Membership Fee paid to Stock Exchange is Capital Expenditure not Revenue in nature-High Court

Membership Fee paid to Stock Exchange is Capital Expenditure applying “enduring benefit” and “once and for all” payment test-High Court

ABCAUS Case Law Citation:
ABCAUS 2207 (2018) (02) HC

The Challenge/Grievance:
The appellant assessee had filed the instant appeal under Section 260A of the Income Tax Act, 1961 (Act) arising from the order of the Income Tax Appellate Tribunal (Tribunal/ITAT) in holding that members’ fee paid by the appellant company to the National Stock Exchange was a capital expenditure.

Brief Facts of the Case:
The appellant was a limited company incorporated with the main objective to deal in shares in stock markets, merchant banking and other financial services.

During the relevant assessment year, the appellant had acquired membership of the National Stock Exchange (NSE) and as per the rules had paid a non adjustable deposit for acquisition of the said membership. In addition to the said payment, the appellant had also paid amounts towards interest free security deposit, annual subscription for the first year and as margin deposit.

Membership Fee paid to Stock Exchange is Capital Expenditure

The appellant assessee had treated the payment towards the membership as revenue expenditure. However, this was not accepted by the Assessing Officer (AO), who held that the payment was on recurring in nature and had given rise to an enduring benefit as it was the initial payment for membership of NSE, without which the applicant could not be given membership. Payment was to enable the appellant to acquire membership and since the acquisition gave rise to an enduring benefit, it would qualify as capital expenditure.

However, the AO held that the amount paid for acquiring membership could be allowed as a deduction equal to 1/10th of the total expenditure in 10 equal annual installments and accordingly 9/10th amount was disallowed and added to the computation of income.

The Commissioner of Income Tax-Appeals (CIT-A), accepted the appellant’s contention however, the Tribunal, reversed it and restored the order passed by the AO. The ITAT observed  that the payment was for addition to the capital asset held by the assessee It was incurred to acquire full right to trade as a member, as without acquiring membership of the NSE, the assessee could not have acted as a broker.

Contentions made on behalf of the Petitioner Assessee:
The appellantrelied on instructions/circulars issued by the CBDT (Board) on the question of deductibility of security deposits with the postal department under OYT schemes or other schemes and stated that the said deposits have been treated as revenue expenditure under Section 37 of the Act.

Observations made by the High Court:
The Hon’ble High Court opined that the circular treating the membership subscription paid to an Institute as revenue in nature, would not imply and mean that all subscriptions and membership fees have to be treated as revenue, not withstanding nature of benefit and other aspects.

The Hon’ble High Court observed that Supreme Court has held that membership of a stock exchange was a business or commercial right conferred by the rules of the exchange. The membership right could be said to be owned by the member and used for the purpose of business. It was similar to licence or franchise and was to be treated as an intangible asset. Assessee was entitled to claim depreciation on the same being the owner and as the said asset was used for the purpose of business.

The Hon’ble High Court opined that the Supreme Court had examined the nature and character of membership card, which enables an assessee to trade on the floor or as a broker of the stock exchange. It was held that his membership was a business or a commercial right in the nature of licence under Section 32(1)(ii) of the Act. It was a right or a licence owned by the assessee and was used by him as an asset, i.e., the capital asset.

The Hon’ble High Court noted that the amount paid to acquire membership of the NSE was a fixed amount, which was paid at one time and is not an annual subscription fee. Without payment of the said amount, the appellant assessee could not have acquired membership of the Exchange On acquisition of membership, the appellant acquired right to trade in shares and act as a broker. Deposit of this amount was sine-quanon for issue of and entitlement to the broker’s card. With the said card and having acquired membership, the assessee could enjoy benefits and privileges of a member which would enable it to carry on trade in said capacity.

The Hon’ble High Court noted that the Membership Fee paid exhibited all characteristics of a “capital assets’ as defined in section 2(14) of the Act.

The Hon’ble High Court opined that gight to transfer the membership card would not be the determinative test for there can be capital assets on which there is restriction on transfer. Expenditure to acquire a capital asset would not become a revenue expense or consumable material because there are restrictions or strict stipulations on when transfer of capital asset can be made.

The Hon’ble High Court opined that there cannot be any doubt that one time and lump sum payment made to acquire membership right by a company or person engaged in business of trading in stocks, brings into existence an asset or an advantage of enduring nature. Membership card is not an addition to the stock in trade or consumable stock This expenditure enabled the assessee to acquire an asset to earn income in that year and in future. It was a payment by the appellant assessee to acquire a source which enabled the appellant assessee to do business. Membership brought into existence an advantage for all times. The amount paid represented money paid to procure a permanent right in the form of a license to carry on trade. This expenditure would not be revenue but capital in nature.   

The Hon’ble High Court clarified that even if it was accepted that the appellant was earlier a sub broker it would not make any difference. Business as a broker is different from that of a sub broker. The payment made was an expense incurred to acquire a new right and source of earning. By becoming a broker, the appellant had acquired a different right and new asset with acquisition of the membership ticket. This cannot be treated as mere improvement of the earlier business. Business can also be extended and expanded by making additional capital investment.

The Hon’ble High Court clarified that the it was also not a case of upgradation of existing license and in use technical know how. The Court was guided by the following decisions of the Hon’ble Supreme Court:

The Hon’ble Supreme Court upheld the decision of the Allahabad High Court that consideration/lump sum fee payable in five yearly equal instalments from third year from commencement of commercial production, was capital expenditure. This expense, it was observed, was for bringing business into existence and then for running and sustaining it, for there was no existing business. Further, the Technical Collaboration Agreement was not only for transfer of technical information but for complete assistance, actual, factual and on the spot, for establishment of plant and machinery and continuous assistance at every stage. It was, therefore, expenditure to bring business into existence. It was observed that the aim and object of the expenditure determines character of the expenditure.
It was affirmed that “once and for all payment” when it brings into existence an asset or advantage of enduring benefit, in the absence of special circumstances leading to an opposite conclusion, is capital expenditure and not attributable to revenue. This is the primary and basic test. The appellant assessee has not been able to show and establish any special circumstances for an opposite conclusion in the present matter. Further, the expenditure made was for acquiring and bringing into existence an asset or advantage of enduring benefit and not for running business to produce more profits. The question raised, it was observed, should be answered by adopting common sense and not legalistic and theoretical approach.

The Hon’ble High Court opined that “enduring benefit” test and “once and for all” payment test would be the most appropriate and proper test to apply, though there are exceptions to the said principles and these tests might break down in a given case.  The expenditure incurred was for acquisition of property and rights of permanent character The enduring advantage was in the capital field.

Decision/ Conclusion/Held:
The substantial question of law was answered against the appellant assessee and in favour of the Revenue.

Membership Fee paid to Stock Exchange

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