 1,39,76,352/- spent by the assesse at the time of business transfer to fund the ESOP trust cannot be permissible expenditure. The expenditure was not integrally connected with the transfer and thus, not adjustable from the capital loss reported in that regard.

CIT(Appeals) & ITAT Findings

The BTA could not be completed without transfer of employees, so these expenditures of Rs. 1,39,76,352/-to fund the ESOP trust are necessary to execute Slump Sale transaction so that said expenditure can be treated as Capital Loss.

Section 48 of Income Tax Act 1961

The income chargeable under the head” Capital gains” shall be computed, bydeducting from the full value of the consideration received or accruing as a result of the transfer of the capital assetthe following amounts, namely :—

  1. expenditure incurred wholly and exclusively in connection with such transfer;
  2. the cost of acquisition of the asset and the cost of any improvement thereto

Decision of High Court

Payment of amount to ESOP Trust was incurred wholly and exclusively in connection with such transfer (BTA). So High Court Upheld the decision of ITAT

Facts of the case: Question (4)

The assesse incurred foreign exchange fluctuations loss on account of the ECB loan obtained by the assesse. As per AO said loss could not be Considered as revenue loss & Disallowed the same.

CIT(Appeals) & ITAT Findings

ITAT held  that treatment of the foreign exchange fluctuation in case of increase for all the previous years was taken to be on the revenue side, which necessarily implies that the revenue accepted that the increase foreign exchange amounts amounted to income and proceeded to deal with it as such.

Decision of High Court

This court is of the opinion that in view of the past revenue treatment, the revenue’s submissions by the appellant are unmerited. Therefore, no question of law arises.

Date of Judgement/Order: 23rd Aug, 2016

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Prajakta Deshpande