2018 (3) TMI 1301 - AT - Income Tax

TDS u/s 195 - disallowance of the royalty payment in terms of section 40(a)(ia) - assessee has utilized the patents IPRs in India - Held that - The facts of the case clearly indicate that the assessee company is also a tax resident in India, for the purpose of income tax and, therefore, the facts indicate that the assessee has utilized the patents IPRs in India and the products so manufactured with the aid of patents and IPRs are in reality exported to USA. Hence, the ld. CIT (Appeals) s analogy is correct that DKLLC USA (assessee) has merely carried out the marketing of the products which are exported by the DKLLC India (assessee). Hence, we agree with the ld. CIT (Appeals) that the patent/IPRs are utilized for manufacturing activities in India and the rest of the activity, i.e., sale in USA has to be viewed in conjunction with this activity and the same cannot be isolated. Hence, the assessee s contention that the patents, IPRs are utilized outside India and income has been earned from outside India are not sustainable. Hence, the ld. Commissioner of Income Tax (Appeals) is correct in holding that the disallowance of the royalty payment in terms of section 40(a)(ia) r/w s. 195 of the Act is justified. - Decided against assessee

Issues Involved:

1. Tax Residency Status of DKLLC
2. Disallowance of Royalty Payments
3. Application of Section 40(a)(i) and Section 195 of the Income Tax Act
4. Applicability of Section 9(1)(vi)(b) Exception Clause
5. Business Connection and Utilization of Patents/IPRs in India
6. Additional Evidence Submitted by Assessee

Issue-wise Detailed Analysis:

1. Tax Residency Status of DKLLC:
The assessee, Dorf Ketal Chemicals LLC (DKLLC), is a 100% subsidiary of an Indian company, Dorf Ketal India Pvt. Ltd. (DKIP). DKLLC, incorporated in the USA, has its control and management in India, making it a tax resident in both the USA and India. Consequently, DKLLC files its income returns in India as a resident company.

2. Disallowance of Royalty Payments:
DKLLC acquired patents and copyrights from UOP LLC, USA, and paid royalties based on sales in the USA. The Assessing Officer (AO) disallowed these royalty payments under Section 40(a)(i) read with Section 195 of the Income Tax Act, arguing that DKLLC failed to deduct tax at source on these payments.

3. Application of Section 40(a)(i) and Section 195 of the Income Tax Act:
The AO held that the royalty payments to UOP LLC were chargeable to tax in India, necessitating TDS under Section 195. Since DKLLC did not deduct TDS, the AO invoked Section 40(a)(i) to disallow the royalty payments.

4. Applicability of Section 9(1)(vi)(b) Exception Clause:
DKLLC contended that the royalty payments fell under the exception provided in Section 9(1)(vi)(b), which exempts royalties paid for rights or information used for business outside India. DKLLC argued that the patents and technical information were used for business carried out in the USA, and thus, the payments should not be subject to tax in India.

5. Business Connection and Utilization of Patents/IPRs in India:
The AO and Commissioner of Income Tax (Appeals) (CIT(A)) determined that the patents and IPRs were utilized in India for manufacturing products, which were then sold in the USA. The CIT(A) emphasized that DKLLC's relationship with its holding company was not merely that of a contract manufacturer. The patents/IPRs were used in India, establishing a clear business connection, thus invalidating the exception under Section 9(1)(vi)(b).

6. Additional Evidence Submitted by Assessee:
DKLLC submitted additional evidence under Rule 29 of the Income Tax Appellate Tribunal Rules, 1963, including sales invoices to demonstrate that its customers were located outside India. The Tribunal considered this evidence but ultimately upheld the CIT(A)'s decision.

Judgment Analysis:

The Tribunal agreed with the CIT(A) that the royalty payments did not qualify for the exception under Section 9(1)(vi)(b). The patents/IPRs were utilized in India for manufacturing, and the products were exported to the USA. The relationship between DKLLC and its holding company was not merely contractual but indicated significant business operations in India. The Tribunal also found that the additional evidence submitted by DKLLC did not alter the fundamental facts of the case.

The Tribunal upheld the AO's disallowance of royalty payments under Section 40(a)(i) read with Section 195, confirming that DKLLC was liable to deduct TDS on these payments. The appeal by DKLLC was dismissed, and the disallowance of royalty payments was confirmed.

Conclusion:

The Tribunal's judgment emphasized the importance of the business connection and utilization of patents/IPRs in India, leading to the disallowance of royalty payments under Section 40(a)(i) due to non-deduction of TDS under Section 195. The appeal by DKLLC was dismissed, affirming the CIT(A)'s decision.

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