TMI Blog2020 (4) TMI 794X X X X Extracts X X X X X X X X Extracts X X X X ..... xcepted category under Article 5(3)(e) of the DTAA. Resultantly, it cannot be regarded as a PE within the sweep of Article 7 of DTAA. The expression preparatory is not defined in the 1961 Act or the DTAA. permitted activities are required to be carried out by the respondent subject to conditions specified in clause 3 of the permission, which includes not to render any consultancy or any other service, directly or indirectly, with or without any consideration and further that the liaison office in India shall not borrow or lend any money from or to any person in India without prior permission of RBI. The conditions make it amply clear that the office in India will not undertake any other activity of trading, commercial or industrial, nor shall it enter into any business contracts in its own name without prior permission of the RBI. The liaison office of the respondent in India cannot even charge commission/fee or receive any remuneration or income in respect of the activities undertaken by the liaison office in India. From the onerous stipulations specified by the RBI, it could be safely concluded, as opined by the High Court [ 2009 (2) TMI 56 - DELHI HIGH COURT] , that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bu Dhabi, UAE. 24 Sep 1996 Dear Sirs, Permission under Section 29(1)(a) of the Foreign Exchange Regulation Act, 1973 for opening a liaison office in India Please refer to your application dated Nil and the correspondence resting with your letter Ref. UAEEC/HO/479/96 dated 9th August, 1996 on the captioned subject. 2. We advise that we are agreeable to your establishing a liaison office at Cochin initially for a period of three years to enable you to i) respond quickly and economically to enquiries from correspondent banks with regard to suspected fraudulent drafts, ii) to undertake reconciliation of bank accounts held in India, iii) to act as a communication centre receiving computer (via Modem) advices of mail transfer T.T. stop payments messages, payments details etc., originating from your several branches in UAE and transmitting to your Indian correspondent banks, iv) Printing Indian Rupee drafts with facsimile signature from the Head Office and counter signature by the authorised signatory of the Office at Cochin, v) following up with the Indian correspondent banks. 3. Please note that this permission has been granted subject to the f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... normal banking channels for meeting the expenses of the office and no other amount should be credited without prior permission of the Reserve Bank. Similarly debits to this account could be raised only for meeting the local expenses of the office. Audited transcript of the head office account may be forwarded to our Cochin Regional Office alongwith the annual accounts mentioned above. 5. It is further clarified that the permission granted hereby is limited to and for the purpose of the provisions of Section 29 ibid only and shall not be construed in any way as regularising, condoning or in any manner validating any irregularities, contraventions or other lapses if any under the provisions of any other law for the time being in force. 6. Please note to furnish to us the postal address of your liaison office in due course for our record. You may also note to address the correspondence in future to our Cochin Regional Office. 7. Please acknowledge receipt. Yours faithfully, Sd/- (Prashant Saran) Deputy General Manager 2. The respondent set up its first liaison office in Cochin, Kerala (India) in January, 1997 and thereafter, in Chennai, New Del ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld be accessed by the liaison office in India for the purpose of remittance of funds to the beneficiaries in India by the NRI remitters. 3. It is stated that, in compliance with Section 139 of the 1961 Act, the respondent had been filing its returns of income, since the assessment year 1998-1999 until 2003-2004, showing NIL income, as according to the respondent, no income had accrued or deemed to have accrued to it in India, both under the 1961 Act, as well as, the agreement entered into between the Government of the Republic of India and the Government of the UAE, which is known as Double Taxation Avoidance Agreement (for short, DTAA ). This agreement (DTAA) has been entered into between the two sovereign countries in exercise of powers under Section 90 of the 1961 Act, for the purpose of avoidance of double taxation and prevention of fiscal evasion, with respect to taxes and income on capital. The DTAA has been notified vide notification No. GSR No. 710(E) dated 18.11.1993. As noted earlier, returns were filed on regular basis by the respondent, which were accepted by the Department without any demur. However, as some doubt was entertained, the respondent filed an applicatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re carried out in India. After analysing this aspect and explanation 2 to Section 9(1)(i) inserted by the Finance Act, 2003, it noted the decision of this Court in Commissioner of Income Tax, Punjab vs. R.D. Aggarwal Company Anr. AIR 1965 SC 1526 and culled out the essential features of expression business connection as follows:- 10. In the light of above discussion, the essential features of business connection may be summed up as follows: - (a) a real and intimate relation must exist between the trading activities by a non-resident carried on outside India and the activities within India: (b) the relation contributes directly or indirectly to the earning of income by the non-resident in his business; (c) a course of dealing or continuity of relationship and not a mere isolated or stray nexus between the business of the non-resident outside India and the activity in India, would furnish a strong indication of business connection. It then observed in paragraph 11 of the ruling, as follows: - 11. Admittedly, the applicant is having liaison offices in India. They attend to the complaints of the clients in cases where remittances are sent directly ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y that the word auxiliary in common English usage means helping, assisting or supporting the main activity. We have, therefore, to ascertain whether the activities carried on in the liaison offices in India, are only supportive of the main business or form one of the main functions of the business. The applicant enters into a contract with a NRI to remit to the nominated banks or the nominated beneficiaries in India the amount which is the Indian rupee equivalent of foreign currency handed over to it. It is true that the contract is entered into in UAE and the amount to be remitted as well as the commission is also received in UAE. The contract is, therefore executed in UAE. To fulfill its obligation under the contract the applicant remits the amount in either of the following two modes: By establishment in UAE (i) by telegraphic instructions from Abu Dhabi through banking channels or by liaison offices in India- (ii) by dispatching through courier the instruments of cheques/drafts prepared by liaison offices to the beneficiaries at various places in India. In so far as the first mode is concerned, the amount is remitted telegraphically by transferring direc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 19.7.2004 under Section 148 of the 1961 Act addressed to the respondent pertaining to assessment years 2000-2001, 2001-2002, 2002-2003 and 2003-2004 respectively. The respondent, therefore, carried the matter before the High Court of Delhi at New Delhi (for short, the High Court ) by way of Writ Petition No. 14869/2004, inter alia, for quashing of the ruling of the Authority dated 26.5.2004, quashing of stated notices and for a direction to the appellants not to tax the respondent in India because no income had accrued to it or is deemed to have accrued to it in India from its activities of liaison offices in India. The High Court, after adverting to indisputable facts, noted that the Authority committed manifest error in appreciating the relevant facts and materials on record and more particularly, misread the purport of Section 90 of the 1961 Act and the settled legal position that the DTAA ought to override the provisions of the Act (the 1961 Act). In other words, the tax liability of the respondent was required to be assessed on the basis of the provisions in the stated treaty, namely, DTAA. The High Court adverted to the exposition in Union of India Anr. vs. Azadi Bachao ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unds by telegraphic transfer through banking channels, the role of the liaison offices in India of an auxiliary character, the same was not true in respect of remittance of funds through liaison offices in India. This was based on the reasoning that without remittances of funds to the beneficiaries in India performance under the contract would not have been complete and thus, the downloading of data, preparation of cheques for remitting the amount, dispatching the same through courier by the liaison offices, constituted an important part of the main work, which was, remitting the amount to the beneficiaries as desired by the NRIs. Based on this reasoning, the Authority came to the conclusion that the work of the liaison offices in India, being a significant part of the main work of UAE establishment, the liaison office of the petitioner, in India, would constitute a permanent establishment within the provisions of the DTAA. And again, whilst analysing the scope of Articles 5 and 7 of the DTAA in paragraph 12 of the impugned judgment, the High Court noted thus: - 12. ...In the case of DTAA under consideration in the present case under Article 5 read with Article 7, pro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the obvious as every other activity which an enterprise undertakes in earning profits is with the ultimate view of giving effect to the obligations undertaken by an enterprise vis-a-vis its customer. If looked at from that point of view, then, no activity could be construed as preparatory or of an auxiliary character. On this aspect of the matter, the Supreme Court in the case of DIT (International Taxation) vs. Morgan Stanley Co; 2007(7) SCC 1 amongst other issues was called upon to decide as to whether back office operations carried on by Morgan Stanley Company for one of its Morgan Stanley Advantages Services Pvt. Ltd would qualify as having a permanent establishment in India. The Supreme Court, while holding that back office operations fall within the exclusionary clause Article 5(3)(e) of Indo-US Double Taxation DTAA, which is, identical to DTAA under consideration in the present case, came to the conclusion that back office operations came within the purview of Article 5(3)(e). It is laid down by the Supreme Court in the case of Morgan Stanley (supra) that in ascertaining what would constitute a permanent establishment within the meaning of Article 5(1) of the Indo-US D ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tive or subsidiary to the main function referred to in clauses (a) to (c). The High Court eventually quashed the impugned ruling of the Authority and also the notices issued by the Department under Section 148 of the 1961 Act, since the notices were based on the ruling which was being set aside. The High Court, however, gave liberty to the appellants to proceed against the respondent on any other ground, as may be permissible in law. 5. Feeling aggrieved, the Department has assailed the decision of the High Court by way of the present appeal arising from SLP(C) No. 31276/2011. 6. We have heard Mr. Arijit Prasad, learned senior counsel for the appellants and Mr. H.P. Ranina, learned counsel for the respondent. 7. Both sides have more or less reiterated the stand taken before the Authority and the High Court. After cogitating over the rival submissions and the opinion recorded by the Authority and the High Court, the core issue that needs to be answered in this appeal is: whether the stated activities of the respondent-assessee would qualify the expression of preparatory or auxiliary character ? Having regard to the nature of activities carried on by the respondent-assessee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the provisions of the Income Tax Act in the matter of ascertainment of chargeability to income tax and ascertainment of total income, to the extent of inconsistency with the terms of DTAC. (emphasis supplied) In view of this exposition, which squarely applies to the fact situation of the present case, we must answer the question under consideration in light of the purport of provisions in DTAA, which has been executed by the Government of India and the Government of UAE, and has come into force consequent to publication vide notification dated 18.11.1993. The recitals of the said notification read thus: - Income-tax Act, 1961:Notification under section 90: Agreement Between the Government of the Republic of India and the Government of the United Arab Emirates for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income and on capital Notification G.S.R. No. 710(E), dated 18th November, 1993 Whereas the annexed agreement between the Government of the United Arab Emirates and the Government of the Republic of India for the avoidance of double taxation and prevention of fiscal evasion with respect to taxes on inc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... addition to, or in place of, the taxes referred to in paragraph 2 of this Article. The competent authorities of the Contracting States shall notify each other of any substantial changes which are made in their respective taxation laws. Article 3 refers to General Definitions and the meaning of the concerned expression contained in the agreement, unless the context otherwise requires. Article 4 pertains to Resident of the Contracting State . The other Articles which may have bearing on the question posed before us are Articles 5 and 7, dealing with Permanent Establishment (PE) and Business Profits respectively, which read thus: - Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Agreement, the term permanent establishment means a fixed place of business through which the business of an enterprise is wholly or partly carried on. 2. The term permanent establishment includes especially: a. a place of management; b. a branch; c. an office; d. a factory; e. a workshop; f. a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; g. a farm or plantation; h. a buildi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... agent are devoted wholly or almost wholly on behalf of that enterprise, he will not be considered an agent of an independent status within the meaning of this paragraph. Article 7 BUSINESS PROFITS 1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment. 2. Subject to the provisions of paragraph 3, where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it 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. 3. In determining the profit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt in India is a liaison office and would, therefore, be covered by the term PE in Article 5(2). However, Article 5(3) of the DTAA opens with a non-obstante clause and also contains a deeming provision. It predicates that notwithstanding the preceding provisions of the concerned Article, which would mean clauses 1 and 2 of Article 5, it would still not be a PE, if any of the clauses in Article 5(3) are applicable. For that, the functional test regarding the activity in question would be essential. The High Court has opined that the respondent was carrying on stated activities in the fixed place of business in India of a preparatory or auxiliary character. Indeed, the expression business has been defined in the 1961 Act, as follows: - 2. Definitions.- In this Act, unless the context otherwise requires,- xxx xxx xxx (13) business includes any trade, commerce or manufacture or any adventure or concern in the nature of trade, commerce or manufacture; The expression business connection can be discerned from Section 9(1), as also, the meaning of expression business activity . We will advert to those provisions a little later and for the time being, assume that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r the activity in question can be termed as other than that of preparatory or auxiliary character , we need to keep in mind the limited permission given by the RBI to the respondent under Section 29(1)(a) of the 1973 Act, on 24.9.1996. From paragraph 2 of the stated permission, it is evident that the RBI had agreed for establishing a liaison office of the respondent at Cochin, initially for a period of three years to enable the respondent to (i) respond quickly and economically to enquiries from correspondent banks with regard to suspected fraudulent drafts; (ii) undertake reconciliation of bank accounts held in India; (iii) act as a communication centre receiving computer (via modem) advices of mail transfer T.T. stop payments messages, payment details etc., originating from respondent s several branches in UAE and transmitting to its Indian correspondent banks; (iv) printing Indian Rupee drafts with facsimile signature from the Head Office and counter signature by the authorised signatory of the Office at Cochin; and (v) following up with the Indian correspondent banks. These are the limited activities which the respondent has been permitted to carry on within India. This permis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cal services as also reconciliation of accounts. In order to decide whether a PE stood constituted one has to undertake what is called as a functional and factual analysis of each of the activities to be undertaken by an establishment. It is from that point of view, we are in agreement with the ruling of AAR that in the present case Article 5(1) is not applicable as the said MSAS would be performing in India only back office operations. Therefore to the extent of the above back office functions the second part of Article 5(1) is not attracted. 11. Lastly, as rightly held by AAR there is no agency PE as the PE in India had no authority to enter into or conclude the contracts. The contracts would be entered into in the United States. They would be concluded in US. The implementation of those contracts only to the extent of back office functions would be carried out in India, and therefore, MSAS would not constitute an agency PE as contended on behalf of the Department. 12. In DTAA, the term PE means a fixed place of business through which the business of an MNE is wholly or partly carried out. The definition of the word PE in Section 92-F(iii) is inclusive, however, it is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ts back office operations. (emphasis supplied) Learned counsel for the appellant, however, attempted to distinguish this judgment on the argument that this case dealt with the issue of service PE. According to him, the Court must examine the full transactions of the respondent to determine whether the work done by the respondent-assessee was one of a backup office work or auxiliary work. Insofar as the nature of activities carried on by the respondent through the liaison office in India, as permitted by the RBI, we have upheld the conclusion of the High Court that the same were in the nature of preparatory or auxiliary character and, therefore, covered by Article 5(3)(e). As a result, the fixed place used by the respondent as liaison office in India, would not qualify the definition of PE in terms of Articles 5(1) and 5(2) of the DTAA on account of non-obstante and deeming clause in Article 5(3) of the DTAA. 11. Having said thus, it must follow that the respondent was not carrying on any business activity in India as such, but only dispensing with the remittances by downloading information from the main server of respondent in UAE and printing cheques/drafts drawn o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ITAT. However, the ITAT, on a calculation formula different from that of the CIT (Appeals), arrived at a nil figure of income for all the relevant assessment years. The appeal of the assessees to the High Court proved successful and the High Court, by an elaborate judgment, has set aside the findings of all the authorities referred to above, and further dismissed the cross-appeals of the Revenue. Consequently, the Revenue is before us in these appeals. The Court, after analysing the decisions and the concerned report produced before it, observed in paragraph 22 as follows: - 22. This report would show that no part of the main business and revenue earning activity of the two American companies is carried on through a fixed business place in India which has been put at their disposal. It is clear from the above that the Indian company only renders support services which enable the assessees in turn to render services to their clients abroad. This outsourcing of work to India would not give rise to a fixed place PE and the High Court judgment is, therefore, correct on this score. (emphasis supplied) We may usefully refer to paragraphs 24 and 26 of the reported decision, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2003), Section 9(1)(i) read thus: - 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. Explanation.- For the purposes of this clause- (a) in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India; (b) in the case of a non-resident, no income shall be deemed to accrue or arise in India to him through or from operations which are confined to the purchase of goods in India for the purpose of export; (c) in the case of a non-resident, being a person engaged in the business of running a news agency or of publishing newspapers, magazines or journals, no income shall be deemed to accrue or arise in Indi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pendent status is acting in the ordinary course of his business: Provided further that where such broker, general commission agent or any other agent works mainly or wholly on behalf of a non-resident (hereafter in this proviso referred to as the principal non-resident) or on behalf of such non-resident and other non-residents which are controlled by the principal non-resident or have a controlling interest in the principle non-resident or are subject to the same common control as the principal non-resident, he shall not be deemed to be a broker, general commission agent or an agent of an independent status. The meaning of expressions business connection and business activity has been articulated. However, even if the stated activity(ies) of the liaison office of the respondent in India is regarded as business activity, as noted earlier, the same being of preparatory or auxiliary character ; by virtue of Article 5(3)(e) of the DTAA, the fixed place of business (liaison office) of the respondent in India otherwise a PE, is deemed to be expressly excluded from being so. And since by a legal fiction it is deemed not to be a PE of the respondent in India, it is not amena ..... X X X X Extracts X X X X X X X X Extracts X X X X
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