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TMI Blog2014 (1) TMI 1363X X X X Extracts X X X X X X X X Extracts X X X X ..... pect of software is not obtained by the assessee - The perpetual licence is given directly to the end customer by the vendor company - The payments made by assessee to the Netherlands company will not fall under the ambit of Royalty as per Article 12 of the India-Netherlands DTAA - No withholding tax is liable to be deducted - Decided in favour of assessee. Expenses toward technical consultancy charges - Held that:- The UK and USA subsidiaries did only contractual work parcelled out to it whose results were given to clients directly and no technical knowledge was made available to assessee - The payment would not fall under fee fo technical services even as per DTAA - Decided in favour of assessee. Whether communication expenses are to be exluded from export turnover - Held that:- Decision in Patni Telecom Pvt. Ltd. vs. ITO [2008 (1) TMI 452 - ITAT HYDERABAD-A] followed - The said expenses are not to be deducted from export turnover - The issue has been restored for fresh adjudication. Whether profit on account of foreign exchange fluctuation be reduced from export turnover - Held that:- Decision in Sanyo LSI Technology India Private Limited [2014 (1) TMI 1257 - ITAT BANGALORE] fol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... short "ALP") at Rs.27,68,740/- was added to the total income of the assessee. The draft assessment order under section 143(3) read with section 144C of the Income Tax Act, 1961 was passed on 30.12.2009 and the assessee filed its objections before the DRP under section 144C of the I.T. Act, 1961. The DRP passed an order under section 144C(5) dated 29.09.2010 granting relief of Rs.9,03,674/- on the adjustment made by the TPO in respect of ALP determined on interest. The A.O. passed the final assessment order under section 143(3) read with section 92CA and 144C of the I.T. Act, 1961 on 29.11.2010. 4. Aggrieved, the assessee is in appeal before us. Ground No.1 and 9 are general in nature and it needs no adjudication. Ground No.2 reads as follows : "2. The Dispute Resolution Panel has erred in granting relief of only Rs.9,03,674/- from the Arms Length Price determined by the Transfer Pricing Officer at Rs.27,68,740/- in respect of interest charged on the loan granted to the subsidiary company IEAI (USA). (b) The Dispute Resolution Panel ought to have applied the LIBOR of India and not that of USA. The LIBOR in India at the material time was 4.17% only as against the LIBOR in USA of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... feel that reasonable rate would be LIBOR + 2% and direct the AO to adopt the same. 9. We also direct the Assessing Officer to examine and calculate the differential interest to be levied for the relevant period instead of charging differential interest for the entire period of one year. With this direction, we set aside the issue to the file of the Assessing Officer. Ground No.2 is allowed for statistical purposes. 10. Grounds No. 3 and 4 are reads as follows : "3. The Assessing Officer and the DRP have erred in holding that the guarantees offered by the assessee to the Bankers of its subsidiaries in USA and Germany come under the provisions of Chapter Assessee of the IT Act. 4. The DRP and the TPO erred in estimating 2% of the amount as the ALP for which the assessee offered guarantee to the Bankers of subsidiaries by relying on an isolated transaction." 11. It was submitted before us by the learned Counsel for the assessee that the A.O. and DRP have held that the corporate guarantees issued by the assessee to City Bank of India for the benefit of its US subsidiary, is an international transaction within the meaning of section 92B and made an addition towards arms length pri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unal in Glenmark Pharmaceuticals vs. ACIT (ITA No.5031/Mum/2012 dated 13.11.2013) which has analyzed this issue in detail and held that 0.53% corporate guarantee rate in that case was appropriate. We therefore set aside the issue to the TPO to decide the quantum of corporate guarantee rates in the instant case following the method adopted in Glenmark (supra). 14. Ground No. 5 reads as under : 5.(a) The AO has erred in holding that the amount of Rs. 52,55,881/- paid to GE Network Solutions, the Netherlands based company towards purchase of its product Small World Software to cater to the requirements of the Indian customers is a payment of Royalty. (b) The A.O. has erred in holding that there was any patent, invention, model design, secret formula or process or trade mark or similar property involved in purchase of the small world software. (c) The software purchased from GE Network Solutions and passed on to the GIS based companies in India for their permanent use without any limitation does not constitute mere obtaining of license for the same. The transaction is an outright purchase of Small World Software. (d) Even otherwise, the software purchased does not involve use of a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e software considering that the ownership is transferred to the end customer permanently. vi) By any stretch of imagination, it cannot be treated as a payment made in respect of a patent or invention or scientific work or secret formula or process that amounts to payment of royalty chargeable to tax within the scope of section 9(1)(vi) of the I.T. Act. vii) As there was no income chargeable to tax under the provisions of Income Tax Act, no TDS was required to be made. Hence, the provisions of section 195 of the LT. Act do not have · any application to its case. In the absence of applicability of section 195 of the I.T. Act, the provisions of section 40(a)(i) of the I.T. Act do not come into operation. viii) The Department was aware of the payments made to the concerns in the earlier years also. The stand of the taxpayer was accepted by not initiating any proceedings or not making any disallowance in this regard. ix) Reliance is placed reliance on the following decisions : • Sonata Information Technology Ltd. vs. AddI.CIT, 103 ITD 324 (Bangalore). • Lufthansa Cargo India (P1 Ltd. vs. DCIT, 274 ITR 20 (AT) (Delhi). 16. Aggrieved, the assessee filed objections ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t" in section 195(1) shows that the remittance has got to be of trading receipt, the whole or part of which is liable to tax in India. If tax is not so assessable, there is no question of tax at source being deducted." 18. The learned Counsel for the assessee further submitted that the issue of taxability of Rs.52,55,881/- has to be considered both in terms of section 9(1)(i) and 9(1)(vi) of the I.T. Act and also DTAA between India and Netherlands. It was submitted that the assessee cannot meddle with the source code of the software in the process of customisation and it can bundle only its own software with the Small World Software utilising available facilities in the said Small Word Software. It was further submitted that the assessee has to purchase the said software each time it wanted to sell the bundled software to its customers and the assessee did not get any rights to the copyright to the said software. Further, the assessee did not obtain any license in respect of software purchased from GE Network Solutions, Netherland. It was submitted that there is no business connection at all between the assessee and the Netherlands company and they are not Associated Enterprises ( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... North America Inc. vs Assistant Director of Income Tax(lnternational Taxation). Similarly, Explanation 4 to clause (vi) of section 9(1) which has been retrospectively introduced by the Finance Act 2012 with effect from 01.06.1976 cannot be read into the DTAA as it is an unilateral action of the Indian legislature. Further, this Explanation is applicable in the context of only "royalty" income and not business income and what the Vendor company derived, as claimed hereinabove, is business profit and not royalty income. So, the amount of Rs.52,55,881/- is not taxable in the hands of the non- resident". 21. It was further submitted that Paragraph 2 of Article 3 of the DTAA between India and Netherlands reads as under : "As regards the application of the convention by one of the States any term not defined herein shall, unless the context otherwise requires, have the meaning which it has under the law of that State concerning the taxes to which the convention applies." 22. The Term "royalty" is defined in the DTAA with Netherlands and so, in the light of the above provision, changes in domestic law, like the Indian Copyright Act, 1957, have no bearing on the definition of the term ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uld not have bought it every time when it wanted to sell. Further, perusing the books of the assessee at pages 170 to 175 of the paper book, we find that there are multiple purchases of software during the year and each purchase of single item on software is merely one thousand rupees and not huge amount. Hence, we are of the opinion that they are simply purchase cost of trading goods especially when the licence in respect of software is not obtained by the assessee and the perpetual licence is given directly to the end customer by the vendor company. Copies of the invoice raised by Net W ork Solutions on the assessee and at paper book 176 to 178 support the view of the assessee where the invoice mentioning name of the end customer supports our view. Hence, in our opinion, when there is no transfer of even the license to the assessee even though it is the purchaser, it cannot be said that there is any royalty payment by the assessee to the vendor company. The amount of Rs.52,55,81/- is simply the cost of imported trading goods and not royalty payment. 27. It is therefore clear that the payments made by assessee to the Netherlands company will not fall under the ambit of Royalty as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... says all the evidence could not be obtained for lack of time. On the other it invokes explanation to Section 9(1)(vii) without reference to evidence. 29. The assessee takes objection to the disallowance of Rs.19,48,02,907/- under section 40(a)(i) of the I.T. Act. During the year, the taxpayer incurred an expenditure of Rs.19,48,02,907/- towards technical consultancy charges paid in foreign exchange to the concerns (AEs) outside India. The payments made are as under :- S.No. Party Unit 1 (Rs.) Unit 3 Rs.) Bangalore (Rs.) Total (Rs. ) 1 Infotech Enterprises America Inc. ( IEAI), USA 5,70,34,785 11,91,05,050 57,65,916 18,19,05,752 2 Infotech Enterprises GmbH, (IEG), Germany 90,97,638 90,97,638 3 Infotech Enterprises Europe Ltd. (IEEL), UK 15,01,875 15,01,875 4 Vargis LLC, USA 22,97,641 22,97,641 Total 6,99,31,940 11,91,05,050 57,65,916 19,48,02,906 30. The A.O. disallowed the entire expenditure. Consequent to the disallowance, Income of the respective units had increased by the corresponding amounts. Unit 3 and Unit at Bangalore are eligible for exemption u/s. 10A of the I.T. Act. The A.O. allowed exemption relating to the above disallowances to the 2 u ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... carry out any business activity either by themselves or through the taxpayer. • The A.O. proceeded under the mistaken impression that even though the payments might not be taxable in India yet tax was deductible unless a certificate u/s. 195(2) of the I.T. Act was applied for and obtained. • Even under the provisions of DTAA with the respective countries in which the subsidiaries are located, the payment in respect of technical services are subject to tax in the state of residence and hence, the same are taxable in the respective country and not under the Indian Law. • So far no proceedings for assessment of the non- resident companies were initiated by the department because of the reason that the non residents are not liable to tax in India. 31. The DRP Held as follows : "We have considered the submissions made by the taxpayer. It is clear from the assessment order as well as the submissions made by the taxpayer that the taxpayer had 'habitual' business relations with the non-resident subsidiaries over several years and payments of similar nature are being paid over all these years. From the facts placed before us, it is not clear whether the taxpayer is booki ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ried on by the taxpayer outside India. In the present case, the business of the taxpayer is carried out in India and it was only getting orders from USA for execution. It has enough capacity and capability to execute such orders from/in India. In such a case, whether it could be said that business or profession was carried on by the taxpayer outside India. The other exception provided is in respect of the purpose of the payment for making or earning any income from any source outside India. Whether the orders received by the taxpayer for execution of tile work from clients located in USA could be said to be a source of the taxpayer outside India. All these aspects require a much deeper examination of all the related facts, which are not available to us in the limited time. It is incidentally mentioned here that the case came up for hearing on 22.09.2010 just a week prior to the time limit for passing the order. The provisions of section 9(1)(vii) of the IT Act 'are to be read with Explanation to section 9 which is incorporated at the end of the section through the Finance Act 2010 with retrospective effect from 01.06.1976. As per the Explanation, it is immaterial whether non-resid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ellant has not sold the products of its US subsidiary or any other foreign subsidiary. So, the present case does not fall within the example given by the Board. Further, the Board proceeded to clarify as under at item 2 of the said circular. Further, it was submitted that there is no incentive for the assessee to divert its profits by way of payment of fees for technical services to foreign group companies because the rate of corporate tax in USA is higher than in India. It is further submitted that section 9(1)(i) and 9(1)(vii) of the I.T. Act cannot be invoked simultaneously as various clauses of section 9(1) and 9(1)(vii) of the I.T. Act cannot be invoked simultaneously as the various clauses of section 9(1) are mutually exclusive. With respect to section 9(1)(vii) it was submitted that payments to foreign subsidiaries have been made to earn income from PRATT & WHITNEY which is a source outside India and as such is covered by the exclusionary part of clause (b) of section 9(1)(vii). The assessee relied for this proposition on the decisions of Titan Industries vs. ITO 11 SOT 206 (Bang), Hindalco Industries Ltd. vs. ITO 91 ITDS 64 (Mum.) CIT vs. Aktiengesellschaft Kuhnle Kopp and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion of the work entrusted to it by PRATT & WHITNEY to IEAI USA. The said Explanation to Section 9(1)(i) can be invoked only when the Indian company secures orders for the benefit of non-resident. In the present case, the assessee has not canvassed / secured any orders for its non resident subsidiaries. Hence, section 9(1)(i) cannot be invoked. 37. We have gone through the copy of the "Master Terms Agreement" (in short "MTA") entered into by the assessee with United Technology Corporation (PWC) which is filed at pages 179 to 196 of the paper book. Similarly, we have perused intercompany agreement entered into by the assessee with its subsidiaries placed in the paper book at page 197 to 222. This proves that the assessee obtained orders on its own behalf and it has only parcelled out a portion of its work to its foreign subsidiaries. As per the terms of the agreement, the assessee "shall release the work order" before the commencement of the work by IEAI USA and each work order shall be supported by end customers order copy. Clause 3 of the agreement reads as under : "Commencing on the date(s) specified in each Work Order, IEAI will allocate qualified personnel through Software Ser ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nies may be regarded as Fees for Technical Services u/S.9(1)(vii). So while we have held already that S.9(1)(i) is inapplicable in the instant case, we now have to deal with the alternate of the entire amount being disallowed u/S.9(1)(vii) (or Article 12) as Fees for Technical Services. 41. Firstly, under the Act, the payments made to the subsidiaries may indeed be construed as Fees for Technical Services. However this is only due to the fact of the retrospective amendment by Finance Act 2010. Prior to that, the Hon'ble Supreme Court in Ishikawajima-Harima Heavy Industries Ltd., Vs DIT (2007)[288 ITR 408] had held that Section 9(1)(vii) as it stood then envisaged two conditions which need to be met simultaneously namely that services have to be rendered in India and said services have to be utilized in India. The Apex Court held that merely the "source" of income being located in India would not render sufficient nexus to tax the income from that source. The Apex Court held that there must be a direct live link between the services rendered and India. The Government subsequently introduced a retrospective amendment in Finance Act 2007 which read- "for the removal of doubts, it is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cannot be upheld. 43. We also point that even under the India-USA and India-UK treaties (not the India-Germany treaty though) due to the presence of the "make available" clause in these two Treaties the payments made by the assessee will not fall under FTS. This is because no technical knowledge has been made available by the non-resident to the assessee. Further, no technical plan or technical design placement has been transferred by US subsidiary to the assessee. What IEAI did was only in fulfilment of contractual requirement with PRATT & WHITNEY and not for the benefit of the assessee. The non-resident has simply executed the portion of work parcelled out to it by the assessee. The Karnataka High Court in CIT vs. De Beers India Minerals Pvt. Ltd. (ITA No.549 of 2007 dated 15th May 2012) lucidly explained the concept of "make available" as follows: "What is the meaning of 'make available'. The technical or consultancy service rendered should be of such a nature that it "makes available" to the recipient technical knowledge, know-how and the like. The service should be aimed at and result in transmitting technical knowledge, etc., so that the payer of the service could derive an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pment of software as claimed by the assessee or for providing technical services as held by DRP. The communication expenses have not been included in the export invoices on which the export turnover is based. Therefore, there can be no question of exclusion of the communication expenses paid in foreign exchange. (d) alternatively The said amount should have been excluded from the total turnover also. (e) Having noticed several judicial decisions on the issue, the DRP is not justified in not granting relief on the ground that the Department is in appeal before the High Court/s on the issue." 47. It may be noticed that the so-called telecommunication charges are actually soft link charges for availing a dedicated cable line from the internet service provider. W hat is to be excluded in terms of the definition of the "export turnover" in clause (iv) of Explanation 2 to section 10A is "telecommunication charges" and not soft link charges. It was further submitted that Telecommunication charges cannot be identified with soft link charges. The former relates to telephonic expenditure whereas the latter relates to internet. Strictly, they are different and so the soft link charges inc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... P&L account. It is not included in the export turnover. What is not included in the export turnover cannot be reduced from it for working out the deduction under Sec.10A. In the case of Patni Telecom Pvt Ltd. vs. Income Tax Officer (supra), the Tribunal held that expenses which are not included in the consideration received in convertible foreign exchange cannot be reduced from the export turnover. Further, when the A.O. excluded the said amount of Rs.1,16,67,429/- from export turnover, the A.O. should have, in the interest of fairness, excluded it from the total turnover also for computing the deduction under section 10A(4). In this context, the learned Counsel for the assessee relied upon the Judgment of Hon'ble High Court of Karnataka in the case of Commissioner of Income Tax vs. Tata Elxsi Ltd. [2012] 17 Taxmann.com 100 (Kar.) which follows the decision of the Apex Court in the case of CIT v. Lakshmi Machine W orks ([2007] 290 ITR 667 / 160 Taxman 404). 49. In view of the decision of of the Hyderabad ITAT in Patni Telecom Pvt. Ltd. vs. ITO (120 ITD 105), we direct the AO to not reduce the figure of Rs. 1,16,67,429/- from the export turnover while computing deduction u/S. 10A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on account of appreciation or depreciation in the value of foreign currency held by it, on conversion into another currency, such profit or loss would ordinarily be trading profit or loss if the foreign currency is held by the assessee on revenue account or as a trading asset or as part of circulating capital embarked in the business. But, if on the other hand, the foreign currency is held as a capital asset or as fixed capital, such profit or loss would be of capital nature." In consonance with the above ruling, the Hon'ble Supreme Court in its subsequent verdict in the cases of (i) CIT v. Woodward Governor India (P) Limited and (ii) in CIT v. Honda Siel Power Products Limited reported in (2009) 312 ITR 254 (SC) observed thus - "15. For the reasons given hereinabove, we hold that, in the present case, the "loss" suffered by the assessee on account of the exchange difference as on the date of the balance sheet is an item of expenditure under s. 37(1) of the 1961 Act. 8.1 .5. Taking into account the facts of the issue and also in conformity with the legal position of various judiciaries referred in the fore-going paragraphs, we observe that - (i) the foreign exchange gain was in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e guarantee rates in the instant case following the method adopted in Glenmark (supra)". The same directions as above extracted shall apply for this Ground i.e., Ground 3 in ITA No. 2184/Hyd/2011 for AY 2007-08. Hence this Ground is allowed for statistical purposes. 59. Ground No.4 (consisting of 4(a) to 4(e)) relates to disallowance of Rs.45,88,384/- by apply provisions of S.40(a)(i) r.w.s. 9(1)(vi) of the IT Act. W e have discussed an identical issue in paras 24 to 27 in ITA No. 115/Hyd/2011 (AY 2006-07) and concluded that "27. It is therefore clear that the payments made by assessee to the Netherlands company will not fall under the ambit of Royalty as per Article 12 of the India-Netherlands DTAA. Hence there is no question of tax withholding required by the assessee and hence S.40(a)(i) disallowance is erroneous. Accordingly, ground No.5 is allowed.". Hence following the above, the assesse's Ground is allowed. 60. Ground No. 5 (consisting of 5(a) to 5(g)) relates to disallowance of Rs.3,96,96,366/- paid to foreign subsidiaries (out of Rs.28,83,74,256/-( which is inclusive of the exemptions allowed u/s 10A of the Act. We have discussed an identical issue in Paras 35 to 45 r ..... X X X X Extracts X X X X X X X X Extracts X X X X
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