Madras H.C : Whether, on the facts and circumstances of the case, the Tribunal was right in holding that goodwill, not purchased for a price but built up over a period of years, was liable to be taken into consideration in determining the net value of the assets of the business as a whole on a global basis and the value thereof is to be included having regard to the provisions of r.  2C of the WT Rules, 1957 ?

High Court Of Madras

B. Virdhagiri vs. CIT

Sections WT Rule 2C(d)

Asst. Year 1974-75, 1976-77, 1978-79

N.V. Balasubramanian & P. Thangavel, JJ.

Tax Case Nos. 542 & 681 to 684 of 1986

24th March, 1998

Counsel Appeared

P.P.S. Janardhana Raja for M/s Subbaraya Aiyar & Padmanabhan, for the Assessee : C.V. Rajan, for the Revenue

ORDER

N.V. balasubramanian, J. :

The following common question of law, at the instance of the assessee relating to his asst. yrs. 1974-75 to 1978- 79, has been referred to this Court by the Tribunal, Madras, for our opinion :

“Whether, on the facts and circumstances of the case, the Tribunal was right in holding that goodwill, not purchased for a price but built up over a period of years, was liable to be taken into consideration in determining the net value of the assets of the business as a whole on a global basis and the value thereof is to be included having regard to the provisions of r.  2C of the WT Rules, 1957 ?”

The assessee during the relevant previous years for the asst. yrs. 1974-75 to 1978-79 was a partner in three firms of which S. Natesa Iyer & Co., was one. The firm, Natesa Iyer & Co., was constituted by a deed of partnership dt. 4th Sept., 1974, and the firm consisted of three partners, by name, N. Srinivasan, S. Jayaraman and B. Virdhagiri. On 26th March, 1974, a deed of release was executed by one of the partners, by name N. Srinivasan, who retired from the partnership firm from that date relinquishing all his right, title, shares and interest in the partnership firm in favour of other two partners, namely, S. Jayaraman and B. Virdhagiri, the assessee in the tax cases. In consideration of retirement of N. Srinivasan relinquishing his right, title, etc., the remaining partners agreed to pay on account of his capital, share and interest including name and goodwill in the partnership a consolidated sum of Rs. 1,50,000 in full settlement to be paid in the manner stated in cl. 1 of the release deed.

The WTO found that on the date of release, viz., 26th March, 1974, the retiring partner’s capital account balance in the credit was only Rs. 58,000 and therefore he concluded that the remaining Rs. 92,000 out of Rs. 1,50,000 representing the value of right, title, interest, name and goodwill of the firm. Since Srinivasan had a 1/3rd share in the partnership firm, the WTO computed the full value of the goodwill at Rs. 2,76,000 and the assessee’s half share at Rs. 1,38,000 and by deducting therefrom Rs. 46,000 being the half share of the goodwill amounting to Rs. 92,000 payable to N. Srinivasan, the retiring partner, the WTO treated the balance of the amount of Rs. 92,000 as the assessee’s share of goodwill in the firm which he added to the net wealth of the assessee as the net wealth returned by the assessee did not include any amount on account of the assessee’s share of goodwill in the firm for all the three assessment years in question.

The assessee preferred appeals against the orders of assessment before the AAC questioning the addition made on account of his share in the goodwill. The AAC accepted the case of the assessee that the excess payment was made to the retiring partner as an ad hoc measure to get rid of him and unless goodwill was paid by the firm no value could be added in respect the same as per the terms of r. 2C(b) of the WT Rules. The AAC took into account the nature of the business of the firm and the assets of the firm mostly consisting of sundry debtors and bank balance and held that it is not likely that the excess payment would represent any share in the appreciated value of the said assets. The AAC also held that the provisions of r. 2C are not applicable and since no asset was shown in the balance sheet, he held that no amount could be added on account of goodwill. The Revenue, aggrieved by the orders of the AAC, preferred appeals before the Tribunal.

The Tribunal did not agree with the view of the AAC in the deletion of the entire amount of Rs. 92,000 from the assessee. The Tribunal held that it cannot be stated that the firm has no goodwill because it is a service organisation. The Tribunal also held that though the goodwill was not disclosed in the balance sheet of the firm, in determining the value of the interest of the partners in the partnership firm in accordance with r. 2 of the WT Rules, it is necessary to include the value of the goodwill. The Tribunal therefore held that it is necessary to include the value of the goodwill also. The Tribunal considered r. 2C of the WT Rules and held that where the goodwill does not fall within cls. (a), (b) and (c) of r. 2C, then the provisions of r. 2C(d) of the WT Rules would apply. The Tribunal also held that the goodwill cannot be sold separately apart from the business, but, however, in valuing the business on a global basis as a going concern and determining the market value of the business of the firm in which the assessee is a partner and in arriving at the net wealth, addition has to be made to the book value of the assets. The Tribunal therefore held that the fact that the business has been existing for a long number of years shows that the firm has earned some reputation and goodwill and the WTO was not justified in making addition of Rs. 92,000 over and above the credit balance in the capital account of the retiring partner and the WTO should have determined the value of the business on well-established and reasonable method of valuation of goodwill. In this view of the matter, the Tribunal set aside the order of the AAC as well as the WTO and directed the WTO to redetermine the value of the assessee’s interest in the firm taking into account the provisions of r. 2 of the WT Rules and other connected provisions of the WT Act. The assessee, aggrieved by the order of the Tribunal, sought for a reference and the question of law referred to earlier has been referred to us at the instance of the assessee.

Mr. P.P.S. Janarthana Raja, learned counsel for the assessee, brought to the attention of this Court the decision of the Gujarat High Court in Harshadkumar Natverlal Dalal vs. CWT (1996) 132 CTR (Guj) 65 : (1996) 219 ITR 592 (Guj) wherein the Gujarat High Court held that where goodwill was not purchased, the goodwill is not to be taken into account in determining the value of the shares of the partner under r. 2C(d) of the WT Rules.

Mr. C.V. Rajan, learned counsel appearing for the Revenue, on the other hand, submitted that r. 2C(d) of the WT Rules is a residuary clause and if the case of the assessee should not fall within the cls. (a), (b) and (c) of r. 2C of the said Rules, then it would fall under r. 2C(d) of the WT Rules. Learned counsel for the Revenue submitted that since the goodwill was not purchased, the WTO was right in taking into account the market value of the goodwill on the valuation date and adding the same to the share of the assessee in the firm.

We have considered the rival submissions of learned counsel for the parties. We have also considered the decision of the Gujarat High Court in Harshadkumar Natverlal Dalal vs. CWT (supra). The Gujarat High Court held that according to the normal principle of accountancy goodwill does not enter the books of account as an invisible asset of any prudent businessman unless goodwill has been purchased or acquired on payment of cost. The Gujarat High Court also held that the adjustments in the global value of a business as a whole were required to be made as prescribed under the rules. The Gujarat High Court after considering r. 2C(b) and (d) of the WT Rules held as under : “Prior to its amendment in 1964, it was left to the discretion of the WTO to make such adjustments in the book value of the assets as the circumstances may require. The adjustments in the global value of a business as a whole were required to be made as prescribed under the rules, vide amendment w.e.f. 1st day of April, 1965. The normal rule of accountancy should be adopted for determining the actual cost of the assets in the absence of any statutory definition or other indication to the contrary. As a normal principle of accountancy goodwill does not enter the books of account as an invisible asset of any prudent businessman unless goodwill has been purchased or acquired on payment of cost. Prior to the Amendment Act of 1964, the Board had issued instructions that no attempt should be made to include the value of goodwill unless it has been actually paid for by the assessee and is also shown as an asset of the business in the balance-sheet. After the amendment of 1964, rules were inserted by Notification dt. 4th Nov., 1965. Rule 2C of the WT Rules, 1957, deals with adjustments which are required to be made in the global value in respect of the asset not disclosed in the balance-sheet. Clause (b) states that in the case of goodwill purchased by the assessee for a price, its market value or the price actually paid by him, whichever is less shall be taken into account and cl. (d) provides that in the case of any other asset, it will be its market value on the valuation date. Since the goodwill has specifically been dealt with, under sub-cl. (b) to r.2C by necessary implication, it is excluded from sub-cl. (d). It is abundantly clear that as on the date the rules came into force or immediately before the rules came into force, the goodwill which was self-generated was not to be adjusted in the global value of the business. Soon after the insertion of the rule, when the prescribed rules were to replace the vagaries of the discretion of the WTO of determining the circumstances in which certainadjustments are required to be made the Board had already issued instructions for maintaining uniformity in this regard, vide Circular No. 5-D (WT) of 1966, dt. 18th Sept., 1966. This explanation is a contemporaneous exposition of the rule by the rule-making authority itself. Contemporaneous exposition of a statute or rule by those who are entrusted to execute or implement the statutory provisions or rules is a useful aid in interpreting the statute unless there are cogent reasons to depart from it. The Board had explained that the existing instructions which are to the effect that no attempt should be made to include the value of the goodwill unless it has been actually paid for by the assessee and is also shown as an asset of the business in the balance sheet, have been incorporated in the rules. Where the goodwill, which has been paid for, has been written off through the P&L a/c, the market value of the goodwill on the valuation date will be included but not exceeding the price actually paid for [r. 2C(b)]. Hence, goodwill which was not purchased for a price by a firm will not be covered by cl. (d) of r. 2C.”

9. We are in complete agreement with the view expressed by the Gujarat High Court that where the goodwill was not purchased by the assessee, the goodwill is not covered by cl. (d) of r. 2C of the WT Rules. There is no difficulty in holding that r. 2C(d) is not applicable in the case of self-generated goodwill. We therefore hold that where one of the High Courts in the country has taken a view that self-generated goodwill cannot be taken into account and it is not covered by r. 2C(d), there are no compelling and justifiable reasons to take a different view from the one taken by the Gujarat High Court. Therefore we hold that in the case of goodwill which was not purchased for a price, it is not covered by cl. (d) of r. 2C of the WT Rules. In this view of the matter, we hold that the Tribunal was not correct in holding that the goodwill, though not purchased, is liable to be taken into account in determining the net value of the assets of the business. Accordingly, we answer the common question of law in the negative and in favour of the assessee, but however in the circumstances of the case, there will be no order as to costs.

[Citation : 260 ITR 292]

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