CT CS1

INTRODUCTION TO THE CASE-
This case centers on a scenario in which the Japanese company Honda Motors and the British company
Seil Ltd form a joint venture. The Japanese company has agreed to grant the assessee a license and
technical support for their business dealings in the automotive industry. It is also agreed that Seil Ltd will
pay the HMCL a lump sum fee of $30.5 million in five equal payments.
The issue at hand right now is whether the technical fee counts as a revenue or capital expense. The sum
is referred to as a capital expenditure by the IT (Income Tax) Act and a revenue expenditure by the ITAT
(Income Tax Appellate Tribunal). Considering a few factors, including the fact that the royalty and
technical know-how are only used for business operations, the High Court of Allahabad rendered the
decision as capital expenditure. As a result, when the appeal was pursued and ITAT was satisfied with the
justification, the expenditure was determined to be of a revenue-generating nature because it occurred at
the time the business was founded and the use of the technical know-how was limited in time. At this
point, the right approach to the issue was made.
CAPITAL EXPENDITURE AND REVENUE EXPENDITURE-
When a payment is made for long-term assets used for business operations, capital expenditure occurs.
These are used by any company for investment in expansions, etc. because of their durability. The
investments in PPE (Plant, Property, and Equipment) are the main area of focus. Capital expenditure is
calculated as follows-
Direct Method:
Revenue expenditure is recurring and does not consist of high-value items, it is not enduring in nature and
does not provide benefits in the future as capital expenditure does.
EXAMPLE OF WHY CAPITAL EXPENDITURE MUST NOT BE TREATED AS A REVENUE
EXPENDITURE-
The concept of matching principles states that expenses are incurred at the same time as revenue is
produced. It would be incorrect to treat capital as revenue because it would violate the matching principle
of accounting.
For instance, if a business spends $80,000 on a plant, the taxable income is decreased because the
expense will be fully deductible in the current year. Future advantages and potential revenue generation
from this plant for several years. This type of approach is in line with the matching principle of
accounting because the expense is recognized in the same period as the revenue generated by the plant.
However, by treating this as a capital expenditure, the cost of the plant would be usefully allocated over
its life and not over years through depreciation or amortization.
An incorrect treatment of expenses would result in an overstatement of income and an understatement of
expenses. Knowing the distinction between capital expenditure and operating expense is necessary to
report the true financial report of the company.
LAW- Five appeals have been submitted in the Honda SIEL Cars Ltd. case at hand due to the recurrence
of the same problem. The Japanese company HCML has consented to grant Seil Ltd. the technical and
license rights, and it is required to pay the assessee in 5 installments starting in the third year following
the beginning of productions. The IT Act required that the expense be treated as a capital expenditure
even though the ITAT said it should be treated as a revenue expense when the assessee filed returns.
When the department sought relief from this decision at the Court of Appeal (High Court Allahabad), it
was declared to be a capital expenditure.
After examining the dispute, several facts were taken into account, including shares, agreements, licensee
and licensor, lump sum fee, and royalty aspects, as well as the fact that the primary goals of both
businesses were to establish a joint venture and a manufacturing facility for automobiles and their
components.
CONCLUSION-
In this instance, the ITAT was satisfied with the explanation that their disagreement only related to the
smallest amount of payment and that the assessee was not engaged in car manufacturing and was
beginning this activity for the first time after several disagreements. Technical costs were only applied for
a specific time period, and it was determined that the expense was revenue-related.

CT CS1

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INTRODUCTION TO THE CASE-

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