2018 (6) TMI 617 - AAR - Income Tax

PE in India - non-compete fee receipt - consideration for transfer of the shares - income accrued in India - India-UK DTAA - Capital Gains or business income - different business than that of the payer of non-compete fee or the transferor of shares - Held that - Revenue s interpretation of section 28(va) to hold that recipient of non-compete should already have been carrying on the business which he has agreed not to carry on further is erroneous and contrary to the provisions of the Act. In order to attract section 28(va)(a), there is no condition of receiving a non-compete fee for agreeing not to carry on a business which the assessee was already carrying on. Hence, we do not agree with the Revenue that the fee received by the Applicant cannot be taxable under section 28(va) because the Applicant and MPS were carrying on different businesses. As non-compete fees received by the Applicant from ADI BPO Services Private Ltd., an Indian Company, as a part of the consideration for transfer of the shares held in MPS Ltd. an Indian Company, though income from Profits and gains of business or profession as provided under Section 28(va) of the Act, shall not be chargeable to tax in India in the absence of any Permanent Establishment of the Applicant in India, by virtue of Article 7 of the Double Taxation Avoidance Agreement ( DTAA ) between India and United Kingdom.

Issues Involved:
1. Taxability of non-compete fees under the Income Tax Act, 1961.
2. Applicability of Section 28(va) of the Income Tax Act.
3. Interpretation of Article 7 of the India-UK DTAA.
4. Determination of whether non-compete fees fall under "Profits and gains of business or profession" or "Capital Gains".
5. Consideration of permanent establishment in India.

Detailed Analysis:

1. Taxability of Non-Compete Fees:
The Applicant, HM Publishers Holdings Limited, received a non-compete fee from ADI BPO Services Private Limited as part of a Share Purchase Agreement (SPA). The primary question was whether this fee should be taxed as "Profits and gains of business or profession" under Section 28(va) of the Income Tax Act, 1961, or as "Capital Gains".

2. Applicability of Section 28(va):
The Applicant argued that the non-compete fee qualifies as business income under Section 28(va) of the Act. The Applicant cited the Madras High Court decision in Commissioner of Income-tax vs. M/s. Chemtech Laboratories Ltd. to support this position. The Applicant contended that the fee was for agreeing not to compete with MPS Limited for three years, which falls under the purview of Section 28(va)(a).

3. Interpretation of Article 7 of the India-UK DTAA:
The Applicant relied on Article 7 of the India-UK Double Taxation Avoidance Agreement (DTAA), which states that business profits are taxable in the UK if there is no permanent establishment in India. The Applicant argued that since it had no permanent establishment in India, the non-compete fee should not be taxable in India.

4. Determination of Tax Head:
The Revenue argued that the non-compete fee should be taxed as "Capital Gains" under Section 2(47) of the Act, asserting that the fee was for the transfer of the right to carry on business, which is a capital asset. The Revenue cited various judgments to support this view, including cases where non-compete fees were treated as capital gains due to the extinguishment of rights.

5. Consideration of Permanent Establishment:
The Applicant emphasized that it did not have a permanent establishment in India, and therefore, under Article 7 of the DTAA, the non-compete fee should not be taxed in India. The Revenue did not dispute the absence of a permanent establishment but focused on the nature of the fee.

Judgment Analysis:

1. Capital Asset and Transfer:
The Authority held that the Applicant did not have a right to carry on the business of MPS Limited, as the right to carry on business lies with the company, not its shareholders. Thus, the non-compete fee was not for the transfer of a capital asset. The fee was for a negative covenant, i.e., agreeing not to compete, which does not constitute a transfer under Section 2(47).

2. Nature of Non-Compete Fee:
The Authority concluded that the non-compete fee was for a restrictive covenant and not for transferring any right to carry on business. Therefore, it falls under Section 28(va) as business income and not under capital gains.

3. Article 7 of the DTAA:
Given the absence of a permanent establishment in India, the non-compete fee is not taxable in India under Article 7 of the India-UK DTAA. The Authority agreed with the Applicant's reliance on the decision in Trans Global PLC vs. Director of Income Tax (International Taxation).

4. Revenue's Alternative Plea:
The Revenue's plea to allocate part of the non-compete fee to the transfer of controlling interest was rejected. The Authority found that the shares were sold at the market price, and the SPA clearly separated the non-compete fee from the share price.

Conclusion:
The non-compete fees received by the Applicant are classified as "Profits and gains of business or profession" under Section 28(va) of the Income Tax Act, 1961. However, due to the absence of a permanent establishment in India, these fees are not chargeable to tax in India by virtue of Article 7 of the India-UK DTAA.

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