2024 (2) TMI 529 - AT - Income Tax

Taxability of interest on income tax refund received - PE in India or not? - whether shall be taxable as business income under Article 7 of India-France DTAA as against offered to tax as interest income under Article 12 of India-France DTAA ? - as manifested even if it is assumed that assessee has a PE in India in the form of India branch office, but since the said PE has not been carrying out any business activity in India since February, 2012, the income in question, i.e., interest on income-tax refund cannot be said to be effectively connected with such permanent establishment , and, therefore, it does not fall in the ambit of Paragraph 5 of Article 12 so as to be taxed as business profits in terms of Article 7 of India France DTAA HELD THAT - Tribunal in the case of Clough Engineering Ltd. 2011 (5) TMI 562 - ITAT, DELHI noted in similar circumstances that the real test to be applied is not whether the interest is business income or not, but as to whether the debt-claim in respect of which the interest is paid is effectively connected with the PE or not. Thus the aforesaid decision of the learned Special Bench answers the extant controversy quite squarely inasmuch as it cannot be said that interest on income tax refund is effectively connected with the PE either on the basis of the asset-test or the activity-test, especially when there is no dispute to the position before us that India branch office of the assessee has not carried out any business activity during the previous year relevant to the assessment year under consideration. As the provisions of Paragraph 2 of Article 12 of the India-France DTAA are clearly attracted and, there is no scope for considering the instant case in terms of Paragraph 5 of Article 12 so as to invite taxability in terms of Article 7 of the DTAA. In fact, we find that in the context of India-France DTAA, the Mumbai Bench of the Tribunal in the case of Aker Solutions India SDN BHD 2022 (11) TMI 1445 - ITAT MUMBAI relying upon the decision of .Clough Engineering Ltd. 2011 (5) TMI 562 - ITAT, DELHI had taken a similar view with respect to the interest on income tax refund received under Section 244A of the Act. On an appeal filed by the Revenue, the Hon ble Bombay High Court in the case of DIT Vs. Credit Agricole Indosuez 2015 (6) TMI 974 - BOMBAY HIGH COURT did not find it expedient to interfere with the aforesaid decision of the Tribunal, and, thus, the same stands affirmed. Thus we find that the case of the assessee for taxing the income by way of interest on tax refund at the rate of 10% in terms of Paragraph 2 of Article 10 of the India France DTAA is liable to be upheld. Assessee appeal allowed.

Issues Involved:
1. Taxability of interest on income tax refund under India-France DTAA.
2. Constitution of Permanent Establishment (PE) for the branch office in India.
3. Effective connection of interest income with PE.
4. Adjustment of business expenditure against business income.
5. Initiation of penalty proceedings under Section 270(A).
6. Validity of proceedings under Section 143(3) read with Section 144C.
7. Application of Most Favoured Nation (MFN) clause in India-France DTAA.

Summary:

1. Taxability of Interest on Income Tax Refund:
The primary issue revolves around whether the interest on income tax refund amounting to Rs. 1,79,47,179/- should be taxed as business income under Article 7 or as interest income under Article 12 of the India-France DTAA. The assessee, a French entity with a branch office in India, received this interest during the assessment year 2018-19. The Assessing Officer treated it as business income taxable at 40%, while the assessee contended it should be taxed as interest income at 10%. The Tribunal held that the interest on income tax refund is not effectively connected with the PE in India and should be taxed under Paragraph 2 of Article 12 at the rate of 10%.

2. Constitution of Permanent Establishment (PE):
The Assessing Officer considered the branch office in India as a PE, despite it not carrying out any business activities since February 2012. The Tribunal noted that even if the branch office is considered a PE, the interest income is not effectively connected with it.

3. Effective Connection of Interest Income with PE:
The Tribunal emphasized that the interest on income tax refund is not effectively connected with the PE, either on the basis of asset-test or activity-test, especially since the branch office had no business activity during the relevant year. The Tribunal relied on the Special Bench decision in Clough Engineering Ltd., which held that such interest is not effectively connected with the PE.

4. Adjustment of Business Expenditure:
The Tribunal did not address this issue directly as the primary contention regarding the taxability of interest income was resolved in favor of the assessee.

5. Initiation of Penalty Proceedings:
The Tribunal did not specifically address the issue of penalty proceedings under Section 270(A) as the main issue was resolved in favor of the assessee.

6. Validity of Proceedings under Section 143(3) read with Section 144C:
The assessee raised an additional ground challenging the validity of the proceedings under Section 143(3) read with Section 144C. However, the Tribunal did not adjudicate this issue as it became academic due to the resolution of the main issue.

7. Application of MFN Clause:
The assessee argued that no tax should be levied on the interest earned on income tax refund by applying the MFN clause in the India-France DTAA. The Tribunal did not specifically address this argument as the main issue was resolved in favor of the assessee.

Conclusion:
The Tribunal concluded that the interest on income tax refund should be taxed at the rate of 10% under Paragraph 2 of Article 12 of the India-France DTAA and not as business income under Article 7. Consequently, the appeal of the assessee was allowed.

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