Article 5 - Permanent Establishment - International Taxation - Income Tax

Article 5 - Permanent Establishment The concept of Permanent Establishment (PE) defined in article 5, has considerable importance as business profit (Article 7) of an enterprises cannot be taxed by a Source State unless it proves the existence of a PE. The comparable term to PE under the Indian tax law is Business Connection [ Section 9(1)(i) ]. Generally speaking, the concept of Business connection is wider than PE and hence, a business connection may exist even without a PE, but the absence of Business Connection may indicate absence of a PE. As per OECD Model Tax Convention Meaning of Permanent Establishment [ Para 1 to 4 of Article 5 ] The term permanent establishment means a fixed place of business through which the business of an enterprise is wholly or partly carried on. [ Para 1 ] includes a) a place of management; b) a branch; c) an office; d) a factory; e) a workshop, and f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources. [ Para 2 ] g) a building site or construction or installation project constitutes a permanent establishment only if it lasts more than twelve months [ Para 3 ] Exclude a) the use of facilities solely for the purpose of storage, display or delivery of goods or merchandise belonging to the enterprise; b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display or delivery; c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise; d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise or of collecting information, for the enterprise; e) the maintenance of a fixed place of business solely for the purpose of carrying on, for the enterprise, any other activity; f) the maintenance of a fixed place of business solely for any combination of activities mentioned in subparagraphs a) to e), such activity or, in the case of subparagraph f), the overall activity of the fixed place of business, is of a preparatory or auxiliary character. [ Para 4 ] Except - A fixed place of business that is used or maintained by an enterprise if the same enterprise or a closely related enterprise carries on business activities at the same place or at another place in the same Contracting State and a) that place or other place constitutes a permanent establishment for the enterprise or the closely related enterprise under the provisions of this Article, or b) the overall activity resulting from the combination of the activities carried on by the two enterprises at the same place, or by the same enterprise or closely related enterprises at the two places, is not of a preparatory or auxiliary character, The business activities carried on by the two enterprises at the same place, or by the same enterprise or closely related enterprises at the two places, constitute complementary functions that are part of a cohesive business operation. [ Para 4.1 ] Acting as Agent other than Independent Agent [ Para 5 of Article 5 ] where a person is acting in a Contracting State on behalf of an enterprise and, in doing so, habitually concludes contracts, or habitually plays the principal role leading to the conclusion of contracts that are routinely concluded without material modification by the enterprise, and these contracts are a) in the name of the enterprise, or b) for the transfer of the ownership of, or for the granting of the right to use, property owned by that enterprise or that the enterprise has the right to use, or c) for the provision of services by that enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to those mentioned in paragraph 4 which, if exercised through a fixed place of business (other than a fixed place of business to which paragraph 4.1 would apply), would not make this fixed place of business a permanent establishment under the provisions of that paragraph. The person acting an Independent Agent not deemed as a PE [ Para 6 of Article 5 ] Paragraph 5 shall not apply where the person acting in a Contracting State on behalf of an enterprise of the other Contracting State carries on business in the first mentioned State as an independent agent and acts for the enterprise in the ordinary course of that business. Where, a person acts exclusively or almost exclusively on behalf of one or more enterprises to which it is closely related, that person shall not be considered to be an independent agent within the meaning of this paragraph with respect to any such enterprise. In case of Company [ Para 7 of Article 5 ] A company which is a resident of a Contracting State controls or is controlled by a company which is a resident of the other Contracting State, or which carries on business in that other State (whether through a permanent establishment or otherwise), shall not of itself constitute either company a permanent establishment of the other. Meaning of Closely related enterprises [ Para 8 of Article 5 ] A person or enterprise is closely related to an enterprise if, based on all the relevant facts and circumstances, one has control of the other or both are under the control of the same persons or enterprises. In any case, a person or enterprise shall be considered to be closely related to an enterprise if one possesses directly or indirectly more than 50 per cent of the beneficial interest in the other (or, in the case of a company, more than 50 per cent of the aggregate vote and value of the company s shares or of the beneficial equity interest in the company) or if another person or enterprise possesses directly or indirectly more than 50 per cent of the beneficial interest (or, in the case of a company, more than 50 per cent of the aggregate vote and value of the company s shares or of the beneficial equity interest in the company) in the person and the enterprise or in the two enterprises. As per UN Model Tax Convention Article 5 of the United Nations Model Convention reproduces Article 5 of the OECD Model Convention except The UN Model Convention varies from the OECD Model convention in the Following aspect As per para 3 of Article 5 of UN Model The term permanent establishment also encompasses: (a) A building site, a construction, assembly or installation project or supervisory activities in connection therewith, but only if such site, project or activities last more than six months ; (b) The furnishing of services, including consultancy services , by an enterprise through employees or other personnel engaged by the enterprise for such purpose, but only if activities of that nature continue within a Contracting State for a period or periods aggregating more than 183 days in any 12 month period commencing or ending in the fiscal year concerned. In the absence of a service PE reference in OECD Model, the presence has to be ascertained through general principles under article 5(1). As per para 5(b) of Article 5 of UN Model (b) the person does not habitually conclude contracts nor plays the principal role leading to the conclusion of such contracts, but habitually maintains in that State a stock of goods or merchandise from which that person regularly delivers goods or merchandise on behalf of the enterprise . As per para 6 of Article 5 of UN Model relating to Insurance which is absent in the OECD Model An insurance enterprise of a Contracting State shall, except in regard to re-insurance , be deemed to have a permanent establishment in the other Contracting State if it collects premiums in the territory of that other State or insures risks situated therein through a person. In the absence of similar Article in the OECD Model , a PE of an insurance enterprises has to be determined in accordance with provisions of Article 5(1) or 5(2) of the OECD Model. As Per Indian Law Under the Income Tax Act, 1961, the taxability of business profits is determine by existence of business connection in India under section 9(1)(i). The DTAA, taxability of business profit is determined by the existence of a Permanent Establishment (PE) in India. The Scope of business connection under section 9(1)(i) is wider than of PE. The term PE is also defined u/s 92F(iiia) to Include a fixed place of business through which the business of the enterprises is wholly or partly carried on. [ For more detail refer this link ]