1993-VIL-168-ITAT-
Equivalent Citation: ITD 048, 145,
Income Tax Appellate Tribunal CALCUTTA
Date: 13.07.1993
GRAMOPHONE COMPANY OF INDIA LIMITED.
Vs
DEPUTY COMMISSIONER OF INCOME-TAX
BENCH
Member(s) : P. PRADHAN., R. V. EASWAR.
JUDGMENT
Per Shri R.V. Easwar, Judicial Member---This appeal filed by the assessee is directed against the order passed by the Commissioner of Income-tax on 30-3-1989 under section 263 of the Income-tax Act.
2. The assessee is a public limited company engaged in the business of manufacturing and selling Gramophone records, pre-recorded music cassettes etc. In the present appeal, we are concerned with the assessment year 1984-85 for the year ended 31-3-1984. The assessment was originally completed on 30-3-1987 under section 143(3) of the Income-tax Act. Subsequently, the Commissioner of Income-tax took proceedings under section 263 of the Act on the ground that the assessment completed on 30-3-1987 was erroneous in so far as the same was prejudicial to the interests of the revenue. The action was based on the following points:
(i) Incorrect allowance of Rs. 7,16,300---as provision for stock,
(ii) Incorrect allowance of Rs. 5,98,939---under the head 'Miscellaneous expenses',
(iii) Non-inclusion of Rs. 23,11,661 being bonus paid to the assessee's dealers for the purpose of disallowance under section 37(3A) of the Act, and
(iv) Wrong allowance of Rs. 1,55,80,867 being royalty paid by the assessee company.
3. In response to the notice issued by the CIT under section 263, the assessee submitted a detailed reply dated 4-3-1989. After considering the reply, the CIT took the view that the assessment had been completed without any enquiry into the various claims of the assessee (listed above), and he therefore set aside the same with a direction to the Income-tax Officer to reframe the assessment in accordance with law after giving opportunity to the assessee.
4. It is the correctness of the aforesaid order of the CIT which is in dispute before us. The learned counsel for the assessee fairly stated that as far as the allowance of the provision for stock as well as the miscellaneous expenses are concerned, the assess has no grievance and the appeal is limited only to the other two issues namely the bonus paid to dealers as well as the disallowance of the royalty expenditure. We therefore proceed on the assumption that as far as the first two issues are concerned the order of the CIT is right.
5. Regarding the bonus paid to dealers, the CIT has taken the view that the same should be treated as "sales promotion expenses" and should be reckoned as such for the purpose of section 37(3A). We cannot accept this as a correct conclusion for the reasons stated in the succeeding lines. The assessee has a vast dealer net work throughout the country. In addition to the commission paid to these dealers on the basis of the sales of the gramophone records and music cassettes manufactured by the assessee, the assessee also formulated schemes of bonus from time to time for the benefit of the dealers. The bonus is payable in addition to the regular commission based on sales. The bonus is also based on the performance of the dealers as compared to the performance for the similar earlier period. The assessee has furnished details of the bonus schemes in existance from time to time as part of the paper book furnished before us. The content of the paper book have been certified to have been furnished before the CIT also during the proceedings under section 263. In the scheme dated 24-3-1982 we find that two alternative plans have been given for the payment of the bonus. In both the plans, the bonus is based on the offtake of stock of records and cassettes from the assessee by the dealers. Under the first plan, bonus would be payable on the amount of offtake of the stock. In the second plan the bonus will be calculated on growth oriented basis on a comparison of the offtake between two specified periods. On 15th May, 1982, another bonus scheme was formulated to come into effect from 1-4-1982. Under this scheme, the bonus will be calculated on the dealers net value of purchase of stock from the assessee for the half yearly period April to September and October to March. If it is found that there is an increase of the offtake between the two periods, the dealer will be paid a bonus commensurate with the growth. For example, if the growth is up to 25 per cent, 1 per cent bonus would be paid. For growth between 26 per cent to 50 per cent, 1 1/2 per cent bonus would be paid. If the growth exceeds 50 per cent, the dealer would be paid bonus 2 1/2 per cent. In all cases, the bonus would be worked out on the actual net purchase of gramophone records and music cassettes by the dealer from the assessee. A perusal of this scheme clearly establishes that the payment of the bonus has a direct nexus or link to the actual sales made by the dealer. The bonus is paid in addition to the commission. In CIT v. Hindusthan Motors Ltd. [1991] 192 ITR 619 (Cal.) the Calcutta High Court had occasion to deal with the question whether commission and brokerage payment could be equated with sales promotion expenses and the provisions of section 37(3A) could be applied thereto. It was held that the section cannot be invoked for disallowance of the commission and brokerage payments since they were expenses incurred by the assessee which had a direct link with the actual sales and were therefore part of the selling expenses of the assessee's products. It was held by the Court that every type of expenditure incurred in connection with the sale of goods will not be hit by the provisions of section 37(3A) of the Act notwithstanding the phraseology used in the provisions viz., 'advertisement', 'publicity' and 'sales promotions'. In the present case, it cannot be disputed that the ratio is applicable. The bonus payment to the dealers is based on the actual performance reached by the dealers. As stated earlier, it is paid in addition to the normal commission. Bonus, thus forms part of the selling expenses of the gramophone records and the music cassettes manufactured by the assessee. It is not therefore possible, in the light of the judgment of the jurisdictional High Court, to accept the view of the CIT as the correct view. We, therefore hold that the assessment order insofar as it relates to the allowance of Rs. 23,11,661 without the same being considered for disallowance under section 37(3A), does not contain any error nor is it prejudicial to the interests of the revenue. The order of the CIT on this issue is cancelled.
6. We may now take up the question of allowability of the royalty of Rs. 1,55,80,867. It was contended by Dr. Pal on behalf of the assessee that the royalty payments were made to EMI Records Ltd. (EMI for short), an English company, various artists who provided the music to the assessee, film producers and the authors of the song. It was contended by him that the common features of the various agreements entered into by the assessee with the aforesaid four classes of persons were that the agreements were normally for a period of three to five years, that there is no outright purchase of the voice or the music, that during the period of the agreement, the company had the right of printing the records and recording the music in the cassettes for the purpose of sale, that there was no lump-sum consideration for the aquisition of the rights under the agreement, that the consideration was a recurring payment of royalty which was linked to the sale of the recorded gramophone records and music cassettes and therefore the expenditure cannot be described as capital expenditure, as was done by the CIT. He also referred to various decisions of which the following were heavily relied on by him:
(i) Travancore Sugars & Chemicals Ltd. v. CIT [1966] 62 ITR 566 (SC),
(ii) Empire Jute Co. Ltd. v. CIT [1980] 124 ITR 1 (SC),
(iii) Gotan Lime Syndicate v. CIT [1966] 59 ITR 718 (SC),
(iv) CIT v. Assam Oil Co. Ltd. [1977] 107 ITR 261 (Cal.),
(v) Super Cassettes Industries (P.) Ltd. v. CIT [1992] 41 ITD 530 (Delhi),
(vi) M. Subramaniam v. Dy. CIT [1992] 42 ITD 676 (Mad.).
Relying on the aforesaid decisions, it was contended by Dr. Pal that the royalty payment was not related to the capital value of the rights obtained under the agreement, that the payments were to continue indefinitely as and when there were sales of the gramophone records and music cassettes containing recorded music and that the payment of royalty fluctuated with the chances of the business, and therefore the royalty payment cannot be characterised as capital expenditure. He further submitted that the rights relating to the music obtained under the various agreements were not rights in the capital field, but the expenditure must be treated as one incurred for acquiring the stock-in-trade for the assessee's business. The ld. Departmental Representative on the other hand, took up a preliminary objection. It was his contention that since the assessee did not challenge the order of the CIT on the first two grounds namely the allowance for provision for stock and the allowance under the head 'Miscellaneous expenses', the assessee should not be allowed to challenge the order of the CIT on other points. According to him, once it is held that the assessment order is erroneous in respect of one item, then the entire order must be taken to be erroneous. The decision of the Madras High Court in Indian Textiles v. CIT [1986] 157 ITR 112 was relied on in support of this proposition. The second objection was that the CIT has set aside the order of assessment on the ground that there was no application of mind or enquiry into the return filed by the assessee on the part of the ITO and, therefore the Tribunal cannot embark upon an enquiry to find out whether there was an enquiry into the return by, the Assessing Officer or not. The Tribunal, according to the Departmental Representative, in such circumstances, cannot go into the merits of the various issues directed by the CIT to be looked into by the Assessing Officer.
7. Dr. Pal, in answer to this preliminary objection submitted that it is not the correct proposition of law to say once an assessment order is found to be erroneous in respect of one point, the entire assessment must be stated to be erroneous. That, according to him, would mean that even the points which have been rightly decided by the Income-tax Officer would have to be set aside without any justification. It was further argued by Dr. Pal, that the Tribunal is not prevented from going into the merits of the issues in view of the clear and definite findings of the CIT in his order under section 263. Our attention was invited to paragraphs 6 and 9 of the order. According to Dr. Pal, the CIT has rendered a clear finding that by paying the royalty the assessee has obtained an income earning apparatus in their control, and that the manner of paying the royalty, whether it is an one-time payment or it is recurring payment was not at all important. According to him, if the CIT had thought that the Income-tax Officer had not held any enquiry into the claim, the proper course for him would be to not express any opinion on the merits of the claim, but to set aside the assessment merely on the ground that there was no enquiry. But having gone into merits of the assessee's claim, and having rendered a definite decision on them, it was incumbent on the Tribunal, before whom the matter is argued on merits, to go into same and recorded a finding one way or the other. In this connection, he invited our attention to the decision of the Gujarat High Court in the case of Addl. CIT v. Mukur Corpn. [1978] 111 ITR 312, particularly the observations at page 325 of the report. Dr. Pal further contended that even under section 263, there was no bar on the CIT recording final conclusions on the merits of the issues though he was not bound to record final conclusion.
8. On a consideration of the rival submissions on the preliminary objection, we are of the opinion that there is no merit in the same. Under section 263 of the Act, the CIT has been constituted a revising authority for revising the assessment order passed by the ITO. The assessment order contains various decisions taken by the ITO on different aspects of the assessment. Various claims are made in the return of income and the ITO examined each and every claim and records his findings. Some of them may be found to be correct and some of them found to be incorrect by the CIT while examining the assessment in the course of the proceedings under section 263. We cannot therefore accept that once an assessment order is found to be erroneous in respect of one issue, the entire assessment order should be taken to be erroneous. The corollary of this proposition would be that even the correct decisions of the ITO will have to be set aside. The right or proper conclusion drawn by the ITO cannot be set aside and this proposition is too elementary to require any authority. Therefore, the argument of the ld. Departmental Representative that the assessee cannot challenge the order of the CIT in so far as it relates to the bonus to dealers and royalty payments on the ground that the assessment order is erroneous in respect of these two items also, cannot be accepted. The decision of the Madras High Court relied upon by the ld. Departmental Representative is not found apposite to the facts of the present case. In that case at page 117 of the report of Indian Textile's case, it was held that if at least in respect of one item, the assessment order is found to be prejudicial to the revenue, the initiation of the proceedings by the CIT under section 263 cannot be questioned. This is not the same thing as what the ld. Departmental Representative wants us to accept. The Madras High Court did not say that if the assessment order is erroneous or prejudicial to the revenue in respect of one item, the entire assessment order should be considered to be erroneous and prejudicial to the interests of the revenue. All that was stated was that the initiation of proceedings under section 263 cannot in that case be questioned. In the present case, the initiation of the proceedings under section 263 has not been questioned by the assessee. In fact, by not filing any appeal before us in respect of the allowance of the provision for stock and the expenses under the head 'Miscellaneous expenses', the assessee, on the basis of the judgment of the Madras High Court cited above, must be taken to have accepted that the initiation of the proceedings under section 263 is valid. What Dr. Pal really contends is that the CIT has found fault with the conclusions of the ITO in respect of the bonus to dealers and the royalty expenditure not merely on the ground that there was no enquiry into these two items but on the ground that even on merits, these two items should have been disallowed. We have to accept the contention. The decision of the Madras High Court is in no way a bar on the Tribunal to consider the issue on the merits, provided there is a discussion on the merits of the issues as well as final conclusions of the CIT regarding the merits. Now it cannot be disputed that the CIT can himself decide the issue on merits, having validly initiated proceedings under section 263. If he can decide the issue on merits, it is equally open to the Tribunal sitting in appeal over the order of the CIT, to examine whether the conclusions of the CIT are correct on the merits of the issues. In the present case, we find that the CIT has made the observations at paragraphs 6 and 9 of his order which cannot be stated to be merely obiter. They are not tentative conclusions also. For example in paragraph 6 while dealing with the bonus to the dealers, the CIT has recorded a clear finding that the bonus should be disallowed under section 37(3A), of the Act. Similarly, in paragraph 9, while dealing with the royalty payment, the CIT has clearly found that on a reference to the records and considering the facts and circumstances of the case, it was clear that the assessee got an income earning apparatus under its control and the manner in which it made the payment was not important. Only after recording this final conclusion, the CIT states that no enquiry has been made by the ITO into these aspects and therefore the assessment has to be set aside. Though it is no doubt true that the CIT was not bound to record final conclusions about the issues in controversy before him, if he takes the view that the assessment should be made afresh since it was not made after proper enquiry, the only proper course for him would be not to express any final opinion as regards the controversial points. Since he has recorded clear findings on the controversial points involved in the present case, and has decided them on merits, it is open to us to go into the merits of the assessee's claim and arrive at our opinion or conclusion after considering of the records and the facts and circumstances. It is also to be noticed, as was also pointed by Dr. Pal, that the assessee had furnished a detailed reply to the show-cause notice issued under section 263 and to this reply was appended specimen copies of the agreement entered into between the assessee and EMI, artists, film producers and authors of songs. The various schemes for the bonus paid to the dealers were also furnished before the CIT. It is therefore clear that the decision of the CIT is based on the merits of both the issues. We have to therefore overrule the preliminary objection made by the ld. Departmental Representative.
9. Dealing with the merits of the assessee's claim that the royalty expenditure must be treated as revenue expenditure only, we find that the CIT has not arrived at the correct conclusion. The assessee's business itself is that of manufacture of recorded gramophone records, and prerecorded music cassettes. In the normal course of its business, the assessee requires music as its raw-material. This raw-material is obtained through various sources. One source is EMI from whom the assessee obtains the right over the matrices for the purpose of reproducing the music contained in them by recording them either in gramophone records or in music cassettes. The agreement with EMI which is to be enforced from 1-1-1980 to 31-12-1984 is part of the paper book filed before us. The agreement is for obtaining the rights in the matrices of EMI for use by the assessee company. Clause-3(c) which is relevant is as under:
"(c) The supply by EMI to the company of matrices shall not imply a transfer of the ownership of the recordings thereon or of any rights to use the same except to the extent herein provided and such rights of use shall cease on the termination of this agreement whether under the provisions of clause 17 hereof or in any other manner. EMI matrices shall be and remain the property of EMI and the Copyright and all other rights which may now or hereafter subsist in the records derived from the said matrices, including the rights of broadcasting, public performance and copying shall for all countries vest solely in EMI."
It will be seen from the aforesaid clause that the ownership of the recording in the matrices would continue to remain with EMI and the assessee would only get the right to use the recording for the purpose of reproduction and sale. Clause 16 states that the rights agreed to be granted by EMI to the assessee cannot to be assigned in whole or in part without the prior consent of EMI in writing.
10. The agreement with the artists whose music the assessee records for the purpose of reproduction into gramophone records or music cassettes which in turn will be sold also records in Clause 10 thereof, the following:
"The company shall be entitled to the sole right of production, reproduction sale (under such trademarks as it may select) use and performance (including broadcasting) throughout the world by any and every means whatsoever of records manufactured in pursuance of this Agreement. The company shall be the owner of the original plate within the meaning of the Copyright Act, 1957 and any extensions or modifications thereof of each performance recorded under the provisions of this Agreement at the time when such plate shall be made."
11. The agreement with the producers of films for the purpose of obtaining the copyright in the film songs and music of the original sound track also contains the following clause:
"(3)(A) The Producer hereby assigns and transfers and agrees to assign and transfer to the company absolutely and beneficially for the world:
(i) the copyright for making records of all contract works which are made available to the Company under the terms of this Agreement and the copyright, performing right and all other rights, title and interest in and to the literary dramatic and musical works embodied in the Producer's Films including all rights of publication, sound and television broadcasting, public performance and mechanical reproduction of the said works,
(ii) the sole and exclusive right to make or authorise the making of any record embodying the contract recordings, either alone or together with any other recordings. The Producers undertake to execute or obtain the execution of such further assignments or assurances as may be required to safeguard the parties rights.
(B) It is hereby declared that the rights hereby assigned and transferred or agreed to be assigned and transferred in pursuance of this Agreement include but are not limited to:
(i) the sole right of production, reproduction sale (under such trade marks as the company may select) use and public performance (including sound and television broadcasting) throughout the world by any and every means whatsoever of records made in pursuance of this Agreement,
(ii) the sole right to decide based on market demand whether and/or when to discontinue or recommence the said production and sale of records and to fix and alter the prices of such records and the irrevocable right and licence at all times to use and publish the names and photographs of artistes, musicians, lyric writers, music directors and other persons associated with and/or engaged in the Producer's Films in any manner whatsoever and the Producer's trademarks and logos for labelling, cataloguing, promoting and marketing the said records,
(iii) the right to grant licences for publication, sound and television broadcasting, public performance and mechnical reproduction of the contract works or any of them,
(iv) the right of use and public performance (including sound and television broadcasting) throughout the world by any and every means whatsoever of the contract works or and of them, and the Company shall have the irrevocable right to authorise any other person, firm or corporation to do any and all such act and things."
These clauses show that the producers assign or transfer their copyright over the records relating to the film to the assessee for the purpose of enabling the assessee to reproduce the same through any means. Similarly, in respect of an author of a song who is also owner of the copyright of the song, the agreement shows that it is an assignment of the copyright, performing right and any other right in the work in favour of the assessee. In all the aforesaid agreements, the consideration for the recording is a royalty payable on the basis of the sales of the particular music recorded in the gramophone records or music cassettes. All the agreements are for a definite period say three to five years. The artist who records music for the company is prohibited from recording his music for any other concern where such recording is made with the purpose or object of selling them to the public. However, the artist is free to record his music for others where the recording is not to be offered for sale to the public. Further the artist is also not prevented from performing in functions, television, AIR etc. for profit. In fact, this right, notwithstanding an agreement to the contrary entered into by the artist with any recording company, has been recognised by the Supreme Court in Indian Performing Right Society Ltd. v. Eastern India Motion Picture Association AIR 1977 SC 1447.The only prohibition is that the artists cannot record the same song or the same music with any other recording company where the object of the recording is to be reproduced the same either in the form of gramophone record or music cassette for sale to the public.
12. In the background of the aforesaid facts, we have to decide whether the payment of royalty to EMI, artists, film producers and authors of songs is revenue expenditure or capital expenditure. Dr. Pal referred to the decision of the Hon'ble Supreme Court in the case of Travancore Sugars & Chemicals Ltd. and submits that since the payment is linked to the chances of the business namely sales, it should be allowed as revenue allowed following the ratio laid down in that decision. In that decision, the Hon'ble Supreme Court while laid down principles, also cautioned that if a capital sum is paid by instalments spread over a length of time that cannot be stated to be revenue expenditure. We have to see in the present case whether the payment is a capital sum spread over in instalments. In the case of Gotan Lime Syndicate, the Supreme Court held that if the royalty payment is not a direct payment for securing an enduring advantage but it has relation to raw-material to be obtained, then the royalty payment should be allowed as revenue expenditure. It was further held that even if there is no lump-sum payment provided by the agreement that by itself cannot lead to the conclusion that the recurring royalty payments have relation to the aquisition of an enduring advantage. In the present case, the payment of royalty is relatable to the sales of the gramophone records and music cassettes. Considering the nature of the assessee's business, music must be treated as its raw-material. The royalty payment is therefore directly related to the raw-material. It is for the purpose of obtaining the raw-material. It may be that by entering into an agreement for a period of three to five years, the assessee is in a position to ensure continuous supply of the raw-material for a payment which is to be made as an when the sales takes place. But that by itself would not mean that the payment is a capital expenditure. This has been laid down by the Hon'ble Supreme Court in the aforesaid decision at page 727. The Hon'ble Supreme Court further held that it is not the law that in every case if an enduring advantage is obtained, the expenditure for securing it must be treated as capital expenditure. We are not to be understood as having decided that the assessee by entering into various agreements with the suppliers of music, has obtained an enduring advantage. The agreement is only for a limited period, the maximum period being five years. Even during this period it is quite conceivable that there may be no demand for a particular music or the work of a particular artist, and therefore the assessee may not have occasion to reproduce the recording more than once. In that case, it cannot be postulated that the assessee has obtained an enduring advantage to last for ever. Even assuming for a moment that the assessee obtains an advantage of enduring nature, it is not each and every advantage of enduring nature that invites the disallowance of the payment made for securing the same. The advantage must be in the capital field and not in the revenue field. In the case of Empire Jute Co. Ltd., the Hon'ble Supreme Court held so while dealing with the claim of the assessee that the payment made for purchase of loom-hours as revenue expenditure. In that case, the Hon'ble Supreme Court found that the assessee was jute manufacturer and by acquiring more loom-hours, the assessee was merely facilitating its business and attempting to carry on the same more efficiently and more profitably leaving the fixed capital untouched. The advantage was held to be not in the capital field but only in the revenue field. In the present case, applying the test laid down in the aforesaid decision, it is found that the assessee has to obtain music for the purpose of its business. The assessee's business itself consists of purchasing music, reproducing the same in gramophone records and music cassettes and selling them to the public. The Hon'ble Supreme Court itself in the aforesaid decision has laid down that the question whether a particular expenditure is capital or revenue must be decided in the larger context of business necessity or expediency. Since the assessee's business itself consists of reproducing and selling recorded music, the royalty payment for the purchase of the original music, which forms the raw-material, is an expenditure incurred out of business necessity just as a sugar manufacturer would require sugarcane as his raw-material. The payment is so related to the conduct of the assessee's business that it must be regarded as an integral part of the profit-earning process and not for aquisition of any asset or any right of a permanent character.
13. The Hon'ble Calcutta High Court in the case of Assam Oil Co. Ltd. has held that after the decision of the Hon'ble Supreme Court in the case of Gotan Lime Syndicate, royalty payment is never to be considered as an expenditure of capital nature.
14. The question has directly come up for consideration before the Madras Bench of the Tribunal in the case of M. Subramaniam. That was also a case of an assessee carrying on business of manufacturing pre-recorded cassettes and selling them. He entered into agreements with producers of Cinema films for obtaining the right to reproduce the film song and paid royalty as a percentage of the sales of the cassettes. The Tribunal after an elaborate discussion of the facts as well as agreements entered into between the assessee and the film producers, took the view that notwithstanding the use of the word 'assign' in the agreement which conveyed the meaning that the agreement is one of assignment of the copyright, the real object of the agreement was only to grant a licence to the assessee in that case to reproduce the music in music cassette, and therefore the payment of the royalty for such licence was an expenditure incurred for the purpose of obtaining a basic raw-material namely the film song, and therefore the same was allowable item of revenue expenditure. The Tribunal viewed the agreement as one granting licence to the assessee to reproduce the songs. At para 11 of the order, the Tribunal also referred to the judgment of the Supreme Court in the case of Empire Jute Co. Ltd., and held that even if the agreement is considered as a partial assignment, there was no advantage in the capital field to the assessee and the expenditure represented the cost of performing the income-earning operation and was therefore revenue expenditure. This decision is directly in favour of assessee and we respectfully follow the same.
15. We are therefore of the considered opinion that for the reasons stated above, the CIT was not right in taking the view that the expenditure of Rs. 1,55,80,867 incurred by the assessee on payment of royalty was a capital expenditure. We cancel his order on this point and restore that of the Income-tax Officer.
In the result, the assessee's appeal is allowed.
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