TMI Blog2024 (2) TMI 743X X X X Extracts X X X X X X X X Extracts X X X X ..... grant TDS credit, in accordance with the law, after conducting the necessary verification. As a result, ground raised in assessee s appeal is allowed for statistical purposes. - SHRI AMARJIT SINGH, ACCOUNTANT MEMBER AND SHRI SANDEEP SINGH KARHAIL, JUDICIAL MEMBER For the Appellant : Shri Ketan Ved For the Respondent : Shri Soumendu Kumar Dash ORDER PER SANDEEP SINGH KARHAIL, J.M. The present appeal has been filed by the assessee challenging the impugned final assessment order dated 24/01/2023, passed under section 143(3) read with section 144C(13) of the Income Tax Act, 1961 ( the Act ), pursuant to the directions dated 29/12/2022, issued by the learned Dispute Resolution Panel ( learned DRP ) under section 144C(5) of the Act, for the assessment year 2020-21. 2. In this appeal, the assessee has raised the following grounds:- The grounds hereinafter taken by the Appellant are without prejudice to one another. 1. That the order of the Learned Deputy Commissioner of Income-tax, Circle 3(2)(2) International Taxation, Mumbai [ the learned Assessing Officer or the the learned AO ] passed pursuant to the directions of the learned Dispute Res ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the case and in law, the learned AO/ learned DRP erred in not following the favourable Tribunal ruling in the company's own case for AY 2006-07 to AY 2008-09 and AY 2014-15 to AY 2017-18 even though there is no change in the factual matrix for relevant assessment year. 7. Without prejudice to the Ground No. 1 to Ground no. 6, on the facts and in the circumstances of the case and in law, the learned AO/learned DRP erred in arbitrarily attributing unreasonable significant profits to the alleged DAPE (as per prior years) of MFSI by disregarding the arm's length arrangement between MFSI and MFSIPL as approved Central Board of Direct Taxes as per BAPA executed on 20 August 2021 8. Without prejudice to the Ground No. 1 to Ground no. 7, on the facts and in the circumstances of the case and in law, the learned AO/learned DRP erred in attributing the revenues of INR 48,349 from sale of software products made by MFSI directly to third party to the alleged DAPE without appreciating the fact that such sale made to third party were not affected through MFSIPL and taxing it as business income by applying the arbitrarily profit. 9. Without prejudice to the above-menti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sell all the Novell products in the Indian territory and the sales may be made to an end-user customer directly or through a channel partner. Out of the sails of Novell products in India, 62% of the net invoice amount is paid by the Indian subsidiary to the assessee, and the remaining 38% is the income of the Indian subsidiary as per the activities carried out as per the Distribution Agreement. The Assessing Officer ( AO ), vide draft assessment order dated 22/03/2022, treated the Indian subsidiary, i.e. Micro Focus India Private Ltd, as Dependent Agent Permanent Establishment ( DAPE ) of the assessee in India as per the provisions of India USA DTAA, for the purpose of sale of software in India. The AO further treated the income from the sale of software in India as the business income of the assessee. 4. During the assessment proceedings, the assessee placed reliance upon the Bilateral Advance Pricing Agreement ( BAPA ) dated 20/08/2020 entered into between the CBDT and Micro Focus Software India Private Ltd as well as the order passed by the coordinate bench of the Tribunal in assessee s own case for the assessment years 2014-15 and 2015-16, in support of the submission that e ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... following the decision rendered in the preceding year, decided the similar issue in favour of the assessee, by observing as under:- 3. The issues raised in this appeal, as learned representatives fairly agree, are covered in favour of the assessee, by a decision of coordinate bench dated 31st August 2021, in assessee own cases for the assessment year 2016-17, wherein the coordinate bench has inter alia observed as follows:- 3. So far as taxability of software sale by the US entity to Indian entities is concerned learned representatives fairly agree that the said issue is now covered by Hon ble Supreme Court s judgement in the case of Engineering Analysis Centre of Excellence (P.) Ltd. vs. Commissioner of Income-tax [2021] 125 taxmann.com 42 (SC). As learned representatives fairly agree, the other issues raised in this appeal are covered in favour of the assessee, by the decision of coordinate bench dated 3rd May 2021, in assessee own cases for the assessment year 2014-15, wherein the coordinate bench has inter alia observed as follows:- 3. Learned representative fairly agree that the issue in appeal is covered in favour of the assessee by a co-ordinate bench deci ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... IT [2005] 95 ITD SB 269 (Del) and in the case of Airlines Rotables Ltd. v. JDIT [1911] 44 SOT 368 (Mum), The physical test, i.e., place of business test, requires that there should be a physical location at which the business is carried out. However, mere existence of a physical location is not enough. This location should also be at the disposal of the foreign enterprise and it must be used for the business of foreign enterprise as well. A place of business should be at the disposal of the foreign enterprise for the purpose of its own business activities. This place has to be owned, rented or otherwise at the disposal of the assessee, and a mere occasional factual use of place does not suffice . Even a case is not made out for the satisfaction of this condition by the Assessing Officer, and, as such, there is no case for the existence of a permanent establishment under Article 5(1). As for the permanent establishment under Article 5(2), even by definition, there cannot be a permanent establishment under Article 5(2) unless it is at least alleged to be covered by one of the specific clauses in article 5(2). As we discuss the case made out by the Assessing Officer, it is also impor ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ich the business of the enterprise is wholly or partly carried on. 2. The term permanent establishment shall include (a) a place of management ; (b) a branch ; (c) an office ; (d) a factory ; (e) a workshop ; (f) a warehouse, in relation to a person providing storage facilities for others; (g) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources ; (h) a firm, plantation or other place where agricultural, forestry, plantation or related activities are carried on ; (i) a building site or construction or assembly project or supervisory activities in connection therewith, where such site, project or supervisory activity continues for a period of more than nine months. (j) the furnishing of services, including consultancy services, by an enterprise through employees or other personnel engaged by the enterprise for such purpose, but only where activities of that nature continue (for the same or connected project) for a period or periods aggregating more than 90 days within any 12 month period. 3. Notwithstanding the preceding provisions of this article, the term permanent est ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... which is a resident of the other Contracting State, or which carries on business in that other Contracting State (whether through a permanent establishment or otherwise) shall not, of itself, constitute either company a permanent establishment of the other. 11. The case of the Revenue is thus clearly confined to the existence of DAPE on the facts of this case. The question thus arises as to what are the tax implications of the existence of a dependent agent permanent establishment (DAPE) under Article 5(4). The DAPE is, after all, a type of permanent establishment, and the very concept of permanent establishment is a compromise between source rule and residence rule inasmuch as it provides justification to trigger source jurisdiction taxation over business activities of a foreign enterprise. Unless there is a PE in the source jurisdiction, there cannot be taxation of business profits of the foreign enterprise in the source jurisdiction, and when there is a PE in the source jurisdiction, only so much of profits of the foreign enterprise, as are attributable to a PE, can be taxed in the source jurisdiction- as is the unambiguous mandate of Article 7(1). It is in this context o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s to be provided in respect of all the expenses incurred by the GE to earn such revenues, including, of course, the remuneration paid to the DA. The second taxable unit in this transaction is the DA itself, but this taxability is in respect of the remuneration of the DA. The provisions of the tax treaty are silent on this issue, and rightly so, because the taxability of the DA is quite distinct of the taxability of the enterprise of the contracting state which is in respect of PE of such an enterprise. At the cost of repetition, it is not the DA who constitutes PE of the GE, but it is by the virtue of a DA that the GE is deemed to have a PE, a DAPE though, in the other contracting state. We are of the considered view that in addition of the taxability of the DA in respect of remuneration earned by him, which is in accordance with the domestic law and which has nothing to do with the taxability of the foreign enterprise of which he is dependent agent, the foreign enterprise is also taxable in India, in terms of the provisions of Article 7 of the tax treaty, in respect of the profits attributable to the dependent agent permanent establishment. As we have elaborated earlier in this or ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e of the foreign company. This taxability is in the hands of the domestic dependent agent and is on net basis after taking into account the expenses incurred by the agent for earning of remuneration whether or not the same relates to the business of the foreign company or not. As regards 'B' above, it represents the earnings of the foreign company attributable to the dependent agent permanent establishment, on account of its having a dependent agent in source country. This income is taxable in the hands of the foreign company in the source country and the tax credit in respect of such taxability will be available to the foreign company in residence country. If, in this example, we are to assume that the income of the PE is only the remuneration earned by the agent on net basis, we will end up in a situation that while profits of Sing Co. attributable to India operations will be $ 5,00,000, the taxability of the profits will be confined to only $ 1,000. What is to be taxed under Article 7 is income of the foreign enterprise attributable to the permanent establishment in the host country. The income attributable to the permanent establishment in the host country is the income ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e 7 is profit earned by the foreign enterprise, as it Article 7(i) provides that 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 . Agency remuneration paid by the foreign enterprise is not an income of the foreign enterprise but an expenditure of the foreign enterprise. The taxability of any profit under Article 7 has to be in the hands of the foreign company and not the host company of which dependent agent is resident. Therefore, in it is patently erroneous to suggest that by payment of tax liability by the dependent agent, tax liability of the foreign principal is discharged. So far as Article 7 is concerned, it deals with the taxability of the foreign company. 15. Under the scheme of the Act, the taxable unit is the foreign company, though the quantum of income taxable is such income as may be held to be attributable to the permanent establishment of the foreign company in India. The tax liability of the foreign company and not the Indian dependent agent. However, in case we are to uphold the stand of the lear ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y- attributable to activities in the parent's residence country. Rather, it is a profit that the parent obtains through employing the agent in the country in which the profits arise. Fairness ( inter- nations equity ) requires that the surplus profit be taxed in that state. If the drafters of a treaty or model treaty want to provide this, they must notionally attribute it to a contact in that state. This does not mean that they must attribute it to a person or an object in the real world. In the world of law, a legal concept, a figure of thought, will do. The agency permanent establishment is such a figure of thought which makes it technically possible to connect the surplus profit to the agent's state. Thus, it is not only possible, but it is the rule that a profit exceeding the agent's compensation will be submitted to the agent's state . Philip Baker, another eminent international tax expert whose work in referred to, with approval and respect, in many of the judicial precedents from Hon'ble Courts above, did not agree with this approach. In his editorial comments in the International Tax Law Reports, he has favoured the other alternative approach to this iss ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1 as also Finance Act, 2002. From the order of the CIT, which has been accepted it is clear that the Appellant herein has paid to its PE on arm's length principle. It recorded a finding of fact that the Appellant had paid service fees at the rate of 15 per cent of gross ad revenue to its agent, SET India, for procuring advertisements during the period April 1998 to October, 1998. The fact that 15 per cent service fee is an arm's length remuneration is supported by Circular No. 742 which recognizes that the Indian agents of foreign telecasting companies generally retain 15 per cent of the ad revenues as service charges. Effective November 1998, a revised arrangement was entered into between the parties whereby the aforesaid amount was reduced to 12.5 per cent of net ad revenue (i.e., gross ad revenues less agency commission). Simultaneously, the Appellant also entered into an arrangement entitling SET India to enter into agreements, collect and retain all subscription revenues. Considering all these aspects and the fact that the agent has a good profitability record, it held that the Appellant has remunerated the agent on an arm's length basis. This finding of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the finding recorded by the CIT (Appeals) based on the Circular and which circular was relevant for the purpose of deciding the controversy in issue. This circular read with Article 7(1) of the DTAA would result in holding that the income from advertisement if neither directly nor indirectly attributable to that of the permanent establishment, would not be taxable in India. The Tribunal in fact in para 10 has recorded a finding that Article 7(2) provides that the arm's length price is the criterion for computation of these hypothetical profits. In our opinion the entire rational or reasoning given by the Tribunal has to be set aside. In matters of tax what has to be considered and more so in international transactions if there be a treaty, the provisions of the treaty and if the provisions of the treaty are more advantageous to an assessee, then the construction will have to be given which is advantageous to the assessee. At this stage we may note that on behalf of the assessee learned Counsel has produced an order passed by the Additional CIT (Transfer Pricing-II), Mumbai in the matter of determination of arm's length price with reference to all the transactions report ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... attributable to the PE was the subject-matter of challenge by the Department. Insofar as the issue of PE is concerned the Supreme Court was pleased to hold that it agreed with the Ruling of the AAR that stewardship activities would fall under Article 5(2)(1). Dealing with the question of deputation, the Court held that on the facts that there is a service PE under Article 5(2)(1) and as such held that the Department was right in its contention that there exists a PE in India. Considering Article 7 of that treaty the Court observed that what is to be taxed under Article 7 is income of the MNE attributable to the PE in India and what is taxable under Article 7 is profits earned by the MNE. Under the Income-tax Act the taxable unit is the foreign company, though the quantum of income taxable is income attributable to the PE of the said foreign company in India. The Court observed that the important question which arises for determination is whether the AAR is right in its ruling when it says that once the transfer pricing analysis is undertaken there is no further need to attribute profits to a PE. The Court further noted that the computation of income arising from international trans ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rprise. 13. Considering the above principle as may be discerned from the judgment in DIT (International Taxation) 292 ITR 416 (supra) it would be clear that (1) Considering the CBDT Circular No. 742 it would be fair and reasonable that the taxable income is computed at 10 per cent of the gross profits. In the instant case insofar as marketing services are concerned by the arm's length principle what has been paid is more than 10 per cent as can be seen from the order of CIT(A). This was not disputed by the revenue in its Appeal before the ITAT. (2) The only contention advanced and which found favour with the Tribunal was that the advertisement revenue received by the assessee was also income liable to tax in India. The CIT(A) relied upon Circular No. 23 of 1969. That Circular read with Article 7(1) would result in holding that advertisement revenue received by the appellant are not taxable in India as long as the treaty and the Circular stands. 14. In the light of the above Appeal filed by the Appellant herein is allowed and the order of the ITAT is set aside. Merely because tax on income was paid for some assessment years would not stop the assessee from con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as per the law laid down by Hon'ble Supreme Court in the case of DIT v. Morgan Stanley Co Inc. [2007] 162 Taxman 165 (SC), the arm's length remuneration paid to the PE must take into account 'all the risks of the foreign enterprise as assumed by the PE', but then in an agency PE situation, unlike a service PE situation which was the case before the Hon'ble Supreme Court, a DAPE assumes the entrepreneurship risk in respect of which agent can never be compensated because even as DAPE inherently assumes the entrepreneurship risk, an agent cannot assume that entrepreneurship risk. To this extent, there may clearly be a subtle line of demarcation between the dependent agent and the dependent agency permanent establishment. The tax neutrality theory, on account of existence of DAPE, may not indeed be wholly unqualified- at least on a conceptual note . However, these issues are wholly academic before this forum because Hon'ble jurisdictional High Court has taken a specific call on the issue to the effect that the Morgan Stanley decision of Hon'ble Supreme Court covers the DAPE situations as well. In a series of decisions of the coordinate benches, the s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dering the above and applying to the facts of the case, it is humbly submitted that all the international transactions entered into by assessee have not been examined by the authorities below . There is no material whatsoever before us to show, or even indicate, that the remuneration paid to the agents is not arm's length remuneration. In any case, the agent has been paid a remuneration at the rate of ten percent of the related revenues which is accepted as an arm's length price, in similar circumstances, in a large number of cases- including assessee's own cases for the assessment years, other than the assessment years in which this aspect of the matter is requested to be sent back for specific adjudication. Learned Departmental Representative himself submits that so far reliance of the assessment on the coordinate bench decisions for the assessment years 2006-07 to 2012-13 are concerned, in the other cases relied upon by the assessee, the transfer pricing adjudication was made while in the present case, no such adjudication was made, and hence the decisions are not applicable as distinguishable on facts . We have also noted that the matter has come up for specific co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cer has proceeded on the basis that all the business risks of the assessee (i.e. the foreign company) are borne by the PE as PE is the content provider and responsible for up linking activity. That's too sweeping a generalization to meet any judicial approval, and, on the same set of findings, the coordinate benches have disapproved the stand of the Assessing Officer. Under these circumstances, we see no reasons to remit the matter to the file of the Assessing Officer for a fresh round of ALP ascertainment proceedings, as prayed by the learned Departmental Representative. The plea of the assessee, as raised in the cross- objections, therefore, merits acceptance. Whether there is a DAPE or not, there are no additional profits to be brought to tax as a result of the existence of the DAPE, and, therefore, the question about the existence of a DAPE on the facts of this case is wholly academic. 16. Once we hold, as we have held above, that in the light of the present legal position, existence of dependent agency permanent establishment in wholly taxneutral, unless it is shown that the agent has not been paid an arm's length remuneration, and when it is not the case of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ordinate bench of the Tribunal for the preceding assessment years. Thus, respectfully following the orders passed by the coordinate bench of the Tribunal in assessee s own case cited supra, we uphold the plea of the assessee and delete the addition made by the AO. Accordingly grounds no.4-8 raised in assessee s appeal are allowed. 10. In view of our aforesaid findings, the issue arising in grounds no.2, and 3, pertaining to the existence of DAPE are rendered academic and therefore are left open. 11. Ground no.1, is general in nature and therefore needs no specific adjudication. 12. Ground no.9, raised in assessee s appeal is pertaining to short grant of credit of TDS. This issue is restored to the file of the AO with the direction to grant TDS credit, in accordance with the law, after conducting the necessary verification. As a result, ground no.9, raised in assessee s appeal is allowed for statistical purposes. 13. Ground no.10, is pertaining to the initiation of penalty proceedings, which is premature in nature and therefore is dismissed. 14. Further, the charging of interest under sections 234A and 234B of the Act is consequential in nature. Therefore, ground no.1 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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