TMI Blog2006 (8) TMI 121X X X X Extracts X X X X X X X X Extracts X X X X ..... U.K. and it is a tax resident of U.K. The said company was engaged in the business of manufacturing of turbochargers and providing engineering services. XYZ Ltd issued a letter of intent ('LOI') duly specifying the key terms and conditions for the supply of turbochargers in favour of E. Ltd. for the purchase of turbochargers for L litres diesel engines in September, 2003. The D Group took up a restructuring exercise with the objective of centralizing key functions in Switzerland whereunder E. Ltd. transferred its business of manufacturing turbochargers on a going concern basis to the applicant w.e.f. 1st January, 2004. Thereafter the applicant is engaged in the business of manufacture of turbochargers for passenger and commercial vehicles. Under the arrangement the LOI issued by XYZ Ltd to E Ltd. for the purchase of turbochargers was transferred by it ( E Ltd.) to the applicant as a successor. The applicant entered into a turbocharger development and supply (TDS) agreement with XYZ Ltd for manufacturing and supply of turbochargers for vehicles manufactured by XYZ Ltd using L litres diesel engines. The applicant proposes to establish an Indian subsidiary named " J Pvt. Ltd. to be i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... m the date of execution of TDS agreement dated 6.8.2004. Though the applicant had made every attempt to show that no income would be deemed to accrue or arise in India as it has no business connection, source of income or assets or transfer of any capital asset situate in India. It has not given any reason as to how the assignment of the agreement would not be taxable under the provisions of the Act. Even under the Double Taxation Avoidance Agreement between the Government of the Republic of India and the Government of the Swiss Confederation dated 29th December, 1994 (for short the "Treaty'), article 7 would be attracted and if it has a permanent establishment (PE) in India it would be taxable. Every person designated to carry on any function on behalf of the foreign company would be treated as a PE. Having regard to the sequence of events, namely, the applicant executed an agreement in August, 2004 and thereafter proposes to assign the same to subsidiary to be incorporated would disclose well thought over arrangement, therefore, receipt arising to the applicant out of proposed assignment of TDS agreement are taxable in India under the Act as well as under the Treaty. In regard to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assignment fee has nexus with the running of business and therefore, is in the nature of revenue profits in the hands of the applicant and is taxable. It is not a case of simpliciter assignment without carrying on any activity in India. The Indian subsidiary set up by the applicant is merely a projection of foreign enterprise on the soil of India and the assignment fee is , therefore, liable to tax under section 9(1)(i) of the Act as well as article 7 of the treaty. What is purportedly labeled as assignment fee is in the nature of royalty liable to tax under section 9(1)(vi) of the Act as well as article 12 of the treaty. Since deduction of tax at source under section 195 of the Act is tentative and provisional subject to final determination at the time of regular assessment. Section 195 of the Act is attracted at the time of payment of so called assignment fee. 5. The rival contentions of the parties give rise to the following points for determination:- Whether amounts payable under the assignment agreement, either in the nature of business receipts or royalty, are taxable under the Act. If the answer of the first point is that they are taxable as "business receipts ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or products for vehicles manufactured by XYZ Ltd using L litres DICR TCIC Diesel engines. If a new proven technology is developed that, when substituted for the products significantly improves the performance and price of the XYZ Ltd vehicles then XYZ Ltd. will provide PQR the first choice of offering the new proven technology and it is only when PQR unable or unwilling so to do then XYZ Ltd will be free to source the new proven technology from alternate sources. It is also necessary to notice the following clause in para 2.2.4 under the caption 'Prices':- "Notwithstanding anything contained in this agreement, risk, title, ownership and property in the products shall pass to XYZ Ltd. once the products are handed over to the freight forwarder designated by XYZ Ltd. at the relevant PQR factory gate". Para 2.3 - Local facility and customer support - is also worth noticing. "In its endeavour to remain price competitive, PQR shall aggressively explore possibility of localization of Imported Products in India. In view of this, PQR will provide the following support. Local Support and Manufacture. PQR intends to localize/ manufacture its' Products in India in two discrete ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hem. It is also important to notice para 6 of the agreement which is in following terms:- Assignability "This Agreement and the rights and obligations of any of the Parties hereto shall not be transferable or assignable by such Party without the prior written consent of the other Party hereto which consent shall not be unreasonably withheld. Notwithstanding the above, D will be allowed to assign this Agreement to any of their respective affiliate company and/or subsidiary, or in the event of a sale of all or substantially all of the assets required to manufacture the items that are the subject of this Agreement". From the above excerpt of the (Exhibit-2) agreement, it is evident that XYZ Ltd intended to offer and PQR has accepted to supply products (defined in 2.1.1 of the agreement) which mean imported products as well as local products, which, in combination, constitute a turbocharger at the agreed prices. The products would be handed over to the designated carrier of XYZ Ltd. at the PQR factory gate. PQR has also undertaken to explore the possibility of localization of imported products in India in two phases which have been noted above. It was specifically agreed upon be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cluding without limitation, all obligations and duties in and in relation to the TDS agreement in favour of the assignee, absolutely which the assignee thereby accepts. Para 2.2 provides that the assignee shall pay the consideration in installments in accordance with the schedule to the agreement. The agreement, further, provides that the consideration shall be paid by the assignee by wire transfer to the accounts of the assignor scheduled bank i.e. F Bank. Para 2.5 of Exhibit-4 provides for payment of additional consideration being a percentage of additional sales from XYZ Ltd.. All the terms of payment of additional consideration would be mutually agreed upon between the parties separately. The agreement guarantees that in the event of failure of XYZ Ltd. to procure the products as per the volumes indicated in Appendix 1 to the TDS agreement (for any reason other than manufacturing defect and quality in workmanship), the assignor has agreed to procure from the assignee the necessary products (which may be of different capacities and makes) to compensate the deficiency in procurement by XYZ Ltd. from the assignee. Para 4 of Exhbit-4 also postulates that except to the extent stated ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rues or arises or is deemed to accrue or arise to him in India during any previous year. In short it says that subject to the provisions of the Act the total income of any previous year of non-resident includes of income from whatever source derived which is (i) received or is deemed to be received in India in such year by or on behalf of such person (ii) accrues or arises or is deemed to accrues or arises to him in India during such year. This takes us to Section 9 of the Act, which elucidates the expression "income deemed to accrue or arise in India". 8. On the contentions of the parties, provisions of clauses (i) and (vi) of sub-section(1) of Section 9 of the Act would be relevant which read as follows:- Income deemed to accrue or arise in India 9. (1) The following incomes shall be deemed to accrue or arise in India:- (i) all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India, or through the transfer of a capital asset situate in India. (ii) to (v) x x x x x x x x (vi) income by way of royalty payable b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or from any property in India, or (3) through or from any asset or (4) source of income in India, or (5) through the transfer of a capital asset situate in India. Out of the five categories, we are concerned with category (1) only. Explanation -2 of sub-section (i) of Section-9(1) of the Act defines the expression "business connection" which is in the following terms:- [ Explanation 2 - For the removal of doubts, it is hereby declared that "business connection" shall include any business activity carried out through a person who, acting on behalf of the non-resident,- has and habitually exercises in India, an authority to conclude contracts on behalf of the non-resident, unless his activities are limited to the purchase of goods or merchandise for the non-resident; or has no such authority, but habitually maintains in India a stock of goods or merchandise from which he regularly delivers goods or merchandise on behalf of the non-resident; or habitually secures orders in India, mainly or wholly for the non-resident or for that non-resident and other non-residents controlling, controlled by, or subject to the same common control, as that non-resident: Provided th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to form 'business connection' between a non-resident and a resident was laid down by the Supreme Court as long back in 1952 in Anglo-French Textile Company Limited2. Hon'ble Mr. Justice Mahajan (as he then was) speaking for the Court, observed, "an isolated transaction between a non-resident and a resident in British India without any course of dealings such as might fairly be described as a business connection does not attract the application of section 42, but when there is a continuity of business relationship between the person in British India who helps to make the profits and the person outside British India who receives or realizes the profits, such relationship does constitute a business connection". In the light of above discussion, the essential features of "business connection" may be summed up as follows: - a real and intimate relation must exist between the trading activities carried on outside India by a non-resident and the activities within India; such relation, shall contribute, directly or indirectly, to the earning of income by the non-resident in his business; a course of dealing or continuity of relationship and not a mere isolated or stray nexus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r obtaining the orders for supply of turbochargers. The LOI (exhibit-3), ultimately culminated in the TDS agreement dated 6.8.2004 (exhibit-2) Mr. Chopra has enumerated the following four factors which would show close business connection of the applicant with business operations in India:- The Applicant would have close interaction with XYZ Ltd. so as to integrate the PQR i.e. PQR turbocharger with the diesel engine of Tata transport vehicles. For this purpose prototype, drawings, CAD data as well as participation in tests and interaction with AVL Austria, who have supplied the diesel engine to the XYZ Ltd would be required. Within three months of the letter of intent, Applicant would provide complete details regarding setting up of manufacturing and assembly facility in India such indigenous manufacturing facilities are to be set up in India within a period of eighteen months. Similar stipulations have been made in the TDS agreement dated 6.8.2004 (article 2.3 of the TDS agreement). Article 2.2.7 of the TDS agreement is regarding the funding of toolings and Appendix 1 to the agreement speaks of initial expenditure of about 7 lacs euro to be incurred by the Applicant. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cord. Yet another complaint of Mr. Chopra is that the article of association of J Pvt. Ltd. have not been supplied and it is not stated when this subsidiary has been incorporated. This grievance does not survive after hearing of the case on 28.7.2006 because on that day a copy of article of association has been supplied and a copy of certificate of registration is placed on record. It is then submitted that during the hearing Mr. Kaka has stated that the subsidiary has been though incorporated but it is not mentioned as to when the business activities have commenced, therefore it is not possible to say whether J Pvt. Ltd. is carrying out business for and on behalf of the applicant and that unless the constitution of J Pvt. Ltd. is given and details of the activities are known, it cannot be said that the applicant has no business connection in India under article 9(1)(i) of the Act and article - 5 of the treaty is not applicable. 11. In our view to determine the business activities of a limited company it is not necessary to wait and watch the commencement of actual business activities. They can be ascertained from the articles of association and the attending circumstances. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... TDS, are irrelevant in regard to the deed of assignment with which alone we are concerned here. There is nothing on record to conclude that any person or company played any role in execution of the deed of assignment so as to establish a business connection between the applicant and J Pvt. Ltd. A perusal of the deed of assignment shows it is signed on behalf of Indian subsidiary by Mr. N. and on behalf of the applicant by Mr. S. The preamble to the deed of assignment says that it was executed at Switzerland on 23rd February, 2006. The consideration payable for the assignment of the rights and obligations under TDS agreement is the amount equivalent to Amount-M,. The liability to pay taxes in relation to the assignment is that of the assignor though the stamp duty has to be borne by the assignee. Clause - 6 of deed provides that it would be governed in all respects by the laws of Switzerland and that in case any dispute arises between the Parties during the subsistence or thereafter, in connection with the validity, interpretation, implementation or alleged material breach of any provision of this Agreement or regarding any question, the courts of Lausanne, Switzerland shall have ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... x 1 to the TDS Agreement. In the event of failure of XYZ Ltd. to procure the Products as per the volumes indicated in Appendix 1 to the TDS Agreement (for any reason other than manufacturing defect and quality in workmanship), the Assignor agrees and undertakes that the volume risk vis-à-vis the Products shall be borne by the Assignor exclusively. In addition to the Assignment contemplated herein, in the even of a shortfall in the procurement of the Products by the XYZ Ltd. from the Assignee for the reasons stated above, compared with the volumes as indicated in Appendix 1 to the TDS Agreement, the Assignor agrees to procure from the Assignee, the necessary Products (which may be of different capacities and makes) to compensate the deficiency in procurement by XYZ Ltd. from the Assignee. It is hereby expressly clarified that such procurement shall make good the deficiency in relation to the gross margins that the Assignee would have earned in supplying the Products to XYZ Ltd. as per the volumes indicated in Appendix 1 to the TDS Agreement. We are afraid we cannot accede to the contention of the learned counsel. A plain reading of TDS agreement shows that a particular volume of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al information in Bangkok represented receipt on transfer of a capital asset and was not chargeable to tax in India under section 5(2)(ii) read with section 9(1) (i) of the Act. In Ishikawajima-Harima Heavy Industries Co. Ltd, In re5 the applicant was a non-resident company incorporated in Japan. The applicant formed a consortium, which was awarded by Petronet a turnkey project for setting up a liquefied natural gas (LNG) receiving, storage and regasification facility in Gujarat. Among other things supplying of materials and equipment was the responsibility of the applicant. The price of offshore supply and offshore services was paid in US dollars and for onshore supply of services, construction and erection partly in US dollars and partly in Indian rupees. The consideration for offshore supply of equipment and materials supplied from outside India was received by the applicant by credit to a bank account in Tokyo and the property in the goods passed to Petronet on high seas outside India. On these facts the Authority has ruled, inter alia, the consideration represents only the price of the goods and the transaction of sale is completed outside India and not by or through a busi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al, industrial, commercial or scientific knowledge, experience or skill; (v) use or right to use any industrial, commercial or scientific equipment but not including the amounts referred to in section 44BB; (vi) transfer of all or any rights in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films; or (vii) rendering of any services in connection with the activities referred to above. We have discussed above in detail the subject matter of the TDS agreement as well as assignment agreement. From a close reading of the said agreements, it is amply clear that none of the clauses of explanation-2 is attracted to the draft assignment agreement/deed of assignment. Therefore, the consideration for the assignment payable under the deed of assignment does not answer the description of the meaning of 'royalty' under explanation-2 to clause (vi) of Section- 9(1) of the Act. In as much as the payments do not satisfy the requirement of the definition of 'royalty' wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eld above on question no. (1) that the amount of consideration payable under the deed of assignment transferring rights and obligations under the Turbocharger Development and Supply Agreement is not chargeable to tax under the provisions of the Act. If that be so, section 195 of the Act will not be attracted. However, Mr. Chopra relied on the decision of the Supreme Court in (1) Transmission Corporation of AP Limited and rulings of this Authority in (2) Danfoss Industries and (3) Timkin India Limited to contend that tax is deductable at source. Transmission Corporation of A.P. Ltd. Another In that case A.P. State Electricity Board (for short the 'Board') made certain payments to non-residents against the purchase of machinery and equipment and also against the work of erecting and commissioning the machinery and equipment executed by them in India. In regard to payments made by the Board without deducting tax at source u/s 195 of the Act to a non-resident company for the financial year 1966-67 to 1972-73, it was required to pay the amount of tax in the assessment proceeding by the ITO. In appeal, the Appellate Assistant Commissioner (AAC) took the view that the words "any ot ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eduction of the income-tax from payments in question is tentative subject to determination by the ITO at the time of regular assessment deciding whether and to what extent the sum is chargeable under the provisions of the Act. In the present case on point No. 1, we have held that payments are not chargeable to income-tax under the Act. For purposes of advance ruling this is a final determination and is not subject to any conclusion of the ITO. In view of this finding, the decision of the Hon'ble Supreme Court has no application to the facts of this case. Danfoss Industries In the above case the applicant, an Indian company has proposed to enter into an agreement with DS, a foreign company which provided services to a group of companies including the Indian company. The consideration for availing of those services was a service fee based on the portion of the services it received in relation to the total costs of DS in providing such services. The question set forth before the Authority, was whether the payment to be made to the foreign company as fee for services would be subject to withholding tax under section 195 of the Act. The Authority held, inter alia, that in the abs ..... X X X X Extracts X X X X X X X X Extracts X X X X
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