2019 (8) TMI 1206 - HC - Income Tax

Liability of Registry of court to deduct TDS (withhold tax) on Interest on deposits - Income accrued in India - whether compensation received by the decree holder towards breach of contract is liable for taxation in India as it is a windfall gain and hence is covered under Article 22(3) of the Double Taxation Avoidance Agreement ( DTAA ) subsisting between India and Switzerland? - HELD THAT - A plain reading of Article 22(3) of the DTAA shows that the amounts received by the decree holder as compensation towards breach of contract cannot fall within its ambit. The language of Article 22(3) is unambiguous. What falls within its ambit is only income received from lotteries crossword puzzles races including horse races card games and other games of any sort or gambling or betting of any nature. It is only such income which can be taxed if at all in India. Inclined to accept the stand of the income tax department with respect to this aspect of the matter as indicated hereinabove by me. Insofar as the monies received towards arbitration costs and legal costs are concerned the aforementioned tabular chart would show that the income tax department proceeded on completely erroneous view of the matter. The income tax department has treated monies received under the award towards arbitration costs and legal costs as income of the decree holder and thereby proceeded to take the stand that the same will be taxable as fee for technical services both under the provisions of Income Tax Act 1962 (in short 1962 Act ) and the DTAA. Clearly nothing can be further from reality. Therefore the stand taken by the income tax department on this score would also have to be rejected.This brings me to the last aspect which relates to the interest. Taxability qua interest would also be the subject matter of Article 22(3) of the DTAA. In my opinion this stand is plainly wrong. The language of Article 22(3) of the DTAA does not support the stand of the income tax department. Assessment proceedings if any can only commence against the judgment debtor i.e. the Indian entity. At that stage the judgment debtor would be free to take every defence that may be available to it in law including the defence that withholding tax need be deducted as the award has morphed into a decree. Once a claim merges into a decree of the Court it transcends into a judgment-debt and therefore only those adjustments and deductions can be made which are permissible under the Code of Civil Procedure 1908. The judgments encapsulate the theme that a decree should be executed according to its tenor unless modified by a statute such as the 1962 Act. Accordingly the Registry is directed to release the balance amount available with it along with accrued interest to the decree holder without deducting any sum towards withholding tax.

Summary

Issues:
Execution of foreign award, Objections under Section 48 of the Arbitration and Conciliation Act, 1996, Appeal to Supreme Court, Deposit of decretal amount, Withholding tax by Income Tax Department, Tax liability on foreign award components, Interpretation of Double Taxation Avoidance Agreement (DTAA), Taxability of breach of contract compensation, Tax treatment of arbitration and legal costs, Taxability of interest, Assessment proceedings, Defense against withholding tax deduction, Release of balance amount without withholding tax deduction.

Analysis:

1. Execution of Foreign Award:
The decree holder sought execution of a foreign award dated 17.11.2014. The judgment debtor had previously filed objections under Section 48 of the Arbitration and Conciliation Act, 1996, which were dismissed by the court. The Supreme Court also dismissed the Special Leave Petition, upholding the earlier judgment.

2. Deposit of Decretal Amount and Withholding Tax:
Following court orders, the judgment debtor deposited the decretal amount with interest, part of which was released after withholding tax. The decree holder approached the court seeking release of the balance amount, contested by the Income Tax Department for withholding tax liability.

3. Tax Liability on Foreign Award Components:
The Income Tax Department argued for tax liability on various components of the foreign award, including breach of contract compensation, arbitration costs, legal costs, and interest. They relied on the DTAA between India and Switzerland to support their position.

4. Interpretation of DTAA and Taxability Issues:
The court analyzed the DTAA provisions and rejected the Income Tax Department's stance on tax liability for breach of contract compensation, arbitration and legal costs, and interest. The court found that the DTAA did not support taxation on these components as claimed by the Income Tax Department.

5. Assessment Proceedings and Defense Against Withholding Tax:
The court clarified that assessment proceedings would involve the judgment debtor, who could raise defenses, including withholding tax deductions as the award became a decree. The court referenced various judgments supporting the principle that a decree should be executed according to its terms, with deductions as permissible under the law.

6. Release of Balance Amount:
Ultimately, the court directed the Registry to release the balance amount to the decree holder without any withholding tax deduction, concluding the matter in favor of the decree holder.

This detailed analysis covers the issues of execution of the foreign award, tax liability on different award components, interpretation of the DTAA, assessment proceedings, and the final decision to release the balance amount without withholding tax deduction.