Citation Codes

Equivalent Citations

citation codes

Case Number

Income-Tax Reference No. 101 of 1994

Judges

Tarun Chatterjee
S.N Bhattacharjee, JJ.

Acts

section 9(1)(vii) of the Income-Tax Act, 1961 (hereinafter referred to as the Act).
section 9(1)(vi) of the Income-Tax Act, 1961.
provisions of sections 9(1)(vi) and 9(1)(vii).
section 256(1) of the Income-Tax Act, 1961,
SECTION 90 INCOME TAX ACT 1961
section 9(1)(vi) of the Income-Tax Act
section 9(1)(vi) and section 9(1)(vii)
INCOME TAX ACT
upon.7. Section 9(1)(vi)
INDIAN INCOME TAX ACT
INCOME TAX ACT 1961

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Smart Summary

Structured Summary of the Opinion delivered by S.N. Bhattacharjee, J.

Factual and Procedural Background

This is a reference under section 256(1) of the Income-Tax Act, 1961. The tribunal referred five questions of law to the court concerning the tax treatment of sums received by the assessee-company (a foreign company registered in West Germany with its registered office at Stuttgart) in relation to design and technical services for the construction of the second Hooghly Bridge.

Key factual chronology (as stated in the opinion):

On July 19, 1974 the assessee entered into a design contract with the Hooghly River Bridge Commissioners (HRBC) for designing the second Hooghly Bridge. That contract (after extension) came to an end on December 31, 1978.
A new agreement was executed between the assessee and HRBC on April 18, 1980. The role of the assessee under the 1980 agreement was reoriented from "check consultant" to "prime consultant."
For the accounting year ending March 31, 1981 (assessment year 1981–82) the assessee filed a return showing nil income, asserting no permanent establishment in India and that the income was fees for technical services (s.9(1)(vii)), payable pursuant to an agreement made before 1 April 1976 and approved by the Central Government (thus relying on the proviso to the relevant provision).
The Income-Tax Officer (ITO) held that the April 18, 1980 contract was a new agreement made after 1 April 1976 and concluded that amounts payable were taxable under sections 9(1)(vi) and 9(1)(vii). The Commissioner of Income-Tax (Appeals) and thereafter the Tribunal upheld the ITO's view, holding that the 1980 agreement was a new agreement and that the assessee could not claim the benefit of the proviso to section 9(1)(vi).
The assessee applied to the Tribunal for reference under section 256(1). The Tribunal concluded that substantial questions of law arose and made the five questions of law referred to this Court.

Legal Issues Presented

Whether, on the facts and true interpretation of the relevant provisions of the Indo‑German Double Taxation Agreement (prior to its 1984 amendment), sums received by the assessee for design and technical services for the second Hooghly Bridge are chargeable to Income‑Tax under the Income‑Tax Act, 1961?
Whether the transfer of drawings, designs and technical services under the collaboration agreement constituted an out‑and‑out transfer of such rights and therefore could not be treated as "royalty" for the purpose of the Indo‑German Double Taxation Agreement and liable to Indian Income‑Tax?
Whether the sum received by the assessee for supply of designs, drawings and technical services constituted "industrial and commercial profits" for the purpose of the Indo‑German Double Taxation Agreement and thus not assessable in India, given the admitted absence of a permanent establishment in India?
Whether, even assuming the sums constituted "royalty," the agreement dated April 18, 1980 could be treated as a continuation of the July 19, 1974 agreement (which had been approved by the Central Government) so that the sum would be saved from Indian tax by the proviso to section 9(1)(vi)?
Whether, in any event, the sum received for the supply of designs, drawings and technical services constituted "fees for technical services" for the purposes of the Double Taxation Agreement and thus chargeable to Income‑Tax?

Arguments of the Parties

Appellant (Assessee) — Main Contentions (as recorded)

The April 18, 1980 agreement should be treated as a continuation of the July 19, 1974 agreement which had been approved by the Central Government; consequently the proviso to the relevant provisions (pre‑1 April 1976 approved agreements) would apply and the amounts would not be taxable in India.
The transfer of drawings, designs and technical services under the collaboration agreement was an outright (out‑and‑out) transfer of proprietary rights; the assessee did not retain proprietary rights and thus the payments cannot be treated as "royalty" in the ordinary sense.
The payments therefore constituted "industrial and commercial profits" under the Indo‑German Double Taxation Agreement and were not assessable in India because the assessee had no permanent establishment in India.
Because "royalty" was not defined in the Indo‑German Agreement, the term should be understood in its ordinary sense; the definition of "royalty" in Explanation 2 to section 9(1)(vi) of the Income‑Tax Act could not be applied to interpret the double taxation agreement.

Respondent (Revenue / Lower Authorities) — Main Contentions (as recorded)

The design contract executed on April 18, 1980, was a new agreement made after 1 April 1976 and therefore not covered by the proviso exempting pre‑1 April 1976 approved agreements; amounts payable under it were taxable under sections 9(1)(vi) and 9(1)(vii).
The payments in question were in the nature of royalty and not exempt under the Indo‑German Double Taxation Agreement; consequently they were assessable to tax in India.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Commissioner of Income‑Tax v. Davy Ashmore India Ltd., [1991] 190 ITR 626 (Cal)	Illustrates that where a Double Taxation Avoidance Agreement (DTAA) contains a definition of "royalty" it may differ from the statutory definition in Explanation 2 to section 9(1)(vi); if the DTAA defines "royalty" differently that definition governs for purposes of the DTAA and will prevail over the domestic statutory provision under section 90. Also articulates the principle that payments are royalty where the transferor retains proprietary rights and permits use (whereas an outright sale of the proprietary right is not royalty).	The Court relied on the logical framework of the precedent but distinguished it: Davy Ashmore concerned a DTAA (India‑UK) that did define "royalty," whereas the Indo‑German DTAA (relevant here) did not define the term. Because the Indo‑German agreement was silent, the Court applied the statutory definition in Explanation 2 to section 9(1)(vi) and concluded the payments constituted royalty.

Court's Reasoning and Analysis

The court proceeded through a sequence of linked legal determinations, each grounded in the factual record and statutory/contractual text set out in the opinion.

Character of the 1980 agreement: The court observed that (a) the role of the assessee under the 1980 agreement changed from check consultant to prime consultant; (b) there was a two‑year gap between the earlier contract (1974) and the 1980 contract; and (c) the 1980 agreement contained no clear statement treating it as a continuation of the 1974 agreement. The court quoted the contract language and concluded the 1980 agreement was a new and separate agreement. On that basis the proviso exempting pre‑1 April 1976 approved agreements did not apply.
Statutory framework: The court set out that section 9(1)(vi) treats income by way of "royalty" payable by a resident as taxable and section 9(1)(vii) treats fees for technical services similarly. The proviso to those sub‑sections exempts royalty or fees payable pursuant to agreements made before 1 April 1976 and approved by the Central Government. Because the 1980 agreement was held to be new, the proviso did not operate to exempt the sums.
Contractual indicia of retained rights: The court examined paragraph 4.3 of the April 18, 1980 agreement, which stated that original documents prepared by LuA were the property and copyrights of LuA and that HRBC was not entitled to use such documents beyond the contract works without prior consent of LuA. The court treated this clause as an indicium that the assessee retained proprietary rights over the designs and documents.
Definition of "royalty": Noting that the Indo‑German DTAA did not define "royalty," the court held that the statutory definition in Explanation 2 to section 9(1)(vi) must be applied. The court reproduced components of that statutory definition (transfer of rights in designs, imparting of information, use of designs, imparting technical information, transfer of copyrights, and rendering of services in connection with these activities).
Precedent analysis and its limits: The court discussed Commissioner of Income‑Tax v. Davy Ashmore India Ltd. which considered a DTAA that did define "royalty." The court observed that in Davy Ashmore a defined DTAA meaning prevailed over the statutory definition; however, because the Indo‑German agreement lacked such a definition, Davy Ashmore was distinguishable and did not displace the statutory definition here.
Application to facts and final classification: Applying the statutory elements of "royalty" to the contractual language (including paragraph 4.3), and in light of the court's finding that the 1980 agreement was a separate contract, the court concluded that the sums received by the assessee for designs and technical services were in the nature of "royalty" as defined in Explanation 2 to section 9(1)(vi). The court therefore rejected the contention that the payments were industrial and commercial profits not taxable in India due to lack of a permanent establishment. The court also held that the sums did not constitute "fees for technical services" for purposes of the agreement.

Holding and Implications

Holding:

The Court's answers to the referred questions were:

Questions Nos. 1 and 2: answered in the affirmative (the sums are chargeable to Income‑Tax in India and constitute "royalty").
Questions Nos. 3 and 4: answered in the negative (the sums do not constitute "industrial and commercial profits" and the 1980 agreement cannot be treated as a continuation of the 1974 agreement for the purpose of the proviso).
Question No. 5: answered that the sums do not constitute "fees for technical services" and are chargeable as royalty.

Core Ruling: The application under section 256(1) is disposed of and the Court holds that the sums received by the assessee are taxable in India as royalty under the Income‑Tax Act, 1961.

Implications

Direct effect on the parties: The sums received by the assessee for design and technical services under the April 18, 1980 agreement are taxable in India as "royalty" under the Income‑Tax Act, 1961. The assessee cannot rely on absence of a permanent establishment or on the contention that the 1980 agreement is merely a continuation of the 1974 approved agreement to avoid tax.
Interpretive principle applied: Because the Indo‑German DTAA (as relevant prior to amendment in 1984) did not define "royalty," the court applied the statutory definition in Explanation 2 to section 9(1)(vi) in classifying the payments. The court distinguished earlier decisions where the applicable DTAA did define "royalty."
Broader precedent: The Court relied on and distinguished prior case law (specifically Davy Ashmore) to articulate that where a DTAA is silent on the meaning of "royalty" the statutory definition may be invoked; the opinion does not purport to displace decisions where the applicable DTAA expressly defines the term.

Disposition: The reference under section 256(1) was disposed of in accordance with the answers delivered by the Court.

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Leonhardt Andra Und Partner, Gmbh v. Commissioner Of Income-Tax

The Judgment of the Court was delivered by

S.N Bhattacharjee, J.:— In this reference under section 256(1) of the Income-Tax Act, 1961, the following questions have been referred to this court:

“(1) Whether, on the facts and in the circumstances of the case and on a true interpretation of the relevant provisions of the Indo-German agreement for double taxation, prior to its amendment in 1984, the sums received by the assessee for design and technical services for the construction work, i.e, the second bridge over the river Hooghly is chargeable to Income-Tax under the Income-Tax Act, 1961 1

2. Whether, on the facts and in the circumstances of the case and on a true interpretation of the Indo-German agreement for double taxation, the transfer of the drawings, designs and technical services under the collaboration agreement constituted an out and out transfer of such rights and as such the sums received therefor could be treated as royalty for the purpose of the Indo-German Double Taxation Agreement and liable to Indian Income-Tax?

3. Whether, the sum received by the assessee for the supply of designs, drawings and technical services constituted ‘industrial and commercial profits’ for the purpose of the Indo-German agreement for double taxation and, as such, the same is assessable under the Indian Income-Tax Act, having regard to the admitted position that the assessee has no permanent establishment in India within the meaning of the said agreement?

4. Whether even assuming though not admitting that the sums received by the assessee constitutes royalty, the agreement dated April 18, 1980, can be treated as a continuation of the agreement dated July 19, 1974, which had been duly approved by the Central Government and as such the said sum is liable to be assessed under the Indian Income-Tax Act, in view of the proviso to section 9(1)(vi) of the Income-Tax Act?

5. Whether, in any event, the sum received by the assessee for the supply of designs, drawings and technical services constituted ‘fees for technical services’ for the purpose of the double taxation agreement and is chargeable to Income-Tax under the Income-Tax Act, 1961?”

2. On July 19, 1974, the assessee-company, a foreign company registered in West Germany with its registered office at Stuttgart, entered into a design contract with the Hooghly River Bridge Commissioners (for short “HRBC”), in connection with the design of the second Hooghly Bridge to be built over the river Hooghly. The HRBC was a statutory authority created by the State of West Bengal for the purpose of construction of the said bridge. Bhagirathi Bridge Construction Co. Ltd. (for short “BRBC”), was a contractor engaged for designing and constructing the bridge. The said design contract came to an end on December 31, 1978, after extension. Another agreement was entered into between the assessee-company and the HRBC on April 18, 1980. For the accounting year ending on March 31, 1981, relevant to the assessment year 1981–82, the assessee filed a return of income showing “nil” income. It was stated that the assessee had no permanent establishment in India and the services were entirely rendered outside India. It was further claimed that the only income earned by the assessee-company was by way of fees for technical services within the meaning of section 9(1)(vii) of the Income-Tax Act, 1961 (hereinafter referred to as “the Act”). It was further claimed that the fees were payable in pursuance of the agreement made before April 1, 1976, and approved by the Central Government and as such the said fees were not chargeable under the proviso to Explanation 1 to section 9(1)(vii) of the Act. The Income-Tax Officer was, however, of the opinion that the design contract executed on April 18, 1980, was a new agreement made after April 1, 1976, and, therefore, “the amount payable to the assessee by the resident in respect of the services rendered under the contract are taxable under the provisions of sections 9(1)(vi) and 9(1)(vii)”. He also did not accept the assessee's contention that these amounts were not taxable in view of paragraph 5 of Article III of the Agreement for Avoidance of Double Taxation between India and the Federal German Republic (hereinafter referred as as “the Agreement.”) On appeal the Commissioner of Income-Tax (Appeals) upheld the finding of the Income-Tax Officer that the amounts remitted to the assessee-company are in the nature of royalty and not exempt from taxation. The assessee approached the Tribunal. The learned Tribunal also upheld the decision of the Commissioner of Income-Tax (Appeals) by holding:

“As such, we agree with the lower authorities that the agreement dated April 18, 1980, is a new agreement. Therefore, the proviso to section 9(1)(vi) of the Act is not applicable to the instant case and the assessee cannot claim that the amounts receivable under this agreement are not to be treated as income of the assessee. On a careful consideration of the materials on record, facts and circumstances of the case, we hold that the assessee is not entitled to the benefit of the proviso to section 9(1)(vi) of the Act.”

3. The assessee-company made an application to the Tribunal for reference under section 256(1) of the Income-Tax Act, 1961, and the Tribunal having been satisfied that the points involved substantial questions of law made the reference as above.

4. All the points are interlinked and stem from the same question whether the remittances should be treated as royalty or fees for technical services.

5. It cannot be disputed that by virtue of the last agreement of 1980 between the assessee-company and the HRBC the role of the assessee was reoriented from check consultant to prime consultant.

6. This agreement was entered into after a gap of two years without any indication in the agreement itself that it is a continuation of earlier agreement dated July 19, 1974, which should be evident from the following paragraph of the contract,

“And whereas HRBC awarded LuA a separate consulting contract on July 19, 1974, and subsequently amended by a supplementary contract covering the supervision services to be carried out in Calcutta during the construction of substructure and superstructure of the bridge and which contract shall be brought into force with effect from the date mutually agreed upon.”

7. Section 9(1)(vi) provides that the income by way of royalty payable by resident is taxable and section 9(1)(vii) makes income by way of fees for technical services payable by the resident is taxable. The proviso to section 9(1)(vi) and section 9(1)(vii) exempts income by way of royalty or by way of fees for technical services payable in pursuance of an agreement made before the first day of April, 1976, and approved by the Central Government. Therefore, the argument of Dr. Pal, appearing for the assessee, that the contract of 1980 is the continuation of the contract dated July 19, 1974, which was approved by the Central Government and as such not chargeable under the proviso mentioned above is not acceptable by us. By the reason of our finding that the design contract executed on April 18, 1980, is a new agreement, we hold that the remittances received by the assessee are taxable in India. Thus, question No. 1, under reference is answered in the affirmative. The next question is whether the transfer of drawings, designs and technical services under the collaboration agreement constituted an out and out transfer of such rights and as such the sums received therefor could not be treated as royalty for the purpose of the Indo-German Double Taxation Agreement and liable to Indian Income-Tax. It has been contended by Dr. Pal that the assessee-company did not retain any proprietary right in the designs, drawings and technical services and as such there was an out and out transfer and the said amount in question did not constitute royalty as understood in the ordinary acceptance of the term. It was further contended that the said sum constituted “industrial and commercial profit” within the meaning of the Indo-German Double Taxation Agreement, the said sum is not assessable in India, in view of the admitted position that the assessee has no permanent establishment in India within the meaning of the said agreement. It was further contended that the term “royalty” is to be understood in its ordinary sense, in the absence of any definition under the double taxation agreement and the definition of “royalty” appearing in Explanation 2 to section 9(1)(vi) of the Income-Tax Act cannot be applied for interpreting the said expression.

8. In paragraph 4.3 of the agreement dated April 18, 1980, it is stated,

“All original documents prepared by LuA in connection with the works are the property and copy rights of LuA and HRBC shall not be entitled, either directly or indirectly to make use of such documents for the carrying out of any work beyond the works to which this contract relates, without the prior consent of LuA which consent however shall not be unreasonably withheld.”

9. In Explanation 2 to section 9(1)(vi) royalty has been defined so as to include the following,

“(i) the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property;

(ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property;

(iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property;

(iv) the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill;

(v) the transfer of all or any rights (including the granting of a licence) in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films; or

(vi) the rendering of any services in connection with the activities referred to in sub-clauses (i) to (v).”

10. Admittedly, royalty was not defined in the Agreement for Avoidance of Double Taxation between India and Germany and the term royalty was not included within the term industrial and commercial profits and the term royalty not being included in the Agreement for Avoidance of Double Taxation and had the present contract of 1980 being a continuation of the design contract of 1974 the assessee would not have been liable to pay Income-Tax in respect of the remittances received by it. Therefore, royalty having not been included in the Double Taxation Avoidance Agreement as also in the contract of 1974, the statutory definition has to be made applicable in the computation of Income-Tax. The definition of royalty as given in several judicial decisions completely agrees with the term of agreement as provided in paragraph 4.3 mentioned above. In Commissioner Of Income-Tax v. Davy Ashmore India Ltd., [1991] 190 ITR 626 (Cal), their Lordships had the occasion to consider the definition of royalty as given in the Agreement for Avoidance of Double Taxation between India and the U.K Their Lordships observed (page 632):

“It appears, therefore, that the term ‘royalty’ has been defined in the agreement to mean, inter alia, the payment of any kind including rentals received as consideration for the use of or the right to use any patent, trademark, design or model, plan, secret formula or process. Therefore, what is important to consider is that, in order that a payment may be treated as royalty for the purposes of article XIII of the Agreement for Avoidance of Double Taxation between India and the U.K, the person who is the owner of such patents, designs or models, plans, secret formula or process, etc., retains the property in them and permits the use or allows the right to use such patents, designs or models, plans, secret formula, etc. In other words, where the transferor retains the property right in the designs, secret formula, etc., and allows the use of such right, the consideration received for such user is in the nature of royalty. Where, however, there is an outright sale or purchase, as in the present case, the consideration is for the transfer of such designs, secret formula, etc., and cannot be treated as royalty.”

11. Their Lordships further held that the definition of royalty as provided in clause 3 of article XIII of the Double Taxation Avoidance Agreement between India and the U.K a different meaning to the term the royalty has been provided and it is different from the meaning given to term royalty in Explanation 2 to section 9(1)(vi) of the Income-Tax Act, 1961. In such a case it was held that in determining the liability of a non-resident company, if there is any Agreement for Avoidance of Double Taxation entered into under section 90 of the Income-Tax Act, 1961, the said agreement must prevail over the provisions of the Income-Tax Act; otherwise, there was no point in entering into any agreement for avoidance of double taxation. The facts of that case stand distinguished from the present case inasmuch as royalty was not defined in the Agreement for Avoidance of Double Taxation between India and Germany and as such the statutory provision will prevail.

12. From the discussion made above we hold that the sums received by the assessee for design and technical services for the construction work are in the nature of royalty which is taxable under the Income-Tax Act, 1961, and does not constitute industrial and commercial profits and as such the fact that the assessee has no permanent establishment in India is of little consequence. It has already been held by us that the agreement dated April 18, 1980, cannot be treated as a continuation of the agreement dated July 19, 1974, but a separate agreement and the sum received by the assessee is liable to be assessed under the Income-Tax Act, 1961, and is not saved by the proviso to section 9(1)(vi) of the Act. Therefore, the answer to questions Nos. 1 and 2 under reference are rendered in the affirmative and to questions Nos. 3 and 4 are rendered in the negative. We also hold that the sums received by the assessee in the instant case do not constitute “fees for technical services” and are chargeable to Income-Tax as royalty. Question No. 5 is thus answered accordingly. The application under section 256(1) is thus disposed of.

Leonhardt Andra Und Partner, Gmbh v. Commissioner Of Income-Tax

Structured Summary of the Opinion delivered by S.N. Bhattacharjee, J.

Factual and Procedural Background

Legal Issues Presented

Arguments of the Parties

Appellant (Assessee) — Main Contentions (as recorded)

Respondent (Revenue / Lower Authorities) — Main Contentions (as recorded)

Table of Precedents Cited

Court's Reasoning and Analysis

Holding and Implications

Implications

Leonhardt Andra Und Partner, Gmbh v. Commissioner Of Income-Tax

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