2011 (7) TMI 392 - AT - Income Tax

Whether or not the Commissioner (Appeals) was justified in holding that only 10% of the fee received by the Head Office for services rendered in India through independent surveyors is attributable to PE ignoring the facts that such services are not effectively connected with the PE as required under Para-5 of the Article 12 of the treaty between India and Japan and whether the same is taxable at the rate of 20 per cent on gross receipt under Article 12(2) - Held that - find that Article-12(5) of the DTAA excludes the entire receipt from Article-12(1) and 12(2) if the receipt has an effective connecting with the P.E - The argument that Port is to be taxed under Article-7 and balance under Article-12 is devoid of merit - The DTAA does not contemplate the same - Such an interpretation said to be placed by learned Departmental Representative is incorrect and hence we reject the same. When certain FTS is effectively connected with the P.E. then so much of the fees i.e. directly or indirectly attributable to the P.E. is to be taxed under Article-7. In view of the above discussion we uphold the findings of the first appellate authority and dismiss this ground of the Revenue in all the appeals. Advance Rent - Capital or Revenue expenditure - Assessee terminated the agreement leading to a litigation and this litigation was ultimately resolved by way of consent terms agreed to on 7th October 2003 before the Hon ble Bombay High Court - ON entering on these terms the assessee has in its return of income for assessment year 2004-05 offered the amount received from the landlady to tax - The Revenue has also taxed this amount - What is paid was advance of leave and licence fee and no enduring benefit accrues to the assessee - Advance Rent paid is not capital expenditure - As to whether the expenditure is contingent in nature held that the loss is real and it does not depend on the happening of any event as in the case of contingency - Thus appeals of the Revenue are dismissed.

Issues Involved:
1. Whether the Commissioner (Appeals) was justified in holding that only 10% of the fee received by the Head Office for services rendered in India through independent surveyors is attributable to the Permanent Establishment (PE).
2. Whether the deduction claimed by the assessee on a provision for irrecoverable advance rent paid is allowable.

Detailed Analysis:

Issue 1: Attribution of Fee to Permanent Establishment (PE)

Background:
The main issue in the Revenue's appeals was whether the Commissioner (Appeals) was justified in holding that only 10% of the fee received by the Head Office for services rendered in India through independent surveyors is attributable to the PE. The Revenue argued that the services rendered by independent surveyors were not effectively connected with the PE, and thus, the fee should be taxed at the rate of 20% on gross receipt under Article 12(2) of the DTAA between India and Japan.

Facts:
The assessee, Nippon Kaiji Kyokai (NK), is a classification society engaged in providing inspection and certification services to the marine industry. In India, the necessary survey activities are carried out by branches in Mumbai and Chennai, constituting a PE in India. However, in certain cases, surveys are conducted by independent Acting Surveyors (ACS) on behalf of the Head Office (HO). The HO raises invoices directly to customers and retains 45% of the fees, paying the balance to the independent surveyors.

Assessing Officer's (AO) View:
The AO taxed the sum received by the HO directly from surveying activity in India at 20% on the gross amount as "fees for technical services" (FTS) under Article 12 of the DTAA, arguing that the services were not effectively connected with the PE.

Commissioner (Appeals) View:
The Commissioner (Appeals) concluded that the PE had an effective connection with the services rendered through independent surveyors, and thus, Article 7 of the DTAA applied. He determined that 10% of the income was attributable to the PE and should be taxed accordingly, with no further expenditures allowed except for the consequential allowance of Head Office expenses under section 44C of the Income-tax Act, 1961.

Tribunal's Analysis:
The Tribunal upheld the Commissioner (Appeals)'s view, stating that the PE had a functional connection with the survey activities, even though it played a limited role. The Tribunal noted that the PE directed the acting surveyor, added its expenses to the billing, and forwarded the bill to the HO. This indicated an effective connection between the FTS and the PE. Consequently, Article 7 applied, and only the profits directly or indirectly attributable to the PE were taxable.

Conclusion:
The Tribunal dismissed the Revenue's appeals, agreeing with the Commissioner (Appeals) that 10% of the fee was attributable to the PE and taxable under Article 7. The argument that the balance amount should be taxed under Article 12(2) was rejected.

Issue 2: Deduction for Irrecoverable Advance Rent

Background:
The Revenue raised an additional ground regarding the deduction claimed by the assessee for a provision for irrecoverable advance rent paid.

Facts:
The assessee had paid an advance for "leave and licence fee" for five years, which was unilaterally terminated by the assessee, leading to litigation. The arbitration was resolved by consent terms, and the amount received was offered to tax in the subsequent year.

Assessing Officer's (AO) View:
The AO rejected the deduction claim, treating the loss as contingent and in the capital field, not allowable under the Act.

Commissioner (Appeals) View:
The Commissioner (Appeals) accepted the assessee's contention that the recovery was bleak and the loss of advance rent was in the revenue field, thus allowable under the Act.

Tribunal's Analysis:
The Tribunal upheld the Commissioner (Appeals)'s view, stating that the advance rent paid was not capital expenditure and the loss was real, not contingent. The Tribunal noted that the assessee had already offered the amount received from the landlady to tax in the subsequent year, which the Revenue had accepted.

Conclusion:
The Tribunal dismissed the Revenue's appeal on this ground, agreeing with the Commissioner (Appeals) that the deduction for irrecoverable advance rent was allowable.

Summary:
All the appeals and cross objections filed by the assessee, as well as the appeals filed by the Revenue, were dismissed. The Tribunal upheld the Commissioner (Appeals)'s decisions on both issues, confirming that only 10% of the fee received by the Head Office was attributable to the PE and that the deduction for irrecoverable advance rent was allowable.

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