Case Law (SC) – Non-compete fee only seeks to protect or enhance the profitability of the business, thereby facilitating the carrying on of the business more efficiently and profitably leaving the fixed assets untouched, the payment made to secure such advantage would be an allowable business expenditure, irrespective of the period over which the advantage may accrue to the payer (assessee) by incurring of such expenditure.

 Sharp Business System v. CIT [2025 INSC 1481] dated 19.12.2025

ISSUE BEFORE COURT ARE: -

(I). Whether non-compete fee paid by the assessee was a revenue expenditure or capital expenditure?

(II). Whether non-compete fee was an intangible asset and hence entitled to depreciation?

(III). Whether interest on borrowed fund is allowable expenditure where the assessee had advanced such amount to its sister concern as a measure of commercial expediency?

DECISION: -

“First and Second issue:

“25. Having adverted to the relevant case laws, we may now examine the nature and character of non-compete fee; whether payment of non-compete fee is revenue expenditure or capital expenditure. Non-compete fee is paid by one party to another to restrain the latter from competing with the payer in the same line of business. It may be by way of a written agreement or by an oral understanding. The restriction may be limited to a specified territory or otherwise; similarly, it can be for a specified period or otherwise. Purpose of non-compete payment is to give a head start to the business of the payer. It can also be for the purpose of protecting the business of the payer or for enhancing the profitability of the business of the payer by insulating the payer from competition.

26. Thus non-compete fee only seeks to protect or enhance the profitability of the business, thereby facilitating the carrying on of the business more efficiently and profitably. Such payment neither results in creation of any new asset nor accretion to the profit earning apparatus of the payer. The enduring advantage, if any, by restricting a competitor in business, is not in the capital field.

27. Following the judicial trend, it can be safely inferred that the length of time over which the enduring advantage may enure to the payer is not determinative of the nature of expenditure. As long as the enduring advantage is not in the capital field, where the advantage merely facilitates in carrying on the business more efficiently and profitably, leaving the fixed assets untouched, the payment made to secure such advantage would be an allowable business expenditure, irrespective of the period over which the advantage may accrue to the payer (assessee) by incurring of such expenditure.

28. The non-compete compensation from the stand point of the payer of such compensation is so paid in anticipation that absence of a competition from the other party may secure a benefit to the party paying the compensation. However, there is no certainty that such benefit would accrue. Notwithstanding such an arrangement, the payer (assesee) may still not achieve the desired result. In so far the present case is concerned, on account of payment of non-compete fee, the assessee had not acquired any new business and there is no addition to the profit making apparatus of the assessee. The assets remained the same. The expenditure incurred was essentially to keep a potential competitor out of the same business. Further, there is no complete elimination of competition. Such payment made by the appellant to L&T did not create a monopoly of the appellant over the business of electronic products/ equipments. Payment was made to L&T only to ensure that the appellant operated the business more efficiently and profitably. Such payment made to L&T cannot, therefore, be considered to be for acquisition of any capital asset or towards bringing into existence a new profit earning apparatus.”

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Third issue:

“37. Section 36 of the Act deals with other deductions that may be allowed while computing the total income under the heading ‘profits and gains of business or profession’ referred to in Section 28 of the Act. Section 36(1)(iii) says that the deductions provided for the amount of interest paid in respect of capital borrowed for the purposes of the business or profession shall be allowed in computing the income referred to in Section 28.

38. In SA Builders Ltd. (supra), this Court considered the question regarding allowability of interest on borrowed funds. This Court referred to the provisions of Section 36(1)(iii) of the Act and to the facts of that case. It was noted that the borrowed amount in question was not utilized by the assessee in its own business but was advanced as interest free loan to its sister concern. This Court opined that this factum was not really relevant. What was relevant was whether the assessee had advanced such amount to its sister concern as a measure of commercial expediency. Once it is established that there was nexus between the expenditure and the purpose of the business, which need not necessarily be the business of the assesee itself, revenue cannot justifiably claim to put itself in the arm-chair of the businessman or in the position of the board of directors and then decide how much would be the reasonable expenditure. Income tax authorities must put themselves in the shoes of the assessee and see how a prudent businessman would act. We have to see the transfer of the borrowed funds to a sister concern from the point of view of commercial expediency and not from the point of view of whether the amount was advanced for earning profits. No businessman can be compelled to maximize his profits. However, this Court put in a caveat that it is not in every case interest on borrowed fund has to be allowed if the assessee advances it to a sister concern. It all depends upon the facts and circumstances of the case. This Court held thus:

34. We agree with the view taken by the Delhi High Court in CIT v. Dalmia Cement (Bharat) Ltd. [2002] 254 ITR 377 that once it is established that there was nexus between the expenditure and the purpose of the business (which need not necessarily be the business of the assessee itself), the revenue cannot justifiably claim to put itself in the arm-chair of the businessman or in the position of the board of directors and assume the role to decide how much is reasonable expenditure having regard to the circumstances of the case. No businessman can be compelled to maximize its profit. The income tax authorities must put themselves in the shoes of the assessee and see how a prudent businessman would act. The authorities must not look at the matter from their own view point but that of a prudent businessman. As already stated above, we have to see the transfer of the borrowed funds to a sister concern from the point of view of commercial expediency and not from the point of view whether the amount was advanced for earning profits.

35. We wish to make it clear that it is not our opinion that in every case interest on borrowed loan has to be allowed if the assessee advances it to a sister concern. It all depends on the facts and circumstances of the respective case. For instance, if the Directors of the sister concern utilize the amount advanced to it by the assessee for their personal benefit, obviously it cannot be said that such money was advanced as a measure of commercial expediency. However, money can be said to be advanced to a sister concern for commercial expediency in many other circumstances (which need not be enumerated here). However, where it is obvious that a holding company has a deep interest in its subsidiary, and hence if the holding company advances borrowed money to a subsidiary and the same is used by the subsidiary for some business purposes, the assessee would, in our opinion, ordinarily be entitled to deduction of interest on its borrowed loans. Conclusions

39. Adverting to the facts of this case, we find that the respondent assessee had claimed interest on borrowed funds under Section 36(1)(iii) of the Act which was utilized for investment in M/S Ceylon Glass Company Ltd., a subsidiary company of the assessee. The investment was made for controlling the interest in the associate concern by purchase of shares. Thus the investment was clearly for commercial expediency. We agree with the finding recorded by the ITAT and affirmed by the High Court that assessee is entitled to claim allowance of interest on the funds invested in sister concern for acquiring of controlling interest.

40. Following the decision of this Court in SA Builders Ltd. (supra), we find that the purpose for which the advances were made to the sister concern and its directors would also be covered by the principle of commercial expediency.

41. Accordingly, the decision of the ITAT on this point, which was not interfered with by the High Court, is hereby affirmed.”