W.T.AS. NOS. 198/HQ AND 200/HQ OF 1990?91, DECIDED ON 6TH JUNE 1991. VS W.T.AS. NOS. 198/HQ AND 200/HQ OF 1990?91, DECIDED ON 6TH JUNE 1991., 1991 PTD-INCOME-TAX-APPELLATE-TRIBUNAL-PAKISTAN 884 (1991)

(a) Wealth Tax Act (XV of 1963)---

----S. 2(e)---"Property"-.--Jurisprudential concept of property includes both tangible and intangible properties and since the definition of assets as laid down. under S. 2(e) includes property of every description with few exceptions, intangible properties like easementary rights, copyrights, rights to hold patents and trade marks and goodwill all fall within the ambit of definition of property.

(b) Goodwill-

----Concept explained.

Cruttwelly: Lye (1810) 17 Ves 335;.Trego v. Hunt;(1996) AC 7; Inland Revenue Commissioner v. Muller & Co. (1901) AC 217; Commissioner of Income-tax v. Chunni Lal Prabhu Das (1979) 76 ITR Cal. 566; Dulal Das Mullick v. Ganesh Das Damani AIR 1957 Cal. 280 and S.C. Cambatta & Co. (Pvt.) Limited v. Commissioner of Excess Profit Tax (1961) 41 ITR 500 (SC) quoted.

(c) Goodwill-

-----Valuation of goodwill of a business.

C.W.T. v. Phipson Co. (1977) 110 .ITR. 64. (Cal.); R. Ramanayaki Ammal and others v. Controller of Estate Duty (1973) JTR' 386; Guzdar Kajora Coal Mines Ltd. v. Commissioner; of Income-tax, (1972), 85ATR 599 and Accountancy of William Pickles ref.

(d)Wealth Tax Act (XV of 1963)-

-- S. 2 (e) wealth Tax Rules, 193 R 8(8) ----Goodwill---Property----Determination of market value of the "goodwill"---Method---Duty of Assessing Officer.

Following are the methods of valuation of goodwill:

(i) valuation on the basis of super profits;

(ii) valuation by capitalization of future maintainable profits;

(iii) valuation on the basis of the mean between the tangible assets value of yield;

(iv) valuation of a number of years' purchase of past profits;,

(v) advantage of locality and site monopoly;

(vi) personal reputation of the owners of the business regarding their honesty and public dealing;

(vii) standing of the business; '

(viii) reputation of the firm regarding the business methods;

(ix) patents and trade mark protection;

(x) effectiveness of publicity;

(xi) relationship between the management and personnel of the business;

(xii) growth element of business;

(xiii) lack of competition, and

(xiv) credit facility extended by the business, etc. etc.

The list is not exhaustive. The valuation of the goodwill depends either individually on different factors mentioned above or their different and multiple combinations.

While the assessing officer in some cases may have legal sanctions for working out the market value under Rule 8(8) of the Wealth Tax Rules on the basis of average number of years' purchase of annual net profit calculated with reference to recent years yet he has to keep into consideration the most important factor that the goodwill as an asset is susceptible to extreme fluctuations. It would be, therefore, advisable and for that matter it may be necessary in some cases that he should bring some material on record in order to establish that either because of one or several factors or combination thereof, the market value determined by him is fair and reasonable. What material he should bring on record, depends on facts and circumstance of each case and it would be within the domain of judicial sense of the assessing officer to determine as to what material he should bring on record keeping into consideration above-mentioned circumstances which are found necessary by him under facts and circumstances of each case.

In case of an assessment, the condition of quantifying the value of goodwill by third party is always fulfilled for the simple reason that the assessing officer plays the role of such third person.

(e) Goodwill--

----Determination of market value of goodwill---Methods.

C.W.T. v. Phipson & Co. (1977) 110 ITR 64 (Cal.); R. Ramanayaki Animal and others v. Controller of Estate Duty (1973) 88 ITR 386; Guzdar Kajora Coal Mines Ltd. v. Commissioner of Income-tax (1972) 85 ITR 599 and Accountancy of William Pickles ref.

Ashrafuddin Bhatti, D.R. for Appellant.

Ahadullah for Respondent.

Date of hearing: 29th May, 1991.

ORDER

FARHAT ALI KHAN (CHAIRMAN).---These departmental appeals are directed against two separate orders recorded by the same learned Commissioner of Income Tax (Appeals) on 16th May, 1990 in the case of the respondents who are partners of a registered firm. Mr. Ashrafuddin Bhatti, the learned D.R., supporting the departmental appeals, submits that the Wealth Tax Officer added Rs.3,45,945 and Rs.3,09,321 on account of value of goodwill to the declared wealth of the respondents during assessment year 1988-89. According to him, the W.T.O. worked out the addition by grossing up the profit declared by the respondents in earlier three assessment years of 1985-86, 1986-87 and 1987-88 and then dividing it by 3 obtained the figure of Rs.3,45,945 and Rs.3,09,321 which he added to the declared wealth of each respondent respectively. The learned D.R. submits that learned C.I.T. (A) was not justified to setting aside the assessment order as the W.T.O. had worked out the addition according to law. Mr. Ahadullah, the learned counsel for the respondent. on the other hand, relying upon an unreported decision of this Tribunal recorded in W.TAs. Nos.777 to 781/K.B. of 1986-87 on 6th November, 1990, submits that the order of the W.T.O. was not sustainable in case of both the respondents.

2. We have heard both the learned D.R. as well as learned counsel for the respondent. From perusal of impugned order, it appears that the learned C.I.T. (A) set aside the assessment order with the following observation:--

"It has already been held by me in a number of appeals that whereas goodwill is an asset liable to Wealth Tax in view of the decision of the learned Sindh High Court in C.I.T. v. Dr Ankalsaria reported as 1987 P T D 572 its valuation on the basis of a fixed formula as adopted by the. W.T.O. does not enjoy any legal sanction. Goodwill of every business is to be determined separately on the basis of its peculiar circumstances and no uniform formula can be applied for all sorts of business in this respect:"

3. From perusal of the decisions relied upon by Mr. Ahadullah, it appears that in the case of Dr. Ankalsaria himself, the Division Bench of this Tribunal dismissed the departmental appeals filed for assessment years 1976-77 to 1980-81 with the following observation:--

"The W.T.O. levied tax on the basis of past history. As noted above, this past history was not confirmed by this Tribunal when the matter was agitated at this forum. The learned D.R. has failed to give us any reason to interfere with decision of the learned AA.C. when it is an admitted fact that goodwill did not arise on account of sale of a running business. No doubt goodwill is an intangible asset and is liable to tax in the hands of an individual like any other intangible or tangible assets. However, the goodwill asset comes into being only when some third party quantifies it and makes payment for the same. In the absence of such a happening the person running a business or profession is unable to quantify the value of goodwill. As a matter of fact even if he assigns some value to his goodwill it will be his subjective assessment.

Considering the fact that the W.T.O. levied tax on goodwill by following his action for the earlier year, which was not confirmed by this Tribunal, we see no reason to interfere with decision of the learned A.A.C. who has followed decision of this Tribunal on the issue for the earlier years:'

4. However, from perusal of impugned order, it appears that the decision of this Tribunal relating to assessment years 1964-65 to 1972-73 was reversed. From its perusal, it appears that the W.T.O. had added Rs.2,244, Rs.61,607, Rs.90,908, Rs.9,945, Rs.63,322, Rs.72,035, Rs.1,05,516, Rs.1,02,508 and Rs.1,29,894 in assessment years 1964-65 to 1972-73 but on appeal, it was contended that the goodwill not being an asset, its value could not be added to the total wealth of the assessee. This argument found favour with the learned AA.C. and finally it was affirmed by this Tribunal. Before Their Lordships of Sindh High Court at Karachi, it was argued by the department that goodwill is an asset within the meaning of section 2(e) of the Wealth Tax Act and the finding of the Tribunal was not correct. The learned Division Bench after reviewing the case-law, accepted the argument of the department though it was argued on behalf of the assessee that there being no rule framed for determination of the market value of the goodwill, it could neither be valued nor added. Their Lordships of Sindh High Court at Karachi specifically relied upon the provisions of Rule 8 of the Wealth Tax Rules in repelling the argument regarding absence of any Rule laying down the procedure for valuation of the goodwill. Their Lordships have made following observation:--

"From the above-quoted Rule, it is clear that sub-rules provide the method of valuation of certain classes of property but if the property is not covered by those classes it does not mean that it cannot be valued or taxed. The criterion for assessment of value for the purpose of levy of Wealth Tax for such property would be the market price of the property which in the opinion of the Wealth Tax Officer it would fetch if sold in the open market. I have no doubt that the opinion of the Wealth Tax Officer cannot be subjective or whimsical or arbitrary, and it is to be based on some material. Therefore, the argument that since valuation of goodwill is not specifically provided it cannot be valued is not correct. Rule 8 itself envisages the valuation of properties other than those mentioned in sub-rules (2), (3-A), (4), (4-A), (4-B), (4-C), (4-D), (4-E), (5), (6), (7), (8) and (9)." (Please see 1987 P T D 572 at pages 578-579).

However, Their Lordships have not laid down any guidelines for the W.T.O. to determine the market value of goodwill. The W.T.O. in the instant case has adopted the method of determining the market value of the goodwill on the basis of finding out the average profit earned in last 3 years. The learned C.I.T. (A), however, has set aside his assessment order with the observation that such valuation cannot be determined on the basis of any fixed formula and that the procedure adopted by the W.T.O. did not enjoy any legal sanction. It further appears from perusal of impugned order that the learned C.i.T. (A) has directed the W.T.O. to follow the guidelines laid down by their Lordships of Sindh High Court at Karachi in case of Dr. Ankalsaria (supra). However, from perusal of aforesaid case, it appears that their Lordships of Sindh High Court at Karachi were not called upon to lay down any such guidelines. In fact, the precise issue which was hotly contested before their Lordships was as to whether goodwill was an asset within the meaning of section 2(e) of the Wealth Tax Act and aforesaid decision has finally set at rest this controversy. Nevertheless, for the purposes of these appeals, we have to examine as to what criterion a W.T.O. has to adopt in order to determine the market value of goodwill as an asset. But before we discuss it, let us deal briefly with the concept of goodwill as it would help us in our main discussion.

5. The jurisprudential concept of property includes both tangible and intangible properties and since the definition of assets as laid down under section 2(e) of the Wealth Tax Act includes property of every description with few exceptions, intangible properties like easementary right, copy rights, rights to hold patents and trade marks and goodwill all fall within the ambit of this definition. Fortunately, various laws have been enacted to deal with various types of incorporeal properties, hence the aforesaid concepts have been defined therein. However, the term `goodwill' has not been statutorily defined, though superior Courts have been explaining this concept from time to time with emphasis on one aspect or the other. Thus, on one hand if Lord Elden restricted it to "nothing more than the probability that the old customers would resort to the old place" in Cruttwell-v. Lye reported as (1810) 17-VES-335, on the other hand, in Trego v whatever it may be of the reputation and connection of a business which may have been built up by years of honest work or gained by lavish expenditure of money". Thus it was because of these extremities of the spectrum of goodwill that LORD MACNAGHTEN had to admit that goodwill was "a very easy concept to describe but very difficult to define" in oft-quoted case of Inland Revenue Commissioner v. Muller & Co. reported as (1901) A.C. 217. His Lordship, however, has laid emphasis on the inseparable nexus of the goodwill with the business and the locality in which such business is located. Dealing with the concept of goodwill after lapse of 69 years of Lord Macnaghten's observation, Justice P.B. Mukharji, speaking for the Division Bench of Calcutta High Court, had to acknowledge its ever-increasing diversification. In the case of Commissioner of Income Tax v. Chunni Lal Prabhu Das reported as (1979) 76 I'M Cal. 566, he has discussed this concept in his inimitable style horticulturally, botanically, geographically, philosophically, sociologically, physically, biologically and architecturally together with in terms of a magnet and comparative dynamics. His Lordship has observed that

"Goodwill has been variously described. It has been horticulturally and botanically viewed as "a seed sprouting" or an "Acorn growing into the mighty oak as of goodwill". It has been geographically described by locality. This has been historically explained as growing and crystallising traditions in the business. It has been described in terms of a magnet as the "attracting force". In terms of comparative dynamics, goodwill has been described as the "differential return of profit". Philosophically it has been held to be intangible. Though immaterial, it is materially valued. Physically and psychologically it is a "habit" and sociologically it is a "custom". Biologically it has been described by Lord Macnaghten inTrego v. Hunt as the "sap and life" of the business. Architecturally, it has been described as the "cement" binding together the business and its assets as a whole and a going and developing concern". (Please see pages575-576)."

6. Explaining the concept of goodwill as reputation of the business another Division Bench of Calcutta High Court has issued a note of caution in a case reported as Dulal Das Mullick v. Ganesh Das Damani, AIR (1957) Cal. 280 in following words:

"Goodwill represents business reputation: --Business reputation in my opinion is a complex of personal reputation, local reputation and objective reputation of the product of the business. Which one of these elements will predominate will depend on the facts and circumstances of each case. Except where the reputation of a business and where the product of the business more than its proprietor have won widespread popularity and universal approval and except in the case of well-known patents and manufacturing processes in which event the personal and objective reputations predominate, it is the local reputation or the attribute of locality which forms the largest content of goodwill in almost every other business Specially is the attribute of locality the most important consideration in the business of an ordinary trader or a dealer as in the present case. In my opinion, there can be no hard and fast rule, no simple formula and no inflexible and rigid definition of the term `goodwill' but in each case it is necessary to see the entire nexus of facts connected with the business whose goodwill is to be determined." (Please see page 282).

7. Their Lordships of Indian Supreme Court have also had an occasion to deal with the concept of the goodwill in the case reported as SC, Cambatta & Company Pvt. Limited v. Commissioner of Excess Profit Tax (1961) 411 T R SC 500. Speaking for the Bench, a very eminent jurist of the sub-continent Justice Hidayatullah, as his Lordship then was, has advised that the matter of goodwill needs to be considered in a much broader way. His Lordship has observed as follows:

"It will thus be seen that the goodwill of a business depends upon a variety of circumstances or a combination of them. The location, the service, the standing of the business, the honesty of those who run it and the lack of competition and many other factors go individually or together to make the goodwill though locality always plays a considerable part. Shift the locality and the goodwill may be lost. At the same time, locality is not everything. The power to attract custom depends on one or more of the other factors as well." (Please see page 504).

8. It is perhaps because of the complexity of the issue involved that learned C.I.T.(A) has set aside the assessment order with the observation that goodwill of every business is to be determined separately on the basis of its peculiar circumstances and no uniform formula can be applied for all sorts of business in this respect. However, he has not provided any guidelines to the W.T.O. to be followed. We have, therefore, to find them out. Let us, therefore, now devote ourselves to the issue of valuation of goodwill of a business.

9. Fro1m perusal of William Pickle's Accountancy (4th Edition), it appears that valuing of goodwill in the books is not yet supposed to be a good accounting practice. He has observed as under:--

"The books of account may or may not record a figure for goodwill; m fact, unless arising by purchase, goodwill does not usually appear in the books, it being regarded as contrary to good accounting practice to write up a created goodwill."

The learned author has also cautioned that:

"Even if the record be made it may not represent the true value because of the inherent difficulties of valuation, particularly as from time to time the asset is susceptible to extreme fluctuations."

On the other hand, from perusal of the case-law, it appears that the business houses in the sub-continent have and have not been showing valuation of the goodwill in their books. In a case reported as C.W.T. v. Phipson & Co. (1977) 110 I T R 64 Cal., the assessee had shown the goodwill of their business at Rs.5,44,999 I but in assessment year 1957-58 they brought it down to Rs.1,00,000. This case inter alia also confirms the observation of William Pickles that the goodwill as an asset is susceptible to extreme fluctuations as ultimately Their Lordships of Calcutta High Court approved the reduction of the valuation of goodwill from Rs.5,44,999 upto assessment year 1956-57 to Rs.1,00,000 in assessment year 1957-58. Similarly, in the case of Chunni Lai Prabhu Das (supra) the goodwill was valued at the time of transfer of the business of the firm to a private limited company at Bombay and Calcutta, but the I.T.O: did not accept it and the dispute started. In the case of S.C. Cambatta & Co. (supra), the goodwill was also valued at the time of transfer though it was a case under the Excess Profit Tax Act. On the other hand, the goodwill has been valued by the assessing officers in numerous cases.

10. From perusal of some cases, it appears that the assessi1ng officers have taken resort to the valuation of goodwill on the basis of certain years' purchase prices of the average profits for certain years. For example, in Chunni Lal Prabhu Das case (supra), the I.T.O. valued the goodwill on the basis of 2 years' purchase price of the average profits in the immediately preceding 5 years. It was confirmed by the High Court of Calcutta although their Lordships were called upon to decide as to whether the sale of goodwill led to capital gains. Similarly in a case reported from Madras High Court as (1973) 88 I T R 386, R. Ramanayaki Animal and others v. Controller of Estate Duty, the goodwill was valued on the basis of the actual profits earned during the last 7 years as against the estimated profits for the same period. Although it is a case under Estate Duties Act yet the valuation of the goodwill has been involved in it. Likewise in the case of Guzdar Kajora Coal Mines Ltd. v. Commissioner of Income Tax reported as (1972) 85 I T R 599, the value of goodwill was determined by adopting "nearly accepted method of taking the profits of the 4 preceding years", and it was affirmed by the High Court of Calcutta and it was finally approved by their Lordships of Supreme Court though this issue was not directly in dispute. By the way, let us mention here that in this case their Lordships of Supreme Court were called upon to decide as to whether the Income Tax authorities have jurisdiction to go behind the value of goodwill given in the Transfer Deed. And it is important to note that the answer was made in the affirmative.

11. Turning to the Accountancy of William Pickles we find that the learned author has also mentioned the valuation of the goodwill on the basis of a number of years' purchases of the annual net profit. At page 2278 the learned author has observed as follows:

"For the purposes of a sale, goodwill is generally valued on the basis of a number of years' purchases of the annual net profits calculated by reference to recent years and having regard to the probability of maintenance in such profits in the future."

The learned author, however, has warned that no specific number of years can be prescribed for this purpose. He has observed at the same page as follows:

"No fixed number of years is used, but it will generally be from 3 to 5 L years depending upon all the circumstances."

12. From perusal of this discussion, it appears that the W: C.O. took resort to this practice while estimating the goodwill but the learned C.I.T.(A) has set aside the order with the remark that it has no legal sanction behind it. With due respect to learned C.I.T.(A), we feel that in view of the case-law cited above, it is obvious that the order of the W.T.O. was not wholly without legal authority. In our judgment, his order is erroneous because he has relied upon one formula only and that too without giving any reason as to why he was taking resort to it. We also respectfully agree with the learned C.I.T.(A) that the W.T.O. should have taken into consideration various circumstances. Let us now, therefore, turn our discussion to such circumstances.

13. From discussion of the case-law as reproduced above, it is clear that their Lordships of House of Lords, Indian Supreme Court and various High Courts have laid emphasis on various other factors which are to be kept into consideration while determining the market value of the goodwill. Let us also mention at this juncture that the learned author of the Verma's Wealth Tax (1982 Edition) has also given the following methods of valuation of goodwill:

(i) valuation on the basis of super profits,

(ii) valuation by capitalisation of future maintainable profits,

(iii) valuation on the basis of the mean between the tangible assets value of the yield,

(iv) valuation of a number of years' purchase of past profits." (Please see page II/183).

In our judgment, some of the factors may be as under:

(i) advantage of locality and site monopoly,

(ii) personal reputation of the owners of the business regarding their honesty and public dealing,

(iii) standing of the business,

(iv) reputation of the firms regarding the business methods,

(v) patents and trade-mark protection,

(vi) effectiveness of publicity,

(vii) relationship between the management and personnel of the business,

(viii) growth element of business,

(ix) lack of competition, and

(x) credit facility extended by the business etc. etc."

Let us, however, hastily add that the list is not exhaustive. Let us also specifically observe that the valuation of the goodwill depends either individually on different, factors mentioned above or their different and multiple combinations and, all these aspects have been emphasized in decisions quoted above.

14. The upshot of entire discussion is that while the assessing officer in some cases may have legal sanction for working out the market value under Rule 8(8) of the Wealth Tax Rules on the basis of average number of years' purchase of annual net profit calculated with reference to recent years yet he has to keep into consideration the most important factor that the goodwill as an asset is susceptible to extreme fluctuations. It would be, therefore, advisable and for that matter it may be necessary in some cases that he should bring some material on record in order to establish that either because of one or several factors or combination thereof, the market value determined by him is fair and reasonable. What material he should bring on record, depends on facts and circumstances of each case and it would be within the domain of judicial sense of the assessing officer to determine as to what material he should bring on record keeping into consideration above-mentioned circumstances which are found necessary by him under facts and circumstances of each case. Consequently, the departmental appeals are found to be devoid of any merits and stand rejected accordingly.

15. Before parting with these appeals, let us also remark that the observations relied upon by learned counsel for the respondent recorded in LTA. No.777 to 781/KB of 1986-87 dated 6th November, 1990 have been made per incuriam as the attention of the learned Members was not invited to the reported case of Dr. Ankalsaria (supra) though they were deciding the appeals in the case of Dr. Ankalsaria himself. It is unfortunate that on one hand the learned D.R., who appeared for the department, was not duly briefed and on the other hand, no body elected to appear for the assessee. Nevertheless, let us observe that in case of an assessment, the condition of quantifying the value of goodwill by third party is always fulfilled for the simple reason that the assessing officer plays the role of such third person.

M.BA./1197/T Order accordingly.