$~R38
* IN THE HIGH COURT OF DELHI AT NEW DELHI
+ ITA 154/2005
COMMISSIONER OF INCOME TAX, DEL ..... Appellant
Through: Mr. Zoheb Hossain, learned Senior
Standing Counsel.
versus
MRS. TARA SINHA ..... Respondent
Through: Mr. Rajat Navet, Advocate.
CORAM: JUSTICE S. MURALIDHAR
JUSTICE PRATHIBA M. SINGH
ORDER
% 11.08.2017
Prathiba M. Singh, J.
1. The Respondent Assessee - Mrs. Tara Sinha (hereafter `Assessee'), was
working as the President of M/s Tara Sinha McCann Erickson Pvt. Ltd.
(`TSME'), an advertising agency. She also held 51% shares of the said
company, and McCann Erickson Worldwide Inc. (`MEW') held 40% of the
shares of TSME. The remaining 9% shares were held by Associated
Corporate Consultants Pvt. Ltd.
2. The Assessee filed her return of income for the Assessment Year (`AY')
1995-96 declaring an income of Rs.12,74,721/. During the AY i.e. on 9th
March, 1995, the Assessee resigned from TSME. Upon her retirement, she
received payments as under:
(i) Terminal benefit in the form of gratuity amounting to
Rs.2,88,462/-.
(ii) Rs.35,13,150/- for the sale of her 51% shareholding in TSME
to M/s. Gyan Marketing Associates Pvt. Ltd. vide agreement
ITA No.154/2005 Page 1 of 17
dated 10th March, 1995.
(iii) Rs.3,15,31,750/- towards entering into a Non-Compete
Agreement with MEW on 10th March, 1995.
3. The Assessing Officer (`AO') issued a show cause notice to the Assessee
as to why the amounts received by her from MEW should not be treated as a
revenue receipt and as to why her claim, that the said money is a capital
receipt, should be rejected. As part of the proceedings, the AO recorded the
Assessee on 9th December, 1997 and the AO vide assessment order dated
26th March, 1998 made an addition of Rs.3,15,31,750/- to the returned
income of the Assessee.
4. The Assessee, preferred an appeal before the Commissioner of Income
Tax (Appeals) [`CIT (A)'], who by order dated 24th December, 1998 deleted
the addition made by the AO and held that the payment of compensation in
lieu of the non-compete agreement by the Respondent was a capital receipt
and not chargeable to income tax.
5. The Revenue approached the Income Tax Appellate Tribunal (`ITAT')
vide ITA No.1258/Del/99. The ITAT on 12th December, 2003, dismissed the
appeal and held that the amount received was a capital receipt not liable to
tax. The Revenue has, thus, approached this Court by way of the present
Appeal.
6. This Court on 15th January, 2007 framed the following question of law:
"Whether on the facts and circumstances of the case
the Income Tax Appellate Tribunal was right in law in
holding that the sum of Rs.3,15,31,7501- is not taxable
ITA No.154/2005 Page 2 of 17
in the hands of the assessee being a capital receipt?"
No other question was either pressed or framed.
7. Thus, the only question that is to be decided in this case is as to whether
the sum of Rs.3,15,31,750/-, which was paid as a non-compete fee to the
Assessee is to be treated as being taxable or not.
Petitioner's Submissions
8. Mr. Zoheb Hossain, learned Senior Standing Counsel appearing for the
Petitioner/Revenue, submits that the amount of Rs.3,15,31,750/- is nothing
but a terminal benefit, which was couched as a non-compete fee in order to
escape the payment of tax.
9. Mr. Hossain relies on the findings of the AO that the said payment of the
non-compete fee and the share transactions were "actually a part of a well-
orchestrated plan of breaking up the entire package of terminal benefits
received by her." Mr. Hossain further relies upon the finding of the AO that
all these payments were contiguous in nature i.e., the payment of gratuity,
the sale of shares and the non-compete fee. He further relies upon the
interpretation of the AO, that the Non-Competition Agreement dated 10th
March, 1995 was severely tilted in favour of the Assessee and was in effect
not a "serious" Non-Competition Agreement. In support of this finding, the
AO had relied upon the clauses in the agreement, which did not impose any
restrictions on the Assessee from competing with MEW outside India and
that the laws of England were made applicable to the contract and also that
the arbitration would be as per International Chamber of Commerce (`ICC')
ITA No.154/2005 Page 3 of 17
Paris. The latter two factors, according to the AO, exhibited the non-serious
nature of the Agreement i.e., that MEW never intended to enforce the same.
Mr. Hossain, thus, submitted that the AO had followed the judgment of the
Supreme Court in McDowell Company Pvt. Ltd. v. CIT, 1985 (154) ITR
148, to hold that any transaction ought not to be looked at with blinkers in
an isolated manner and has to be viewed from the context in which it
belongs. He, thus submits, that the AO had rightly held that the entire
consideration of Rs.3,15,31,750/- was taxable under Section 28 (ii) of the
Act. Mr. Hossain thereafter submits that a perusal of the list of clients of the
Assessee, which included some of the most well known companies, both
Indian and multinational, clearly shows that the amounts paid to the
Assessee were actually part of the terminal benefits but were merely
described as a non-compete fee.
10. Mr. Hossain contended that the CIT (A) had erred in holding that the
decision to pay the non-compete fee was merely a "business prudence"
decision. The growth of TSME after the retirement of the Assessee shows
that there has not been any lag or reduction in its revenues and thus the so-
called competition from the Assessee could not have dented TSME in any
manner.
11. Mr. Hossain urges that the ITAT wrongly upheld the decision of the
CIT (A) by relying on the decision of the ITAT in Shiv Raj Gupta in ITA
No.489/Del/98, which now stands reversed by this Court.
12. The foundation of Mr. Hossain's arguments rests on the decision of this
ITA No.154/2005 Page 4 of 17
Court in CIT v. Shiv Raj Gupta 372 ITR 337 (2015) (hereafter `Shiv Raj
Gupta') dated 22nd December, 2014. He specifically relies upon the
judgment to argue that this Court considered the Vodafone judgment of the
Supreme Court and any camouflage of terminal benefits as a non-compete
fee, should be held to be an `abusive tax avoidance'.
13. Mr. Hossain, urges that the entire amount of Rs.3,15,31,751/- ought to
be treated as a taxable income and the orders of the ITAT and CIT (A)
deserve to be set aside.
Respondent's Submissions
14. Mr. Rajat Navet, learned counsel appearing for the Respondent, submits
that the Respondent was a well acknowledged personality in the field of
advertising. She was responsible for setting up the advertising agency of
McCann Erickson Pvt. Ltd. in India. She has enjoyed a very high stature in
the field to the extent that McCann Erickson started to call their agency in
India by prefixing the Assessee's name viz., Tara Sinha McCann Erickson
(`TSME'). Her goodwill and reputation in the advertising field was
unparalleled and thus, the amount she received as non-compete fee was truly
to avoid her taking away the clients of the agency, post her retirement. The
amount paid to her was well deserved and the same was not taxable.
15. Mr. Navet further submits that it is settled law as decided in several
cases that non-compete fee is not taxable. He relies upon the following
decisions:
1. CIT v. HCL lnfosystems Ltd. 385 ITR 35 (Delhi) (hereafter, `HCL
ITA No.154/2005 Page 5 of 17
Infosystems'),
2. CIT v. Bisleri Sales Ltd. 377 ITR 144 (Bom) (hereafter, `Bisleri
Sales'),
3. Khanna and Annadhanam v. CIT 351 ITR 110 (hereafter, `Khanna
and Annandhanam'),
4. Guffic Chemical Pvt. Ltd. v. CIT 32 ITR 602 (SC) (hereafter,
`Guffic Chemical'),
5. Rohitasava Chand v. CIT 306 ITR 242 (Del) (hereafter, `Rohitasava
Chand'),
6. CIT v. A.S. Wardekar 283 ITR 432 (Cal) (hereafter, `A.S.
Wardekar),
7. CIT v. Saroj Kumar Poddar 279 ITR 573 (Cal) (hereafter, `Saroj
Kumar Poddar'),
8. CIT v. Saraswati Publicity (1981) 132 ITR 207 (Mad) (hereafter,
`Saraswati Publicity'),
9. Lachhman Das v. CIT 124 ITR 706 (Del) (hereafter, `Lachhman
Das') and,
10. Beak v. Robson (1943) 11 ITR Suppl. 23
16. Mr. Navet further submitted that the share transactions could not in any
manner be held to be tainted at the instance of the Assessee, inasmuch as,
the decision as to who should be the purchaser of the shares was of McCann
Erickson and the Assessee had no role to play in the same. In any event,
according to Mr. Navet, the Non-Competition Agreement was entered into
with MEW itself and was a valid and enforceable agreement in law. He
sought to distinguish the Shiv Raj Gupta (supra) case based on the fact that
ITA No.154/2005 Page 6 of 17
in the said case, the Assessee did not possess a license to manufacture or sell
IMFL. The Assessee therein did not have a net worth, which would enable
him to set up a new venture or pose a threat to M/s/ Shaw Wallace Company
Group (`SWC') and that the SWC Group was a much larger group to whom
the Assessee would not be pose any threat. Mr. Navet states that, unlike in
Shiv Raj Gupta (supra), which was concerned with the manufacturing
business, for which a proper manufacturing license would be required, Mrs.
Tara Sinha the Assessee was fully equipped to start a competing business
from the date she retired from TSME. She, having been single-handedly
responsible for setting up TSME in India, commanded a position from
which she had the potential to take away not just the clients but even key
employees of TSME. Thus, MEW had rightly paid a non-compete fee to the
Assessee. The nature of the services being rendered by the Assessee were so
personal to her that in the service industry such individuals being paid a non-
compete fee is not surprising. According to Mr. Navet, in Shiv Raj Gupta
(supra), the sum of Rs. 6.6 Crores was paid as a consideration for sale of
shares and not as a non-compete fee. He, thus, submits that the present case
is covered squarely by the ratio of Khanna and Annadhanam (supra),
Rohitasava Chand (supra) and HCL lnfosystems Ltd (supra).
Analysis and Findings
17. It is not seriously disputed by the Revenue that Mrs. Tara Sinha the
Assessee was an acknowledged personality in the advertising field in India.
The Revenue's argument is that the money paid as a non-compete fee is, in
fact, a terminal benefit and hence taxable. In order to determine as to
whether the amount paid as a non-compete fee is taxable or not, it is
ITA No.154/2005 Page 7 of 17
necessary to take a look at the relevant Clauses of the Non-Competition
Agreement, which read as under:
"1. Mrs. Sinha covenants and undertakes that she will
not at any time during a period of two years from the
date of this Agreement, directly or indirectly,
a. be involved in any business in India of
marketing communications (advertising, sales
promotion, public relations, etc.) as an employee,
consultant, partner or otherwise in any other
concern/company which is competitive with the
present line of business of MEW;
b. solicit or perform services in connection with
any business in India of marketing
communications (advertising, sales promotion,
public relations, etc.) of any existing clients of
MEW;
c. hire any employee of MEW.
2. In consideration for the covenants of Mrs. Sinha set
out in Clause 1 hereinabove, MEW shall pay to Mrs.
Sinha in India the Rupee equivalent of US $ 996,500.
5. This Agreement shall be governed by, and
interpreted in accordance with the Laws of England.
6. If any dispute or difference of any kind whatsoever
not otherwise dealt with herein, shall arise between the
parties hereto shall promptly and in good faith
negotiate with a view to its amicable resolution and
settlement. In the event no amicable resolution or
settlement is reached within a reasonable time, such
dispute or difference shall be referred to and settled by
arbitration in accordance with the Rules of
Conciliation and Arbitration of the International
Chamber of Commerce (ICC), Paris. The venue of
arbitration shall be New Delhi."
ITA No.154/2005 Page 8 of 17
18. The AO relied upon the Clauses 3 & 4 of the agreement, which read as
under:
"3. The restrictions set out in Clause 1 are considered
reasonable by the parties, having regard to the mutual
promises set out in this agreement, and the
consideration payable to Mrs. Sinha under this
Agreement, but in the event that any such restriction
shall be found to be void but would be valid if some
part were deleted, or the period or area of application
reduced, such restriction shall apply with such
modification as may be necessary to make it valid and
effective.
4. The restrictions set out in each paragraph of Clause
1 constitute separate and independent restrictions. In
the event that any restriction set out in any paragraph
shall held to be unenforceable the restrictions set out
in the other paragraphs shall be unaffected."
19. By relying on clauses 3 & 4, the AO came to the conclusion that the true
intention of MEW is not to enforce any of the restrictions contained in
Clause 1. The AO, in the opinion of the Court, did not construe the
agreement as a whole. The AO, incorrectly, interprets Clauses 2, 3 & 4 in
holding that they actually contradict each other. The AO was clearly wrong
in holding that the agreement was structured in a manner so as to give the
Assessee "adequate loopholes" to bypass the restrictions with the "consent
of MEW". He termed the agreement as being non-serious. The AO also
appears to have wrongly construed the fact that the payment was received
prior to the signing of the agreement and hence it is nothing but a terminal
benefit.
ITA No.154/2005 Page 9 of 17
20. In the statement of the Assessee, which was recorded by the AO on 9th
December, 1997, she had explained to the AO that it was due to her personal
efforts that the business of the company had grown and expanded from one
office in Delhi to offices in several cities including Mumbai, Bangalore,
Calcutta, Chennai and Kathmandu. She has explained the reason to leave
TSME, as MEW wanted to drop her name from TSME in order to have a
competitive advantage in India. She further explained that the money being
paid to her as a non-compete fee was not directly related to the remuneration
she was receiving from TSME. The AO acknowledges as under:
"5.2 It is clear from the deposition of the assessee that
the concern, TSME was actually a brain-child of Mrs.
Tara Sinha. In fact, the concern "took shape around
her dining table". It is because of her efforts that the
agency had grown in stature to what it was at the time
of transfer of shares."
21. In light of the above findings of the AO, the subsequent conclusion of
the AO that the money paid to her was not a non-compete fee but a terminal
benefit is wholly unsustainable.
22. From the record it is clear that TSME was a brain child of the Assessee.
From a reading of Clause 1, it is clear that MEW was apprehensive about
her retirement and the effect it could have on their business and hence
insisted on the obligations contained. This clause is a clear
acknowledgement that she did have the potential and stature to take away a
substantial number, if not all, of the clients and the employees of TSME.
The non-compete fee paid to her cannot, therefore, be termed as a
camouflage or a well- orchestrated plan to avoid payment of tax.
ITA No.154/2005 Page 10 of 17
23. It is to be noticed that during the period when TSME had entered India,
in 1990, Mrs. Tara Sinha was also operating as Tara Sinha Associates (TSA)
for a billing of 1279.17 Lakhs for FY 1989-90. It is, therefore, no surprise
that her name was added and pre-fixed to the name of McCann Erickson
when TSME was established. The clients of the Assessee, at the time when
she retired from TSME, did include some of the most well known Indian
and Multinational companies. The Non-Competition Agreement dated 10th
March, 1995 is, therefore, clearly a genuine agreement and the Clauses in
the agreement that the same would be governed by the laws of England and
any disputes would be referred to ICC Paris, cannot be termed as a devious
method not to seek enforcement, inasmuch as, such clauses appear regularly
in several contracts involving international companies. The AO reads too
much into these two clauses.
24. Insofar as, Clauses 3 & 4 are concerned, these are standard severability
clauses which appear in most contracts that have multiple obligations cast on
the parties. Even if one obligation is held to be illegal or void, other clauses
and obligations would be enforceable. These clauses cannot by any stretch
of imagination, be held to be a ruse to not enforce the agreement.
25. The CIT (A) and ITAT have rightly held that the non-compete fee is not
a taxable income.
26. A similar issue had arisen as far back as in 1942 before the House of
Lords in Beak v. Robson (supra). The relevant portion reads as under:
ITA No.154/2005 Page 11 of 17
"The sum of £ 7,000 is not paid for anything done in
performing the services in respect of which Robson is-
chargeable under Schedule E. The consideration which
he has to give under-the covenant is to be given not
during the period of his employment, but after its
termination. He is giving to the company for a sum of
£7,000 the benefit of a covenant which will only come
into effect when the service is concluded. I agree with
the Court of Appeal in the view that to treat this £7,000
as a profit arising from the respondent's office is to
ignore the real nature of the transaction. It is quite true
that, if he had not entered into the agreement to serve
as a director and manager, he would not have received
£ 7,000. But that is not the same thing as saying that
the £ 7,000 is profit from his office of director so as to
attract tax under Schedule E.
The Attorney-General points out that it is not
uncommon in managerial agreements to include a
covenant not to compete after the service is terminated
without any separate consideration being allocated to
the covenant, and it was suggested that a decision in
favour of the respondent in this case might involve the
apportionment of the remuneration which a manager
receives under his agreement between the profit of his
office and the price, paid to secure the covenant. I
propose to say nothing about that, and to decide the
pre sent case purely upon the terms of the agreement of
October 4, 1937. That agreement is admitted to be a
bona fide -contract and, so regarded, the £ 7,000
cannot properly be treated as a profit arising from the
respondent's office or employment."
Thus, the amount of 7000 pounds paid to Mr. Robson for agreeing not to
engage in a competing business within 50 miles of Newcastle-upon-Tyne
without the company's consent, was held to be not taxable. The House of
Lords thus held that the test is to establish the `real nature of transaction'.
ITA No.154/2005 Page 12 of 17
27. In the present case, the `real nature of the transaction' is that it is a Non-
Competition Agreement wherein the Assessee agreed
not to be involved in any business in India of advertisement, sale,
promotion, public relations etc., which is competitive with MEW
or
solicit any client of MEW or
hire any employee of MEW.
28. In lieu of these covenants and undertakings, she was paid an amount of
US dollars 996,500 i.e. Rs.3,15,31,750/- at the prevalent exchange rates. The
Assessee, as clearly ascertainable from the record, was a lady who enjoyed a
stature in the advertising industry and the Non-Competition Agreement, by
which she agreed not to compete in India with MEW, was clearly not a
sham. She is now 82 years of age and considering that the Revenue's appeal
challenges concurrent findings of the CIT (A) and ITAT, we do not find any
cause to interfere.
29. In Khanna and Annadhanam (supra), this Court followed the judgment
of the Supreme Court in Kettlewell Bullen and Company Ltd. v. CIT,
[1964] 53 ITR 261 SC, and held that any payment made which represents
compensation for the loss of the source of income would be capital in nature
and that it would not be taxable. This Court, while commenting upon the
amounts paid to a Chartered Accountant's firm, for terminating an
arrangement with Delloitte Haskins and Sells (DHS) held as under:
"...It is somewhat difficult to conceive of a
professional firm of chartered accountants entering
ITA No.154/2005 Page 13 of 17
into such arrangements with international firms of
chartered accountants, as the assessee, in the present
case, had done, with the same frequency and regularity
with which companies carrying on business take
agencies, simultaneously running the risk of such
agencies being terminated with the strong possibility of
fresh agencies being taken. In a firm of chartered
accountants there, could be separate sources of
professional income such as tax work, audit work,
certification work, opinion work as also referred work.
Under the arrangement with DHS there was a regular
inflow of referred work from DHS through the Calcutta
firm in respect of clients based in Delhi and nearby
areas; There is no evidence that the assessee-firm had
entered into similar arrangements with other
international firms of chartered accountants. The
arrangement with DHS was in vogue for a fairly long
period of time (13 years) and had acquired a-kind of
permanency as a source of income. When that source
was unexpectedly terminated, it amounted to the
impairment of the profit-making structure or apparatus
of the assessee-firm. It is for that loss of the source-of
income that the compensation was calculated and paid
to the assessee. The compensation was thus a substitute
for the source. In our opinion, the Tribunal was wrong
in treating the receipt as being revenue in nature...."
30. In Guffic Chemical Pvt. Ltd. (supra), the Supreme Court held that the
non-compete fee of Rs.50 Lakhs received by Ranbaxy was a capital receipt.
The Supreme Court categorically held as under:
"...Decision
5 The position in law is clear and well settled. There is
a dichotomy between receipt of compensation by an
assessee for the loss of agency and receipt of
compensation attributable to the negative/restrictive
covenant. The compensation received for the loss of
ITA No.154/2005 Page 14 of 17
agency is a revenue receipt whereas the compensation
attributable to a negative/restrictive covenant is a
capital receipt.
6 The above-dichotomy is clearly spelt out in-the
judgment of this court in Gillanders' case (supra) in
which the facts were as follows. The assessee in that
case carded on business in diverse fields besides acting
as managing agents, shipping agents, purchasing
agents and secretaries. The assesse also acted as
importers and distributors on behalf of foreign
principals and bought and sold on its own account
'Under an agreement which was terminable at will the
assessee acted as a sole agent of explosives
manufactured by imperial Chemical Industries
(Export) Ltd manufactured by Imperial Chemical
Industries (Export) Ltd. That agency was terminated
and by way of compensation the Imperial Chemical
Industries (Export) Ltd. paid for first three years after
the termination of the agency two-fifths of the
commission accrued on its sales in the territory of the
agency of the Appellant and in addition in the third
year full commission was paid for the sales in that
year. The Imperial Chemical Industries (Export) Ltd.
took a formal undertaking from the Assessee to refrain
from selling or accepting any agency for explosives.
7. Two questions arose for determination, namely,
whether the amounts received by the Appellant for loss
of agency was in normal course of business and
therefore whether they constituted revenue receipt?
The second question which arose before this Court was
whether the amount received by the Assessee
(compensation) on the condition not to carry on a
competitive business was in the nature of capital
receipt? It was held that the compensation received by
the Assessee for loss of agency was a revenue receipt
whereas compensation received for refraining from
carrying on competitive business was a capital receipt.
ITA No.154/2005 Page 15 of 17
This dichotomy has not been appreciated by the High
Court in its impugned judgment. The High Court has
misinterpreted the judgment of this Court in
Gillanders' case (supra)...."
31. Similar was the view of the Delhi High Court in Rohitasava Chand
(supra), which dealt with the payment of non-compete fee to the Assessee
which included a transaction for sale of shares. This Court after reviewing
the entire case law on the subject, held as under:
"...24. There is no doubt that the non-compete
agreement incorporates a restrictive covenant on the
right of the assessed to carry on his activity of
development of software. It may not alter the structure
of his activity, in the sense that he could carry on the
same activity in an organization in which he had a
small stake, but it certainly impairs the carrying on of
his activity. To that extent it is a loss of a source of
income for him and it is of an enduring nature, as
contrasted with a transitory or ephemeral loss. During
the currency of the non-compete agreement, the
assessed was restrained from soliciting, interfering,
engaging in or endeavoring to carry on any activity,
including supply or services or goods concerning
software development. The non-compete agreement
was independent of the first agreement whereby the
assessed agreed to transfer his shares to the foreign
company. Under the circumstances, looking to the case
law on the subject and the terms of the non-compete
agreement, particularly the restrictive covenant, it is
difficult to agree with the view taken by the Tribunal.
The receipt in the hands of the assessed was certainly a
capital receipt in as much as it dented his profit
making capabilities...."
32. The view of the Calcutta High Court in Saroj Kumar Poddar (supra)
ITA No.154/2005 Page 16 of 17
and the Madras High Court in Saraswati Publicity (supra) are to the same
effect.
33. The present case is clearly distinguishable from the Shiv Raj Gupta
(supra) case in which the decision of this Court was made in the context of
the facts of the said case involving a specialised regulated business like
manufacture and sale of liquor which requires a specific liquor license in
each State, manufacturing capability and capital investment, all of which the
Assessee therein did not possess.
34. In the facts of the present case, this Court is persuaded to follow the
decisions in Guffic Chemical Pvt. Ltd (supra), Khanna and Annadhanam
(supra) and Rohitasava Chand (supra) to hold that the Non-Competition
Agreement is genuine and the payment made thereunder is indeed a non-
compete fee.
35. The question of law framed is answered in the affirmative i.e. in favour
of the Assessee and against the Revenue.
36. The appeal is dismissed but with no order as to costs.
PRATHIBA M. SINGH, J
S.MURALIDHAR, J
AUGUST 11, 2017
dk
ITA No.154/2005 Page 17 of 17
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