Andhra Pradesh H.C : Whether, on the facts and in the circumstances of the case, the Tribunal was justified in allowing Rs. 80,000 as revenue expenditure for the asst. yr. 1974-75 ?

Counsel Appeared

M. Suryanarayana Murthy, for the Revenue : Y. Ratnakar, for the Assessee

K. RAMASWAMY, J.:

Purandas Ranchoddas & Sons, a partnership firm, consisting of eight partners, was dissolved, consequent upon the issue of a notice by Shantilal, one of the partners on November 5, 1972, w.e.f. November 6, 1972. By a deed of dissolution dated January 6, 1973, whereunder three outgoing partners, viz., Motilal, Ramlal and Shantilal, a minor represented by his father, Motilal, together received a sum of Rs. 80,000 towards their share in the goodwill and relinquished all their rights. The assessee debited in its accounts the said sum of Rs. 80,000 as revenue expenditure and claimed it as allowance under s. 37(1) of the IT Act, 1961 (Act 43 of 1961), in short, ” the Act “. The ITO and the AAC disallowed the claim treating it as capital expenditure. On second appeal, the Tribunal held it to be business expenditure and, therefore, granted allowance of the said amount of Rs. 80,000 under s. 37(1) of the Act. At the instance of the Revenue, the Tribunal made a reference under s. 256(1) for the opinion of this Court on the following question: ” Whether, on the facts and in the circumstances of the case, the Tribunal was justified in allowing Rs. 80,000 as revenue expenditure for the asst. yr. 1974-75 ?”

The facts as set out have not been disputed. To be more precise, it would be profitable to extract the relevant clauses of the deed of dissolution to resolve the dispute satisfactorily. Clauses (3), (4), (5), (7), (11) (12) and (13) of the deed of dissolution are relevant for the purpose of deciding the question in issue. The outgoing partners are described as first party and the remaining five partners as second party. The clauses are as follows: ” (3) The parties of the first part, in consideration of the terms contained herein, relinquish all their rights and interest in the said firm and all sums of money, accounts, proceedings, claims and businesses, manufactures, products, stock-in- trade and assets. The parties of the first part also relinquish their right in the property marks, trade marks, whether registered or unregistered (as described in Schedule ‘ A ‘) or pending registration (as described in Schedule ‘ B ‘). (4) The parties of the first part also relinquish their rights in the import licences, permits belonging to the partnership business of Purandas Ranchoddas & Sons and standing in the name of its partners or partner relating to the firm. (5) The parties of the first part also relinquish their rights and interest in the shop premises, firm name, branches, agencies, quota rights and demands whatsoever they may have in favour of the parties of the second part. The parties of the second part alone shall be entitled to receive all the assets and recover debts of the partnership firm. (7) That the parties of the second part have paid today to the parties of the first part a sum of Rs. 80,000 (Rupees eighty thousand only) as consideration for the goodwill of the firm and for their relinquishing all the rights in the said firm from November 6, 1972. The details of the payment are as follows: This payment shall be in addition to other payments mentioned in this deed ……

11. The Registered Trade Mark Kashmiri Zafrani Patti Zarda which is registered in the name of party No. 1 of the first part (Motilal) and which was being used by the partnership firm shall be the exclusive property of the parties of the first part w.e.f. the date of this deed and the parties of the second part shall cease to deal with any products under the said trade-mark or to manufacture any other products under the mark similar to that of Kashmiri Zafrani Patti Zarda. The parties of the second part shall hand over all the labels, cartons and boxes and other packing materials in respect of this trade mark to the parties of the first part forthwith. (12) The parties of the first part are at present manufacturing Shanti Mixture Zarda, Shanti Khimam, Shanti Masala and selling the same by using a label in which the picture of a peacock is shown. The firm, Purandas and Ranchoddas & Sons have been manufacturing and selling Kashmiri Mixture Zarda, Kashmiri Lal Patti Zarda and Kashmiri Peeli Patti Zarda with a similar label with a deer depicted on the label. In order to prevent a possible conflict between the marks and to distinguish the goods, the parties of the first part agree to have in addition to the existing colour scheme and design, the bust photo of Motilalji on the label of Shanti Mixture Zarda. This inclusion of the bust photo on the Shanti Mixture Zarda shall be brought about within one year from the date of this deed. The parties of the first part are entitled to continue dealing in the said products, viz., Shanti Mixture Zarda, Shanti Quiwam, Shanti Pan Masala, mentioned in this clause as before without any let or hindrance by the parties of the second part. The parties of the second part are expressly forbidden from manufacturing or selling any produce under the name ‘ Shanti ‘. The parties of the second part are also expressly forbidden from using the word ‘Zafrani’ along with the word ‘ Kashmiri ‘ in relation to Zarda now or for any future product. The parties of the second part specifically agree that they have no objection whatsoever to the parties of the first part manufacturing and selling any product like Quiwam, Pan Masala, Zarda and other cosmetics under the name ‘Shanti’ or any other name except in the names mentioned in cl. (13) of this deed in respect of which the parties of the second part have exclusive rights. (13) The parties of the second part alone are entitled to use the name Kashmiri Quiwam and Kashmiri Pan Masala in respect of their products and the parties of the first part hereby undertake not to use the name of Kashmiri or Kashmir in relation to any Quiwam or Zarda (chewing tobacco of whatsoever nature), cosmetics, hair oils, excepting the ‘Kashmiri Zafrani Patti Zarda’ referred to in cl. (11) above. The parties of the second part alone are entitled to continue the manufacture of Kashmiri Mixture Zarda, Kashmiri Peeli Patti Zarda, Kashmiri Lal Patti Zarda with the present labels, devices and designs and colour schemes without any hindrance from the parties of the first part. ” From a reading of these clauses, it would be clear that differences which had arisen between the partners were settled and the outgoing three partners have agreed to relinquish in toto their right, title and interest in Purandas Ranchoddas & Sons and received a sum of Rs. 80,000 towards goodwill, apart from other amounts in regard to stock-in-trade, etc. In cl. (7), the respective shares, of the three partners towards the goodwill were also mentioned. Clauses (11) to (13) specified the particular trades the respective parties are entitled to carry on while retaining or relinquishing their interests therein and undertook not to trade in the respective brands unallotted to them. Thereby, it would be clear that there is total cessation of their relationship between the outgoing partners and the remaining partners. As a result, the old partnership stood completely dissolved and accounts were settled. It is also an admitted fact that subsequently a new partnership deed was executed and the new partnership between the remaining partners is continuing with the same firm’s name. Registration under s. 185 of the Act was granted to the new partnership firm. From these facts, the question that arises for consideration is whether the amount of Rs. 80,000 paid by the assessee-firm to the outgoing partners is a revenue expenditure. The assessee sought reliance on Devidas Vithaldas & Co. vs. CIT (1972) 84 ITR 277 (SC). The ITO and the AAC have distinguished the decision, but the Tribunal placed reliance thereon and held that the assessee has been authorised to continue the business under the goodwill and, therefore, it is a revenue expenditure.

Sri M. Suryanarayana Murthy, learned standing counsel for the Revenue, has distinguished the decision and contended that the ratio therein is inapplicable to the facts in this case. On the facts of this case, the expenditure is capital in nature. The decision in General Auto Parts vs. CIT (1981) 128 ITR 519 (Del) was pressed into service.

Sri Y. Ratnakar, learned counsel for the assessee, has traversed varied grounds to support the finding recorded by the Tribunal. In the first instance, it is contended that in cl. (7) of the dissolution deed, though the consideration was said to be for the goodwill, it is not specifically stated whether it is for acquisition of the goodwill or its user. When the outgoing partners have agreed to receive the consideration to part with their share in the goodwill, it will be only for the continued use of the goodwill and it is a revenue receipt. That is how the parties have understood. The entry in the accounts would show that the partners have treated this as a revenue expenditure and this evidence of conduct is also a relevant fact. It is also contended that when the value of the goodwill is ranging between Rs. 9 to 15 lakhs as found by the Tribunal, the consideration of Rs. 80,000 paid is only a pittance. Therefore, it is not in the nature of purchase of goodwill but only a right to the user thereof. It is further contended that there were disputes between the partners regarding the user of the trade-marks. To purchase peace between them, to avoid inconvenience and business hostility and to gain an advantage to continue the business, the expenditure has been incurred. Therefore, it is a business expenditure. In support thereof, he placed reliance on CIT vs. Superintendence & Co. of India (P.) Ltd. (1980) 125 ITR 327 (Cal). He also contends that the amount was paid to ward off undue competition and to prevent harm to the business. Therefore, it is a business expenditure. In support thereof, he relies on CIT vs. Piggot Chapman & Co. (1949) 17 ITR 317 (Cal), V. Damodaran vs. CIT (1967) 64 ITR 26 (Ker) and Dalmia Jain & Co. Ltd. vs. CIT (1971) 81 ITR 754 (SC). It is also contended that the amount paid has a direct and intimate connection between the expenditure and the character of the assessee as a trader and, therefore, it is a business expenditure. In support thereof, he relied on a passage in Indian Aluminium Co. Ltd. vs. CIT 1972 CTR (SC) 51:(1972) 84 ITR 735 (SC). It is also contended that the finding of the Tribunal is that the expenditure was made for the user of the goodwill. The Revenue did not assail the correctness of that finding ; no reference was sought in that regard and, therefore, it must be construed that the finding was allowed to become final. It is needless to mention that whether the expenditure expended is of revenue or capital nature is a mixed question of law and fact to be inferred from the totality of proved facts and circumstances. The question referred is also of wide impact. Therefore, the need to seek a separate reference of a finding of fact is redundant.

4. So the only question is whether the sum of Rs. 80,000 paid by the assessee towards goodwill to the retiring partners is capital or revenue expenditure. Sec. 37(1) postulates that any expenditure (not being expenditure of the nature described in ss. 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purpose of the business or profession shall be allowed in computing the income chargeable under the head ” Profits and gains of business or profession “. Therefore, capital expenditure is expressly excluded from according allowance under s. 37(1). We have, therefore, to see whether the amount in dispute is a revenue expenditure. Sec. 4 of the Indian Partnership Act (IX of 1932), for short, ” the Partnership Act “, defines a partnership thus : ” ‘ Partnership ‘ is the relation between persons who have agreed to share the profits of a business carried on by all or any of them acting for all. “

The partners are tenants-in-common. Under s. 14, goodwill of the business is the property of the partnership and would be subject to the contract between the partners. Sec. 43 contemplates dissolution of partnership at will by any partner giving notice in writing to all the other partners of his intention to dissolve the firm w.e.f. the date mentioned in the notice as the date of dissolution or, if no date is so mentioned, as from the date of the communication of the notice. The mode of dissolution under s. 42 is not necessary to extract. Under s. 55(1), on dissolution of the firm, the goodwill shall, subject to contract between the partners, be included in the assets, and it may be sold either separately or along with other property of the firm. Under sub-s. (2) thereof, after the sale of the goodwill after dissolution, subject to the agreement between him and the buyer, the outgoing partner may not use the firm name or represent himself as carrying on the business of the firm or solicit the custom of persons who were dealing with the firm before its dissolution. Subs. (3) is not relevant. Hence omitted.

5. In Lindley on Partnership, fourteenth Edn, at p 450, it is stated thus: ” The goodwill of a partnership, insofar as it has a pecuniary value, is properly capable of being, and which commonly is, partnership property.” At p 228, the author further states that: ” An important element in the goodwill of a business often lies in the reputation attaching to the business name and accordingly the right to continue the use of the partnership name is frequently of great importance.” In Halsbury’s Laws of England, fourth Edn., Vol.35, para 201, at pp 114-115, it is stated that: ” The goodwill of the business carried on by a partnership forms part of the assets to be realised on distribution. If the goodwill is not sold, each partner may use the name of the firm, if by doing so he does not hold out the other partners as being still partners with him. If a partner agrees to retire and his partners buy his share but do not take any express assignment of the goodwill, they are not entitled to continue the use of his name as part of the firm name …… Where the goodwill becomes on dissolution the property of one of the partners (either by purchase in the ordinary way or pursuant to a provision in the articles), the outgoing partner or partners may not carry on a similar business in the name of the old firm, and may not solicit old customers. ” Lindley on Partnership, 14th Edn., at p 228, states that the purchaser of the goodwill of a business acquires the right not only to represent himself as the successor of those who formerly carried it on, but also to use the old name. Lord Macnaghten in Trego vs. Hunt (1896) AC 7 (HL) lays down thus: “A man may not derogate from his own grant; the vendor is not at liberty to destroy or depreciate, the thing which he has sold; there is an implied covenant, on the sale of goodwill, that the vendor does not solicit the custom which he has parted with; it would be a fraud on the contract to do so.” Desai in Law of Partnership in India, fifth Edn., at p 247, states: ” The rights of the parties as regards goodwill are to be acquired in accordance with the contract between them, if any, in respect of the same.” Thus, it is clear that in a partnership, every partner has title to and is entitled to an interest in the goodwill. Under s. 14, goodwill is an asset of the firm. Sec. 55(1) lays down the rule that the goodwill of the firm, subject to the contract between the partners, on dissolution, in settling the accounts of the firm, is to be included in the assets of the firm and shall be sold either separately or along with other property of the firm and the outgoing partner thereafter, shall not carry on the business in the name of the old name nor solicit old customers. Mukerji on ” Indian Partnership Act “, third Edn., at p 483, says that , ” Goodwill is generally valued at so many years’ purchase of the amount of profits and these annual profits are generally calculated on an average of three years. The effectiveness of the possible or probable competition should be one of the main determining factors in the value of the good- will.”

In this case, admittedly, the mother of one of the partners, Shantilal, got issued a notice dissolving the partnership of the assessee-firm which resulted in an amicable settlement and the partnership stood dissolved w.e.f. November 6, 1973. So long as the partnership continues, no partner of the firm is entitled to claim that he has any specific share in any of the assets belonging to the firm. His rights comprise only of a right to share in the profits so long as the firm is existing and gets back his share of the surplus of assets over the liabilities at the time of his retirement or in the event of dissolution of the partnership firm. Till that eventuality happens, no one can predicate that he has a definite share in the asset of the firm and every partner has a co-extensive right as tenant-in-common to use the goodwill, subject to the contract between the partners. Goodwill must mean every positive advantage which has been acquired by the old firm in carrying on its business over the years whether connected with the premises in which the business was previously carried on or with the name of the old firm or with any other matter carrying with it the benefit of the business. One of the incidents is attracting customers to the business in a matter connected with the carrying on of it. It is the formation of that connection which has made the value of the thing that the old firm sold and the outgoing partners have nothing else to sell in the shape of goodwill. While dissolving the firm, the partners have distributed their assets over liabilities and have expressed hereunder: ” Whereas in view of the fact that differences have arisen between the parties of the first part and the parties of the second part and having regard to the close relations and on the advice of the well wishers, they have decided to amicably settle their differences and a settlement has been arrived at.”

8. Thus, they have dissolved the firm and settled the accounts and the outgoing partners have agreed to receive their specified amounts towards their share in the goodwill totalling to Rs. 80,000 besides their share in profits, stock-in-trade, etc. It is true that cl. (7) of the deed of dissolution does not expressly mention that the consideration of Rs. 80,000 received was either towards relinquishing their rights in the goodwill or for the use thereof by the other partners. As held by the Supreme Court in Devidas Vithaldas’ case (supra), the legal character of the transaction which is the source of the receipt in question cannot be ignored and substituted by what the taxing authorities consider as the substance of the matter. The assessing authority is undoubtedly entitled and is indeed bound to determine the true legal relationship resulting from the transaction. If the parties have chosen to conceal by a device the true legal relations, it is open to the Revenue to unravel such device and to ascertain the true nature of the relationship. If the transaction is embodied in a document, the liability to tax depends upon the meaning and content of the language used in it in accordance with the ordinary rules of construction. Therefore, we have to look to the terms of the contract between the parties as to what is the true nature and effect of the terms embodied in the dissolution deed. As seen in cl. (3), the retiring partners have relinquished all their rights and interest in the firm and also in the other assets; in cl. (4), they relinquished their rights in the licences, permits, etc., belonging to the partnership business ; and in cl. (5), they relinquished all their rights and interest in the shop premises, firm name, branches, agencies, quota rights, etc. To that extent, there is no difficulty in concluding that the amount paid in consideration thereof constitutes revenue receipt. Goodwill is an asset of the firm under s. 14 of the Partnership Act and all partners as tenants-in-common have a co- extensive right in the goodwill. Goodwill is a capital asset attracting the exclusionary clause in s. 37(1) of the Act. Under cl. (7), Rs. 80,000 was received as consideration for goodwill. Clause (11) to (13) are material. But, unfortunately, the Tribunal did not advert to them which would throw a flood of light in construing the nature of the transaction and consideration received towards relinquishment of the share of goodwill by the outgoing partners. Under these three clauses, they elaborated the respective trade names under which their goods were being passed off by the outgoing and the continuing partners; they resolved the differences and agreed to the use of the respective trade names mentioned in the relevant clauses. When such is the situation, it is obvious that in consideration of giving up their right, title and interest in the goodwill of the partnership firm, in cl. (7), the retiring partners must have received consideration of Rs. 80,000 and relinquished their rights therein w.e.f. November 6, 1972. From this arena, let us pass on to consider what is the effect thereof ? Is the payment made only to ward off business rivalry or to secure the easy flow of business as contended by Sri Ratnakar or is it an authorisation to use the firm’s name as found by the Tribunal ? If it were to accede to the contention that the outgoing partners authorised the continuing partners to use the goodwill of the firm to carry on the business of the new partnership, there must be an express contract in that regard between the partners. We find no such express contract in that regard. The concept of authorisation presupposes that the outgoing partners retained their pre-existing right, title and interest in the goodwill of the dissolved partnership firm. But it is a dissolution out and out. A reading of the relevant clauses in the deed of dissolution in unmistakable terms clearly indicates that the outgoing partners completely relinquished all their rights, title and interest not only in the stock-in-trade, the licences, trade marks, shops, branches, etc., but also in the goodwill as well. As a result, they completely snapped off the pre-existing relationship as partners and the remaining partners paid Rs. 80,000 as consideration for goodwill and a new partnership was admittedly constituted with the remaining partners.

The outgoing partners, in turn, received Rs. 80,000 towards their respective shares in the goodwill, obviously in full quit, It is also of importance to note that the business which was hitherto being carried on by the partners was not retained by the assessee in entirety. Certain trades which were being carried on as mentioned in cls. (11) to (13) were allotted and permitted to be used by the outgoing partners and certain trades were retained by the continuing partners. As seen, the goodwill in the dissolved firm is a common asset of all the partners. Unless the continuing partners acquire the right, title and interest from the outgoing partners of their share in the goodwill, they have no exclusive right to use the goodwill of the dissolved firm. Therefore, on dissolution, the outgoing partners must have demanded payment of consideration towards their share of the goodwill; consideration of Rs. 80,000 was paid therefor. So, it would be understood that the consideration was paid towards the price of the share of goodwill held by the outgoing partners so as to prevent the outgoing partners from soliciting the old customers and using the goodwill of the dissolved firm. In Devidas Vithadas’ case (supra), the facts were: ” P “, a chartered accountant, who carried on his profession in the name of D. V. & Co., by a deed dated November 30, 1948, took ” A ” as a partner, reserving to himself the goodwill. The partnership was dissolved w.e.f. December 31, 1950. One of the clauses of the deed provided that the business shall be carried on by ” A ” alone in the name of D. V. & Co. and that the goodwill belonged to ” P ” alone and that he agreed to receive consideration at a specified rate for an indeterminate period which was subsequently reduced. One of the clauses thereunder is that in the event of ” A ” taking a partner/partners, it is covenanted that unless the incoming partner/partners agree for the covenants contained in the deed of dissolution with the consent of either ” P “, or his wife or his son, they cannot use the trade name. Under those circumstances, it was held that it was only a permission for use of the goodwill for an indeterminate period and for an indefinite amount, to be earned in the going business or profession. The ratio therein, in our respectful view, does not apply to the facts in this case. On the other hand, the facts in General Auto Parts’ case (supra) are nearer home. The firm therein consisted of four partners : two of the partners retired and a deed of dissolution was drawn up between the retiring and continuing partners which provided that the continuing partners would have absolute rights and would be entitled to all the assets, goodwill, quota rights of imports and exports and licences previously held by the dissolved partnership and that the retiring partners shall have no right, title or interest in the same. In consideration of their parting with the goodwill, they received certain specified amounts which were claimed by the assessee to be revenue expenditure. In that context, it was held by the Delhi High Court that since the payments were made on the distribution of the assets of the firm, which was dissolved on the retirement of the two partners, to acquire the right, title and interest of the retiring partners by the continuing partners, the payments were of capital nature and were not deductible from the income of the firm.

9. Thus considered, we hold that the outgoing partners received Rs. 80,000 as consideration for relinquishing their share of right, title and interest in the goodwill of the dissolved firm. The consideration paid therefor, in our considered view, was to acquire a capital asset and so was capital expenditure. When the payment was made, it was not incidental to the carrying on of the business but was incidental to the reconstitution of the business by the remaining partners in their new partnership. It is no doubt true, as contended by Sri Ratnakar, that if there is any defect in the title or impediment to the enjoyment of business and the expenditure is incurred (only) to perfect the title or to cure the defect, the expenditure incurred in that regard would be revenue expenditure. The ratio in that regard laid down in Dalmia Jain & Co.’s case (supra) and Ghansham Singh’s case (supra) would apply to such a contingency. There is no dispute with the proposition that where any amount lawfully expended to ward off business competition or to promote the business which is not opposed to public policy under s. 23 or contract is not void under s. 27 of the Contract Act, or the amount paid has a direct or intimate connection between the expenditure and the character of the assessee as a trader, then undoubtedly the amount spent would be revenue expenditure. In fact and in fairness, Sri Murthy did not dispute the correctness of these propositions. They cannot be disputed also. But as stated earlier, we have to consider the totality of the facts and circumstances, the terms of the contract and the surrounding circumstances attending the transaction. Mere treatment meted out to the transaction by the assessee or the entries made in the account books of the assessee are not conclusive nor can they be a smoke screen or camouflage the true colour of a transaction. As held earlier, we have to consider all the facts and circumstances to see whether the payment was made as incidental to the reconstitution of the business or is necessary to carry on the business. If the amount is paid as an incident to reconstitution of the business, it would constitute capital expenditure. The ratio in Indian Aluminium Co.’s case (supra), relied on by Sri Ratnakar, also does not apply to the facts in this case. It was amplified therein thus : ” In our view, the test adopted by this Court in Travancore Titanium’s case (supra) that ‘to be a permissible deduction, there must be a direct and intimate connection between the expenditure and the business, i.e., between the expenditure and the character of the assessee as a trader and not as owner of the assets, even if they are assets of the business’ needs to be qualified by stating that if the expenditure is laid out by the assessee as owner-cum-trader and the expenditure is really incidental to the carrying on of his business, it must be treated to have been laid out by him as a trader and as incidental to his business.”

10. Acquisition of goodwill of a business, as stated earlier, is without doubt, acquisition of a capital asset and, therefore, its purchase price or the amount expended would be capital expenditure. As held earlier, the payment of Rs. 80,000 is for the relinquishment of the right, title and interest by the outgoing partners and an acquisition thereof by the continuing partners is a capital asset. The further contention of Sri Ratnakar is that the value of the goodwill varies between Rs. 9 and Rs. 15 lakhs and the consideration received is only Rs. 80,000 ; therefore, the inadequacy of consideration also is a pointer to point out that the goodwill was permitted to be used by the outgoing partners and that consideration was only for the user lacks force. There is no principle of law that for the validity of a contract, the consideration must invariably be adequate ; it is always open to the parties to agree for a lesser consideration due to varied reasons and enter into a binding contract. Unless the person executing the contract, with a view to rescind the contract, himself pleads and proves either undue influence, coercion or fraud played on him in effecting the contract, the contract is always binding on the parties. It is nobody’s case.Therefore, the inadequacy of consideration by itself is not a circumstance to show that what was conveyed is not relinquishment of the pre-existing right, title and interest, but for user. As already seen, the partners are close kith and kin ; settled their disputes amicably and have shared the respective trade names under cls. (11) to (13). Under those circumstances, the outgoing partners must have regarded Rs. 80,000 as adequate consideration towards their share of goodwill. Therefore, we have no hesitation in holding that the expenditure of Rs. 80,000 is capital in nature and the Tribunal has committed an error of law in treating it as revenue expenditure. The question is answered in favour of the Revenue and against the assessee.

No costs.

[Citation : 169 ITR 480]