Shri Ashok D Souza V. The Income Tax Officer, Ward 14(2), Bangalore

ITA/480/2008

AI Insights

The case involves Shri Ashok D'Souza, the appellant, who received non-compete fees and technical knowhow payments totaling Rs.12,00,000 from HBR Consultants Pvt. Ltd. The Income Tax Department treated these payments as 'profits in lieu of salary' under Section 17(1)(iv) of the Income Tax Act, 1961, and taxed them accordingly. The appellant contested this decision, arguing that the payments were capital receipts and not taxable as salary. The Tribunal and lower authorities upheld the taxability, leading to the appeal in the High Court of Karnataka. The court found that the payments, being due before the commencement of employment and under a non-compete agreement, were not taxable as salary under the applicable provisions at the time.

• Counselvise Citation: [2014] 140 COUNSELVISE.COM (IT) 821335 (HC-KARNATAKA)
• Appeal Type: Others
• Pronouncement Date: 23-06-2014
• Assessment Year: misc
• Laws Referred To: Income Tax Act, 1961
• Result in Favour of: Others
• Court: HIGH COURT
• Department Lawyers: K V ARAVIND
• Assessee Lawyers: G SARANGAN; BALRAM RAO; VANI
• Keywords: Non-compete fees; Profits in lieu of salary; Taxable income; Technical Knowhow
• Section: 17(3)(iii); 260-A

Judgement Text

" 1 IN THE HIGH COURT OF KARNATAKA AT BANGALORE DATED THIS THE 23RD DAY OF JUNE 2014 PRESENT THE HON'BLE MR.JUSTICE N.KUMAR AND THE HON'BLE MR.JUSTICE B.MANOHAR ITA NO.480/2008 BETWEEN: Shri Ashok D ‘Souza S/o.Gerald Vincent D’Souza, Aged about 58 years, No.101, Ashville Apartments, 9, Ashoka Road, St.Thomas Town, Bangalore. ... Appellant (By Sri.G.Sarangan, Sr. Adv for Sri.Balram.R.Rao, Adv and Smt.Vani.H., Advocate) AND: The Income Tax Officer, Ward 14(2), Bangalore. ... Respondent (By Sri.K.V.Aravind, Advocate) ITA filed u/S.260-A of I.T.Act, 1961 arising out of order dated 13-12-2007 passed in ITA No.899/Bang/2006 for the Assessment Year 2002- 2 2003, praying that this Hon'ble Court may be pleased to: i. formulate the substantial questions of law stated therein, ii. allow the appeal and set aside the order passed by ITAT, passed in ITA No.899/Bang/2006 dated 13-12-2007 relating to Assessment Year 2002-03, in the interest of justice and equity. This appeal coming on for hearing this day, N.KUMAR J., delivered the following: J U D G M E N T The assessee has preferred this appeal under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as ‘the Act’ for short) against the order dated 13-02-2007 passed by the Income Tax Appellate Tribunal, Bangalore Bench ‘A’ (hereinafter referred to as ‘the Tribunal’ for short) in ITA No.899/Bang/06, whereby the Tribunal held that the case of the assessee falls under Section 17(3)(iii) of the Act, which came into effect from the assessment year 2002-03 and 3 therefore he is liable to pay tax on the non-compete fees and technical knowhow of Rs.12,00,000/-. 2. The assessee was working with M/s. HBR Consultants which was the proprietary concern of Sri.V.Ramakrishnan. It was taken over by M/s.Sobha Projects and Trade Pvt. Ltd. (SPTPL) as a going concern together with assets and liability. The new company name has been incorporated as HBR Consultants Pvt. Ltd. (HBPRL). The MOU was entered into between Sri.V.Ramakirshnan and M/s. SP & TPL on 30-08-2000 to take over the business of M/s. HBR Consultants. The assessee continued to work with M/s. HBRPL. M/s.HBRPL entered into a non-compete agreement with the assessee on 25-08-2000 and by virtue of this agreement, the assessee had received Rs.9,00,000/- as non-compete fees and Rs.3,00,000/- for imparting technical knowhow. In all, a sum of Rs.12,00,000/-. The said payments were received during the period 4 29-08-2001 to 26-08-2002. The assessee claimed that these amounts were capital receipts and were not taxable in his hands. The stand of the assessee was not accepted by the Assessing Authority and hence treated the same as ‘profits in lieu of salary’ under Section 17(1)(iv) of the Act. 3. Aggrieved by the said order, the assessee preferred an appeal to the Commissioner of Income Tax (Appeals). The Appellate Commissioner held that the amount accrued to the assessee not on the day the contract was entered i..e. 28-08-2000. It accrued to him after rendering services to HBRPL as contracted. He also held that the payment has direct co-relation with the employment with HBRPL and it was paid to him after 1 or 2 years once it was assured that he was rendering services as per the contract. Therefore, the case of the assessee is squarely covered under newly inserted clause of 17(3)(iii) of the Act. 5 4. Aggrieved by the said order, the assessee preferred an appeal to the Tribunal. The Tribunal held that the assessee was awarded profit in lieu of salary being a loyal employee with the earlier employer namely Sri.V.Ramakrishnan who himself was subjected to be taken over by the present employer. The payment was not made at the time of signing of the contract but rather it was given later after ensuring that the assessee as employee of H.B.R. Consultants Pvt. Ltd. was rendering services as per the agreement. This clearly indicates that the transactions stood covered by the impugned clause introduced in the Act with the intention to cover such transaction which takes place before joining his services and was therefore taxable as profit in lieu of services rendered under Section 17(3)(iii) which is w.e.f. assessment year 2002-03. The said amount accrued to the assessee only after the services had been rendered. The payment 6 was in relation to the assessee’s employment with the present employer. Therefore, it does not matter the nomenclature given to such payment and therefore it dismissed the appeal. Aggrieved by the said order, the assessee is in appeal before this Court. 5. This appeal was admitted to consider the following substantial question of law: Whether an employee is entitled to receive a non-compete fees from an Employer and whether such fee can be assessed as a Salary Income? 6. Sri.Sarangan, learned Senior Counsel assailing the impugned orders contend that if the non-compete fee and technical knowhow is to be treated as profits in lieu of salary under Section 17(3)(iii) of the Act, the said provision came to be inserted by the Finance Act, 2001 w.e.f. 1-4-2002 which applies to the assessment year 1-4-2001 to 31-3-2002. As the amount became due to 7 the assessee on signing the agreement dated 28-08-2000, the previous year would be 1-4-2000 to 31-3-2001 and therefore, the said provision is not applicable. The finding of the Tribunal that it accrues on the date of actual payment and therefore, it is covered under the said provision is ex-facie illegal and requires to be set aside. 7. Per contra, learned counsel appearing for the Revenue submitted that the agreement comes into effect only after the assessee renders service and therefore the date of agreement has no significance. Admittedly the payments were made on 29-08-2001 and 26-08-2002 and it falls within the assessment year 1-4-2002 to 31-3-2003 and therefore the authorities have rightly held that said amount is liable for tax under the aforesaid provision. 8. The facts are not in dispute. The assessee was an employee of M/s.HBR Consultants, a proprietary 8 concern of Sri.V.Ramakrishnan. It was taken over by M/s.Sobha Projects and Trade Pvt. Ltd. under an agreement dated 30-08-2000 as a on going concern. Subsequently it was incorporated as HBR Consultants Pvt. Ltd. The assessee continued to work with the new company. However, the new company had entered into a non-compete agreement with the assessee on 25-08-2000. Under the agreement, the assessee is to be paid Rs.12,00,000/- in aggregate which consists of Rs.9,00,000/- as non-compete fees and Rs.3,00,000/- for imparting technical knowhow. Clause 3 of the agreement reads as under: 3.Modalities of Payments: 3.1 In consideration of Ashok agreeing to the restricting covenants and terms mentioned in Para 2 above. HBR Consultants (P) Ltd. shall pay Ashok an aggregate sum of Rs.9.00 lakhs which he is already entitled to be paid in three equal monthly installments commencing from on or before June 15, July 15, August 15, 2001 respectively. 9 3.2 In consideration of Ashok agreeing to make available his know how and to continue to render services to HBR as mentioned in Para 1.2 and 1.3 above, he shall be paid a sum of Rs.3.00 lakhs on or before September 15, 2001. 3.3 The total consideration as in para 3.1 and 3.2 above shall be payable to Ashok or his heirs or assigns in the event of death, illness or any eventuality by which Ashok may not be in a position to provide his services, irrespective of any other conditions of this agreement. Clause 2 of the agreement provides for Restrictive Covenants and Terms, which read thus: 2.1 The tenure of this agreement is as stated in Para 1.3. 2.2 During this period and two years from the date of its termination. 2.1.1 Ashok shall not in any manner compete with HBRPL in the same area of business now carried on 10 by HBRPL’s Machine & Machine tool Division. 2.1.2 He shall not deal with or represent any principal in similar lines of business in any place in India or abroad. 2.1.3.He shall not act as consultant or be employed by any other person dealing in imported wood working machinery either as agents, sellers or consultants; rather in India nor outside of India. 2.1.4. He shall not share his expertise in selling and servicing wood working machines or enter into agency on these lines with any individual company or organization either than the clients of HBRPL. He shall not directly or indirectly acquire any agencies for wood working machines and in no way compete with HBRPL in the business of selling and servicing wood working machines. 9. This agreement was entered into on 28-08-2000. therefore, the aforesaid amount of Rs.12,00,000/- became due to the assessee under the agreement. Clause 3.1 of the agreement only speaks about the 11 Modality of Payments. Clause (iii) of sub-Section (3) of Section 17 of the Act reads as under: “Profits in lieu of salary includes - any amount due to or received, whether in lump sum or otherwise, by any assessee from any person - (a) before his joining any employment with that person; or (b) after cessation of his employment with that person”. 10. In the instant case, the aforesaid amount of Rs.12,00,000/- became due and payable to the assessee before his joining any employment with the new company. Till this amendment was introduced to the Income Tax Act, the amounts falling under this clause were not taxable. Therefore, non-compete fees and technical knowhow due and payable to the assessee as on 28-08-2000 was not taxable. It became taxable only from 1-4-2002. Therefore, all the three authorities committed an error in holding that the amount became 12 due on the day which is mentioned in clause (iii) or on the date of actual payments which were made between 29-8-2001 and 26-8-2002. Therefore the amended provision is attracted. The aforementioned amount is not salary, it is not paid for any services rendered and it was paid in lieu of restrictive covenants and terms as contained in the agreement which would be in force for a period of seven years. Under this agreement, the assessee shall not in any manner compete with HBRPL in the same area of business now carried on by HBRPL’s Machine & Machine tool Division. He shall not deal with or represent any principal in similar lines of business in any place in India or abroad. Further he shall not act as consultant or be employed by any other person dealing in imported wood working machinery either as agents, sellers or consultants; neither in India nor outside of India. He shall not share his expertise in selling and servicing wood working machine or enter into agency on these lines with any individual company 13 or organization either than the clients of HBRPL. He shall not directly or indirectly acquire any agencies for wood working machines and in no way compete with HBRPL in the business of selling and servicing wood working machines. It is because the assessee had over 24 years of experience in the field of marketing. After completing his post graduation in Engineering from IIT, Madras, he joined HBR Consultants, a proprietary concern of V.Ramakrishnan at Bangalore, an organization engaged in dealing and consultancy of imported wood working equipments, in the capacity as the Marketing Director in January’90 and worked with them for the past 10 years. He gained extensive and valuable experience in the field of wood working and wide knowledge of the wood working equipments available world-wide as well as intimate connection with various customers with a strong image of solution provider owing to his high level of technical knowledge from his engineering back ground. Assessee also 14 possesses a knowledge of an a personal relationship with the foreign principals represented by HBR. 11. When a new company which took over the proprietary concern wanted to continue the very same business, no doubt, they wanted the assistance of the assessee for which they were agreeable to pay salary. But they wanted to ensure that the assessee would not part with his experience and technical knowhow, knowledge and other business secrets to any other persons, which would directly affect their business. It was constrained to foreclose such eventuality. Hence, they entered into an agreement with the assessee on 28-08-2000 with the aforesaid covenants and terms and for that purpose, they paid a sum of Rs.9.00 lakhs towards non-compete fees and Rs.3.00 lakhs towards technical knowhow. It was not paid as apart of salary as understood by the Assessing Authority. It may fall within the definition of ‘profits in lieu of salary’ as 15 now introduced in sub-clause (iii) of sub-Section (3) of Section 17 of the Act. However, the said provision came into force on 1-4-2002 and the agreement having been entered into on 28-08-2000, the amount due under the aforesaid head was not taxable. That is how the assessee did not offer the said amount for tax. The Appellate Authorities committed an error in holding that it is the date on which, the payment is to be made or the date on which actual payments is to be made is to be taken into consideration, forgetting that the amount became due on signing the agreement. Section 17(3)(iii) categorically states profits in lieu of salary means that any amount due to or received, whether in lump sum or otherwise by any assessee from any person before he joining any employment with that person. Therefore, the impugned orders passed are erroneous and requires to be set aside. The substantial question of law is answered in favour of the assessee and against the Revenue. 16 12. Accordingly, we pass the following: ORDER The appeal is allowed. The impugned order passed by the authorities are hereby set aside and it is held that the income of the assessee under the heading non-compete fee and technical knowhow to the extent of Rs.12,00,000/- is not liable for tax on the date the amount became due i.e. on 28-08-2000. Ordered accordingly. Sd/- JUDGE Sd/- JUDGE mpk/-* "