Non-compete fee is capital receipt. Section 28(va) not apply to compensation received in relation to a profession before amendment-High Court uphelds ITAT order
Section 28 of the Income Tax Act, 1961 (the Act) list outs the types of income which are chargeable to income tax under the head “Profits and gains of business and profession”. Sub clause (va) (a) provides for taxing of non compete fee.
Prior to the amendment brought about by the Finance Act, 2016 w.e.f. 01-04-2017, the clause did not specifically covered the non-compete fee received in relation to a “profession”, the language of the clause employed the word “business” only. The amended language of the clause 28(va)(a) w.e.f. 01/04/2017 stands as under:
(va) any sum, whether received or receivable, in cash or kind, under an agreement for-
(a) not carrying out any activity in relation to any business or profession
The instant case involved a dual controversy as to taxability of non-compete fee being the Revenue receipt and also that even before it covered payments in relation to profession.
ABCAUS Case Law Citation:
ABCAUS 2191 (2018) (02) HC
The sole issue involved in the instant case was as to whether the amount received by the respondent assessee was of a revenue character and was therefore taxable by virtue of Section 17(3) or under Section 28(va) of the Income Act?
Important Case Laws Cited/relied upon by the parties:
Ram Pershad v. Commissioner of Income Tax (1972) 86 ITR 122
Guffic Chem. P. Ltd. v. Commissioner of Income Tax (2011) 332 ITR 602
Commissioner of Income Tax v. Anjum G. Balakhia (2017) 393 ITR 320
Commissioner of Income Tax v. Sapthagiri Distilleries Ltd. (2015) 53 Taxmann.com 218 (SC)
Brief Facts of the Case:
The respondent assessee was promoter and Managing Director of a private limited company (private ltd. company), Pursuant to change in shareholding, another company became the major shareholder and the name of the private ltd. Company was changed.
As a result, the assessee terminated his relationship as a joint venture partner in the private limited company and also stepped down as Managing Director. He entered into an agreement with the private ltd. company whereby it agreed to pay Rs. 1.32 crores to him for not providing “the benefit of his knowledge of regulatory matters, negotiating skills and strategic planning expertise to any other person in India in the business segment for a period of two years from the date of the Agreeement”.
The assessee, relying on the legal advice of a lawyer, claimed the amount received was exempt. However, the Assessing Officer (AO) was of the opinion that the amounts received partakes revenue character and therefore he brought it to tax.
The CIT(A) rejected the contentions of the assessee and upheld the assessment order. On further appeal of the assessee, the Tribunal allowed the appeal observing that clause (va) of section 28 of the tax Act covers sum received for a restrictive covenant in relation to a business, but not a profession. It also relied on the decision of the Hon’ble Supreme Court whereby it was held that the compensation attributable to a negative/restrictive covenant is a capital receipt.
Contention made on behalf of the Appellant Revenue:
It was urged that the ITAT fell into error in holding that the amounts essentially received as non-compete fee, were capital and not income. It was submitted that even prior to the amendment, amounts received towards restraining the recipient for carrying on any business or commercial activity were covered within its ambit.
It was highlighted that the amendment bringing to tax such amounts was made with effect from 2002 in view of the previous decisions of the Supreme Court. It was contended that regardless of the insertion of the expression “profession”, to the Act in 2017, the object of the nature of activity carried on by the payer of the assessee was relevant.
Contentions made on behalf of the Respondent Assessee:
It was submitted that the Hon’ble High Court should not interfere with the findings of the ITAT. It was submitted that the law as it stood and it was interpreted by the Supreme Court in a later decision had been applied and there was no infirmity in the impugned order.
Observations made by the High Court:
The Hon’ble High Court opined that there can be more than one ways of looking at non compete receipts. There cannot be a straight jacket black and white formula; the analysis to be conducted by the tax authorities or administration has to be a fact dependent one.
The Hon’ble High Court observed that in the instant case, the assessee had a dual role – both as shareholder and as Managing Director. As Managing Director, he received only the non-compete amounts for two years. It is quite possible that he could have been given this amount as a capital receipt at one go for whatever reasons and that the amount be spread over two years.
The Hon’ble High Court observed that the Parliament had deemed that such amounts – so far as they relate to consideration for professionals should be treated as income by virtue of the amendment of 2017. Therefore the Revenue’s contention that regardless of that amendment even in the pre-existing law, this amount had to be treated as receipts and therefore taxable as income, could not be accepted.
The Hon’ble High Court observed that recently, the Gujarat High Court had analyzed the relevant provisions of Section 28 and also noticed the subsequent amendments. It took note of the decisions of the Hon’ble Apex Court had held that compensation received towards loss of source of income and non-competition fee would be treated only as capital receipts and not liable to tax.
Appeal of the Revenue was dismissed holding that no question of law had arisen.