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TMI Blog2006 (3) TMI 220X X X X Extracts X X X X X X X X Extracts X X X X ..... ee has provided the software to the agents, though retaining the copyright in the same, to enable them to access the assessee's mainframes in the USA. All these are in our opinion sufficient to justify the conclusion that there is business connection within the meaning of section 9(1) of the Act. We uphold the conclusion of the income-tax authorities to this effect. PE of the assessee in India? - whether there is a PE as alleged by the income-tax authorities under any of the four categories: (a) fixed place PE; (b) dependent agents PE; (c) software as PE or (d) LO as PE. (a) Fixed place PE - The assessee before us has appointed different agents in India. These agents are the Department of Posts of the Government of India, commercial banks, non-banking financial companies and tour operators. These agents have their own or hired premises from which they operate. All that they have to show that they are agents of the assessee is a display board which shows that they are the agents of the assessee. This cannot by any stretch of imagination amount to projection of the assessee in India. It cannot be postulated that the post offices of the Department of Posts which functions under th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be no PE on account of the use of the credit cards. The agents (in the present case) have the authority to appoint sub-agents does not mean that they (agents) have the authority to conclude contracts. The terms of appointment of sub-agents given at page 22 of the paper book as attachment to the contract of agency with Karnataka Bank Ltd. lists the duties and responsibilities of the sub-agents regarding money transfer service requirements, advertising and promotion, exclusivity, locations and hours of operations, payment for the service, delivery standards, maintenance of records, security and confidentiality, accounting, use of software, indemnity, conditions of termination etc. Nowhere in the sub-agency agreement has any authority to conclude contracts has been given to them. In fact, when the agents themselves have no such authority under their agreement, they cannot delegate the same to their sub-agents (delegates non potest delegare). There is also no material to hold that the agents have habitually exercised the authority to conclude contracts. As already noted, the authority must be to conclude contracts in the conduct of the business proper of the foreign enterprise. The fa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... incidental questions also arise, such as whether it has a business connection in India as understood by the Income-tax Act, 1961, whether it has a Permanent Establishment ( PE ) in India as understood by the Agreement for Avoidance of Double Taxation between India and USA, and whether if it is found to have a PE in India then whether any profits can be attributed to the PE and further if so, what would be the percentage of such profits. Facts 2. The assessee is a non-resident company registered in USA. It is engaged in the business of rendering money transfer services since 1890. The business includes transfer of monies across international borders. A person who is in USA, if he wants money to be transferred to his relative in India, first approaches the assessee's outlet in USA. He remits the money in dollars together with the charges. He is given a receipt by the assessee along with a computer-generated unique number which is referred to as MTCN (Money Transfer Control Number). The remitter sends the number to his relative in India who takes it to the assessee's representative/agent in India. The MTCN is fed into the computer with the help of a software and the mainframe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... applied to the Reserve Bank of India by application dated 17-7-1993 as required by section 29(1)(a) of the Foreign Exchange Regulation Act, 1973 to establish an office or to post a representative in India by an overseas company for carrying on liaison activities or to open a project/site office in India . The application stated that the assessee wanted to open a liaison office ( LO ) in Mumbai with one manager and support staff and that the territorial jurisdiction of the office will extend to the whole of India. Mr. Harsh Lambah, a person of Indian nationality, would be in-charge of the office. The estimated annual expenses of the office was around US $ 2,00,000. It was further stated in the application that the office will not represent any party other than Western Union Financial Services, Inc., group of companies . The annexure to the application' listed the following as the activities/services to be undertaken/rendered by the liaison office: The Liaison Office shall undertake the following liaison activities/services: (a) Distribute brochures and literature describing the activities of Western Union Financial Services, Inc. ( Western Union ). (b) Maintain liaison contact w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not undertake any other activity of a trading, commercial or industrial nature nor shall it enter into any business contracts in its own name without our prior permission. (ii) No commission/fees will be charged or any other remuneration received/income earned by the office in India for the liaison activities/services rendered by it or otherwise in India. (iii) The entire expenses of the office in India will be met exclusively out of the funds received from abroad through normal banking channels. (iv) The office in India shall not borrow or lend any money from/to any person in India without our prior permission. (v) The office in India shall not acquire, hold (otherwise than by way of lease for a period not exceeding five years) transfer or dispose off any immovable property in India without obtaining prior permission of the Reserve Bank of India under section 31 of the Foreign Exchange Regulation Act, 1973. (vi) The office in India will furnish to our Mumbai Regional office (on a yearly basis): (a) a certificate from the auditors to the effect that during the year no income was earned by/or accrued to the office in India; (b) details of remittances received from abroad duly suppo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , the Mumbai office being called the nodal LO . 8. The assessee, in accordance with the arrangements with the agents/representatives in India, started remitting monies to India and remunerated them with the compensation. The figures of commission for the period from April 2000 to March 2001, relevant to the assessment year 2001-02 which is the year under appeal, are given in page 24 of the report month-wise. Suffice to note that the assessee paid a total commission of Rs. 12,16,94,036 to the Indian agents/ representatives, equivalent to US $26,63,472. Assessment proceedings 9. The Assessing Officer issued notice under section 142(1) of the Act to the assessee calling upon it to file its return of income under the Income-tax Act. The assessee did not file any return, but objected to the notice on the ground it was beyond jurisdiction but later withdrew the objection and filed a return on 8th December, 2003 declaring nil income. Apparently the assessee claimed that it was not taxable in India. Briefly speaking, the Assessing Officer took the view that the income arising to the assessee in India from the activities carried out in India was taxable both under the Income-tax Act and und ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee that the money will be paid. The compensation paid to the agents is not adequate in comparison to the revenue received by the assessee for the work. The main part of the transaction the payment of the money to the claimant - is carried out by the agents in India and thus merits adequate compensation. Since the compensation paid is not adequate, the transaction is not at arm's length. (c) The LO takes active part in the business of the assessee in the form of marketing, appointment of agents, brand building, providing software to the agents and imparting training to them in India. Therefore, the LO is a PE of the assessee in India. (d) The assessee has not submitted its global accounts :or balance sheet or the India-specific accounts. The only information given is that the assessee had transferred Rs. 520,34,20,247 on which commission amounting to Rs. 42,33,16,919 was paid. The rate of commission varied from 25 per cent to 30 per cent to the Indian agents and was about 15 per cent for the agents abroad. Taking note of the expenses to be incurred such as maintenance of network, communication charges, mainframe expenses etc., the profit attributable to the Indian operations may ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he estimate made by the Assessing Officer was reasonable and justified. For the above reasons, the CIT(A) dismissed the appeal. Hence the present appeal. 11. We have merely summarised the reasons and findings of the income-tax authorities and they will be dealt with in detail, wherever necessary, at the appropriate juncture. Arguments of the assessee 12. The arguments on behalf of the assessee were these: (a) There was no business connection in India at all, so that the profits, if any, attributable to the Indian operations could be brought to tax under section 9 of the Income-tax Act. (b) As regards the DTAA, considerable arguments were advanced to deny the existence of any PE in India within the meaning of article 5. The LO, it was contended, cannot be regarded as a PE since it is prohibited by the RBI from carrying on any business or commercial or trading activity under the conditions imposed for granting approval. The status reports filed, it was pointed out, showed that there was no violation of the conditions. The activities of the LO are continuously monitored by the RBI which has not alleged any violations of the relevant conditions. In IAC v. Mitsui Co. Ltd. (39 ITD 59) (S ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the control of the assessee. Thus the agents were not dependent on the assessee in the matter of appointment, termination or remunerating the sub-agents. (e) Turning to the question whether the agents were independent agents within the meaning of article 7.5 of the DTAA, it was argued that they were acting in the ordinary course of their business in undertaking the activity of disbursing the payments in India, that this activity constituted a fraction of the overall activities of the agents, that the activities of the agents were not devoted wholly or almost wholly for the foreign enterprise (the assessee), that the compensation paid to them is uniform throughout the world and thus the dealings between the assessee and the agents were at arm's length and therefore it cannot be said that the agents were not independent agents. (f) The observation of the Assessing Officer that the assessee permits the use of credit cards for drawing cash from its outlets in India is wholly erroneous and not based on facts. It is contended that the assessee has no outlets of its own in India where credit cards could be used. It was emphatically denied that any credit cards were issued at all, i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Act extends only to India under section 1(2) thereof, the money transfer business involving trans-border transfer of funds cannot be said to be in the ordinary course of banking business. Referring to the cases of non-nationalised banks (such as the Karnataka Bank Ltd., Bank of Punjab Ltd. etc.) appointed as agents of the assessee, Mr. Rajneesh Kumar submitted that section 6(2) of the Banking Regulation Act, prohibited a banking company from engaging itself in any form of business other than those referred to in sub-section (1) and therefore the money transfer business undertaken by the banks as agents of the assessee cannot be considered to be their lawful business and hence not in the ordinary course of their business. It was argued that it was because of the prohibition contained in section 6(2) of the aforesaid Act that the non-nationalised banks (such as the Karnataka Bank Ltd., Bank of Punjab Ltd. etc.) have had to seek the approval of the RBI under section 3(c) of the Foreign Exchange Management Act, 1999. A similar argument was advanced in regard to the Non-Banking Financial Companies (NBFCs) and tour operators appointed as the assessee's agents. (d) Strong reliance was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . (d) The non-compete clause in the agreement of appointment of agent does not make the agent dependent on the foreign enterprise (assessee). It is the usual clause found in all such arrangements, mainly intended to protect the assessee. (e) The training of the agents is an activity auxiliary or preparatory and therefore by virtue of article 5.3(e) of the DTAA the LO cannot be deemed to be a PE. (f) The words ordinary course of their business appearing in article 5.5 of the treaty shall be construed broadly and it must be accordingly held that the agents' activity constituted his regular business. There is no allegation that any of the conditions prescribed by any law were violated, nor is there any evidence to show that the transactions were not at arm's length. Therefore, the agents were all independent agents. (g) There is no evidence to show that the agents had as a matter of fact the authority to conclude contracts on behalf of the assessee, nor is there any evidence to show that the agent was habitually exercising such authority as required in article 5.4 of the treaty. Therefore, they are not dependent agents. It was argued that the mere grant of power to appoint sub ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... -tax Act? 2. If the DTAA between India and USA is applicable, then is there a PE of the assessee in India? If so, what kind of PE is it? 3. If there is a PE in India, how much income is attributable to the same? Several incidental or sub-questions also arise which will all be dealt with in the following paragraphs. 17. Before we proceed to decide the above questions, certain fundamental propositions which now seem to be well-settled, need to be noticed. Wherever there is a DTAA between India and another country, then the provisions of the DTAA will override those of the Income-tax Act. In Union of India v. Azadi Bachao Andolan [2003] 263 ITR 706, the position was summed up thus by the Supreme Court: A survey of the aforesaid cases makes it clear that the judicial consensus in India has been that section 90 is specifically intended to enable and empower the Central Government to issue a notification for implementation of the terms of a double taxation avoidance agreement. When that happens, the provisions of such an agreement, with respect to cases to which where they apply, would operate even if inconsistent with the provisions of the Income-tax Act. We approve of the reasoning in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in. 19. The result is that the case in hand has to be approached first from the point of view of the Act and it is required to be seen if any tax liability arises. In case no tax liability arises under the Act, nothing further requires to be done. But if there is a tax liability arising under the Act, it is open to the non-resident (foreign enterprise) to claim that either there is no or less tax liability if the provisions of the DTAA are applied and if such a claim is made it has to be enquired into. If the claim is found to be correct, then it has to be given effect in preference to the provisions of the Act. Thus, in the present case we need to first examine whether the income-tax authorities are right in applying section 9 of the Act to hold that there is a business connection. Only if we find that there is a business connection, need we examine the DTAA (with USA) to find out if the case can be brought under those provisions as claimed by the assessee. We proceed accordingly. 1. Is there a business connection? 20. This question need not detain us long for the reason that the term business connection is so broad in scope according to the judgments that it is not possible to ho ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rities under any of the four categories: (a) fixed place PE; (b) dependent agents PE; (c) software as PE or (d) LO as PE. Before doing so, a clarification has to be made. A question may arise as to whether, having held that there is a business connection it is at all open or necessary to examine the question whether there is a PE. In other words, a doubt may arise as to whether there is any difference between the two concepts - the concept of business connection and the concept of PE - and whether once a foreign enterprise is found to have a business connection in India, can it not also automatically be held to have a PE in India. It appears to us that there is a distinction between the two. Business connection seems to us to be a much wider concept than a PE. The former has not been statutorily defined whereas the latter has been defined in the DTAA where the criteria has been more specifically laid down. The Board in its Circular No. 23 dated 23-7-1969, referred to before us in a different context, recognizes that the expression 'business connection' admits of no precise definition . The following passage from pages 1.149-1.150 of Part 1 of the Commentary on Double Taxati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... business connection or the permanent establishment for ABC in India . (a) Fixed place PE: 23. Article 5.1 of the DTAA says that PE means a fixed place of business through which the business of an enterprise is wholly or partly carried on article 5.2 includes several places as a PE of the foreign enterprise. Neither the Assessing Officer nor the CIT(A) has pin-pointed which particular description of the PE in article 5.2 would apply to the assessee. The general definition of the PE in the first part of the article postulates (a) the existence in India of a fixed place of business in India and (b) that the business of the foreign enterprise shall be carried on (wholly or partly) through the said place. The assessee admittedly does not have an outlet of its own in India. That way, there is no fixed place of business in India. A PE should project the foreign enterprise in India. The assessee before us has appointed different agents in India. These agents are the Department of Posts of the Government of India, commercial banks, non-banking financial companies and tour operators. These agents have their own or hired premises from which they operate. All that they have to show that they a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... management software (VOYAGER) to the agents (free of cost) and trained their staff on the usage and versatility thereof. These activities are in line with the activities mentioned in the annexure to the application to the RBI seeking permission to open the LO. We have already extracted those activities in the earlier part of our order. The annexure also states what activities will not be undertaken by the LO. There are no activities which the LO has undertaken, which do not conform to the list of activities given in the annexure. There is no allegation of any violation of the conditions of approval. 25. On the above facts, we are of the view that the LO cannot be considered to be the fixed place PE of the assessee as it carries out activities which are of a preparatory or auxiliary character. It has not carried on any trading activity for the assessee in India. It has only a small number of executives and a support staff. The LO has also filed status reports to the RBI listing out the activities which it actually carried on during the years. None of the activities can be described as anything other than of preparatory or auxiliary character. In UAE Exchange Centre LLC, In re, the A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of natural resources it cannot per se be treated as a PE. (d) Credit cards and PE: 27. Though the Assessing Officer has stated that the assessee permits the use of credit cards for drawing cash from its outlets in India, this has been specifically denied before the CIT(A) in writing (letter read out before us). The CIT(A) has not doubted or rejected the denial. Even before us, the learned CIT(DR) did not touch the point. There is no material to which our attention has been drawn, either in the assessment order or in the course of the arguments before us, from which it can be gathered that the assessee permitted withdrawal of monies from its outlets by the use of credit cards. In fact, the existence of the assessee's own outlets in India has been stoutly denied. The observations of the Assessing Officer not being supported by any evidence and the CIT(A) not having specifically approved them, we hold that there can be no PE on account of the use of the credit cards. Agency PE: 28. The stand of the income-tax department is that the agents are not independent agents under article 5.5 of the treaty but are dependent agents under article 5.4(a) of the treaty. 29. (A) Are the agents ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ordinary course of the business of the agents, as their ordinary business is in local money transfer in the case of the Department of Posts and banks and not in trans-border money transfer and that in the case of non-banking financial companies and tour operators appointed as agents money transfer business, whether locally or internationally, is not in their ordinary course of business. In the case of the Department of Posts, it is well-known that they accept money orders for transfer of funds within India. Engaging themselves in the same type of business with international ramifications is just an extension of their business. It cannot be said that it is not in the ordinary course of their business. The same is the case with commercial banks. Though strictly speaking it may not be part of their banking business, as the expression is defined in the Banking Regulation Act, 1949 and as contended by Mr. Rajnish Kumar, still it is nobody's case that it is not a lawful activity which they have embarked upon. In fact, they have obtained the approval for such activity from the RBI under section 3(c) of the FEMA. The approval granted by the RBI to Bank of Punjab Ltd. has been filed in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are dependent on the assessee for their revenues. The position is the same in the case of commercial banks, non-banking financial companies and tour operators appointed as the agents of the assessee. There is no evidence to show that the extent of their activities for the assessee, compared to all their activities, is so large that it can be said that they are dependent on the assessee for their earnings or revenues. The agents in the present case have not been shown to be economically dependent on the assessee. The income-tax authorities have stated that the agents have not acted in that capacity for any other entity engaged in the money transfer business and therefore their activities are wholly or almost wholly devoted to the assessee. We do not see how this conclusion follows. The agents, as we have seen earlier, have their own businesses or activities amounting to business. They are not carrying on the activity for the assessee, as agents, in exclusion of their other businesses or activities. In this situation, just because they are not acting as agents for any other company carrying on money transfer business it cannot be said that their activities are wholly or almost wholly ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... saction makes it clear on the reverse that the assessee will be liable to refund the principal amount of a money transfer (at the applicable rate of exchange at the time the refund is made) upon the written request of the sender if payment to the recipient is not made within 30 days excluding Sundays and holidays and that the same will be the case of the fees charged. It goes on to say that the assessee or his agent will in no case be liable for damages for the delay, non-payment or underpayment of the money transfer. The agent is not therefore liable to any risk on this account. 35. We now proceed to consider the question whether the transactions between the agents and the assessee are under arm's length. The agreements filed before us show that the base compensation is 30 per cent in the case of the Department of Posts and 25 per cent in the case of others. It may be reduced under clause 6.2 of the agreement with the Department of Posts if the assessee were to assume responsibility for the advertising and promotion of the services or to establish a customer service centre to handle customer queries. The reduction shall not exceed 10 per cent of the gross revenues earned by th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uch activity and as saying that mere purchase or sporadic sale of goods through an agent will not be sufficient to merit such an agent being considered a PE, but that this is not the correct view as it would ignore the generality of the preceding words of the paragraph merely because exceptions are carved out in the latter part of the aforesaid clauses only in respect of a particular category of agents (viz., those buying or selling goods). It was held that paragraph 4 of the article is applicable in all cases where the enterprise in a Contracting State has an agent in the other who does not have an independent status. Such a person will be deemed to be a permanent establishment only if he has, and exercises, the authority to conclude contracts in the name of the enterprise. But even the existence of such authority will not make him a permanent establishment (i), if he is a mere agent for purchase of goods or merchandise; or (ii) being an agent for sale of goods or merchandise is allowed to habitually to maintain a stock of the goods of the enterprise and effect sales therefrom. The conclusion seems inevitable that even a non-independent agent can be deemed to be a permanent establ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... it has been stated: the authority to conclude contracts must cover contracts relating to operations which constitute the business proper of the enterprise. It would be irrelevant, for instance, if the person had authority to engage employees for the enterprise to assist that person's activity ... . This paragraph has been quoted approvingly by the AAR in TVM Ltd.'s case. Thus the fact that the agents (in the present case) have the authority to appoint sub-agents does not mean that they (agents) have the authority to conclude contracts. The terms of appointment of sub-agents given at page 22 of the paper book as attachment to the contract of agency with Karnataka Bank Ltd. lists the duties and responsibilities of the sub-agents regarding money transfer service requirements, advertising and promotion, exclusivity, locations and hours of operations, payment for the service, delivery standards, maintenance of records, security and confidentiality, accounting, use of software, indemnity, conditions of termination etc. Nowhere in the sub-agency agreement has any authority to conclude contracts has been given to them. In fact, when the agents themselves have no such authority und ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the money to the beneficiaries or claimants, which they are bound to under the agreement with the assessee for which they are remunerated does not appear to us to be a case of exercise of any authority. Thus, the agents do not habitually exercise the authority to conclude the contracts on behalf of the assessee. 41. For the above reasons, we are of the view that there is no agency PE of the assessee in India. In the absence of any PE in India, it follows that the profits, if any, attributable to the Indian operations cannot be assessed as business profits under article 7 of the treaty. 42. Since we have held that there is no PE in India, the question of attributing any income to the same for the purpose of article 7 of the DTAA does not arise. We therefore consider it unnecessary to examine the question whether the attribution of income is fair and reasonable. 43. In the result, we hold that (a) there is business connection and hence the assessee is liable to tax under section 9(1) of the Income- tax Act; (b) but since there is no PE in India under article 5 of the DTAA between India and the USA, no profits can be attributed to the Indian operations of the assessee and taxed in I ..... X X X X Extracts X X X X X X X X Extracts X X X X
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