Saturday, September 24, 2011

Judicial Pronouncements - International Taxation

Judicial Pronouncements - International Taxation

M/s Havells India Ltd. Vs. Addl.CIT [ITA No.1300/Del./2010, dtd. 27.05.2011] (2011) 59 DTR (Del)(Trib) 118

Fees paid to a foreign company for rendering testing and certification services cannot be treated as income deemed to accrue or arise in India under Section 9(1)(vii) of the Income-tax Act

ITAT Delhi Bench held that where services have been rendered outside India and have been utilised for the purpose of making or earning any income from any source outside India, such payments would fall outside the purview of Section 9(1)(vii) of the Act and will not be deemed to accrue or arise in India. The Tribunal observed that the testing and certification was necessary for the export of the product and was utilised for such export. The said services were rendered and utilised outside India. Therefore, the income fell outside the purview of Section 9(1)(vii) of the Act and did not deem to accrue or arise in India. The Tribunal observed that the tax department had failed to prove its contention that the testing and certification were utilised in the taxpayer’s production activity in India. The burden in this regard was entirely on the tax department, which the tax department had failed to discharge. The tax department’s argument on remitting the matter to the AO was neither required, nor appropriate to be adopted. The Tribunal observed that it was not possible to remit the matter to the AO since the appellate authority examines whether the assessment had been framed in accordance with law and if the assessment was not framed in accordance with law it was not the responsibility of the authority to start investigation suo moto and in order to fill up the gap which was missing. The Tribunal further observed that the tax department did not bring anything on record to substantiate its observation of the testing and certification services provided to the taxpayer by CSA having been utilised for the taxpayer’s business activity in India.

Accordingly, it was held that fees paid by the taxpayer did not deemed to accrue or arise in India and withholding of tax under Section 195 of the Act was not required and thus disallowance under Section 40(a)(i) of the Act was also not required. [Post amendment of section 9(1)(vii)]

Nippon Keiji Kyokoi Vs. ITO [ITA no.6329, 6330, 6331/Mum./2007, dtd. 29.07.2011]
Income of non-resident attributed to its PE in India taxable as business profits; balance income not to be taxed as fee for technical services

Notwithstanding a change in the position by the assessee, the Tribunal has held that the effective connection with the permanent establishment in India has to be determined based on a functional test in the case of fees for technical services . Furthermore, the Tribunal also upheld that if the services are said to have been effectively connected with the permanent establishment, the income would be taxable only as business profits to the extent of attribution and the balance income would not be liable to tax in India as fees for technical services. Article-12(5) of the DTAA, excludes the entire receipt from Article-12(1) and 12(2), if the receipt has an effective connecting with the P.E. The argument that Port is to be taxed under Article-7 and balance under Article-12, is devoid of merit. The DTAA does not contemplate the same. Such an interpretation said to be placed by learned Departmental Representative is incorrect and, hence, we reject the same. When certain FTS is effectively connected with the P.E., then so much of the fees i.e., directly or indirectly attributable to the P.E. is to be taxed under Article-7. Services rendered through own staff and those rendered through independent surveyors cannot be dealt with differently and hence the services rendered through independent surveyors have an effective connection with the PE.

Destination of the World (Subcontinent) Pvt. Ltd., Vs. Asstt. CIT [ITA No. 5534(Del)/2010, dtd. 08.07.2011]
For transfer pricing, internal comparability to be given preference over external comparables

The ITAT Delhi Tribunal held that in the first instance, the attempt should be made to determine arm’s length price of controlled transactions by comparing the same with internal uncontrolled transactions undertaken in same or similar economic scenario.

ACIT Vs. Anchor Health and Beauty Care Pvt Ltd [ITA No. 7164/ Mum/2008, dtd. 26.08.2011]
Fee for “user of name” and “accreditation” not taxable as “royalty”

The assessee, engaged in manufacture of tooth paste etc paid Rs 11,71,826 as “accreditation panel fees” to British Dental Health Foundation UK without deduction of tax at source. The AO disallowed the sum u/s 40(a)(i) on the ground that the sum was taxable as “royalty” and tax had not been deducted at source u/s 195(1). The CIT (A) deleted the disallowance. Before the Tribunal, the department argued that since the assessee derived valuable advantage from the accreditation by BDHF and use the same as a marketing tool, the amount constituted “royalty”. ITAT Mumbai bench dismissing the appeal held that (i) The obligation to deduct tax u/s 195(1) arises only if the payment is chargeable to tax in the hands of non-resident recipient. If the recipient of the income is not chargeable to tax, the vicarious liability on the payer is ineffectual. As the AO had not established how the recipient was liable to pay tax, he was in error in disallowing u/s 40(a)(i) (GE India Technology Center 327 ITR 456 (SC) followed; (ii) On merits, though the accreditation fees permitted the assessee the use of name of British Dental Health Foundation, it did not constitute “royalty” under Article 13 of the India-UK DTAA because it did not allow the accredited product to use, or have a right to use, a trademark, nor any information concerning industrial, commercial or scientific experience so as to fall within the definition of the term. The purpose of the accreditation by a reputed body was to give certain comfort level to the end users of the product and to constitute the USP of the product. The term “royalty” cannot be construed as per its normal connotations in business parlance but has to be construed as per the definition in Article 13. The amount constituted “business profits” and as the recipient did not have a PE in India, it was not taxable in India.

DCIT Vs. RBS Equities India Ltd [ITA No. 2570/Mum/2010, dtd. 26.08.2011]

When method changed by TPO, no penalty is leviable

The assessee adopted the TNMM to determine the ALP in respect of the broking transactions entered into with its affiliates. The AO & TPO held that the assessee ought to have adopted the CUP method and made an adjustment of Rs. 1.10 crores. This was accepted by the assessee.

The AO levied penalty under Explanation 1 to s. 271(1)(c) on the ground that the assessee had filed inaccurate particulars of income. This was deleted by the CIT (A). On appeal by the department to the Tribunal, ITAT Mumbai Bench dismissing the appeal held that explanation 1 to s. 271(1)(c) does not apply to transfer pricing adjustments. Penalty for transfer pricing adjustments is governed by Explanation 7 to s. 271 (1)(c). Under Explanation 7 to s. 271(1) (c), the onus on the assessee is only to show that the ALP was computed by the assessee in accordance with the scheme of s. 92 C in “good faith” and with “due diligence”. The assessee adopted the TNMM and no fault was found with the computation of ALP as per that method. Instead, the method was rejected on the ground that CUP method was applicable. It is a contentious issue whether any priority in the methods of determining ALPs exists. So, when TNMM is rejected, without any specific reasons for inapplicability of the TNMM and simply on the ground that a direct method is more appropriate to the fact situation, it is not a fit case for imposition of penalty. The expression ‘good faith’ used alongwith ‘due diligence’, which refers to ‘proper care, means that not only must the action of the assessee be in good faith, i.e. honestly, but also with proper care. An act done with due diligence would mean an act done with as much as care as a prudent person would take in such circumstances. As long as no dishonesty is found in the conduct of the assessee and as long as he has done what a reasonable man would have done in his circumstances, to ensure that the ALP was determined in accordance with the scheme of s. 92 C, deeming fiction under Explanation 7 cannot be invoked.

ADIT Vs. TII Team Telecom International Pvt Ltd [ITA No. 3939/ Mum/2010, dtd. 26.08.2011]

Income from license of software not assessable as “royalty”.

The assessee, an Israeli company, entered into an agreement with Reliance Infocom for supply and licence of software for RIL’s wireless network in India. The assessee received Rs. 3 crores which it claimed to be “business profits” and not taxable for want of a permanent establishment (PE) in India. The AO took the view that the said sum was assessable as “royalty”. This was reversed by the CIT (A) following Motorola Inc 96 TTJ 1 (Del) (SB). In appeal before the Tribunal, the department argued that in view of Gracemac Corp 42 SOT 550 (Del), the use of software was assessable as “royalty”. ITAT Mumbai bench dismissing the appeal held that (i) Under Article 12 (3) of the India- Israel DTAA, royalty is defined inter alia to mean payments for the “use of” a “copyright” or a “process”. There is a distinction between “use of copyright” and “use of a copyrighted article”. In order to constitute “use of a copyright”, the transferee must enjoy four rights viz: (i) the right to make copies of the software for distribution to the public, (ii) The right to prepare derivative computer programmes based upon the copyrighted programme, (iii) the right to make a public performance of the computer programme and (iv) The right to publicly display the computer programme. If these rights are not enjoyed, there is no “use of a copyright”. The consideration is also not for “use of a process” because what the customer is paying for is not for the “process” but for the “results” achieved by use of the software. It will be a “hyper technical approach totally divorced from ground business realities” to hold that the use of software is use of a “process”. (Motorola Inc 96 TTJ 1 (Del) (SB) and Asia Sat 332 ITR 340 (Del) followed. Gracemac Corp 42 SOT 550 (Del) not followed); (ii) It is well settled that a DTAA prevails over the Act where it is more favourable to the assessee. The view taken in Gracemac, relying on Gramophone Co AIR 1984 SC 667, that the Act overrides the treaty provisions where there is irreconcilable conflict is not acceptable because (a) it is obiter dicta, (b) contrary to Azadi Bachao Andolan 263 ITR 706 (SC) and (c) Gramophone Co not applicable to I. T. Act as it dealt with law in which specific enabling clause for treaty override did not exist. (Ram Jethmalani vs UOI also considered).

LS Cable Limited Vs. DIT [ A.A.R. Nos. 858-861 of 2009, dtd. 26.07.2011]
Off-shore supplies not taxable despite composite contract & PE’s role in clearance

The assessee, a Korean company, entered into three contracts with Delhi Transco Ltd for (i) offshore supply contract on CIF basis, (ii) onshore supply contract and (iii) onshore service contract. The applicant claimed that the income arising from the offshore supply contract was not taxable in India. The revenue claimed that the profits from the off-shore supply was taxable in India on the basis that (a) though the supply contract was awarded of sepa successful completion of the facility as per specifications, (c) the three contracts were separate contracts did not dilute the responsibility of the applicant for successful completion of the facility as per specifications, (c) the three contracts were composite contracts and one could not exist without the other, (d) the offshore supplies were on CIF basis and the contracts for offshore supply and onshore contracts were signed on the same date, (e) the insurance requirement of the offshore supplies contract require that the applicant will take out and maintain insurance of cargo, installation, worker compensation, etc, (f) the case is not a case of a sale simpliciter but is for full package involving onshore services. It could not have made a difference had the contract been one instead of three divisible contracts. AAR rejecting the contentions of the department held that (i) The clauses in the offshore supply contract agreement regarding the transfer of ownership, the payment mechanism in the form of letter of credit which ensures the credit of the amount in foreign currency to the applicant’s foreign bank account on receipt of shipment advice and insurance clause establish that the transaction of sale and the title took place outside Indian Territory. The ownership and property in goods passed outside India. The transit risk borne by the applicant till the goods reach the site in India is not necessarily inconsistent with the sale of goods taking place outside India. The parties may decide between them as to when the title of the goods should pass. As the consideration for the sale portion is separately specified, it can well be separated from the whole. (Ishikwajima Harima 288 ITR 410 (SC) & Hyosung Corporation 314 ITR 343 (AAR) followed; Ansaldo Energia SPA 310 ITR 237 (Mad) distinguished); (ii) Nothing in law prevents parties to enter into a contract which provides for sale of material for a specified consideration although they were meant to be utilized in the fabrication and installation of a complete plant; (iii) Though the assessee had a PE in India, that came into existence for the purpose of carrying out the contract for onshore supplies and services etc and had no role to play in offshore supplies. Even if the PE was involved in carrying on some incidental activities such as clearance from the port and transportation, it cannot be said that the PE is in connection with the offshore supplies.
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