Income tax - Whether when assessee acquires a running cement plant in slump sale, if price paid for assets is more than book value in hands of seller, excess is to be attributed to consideration for goodwill - NO, rules ITAT
MUMBAI, JAN 17, 2012: THE issues before the Bench are – Whether when assessee acquires a running cement plant in a slump sale, if the price paid for the assets is more than book value of assets in the hands of the seller, the excess is to be attributed to goodwill; Whether depreciation is to be allowed by taking WDV as per books of seller as cost of acquisition of assets in the hands of the assessee; Whether when the seller and the purchaser are not related parties, even then valuer's report is to be rejected alleging collusion in the deal and Whether the one time settlement premium paid to financial institutions in consideration for reduction in the interest rates is allowable as revenue expenditure in the year of expenditure. And the verdict partly goes agaisnt the assessee.
Facts of the case
A) Assessee company started its business operation w.e.f. 01/11/99, i.e., the date on which it acquired the cement business of the TISCO, as a going concern. During the current year it acquired cement manufacturing unit of Raymonds Ltd (RL). AO asked the assessee to furnish copy of the valuer's report, date of actual transfer of assets, written down value of each asset taken over in the books of previous owner, treatment of excess payments, i.e. written down value and amount capitalised in the books for I.T. purpose and treatment given by seller in their books in respect of this transaction and date of actual production of this unit along with documentary evidence after take over.
Assessee acquired the plant on "as and where" basis i.e., as a going concern. There was no change/alteration/ modification in the plant & machinery after purchase of the same, except few repairs, renovations & improvisation. The cement plants along with the land holding and all current assets, such as raw-material, semi-finished goods & finished goods, sundry debtors, spares & tools and other movable and immovable assets were acquired, lock, stock and barrels for a consolidated lumpsum consideration of Rs.751 crores. This consideration was allocated towards fixed assets and towards goodwill. Assessee incurred certain expenses towards further modification and improvisation and capitalized pre-operating expenses incurred by it and claimed depreciation on the same.
AO rejected the valuation report on the ground that the price of the plant and machineries were artificially jacked up in the report to the level of consideration paid by appellant, the valuer had adopted the `Net Replacement Cost' method which was nothing but the cost of brand new individual machinery or the cement plant, and the valuation report should have been prepared much prior to the date of Business Transfer Agreement. The survey was carried out subsequent to the date of the Business Transfer Agreement, the only purpose, for which the valuation report had been prepared, was to help and assist the assessee to appropriate the differential cost to its fixed assets in its books of accounts, thereby entitling the assessee to claim a larger chunk of depreciation. AO called for the information regarding the WDV of the assets transferred, directly from RL and substituted the same in place of the cost of acquisition assigned by the assessee. Since the said WDV of fixed assets as on the date of acquisition was less than the consideration paid, the excess was considered as goodwill by the AO.
CIT (A) allowed the appeal of the assessee stating that AO had not made out a case in any manner to show that the transaction of sale of the cement unit as a going concern was collusive or that there was any tacit understanding with the seller to attach a higher value to the cost of acquisition of capital assets. The deal was not between related parties. The cost had been assessed and worked out by an expert agency and unless the expert advice was proved to be manipulative or worked up with reference to some tangible piece of evidence, the AO could not disregard the veracity of the expert valuation. The observation of AO that valuation had been done at net replacement cost was not correct since depreciation had been duly deducted to arrive at market price of the plant and assets. Thus, depreciation was allowable to assessee with reference to the cost of acquisition as shown by the appellant duly supported by the Expert / Approved Valuer's report.
Revenue contended that the CIT (A) erred in holding that the assessee was entitled to claim depreciation with reference to the cost of acquisition of cement unit purchased from `RL' without appreciating the provision of Explanation 3 to section 43(1).
B) Assessee obtained loan funds from various financial institutions by way of term loans and issue of non-convertible debentures on which the company was required to pay interest in the range of 14.5% to 15%. The company claimed interest on such borrowings as deduction u/s 36(1)(iii). During the impugned financial year, assessee paid one time settlement premium to some financial institutions in consideration for reduction in the interest rates agreed upon by them. In the books of accounts the said premium was amortised over a period of 3 years. However, in the return of income, assessee claimed deduction in respect of the entire amount of settlement premium paid to the financial institutions. AO disallowed the assessee's claim stating that the assessee had not furnished the details and it was not justified for deduction of entire expenditure when it had itself amortised the said premium amount for a period of three years in the books.
CIT (A) allowed the appeal observing that the benefit secured by incurring expenditure, although for a longer duration, did not result in acquisition of any tangible or intangible assets and hence should be considered on revenue account and allowed as deduction. The settlement premium paid on restructuring of loan merits to be considered as a revenue expenditure and it has also been made to effect saving in future interest outgo of the assessee.
Assessee contended that payment in question was nothing but interest paid on money borrowed in terms of section 36(1)(iii) and allowable as revenue expenditure in the year of accrual. Revenue contended that the benefit in question is spread over the period of time and under the matching concept, only proportionate expenditure is allowable in this year.
C) Assessee acquired the cement unit of RL on a going concern basis with all its assets, tangible or intangibles, and liabilities vide the Business Transfer Agreement. Assessee carried out a valuation for the tangible assets acquired in course of acquisition and capitalized them at the value arrived at by the valuer in his valuation report. The excess payment made over and above the value of tangible assets acquired was claimed attributable to various intangibles transferred alongwith the undertaking such as licenses, know-how, trade marks, coal linkages, rail linkages, business rights, etc. For the sake of convenience and in accordance with the generally accepted accounting practices and provisions of Accountant Standard 14, the said payments were capitalized in the books as goodwill and depreciation was claimed.
AO rejected the claim stating that the definition of intangible assets as defined in Explanation 3(b) to section 32 does not leave any scope for goodwill and thus, the depreciation on goodwill was disallowed.
CIT (A) held that on perusal of the Business Transfer Agreement, the assessee had indeed acquired various intangible assets in course of the acquisition like mining rights, coal linkages, rail linkages, trade marks, other licenses, etc. which would be covered under the definition of intangible assets as trade marks/licenses and other business or other commercial rights in the nature of licesnes and hence would qualify for depreciation as per the Explanation 3(b) in section 32. On the part amount which is held to be on account of pure goodwill was not entitled to depreciation.
Assessee contended that merely because the assessee disclosed the total payment as goodwill, in the books of account, no adverse inference could be drawn against the assessee. Without prejudice, the assessee submitted that excess amount paid for acquisition of the unit, were towards factors like locational advantage, contacts with dealers and customers attached to the business etc. which was nothing but an advantage or right to carry on a business or commercial activity in a more efficient manner. Therefore, the term goodwill was covered by the expression `business or commercial right of similar nature' and eligible for depreciation.
After hearing both the parties, the ITAT held that,
A) ++ in the preceding year, the ITAT had considered a similar issue arising out of acquisition of cement unit of TISCO in which it held that as per section 43(1) that the actual cost to be considered for the purpose of section 32 should be the actual cost paid by the assessee. Since the cost has not been directly or indirectly met by any other person or authority, the cost paid by the assessee for acquisition of the assets of the units is the cost under section 43(1). However, Explanation (3) makes it clear that where the assets are used at any time by any other person for the purpose of his business or profession and the AO is satisfied that the main purpose of the transfer of such assets directly or indirectly to the assessee was reduction of liability to tax for claiming depreciation with reference to enhanced cost, the actual cost of the assets shall be such an amount as the AO may determine having regard to all the circumstances of the case. As rightly considered by the CIT(A) the parties are unrelated and the transaction is at arms length basis. The registered valuer also valued the assets as on 01.11.1999, the price of which was considered to be the cost of fixed asset acquired and the balance to the current assets including the current liabilities. In view of this, there is no reason to invoke Explanation (3) as the AO nowhere stated that the main purpose of such a valuation was for reduction of liability to tax. It is a direct acquisition by the assessee company from another public limited company in an open bid, being the highest bidder;
++ as per AS 10 para 35 the assessee was supposed to take the value on the fair basis as determined by competent valuers. The observations of the AO are not correct. Since the assets are acquired on slump sale basis and individual assets are not priced or purchased item-wise, the assessee as per the Accounting Standard 10 to be adopted for the purpose of maintaining the books of account, has obtained a valuation report which has taken the net replacement cost method and has adopted the value in the books of account. Thus, the AO's observation that the value adopted by the assessee is exactly tallying with the subsequent valuation by the surveyor is without any basis. AO has not analysed the actual WDV in the hands of the TISCO. What he has adopted is the book value in the books of TISCO which incidentally will be different from the actual WDV for the purpose of income tax. Even though the seller has shown the profit on sale of net assets of the cement Division and taken the income to the P & L Account, the said company adjusted the cost of sale in the WDV of the assets for the purpose of income tax and offered incomes only under section 115JA of the Income Tax Act on the book profits made. AO failed to consider the net consideration adopted by the TISCO for adjustments in the books of account and the values adopted for current assets. The computation in the hands of the TISCO is quite different from the computation to be made in the hands of the assessee. Thus, AO has not examined the facts and arrived at wrong conclusions without any basis;
++ the registered valuers are experts and value and reliability of their opinion would depend upon the material contained in their report. They are competent to fix value of properties for several earlier years. Even otherwise WTO in the wealth-tax purposes is required to determine in the present, the value of assets as on the valuation dates which may be five or seven years earlier. If this is not possible, then scheme of fixation of value of assets under the WT Act cannot work. Such a view would defeat the very purpose of the WT Act and, therefore, cannot be accepted as correct. Since the deal was at arms length price and since the parties are not related and there is no evidence that the transaction is a collusive one or done with an intention to reduce the tax liability and also further that there is no clause for payment of goodwill by the assessee in the Business Transfer Agreement, the AO's action in considering the price paid for acquiring the assets at more than the book value in the hands of the seller to be treated as goodwill has no basis at all;
B) ++ in the case of Overseas Sanmar Financial Ltd. (Chennai) similar issue was considered in which it was held that the reduction in the rate of interest for fresh loans to be advanced by the financial Institutions led the assessee-company to pay off the entire loan that carried the burden of higher rate of interest. The assessee apparently calculated the amount of interest, that would be paying over the years at the agreed rate of interest and compared it with the foreclosure premium together with the interest that it would pay on the revised rate basis and found it to be advantageous to the company by paying the foreclosure premium. This advantage that the company wanted to benefit from is clearly a well-judged business decision and, therefore, it is laid out wholly for the purposes of its business. This itself is sufficient for allowing the claim in full in the year in which it was incurred. Following the said decision, the expenditure is allowed in the impugned assessment year in full;
C) ++ it is true that the nature of payment has to be considered and terminology used in the books of account does not determine the allowability of claim. The assessee has made a vague claim. On the one hand it states the excess payment made, over and above the value of tangible asset acquired, is for licences, quotas, business rights etc. and whereas on the other hand it states the excess amount should be taken as that paid for factors like locational advantage, contracts with dealers and customers attached to the business etc. This second limb, cannot be a business or commercial right but only goodwill. While stating facts, alternate or without prejudice stand cannot be taken. The assessee is supposed to know exactly the purpose for which the amount is paid. While tangible assets were valued, intangible assets were not valued in this case. Contacts with the customers, with dealers, locational advantage, rail linkage etc. when valued, are goodwill and not business or commercial right of similar nature. A separate valuation, asset-wise has to be undertaken and appropriate conclusions drawn. CIT (A) had not given the AO an opportunity to examine the facts as presented before CIT(A). Assessee had not challenged the finding of CIT(A) that depreciation is not allowable on goodwill. Thus, this issue has attained finality. The only issue is, to determine the value of intangible assets other than goodwill. The issue is set aside to the file of the AO for fresh adjudication in accordance with law.
MUMBAI, JAN 17, 2012: THE issues before the Bench are – Whether when assessee acquires a running cement plant in a slump sale, if the price paid for the assets is more than book value of assets in the hands of the seller, the excess is to be attributed to goodwill; Whether depreciation is to be allowed by taking WDV as per books of seller as cost of acquisition of assets in the hands of the assessee; Whether when the seller and the purchaser are not related parties, even then valuer's report is to be rejected alleging collusion in the deal and Whether the one time settlement premium paid to financial institutions in consideration for reduction in the interest rates is allowable as revenue expenditure in the year of expenditure. And the verdict partly goes agaisnt the assessee.
Facts of the case
A) Assessee company started its business operation w.e.f. 01/11/99, i.e., the date on which it acquired the cement business of the TISCO, as a going concern. During the current year it acquired cement manufacturing unit of Raymonds Ltd (RL). AO asked the assessee to furnish copy of the valuer's report, date of actual transfer of assets, written down value of each asset taken over in the books of previous owner, treatment of excess payments, i.e. written down value and amount capitalised in the books for I.T. purpose and treatment given by seller in their books in respect of this transaction and date of actual production of this unit along with documentary evidence after take over.
Assessee acquired the plant on "as and where" basis i.e., as a going concern. There was no change/alteration/ modification in the plant & machinery after purchase of the same, except few repairs, renovations & improvisation. The cement plants along with the land holding and all current assets, such as raw-material, semi-finished goods & finished goods, sundry debtors, spares & tools and other movable and immovable assets were acquired, lock, stock and barrels for a consolidated lumpsum consideration of Rs.751 crores. This consideration was allocated towards fixed assets and towards goodwill. Assessee incurred certain expenses towards further modification and improvisation and capitalized pre-operating expenses incurred by it and claimed depreciation on the same.
AO rejected the valuation report on the ground that the price of the plant and machineries were artificially jacked up in the report to the level of consideration paid by appellant, the valuer had adopted the `Net Replacement Cost' method which was nothing but the cost of brand new individual machinery or the cement plant, and the valuation report should have been prepared much prior to the date of Business Transfer Agreement. The survey was carried out subsequent to the date of the Business Transfer Agreement, the only purpose, for which the valuation report had been prepared, was to help and assist the assessee to appropriate the differential cost to its fixed assets in its books of accounts, thereby entitling the assessee to claim a larger chunk of depreciation. AO called for the information regarding the WDV of the assets transferred, directly from RL and substituted the same in place of the cost of acquisition assigned by the assessee. Since the said WDV of fixed assets as on the date of acquisition was less than the consideration paid, the excess was considered as goodwill by the AO.
CIT (A) allowed the appeal of the assessee stating that AO had not made out a case in any manner to show that the transaction of sale of the cement unit as a going concern was collusive or that there was any tacit understanding with the seller to attach a higher value to the cost of acquisition of capital assets. The deal was not between related parties. The cost had been assessed and worked out by an expert agency and unless the expert advice was proved to be manipulative or worked up with reference to some tangible piece of evidence, the AO could not disregard the veracity of the expert valuation. The observation of AO that valuation had been done at net replacement cost was not correct since depreciation had been duly deducted to arrive at market price of the plant and assets. Thus, depreciation was allowable to assessee with reference to the cost of acquisition as shown by the appellant duly supported by the Expert / Approved Valuer's report.
Revenue contended that the CIT (A) erred in holding that the assessee was entitled to claim depreciation with reference to the cost of acquisition of cement unit purchased from `RL' without appreciating the provision of Explanation 3 to section 43(1).
B) Assessee obtained loan funds from various financial institutions by way of term loans and issue of non-convertible debentures on which the company was required to pay interest in the range of 14.5% to 15%. The company claimed interest on such borrowings as deduction u/s 36(1)(iii). During the impugned financial year, assessee paid one time settlement premium to some financial institutions in consideration for reduction in the interest rates agreed upon by them. In the books of accounts the said premium was amortised over a period of 3 years. However, in the return of income, assessee claimed deduction in respect of the entire amount of settlement premium paid to the financial institutions. AO disallowed the assessee's claim stating that the assessee had not furnished the details and it was not justified for deduction of entire expenditure when it had itself amortised the said premium amount for a period of three years in the books.
CIT (A) allowed the appeal observing that the benefit secured by incurring expenditure, although for a longer duration, did not result in acquisition of any tangible or intangible assets and hence should be considered on revenue account and allowed as deduction. The settlement premium paid on restructuring of loan merits to be considered as a revenue expenditure and it has also been made to effect saving in future interest outgo of the assessee.
Assessee contended that payment in question was nothing but interest paid on money borrowed in terms of section 36(1)(iii) and allowable as revenue expenditure in the year of accrual. Revenue contended that the benefit in question is spread over the period of time and under the matching concept, only proportionate expenditure is allowable in this year.
C) Assessee acquired the cement unit of RL on a going concern basis with all its assets, tangible or intangibles, and liabilities vide the Business Transfer Agreement. Assessee carried out a valuation for the tangible assets acquired in course of acquisition and capitalized them at the value arrived at by the valuer in his valuation report. The excess payment made over and above the value of tangible assets acquired was claimed attributable to various intangibles transferred alongwith the undertaking such as licenses, know-how, trade marks, coal linkages, rail linkages, business rights, etc. For the sake of convenience and in accordance with the generally accepted accounting practices and provisions of Accountant Standard 14, the said payments were capitalized in the books as goodwill and depreciation was claimed.
AO rejected the claim stating that the definition of intangible assets as defined in Explanation 3(b) to section 32 does not leave any scope for goodwill and thus, the depreciation on goodwill was disallowed.
CIT (A) held that on perusal of the Business Transfer Agreement, the assessee had indeed acquired various intangible assets in course of the acquisition like mining rights, coal linkages, rail linkages, trade marks, other licenses, etc. which would be covered under the definition of intangible assets as trade marks/licenses and other business or other commercial rights in the nature of licesnes and hence would qualify for depreciation as per the Explanation 3(b) in section 32. On the part amount which is held to be on account of pure goodwill was not entitled to depreciation.
Assessee contended that merely because the assessee disclosed the total payment as goodwill, in the books of account, no adverse inference could be drawn against the assessee. Without prejudice, the assessee submitted that excess amount paid for acquisition of the unit, were towards factors like locational advantage, contacts with dealers and customers attached to the business etc. which was nothing but an advantage or right to carry on a business or commercial activity in a more efficient manner. Therefore, the term goodwill was covered by the expression `business or commercial right of similar nature' and eligible for depreciation.
After hearing both the parties, the ITAT held that,
A) ++ in the preceding year, the ITAT had considered a similar issue arising out of acquisition of cement unit of TISCO in which it held that as per section 43(1) that the actual cost to be considered for the purpose of section 32 should be the actual cost paid by the assessee. Since the cost has not been directly or indirectly met by any other person or authority, the cost paid by the assessee for acquisition of the assets of the units is the cost under section 43(1). However, Explanation (3) makes it clear that where the assets are used at any time by any other person for the purpose of his business or profession and the AO is satisfied that the main purpose of the transfer of such assets directly or indirectly to the assessee was reduction of liability to tax for claiming depreciation with reference to enhanced cost, the actual cost of the assets shall be such an amount as the AO may determine having regard to all the circumstances of the case. As rightly considered by the CIT(A) the parties are unrelated and the transaction is at arms length basis. The registered valuer also valued the assets as on 01.11.1999, the price of which was considered to be the cost of fixed asset acquired and the balance to the current assets including the current liabilities. In view of this, there is no reason to invoke Explanation (3) as the AO nowhere stated that the main purpose of such a valuation was for reduction of liability to tax. It is a direct acquisition by the assessee company from another public limited company in an open bid, being the highest bidder;
++ as per AS 10 para 35 the assessee was supposed to take the value on the fair basis as determined by competent valuers. The observations of the AO are not correct. Since the assets are acquired on slump sale basis and individual assets are not priced or purchased item-wise, the assessee as per the Accounting Standard 10 to be adopted for the purpose of maintaining the books of account, has obtained a valuation report which has taken the net replacement cost method and has adopted the value in the books of account. Thus, the AO's observation that the value adopted by the assessee is exactly tallying with the subsequent valuation by the surveyor is without any basis. AO has not analysed the actual WDV in the hands of the TISCO. What he has adopted is the book value in the books of TISCO which incidentally will be different from the actual WDV for the purpose of income tax. Even though the seller has shown the profit on sale of net assets of the cement Division and taken the income to the P & L Account, the said company adjusted the cost of sale in the WDV of the assets for the purpose of income tax and offered incomes only under section 115JA of the Income Tax Act on the book profits made. AO failed to consider the net consideration adopted by the TISCO for adjustments in the books of account and the values adopted for current assets. The computation in the hands of the TISCO is quite different from the computation to be made in the hands of the assessee. Thus, AO has not examined the facts and arrived at wrong conclusions without any basis;
++ the registered valuers are experts and value and reliability of their opinion would depend upon the material contained in their report. They are competent to fix value of properties for several earlier years. Even otherwise WTO in the wealth-tax purposes is required to determine in the present, the value of assets as on the valuation dates which may be five or seven years earlier. If this is not possible, then scheme of fixation of value of assets under the WT Act cannot work. Such a view would defeat the very purpose of the WT Act and, therefore, cannot be accepted as correct. Since the deal was at arms length price and since the parties are not related and there is no evidence that the transaction is a collusive one or done with an intention to reduce the tax liability and also further that there is no clause for payment of goodwill by the assessee in the Business Transfer Agreement, the AO's action in considering the price paid for acquiring the assets at more than the book value in the hands of the seller to be treated as goodwill has no basis at all;
B) ++ in the case of Overseas Sanmar Financial Ltd. (Chennai) similar issue was considered in which it was held that the reduction in the rate of interest for fresh loans to be advanced by the financial Institutions led the assessee-company to pay off the entire loan that carried the burden of higher rate of interest. The assessee apparently calculated the amount of interest, that would be paying over the years at the agreed rate of interest and compared it with the foreclosure premium together with the interest that it would pay on the revised rate basis and found it to be advantageous to the company by paying the foreclosure premium. This advantage that the company wanted to benefit from is clearly a well-judged business decision and, therefore, it is laid out wholly for the purposes of its business. This itself is sufficient for allowing the claim in full in the year in which it was incurred. Following the said decision, the expenditure is allowed in the impugned assessment year in full;
C) ++ it is true that the nature of payment has to be considered and terminology used in the books of account does not determine the allowability of claim. The assessee has made a vague claim. On the one hand it states the excess payment made, over and above the value of tangible asset acquired, is for licences, quotas, business rights etc. and whereas on the other hand it states the excess amount should be taken as that paid for factors like locational advantage, contracts with dealers and customers attached to the business etc. This second limb, cannot be a business or commercial right but only goodwill. While stating facts, alternate or without prejudice stand cannot be taken. The assessee is supposed to know exactly the purpose for which the amount is paid. While tangible assets were valued, intangible assets were not valued in this case. Contacts with the customers, with dealers, locational advantage, rail linkage etc. when valued, are goodwill and not business or commercial right of similar nature. A separate valuation, asset-wise has to be undertaken and appropriate conclusions drawn. CIT (A) had not given the AO an opportunity to examine the facts as presented before CIT(A). Assessee had not challenged the finding of CIT(A) that depreciation is not allowable on goodwill. Thus, this issue has attained finality. The only issue is, to determine the value of intangible assets other than goodwill. The issue is set aside to the file of the AO for fresh adjudication in accordance with law.
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