Income-tax---

Business expenditure---Capital or revenue expenditure---Collaboration agreement---German company supplying technical know-how---Stipulation in agreement that information to be kept confidential by asses see- --Assessee merely had right to use know-how for efficient running of business and better profitability---Payments to German Company for obtaining technical know-how deductible as revenue expenditure---Liability to make payments accrued only in the year approval of Reserve Bank was granted---Payments made in same year---Deductible in that year---Indian Income Tax Act, 1961. S. 37.

The question whether an expenditure is on account of revenue or capital has to be decided by looking at the facts and circumstances of the case and from the point of view of a practical and prudent businessman rather than from the point of view of a tax gatherer upon strict juristic classification of the legal right secured in the process. In order to arrive at a just and proper conclusion, one must look at the true nature and character of the advantage in a commercial sense, without giving undue emphasis to the form thereof or the terminology used, in the light of the surrounding circumstances. If the expenditure is so related to the carrying on or conduct of the business that it may be regarded as an integral part of the profit making process and not for acquisition of an asset or a right of permanent character, the expenditure may be regarded as revenue expenditure even though the advantage may endure for an indefinite future. What is relevant is the purpose of the outlay and its intended object and effect, considered in a common sense way, having regard to. the business realities. Each case depends on its own facts and a close similarity between one case and another is not enough, because even a single significant detail may alter the entire aspect. There is no single definitive criterion which, by itself, is determinative as to whether a particular outlay is capital or revenue. The "once for all" payment test is inconclusive.

The business of the assessee consisted of the manufacture and sale of tractors and engines. An agreement for technical collaboration was executed between the assessee-company and a West German company on June 29, 1970. The German company agreed to supply to the assessee for use in India full and correct technical and other confidential information and know-how, one set of printing of works-drawings of each machine and of components, patterns, forgings, etc. and all confidential advice as might be necessary in connection with the manufacture of the tractors and diesel engines. It was provided that all documents and materials containing information relating to the know-how could be given by the German company to the representative of the assessee in the Federal Republic of Germany and that they would continue to be the property of the German company. In addition, the assessee was also granted sole and exclusive licence to manufacture the said machines during the continuance of the agreement and to sell the same. The German company also guaranteed, for the period of the agreement, to supply the, latest technical developments in connection with the tractors and diesel engines known to them or which may be known to them during the period of the agreement. It was provided that the rights conferred by the agreement were not capable of assignment, encumbrance, letting or sub-licence by the assessee and they were always to be treated as confidential. It was also provided that the know-how, documents, materials, etc., provided could be used by the assessee solely for the purpose of the agreement and were not to be communicated to any other person, firm or company. The assessee was also obliged under clause 15 of the agreement to keep the technical documents secret. In consideration of the use of the know-how to be furnished by the German company to the assessee in West Germany, the assessee was to pay to the German company, free of tax, certain sums of money at fixed intervals, i.e. 60 days twelve months, twenty-four months, and thirty-six months, from the date, of the agreement. This was in addition to royalty on sales. The question before the Court was whether the payments made in consideration for the supply of know-how in the previous years relevant to the assessment years 1974-75 and 1975-76 were deductible as revenue expenditure, and if so, in which year:

Held,(i) that the expenditure in question related to the carrying on of the business of the assessee and was an integral part of its profit-making process. The aim and object of the expenditure was to run the business more profitably. There was a secrecy clause in the agreement which precluded the assessee from giving any of the information supplied to it to any third party. All these factors clearly indicated that the various services under the agreement were for the efficient running of the business of the assessee and better profitability. The conditions in the agreement as to non-partibility, confidentiality and the secrecy of- the know-how also indicated that the right obtained by the assessee was the right to use the know-how. There was no acquisition of the know-how by the assessee. The expenditure incurred by the assessee for getting the technical know-how and other assistance from the German company represented revenue expenditure which was allowable as a deduction in the computation of the income of the assessee.

Alembic Chemical Works Co. Ltd. v. CIT (1989) 177 ITR 377 (SC) and Empire Jute Co. Ltd. v. CIT (1980) 124 ITR 1 (SC) applied.

(ii) That even an assessee following the mercantile system of accounting is not entitled to claim a deduction until the liability for the sum for which deduction is claimed it has accrued. Under section 9 of the Foreign Exchange Regulation Act, 1973, there was a restriction on payments to any person resident outside India, save and except as may be provided in accordance with general or special exemption. The Reserve Bank granted approval to the assessee to make the payments in question in the previous years relevant to th6 assessment years under consideration and the remittances were also made in the same years. That being so, the liability to pay the amount pertaining to the earlier assessment years could be said to have accrued or arisen only in the years under consideration and the same was, therefore, allowable as deduction in the computation of income of those years.

Nonsuch Tea Estate Ltd. v. CIT (1975) 98 ITR 189 (SC) fol.

Abdul Kayoom (K.T.M.T.M.) v. CIT, (1962) 44 ITR 689 (SC); Bajaj Tempo Ltd. v. CIT (1994) 207 ITR 1017 (Bom.); CIT v. Abbott Laboratories (I) (Pvt.) Ltd. (1993) 202 ITR 818 (Bom.); CIT v. Citibank N.A. (1994) 208 ITR 930 (Bom.); CIT v. Kirloskar Cummins Ltd. (1993) 202 ITR 36 (Bom.); CIT v. Kirloskar Pneumatic Co. Ltd. (1993) 202 ITR 309 (Bom).; CIT v. Tata Engineering and Locomotive Co. (Pvt.) Ltd. (1980) 123 ITR 538 (Bom.); CIT v. Tata Engineering and Locomotive Co. Ltd: (1993) 201 ITR 1036 (Bom.): Jonas Woodhead & Sons (India) Ltd. v CIT (1997) 224 ITR 342 (SC) and Kirloskar Pneumatic Co. Ltd. v. CIT (1982) 136 ITR 746 (Rom.) ref.

??????????? Dr. V. Balasubramanian, J.P. Deodhar and P. Jetley for the Commissioner. ?????

K.B. Bhujle with S.N. Inamdar for the Assessee.

JUDGMENT

Dr. B.P. SARAF, J.---By this reference under section 256(1) of the Income Tax Act, 1961, the Income-tax Appellate Tribunal has referred the following three questions of law to this Court for opinion at the instance of the Revenue:

"(1) Whether, on the facts and in the circumstances of the case, the Tribunal is right in law in holding that the liability to pay the entire amount of DM 1.40 millions did not arise on the execution of the agreement and that it arose only in the account period?

(2) Whether on the facts and in the circumstances of the case, the Tribunal is right in law in holding that the liability for the payment of technical know-how fees accrued at the stated intervals as per clause (i) of the agreement and arose only when the permission of the Reserve Bank of India was received?

(3) Whether, on the facts and in the circumstances of the case, the Tribunal is right in law in holding that the payment made by the assessee-company to Deutz in consideration for the use of the know how was revenue in nature?"

The controversy in this reference pertains to two assessment years, viz., assessment years 1974-75 and 1975-76. The material facts of the case giving rise to this reference, briefly stated, are as follows: The assessee, Kirloskar Tractors Ltd., was incorporated as a public limited company under the Companies Act, 1956, on 27th April, 1970, and granted a certificate of commencement of business on 16th May, 1970. The business of the assessee consisted of the manufacture and sale of tractors and engines. The accounting year was the year ending 30th June. The holding company of the assessee ?company was Kirloskar Oil Engines Ltd. The promoters of the assessee company were in correspondence with Klockner Humboldt Deutz of West Germany (hereinafter referred to as "Duetz"), a company engaged in the manufacture of tractors, for a technical collaboration agreement under the approval of the Government of India. Pursuant thereto, an agreement for technical collaboration was executed between the assessee-company and the West German company "Deutz" on 29th June, 1970. According to the said agreement, the manufacturing programme of the assessee was to be in a phased manner. In its first phase, 500 SKD tractors were to be supplied by "Deutz" to the assessee-company for assembling. India. Deutz was also to supply the assessee-company requisite designs, drawings and information to enable it to manufacture tractors and engines specified in the schedule to the agreement (also referred to as "machines") and to assist the assessee in the manufacture of the same on a commercial scale. It was also to supply to the assessee for use in India technical and other confidential information and know-how for and in connection with manufacture of the said machines and to furnish all other confidential advice (collectively called "know-how").

In the assessment of the assessee for the assessment year 1974-75 the relevant previous year being the year ended 30th June, 1973, the Income Tax Officer disallowed deduction of a sum of Rs.5,19,630 paid by the assessee to their foreign collaborator Deutz in pursuance of the aforesaid agreement as, according to him, the said payment was an expenditure of capital nature. The assessee appealed to the Commissioner of Income Tax (Appeals), who allowed the appeal. The Commissioner (Appeals) held that the expenditure in question was a revenue expenditure and allowable as deduction under section 37 of the Income Tax Act, 1961 ("the Act"). Aggrieved by the order of the Commissioner (Appeals), the Revenue appealed to the Income-tax Appellate Tribunal ("the Tribunal'').

However, in the next assessment year, viz, assessment year 1975-76, the Income-tax Officer by. his order of assessment, dated 17th February, 1978, allowed deduction of Rs.16,99,346. being the amount paid by the assessee in that year to its foreign collaborator "Deutz" in terms of the collaboration agreement, dated 29th June, 1970. But the. Commissioner of Income-tax, in exercise of his power of revision under section 263 of the Act, revised the order of the Income-tax Officer and directed the Income-tax Officer to withdraw the deduction allowed by him and recompute the loss in that year accordingly. Against the above revisional order of the Commissioner for the assessment year 1975-76, the assessee appealed to (?the Tribunal.?).

The Tribunal took up both the appeals together for hearing. The Tribunal considered the terms and conditions of the collaboration agreement between the assessee and its foreign collaborator "Deutz" and the decisions of various High Courts and the Supreme Court on the point, including the decision of this Court in CIT v. Tata Engineering and Locomotive Co. (1980) 123 ITR 538 (Bom.) and held that the payment made by the assessee to the West German company "Deutz" in consideration of the use of the "know-how" was revenue in nature.- The Tribunal observed that in the present case there was no sale of "know-how". The information supplied to the assessee was confidential and there were restrictions on the assessee divulging the same. The Tribunal found that the assessee had made the payment for the use of the know-how for manufacturing tractors and, therefore, the payment was an integral part of the profit-making process. The Tribunal, therefore, held that the Commissioner of Income-tax (Appeals) was right in holding that the expenditure of Rs.5,19,630 incurred by the assessee in the previous year relevant to the assessment year 1974-75 was an expenditure of revenue nature. The Tribunal also held that in the assessment year 1975-76, the Commissioner of Income-tax erred in holding in his revisional order under section 263 of the Act that such payment was of capital nature. Accordingly, the Tribunal confirmed the order of the Commissioner of Income-tax (Appeals) for the assessment year 1974-75 and set aside the revisional order of the Commissioner of Income-tax under section 263 of the Act for the assessment year 1975-76. As a result, the appeal of the Revenue for the assessment year 1974-75 against the order of the Commissioner of Income-tax (Appeals) was dismissed and the appeal of the assessee for the assessment year 1975-76 against the revisional order of the Commissioner of Income-tax under section 263 of the Act was allowed. Hence, this reference for both the assessment years at the instance of the Revenue.

The controversy in this case is about the nature of the payments made by the assessee to the West German company Deutz. The question that arises for consideration is whether those payments are revenue expenditure or expenditure of capital nature? We have heard Dr. V. Balasubramanian, learned counsel for Revenue, who submits that the payment made by the assessee to the West German company is an expenditure in the` nature of capital expenditure. He relies in support of his contention on the decision of the Supreme Court in Jonas Woodhead & Sons (India) Ltd. v. CIT (1997) 224 ITR 342. Mr. K.B. Bhujle, learned counsel for the assessee, on the other hand, submits that the payment made by the assessee is revenue expenditure. According to him, the controversy in this case is squarely covered by the decisions of this Court in CIT v. Tata Engineering and Locomotive Co. (Pvt.) Ltd. (1980) 123 ITR 538 and Kirloskar Pneumatic Co. Ltd. v. CIT (1982) 136 ITR 746 and the decision of the Supreme Court in Alembic Chemical Works Co . Ltd. v. CIT (1989) 177 ITR 377. He also relied upon the recent decisions of this Court in CIT v. Kirloskar Cummins Ltd. (1993) 202 ITR 36, CIT v. Kirloskar Pneumatic Co. Ltd. (1993) 202 ITR 309, CIT v. Abbott Laboratories (I) (Pvt.) Ltd. (1993) 202 ITR 818, CIT v. Tata Engineering and Locomotive Co. Ltd.(1993) 201 ITR 1036 and Bajaj Tempo Ltd. v. CIT (1994) 207 ITR 1017. The ratio of the decision of, the Supreme Court in Jonas Woodhead & Sons (India) Ltd. (1997) 224 ITR 342, according to learned counsel, has no application to the facts of the present case. It was pointed out to us that in the above judgment, the Supreme Court itself has relied upon its earlier decision in Alembic Chemical Works Co. Ltd. v. CIT (1989) 177 ITR 377. It was contended that in the above case, the decision of the High Court holding 25 percent. of the expenditure as capital expenditure was upheld by the Supreme Court in view of the specific finding of the High Court in that case to the effect that the services rendered by the foreign company, for which the expenditure had been incurred, included valuable services in the setting up of the factory itself.

We have carefully considered the rival submissions. Law is well ?settled that the question whether an expenditure is on account of revenue or capital has to be decided by looking at the facts and circumstances of the case and from the point of view of a practical and prudent businessman rather than from the point of view of the tax gatherer upon strict juristic classification of the legal right secured in the process. In order to arrive at a just and proper conclusion, one must look at the true nature and character of the advantage in a commercial sense (without giving undue emphasis to the form thereof or the terminology used) in the light of the surrounding circumstances. If the expenditure is so related to the carrying on or conduct of the business that it may be regarded as an integral part of the profit ?making process and not for acquisition of an asset or a right of permanent character, the expenditure may be regarded as revenue expenditure even though the advantage may endure for an indefinite future. What is relevant is the purpose of the outlay and its intended object and effect, considered in a common sense way, having regard to the business realities. However, despite various tests evolved by the Courts in a long string of cases to determine what is attributable to capital and what to revenue, the controversy has to be decided afresh in each case applying one test or the other. None of the tests, as observed by Hidayatullah, J. (as his Lordship then was), is either exhaustive or universal. Each case depends on its own facts and a close similarity between one case and another is not enough, because even a single significant detail may alter the entire aspect. The following note of caution given by Hidayatullah, J., in Abdul Kayoom (K.T.M.T.M.) v. CIT (1962) 44 ITR 689 (SC)? is pertinent:

"In deciding such cases, one should avoid the temptation to decide cases (as said by Cardozo) by matching the color of one case against the color of another. To decide, therefore, on which side of the line a case falls, its broad resemblance to another case, is not at all decisive. What is decisive is the nature of the business, the nature of the expenditure, the nature of the right acquired, and their relation inter se, and this is the only key to resolve the issue in the light of the general principles, which are followed in such cases."

As observed by the Supreme Court in Alembic Chemical Works Co. Ltd. v. CIT (1989) 177 ITR 377, there is no single definitive criterion which, by itself; is determinative as to whether a particular outlay is capital or revenue. The once for all payment test is inconclusive. What is relevant is the purpose of the outlay and its intended object and effect, considered in a commonsense way having regard to the business realities. In a given case, as observed by the Supreme Court in Empire Jute Co. Ltd. v. CIT (1980) 124 ITR 1, the test of "enduring benefit" might break down. What is material to consider is the nature of the advantage in a commercial sense and it is only where the advantage is in the capital field that the expenditure would be disallowable on an application of this test.

Reference may also be made in this connection to the decision of this Court in CIT v. Kirloskar Cummins Ltd. (1993) 202 ITR 36. In that case. the assessee-company was engaged in the manufacture and ,sale of oil engines, etc. It entered into a collaboration agreement with a foreign company and, in pursuance of the agreement, paid to the foreign company a sum of Rs.20,79,513 as consideration for supply of (i) technical assistance for products to be manufactured and assembly thereof, and (ii) supply of drawings, specifications for procedures and operating and maintenance manuals for the foreign company's engines. The assessee claimed the amount paid as a deduction in computing its income. The Income-tax Officer took the view that one-half of the amount paid by it was in the nature of royalty and hence partook of the character of capital expenditure: With regard to the remaining half, the Income-tax Officer took the view that 50 percent. thereof related to technical assistance for the products to be manufactured and assembled and the remaining 50 percent. related to supply of manufacturing drawings, specifications, etc., and that the consideration relatable to the technical assistance received from day-to-day in respect of the products manufactured was revenue expenditure and the remaining 50 percent. was capital expenditure. The Appellate Assistant Commissioner concurred with the view of the Income-tax Officer. The Tribunal held that the entire expenditure constituted revenue expenditure. On a reference to this Court at the instance of the Revenue, this Court held that the expenditure incurred by the assessee related to the carrying on of its business, and, under the facts and circumstances of the case, it was an integral part of its profit-making process. On a perusal of the facts of the case, the aim and object of the expenditure, the services rendered, the nature and character of the advantage obtained by the assessee, commercial expediency and the nature of the payment, it was held that the assessee did not derive any enduring benefit at all. It was observed that the expenditure incurred by the assessee related to the carrying on of its business and, under the facts and circumstances, it was an integral part of .its profit-making process. The aim and object of the expenditure was to run the business more profitably. The various services under the collaboration agreement were for improvement in the operation of the existing business and its efficiency and profitability. The Court also took note of the fact that there was no once for all payment. In CIT v. Tata Engineering and Locomotive Co. Ltd. (1993) 201 ITR 1036, this Court referred to the decision of the Supreme Court in Alembic Chemical Works Co. Ltd. v. CIT (1989) 177 ITR 377 and observed.

"This judgment has, thus, given a new dimension to the concept of enduring benefit. The approach now is more realistic and practical. The purpose of the outlay', 'its intended object and effect' considered in a common sense way, having regard to the business realities, are more relevant factors for determining whether a particular outlay is capital or Revenue. In a given case, if the situation so requires, the test of 'enduring benefit' might even break down under the weight of these considerations. "

In Jonas Woodhead & Sons (India) Ltd. v. CIT (1997) 224 ITR 342 the Supreme Court referred to and relied upon their earlier decisions on this point including the decisions in Empire Jute Co. Ltd. (1980) 124 ITR I and Alembic Chemical Works Co. Ltd. (1989) 177 ITR 377. The Supreme Court also referred to the decision of this Court in CIT v. Tata Engineering and Locomotive Co. (Pvt.) Ltd. (1980) 123 ITR 538. This decision of the Supreme Court has in no way changed or varied the ratio of the earlier decisions on the point. On the other hand, most of the decisions including in Empire Jute Co. Ltd. (1980) 124 ITR 1 (SC) and Alembic Chemical Works (1989) 177 ITR 377 (SC), have been referred to and relevant observations therein, quoted with approval. The legal position has been summed up by the Supreme Court in Jonas Woodhead & Sons (India) Ltd. v. CIT (1997) 224 ITR 342 as follows.

It would, thus, appear that the Courts have applied different tests like starting of a new business on the basis of technical know-how received from the foreign firm, the exclusive right of the company to use the patent or trademark which it receives from the foreign firm, the payment made by the company to the foreign firm whether a definite one or dependent upon certain contingencies, the right to use the technical know-how of production or the activity even after the completion of the agreement, obtaining enduring benefit for a considerable part on account of the technical information received from a foreign firm, payment whether made 'once for all' or in different instalments co-relatable to the percentage of gross turnover of the product to ultimately find out whether the expenditure or payment, thus, made makes an accretion to the capital asset and after the Court comes to the conclusion that it does so. then it has to be held to be a capital expenditure."

In the above case, 25 percent. of the payment was held to be capital expenditure in view of the finding of the High Court that under the agreement with the foreign firm what was set up by the, assessee was a new business and the foreign firm had not only furnished information and the technical know-how "but rendered valuable services in setting up of the factory itself" and even after the expiry of the agreement the assessee was free to continue to manufacture the product in question.

In the case before us, the agreement between the assessee and the West German company "Deutz" was to assist the assessee in the manner set out therein in carrying on in India, the manufacture of tractors and diesel engines on a commercial scale in the most economic and efficient way known to it and for' that purpose to supply to the assessee for use in India full and correct technical and other confidential information and know-how, one set of printing of works-drawings of each machine and of components, patterns, forgings, etc., and all confidential advice as might be necessary in connection with the manufacture of the tractors and diesel engines. It was provided that all documents and materials containing information relating to -the know-how would be given by Deutz -to the representative of the assessee in the Federal Republic of. Germany and that they would continue to be the property of "Deutz". In addition, the assessee was also granted sole and exclusive licence to manufacture the said machines during the continuance of ,the agreement and to sell the same. Deutz also guaranteed, for the period of the agreement, to supply the latest technical developments in connection with the tractors and diesel engines known to them or which may be known to them during the period of the agreement. It was provided that the rights conferred. by the agreement were not capable of assignment, encumbrance, letting or sub-licence by the assessee and they were always to be treated as confidential. It was also provided that the know-how, documents, materials, etc., provided by Deutz could be used by the assessee solely for the purpose of the agreement and were not to be communicated to any other person, firm or company. The assessee was also obliged under clause 15 of the agreement to keep the technical documents secret. In consideration of the use of the 'know-how to be furnished by Deutz. to the assessee in West Germany, the assessee was to pay to Deutz, free of Tax, the following:

(a) Within sixty days of the

signing of the agreement: DM 125,000

(b) At the end of twelve months of the signing of the agreement, but before fourteen months: DM 225,000

(c) At the end of twenty-four months of the signing of the agreement, but before twenty-six months: DM 520,000

(d) At the end of thirty-six months of the signing of the agreement, but before thirty-eight months: DM 530,000

The assessee was also required to pay to Deutz in consideration of the rights granted by them to the assessee at all times during the continuance of the agreement, royalty at 3 percent. of the net sales value of each type of machine and spare parts manufactured by the assessee and 5 percent. of the sale value of the machines and spare parts thereof exported by the assessee out of India. The agreement was for a period of five years from the date of starting of the commercial production. In clause 21 of the agreement, it was provided that the agreement might be terminated forthwith by the party not in default giving to the party in default a notice in writing terminating the agreement in any of events set out therein. One of the events was the assessee being in arrears in payment of any of the sums payable by it to Deutz under the provision of the agreement and the same remaining unpaid for a period of 30 days from the date on which it fell due under clause 9 of the agreement.

In the assessment for the assessment years 1974-75 and 1975-76, the assessee claimed deduction of the amount paid by it in terms of clause 9 of the agreement and also the amount of royalty. There was no dispute about the allow ability of deduction of the amount of royalty. It was accepted by the Income-tax Officer as revenue expenditure. The dispute was about the deducibility of the amount payable under clause 9 of the agreement as a revenue expenditure. A sum of Rs.5,19,630 was payable by the assessee in the previous year relevant to the assessment year 1974-75 and Rs.16,99,346 in the previous year relevant to the assessment year 1975-76. The expenditure represented by these amounts, according to the Revenue, was of capital nature. The Tribunal held the same to be revenue expenditure allowable as deduction in computing the income of the assessee. The question is whether the Tribunal was right in its conclusion.

We have carefully considered the terms and conditions of the collaboration agreement in the light of the decisions of the Supreme Court and of this Court referred to above. On a perusal of the facts of the case, the aim and object of the expenditure, the services rendered, the nature and character of the advantage by the assessee and commercial expediency, it is clear to our mind that the expenditure in question related to the carrying on the business of the assessee and was an integral part of its profit-making process. The aim and object of the expenditure was to run the business more profitably. There was a secrecy clause in the agreement which precluded the assessee from giving any of the information supplied to it to any third party. All these factors clearly indicate that the various services under the agreement were for the efficient running of the business of the assessee and better profitability. The conditions in the agreement as to non-partibility, confidentiality and the secrecy of the know-how also indicate that the right obtained by the assessee was the right to use the know-how. There was no acquisition of the know-how by the assessee. Considering all these relevant factors, we are of the clear opinion that the expenditure incurred by the assessee for getting the technical know-how and other assistance from Deutz represented revenue expenditure which was allowable as a deduction in the computation of the income of the assessee.

The next controversy is in regard to the year in which the amounts in question can be claimed as a deduction. The assessee followed the mercantile system of accounting. That being so. The expenditure incurred by it would be allowable as a deduction in the year in which the liability accrued for the first time. However, in the instant case, it is contended that the accrual of the -liability was dependent upon the approval and/or sanction of the Reserve Bank of India and in that view of the matter, the liability did not accrue and/or arise till the receipt of the sanction. Our attention was drawn to the finding of the Tribunal that no remittance to a person resident outside India or to the credit of such person could be made without the approval of the Reserve Bank of India. That being so, it was contended that the liability would arise only on receipt of the approval of the Reserve Bank of India. There is no dispute in this case that the approval of the Reserve Bank of India was received by the assessee in the previous years in which the deductions have been claimed. It is also stated that the amounts were also remitted by the assessee in the previous years relevant to the assessment years under consideration. It was also submitted, in the alternative, that having regard to the mandatory requirement of approval of the Reserve Bank of India for remittance, the assessee did not follow the mercantile system of accounting in respect of -the amounts payable under the agreement in question. The method of accounting followed in respect thereof was cash system and in that view of the matter, the assessee would be entitled to claim deduction of the amount remitted by it in the assessment years under consideration in which the payments were made by the assessee to Deutz.

???????????

We have carefully considered that above submissions. So far as the controversy in respect of the year of accrual in view of the statutory requirement of approval of the Reserve Bank of India is concerned; the law is well-settled by the decision of the Supreme Court? in Non such Tea Estate Ltd., v. CIT (1975) 98 ITR 189 that where accrual of liability is dependent upon some approval and/or sanction of the statutory authority, it will accrue and/or arise only on such approval. In the above case, the assessee-company followed the mercantile system of accounting. For the period April 1, 1956, to June 6, 1956, the assessee-company credited a sum of Rs.9,320 to the account of managing agents as their remuneration in accordance with the terms of the proposed new agreement. This was disclosed in the published accounts of the company for-the year July 1, 1955, to June 30, 1956, relevant to the assessment year 1957-58. For the purpose of assessment of income-tax; however, the company added back the said sum of Rs.9,320 to its taxable income. In the next accounting year ending June 30,1957, relevant to the assessment year 1958-59, the same process was followed with regard to the remuneration payable to the managing agents. For the assessment year 1959-60 for which the previous year was July 1, 1957, to June 30, 1958, a total sum of Rs.97,188 was shown as managing agents.' remuneration payable during the year. This amount comprised proportionate remuneration for three months for the period ending June 30, 1956, amounting to Rs.9,320, remuneration for the year ending on June 30, 1957, and managing agents' expenses for the year June 30, 1957, and managing agents' expenses for the year-ending June 30, 1956 paid/recouped during the year ending on June 30, 1958, relevant to the assessment year 1959-60. Though the above sums did not. pertain to the previous year relevant to the assessment year 1959-60, the company claimed it as deductible expenditure for that year on the ground that the sum became payable only during that year when the Government accorded its approval to the new agreement. The Income-tax Officer rejected this claim on the view that the approval of the Central Government was necessary only for actual payment and "the assessee should have ascertained the liability for each year and claimed it on the mercantile basis which was the system adopted by the assessee-company". The Appellate Assistant Commissioner and the Tribunal also took the same view. On a reference, the High Court was of the opinion that though at the time the debit entries were made in the accounts, approval of the Central Government had not come but when it came later, it gave legal effect to the debit entries not from the date of the approval but from. April 1, 1956. On appeal by the assessee, the Supreme Court held that the High Court was in error in answering the question referred to it against the assessee. The Supreme Court observed that even an assessee following the mercantile system of accounting is not entitled to claim a deduction until the liability for the sum for which deduction -is claimed has accrued. The Supreme Court took note of section 326 of the Companies Act, 1956, which prohibits appointment or reappointment of a managing agent unless the Central Government approves such appointment or reappointment and observed -that it was only when the Central Government conveyed its approval to the appointment of the persons concerned as managing agents. By its letter dated September 2, 1957, that appointment became effective and the company's liability to pay the remuneration of the managing agents accrued. It was observed.

"The position here is not that the liability had arisen earlier and its qualification only depended on the approval of the Central Government. It is true that the liability became effective from April 1, 1956, a date anterior to the relevant previous year, but that is because the Central Government chose to give its approval with retrospective operation. The liability in these circumstances cannot be said to have arisen from any date prior to September 2, 1957, when the approval was given as section 326 contains an absolute prohibition against the appointment or reappointment of a managing agent before the approval of the Central Government was obtained." The ratio of the above decision squarely applies to the facts of the present case. Here also, under section 9 of the Foreign Exchange Regulation Act, 1973, there was a restriction on payments to any person resident outside India, save and except as may be provided in accordance with the general or special exemption. Section 9, so far as relevant, reads as follows:

"Restrictions on payments. Save as may be provided in and in accordance with any general or special exemption from the provisions of this subsection which may be granted conditionally or unconditionally by the Reserve Bank, no person in, or resident in, India shall.

(a) make any payment to or for the credit of any person resident outside? India;.

(c) raw, issue or negotiate any bill of exchange or promissory note or acknowledge any debt, so that a right (Whether actual or contingent) to receive a payment is created or transferred in favour of any person resident outside India;

(d) make any payment to, or for the credit of, any person by order or on behalf of any person resident outside India;

(e) place any sum to the credit of any person resident outside India; ...."

In the instant case, the Reserve Bank of India granted approval to the assessee in tile previous years. relevant to the assessment. year under consideration and the remittances were also made in the same years. That being so, the liability to pay the amount pertaining to the earlier assessment years can be said to have accrued or arisen only in the years under consideration and the same was, therefore, allowable as deduction in the computation of income of that year.

We may now turn to the alternate submission of learned counsel for the assessee that in view of the provisions of the Foreign Exchange Regulation Act, the assessee did not follow the mercantile system of accounting in respect of the above expenditure but followed the cash system of accounting in respect thereof and in that view of the matter, it is entitled to deduction in the assessment of its income for the years finder consideration because the payments were made in the previous years relevant to the assessment years under consideration. Our attention was drawn by learned counsel to the following passage from the decision of this Court in CIT v. Citibank N. A. (1994) 208 ITR 930.

"Though the cash system and mercantile system of accounting are the two most common systems of accounting prevalent in the country, there can be no dispute about the fact that there are also innumerable other systems of accounting besides these two systems. Such systems are commonly known as 'hybrid systems of accounting'. In such a system, there is a certain element of both cash and mercantile systems. An assessee following such a system may employ one method of accounting for one class of business or one class of customers or transactions and a different method for another class. If an assessee follows such a hybrid system and in respect of certain loan transactions does not follow the mercantile system of accounting for debiting interest to the accounts of the parties and crediting the same to the profit and loss account no fault as such can be found with system followed by the assessee. "

We have carefully considered the above submissions. However, in view of our finding that the liability accrued in this case on the date of the receipt of the approval of the Reserve Bank of India in tile years under consideration, it is not necessary for us to examine this alternate submission.

In view of the foregoing discussion, we answer all the three questions referred to us in the affirmative and in favour of the assessee.

This reference is disposed of accordingly with no order as to costs.

M.B.A./3207/FC ??????????????????????????????????????????????????????????????????? Reference disposed.