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Taxation - Direct Taxes
Certain important and recent enactments, legal developments and case laws in this area are set out below.
Income Tax, 1961 (“Act”)
New Central Board of Direct Taxes Instruction on Grant of TDS Credit for Assessment Year 2011-12
The Central Board of Direct Taxes ("CBDT") has decided to withdraw instruction no. 01/2012 issued on 2nd February, 2012 on the subject above with immediate effect. Accordingly, a new instruction dated May 25, 2012 has been rolled out with the following instructions:
a. In all income-tax returns (ITR-1 to ITR-6), where the difference between the Tax Deducted at Source ("TDS") claim and matching TDS amount reported in AS-26 data does not exceed INR Five thousands (earlier 1,00,000), the TDS claim may be accepted without verification;
b. Where there is zero TDS matching, TDS credit shall be allowed only after due verification;
c. Where there are TDS claims with invalid TAN, the TDS credit for such claims is not to be allowed;
d. In all other cases TDS credit shall be allowed after due verification.
Introduction of a New Method for Determining Arm's Length Price
Rule 10AB has been inserted to the Income-tax Rules, 1962 to provide for another method for determination of the arms' length price in relation to an international transaction which shall be any method which takes into account the price which has been charged or paid, or would have been charged or paid, for the same or similar uncontrolled transaction, with or between non-associated enterprises, under similar circumstances, considering all the relevant facts.
Agreement for Avoidance of Double Taxation and Prevention of Fiscal Evasion with Government of Georgia
An Agreement between the GOI and the Government of Georgia for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and on Capital was signed at New Delhi on August 24, 2011.
The GOI has now directed that all the provisions of the said Agreement shall be given effect to in the Union of India with effect from April 1, 2012.
Liaison Office of A Non-resident required to furnish Annual Statement
Section 285 of the Income Tax Act, 1962 ("IT Act") provides that every non-resident having a Liaison Office ("LO") in India, set up in accordance with the RBI guidelines under the Foreign Exchange Management Act, 1999, is required to submit an Annual Statement to its jurisdictional Assessing Officer, within sixty days from the end the relevant financial year, in prescribed form.
Pursuant to section 285 of the IT Act, Rule 114DA has been introduced under the Income-tax Rules, 1962 ("Rules"), prescribing the form and manner for furnishing the relevant particulars. The compliances under the said rule are as under:
a. Form 49C has been prescribed for filing the Annual Statement;
b. The said Annual Statement is required to be verified by a Chartered Accountant or by the person authorised in this behalf by the non-resident;
c. The said Annual Statement is required to be submitted in electronic form and signed digitally;
Therefore, non residents ( foreign companies) having a LO in India is required to furnish such Annual Statement for the financial year ending on March 31, 2012 by May 30, 2012. However, the Director General of Income-tax (Systems) is yet to specify the procedure for filing such Annual Statement.
Agreement for Avoidance of Double Taxation and Prevention of Fiscal Evasion with Government of Tanzania
An Agreement between the Government of the Republic of India and the Government of Tanzania for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and on Capital was signed in Tanzania on 27 May, 2011.
The GOI has now directed that all the provisions of the said Agreement shall be given effect to in the Union of India with effect from April 1, 2012.
In re Roxar Maximum Reservoir Performance WLL
The Oil and Natural Gas Corporation Limited ("ONGC") floated a tender calling for "services for supply, installation and commissioning of 36 manometer gauges" for carrying out its operations. Roxar Maximum Reservoir Performance ("Applicant") was the successful bidder in the said tender.
The Applicant claimed that the contract, though composite, had to be split into various components and that the income attributable to the offshore supplies, i.e., supply of manometer gauges was not taxable in India because the title to the goods had passed outside India and the payment was received outside India.
The Authority of Advance Ruling ("AAR") placed reliance on the judgment of the three judge bench of the SC in the case of Vodafone International Holdings BV Netherlands vs. Union of India and another [(345 ITR 1 (SC)] and observed that a transaction must be considered in its entirety and it must be looked at as a whole. The SC advocated that a transaction must be looked at and not looked through. The AAR further ruled that the decision in Vodafone having been rendered by a three judge bench, it is not proper to follow the approach made in the decision in Ishikawajima-Harima Heavy Industries Ltd. vs. DIT [(288 ITR 408) (SC)], and to adopt a dissecting approach to the contract in question.
The AAR further ruled that a contract has to be read as a whole. The purpose, for which the contract is entered into by the parties, is to be ascertained from the terms of the contract. In the present case, ONGC called for a contract for "services for supply, installation and commissioning of 36 manometer gauges". The purpose of the contract is the installation of the gauges at site to enable ONGC to carry out its operations. The contract is clearly not one for sale of equipment, nor is it one for mere erection of the equipment. It is a composite contract for supply and erection at sites within the territory of India. What is paid for by ONGC is for the supply and erection done in India. The payment is received by the applicant for the performance of the contract as a whole in India. It is therefore clear that the income to the applicant accrued in India.
Court On Its Own Motion vs. CIT
Mr. Anand Parkash, addressed a letter dated April 30, 2012 to the Delhi HC setting out numerous problems being faced by the assesses across the country owing to the faulty processing of the Income-tax returns and non-grant of TDS credit and refunds. The Delhi HC took judicial notice of the letter and converted it into a public interest writ petition and demanded an answer to the following issues from the CBDT:
a. Whether procedure under Section 245 of the IT Act is being followed before making adjustment of refunds and whether assessees are being given full details with regard to demands, which are being adjusted.
b.Whether the Department of Revenue ("Revenue") is taking caution and care to communicate rejection of TDS certificates and intimation under Section 143(1) of the IT Act in case any adjustment or modification is made to taxes paid, either as advance tax, self assessment tax or TDS.
c. Whether and what steps are taken to verify and ascertain that the old demands against which adjustment is being made was communicated to the assessee?
d.What steps have been taken to ensure that the deductors correctly upload the TDS details/particulars on the Income Tax website?
e. What is the remedy available to the assessee and can he/she approach the Department in case the deductor fails to correctly upload the particulars in his/her cases?
f. Whether an assessee can get benefit of TDS deducted or/and paid but not uploaded by the deductor and procedure to claim the said benefit?
DIT v. Guy Carpenter & Co Ltd
In the said case, the assessee, a United Kingdom based reinsurance broker, received commission from several Indian insurance companies for arranging reinsurance contracts. Revenue held that the commission was assessable to tax in India as "fees for technical services" under the provisions of the IT Act as well as the DTAA between India and United Kingdom.
The Income Tax Appellate Tribunal ("‘ITAT"), in its order has observed that ‘in order to fit the terminology "make available" in Article 13(4)(c), mere provision of technical services is not enough but the technical knowledge must remain with the payer, and he must be equipped to independently perform the technical function himself without the help of the service provider'.
The Delhi HC held that Article 13(4)(c) of the DTAA indicates that ‘fees for technical services' would mean payments of any kind to any person in consideration for rendering any technical or consultancy services which, inter alia, "makes available" technical knowledge, experience, skill, know-how or processes, or consist of the development and transfer of any technical plan or technical design.
Sr. Branch manager, LIC of India v. CIT, Varanasi
During the relevant period the assessee company had paid conveyance allowance and additional conveyance allowance to its employees, in consideration of the expenses actually incurred by them, on duty. It has been claimed by the assessee that the said allowance was directly proportionate to the expenses incurred while performance of duty.
Accordingly, the assessee had not deducted any tax at source from the payment of such allowance. Further, the assessee contended that the conveyance allowance and additional conveyance allowance are permissible deduction under section 10(14) of the IT Act.
Further, it was also submitted that, if the said allowances were not deductible then the appropriate decision could have been taken against the employees in the assessment proceeding pertaining to their claim of deduction of allowances as conveyance allowance or additional conveyance allowance and it would then be open for the Assessing Officer ("AO") to determine the ultimate liability of tax on the employee. Hence any demand created on assessee (employer) was not justified.
The High Court of Allahabad observed that there was no statutory obligation of the corporation to deduct the tax at source in respect of conveyance allowance and additional conveyance allowance. Further, in the facts and circumstances of the case, conveyance allowance and additional conveyance allowance received by the employee was permissible deduction under Section 10(14) of the Act. However, the said high court noted that, it is always open for the tax department, while considering the claim of the individual assessee i.e. employee, to consider and decide whether the deductions claimed as conveyance allowance or additional conveyance allowance are permissible deduction or not.
CIT v. Sahara India Housing Corporation Ltd
The assessee claimed and treated the loss/gains from sale and purchase of securities as taxable under the head "capital gains" and not under the head "income from business". The AO rejected the claim and explanation given by the assessee as untenable on the ground that in the earlier years the assessee had treated income/loss from sale of securities as business income and had been assessed as such. AO observed that the assessee cannot be allowed to change the head under which the transactions were taxable at his own sweet will.
The said findings of the AO were reversed by the first appellate authority in the assessment year 1999-2000 observing that the assessee had shown the securities under the head "investment" in the balance sheet for many years. He has referred to the notes to accounts to the said balance sheets. For the assessment year 2000-01, the first appellate authority followed the same reasoning and reversed the addition made by the Assessing officer.
For the assessment year 2001-02, the first appellate authority relied upon the decision of the tribunal for the assessment year 1999-00 and 2000-01, wherein the same was directed to be taxable under the head "capital gain".
The tribunal, for the assessment year 2001-02, followed its earlier order. The tribunal has referred to the balance sheets where the securities were shown under the head "investment". The tribunal recorded and accepted that in some years the gains were shown as "income from business" and not as "short term capital gains". The tribunal finally held that the earlier treatment given by the assessee cannot be determinative.
The Delhi HC remitted the matter to the tribunal to examine the issue holistically keeping in mind the parameters/tests, laid down by the Gujarat HC in CIT vs. Rewashanker A. Kothari, (2006) 283 ITR 338 (Guj.)
The parameters/tests to be applied, to find out when income from transactions in shares/securities should be treated as "income from business" or "capital gains", are as under:-
a. Whether the initial acquisition of the subject-matter of transaction was with the intention of dealing in the item, or with a view to finding an investment. If the transaction, since the inception, appears to be impressed with the character of a commercial transaction entered into with a view to earn profit, it would furnish a valuable guideline;
b. Why and how and for what purpose the sale was effected subsequently;
c. How the assessee dealt with the subject-matter of transaction during the time the asset was with the assessee. Has it been treated as stock-in-trade, or has it been shown in the books of account and balance sheet as an investment. This inquiry, though relevant, is not conclusive;
d. How the assessee himself has returned the income from such activities and how the department has dealt with the same in the course of preceding and succeeding assessments. This factor, though not conclusive, can afford good and cogent evidence to judge the nature of the transaction and would be a relevant circumstance to be considered in the absence of any satisfactory explanation;
e. The fifth test, normally applied in cases of partnership firms and companies, is whether the deed of partnership or the memorandum of association, as the case may be, authorizes such an activity;
f. The last but the most important test, is as to the volume, frequency, continuity and regularity of transactions of purchase and sale of the goods concerned. In a case where there is repetition and continuity, coupled with the magnitude of the transaction, bearing reasonable proportion to the strength of holding, then an inference can readily be drawn that the activity is in the nature of business.
CIT v. Vinay Mittal
The assessee, in this case, is an employee of a company. The assessee was maintaining two separate portfolios i.e. investment portfolio and trading portfolio. The AO has admitted this position in the assessment order.
During the relevant assessment year, the assessee made seven share's transactions which were offered to tax as short term capital gains. In relation to such transaction, it is noticeable that in four cases, the shares were held for a period of more than 7 months, 8 months, 8.5 months and 11 months; whereas in three cases shares were held for 2.4 months, 2.5 months and 4 months.
The Delhi HC observed that, though the total number of shares which were traded were substantial but the transactions in question are only seven in number and the period of holding cannot be treated as insignificant and small. Quantum or total number may not be determinative but period of holding may indicate the intention of the assessee to make investment. The Delhi HC accepted that the tribunal has rightly accepted the position of the assessee that these shares, which are subject matter of short term capital gains, were rightly held by the assessee and treated by the assessee an investment portfolio and not a trading portfolio.
The Delhi HC observed that the AO was influenced to a large extent by the fact that the assessee had earned huge profits during the year in question from the sale of the said shares. The Delhi HC further observed that this can happen even in case of investment portfolio because when investment is liquidated to earn gains and change their portfolio. Element of uncertainty and risk is always there when a person deals in securities but this factor cannot be determinative factor whether the assessee is trading in shares or is an investor.
The Delhi HC held that merely because the assessee had sold the said shares in the relevant year and made substantial gains and could not show basically the objective for acquiring the shares was not as an investor but as a trade. The ratio of sales and purchase may be relevant in a particular case but when an assessee liquidates any investment, the said ratio will always be in favour of sales.
A.A.R. No.1074 of 2010
The Applicant was an Indian company which is the wholly owned subsidiary of a company registered under the laws of France ("French Company"). A service agreement was entered between into Applicant and French Company, whereby the French Company rendered certain services in the nature of assistance, professional and administrative consultation and training to the Applicant.
The issue before the AAR was whether payment made by Applicant to French Company under the Service Agreement is Fees for Technical Services as per Article 13(4) of the India-French DTAA read with the protocol to the said DTAA?
The AAR observed that the India-French DTAA was signed on September 29, 1992 The protocol was also signed on the same day with a preamble that the same was to form an integral part of the Convention. A look at clause 7 of the protocol provides for the ‘most favourable nation' clause which indicates that if any other Convention, agreement or protocol had been signed by India after 1.9.1989 (a date preceding the signing of the DTAA between India and France) with a third state, which is a member of the OECD, in which India limits its taxation at source on, inter-alia, FTS to a rate lower or scope more restricted than the rate of scope provided for in this DTAA, then, the same rate or scope as provided for in that Convention, was also to apply under the DTAA.
The applicant contended that the expression ‘rate of scope' is only a printing error, and the expression is really ‘rate or scope', and reading it so, will be consistent with the use of the expression in the other parts of the clause. However, the revenue contended that only provision for a lower rate of taxation is roped in and the scope of the provision in the DTAA for taxation cannot be whittled down by using this clause.
The AAR ruled that reading the clause as a whole, it would be appropriate to read the expression ‘rate of scope' as ‘rate or scope' in the context, and therefore, both rate of taxation and scope of taxation are brought within the purview of clause 7 of the protocol.
Accordingly, what has to be considered is whether or not the payments made by the Applicant to the French Company is fee for technical services? Article 12 of the India-US DTAA (signed after 1.9.1989) provides for taxation of fee for technical services. Article 13(4) explains that ‘fee for technical services ' means payment of any kind to any person in consideration for the rendering of any technical or consultancy services, if such services make available technical knowledge, experience, skill, know-how, or processes or consist of the development and transfer of a technical plan or technical design. Therefore, notwithstanding the absence of a ‘make available' stipulation in the Indo-French DTAA, the applicant can rope in the concept of ‘make available' in the present case. However, the AAR further ruled that this can be done only for technical and consultancy services which alone are embraced by the India-US DTAA and from the ‘make available' stipulation, managerial services are left out.
The AAR further ruled that under the Indo-French DTAA, managerial services are taxable as ‘fee for technical services' under Article 13(4) which says that fee for technical services means payments in consideration for services of a managerial, technical or consultancy nature. So, managerial services are taxable under the Indo-French DTAA as fee for technical services, without referring to the make available clause under the India-US DTAA since its Article 13 does not include consideration for managerial services within the definition of ‘fee for technical services'. Under Article 13 of the Indo-French DTAA, there is no stipulation that managerial services should be made available before the consideration paid for it can be taxed. In other words, mere rendering of managerial services to the applicant would invite the liability to be taxed in India for the consideration received for that service.
Thus, on a true construction of the service agreement between the Applicant and the French Company, it was ruled that the French Company is rendering managerial and consultancy services to the Applicant. Accordingly, the managerial services are taxable under Article 13(4) of the Indo-French DTAA and, consultancy services are taxable in terms of Article 13(4) of the Indo-French DTAA read with Article 12(4) of the India-US DTAA. Accordingly, the Applicant is required to deduct tax at source under section 195(1) of the IT Act.
In re A Mauritus
The Applicant is an Indian company, the shares of which were largely held by a US company, a Mauritius company, and a Singapore company. The Mauritius Company was ultimately held by another US company. It offered a buy-back in the year 2008, which was accepted only by the Mauritius company. The Applicant approached the AAR to seek a ruling on the issue as to whether the capital gains that may arise in the hands of the Applicant is taxable in India having regard to the provisions of the DTAA between India and Mauritius and whether it would be liable to withhold tax in terms of Sec 195 of the IT Act.
The AAR observed that dividend was being distributed by the Applicant to its shareholders until April 1, 2003. With effect from April 1, 2003, section 115-O was inserted in the IT Act (provides for payment of Dividend Distribution Tax upon distribution of dividend). This obliged the Applicant to pay a tax on distributed profits. The applicant, if it had paid dividends, would have incurred this liability to pay tax. The applicant did not pay any dividend after April 1, 2003. It allowed its reserves to accumulate, and in the year 2008, the Applicant offered a buy-back of shares. Only the Mauritius company accepted the buy-back of shares while the other shareholders did not accept the offer.
The AAR further observed that the proposed buy-back, if followed up, would mean that considerable sums would be repatriated to the Mauritius Company without the tax on the distributed profits being paid, in view of Article 13(4) of the DTAA between India and Mauritius. In this context, it is significant to note that neither the US company nor the Singapore company accepted the offer of buy-back, obviously because in the case of one it would have been taxable in India as capital gains and in the case of the other, its taxability would have been dependent on certain conditions being fulfilled, whereas under the India-Mauritius DTAA, capital gains is totally out of the Indian tax net. Further, there was no proper explanation on the part of the applicant as to why no dividends were declared subsequent to the year 2003 when the company was regularly making profits and when dividends were being distributed before the introduction of section 115-O of the IT Act.
Accordingly, the AAR ruled that the scheme of buy-back is a scheme devised for avoidance of tax. In fact, it is a colorable device for avoiding tax on distributed profits as contemplated in section 115-O of the IT Act. When the proposed transaction is found to be colorable, it is not a transaction in the eye of law and once it is ignored as such, the arrangement can only be treated as a distribution of profits by a company to its shareholders. Accordingly, in view of Article 10(2) of the DTAA between India and Mauritius, dividend paid by a company which is a resident of India, to a resident of Mauritius, may also be taxed in India, according to the laws of India but subject to the limitation contained therein. Therefore, the AAR ruled that the proposed payment would be taxable in India.
ITO v. Ariba Technologies (India) Pvt. Ltd.
The assessee was engaged in the business of providing data processing, technical consulting, computer programming, technical support and IT enabled services. It entered into research and developments agreements, under which, personnel of Ariba, USA were to assist the assessee on a short term basis. Accordingly, `Employee Assignment Agreement' i.e. secondment agreement was entered into by the assessee to secure the services of personnel of Ariba, USA to assist the assessee in its business. Ariba, USA provided services of one of its employees to the assessee by deputing him to India. Payments made to the seconded employee were treated as ‘salary income' and taxes were duly withheld thereon by the assessee under section 192 of the Act. However, for administrative convenience such salary (net of taxes) was paid by Ariba, USA directly to the bank account of seconded employee overseas and was subsequently reimbursed by the assessee to Ariba, USA. On the premise that the reimbursement to Ariba, USA is on a cost to cost basis, it was claimed by the assessee that it is not liable to withhold taxes under section 195 of the IT Act on reimbursement of such salary cost.
The assessee contended by the assessee that the seconded employee was entirely working under the control and supervision of the assessee and was the economic employer of the seconded employee, and that it being an economic employer, had already withheld and deposited appropriate taxes under section 192 of the IT Act on the salary payable to the seconded employee. Since the salary payments have already been subjected to tax, the same cannot be again subject to tax withholding under the provisions section 195 of the Act.
It further contended that remittances to Ariba, USA cannot be termed as Fees Included Services (FIS) in terms of Article12(4)(a) of the India and USA DTAA.
The Bangalore bench of ITAT has ruled that the payment made to Ariba, USA under the Employee Assignment Agreement was merely a reimbursement of salary paid to the seconded employee and not in the nature of FIS. Placing reliance on observation made by the co-ordinate bench in the case of IDS Software Solutions (India) Pvt. Ltd  122 TTJ 410 (Bang), held that the seconded employee was rendering services directly to the assessee for which he was being remunerated by the assessee. It further held that the secondment agreement cannot be regarded in the nature of rendering of technical services through the employees of the foreign company since the terms of the secondment agreement clearly outlined the duties and obligations of the seconded employee; the seconded employee is himself liable for its acts to the assessee; the assessee has authorised the seconded employee to act as its officer or authorised signatory or nominee or in any other lawful personal capacity; and that the assessee has indemnified Ariba USA from all claims, demand etc., consequent to any act or omission by the seconded employee.
Thus, it was held that the payments made to Ariba, USA are not liable to tax withholding under section 195 of the IT Act.
Sumitomo Mitsui Banking Corporation v. DDIT
The assessee, a Japanese bank, carrying on business through a PE in India, paid interest of Rs. 5 crores to its Head Office and other branches. The assessee, in computing the profits assessable to tax in India, claimed that while the interest received by the head office and other branches from the PE was not chargeable to tax in India on the principle that the PE and head office were one and the same entity, the PE was entitled to claim a deduction under Article 7 of the Indo-Japan DTAA. The AO held that the PE and the head office were deemed to be separate entities and that while the interest received by the head office from the PE was taxable under Article 11, deduction for that interest could not be allowed to the PE under section 40(a)(i) of the IT Act as it had failed to deduct tax at source. The 5 Member Special Bench of the Mumbai ITAT held that while such interest is not deductible under the IT Act because the payer & payee are the same person, Article 7(2) and 7(3) of Indo-Japan DTAA and its protocol makes it clear that for the purpose of computing the profits attributable to the PE in India, the PE is to be treated as a distinct and separate entity which is dealing wholly independently with the general enterprise of which it is a part and deduction has to be allowed for, inter alia, interest on moneys lent by the PE of a bank to its head office.
It further held that such interest is not taxable under the Act as both are, under the Act, the same person and not separate entities and one cannot make profit out of himself. The fiction created in Article 7(2) of the DTAA treating the PE as separate and independent entity does not extend to Article 11. Also, the interest paid by the PE is not interest paid in respect of debt claims forming part of the assets of the PE so as to attract Article 11(6) of the Indo Japan DTAA.