ORDER
1. The assessee as well as the revenue are in cross appeals for A.Ys. 2004-05 to 2008-09. The assessee has also preferred appeal for AY 2009-10. Since these appeals involve identical issues for adjudication, therefore, all these appeals were heard together and are being disposed of by a composite order for the sake of convenience.
2. Brief facts of the case are that the assessee is a tax resident of Republic of China and is engaged in the business of providing telecom equipments. During the previous year, relevant to the subject assessment year, the assessee was engaged in supply of telecom equipments to Indian Telecom operators. The assessee was also engaged in supply of mobile hand set to various customers in India. The assessee did not file its return of income as per the provisions of section 139 of the I.T. Act on the ground that it had no PE in India under the provisions of Article 5 of the Indo-China DTAA. On 6.10.2009 a survey u/s 133A was undertaken at the office premises of ZTE Telecom India Pvt. Ltd. at 6th Floor, Tower B, Building No. 10, Phase II, Gurgaon and New Mumbai, Thane. AO has observed that during the course of survey proceedings several incriminating documents were found, copies of which were made and inventorized. Statement of various senior executives including Mr. Huang Dabin, CEO of ZTE India, Dr. Dalip Kumar Ghosh, CMD ZTE India, Shri Hemant Kamboj Dy. Director Sales & Marketing and Mr. Rocky (Chinese name – Mr. Gan Yong) In-charge of Marketing, were also recorded. On the basis of these documents and statements, the AO was of the opinion that assessee had a business connection in India and its business had been carried through its PE in India and further income had accrued to the assessee during the relevant year from such business. Accordingly, notice u/s 148 was issued on 23.10.2009 requiring the assessee to file its return of income. The assessee filed its return declaring Nil income in pursuance to the notice u/s 148. Assessee in notes to the "statement showing computation of income" had stated that since it did not have PE in India, accordingly, the revenues were not taxable as business profits. The assessee filed detailed submissions vide letter dated 29.12.2009 and 31.12.2009. The contents of these letters have been reproduced in para 7.1 and 7.2 of the assessment order. The assessee gave detailed reasons that it had no fixed base PE, no dependent agency PE in India, no installation PE and no service PE. The assessee had also submitted that no part of profits of supplies could be attributed to the independent PE unless it was established by the department that the supplies were not at arm's length price. The AO after examining various statements, which established the operations being carried on in India and various documents, found in course of survey, concluded that the assessee was carrying on business in India through fixed base for sufficiently long period and, therefore, these fixed places had become permanent in nature. The AO finally concluded that assessee had fixed place PE, installation PE, dependent agency PE in India and, therefore, the revenues from the supply of telecom equipment and mobile hand sets were to be taxed in India as business profits. He, therefore, proceeded to determine the profits attributable to the assessee's PE in India. Before computing the profits he pointed out that the profits to the PE in India have to be computed separately in respect of hardware and software components of the telecom equipments and the mobile handsets. As regards the taxation of the revenues from software, he pointed out that the same was taxable as royalty.
3. As regards the attribution of profits to the PE in India in respect of hardware components of the telecom equipments and the mobile handsets as business profits under article 7 of the Indo-China DTAA, the AO observed that in course of assessment proceedings assessee submitted that it does not maintain any separate books of a/c for Indian operations. He, therefore, invoked Rule 10 of the Income-tax Rules for determining the income of the assessee. The AO referred to the decision of ITAT Delhi (Special Bench) in the case of Motrola Inc. v. Dy. CIT [2005] 95 ITD 269/147 Taxman 39 (in respect of Nokia Corporation, which was also involved in supply of telecom India Work equipment to Indian customers) and pointed out that ITAT Delhi Special Bench had affirmed that Nokia had PE in India and had attributed 20% of the net profit to the PE of Nokia in India . The AO attributed the profits to PE as under:
9.3 In China, the financial year is from January to December whereas in India it is from April to March. In view of this, weighted average net operating profit has been applied to the sales revenues to arrive at the profits made by the assessee from telecorn equipment and mobile phone handsets to Indian customers. 20% of such profits are considered attributable to the PE of the assessee in accordance with the provisions of Article 7 read with Article 5 of the India-China DTAA.
10. In view of the same, computation of income in the present case in respect of the hardware and mobile handsets is as follows:
As per the details submitted by the assessee, it has made the following sales in India:
*Sale of hardware component = 56.14% of Rs.1,33,16,020 = Rs.74,75,614
(*As per the assessee's submission the percentage of software component forming part of the telecom equipment is-
| AY. | Percentage | |
| 2010-11 | 54.87% | |
| 2009-10 | 55.71% | |
| 2008-09 | 48.95% | |
| 2007-08 | 15.92% |
The average percentage of the software component in the telecom equipment works out to 43.86%, which has been taken for the relevant year. Therefore, the hardware component of the telecom equipment works out to 56.14%).
The total sales made in India in the relevant year is Rs.1,24,00,254/-. (I+II)
As per the global financial statements of ZTE China, the net operating profit of the assessee for the calendar year 2003 is 7.32% and for 'the calendar year 2004 is 6.36%. For the period relevant to Financial Year 2003-04, applying the above basis, the net operating profit (by taking weighted average of the net profits of the two calendar years) is computed as follows:
(7.32*9+6.36*3)/12 = 7.08%
| Revenues earned from Indian operations is - | Rs. 1,24,00,254 | |
| Operating profit @7.08% as per the global | ||
| Financial statement submitted by the assessee | Rs. 8,77,938 | |
| Attribution rate applied | 20% | |
| Profits attributed to assessee's PE in India | Rs. 1,75,588 |
Therefore, the income of the assessee from sale of hardware component of the telecom equipments and handsets, which is attributable to the PE in India is Rs.1,75,588/-.
4. As regards taxation of the software embedded in the telecom equipment or provided to the customers separately, the AO had show caused the assessee as to why the payments received or attributed for the supply of software emedded in the telecom equipment or software supplied to the various customers in India should not be treated as royalty u/s 9(1)(vi) of the Act and also under Article 12(3) of the DTAA between India and China. The assessee had advanced following submissions, which have been summarized in para 11.1 of his order as under:
"The assessee has made submission in this regard vide letter dated 04th January, 2009 and the same is summarized as under:
(A) Factual Submission
(B) Legal Submissions
Revenue from sale of computer software is in the nature of payment for the use of copyrighted article as against payment for use of a copyright in the software and hence such payment shall not constitute royalty under India-China tax treaty.
In this regard, the assessee has relied on, the definition of the term "copyright" as given u/s 14 of the Indian Copyright Act, 1957. The assessee has further relied on the decision of Delhi Special Bench in the case of Motorola India vs DCIT (95 ITD 269). The assessee has further gone on to rely on a host of judicial pronouncement and also on the relevant part of the OECD commentary and commentary of Phillip Baker.
5. The AO also referred to the decision of the Authorities for Advance Ruling in the case of Worley Parsons Pty. Ltd. relied for the proposition that the payments for software should be taxed on case basis, since the same were not effectively connected to the PE of the assessee in India. The assessee in its reply distinguished this decision on facts and pointed out that AAR held so since no material evidence was placed by the assessee to demonstrate the role played by the PE under the PMS contract and its relationship with the royalty revenue earned under the BE &P contract. It was pointed out that the applicant was not able to demonstrate 'effective connection' between the B&P revenue and PE under the PMS contract. However, in the case of assessee software was integral and essential part of the telecom equipment that was supplied under the terms of consolidated offshore supply contract. The AO, however, did not accept the assessee's contention. He examined the various terms and conditions of agreement between the assessee and Spice Mobile Pvt. Ltd. and concluded as under:
From the above agreements the following crucial facts emerge:
6. From the above AO concluded that the payments made for the right to use the software was royalty as per clause (i), (iii) and (v) to Explanation to section 9(1)(vi). He pointed out that the software is a secret formula or process for the purpose of clause (i) and (iii) of Explanation 2 and was also a copy right as per clause (v) of Explanation 2. Further, such payments were also royalty under Article 12(3) of the DTAA between India and China.
7. As regards the assessee's plea, relying on the decision of ITAT Delhi Special Bench in the case of Motrolla Inc. (supra) that the payments for supply of software along with hardware are in the nature of business profits and not royalty, the AO observed that the department was in appeal before Hon'ble Delhi High court against this decision. He pointed out that the department was in appeal before various High Court and Hon'ble Supreme Court against similar decision passed by different Tribunals and High Courts. He, accordingly, held that payment received against supply of software was in the nature of royalty u/s 9(1)(vi) of the Act and also under Article 12(3) of India-China Tax Treaty.
8. As regards the assessee's submission that if the payments for the software was considered as royalty then since such royalty was effectively connected with the PE of the assessee in India and, therefore, could not be taxed on gross basis as per Article 12(5) of the DTAA between India and China. The AO pointed out that assessee had failed to establish that the rights, property or the contract in respect of which the royalty was payable, was effectively connected to the PE of the assessee in India. He, therefore, concluded that royalty was not effectively connected with the PE and, therefore, was not covered under Article 12(5) of the DTAA between India and china. The AO computed the income from supply of software at Rs. 58,40,406/- as under:
"13. As per the details submitted by the assessee, it has received an amount of Rs. 58,40,406/- [Rs.1 ,33, 16,020/- (representing total value of telecom equipment) - Rs.74,75,614/-(representing hardware component of the telecom equipment)] for supply of software from customers in India. This amount of Rs.58,40,406/- is treated as royalty under the Act and also under the Indo-China DTAA. As per Article 12(2) of the IndoChina tax treaty read with Section 90(2) of the Act, 10% of this amount i.e. Rs.5,84,040/- is the tax, which the assessee has to pay in India."
9. Being aggrieved with the assessment order, the assessee preferred appeal before ld. CIT(A), who after elaborate discussions has primarily held that:
10. Being aggrieved with the order of ld. CIT(A), both the assessee and department are in appeal before us.
11. First we take up the assessee's appeals:
12. Common grounds raised by the assessee for AY 2004-05 to 2008-09 are as under:
12.1 In A.Y. 2009-10 grounds of appeal raised by the assessee, assailing the assessment order passed by the AO, in pursuance to DRP directions, are as under:
Based on the facts and circumstances of the case and in law, the Appellant, respectfully craves leave to prefer an appeal under Section 253 of the Income tax Act, 1961 ("Act") against the order dated December l9, 2013, passed by the Additional Director of Income-tax, Range-3, International Taxation, New Delhi (hereinafter referred to as "Ld. AO") under Section 143(3) read with Section 144C(1) of the Act pursuant to the directions issued by the Hon'ble Dispute Resolution Panel ("Hon'ble DRP"), New Delhi, on the following grounds:
13. At the time of hearing, ld. counsel for the assessee submitted that he has instructions from his clients that the dispute between the assessee and department may be settled and, therefore, on the most contentious issue regarding the existence of PE in India, he has instructions not to press the same. Therefore, the only ground which remains for adjudication is ground no.7 regarding attribution of profits to PE.
14. Ld. counsel for the assessee submitted that the attribution @ 2.5% of sales as done by ld. CIT(A) is highly excessive. He pointed out that the attribution done by AO by applying 20% of the net global profit is reasonable. He pointed out that in AYs 2006-07 to 2008-09 assessee has paid market support separate fee to Indian AE which is at arm's length and, therefore, the profits earned by PE got subsumed in the same and, hence, no further attribution of profits is required.
15. Ld. CIT(DR) Shri Sanjeev Sharma submitted that considering the level of operations carried out by PE in regard to sale activities of assessee in India, ld. CIT(A)'s findings, as regards attribution of profits @ 2.5% of sale price, is quite reasonable and, therefore, may be upheld.
16. Ld. CIT(DR) submitted that as far as assessee's plea regarding marketing support services being paid at arm's length is concerned, the same is a separate activity and, therefore, the same is not to be considered for attribution of profits. He pointed out that market support service is presale service and, therefore, not part of attribution.
17. Ld. CIT(DR) submitted that in the case of Rolls Royce 35% profits have been attributed and in the case of M/s Nortel Networks India International Inc. 50% of the profits had been attributed.
18. We have considered the submissions of both the parties and have perused the record of the case. We have noted earlier that assessee had agreed for attribution of profits to PE without prejudice to his claim that there was no PE in India. Ld counsel has pointed out that there was endeavor on the part of assessee to end the protracted litigation with the revenue and to save judicial time and efforts. We are, therefore, only to confine ourselves to the quantum of attribution of profits to PE.
19. The fundamental principle governing the attribution of profits is that once the domestic case law has determined that business income has a source in the country, the mechanics of law then apply to calculate the amount of taxable profit. This involves determination of gross assessable income derived from the country, from which allowable expenses and past years losses carried forward are deducted to arrive at the net amount of income. This is a direct method for attribution of profit to PE. But, admittedly, assessee has not maintained any books of a/c relating to PE in India and, therefore, we have to resort to indirect method as prescribed in Rule 10 of the I.T. Rules for attribution of profits.
20. Measurement of profit is not an exact sign and this is particularly evident in the case of PEs because the taxing structure of resident state and the source state are never same. For the purpose of attribution of profits to PE, the most important aspect to be kept in mind is the level of PE's participation in the economic life of source country. It is primarily nexus between source country and the PE's activities which produce the taxable income to assessee.
21. Due to difference in taxing statute of country "R" and country "S", there cannot be exact synchronization of the amount of profits of a PE i.e. taxable in country "R" with that of the same PE operating in country "S". Consequently, the ordinary credit given by country "R" for tax paid by its resident to country "S", on the resident's income (as determined under the domestic case law of country "S"), will not be in respect of exactly the same amount of income that country "R" measures for the purposes of calculation of its tax credit. Article 23B of the OECD model DTAA provides that methodology is not an exact ssience but merely an acceptable estimate to give a result that more or less fairly removes the effect of juridical double taxation. This system works so long as the income tax systems of both countries are almost similar. All these basic principles are embodied in Article 7 of the DTAA between India-China which reads as under:
"ARTICLE 7 Business Profits
22. Rule 10 of the Income-tax Rules prescribes a method of determination of an income in the case of non-residents where exact profits cannot be calculated for want of sufficient information. The Said rule is reproduced hereunder:
"10. In any case in which the Assessing Officer is of the opinion that the actual amount of the income accruing or arising to any non-resident person 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 cannot be definitely ascertained the amount of such income for the purposes of assessment to income-tax may be calculated:-
23. In the present case, as noted earlier, since assessee did not maintain separate books of account, therefore, AO had invoked Rule 10(ii) and attributed 20% of net global profits arising out of revenues realized from India. However, ld. CIT(A) attributed 2.5% of entire sales revenue as per Rule 10(i) primarily relying on the decision in the case of Alcatel Lucent, France v. Asstt. DIT [2014] 151 ITD 534/50 taxmann.com 58 (Delhi-Trib) , inter alia, observing that Alkatel Lucent France, which was in the same line of business as assessee had accepted the same and did not contest in appeal.
24. The issue of attribution of profits depends on the facts in particular case and is fully dependent on the level of operations of the activities carried out in India. This is evident from Article 7 of DTAA and Explanation 1 to clause (i) of section 9(1). Facts in two cases cannot be identical. The AO had attributed only 20% (from AYs. 2004-05 to 2008-09) of the operating profit as per the global financial statement submitted by the assessee. This implies that 20% of the profits were generated on account of involvement of PE in the revenue generating structure and the 80% profit accrued in the resident state. However, for AY 2009-10, the AO has attributed 45% of the operating profit. Considering the different modes adopted by AO and ld. CIT(A), it becomes necessary to examine the level of operation carried out by PE in India so as to arrive at reasonable percentage of profit to be attributed to PE in India.
25. We have pointed out earlier that AO had held that there was fixed PE in India, dependent agency PE in India and installation PE in India. These findings were recorded on the basis of operations carried out in India which came to light after the survey was carried out. The detailed findings, as recorded by AO in AY 2009-10 primarily gives an indication of the level of operations carried out in India.
26. We, therefore, reproduce the findings of AO in AY 2009-10, which will give clear indication of the level of operations carried out by PE in India.
: Profit attributable to the l'frmanent Establishment
Since, revenues from supply of telecom equipments and mobile handsets are taxable in India as 'business profits', It is imperative to determine the profits that should be attributed to the I assessee's PE in India. The taxation of the "software" either embedded in the telecom equipment or provided to the customers separately has been discussed later in this order. Hence, it is clarified that the attribution of profits to the PE in India is ill respect of the "hardware component" of the telecom equipments arid the mobile handsets .
As per Article 7 of the India-China DTAA,
'The profits of an enterprise of a Contracting State shall be taxable only in that Contracting State unless the enterprise carries business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in the other Contracting State but only so much of them as is directly or indirectly attributable to that permanent establishment.
In this context the assessee vide order sheet notings dated. 22.03.2013 was asked to explain that based upon the facts and circumstances of the case why the appropriate profit is not attributed to the PE in India. The assessees vide its letter dated. 25.03.2013 has submitted that;
Assessee does not have a business connection or permanent establishment in India.
Article 7 of the India- China tax treaty provides for allocation of taxation rights between Contracting States relating to business profits.
without prejudice to the plea! contention that no PE is constituted for the assessee in India, even if it is assumed (without accepting) that assessee has a.PE in India, ~ly such profits as are directly or indirectly attributable to the PE of assessee in India shall be taxable in India.
The PE being has no role to play in the off-shore supply of material & hence no profits from off-shore supply are attributable to the PE.
Hence, in determining the profits attributable to a PE, it is necessary to determine the allocation of functions, risks and assets to the PE and the attribution of income to the PE under arm's length conditions,
The principle that if a correct arm's length price is applied and an agent is compensated accordingly, then nothing further would be left to be taxed in the hands of the foreign enterprise, has been laid down by the Apex Court of India, in the case of Morgan Stanley & Co. Inc. v. DIT
The same principle has been followed by the Hon'ble Bombay High Court in the case of SET Satellite (Singapore) Pte Limited ('SET') ( 307 ITR 205 ) .
The authorized OECD approach is to apply the arm's length principle of Article 9, as articulated in the Guidelines, to the attribution of profit to a PE using the arm"s length principle under Article 7(2).In the instant case, it is evidenced that the transfer pricing analysis of ZTE India for FY 2008-09 duly reflects the functions performed and risks assumed by ZTE India which is duly accepted by the transfer pricing officer.
In view of the provisions of the Article 7(2) of the India- China tax treaty and the aforesaid judicial precedents, it can be inferred that as long as the PE is being remunerated at arms' length price, nothing further may be attributed to the operations activities carried on by the PE of the foreign enterprise in India. Without prejudice to the belief that the assessee does not have a business connection or permanent establishment in India, it has submitted that the Act does not prescribe any specific methodology for attribution of income. Since the assessee is earning revenue in China from the sale of telecom equipments made to various countries, therefore consolidated global annual accounts are prepared in China.
The assessee's submissions are misplaced and without appreciation of the fact matrix which has emerged from the findings of this case as discussed in preceding paras. It is observed that the only the following transactions were referred to the TPO for benchmarking.
| Description of transaction | Amount (In Rs.) | |
| Sale of telecom equipment, spares, components & handsets | 42,14,73,291.00 | |
| Logistic support services | 34,94,21,178.00 | |
| repairs & maintenance services | 6,33,31,168.00 | |
| Administrative support services Total | 15,40,63,637.00 98,82,89,274.00 | |
| Total | 98,82,89,274.00 |
These transactions do not constitute the part of crucial key functions performed by the Fixed PE, Installation PE, Service PE and DAPE.
It is reiterated that business connection in respect of entire Revenue of Rs. 1,101.6 crore on account of Supply of Networking & Terminal Equipments has been established in India. It is also a .proven fact that the said transactions [excluding transactions on account of software] have taken place through the PEs in India/ effectively connected to the PEs. The functions performed in respect of transactions on account of supply of equipments and handsets with customers in India were not the subject matter of TP analysis before the TPO.
Since, all the functions were not the part of TP Study, the assessee's contention, that if a correct arm's length price is applied then nothing further would be left to be taxed in the hands of the foreign enterprise in light of the decision of Hon'ble Apex Court of India in the case of Morgan Stanley & Co. Inc. v. DIT is misplaced. The Hon'ble Supreme Court in this case has ruled that:
"As regards attribution of further profits to the PE of MSCo where the transaction between the two are held to be at arm's length, we hold that the ruling is correct in principle provided that an associated enterprise (that also constitutes a PE) is remunerated on arm's length basis taking into account all the risk-taking functions of the multinational enterprise. In such a case nothing further would be left to attribute to the PE. The situation would be different if the transfer pricing analysis does not adequately reflect the functions performed and the risks assumed by the enterprise. In such a case, there would be need to attribute profits to the PE for those functions/risks that have not been considered".
The Hon'ble SC has clearly ruled that if TP analysis does not adequately reflect all the functions performed, further attribution should be done for those functional risks that have not been considered.
In view of above, it is clear that the observations of Hon'ble SC in the case of Morgan Stanley are in respect of only those transactions/ functions which have been examined by the TPO for determination of Arm's Length price. Therefore, contention of the assessee that no further attribution can be done is misplaced and not acceptable.
Hence, it is imperative to analyze the functions performed [which do not form the part of TP documentation of ZTE India] by different forms of PE in India, which has emerged from survey findings, contract agreements and details submitted during the course of this proceeding. It is reiterated that ZTE China has not maintained any TP Documentation. However, the analysis is being done on the basis of documentation of Indian Subsidiary. These are discussed as under:
Functions performed for Distribution of Telecom Equipments and Mobile Handset as per TP Documentations of ZTE India submitted by the assessee
| Summary of functions performed by ZTE India as per TP Documentations | |
| Trading of Telecom equipment | |
| Procuring equipment from ZTE China | |
| Sale to the Indian customers | |
| Minor incidental activities regarding installation | |
| After sales services towards such contracts | |
| Sale of Telecom Equipments directly by ZTE China to Indian customers | |
| Provision of installation and post installation services | |
| This is not the subject matter of TP Study [admitted as per TP Documentation] | |
| Trading of Mobile Handsets for only one customer- Drive India Enterprise Solution Ltd. | |
| Purchase of mobile handsets from ZTE China for only one customer Resale to the said company | |
| Sales | |
| Does not take decision in strategic marketing activities. | |
| Tendering process | |
| ZTE China to actively participate to provide technical, marketing & commercial guidance and support in tendering process. ZTE China to review and approve the final contracts entered into by ZTE India | |
| Procurement | |
| Only upon securing orders from BSNL and TATA Telecom Products are sold from ZTE China to ZTE India on CIF Basis ZTE India to deliver goods to customers site Cost borne on logistics in India Minor incidental local procurements | |
| Packaging and Labeling | |
| Ready to sale products by ZTE China | |
| Invoicing and Collections | |
| ZTE India to issue invoices as sales contracts are entered by ZTE India with Indian customers | |
| Administration (Routine Functions] | |
| ZTE India's responsibility | |
| Logistic Support | |
| Logistic Support Services |
The functions mentioned above are as per the TP Documentation of Indian subsidiary submitted by the assessee before the TPO. However, during survey various facts contrary to the submissions of the assessee have been found. The survey findings give actual state of affairs. Therefore, all other functions which have been proved (supra) are not the part of TP Documentation or undertaken by ZTE India in contrary to the above mentioned functions. Hence, it can be easily concluded that most of the functions attributable to the PE have not been considered in TP Study/ TP Analysis. Summary of functions performed by PEs which are not the part of TP /Documentation
On the basis of analysis of statements of employees, survey documents, contract agreements and the Transfer Pricing documentations as discussed above, following functions of PEs are held to be not the part of TP analysis/TP Documentations
Therefore, in absence of India specific accounts and in view of the reasons cited above, the operating profit estimated at 7.5 %.Considering the scale of functions performed by the PEs (which are not included ill TP Documentations), 45 % of such profits are considered attributable to the PE of the assessee in accordance with the provisions of Article 7 read with Article 5 of the India-China DTAA. This profit is applied to the sales revenues (excluding collection of revenue on account of software) to arrive at the profits taxable on account of sale of telecom equipment and mobile phone handsets to Indian customers;
The assessee' has not submitted the breakdown of the revenue earned on account of sale of equipments/ handsets and software. However, they have submitted that the percentage of software revenue forming part of the telecom equipment is at 40% of the Revenue earned on account of Equipments. In other words the percentage of revenue on hardware component of telecom equipment/ handsets is 60%. On the basis of the submission of the assessee, the profit attributable to the PE is calculated as under:
| S. No. | Particulars | Amount in USD | Amount in INR @ of 50.53) as per IT Act 1961) | |
| 1 | Sales of Telecom equipment | 11,14,96,981.77 | 563,39,42,488.83 | |
| 2 | Sales of Terminal equipment | 10,77,05,271.94 | 544,23,47,391.12 | |
| 3 | Total | 21,92,02,253.71 | 1107,62,89,879.95 | |
| 4 | 60% of 3 above being estimated portion attributed to supply of Hardware | 664,57,73,928.00 | ||
| 5 | 7.5% of 4 above, being profit on account of supply of Hardware | 49,84,33,044.59 | ||
| 6 | 45% of 5 above, being profit attributable to the PE | 22,42,94,870.06 |
Therefore, the income of the assessee from sale of hardware component of the telecom equipments/ handsets, which is attributable to the PE in India is Rs. 22,42,94,870.06/- This amount is added to the Total Income of the assessee.
Objections was raised by the assessee before the DRP which have been dealt with vide para 4.4/4.4.1 by the DRP. It herein it has been held that insofar as attribution of income of PES concerned, the DRP has declined to interfere with the AO's order and assessee's objection is rejected. In view of the above amount of Rs. 22,42,94,870 is added to the income of assessee , beings profits attributed to PE of sale of Hardware component of telephone equipment/Handsets.
It is observed from the preceding paragraphs I am satisfied that the assessee has concealed particulars of his income and also has furnished inaccurate particulars of his income. In view of this penalty proceedings u/s 271 (1) ( c) is initiated separately.
27. Ld. CIT(A) has confirmed the findings of AO in regard to fixed PE in India and dependent agency in India but has not concurred with the findings of AO in regard to installation PE. The observations of ld. CIT(A) in regard to fixed PE in India are as under:—
'5.4 From above statements, it can be seen that ZTE Corporation China is supplying telecom equipments to customers in India. ZTE India which is wholly owned subsidiary of ZTE Corporation China is responsible for installation / commissioning of equipments Plied by the appellant. The contracts are negotiated and concluded in India by a team consisting of persons from ZTE India and ZTE China. The expatriates from ZTE China come to India to provide technical support services to ZTE India. All these activities go on to establish that the appellant has business connection in India within the meaning of section 9(1)(i) of the Act. The non-resident appellant is doing business activities in India which are not isolated instances, rather these represent real and intimate relationship between activities of the appellant done outside India and those done inside India. The business operations being done in India by the appellant are revenue generating as these operations are required to earn the contract and to meet with contractual obligations. Therefore, all the parameters of business connection as prescribed by various judicial authorities as mentioned supra are satisfied. Even the appellant has not taken any contention before AO during assessment stage that it does not have business connection in India. This fact has been mentioned in the assessment order itself by the AO.
5.2.5 In view of discussion supra, I hold that the appellant has business connection in India within the meaning of section 9(1)(i) of the Act The ground of appeal is therefore dismissed.
| ** | ** | ** |
6.2.2 To decide the issue involved, it is pertinent to go through contents of various statements reproduced supra which were recorded during the course of survey proceedings. The business model of the appellant is that it is supplying telecom equipments to customers in India and ZTE India which is a subsidiary of the appellant in India, is carrying out installation /commissioning of the telecom equipments supplied by the appellant. Analysis of various statements reproduced supra reveals that employees of the appellant come to India. These employees along with personnel from ZTE India go through the entire process of contract negotiation with Indian customer (Q. 3 in statement of Mr. Hemant Kamboj). The employees of the appellant in India help ZTE India personnel in preparation of bid documents. These employees also conduct in India direct meetings with Indian customers (Q.47 in statement of Sh. Huang Dabin). These employees provide all kinds of technical support to ZTE India be it tendering support, product support, post sales support etc. (Q.49 in statement of Sh. Huang Dabin, Q.8 & 9 in statement of Mr. Rocky, Q.6 & 7 in statement of Dr. Dalip Ghosh). All these employees work for ZTE Corporation China from following addresses in India (Q. 10 in statement of Mr. Rocky):
A. 6th floor, Building No. lOB, DLF Cyber City, Phase-Il, Gurgaon.
B. 2nd floor, B-Block, Salarpuria Hallmark, Plot No. 15&16, Kadubeesana Halli, Outer Ring Road, Bangalore.
C. Millenium Business Par Al8, Scetor-I, 2nd floor, A-wing, Mahape, Navi Mumbai
These addresses are offices of ZTE India and Chinese expatriates come to India and operate for ZTE China, the appellant, from these places.'
28. As regards the dependent agency PE, ld. CIT(A) has observed in paras 7.2.2 and 7.2.3 as under:
'7.2.2 Combined reading of these two clauses of Article 5 shows that Indian entity should be other than an agent of independent status and it should habitually exercise authority to sign contract on behalf of non-resident provided its activities are not of ancillary or auxiliary nature. In present case, ZTE India is performing installation activities in respect of telecom equipments supplied by ZTE Corporation to customers in India. It is not the case of the appellant that ZTE India is performing similar services for other such suppliers. Thus, activities of ZTE are devoted wholly or almost wholly on behalf of the appellant and hence it cannot be considered as agent of independent status. Further, even for technical input, ZTE India is wholly dependent upon the appellant. It is undisputed that employees of the appellant are always providing technical support services to ZTE India required for purposes of installation of equipment supplied by the appellant Therefore, even professionally speaking, ZTE India needs legs of the appellant to stand. It goes on to prove that ZTE India is not an agent of independent status.
7.2.3 Further, from perusal of various statements recorded during the course of survey proceedings, it is evident that negotiation of contract and is signing is done jointly by the team comprising persons from ZTE Corporation China and ZTE India. Reply to Q. 3 in statement of Sh. Hemant Kamboj reproduced supra is particularly relevant in this regard. Reply to Q. 7 in statement of Mr. Rocky clearly points out that even price negotiation is done by the employees of ZTE India on behalf of the appellant. Reply (c) to Q. 47 in statement of Mr. Huang Dabin shows that even bid documents in respect of equipment supply are prepared by ZTE India and the appellant provides support only. Therefore, it can safely be inferred that ZTE India is doing preparatory work, negotiating the contract and price and satisfying queries of the customers on behalf of the appellant. These activities being done by ZTE India are not in nature of ancillary or auxiliary activities as these are vital functions which are revenue generating. In such a situation, it becomes clear that ZTE India is habitually using its authority to negotiate and conclude contract on behalf of the appellant. Now, even if the contract is formally signed by the appellant after ZTE India has made it ripe, it does not change the ground reality. For this proposition, strength is derived from OEeD commentary on Article 5, which says:
"A person who is authorized to negotiate all elements and details of a contract in a way binding on enterprise can be said to exercise this authority in that state even if the contract is signed by another person in the state in which the enterprise is situated".
Agency PE is constituted when approval/signing of contract is a pure formality. In present case, contracts are negotiated by team comprising persons from ZTE China and ZTE India. Therefore, the appellant remains regularly informed about the status and terms of negotiation. Therefore, subsequent signing remains a pure formality especially in view of the facts that terms and conditions mentioned in contract document are more or less standard one. Further, place of signing of contract is irrelevant for constitution of agency PE. Only requirement is that business activity of agent should be pursued in the state where agency PE is to be constituted.'
29. Before arriving at any conclusion on the basis of aforementioned findings of lower revenue authorities on the level of operations carried out at PE in India, we will first refer to various case laws relied upon by both the sides.
30. The ld. counsel for the assessee relied on the ITAT Delhi Special Bench decision in the case of Motorola Inc. (supra) In this case the Tribunal in para 287 has observed that the only activities which the assessee carried on in India through its PE were
31. Tribunal further noticed the decision of Hon'ble Supreme Court in the case of CIT v. Ahmedbhai Umarbhai & Co. [1950] 18 ITR 472 (para 19), wherein the Hon'ble Supreme Court held that the income attributable to the manufacturing activity should be more than the income attributable to the activity of sale.
32. Tribunal further referred to the decision of Hon'ble Madras High Court in the case of Commissioner Of Income-Tax, Madras…Applicant; v. Anamallais Timber Trust Ltd.… [1950] 18 ITR 333 , wherein Hon'ble High Court had approved the Tribunal's decision that 10% of the income can be attributed to the signing of the contracts in India. Further, Tribunal referred to the decision of Hon'ble Calcutta High Court in the case of Commissioner Of Income Tax v. Bertrams Scott Limited [1987] 31 Taxman 444 (Cal.) (para 197)
"We have kept the principles laid down in these judgments in mind. In the present case, as already noted, in addition to the signing of the contracts in India, the preliminary negotiations for the contracts and the network planning were carried out through the PE. We may clarify here that the network planning activity is different from the activities which are of a preparatory or auxiliary character. In respect of signing of contracts, alone, the income attributed is 10%, in the decisions cited above. Two more activities have been carried out by the PE in India and, therefore, we have to attribute a higher income than what was attributed in the decided cases. The negotiations which ultimately lead to the signing of the contracts may involve more effort on the part of the PE and the signing of the contracts is only the fructification of those efforts. Obviously, therefore, the income attributable to the negotiations part should be more and in addition to the income attributable to the signing of the contracts. Some income has to be attributed to the network planning also. Taking all these into consideration, we consider it fair and reasonable to attribute 20~Qi the net profit in respect of the Indian sales as the income attributable to the PE. The following steps are involved in computing the income attributable to the PE."
33. The second decision on this issue is in the case of Huawei Technologies Co. Ltd. v. Asstt. DIT (International taxation) [2014] 149 ITD 323/44 taxmann.com 296 (Delhi) , wherein the Tribunal in para 12 took note of the fact that AO estimated operating profit and then attributed 20% towards the PE in India.
34. Dy. CIT v. Metapath Software International Ltd. [2006] 9 SOT 305 (Del.) . Ld. counsel referred to this decision and pointed out that AO had worked out 40% of total value of hardware supply as income attributable to PE. However, ld. CIT(A) after taking into consideration the contribution of PE towards earning of taxable revenue observed that since PE was merely doing job business of negotiations, profits attributable to PE were to be reduced to 8%. Tribunal upheld the ld. CIT(A)'s contention after considering the decision in the case of Motorola Inc. (supra). Tribunal, inter alia, observed that since PE was merely doing the job business of negotiation, therefore, 8% profits attributable to PE were in line with the requirement of Rule 10(2) of the IT Rules.
35. Ld. CIT(DR) referred to the assessment order passed in the case of Alcatel Lucent, France for AY 2006-07 and referred to para 6.6 at page 78 of the said order, which is reproduced hereunder:
"6.6. Assessee has submitted the annual. accounts of the group for the calendar years 2001 to 2008. However, this basis cannot be adopted because article 7(2) of the treaty provides that profits to be attributed to a permanent establishment are those which that permanent establishment would have made if, instead of dealing with its head office, it had been dealing with an entirely separate enterprise under conditions and at prices prevailing in the ordinary market. The business of the assessee group is growing at the fastest pace in India and Indian market has been a profitable market for the group; these are also supported by the continuous increase in efforts in India & the presence in India. The global profitability II does not reflect. the right perspective vis-a-vis profitability of sales made in India.
Further, for the purpose of attributing profits to the PE, some comparable entities were identified for benchmarking how much a full risk distributor is likely to earn. Based on same, a trading margin of 3.87% is found out, in this regard reference is made to point 2.6(a) of the show-cause notice dated 8.3.10. Assessee has not objected to the same except has claimed that on the group basis a payment of 0.88% of sales in India has been made to ALIL on account of marketing support services; which is arrived by taking into account the payments made to Indian entity, divided by total turnover by all the entities from FY. 2001-02 to FY. After that 2.99% remains. It has also been contended that the agent in India is performing minimal functions and taking minimal risks i.e. is a limited risk distributor and therefore a deduction is to be allowed relating to the risks not undertaken by ALIL on account of marketing, etc. After considering the reduction on these two accounts above; net income chargeable to tax, as attributable to the PE, is worked out @ 2.50% of the sale price. Similar reasoning has been followed by this office in calculating income of the assessee for the A Y -2007-08 in the draft assessment order-passed for that year.
The assessee has submitted the global financial results of the group. The company had earned an operating margin of 9:63% during the year 2004, which is an year before the merger of Alcatel & Lucent-took place. If the percentage of 35% (taking reference from the 'case of Rolls Royce (supra)) is applied on the same, a percentage of 3.37% is derived. Assessee has claimed that on the group basis a payment of 0.88% of sales in India has been made to ALIL on account of marketing support services. Further, if, out of 3.37% a deduction is allowed for payments made to ALIL, a figure of 2.49% will be arrived at. Considering the Rule 10 of the Income Tax Rules 1962 and the Article 7 of the DTAA in view of the discussion in this order and taking guidance from the pre-paragraphs, it is estimated that, on a net basis i.e. after reducing the payment made to Indian company for marketing support; 'an objective & reasonable profit attributed to the PE in India will be 2.50% of the turnover.
There are facts which were not disclosed earlier and as per the discussion above, satisfaction is hereby recorded that the assessee had concealed the particulars of its income inter alia by furnishing inaccurate particulars of its income. Penalty proceedings u/s 271 (1)( c) of the Income-tax Act 1961 initiated; separately."
36. Ld. CIT(DR) further referred to the appellate order passed in the case of Alcatel Lucent France and referred to para 5.8 of ld. CIT(A)'s order wherein ld. CIT(A) has, inter alia, observed as under:
"…. As mentioned in para 3.3 above, in respect of hardware sales, the ld. AO has estimated net profit chargeable to tax as attributable to PE in India @ 2.5% of the hardware sales made by appellant in India and the appellant has not disputed the findings of the ld. AO on taxability of hardware sales."
37. This remained the basis for assessment years 2004-05 and 2005-06.
38. Ld. CIT(DR) referred to para 9.2.3 of CIT(A)'s order, wherein it is observed as under:
"9.2.3 According to Article 7(2),- it is seen that profit attributable to PE has to be determined on separate entity basis. In present case, no TP study has been furnished by the appellant. Therefore, profit of PE can be determined only by resorting to provisions of Rule 10. However, the AO has made no attempt to find out comparable cases so as to arrive at % of profit attributable to Indian PE. It has been found that in another case namely Alcatel Lucent France, facts were similar. That entity is also engaged in same line of business as that of the appellant and is supplying telecom equipments to customers in India. The equipments so supplied were installed by its Indian subsidiary. A survey operation u/s 133A was also carried out in that case. Alcatel Lucent France has accepted and not contested in appeal that 2.5% of total sale revenue is attributable to PE in India as net profit subject to tax as business income. In my view, it shall be fair to adopt the same method in case under consideration. I have held in subsequent paras that revenue from sale of software is also to be taxed as business income in same manner as revenue from sale of hardware. Therefore, I hold that 2.5% of entire sale revenue (including hardware and software) is attributable to Indian PE as net profit to be taxed as business income. The AO has given different treatment to revenue from sale of hardware and software a;:d total tax effect in that case is more than what will be after giving effect to this appeal order. Therefore, this methodology does not amount to enhancement and hence no separate notice for that was given to the appellant. The ground of appeal is accordingly partly allowed."
With reference to aforementioned findings of ld. CIT(A), ld. CIT(DR) submitted that since Alcatel Lucent, France is carrying out similar activities as the assessee and is engaged in the same line of business as assessee and the operations carried out by Alcatel Lucent, France in India are almost similar, therefore, 2.5% of total sales revenue has rightly been attributed to PE by ld. CIT(A).
39. The next decision referred to by ld. CIT (DR) is Tribunal's order dated 13.6.2014 in the case of Nortel Networks India International Inc. v. Dy. DIT [2014] 65 SOT 158/49 taxmann.com 147 (Delhi-Trib) for AY 2003-04, 2004-05 and 2005-06, rendered in ITA Nos. 1119, 1120 & 1121/2010 (assessee's appeals) & ITA 1153, 1154 & 1155/Del/2010 (department's appeal). The Tribunal has observed that Nortel Networks India International Inc., a company incorporated in USA, was a group concern of Nortel group, which is a leading supplier of hardware and software products for GSM Cellular Radio Telephones System. During the year under consideration the assessee had supplied telecommunication hardware to Reliance Infocom. Tribunal, after rejecting the assessee's plea that there was no PE in India, considered the issue of attribution of profits from para 9 onwards of its order. The AO noted from the global accounts of Nortel, the gross profit margin percentage of the assessee was 42.6%. He allowed 5% deduction towards expenses on general and marketing and thus 37.6% of the total value of supplies of hardware made to Indian customer was taxed by AO. Ld. CIT(A) attributed 50% of the profits to the activities of PE in India which was upheld by Tribunal.
40. Ld. CIT(DR) further referred to the decision in the case of Rolls Royce PLC v. DIT (International taxation) [2011] 339 ITR 147/202 Taxman 309/13 taxmann.com 233 (Delhi) , wherein the Hon'ble Delhi High Court approved 35% profits attributable to PE on account of marketing activities in India. The Hon'ble Delhi High Court observed as under:
"While restricting the attribution to 35 per cent, the reason given by the Tribunal was that profit attributed to manufacturing activity and R&D activities i.e. 50 per cent and 15 per cent respectively had to be excluded. Thus the expenses on R&D were already taken care of when remuneration @ 35 per cent was attributed to marketing activities in India on which global – profits was apportioned and there was no question of setting off the R&D expenses again in respect of marketing activities.
For sufficient and adequate reasons, the authorities below have held that RRIL to be the PE of the assessee in India and in the process, the objections of the assessee are duly met with and answered. The Tribunal first considered the question of business connection. After taking note of the relevant provisions which existed at that time as well as the case law, the Tribunal took note of the fact that an agreement was entered into by the assessee with RRIL whereby RRIL was to render certain services to the assessee. From the extent and scope of these services, the Tribunal held that the assessee had a business connection in India within the meaning of s. 9(1)(i). It would be relevant to point out at this stage that the aforesaid conclusion of the Tribunal was not rested solely on the agreement with RRIL. It also took into consideration and analysed various papers which were found during the course of the survey and which were not there earlier when the Tribunal had decided the appeal of the assessee for the asst. yr. 2001-02. It is not necessary to state in detail the nature of those documents having regard to the fact that this aspect of business connection was not disputed. After holding that the assessee had business connection in India, the Tribunal adverted to the question as to whether there was any PE in India within the meaning of art. 5 of the Indo-UK DTAA. The Tribunal extracted the provisions of art. 5 and stated the legal position that emerged therefrom. Thereafter, it referred to various documents and narrated its effect in detail. There is a detailed discussion after taking into consideration all the relevant aspects while holding that RRIL constituted PE of the assessee in India. While undertaking critical analysis of the material on record, the Tribunal kept in mind the objections filed by the assessee as well as the documents on which it wanted to rely upon. Those objections were duly met and answered. Thus, there is no need to remand the case back to the Tribunal for this purpose which was the plea raised by the counsel for the assessee. The view taken by the Tribunal in the impugned order as well as in the Miscellaneous Application is upheld.
- Royce Plc v. Dy. Director of IT [2008] 113 IT) (Del) 446 : (2008) 1 DTR (Del) 394 and
Rolls Royce PIc vDy. Director of IT [2009] 122 IT) (Del) 359 : [2009] 20 DTR (Del) 140 affirmed."
41. Ld. CIT(DR), therefore, submitted that there is no thumb rule that only 20% of the profits are to be attributed and it depends on facts of each case as to what is the level of operation which is quite extensive in the present case as is evident from the findings of AO in AY 2009-10 and ld. CIT(A)'s findings.
42. Ld. counsel has filed a detailed rebuttal with reference to the decision in the case of Rolls Royce PLC (supra). Ld. counsel submitted that Tribunal had taken note of Article 7(3) of Indo-UK DTAA as per which where a PE takes an active part in negotiating, concluding or fulfilling contracts, notwithstanding that other part of the enterprise has also participated in those transactions, the proportion of the profit arising out of those contracts shall be treated as profit indirectly attributable to the PE and will be taxable in such contracting state where the PE is situated. Tribunal further noted that in view of the provisions of Article 7(3), the direct as well as indirect income attributable to the PE was chargeable to tax. Tribunal further took note of the fact that for the purpose of that case it was immaterial as to whether in negotiating the contracts, representatives of the assessee (i.e. Rolls Royce PLC) were also present.
43. It was in these peculiar circumstances and provisions that the Tribunal attributed 35% of the profits to the PE in India for negotiating contract and marketing activities by the PE in India. He pointed out that there is no such Article in Double tax Treaty between India and China. Therefore, where the employees of both China and India were present and carried out the activity of negotiation of contract, the entire profit on such account could not be attributable to the PE in India.
44. Ld. counsel further clarified that before Hon'ble Delhi High Court assessee did not challenge the attribution of 35% of the gross profits to the activities carried out in India. Ld. counsel pointed out that decision in the case of Rolls Royce Singapore (P.) Ltd. v. Asstt. DIT [2011] 202 Taxman 45/13 taxmann.com 81 (Delhi) wherein Tribunal had the occasion to examine whether the foreign company had a PE in India and in the event PE coming into existence what was the profit which was required to be attributed in the facts of the case. He pointed out that Tribunal concluded that the correct attribution of profit to its PE would be to the extent of 10% of the profit earned from the activities of sale or supplies by the assessee-company to the Indian customers. Ld. counsel pointed out that there was no provision like Article 7(3) of the India UK treaty in the DTAA between India and Singapore.
45. Ld. counsel further pointed out that in case of DIT v. Ericsson AB [2012] 343 ITR 470/204 Taxman 192/[2011] 16 taxmann.com 371 (Delhi) , Hon'ble Delhi High Court has held that irrespective of the expenses of a PE if the goods were transferred outside India no portion of any profit arising from the offshore supply could be brought to tax in India.
46. From the aforementioned discussion it is evident that each case has to be considered on its own merits, depending upon the level of operations carried out by PE in India. In the present case we have earlier reproduced paras 6.2.2 and 7.2.3 from ld. CIT(A)'s order and also findings from AO's order for AY 2009-10 which give a clear picture of the level operations carried out by ZTE India, the assessee's PE. Ld. CIT(A) has pointed out that ZTE India is doing preparatory work, negotiating the contract and price and answering specified queries of the customers on behalf of the assessee. These are all vital functions which are revenue generating. The AO in AY 2009-10, as noted earlier, has elaborated in detail the functions carried out by PE in connection with sale in India. At the cost of repetition, we reproduce the same:—
"Activities performed by PE, summarized by AO as under:
47. In the case of Motorola Inc. (supra), Tribunal has referred to the decision in the case of Ahmadbhai Umarbhai (supra), wherein it has been held that income attributable to the manufacturing activity should be more than the income attributable to the activity of sale. Therefore, out of the total global income of assessee relatable to the supplies made to India more income is to be attributed to the assessee as accruing in China and from sale activity, it is not to that extent. We find that ld. CIT(A) has adopted the reasoning in the case of Alcatel Lucent. In this decision ld. CIT(A) himself noted that assessee had accepted and not contested in appeal attribution @ 2.5% of total sales revenue. Therefore, this decision, considered by ld. CIT(A), cannot be the basis for arriving at the conclusion that 2.5% of entire sales revenue should be attributable to Indian PE, which is primarily as per Rule 10(1) methodology provided. We are not inclined to accept this plea of ld. CIT(DR). Therefore, in our opinion, attribution is to be done as per Rule 10(2) of the IT Rules.
48. Ld. counsel has endeavoured to distinguish the decision in the case of Rolls Royce PLC by referring to absence of identical Article 7(3) of India UK DTAA being present in India China DTAA. In our opinion, this is not of much significance because it only considers the involvement of assessee's representatives in negotiations. We have to consider the overall operations carried out by PE in India. Mere involvement of expatriates in the activities of PE for assisting the Indian team cannot substantially affect the revenue generating capacity of PE.
49. The decision in the case of Nortel Networks India International Inc. (supra), the Tribunal in para 14.4 has noted that in assessee's case hardware supply contract was a part of the turnkey contract which involved supply, installation, testing aand commissioning etc. as is in the present case. Activities of Nortel India and that of LO of Nortel Canada and services of expatriate workers had also been taken as part of the execution of the work by the PE. Thus, the level of operation carried out in India were extensive and under such circumstances Tribunal had attributed 50% of the net profit arising out of Indian transactions as assessee's income.
50. Having discussed the entire case law and after considering the factual aspects, we find that the level of operations carried out by assessee through its PE in India are considerable enough to conclude that almost entire sales functions including marketing, banking and after-sales were carried out by PE in India and, therefore, keeping in view the decision of Hon'ble Supreme Court in the case of Ahmedbhai Umarbhai & Co. (supra), the decision of Rolls Royce Singapore (P.) Ltd. (supra) and Nortel Networks India International Inc. (supra), we are of the opinion that it would meet the ends of justice if 35% of net global profits as per published accounts out of transactions of assessee with India are attributed to PE in India in respect of both hardware and software supplied by assessee to Indian customers. At this juncture we may point out that while deciding the department's appeal in subsequent part of this order, we have upheld the findings of ld. CIT(A) to tax the income from sale of software as business income and not royalty. We may point out that in AY 2009-10 the AO estimated the operating profits at 7.5% as against the weighted average of net operating profit at 2.53% as per the global accounts. We are not inclined to accept this mode of computation resorted by AO, particularly in view of Rule 10 of the IT Rules, which mandates the AO to go by the published accounts of assessee. In the result assessee's ground No. 6 in AY 2009-10 stands allowed. We may further clarify that our decision does not amount to enhancement of income because overall tax effect will be less as compared to tax computed by AO/CIT(A).
51. Now we proceed to decide the assessee's submission that since for AY 2006-07 (Rs. 20,56,87,472/-), 2007-08 )Rs. 17,10,23,750/-)and for AY 2008-09 (Rs. 2,38,84,545), the assessee had paid marketing support services, therefore, no attribution should be made. The submission is that TPO in the case of WebT India has accepted that the payment for market support service is at arm's length and, therefore, in view of the decision of Hon'ble Supreme Court in the case of Dit (International Taxation), Mumbai v. Morgan Stanley & Co. Inc.. [2007] 292 ITR 416/162 Taxman 165 , since the assessee had been remunerated on an arm's length basis, no further profit could be attributed. We are unable to accept this plea of ld. counsel of the assessee because it is only after the survey operations were carried out that extensive involvement of PE came to light.
52. Ld. CIT(DR) has very rightly pointed out that all the sums paid for market support service are for pre sale activities and, therefore, for post-sale activities performed by ZTE India, which surfaced on account of survey operations, profits have to be attributed. The AO in his findings for AY 2009-10, as reproduced earlier, very rightly pointed out that the functions performed in respect of transactions on account of supply of equipments and handsets with customers in India were not the subject matter of TP analysis before the TPO. Since all the functions were not the part of TP study, the assessee's contention that if a correct arm's length is applied then nothing further will be left to be taxed in the hands of foreign enterprise in light of the decision in the case of Morgan Stanley (supra), cannot be accepted because in that decision itself Hon'ble Supreme Court has, inter alia, observed that if the TP analysis does not adequately respect the functions performed and risk assumed by the enterprise then in such a case there would be need to attribute profit to the PE for those functions/ risks that have not been considered.
53. In the result assessee's appeals stand partly allowed.
Department's appeals:
54. Revised grounds, common in all the appeals, raised by the revenue are as under:
55. In the revised grounds of appeal raised by department there are primarily 2 issues. Firstly, the department is aggrieved by the findings of ld. CIT(A) that the income from supply of software was to be treated as business income instead of royalty considered by the AO. The second issue on which department is aggrieved is in regard to finding of ld. CIT(A) in directing the AO to withdraw interest u/s 234B by relying upon the decision of Hon'ble Delhi High Court in the case of DIT v. Jacobs Civil Incorporated [2011] 330 ITR 578/[2010] 194 Taxman 495 (Delhi) .
56. As regards the first issue, ld. CIT(DR) at the outset fairly conceded that though this issue is covered against the department by the decisions in the cases of Motrola and Alcatel Lucent, but the ground has been raised in order to keep the issue alive, as the issue is yet to be decided by Hon'ble Supreme Court.
57. Ld. CIT(DR) referred to para 12 of the assessment order wherein AO has considered the terms of agreement between assessee and Spice Mob. Pvt. Ltd. Ld. CIT(DR) referred to various covenants of the agreement, which have been reproduced in the assessment order. The same are reproduced hereunder:
'(Agreement between the assessee and Spice Mobile Pvt. Ltd.)
This Memorandum of Agreement is made on this 21st day of November, 2006
BETWEEN
Spice Mobile Pvt. Ltd, a company incorporated in India and having its principal/ registered office at Viii. Billanwalla labana, P.O. Baddi, Tehsil Nalagarh, Distt. Solan- 173001 (H.P.) (hereinafter referred to as Purchaser or sometimes also referred to as Customer of the one part,
AND
ZTE Corporation, a company incorporated under the laws of P.R. China having its registered office at ZTE Plaza, Keji Road South, Hi-Tech Industrial Park, Nanshan District, Shenzhen, P.R. China (hereinafter referred to as "Contracto,Jkor sometimes referred to as ZTE, which expression shall be deemed to mean and include its all successors-in-interest and assigns of the other part,
WHEREAS:
B. the purchaser is engaged in the sale and distribution of telecommunications equipments for infrastructure services to telecom companies in India i.e. End Users;
C. the contractor is inter alia engaged in the manufacture of telecommunications equipment for infrastructure services and also has the experience and skilled personnel for supply, installation, commissioning and test such telecommunications equipments on a turnkey basis and to ensure that such telecommunications equipments maintain high quality performance levels.
1.12. "Equipment" means the physical items and their corresponding software also including the services and to ensure that such telecommunications equipments maintain high quality performance levels of such item to be provided by the contractor under the contract as required for the satisfactory implementation of the works or as specifically provided for in the contract.
1.24 "Software" means the software bundle with, embedded, or supplied by the contractor. along with the Equipment(s) which is described in the specifications, or any improvements and/ or enhancements thereof, including: (i) man-machine executable object code version of the user loadable programs, (ii) the microcode embedded in the equipment, (Hi) any updated or revision of these programs or the microcode delivered to the purchaser and (iv) any further programs and microcodes necessary for integration of the equipments with the equipments of other vendors/ suppliers of the purchaser.
ARTICLE 16: SOFTWARE LICENSE
16.1 Subject to the terms and conditions of this contract, the contractor grants to the purchaser and end-user the non-exclusive and transferable right to use the software delivered with the equipment. Except as provided herein, the purchaser shall not directly or indirectly, sell, transfer, offer, disclose, lease, or sub-license the software to any third party without prior authorization from the contractor. The contractor warrants that the software shall be free from any virus, Trojan or any other disabling function and agrees to promptly provide all improvisations, updates and patches to the purchaser and the end-user from time to time, as applicable.
16.2 Except as permitted by this condition and till the full price of the equipment to the contractor, the purchaser shall not itself (or through any holding, subsidiary or associated purchaser, agent or third party to) (ii) modify, vary, enhance, copy or duplicate, any part of the software, or (ii) create or attempt to create, or permit others to create or attempt to create, by adapt, dissemble, decompile, reassemble, translate, reverse engineering, or otherwise, the source programs or any part thereof from the object programs or from other information made available under this contract.
(Agreement with Shyam Telelink Limited)
This contract is made on this 2nd day of August, 2008
BETWEEN
Shyam Telelink Limited, a company incorporeted in India and having its registered office at B-2-D, Shiv Marg, Bani Park, Jaipur, India and its corporate office at A-60, Naraina Industrial Area, Phase-1, New Delhi 110028 (hereinafter referred to as "the buyer") which expression shall deem to mean and include all its successors-in-interest and permitted assigns of the one part,
AND
ZTE Corporation, China a company incorporated under the China Laws, having its registered office at 3/F, A Wing, ZTE Plaza, Keji Road South, Hi-Tech Industrial Park, Nanshan District, Shenzhen, P.R. China hereinafter called the "supplier' which expression shall unless repugnant to the context or meaning thereof include its affiliates, successors and permitted assigns of the other part,
Buyer and supplier are hereinafter called "party", or, collectively the "parties".
WHEREAS
Supplier is engaged in the business of providing solution for COMA Mobile Telephone Systems in China and abroad along with certain associated services.
Buyer desires to place a purchase order for COMA Mobile Telephone System for its operations in certain telecom circles in India;
Supplier has agreed to provide the system to buyer.
"Software" means computer application program, software application module or package or any part thereof in binary code from licensed to buyer under this contract and listed in Annexure 8 of this contract which are required for the purpose specified in this contract.
"Software Updates" shall mean latest release of software version applicable to the system or part thereof with all available features and functionalities as per scope of this contract with respect to software and corrections of the software faults that may or may not be reported by the buyer to the supplier, which are issued as software updates by the supplier to the buyer. The software update shall contain the appropriate load file, implementation instructions and user documentation.
ARTICLE: 5: CONTRACT PRICE
5.1 The total tentative Contract Price (CIF DELHI) is USD 556,000,000 (US Dollars Five Hundred and Fifty-six Million only) which shall be subject to change as per the mutual agreement between the parties based on the final configuration of the bill of material of all the three phases and the purchase value for the first PO is USD 46,756,935 (US Dollars Forty Six Million Seven hundred and Fifty Six thousand Nine hundred Thirty Five only). The contract price shall be established for the full term of the contract and it represents a sum in the limits of which the buyer shall place orders for the delivery of equipment and the delivery of software products under this contract. The contract price may be changed by mutual written agreement between the parties.
Equipment prices shall include the cost of packaging and marking, export licenses and certificates which apply to the supplier in this contract, all taxes and fees charged outside India, as well as the cost of freight, insurance and shipment in accordance with the delivery term CIF (lNCOTERMS 2000) as per Article 16 of the contract. Prices for software specified in individual orders for the delivery of software shall include all taxes and fees charged outside India and the cost of warranty services for software under this contract.
ARTICLE 34 LICENSE
34.1 Subject to this article, buyer is hereby granted a limited, non-transferable, perpetual, non-exclusive license to use the software and documentation provided pursuant to the contract (Software License Buyer agrees that the copyright in the software and documentation licensed to it by supplier including any renewals, extensions, or expansions thereof, shall be treated as proprietary of supplier or its sub-suppliers.
34.2 Buyer shall not make any copies of software or documentation, except for archival back-up purposes. Buyer shall not translate, reverse engineer, modify, decompile, disassemble or create derivative works from the software.
34.3 Buyer may assign the right to use the software license to a third party in India for the purpose of operations and maintenance of the buyer's network provided that any such third party agrees in writing to abide by all of the terms and conditions of this software license.
34.4 The software licensed under a purchase order may be delivered in an inseparable package also containing software programs and features other than the software. Buyer may use such other software programs and features unless expressly provided otherwise in the purchase order.
34.5 The obligations of buyer under this article, shall survive the termination or expiration of this contract for any reason.'
58. Ld. CIT(DR) submitted that from article 16 granting software license it is clear that the assessee was granted non-exclusive transferable rights. Thus, the transferable rights of licensee was subject to the assessee's permission. The ownership rights of software remained with assessee only and only user rights were given.
59. Ld. CIT(DR) referred to annexure XII of department's paper book and referred to page 75 wherein the addendum to the supply contract for the telecom equipment dated 5.9.2008 is contained. He referred to page 72 of PB wherein the original supply agreement dated 5.9.2008 between assessee and Shyam Telelink Ltd. is contained. He pointed out that this agreement was found during survey operation.
60. Ld. CIT(DR) referred to Article 1 of the aforementioned agreement dealing with definition and interpretation of various words and phrases of agreement and pointed out that BSS Software means software related to BSS equipment. He further pointed out that equipment has been defined to mean the hardware, software, material, components and documentation to be delivered under this contract. Thus, he pointed out that software has separate independent identity. He further referred to the definition of 'software' as per which software means computer application program, software application module or package or any part thereof in binary code from licensed to buyer under this contract and listed in Annexure 8 of this contract which are required for the purpose specified in this contract.
61. The definition of software updates reads as under:
'Software Updates" shall mean latest release of Software version applicable to the System or part thereof with all available features and functionalities as per scope of this Contract with respect to Software and corrections of the Software faults that may or may not be reported by the Buyer to the Supplier, which are issued as Software Updates by the Supplier to the Buyer. The Software Update shall contain the appropriate load file, implementation instructions and user documentation.'
62. Thereafter ld. DR referred to Article 2 dealing with scope of supply referred to para 2.3 which reads as under
"The delivery of System and provision of Software Produce shall be implemented on the basis of Purchase Orders. A Purchase Order shall be signed by the Authorized Representatives of the Parties and shall be deemed to be placed when both the Parties have signed the Purchase Order in original or by means of - exchanged signed faxed copies. The Supplier shall within 3 (three) business days after receipt of a copy of the Purchase Order signed by the Buyer shall either sign the Purchase Order and send it to the Buyer or inform the Buyer in writing about its non-acceptance. In case the Supplier fails to sign the Purchase Order or fails to send any intimation in token of its acceptance within the allowed three (3) days time, in that event, the purchase Order shall deemed to be considered as accepted by the Supplier. However, in case of any clarification needed by Supplier, the number of days for acceptance shall be suitably extended."
63. With reference to this ld. CIT(DR) submitted that system and software have separately been mentioned. The purchase orders have separately been issued for both and the invoices have also separately been raised.
64. Ld. CIT(DR) further referred to Article 5 which deals with 'contract price', the contents from which are reproduced hereunder:-
"Equipment prices shall include the cost of packaging and marking, export licences and certificates which apply to the Supplier in this Contract, all taxes and fees charged outside India, as well as the cost of freight, insurance and shipment in accordance with the delivery term CIF (INCOTERMS 2000) as per Article 16 of the Contract. Prices for Software specified in individual Orders for the delivery of Software shall include all taxes and fees charged outside India and the cost of warranty services for Software under this Contract."
65. Thus, he submitted that software prices also have separately been mentioned in the contract itself.
ARTICLE 34 LICENSE
34.1 Subject to this Article, Buyer is hereby granted a limited, non-transferable , perpetual, non-exclusive license to use the Software and Documentation provided pursuant to the Contract ("Software License"). Buyer agrees that the copyright in the Software and Documentation licensed to it by Supplier including any renewals, extensions, or expansions thereof, shall be treated as proprietary of Supplier or its sub-suppliers.
34.2 Buyer shall not make any copies of Software or Documentation, except for archival back-up purposes. Buyer shall not translate, reverse engineer, modify, decompile, disassemble or create derivative works from the Software.
34.3 Buyer may assign the right to use the Software License to a third party in India for the purpose of operations and maintenance of the Buyer's Network , provided that any such third party agrees in writing to abide by all of the terms and conditions of this Software License.
34.4 The Software licensed under a Purchase Order may be delivered in an inseparable package also containing software programs and features other than the Software. Buyer may use such other software programs and features unless expressly provided otherwise in the Purchase Order.
34.5 The obligations of Buyer under this Article, shall survive the termination or\expiration of this Contract for any reason.
66. Thus, as per the licensing terms as contained in Article 34, limitations have been prescribed for use of software. The proprietary right remained with assessee as is evident from the restriction imposed while granting license.
67 To further buttress his submission that software was separately ordered and invoices separately raised, ld. CIT(DR) referred to Annexure XI of department's paper book page 109 PB wherein the invoices raised by assessee on Sistema Shyam Teleservices Ltd. is contained in which the item description is as under:
68. He also referred to page 107 wherein the copy of bill of lading is contained. Ld. CIT(DR) pointed out that the contention of taxpayer is that since on software there is no customs duty, separate invoices were raised. He submitted that characterization of a transaction should remain same for all statutes and the assessee cannot change its stand under Income-tax Act.
69. Ld. DR, for legal submission, relied on para 11 of the Tribunal's order dated 4.4.2010 in the case of Alcatel Lucent, France (supra) The same are reproduced below:
"11. Learned DR, on the other hand, relied upon the order of the Assessing Officer and he also furnished the written submissions which reads as under:-
This brief written submission is a summary of arguments of the Revenue on the issue of taxation of software payment as royalty.
Brief facts
2. A survey under section 133A was carried out at the office premises of Alcatel Lucent India on 27.02.2009. During the course of survey proceedings photocopy of various documents was obtained and statements of senior employees involved in administration, sales and marketing were recorded. Some expatriate persons who were employees of Alcatel Group were also functioning from these offices. On the basis of information obtained during survey and post-survey inquiries, notices under section 148 of the Act were issued to all Alcatel Group entities which had carried out business in India. Alcatel Group has supplied telecommunication equipments and software to various Indian customers.
3. In the assessment orders it was held that various Alcatel Group entities have business connection as well as a permanent establishment in the form of fixed place PE, dependent agent PE and installation PE. A profit based on the sales of equipments made in India was attributed to these permanent establishments. Indian permanent establishment was also involved in making sales in some South Asian countries. A profit on account of these sales was also attributed to Indian permanent establishment. The assessee has not disputed the issue of the permanent establishment as well as attribution of profit to the same and has paid the due taxes.
Taxation of income from licensing of software
4. Income from software has been taxed as royalty. The paragraph 8 of the assessment order for A Y 2006-07 deals with the taxation of income from licensing of software as royalties. The assessee has taken this of taxation in appeal.
5. The 1d.C/T(A) has discussed the issue of taxation of income from licensing of software In paragraphs 3.4 to 5.8 of his order. The ld. CIT(A) by following the judgment of the Hon'ble Delhi High Court in the cases of Ericsson AS and Nokia Networks has allowed the appeal of the assessee. However, in paragraph 5.8 of the order, the Id.CIT(A) has directed the AD to tax profit worked out @ 2.5% of total sale consideration received by the appellant for supply of hardware and software.
6. The Revenue is aggrieved with the decision of ld.CIT(A) to the extent of not upholding taxation of Income from software as royalty and also not considering the applicability of retrospective clarificatory amendments through insertion of Explanations 5 and 6 to Section 9(1)(vi) of the Act by Finance Act 2012.
7. The undisputed facts in present case are that software has been licensed and not sold. Further, title in the software has not been transferred. Only partial rights permitting the use of software have been granted.
8. The Revenue relies on the decision of the Hon'ble High Court in the case of Infrasoft Ltd (Order dated 22.11.2013 in ITA No. 1034/2009) to the extent that the assessee has not contested the taxability of income from software as royalty under the provisions of the Income-tax Act. The Hon'ble, High Court in the case of DIT v. Nokia Networks OY [2013] 212 Taxman 68 has considered the applicability of the new Explanation 5 and 6 providing for retrospective clarificatory amendments in the Act concerning taxability of income from software as royalty. However, the Hon'ble Court has not considered the provisions of Article 3(2) while holding that in absence of any change to the treaty the earlier decisions of the Hon'ble Court in the case of Ericsson apply.
9. The Revenue submits that Article 3(2) of the tax treaty between India and France and other applicable treaties in the present case provides that "As regards the application of the Convention by a Contracting State, any term not defined therein shall, unless the context otherwise requires, have the meaning which it has under the law of that Contracting State concerning the taxes to which the Convention applies". Therefore, taking into account the rules of treaty interpretation it is explicitly clear that for finding out the meaning of a term reference can only be made to Income-tax Act and under no circumstances the assistant of Copyright Act or any other Act like Sales Tax Act can be taken in this regard.
10. The Revenue strongly relies on the decision of Central Economic-Administrative Court of Spain in case number 3604/2006 wherein the issue of taxation of income from software under the tax treaty between Spain and the USA has been adjudicated. In this case the taxpayers had claimed that the computer software had to be regarded as literary work under the tax treaty between Spain and the USA. The Spanish Court gave decision in the favour of the Spanish tax authorities and against the taxpayer. The Court observed that computer software is not expressly included in the definition of royalty in Article 12(3) of the treaty due to rapid development of computer technology in recent years. The court then observed that paragraph 13.1 of the OECD Model commentary 2000 on Article 12 recognizes that there may be difficulties in applying the copyright provisions of Art. 12 to software payments since paragraph 2 requires that Software be classified as a literary, artistic or scientific work, but none of these categories seems entirely apt Considering the interpretation required by Article 3(2) of the treaty and the amendment in Spanish tax law that recently adopted a definition of royalty (Art. 12 of Non-Resident Income Tax Act (Law 41/1998 of 9 December amended by Law 46/2002 of 8 December, currently Article 13.1) No.3 of Royal Legislative Decree 5/2004), the Administrative Court concluded that payments derived from the use of computer software should not be regarded as literary or scientific work and therefore, such royalties should be taxed as other royalties at a higher rate of 10% and not at 5% as applicable to literary or scientific work. Copy of summary of this decision is submitted.
11. Relevant portion of Article 12 of Spain-USA treaty is also attached. The issue of taxation of income from software as royalty was never in doubt and not disputed under the Spain-USA treaty, the dispute only concerned rate of tax.
12. Kind reference is also invited to paragraphs 114 to 117 and 130 to 134 of the assessment order for A Y 2006-07 in the matter. Pages 116 and 117 shows that even the GECD countries namely Mexico, Spain, Slovak Republic, Greece, Korea, Poland and Portugal taxes the income from software. India along with many non-member countries of the GECD have submitted their position on taxation of software (kindly refer to pages 132 and 133 of the assessment order). It is mentioned that under Section 90 of the Act, the Parliament has delegated the authority to the Central Government to negotiate the tax treaties with other countries. Tax treaties signed by the Government has full force of law and do not require any further ratification by the parliament Therefore, any stated position of the Government Is fully effective and has equal force of law as the tax treaties. The position of India on taxation of income from software is known to all the treaty partners and this has not been objected by anyone. 13. The Revenue would like to submit that China, Korea, Japan and Vietnam have taxed income from software under their respective tax treaty with Finland. Copy of a summary of decision of the Supreme Administrative Court of Finland in case number KHO 2011 : 101 dated 12 December 2011 is enclosed. "
70. As regards ground No. 3 also, he relied on the written submissions reproduced above.
71. Ld. counsel for the assessee submitted that this issue stands settled by the Hon'ble Delhi High Court in the cases of Ericsson AB (supra); DIT v. Nokia Networks OY [2013] 358 ITR 259/212 Taxman 68/[2012] 25 taxmann.com 225 . He submitted that receipts on account of supply of software were integrally connected to the supply of hardware and, therefore, AO was not right in taxing such receipts as royalty. He submitted that ld. CIT(A) has rightly held that receipts from supply of software could not be taxed as royalty, relying on various decisions. He further pointed out that ld. CIT(A) also held that in view of the decision of Hon'ble Delhi High Court in the case of Nokia India OY (supra), software supplies could not be taxed even under the amended law. Further, as per the provisions of Article 12(5) of the DTAA the supply of software being integral to the supply of hardware and the finding of existence of a PE of assessee in India, Article 12(5) of the DTAA would cease to apply and the provision of Article 7 would be applicable and, therefore, the income from software is to be taxed as business income.
72. Ld. counsel relied upon following decisions:
73. We have considered the submissions of both the parties and have perused the record of the case. We find that in the case of Alcatel Lucent, France (supra) Tribunal in paras 12, 13 & 14 it has been held as under:
"12. We have carefully considered the arguments of both the sides and perused relevant material placed before us. We find that learned ( (A) allowed the relief to the assessee following the decision of ITAT in assessee's own case for AY 1997-98 in ITA No.407/Del/200l. The ITAT had delivered the above decision following the decision of Special Bench of ITAT in the case of Motorola Inc. (supra). We find at Hon'ble jurisdictional High Court upheld the decision of ITAT of Special Bench in the case of Motorola Inc. (supra) in the case of DIT v. Ericsson A.B. (supra). In the appeal by the Revenue, question No.3 proposed before the Hon'ble Jurisdictional High Court and admitted by their Lordships reads as under.-
"Whether in law, the learned Delhi Tribunal was justified in holding that the consideration for supply of software was not a payment by way of royalty, and, hence, was not assessable both under section 9(l)(vi) of the Double Taxation Avoidance Agreement between the Government of India and Sweden?"
13. That the Hon'ble Jurisdictional High Court, after detailed discussions which are at pages 474 to 506 of the ITR 343, answered the question in favour of the assessee and against the Revenue.
14. The Revenue had also filed the appeal against the decision of ITAT in assessee's own case which is decided by their Lordships along with various other cases including the case of Nokia Networks, In this case also, the question No.3 proposed by the Revenue and admitted by their Lordships reads as under:-
"Whether any part of the consideration for supply of software stated by the respondent to be integral to the equipment is taxable as 'royalty' either under section (1)(110 or the relevant provisions of the Double Taxation A voidance Agreement?"
After detailed discussion, their Lordships answered the question in favour of the assessee and against the Revenue. Since the issue is squarely covered by the decision of Hon'ble Jurisdictional High Court in the case of the assessee as well as in the case of Ericsson A.B. (supra). respectfully following the same, we uphold the order of learned CIT(A) in this regard and reject ground No.2 of the Revenue's appeal."
74. Respectfully following the decision of Hon'ble Jurisdictional High Court, as noted by Tribunal, ground Nos. 2 & 3 are rejected.
75. Apropos ground No. 4, relating to levy of interest u/s 234B, ld. CIT(DR) submitted that ld. CIT(A) was not correct in withdrawing interest u/s 234B by relying on the decision of Hon'ble Delhi High Court in the case of Jacobs Civil Incorporated (supra) He submitted that levy of interest u/s 234B is mandatory in view of the decision of Hon'ble Supreme Court of in the case of CIT v. Anjum M. Ghaswala [2012] 119 Taxman 352 .
76. Ld. DR pointed out that Hon'ble Delhi High court in the case of Jacobs Civil Incorporated (supra) has held that section 195 puts an obligation on the payer i.e. any person responsible for paying any sum from which tax is to be deducted, to deduct tax at source at the rate in force, from such payment and if payer has defaulted in deducting tax at source, the department can take action against the payer under the provisions of section 201. In such a case the non-resident is liable to pay tax but there is no question of payment of advance tax and, therefore, it cannot be held liable to pay interest u/s 234B on account of default of the payer in deducting tax at source from the payments made to the assessee. The relevant part of the judgment is quoted below:
'8 This clause categorically uses the expression" deductible or collectible at source" and it is this clause which is incorporated by the Uttaranchal High Court in the said judgment (supra) in the manner already pointed above. The scheme of the Act in respect of non-residents is clear. Section 195 of the Act puts an obligation on the payer, i.e., any person responsible for paying to a non-resident, to deduct income-tax at source at the rates in force from such payments excluding those incomes which are chargeable under the head "Salaries". Therefore, the entire tax is to be deducted at source which is payable on such payments made by the payee to the non-resident. Section 201 of the Act lays down the consequences of failure to deduct or pay. These consequences include not only the liability to pay the amount which such a person was required to deduct at source from the payments made to a non-resident but also penalties etc. Once it is found that the liability was that of the payer and the said payer has defaulted in deducting the tax at source, the Department is not remedy less and therefore can take action against the payer under the provisions of section 201 of the Income-tax Act and compute the amount accordingly. No doubt, if the person (payer) who had to make payments to the non-resident had defaulted in deducting the tax at source from such payment, the non-resident is not absolved from payment of taxes thereupon. However, in such a case, the non-resident is liable to pay tax and the question of payment of advance tax would not arise. This would be clear from the reading of section 191 of the Act along with section 209(1)(d) of the Act. For this reason, it would not be permissible for the Revenue to charge any interest under section 234B of the Act.'
77. Ld. CIT(DR) thereafter referred to the decision of Hon'ble Delhi High Court in the case of DIT(Intl. Taxation) v. Alcatel Lucent USA [2014] 45 taxmann.com 422/223 Taxman 176 (Mag. wherein it has been, inter alia, held that it is open to the assessee to deny its liability to tax in India on whatever grounds it thinks fit and properly. Having denied its tax liability, it seems unfair on the part of the assessee to expect the Indian payer to deduct tax from the remittances. It is also open to the assessee to change its stand at the first appellate stage and submit to the assessment of the income. When it does so all consequences under the Act follow including its liability to pay interest u/s 234B, since it would not have paid any advance tax. In this regard he referred to paras 20 & 21 of the Alcatel order which are reproduced hereunder:
"20. The other argument on behalf of the assessee that the liability of the payer under Section 20 I is absolutely different from the liability of the non-resident assessee under Section 234B need not be examined and for the purpose of the present case it would not make any difference, on account of the peculiar facts of the present case. It may be recalled that the argument put forth by the revenue before the Income Tax Appellate Tribunal was that at the time of the receipt of monies from India, the assessee took the plea that it did not have any PE in India and, therefore, the payment was not chargeable to tax in India, with the consequence that Section 195(1) was not applicable, whereas in the appeals before the CIT(Appeals), a contradictor stand was adopted by the assessee, by accepting the fact that it had a PE in India and by admitting that the income earned in India was chargeable to tax. It was further argued by the revenue that such a contradictory plea cannot be permitted to be taken by the assessee. It was pointed out that consistent with the stand taken in the return, the assessee would have told the Indian payer that no tax should be deducted from the remittance and it was, therefore, not open to the assessee, merely because at the first appeal stage it chose not to contest the assessment of the income attributable to the Indian PE, to turn around and say that since it has now accepted its liability to pay tax on the Indian income, it was for the Indian payers to have deducted the tax and if they had not done so the assessee cannot be held liable for the interest. This argument of the revenue was rejected by the Tribunal on the ground that there was no material in support of the plea that the assessee represented to the Indian payers not to deduct tax, nor did any such facts or circumstances emerge from the Impugned orders
21. We are unable to uphold this part of the decision of the Tribunal. It must be remembered that in the note appended to the return the assessee was quite categorical in denying its liability to be assessed in India. It relied on the Double Taxation A voidance Agreement between India and USA and pointed out that there was no permanent establishment in India. It further stated that the telecom equipments were sold outside India and the payments were also received outside India and thus the assessee did not have any taxable presence in India so as to be liable for tax on its Indian income. If this was the stand of the assessee, it is not impermissible or unreasonable to visualise a situation where, the assessee would have represented to its Indian dealers not to deduct tax from the remittances made to it. On the contrary it would be surprising if the assessee did not make any such representation; such a representation would only be consistent with the assessee's stand regarding its tax liability In India. Moreover, no purpose would have been served by the assessee taking such a categorical stand regarding its tax liability in India and at the same time suffering tax deduction under Section 195( 1). Therefore, in our opinion, even though there may not be any positive or direct evidence to show that the assessee did make a representation to its Indian telecom dealers not to deduct tax from the remittances, such a representation or informal communication of the request can be reasonably inferred or presumed. The Tribunal ought to have accorded due weightage to the strong possibility or probability of such a request having been made by the assessee to the Indian payers since otherwise the denial of its tax liability on its Indian income would have served little purpose for the assessee."
78. Ld. CIT(DR), therefore, submitted that the decision in the case of Jacobs Civil Incorporated (supra), has been clarified by Hon'ble Delhi High Court in the case of Alcatel Lucent USA Inc. (supra). He submitted that facts in the present case are similar to that of the Alcatel Lucent (supra).
79. Ld. CIT(DR) referred to the decision of ITAT Delhi Bench in the case of Huawei Technologies Co. Ltd. (supra) wherein the matter has been restored to AO by observing in para 27 as under:
"27. From the above, it is evident that what was the stand of the assessee in the return of income filed by it would be relevant for deciding the liability to interest under Section 234B. We find that this aspect has not been considered either by the Assessing Officer or by the learned DRP. In fact, the decision of Hon'ble Jurisdictional High Court in the case of Alcatel Lucent USA, Inc. (supra) is dated 7th November, 2013, therefore, this decision was not available' at the time when either the Assessing Officer or the DRP passed the order. In our opinion, it would meet the ends of justice if this matter is restored to the file of the Assessing Officer with the direction to readjudicate the issue after taking into account the decisions of Hon'ble Jurisdictional High Court in the case of Jacobs Civil Incorporated (supra) and Alcatel Lucent USA, Inc. (supra). We, therefore, set aside the orders of authorities below with reference to levy of interest under Section 234B of the Act and direct the Assessing Officer to allow adequate opportunity of being heard to the assessee. Thereafter, he will readjudicate the issue in the light of the ratio of the decisions of Hon'ble Jurisdictional High Court in the case of Jacobs Civil Incorporated (supra) and Alcatel Lucent USA, Inc. (supra). With regard to interest charged under Section 234A, no specific argument was advanced at the time of hearing before us. We, therefore, direct the Assessing Officer to rework out the same in accordance with law after final determination of income."
80. With reference to aforementioned decision, ld. CIT(DR) submitted that the entire jurisprudence of section 234B is based on principle of equity. Whatever amount was due to government and was wrongly withheld should be duly compensated by way of payment of interest. He submitted that the interest u/s 234B is compensatory in nature.
81. On page 13 of its synopsis ld. counsel referred to the decision of Hon'ble Delhi High Court in the case of DIT (International Taxation ) v. GE Packaged Power Inc. [2015] 373 ITR 65/230 Taxman 653/56 taxmann.com 190 , wherein Hon'ble Delhi High Court vide its decision dated 12.1.2015 applied the decision in the case of Jacobs Civil Incorporated (supra) and distinguished the decision in the case of Alcatel Lucent USA. He referred to the headnote of the said decision, which is reproduced hereunder:
"The implication of an absolute obligation upon the payer to deduct tax at source under section 195(1) of the Income-tax Act, 1961, is that it becomes the responsibility of the payer to determine the amount it ought to deduct from the remittance to be paid to the assessee, towards tax. This determination would depend directly on the income of the assessee that is taxable in India on account of being attributable to its permanent establishment in India. That this determination is the responsibility of the payer is provided for, in the statute, in section 195(2). Thus the assessee's liability to tax does not depend on its own view of its permanent establishment status, or its admission or denial of tax liability. If an assessee files nil returns at the stage of assessment, and maintains that it is not liable to tax in India, the payer is obliged to apply to the Assessing Officer to determine what portion, if any, of its remittance to the assessee, is liable to be deducted at source towards tax.
The anomaly of an assessee denying tax liability (whether under a bona fide mistake or by deceit), thereby not suffering a tax deduction at source, and still being permitted a tax credit for the tax deductible was remedied after the Finance Act, 2012.
Held, that the primary liability of deducting tax (for the period concerned, since the law had undergone a change after the Finance Act, 2012) was that of the payer. The payer would be an assessee-in-default, on failure to discharge the obligation to deduct tax, under section 201 of the Act. No interest was leviable on the assessees under section 234B, even though they filed returns declaring nil income at the stage of reassessment. The payers were obliged to determine whether the assessees were liable to tax under section 195(1), and to what extent, by recourse to the mechanism provided in section 195(2) of the Act. The failure of the payers to do so did not leave the Revenue without remedy; the payer may be regarded an assessee-in-default under section 201, and the consequences delineated in that provision would visit the payer.
DIT v. JACOBS CIVIL INCORPORATED [2011] 330 ITR 578 (Delhi)applied.
DIT (INTERNATIONAL TAXATION) v. ALCATEL LUCENT USA. INC. [2014] 2 ITR-OL276 (Delhi) distinguished."
82. We have considered the submissions of both the parties and have perused the record of the case. The decision in the case of GE Packaged Power Inc. (supra), is the latest decision in which both the decisions in the cases of Jacobs Civil Inc. (supra) and Alcatel Lucent USA (supra) of Hon'ble Delhi High Court have been considered. Hon'ble Delhi High Court has also, inter alia, referred to the decision in the case of Anjum M.H. Ghaswala (supra) The facts in that case were that General Electric group was manufacturing equipments relating to oil and gas, energy, transportation and aviation for supply to customers in India. After a survey u/s 133A at the premises of General Electric International Operations Co. Inc., liaison office, reassessment proceedings were initiated against several entities of the GE group. The AO found that the assessee had a PE in India. The taxable income of the assessee was computed by attributing some percentage of the sale price/ consideration received as profits to the PE and interest u/s 234A & 234B was levied. Hon'ble Delhi High Court, after considering the entire case laws on this issue, inter alia, held that there was absolute obligation upon the payer to deduct tax at source u/s 195(1). It was held that the assessee's liability to tax does not depend on its own view of its PE status, or its admission or denial to tax liability. Under such circumstances, the payer would be treated as the assessee in default under section 201. Hon'ble Delhi High court pointed out that the anomaly of an assessee denying tax liability (whether under a bona fide mistake or by deceit), thereby not suffering a tax deduction at source, and still being permitted a tax credit for the tax deductible was remedied after the Finance Act, 2012. The Hon'ble High Court held that no interest was leviable on the assessee u/s 234B, even though they filed returns declaring nil income at the stage of reassessment.
83. In the present case also we find that the facts are almost identical to the facts as obtaining in the case of GE Packaged Power Inc. (supra) which is the latest decision of Hon'ble Jurisdictional High Court on this issue and, therefore, respectfully following the decision of Hon'ble Delhi High Court, we hold that assessee was not liable to pay interest u/s 234B. In the result, this ground is dismissed. In the result, revenue's appeals are dismissed.
84. In the result all the appeals preferred by the assessee are partly allowed and the revenue's are dismissed.
jyoti
Comments