Shiv Raj Gupta V. Commissioner of Income Tax

    Introduction 

    The following case law deals with the Income-tax act and the area of Non- Compete clause, this case law pertains to the sale of a Non-competition fee which was received by one Shiv Raj Gupta under a negative agreement and a substantial question of law that was raised by the High Court did not contain any question as to whether the non-compete fee might be taxed under any provision apart from S. 28(ii) (a) of the Income Tax Act, 1961. Without a chance to the parties followed by reasons for framing any other substantial question of law as contended in the matter at hand as to the taxability of such amount as a capital receipt in the hands of the Shiv Raj Gupta.

    Section 28(ii) in The Income- Tax Act, 1995(ii) any compensation or other payment due to or received by,-(a) any person, by whatever name called, managing the whole or substantially the whole of the affairs of an Indian company, at or in connection with the termination of his management or the modification of the terms and conditions relating thereto;

    Facts of the Case 

    • CDBL (Central Distillery and Breweries Ltd) is a company involved in manufacturing beer and liquor. The Appellant herein Shiv Raj Gupta was the Chairman and Managing Director of CDBL. The Appellant along with the members of the family members held 186,109 no. of shares @ Rs.10/- in CDBL, which constituted 52% of, paid-up equity capital and was listed in the Mumbai and Delhi stock exchange.
    • The manufacturing activity was suspended on a decree by the Supreme Court and this led to the selling of shares of the company and on 13/04/1994, the Appellant entered into an MOU with the (Shaw Wallace Company Group) herein referred to as SWC. The family members of the Appellant sold their shares for Rs.30/- per share. Accordingly, an amount of 55, 83,270 was paid to the Appellant and he handed over the physical possession of assets, management, and control of CDBL to the representatives of SWC.
    • By a deed agreement on the very same date, it was agreed by both the parties that over the past years, Mr. Shiv Raj Gupta has acquired considerable knowledge, skill, and expertise in the liquor business and in furtherance of the purchase of the shares, it was requested to Mr. Shiv Raj Gupta to give a restrictive agreement to and in favor of SWC for not carrying on directly or indirectly any manufacturing or marketing activities, pertaining to the sale of Beer for a period of 10 years which Mr. Gupta has agreed to offer for consideration of a non-competition fee of Rs. 6,60,00,00 to be paid by SWC to the Appellant.
    • Rs.3 crores out of the 6.6 crores were retained by SWC for a period of two years by way of a public deposit for deduction of any loss on account of breach of the covenant.

    Procedural History 

    The decision of the Assessing Officer (AO)

    There were certain reasons for the Assessing Officer to believe that the amount of Rs.6 crore was an income which came under the purview of section 28 (ii) of the Income-tax act.

    • Assessing Officer herein AO held that despite the fact that the appellant owned a concern, namely, one M/s Maltings Ltd., which also manufactured liquor, being a loss-making concern, no real competition could be foreseen between the SWC group and this loss-making company, as a result of which the huge amount paid of Rs. 6 crores under the Deed of agreement cannot be considered as to be an amount paid in respect of a restrictive agreement as to non-competition.
    • It was also held that the amount of Rs. 6 crores that were being paid had no reason for the consideration of the same. The son of the Appellant was not paid any non-compete fees despite the fact that he also resigned from the position as Joint Managing Director.
    • There were no penalties to enforce the obligation of the parties and lastly this was a method used by the appellant to evade tax.

    The Decision of the Income-tax Appellate Tribunal (ITAT) 

    On the contrary, to the decision made by the AO the ITAT gave a decision on a 2:1 majority in the favour of the appellant stating that the amount of Rs. 6 crore was a non-taxable amount which could not be taxed under section 28 (ii) of the Income-tax Act or for that matter any provision under the purview of the income tax act due to the following reasons: 

    • The learned third Member emphasized the fact that a share worth Rs. 3 was sold for Rs. 30 under the agreement as a result of the transfer of control of the appellants’ company. It cannot be said that these shares have not been properly valued, neither can it be said that there was any collusion as a result of which the amount of Rs. 6.6 crores have escaped income tax.
    • He pointed out that by a letter dated 02.04.1994, a “penalty clause” was provided for in that, out of the amount received by Shiv Raj Gupta an amount of Rs. 3 crore was to be withheld by the SWC group for two years under a public deposit scheme, for the purpose of deducting the money if any breach has been made under the agreement.   

    The Decision of the High Court 

    The revenue preferred an appeal under Section 260-A of the Income Tax Act, 1961 to the High Court. In its grounds of appeal, the revenue stated that there was a substantial question of law in the case through which this came under the purview of the High Court.

    Issues in the High Court  

    • Whether the amount of 6.6 crores received by the Appellant is owing to of handing over management and control to SWC is taxable u/s. 28(ii) (a) of the Income-tax Act?
    • Whether Rs.6.6 crores is free from being considered as capital receipt being non-competition fee by executing Deed of Agreement?

    High Court agreed with the Assessing Officer (AO) and the first Judicial Member of the Appellate Tribunal, stating that the Deed of agreement could not be read as a separate document. The high court through its judgment stated that the amount of 6.6 crores could not come under the purview of section 28 (ii) (a) of the Income-tax Act but would be treated as taxable capital gain is a part of the full value of consideration in respect of the transfer of shares.

    Issues raised in the Supreme Court  

    • Whether the amount of Rs.6.6 crores was towards non-compete fee is not liable to tax as being considered as capital nature.
    • Whether the High court was right in answering a substantive question of law?
    • Whether the High Court was right in looking at the commercialized convenience from the point of view of the Income Tax Department?

    Contentions by the advocates on behalf of the Appellant 

    They argue that only the substantial question of law that was framed in front of the High court could be argued upon and not some other and in the matter, at hand, the question of law did not contain the question on whether the assesse can be taxed outside the purview of Sec 28 (ii) (a). They also through citing previous judgments stated that any sum received under a covenant for not carrying out any activity in relation to any business was to be taxed.

    The contention by the advocate on behalf of the Assesse 

    The amount of 6.6 crores is taxable under section 28 (ii) (a) Relying upon the decision of McDowell​ (supra) and Vodafone​ International Holding BV v. UOI3 revenue contended that Rs.6.60 crores have been received for the sale of shares.

    Supreme Court’s decision on the 1st Issue

    The Apex court of the country held that the amount of 6.6 crores was a capital receipt, which was not liable to tax.

    In support of the decision, the SC gave the reasoning that the premium was paid for the shares and each family member was paid for the shares they sold, even a penalty clause was there in the agreement wherein 3 crores was withheld by the SWC for any breach of the agreement making it clear that there was no colorable device involved in having two separate documents. 

    Supreme Court’s decision on the 2nd Issue

    In the second issue on whether the High court had the power to frame a substantial question of law under Sec 260A of the Income Tax act. The Supreme Court held that the High Court was not right in answering without regarding reasons or framing any substantial question of law.

    The apex court based its agreement on Section 260A of the Income Tax Act and Section 100 of the CPC. As per subsection (4) of 260A the HC if wants to hear an appeal on any other substantial question of law then, it may, for reasons to be recorded, formulated if it is satisfied that a substantial question of law is being raised and as per sub-section (6) of the same section the HC may raise an issue which was not dealt or wrongly dealt by the ITAT. 

    The Apex court herein sites the case of Kshitish Chandra Purkait v. Santosh Kumar Purkait and Dnyanoba ​Bhaurao Shemade v. Maroti Bhaurao Marnor and states that 

    At the initial stage of the proceeding, the HC has a duty to formulate the substantial question of law, and only in exceptional cases can the High Court at a later point in the proceeding has the right to exercise its jurisdiction under Section 100 (5) of the CPC. Thereon the opposite party should be given notice and a fair opportunity to meet the point. 

    Supreme Court’s decision on the 3rd Issue

    The Supreme Court through various precedents based its decision and gave a decree that the commercial convenience is to be judged by the eyes of a businessman and not through the point of view of the Income Tax department as was clearly mentioned in the case of CIT v. Panipat Woollen & General Mills Co. Ltd.