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Additional Commissioner Of Income-Tax v. Skoda Export, Praha.

Andhra Pradesh High Court

Oct 17, 1986

Judgment

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Structured Summary of the Opinion — B.P. Jeevan Reddy, J.

Factual and Procedural Background

This opinion arises from a reference under section 256(2) of the Income-tax Act, 1961. The referred question (quoted in the opinion) asked whether, on the facts and circumstances, any profits or gains accrued or had arisen to the non-resident in India on account of the supply of machinery and documentation to M/s. Bharat Heavy Plate and Vessels Ltd. for the assessment years 1969-70 and 1970-71.

Relevant factual background set out in the opinion:

On November 24, 1959, an economic co-operation agreement was entered into between the Government of India and the Government of Czechoslovakia concerning establishment of industrial plants in India.
On November 30, 1965, another agreement was entered into between the President of India and Technoexport, Praha, Czechoslovakia, for establishment of a plate and vessels plant in India.
Bharat Heavy Plate & Vessels Ltd., Visakhapatnam (a Government of India undertaking), was incorporated in June 1966.
The non-resident (M/s. Skoda Export, Praha) and the assessee entered into two agreements in 1968 (dated February 27 and August 2). The opinion concerns the second agreement of August 2, 1968, which was expressly for the delivery of machinery, equipment, instruments and spare parts and for rendering technical co-operation for erection of the plate and vessels plant at Visakhapatnam.
The second agreement provided that the machinery was to be delivered F.O.B. European port, with the time for fulfilment of delivery being the date of the bills of lading; payment of the purchase price was to be made outside India in eight equal annual instalments pursuant to a credit arrangement referred to in the economic agreement.
In the assessment proceedings one question was whether a business connection existed between the non-resident and the assessee; that question had been previously decided by this Court in favour of the Revenue in earlier proceedings.
The discrete question referred to this Court was whether any profit or gain accrued or arose in India to the non-resident on account of the supply of machinery and technical documentation for the specified assessment years.

Legal Issues Presented

Whether, on the facts and circumstances of the case, any profits or gains accrued or had arisen to the non-resident in India on account of the supply of machinery and documentation to M/s. Bharat Heavy Plate and Vessels Ltd. for the assessment years 1969-70 and 1970-71 (the principal question referred under section 256(2)).
Whether the question must be determined under section 9(1)(i) of the Income-tax Act (deeming income to accrue or arise in India through or from any business connection in India) rather than section 5(2) (this characterization was stated as not being in dispute and the court examined the matter under section 9(1)(i)).

Arguments of the Parties

Learned Standing Counsel for the Department

Contended that the sale of machinery was completed only in India because the assessee was entitled to inspect and satisfy itself about the quality and standard of the machinery supplied; on that basis the Department challenged the Tribunal's finding that the sale was completed outside India.

The opinion does not set out in detail any counter-arguments advanced on behalf of the assessee in adversarial form; rather, the Tribunal's findings and the terms of the agreement are described and relied on by the Court in the reasoning.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Bharat Heavy Plate and Vessels Ltd. v. Addl. CIT, [1979] 119 ITR 686	Establishment that a business connection existed between the assessee and the non-resident (combined reading of the two 1968 agreements). The case treats the sale as part of a broader business venture/connection.	The Court relied on the earlier holding that the sale of machinery formed part of a real and intimate business connection between the parties and was not an isolated transaction; that precedent supported the view that the sale was an operation within a multi-operation business venture.
Skoda Export v. Addl. Commissioner of Income-Tax, A.P., [1983] 143 ITR 452	Held that consulting fees earned by the non-resident as a result of operations carried out in India (constituting a business connection) did accrue or arise in India.	The Court noted that in that earlier decision the question in respect of consultancy fees was answered in the affirmative (in favour of the Revenue); the present question, by contrast, concerned profits from sale of machinery and was analysed differently under section 9(1)(i).
CIT v. Toshoku Ltd., [1980] 125 ITR 525 (SC)	Explains the effect of Explanation (a) to section 9(1)(i): where a business comprises operations inside and outside India, only such part of the income as is reasonably attributable to operations carried out in India shall be deemed to accrue or arise in India; operations carried out outside India are not to be taken into account.	The Court applied the principle from Toshoku Ltd. to hold that because the business venture comprised multiple operations (some in India, some out of India), the sale of machinery (an operation performed outside India) could not be taken into account in determining income deemed to accrue in India under section 9(1)(i).

Court's Reasoning and Analysis

The Court proceeded by reference to the text of section 9(1)(i) of the Income-tax Act and its Explanation (a). The core steps of the Court's legal analysis were:

The main clause of section 9(1)(i) treats "all income accruing or arising, whether directly or indirectly, through or from any business connection in India" as deemed to accrue or arise in India. If that clause stood alone, income from the sale of machinery would prima facie be income arising in India because the sale was part of the business connection between the parties.
Explanation (a) to section 9(1)(i) qualifies the main clause: where a business has operations both inside and outside India, only such part of the income as is reasonably attributable to operations carried out in India shall be deemed to accrue or arise in India; operations carried out outside India are excluded from the calculation. The Court cited CIT v. Toshoku Ltd. as authority for this principle.
The Court recognized that the overall business venture between the assessee and the non-resident comprised several operations (sale of machinery, consultancy services in India, training personnel in Czechoslovakia, supply of technical documentation and provision of personnel for erection of plant in India, etc.). Given that composition, the sale of machinery was one operation of the venture and, if performed outside India, could not be treated as income arising in India for purposes of section 9(1)(i).
The Court examined the specific contractual terms of the August 2, 1968 agreement and found that: delivery terms were F.O.B. European port; fulfilment of delivery was the date of the bills of lading; payment was to be effected outside India under credit arrangements; insurance risk during transit was that of the assessee; freight from the European port to destination was borne by the assessee. These contract terms demonstrate that the sale of machinery, as "goods" within the meaning of the Sale of Goods Act, was completed outside India.
The Court applied the "test of predominance" (i.e., looking at the totality of contractual provisions and the dominant features of the transaction) and concluded that the sale took place outside India. On that basis the Court agreed with the Tribunal's conclusion that the profit on the sale of machinery could not be taken into account for determining income deemed to accrue or arise in India under section 9(1)(i).
The Court addressed the Department's contention (that the sale was completed in India because the assessee could inspect and satisfy itself about quality and standard in India) and rejected it as insubstantial in the context of the contractual terms showing FOB delivery and payment outside India.

Holding and Implications

Holding: The question referred under section 256(2) is answered in the negative — i.e., in favour of the assessee and against the Revenue. The Court held that no part of the profit arising from the sale of machinery and related documentation was to be treated as accruing or arising in India for the assessment years in question.

Implications:

Direct effect on the parties: The non-resident's profits attributable to the sale of machinery (as per the August 2, 1968 agreement) were held not to accrue or arise in India for the relevant assessment years; consequently, those profits were not taxable in India under section 9(1)(i) for those years.
Apportionment under section 9(1)(i): Because the sale of machinery was found to have taken place outside India, there was no question of apportionment of that profit as income arising in India under Explanation (a) to section 9(1)(i).
Costs: The Court ordered that there shall be no order as to costs in the circumstances of the case.
Broader precedent: The opinion applies existing principles (notably the qualification in Explanation (a) to section 9(1)(i) and the test of predominance) to the contractual facts; the opinion does not announce any distinct new legal principle beyond applying those authorities to the facts before it.

Show all summary ...

B.P Jeevan Reddy, J.:— The question referred in this case under section 256(2) of the Income-tax Act, 1961, reads thus:

“Whether, on the facts and in the circumstances of the case, any profits or gains accrued or had arisen to the non-resident in India on account of the supply of machinery and documentation to M/s. Bharat Heavy Plate and Vessels Ltd. for the assessment years 1969-70 and 1970-71?”

2. On November 24, 1959, an agreement on economic co-operation was entered into between the Government of India and the Government of Czechoslovakia, Socialist Republic, concerning the establishment of certain industrial plants in India.

3. On November 30, 1965, another agreement was entered into between the President of India and the Technoex-port, Praha, Czechoslovakia, for the establishment of a plate and vessels plant in India.

4. Bharat Heavy Plate & Vessels Ltd., Visakhapatnam, a Government of India undertaking, was incorporated in June, 1966. The assessee entered into two agreements with M/s. Skoda Export, Praha, Czechoslovakia, on February 27, 1968, and August 2, 1968, respectively. In this case, we are concerned with the second agreement entered into on August 2, 1968, which was entered into expressly “for the delivery of machinery, equipment, instruments and spare parts and for rendering technical co-operation for the erection of plate and vessels plant at Visakhapatnam, India”. In this agreement, the non-resident is referred to as “the supplier” and the assessee as “the customer”. (The first agreement provided for training of personnel of the customer in Czechoslovakia, rendering of consultancy activities and technical assistance and supply of technical documentation, etc., with which agreement we are not concerned herein). The second agreement provided for the terms and conditions for supply of machinery. The machinery was to be delivered F.O.B European port and the time for fulfilment of delivery was the date of the bills of lading. This is made clear by articles 7, 9, 10, 11 and 15. The payment for the machinery was to be made by the assessee, according to the economic agreement entered into in 1959, in eight equal consecutive annual instalments. The first annual credit instalment was to be paid on the expiry of one year after the date of presentation by the non-resident to the bank at Czechoslovakia of the final commercial invoice, together with documents according to paragraphs 13 and 14 of article 11. The payment of purchase price was to be effected under the credit granted by the Czechoslovakia Government in the manner provided in article 15, clause (d). The sum and substance of this clause is that the purchase price was to be paid outside India.

5. A number of questions arose in the assessment proceedings, one of which was whether a business connection existed between the non-resident and the assessee. This question was concluded by the decision of this court in Bharat Heavy Plate and Vessels Ltd. v. Addl. CIT, [1979] 119 ITR 686, where it was held that a business connection did exist. It was held that a combined reading of the two agreements entered into in the year 1968 does establish a real and intimate connection between the assessee and the non-resident within the taxable territories, which amounts to a business connection. It was observed that there is an element of continuity between the business of both the assessee and the non-resident. Another aspect in dispute related to the fees paid for consultancy activity. The question was whether any income accrued of arose to the non-resident in respect of the consulting fee as a result of operations carried out by it within the taxable territories and which constituted a business connection. In Skoda Export v. Addl. Commissioner Of Income-Tax, A.P, [1983] 143 ITR 452, this Court answered the said question in the affirmative, i.e, in favour of the Revenue and against the assessee. Now, in this referred case, a third aspect arises for consideration, viz., whether any profit or gain accrued or arose to the non-resident in India on account of the supply of machinery and technical documentation to the assessee for the assessment years 1969-70 and 1970-71. It was held by the Tribunal and it is not in dispute that the question has to be examined in the light of the provisions of section 9(1)(i) of the Act and not section 5(2). Section 9(1)(i), in so far as it is relevant, reads thus:

“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, or through or from any money lent at interest and brought into India in cash or in kind or through the transfer of a capital asset situate in India.

Explanation.— 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….”

6. According to the main clause, all income accruing or arising, whether directly or indirectly, through or from any business connection in India, shall be deemed to be income accruing or arising in India. If this were the only clause, there is no doubt that the income arising by the sale of machinery would be income arising in India, notwithstanding the fact that the sale took place outside India. This is for the reason that the sale of machinery is not an independent or isolated transaction, but is part and parcel of the business venture, or business connection, between the assessee and the non-resident. The sale of machinery was in pursuance of and in terms of the agreements between them, which provided for setting up of Plate and Vessels Plant at Visakhapatnam, in India. But, Explanation (a) appended to clause (i) of section 9(1) seeks to exclude those operations which are not carried out in India. According to this Explanation, in the case of a business of which some operations are carried out in India and some outside India, the income of the business deemed under section 9(1)(i) shall be “only such part of the income as is reasonably attributable to the operations carried out in India” The Explanation contemplates a business comprising several operations, some of which are carried out outside India. In such a situation, only the operations carried out within India shall be taken into account and a reasonable portion thereof shall be treated as income accruing or arising in India. The operations which are carried out outside India shall not be taken into account for this purpose [see CIT v. Toshoku Ltd., [1980] 125 ITR 525 (SC) at pp. 530-531]. In the present case, it is not disputed that the business venture, or business connection, as it may be called, between the assessee and the non-resident comprised of several operations, viz., sale of machinery, providing consultancy services in India, training Indian personnel in Czechoslovakia, providing Czechoslovakian personnel for helping in the erection of plants in India and so on. Once this is so, it would follow that the sale of machinery which is one of the operations comprised in the business having taken place outside India cannot be taken into account for the purpose of determining the income accruing or arising in India. This is also the view of the Tribunal. On a consideration of the relevant clauses of the agreement dated August 2, 1968, the Tribunal held that the sale of machinery took place outside India and hence no part of the profit arising therefrom can be said to arise in India. Accordingly, there is no question of any apportionment of that profit under and for the purpose of section 9(1)(i). We agree with this view.

7. There was a good amount of controversy as to whether the sale of machinery is an isolated and independent transaction or is a part of the business venture between the assessee and the non-resident. We do not think there is any room for such controversy. The sale of machinery, though completed outside India, was not an independent or isolated transaction. It was a part and parcel of the business venture, or business connection, between the assessee and the non-resident. The sale of machinery was in pursuance of and one of the things to be performed under and in pursuance of the agreement entered into between them. This is also the view expressed by a Bench of this Court in Bharat Heavy Plate and Vessels Ltd. v. Addl. CIT, [1979] 119 ITR 986. The same view is expressed in the subsequent decision in Skoda Export v. Addl. Commissioner Of Income-Tax, A.P, [1983] 143 ITR 452 (AP) as well.

8. We may also mention that learned standing counsel for the Department challenged the finding of the Tribunal that the sale of machinery was completed outside India. According to him, the sale was completed only in India, inasmuch as the assessee was entitled to inspect and satisfy itself about the quality and standard of the machinery supplied. We do not see any substance in this contention. The various clauses in the agreement referred to above make it clear that the sale of machinery was F.O.B, European port, and the time of fulfilment of delivery was prescribed as the date of the bills of lading. The payment was also to be made outside India. The agreement further makes it clear that the insurance risk during the course of the journey was that of the assessee and it paid for the same: even the freight charges from the European port to the place of destination were paid by the assessee. Thus, judged from any angle, the sale of machinery, which are “goods” within the meaning of the Sale of Goods Act, was completely outside India. A mere provision in the agreement that the assessee is entitled to satisfy itself about the quality and standard of the machinery in India cannot, in the circumstances of this case, detract from the fundamental position that the sale took place outside India. In such a situation, one has to apply the test of predominance and decide where the sale took place? On a combined reading of the clauses of the agreement, we have no doubt that the sale of machinery did take place outside India.

9. For the above reasons, we answer the question referred to us in the negative, i.e, in favour of the assessee and against the Revenue. There shall be no order as to costs in the circumstances of the case.