Commissioner of Income Tax v. Shantaben K. Patel

What happened

Shantaben K. Patel and Ramjibhai Kodidas Patel formed the partnership Nirma Chemical Works with effect from 1 February 1972. After various changes, the firm was dissolved from 4 January 1980 by a deed of dissolution executed on 7 February 1980, and clause 7 of the deed provided that the S.K. Patel Family Trust would pay the assessee 2.5% of net profits every year or Rs. 10,000, whichever is higher, for the ownership of the goodwill and tenancy rights. The trust business later became Nirma Chemical Works Private Limited, which used the brands through licences to Nirma Limited and Nirma Consumer Care Limited. When a dispute arose in 2001 over the right to assign the brands, the arbitrator, Justice B.J. Divan, held in an award of 24 March 2001 that the brands were owned by the assessee, who was entitled to 10% of the consideration on their assignment. By an agreement of 26 March 2001, the trade-marks and brands were sold to Nirma Limited for Rs. 500 Crore, of which Rs. 50 Crore was paid to the assessee and Rs. 450 crores to Nirma Chemical Works Limited. The assessee filed a return for the assessment year 2001-2002 declaring Rs.2,44,06,408/- and claimed that no capital gain arose as the cost of the self-generated asset could not be determined. The Assessing Officer and the Commissioner (Appeals) taxed the Rs. 50 Crore as income from other sources, and in the alternative as long term capital gain with section 55(2)(a) read retrospectively, but the Tribunal held it was not taxable. The Revenue argued that clause 7 transferred ownership for a perpetual annuity which was commuted, that the arbitration was an orchestrated dispute, and that the transaction was a colourable device.

Questions before the court

• Is the Rs. 50 Crore received by the assessee for sale of brands and trade-marks taxable as income from other sources or as long term capital gain, or not taxable because the cost of acquisition cannot be ascertained, and is penalty leviable?

Why the court ruled this way

The Court agreed with the Tribunal that the assessee, who held the intangible assets since the dissolution and the death of her co-partner, was their owner, that clause 7 of the Dissolution Deed assigned only user rights to the trust, and that the arbitration award was binding on the parties (answers to additional questions 1, 2 and 4). The amounts received yearly were licence fee and not royalty, and the Rs. 50 Crore was sale price of the ownership rights in the trade-marks and brands, so it was not income from other sources and, being receipt for a long term capital asset, could be taxed only as capital gain (paragraphs 119 to 121 and 123). Following B.C. Srinivasa Setty, where the cost of acquisition of a self-generated asset acquired on dissolution cannot be determined the capital gains provisions fail, and section 49(1)(b) did not help the Revenue since the cost in the hands of the previous owners was also unascertainable (paragraphs 115 and 116). The amendments to section 55(2)(a) were not clarificatory or retrospective, since goodwill was not sold and the amendment of 2001 inserting trade-mark and brand name applied from 1 April 2002, so the cost of acquisition could not be taken as nil (paragraphs 116 and 117). There was no evidence of a colourable device or subterfuge, as McDowell and Co. would require (paragraph 118). On the penalty, once the addition of Rs. 50 Crore is deleted, the basis of penalty under section 271(1)(c) disappears (paragraph 125).

Controlling point

The Rs. 50 Crore receipt was not taxable as income from other sources or as capital gain because the cost of acquisition was unascertainable, and the penalty was not leviable.

Order and next steps

Tax Appeal No. 1439 of 2006 and Tax Appeal No. 1054 of 2007 were dismissed, with the questions answered in favour of the assessee and against the Revenue.

Practical implications

An assessee selling a self-generated trade-mark or brand acquired before the amendments to section 55(2)(a) can rely on the unascertainable cost of acquisition, but should be able to prove how the asset was acquired and that the sale was of the brand and not of goodwill.

Limits of this ruling

• The decision applies to the assessment year 2001-2002 and to a transfer made before the 2001 amendment of section 55(2)(a) took effect from 1 April 2002, and for later years, trade-marks and brand names are expressly covered in the cost of acquisition provisions; the Court decided on the facts found by the Tribunal that the sale was of brands and not of goodwill.