TMI Blog2015 (2) TMI 454X X X X Extracts X X X X X X X X Extracts X X X X ..... The VSNL in all terms becomes absolute owner after the purchase of the capacity to the exclusion of the Flag and others. Thus, under the C&MA the VSNL satisfies the characteristic of a “owner” and “ownership” in respect of the capacity in the cable system. All the facts and circumstances and the intent of the parties as evidenced from the agreements, clearly goes to show that assessee has sold the capacity with benefit and burden of ownership of the capacity to the VSNL. Thus, it can very well be inferred, that the payment received from the VSNL is from sale of capacity in the cable system. Had there been intention of giving only ‘right to use’ of capacity, the Flag would have retained the ownership, control and possession of the capacity and VSNL would have allowed to use its network. Once a right to use is given to a party, then there is no requirement of passing the ownership with all the risks, rights and obligations. Thus the payment of US $ 28.94 million received by the assessee from VSNL is on account of sales and hence constitutes business income of the assessee. The finding and the conclusion of the Ld.CIT(A) based on the terms of the agreement and facts of the case ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e impugned order dated 23.05.2003. In assessee s appeal following grounds have been raised:- 1. The Learned Commissioner of Income-tax (Appeals) XXXI [ CIT(A) ] erred in holding that income from capacity sales earned under the Capacity Sales Agreement dated March 31, 1995 entered into between the Appellant and Videsh Sanchar Nigam Limited ( VSNL ) is taxable in India under section 9(1)(i) of the Income-tax ct, 1961 ( Act ). 2. Without prejudice to Ground No. 1, the Learned CIT(A) erred in not accepting the Appellant s contention that the revenue chargeable to tax in India, as per Explanation to Section 9(1)(i) of the Act, be compute d by applying the proportion of the cable length situated in India vis- -vis the total cable length worldwide. 3. Without prejudice to Ground No. 1 and 2, the Learned CIT(A) erred in computing the revenues chargeable to tax in India, as per Explanation to Section 9(1)(i) of the Act, by applying the proportion of capacity sales earned from VSNL to the worldwide capacity sales earned by the Appellant. 4. The Learned CIT(A) erred in holding that standby maintenance revenues earned by the Appellant from VSNL under the Construction and Maintenan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... telecommunication traffic between and among Western Europe, Middle East, South Asia, South East Asia and Far East. For this purpose the assessee company had entered into Memorandum of understanding (MOU) on 19th July 1993, by and among 13 parties which were mostly National Telecommunication Companies belonging to different nations, for the purpose of planning and implementation of the said Submarine Fabric Optic Telecommunication Link Cable System linking Western Europe (starting from UK), Middle East, South Asia, South East Asia and Far East (ending in Japan). The assessee has been termed as founding party , whereas the 13 parties to the MOU have been termed as landing parties , Later on these landing parties kept on increasing. Most part of the cable has been laid down in the sea bed and for the purpose of connection in the terrestrial land, the cable comes ashore in certain countries, connecting with the domestic telecommunication system, which has been termed as landing stations . The whole of the submarine cable system between Flag interface points has been divided into sea segments i.e. S1, S2, ; and terrestrial segments T1, T2.. X1, X2. The layout of the cable can b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nded on 20.04.1998) and C MA interpreted in the following manner:- (i) There is no ownership in terms of passing of any physical object or machine. In this case, without goodwill of Flag, VSNL cannot use the assignable capacity, since it requires activation. Therefore, it is not a routine sales agreement and what is being sold even in the terms of CSA is not a physical object but right to use the assignable capacity in the cable . (ii) Purchase of the capacity does not result into real sense of ownership, as the word owner used in C MA does not mean anything more than a right to use the cable system for the next 25 years. (iii) Flag takes the responsibility for the supply contract for the provision and installation of submarine cable system and segments and in addition to this, recurring cost is shared by the Flag as well as by the VSNL. The VSNL has Indefeasible Right to Use (IRU) in lieu of 1/3rd payment of such cost. Flag has developed the technical design of the Flag cable system and insures the technical compliance of the entire cable system. It is the responsibility of the Flag to make available to VSNL technical information relating to the construction and operat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... stem and enjoyed all the risks and rewards of the ownership in the capacity. Nothing has been earned or accrued in India, as the C MA and CSA have been executed outside India on principal to principal basis. The VSNL has all the ownership, rights and obligations in the capacity like transfer or assignment of the capacity, standby maintenance payment obligation and all other decisions in respect of the capacity purchased by it in the cable system. The VSNL can use the capacity for itself or resale it to others or grant interest to any person in the capacity for the life time of the cable system. The VSNL is not only the member of the management committee but also has a right to vote. All these terms in the agreement goes to show that, VSNL has become the owner of the capacity and hence in the cable system. Dictionary meaning of owner and ownership was also relied upon by the assessee along with following decisions:- Mahabir Commercial Co. Ltd. Vs Commissioner of Income-tax (86 ITR 417) (SC) Commissioner of Income-tax Vs. Mewar Textile Mills Lltd. (91 ITR 542) (SC) Commissioner of Income-tax Vs. Kirloskar Oil Engines Ltd. (135 ITR 762) (Bom) Income-tax Officer Vs. Sr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fter considering the AO s reasoning and assessee s submission held that the CSA as well as various clauses of C MA makes it amply clear that the consideration paid by the VSNL is towards purchase of the capacity in the cable system and not on account of use or right to use of equipment or on account of any use of technical information. The relevant observation of the Ld. CIT(A) in this regard is as under:- Though it is true that certain technical information (not being in the nature of any specialized know-how or technical services) would be shared with VSNL as an integral part of the above arrangement to enable VSNL to serve as a lending party on the cable system. However, no separate consideration is attributable in respect of the technical information provided to VSNL in this regard and the entire consideration of US$ 28,940,000 is towards purchase of capacity by VSNL. Furthermore, the same technical information is provided to each landing party regardless of the amount of the capacity it buys. The payment for sale of capacity, in isolation, does not envisage provision of any services of a technical nature or royalties. The Authorized Representative even took plans to ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... landing parties, herein this case VSNL, has to be understood right from MOU dated 19.07.1993; Capacity Sales Agreement dated 31.03.1995 and the Construction and Maintenance Agreement. To explain that there is a concept of joint co-ownership in the cable system and there is nothing of right to use but sale of capacity in the cable system, Mr. Mistry submitted that, all the documents in the agreements have to be considered in a literal manner and the true intent of the parties. He submitted that the MOU was the first document executed between the Flag and various other international telecommunications carriers for the purpose of planning and designing a submarine fibre optic telecommunication cable system linking Western Europe, Middle East, South Asia, South East Asia and Far East Asia which runs up to 27,000 kms. MOU was entered for the co-operation of the concerned parties who were required to plan, design and construct the entire cable system and to determine the rights and obligations of the various parties involved. 15. To demonstrate the intent and purpose of joint co-ownership of the capacity in the entire cable system, he pointed out to following clauses of the MOU:- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ilities, including international earth station/ satellite networks, so as to provide mutual restoration, and to ensure concerted action with the owners of such other cable system and other appropriate parties to this end; 9.7 providing appropriate and necessary information regarding each prospective cable landing station in order to satisfy the objectives and purpose of this MOU; 9.8 preparing and providing terms and conditions for the use of cable landing stations in the Flag Cable System; 9.9 making available appropriate, ordinary and necessary information, including contract terms and conditions, relating to terminal country inland extension system charges and domestic network transit charges; 9.10 requesting and receiving reports relating to the Flag Cable System procurement activities; 9.11 reviewing the progress of all activities undertaken to ensure the performance of this MOU; and 9.12 providing full cooperation with each other on matters concerning the Flag Cable System. 10. The following rules and procedures shall apply to the Interim Management Committee: 10.1 The Founding Party shall provide the Chairperson of the Interim Management Committee. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e., VSNL who has purchased the capacity in the cable system under the terms of C MA. The VSNL is entitled to common undivided ownership in the cable in addition to right to use the purchased capacity for a period of 25 years, which in fact coincides with the life of the cable. Hence sale of capacity was for entre life of the cable. The terms and various clauses of C MA clearly demonstrate that the ownership of the assignable capacity vests with the purchasing party, that is, VSNL. So far as technical information shared with VSNL is concerned as alleged by the AO, they were not in the nature of any specialized know-how for technical services. It was an integral part of arrangement to enable the VSNL to serve as landing parties on the cable system. There is no separate consideration in respect of the technical information as it was part and parcel of sale consideration of US$ 28.94 million. The C MA categorically provides that VSNL has all the ownership rights and obligation in respect of the capacity, i.e., transfer, assignment, to take decision etc. in respect of the capacity in the cable system. As per the CSA, title to the cable system and the capacity stands transferred to the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment S and the right to use its part of the Assignable Capacity in accordance with the terms of this Agreement, but no Signatory shall otherwise have or exercise in relation to any such Segment any right incident to a right of ownership of properly except jointly with all other Signatories. 17. From these clauses, Mr. Mistry submitted that it is quite evident that VSNL has all the ownership rights and obligations in respect of capacity purchased in the cable system. It is only when a ownership right is given that such obligations are associated with and would not have been there, if Flag had granted only the right to use the capacity in the cable system to the VSNL. He also emphasized clause 4.1 of C MA which provides that the management committee shall make all the decisions on behalf of the signatories to implement the purpose of the agreement and how the signatories designate their representative to attend the meetings. Even the VSNL had the representation and the voting rights. Such a right is only possible where there is ownership and not merely a simple right to use the capacity. Clause 11 provides that VSNL has obligation to pay standby maintenance charges for up grada ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ity in the cable system to the exclusion of others. VSNL s interest is clearly for its own benefit and to the exclusion of others and has complete freedom to decide, how the capacity is to be used. He further made a distinction between the capacity and the cable and submitted that a cable has to be understood as sheath or clothing of the optic fibre through which data is transferred. The meaning and the term of capacity as intended by the parties has to be seen in a holistic concept. The cable as such has no meaning, except for its capacity to transfer datas. It is the capacity in the cable system which is being sold by the Flag. The intention of the parties is further corroborated by the entries in the books of account. Here Flag has treated the capacity as stock-in-trade in the accounts. In support, Mr. Mistry drew our attention to audited accounts of Flag as on 31.12.1997. From the said accounts, he pointed out that the Flag has accounted the capacity sold as sale of goods and cost of construction and laying the cable has been accounted as cost of goods sold in the books of account and the same is reflected in statement of operations. The difference between the sale consider ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... SALES AND OTHER OPERATING EXPENSES Fixed assets, net 1,147 The value of capacity available for sale and construction in progress has been declared in the following manner:- Capacity available for sale is recorded at the lower of cost or fair value less cost to sell and will be charged to cost of sales as capacity is sold It has been further clarified by the learned counsel that the Flag has not treated the capacity or cable under the head fixed assets and only certain office furniture and equipments are appearing under the head fixed assets in the financial statement which are as under:- 1997 $ Office furniture 500 Leasehold improvements 167 Computer equipment 802 Autos 78 1,547 Less-Accumulated depreciation (400) Net book value 1,147 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The capacity sold by the Flag does not in any way can be through any asset or source situated in India. There is no income from the use of the capacity in the cable system but by sale of capacity. The cable is only the casing or the housing for the capacity. In support he cited the example of a person buying a coca-cola and stated that what is actually bought and paid by the person is drink contained in the bottle and not the bottle which is merely a container in which the coca-cola drink is stored. The Ld. CIT (A) has not specified under which limb of section 9(1)(i) the assessee s transaction is covered. He further submitted that most of the segments in the cable system are not related or connected to India, only segment S-6 that runs between the Flag interface point at the cable station at Fujairah (UAE) and Flag interface point at the cable station at Mumbai (India) and segment S-7 which runs between Flag interface point at cable station at Mumbai and Flag interface point at the cable station at Penang (Malaysia). Simply because small portion of the cable passes through India, it cannot be construed that capacity sold lies in the cable situated in India. Thus, income from sale ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 21. Regarding taxability of the said receipt as royalty as held by the AO under 9(1)(vi), he submitted that the sale of capacity cannot be considered to be royalty as the cable system is not a patent, invention, model, design, secret formula, process, trade mark or similar property. The assessee is not imparting any information concerning any knowledge, experience or skill, nor is there is any transfer of any right in respect of any copy right, literary, artistic or scientific. Reliance was placed by him on the decision of Calcutta High Court in the case of CIT Vs. Davy Ashmore India Ltd. 190 ITR 626. Further the payment is also not in the nature of right to use any industrial, commercial, or scientific equipment firstly, because the said clause in Explanation 2 to section 9(1)(vi) has been brought in the statute w.e.f. 01.04.2002 which is not applicable in this year and secondly, it is a case of pure sales and none of the clauses in the CSA or C MA provides for use or right to use of any equipment. As regard taxability of income from capacity sales as FTS u/s 9(1)(vii), he submitted that the Assessing Officer though has discussed the same in the assessment order but fin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tandby cover, that is, having the cable ships on standby to repair any breaks or damages in the submarine cable; and second fro actual repairs. The payment regarding form is in dispute. The reason for standby maintenance is that, the entire cable is in the sea bed and if there is any breakage, the same should be repaired as early as possible so that communication and transmission of data does not gets affected. This does not amount to actually rendering of services, but a facility for ready to use. In case there is actual maintenance being carried out on the behest of the VSNL, the same is charged and is offered for tax as FTS in India. The relevant clause in the C MA in this regard has been elaborated in clause 10.5 and 11.1. The clause 10.5 provides overall network surveillance and overall coordination of maintenance and repair operations of the Flag Cable System. The assessee is required to coordinate the deployment of vessels for repair and maintenance operations in accordance with the procedure defined in the Flag Operation and Maintenance Plan (FOMP). Clause 11.1 of C MA provides that, Cost of standby charges, procurement of cable ship services, ship depreciation, insurance, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e appropriate personnel, at all times. This results in fixed overheads comprising of salaries of the personnel, rent of the premises etc.) being incurred irrespective of fact whether there is a fire or not. These expenses may then be charged by the fire station to the users, similar to the standby maintenance charges charged by the assessee to VSNL. In the event of a fire, the fire station would take the necessary measures to restore the users premises, for which there could be a separate charge, over and above the standby charge. From this example, he submitted that it is evident that the standby charge is not for providing any service, as such, but is for making arrangements in the event that any repair/maintenance is required. Accordingly, it is evident that the assessee is not rendering any service to any customer but is only carrying out its normal business operations. Therefore, the revenues receivable from VSNL for standby charges cannot be treated as service fees, leave alone technical service fees under section 9(1)(vii) of the Act. He further submitted that there cannot be rendering of any managerial or consultancy services by the assessee for standby maintenance charges ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ). Most of the documents as requested by Shri Girish Dave, have already been filed. Every time new documents cannot be filed which has neither any relevance nor any bearing to the issue involved.The primary documents for adjudicating the issue have already been submitted. Here in this case, there is one more difficulty that, earlier the assessee company was Bermuda based, owned by the different party who is different from the current shareholders and the owner of the company as entire Flag cable system had gone into huge losses. Earlier the assessee was represented by M/s. Arthur Anderson which has now been dissolved. Whatever details were available from the said firm have been filed. Moreover there is no such document which has been required by the AO or Ld. CIT(A), has not been filed by the assessee. Complete records as and when required by the authorities below and also by the DR in the earlier hearing have already been provided. To illustrate that the additional documents which had been filed has no bearing, he referred to some of such documents. In support of this contention that the department now cannot make out a different case other than what has been adjudicated and dec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at 23 landing stations as per Schedule 1 of CSA. VSNL does not own any capacity in a particular segment (S) in the Flag system. As per Clause 3.1 of C MA, signatory acquires a right for activation and use of the assignable capacity alone. What is assignable capacity and in which particular segment, this capacity is assigned is quite vague, because 51 MIUS which is the required capacity for transmission to 23 destination countries, does not provide ownership in any particular segments. Further activation is done by the Flag, subject to fulfillment of certain conditions. What VSNL is getting is only Indefeasible Right to Use (IRU) in the equipment placed in its cable station. Thus, what is the exact ownership of the VSNL in the cable system is not clear. The main question to be decided here is, whether the agreement providing for right to use the segment capacity retaining the ownership over the cable system and landing points by FLAG, can be said to be a sale of cable capacity or mere right to use of the cable capacity subject to fulfillment of certain obligations under the agreement. Further, whether capacity to transmit the data through cable system can be said to be an ass ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... delivered to purchaser is accepted, then it would lead to absurd conclusion meaning thereby that once the data/ signal is transmitted through the cable even once, the cable network which housed the capacity would become like an empty 'shell' with no capacity to transmit again as the capacity already stands transferred to other party. However, the capacity of cable is a continuous ability of the cable through the life time of cable. The transmission capacity is intrinsic quality of cable itself and cannot be recognized/sold/transferred de-hors the sale/transfer of cable itself whose capacity it is. Therefore, transmission capacity has to be recognized only in association with the cable system and whether there is sale of capacity or mere right to use the capacity through the cables, has to be seen with reference to complete cable system without dissecting it into two separate assets i.e. (i) cable network and (ii) its capacity to transmit. This he submitted can be better appreciated by following examples; the best example can be the sale of electricity which is again only an electromagnetic waves/signal capable of running through the wires/cables where by allowing the consu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are neither delivered, stored or possessed but are merely the medium of communication. Further, these electromagnetic waves cannot fulfill the criteria laid down for 'goods' either in Art. 366(12) or in the State legislations. If there are no deliverable goods in existence at all, then there cannot be sale of capacity without the delivery of possession of cable whose capacity it is. This view he submitted that, is supported by decision in case of Bharat Sanchar Nigam Ltd 282 ITR 273(SC). 32. It is also not the case that the use of the capacity in a particular segment was exclusive to one party only. The cable at all times is capable of carrying a high volume of data from one end to another. When any particular segments capacity of cable network has been assigned (notionally without any physical separation of various segments) to any party, it could only mean that particular party is entitled to commercially exploit the cable data in that segment equivalent to the percentage of the rights to use the capacity acquired by it. But that does not mean that the data of other parties does not pass through that particular segment. Thus, the transmission capacity in a particular s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... medium and hence cannot be the subject matter of sale just as in case of sale of capacity without sale of cables, is not applicable in instant case as the coke and bottle are two distinct and independently existing item. The capacity to hold coke is not an intrinsic capacity of bottle and bottle can be used for various other purposes or not used to store anything or alternatively coke can be stored/ sold/ delivered in various other mediums. But in the instant case, the signal carrying capacity is intrinsic and it remains as integral part of it, irrespective whether right to use of capacity is given or not or it is given to one or many parties. 33. On the issue of Business connection; Mr. Girish Dave contended that the Ld. Counsel while arguing non applicability of 9(1)(i), has stated that capacity segment lying outside India, acquired by an Indian Company is not an asset in India and after the capacity is sold in a segment outside India, the cable passing through India does not house that segment capacity in India. Ld. Sr. Counsel He had further stated that after the date of activation, the capacity does not belong to it and hence no income can accrue to Flag from/through such ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 34. Mr. Dave further submitted that if at all the territorial nexus of capacity is to be traced, then in such a scenario, the best logical approach would be to trace it to the place where the cable passes and allows the access to exploit the cable capacity by the purchaser. In this case it is undisputed that the cable system passes through India and the landing points is also in India through which the data comes to India and data is sent from India by the user which is also the Indian co i.e VSNL. Though the segment for which VSNL has the right to use is for a segment located outside India, but it is the same cable passing through India which takes the input data to that particular segment outside India through the landing points in India. The inputs into the segments of cable system are possible only through the landing points. Thus, the capacity of cable in any segment can be used or accessed only through landing points. The landing points are inextricably linked to the cable system for the use of its capacity. Just as one cannot say the wheels of a car are not part of car because they are needed to use the car, similarly the cable system cannot be used without landing points ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e in India in the form of landing equipment contributed by it and the shared cost of building housing the landing point. The discount given to landing party also has nexus with landing point, because in order to make available the input facility to the cable, landing point equipment is must for anyone to use the capacity of cable. If the capacity was being assigned by Flag then the facility to input the signal into network should also be responsibility of the owner of cable system i.e. Flag but by appointing the landing party, the liability to make such investments by owner has been shifted to the party who is acquiring the capacity segment and a discount is given to landing party but for which such liability was that of Flag Hence the discount to landing party is in lieu of investment made by landing party which was otherwise was to be provided by the owner(Flag). There would have been no discount if the landing equipments were to be arranged by Flag. Hence the landing party and payment under CSA are also inextricably linked. The fact that out of all the parties acquiring the capacity segment, some of them are also the landing parties who have made investments in landing equipment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ainhole from where it runs to buried conduits to the cable stations. The station in turn contains various equipments which enable the information sent on the cable to switch into domestic system. Cable landing station and ducting has been designated as segment T, which is built and owned by the landing party, however, the cable and the related equipments belongs to the assessee. The assessee had entered into agreement with AT T KDD for the supply of equipments for installing the landing stations, the payment of which is made by the assessee. This is evident from the agreement dated 22.11.1996 and 02.12.1996 with AT T KDD respectively. The assessee has made huge payments, for the cost of equipments supply and services. This goes to show that the assessee has built the landing station so that the cable system can be used by the VSNL. Thus, the assessee not only has a presence in India but also goes to prove that, what the assessee has given to the VSNL is the user rights of the capacity in the cable network. 38. Further on the issue of taxability of receipt as royalty, he submitted that the cable network, the landing equipment and the segment capacity are part of one commercia ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... system and in return receive a share of capacity in the cable system. Here-in this case the Flag is the owner of the entire cable system and only a capacity In the cable system is sold to the various parties. This capacity in no manner can be said to be asset, corporeal or incorporeal. He also pointed that landing station is owned by the Flag, since it is mentioned that the landing parties will compensated for the building and operating of the landing station by charging to the parties entering the Flag system through landing station. Lastly, referring to the para of capacity available for sale at page 23 of SEC filing, to demonstrate that the cable system was an asset of the assessee and it contradicts the argument of the learned counsel that there are no substantial fixed assets in the financial statement of the assessee. He also filed certain documents like a compilation on Tax Management Foreign Income Portfolio US International Taxation of Telecom for the treatment of tax in such a cable system which we shall refer to in our later part of the order and International Telecommunication Transmission System Network Mode Interface explaining the entire submarine cable system. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ounsel for the revenue is trying to improve upon the order of the AO rather than support or defend the conclusion drawn by the AO. In fact he has pointed defects in the finding of the AO as well the Ld. CIT(A) and tried to argue the matter afresh de-hors the reasoning and the conclusion drawn by the AO as well as Ld. CIT(A). He cannot be permitted to go beyond the documents available on record and relied upon by the lower authorities. 41. Regarding Mr. Dave s contention that mere recital in agreement for ownership of capacity and rights to assign such capacity to 3rd parties cannot mean that there is a sale of capacity de-hors the cable, when in substance such capacity cannot exist or capable of being delivered independently, Mr. Mistry submitted that, it is not open for the department to interpret the agreement and intention of the parties differently than what has been commercially agreed to between the parties. When the two independent parties enter into commercial agreement and understood the agreement in a particular manner confirming the ownership rights, then the department cannot decide the commerciality of the agreement but only its taxability or non-taxability. Here th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... k-in-trade in its accounts, which the assessee has sold in fractions to various entities and once the entire capacity in the cable system is sold, the assessee would be left with nothing. The owners of the cable system and the capacity in it are the entities who have purchased the same from the assessee. Flag has constructed the cable system and is in the business of selling the capacity in the cable system to various parties. The parties can purchase only the capacity they need and Flag bears the risk of selling the capacity on the cable system to recover its cost of constructing and operating the cable system. The medium of expressing the sale unit does not in any way result in the capacity not being an asset which is not capable of being sold. Flag has sold the capacity to various parties either in terms of whole MIU s or half MIU s in various segments as required by the parties. Accordingly, owning of capacity jointly with other party does not mean that VSNL is not an owner of the purchased capacity. For instance, in case of Flag the same can be owned by one person or several persons in proportions as may be agreed between them. 42. Regarding department s contention on the i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the issue of taxability of receipts as royalty , the main contention of the department had been that the cable network, the landing equipment and the segment capacity is a part of one commercial asset owned by Flag, which qualifies within the meaning of equipment as defined in clause (iva) of Explanation 2 to section 9(1)(vi); further whether there can be different royalty for different segments which are on notional basis that segments have been given user rights to different parties and in fact there is no sale/delivery of capacity to the so called buyers; further the transmission of data is by way of using a complicated process through sophisticated equipment and hence it is use of process as defined in Explanation 2 to section 9(1)(vi). In this regard, Mr. Mistry rebutted that, first of all, clause (iva) of Explanation 2 to section 9(1)(vi) cannot be held to be applicable in this year as the same was brought in the statute w.e.f. 01.04.2002 and Secondly, if the sale has been made on ownership basis there cannot be case of royalty. The tests of ownership have been clearly elaborated in C MA, like in order to determine whether there is a sale or not, the following tests need ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the assessee can be part owner also for the claim of depreciation, the Counsel further drew our attention to the decision of the tribunal in assessee's own case for assessment year 1997-98 in ITA No. 3061/MUM/2003 and submitted that a similar issue came up for adjudication before the tribunal vide ground No.5 wherein the depreciation on indefeasible right to use undersea cables was 111 dispute. In that case, the Tribunal at page-5 para 17 thus held: Learned D.R. was not able to factually contradict that the claim of the assessee, that it is the member of the International Consortium that owned the cables, and that it is a part owner with the right to transfer it's to other and also a right to share the sale proceed on decommissioning of the system in proportion to the rights held by it. When these facts are not in dispute, we have no hesitation in upholding the Order of the first Appellate authority in dismissing ground No.5 of the revenue. We have heard the rival submissions, perused the Orders of the lower authorities and also the order of the Tribunal in assessee's own case in ITA No. 3062/MUM/2003. The facts of the present case are identical with the f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f which ultimately depends on the terms and conditions of the agreement and facts and circumstances of each case. The conveyance of capacity used in the cable in the case of telecom cable network can be characterized as either, sale or lease or right to use the capacity in the cable network. The key factor in determination of, whether the sale has taken place is to see, whether the benefit and burdens of ownership with all the rights and obligations and risks have been shifted from seller to the buyer or not. Whether or not the transfer is treated as a sale, is always a question of fact that can be only ascertained from the intention of the parties as evidenced by the written agreements in the light of the attending facts and circumstances. In case of providing rights to use of capacity, it has to be seen whether the entity which owns the underlying cable or equipment has agreed to allow the transferee to use its network. In that case, the transferee will hook to the network of the operator in order to send calls or transfer data or information from one network to another. Under such an agreement a transferee generally acquires right to send certain amount of data or inform ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the signing of the MOU, there were 13 parties other than the assessee, which included VSNL also. Thus, it was a kind of a consortium, the purpose of which was to get joint ownership of the capacity in the cable system. This has been specifically enunciated in clause 2 which has been incorporated in the earlier part of the order. The organizational set up, and the working of interim Management Committee has been laid down in clause 9 and clause 10. All the signatory parties intended to acquire the capacity in the FLAG cable system in terms of Minimum Investment Unit (MIU). The MOU was effective till C MA is executed by the parties. Thereafter, the assessee entered into Capacity Sales Agreement (CSA). With VSNL the CSA was entered into 31.03.1995 (further amended on 20.04.1998). Under the terms of CSA, VSNL had to pay US $ 28.94 million to the assessee towards purchase of capacity. The VSNL had purchased 51 MIU s in the Flag cable system which was in the following manner:- Sr. No. DESTINATION COUNTRY FLAG LANDING POINT No. OF MIU's COST/MIU's UPTO LANDING POINT IN US $ THOUSANDS T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... THAILAND 1 840 840 19 RISSOA (RPSSTE;CP,) ITALY 2 705 1010 20 IRAN UAE 1 324 324 21 CANADA UK 2 1050 2100 22 MALASIA MALAYSIA 2 840 1680 23 BELGIUM UK 1 1050 1050 51 33459 Landing Point discount 1172.95 Net cost of capacity in FLAG 32286. 05 A Total cost of 51 MIUs in FLAG 33459 B Landing point discount 1173 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the Flag. The assessee has no right on the capacity once sold. It does not retain any ownership, control and possession of the capacity sold to the VSNL. Under the terms of the C MA, the VSNL also has right to vote on important matters relating to the management of cable system. The VSNL in all terms becomes absolute owner after the purchase of the capacity to the exclusion of the Flag and others. Thus, under the C MA the VSNL satisfies the characteristic of a owner and ownership in respect of the capacity in the cable system. 52. The intention of the parties and their conduct can also be gauged by the accounting treatment given by the parties. As already referred to earlier at several places, the Flag has recognized its revenue from sale of capacity on the date of the risks and rewards of ownership have been transferred to the purchaser. The capacity has been treated as stock-intrade and the capacity which has been left or available in the balance sheet is a part of current asset under the head capacity available for sale . It has not been treated as a fixed asset. The relevant portions of the statement given in the audited accounts have already been noted earlier. The ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cable be remained the property of the assessee and at the same time capacity which is the intrinsic quality of transmission of data can be sold, independently. Thus, there cannot be any sale of intrinsic capacity of a cable without the transfer of ownership of the cable itself. It cannot be classified as goods under the Sales of Goods Act. Thus, the transfer/delivery/sale of transmission capacity of a cable cannot be completed without the sale/delivery/transfer of the cable which transmits it. He had further clarified that, if the argument of the assessee is accepted that transmission capacity has been sold and delivered to the purchaser, then it would lead to absurd conclusion that once the data is transmitted through cable even once, the cable network which housed the capacity would become like an empty shell. 54. Technically speaking, what Shri Dave has canvassed before us appears to be correct, because the cable de-hors the capacity is simply a sheath and no party will buy the cable for its telecommunication network without its capacity to transmit electronic or electromagnetic signals or datas. In our understanding also the entire purpose of the fibre optic is transmissio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on. Once, we say that capacity and the cable are inextricably linked and inseparable, then capacity itself becomes a property which can be a subject matter of transfer or sale. Herein the present case, the agreements entered by the assessee as well as by the landing parties (including VSNL), the capacity has been understood as a saleable commodity. Even the Flag has accounted the capacity sold as sale of goods and the cost of constructing and laying the cable has been accounted as cost of goods sold. It has not been treated as two entirely different items, one which will remain with the assessee and other which would be sold. It is not the case of the assessee that they are exclusive of each other. Mr. Dave s entire premise of his arguments rests upon a foundation that cable remains with the assessee and it only intends to sell the capacity alone. This is neither borne out from the agreement nor it is the case of the assessee. 55. Here in this case there is no allegation by the department that the agreement between the assessee and the VSNL (which is a Government of India undertaking) has been camouflaged or used as a colourable device to evade any kind of tax or give any differ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... haring a capacity in a particular segment with other goes to prove that there is no absolute sale of capacity in a particular segment to the exclusion of others. Thus, there is only non exclusive rights to use the capacity of the cable in a segment unlike in the case of sale where the right to use becomes exclusive to the acquiring party. As stated in the earlier part of our finding that the subject matter of sale is the capacity which has been sold in terms of MIU. The capacity in a particular segment has an exclusive right qua the owner which can be used in the manner in which the owner proposes. There can be several owner of capacity in a particular length of the cable. For example, if between two destinations various parties have bought the capacities, they will have all the rights of ownership in their respective capacity. Interdependence of ownership of capacity in a cable between various parties cannot lead to a conclusion that one party is acquiring the ownership in the capacity to the exclusion of other party. If VSNL has bought 51MIUs in the Flag cable system, which is running across in all the segments, it has not only the exclusive ownership in 51 MIUs, but also the exc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... move the capacity in the cable assigned to VSNL after the period of contract. Rather there is a clause of disposition, where the benefits are distributed amongst all the signatories, including VSNL. In case had there been only right to use to be given, then the ownership right to the exclusion of the Flag could not have been given to the VSNL. In other words, if right to use is given then ownership is not transferred. Thus, in our conclusion which is based on the apparent terms and conditions of the agreement between the parties, there is no assignment of right to use but sale of capacity in the cable system. Whether It is a case of Royalty 58. Now we will come to the question, whether the receipts can be taxed as a royalty . Since we have already held that, there is no right to use, then there is no question of treating the payment as royalty. However, we will examine the issue of royalty in the light of the arguments placed by the either parties. The Assessing Officer has treated the payment as a royalty on the ground that Flag has granted to VSNL, only right to use the cable system for 25 years and VSNL has to pay further amount on account of the maintenance as the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the cable system to some other party. All this clearly indicate that the signatory becomes the owner of the capacity in the cable system after the purchase, that is, the VSNL in the instant case. This fact further establishes that there is no payment for simply user of the capacity. In case of a royalty , agreement, the complete ownership is never transferred to the other party. The concept of transfer of ownership to the exclusion of the other perty is denuded in the case of royalty . What is envisaged in section 9(1)(vi) read with Explanation thereto, is that there should be transfer of rights of any kind of the property as defined therein; or imparting of any information in respect of various kinds of property; or use of rights to use of any equipments etc. The relevant, Explanation 2 of section 9(1)(vi) reads as under:- Explanation 2- For the purpose of this clause royalty means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head Capital gains ) for - (i) the transfer of all or any rights (including the granting of a license) in respect of a patent, invention, mo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tered into C MA agreement to plan and lay a cable system called as Europe India Gateway Submarine Cable known EIG. The members of the consortium were entitled to transfer capacity in the EIG cable system to other telecommunication entities from its allotted capacity. In pursuance thereof, SAT entered into capacity transfer agreement with the assessee which is an Indian Co. for transfer of part of the capacity out of its total allocated capacity of the EIG cable system. In terms of the said agreement, SAT has transferred right to use 40% of its allotted capacity in the EIG system to the assessee for consideration of $ 20 million. The assessee had approached the AAR, to render the rulings mainly on the following questions:- Whether payments by the Assessee to Saudi Telecom Limited (STC) under the terms of the EIG Capacity Transfer Agreement towards acquisition of the EIG capacity comprise income chargeable to tax in India? Whether payments by the Assessee to STC under the terms of the EIG Capacity Transfer Agreement towards annual operation and maintenance charges, would be in the nature of FTS within the meaning of the term in Explanation 2 to clause (vii) of section 9(1) o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... his case the issue involved was, whether the transponder fees payable by the assessee to X corporation was in the nature of royalty as per the provisions of Indo-US DTAA. The assessee company was incorporated in the India, primarily engaged in telecasting/broad casting television channels in India; it is also engaged in marketing of advertising air time of these channels, distribution of the channels marketing and distribution of films etc. The assessee has been provided 24 hour satellite signal reception and retransmission services i.e. transponder services by Intel SAT Corporation. In consideration for the transponder services, the assessee has to pay transponder service fee to Intel SAT. Pm these facts it was held by the authorities below and also confirmed by the Tribunal that, the payment in question payable to Intel SAT was for user for transponder capacity and hence taxable as royalty, both under the domestic Law as well as under DTAA. The facts of the case are entirely different from the present case, therefore the decision cannot be held to be applicable at all. (iii) Verizon Communicates Singapore PTE Ltd. Vs. ITO reported in (2014) 361 ITR 575 (Mad) Here-in-this ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unt of service agreement and for rendering of services. Thus, this case is also not applicable at all. 61. However form the aforesaid decisions/ rulings, one thing is amply clear that terms and conditions agreed upon in the agreement between the parties is the crucial point for deciding the nature of controversy, characterization of receipts and issue of taxability. The economic substance of the transaction flowing from the written agreements between the parties is the key factor for determination of nature and taxability of receipt. 62. In our conclusion based on the discussions in the forgoing paragraph, the payment of US $ 28.94 million received by the assessee from VSNL is on account of sales and hence constitutes business income of the assessee. The finding and the conclusion of the Ld.CIT(A) based on the terms of the agreement and facts of the case on this score, that the receipts in question is business income of the assessee and not royalty is upheld. Accordingly, the said payment cannot be taxed as royalty under section 9(1)(vi). 63. Now coming to the issue of business connection and taxability of receipts in India within the ambit of section 9(1)(i). The sa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt landing station at the Fujera (UAE) to landing station Mumbai (India). Segment S-7 runs between Flag interface point at landing station at Mumbai and Flag interface point landing station at Penang (Malaysia). The assessee s case is that, firstly, once the capacity is sold by the Flag, the income thereof cannot be said to be by means of any asset or source situated in India. It does not receive income from use of capacity albeit by sale of capacity. The cable is only the sheath or housing for the capacity; Secondly, the sale of capacity in the cable system does not arise through and from business connection in India, because sale has been made to VSNL which is unconnected to the assessee; and Lastly, the landing station is owned by the landing parties of the respective countries. Thus, there is neither any business connection in India, nor any asset or source of income in India, therefore, nothing is taxable in India. In support of the contention that landing station is not owned by the assessee, learned counsel had submitted relevant extracts issued by TRAI that landing station in Mumbai in respect of Flag cable system is owned by VSNL. On the other hand, the contention of Mr. G ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ding the concept some guidance can definitely be drawn. The term business connection connotes some type of establishment, agency or subsidiary or dependent agent or like. The connection in India must be in the form of any concern in the nature of trade, commerce or manufacture by which non-resident earns income. There should be a continuity of business relationship with the concern or person in India with the non-resident. Here is no such concern or person in India with whom the assessee has any business connection. The VSNL cannot be held to be a person or concern having a business correction in India as it is an independent entity, who has agreed to be a landing party in the agreement. Flag is not earning income through any aid or assistance of VSNL as VSNL is not carrying out any business for Flag in India. Thus, here in this case there is no income accruing or arising from business connection in India. 66. Now, whether the income has accrued or arisen through or form any asset or source in India. What could be the asset belonging to assessee in India? Department s contention is that the cable which passes through India has access point in India through landing station throug ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which clarifies that the income from operation of business deemed under clause (i) of sub section (1), is to be reasonably be attributed to the operation carried out in India. The said explanation will not be applicable, as there is no deemed income accruing or arising to assessee in India within the ambit of section 9(1)(i). The question of attribution will only arise, once it is established that income has accrued or arisen to assessee within the deeming fiction of section 9(1)(i). Therefore, the attribution made by the CIT(A) on proportionate basis of worldwide revenue and gross profit is not correct and uncalled for The Ld. CIT(A) has not culled out how there is a business connection, asset or source of income in India. Unless the deeming income falls within the parameters of section 9(1)(i), no attribution can be made. Thus, so far as payment of US $ 28.94 million received by the assessee from sales of capacity made to VSNL is not taxable either as royalty u/s 9(1)(vi) or business income accruing or arising in India within the deeming provision of section 9(1)(i). Accordingly, assessee s ground no.1 on this score is allowed and ground nos. 2 3 have become academic, whereas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... payable by the Signatories and other holders of Assignable Capacity, in accordance with Schedules H-1 through H-55 and J. adjusted to reflect inflation. 11.2 The cost of running charges, which shall be limited to recovery the direct incremental costs incurred in connection with a repair operation involving Segment S or Segment X-1 or Segment X-2, including, but not limited to, the cost of fuel, at sea insurance, additional crew at sea, crew overtime, victual ling, telecommunications, mobilization and de-mobilization expenses, consumables, replenished equipment, and remotely operated vehicles, the extent not included in the wet maintenance agreement standby charges, shall be apportioned among Signatories (excluding the Founding Signatory) and other holders of Assignable Capacity on the affected Segment S or Segment X- 1 or Segment X-2 in accordance with Schedule F. 69. Thus, under the C MA the responsibility of maintenance and repairs belongs to both, assessee and the landing parties. The maintenance activities under taken by the assessee for the purpose of standby maintenance which is the impugned issue, was for the arrangement for standby cover and maintenance and operation ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ord managerial has to be understood in the context of running and managing the business of the client or one who is in charge for management and control of its business. Here the payment made by VSNL is not in the nature of managerial. Again the term consultancy has to be understood as advisory services wherein necessary advice and consultation is given to the client for the purpose of client s business. It is act of consulting or giving advice or guidance. Again here-in-this case there is no consultancy services. The word technical services connote services which are provided in technical field or by the person who has skill, knowledge expertise in the area of technical or science. Here-in-this case if the assessee is providing some kind of repair services in the cable system, then it can be termed as technical services, however, if there is no actual rendering of services, but mere collection of annual charge to recover the cost of standby facility, agreed by all the members of the consortium on proportionate cost basis, then it cannot be held that it is providing any kind of technical services. Here the most crucial point which has to be seen is firstly, whether there is a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment in ground no. 2. As admitted by both the parties, this issue is covered by the decision of Hon ble jurisdictional High Court in the case of DIT (International Taxation Vs. NGC Network Asia LLC reported in 313 ITR 187 (Bom). Thus, respectively following the binding precedence, we hold that assessee has not committed any default in payment of advance tax and hence there is no liability to pay interest u/s 234B. 73. Accordingly the grounds raised by the Revenue is dismissed, whereas, the grounds raised by the assessee is treated as allowed in part. Appeals for the A.Ys. 1999-2000 2000-01 74. In the cross appeals for the A.Y. 1999-2000, and A.Y. 2000-01 the revenue as well as the assessee have raised similar grounds, which are identical to ground raised by either parties in A.Y. 1998-99. For sake of ready reference, grounds raised by the either parties are reproduced here-in-below:- ITA NO. 1168/Mum/2004 (Grounds raised by the Assessee) 1. The Learned Commissioner of Income-tax Appeals- XXXI [CIT(A)] erred in holding that income from capacity sales earned under the Capacity Sales Agreement dated April 20, 1998 entered into between the Appellant and Videsh Sanc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... length situated in India vis- -vis the total cable length worldwide. 3. Without prejudice to Ground Nos. 1 and 2, the Ld. CIT(A) erred in computing the revenues chargeable to tax in India, as per Explanation to section 9(1)(i) of the Act, by applying the proportion of capacity sales earned from VSNL to the worldwide capacity sales earned by the Appellant. 4. The Ld. CIT(A) erred in holding that standby maintenance revenues earned by the Appellant from VSNL under the Construction and Maintenance Agreement (C MA) between the Appellant and the licenses international telecommunications carriers (including VSNL), are taxable in India as fees for technical services under section 9(1) (vii) of the ACT. ITA NO. 7193/Mum/2004 (Grounds raised by the Department) 1. Whether on the facts and circumstances of the case and in law, the Ld. CIT(A) was right in holding that payment received by the assessee towards capacity sales agreement is not covered u/s 9(1)(vi) and 9(1)(vii) of the I.T. Act, 1961, but is taxable as business income? 2. Without prejudice to Q. No. 1 above, whether on the facts and circumstances of the case and in law, the CIT(A) was right in calculating loss on ..... X X X X Extracts X X X X X X X X Extracts X X X X
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