The expenditures incurred by a business can be categorised into two types based on their nature i.e., Revenue and Capital Expenditure. Determining the nature of the expense is essential in order to assess whether it is a deductible expense or not while computing the profits of the business. 

This article will discuss the nature of technical fees incurred by a joint venture for its operation and understand the case law. 

What Is Revenue And Capital Expenditure?

Revenue and Capital Expenditure can be understood with the following table:

Case Law

Case

Honda Siel Cars India Ltd. v. CIT [2017] 395 ITR 713 (SC)

Facts Of The Case

Honda Motors and Siel Ltd. formed a joint venture Honda Siel Cars India Ltd., an Indian company. This company entered into a technical collaboration agreement (TCA) with Honda Motors, where Honda Motors was to provide manufacturing facilities, know-how, technical information and information regarding intellectual property rights to Honda Siel Cars India. For this Honda Siel Cars was to pay $30.5 million in five equal installments on a yearly basis. 

It was to be determined whether the $30.5 million of technical fees was revenue or capital expenditure.

Interpretation

Supreme Court’s Observations:

• If technical know-how is obtained for a limited period to improve an existing business, the expenditure is revenue in nature.
• However, if technical know-how is acquired to set up a new business, the expenditure is capital in nature.
• There is no single test to determine the nature of expenditure; it must be assessed based on facts and circumstances.

Application to the Present Case:

• The TCA was fundamental to the very existence of the joint venture.
• It was not merely a right to use technology for an existing business, but a complete framework for setting up the venture itself.
• The agreement provided end-to-end assistance, beyond just licensing technical know-how.
• Since the joint venture would cease to exist upon termination of the TCA, the technical fee was capital in nature.

Conclusion

The Supreme Court ruled that the technical fee of 30.5 million USD was capital expenditure because:

• The TCA was essential for setting up the joint venture itself.
• It provided more than just technical know-how—it was crucial for plant establishment.
• The business could not continue without the agreement, making the expenditure capital in nature.

Determining The Nature Of Technical Fees

Technical Fees will be treated as a revenue expenditure if:

• It is not a capital expenditure
• The benefit is for a short period of time

However, it will be a capital expenditure if:

• The benefit is for a long period of time
• Was for the purpose of setting up the venture and the venture would cease to continue if the agreement was terminated.

Final Word

Technical fees are usually treated as revenue expenditures. However, in certain cases where the business was established on an agreement to acquire technical know-how and the existence of the business depends on such TCA, technical fees will be treated as capital expenditures. Hence it is crucial to determine the nature in order to assess the proper treatment of such an expenditure.