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2008 (1) TMI 437 - AT - Income TaxDisallowance u/s 40(a)(i) - Liability to deduct tax at source u/s 195(1) - payments to non-residents on account of rentals for hosting the websites on their servers located in USA - Nature of the payments for rentals for hosting of website is ''interest'' or ''royalty'' or ''fee for technical services'' or ''other sum chargeable to tax in India'' ? - HELD THAT:- We find that paragraph 3(b) of article 12 takes into its ambit the payments of any kind received as consideration for the use of, or the right to use any industrial, commercial or scientific equipment other than equipments relating to Shipping and Air Transport described in paragraph 2(c) or 3 of Article 8. Though the DTAA between India and USA provides for taxing of royalties for the use of, or the right to use any industrial, commercial or scientific equipment in the Contracting State in which they arise and according to the laws of that State but the same could not be taxed in India up to assessment year 2001-02 as clause (iva) of Explanation 2 to section 9(1)(vi) was inserted with effect from 1-4-2002. Under the new procedure, the revenue can recover the tax along with interest, if any, from the assessee in a case the tax authorities later on find that short or no deduction of tax at source was made. The assessee is also liable for penalty prosecution for the default committed by him. Thus CBDT with effect from 18-11-1997 prescribed a new procedure for the purposes of the remittance of payments under which issue of No Objection under section 195(2) by the income-tax authorities has been dispensed with. However under section 195(2) the person responsible for paying any such sum, other than salary, chargeable under the Act to a non-resident considers that the whole of such sum would not be income chargeable in the case of the recipient, he may make application to the Assessing Officer to determine, by general or special order, the appropriate portion of such sum so chargeable, and upon such determination, tax shall be deducted under sub-section (1) only on that proportion of the sum which is chargeable. Thus, the payments made to non-residents are neither in the nature of interest nor fee for technical services or royalty. The sums are not chargeable to tax under the Act as business income on the ground that none of the payee had permanent establishment in India. The memorandum explaining the Finance Bill, 2001 makes it clear that prior to amendment, the consideration for the use of, or the right to use, industrial, commercial or scientific equipment was liable to be assessed as business income in the source country. Since the payment for use of space in servers is in nature of royalty and income arising on use of, or the right to use, industrial, commercial or scientific equipment was not royalty before the amendment by the Finance Act, 2001 with effect from 1-4-2002, within the meaning of provisions of Explanation 2 to section 9(1)(vi) of the Act, the same was to be assessed in other Contracting State i.e., USA as per paragraph 1 of article 12 of DTAA and not in India. Whether the resident assessee could take advantage of provisions of article 26(3) of DTAA - Similar payment to a resident does not result in disallowance in the event of non-deduction of tax at source. Thus, a non-resident left with a choice of dealing with a resident or a non-resident in business would opt to deal with a resident owing to the provisions of section 40(a)(1) of the Act. To this extent the non-resident is discriminated. Article 26(3) of Indo-US DTAA seeks to provide relief against such discrimination by saying that deduction should be allowed on the same condition as if the payment is made to a resident. Thus, this clause in DTAA neutralizes the rigour of the provisions of section 40(a)(i) of the Act. Hence by virtue of the provisions of section 90(2), the law which is beneficial to the assessee to whom DTAA applies, should be followed. This view is supported by the decision of Hon'ble Supreme Court in the case of Union of India v. Azadi Bachao Andolan [2003 (10) TMI 5 - SUPREME COURT]. We therefore hold that in view of the provision of article 26(3) of DTAA, the Assessing Officer cannot seek to invoke the provisions of section 40(a)(i) of the Act for deduction while computing the profits and gains of business or profession. A similar view was taken by ITAT Delhi Bench in the case of Herbalife International India (P.) Ltd.[2006 (2) TMI 220 - ITAT DELHI-D]. To sum up, the payments made on account of rentals for hosting of web sites on servers are not in nature of interest or royalties or fee for technical services or other sum chargeable to tax in India. CBDT has revised the procedure for deduction of tax at source on remittances made out of the country. The provisions of DTAA are also in favour of the assessee. Accordingly, the assessee was not required to deduct tax at source under section 195 of the Act while making payments outside India. We decide this issue in favour of the assessee. In the result, the appeal filed by the assessee is partly allowed.
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