Karnataka high court full text of order in case of Canara housing (25/7/2014) overruling special bench ITAT all cargo order on scope of search assessment u/s 153A not confined to incriminating material (applies DHC in Anil Bhatia case); Karnataka high court order in Jayesh Mehta case on search/survey assessment for suppressed receipts only on profit element @2% ; Mumbai ITAT in GECF Asia Limited on India Thailand DTAA where Technical service clause is missing held mere advisory & consultancy services cannot be treated as royalty under head of "consideration for information concerning industrial, commercial, scientific experience" & Allahabad high court detailed orders in LG case on international taxation for business connection & permanent establishment (detailed principles laid down); Allahabad high court on section 10(23c) educational institution cases (eligibility criteria discussed)!

[Kapil Goel]

 

 Karnataka high court full text of order in case of Canara housing (25/7/2014) overruling special bench ITAT all cargo order on scope of search assessment u/s 153A not confined to incriminating material (applies DHC in Anil Bhatia case); Karnataka high court order in Jayesh Mehta case on search/survey assessment for suppressed receipts only on profit element @2% ; Mumbai ITAT in GECF Asia Limited  on India Thailand DTAA where Technical service clause is missing held mere advisory & consultancy services cannot be treated as royalty under head of "consideration  for information concerning industrial, commercial, scientific experience" & Allahabad high court detailed orders in LG case on international taxation for business connection & permanent establishment (detailed principles laid down); Allahabad high court on section 10(23c) educational institution cases (eligibility criteria discussed)!

 ========================================================

 IN THE INCOME TAX APPELLATE TRIBUNAL

“L” BENCH, MUMBAI

 ITA no. 8922/Mum./2010

 Assessment Year : 2007–08)

GECF Asia Limited
Date of Order – 06.08.2014

 

 

Before us, the learned Counsel, Shri Rajan Vora, on behalf of the assessee, submitted that the India–Thailand tax treaty does not have any separate Article for FTS and, accordingly, the income from the services rendered by the assessee would be governed by Article–7.

 

Since the assessee does not have any P.E. within the meaning of Article–5, therefore, the said receipts cannot be taxed in India. The fact that the assessee does not have a P.E., has not been disputed by the Assessing Officer. He also pointed out that in the assessment year 2006–07, the Assessing Officer had taxed the similar receipts from GEMFSL as being in the nature of FTS under the Act, however, in the first appeal, the learned Commissioner (Appeals) held that in the absence of any FTS clause under the India Thailand treaty and in the absence of P.E. of the assessee in India, the said receipts could not be taxable in India. Thereafter, no further appeal has been preferred by the Department. Regarding taxability of the said receipt as “royalty” under the Article–12, he submitted that the services rendered by the assessee are not in respect of the “use of” or the right to use of any patent, invention, model, design, secret, formula, process or trademark, etc., as defined in Para–3 of Article–12. It will also not fall under imparting of any information concerning technical, industrial, commercial or scientific knowledge or experience or skill, because there is no transfer of any knowledge, skill, or experience. He further referred and relied upon Para–11 of OECD commentary on Article–12, wherein the term “industrial, commercial and scientific experience” has been explained. He specifically drew our attention to Para–11.2 and 11.3 of the commentary. He submitted that the crucial point to see is,

 

whether such services fall within the ambit of “royalty” or whether there is any imparting of knowhow. If knowhow has not been transferred then the services rendered on account of industrial, commercial and scientific cannot be held as royalty. In support of his contention, he strongly relied upon the following case laws:–

1.	M/s. McKinsey & Co. (Thailand) v/s DDIT, ITA no.7624/Mum./2010, order dated 10th July 2013
2.	DDIT v/s Preroy AG, [2010] 39 SOT 187 (Mum.)
3.	Diamond Services International Pvt. Ltd. v/s UOI & Ors., [2008] 304 ITR 201 (Bom.)
4.	JDIT v/s Harvard Medical International, USA, [2012] 13 ITR (Trib.) 623 (Mum.)
5.	Spice Telecom v/s ITO, [2008] 113 TTJ 502 (Bang.)
6.	KPMG India Pvt. Ltd., v/s DCIT, [2012] 17 ITR (Trib.) 569 (Mum.)
7.	Bharati AXA General Insurance Co. Ltd. In re, [2010] 326 ITR 477 (AAR)
8.	Anapharn Inc., In re, [2008] 305 ITR 394 (AAR)
9.	Kotak Mahindra Primus Ltd. v/s DDIT, [2006] 105 TTJ 578 (Mum.)
10.	DDIT(IT) v/s Euro RSCG Worldwide Inc. [2013] 153 TTJ 378 (Mum.).

 

From the above, it can be gathered that the royalty payment received as consideration for information concerning industrial, commercial, scientific experience alludes to the concept of knowhow. There is an element of imparting of knowhow to the other, so that the other person can use or has right to use such knowhow. In case of industrial, commercial and scientific experience, if services are being rendered simply as an advisory or consultancy, then it cannot be termed as “royalty”, because the advisor or consultant is not imparting

his skill or experience to other, but rendering his services from his own knowhow and experience. All that he imparts is a conclusion or solution that draws from his own experience. The eminent author Klaus Vogel in his book “Klaus Vogel On Double Tax Convention” has reiterated this view on difference between royalty and rendering of services ….

The thin line distinction which is to be taken into consideration while rendering the services on account of information concerning industrial, commercial and scientific experience is, whether there is any imparting of knowhow or not. If there is no “alienation” or the “use of” or the “right to use of” any knowhow i.e., there is no imparting or transfer of any knowledge, experience or skill or knowhow, then it cannot be termed as “royalty”. The services may have been rendered  

by a person from own knowledge and experience but such a knowledge and experience has not been imparted to the other person as the person retains the experience and knowledge or knowhow with himself, which are required to perform the services to its clients. Hence, in such a case, it cannot be held that such services are in nature of “royalty”. Thus, in principle we hold that if the services have been rendered de–hors the imparting of knowhow or transfer of any knowledge, experience or skill, then such services will not fall within the ambit of Article–12. Since neither the Assessing Officer nor the DRP has examined the nature of service rendered by the assessee from this angle therefore, we are of the opinion that the matter should be restored back to the file of the Assessing Officer to examine the nature of services in line of the principles discussed above. If such services do not involve imparting of knowhow or transfer of any knowledge, experience or skill, then it cannot be held to be taxable as royalty. Since the issue of FTS is not the subject matter of dispute after the direction of the DRP, hence, we are not expressing any opinion on FTS. Thus, ground no.1 and 2, are treated as partly allowed for statistical purposes.

 

 

HIGH COURT OF JUDICATURE AT ALLAHABAD

AFR
Reserved
Court No.33

Civil Misc. Writ Petition (Tax) No.1366 of 2012

The Principal Officer, LG Electronics Inc. ..... Petitioner

Vs.

Asstt. Director Of Income Tax,
International Taxation & Ors. ..... Respondents

Connected with

Civil Misc. Writ Petition (Tax) Nos.1365 of 2012, 1363 of 2012, 1364 of 2012, 1367 of 2012, 1373 of 2012, 60 of 2013, 61 of 2013, 62 of 2013, 63 of 2013, 64 of 2013, 65 of 2013, 66 of 2013, 67 of 2013, 68 of 2013, 69 of 2013, 70 of 2013, 71 of 2013, 72 of 2013, 73 of 2013, 75 of 2013, 76 of 2013, 77 of 2013, 78 of 2013, 79 of 2013, 80 of 2013, 81 of 2013, 82 of 2013, 83 of 2013, 84 of 2013, 85 of 2013, 86 of 2013, 87 of 2013, 88 of 2013, 89 of 2013, 90 of 2013, 91 of 2013, 92 of 2013, 93 of 2013, 94 of 2013, 95 of 2013, 96 of 2013, 98 of 2013, 99 of 2013, 100 of 2013, 101 of 2013, 102 of 2013.

Section 9 of the Income Tax Act is similar to Article 7 of the DTAA. Section 9 provides that income accruing directly or indirectly, through or from any business connection in India shall be deemed to be Income accruing or arising in India. Hence, where the person entitled to such income is a non-resident, it would be included in his total income. However, Article 7 of the DTAA further stipulates that a permanent establishment must exists in India before income accrues and is taxable in India. Once a permanent establishment exist and business is being carried out through a permanent establishment then profits, being a necessary consequence, needs to be attributed and taxed in India as per Rule 10 of the Income Tax Rules.

The establishment of a permanent establishment presupposes that business operations are being carried out for profit. Clause (1) of Article 7 provides that if an income arises in Korea, which shall be taxable in that country unless the enterprise carries on business in other contracting state i.e. in India through a permanent establishment situated therein.
From the aforesaid, we find that what is to be taxed is profits of the enterprise in India but only so much of it as is directly or indirectly attributable to that permanent establishment. For attracting the taxing statute there has to be some activity through a permanent establishment. If income arising through the activity of the permanent establishment is established in which case, the profits would be attributed and taxed in India. Article 5 of DTAA defines "Permanent Establishment". Section 92F(iiia) of the Act also defines "Permanent Establishment". The Supreme Court in Morgan Stanley's case (supra) held that the definition of permanent establishment in DTAA is exhaustive whereas the definition under the Act is inclusive. Section 9 of the Act spells out the extent to which the income of non-resident, namely, the petitioner would be liable to tax in India.

In the light of the aforesaid and on a perusal of the reasons recorded by the Assessing Officer, it is evident that there is a rational and in a live nexus between the reasons recorded and the belief that income had escaped assessment. Once the Assessing Officer comes to a conclusion that the petitioner has a permanent establishment and is carrying out its business activities through this permanent establishment for the purpose of supply of raw materials and finished products and that the permanent establishment was available to the employees of the petitioner, who were either permanently stationed or came to India for business purposes, we are of the view that the Assessing Officer has given valid reasons to believe that income had escaped assessment. The Court finds that once a permanent establishment comes into existence, which presupposes that business operations are being carried out for the purpose of profit in which case the profits or the income needs to be attributed and taxed in India. Admittedly, no returns were filed by the petitioner.

The Assessing Officer had tangible material to form a belief that income had escaped assessment and, consequently, rightly issued the notice under Section 148 of the Act. The decision cited by the learned counsel for the petitioner in the case of G.S. Engineering and Construction Corporation Vs. Deputy Director of Income Tax (International Taxation) and others, 357 ITR 335 is not applicable in the facts of this case.

The contention that there was no fresh material before the Assessing Officer to come to a belief that income had escaped assessment is patently erroneous. The analysis made from the survey report and the documents so impounded has led the Assessing Officer to reasonably believe that income had escaped assessment on account of the fact that the petitioner was carrying on business operation in India through a permanent establishment. The contention that there was no application of mind is patently erroneous. The reasons to believe recorded by the Assessing Officer clearly shows that an in depth study and analysis was made and reasons were recorded in detail in arriving at a belief that income had escaped assessment.

The contention that as per the provisions of Chapter X of the Act, the Indian subsidiary, in terms of the provisions of Section 92E of the Act had disclosed all the transactions with the petitioner relating to purchase of raw materials, finished goods, commission and reimbursements and further, in terms of Section 92CA of the Act, the TPO of the Indian subsidiary had already examined the said transaction and by its order dated 20th December, 2006 found the same to be meeting the arm's length principle, consequently, the Assessing Officer was precluded from drawing any inference that any further income of the petitioner from the same transactions was chargeable to tax had escaped assessment is erroneous and cannot be accepted.
In Morgan Stanley's case (supra), the Supreme Court held:
"The object behind enactment of transfer pricing regulations is to prevent shifting of profits outside India. Under Article 7(2) nor all profits of MSCo would be taxable in India but only those which have economic nexus with P.E. In India. A foreign enterprise is liable to be taxed in India on so much of its business profit as is attributable to the P.E. in India. The quantum of taxable income is to be determined in accordance with the provisions of the Income-tax Act. All provisions of the Income-tax Act are applicable, including provisions relating to depreciation, investment losses, deductible expenses, carry forward and set off losses etc..................................................."

Once the Assessing Officer is satisfied that a permanent establishment of the petitioner exists in India and business is being conducted from this permanent establishment, the attribution of profits is a necessary consequence. The order of TPO will not come in the way for the reason that the TPO's order is in relation to the transactions between a subsidiary company and the petitioner.

 

The situation becomes different when the subsidiary company also works as a permanent establishment of the petitioner. Once a permanent establishment is established, the petitioner becomes liable to be taxed in India on so much of its business profits as is attributable to the permanent establishment in India. The order of the TPO is in relation with the subsidiary company and not in relation with the permanent establishment of the petitioner. The transfer pricing analysis is to be undertaken between the petitioner and its permanent establishment which has not taken place as yet. Once a transfer pricing analysis is done, the computation of income arising from international transaction has to be done keeping in mind the principle of arm's length price. Once this is done, there is no further need to attribute profits to a permanent establishment. However, where the transfer pricing analysis does not take into account all the risk taking functions of the enterprise and it does not adequately reflect the function performed and the risk assumed by the petitioner, the situation would be different and, in such a situation, there would be a need to attribute profits to the permanent establishment for those functions/risk that have not been considered. This is precisely what was considered in Morgan Stanley's case (supra) ….Further, we find that the survey was made much after the order of the TPO, which survey and documents so impounded revealed the existence of a permanent establishment of the petitioner and its business operations in India through its permanent establishment without disclosing its taxable income. We are of the opinion that the order of the TPO is not binding at the stage of issuance of notice and, in any case, it would be open to the petitioner to take a stand that the transactions with the subsidiary company and/or with the permanent establishment, being the same, no further tax could be levied. At the stage of examining the validity of the notice issued under Section 148 of the Act, the issue is limited only as to whether there existed any reasons for the Assessing Officer to believe that income had escaped assessment.

Consequently, for the reasons stated aforesaid, we do not find any infirmity in the issuance of the notice under Section 148 of the Act. All the writ petitions fails and are dismissed.

 

Reserved
Court No.33

Civil Misc. Writ Petition (Tax) No.937 of 2011

Simpkins School ..... Petitioner

Vs.

Director General of Income Tax
(Investigation) and others ..... Respondents

In the instant case, it is not disputed that the petitioner society is running an educational institution. Merely because there are other objects of the society does not mean that the educational institution is not existing solely for educational purpose. The emphasis of the word "solely" is in relation to the educational institution, which is running not for the purpose of making profit and is not in relation to the objects of the society.
In American Hotel & Lodging Association (supra) the authority is required to consider the nature and genuineness of the activities. The third proviso only sets out the conditions, which must be adhered to by the institution and compliance therewith is not to be tested at the stage of approval since they require considerations of facts and findings, which takes place in future. The requirement mentioned in the third proviso can only be tested after the end of the previous year when income is ascertained and thereafter applied. Further, the Supreme Court held that the authority is only required to examine that the petitioner's institution comes within the phrase "exists solely for the educational purpose and not for profit". Other conditions like application of income is not to be examined at this stage. The authority is only required to examine the nature, activities and genuineness of the institution. The mere existence that there is some profit does not disqualify the petitioner if the sole purpose of existence was not profit making but educational activities. The authority has to find out the predominant object of the activity and see whether the institution exists solely for education and not to earn profit. Merely because some profit arises from its activity will not mean that the predominant object of the activity is to earn profit and that it is not an educational activity. In order to ascertain whether the institute is carried on with the object of making profit or not it is the duty of the prescribed authority to ascertain whether balance of income has been applied wholly and exclusively to the object for which the institution is not established and in deciding the character of the recipient it was not necessary to look at the profits of each year but to consider the nature and the activities undertaken.
The Supreme Court held that the threshold conditions are actual existence of an educational institution and approval of the prescribed authority for which every applicant has to move an application in the standardised form in terms of the first proviso. If the prerequisite conditions of actual existence of the educational institution is fulfilled then the question of compliance with the requirements as spelt out in the other provisos would arise. At this stage, such considerations are not required.
We find from the impugned order that the Director General of Income Tax (Investigation) had misdirected itself in not considering the stipulated conditions mentioned under Section 10(23C)(vi) of the Act and had digressed from the main issue in considering irrelevant consideration. We find that the prescribed authority has considered the expenditures depicted by the petitioner in the previous assessment years. We find that the prescribed authority has considered the findings of the Assessing Officer, which findings have been set aside in appeal by the appellate authority. Consequently, on this short ground the impugned order cannot be sustained