TMI Blog2012 (4) TMI 80X X X X Extracts X X X X X X X X Extracts X X X X ..... able in India as per the domestic law or relevant tax treaty. Accordingly, no liability for deduction of tax at source. Same is held for interest payments made to overseas branches – Decided in favor of assessee. - IT Appeal Nos. 5402 & 5458 (Mum.) of 2006 and 3211 (Mum.) of 2007 - - - Dated:- 30-3-2012 - G.E. Veerabhadrappa, D.K. Agarwal, R.S. Syal, P.M. Jagtap and B. Ramakotaiah, JJ. ORDER Per Bench This Special Bench of five Members has been constituted by the Hon'ble President, Income Tax Appellate Tribunal to consider and decide the following questions which are arising from the cross appeals filed in this case : 1. Whether or not on the facts and in the circumstances of the case, the CIT(A) was justified in holding that interest payable by the Indian PE of the foreign bank to its HO and other Overseas Branches, is not deductible in computing its total income. 2. Whether or not, on the facts and in the circumstances of the case and in law, the ld. CIT(A) erred in holding that interest income payable by the Indian PE of a foreign bank to its HO and branch offices abroad cannot be taken into account for the purpose of computing the income of HO liable to b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessee on the decision of Hon'ble Calcutta High Court in the case of Belts Hartley Huett and Co. Ltd. v. CIT 116 ITR 425 wherein it was held that in law there could not be a valid transaction of sale between the branch office of the assessee in India and its head office in London and it was a elementary proposition that no person can enter into a contract with oneself. It was held that debiting or crediting one's account cannot alter this legal position. It was contended on behalf of the assessee that interest payable by its branches in India to head office thus was payment to self and such payment did not give rise to any income. Relying on the decision of Hon'ble Supreme Court in the case of Transmission Corporation of Andhra Pradesh Ltd. v. CIT 239 ITR 587, it was contended that interest payable to the head office of the assessee bank by its branches in India thus was not income chargeable to tax in India and there was no requirement of deduction of tax at source from the said interest and no question of disallowance of the said interest u/s 40(a)(i). 3. In so far as deductibility of the interest payable to the head office in the hands of branch offices in India is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which is resident of Japan and beneficial owner of the interest, is carrying on business in India through its permanent establishment and the debt in respect of which interest is payable was effectively connected with such permanent establishment. It was contended that the provisions of paragraphs (1) and (2) of article 11 thus are not applicable in its case as per the provisions contained in paragraph (6) of article 11 of the Indo-Japanese DTAA. Attention of the AO was also invited by the assessee to article 14(3) of the Indo-US DTAA which specifically provided that the interest payable by a branch of a bank in India to its head office in USA should be taxed in India at the rates specified therein. It was contended that the Indo-Japanese DTAA, however, does not have any such provision corresponding to article 14(3) of the Indo-US DTAA providing that the interest payable to the head office of a bank in Japan by the branch in India will be taxable in India. It was contended that the deeming fiction created in article 7(2) treating the permanent establishment in India as a separate and independent entity is for the limited purpose of determining the profits attributable to the said ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rgeable to tax at a concessional rate as per article 11 of the Indo-Japanese treaty. In addition to the said circular, reliance was also placed by the AO on the commentary of Klause Vogal in his book "Klause Vogel on Double Taxation Conventions" - Third Edition at para No. 89 and 90 on page No. 750 wherein it was stated that under article 11(5), interest shall be deemed to arise in a contracting state where, irrespective of the payer's residence, the interest is paid on an indebtedness of a permanent establishment in that contracting State and is borne by such permanent establishment. 6. As regards the argument of the assessee that payment of interest being a payment to self does not give rise to any income, the AO held that the same is not tenable because of the deeming provisions contained in article 7 of the treaty providing that the income of the branch should be computed as if it is a separate and distinct entity from the non resident. He held that the branch in India thus has to be treated as if it is an entity separate from the main entity for the purpose of computation of income and the provisions of domestic law including section 40(a)(i) will apply accordingly. He hel ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... branches for the interest payable to the head office. Following the said decision of the Tribunal in the case of ABN Amro Bank NV ( supra ), he held that interest payable by the Indian branches of the assessee bank to its head office could not be allowed as deduction while computing the income of the Indian branches. Accordingly the addition made by the AO on account of disallowance of interest payable by the Indian branches to the head office while computing the profit attributable to the said branches constituting PE of the assessee bank in India was confirmed by the learned CIT(Appeals). He also held, following the decision of the Tribunal in the case of ABN Amro Bank NV ( supra ), that such interest not being allowable as deduction while computing the income of the Indian branches which constituted permanent establishment of the assessee bank, could not be brought to tax in India as income of the head office of the assessee bank. The addition made by the AO on account of such interest receivable by the head office of the assessee bank while computing its total income chargeable to tax in India therefore was deleted by him. Aggrieved by the order of the learned CIT(Appeals) ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ax is not deductible from such interest payable by the PE in India to the overseas head office of a foreign bank and there is no question of making disallowance of such interest expenditure by invoking the provisions of section 40(a)(i). 10. Shri Pardiwala took us through the provisions of article 7(2) and 7(3) of the Indo-Japanese DTAA placed at page No. 133 of the Revenue's paper book II. He also took us through para 7 and 8(1) of the protocol placed at page No. 148 of the Revenue's paper book II. He submitted that this portion of the protocol makes it clear that as per article 7(2) read with article 7(3) of the Indo-Japanese treaty, interest payable by PE in India to the overseas head office is an allowable expenditure while computing the profit attributable to the PE only in case of banking institution. He contended that such interest under the domestic law no doubt cannot be claimed as deduction by the assessee being payment to self but under the relevant treaty, the assessee is entitled to claim deduction as per article 7(2) and 7(3) on account of interest payable by its PE to head office while computing the profit attributable to the PE. As regards the applicability of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... treating the permanent establishment as a distinct and separate entity. He also invited our attention to the observations recorded by the Hon'ble Supreme Court at page 493 of the report to the effect that when GE sets up a PE in another country, it brings itself within the fiscal jurisdiction of that country to such a degree that such other country can tax all profits that the GE derives from the source country, whether through a PE or not. It was held that it is the act of setting up a PE which triggers the taxability of transactions in the source state. 12. As regards the decision of Hon'ble Calcutta High Court in the case of ABN Amro NV ( supra ) relied upon by Shri. Pardiwala, Shri Dave contended that the said decision not being that of Jurisdictional High Court is not binding on this Special Bench. In support of this contention, he relied inter alia , on the decision of Hon'ble Bombay High Court in the case of Geoffrey Manners and Co. v. CIT 221 ITR 695 and that of Mumbai Special Bench of the Tribunal in the case of Mahindra Mahindra Ltd. v. DCIT 30 SOT 374 (Mumbai) (S.B.). He then invited our attention to a chart prepared and furnished by him showing contradi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Indian branches in India whereas the total borrowing made from outside India was to the tune of Rs. 238.10 crores. He also pointed out that capital remitted by head office was reflected separately in the balance sheet of the Indian branches which clearly shows that PE and HO are independent entities. He invited our attention to page 9 of his paper book Vol. I to show that subordinate debts of Rs. 47.48 crores were shown to be received by the Indian branches of the assessee bank from its head office which were payable only after settlement of other priority debts. He contended that these entries passed in the books of accounts of the Indian branches further show that head office is a distinct and separate entity. He then invited our attention to page No. 19 of the paper book Vol. I to point out that interest received by the Indian branches from London branch of the assessee bank was shown as income of PE in India. 15. Reference was made by Mr. Dave to article 7(3)(b) of India-Netherland treaty whereby interest payable by head office to PE in case of banking enterprise is made chargeable to tax in India in the hands of Indian PE. He contended that accounts prepared symmetrically ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... relevant and equally applicable in the present context. He also relied on the decision of Sindh High Court in the case of ABN Ambro Bank 2011 PTD 438 and invited our attention specifically to the conclusion recorded in paragraph No. 19 of the said judgment which, according to him, is relevant in the present context. He also relied on the decision of Mumbai Bench of ITAT in the case of Dresdner Bank AG 108 ITD 375 and contended that observations and findings recorded in the said case in the context of PE are equally applicable in the case of GE. 18. Shri Girish Dave then invited our attention to page No.5 of the Revenue's paper book Vol. I to point out that interest of Rs. 66.16 crores earned by the Indian branches was inclusive of interest of Rs. 3 lakhs received by the said branches from London branch of the assessee bank. He pointed out that similarly interest expenses of Rs. 31.59 crores shown by the Indian branches was inclusive of interest payable to head office of the assessee bank. He contended that the stand taken by the assessee in this regard before the AO (page No. 12 of the paper book) that entries made in the books alone cannot give rise to income in India is not i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the said provision, however, is not applicable in the present case firstly because interest expenses are allowed as deduction under treaty and domestic law has no application in relation to allowability thereof including section 40(a)(i) and secondly because section 195 itself is not attracted since interest is not income chargeable to tax in India in the hands of payee i.e. head office of the assessee bank either under the domestic law or even under the relevant DTAA. 21. Shri Pardiwala invited our attention to the decision of Special Bench of ITAT in the case of ABN Amro Bank NV ( supra ) wherein it was held that interest paid by PE to GE being payment made to self cannot be allowed as deduction in the hands of PE or treated as income in the hands of GE under domestic law. He submitted that the claim of the assessee for deduction of such interest based on article 7(2) and 7(3) of DTAA was also disallowed by the Special Bench of ITAT and the decision to this effect only was challenged by the assessee in an appeal filed before the Hon'ble Calcutta High Court. He submitted that this issue has been decided by the Hon'ble Calcutta High Court in favour of the assessee allowing it ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he relied on the decision of Hon'ble Gujarat High Court in the case of CIT v. Bai Vina 57 ITR 100 wherein the scope of legal fiction has been explained. 23. Shri Pardiwala then proceeded to submit that even if both GE and PE are treated as separate entities, the taxability of interest receivable by GE from PE will have to be considered as per article 11(6). He then took us through the relevant portion of commentary on article 11 at page 164 of the paper book to point out that the power given in article 11(2) to tax interest in the source country is subject to the condition that the local law of that country permits such charge. He relied on the commentary of Klause Vogal to contend that article 11(6) in such case becomes applicable and it takes out the case of the assessee out of article 11(2) and put it under article 7. He contended that the interest payable by PE to GE, however, cannot be the income attributable directly or indirectly to the PE and the same, therefore, cannot be brought to tax in India even under article 7. He submitted that this is so because the PE cannot be said to have played any role in generation of interest income to the head office because this i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ( supra ) cited by Shri. Girish Dave, Mr. Pardiwala invited our attention to the relevant portion of the said judgment (at page No. 393 of the paper book) to point out that the earlier decision rendered in the case of Thane Electricity has been simply followed by the Hon'ble Bombay High Court in the said case. He submitted that the decision in the case of Thane Electricity has been duly considered by the Hon'ble High Court in the case of Vilso Dine (copy enclosed). As regards the decision of the Special Bench of ITAT in the case of Mahendra Mahendra ( supra ) cited by Shri Girish Dave, Shri Pardiwala submitted that the decision of non jurisdictional High Court in that case was not followed by the Special Bench of the Tribunal for specific reasons which are not in existence in the present case. He submitted that there is no material difference even between the Indo-Netherland treaty and Indo-Japanese treaty so as to say that the decision of Hon'ble Calcutta High Court in the case of ABN Amro Bank rendered in the context of Indo-Netherland treaty cannot be applied in the present case involving Indo-Japanese treaty. 27. As regards the separate profit loss account and balance ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se was relating to taxation of interest income received by the branch from head office and not relating to interest received by head office. He submitted that the issue involved in the said case, therefore, was different and the same in any case was decided on the basis of local law and not treaty. He submitted that similarly the decision of Canadian Federal Court of Appeal in the case of Cudd Pressure Control Inc. ( supra ) relied upon by Shri Girish Dave involved a limited issue relating to deduction of notional rent in the case of branch which is entirely different from the issue involved in the present case. 30. As regards the decision of Mumbai Bench of ITAT in the case of Dresdner Bank AG ( supra ) relied upon by Shri Girish Dave, Mr. Pardiwala submitted that the issue involved in the said case was whether interest income received by Indian branch from other branch is taxable in India or not. He submitted that the decision rendered by the Tribunal on this issue in the case of Dresdner Bank AG ( supra ) is running contrary to the decision of Special Bench of ITAT in the case of ABN Amro Bank ( supra ) and the Tribunal in its subsequent decision rendered in the case ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssue in paragraph No. 15. As regards the decision of Volson Dine ( supra ) cited by Shri Pardiwala, Shri Dave submitted that the said decision was rendered by Hon'ble Madras High Court in the context of constitutional validity and the said decision of non jurisdictional High Court was held to be binding on the Tribunal because the Tribunal was held to have no power to go into constitutionality. As regards the decision of Hon'ble Madhya Pradesh High Court in the case of National Textile Corporation Ltd. v. CIT 171 Taxman 179 cited by Shri. Pardiwala in relation to sub-silencio decision, Mr. Dave submitted that only the latter portion of commentary of Soloman Jurispudance was considered therein ignoring the earlier portion wherein instances are specifically given to point out the situations where binding precedent gets diluted on account of sub silencio. As regards the decision of Special Bench of ITAT in the case of ABN Amro Bank ( supra ), Shri Dave invited our attention to page No. 8 of the judgment of Hon'ble Calcutta High Court passed in the case of ABN Amro Bank ( supra ) and pointed out that the earlier decision of the Court relied upon by the Special Bench has been ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... raised by the assessee by way of additional ground. 35. As regards the interest payable by the PE to GE, Shri Dastur submitted that although the same is not deductible under the domestic law i.e Indian Income Tax Act, 1961, the assessee is claiming the said deduction under the tax treaty between India and Belgium. He invited our attention to article 4 of the treaty to point out that the "resident" is defined therein to mean a "person". He also invited our attention to article 5 of the treaty whereby a branch of a foreign bank in India is considered as its PE in India. He then referred to article 7(1) which provides that business profits are assessable only in a country of residence unless there is a PE in other contracting State. He contended that Indian branch of the assessee bank thus constitutes its PE in India and only the profit attributable to such PE is taxable in India. He submitted that for computing such profit, PE has to be treated as an independent entity as per article 7(2) of the treaty. He contended that GE and PE thus are to be treated as separate and distinct entities working at arm's length for the purpose of computing profits attributable to the PE and going ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s income in the hands of GE in India. He submitted that the first step in this regard is to find out whether such interest is assessable under the domestic law. He contended that the Indian branch of the assessee bank (PE) and its Head office abroad (GE) are treated as one and the same entity under the domestic law and payment of interest by PE to GE being a payment to self does not result in any income. For this contention, he placed reliance on the decisions of Hon'ble Calcutta High Court in the case of Betts Hartley Heuttand Co.Ltd. v. CIT 116 ITR 425, Allahabad High Court in the case of Ramlal Bechairam v. CIT 14 ITR 1 and Hon'ble Supreme Court in the cases of Kikabhai Premchand (Sir) v. CIT 24 ITR 506 and Union of India v. Azadi Bachao Andolan 263 ITR 706. 38. Shri Dastur submitted that allowability of interest in the case of PE and taxability of interest in the hands of GE are two separate issues. He contended that the assessee, therefore, can rely on the treaty in support of its case on one issue and can rely on domestic law in support of its case on the other issue. In support of this contention, he relied on the decision of Hon'ble Supreme Court in the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... contended that this issue involved for consideration of Special Bench thus is squarely covered by the said decision of Hon'ble Calcutta High Court and the same being the only decision of the Hon'ble High Court on the issue, this Special Bench is bound to follow the same. In support of this contention, he relied on the decision of Hon'ble Bombay High Court in the case of CIT v. Godavaridevi Saraf (Smt.) 113 ITR 589, CIT v. Nirmalabai K. Darekar 186 ITR 242 and CIT v. Thana Electricity Supply Ltd. 206 ITR 727. He also relied on the decision of Hon'ble Madhya Pradesh High Court in the case of CIT v. Vrajlal Manilal and Co. 127 ITR 512 and the unreported decision of Hon'ble Bombay High Court in Civil Appeal No. 58 of 2009 dated 21-09-2010 (copy filed). He further relied on the decision of Hon'ble Delhi High Court in the case of Bikha Ram v. Union of India 238 ITR 113 and the decision of Mumbai Bench of ITAT in the case of Datamatics Financial Services Ltd. v. JCIT 95 ITD 23 wherein the binding effects of the decision of non jurisdictional High Court on the Tribunal are discussed and explained. He contended that the decision of Hon'ble Calcutta High Court in the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fixed rate as per article 11(2). He contended that if the provisions of sections 4 and (5)(2) are read with article 11(1) of the treaty, the said interest thus is chargeable to tax in India in the hands of the assessee being non resident at the fixed rate. He also contended that the transactions involved in the transfer of amount from HO to branch involve two different tax jurisdiction and it is, therefore, to be treated as debt. He contended that PE and GE are treated as different entities in cross border transactions and if they are not so treated, other provisions relating to payment of royalty, fees for technical services etc. will not be workable. He submitted that if the amount is advanced by Indian branch to overseas branch of the same bank, interest received is chargeable to tax. He submitted that the same is also a payment to self but still it is chargeable to tax. Relying on the decision of the Hon'ble Supreme Court in the case of Hyundai Heavy Industries Co. Ltd. 291 ITR 482, he contended that the domestic law also recognizes two entity approach in the case of PE. 44. Shri Srivastava submitted that the provisions of section 5(2) of the Act read with the concept of bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... va submitted that entire income of a non resident arising in India is taxable in India. He placed reliance on the provisions of section 5(2)(b) to contend that entire interest income arising in India is taxable in the hands of GE in India irrespective of whether the funds fetching the said interest is advanced by GE in India directly or through PE/branch. He contended that this basic chargeability of interest income arising in India in the hands of GE is not taken away by article 7 of the treaty which provides that income attributable to PE in India is chargeable to tax in India. He contended that interest payable by PE thus is chargeable to tax in India under the domestic law as well as under the treaty. 48. In the rejoinder, Shri Dastur submitted that the basic principle which is to be kept in mind in the present context is that nobody can make profit from himself. He referred to the provisions of section 5 to point out that income of a "person" is chargeable to tax in India. He submitted that "person" does not include "branch" and it is only the banking company i.e. GE which is a person in the present case. He contended that article 7 of the treaty treats the PE as a person ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the India-Belgium tax treaty. In the case of both these assessees, advances were given by the overseas head offices to the branches in India on which interest was payable by the branches in India. The dispute that has arisen in their cases is relating to deductibility of interest so payable in the hands of PE in India and chargeability of the said interest to tax in India in the hands of foreign GE. These issues are referred for consideration of the Special Bench in the form of two questions which are already indicated at the beginning of this order. At the outset, we may note that the relevant provisions of the tax treaties entered into by India with Japan and Belgium are similar and in the absence of any material difference therein, we shall be generally referring to the relevant provisions of the Indo-Japanese Tax Treaty for the sake of convenience. 50. As regards the deduction of interest payable to the head office in the hands of Indian PE for the purpose of computing profits attributable to the said PE, there is no dispute that such deduction is not permissible under the Indian Income-tax Act (domestic law) being the payment made to self. Both the Indian PE and the foreig ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt to the permanent establishment; except where the enterprise is a banking institution." 51. Before we proceed to consider the claim of the assessee for deduction of interest as per article 7(2) and 7(3) read with protocol paragraph No. 8, it is relevant to note that as per article 7(1) of the Indo-Japanese treaty, the profits of an enterprise of Japan is taxable only in Japan unless that enterprise carries on business in India through a permanent establishment situated therein and in such a case where the Japanese enterprise carries on business in India through a PE situated in India, the profit of Japanese enterprise may also be taxed in India but only so much of them as is directly or indirectly attributable to the PE in India. The question, therefore, arises as to how to compute the profits of the Japanese GE that is attributable to the permanent establishment in India. Article 7(2) and 7(3) are relevant in this context which provide that the profits attributable to the PE in India shall be the profits which the PE might be expected to make if it were a distinct and separate enterprise engaged in the same and similar activities under the same or similar conditions and deal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the purpose of taxation in India as per article 7(2) and 7(3) of the treaty read with paragraph No. 8 of the protocol. As a matter of fact, the AO has not disputed this position and even Shri Girish Dave has not raised any material contention at the time of hearing before us to dispute this position. 53. The AO, however, has disallowed the claim of the assessee for deduction on account of interest payable to the head office of the GE abroad in the hands of PE by invoking the provisions of section 40(a)(i). As per the said provision, any interest which is payable outside India or in India to a foreign company and on which tax is deductible at source, shall not be allowed as deduction in computing the income chargeable under the head "profits gains of business or profession" if such tax has not been deducted or after deduction has not been paid within the prescribed period as per the provisions of section 195. As required by section 195, any person responsible for paying to a foreign company any interest or any other sum chargeable under the provisions of the Act is required to deduct at the time of credit of such income to the account of the payee or at the time of payment the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... int of view of relevant provisions contained in the Income-tax Act, 1961 so as to ascertain whether interest payable by the Indian branch of the assessee bank to its overseas HO is chargeable to tax in India as per the domestic law or not. Only when it is found that the said income is chargeable to tax in India as per the domestic law, one can refer to the relevant treaties to look for any benefits available to the assessee vis- -vis the Income-tax Act since as per the specific provisions contained in section 90(2), provisions of DTAA override the provisions of the Act in so far they are more beneficial to the assessee. It is also to be taken into consideration that the provisions contained in tax treaties are not the charging provisions inasmuch as they do not bring to tax income which otherwise is not taxable as per the domestic law. This position is clear from the decision of Hon'ble Supreme Court in the case of Azadi Bachao Andolan ( supra ) wherein it was held that no provision of double taxation agreement can possibly fasten a tax liability where the liability is not imposed by the Act. It was held that if a tax liability is imposed by the Act, the agreement may be resorted ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s in respect of Tea purchased actual cost, commission or brokerage and also a sum of Rs. 10 paise per pound of Tea on account of shipping, sampling and other miscellaneous charges. In respect of dispatch to the head office, the assessee did not charge any commission but charged all other items of expenses. The AO, however, held that the amount of commission which was not charged on sale to the head office as income accrued to the assessee's head office in London and estimated the profit attributable to purchase operations of the assessee's London office in India through the assessee at 1.5% of the value of Tea to compute such income assessable to tax in India u/s 9(1). On appeal, the AAC accepted the contention of the assessee that the sales to its head office having been effected on a principal to principal basis, there was no profit assessable u/s 9(1) of the Income-tax Act, 1961. Accordingly he directed the deletion of the addition made by the AO on this issue to the income of the assessee. The Tribunal, however, held that the London Office did not earn more because of its business connection through the assessee in India and by not paying commission, this earning accrued or aro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the relevant provisions of the Indo-Japanese treaty. He has, inter alia, relied on article 23 of Indo-Japanese treaty which provides that the laws in force in either of the contracting State shall continue to govern the taxation of income in respective contracting state except where express provisions to the contrary are made in the convention. According to him, article 11 read with article 7 of the treaty contains such express provision and make the interest payable by the PE in India to the GE abroad the income of the GE chargeable to tax in India. Before we consider this argument of Shri Girish Dave in the light of the relevant provisions of the article 7 and 11 of the Indo-Japanese treaty, it is pertinent to discuss certain basic aspects of the matter which are relevant in this context. 61. Section 90(2) of the Income-tax Act, 1961 provides that where the Central Government has entered into an agreement with the Government of any country outside India or specific territory outside India, as the case may be, under sub-section (1) for granting relief of tax, or as the case may be, avoidance of double taxation, then, in relation to the assessee to whom such agreement appli ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a Contracting State and paid to a resident of the other contracting State may be taxed in that other Contracting State. 2. However, such interest may also be taxed in the Contracting State in which it arises, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 10 per cent of the gross amount of the interest. 6. The provisions of paragraphs 1, 2 and 3 shall not apply if the beneficial owner of the interest, being a resident of a Contracting State carries on business in the other Contracting State in which the interest arises, through a permanent establishment situated therein or performs in that other Contracting State independent personal services from a fixed base situated therein and the debt-claim in respect of which the interest is paid is effectively connected with such permanent establishment or fixed base. In such case, the provisions of article 7 or article 14, as the case may be, shall apply. 63. We have carefully gone through the above provisions of the treaty along with other provisions which are relevant in this context as well as commentaries available on this poin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at the deeming fiction created in article 7(2) of the treaty treating the PE in India as separate and independent entity should be extended to article 11 to the treaty. According to him, if the PE in India and the head office abroad are treated as two separate entities, there will be no difficulty in bringing to tax interest paid by Indian PE as income of the GE in India as per article 11(2). Before we deal with this argument relating to the extension of deeming fiction created in article 7(2) and application thereof to article 11 also as sought by Shri Girish Dave, we consider it proper to first deal with article 11(6) of the Indo-Japanese treaty which has been referred to by both the sides in different context and in different manner seeking interpretation thereof in support of their respective case. The said article 11(6) reads as under : "The provisions of paragraphs 1, 2 and 3 shall not apply if the beneficial owner of the interest, being a resident of a Contracting State carries on business in the other Contracting State in which the interest arises, through a permanent establishment situated therein or performs in that other Contracting State independent personal services ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ped in the Committee's report entitled Attribution of Profits to Permanent Establishments (see in particular paragraphs 72-92 of Part I of the report) for the purposes of the application of paragraph 2 of Article 7. In the context of that paragraph, the "economic" ownership of a debt claim means the equivalent of ownership for income tax purposes by a separate enterprise, with the attendant benefits and burdens (e.g. the right to the interest attributable to the ownership of the debt-claim and the potential exposure to gains or losses from the appreciation or depreciation of the debt-claim). 67. Keeping in view the purpose and scope of article 11(4) of the OECD Model Convention, the provisions of which are pari materia to the provisions of article 11(6) of the Indo-Japanese treaty, we are of the view that the same is not applicable to the facts of the present case inasmuch as the situation as contemplated to make it applicable does not exist in the present case. In the present case, the amount is advanced by the head office of the assessee bank to its PE in India and the same represents liability of the PE in India as reflected in the balance sheet of that PE. Interest paid b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le to the PE and this limited application contemplated in the treaty cannot be extended and applied to compute the income of the GE. It is no doubt true that if the accounts of two entities are prepared symmetrically and the methods of attributing profits or expenses applied are the same, such accounts are more acceptable to the tax authorities having jurisdiction over both these entities because the same will result in the deduction allowed in the hands of one entity as income in the hands of other entity. The relationship between a PE and the GE of which the said PE is part, however, is entirely different and the effects of article 7 should be considered keeping in view this peculiar relationship between the PE and GE. 70. The purpose and function of article 7 is to determine whether the source State may tax the profit of an enterprise carried on by a resident of other contracting State through a PE in the source State and if so, how much of the profits the source State may tax. The resident State has to determine the profits attributable to the PE considering it as a separate entity mainly for the purpose of granting double taxation relief according to the relevant treaty an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as received interest of Rs. 3 crores, while the PE has taken a loan from third party on which interest of Rs. 3 crores has been paid. In such a case, the profit attributable to the PE will remain the same at Rs. 2 crores on which the PE State will impose tax. The profit of GE which represents the consolidated figure of HO and PE will also remain unchanged at Rs. 100 crores as the interest received from third party of Rs. 3 crores will be credited to the consolidated profit loss account and the interest paid by PE to third party amounting to Rs. 3 crores will be debited in the consolidated profit loss account. The total profit of the GE thus will remain the same even in this situation at 100 crores out of which Rs. 2 crore will be taxed in PE State being profit attributable to PE and the balance amount of Rs. 98 crore will be taxed in GE State i.e. resident State. However, it will have to pay in addition to the tax payable on the profit attributable to the PE of Rs. 2 crores, tax on interest of Rs. 3 crores received from third party of the other State in that State i.e. PE State as per article 11(2) of the treaty. The GE, however, will be able to claim credit for such tax pa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... self. 73. The OECD commentary 'Model Tax Convention on income and on capital (condensed version)' released in July, 2010 has also considered in paragraph no. 28 the effect of the separate and independent enterprise fiction that is mandated by article 7(2). It is stated in this context that the said fiction is restricted to the determination of profits that are attributable to a Permanent Establishment and it does not extend to create notional interest income for the enterprise which a contracting State could tax as such under its domestic law by arguing that such income is covered by another article of the convention. It is also clarified that the separate and independent enterprise fiction does not extend to article 11 and for the purpose of that article, one part of an enterprise cannot be considered to have made an interest payment to another part of the same enterprise. 74. In the assessment order, the AO has relied on the provisions of section 9(1)(v)(c) of the Income-tax Act to hold that interest payable by PE in India being income deemed to accrue or arise in India is chargeable to tax in India. In our opinion, such interest payable by the PE to GE being payment to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onsidered while holding that interest receivable by a foreign bank from its Indian branch was not taxable in the hands of foreign bank in India. Shri Dave has also made an attempt to invite our attention to the various findings and observations recorded by the Hon'ble Calcutta High Court in its judgment delivered in the case of ABN Amro Bank NV ( supra ) which according to him, are self contradictory and inconsistent. The learned counsels for the assessee, Shri Pardiwala and Shri Dastur, on the other hand, have contended that the decision of Hon'ble Calcutta High Court being the only decision of the High Court directly available on the point, should be followed by the Special Bench even though the same is the decision of the non jurisdictional High Court. Without going into all these arguments raised by the learned representatives of both the sides, we consider it sufficient to observe that the issues raised before us have been considered and decided by us on merits independently after taking into consideration the various submissions made by both the sides and the relevant material placed on record. This issue, therefore, is not being decided by us by simply following the decisi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tain income in the hands of foreign enterprise in India which otherwise is not taxable as per the domestic law. In this regard, we have referred to the provisions of section 90(2) of the Indian Income-tax Act which provide that the provisions of the domestic law override and prevail over the provisions of treaty if the same are beneficial to the assessee. We have also relied on the decision of Hon'ble Supreme Court in the case of Azadi Bachao Andolan ( supra ) wherein it was held that treaty cannot impose tax which is otherwise not provided in the domestic law. 79. As regards the reference made by Shri Girish Dave to the balance sheet of Indian Branches of the assessee bank wherein capital and loans given by the head office are reflected separately to show that head office is a distinct and separate entity from the Indian Branches, we have already considered and highlighted the peculiar relationship between the head office of the assessee bank being a foreign GE and its Indian Branches being PE in India. We have also highlighted how as a result of this peculiar relationship, there is a departure from symmetric approach generally followed by two entities in preparing their acc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l rent was not allowable as deduction also for the reason that the amount of such notional rent was never included as income in the hands of head office. It was held by him that to allow deduction in this circumstance would mean that the tax was being avoided on rental income both in Canada and in United States. The facts involved in the case of Cudd Pressure ( supra ) thus were entirely different from the facts of the present case. Moreover, the present case is not a case where there is avoidance of tax by the assessee in both the countries as already discussed and explained by us. The observations and comments made in the minority view and relied upon by Shri Dave in the case of Cudd Pressure ( supra ), in our opinion, therefore, cannot render any support to the Revenue's stand on the issue under consideration in the present case. 81. In the case of ABN Amro Bank ( supra ) decided by Hon'ble Sindh High Court of Pakistan and cited by Shri Girish Dave, the issue involved was whether the Tribunal was correct to confirm the taxation of interest income received by the branch in Pakistan of a foreign bank from its Head Office and branches located outside Pakistan disregarding ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d counsel's arguments that since no one can be expected to make profits out of transactions with himself, intra organization transactions are to be ignored for the purpose of computing profits accruing or arising, to an Indian PE of a foreign company, under section 5(2)(b) of the Act. In our understanding, for the purposes of computing profits of a PE, the intra organization transactions are to be taken into account as long as these transactions are real and bona fide transactions. It is not the assessee's case that the interest income from the head office is without any consideration or without sufficient consideration. In other words, fact of or correctness of interest earnings from head office are not in dispute. Therefore, in our considered view, the interest earnings from the head office are to be taken into account for the purposes of computing profits arising in or accruing in India. We, therefore, reject the contentions of the assessee." In the case of Dresdner Bank AG ( supra ), a reference was made to the decision of Calcutta Special Bench of the Tribunal in the case of ABN Amro Bank NV ( supra ) which was in favour of the assessee and the same was considered by the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is issue, reliance was placed on behalf of the assessee on the decision of Kolkatta Special Bench of ITAT in the case of ABN Amro Bank NV ( supra ) while the Revenue relied on the decision of Division Bench in the case of Dredsner Bank Ltd ( supra ). The Division Bench in its order passed in the case of American Express Bank Ltd. took note of the ratio laid down by the Special Bench in the case of ABN Amro Bank ( supra ) as well as by the decision of the coordinate bench in the case of Dredsner Bank ( supra ) and found conflict therein. The Division Bench, therefore, preferred to follow the decision of Special Bench in the case of ABN Amro Bank ( supra ) for the following reasons given in paragraph No. 35 of its order : "The comparative study of both the judgments shows that there is conflict between the ratio laid down by the decision of Special Bench in the case of ABN Amro Bank ( supra ) and the decision of Division Bench in the case of Desdner Bank ( supra ). It is not in our domain to make any comment on the decision of the Division Bench. However, there is no dispute to the legal position that in the case of conflict between the decisions of Special Bench and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s to be kept in mind in this context is that nobody can make profit from himself and the income accrues or arises only when there is a deal with some third person and not from the deal with himself. 85. As regards the arguments raised by Shri Srivastava relying on the provisions of article 11(2) of the treaty, it is observed that the same is mainly a reiteration of what has been argued by Shri Girish Dave and we have already dealt with the submissions made by Shri Girish Dave elaborately before finally rejecting the same. As regards the contention raised by Shri Srivastava relying, inter alia, on the decision of Hon'ble Supreme Court in the case of Hyundai Heavy Industries Company Ltd. ( supra ) that the domestic law also recognizes two entity approach in the case of PE, we are of the opinion that the same cannot be disputed. However, this two entity approach is recognized only to the extent of determining the profit attributable to the PE in India and that too mainly relying on the relevant provisions of the treaty. As already held by us, this separate entity approach adopted in the case of PE by way of a deeming fiction is applicable only for the purpose of determining the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ayment to self, no income can be said to have arisen or accrued which is chargeable to tax in India. 87. Shri Srivastava has submitted before us that article 7(2) of the treaty lays down the procedure for apportionment of income between Head Office and Indian Branch. According to him, as per the said scheme of apportionment, what can be allowed as deduction is the actual cost of funds to the Head Office. He has contended hat if there is no such cost incurred at HO level, interest paid by the branch to the HO will be only a notional expenditure which cannot be apportioned as per article 7(2) of the treaty. We are unable to accept this contention of Shri Srivastava keeping in view the specific provisions contained in article 7(2) of the treaty. As per the said provisions, the profits attributable to the Permanent Establishment are the profits which the PE might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment. The profits attributable to the PE thus are required to be determined treating the s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he said interest by invoking the provisions of section 40(a)(i) does not arise. Accordingly we answer question No.1 referred to this Special Bench in the negative i.e. in favour of the assessee and question No.2 in affirmative i.e. again in favour of the assessee. 89. Before parting, we may clarify that there may arise a situation where interest is payable by PE to GE and also there is interest receivable by PE from GE in the same year. A similar situation may arise where there are internal dealings of the Indian Branch of a foreign bank with its head office as well as other overseas branches. In such a situation, the issue may arise whether only the net interest would be allowable as deduction while determining profits attributable to the PE in India. This issue, however, has neither been referred to this Special Bench nor any arguments have been advanced by both the sides thereon specifically during the course of hearing. We may further clarify that the issue referred to this Special Bench in question No. 2 has been raised by Antwerp Diamond Bank NV in its appeal by way of an additional ground. Although the said issue which is also involved in the case of Sumitomo Mitsui ..... X X X X Extracts X X X X X X X X Extracts X X X X
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