TMI Blog2005 (2) TMI 771X X X X Extracts X X X X X X X X Extracts X X X X ..... essee from business is to be computed in accordance with the provisions of and subject to the limitations of the taxation laws of that State, which includes section 44D which provides for taxation of income on gross basis. Whatever be the wordings of these grounds of appeal, in our considered view, the actual issue we are required to adjudicate in this appeal is whether or not the limitation on deduction for expenses, as set out in section 44D of the Income-tax Act, will apply in a case where the related income is not in the nature of fees for technical services so far as meaning of the said expression under the applicable bilateral tax treaty is concerned but, on the tests laid down under Explanation 2 to section 9(1)(vii) of the Act, such an income could be treated as fees for technical services . Learned representatives fairly agree with us that it is this issue which constitutes core of the controversy, and arguments of the learned representatives canvass their respective points of view on this issue. As for the first ground of appeal, as rightly pointed out by Mr. Vyas, it is not even the assessee s case, nor the finding of the Commissioner of Income-tax (Appeals), that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ceived from Indian concerns is concerned, the same is taxable on gross basis, though at a concessional rate of 20% in terms of the provisions of section 115A of the Act. As regards the fees received from foreign companies, however, the Assessing Officer, in the computation of taxable income or, to put it appropriately, in the computation of loss to be carried forward, allowed deduction of related expenses incurred by the assessee. Since the expenses incurred on fees earned from Indian concerns and expenditure incurred on fees earned from foreign concerns could not be segregated, nor could it be allocated on any other basis, these expenses were allocated on the basis of quantum of fees earned on pro rata basis. The Assessing Officer thus completed the assessment in two parts (i) computing the taxable income of the assessee at Rs. 40,50,000 from Indian companies and taxing the same at concessional rate of 20% in terms of section 115A of the Act, (ii) computing loss to be carried forward at Rs. 2,87,35,585 (i.e., Rs. 1,00,98,885 being professional fees received from foreign concerns minus Rs. 3,88,34,470 being pro rata expenditure incurred on earning the said fees). Aggrieved by the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessees which are covered by such an agreement are concerned, the provisions of the Income-tax Act, 1961 will apply only to the extent to which the provisions of the Income-tax Act are more beneficial to the assessee. It is a settled legal position that whenever there is a conflict between the provisions of the tax treaty and the domestic law, the provisions of the tax treaty will prevail. These tax treaties have a significant place in the scheme of the Indian income-tax legislation, inasmuch as these treaties lay down an alternate scheme of taxation, so far as the beneficiaries of the applicable tax treaty are concerned. These alternate paradigms are entirely optional to the assessee because it cannot be thrust upon an assessee and the provisions of the Indian Income-tax Act continue to be applicable to the extent these provisions are more favourable to the assessees. Once the assessee chooses to be covered by the provisions of an applicable tax treaty, it is not open to the Revenue to thrust the provisions of the Act on the assessee. The Revenue, therefore, cannot dispute the taxability in the hands of the assessee being examined on the touchstone of the principles implici ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the limitations on deduction of expenses in the Indian Income-tax Act is set out in section 44D, which, inter alia, lays down that, notwithstanding anything contained in sections 28 to 44C, a foreign company is not to be allowed any deduction of expenditure in computing the income by way of royalty or fees for technical services earned from Indian Government or an Indian concern under an agreement entered into between April 1, 1976 to March 31, 2003. Explanation (a) to section 44D further provides that for the purpose of section 44D, fees for technical services shall have the same meaning as in Explanation 2 to section 9(1)(vii). The Revenue s contention is that this limitation on deduction of expenses, which prohibits deduction of any expenses in the computation of income by way of royalties and fees for technical services is applicable in the present case also. It is contended that in view of the provisions of article 7(3) of the tax treaty, limitation on deduction of expenses are also to be applied while computing the profits attributable to the PE, and that the only condition precedent for invoking this limitation is that the fees for technical services received in the inst ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which 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. In any case where the correct amount of profits attributable to a permanent establishment is incapable of determination or the determination thereof presents exceptional difficulties, the profits attributable to the permanent establishment may be estimated on a reasonable basis. 3. In the determination of the profits of a permanent establishment, there shall be allowed as deductions, expenses which are incurred for the purposes of the business of the permanent establishment including executive and general administrative expenses so incurred, whether in the State in which the permanent establishment is situated or elsewhere, in accordance with the provisions of and subject to the limitations of the taxation laws of that State. 4. In so far as it has been customary in the Contracting State to determine the profits to be attributed to a permanent establishment on the basis of an apportionment of the total profits of the enterprise t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y for which royalties under paragraph 3(b) are received, 10 percent of the gross amount of the royalties and fees. 3. The term royalties as used in this article means payments of any kind received as a consideration for the use of, or the right to use : (a) any copyright of a literary, artistic or scientific work, including cinematograph film or films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process or for information concerning industrial, commercial or scientific experience, including gains derived from the alienation of any such right, property or information ; (b) any industrial, commercial or scientific equipment, other than payments derived by an enterprise from activities described in paragraph 4(b) or 4(c) of article 8. 4. The term fees for technical services as used in this article means payments of any kind to any person in consideration for services of a managerial, technical or consultancy nature (including the provision of such services through technical or other personnel) if such services : (a) are ancillary and subsidiary to the application or enjoyment of the right, property or ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ervices shall be deemed to arise in a Contracting State when the payer is that State itself, a political sub-division, a local authority, a statutory body or a resident of that State. Where, however, the person paying the royalties or fees for technical services, whether he is a resident of a Contracting State or not, has in a Contracting State a permanent establishment or a fixed base in connection with which the liability to pay the royalties or fees for technical services was incurred, and such royalties or fees for technical services are borne by such permanent establishment or fixed base, then such royalties or fees for technical services shall be deemed to arise in the State in which the permanent establishment or fixed base is situated. 8. Where, by reason of a special relationship between the payer and the beneficial owner or between both of them and some other person, the amount of royalties or fees for technical services paid exceeds the amount which would have been paid in the absence of such relationship, the provisions of this article shall apply only to the last-mentioned amount. In such case, the excess part of the payments shall remain taxable according to the law ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd technical service fees in the case of foreign companies. (1) Where the total income of (b) a non-resident (not being a company) or a foreign company, includes any income by way of royalty or fees for technical services received from Government or an Indian concern in pursuance of an agreement made by the foreign company with Government or the Indian concern after the 31st day of March, 1976, and where such agreement is with an Indian concern, the agreement is approved by the Central Government or where it relates to a matter included in the industrial policy for the time being in force, of the Government of India, the agreement is in accordance with that policy, then, subject to the provisions of sub-sections (1A) and (2), the income-tax payable shall be the aggregate of, (A) the amount of income-tax calculated on the income by way of royalty, if any, included in the total income, at the rate of thirty percent ; (B) the amount of income-tax calculated on the income by way of fees for technical services, if any, included in the total income, at the rate of thirty percent ; and (C) the amount of income-tax with which it would have been chargeable had its total income be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... olence to the language of the Convention, I see no reason to inflict a deeper wound than necessary. In other words, I prefer to depart from the plain meaning of language only in the second sentence of article XV and I accept the consequence (strange though it is) that similar words mean different things in the two sentences. In a later judgment, Harman J. in Union Texas Petroleum Corporation v. Critchley (Inspector of Taxes) [1988] STC 691, affirmed the above observations of Goulding J. and added (page 707) : I consider that I should bear in mind that this double tax agreement is an agreement. It is not a taxing statute, although it is an agreement about how taxes should be imposed. On that basis, in my judgment, this agreement should be construed utres magisvaleat quam pereat, as should all agreements. The fact that the parties are high contracting parties , to use an old description, does not change the way in which the courts should approach the construction of any agreement. We are in considered agreement with this school of thought which lays down the proposition that, strictly speaking the principles of literal interpretation do not apply to the interpretation of ta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . . . The interpretation of a treaty imported into municipal law by indirect enactment was described by Lord Wilberforce as being unconstrained by technical rules of English law, or by English legal precedent, but conducted on the broad principles of general acceptation . This echoes optimistic dictum of Lord Widgery C.J. that the words are to be given their general meaning, general to lawyer and laymen alike. . . the meaning of diplomat rather than the lawyer . The hon ble Supreme Court, in the case of K. P. Varghese v. ITO [1981] 131 ITR 597 and even in the context of interpretation of taxing statutes, have held that the task of interpretation is not a mechanical task and, quoted with approval ; Justice Hand s observation that it is one of the surest indexes of a mature and developed jurisprudence not to make a fortress out of the dictionary but to remember that statutes always have some purpose or object to accomplish, whose sympathetic and imaginative discovery is the surest guide to their meaning . Their Lordships observed as follows (page 604) : . The task of interpretation of a statutory enactment is not a mechanical task. It is more than a mere reading of ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tax treaties are required to be read as a whole and not in isolation with each other. The court s duty is to give effect to the provisions of the treaty in its natural meaning, and not to interpret them in isolation. It is done in their context and in the light of the object and purpose of the treaty. The context in which the words are used is therefore of paramount importance. General words and phrases, therefore, however wide and comprehensive in their literal sense, must be construed as being limited to the actual objects of the enactment. Therefore, what is really needed in the context of interpretation of treaties is that a holistic view of the matter is taken. This exercise essentially requires that the provisions of the treaty are required to be treated in a harmonious manner. The same principle applies to the interpretation of the taxing statutes as well. It is fundamental principle of interpretation that a statute must be read as a whole, notwithstanding that every section of the statute is a substantive enactment in itself. A co-ordinate Bench of this Tribunal, in the case of Ensco Maritime Ltd. v. Deputy CIT [2004] 91 ITD 459 (Delhi) at pages 476-477 and while dealing wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is valeat quam pereat, i.e., in such a manner as to make it workable rather than redundant. A literal or legalistic meaning must be avoided when the basic object of the treaty might be defeated or frustrated in so far as particular items under consideration are concerned. It is inevitable that interpreter of a tax treaty is likely to be required to cope with disorganised composition instead of precision drafting. Therefore, the words employed in the treaty are to be given a general meaning general to lawyers and general to laymen alike. Let us now deal with the core issue in appeal before us. Section 44D was brought on the statute, with effect from 1st April. 1976, by the Finance Act, 1976. By the same Finance Act, section 115A was also introduced. Section 44D, as we have already seen, provides for taxation of royalties and fees for technical services on gross basis and without allowing any deduction for expenses incurred in earning the said income. Section 115A, on the other hand, provides for a special rate of tax on certain incomes including the income from royalties and fees for technical services. The provisions of these two sections are required to be read together i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an concern in pursuance of an approved agreement made on or after the 1st April, 1976, will be charged to tax at the rate of 40 percent on the gross amount of such fees. The periodic changes in section 44D have been accompanied by the corresponding changes in section 115A. It is thus clear that non-deduction of expenses under section 44D, which means that the taxability is on gross basis, is coupled with a special rate of tax for such income on gross basis under section 115A. A somewhat similar scheme of taxability of royalties and fees for technical service on gross basis, but a lower rate, also finds a place in most of the tax treaties including India-Singapore tax treaty. Article 12 provides for taxation of fees for technical services in the source country on gross basis, but at a lower tax rate of 15%, barring the cases of fees for technical services which are ancillary and subsidiary to the enjoyment of property for which royalties under paragraph 12(3)(b), which are taxed at an even lower rate of 10%. Section 44D, read with section 115A of the Indian Income-tax Act and article 12 of the India-Singapore tax treaty are, therefore, similar in nature. These alternate paradigms ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e covered by any of the sub-clauses in article 12(4). To the Assessing Officer, this aspect of the matter did not really seem important because he was of the view, in view of the mandate of article 12(6), that when royalty and fees for technical services arise, in the course of business carried on through a permanent establishment in India, the provisions of article 7 are to be applied for the purpose of computation of profits liable to tax. While there is, and there cannot be, quarrel with this proposition that in a case where royalties and fees for technical services arise in the course of business carried on through the permanent establishment, the taxable profits in respect of the same are to be computed with reference to the principles laid down under article 7(3), we are also of the considered view that a finding about the nature of receipt being taxed in the hands of the assessee is a sine qua non for proper application of the treaty provisions. The importance of this finding is from the point of view as to what are the limitation for deduction of expenses which are applicable on the facts of this case. In the present case, there is no dispute that the receipts are not in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d fees for technical services ( fees for technical services is perhaps the only other nature of income belonging to the genus of royalties ) in the hands of a foreign company. Unless the income is of such a nature so as to fit the description of title of section 44D, there cannot be any occasion to invoke that section. But then, one more important and fundamental aspect is required to be dealt with. This aspect pertains to the conflicting scope of the definition of fees for technical services . Explanation (a) to section 44D states that (a) fees for technical services shall have the same meaning as in Explanation 2 to clause (vii) of sub-section (1) of section 9. The question then is whether the limitation under section 44D is to be invoked in a case where receipts in question answer the description of technical services in Explanation 2 to section 9(1)(vii) or is it confined to the cases where receipts are covered by the scope of fees for technical services under the applicable tax treaty. Explanation (a) to section 44D is essentially a part of section 44D itself. In a situation where there is no occasion to enter section 44D, as the receipts do not meet the description of fe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ply the limitation for deduction of expenses which are applicable only in the case of receipts in the nature of fees for technical services. The hon ble Supreme Court has, in the case of Union of India v. Azadi Bachao Andolan [2003] 263 ITR 706, observed that (p. 751) the principles adopted in interpretation of treaties are not the same as those in interpretation of statutory legislation . While saying so, their Lordships quoted, with approval, a passage from the judgment of the Federal Court of Canada in the case of John N. Gladden v. Her Majesty the Queen (85 DTC 5188 at page 5190), wherein the emphasis is on the true intentions rather than literal meaning of the words employed . In the light of the views so expressed by the hon ble Supreme Court, if one is to consider the scope of limitations on deduction of expenses in the computation of business profits in accordance with the provisions of and subject to the limitations of the taxation laws of that State , it is difficult to find the meeting ground between the finding that a particular receipt is not in the nature of fees for technical services for the purposes of the tax treaty, and yet, while computing the profits i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cal design, but excludes any service that does not enable the person acquiring the service to apply the technology contained therein. The nature of the assessee s activities being in the nature of strategy consulting , application of (a) and (c) is clearly ruled out. Such services can neither be ancillary and subsidiary to the application or enjoyment of the right, property or information, nor can these services consist of development and transfer of a technical plan or technical design. That leaves us only with sub-clause (b) of article 12 (4). The nature of the assessee s activities, as noted in the statement of facts, is being engaged in the business of strategy consulting . There is no dispute that these consultancy services are non-technical in nature inasmuch as these services are, as noted in the assessment order itself, are in the nature of strategy and business consulting which are intended to improve the performance of its clients by focusing on fundamentals of business . It has not been, at any stage of proceedings, the case of the Revenue that the consultancy services are technical in nature. The question then arises whether non-technical consultancy services can a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d forming part of the aforesaid DTAA, Government of India, has confirmed that memorandum of understanding between India and USA with regard to interpretation of article 12 (royalties and fees for included services) also represents the views of the Indian Government. This memorandum, inter alia, provides as follows : Under paragraph 4, technical and consultancy services are considered included services only to the following extent : (1) as described in paragraph 4(a), if they are ancillary and subsidiary to the application or enjoyment of a right, property or information for which a royalty payment is made ; or (2) as described in paragraph 4(b), if they make available technical knowledge, experience, skill, knowhow, or processes, or consist of the development and transfer of a technical plan or technical design. Thus, under paragraph 4(b), consultancy services which are not of a technical nature cannot be included services. (emphasis supplied) It is thus clear that so far as the India-US tax treaty is concerned, consultancy services, which are not technical in nature, cannot be treated as fees for included services which is the same thing as, but for the peculiar expression ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any technology, are required to be treated as outside the scope of fees for technical services . It is noteworthy that the Government of India has confirmed that memorandum of understanding between India and USA with regard to interpretation of article 12 (royalties and fees for included services), and extracts from which have been reproduced by us hereinabove, also represents the views of the Indian Government. Therefore, even apart from our categorical findings on merits, these views must prevail. We also have no reasons to believe that the Government of India had any other views for materially identical provisions in India-Singapore tax treaty. To the extent the provisions are in pari materia, there cannot be different meanings assigned to the provisions, unless there is anything repugnant in the context. We find nothing to support any deviation from the interpretation canvassed in the memorandum of understanding, attached to and forming part of the India-USA tax treaty, extracts from which have been reproduced above. As stated by Lord Mansfield, where there are different statutes in pari materia though made at different times, or even expired, and not referring to each othe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ilar in nature and offer alternative but similar models of taxation of income from royalties and fees from technical services, that these are two independent, mutually exclusive, and competing sets of provisions, and that once it is clear that these are competing modes of taxation of royalties and fees for technical services on gross basis, in the Income-tax Act and in the India-Singapore tax treaty, it has to follow that the provisions of the Income-tax Act cannot come to play unless these are more beneficial to the assessee which certainly is not the case here. We have held that in case a receipt is held to be outside the very scope of royalties and fees for technical services under the provisions of article 12, the same cannot be taxed under section 44D, read with section 115A either. For this reason also, section 44D and section 115A cannot have any application in the case before us. For the detailed reasons set out above, we are of the considered view that the limitation on deduction of expenses, for the purpose of computing profits attributable to the permanent establishment in India, and in terms of the provisions of section 44D of the Act, is not applicable on the facts ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... have, on the merits of the case and for the elaborate reasons set out earlier in this order, come to the conclusion that these receipts do not fit the description of the expression royalties and fees for technical services under the applicable India-Singapore tax treaty. Thirdly, hon ble Authority for Advance Ruling considered only a purely legal interpretation to the provisions of the tax treaty, but then the hon ble Supreme Court has subsequently held that this approach is impermissible. The hon ble Supreme Court, in the case of Union of India v. Azadi Bachao Andolan [2003] 263 ITR 706, has observed that (p. 751) the principles adopted in interpretation of treaties are not the same as those in interpretation of statutory legislation . While saying so, their Lordships also quoted, with approval, extracts from the judgment of the Federal Court of Canada in the case of John N. Gladden v. Her Majesty the Queen (85 DTC 5188 at page 5190) wherein the emphasis is on the true intentions rather than literal meaning of the words employed . The views so expressed by their Lordships are binding on us. When we have to choose between the views of the hon ble Supreme Court vis-a-vis, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o Andolan it is no longer permissible in law to apply the rigid principles of interpretation of statutes on the treaties as well, and in the case of such interpretations resulting in absurd results also, not to extend a liberal and extended construction. In Azadi Bachao Andolan s case [2003] 263 ITR 706, the hon ble Supreme Court has referred to, with approval, the Federal Court of Canada s judgment in the case of John N. Gladden v. Her Majesty the Queen (85 DTC 5188) and observed as follows (page 743) : The Federal Court emphasized that in interpreting and applying the treaties, the courts should be prepared to extend a liberal and extended construction to avoid an anomaly which a contrary construction would lead to. The court recognized that we cannot expect to find the same nicety or strict definition as in the modern documents, such as deeds, or Acts of Parliament ; it has never been the habit of those engaged in diplomacy to use legal accuracy . . . The approach of the hon ble Authority in continuing with strict legal interpretation, despite such an interpretation resulting in patent anomalies, is no longer good law. Accordingly, a conclusion so arrived at is also n ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
