No disallowance of section 40(a)(i) if Non resident has no permanent establishment in India

By | May 26, 2016

Issue

The assessee is supplying software related services and in this connection has made payment of communication charges, commission charges, legal and professional charges, marketing & selling charges and business development charges. These payments were made to various entities abroad and some of which are associated concerns of the assessee company. It was also noted by the Assessing Officer that no TDS was deducted on these payments. He observed that the benefit of these services provided by non-resident entities by way of promoting sales and rendering legal and professional services, etc. are being utilized in India by the assessee company. The payment made by the assessee in respect of services utilized, is not in connection to any business or profession carried out outside India for the purpose of making any income from a source outside India. The source of income of the recipients of these payments is the agreement between the assessee and the contract of the services with these entities abroad is entered into by the assessee company and, therefore, the responsibility under the terms of the contract is that of the assessee company and hence, the source of income for them is the place from where it emanates. In view of this, he held that these payments made to the non-residents are their deemed income in India on which no TDS is deducted. Invoking the provisions of section 40(a)(i) of the Income Tax Act, 1961 (in short ‘the Act’), The Assessing Officer made disallowance of an amount of Rs.5,31,28,742/-.

Held

The payment to a person who happens to be a resident of country with whom India has entered into DTAA and where the business profits are taxed only in the country and does not have a permanent establishment in India, the said payments are not chargeable to tax in India. In view of this also, even as per DTAA, the income being not exigible to tax in India in the hands of non-resident entity, the assessee is not required to deduct tax at source. Therefore, the provisions of section 40a)(i) of the Act cannot be invoked.

learned CIT (Appeals) has not given any finding that the payments in question are ‘fees for technical services’ in nature. We understand the law that in case a payment is held to be in the nature of ‘fees for technical services’, the place of rendering services becomes irrelevant in view of the provisions of section 9(1)(vii) of the Act. However, even if the argument of the learned D.R. is accepted that the learned CIT (Appeals) has given a finding that these payments are ‘fees for technical services’, nowhere from the order of the learned CIT (Appeals) we see any effort being made by him to come to such a conclusion. It is not to be forgotten that the learned CIT (Appeals) assumes coterminus powers with that the Assessing Officer. In fact, he enjoys the powers of enhancement also. Therefore, in case he had any apprehension as to the real nature of the payment, who stopped him to carry out further investigations in this regard? In the absence of any finding given by the Assessing Officer or the CIT (Appeals) in this regard, we are not inclined to examine the case of the assessee with a view whether the payments are in the nature of ‘fees for technical services’ or not. It is not a case where certain queries were put either by the Assessing Officer or by the learned CIT (Appeals) to the assessee with respect to the payments being ‘fees for technical services’, which the assessee failed to reply. It is also not a case where the assessee had not co-operated with the lower authorities in order to find out the real nature of the payments made to the non-residents. All the relevant agreements and invoices were filed before the lower authorities. In view of this, the assessee cannot be punished at this stage without there being any fault of his, specially in view of the fact that even at the time of hearing before us, the learned D.R. could not bring any material or evidence in support of his claimed that the impugned payments were in the nature of ‘fees for technical services’. His only argument is that in the absence of the nature of services being rendered by non residents, coming out from the evidence filed by the assessee, the same should be presumed to be in the nature of ‘fees for technical services’. No such presumption exists in the Income Tax Act. No such presumption can be raised without any backing material or evidence on record. The argument of the learned D.R. that even if the provisions of DTAA are applied, in the absence of any services coming out from the evidences, it should be presumed that non-residents have ‘made available’ certain technical services to the assessee, is too farfetched. We are not inclined to entertain such a plea at this stage. In view of this also, we hold that the services rendered by the non-residents are not in the nature of technical services, no income deemed to have accrued to the non-resident entities, there is no liability on the assessee to deduct tax at source on such payment. Therefore, the provisions of section 40(a)(i) of the Act are not exigible in the present case.

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IN THE ITAT CHANDIGARH BENCH

IDS Infotech Ltd.

v.

Deputy Commissioner of Income-tax, Circle 4(1), Chandigarh

BHAVNESH SAINI, JUDICIAL MEMBER
AND RANO JAIN, ACCOUNTANT MEMBER

IT APPEAL NO. 52 (CHD.) OF 2016
[ASSESSMENT YEAR 2009-10]

MAY  24, 2016

Tej Mohan Singh for the Appellant. Sushil Kumar for the Respondent.

ORDER

Rano Jain, Accountant Member – The appeal filed by the assessee is directed against the order of learned Commissioner of Income Tax (Appeals)-2, Chandigarh dated 14.12.2015, relating to assessment year 2009-10.

2. The ground No.1 raised by the assessee reads as under :

“1. That the Ld. Commissioner of Income Tax (Appeals) has erred in law as well as on facts in upholding the addition of Rs.16,59,106/- made by the assessing officer whereby he disallowed the interest paid up by applying the provisions of section 36(1)(iii) which is illegal, arbitrary and unjustified.”

3. Briefly, the facts of the case are that the assessee had debited financial charges of Rs.98,48,000/-on secured loans. The secured loans consist of a term loan from bank, car loan and packing credit. Against these liabilities the assessee is paying interest which is debited in Profit & Loss Account. The Assessing Officer observed that substantial investment amounting to Rs.1,66,23,000/- was made in the wholly owned subsidiaries of the assessee company in US and UK. He also noted that the proportionate interest was disallowed in the assessment year 2004-05 also and no appeal was preferred by the assessee. In this year also, the Assessing Officer worked out the proportionate interest and a disallowance of Rs.16,59,106/- was made to the income of the assessee.

4. Before the learned CIT (Appeals), the assessee submitted that the disallowance has been made on the ground that the assessee had taken term loan from Bank of India, which was invested abroad in various subsidiaries. It has not been appreciated that the subsidiaries of the assessee company were generating revenue for the assessee. Therefore, there was business exigency in giving such loan. Since the interest paid is revenue expenditure, it has rightly been claimed in the books of account. The subsidiaries rendered marketing support to the assessee company. After considering the submissions of the assessee, the learned CIT (Appeals) dismissed the ground placing reliance on the order of the Hon’ble Punjab & Haryana High Court in the case of CIT v. Abhishek Industries Ltd. [2006] 286 ITR 1 (P&H). He stated that the assessee has not been able to prove the nexus of borrowed fund to the application of these funds. In this view, it was held that the amount invested in the subsidiaries of the assessee is for extra commercial consideration.

5. Aggrieved by this, the assessee has come up in appeal before us and reiterated the submissions made before the learned CIT (Appeals). It was stated that the assessee company is engaged in the business of export of Information Technology Services and Software Development. The wholly owned subsidiaries of the assessee to whom the money has been advanced are providing market support to the assessee. Reliance was placed on the judgment of the Hon’ble Supreme Court in the case of Hero Cycles (P) Ltd. v. CIT 379 ITR 347 (SC) and that of Hon’ble Punjab & Haryana High Court in the case of Bright Enterprises Pvt. Ltd. v. CIT [2016] 381 ITR 107 and CIT v. Kapsons Associates [2016] 381 ITR 204 (P&H).

6. The learned D.R. while arguing before us stated that since the interest bearing funds have been advanced to the wholly owned subsidiaries abroad and interest expenditure on account of such funds, which has been raised from the bank, has been claimed by the assessee in its Profit & Loss Account. Under these circumstances, a duty is cast on the assessee to establish that such interest bearing funds advanced to the wholly owned subsidiaries is for the purpose of business as provided under section 36(1)(iii) of the Act. The assessee had failed to establish any nexus between the borrowed funds to the application of these funds that the same are for the purpose of business. Reliance was placed on the judgment of the Hon’ble Supreme Court in the case of Hero Cycles (P) Ltd. (supra) for the proposition that the assessee has to demonstrate with the facts and figures that the loans advanced fulfill the criteria of commercial expediency.

7. We have heard the learned representatives of both the parties, perused the findings of the authorities below and considered the material available on record. We are in total agreement with the submissions made by the learned D.R. that the assessee has to demonstrate that the loan advances fulfills the criteria of commercial expediency. It is also the proposition laid down by the Hon’ble Supreme Court in the case of Hero Cycles (P) Ltd. (supra). However, we are also inclined to accept the submissions made by the learned counsel for the assessee that the entities to whom the money has been given are wholly owned subsidiaries of the assessee company. Therefore, the financial health of these concerns matter to the financial health of the assessee company also. In our view, it can be said that the amount given to the wholly owned subsidiary companies are for commercial expediency. In this view, we would like to refer certain observations made by the Hon’ble Supreme Court in the case of S.A. Builders Limited v. CIT [2007]288 ITR 1 (SC). In this case, while interpreting the meaning of the word ‘commercial expediency’, the Hon’ble Apex Court held as under :

“32. 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.”

8. In view of the above, we observe that even the Hon’ble Supreme Court has endorsed the view that since a holding company has a deep interest in its subsidiary and if the holding company advances borrowed money to a subsidiary and the same is used by the subsidiary for some business purposes, the assessee is entitled to deduction of interest on the borrowed funds. In the present case, there is no dispute about the fact that the amounts have been advanced to the wholly owned subsidiaries of the assessee company and there is no fact brought on record by any of the lower authorities that the amounts have been used by these subsidiary companies for any purpose other than their business purposes. In view of this, we are inclined to hold that the amounts given to subsidiary companies were on account of commercial expediency. Therefore, no disallowance invoking the provisions of section 36(1)(iii) of the Act can be made in this case. The ground No.1 raised by the assessee is allowed.

9. Since all other grounds are inter-connected, these are being dealt together with.

10. The ground Nos.2, 3, 4, 5 and 6 raised by the assessee read as under :

2. That the Ld. Commissioner of Income Tax (Appeals) has further erred in upholding the disallowance of Rs.5,31,28,742/- made on account of non deduction of TDS on commission , legal and professional charges, marketing and selling expenses, out sourcing and business development expenses in as much as no TDS is required to be deducted and as such the order is illegal, arbitrary and unjustified.

3. That the Ld. Commissioner of Income Tax (Appeals) has failed to appreciate that the provisions of Section 195 are not attracted in as much as payments were made to parties who are out side of India and have no permanent establishment in India and as such the order passed is illegal, arbitrary and unjustified.

4. That the Ld. Commissioner of Income Tax (Appeals) has erred in law as well as on facts in upholding that income of non resident has accrued and arisen in India which is contrary to the facts of the case and as such the order passed is illegal, arbitrary and unjustified.

5. That the Ld. Commissioner of Income Tax (Appeals) has further erred in holding that the commission payment to M/s I CMS for Agusta Project are illegal in nature and not allowable as per explanation to Section 37(1) of the Act which is contrary to the facts and as such the order passed is arbitrary and unjustified.

6. That the order of the Ld. Commissioner of Income Tax (Appeals) is erroneous, arbitrary, opposed to law and facts of the case ancl is, thus, untenable.”

11. Briefly, the facts of the case are that the assessee is supplying software related services and in this connection has made payment of communication charges, commission charges, legal and professional charges, marketing & selling charges and business development charges. These payments were made to various entities abroad and some of which are associated concerns of the assessee company. It was also noted by the Assessing Officer that no TDS was deducted on these payments. He observed that the benefit of these services provided by non-resident entities by way of promoting sales and rendering legal and professional services, etc. are being utilized in India by the assessee company. The payment made by the assessee in respect of services utilized, is not in connection to any business or profession carried out outside India for the purpose of making any income from a source outside India. The source of income of the recipients of these payments is the agreement between the assessee and the contract of the services with these entities abroad is entered into by the assessee company and, therefore, the responsibility under the terms of the contract is that of the assessee company and hence, the source of income for them is the place from where it emanates. In view of this, he held that these payments made to the non-residents are their deemed income in India on which no TDS is deducted. Invoking the provisions of section 40(a)(i) of the Income Tax Act, 1961 (in short ‘the Act’), The Assessing Officer made disallowance of an amount of Rs.5,31,28,742/-.

12. The Assessing Officer also noted that the commission has been paid at various rates to Steven International and IMCS. The commission to IMCS, Tunisia was paid @ 21.45% and Steven International @ 1.79%. He further observed that the commission to IMCS was for Augusta project and assessee is also involved in Augusta Westland helicopter deal, wherein CBI has taken investigation into the deal. The contract with IMCS says that it has merely referred Augusta SPA based in Italy and introduced and assisted in execution of an agreement and assisted in selling services and facilitating relationship with Augusta. Therefore, services provided by IMCS were not commensurate with the commission paid and services are not deemed to be incurred for the purpose of business. In this way also, the Assessing Officer disallowed the commission payment to Steven International and IMCS of Rs.83,36,948/- in view of the Explanation to section 37 of the Act. This amount is also included in the total disallowance made by the Assessing Officer amounting to Rs.5,31,28,742/-.

13. Before the learned CIT (Appeals), the assessee submitted that these expenses were incurred for services rendered outside India and payments were made to parties who were outside India. It was stated that the provisions of section 195 of the Act would be applicable in conjunct with section 9 of the Act, which deal in income deemed to accrue or arise in India. The parties to whom the payments were made had no permanent establishment in India. Section 9 of the Act applies to an assessee irrespective of its residential status, nationality, domicile and place of business. Out of various categories of income which are deemed to accrue or arise in India, one of them is income from business connection in India. It was also submitted that based on these provisions, the assessee company was not liable to deduct TDS on these amounts as none of these parties had any permanent establishment in India and there was no business connection in India. It was also submitted that all these payments were made to the parties in the nations with which India has Double Taxation Avoidance Agreement (DTAA) and as per the terms of the respective DTAAs also, the income is not taxable in the hands of the recipient. Reliance was placed on a large number of cases.

14. After considering the submissions of the assessee, the learned CIT (Appeals) observed that the payments made by the assessee are in the nature of marketing support services and selling expenditure for getting more and more business abroad. The services provided by non-resident entities for promoting sales and legal and profession services are as per the terms of contract which is entered by these entities with the assessee and the payment of these amounts were the responsibility of the assessee. Therefore, the source of income for the entities abroad is the agreement with the assessee company and by virtue of these services there is a direct benefit to the assessee company and hence the payment made by the Indian company for services utilized is not in connection with the business and profession carried out outside India. The business outside India is secured by the Indian company. The source of income for the services rendered by the non-resident entities is in India as the Indian company gives directions for the work abroad. Therefore, the income for the non-resident entities accrues and arises in India. He further distinguished the cases relied on by the assessee stating that these cases deal with the business connection wherein the services have been rendered outside India. He observed that the issue in hand is to decide whether the services rendered by non-resident entities and payment made by the assessee establishes business connection in India and as per the source of these payments, these are in the nature of fees for technical services. For the meaning of the term ‘business connection’, he relied on the judgment of the Hon’ble Supreme Court in the case of CIT v. R.D. Aggawal & Co.[1965]56 ITR 20. With regard to the term ‘fees for services’, he placed reliance on the judgment of the Andhra Pradesh High Court in the case of Elkem Technology v. DCIT [2001] 250 ITR 164. After referring all these judgments, he observed that in the instant case, services were rendered abroad by non-resident entities under the agreement with the assessee in India and the parties to whom the business was sold, the responsibility was of the Indian Company. Therefore, these services of non-resident entities were directly utilized by the assessee in India to boost its business abroad and hence, the income of non-residents have accrued or arise in India. In view of these, he held that the provisions of section 195 of the Act are applicable on these payments. He further referred to the judgment of the Hon’ble Supreme Court in the case of GVK Industries Ltd. v.ITO [2015] 332 ITR 130 to the proposition that the nature of service rendered by the non-residents would come within the ambit and sweep of expression ‘consultancy service’ and hence, tax should have been deducted at source as the amount paid as fee could be taxable under the head ‘fee for technical service’.

15. With regard to the commission paid to IMCS for Augusta project, he observed that it was merely for introducing Augusta SPA, based in Italy in assisting and executing agreement with Augusta and the commission payment are not commensurate with the services rendered. In Augusta Westland helicopter deal, CBI has taken investigations and conducted search at the premises of the Director of the company and therefore, these payments are of illegal nature and not allowable as per Explanation to section 37(1) of the Act. In view of these, the learned CIT (Appeals) dismissed the ground raised by the assessee and held that in the absence of non-deduction of TDS under section 195 of the Act, these expenditure are not allowable to the assessee.

16. Aggrieved by this, the assessee has come up in appeal before us. The learned counsel for the assessee made elaborate submissions with regard to various contentions raised before the Assessing Officer as well as before the learned CIT (Appeals). Briefly, the summary of the submissions made by the learned counsel for the assessee was that the liability for deduction of tax arises on such payments only if non-resident is liable to taxes in India. For this, the provisions of section 195 and section 9 of the Act were brought to our attention. He further argued that all these payments are related to the business of the non-resident entities and as per section 9(1) of the Act, these incomes are not taxable if these entities have no business connection or permanent establishment in India. Reliance was placed on a number of judgments on this issue. He further stated that the income accrues at the place where services are performed. Since in the present case, the non-resident entities have performed services outside India, therefore, their income is not taxable in India. With respect to marketing, export service, business development outsource expenditure and communication expenses, it was stated that none of these activities are undertaken in India. The amount spent can neither be said to have accrued or arisen in India in the absence of any business connection in India.

17. Section 90 of the Act provides that where the Central Government has entered into an agreement with the Government of any country outside India for avoidance of double taxation, then in relation to an assessee belonging to such country, the provisions of Income Tax Act shall apply to the extent they are more beneficial to the assessee. In view of the fact that even as per the provisions of respective DTAAs these amounts cannot be taxed in India, therefore liability of the assessee to deduct tax at source on these payments does not arise.

18. With respect to the payment made to IMCS, it was stated that no search of CBI has taken place in the case of the assessee and no adverse finding in the form of any order etc. is there against the assessee. In view of these, it was stated that these payments are not in violation of any legal enactment. Therefore, these cannot be disallowed as per the provisions of section 37(1) of the Act.

19. The learned D.R. at the time of arguments, stated that the learned CIT (Appeals) has held that the payments made by the assessee to its wholly owned subsidiaries in USA and UK and also to some other entities abroad partake the character of ‘fees for technical services’ (FTS). The taxability of FTS in the hands of nonresidents is covered under section 9(1)(vii) of the Act. The Explanation to section 9 of Finance Act, 2010 with retrospective effect from 1.6.1996 states that the income of a non-resident shall be deemed to accrue or arise in India under clause (vii) i.e. FTS and shall be included in the total income of the assessee whether or not the nonresident, his residence or place of business or business connection in India or non-resident has rendered service in India. In view of this legal position, he argued that the assessee was required to deduct tax at source on such payments as per the provisions of section 195 of the Act. Therefore, the provisions of section 40(a)(i) of the Act are clearly applicable to the present case. Detailed submissions were made by him with regard to the different payments made by the assessee and a copy of the written submissions was also filed on record. Summary of his arguments was that in the absence of nature of services being rendered by the non-resident entities, being coming out of the agreements with those concerns or invoices raised by these concerns, in the absence of agreement, it should be presumed that the services were of the nature of ‘fees for technical services’. Reliance was placed on a number of judgments, whereby the activities were held to be in the nature of ‘fees for technical services’. Without prejudice to this argument, it was also stated that even if we go to the respective DTAAs, in the absence of nature of services rendered coming out from the record it is to be presumed that the services were rendered to ‘make available’ some technical services to the assessee. These submissions were made with respect to the finding of the learned CIT (Appeals) that the payments made by the assessee to the non-residents are in the nature of ‘fees for technical services’ in the hands of such foreign entities. For other finding with regard to business connection or some payments made by the assessee being illegal in nature, he placed reliance on the order of the learned CIT (Appeals).

20. In the rejoinder, the learned counsel for the assessee vehemently argued that the learned CIT (Appeals) has not given any categorical finding characterizing the services rendered being in the nature of ‘fees for technical services’. Therefore, the issue of ‘fees for technical services’ does not arise in the present case. Without prejudice, it was stated that even if assuming for argument sake that such services qualify as ‘fees for technical services’, it has to be seen whether these services will qualify as fees for included services as mentioned in Article-12 of India US DTAA. The extract of this article of the treaty was placed on record. It was further emphasized that the perusal of Article-12 of the India US DTAA shows that the ‘fees for technical services’ clause under DTAA would be said to be satisfied only if the knowledge, skill, etc. is ‘made available’ to the service recipient. Reliance was placed on a number of judgments in this regard.

21. We have heard the learned representatives of both the parties, perused the findings of the authorities below and considered the material available on record. The facts as culled out by us from the perusal of the orders of the lower authorities as well as submissions oral and written filed by both the parties before us, are that the issue is with regard to the disallowance made by the Assessing Officer invoking the provisions of section 40(a)(i) of the Act, whereby on certain payments made to non-resident entities, the assessee failed to deduct tax at source. The impugned payments made to the respective non-resident entities are as follows :

Communication expenses Commission Legal & professional Marketing & selling Business Development Outsourcing
B.V. Design Products, Netherland 1,26,794 5,63,949
Movates, Netherlands 1,33,661
Dilenbech Finley, USA 28,06.949
Steven Intl. USA 9,57,088 7,95,603 1,80,054
Van Memm & Wisselink, Netherlands 31,82,154
IDS Infotech, UK 21,29,762
IDS Infotech, USA 2,08,87,085 1,39,86,202
IMCS, Tunisia 73,79,858
TOTAL 1,26,794 83,36,946 69,17,950 2,35,80,796 1,80,054 1,39,86,202
TOTAL- 5,31,28,742/=

22. Out of these non-resident entities, entities, namely IDS Infotech (UK Ltd.), IDS America (USA INC) and BV Designs, Netherland are the wholly owned subsidiaries of the assessee company. Apart from this, with regard to the payments made to IMCS, other issues have also been raised by the Assessing Officer. One is with regard to comparison of the payments made to this concern with the other concern and other is whether payment made to this concern is not to be allowed to the assessee in view of the provisions of Explanation 1 to section 37(1) of the Act. The learned CIT (Appeals) has though confirmed the finding given by the Assessing Officer. However, in some passing reference he also apprehended that these payments may be in the nature of ‘fees for technical services’.

23. The learned counsel for the assessee made elaborate submissions with regard to the fact that these payments are not chargeable in the hands of the recipient. Therefore, no tax is deductible on the same. Therefore, provisions of section are not applicable on the same. Submissions were made with regard to alternative contentions raised by the Assessing Officer in respect of payment to IMCS. With respect to the reference of the learned CIT (Appeals) on the payments being in the nature of ‘fees for technical services’. The learned counsel for the assessee vehemently argued that no such finding has actually been given by the learned CIT (Appeals). However, he also made submissions that for the conclusion that these payments were in the nature of ‘fees for technical services’, one has to go to the provisions of DTTA also. The learned D.R. on the issues raised by the Assessing Officer placed reliance on the order of the learned CIT (Appeals), while with regard to the issue of ‘fees for technical services’ raised by the learned CIT (Appeals), his submission was that in the absence of exact nature of services rendered by the assessee, coming out of the various agreements and invoices, it is to be presumed that the payments are in the nature of ‘fees for technical services’. With respect to the DTAA also, his submission was that in the absence of any such nature coming out of record, it is to be presumed that the services have been ‘made available’ to the assessee. Therefore, the same is exigible to the provisions of tax deduction at source.

24. Now the issues for adjudication, coming in this background, before us are as follows :

(i) Whether the impugned payments are of the nature, whereby the provisions of TDS are applicable, in the absence of which the disallowance is called for under section 40(a)(i) of the Act.
(ii) With respect to payments made to IMCS, whether the Explanation to section 37(1) of the Act is applicable to the said payments.
(iii) With respect to payment made to IMCS, whether the same is unreasonable in comparison to payment of same nature made to other entities.
(iv) If the payments, as such, are not exigible to the provisions of TDS, whether these are in the nature of ‘fees for technical services’. As such, the tax is to be deducted out of these payments.

25. The basic issue is whether the tax is to be deducted while making these impugned payments. The Assessing Officer has invoked the provisions of section 40(a)(i) of the Act in this regard. The provisions of section 40(a)(i) of the Act to the extent relevant in the present case reads as under:

“40(a)(i) Notwithstanding anything to the contrary in [sections 30 to 38], the following amounts shall not be deducted in computing the income chargeable under the head “Profits and gains of business or profession”:

(a) in the case of any assessee—
[(i) any interest (not being interest on a loan issued for public subscription before the 1st day of April, 1938), royalty, fees for technical services or other sum chargeable under this Act, which is payable,—
(A) outside India; or
(B) in India to a non-resident, not being a company or to a foreign company,

on which tax is deductible at source under Chapter XVII-B and such tax has not been deducted or, after deduction, has not been paid [during the previous year, or in the subsequent year before the expiry of the time prescribed under sub-section (1) of section 200]:

[Provided that where in respect of any such sum, tax has been deducted in any subsequent year or, has been deducted in the previous year but paid in any subsequent year after the expiry of the time prescribed under sub-section (1) of section 200, such sum shall be allowed as a deduction in computing the income of the previous year in which such tax has been paid.]

Explanation : For the purposes of this sub-clause,—

(A) “royalty” shall have the same meaning as in Explanation 2 to clause (vi) of sub-section (1) of section 9;
(B) “fees for technical services” shall have the same meaning as in Explanation 2 to clause (vii) of sub-section (1) of section 9;

26. The most important terms in the provisions of this section are ‘on which tax is deductible at source’ under Chapter-XVII, meaning thereby that only those payments made to non-residents on which tax is required to be deducted as provided under the relevant Chapter, the provisions of this section can be invoked. Chapter-XVII deals with collection and recovery of taxes while part-B of this Chapter deals with tax deduction at source, the provisions relating to tax to be deducted out of payment made to a non-resident are provided in section 195 of the Act, which read as under :

“195(1) Any person responsible for paying to a non-resident, not being a company, or to a foreign company, any interest (not being interest on securities) or any other sum chargeable under the provisions of this Act (not being income chargeable under the head” Salaries”]) shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force: ”

27. The most important terms in this section are “chargeable under the provisions of this Act”. From this, it is very clear that only if an amount is chargeable under the Income Tax Act, the liability to deduct tax on the payment of such amount arises. Charge of income tax is provided under section 4 of the Act, while scope of total income is provided in section 5 of the Act. The provisions of section 5 of the Act relating to scope of total income in respect of a non-resident are provided in sub-section (2) of said section, which read as under:

“5(2) Subject to the provisions of this Act, the total income of any previous year of a person who is a non-resident includes all income from whatever source derived which-

(a) is received or is deemed to be received in India in such year by or on behalf of such person; or
(b) accrues or arises or is deemed to accrue or arise to him in India during such year. Explanation 1-Income accruing or arising outside India shall not be deemed to be received in India within the meaning of this section by reason only of the fact that it is taken into account in a balance sheet prepared in India.

Explanation 2 – For the removal of doubts, it is hereby declared that income which has been included in the total income of a person on the basis that it has accrued or arisen or is deemed to have accrued or arisen to him shall not again be so included on the basis that it is received or deemed to be received by him in India.”

28. From the bare perusal of the provisions of the above section, it is quite clear that a non-resident is chargeable to tax if it receives or deemed to receive any amount in India. The provisions emerging from the analysis are very clear that, when income accrues, arises or received in India, the same is taxable. Income which is deemed to accrue or arise in India is taxable in India, even if the same is not actually accrues, arises or receives in India.

29. In the present case, this is not in dispute that the amount is not received or deemed to be received in India. The second situation under which the receipt of non-resident is taxable is if the income accrues or arises or is deemed to accrue or arise in India. Undoubtedly, in the present case no income has accrued to the nonresident person in India. The dispute may be only with regard to the impugned amount being income ‘deemed to accrue or arise in India’. Various instances of income considered to be deemed to accrue or arise in India to a non-resident are provided in section 9 of the Income Tax Act. For the purpose of adjudicating the issues arising in the present appeal, the relevant provisions are that of section 9(1)(i) of the Act, which read as under :

“9 (1) The following incomes shall be deemed to accrue or arise in India—

(i) all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India, 135[***] or through the transfer of a capital asset situate in India;

[Explanation 1]: For the purposes of this clause—

(a) in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India;
(b) in the case of a non-resident, no income shall be deemed to accrue or arise in India to him through or from operations which are confined to the purchase of goods in India for the purpose of export;
** ** **
[(c) in the case of a non-resident, being a person engaged in the business of running a news agency or of publishing newspapers, magazines or journals, no income shall be deemed to accrue or arise in India to him through or from activities which are confined to the collection of news and views in India for transmission out of India;]
[(d) in the case of a non-resident, being—
(1) an individual who is not a citizen of India; or
(2) a firm which does not have any partner who is a citizen of India or who is resident in India; or
(3) a company which does not have any shareholder who is a citizen of India or who is resident in India, no income shall be deemed to accrue or arise in India to such individual, firm or company through or from operations which are confined to the shooting of any cinematograph film in India;]

[Explanation 2: For the removal of doubts, it is hereby declared that “business connection” shall include any business activity carried out through a person who, acting on behalf of the non-resident,

(a) has and habitually exercises in India, an authority to conclude contracts on behalf of the non-resident unless his activities are limited to the purchase of goods or merchandise for the non-resident; or
(b) has no such authority, but habitually maintains in India a stock of goods or merchandise from which he regularly delivers goods or merchandise on behalf of the non-resident; or
(c) habitually secures orders in India, mainly or wholly for the non-resident or for that non-resident and other non-residents controlling, controlled by, or subject to the same common control, as that non-resident:

Provided that such business connection shall not include any business activity carried out through a broker, general commission agent or any other agent having an independent status, if such broker, general commission agent or any other agent having an independent status is acting in the ordinary course of his business :

Provided further that where such broker, general commission agent or any other agent works mainly or wholly on behalf of a non-resident (hereinafter in this proviso referred to as to the principal non-resident) or on behalf of such non-resident and other non-residents which are controlled by the principal nonresident or have a controlling interest in the principal nonresident or are subject to the same common control as the principal non-resident, he shall not be deemed to be a broker, general commission agent or an agent of an independent status.]”

30. We are to judge from the facts and circumstances of the present case whether the impugned payments are deemed to accrue or arise in India to the respective recipients, as we have already mentioned that only those payments which are of the nature of sum chargeable under the provisions of the Act are exigible for provision of tax deduction at source. Here we are inclined to refer to the judgment of the Hon’ble Supreme Court in the case of G.E. India Technology Centre Pvt. Ltd. Vs. CIT (2010) 327 ITE 456 (SC), whereby it has been held that section 195 (1) of the Act uses the expression ‘sum’ chargeable under the provision of the Act and weightage is needed to be given to these words. Further, section 195 uses the word ‘payer’ and not the word ‘assessees’. The payer is not assessee. The payer becomes an assessee in default only when he fails to fulfill statutory obligation under section 195(1) of the Act. If the payment does not have the element of the income, the payer cannot be made liable. The Hon’ble Supreme Court thus rejected the contention of the Department by holding that if the sum paid is not chargeable to tax, then no tax is required to be deducted.

31. From the reading of the A.O.’s order, we do not understand his case. Nowhere in the entire order he has given any finding as to whether the nature of income in the hands of the non-resident is that of ‘income accrued in India’ or ‘income deemed to have accrued’ in India. He just kept on harping the fact that the ultimate beneficiary of the services is the assessee in India. Even the CIT (A) while adjudicating the issue could not give any appropriate finding in this regard. The relevant portion of the CIT (A)’s findings are recorded at page 12 para 10.3, in later part of this paragraph, he states as under:

“The payment are made by the appellant company and these are in the nature of marketing support services and selling expenditure for getting more and more business abroad. The services provided by the nonresident entities for promoting sales and legal/profession services are as per the terms of contract which is entered by these entities within the appellant company with the responsibility of the appellant company. Therefore the source of income for the entities abroad is the agreement with the appellant company and by virtue of these services there is a direct benefit to the appellant company and hence the payment made by the Indian company for services utilized is not in connection with business/profession carried out, outside of India. The business outside India is secured by the Indian company i.e. the appellant company. The source of income for the services rendered by the nonresident entities is in India as the Indian company gives directions for the work abroad. Therefore the income for the nonresident accrues and arise in India.”

Here also the CIT (A) is getting confused by the fact that the source of income is in India. There is no doubt that the Indian company has made the payment and also the fact that the payments have been made in consideration for some services rendered by the non residents. However the moot question is where the services, in respect of which the payments have been made, were rendered.

32. As per the provisions of section 9(1) of the Act, the income is deemed to accrue or arise in India if it is directly or indirectly through or from any business connection in India. Further, the business connection has to be an activity of the non-resident in the taxable territory is India having intimate and near relation of a continuous nature of the business of the non-resident and attributed to the earning profits by the non-resident in his business. We should understand that all commercial relations will not necessarily constitute business connection unless a commercial connection is really and intimately connected with the business activity of nonresident in India and is contributory to the earning of the profits in the said activity of the non-resident. Some illustrative instances of non-residents having business connection in India have been quoted in the judgment of the Hon’ble Supreme Court in the case of R.D. Aggarwal (supra), which are as under :

(i) Maintain a branch office in India for purchase or sale of goods or transacting other business.
(ii) Appointing an agent in India for systematic and regular purchase of raw material or other commodities, or for sale of non-resident goods or for other business purposes.
(iii) Erecting a factory in India where raw produce purchased locally is worked into a firm suitable for sending abroad.
(iv) Forming local company to sale products of non-resident parent company.
(v) Having financial association between the resident and non-resident company.

These activities have been culled out from the judgement by the CBDT itself in its circular No. 23 [F.NO. 7A/38/69-IT (A-11)], dated 23.07.1069.

33. In the present case, no finding has been brought on record by any of the lower authorities that nonresident entities have any such connection with India as illustrated above. All along the assessee has been maintaining that the non-resident entities to whom it has made the payments do not have any business connection with India. The Assessing Officer as well as the learned CIT (Appeals) had nowhere in their orders recorded any such finding though we must add that they have not even intended to make any investigation in this regard. However, we also observe that this stance has been consistently taken by the assessee before the lower authorities as well as before us and even the learned D.R. while arguing before us could not controvert the said submission of the assessee. In this manner, we do not hesitate to conclude that no services were rendered by non-residents in India. This conclusion of ours is also based on the proposition as laid down by the Delhi High Court in the case of CIT v. EON Technologies Pvt. Ltd. [2012] 343 ITR 366 (Delhi).

34. In view of this, we find that the provisions of tax deduction at source are not applicable to the impugned payments as the amounts received by the recipients are not in the nature of income deemed to accrue or arise in India in their hands. Therefore, provisions of section 40(a)(i) of the Act cannot be invoked.

35. Though the definition of the incomes deemed to accrue or arise in India is provided in section 9 of the Act, we should not forget that the provisions of the Act are subject to the treaty entered by the Central Government with the Government of a country outside India in terms of the provisions of section 90 of the Act. Therefore, as in the present case payments have been made to the residents of those countries with whom India has entered into DTAA, the provisions of sections 5 and 9 of the Act shall be subject to the agreement entered into with such countries.

36. With regard to the fact that all these entities relate to the countries with whom India has DTAAs though in view of the finding given by us in the above paragraph that the amounts are not in the nature of income in the hands of the recipients, we need not go into the respective treaties, in view of the fact that the provisions which are beneficial to the assessee are to be taken care while fastening tax liability.

37. The basic principle to be applied in such cases is that one has to first look at the domestic law to find out if the non-resident assessee is taxable thereunder. If it is taxable, only then one has to go into the treaty, if any, between India and the country to which the non-resident belongs, to, find out if there is any beneficial provision in the treaty to exempt the assessee from taxation or reduce the rig ours of the domestic law. If there is such a provision in the treaty, the assessee is entitled to claim that it should be given the benefit of the treaty provisions. On the other hand, if the assessee is not taxable under the domestic law itself, there is no need to look into the provisions of the DTAA, even if one exists, to find out if there is any provision under which the nonresident can be brought to tax. In other words, the treaty cannot be used as a taxing statute. The principle is that where the non-resident is taxable under the domestic law but there is a provision in the treaty to exempt the transaction or reduce the rigor of taxation to the benefit of the non-resident, the provisions of the treaty override the provisions of the domestic law. These fundamental principles are well-settled by the judgments of the Supreme Court inP.V.A.L. Kulandagan Chettiar [2008] 267 ITR 654 (SC) and Azadi Bachao Andalon [2003] 263 ITR 706 (SC).

38. On going through the relevant article provided in the DTAA, we observe that invariably in all the DTAAs to which we are concerned, the income is taxable in India only if that foreign entity carries on business in India through a permanent establishment situated in India. We again observe that no such finding with regard to existence of any permanent establishment in India has been brought on record by any of the lower authorities or even by the learned D.R. at the time of hearing before us. In view of this, the position emerges that the payment to a person who happens to be a resident of country with whom India has entered into DTAA and where the business profits are taxed only in the country and does not have a permanent establishment in India, the said payments are not chargeable to tax in India. In view of this also, even as per DTAA, the income being not exigible to tax in India in the hands of non-resident entity, the assessee is not required to deduct tax at source. Therefore, the provisions of section 40a)(i) of the Act cannot be invoked.

39. Now comes the second question, the Assessing Officer has apprehended in his order that the payment made by the assessee to IMCS is not in consonance with the commission paid to other concern. From the perusal of the order of the learned CIT (Appeals) though we observe that he has not given any finding in this regard, even the Assessing Officer in his order has not given any categorical finding how the payment made to IMCS is not comparable to the commission payment made to Steven International. He has just tried to compare the services rendered by the Steven International involving the potential business segment, organizing meetings and liaison works with prospective clients, facilitation and redressal and settlement of disputes. Further referring to the services rendered by IMCS, he explained that these are concerned with the introduction and assistance in execution of an agreement and assisting in selling services and facilitating relationship with Augusta staff. In this background, he stated that the services provided by IMCS are not commensurate with the commission. Therefore, the services are not being rendered for the purpose of business and profession. There is no dispute with respect to the fact that both IMCS and Steven International are not related parties of the assessee company. Analysis of payment made to an entity which is not related in any way with the assessee is not an exercise expected from the Assessing Officer. We do not understand under what provisions the Assessing Officer is trying to make out the case that the payment made to IMCS are not commensurate with the work done by them. It is the prerogative of the businessman to run its business the way he wants. The Assessing Officer for the purpose of Income Tax Act cannot question the reasonableness of any such payment made by the assessee. Therefore, we do not find this allegation of the Assessing Officer backed by any legal provision. Incidentally, we would like to mention here that even if the Assessing Officer wants to assess the reasonableness of any payment made to any sister concern of the assessee, there is no doubt to the fact that the assessee has done detailed transfer pricing study in the relevant assessment year, which was subject to the reference under section 92CA(1) of the Act to the Transfer Pricing Officer and the Transfer Pricing Officer has suggested no adjustment with respect to the Arm’s Length Price on the transaction between the assessee and its associate enterprises.

40. Now the question arises whether the payment made by the assessee can be held to be in the nature of ‘fee for technical services’. There is no dispute with respect to the fact that the issue of ‘fees technical services’ was never raised by the Assessing Officer. In his order running into 22 pages he has nowhere mentioned and even nowhere showed his suspicion as regards the payment being in the nature of ‘fees for technical services’ that is the reason why at the assessment stage, the assessee was never confronted by any query with respect to the payments being that of the nature of ‘fees for technical services’. The contention of the learned D.R. before us was that the learned CIT (Appeals) has held these payments to be in the nature of ‘fees for technical services’. We have very carefully perused the order of the learned CIT (Appeals). Only at two places in his order he has mentioned the term ‘fees for technical services’. At page 13 he has stated as under:

“The issue in hand is to decide whether the service rendered by the nonresident entities and the payment made by the appellant company established business connection in India and as per the source of these payments, these are in the nature of fees for technical services.”

41. If we carefully analyze the above sentence, we can very easily infer that the learned CIT (Appeals) has not given any finding as to the nature of being ‘fees for technical services’. Therefore, from here we cannot conclude that the learned CIT (Appeals) has given a positive finding that the payments in question are ‘fees for technical services’.

42. On last page of his order at the conclusion of para (ii), he has again mentioned the word ‘fees for technical services’, which he expressed in following terms:

“The Hon’ble Supreme Court in the case of GVK Industries Ltd. [2015] 371 ITR has held that the nature of service rendered by the non-resident would come within the ambit and seep of expression ‘consultancy service’ and hence tax should have been deducted at source as the amount paid as fee could be taxable under he head ‘fees for technical services'”

43. From bare perusal of the above sentence one can very easily infer that the learned CIT (Appeals) here also has not given any finding, in fact here he is only referring to the judgment of Hon’ble Supreme Court in the case of GVK Industries Ltd.(supra).

44. In view of the above, we see that the learned CIT (Appeals) has not given any finding that the payments in question are ‘fees for technical services’ in nature. We understand the law that in case a payment is held to be in the nature of ‘fees for technical services’, the place of rendering services becomes irrelevant in view of the provisions of section 9(1)(vii) of the Act. However, even if the argument of the learned D.R. is accepted that the learned CIT (Appeals) has given a finding that these payments are ‘fees for technical services’, nowhere from the order of the learned CIT (Appeals) we see any effort being made by him to come to such a conclusion. It is not to be forgotten that the learned CIT (Appeals) assumes coterminus powers with that the Assessing Officer. In fact, he enjoys the powers of enhancement also. Therefore, in case he had any apprehension as to the real nature of the payment, who stopped him to carry out further investigations in this regard? In the absence of any finding given by the Assessing Officer or the CIT (Appeals) in this regard, we are not inclined to examine the case of the assessee with a view whether the payments are in the nature of ‘fees for technical services’ or not. It is not a case where certain queries were put either by the Assessing Officer or by the learned CIT (Appeals) to the assessee with respect to the payments being ‘fees for technical services’, which the assessee failed to reply. It is also not a case where the assessee had not co-operated with the lower authorities in order to find out the real nature of the payments made to the non-residents. All the relevant agreements and invoices were filed before the lower authorities. In view of this, the assessee cannot be punished at this stage without there being any fault of his, specially in view of the fact that even at the time of hearing before us, the learned D.R. could not bring any material or evidence in support of his claimed that the impugned payments were in the nature of ‘fees for technical services’. His only argument is that in the absence of the nature of services being rendered by non residents, coming out from the evidence filed by the assessee, the same should be presumed to be in the nature of ‘fees for technical services’. No such presumption exists in the Income Tax Act. No such presumption can be raised without any backing material or evidence on record. The argument of the learned D.R. that even if the provisions of DTAA are applied, in the absence of any services coming out from the evidences, it should be presumed that non-residents have ‘made available’ certain technical services to the assessee, is too farfetched. We are not inclined to entertain such a plea at this stage. In view of this also, we hold that the services rendered by the non-residents are not in the nature of technical services, no income deemed to have accrued to the non-resident entities, there is no liability on the assessee to deduct tax at source on such payment. Therefore, the provisions of section 40(a)(i) of the Act are not exigible in the present case.

45. We may clarify that we have not dealt with each expenditure specifically, since the issues involved in all these expenses were common and we did not find any inclination to deal each expenditure separately. Ground Noos.2, 3 and 4 are allowed.

46. The next question is with respect to payments made to IMCS amounting to Rs.73,79,858/-, whether attract the provision of Explanation 1 to section 37(1) of the Act. In this regard, no clear-cut finding of fact has been arrived at by any of the lower authorities as to what offence or an act prohibited by law has been done by the assessee. Even the Assessing Officer has made just a cursory mention of some search from CBI being carried out at the directors’ residence only. Even during the course of hearing before us, no clear facts were stated in this regard. In view of all this, we find it proper to send this limited issue to the file of the Assessing Officer to give a clear finding as to whether the provisions of Explanation 1 to section 37(1) of the Act are applicable to the facts of the case or not. The assessee should be given a proper opportunity of being heard in this regard. We would like to clarify here that the outcome of this ground will not effect our findings on other grounds of appeal, as the issue here is the allowability of expenditure while the other issues are disallowance of expenditure in view of the provision of section 40 (a)(i) of the Act. Ground No.5 raised by the assessee is allowed for statistical purposes.

47. In the result, the appeal of the assessee is partly allowed.

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